3.1 - factors affecting consumption (aggregate demand)

Factors affecting consumption: real disposable income

• Nominal income - income tax

• as income rises, so does consumption

why might more real disposable income not impact consumption?

• some may choose to save the extra money instead of spending

• some may not be confident in the economy

• higher savings mean consumption might not change

Factors affecting consumption: wealth

• when assets appreciate people spend more

• the wealth effect

• more spending confidence, higher credit score

• chances of factor incomes (e.g. getting rent as a landlord)

• can sell assets

why might not more wealth increase consumption?

• volatile asset prices

• illiquid assets

• selling (e.g. house) takes many steps and takes effort

factors affecting consumption: interest rates

• lower IRs means more borrowing

• its easier to pay back loans (esp good for lower class)

• variable mortgages (easier to repay)

• less reward for savings (less likely to save, instead just go and spend)

why may higher interest rates not increase consumption

• people may not borrow if they think rates wont stay low

• net savers (e.g. pensioners). Less intrest, less disposable income, decreased consumption (if low savings)

• if people suspect a future recession they will continue saving

factors affecting consumption: inflation

• if inflation is suspected to be high in the future, people consume more now

• reduces value of money/disposable income

why might higher inflation not increase consumption

• if inflation is high/unstable consumption will decrease/fluctuate

factors affecting consumption: distribution of income

• wide gap between top rich people/bottom poor → income not distributed fairly

• gov uses a progressive tax system to redistribute

why may distribution of income not affect consumption

• poorer people could save the increased income, instead of spending

• they wont buy big ticket items (things with lots of value)

• No spending confidence