williams sodicRelative income hypothesis states that the satisfaction (or utility) an individual derives from a given consumption level depends on its relative magnitude in the society (e.g. relative to the average consumption) rather than its absolute level. It is based on a postulate that has long been
acknowledged by psychologists and sociologists, namely that individuals care about status.
The relative income hypothesis states that individualâ€™s attitude to consumption and saving is dictated more by his income in relation to others than by abstract standard of living. So an individual is less concerned with absolute level of consumption than by relative levels. The percentage of income consumed by an individual depends on his percentile position within the income distribution.
Secondly it hypothesises that the present consumption is not influenced merely by present levels of absolute and relative income, but also by levels of consumption attained in previous period. It is difficult for a family to reduce a level of consumption once attained. The aggregate ratio of consumption to income is assumed to depend on the level of present income relative to past peak income.