A Circular Flow Diagram Is A Visual Model Of How The Economy Works

840 WordsFeb 6, 20154 Pages
A circular flow diagram is simply a visual model of how the economy works (cite school book). It also shows the players and how they interact with each other to organize to make up the economy. It is a valuable tool for micro-economic understanding. The models have two sections; expenditure and output. All of this is an important factor since a circular diagram does create a pattern. There is production, income, spending and back to production. The players or participants of a circular diagram are households, firms, the resource market, government and the rest of the world. Some models even incorporate financial institutions like banks and Wall Street. The households and firms interact with each other in the marketplace regularly. Households need goods and services and firms supply them. Firms need the money and the households pay them for their goods and services. It can get a lot more technical with the wording, but this is the basic idea. The household sector deals with the firms in two unique ways: the household sector supplies things such as a labor force to the firms in exchange for a paycheck or income, then the households spend their money to buy goods and services (Buck, J., blog) Connected to these two vital participants are the markets for goods and services and the markets for factors of production. The markets for goods and services use things such as labor, buildings and equipment, and land (book). Consequently, the markets for factors of production can be

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