2.4 National Income Flashcards
What is the circular flow of income?
an economic model that illustrates money flow in an economy between households and firms
What is the role of households in the circular flow of income?
- households own the wealth in the economy, the factors of production
- they supply the factors of production to firms and receive income as a reward
What are the 4 ways households receive income?
- rent from land
- wages for labour
- interest for capital
- profit for enterprise
What do households use income for?
To purchase goods/services from firms
What is the role of firms in the circular flow of income?
- purchase factors of production from househoilds
- use the resources to produce goods/services
- sell the goods/ services to receive sales revenue
What is national income?
the value of the output of an economy over a period of time
- expenditure = income
What is the difference between wealth and income?
income - flow in the economy
wealth - stock of assets used to generate income
What are injections
money going into the circular flow of income, increasing its size
What are the injections into the circular flow of income (3)?
- increased government spending (G)
- increased investment (I)
- increased exports (X)
What are withdrawals?
- also known as leakages
- money removed from the circular flow of income reducing its size
What are examples of withdrawals?
- increased saving by households (S)
- increased taxation by the government (T)
- increased import purchases (M)
How does the size of injections and withdrawals impact the size of the economy?
- injections > withdrawals = economic growth
- withdrawals > injections = fall in real GDP
What is the relationship between multiplier effect and injections?
causing the economy to grow by a greater amount than the size of the injections
When does real national output equilibrium occur?
When AD intersects with AS
What is the multiplier ratio?
the ratio of change in real income to the injections that created the change
What idea is the multipliers process based on?
one individuals spending being another persons income
- consumption increasing increases AD as store owners benefitting from consumption have extra income
- spend the income goods/services
- this expenditure becomes income for the next their of individuals
What happens to the injections within the successive rounds of spending?
the final increase in national income is much larger than the initial injections
What is the size of the multiplier dependent on?
the size of leakages that occur during the processes
- the higher the leakages the smaller the multiplier
What is the effect of injections on AD?
injections shift ad to the gist (increases)
What is the result of the multiplier process?
A second movement of AD
- if the multiplier were 2 the movement may be double the initial movement
What is the downward multiplier effect?
Reverse multiplier effect
- when injections are reduced
What is the marginal propensity?
the proportion of the next $ earned that a consumer saves, consumes, is taxed, or purchases imports with
Why are marginal propensities calculated?
for economies to provide an insight into how each additional $ of income is allocated
What are the four marginal propensities?
- .. to consume
- .. to save
- .. to tax
- .. to import
What does MPC stand for?
Marginal propensity to consume
What does MPS stand for?
Marginal propensity to save
What does MPT stand for?
Marginal propensity to tax
What does MPM stand for?
marginal propensity to import
What is the MPC?
the proportion of additional income that is spent
How is the MPC calculated?
MPC = change in consumption / change in income
What is the MPS
Proportion of additional income that is saved
How is the MPS calculated?
MPS = change in savingsq / change in income
What is the MPT?
th proportion of additional income that is paid in tax
how is the MPT calculated?
MPT = change in tax / change in income
What is the MPM?
the proportion of additional income that is sent on imports
How is the MPM calculated?
MPM = change in imports/ change in income
What are the 2 ways the multiplier can be calculated by?
- focusing on the MPC
- focusing on withdraws that occur on each additional $ of income
What’s the marginal propensity to withdraw (MPW)?
All withdrawals together
- MPM + MPS + MPT
How is the multiplier calculated, focusing on the MPC?
multipler = 1/(1-MPC)
How is the multiplier calculated focusing on withdrawals?
multiplier = 1/MPW = 1/(MPM + MPS + MPT)
What is the relationship between the multiplier and withdrawals?
the greater the withdrawals, the smaller the value of the multiplier
What is the relationship between the multiplier and the MPC?
the greater the MPC, the greater the value of the multiplier
What are the 4 factors that effect disposable income?
- taxes
- interest rates
- exchange rates
- confidence
What is the relationship between the multiplier and taxes?
tax increases the value of the multiplier reduces
What is the relationship between the multiplier and interest rates
interest rates increase, savings increase, consumption decreases, multiplier reduces
What is the relationship between the multiplier and exchange rates?
exchange rate appreciates, the Lebel of imports increase, multiplier increase
What is the relationship between the multiplier and confidence?
confidence increases, consumption increases, multiplier increases
Why do governments find the value of the multiplier?
to use to judge the likely economic growth caused by increased spending
