9708 · 4.2
Introduction to the circular flow of income — FAQ
Frequently asked questions for 9708 Introduction to the circular flow of income. Direct answers first, then deeper explanation — then practise with marking.
Is buying shares in a company considered 'Investment' in the circular flow model?
No. In macroeconomics, 'Investment' (I) specifically refers to spending by firms on new capital goods (e.g., machinery, factories). An individual buying shares is an act of saving, which is a withdrawal. It only becomes an injection if the firm uses the funds raised from selling shares to purchase new capital equipment.
If the government spends the tax it collects, why are taxation and government spending treated as separate things?
They are treated separately because they are independent decisions made by different agents for different reasons. Taxation (T) is a withdrawal because it removes spending power from households and firms. Government Spending (G) is an injection because it adds to aggregate demand. The decision to tax and the decision to spend are not always linked. A government can run a budget deficit (G > T) or a surplus (T > G), meaning the two are not automatically equal.
Does saving mean money just disappears from the economy?
No, savings do not disappear. They are channelled through the financial sector (e.g., banks and pension funds). This pool of savings is then available for firms and other households to borrow, primarily for investment. However, the initial act of saving is still a withdrawal because it is a decision not to spend on current goods and services. The subsequent act of investment is a separate decision by a firm, which acts as an injection. There is no guarantee that the amount saved will equal the amount invested.