Muhammad Ali Jinnah University

Assignment# 3

Advance Macroeconomics

Life Cycle Hypothesis of

Consumption

Submitted by: Sumair Gowani (SP19-MSEF-0015)

Submitted to: Dr. Rizwan ul Hassan

1
What is Life Cycle Hypothesis of Consumption?
The life-cycle hypothesis (LCH) is an economic theory that pertains
to the spending and saving habits of people over the course of a
lifetime. The concept was developed by Franco Modigliani and his
student Richard Brumberg in the early 1950s.
The LCH presumes that individuals plan their spending over their
lifetimes, taking into account their future income. Accordingly, they
take on debt when they are young, assuming future income will
enable them to pay it off. They then save during middle age in order
to maintain their level of consumption when they retire. This results
in a “hump-shaped” pattern in which wealth accumulation is low
during youth and old age and high during middle age.

Calculation:
Q: A person of age 30 years receives monthly salary of Rs 35000/=
and will retire at age of 60 years. Calculate his monthly consumption
if his life expectancy is 65 years having an asset of Rs 400000/=.
Income Growth Rate is: 12%
Formula: C = 1/T (Yt + (N-1) Yte + At
Where: T = Remaining Life Expected.
Yt = Current Annual Income.
N = Remaining Earning Life.
e
= Growth Rate of Annual Income
At = Assets / Savings

C= 1/35 (420,000 + (30-1) 420,000e 0.12 + 400,000)

C = 1/35 (420,000 + (29) 473548.67 + 400,000)
C = 1/35 (14,552,911.43)
C = 415,797.47 – Annually
C= 34,650/- Monthly