Keynesian approach of income also tells us the most important condition which must be fulfilled before the economy is said to be in equilibrium, i.e., the important condition of saving being equal to investment. Once we understand this, we understand the circular flow of economic activity. It will increase the earnings of the (actors and their spending’s and so on. More expenditure means more income and greater production. It is expenditure by the consumers that determines the income of the producers. Consumers expenditure is income to business. What are ‘costs’ to business are ‘incomes’ to the factors such as the workers and the resource-owners. Thus, the functioning of the economy consists in the production of goods and the services by the factors of production and production units. This forms the income of the factors which is again spent. They pay them (to factors) in the form of wages, rent, interest and profits. Keynes was the first to note the fact of the circular flow of economic activity.Ĭonsumers spend their incomes on goods and services produced by business and production units. But the income, output and expenditure approach would not assume such a great importance if they were merely identical to each other the fact of the matter is that income output and employment are equal to each other functionally also. We see the GNP, GNY and GNE are all identical in values and when depreciation is deducted, they become net-i.e., NNP ≡ NNY ≡ NNE, (the symbol ≡ denotes identity). All those currents’ make up the circular flow of economic activity. Through economic activity (production, consumption, capital formation etc.), these groups are linked up not only with each other but also with other economic problems of the world-by flow of goods and money. Enterprises and government agencies too can each be grouped also. In order to obtain a clear idea of the relations between the numerous economic units in a country, it is best to reduce them to homogeneous groups.įor example, all households may be taken as one whole, because their activities are more or less ‘of the same type.
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