Market Equilibrium: The Circular Flow Of Income

594 words - 3 pages

The circular flow of income is an open model of the Australian economy which represents the flow of money between the five sectors. In an economy, the state of equilibrium is achieved when the total leakages are equal to the total injections. Changes in expenditure and output can lead to equilibrium income becoming regained in the economy, which is where leakages are equal to injections and the circular flow of income experiences no change in size. The equilibrium level of income refers to the level of income, output and employment at which the aggregate demand and the aggregate supply in an economy are equal.

Market equilibrium occurs where quantity demanded is equal to quantity supplied, the market clears and there is no tendency in change. In reference to the five sector circular flow of income model, market equilibrium is achieved when injections is identical to leakages that is: S + T + M = I + G + X. In an economy, it is always possible to achieve equilibrium, no matter how much difference there is between the leakages, which is money removed from the flow, and injections, which is the money returned to the flow.

This can be contrasted to disequilibrium: S + T + M ≠ I + G + X. There are varying effects of disequilibrium, depending on whether the injections are greater than the leakages, or the leakages are greater than the injections. If the leakages are greater than the injections (S + T + M < I + G + X) there will be a downturn in the level of economic activity, with falling incomes, falling production and rising unemployment. When injections are greater than leakages (S + T + M > I + G + X), there is an upturn in the level of economic activity, with rising incomes, rising productions and rising employment. In the circular flow of income to save, as the level...

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