ECODEV-The-Circular-Flow-Diagram.pptx

CIRCULAR FLOW DIAGRAM  Micro vs. Macro 7. MICROeconomics- Study of small economic units such as individuals, firms, and industries (competitive markets, labor markets, personal decision making, etc.) 9. MACROeconomics- Study of the large economy as a whole or in its basic sub...

CIRCULAR FLOW DIAGRAM  Micro vs. Macro 7. MICROeconomics- Study of small economic units such as individuals, firms, and industries (competitive markets, labor markets, personal decision making, etc.) 9. MACROeconomics- Study of the large economy as a whole or in its basic subdivisions (National Economic Growth, Government Spending, Inflation, Unemployment, etc.)  The circular flow diagram shows the income received and payments made by each sector of the economy. 3 of 31  Circular flow diagram Assumption: The economy composed of households and firms only Households: own factors of production, consume goods and service Firms: hire factors of production to produce goods and services  Circular flow diagram Upper loop of the circular flow diagram: transactions in the goods and services markets Lower loop: transactions in the factor markets  Revenue Spending (=GDP) (=GDP) MARKETS FOR GOODS Good and AND Good and services SERVICES services sold bought FIRMS HOUSEHOLDS Inputs for Land, labor Production and capital MARKETS FOR FACTORS OF Income (=GDP) Wages, rent, PRODUCTION interest and profit (=GDP) Flow of goods & services Flow of money: pesos THE CIRCULAR FLOW DIAGRAM The Components of the Macroeconomy Everyone’s expenditure is someone else’s receipt. Every transaction must have two sides. 7 of 31 With government and foreign agents Need to account for : a. Government purchases of goods and services. b. Government payments for factor services (wages, rent, interest). c. Transfer payments between different agents. d. Firms and households pay taxes to government. e. Taxes paid on income, property, goods and services. f. Transactions with the foreign sector.  Transactions with foreign sector Includes sales of goods and services, assets, and transfers Exports - sales of domestically produced goods to other countries Imports - goods bought from other countries  The Components of the Macroeconomy Transfer payments are payments made by the government to people who do not supply goods, services, or labor in exchange for these payments. 10 of 31  Transfer payments Transfer payments – are transactions wherein one party is not obliged to deliver a good or service in return for the payment. Examples: retirement benefits, unemployment benefits, scholarships, and donations. The Three Market Arenas Households, firms, the government, and the rest of the world all interact in three different market arenas: 1. Goods-and-services market 2. Labor market 3. Money (financial) market 12 of 31 13 of 31  The Three Market Arenas Households and the government purchase goods and services (demand) from firms in the goods- and services market, and firms supply to the goods and services market. In the labor market, firms and government purchase (demand) labor from households (supply). – The total supply of labor in the economy depends on the sum of decisions made by households. 14 of 31  The Three Market Arenas In the money market—sometimes called the financial market—households purchase stocks and bonds from firms. – Households supply funds to this market in the expectation of earning income, and also demand (borrow) funds from this market. – Firms, government, and the rest of the world also engage in borrowing and lending, coordinated by financial institutions. 15 of 31 Financial Instruments Treasury bonds, notes, and bills are promissory notes issued by the federal government when it borrows money. Corporate bonds are promissory notes issued by corporations when they borrow money. 16 of 31 Financial Instruments Shares of stock are financial instruments that give to the holder a share in the firm’s ownership and therefore the right to share in the firm’s profits. – Dividends are the portion of a corporation’s profits that the firm pays out each period to its shareholders. 17 of 31  The Methodology of Macroeconomics Connections to microeconomics: – Macroeconomic behavior is the sum of all the microeconomic decisions made by individual households and firms. We cannot understand the former without some knowledge of the factors that influence the latter. 18 of 31