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Circular_Flow_and_National_Income_Notes

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Circular_Flow_and_National_Income_Notes

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shaheencuet24
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Notes on Circular Flow of Income and National Income

Circular Flow of Income

The Circular Flow of Income explains how money, goods, and services move between different sectors of the

economy. It shows the continuous movement of production, income, and expenditure between households

and firms, and also includes government and foreign sectors in an open economy.

Two-Sector Model (Households and Firms)

Households provide factors of production (land, labor, capital, entrepreneurship) to firms. Firms pay

households wages, rent, interest, and profits. Households then buy goods and services from firms.

Four-Sector Model

This model includes households, firms, government, and the foreign sector. It introduces taxes, government

spending, exports, and imports into the flow of money. National Income Identity: Y = C + I + G + (X - M).

National Income

National Income measures the total value of goods and services produced in a country during a given period,

typically a year. It indicates the economic health of a country.

Methods of Measuring National Income

1. Production Method: Sum of value added at each stage of production.

2. Income Method: Sum of all incomes - wages, rent, interest, and profits.

3. Expenditure Method: Sum of expenditures - C + I + G + (X - M).

Important Concepts

GDP, GNP, NNP, NI, PI, DPI definitions.

Limitations of National Income

Ignores non-market activities, does not reflect income distribution, ignores environmental impact, and can be
Notes on Circular Flow of Income and National Income

distorted by inflation.

Summary

The Circular Flow of Income shows sectoral interdependence. National Income Accounting measures the

economy's overall performance.

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