Keynes' Absolute Income Hypothesis and Kuznets Paradox

Abstract

The study investigates how consumption expenditure is determined by income according to Keynes’ Absolute Income Hypothesis (AIH) for the case of Nigeria and thus presents a consumption function for Nigeria for the period 1970 to 2011, estimating total household consumption expenditure against total income. The AIH model was tested by ordinary least squares over the period using data obtained from the World Bank national accounts data and Ivan Kushnir’s Research Center. We described and tested two important theoretical predictions of the Keynesian AIH model; first, that the marginal propensity to consume (MPC) is constant and, second, that the average propensity to consume (APC) declines as income increases. Using Nigeria economic data, we estimated parameter MPC and APC both for short run and long run time series. The results shows that MPC conform with Keynes earlier proposition that MPC is less than one, however it is not stable and the value of the autonomous consumption is negative in the long run. We found also that the APC did not vary systematically with income as conjectured by Keynes that it declines as income increases. As a result, the income elasticity of consumption does not follow Keynes prediction. The absolute income hypothesis fits well for Nigeria data in the short run. In the long run, with the elasticity of consumption of about 1 or above 1, evidently there are other important determinants of consumption other than income.

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