Role of consumption in economic development

Sima Rani Dey | Published: 00:00, May 07,2019 | Updated: 22:54, May 06,2019


BANGLADESH is the fastest-growing economy in South Asia and it is moving very fast towards its goal of achieving a middle-income country status by 2021. In the past four to five years, the growth of the gross domestic products, ranging between 6 per cent and 7 per cent a year, as well as the growth of the past decade confirms the reflection of this phenomenon. If we wish to examine the reason for this high and stable economic growth, the contribution of consumption expenditure could be an influencing indicator.
Bangladesh has a market-based emerging economy with a large population. This population dividend helps to create a massive consumption demand. So, having a large population can be considered an advantage for an economy as major percentage of the total consumption is domestic. That is the reason we hardly come to be affected by external shocks, rather than the internal shocks, such as increase in prices.
Inflation is highly detrimental to our economy as it causes the devaluation of money and weakens the purchasing power of consumers. So, in a sense, inflation indirectly affects the wheel of the economy by lessening the domestic consumption of normal goods. For any economy such as Bangladesh, this is undesirable from any economic point of view, both micro- and macro-economic, because price increase leads to little consumption of essential goods, in turn, lowering the utility level.
On the other hand, less demand of consumers discourages the supply from the producer’s side ie decreased overall productivity of the economy. Ramadan, in this case, may be a good example of consumption expenditure in Bangladesh. In the month, inflationary pressure on commodities in demand remains high because of the increase in domestic consumption. This increasing consumption expenditure will be boon for the economy if the inflation can be controlled at the same time. People of all income levels can, thus, participate equally in the increment of internal consumption to fulfil their daily needs.
Some economic literature proves this consumption scenario that Bangladesh experiences. Paul Krugman says that ‘not only supply creates its own demand; experience since 2008 suggests, if anything, that the reverse is largely true, specifically, that inadequate demand destroys supply.’ In fact, Yegorov emphasises the contribution of population density in any economy which is a major source of demand in reality. So, economies with persistently weak demand (low population density) seem to suffer large declines in potential as well as actual output.
Economic growth is believed to be encouraged when there is incentive to investment, technological frontier expands, human resources improve and there are fewer barriers for entrepreneurs. Economic policies that focus on supply side should, therefore, be encouraged. However, on the other hand, Keynesian economists believe that a fiscal stimulus to enhance consumption would lead to an increase in the aggregate output. Whatever, the traditional Keynesian theory suggests that an increase in consumption expenditure would have multiplier effects on the real gross domestic product.
Against this backdrop, the Bangladesh Institute of Governance and Management conducted a study in 2018 to investigate the relationship between the aggregate consumption expenditure and the economic growth of Bangladesh by using time-series data over the years, from 1980 to 2016. Attempts were meant examine the classical Keynesian theory taking deposit interest rate as control and the vice versa allowing capital investment as control. The study employed an auto-regressive distributive lag economic technique by choosing the best possible lag for the two models.
The study results show that statistically, significant association exists between the consumption expenditure and the gross domestic product in the context of Bangladesh. In addition, internal dummy — the 1988 and the 1998 flood — exhibits a negative impact on gross domestic product but the external dummy, the 2008 recession, was not significant at all in any models.
The study findings also show that the gross domestic product and the consumption expenditure have the most elastic impact on each other in the long run. And a 1 per cent increase in the real gross domestic product could lead to an increase in the consumption expenditure by 0.76 per cent as well as a 1 per cent increase in consumption expenditure could increase the gross domestic product by 0.57 per cent. According to the Granger non-causality tests, the consumption expenditure has the unidirectional causal relationship with the gross domestic product. On the other hand, bidirectional causality also exists between consumption expenditure and capital investment. The causality results connotes that the consumption expenditure encourages gross the domestic product growth. In fact, the consumption expenditure leads to an increase in investment as well.
Considering technology constraints and consumption pattern, in general, the government can take such monetary and fiscal policy that increases consumption. As our domestic market is quite large and we have a demand-driven economy, a jump in domestic consumption can boost our production.
In the Bangladesh context, fiscal and monetary policy inducing consumption will have a positive impact on growth. Demand-enhancing growth can help technological innovations and domestic industrialisation through the development of the consumption-based industry. As the long-run curve of Bangladesh is relatively flatter, there is a window where we can use consumption-enhancing policy keeping a watchful eye on the value of money and budget deficit.

Sima Rani Dey is assistant professor at the Bangladesh Institute of Governance and Management.

More about:

Want stories like this in your inbox?

Sign up to exclusive daily email