Excess of saving over investment may arise in the following two ways

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Excess of saving over investment may arise in two ways:

According to Keynes, saving function remaining unchanged, the excess of saving over investment is the result of a sudden fall in the marginal efficiency of capital unaccompanied by proportional fall in the rate of interest.

This generally happens during the boom period of the trade cycle. The excessive saving results in a decline in the expenditure on consumer and investment goods. The demand and the prices of the consumer goods fall.

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The actual profits of the producers fall short of the expected profits. Consequently, they reduce the employment, output and income. But when income falls, saving, being a function of income also falls.

This reduces the gap between saving and investment and new saving investment equilibrium is reached at lower levels of output and prices.

Thus, whenever saving exceeds investment it initiates a process of cumulative decline in income, prices and economic activity. It is in this sense that Keynes regarded saving as a private virtue but a public vice.

According to Keynes, saving function remains more or less stable in the short period. Hence, the business fluctuations in the economy are largely due to investment. An increase in investment leads to a rise in income, output, employment and prices and a decrease in investment causes a fall in the income, output, and employment and prices. Conclusion

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According to the saving investment theory of money, it is the inequality between saving and investment that causes price fluctuations (or the changes in the value of money) through changes in the level of income:

(a) If saving and investment are in equilibrium (S = I), the price level will tend to be stable,

(b) If investment exceeds saving, the price level will rise,

(c) If saving exceeds investment, the price level will fall. Thus, contrary to the quantity theory of money, the income theory of money emphasises that fluctuations in the price level are due to the changes in income rather than in the quantity of money.

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