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Macroeconomic Theory Ashwani Panesar, Lovely Professional University

Notes UNIT-8: Relative Income Hypothesis

Contents
Objectives
Introduction
8.1 Relative Income Hypothesis
8.2 Relative Income Hypothesis’s Criticisms
8.3 Summary
8.4 Keywords
8.5 Review Questions
8.6 Further Readings

Objectives

After studying this unit, students will be able to:
y Know the Relative Income Hypothesis,
y Know the criticizes of Relative Income Hypothesis.

Introduction

Dussenberry while describing his principle of consumption function writes, “If we really want to
understand the problem of consumer behaviour, then we would have to first give respect to sociological
nature of consumption structure.” By ‘Sociological nature of consumption structure’ he meant that the
nature of human is not only to reach till the status of their rich neighbour but also to overtake them.

8.1 Relative Income Hypothesis

Relative income hypothesis of James Dussenberry is based on the rejection of basic assumption of
consumption principle of Keynes. Dussenberry says that (1) the consumption behaviour of every
person is not free but it depends on the behaviour of every other person, and (2) consumption
behaviour is not permanent.
In other words, the nature is that one must continuously strive to extend to high consumption level
and to do rivalry with rich neighbour and friends based on the consumption structure. In this way,
the preference of consumers is dependent on each other. It is known as Dussenberry Effect or
Demonstration effect. However, in any two communities, the differences of relative income of people
decide the consumption expenses. The APC of any rich person will be relatively less because he will
need the some part of his income for keep his consumption structure. Other side, the APC of poor
person is relatively more because he tries to reach till consumption slandered of his neighbours and
friends. It is clear the stability of long period APC, because overall shorter and more APC will balance.
So, if any country, the relative size of income increased, then the APC of whole economy will stable
on high relative level of income.
The second part of Dussenberry principle, “the hypothesis of ‘past peak of income’ that describes
the short period ups and down in consumption function and disclaimers the assumption of Keynes

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