Which statement best describes the circular flow model?

• A. It explains how only firms produce goods and households consume them, without any exchange.
• B. It represents the flow of goods from producers to international markets only.
• C. It illustrates the continuous movement of money, resources, and goods and services between households and firms.
• D. It shows how government sets prices for goods and services in the market.

Answer: (C)

Verified step by step guidance

1. Understand that the circular flow model is a fundamental concept in microeconomics that illustrates the interactions between different economic agents, primarily households and firms.
2. Recognize that the model shows how households provide factors of production (like labor, land, and capital) to firms, and in return, receive income (wages, rent, interest, profits).
3. Note that firms use these factors of production to produce goods and services, which are then sold to households, creating a continuous flow of goods and services.
4. Observe that money flows in the opposite direction to goods and services: households spend money to buy goods and services from firms, and firms pay households for the use of their resources.
5. Conclude that the circular flow model captures this ongoing exchange of money, resources, and goods and services between households and firms, highlighting the interdependence in an economy.