Study Note - The Circular Flow of Income

This is a basic way of understanding how different parts of the economic system fit together.

The circular flow of income shows connections between different sectors of our economic system. It revolves around flows of goods and services and factors of production between firms and households.

Businesses produce goods and services and in the process of doing so, incomes are generated for factors of production (land, labour, capital and enterprise) – for example wages and salaries going to people in work.

Leakages (withdrawals) from the circular flow

Not all income will flow from households to businesses directly. The circular flow shows that some part of household income will be:

(1) Put aside for future spending, i.e. savings (S) in banks accounts and other types of deposit
(2) Paid to the government in taxation (T) e.g. income tax and national insurance
(3) Spent on foreign-made goods and services, i.e. imports (M) which flow into the economy

Withdrawals are increases in savings, taxes or imports so reducing the circular flow of income and leading to a multiplied contraction of production (output).

Injections into the circular flow are additions to investment, government spending or exports so boosting the circular flow of income leading to a multiplied expansion of output.

(1) Capital spending by firms, i.e. investment expenditure (I) e.g. on new technology
(2) The government, i.e. government expenditure (G) e.g. on the NHS or defence
(3) Overseas consumers buying UK goods and service, i.e. UK export expenditure (X)

An economy is in equilibrium when the rate of injections = the rate of withdrawals from the circular flow.

Unit 2 Macro: Cyclical and Structural Economic Issues Facing the UK [23 May 2012]
Unit 2 Macro: UK Trade in Services [20 May 2012]
Unit 2 Macro: The Importance of Productivity [20 May 2012]
Revision notes on unemployment [20 May 2012]
Unit 2 Macro: Model answer for revision data question [9 May 2012]
Made in China - but not quite so cheaply…... [7 May 2012]
Unit 2 Macro: Trade and Balance of Payments Glossary [5 May 2012]
Unit 2 Macro: Aggregate Demand Glossary [5 May 2012]
Macro Revision - Key Statistics on the UK Economy [4 May 2012]
Unit 2 Macro: The UK Balance of Payments in 2011 [4 Apr 2012]
George Buckley at the Millfield Economics Society [28 Mar 2012]
Beyond the Bike - Monetary Policy in Africa [28 Mar 2012]
Evidence of the dangers of protectionism [9 Mar 2012]
Unit 2 Macro: Policies to Drive Economic Recovery [9 Mar 2012]
Unit 2 Macro: The Dash for Gas in Mozambique [17 Feb 2012]
Unit 2 Macro: Is the UK Economy Turning a Corner? [15 Feb 2012]
Unit 2 Macro: China’s Trade Engine is Spluttering [10 Feb 2012]
Competitiveness [8 Feb 2012]
Unit 2 Macro: Growth and Development - Some Indicators [30 Jan 2012]
Unit 4 Macro: Focus on India - Comparative Advantage [27 Jan 2012]
Unit 2 Macro: Focus on China - Trade and Growth [27 Jan 2012]
Unit 4 Macro: Focus on India - Economic Growth [24 Jan 2012]
Unit 2 Macro: Exporting to the Booming Chinese Economy [23 Jan 2012]
Unit 4 Macro: Russia Joins the WTO [22 Jan 2012]
Unit 4 Macro: Time to Re-Boot the British Economy [14 Jan 2012]
Unit 4 Macro: Competitive Advantage in Trade (Some Videos) [12 Jan 2012]
Unit 4 Macro: UK Trade Patterns [11 Jan 2012]
Unit 2 Macro: Factors Driving Business Investment [10 Jan 2012]
2011 in Review - The US Economy [27 Dec 2011]
AS Macro: The State of British Business [13 Nov 2011]
Unit 2 Macro: Economic Importance of Investment [19 Oct 2011]
Can the “invisible hand” solve Africa’s poverty? [13 Oct 2011]
Unit 2 Macro: Can Exports Drive a Recovery? [13 Oct 2011]
Unit 1 Micro: Homework Assignment on Market Prices [2 Oct 2011]
Unit 1 Micro: The Supply and Demand Rap! [28 Sep 2011]
Unit 4 Macro: IMF Flags up Risks of Double Dip [20 Sep 2011]
Study Note - Value Added and Contributions to a Nation’s GDP [16 Sep 2011]
Scarce resources, immigration and the NHS [16 Sep 2011]
Study Note - Introduction to GDP [15 Sep 2011]
Study Note - What is Macroeconomics? [13 Sep 2011]
Unit 1 Micro: Economics of Volatile Corn Prices [12 Jul 2011]
Unit 3 Micro: Motorsport Valley and External Economies of Scale [12 Jul 2011]
UK firms wake up to Brazilian opportunities [21 Jun 2011]
Do you agree that the government should provide support to the UK car industry? [12 Jun 2011]
Invisible Exports - Originating Journalist is remembered [27 May 2011]
AS Macro Key Term: Recession [23 May 2011]
EU Economics: Comparing the UK with Europe [14 May 2011]
UK Economy Update: What Mervyn Said [11 May 2011]
AS and A2 Macro Revision: Keynesian Economics [28 Apr 2011]
AS Macro: Essay Plan on Rising Imports [24 Apr 2011]
Rise in investment could kick start recovery [18 Apr 2011]
AS Macro Key Term:  Balance of Payments [6 Apr 2011]
AS Micro Revision: Banana Prices [1 Apr 2011]
OPEC oil revenues set to surge above $1 trillion in 2011 [30 Mar 2011]
Pacific Peso Reaches 29 Year High! [30 Mar 2011]
Timetric: UK Balance of Trade with China [13 Mar 2011]
Focus on Japan - Human Catastrophe, Economic Risks [13 Mar 2011]
Timetric: UK Balance of Trade in Oil [6 Mar 2011]
Timetric: Trade Balance in Manufactured Goods [4 Mar 2011]
The US-China Trade Deficit [14 Feb 2011]
Mo Tanweer on Global Currency Wars [10 Feb 2011]
Balance of Payments Data - Free Chart Download [9 Feb 2011]
Theory Thursday! Utility Possibility Frontier [3 Feb 2011]
James Dyson on Innovation [1 Feb 2011]
Economics Q&A: Will the rise in VAT harm the UK’s economic performance? [17 Jan 2011]
Economics Q&A: Does the UK economy achieve a trade surplus in anything? [6 Jan 2011]
Chinese exports mini-fact [4 Jan 2011]
Economics Q&A: Why might Europe’s weaker economies struggle to grow in the next few years? [2 Jan 2011]
China limits rare earth exports [30 Dec 2010]
EU Economics: EU Economy in Charts Jan 2011 [29 Dec 2010]
OCR A2 Economics F585 (Feb 2011) - Price Volatility [8 Dec 2010]
OCR A2 Economics F585 (Feb 2011) - Suggested Reading [7 Dec 2010]
Using Google Docs - The Irish Financial Crisis [29 Nov 2010]
Why is the UK helping Ireland? [22 Nov 2010]
John Humphrys in China [4 Nov 2010]
The Market for Potash [30 Oct 2010]
The Acid Burns Through - Requiem for Neo Liberalism [28 Oct 2010]
Demand for Chilean Wine [17 Oct 2010]
A million jobs at risk from spending cuts [14 Oct 2010]
Here we go again - high tariffs and currency wars [9 Oct 2010]
Creative products lead the world and boost UK trade [5 Oct 2010]
Whisky galore - investment in the Scottish economy [29 Sep 2010]
Currency wars [27 Sep 2010]
AS Macro - Circular Flow Questions and Exercise [21 Sep 2010]
Currencies in the News - Two Videos [16 Sep 2010]
Potash - a battle for grey dust that has become gold dust [26 Aug 2010]
AS Macro: Extreme weather hits Russian economic growth [26 Aug 2010]
Germany speeds ahead [13 Aug 2010]
Lesson Worksheet - Scarcity and Choice [8 Aug 2010]
Little sign yet of a Yuan appreciation [29 Jul 2010]
Innovation to get the British economy growing again [7 Jun 2010]
A selection of revision notes on exchange rates [2 Jun 2010]
A selection of revision notes on the balance of payments [1 Jun 2010]
Sterling and the Economic Recovery [29 May 2010]
AS Macro: Sterling and the UK Economy [29 May 2010]
A2 Economics Revision - The US and the UK Economy [23 May 2010]
Japanese economy - exports up but debt squeeze tightens [20 May 2010]
AS Economics Revision - The Balance of Payments [8 May 2010]
AS Economics Revision - Managing the Economy [2 May 2010]
AS Economics Revision - Dissecting the Recession [1 May 2010]

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