Dec 30, 2015
•Households and Firms
•Participants = households & firms
•Households: a psn or group of ppl living in a single residence
•Own FOP
•Firm (business): organization that uses resources to produce a product or service, which it then sells
• transform inputs (factors of production) into outputs (goods/services)
Circular Flow Model of a Market Economy
• Visual representation of exchanges that take place in a free market economy
• Shows how households and firms exchange money, resources, and products
Factor Markets (Resource Markets)
• Lower half of circular model
• Firms purchase factors of production from households (factor market)
• Purchase or rent land• Hire workers, pay
wages/salaries• Borrow $ from
households to pay capital
Product Market
• Top half of circular flow model
• Households buy goods and services that firms produce (product market)
The Self-Regulating Nature of the Market Place
• The Wealth of Nations
• Adam Smith: both the buyer and seller consider only their self-interest.
• Self-interest = motivating force in free market
• Positive incentive of lower prices = buying of more goods
The Invisible Hand
• Self-interest and competition regulate the market economy
• Laissez-Faire government
• Market is self-regulating and supply & demand = the invisible hand
• Coined by Adam Smith
Incentives
Circular Flow Model of a Mixed Economy