The Logic of Stable Spending and Income Changes
In a theoretical economic model, a household is assumed to maintain a perfectly constant level of spending over its lifetime, regardless of short-term income fluctuations. Analyze the logical implications of this assumption for the household's immediate spending response to a temporary, unexpected increase in income. Specifically, explain why their tendency to spend out of this extra income would be zero.
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A household plans its spending to maintain a perfectly stable standard of living throughout the year, using savings and borrowing to manage any income fluctuations. This year, the household receives an unexpected, one-time cash bonus equivalent to one month's salary. According to a theoretical model where this household can perfectly achieve its goal of stable spending, how will this bonus affect its consumption in the current year?
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The Logic of Stable Spending and Income Changes