The role of households
Households are the basic consuming units in the economy. They supply labour to firms, receive income in the form of wages, rent, interest and profits, and spend or save their income on goods and services. Their decisions on spending, saving and borrowing influence aggregate demand and therefore the overall performance of the economy.
Determinants of consumption and saving
Several factors determine how much households spend and save:
- Disposable income – the main determinant of spending. Higher disposable income (after taxes) usually leads to higher consumption and saving.
- Wealth – people with greater wealth tend to spend more; rising asset values can create a positive wealth effect.
- Interest rates – higher interest rates encourage saving and discourage borrowing; lower rates have the opposite effect.
- Expectations and confidence – expectations of future income, inflation or job security influence current consumption and saving decisions.
- Age and household size – younger families with children may spend more on housing and education, while older households may save for retirement.
| Factor | Influence on consumption | Influence on saving |
|---|---|---|
| Increase in disposable income | Consumption rises | Saving may also rise, depending on preferences |
| High interest rates | Discourages borrowing; may reduce consumption of durable goods | Encourages saving |
| Positive expectations about future income | Increases current consumption | Reduces saving |
| Aging population | May reduce consumption in some areas (e.g. entertainment) | Increases saving for retirement |
Households also make decisions about borrowing. Borrowing allows households to spend more than their current income, but it incurs future repayment obligations. The willingness to borrow depends on income stability, interest rates and confidence in the future. Government policy, such as income tax rates and welfare benefits, can influence household spending and saving behaviour.
