Consumption (economics)

Understanding Consumption in Economics

Consumption is the act of using resources to satisfy current needs and wants, distinct from investing which aims for future income gain. Economists study consumption across various social sciences, with different schools defining it differently. Mainstream economists focus on final purchases, while others broaden it to encompass all economic activity without production.

The Consumption Function

Consumption is a component of aggregate demand, influenced by factors such as income, autonomous consumption (minimal consumption that occurs regardless of household income), and the marginal propensity to consume (how much of household income is spent on consumption). The relationship between consumption and income is modeled by the consumption function. Behavioral economics introduces principles like bounded rationality, willpower, and self-interest into standard economic models.

Opportunity Cost and Demand Elasticity

The opportunity cost of time affects home-produced goods, impacting demand for commercial products. Demand elasticity varies with who performs chores and how spouses compensate them for opportunity costs. Different economists define production and consumption differently, with mainstream economists separating these categories from consumer choice.

Key Determinants of Consumption

GDP (Gross Domestic Product) is defined as the sum of consumption, government spending, investments, and net exports. In microeconomics, consumer choice is influenced by utility functions and budget constraints, but behavioral economics suggests that consumers are also affected by factors such as popularity and position in a supermarket.

Consumption Theories

Consumption theories began with John Maynard Keynes in 1936. He considered absolute income, while Duesenberry focused on relative income, and Friedman on permanent income as factors that determine one’s consumption. Consumer expectations, consumer assets and wealth, consumer credits, interest rates, household size, social groups, consumer taste, and area are all important determinants of consumption.

Intertemporal Consumption

The model of intertemporal consumption was first thought of by John Rae in the 1830s and later expanded by Irving Fisher. This model describes how consumption is distributed over periods of life, such as young and old age. The basic model with two periods shows that savings from one period can be used to increase consumption in another.

Permanent Income Hypothesis

The permanent income hypothesis was developed by Milton Friedman in the 1950s, dividing income into transitory and permanent components. Changes in these components have different impacts on consumption, with a marginal propensity to consume (α) determining how much of household income is spent on consumption.

Access-Based Consumption

The term ‘access-based consumption’ refers to the increasing extent to which people seek the experience of temporarily accessing goods rather than owning them. This concept allows for a ‘sharing economy,’ although Bardhi and Eckhardt outline differences between ‘access’ and ‘sharing.’ Social theorist Jeremy Rifkin put forward this idea in his 2000 publication, The Age of Access.

Old-Age Spending

Spending the Kids’ Inheritance (originally the title of a book on the subject by Annie Hulley) and the acronyms SKI and SKI’ing refer to the growing number of older people in Western society spending their money on travel, cars, and property. According to a study from 2017, 20% of married Americans consider leaving inheritance a priority, while 34% do not. One in ten unmarried Americans (14%) plan to spend their retirement money on improving their lives rather than leaving an inheritance for children.

Consumption is more than just the amount spent by households on goods and services; it’s also about expenditures of government to provide things for citizens they would have otherwise had to buy themselves. Understanding consumption helps us grasp how economic decisions are made, both individually and collectively, in our daily lives.