Page 85 - DECO402_Macro Economics

Macroeconomic Theory

Notes Replace the equation (2) in (1) and make linear (2), and weighted average of different income divisions,
total consumption function is-
C = a Y + a Y + a A …(3)
e
t 1 t 2 L 3 t
Here, a = MPC of current income; a = MPC of anticipated labour income; and a = MPC of assets,
1
3
2
now APC is,
C t a + a Y L e + a A t
Y t 1 2 Y t 3 Y t
APC is constant in over time or long period because in current income, the ratio of the part of labour
income and total assets of current income is constant, when economics increased.
On the bases of life cycle principle, Ando and Modigliani studied for creating the short duration
and long duration consumption function. It is finding out by the oblique hole that in the low income
division many people were low income level because they were in the last duration of his life. So
them APC was more. Other side, high income division related person were mostly on high income
level because they was in middle years on their life. Therefore, them
APC was relatively les. In that respect, as income increases as APC
was decreases it told that APC > MPC. It find out by the inspection of
America related data that APC = 0.7 was constant in long duration.
Ando-Modigliani consumption function shows in figure 9.3 by C S
curve. C curve can consider constant on any given point of time,
S
and during the short period fluctuations, when assets is constant,
this function is seems like Keynes consumption function. Its intercept
changes according to the collection of assets by the median of savings,
and C shift upward and become C with time. Long duration
S
S
consumption function is C which shows that when income increases Figure 9.2
L
then APC is constant. It is a simple line which passes on origin point. APC remains constant throughout
the life because when economics increases then labour-income part of total income and the ratio of
assets from total income remain constant.

Task Express your idea on the life cycle hypothesis.

Its Criticism- There is some limits of life cycle principle.
1. Plan for Lifetime Consumption Unrealistic: It is the statement of Ando-Modigliani is that
consumer planed for the consumption of his throughout life; it is unrealistic because consumer
focuses more on present consumption rather than future consumption which is uncertain.
2. Consumption not Directly Related to Assets: Life-cycle principle already consider that
consumption is directly related to assets of person. As assets increases as their consumption
increases and consumption decreases on the decrement of assets. It is also necessary because
it may be that person reduces his consumption for increase the asset.
3. Consumption Dependent on Attitude towards Life: Consumption depends on the view
point of the life of person. Being given the same income and asset, one person can more
consume expect of other.
4. Consumer not Rational and Knowledgeable: This landscape is depend on that hypothesis
that consumer is full prudent and he has full knowledge about his income and life. It realistic
to being rational and prudent of any consumer.

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