In economics, the “consumption function” explains how households split income between spending and saving. Modigliani formalized the Life-Cycle Hypothesis, which says people typically borrow when young, save in middle age, and spend those savings after retirement. The theory shows that a nation’s age structure strongly affects its overall saving rate and is thus vital for studying aging societies. At the same time, the Modigliani-Miller theorem rigorously demonstrated that a firm’s value does not depend on how it mixes debt and equity, establishing the foundation of corporate finance. These contributions underpin modern pension design and financial regulation.

Developed in the 1950s, Modigliani’s Life-Cycle Hypothesis (LCH) is a dynamic consumption theory based on utility maximization, describing how individuals smooth consumption over time by adjusting assets in line with expected lifetime income. Because interest rates and demographic age profiles jointly determine aggregate saving, the LCH is central to analyses of pension finances and international capital flows. The Modigliani-Miller (MM) theorem, derived under complete markets, zero taxes, and zero transaction costs, proves via an arbitrage argument that firm value is independent of the debt-equity ratio. The theorem became the benchmark from which later models with taxes, asymmetric information, and agency costs departed, greatly advancing corporate‐finance theory. Together, the LCH and MM link micro-level behavior with market equilibrium and thus bridge modern macroeconomics and corporate finance.

The LCH, framed as a finite-horizon intertemporal utility-maximization problem, was generalized to overlapping-generations (OLG) models, allowing demographic structures to be mapped empirically to aggregate saving behavior. Modigliani constructed cohort-wise wealth-accumulation accounts from Flow-of-Funds and census data, decomposing sources of capital formation. MM employs an arbitrage argument that eliminates leverage-induced gains, thereby demonstrating WACC invariance and the capital-structure irrelevance proposition, later serving as a benchmark for models with tax shields, agency costs, and signaling. Recent work embeds the LCH in OLG-DSGE frameworks for aging-economy policy simulations, while dynamic adjustment models extend MM to settings with adjustment costs and financial frictions. Together, these theories have deepened research on intergenerational asset distribution, macro-financial imbalances, and the nexus between corporate finance and macroeconomics.