Follow by Email

Friday, 7 November 2014

Savings or Consumption?

I came across this great video about savings and consumption today. This video highlights the importance of savings in the economy, despite the common conception that consumption may be a more important component of the economy. I was told in school that consumption was roughly 70% of the economy. Indeed, in Keynes' view, increasing consumption will increase growth via higher spending. Remember that AD = C + I + G + (X-I), where AD = aggregate demand, C = consumption, I = investment, G = government spending, X = exports, I = imports. If consumption increases, the left hand side of the equation, AD, increases. An increase in AD will increase economic growth, so the argument goes. 

But this 3 minute video actually argues the opposite. Savings are more important for the economy because it allows investment to grow and this helps increase production. In exams, the examiners are looking for a balanced argument. These alternative views are perfect to help you gain extra marks.