Milton Friedman
A Theory of the Consumption Function

One of Milton Friedman's most popular works, A Theory of the Consumption Function, challenged traditional Keynesian viewpoints about the household. This work was originally published in 1957 by Princeton University Press, and it reanalyzed the relationship displayed "between aggregate consumption or aggregate savings and aggregate income".

Friedman's counterpart Keynes believed people would modify their household consumption expenditures to relate to their existing income levels. Friedman's research introduced the term "permanent income" to the world, which was the average of a household's expected income over several years, and he also developed the permanent income hypothesis. Friedman thought income consisted of several components, namely transitory and permanent. He established the formula y = y p + y t {\displaystyle y=y_{p}+y_{t}} to calculate income, with p representing the permanent component, and t representing the transitory component. Milton Friedman's research changed how economists interpreted the consumption function, and his work pushed the idea that current income was not the only factor affecting people's adjustment household consumption expenditures. Instead, expected income levels also affected how households would change their consumption expenditures. Friedman's contributions strongly influenced research on consumer behavior, and he further defined how to predict consumption smoothing, which contradicts Keynes' marginal propensity to consume. Although this work presented many controversial points of view which differed from existing viewpoints established by Keynes, A Theory of the Consumption Function helped Friedman gain respect in the field of economics. His work on the permanent income hypothesis is among the many contributions which were listed as reasons for his Sveriges-Riksbank Prize in Economic Sciences. His work was later expanded on by Christopher D. Carroll, especially in regards to the absence of liquidity constraints.

The permanent income hypothesis faces some criticism, mainly from Keynesian economists. The primary criticism of the hypothesis is based on a lack of liquidity constraints.
keywords:letter_frequency