Chapter 1 - The circular flow model, national account aggregates and the multiplier

base year

a year serving as a point of comparison for other years in a price index or other statistical measure

autonomous consumption spending

the level of consumption spending that is independent of changes in households' income

basic prices

used when GDP is calculated according to the production method and represents the production costs of firms

capital market

market for long-term financial instruments, for example, bonds and shares

circular flow model

a diagram that illustrates the continuous flow of spending, production and income between different sectors in the economy

closed economy

an economy that has no foreign sector as a participator

consumption (C)

consumption spending by the population

gross domestic product (GDP)

the total value of all final goods and services produced within the borders of a country for a specific period

economic equilibrium

the economy is in equilibrium if leakages are equal to injections: L = J or S + T + M = I + G + X

expenditure method

when the national accountants add together the spending of the four major sectors of the economy: C + I + G + (X - M)

exports

goods and services produced locally and then sold for consumption outside the borders of the country

factor market

market where factors of production are traded, e.g. labour market

factor cost/ factor prices

these terms can be used interchangeably and refer to the cost of or price paid for the factors of production (land, labour, capital and entrepreneurship) used by firms. Note that the term factor income may also be used.

financial market

the market where both short- and long-term financial assets are traded

financial sector

those financial institutions that are not directly involved in the production of goods and services, e.g. banks, insurance companies, pension funds and the JSE

foreign exchange market

the market in which one currency can be traded for another, e.g. rands for dollars

goods market

market where goods and services are traded, e.g. cars, milk (also known as the product market)

government (G)

the expenditure of the government sector

imports (M)

goods and services produced in other countries and purchased by local firms or households

income method

gross domestic income is derived by adding all income earned by the owners of the factors of production - GDP(I)

induced consumption spending

the additional consumption spending that occurs due to an increase in national income

investments (I)

spending by firms on capital goods

injections (J)

the introduction of additional money into the economy by investment (I), government (G), and payments for exports (X)

leakages (L)

money withdrawn from the circular flow, e.g. through savings (S), taxes (T) and import expenditure (M)

marginal propensity to consume (mpc)

the marginal propensity to consume (mpc) indicates that, as disposable income increases, an increase in personal consumer spending (consumption) occurs. For example, an mpc of 0.65 indicates that for every extra rand earned, the household will spend 65 cents and save 35 cents

market price

prices actually paid by consumers for goods and services plus all taxes less subsidies (calculated according to the expenditure method)

money flow

the flow of income and expenditure between the participants in the circular flow

money market

the short-term and very short-term market for savings and loans

multiplier

a small initial increase in spending produces a proportionately larger increase in aggregate national income

national figures (GNP)

value of all final goods and services produced by the permanent citizens of the country for a specific period

net figures

net indicates that some amount has been taken away, e.g. net exports reflects the value of exports less imports

open economy

an economy that trades with the foreign sector

production method

the adding of final values of all goods and services calculated as gross value added - GDP(P)

real flow

the flow of goods and services and factors of production between the participants in the circular flow

savings

income that is not consumed

importance of saving

saving leads to investment (capital formation) that expands productive capacity of the economy

subsidies on production

refers to subsidies that are not linked to specific goods or services, e.g. subsidy made on employment

subsidies on products

financial incentives to help struggling industries produce, as well as direct subsidies payable per unit exported to encourage exports (e.g. a government subsidy on bread)

taxes (T)

compulsory payments made by private individuals or business enterprises to the government sector with no direct benefit

taxes on production

refer to taxes on production not linked to a specific good or service (e.g. tax on land and buildings)

taxes on products

taxes that are payable per unit of some good or service (e.g. VAT, import duties)