Circular Flow of Income in Four Sector Economy

It provides a realistic picture of the circular flow in an economy. It studies the circular flow in an open economy which comprises of the household, business, government and foreign sector. The foreign sector has the important role in the economy. When the domestic business firm export goods and services to the foreign markets, injections are made into the circular flow model. On the other hand, when the domestic household firms or the government imports something from the foreign sector in the circular model. From the view point of the circular flow of income, each sector has dual roles

to play in the economy while a sector receives a certain payment from the other sectors, it pays back to those sectors as well. The circular flow of income in different sectors can be expressed as follows:

1. Household Sector

It owns factors of production and supplies to business and government sector. It consumes goods and services produced by the business sector. It supplies factors of production to the business and government sector.

i. Receipts

It receives the factor income in the form of rent, wages, interest and profit from the business sector and government sector for supplying factors of production. It also receives the transfer payments from the government sector.

ii. Payment

The income of the household sector flows into the business sector, government sector and capital market in the form of consumption expenditure, tax and saving respectively.

2. Business Sector

It produces and supplies goods and services in the economy and hires factors of production from the household sector.

i. Receipts

It includes income from the sale of goods and services from household sector and government sector. It borrows money from the capital market. It also gets subsidies from the government sector. It earns income from the exports.

ii. Payment

It includes the factors payments and tax payments to the household sector and government sector respectively. It makes import payments to the foreign sector.

3. Government Sector

It has the authority to pass rules and regulation, laviate taxes to the household sector and business sector, hires factors of production from the household sector and purchases goods and services from the business sector.

i. Receipts

The major source of the income for the government sector include the taxes paid by the households and business sectors. It also receives interests and dividends for the investments paid.

ii. Payment

It pays to the business sector in the return for the goods and services purchased and also provides subsidies. It pays factor payments to the household and also makes transfer payments to the household.

4. Foreign Sector

I. Receipts

It receives income from the business sector in return for goods and services imported by later.

ii. Payment

It needs to make payment to the business sector from where imports have been made.