Firms spend money and also receive money from households.
- Households
Households consist of individuals who spend money and are the recipients of money.
- Markets for factors of production
It is a resource market where firms buy for producing goods and services.
Resources are labor, capital, land and enterprise.
a) Labor: Human physical and mental efforts for producing goods and services
b) Capital: Tools, equipments, factories and buildings used in the production process
c) Land: Natural resources used to produce goods and services
d) Enterprise: Human resource in order to innovate and take risks.
- Markets for goods and services
Product markets are where goods and services are sold.
Step 3 - Consider a response to all the questions below.
1. What is the circular flow model diagram illustrating in general?
Circular flow illustrates how a market economy works. Individuals affect what is produced, marketed and consumed directly. Initially individuals decide to buy something then it influences producers which produce goods and services directly.
These produce are for being consumed by individuals. Besides, the amount of goods and services is related to the supply and demand principle. Circular flow model is showing how to exchange money during the processes.
2. What are the income and outputs for households and firms?
Individuals in household spend money for buying goods and services that are provided by firms. Using the money that household individuals paid, firms buy something in resource market. One of the resources is human resources supplied by household. For the reward of using human resources, firms’ money flow to household as a type of monthly wage like that.
This wages that individuals receive don’t use up all. They use wages for purchasing products and services again, banking the money, financial investment and investing to real estate etc. For using these sources, they expect to reward interest, rent fee and so on. This investing money uses for capital of building factories, investing other companies as sources of capital.
3. What is meant by product and factor markets?
a. Who is part of these markets?
In product markets, household individuals buy products and services sold by firms. In the meanwhile, household individuals provide their efforts as human resources firms buy human resources. Moreover, resources supplied by household such as capital, enterprise, capital can be sold by firms in the factor markets.
4. Where do you fit into this flow?
I am an individual in household so I consumed various products and services in product markets. Moreover, I am investing money through buying insurance and shares so also providing capitals to firms indirectly.
5. What would happen to the flow if:
a. firms reduced wages?
When firms reduce wages, desire of consumption will be declined and also reduce banking money that can reach to firms as a capital. Therefore, firms that reduced wages will be affected negatively.
b. people stopped buying certain goods and services, as with boycotts?
If people don’t buy certain ones, raw materials for producing them also will not be consumed actively. Firms cannot obtain enough sources for producing then revenue also will be declined and financial statement will be getting worse and worse. If this situation keeps going for a long time, wages of employees who work for firms can decrease. Finally, result will be back to household individuals that did boycotts goods and services.
c. forests became endangered and wood resources were limited?
In this situation, price of natural resources can increase tremendously then firms cannot obtain them for producing products abundantly. Sales revenue of firms will deteriorate so they may not have enough money to buy natural resources which the cost already went up too high. Because firms cannot retain natural sources, they cannot produce products for consumers and also the cost of producing products goes up expensively. Individuals who cannot afford to buy expensive products become reducing the consumption. Finally, stagnancy of business can occur and economy is caught in vicious circle.
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