Saving Function

Saving is the excess of income over consumption during an accounting year. Algebraically, saving (S) is defined as: 

S = Y – C, where Y is income and C is consumption 

Since income is either spent or saved, there is a close relationship between consumption and saving,
i.e. the part of income which is not consumed is saved and the part of income which is not saved is used in the form of consumption expenditure.

Like consumption, saving is an increasing function of the level of income, i.e. 

the amount of saving increases with an increase in the level of income.

Thus, S = f (Y)

Propensity to save

Propensity to save is the ratio between S and Y. 

It shows the level of S with respect to a given level of Y. 

Like propensity to consume, propensity to save also has two aspects:

1) Average propensity to save

2) Marginal propensity to save

Tabular explanation of Consumption function

Consumption function depends on income. It is directly related to the level of income. It increases as income increases. However, there is always some minimum level of C (consumption) irrespective of level of Y. Also, increase in C tends to lag behind the increase in Y. Because, after certain level of Y is reached, people start saving a part of Y. As shown below:

Y(Rs)	C (Rs)
0 20 40 60 80 100 120	30 35 40 45 50 55 60

The above table shows:

1) 30 is the minimum level of C even when Y = 0. Survival requires that C be at least 30 even with zero income. The level of consumption at zero level of income is called autonomous consumption.

Consumption Function

The amount of money spent by the people on the purchase of goods and services in order to satisfy their wants directly is called consumption expenditure. 

Consumption function or propensity to consume shows the relationship between total desired consumption spending by the households and the factors that determine it. The factors that can affect consumption of a person are income, rate of interest, wealth, liquid assets, future expectation about income, consumer credit, distribution of income, etc.

However among all the factors mentioned above Income is considered to be a major factor of propensity to consume.

Keynesian theory of consumption function, therefore, shows the functional relationship between the desired consumption expenditure and income.

Propensity to consume has two aspect:

1) Average propensity to consume

2) Marginal propensity to consume

Aggregate Demand and its components

In macroeconomics, AD (aggregate demand) refers to demand for all goods and services in the economy during a period of time (generally, one year).

AD is measured in terms of expenditure on all the goods and services in the economy during a period of time.

Simple Keynesian model of income determination states that an economy’s total income in the short – run is determined by desired aggregate demand or aggregate spending of the people. The more is the desired demand of the people, more amount of goods and services that firms can sell. The more goods and services firms can sell, the more output they will like to produce and more workers they will employ.

Components of AD

Aggregate demand is the total amount of goods and services demanded in the economy. It refers to the desired intended or planned demand or spending by the people, i.e. the total amount of goods and services they would like to purchase.