Circular Flow Basics SSEMI 1 a Illustrate the

Circular Flow Basics SSEMI 1 a. Illustrate the flow of goods and services by means of the circular flow

Circular-Flow of Economic Activities � A household is a person or a group of people that share their income. � A firm is an organization that produces goods and services for sale. � Firms sell goods and services that they produce to households in markets for goods and services. � Firms buy the resources they need to produce—factors of production—in factor markets. � Money is anything that is used to determine value during the exchange of goods and services.

Circular Flow �A model of the economy that shows the circular flow of money that is spent and earned.

Factor/Resource Market �Resource (Factor) markets: productive resources ( 4 factors of production) are being bought and sold

4 Factors of Production (FOP’s) �Capital Manufactured good, buildings, anything man-made �Entrepreneurship Human resources that organize land, labor, and capital to produce good and services.

FOP’s (con’t) �Land Any that occurs naturally (“gifts of nature”) used to produce good and services Sand, cows, flowers, etc �Labor The work time and effort that people devote to producing goods and services. Includes mental and physical efforts

Factor/Resource Market �Factor market: �where the Factors of production are bought and sold. �Producers invest in capital (money) to increase production and find the labor needed to run their businesses.

Product markets �Product market: where producers sell their goods and services to consumers �After individuals receive income, they spend it in product markets

Product Market �Only final goods and services are sold here. �Final/Finished goods: This is the last time a good or service will be consumed or used

Three Actors 3 Economic Actors Businesses Households Government

Role of households � 1. Supply productive resources to businesses � 2. They buy final goods and services

Role of Business/Firms 1. Supply goods and services in the product market 2. Function as consumer and producer 3. Try to sell products for more than cost of production

Role of the government �The government taxes consumers and businesses and then injects spending into the economy

Transactions: The Circular-Flow Diagram � The circular-flow diagram is a model that represents the transactions in an economy by flows around a circle. � Trade takes the form of barter when people directly exchange goods or services that they have for goods or services that they want.

The Circular-Flow Diagram

The Circular Flow Wages, rents, interest, profits Factor services Goods Firms n e m (production) n r e Taxes Government. Gov ending Sp ment Savi t t ngs. Financial markets s e v n I Im po Personal consumption rts o p x E Other countries Household Mc. Graw-Hill/Irwin © 2004 The Mc. Graw-Hill Companies, Inc. , All Rights Reserved.