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CHAPTER 3 – INTERDEPENDENCE BETWEEN MAJOR SECTORS, MARKETS
AND FLOWS IN THE MIXED ECONOMY
STUDY UNIT 1
Production, Income and Spending
*Identify the three major flows in the economy
Production – occurs and generates income
Income - earned
Spending – Buy available goods and services
*Distinguish between a flow and a stock
(Box 3-1 Stocks and Flows)
STOCKS FLOWS
Measured at a particular point in time Has a Time dimension – only
NO time dimension measured over a period
Water level of dam measured at a Flow of water into the dam measured
particular point in time (at 00:00 on over a period (1 May 2007 inflow
May 1 2007 capacity was 72,64%) was measured as 250 cubic metres
per second
Stock Takes Calculation of sales, profit or loss
Still pictures Moving pictures
Examples Examples
Wealth Income
Assets Profit
Liabilities Loss
Capital Investment
Population Number of births and deaths
Balance in savings account Saving
Unemployment Demand for labour
Gold reserves held by SA Res Gold sales, gold production
bank
Stocks and flows are related
Stocks can only change as a result of flows
Prices are ratios between different flows
Ratios between a stock and flow and visa versa have a time dimension
Ratios between two stocks and two flows have no time dimension
“Identify the two basic sets of markets in the economy
Goods Markets – Markets for goods and services
Factor Markets – Markets for factors of production
1
,Interdependence of households and firms
HOUSEHOLDS FIRMS
All people who live together and who Unit that employs factors of production to
make joint economic decisions or who produce goods and services that are sold
are subjected to others who make such on the goods market
decisions for them
Every individual is a member of a Firms purchase factors of production
household in the factor market
Own factors of production Transform factors into goods and
Sell them on factors markets to firms services
In exchange they receive income to Sell these goods in the goods market
purchase consumer goods in the
goods market
Goods then consumed to satisfy
human wants
Members are called consumers – the Capital purchased by firms – the act
act of consuming is consumption of purchasing capital goods is
investment or capital formation ( I )
Total spending is called total or
aggregate consumption ( C )
CIRCULAR FLOW OF GOODS & CIRCULAR FLOW OF INCOME AND
SERVICES SPENDING
Households sell their factors of Firms purchase factors of production
production to firms in the factor in the factor market
market
Firms transform factors into goods Firms spending = income of the
and services households
Sell product to household in the Households spend income to
goods market purchase goods and services
Household spending = income of
firms
2
,Circular flow of goods and services (Figure 3-2)
FIRMS
Factor Goods
Market Market
HOUSEHOLDS
Circular flow of income and spending (Figure 3-3)
Income
Spending
FIRMS
Factor Goods
Market Market
HOUSEHOLDS
Income Spending
(Wages, profit, etc)
3
, *Identify the various injections into leakages from the circular flow of income and
spending
Introducing the government
Local, Regional and National (Public Sector)
Primary function – establish framework within which the economy operates
Purchases factors of production from households (factor market)
Purchases goods and services from firms (goods market)
Provides households and firms with public goods and services
In return taxes are paid and households and firms
Government’s economic activity involves 3 important flows
Government expenditure ( G )
Taxes ( T )
Transfer payments – e.g. wealthy to poor
Government spending – injection into flow of spending and income
Taxes – leakage or withdrawal from flow of income between households and
firms
The government in the circular flow of production, income and spending (Figure 3-4)
Labour, capital and other factors of Goods and services
production
FIRMS
Spending on factors Income (sales revenue)
of production
Public
goods
Taxes
and
Government Spending service
Government Spending
s
Factor Goods
Market GOVERNMENT
Labour, capital Goods Market
Public
goods
Taxes
and
services
Introducing the foreign sector
HOUSEHOLDS Consumer spending on goods
Income (wages, interest, etc.)
and services
Labour, capital and other factors of Goods and services
production
4
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