Circular flow and consumption

A level Econ

Circular flow of income

A model showing how money, goods and services more between households and firms in an economy

Households supply labour to firms and get wages, which they then spend on goods and services

Injection

Money flowing into the circular flow that increases economic activity

Investments, government spending and exports

Withdrawal

Money leaving the circular flow of income reducing economic activity

Savings, taxes and imports

Savings

Part of disposable income that households do not spend on consumption

putting £100 into a bank account

Tax

A compulsory charge by the government on income, goods, or spending

Income tax on wages

Investment

Spending by firms on capital goods to increase future production

A business buying new machinery

Government Spending

Expenditure by the government on goods, services, and welfare.

spending on healthcare or education

Imports

goods and services brought from abroad

UK buying cars from Germany

Exports

Goods and services sold to foreign countries

UK selling financial services to the UK

Aggregate Demand (AD)

Total demand for goods and services in an economy at a given price level

AD=C+I+G+(X-M)

Consumption

Household spending on domestic goods and services

Buying UK milk

Households

Consumers who supply factors of production (like labour) and demand goods/services

Families buying groceries and providing labour

Firm

Businesses that produce goods and services using factors of production

A bakery producing bread

Income

Money received by households for providing factors of production

Wages, rent or interest

Wealth

The total value of assets owned by a individual or household

Owning a house, stocks and savings

Marginal Propensity to Consume (MPC)

The proportion of extra income that is spent on consumption

If income rises by £100 and £80 is spent, MPC = 0.8

Marginal Propensity to save(MPS)

the proportion of extra income that isnt spent on consunption

If income rises by £100 and £20 is saved MPS = 0.2

Consumer confidence

The degree of optimism households have about future incomes and the economy

If people expect job security, they are more likely to spend

Disposable income

Income available to households after taxes and benefits

Take-home pay after income tax and national insurance

Interest rates

The cost of borrowing money or the reward of saving

A loan with a 5% annual interest rate

Wealth Effects

When changes in the value of assets influence consumption and saving 

Rising house prices make homeowners feel richer, so they spend more