Question 1: According to the life-cycle hypothesis, what is the typical pattern of saving for an individual over his or her lifetime? What impact does this behavior have on an individual’s lifetime consumption pattern? What impact does the behavior have on the saving rate in the overall economy?
Life-Cycle hypothesis is an economic theory that explains spending and saving habits/ patterns among individual. The hypothesis has a general prediction that holds in most ideal cases. A typical saving pattern is divided into three key stages. The theory suggests that at youth stage an individual make minimal savings if any (McEachern, 2012). In particular, youths borrow money to finance their education and training. Consequently, optimum saving occurs during mid ages. At this stage, individuals are at the peak of their careers and, therefore have maximal earnings. Besides the savings, middle-aged people also pay debts incurred during their youth (McEachern, 2012). Saving potential decline and or comes to a halt during the old age. At old age, people survive on savings made during their middle ages.
The need to save or acquire wealth as suggested by the life cycle hypothesis determines individual spending habits. The urge to save intensifies at middle ages. During this stage, individuals increase their savings and tend to reduce their expenditure. The theory suggests that consumption also slows down at old age. Consequently, consumption at youth age is not defined adequately by the hypothesis.
Saving and consumption behavior or pattern affects the rate of saving in the overall economy. Indeed, the overall economy depends on the relative number of savers and the amount set aside as savings (Bade, & Michael, 2002). Thus, the overall economy depends on people’s willingness and ability to save. As suggested by the hypothesis, a country would save more if majority of its citizens were of mid age. Consequently, the savings will decline if majority of the citizens are dependants (elderly and children).