Lecture Notes: Market System and Circular Flow

Chapter 2 Overview

• Focus on the market system and the circular flow.

Circular Flow

• A diagram showing the flow of goods and services between economy participants.

Participants in the Economy

1. Households:

   • Economic unit with one or more persons.
   • Provides resources, uses income to purchase goods/services.
   • Must live together and depend on a common income.
   • Functions:
     • Primary: Supply production factors to businesses/government.
     • Intermediate: Produce goods/services for own use.
     • Final: Use income to purchase final goods/services.

2. Business Enterprises:

   • Aim to earn income/make profit by supplying demanded goods/services.
   • Function: Produce goods/services for profit.

3. Government:

   • Creates environments for free and fair economic operations.
   • Levels: Central, provincial, local (public sector).
   • Functions:
     • Provide legal framework/services for market efficiency.
     • Ensure fair competition (e.g., consumer protection acts).
     • Address market failures, externalities.

Market Failures

• Inability to allocate resources to satisfy consumer wants.
• Externalities: Spillover effects affecting non-participants.
  • Positive: Public goods/services (healthcare, education).
  • Negative: Pollution.

Foreign Sector

• Open vs. closed economies.
• Open economy includes international trade.

Economic System

• Three types: resource market, product market, financial market.

Markets

1. Resource (Factor) Market:

   • Households provide economic resources.
   • Receive wages, interest, profit, rent.

2. Product Market:

   • Businesses combine resources for goods/services.
   • Goods sold/bought in this market.

3. Financial Market:

   • Flow of surplus funds, savings become investments.
   • Managed by entities like Reserve Bank.

Economic Flow

• Basic circular flow of product market, factor market, households, firms.
• Flows:
  • Real Flows: Actual goods/services.
  • Money Flows: Income, factor payment, sales, consumption.

Economic Systems

• Set arrangements for solving economizing problems.
• Types:
  1. Command Economic System:
     • Government owns resources, central planning.
     • Example: Socialism/Communism (China, North Korea).
  2. Market Economic System:
     • Private ownership, minimal government intervention.
     • Example: Pure capitalism (Laissez-faire).
  3. Mixed Economic System:
     • Combines market/command systems.
     • Private ownership with government control/resources provision (e.g., South Africa).

Practice Questions

• Characteristics of Market System:
  • Private ownership, self-interest, use of markets/prices.
• Four Role Players: Households, government, business enterprises, foreign sector.
• Flows in Economies:
  • Diagram participant flows in closed/open economies.
  • Include factors of production, goods/services, income, taxes.

This concludes the lecture on the market system and circular flow.