1. What households do with their income
A household is a group of people, often a family, who share income and make spending decisions together. When income comes in, a household can do three things with it:
Spending (consumption) is using income to buy goods and services now.
Saving is the part of income that is not spent, set aside for the future.
Borrowing is spending more than current income by taking on debt to be repaid later, usually with interest.
These three are linked. Income that is not spent is saved; borrowing lets a household spend more than its income today at the cost of spending less later. The balance a household strikes between them depends on a set of influences the syllabus expects you to know: income, the rate of interest, confidence, age and culture.
2. Income
Income is the strongest single influence on all three decisions.
- Spending. As income rises, total spending rises, because households can afford more goods and services. But the proportion of income spent tends to fall as income grows: a low-income household spends almost everything on necessities, while a high-income household can spend a smaller share and still cover its needs.
- . As income rises, the proportion saved tends to rise, because once necessities are covered there is more income left over to set aside.
- . Low-income households may need to borrow to afford necessities; if income falls, a household may end up spending a larger share of that income just to get by, leaving less to save and sometimes forcing it to borrow.
3. The rate of interest
The rate of interest is the reward for saving and the cost of borrowing, so it pulls households' decisions in opposite directions.
- A higher interest rate raises the reward for saving (savings earn more), so households tend to save more and borrow less (loans and mortgages cost more). Spending falls.
- A lower interest rate reduces the reward for saving and cuts the cost of borrowing, so households tend to save less, borrow more and spend more.
Common exam question
What moves household saving, borrowing and spending
Question: Choose how a rise or cut in the interest rate changes saving and the cost of borrowing, or which change makes households save more or spend less (1 mark, multiple choice).
Set in 4 of the 13 multiple-choice papers. The grid offers every pairing of "increased" and "decreased", and both columns follow the rate. A rise makes saving more rewarding, so more is saved, and makes loans dearer; a cut lowers both. The column is the cost of borrowing, which moves with the rate, not the amount borrowed, which moves against it.
To encourage saving, the key is a higher interest rate; a higher income tax rate would leave less to save. A fall in disposable income is the keyed cause of lower household spending, while lower interest rates, sales tax or savings would each raise it. In a table of conditions, the keyed row pairs a high interest rate with low inflation.
4. Confidence
Confidence is how optimistic households feel about their own and the economy's future, especially their job security and expected income.
- When confidence is high, households expect secure jobs and rising incomes, so they spend more and borrow more to buy big items, and feel less need to keep a savings safety net.
- When confidence is low, for example during a recession or when unemployment is rising, households fear losing income, so they cut spending, save more as a precaution and avoid taking on new debt.
A lack of trust in financial institutions can also reduce saving, because people may prefer not to keep their money in savings accounts.
5. Age
A household's stage of life shapes its pattern of spending, saving and borrowing.
- Young adults often have lower incomes but rising needs (housing, starting a family), so they tend to borrow (student loans, mortgages) and save little.
- Middle-aged people usually earn their peak incomes, so they can save the most, building up funds for retirement.
- Older / retired people often draw down their savings rather than add to them, spending what they put aside during their working lives.
So a country with an ageing population may see overall saving fall, because more people are using their savings rather than adding to them.
6. Culture
Cultural attitudes and social norms also shape behaviour.
- In some cultures, saving is strongly encouraged and borrowing is frowned upon, so households save a high proportion of income.
- In others, to buy goods is socially acceptable, so households spend and borrow more and save less.
Common exam question
Influences on how much households save
Question: Identify two influences on the share of income households save, or explain two reasons why saving may fall (2–4 marks).
Asked in 1 of the 11 structured papers as a 2-mark identify, and the specimen mark scheme sets the 4-mark explain. For Identify, any two credited influences score, and only your first three answers are read: income or wealth, the rate of interest, confidence, age or the number of dependants, culture, the cost of living, and the availability of saving schemes.
For Explain, one mark for each reason and one for its effect, so state the direction of each change: income falls, so more of it goes on necessities; the interest rate is cut, so saving earns a smaller reward; confidence rises, so a safety net seems less needed; more people are retired and using up their savings; borrowing to buy goods becomes socially acceptable.