2.4: Exchanging creates a circular flow and division of labour

how is a circular flow of goods, services and money created

• households offer labour and wages

• businesses offer goods and services bought by households and other businesses

• businesses recieve money for what they sell

why are exchanges carried out easily

money is a widely used and accepted means of exchange

what does money allow for

• flexibility of exchange (medium of exchange)

• express value of things (unit of account)

• stores value over time (store of value)

why does money fulfill these functions best

it remains stable over time

what could the fluctuation of currency cost

• general rise in prices = you can only buy a lower amount of goods and services

• purchasing power (Value) of money declines

price indexes

allow us to measure extent of inflation

low inflation

• can be tolerated

• below 2% per year seen as beneficial to the economy

high inflation

• purchasing power of money decreases considerably

• amount of goods and services that can be bought for a certain amount of money decreases

role of public authority in the circular flow of the economy

• levy taxes from households and businesses

• use money to provide goods, transfer payments and subsidies

• infrastructure and services like national defence, security need to provided by governments and financed by taxation

• there’s a demand for the former but private businesses wouldn’t want to supply them as ‘free riders’ cannot be excluded from enjoying them

• in some countries healthcare and education are also provided by public authority

division of labour and specialisation

individuals and businesses concentrate on what they do best

levels of specialisation

• within households - individuals concentrate on ie. shopping, cooking, cleaning

• within businesses - production, procurement, sales, finances, HR

• between businesses

  • same level of production: special range of products

    • some offer all kinds of furniture

    • others offer just beds and couches

  • different levels of production

    • first level: production of wood and iron

    • second level: production of boards and nails

    • third level: production of tables

    • final level: selling them

• international level

  • countries differ in characteristics (climate, resources, geography)

  • they differ in conditions for different industries and business functions

• disadvantages of division of labour:

  • specialised workers get bored over time

  • less flexibility = hard to develop other skills and competencies

  • risky if specialisation isn’t needed anymore