THE ECONOMIC MODELS AND

THE FLOW OF PRODUCTION

 THE ECONOMIC SYSTEM
means the organization of economic society
with reference to the production, exchange,
distribution and consumption of wealth. It is the
way the economic units are organized to make
decisions on the economic problems of society.
THE BASIC ECONOMIC PROBLEMS

Scarcity – refers to the tension between our

limited resources and our unlimited wants and
needs.
Because of the scarcity of resources, every economic system is faced
with the following problems:

• What to produce?
First of all, the system must determine the desires of the people.
However, there are some factors that should be taken into
consideration in producing the goods and services the individuals
need. These are:
– Availability of resources
– Physical environment
– Customs and traditions of the people

• How much to produce?

Knowing what to produce is not enough. The system must know how
much of the chosen goods should be produced.
• How to produce?
Equally important is the system’s task of selecting
the proper combination of economic resources in
producing the right amount of output.

• For whom shall goods and services be

produced?
The last question has something to do with the
problem of distribution. Once the goods are
produced, how shall they be distributed?
• Specialization – it is where the economy, instead of
dividing up its resources, could concentrate on the
production of the one thing that, relative, it can do
best.

• Comparative Advantage - refers to the ability of a

party (an individual, a firm, or a country) to produce a
particular good or service at a lower opportunity cost
than another party. It is the ability to produce a
product with the highest relative efficiency given all the
other products that could be produced.

• Absolute advantage - refers to the ability of a party to

produce a particular good at a lower absolute cost than
another.
 Types of Economic System
• Traditional Economy – It is also known as the
subsistence economy. In this type of economy,
people produce goods and services for their own
consumption.
• Command Economy – Under this system, the
government takes hold of the economy of the
State. It dictates what to produce, how to
produce and for whom to produce.
• Market System – In a capitalistic system, business
enterprises are owned and controlled by private
individuals.
• Two Major features of this system
– Free enterprise – it means any individual can
engage in any enterprise, which he thinks will
yield him a profit in competition with other
businesses.
– Laissez-faire – it means “let alone” or freedom
from government control of business enterprise.

• Mixed economy – This is a system which is a

mixture of the different types of economy.
 THE CIRCULAR FLOW OF ECONOMIC
ACTIVITIES
Household – considered as the consuming unit
Firm – it is the producing unit

• Related Concepts

Flow – A quantity measured over a particular period of time. Example: Income

Stock – A quantity measured at a given point in time. Example: Wealth
Circular Flow – This is the movement of economic activities that is taking
place in the economic system.
Market – A place where buyers and sellers interact together and are
eventually engaged in exchange.
Economic resources – These are also known as the factors of production or
inputs to production. These factors are the land, labor, capital, entrepreneur
and foreign exchange.
Basic needs – These are the needs of man required for his survival like food,
clothing and shelter.
Goods – Anything that yields satisfaction to someone.
 Classification of goods
Tangible goods – it is in the form of material goods or
commodities
Intangible goods – it is in the form of services
Consumer goods – goods that are ready for consumption
Capital goods – goods that are used in the furtherance of
production
Essential goods – are goods used to satisfy the basic needs of
man
Luxury goods – goods that give something or add pleasure and
comfort, but not absolutely necessary.
Economic goods – goods which have price or value attached to
it.
Free goods – goods which need no payment
 The Circular Flow of Production
The circular flow of production involves the economic activities
existing between household and firm.

The firm hires the economic resources of the household. These

resources are in the form of land, labor, and entrepreneur. In return,
the firm gives income to the household in the form of rent for the
land, salaries and wages for labor, interest for the capital, and profit for
the entrepreneur.

With the income received, the household buys goods and services
from the firm. The firm then delivers the goods and services needed by
the household. Thus, goods and services and income circulate from
the household to firm and vice-versa.
 OUTFLOWS AND INFLOWS OF THE
CIRCULAR FLOW
• The Outflows and Inflows

• Outflow – is a flow of income that goes out of the circular flow.

There are factors that affect the individual consumer not to utilize his
income. These factors are:
•
• Savings – It is an income not spent for consumption.
• Taxes – It is a compulsory contribution to support the government.
• Imports – These are the goods bought by the Philippines form other
countries.
• Inflow – is a flow of income that brings back funds into the circular flow.

• Examples of Inflows

• Investment – It constitutes a spending decision that results in the use of

output and productive resources. This may be in form of business or
lending the money to people who will likewise invest the money.

• Government expenditures – The government collects taxes to defray

expenses or its infrastructure projects and other economic development
projects.

• Exports – Products bought by the foreign countries from the Philippines

• Inflation – it is characterized by too much
inflows of money into our economy. It results
in a decline in the value of money, with an
upward movement of the price level.
•
• Deflation – it is the result of too much
outflows of money into our economy. It is
characterized by the drop in the price level
and a rise in the value of peso.