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.

2) C increases as Y increases.

3) Rate at which C increases lags behind the rate at which Y increases. So that

C < Y, when Y > 40.

4) Break – even point is struck when C = Y = 40.

Graphical Explaination of the Consumption function

consumption function

1) Consumption is plotted on the vertical axis and income on the horizontal axis.

2) CC is the consumption function, showing the behavior of C with respect to Y.

3) 45 ^◦ the line of reference. Each point on this line shows that

 Y (on the X-axis) = AD (on the y axis).

4) CC is the straight line moving upward showing that CC is a linear function and there is a positive relation between Y and C.

5) 30 is the minimum level of C, even when Y = 0. The level of consumption at zero level of income is called autonomous consumption.

6) The slope of C line is the marginal propensity to consume. It is positive but less than 1 (45 ^◦ line has a slope of 1), indicating that MPC is greater than zero, but less than unity at all levels of income.

This explains the second property of consumption function.

7) The point of intersection at Q of consumption line with 45 ^◦ line gives us a break- even level of income of income, when C = Y = 40.At this point APC equals unity (APC = C/Y = 1).

Below the income of 30, C > Y ( C- line lies above the 45 ^◦ line or income line) so APC is greater than unity.

Above the income of 30, C < Y ( C- line lies below the 45 ^◦ line or income line) so APC is less than unity.

Therefore, with increase in the level of income, APC is decreasing continuously.

This explains the third property of consumption function.

Algebraic Expression of consumption Function

The general equation for a linear consumption function is expressed as:

C = a + cY

Where,

C : is the aggregate consumption expenditure

a  : represent a positive constant equal to the level of consumption at zero level of income or autonomous consumption.

c  : denotes marginal propensity to consume or the slope of the consumption line

Y : Income

Let us understand this by taking a numerical example:

Example 1 :

Given C = 300 + 0.8 Y, and Y = 4000, find the level of consumption

Using the formula : C = a + cY

C = 300 + 0.8 Y

C = 300 + 0.8 (4000)

       300 + 3200

       3500   

Example 2 :

Find ‘c’, when C= 700, autonomous consumption is 200 and Y = 1000

Using the formula : C = a + cY

700 = 200 + c(1000)

700 = 200 + 1000c

500 = 1000c

c = 500 / 1000

c = 0.5

i.e. MPC = 0.5