The circular flow of income shows the continuous movement of money between households and firms. Households supply factors of production like labor to firms and receive factor payments. Households then use these payments to demand goods and services from firms. Firms then use the revenue to pay households for factors of production, completing the circular flow.

1. The Circular Flow of Income

3. FIRMS (suppliers of goods and services, demanders of factor services) HOUSEHOLDS (demanders of goods and services, suppliers of factor services)

4. P Q P Q (1) Consumer demand (4) Factor supply (3) Factor demand (2) Producer supply O O Q 1 P 1 Q F 2 P F 2 Q 2 P 2 P F 1 Q F 1 D 2 D 2 £ £ £ £ Factor services Goods Goods Factor services S S D 1 D 1

6. The circular flow of income Firms Households Factor payments Consumption of domestically produced goods and services (C d )

7. Factor payments Consumption of domestically produced goods and services (C d ) The circular flow of income WITHDRAWALS INJECTIONS Investment ( I ) Government expenditure ( G ) Export expenditure ( X ) BANKS, etc Net saving ( S ) GOV. Net taxes ( T ) ABROAD Import expenditure ( M )