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ECONOMICS 1B {ECS 1601}
INTERDEPENDENCE OF THE MAJOR SECTORS, MARKET AND
FLOWS IN A MIXED ECONOMY
Production is not pursued for its own benefit, the ultimate aim is to use or
consume the products to satisfy human wants.
Production creates income and this income is then spent to purchase
products.
This process contains 3 major elements are:
Production
Income
Spending.
One problem is how the income is distributed among the various
participants in the economy.
The following are 4 economic participants:
Households/Consumption (C)
Government Expenditure (G)
Foreign sector (Exports & Imports) (F)
Businesses/Firms (B)
Production, income and spending are all FLOWS.
Stock variable – can only be measured at a particular point in time and
has no time dimension (wealth, assets, liabilities, capital, population, and
balance on savings account).
FLOW VARIABLE – can be measured over a period of time (income,
profit, loss, investment).
In mixed economy households, firms, government and foreign sector are
all participants.
Exchange is an important economic activity that links all the various
sectors.
1. HOUSEHOLDS
Households can be defined as all the people who live together and who
make joint economic decisions.
Can be an individual, whole family.
These members are called consumers.
Consumption – the act of using or consuming goods and services.
Symbol C = total consumption or consumer.
In a market economy it is the households or consumers that largely
determine what should be produced.
In a mixed economy most of the factors of production are owned by
households.
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Households sell their factors of production to firms that convert them into
goods and services
2. BUSINESSES/FIRMS
Firm can be defined as the unit that employs factors of production to
produce goods and services that are sold in the goods market.
Different types of firms are – individuals or sole proprietorship, cc,
companies, partnerships.
Profit = difference between revenue and cost.
Investment or capital formation = the act of purchasing capital goods.
Firms are responsible for spending on capital goods.
Goods market – in macroeconomics we treat the goods market as if there were
only one market for all goods and services.
Factor market – Factors of production are purchased and sold in many markets
called factor markets.
Circular flow of goods and services – the households offer factors of
production for sale on the factor market where these factors are purchased by
the firms.
o The firms combine the factors of production and produce consumer goods
and services.
o These goods and services are offered for sale on the goods market where
they are purchased by the households.
o The circular flow of income and spending – flow of income and spending is
usually a monetary flow.
o Firms purchase the factors of production in the factor market.
o This spending by firms represents the income of the households.
o The households in turn spend their income by purchasing goods and
services in the goods market.
3. Government
Includes all aspects of local, regional, provincial and national government.
Public sector – everything that is owned by the government.
Government includes all politicians, civil servants, government agencies
and other bodies belonging to or under the control of government.
G = government expenditure
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Government spending and Taxes
T = taxes, transfer payments – transfer of income and expenditure from
certain individuals and groups.
Government spending is an injection to the circular flow.
Taxes are a leakages to the circular flow.
Exports are an injection (sell)
Imports are a withdrawal (buy)
Symbols
C – Consumer spending -injection
I – Investment -injection
G – Government spending -injection
X – Exports -injection
S – Savings -leakage
T – Taxes -leakage
Z – Imports -leakage
Total expenditure = C + I+G+(X-Z)
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4. Foreign sector
4th major sector of the world.
S.A economy is an open economy with strong links with the rest of the
world.
Balance of payments = various flows between S.A and rest of the world.
Exports = X, injection into economy, are goods produced within the
country and sold outside the country. Imports = Z, withdrawal from
economy, produced outside and purchased locally.
Financial institutions in the circular flow of income and spending – surplus units
= individuals are in a position to save because they spend less (savings is a
withdrawal), deficit units = individuals that spend more than they earn
(investment is a leakage.
THE CIRCULAR FLOW OF INCOME
o Goods and services flow clockwise
o Income and spending flow anti-clockwise
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