Consumption and the Aggregate Expenditures Model

Read this chapter to examine consumption and its determinants within the aggregate expenditures model. Consumption is the largest component of Aggregate Demand the United States, therefore, the factors that determine consumption, also determine the success of the economy.

13.1 Determining the Level of Consumption


  1. Explain and graph the consumption function and the saving function, explain what the slopes of these curves represent, and explain how the two are related to each other.
  2. Compare the current income hypothesis with the permanent income hypothesis, and use each to predict the effect that temporary versus permanent changes in income will have on consumption.
  3. Discuss two factors that can cause the consumption function to shift upward or downward.

J. R. McCulloch, an economist of the early nineteenth century, wrote, "Consumption … is, in fact, the object of industry". Goods and services are produced so that people can use them. The factors that determine consumption thus determine how successful an economy is in fulfilling its ultimate purpose: providing goods and services for people. So, consumption is not just important because it is such a large component of economic activity. It is important because, as McCulloch said, consumption is at the heart of the economy's fundamental purpose.