The Circular Flow of Income

What is the circular flow of income?

A model that shows the flow of money around an economy.

Explain how the circular flow of income works.

1. Households provide firms with factors of production

2. Firms make goods /services from factors of production

3. Households receive factor incomes

4. Consumers spend money on goods/services made by firms

How do firms pay factor incomes for land, labour and capital?

Land - Rent

Labour - Wages

Capital- Interest

How is enterprise paid for?

The reward for enterprise is profit.

What is the economic definition of investment?

When firms spend on capital goods.

What is an injection?

injections refer to flows of money into the economy

What is withdrawals/leakages?

Withdrawals/leakages refer to flows of money leaving the economy

What are the leakages/withdrawals to the circular flow of income? What letter represents them?

S - Savings

M - Imports

T - Taxes

What are the injections to the circular flow of income? What letter represents them?

X - Exports

I - Investment

G - Government spending

What happens when the levels of injections are greater than the level of leakages?

- Economic growth increases

- National income rises

What happens when the levels of injections are less than the level of leakages?

- Economic growth decreases

What happens when the levels of injections are equal than the level of leakages?

- The national economy will be in a macro economic equilibrium and there will be no tendency for change

What is GDP?

the measure of economic growth.

How can GDP be calculated?

- Output method

- Income method

- Expenditure method

what is a household in economics?

A household refers to individuals/people- Households consume goods and services produced by firms

where could household income come from?

wages

benefits

rent

interest on savings

return on investments

What is disposable income?

income after taxes

what is the saving ratio?

the amount of money a household save relative to their total income

What is discretionary spending?

spending by households on non-necessary goods and services

state 3 characteristics of a good

tangible- has physical presence

consumer not involved in production

involves a transfer of ownership

What are firms?

commercial enterprise that employs resources to produce goods and services

state 3 characteristics of a service

intangible- do not have physical presence

no transfers of ownership

consumers are involved in the process of production

What are the factors of production?

land, capital, labour, enterprise

what is a market?

where buyers and sellers meet

what is the relationship between income , expenditure and output?

income=expenditure=output

what is government?

a group of people with authority to lead a country make decisions on spending, raise taxes and create laws

what is tax?

a charge levied on workers

what is a subsidy?

a form of government intervention- usually involves a payment by the government to suppliers to reduce their cost of production

what is investment?

when firms spend on capital goods

What is an import?

value of foreign goods and services consumed by a country's household, firms and government

what is an export?

a good or service produced in one country are shipped to another country for future sale or trade