The factors which determine the
level of consumption is called determinants of consumption. J.M. Keynes
mentions two principal factors which influence the consumption function and
determine its nature (slope) and position. They are: subjective factors, and
objective factors.
1. Subjective Features:
The subjective factors affecting
propensity to consume consists of those psychological motives. Therefore,
subjective factors are also known as psychological factors because these are
internal factors that determine the consumption function. These factors are
related to human behaviour and habits, social customs and traditions. There are
different motives of consumers, which lead to determine the level of
consumption.
(i) Demonstration motives:
If consumers are influenced by the
consumption of other people and try to adopt similar consumption practices,
such practices are known as demonstration effect. If the people of a country
are affected by the demonstration effect, then the propensity to consume will
be high and if not affected by the demonstration effect, then the propensity to
consume will be low. Advertisement, fashion, luxurious life style, etc. are
able to influence consumption pattern of the people.
(ii) Security motives:
The families and individuals in the
modern industrialised societies are highly conscious with old age, sickness and
other unforeseen contingencies related to economic insecurity. Hence, people
try to save quite regularly. Such savings reduce the consumption function.
(iii) Business motives:
Business motive is one of the most
important factors determining consumption function. Due to business motives the
individuals and government cut down their current consumption. The business
motive mainly influences the propensity to save of corporations and various
business units. The uncertainty regarding the future, the quantity and quality
of existing equipments, and other conditions give rise to motive for withholding
a part of current earning which, in turn, reduces the consumption function.
(iv) Improvement and Development motive:
Improvement and development motives
of the country and individuals also influence the pattern of consumption
function. If the people would like to develop and improve their life and
society, then they are ready to sacrifice a part of their present consumption.
Therefore, improvement motive is one of effective factors to determine
consumption function.
2. Objective Factors:
Important objective factors which
cause changes in the nature, shape and position of consumption are as follows:
(i) Income:
Income is the most important factor
that determines a community's propensity to consume. As its income rises or
falls, consumption also rises and falls.
(ii) Distribution of income:
Another factor determining how much
will be spent for consumption out of a given income of the community is the way
in which income is distributed. There is great inequality in the distribution
of income in the modern capitalist societies with the result that the rich find
it easy to save. This widespread inequality of income lowers the overall
propensity to consume as the rich have already fulfilled most of their basic
wants. A more equal distribution of wealth will raise the propensity to
consume.
(iii) Fiscal Policy:
The fiscal policy of government
relating to taxation, expenditure and public debt have significant effects on
the consumption function. The Government's fiscal policy resulting in highly
progressive tax system brings about more equitable distribution of income which
increases propensity to consume. On the other hand, a regressing tax structure
will reduce total consumption in the economy.
(iv) Windfall Gains or Losses:
Sudden and unexpected gains and losses
in income affect consumption accordingly. If windfall gains increases
unexpectedly, then consumption will also increases and if losses increases,
then propensity to consume will decrease. In the late twenties, there were huge
windfall gains on account of the boom conditions in the American economy and
consumption function shifted upwards.
(v) Changes in the rate of interest:
Changes in the rate of interest may
also alter the propensity to consume though the direction of change is not
certain. If the rate of interest goes up, people will consume less and save
more in order to gain from lending on the higher rate of interest. On the other
hand, people may consume more and save less with a fall in the rate of
interest. Further, a person who desires a fixed income in future is likely to
save less at a higher rate of interest than at a lower rate of interest.
(vi) Financial policies of corporations:
The policies of joint stock
companies and corporations with respect to dividend payments and investment
also affect consumption in various ways. If corporations and companies keep
more reserves and distribute less of their profits as dividends, it will lower
the disposable income with consumers. On the other hand, if more income is
distributed in the form of dividends more will be spend on consumption.
Measures to Raise the Propensity to Consume
In the short period due to
psychological and institutional factors, it is very difficult to stimulate
consumption function which possible in long-run measures to raise propensity to
consume in long run are as follows:
1. Income Redistribution:
Propensity to consume of poor people
is higher than propensity to consume of rich people. Therefore, redistribution
of income helps to raise propensity to consume if redistribution of income
favours poor. Thus, propensity to consume can be raised transferring income
from the rich to poor.
2. Social security:
Various type of social security
measures raise propensity to consume in long run. For example provision for
unemployment compensation, old age allowance, widow allowance, etc., remove
uncertainties in future. Therefore, tendency to save is reduced and people
start to consume more.
(3) Wage policy:
Wage rates are considered measure to
raise consumption in both short-run and long-run point of view. But in short
run, labour productivity can't be increased more will harm the labours more
than benefit because increased wages will increase cost which may lead to
unemployment. Thus in long-run, if wage rate and productivity of labour both
are increased in same way then it will tend to raise level of consumption in
economy.
(4) Easy credit facilities:
Consumption function shifts upward
by the help of cheap and easy credit facilities.
(5) Advertisement and publicity:
In modern time, advertisement and publicity,
propaganda and salesmanship are effective tools to attract consumers towards
commodities because these make the consumers familiar with use of product. It raises
consumption function of people.
(6) Development of infrastructures:
Development of
infrastructures like transport, communication, hydropower, etc., helps to shift
consumption function upward.
(7) Urbanization:
In urban areas people are highly
influenced by the demonstration effect. This shifts the consumption function upward.
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