Circular Flow Model

Factors of production

Resources used to produce goods and services. Land, labor, and capital (and entrepreneurs(hip), but we won’t over that).

Key economic questions

What should we make? How should we make it? Who gets it? Societies have to answer these three questions due to scarcity and create economic systems to answer them.

Traditional economy

Economic decisions are based on custom and historical precedent.

Command economy (AKA centralized economies)

Government planning groups make the basic economic decisions.

Market economy

Economic decisions are guided by changes in price that occur as buyers and sellers interact in the marketplace.

Circular flow model

Basic model demonstrating the overall economy.

Households own the factors of production and consumer goods/services.

Firms produce goods/services by taking inputs (FoPs) and turning them into outputs (goods/services)

Product market (circular flow)

Households pay for goods/services (monetary exchange), firms provide goods/services (physical exchange).

Factor market (circular flow)

Households supply workers, resources, and investors (physical exchange), firms pay wages, rent, and profits (monetary exchange).