2.4.1 National Income

Question 1

Define circular flow of income

Answer 1

An economic model showing the flow of goods and services, the factors of production and their payments between households and firms within an economy

Question 2

What goes from households to firms in the simple model

Answer 2

Factors and spending

Question 3

What goes from firms to households in the simple model

Answer 3

Incomes and goods

Question 4

What is the economy assumed to be in the simple model, and what does this mean

Answer 4

Closed
This means there is no foreign trade and no government influence

Question 5

What are the two groups in the simplified model

Answer 5

Households (own all factors of production)
Firms

Question 6

Describe the steps in the simplified model

Answer 6

1) Firms provide households with goods and services
2) Households spend their income on the goods and services produced by firms
3) Households also provide firms with factors of production and their
4) In order to pay for these factor services, firms pay households rent, wages, interest and profit

Question 7

Why are the factors of production required by firms

Answer 7

Land: for buildings
Labour: to produce output
Capital: for investment

Question 8

In circular flow, how is capital treated

Answer 8

As money for investment

Question 9

What are the returns to households for providing the factors of production

Answer 9

Land: rent
Labour: wages
Capital: interest
Entrepreneurship: profit

Question 10

What are the four assumptions made by the simplified model

Answer 10

• households spend all their income on goods and services
• firms spend all their income on factors of production
• there is no government
• there is no foreign trade

Question 11

Are income and wealth correlated

Answer 11

Yes

Question 12

What is wealth

Answer 12

Wealth is a stock concept
It is the sum of all assets in the economy: assets owned (eg savings, shares, buildings, land), human wealth

Question 13

What is income

Answer 13

Income is a flow concept
Money generated from wealth e.g wages, rent, interest

Question 14

Why are income and wealth directly correlated

Answer 14

Income flows from a stock of assets

Question 15

What is the wealth effect

Answer 15

The effect on incomes or spending when asset values change. Wealth does not have a direct impact on the circular flow of income- but changes in wealth have an effect on incomes and spending

Question 16

Define national income

Answer 16

Total spending on goods and services in an economy