Module 6: Lesson 1-3 Notes PDF

Module 6: Lesson 1 Open vs Closed economy In this section we will be coving: Introduction to the circular flow model Open economy Closed economy Introduction to the circular flow model All people buy goods and when they do so, they are taking part in...

Module 6: Lesson 1 Open vs Closed economy In this section we will be coving: Introduction to the circular flow model Open economy Closed economy Introduction to the circular flow model All people buy goods and when they do so, they are taking part in the circular flow diagram in Economics as the circular flow shows the flow of goods and services as well as the flow of money. Open economy An open economy is an economy that interacts freely with other economies. When operating in an open economy the following will take place: Importing (buying goods from other countries) and exporting (selling goods to other countries) of goods and services with all other countries. Travel to and from other countries with the necessary documentation. Investing in foreign businesses. South Africa has an open economy. Closed economy A closed economy is when that economy does not interact with the rest of the world. They do not import to other countries, and they do not export from other countries. Foreign companies cannot operate in their country. The government controls all aspects of the economy and will try and ensure that all goods and services needed by its citizens are locally provided. In the circular flow diagram below (and we will go into more detail of the actual diagram in the next lesson) it shows a closed economy as there is no foreign sector present. Module 6: Lesson 2 Participants in the circular flow model In this section we will be coving: Households in the circular flow model Businesses in the circular flow model Government in the circular flow model  Households in the circular flow model Households, in other words the consumer, consumes goods and services offered by businesses such as food and clothing. However, households also offer firms the four factors of production so that the firms can produce the products for the households. The four factors of production offered by the households and are owned by the households The households are the labour, they own the natural resources they are the entrepreneurs and they own the capital. 2  Businesses/Producers in the circular flow model The main function of the business is to offer goods in exchange for money. To do this, they use the factors of production (which are owned by households) and make goods and provide services. Businesses provide households, government and the foreign sector with goods and services. Example, In the case of a plant that produces electronic equipment, the outletsfor its products might be retail stores. Members of households purchase the equipment for their own use in the household. Pieces of electronic equipment are purchased by the households that also provided the resources that made It possible to build the product. Government in the circular flow model The government plays an important role in economy and is both a producer and consumer. Governments take part of households/businesses income/profit in the form of taxes, but they also put money back into households/businesses in the form of wages to the labour they employ. The government provides a variety of goods and services such as education, healthcare, transport, infrastructure, safety and so on. The money used to pay for these services comes in the form of taxes received from households and businesses. The government is also a consumer as they buy factors of production from households and businesses which they can then use in their own state-owned businesses. Module 6: Lesson 3 Circular flow diagram In this section we will be coving: Flow of goods and services in a closed economy 1  Flow of goods and services in a closed economy In the diagram above, the participants (not including the foreign sector) is shown i.e. the households, the business and the government. What is also shown are the goods and services as well as the factor market where the factors of production are. The way the circular flow model runs then is as follows: 2 The diagram above shows the flow of goods and services as well as the flow of money. It is a closed economy and therefore there is no foreign sector. Goods and services flow clockwise (from right to left) and is represented by the red arrow. Money flows anti-clockwise (from left to right) and is represented by the green arrow. Households and businesses pay the government tax and the government in return provides services to the households such as welfare grants and to businesses such as subsidies. Therefore the following is happening in the circular flow diagram: o Money flows from households → businesses when households purchasegoods and services from businesses (firms). o Money flows from businesses → households when businesses buy factormarkets (factors of production) form households. This is paid in the form of wages and salaries. o Money flows from the households → government in the form of taxes. o Money flows from businesses → government in the form of taxes. o Goods and services such as roads, water and electricity flow from the government → households and businesses. 3