Five Sector Circular Flow of Income Model

• Why does economics matter?• http://www.miniature-earth.com/me_english.htm• Examine the economic cycles• Explore how income flows impact on the

economic cycle• http://tutor2u.net/economics/presentations/aseco

nomics/macro/EconomicCycle/default.html• Update wiki – glossary of terms

BusinessesIndividuals

In a simple economy economic activity occurs between individuals and businesses

Identify the income flows between the two sectors in this simple economy.

Income rewards

expenditure

BusinessesIndividuals

Governments

Income rewards

expenditure

taxation expenditure

As economists, we are aware that another sector exists. Any idea what

this might be???

So, what are the income flows between individuals and businesses

and the Government?

But wait….there’s more!!!

Financial Institutions

BusinessesIndividuals

Governments

Income rewards

expenditure

savings

taxation expenditure

investment

Financial institutions are another sector within our economy.Identify the income flows between individuals and businesses and financial institutions.

Financial Institutions

BusinessesIndividuals

Governments

Income rewards

expenditure

savings

taxation expenditure

investment

Anything else?????We are not alone!!!

International Flowsimports exports

Identify the income flows between the two sectors and the international economy

Do you remember how many sectors there were?

Hence, why this model is commonly referred to as The Five Sector Circular Flow of Income model

Financial Institutions

BusinessesIndividuals

Governments

International Flows

Savings, taxation and spending on imports remove money from the economy.

These are referred to as leakages.

Leakages reduce the amount of money in our economy.

Investment, expenditure and exports add money to the economy.

These are referred to as injections.

Injections increase the amount of money in our economy.

•

Equilibrium occurs in the circular flow of income when:

Leakages = Injections

•

Equilibrium occurs in the circular flow of income when:

Leakages = Injections

What are the

leakages?•Savings (S)•Taxation (T)•Imports (M)

What are the injections?

•Investment (I)

•Expenditure (G)

•Exports (X)

•

Equilibrium occurs in the circular flow of income when:

Leakages = Injections

Therefore, we can state thatSavings + Tax + Imports = Investment + Expenditure + Exports

S + T + M = I + G + X

•

Insert these figures into the formula to determine where the economy is in the economic cycle.Savings (S) $20

Taxation (T) $50

Imports (M) $60

Investment (I) $40

Expenditure (G) $80

Exports (X) $10

S + T + M = I + G + X

What would be the impact of an increase in expenditure? (similar to Kevin Rudd’s $42bn stimulus package announced on 3 Feb)

•

When total leakages exceed injections, an economic downturn will occur.

When total injections exceed leakages, an economic upturn will occur.

Homework

• Glossary of terms on the wiki

Prelim Topic 1 handout – by Monday 16 Feb

Financial Institutions

BusinessesIndividuals

Governments

International Flows

Income rewards

expenditure

savings

taxation

imports exports

expenditure

investment

Leakages Injections