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The consumption function describes how aggregate household consumption depends primarily on disposable income (current and expected future), along with wealth, interest rates, and confidence. Keynes posited that the marginal propensity to consume (the share of additional income spent) is less than one and stable over time, making consumption a predictable component of aggregate demand.
From your study of the circular flow model, you know that household consumption (C) is the largest component of aggregate demand in most economies, often comprising 60–70% of GDP. Understanding what drives consumption is therefore central to macroeconomics. The consumption function is the relationship that formalizes this — it describes, at the aggregate level, how total household spending responds to changes in income and other factors.
Keynes's original specification was elegantly simple: C = a + b·Y_d, where Y_d is disposable income (after-tax income), a is autonomous consumption (spending that occurs even at zero income, funded by savings or borrowing), and b is the marginal propensity to consume (MPC). The MPC is the most important parameter: it tells you what fraction of each additional dollar of income gets spent rather than saved. If MPC = 0.8, households spend 80 cents of every new dollar they receive and save 20 cents. Keynes argued MPC is between 0 and 1 — people neither save everything (MPC = 0) nor spend everything (MPC = 1). Your prerequisite work on the budget constraint gives you the microeconomic foundation: households face an intertemporal tradeoff between spending today and saving for the future, and MPC < 1 is the natural result of that optimization.
This simple structure already generates powerful macroeconomic insights. Because MPC < 1, a $1 increase in income raises consumption by less than $1. This is why the economy's spending response to a shock is not one-for-one — it builds toward the fiscal multiplier you'll study next, where an initial injection of spending circulates through the economy and amplifies into a larger total effect. The gap between income and consumption (1 − MPC = marginal propensity to save) represents the leakage from the circular flow that prevents infinite amplification.
The consumption function has been extended substantially since Keynes. The permanent income hypothesis (Milton Friedman) argues households smooth consumption over their lifetime — they respond mainly to changes in permanent (expected long-run) income, not transitory fluctuations. A one-time tax rebate has a smaller consumption effect than a permanent tax cut of the same initial size, because households know the rebate is temporary and mostly save it. The life-cycle model (Franco Modigliani) emphasizes that consumption depends on lifetime wealth — young workers borrow, middle-aged workers save, retirees dissave. These extensions don't overturn Keynes's basic framework but refine it: wealth effects, interest rates, and expectations all shift the consumption function, while the core relationship between income and spending remains the foundation of aggregate demand analysis.