Which Statement Best Describes the Circular Flow Model

Which Statement Best Describes the Circular Flow Model

Circular Menstruation Model

An economic model that presents how coin, goods, and services move between sectors in an economic organisation

What is the Round Flow Model?

The circular flow model is an economic model that presents how money, appurtenances, and services move between sectors in an economical system. The flows of money between the sectors are likewise tracked to measure a land’s national income or Gdp, so the model is too known as the circular flow of income.


  • The round period model, also known as the circular flow of income, describes how money and economical resource catamenia in cycles between unlike sectors in an economic system.
  • In the basic (two-factor) circular flow model, coin flows from households to businesses as consumer expenditures in exchange for appurtenances and services produced past the businesses, then flows back from businesses to households for the labor that individuals provide.
  • The five-sector model consists of (i) households (the public sector), (ii) businesses, (iii) regime, (4) the foreign sector, and (5) the financial sector.

Understanding the Circular Catamenia Model

The idea of round flow was commencement introduced by economist Richard Cantillon in the 18th
century and then progressively adult by Quesnay, Marx, Keynes, and many other economists. It is one of the most basic concepts in macroeconomics.

How an economy runs can exist simplified as 2 cycles flowing in opposite directions. 1 is goods and services flowing from businesses to individuals, and individuals provide resources for production (labor force) back to the businesses.

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In the other management, coin flows from individuals to businesses as consumer expenditures on appurtenances and services and flows back to individuals as personal income (wages, dividends, etc.) for the labor force provided. This is the well-nigh basic circular menstruation model of an economy. In reality, there are more than parties participating in a more complex structure of round flows.

Round Flow Models with Sectors

2-Sector Model

The model described to a higher place is the ii-sector model, which is the near basic model containing only ii sectors: individuals or households and businesses. In the two-sector model, it is assumed that households spend all their incomes every bit consumer expenditures and purchase the appurtenances and services produced by businesses. Thus, there are no taxes, savings, or investments that are associated with other sectors.

Three-Sector Model

In the three-sector model, the authorities is added to the two-sector model. In this model, money flows from households and businesses to the government in the form of taxes. The government pays back in the form of government expenditures through subsidies, benefit programs, public services, etc.

Four-Sector Model

The 4-sector model contains the foreign sector, which is also known as the overseas sector or external sector. The overseas sector turns a airtight economy into an open economic system. It is continued to the other sectors through ii flows of money: foreign trade (imports and exports) and

foreign exchange

(arrival and outflow of capital). Like the other sectors, each flow of money is paired with a flow of a factor of production or appurtenances and services.

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5-Sector Model

The fifth sector – the financial sector – is added to consummate the circular flow model. It includes banks and other institutions that provide borrowing and lending services to the other sectors. Savings and investments are assumed in the five-sector model, which flow from other sectors with residuum cash into the financial institutions, and then out to the sectors that need money. As long as lending (injection) is equal to borrowing (leakage), the round flow reaches an equilibrium and tin can proceed forever.

Implications of the Circular Flow Model

As a fundamental concept of macroeconomics, the circular flow model has been widely practical in dissimilar studies, with meaning impacts on the understanding of economic science. Iv examples are listed below to show the significance of the model.

  1. Measurement of national income:
    The sectors in the circular menstruum model are the components of the calculation of national income. The expenditure arroyo calculates a nation’s GDP as the sum of the household consumption expenditures, private domestic investment, government consumption and investment expenditures, and cyberspace exports (Gdp = C + I + G + [X-Yard]).
  2. Noesis of interdependence:
    The circular menstruum model underpins the knowledge of interdependence betwixt sectors in an economical system. The activities and money flows cannot take identify without interaction with some other sector.
  3. Unending nature of economic activities:
    Money and economic resource flow in cycles indefinitely with an equilibrium of aggregate income and expenditures.
  4. Injections and leakages:
    The circular flow of an economy is counterbalanced when the total injections equal the leakages. If injections overweight leakages, the land’due south national income will grow. If injections are below leakages, the national income will decrease.
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Which Statement Best Describes the Circular Flow Model

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