Economic Fluctuations, Consumption, Savings, and Investment

Posted on Dec 10, 2024 in Economy

Economic Reality: Fluctuations and Growth Factors

A country’s economic reality: The economy fluctuates from one year to another. These are periods of recession if they are mild, or depression if more severe. In the economic reality of a country, there are some factors that determine its progress or economic growth:

  • External shocks to the market: These are situations that affect society, such as war or climatic changes.
  • Internal market forces: These are the forces of demand and supply.
  • Economic policies: Through them, the governments of each country consider appropriate measures.

Macroeconomic objectives can be summarized in one: to get a level of economic growth that would meet our needs, ensuring full employment of resources and maintaining stable prices.

Consumption and Savings

Consumption is the total expenditure incurred by families on goods and services in a given period. It includes both durable and non-durable goods. Consumption depends on:

  1. Family income: Consumption grows as income grows.
  2. Interest rates and credit facilities: If interest rates fall, consumption increases, and vice versa.
  3. Life cycle: Young and old people tend to spend more than middle-aged people, who are more concerned about retirement.
  4. Price expectations and future income: Consumption depends on prices.

Savings are made for reasons such as:

  1. Ensuring against difficult situations (unemployment, retirement).
  2. Carrying out projects that require significant expenditures (buying a house, a car).
  3. Obtaining additional income by investing the savings.

Savings depend on:

  1. Income level: The higher the income, the more savings, and vice versa.
  2. Interest rate: The higher the interest rates, the greater the stimulus to savings, and vice versa.

Marginal Propensity to Consume and Save

  • The quantity by which consumption increases when disposable income increases by one euro is called the Marginal Propensity to Consume (MPC).
  • The amount by which savings increase as disposable income rises by one euro is called the Marginal Propensity to Save (MPS).

Therefore, MPC + MPS = 1, since disposable income is spent on consumption and savings. In developed countries, the MPC ranges from 0.9 to 0.97. If the MPC is 0.9, an increase in income of 100 euros will increase consumption by 90 euros, as what is not spent is saved, increasing savings by 10 euros. In less developed countries, the increase is smaller.

Indicators of Consumption Trends

  1. Household budget survey: Expenditure reflects the expectations of a traditional family.
  2. Car registrations: The purchase of cars is very reliable on the evolution of consumption in a country.
  3. Large sales surfaces: It is used to measure the consumption of mass consumption goods.

Investment

Concept and Types

Economic investments involve the acquisition or purchase of capital goods to produce other goods. Investment is the key to economic growth and is formed by:

  1. Investment in plant and equipment.
  2. Construction of homes.
  3. Stock variation.

It is important to distinguish between economic investment (which we refer to in this section) and financial investment or placement of savings to buy shares.

Factors Influencing Investment

  1. Interest rates: The comparison of interest rates with performance or profitability is key to the decision on productive capacity.
  2. Used capacity: If the company does not use all its capacity, there is no reason to invest.
  3. Expectations: A state of confidence in the future encourages investment, but a state of doubt generates a climate unfavorable to investment.
  4. Taxes: If the country’s corporate taxes are high, they are a disincentive to investment, and vice versa.

The Multiplier Effect of Investment

For example, if a company invests in purchasing new production equipment, the manufacturers of these teams will have to increase their production, hire more workers, and pay more rent. These producers will benefit, increasing consumption. The total effect of an investment depends on the MPC: the larger the MPC, the higher the multiplier effect of investment. Increase in total investment expenditure = initial investment / (1 – MPC).

The Model of Aggregate Demand and Supply

Difference Between Micro and Macro Supply and Demand

It is the joint study of the demand for all goods and services in a country and the supply of all goods and services produced in the same area, that is, the study of aggregate demand and aggregate supply.

Aggregate Demand

We can define aggregate demand as the total amount of goods and services in a country or region that all operators want or demand. When we speak of aggregate demand, we refer to expected spending, while when we speak of GDP, we refer to realized spending. Aggregate demand is divided into four components:

  1. Consumption
  2. Investment
  3. Public spending
  4. Net exports

The aggregate demand curve represents the amount of assets that economic agents want to buy at any price. The determinants of aggregate demand are:

  1. Confidence in the future: When economic agents have confidence in the future, desires for consumption and investment rise, and vice versa.
  2. Disposable income: When this increases, the desire of domestic economies also increases.
  3. Interest rate and credit facilities.

Aggregate Supply

The total amount of goods and services that companies in a country are willing to produce at various prices.

The Shadow Economy

It is that part of economic activity not declared at the fiscal level and therefore not part of GDP. The reasons for these activities are:

  1. Avoiding paying taxes.
  2. Illegal activities, such as drug trafficking.

The effects of the shadow economy are:

  1. Unfair competition.
  2. Reduced public revenue.
  3. Very precarious employment.
  4. Health and safety conditions are often very different.
  5. It prevents others who seek employment from finding it.