Question

The following diagram presents a circular-flow model of a simple economy. The outer set of arrows (shown in green) shows the flow of dollars, and the inner set of arrows (shown in red) shows the corresponding flow of inputs and outputs.

Answer 1

Based on this model,households earn income when Firms purchase Factors of production in markets for factors of production.

• When Becky spends $9 to get her car washed,the event occurs in the Market for Goods and Services.This is because firms are not directly involved in the process of sell or purchase here.Here Becky pays for availing the services.
• When Becky earns $875 per week working for classy's jewelry store,the event occurs in the Market for factors of production,Becky here renders his service to classy's jewelry which can be classified as a firm.Here the classy's jewelry purchases the services of Becky which acts as a factors of production.
• When Alex earns $225 per week working for spotless car wash,the event occurs in the Market for factors of production as here Alex acts as a factor of production and renders his services to the Spotless Car wash which acts as a firm and has hired Alex and pays him in lieu of his services rendered.

The elements of "The $225 per week Alex earns working for Spotless Car Wash" and "The car wash Becky receives" involves flow from a firm to the households.The first case of transaction here involves the flow of dollars from firm to a household and the second transaction involves the flow of services from firm to a household.

In case of Becky's labour,the services of factor of production is flowing from household to the firm.

It is TRUE,that the Gross Domestic Product(GDP) involves the total expenditures on final goods and services during a given period of time.This is so because GDP can be estimated using 3 methods i.e.the output method,the income method and the expenditure method.This case comes under the expenditure method.This all methods gives us the same value as the firm pays its factors of production as per the quantity it produces.Also it produces output of goods and services as per the demand of consumers which involves expenditure by them on purchase of final goods and services.Hence the income of factors of production equals the market value of output produced by them which further equals to the expenditures by the households on the purchase of goods and the services.