Question

1. For each household type, use a figure with time on the horizontal axis and income and consumption on the vertical axis to explain the relationship between the change in income and the change in consumption when income returns to normal after an unexpected temporary decline.

Answer 1

SOLUTION :

According to Keynes the relationship between income, consumption, and savings. If income goes up then consumption will go up and savings will go up. Consider the graph below, which shows Consumption as a positive function of Income:Notice that when we graph the Consumption Function, Consumption is measured on the vertical axis and disposable income is measured on the horizontal axis. As disposable income goes up, consumption goes up and this is shown by movement along a single consumption function. But there are other things that influence consumption besides disposable income. What if one of these non-income determinants of consumption changes? Since they are not measured on either axis, we should note that a change in a non-income determinant of consumption will shift the entire consumption function not merely move you along a fixed consumption function. Let’s look at several of these non-income determinants of consumption and savings:

450 S>0 Consumption I lo Disposable Income