1. In a market system, who decides what goods and services are produced and how they are produced, and who obtains the goods and services that are produced?
In a market system, consumers decide what goods and services are produced by means of their purchases. If consumers want more of a good or service and are willing to pay for it, demand increases and the price of the good or service increases. Higher profits then attract new producers to the industry. If consumers want less of an item, demand decreases and the price of the item decreases. Resources are then attracted from the industry.
The search for profits dictates how goods and services are produced. Firms must use the least-cost combination of resources or be driven out of business.
Income and prices determine who gets what. Income is determined by ownership of resources: those who own highly valued resources get more income. Output then is allocated to whoever is willing to pay the price.
2. What is a household, and what is household income and spending?
A household consists of one or more persons who occupy a unit of housing. Household spending is called consumption and is the largest component of total spending in the economy.
3. What is a business firm, and what is business spending?
A business firm is a business organization controlled by a single management. Business firms can be organized as sole proprietorships, partnerships, or corporations. Business spending by firms is called investment and consists of expenditures of capital goods that are used in producing goods and services.
4. How does the international sector affect the economy?
The nations of the world can be divided into two categories: industrial countries and developing countries. The economies of industrial nations are highly independent. As business conditions change in one country, business firms shift resources among countries so that economic conditions in one country spread to other countries.
5. How do the three private sectors—households, businesses, and the international sector—interact in the economy?
Households own the factors of production and sell them to firms in return for income. Business firms combine the factors of production into goods and services and sell them to households and the international sector in exchange for revenue. The international sector buys and sells goods and services to business firms. The circular flow diagram illustrates these relationships.