The circular flow diagram of economic activity is a model of the:

• A. way in which monopolies control market supply
• B. process by which government sets prices in the economy
• C. relationship between inflation and unemployment
• D. interactions between households and firms in markets for goods, services, and factors of production

Answer: (D)

Verified step by step guidance

1. Understand that the circular flow diagram is a fundamental model in microeconomics illustrating how different sectors of the economy interact.
2. Identify the two main agents in the model: households and firms.
3. Recognize that households provide factors of production (like labor, land, and capital) to firms through factor markets.
4. Note that firms use these factors to produce goods and services, which they sell to households in product markets.
5. Conclude that the circular flow diagram shows the continuous movement of money, resources, and goods/services between households and firms, highlighting their interdependence.