The Circular Flow of Income (Copy)

9.1 The Circular Flow of Income

9.1.1 The Multiplier Process

Definition

• The ratio of the final change in national income to the initial change in spending that caused it.
• Measures the magnified impact of an injection into the economy.

Formulas

Key Propensity Calculations

• APC = C ÷ Y
• MPC = ΔC ÷ ΔY
• APS = S ÷ Y
• MPS = ΔS ÷ ΔY
• APM = M ÷ Y
• MPM = ΔM ÷ ΔY
• ART = T ÷ Y
• MRT = ΔT ÷ ΔY

Effect of Changing AD on National Income

• ΔY = k × ΔAD
• Example: MPC = 0.8, no MPM or MRT → MPS = 0.2 → k = 5
  Injection of $100m → ΔY = 5 × 100m = $500m.

National Income Determination

• AD approach: Equilibrium when planned AD = actual output.
• Income approach: Equilibrium when injections = withdrawals (S + M + T = I + G + X).

Written and Compiled By Sir Hunain Zia, World Record Holder With 154 Total A Grades, 7 Distinctions and 11 World Records For Educate A Change A2 Level Economics Full Scale Course

9.1.2 Components of Aggregate Demand (AD) and Their Determinants

AD Formula: AD = C + I + G + (X − M)

Consumption (C)

• Autonomous consumption: Spending independent of income.
• Induced consumption: Changes with income level.
• Determinants: Disposable income, interest rates, wealth, consumer confidence.

Savings (S)

• Autonomous savings: Independent of income.
• Induced savings: Varies with income.
• Determinants: Income level, interest rates, future expectations.

Investment (I)

• Autonomous investment: Independent of income (e.g., due to tech).
• Induced investment: Increases with output growth.
• Accelerator principle: Higher output growth → more investment.
• Determinants: Interest rates, business confidence, cost of capital.

Government Spending (G)

• Influenced by fiscal policy, political priorities, economic conditions.

Net Exports (X − M)

• Determinants: Exchange rates, relative inflation, global demand, trade policies.

9.1.3 Full Employment and Equilibrium National Income

• Full Employment Level of National Income: Output level where all available resources are employed without inflationary pressure.
• Equilibrium National Income: Output where AD = AS.

Output Gaps:

Written and Compiled By Sir Hunain Zia, World Record Holder With 154 Total A Grades, 7 Distinctions and 11 World Records For Educate A Change A2 Level Economics Full Scale Course