2.2.2: Consumption

What is disposable income

• Is the available income that households have left over available to spend after taxes and transfers- it is consumers choose to spend

• Consumer income might come from wages, savings, pensions, benefits and investments like dividend payments

• A consumer’s MPC is how a consumer changes their spending following a change in their income

• A consumer’s MPS is the proportion of each additional pound of household income that is used for saving

• A person’s MPC + MPS is equal to 1

Influences on consumer spending: Interest rates

• If interest rates are lowered, it therefore becomes cheaper to borrow and reduces the incentive of saving due to returns decreasing

• Mortgage and other debt payments subsequently decrease and therefore people have more disposable income

• This therefore encourages and increases spending, however, there is a time lag between the change in interest rates an rise in consumption

• An increase in interest rates makes saving more attractive due to people being able to have higher potential returns, and as a result, consumption decreases

• If mortgage and debt repayments also increase, people have less disposable which reduces a persons disposable income

• However, this consumption is still reliable on consumer confidence- if people are pessimistic, they may not spend

• A change in interest rates has a strong impact on those with lower income as their MPC’s are usually higher

Influences on consumer spending: Consumer confidence

• If consumers have higher confidence levels, they spend more because they are less concerned about needing to save for future difficulties

• This is affected by anticipated income and inflation

• If consumers fear unemployment or higher taxes, consumers may feel less confident about the economy so they are likely to spend less and save more

• This as a result delays large purchases, such as houses or cars

Influences on consumer spending: Wealth effects

• In the UK, most people own their houses which means that a rise in the price of houses makes people feel wealtheir

• As a result of this, they are likely to spend more- this is the wealth effect

• A consumer’s housing equity is the difference between the market value of a property and how much loan is remaining to be paid

• If house prices increase, consumer experience a rise in equity so they might be paying less on their mortgage than the ouse is worth on the market

• This makes consumers feel wealthier therefore they are willing to spend more

• This can also occur with assets such as shares