Saving Function

Saving is the excess of income over consumption expenditure. It is the part of income which is
not spent on consumption. This can be expressed as follows.

S=Y–C
Where, S = Aggregate saving.
Y = Aggregate income (total disposable income).
C = Aggregate consumption.

Saving function refers to the relationship between aggregate income and aggregate saving. It
shows the functional relationship between aggregate income and aggregate saving. In other
words, saving function shows how amount of saving varies with the change in income. Hence,
like consumption, saving is also a function of income. This can be expressed as follows.
S = f (Y)
Where, S = Aggregate saving.
f = Functional relationship.
Y = Aggregate income.

Linear saving function can be derived on the basis of linear consumption function as follows.
S=Y–C
Or, S = Y – (a + bY) [... c = a + by]
Or, S = Y – a – bY
Or, S = -a + Y – bY
Or, S = -a + (1 – b)Y
Where,
S = Aggregate saving.
-a = Y’-intercept or autonomous saving or saving at zero income.
1 – b = Marginal propensity to save or slope of saving curve or rate of change in
saving with respect to the change in disposable income.
Y = Aggregate income (total disposable income).
When the income of the community increases, saving also increases and vice versa. Hence,
saving is a positive function of income.
We can prepare the schedule of saving function as follows.
Income (Y) Consumption (C) Saving (S = Y – C)
Rs. In crore Rs. In crore Rs. In crore
0 20 -20
50 60 -10
100 100 0
150 140 10
200 180 20
250 220 30
300 260 40
The above table shows that saving is the positive function of income because amount of saving
increases with the increase in income. In the above table, at each stage, income increases by
Rs. 50 crore and saving increases by Rs. 10 crore. This indicates a linear saving function. Saving
function can also be illustrated by the following figure.

In the above figure, SS1 is the saving curve which shows the various amounts of saving at
different levels of income. In the figure, at less than OY1 level of income, saving curve lies below
the X-axis which shows negative saving. Saving curve SS1 cuts the X-axis at OY1 level of income.
Hence, at OY1 level of income, saving is zero. Similarly, at more than OY1 level of income, saving
curve lies above the X-axis which indicates positive saving. In the figure, Y’-intercepts OS shows
autonomous saving. In the figure, saving curve SS1 is upward sloping which indicates that saving
is a positive function of income. The straight line saving curve SS1 also indicates a linear saving
function.

Technical Attributes of Saving Function

Or
Classification of Propensity to Save
Saving function has two technical attributes which can be stated as follows.
 1. Average propensity to save (APS): Average propensity to save can be defined as the
ratio of aggregate saving to aggregate income. It can be obtained by dividing aggregate
saving by aggregate income. This can be expressed as follows.
S
APS =
𝑌
Where,
APS= Average propensity to save.
S= Aggregate saving.
Y= Aggregate income.
APS shows the proportion or percentage of income that is saved. Concept of APS can be
illustrated by the following table.
Income(Y) Consumption (C) Saving (S=Y – C) S
APS=
Rs. In crore Rs. In crore Rs. In crore 𝑌
100 100 0 0
150 140 10 0.07
200 180 20 0.10
250 220 30 0.12
300 260 40 0.13

In the above table, when the income is Rs. 200 crore, saving is Rs. 20 crore. In such a
case, APS can be measured as follows.
20
APS = = 0.10 or 10%
200
This implies that, when the income of the community is Rs. 200 crore, the community
saves 10% of the income. The above table shows that APS increases with the increase in
income. This is so because the proportion of income spent by the community on
consumption decreases as income of the community increases. In fact, APS is
complement of APC because APC + APS = 1. This can be proved as follows.
We know,
Y= C + S
Dividing both sides by Y, we get
Y C+S
=
Y Y

Y C S
Or, = +
Y Y Y

C S
Or, 1= +
Y Y

C S
Since, is APC and is APS, the above equation can be expressed as follows.
Y Y

1 = APC + APS
... APC + APS = 1
The concept of APS can also be illustrated by the following figure.

In the above figure, SS is the saving curve. In the figure, at OY1 level of income saving is OS1. In
such a case, APS at point R will be as follows.
OS1
APS at point R =
OY1
By adopting the same procedure, we can measure APS at any other point on the saving curve
SS.

2. Marginal propensity to save (MPS): MPS can be defined as the ratio of the change in
aggregate saving to the change in aggregate income. It can be obtained by dividing the
change in aggregate saving by the change in aggregate income. This can be expressed as
follows.
ΔS
MPS =
ΔY
Where,
MPS = Marginal propensity to save.
ΔS = Change in aggregate saving.
ΔY= Change in aggregate income.
MPS shows the proportion or percentage of increased income that is saved. MPS is greater than
zero but less than one. This is so because saving increases with the increase in income but the
community does not save whole of the increased income. Concept of MPS can be illustrated by
the following table.

Income (Y) Consumption (C) Saving (S= Y – C) ΔS

MPS=
Rs. In crore Rs. In crore Rs. In crore ΔY
100 100 0 -
150 140 10 0.20
200 180 20 0.20
250 220 30 0.20
300 260 40 0.20

In the above table, when income increases from Rs. 200 crore to 250 crore saving
increases from 20 crore to 30 crore. In such a case, MPS can be measured as follows.
ΔS 10
MPS = = = 0.20 or 20%
ΔY 50

This implies that when income increases from Rs. 200 crore to 250 crore, the
community saves 20% of increased income. In the above table, MPS is constant
according to Keynes, in the short period, MPC remains constant and when MPC remains
constant, MPS also remains constant. In fact, MPS is the complement of MPC because
MPC + MPS = 1. This can be proved as follows.
We know,
ΔY = ΔC + ΔS
Dividing both sides by ΔY, we get
ΔY ΔC+ΔS
=
ΔY ΔY

ΔY ΔC ΔS
Or, = +
ΔY ΔY ΔY

ΔC ΔS
Or, 1= +
ΔY ΔY

ΔC ΔS
Since is MPC and is MPS, the above relation can be restated as follows.
ΔY ΔY

1 = MPC + MPS
... MPC + MPS = 1.

The concept of MPS can also be illustrated by the following figure.

In the above figure, when income increases from OY1 to OY2 saving increases from OS1 to
OS2. In such a case, MPS will be as follows.
S1 S2 ΔS
MPS= =
Y1 Y2 ΔY
MPS at a particular point on the saving curve is equal to the slope of saving curve at that
point.

Relationship Between APS and MPS

APS refers to the ratio of saving to income, whereas MPS refers to the ratio of change in
saving to change in income. APS and MPS are closely related to each other. The
relationship between APS and MPS can be stated as follows.
1. In the case of a linear saving function (straight line saving curve) with negative saving
at zero income level, APS rises and MPS remains constant with the increase in
income. In such a case, APS is always lower than MPS. This can be illustrated by the
following table.
 Y C S= Y – C S ΔC
APS = MPS =
(Rs. In crore) (Rs. In crore) (Rs. In crore) Y ΔY
0 25 -25 -∞ -
100 100 0 0 0.25
200 175 25 0.13 0.25
300 250 50 0.17 0.25
400 325 75 0.19 0.25
500 400 100 0.20 0.25

2. In the case of linear saving function (straight line saving curve) with zero saving at
zero income level, APS is equal to MPS and both are constant at all levels of income.
This can be illustrated by the following table.
Y C S= Y – C S ΔC
APS = MPS =
(Rs. In crore) (Rs. In crore) (Rs. In crore) Y ΔY
0 0 0 0 -
100 75 25 0.25 0.25
200 150 50 0.25 0.25
300 225 75 0.25 0.25
400 300 100 0.25 0.25
500 375 125 0.25 0.25

3. In the case of non-linear saving function, as income increases, APS and MPS both
rise but the rise in MPS is more than the rise in APS. In such a case, APS is lower than
MPS. This can be illustrated by the following table.

Y C S=Y–C 𝑆 ΔS
APS = MPS =
(Rs. In crore) (Rs. In crore) (Rs. In crore) 𝑌 ΔY
100 90 10 0.1 -
200 160 40 0.2 0.3
300 210 90 0.3 0.5
400 240 160 0.4 0.7
500 250 250 0.5 0.9

Types of Saving
Saving is mainly of the following types.
1. Voluntary saving: Voluntary saving can be classified as follows.
a. Personal or individual saving:
The saving made by individuals and households is called personal or
individual saving. People save for future by sacrificing present consumption.
 b. Corporate or business saving:
The saving made by the business corporations is called corporate or business
saving. The business corporations save when they retain a certain proportion
of their profits as a reserve fund to expand business in future.
Personal and corporate savings both are voluntary in nature.
2. Compulsory saving: Sometimes the government may impose additional taxes on
consumer goods to compel the people to curtail unnecessary consumption and
increase saving. As a result, consumer goods become expensive and people are
compelled to curtail consumption and increase saving. This is called compulsory
saving.
3. Forced saving: If the government compels the individuals and firms to invest on
government securities, it is called forced saving. Forced saving helps the
government to meet the financial needs at the time of financial crisis.
4. Government saving or public saving: If the government income exceeds
government expenditure, it is called government saving or public saving. The
total saving of an economy consists of private and government saving. Less
emphasis is given to the government saving in a capitalist economy.

Determinants of Saving Function

There are various factors that affect the savings of individual households and private
business performance. some of the major determinants of savings are as follows.
1. level of income. (YꜛSꜛ)
2. Rate of interest. (rꜛ Sꜛ)
3. Price label. (PꜛSꜜ)
4. Fiscal policy. (Tꜜ Sꜛ)
5. Distribution of income (If the distribution of income is more equal the saving
decreases and if the distribution of income is more unequal the saving increases)
6. Population growth (PGꜛ Sꜜ)
7. Habit of people
8. Development of banking and financial institution
9 Social securities: If social securities are high saving becomes low. (Suppose pension,
old age allowances, handicapped and disabled allowances, unemployment allowances,
widow allowances, free education, on and medical services are provided by the
government, people feel secure for the future and do not save more.)
 Paradox of Thrift

According to classical economists, saving is a great private and social virtue. According to them,
an all-around increase in individual saving leads to an increase in national saving. According to
classical economists, the part of income that is not spent on consumption is saved which is
automatically invested. Hence, saving is always equal to investment at the full employment
level of income. If there is any divergence between saving and investment, the equality
between them is maintained through the mechanism of the rate of interest because both
saving and investment are interest elastic. According to classical economists, saving is the
positive function of the rate of interest while investment is the negative function of the rate of
interest. But Keynes has criticized the classical view. According to Keynes, saving is the positive
function of the level of income, whereas investment is mainly determined by the expected rate
of profit. Hence, increase in saving is possible only when the income of the community
increases. Since the expenditure of one group becomes the income of another group, increased
saving on the part of some individuals leads to a decline in the income and consumption
expenditure of some other individuals. This indicates that increased saving on the part of the
community leads to a decline in consumption expenditure of the community which leads to a
fall in effective demand. As a result, output, employment and income fall in the community.
Ultimately, lower level of income leads to a decline in community’s saving. In this way, any
attempt on the part of people to save more in the community eventually leads to a decline in
community’s income and saving. This is known as paradox of thrift in macroeconomics. Thus,
according to Keynes, saving may be a virtue for an individual because it adds to individual
wealth. But for the community as a whole, saving is a vice not virtue. The concept of paradox of
thrift can be illustrated by the following figure.
In the above figure, SS and II are saving and investment curves respectively. Initially, the
economy is in equilibrium at point E where saving and investment are equal. At this equilibrium
point, equilibrium level of income is OY. Now suppose that community’s saving increases and
the saving curve SS shifts upward to the left and takes the position S 1S1. Now, E1 is the new
equilibrium point for the economy where saving and investment are equal. At this equilibrium
point, equilibrium level of income is OY1. When the equilibrium of the economy moves from
point E to point E1, equilibrium level of income decreases from OY to OY1 and the level of saving
decreases from YE to Y1E1 (OM to OM1) . Hence, in the figure, it will be seen that the effort on
the part of the community to save more has led to a decline in community’s income and saving.

# Is the concept of the paradox of thrift applicable to underdeveloped countries like Nepal?

OR

“Saving is a vice, not a virtue.” Is this statement applicable to underdeveloped countries like
Nepal?

According to Keynes, for the community as a whole, saving is a vice, not a virtue. But this
Keynesian view is not applicable to underdeveloped countries like Nepal because there is an
acute shortage of capital in underdeveloped countries and saving is essential for capital
formation. Hence, for underdeveloped countries like Nepal, saving is a virtue, not a vice.