CLASS: XII

SUB: ECONOMICS (MACRO)

CH: 1- CIRCULAR FLOW OF INCOME
1. Differentiate between Microeconomics and Macroeconomics.
Ans.: The differences between Microeconomics and Macroeconomics are asfollows:

Basis Microeconomics Macroeconomics

1. Meaning Microeconomics is that branch Macroeconomics is that part of
of economic theory which economic theory which studies
studies the behavior of the behavior of aggregates of
individual units of an the economy as a whole.
economy.

[Link]/Derivation Micro has been derived from Macro has been derived from
Greek word ‘mikros’ Greek word ‘makros’ which
which means ‘small’. means ‘large’
3. Tools The main tools of The main tools of
Microeconomics are Macroeconomics are
Demand and Supply. Aggregate Demand and
Aggregate Supply.
4. Basic Objective It aims to determine price It aims to determine income and
of a commodity. employment level of the
economy.
5. Degree of It involves limited degree It involves the highest
Aggregation of aggregation. degree of aggregation.

6. Alternate Name It is also known as ‘Price It is also known as ‘Income

Theory’. and Employment Theory’.
7. Basic It assumes all the macro It assumes all the micro
assumptions variables to be constant. variables to be constant.
8. Examples Individual income, National income,
individual output, etc. aggregate output, etc.

2. Give the meaning of the two branches or subject matter of Economics.

Ans.: The two branches of Economics are:
(i) Microeconomics: Microeconomics is that branch of economic theory which studies the
behaviour of individual units of an economy. For example, individual income, individual
output, etc.
(ii) Macroeconomics: Macroeconomics is that part of economic theory which studies the
behaviour of aggregates of the economy as a whole. For example,National income,
aggregate output, etc.

3. What is meant by circular flow of income?

Ans.: It refers to the cycle of generation of income in the production process, its distribution
among the factors of production and finally, its circulation from households to firms in the form of
consumption expenditure on goods and services produced by firms.
4. What are the four factors of production? What are their remunerations known as?
Ans.: The four factors of production are:
 Land
 Labour
 Capital and
 Entrepreneur
Land’s remuneration is called Rent;
Labour’s remuneration is called Wages;
Capital’s remuneration is called Interest and
Entrepreneur’s remuneration is called Profit.
5. Differentiate between a Closed economy and an Open economy.
Ans.: The differences between a Closed and an Open Economy are as follows:
Basis Closed Economy Open Economy
1. Meaning A closed economy is one which An Open economy is one
does not have economic relations which has economic relations
with rest of the world. with rest of the world.
2. Number of Sectors There are 3 sectors in a closed There are four sectors in an
economy. open economy.
3. Involvement of External External sector is not involved in a There is involvement of
Sector closed economy. external sector in an open
economy.

6. Explain the various sectors of an economy.

Ans.: There are four sectors in an economy. These are:
(i) Household Sector:
 It includes consumers of goods and services.
 They supply factor services like land, labour, capital and entrepreneur and receive factor
income in return in the form of rent, wages, interest and profit.
(ii) Firm/Producing Sector:
 It includes all producing firms in the economy.
 They hire factor services from households to produce goods and services.
 Firms produce goods and services to earn profit.
(iii) Government Sector: It acts in two capacities:
 As a welfare agency, it maintains law and order, defence and other services;
 As a producer, it produces goods and services.
(iv) Rest of the World/External Sector/Foreign Sector:
 This sector includes transactions with the rest of the world.
 It involves export and import of goods and capital movement between countries.

7. Explain the three phases of circular flow of income.

Ans.: The three phases of circular flow are:
(i) Generation Phase (Income Phase): In this phase, firms produce goods and services with the
help of factor services provided by households in the form of land, labour, capital and
entrepreneur.
(ii) Distribution Phase (Income Phase): In this phase, households receive factor income in the
form of rent, wages, interest and profit from firm sector.
(iii) Disposition Phase (Expenditure Phase): In this phase, household make consumption
expenditure on the goods and services produced by firms.
8. Explain the types of circular flow of income.
Ans.: There are two types of Circular Flow of Income. These are:
(i) Real Flow: It is the flow of factor services in the form of land, labour, capital and entrepreneur
from households to firms and the corresponding flow of goods and services from firms to
households.
(ii) Money Flow: It is the flow of factor payment in the form of rent, wages, interest and profit from
firms to households and the corresponding flow of consumption expenditure on goods and
services from households to firms.
9. What are the various types of Real Flow?
Ans.: There are two types of Real Flow. These are:
(i) Factor Flow: It is the flow of factor services in the form of land, labour, capital and entrepreneur
from households to firms
(ii) Product Flow: It is the flow of goods and services from firms to households.

10. Differentiate between Real flow and Money flow.

Ans.: The differences between Real Flow and Money Flow are as follows:
Basis Real Flow Money Flow
1. Meaning It is the flow of factor services in the It is the flow of factor payment
form of land, labour, capital and in the form of rent, wages,
entrepreneur from households to interest and profit from firms to
firms and the corresponding flow of households and the
goods and services from firms to corresponding flow of
households. consumption expenditure on
goods and services from
households to firms.
2. Kinds of Exchange It involves exchange of goods and It involves exchange of money.
services.
3. Difficulty in exchange There may be difficulties of barter There is no such difficulty.
system in exchange of goods and
services.
4. Alternative Name It is also known as Physical Flow. It is also known as Nominal
Flow.

11. What is stock variable? Give an example.

Ans.: Stock variable refers to that variable, which is measured at a particular point of time. For
example, production of rice as on 31-03-2023.
12. What is flow variable? Give an example.
Ans.: Flow variable refers to that variable, which is measured over a period of time. For example,
production of rice in 2023.
13. Differentiate between stock and flow.
Ans.: The differences between stock and flow are as follows:
Basis Stock Flow
1. Meaning Stock variable refers to that Flow variable refers to that variable,
variable, which is measured at a which is measured over a period of
particular point of time. time.
2. Time Dimension It does not have a time dimension. It has a time dimension as it is
measured over a period of time.
3. Nature of concept It is a static concept. It is s dynamic concept.
4. Examples National wealth, capital, etc. National Income, Capital formation,
etc.
 14. Who all are economic agents?
Ans.: Consumers, produces and government.
15. What is Leakage and Injection in the circular flow of income?
Ans.: Leakage is the withdrawal of money from the circular flow of income.
Injection is the introduction of money into the circular flow of income.
16. Briefly explain the circular flow of income in a Two-Sector economy (simple economy).
Ans.: Circular flow of income refers to the cycle of generation of income in the production process,
its distribution among the factors of production and finally, its circulation from households to firms
in the form of consumption expenditure on the purchase of goods and services produced by the
firm.
A simple economy assumes the existence of only two sectors, i.e. household sector and firm
sector.
Household sector supplies factor services in the form of land, labour, capital and entrepreneur to
firms and the firms hire factor services from households. Firms produce goods and services and
sell their entire output to the households. Households receive factor income in the form of rent,
wages, interest and profit from the firm sector for their services and spend the entire amount as
consumption expenditure on the purchase of goods and services produced by the firm sector.
There are no savings in the economy, i.e. neither the households save from their incomes, nor the
firms save from their profits.
The circular flow in Two-Sector economy can be better understood with the help of the following
figure:
Factor Services

Consumption Expenditure

Households Firms

Factor Payments

Goods and Services

 The outer loop of the diagram shows the real flow, i.e. flow of factor services from
households to firms and corresponding flow of goods and services from firms to
households.
 The inner loop shows the money flow, i.e. flow of factor payments from firms to
households and the corresponding flow of consumption expenditure from households to
firms.

Q13. Between net investment and capital which is a stock and which is a flow? Compare
net investment and capital with flow of water into a tank.
Ans.: Between net investment and capital, capital is stock and net investment is flow. This can be
better understood with the help of an example.
Suppose a tank is being filled with water coming from a tap. The amount of water which is flowing
into the tank from the tap per minute is the flow. The quantity of water that existed at a particular
point of time is considered as stock. Here, capital is compared to the water that existed at a
particular point of time. Net investment is compared to the flow of water into a tank.

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