chapter 8 presentation 2. determinants of consumption and saving ***the amount of di is the basic...
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![Page 1: Chapter 8 Presentation 2. Determinants of Consumption and Saving ***The amount of DI is the basic determinant of consumption and saving There are also](https://reader035.vdocument.in/reader035/viewer/2022080902/56649eba5503460f94bc24c6/html5/thumbnails/1.jpg)
Chapter 8
Presentation 2
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Determinants of Consumption and Saving
• ***The amount of DI is the basic determinant of consumption and saving
• There are also Non-income Determinants:
• 1. Wealth
• 2. Expectations
• 3. Real Interest Rates
• 4. Household Debt
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1. Wealth
• Includes both real assets (houses, land) and financial assets (cash, savings accounts, stocks, bonds)
Wealth Effect- When existing wealth increases, people will consume more and save less. When wealth decreases, people will save more
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2. Expectations
• If people expect prices to go up in the future, they may consume more now
• If a recession is predicted, people will likely save more now
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3. Real Interest Rate
• Adjusted for inflation
• =nominal interest rate – the expected rate of inflation
• When interest rates fall, household tend to borrow more, consume more and save less
• Saving is less because of reduced interest payments
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4. Household Debt
• If households borrow more (take on debt) they are able to consume more
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Expected Rate of Return
• ***Not a guarantee, rather a prediction***
• r= profit/cost of the investment
• Ex- a machine will cost a company $1000. The net expected revenue (after taxes, labor, utilities) gained from the machine is $1100.
• r= (1100-1000)/1000
• = 10%
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Real Interest Rates and Investment
• Companies should invest in project up until the point where r = i
• As long as the expected rate of return (r) exceeds the interest rate, the project can be expected to be profitable
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Interest Rate and Investment
ExpectedRate of
Return (r)
CumulativeAmount ofInvestmentHaving This
Rate ofReturn or Higher
(i)
16%14%12%10%
8%6%4%2%0%
$ 05
10152025303540
Exp
ecte
d R
ate
of
Ret
urm
16
14
12
10
8
6
4
2
05 10 15 20 25 30 35 40
Investment (billions of dollars)
The Investment Demand Curve
ID
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Shifts of the Investment Demand Curve
• 1. Operating Costs
• 2. Business Taxes
• 3. Technological Changes
• 4. Stock of Capital Goods- extra capital will lead to less need for investment
• 5. Expectations