The ownership of production lies largely in private hands. Some G.B.E s are to some extent government owned, for example Telstra was partly gov. owned.
The firms dictate how they produce something, government involvement is minimal.
How much to produce
Depending on the quantity demand of the good the quantity of how much to produce is established. Some gov. involvement of how much to produce, yet this involvement is minimal
What does the government do to solve the economic problem ?
The government privatises publically owned G.B.Es, both at federal and at state level. Hence the production of a product is mostly determined by supply and demand.
Through Price Control the gov. gives a solution to the economic problem.
The gov imposes a maximum (Fig. 11.1) and a minimum (Fig. 11.2) prices for a product.
By enforcing a maximum price on a good for example bread, it is secured that the majority of the public will be able to buy the good. This helps the consumer
As there is a shortage of supply and the product can not be substituted the current supply will be rationed equally among the public. Although the good could also be a allocated by queuing in front of the retailers and the retailer’s preference of to whom he will sell. Rationing is put in place to prevent riots from happening.
A black market will most probably be established to sell the good at an illegally high price.
By enforcing a minimum price the supplier is guaranteed a minimum price for his products, as well there is a minimum wage which is guaranteed for different kinds of labour. This helps the supplier.
There is not a problem of scarce resources but competition for scarce customers.
In addition to this the government involves itself by taking over some areas, for example defence. The Police is purely planned by the government. Although restaurants and other sorts of industries are run by the market. The amount of things controlled by the gov. and the market are measured along the following line.
This line shows the amount of gov. and market involvement in the countries.
The circular flow
What is the Circular flow of income ?
The circular flow model shows the continuous movement of goods and services, resources and money between sectors of the economy. Each flow between firms and households in the model has a counter flow running in the opposite direction.
It’s importance in an economy ?
The importance of the model is that we can measure National Income. National Income is the sum of all final goods and services produced in a year measured in money terms. The higher the National Income is the more does it help to create higher future incomes. With this ability we can measure a family income. The family income is derived from wages, rent, interest, profit over a period of time.
National Income is divided into three measures:
1 National Income – all wages, rent, interest and profit payments
2 National Output - The sum of all final goods and services excluding the goods which were needed to produce the good for example steel which was included in the production of a car.
3 Consumption Expenditure – the amount of income spent on products and services
Each of these measurements are equal to each other and must be equal (error possibility included)
Distinguish between Injections and leaks ?
There are three main leakages in the circular flow of income model. Part of the income goes to savings, taxes, and spending on imports.
Households save some part of their income into a bank or a pension fund.
The gov. taxes incomes directly (income tax) and indirectly (ex. Sales taxes)
Other income goes to abroad firms by buying imported products.
However even though there are leakages in the circular flow of income model there are also injections. These injections are for one by firms who buy investment goods or capital goods (machines, factories). A second injection is by the government who buys goods and services (police cars). The third injection in to the model is when foreigners buy exported goods.
What is their role in the determination of equilibrium ?
In reality not all income earned by households is passed back to firms some part of income leaks out (saving, taxes, spending on imports).
Although part of the income leaks out firms do receive spending flows (through exports, government, other firms).
Therefore income might not be exactly equal to Consumer Expenditure.
Bibliography:
- Economics by Alan Glanville
- Circular flow model handout
