Question

Explain 'Paradox of Thrift'.

Answer 1

The 'Paradox of Thrift' was propounded by J.M. Keynes who defined the relationship between change in savings and its effect on the economy as paradoxical in nature. According to Keynes, when people start saving money instead of spending it, that increases MPS . Rise in MPS means a fall in MPC. When MPC falls, aggregate consumption expenditure in the economy falls. It leads to rise in inventory level of producers. To clear the unwanted increase in inventory, firms would plan to reduce the production. It will reduce the demand for factor services and factor Incomes. As a result the total volume of saving generated in the economy would fall (or remain unchanged).