Description
1)Explain the key stylized facts about aggregate consumption and investment (size, volatility). List the components of consumption and investment.
2)Explain in detail the Modigliani (life‐cycle) theory of consumption. Contrast it with the Keynesian theory of consumption.
3)Explain the difference between permanent and transitory income. Which of the two is important for consumption in the Friedman theory?
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Running head: PROBLEM SET 1
1
Problem Set 1. EC 302
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PROBLEM SET 1
2
Q1
Stylized Facts about consumption and investment:
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Consumption expenditure tend to decreases when income increases.
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Marginal Propensity to Consume (MPC) is higher for poor people.
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The rate of interests and market sentiments affects the investment in the market and is
highly volatile.
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Investment has multiplier effect (Chatterjee, et al., 2012).
Components of Consumption and Investment:
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Consumption = Household consumption +Private consumption+ Public Consumption
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Investment = Private Investment Expenditure + Government Investment Expenditure.
Q2
According to the Modigliani (life‐cycle) theory of consumption, the household are in a
position to come up with their current consumption basing on the need and the anticipated future
income (Davidson, 2011). In this theory the...