National Income and Flow-of-Funds Analysis

By John P. Powelson | Go to book overview

Chapter 7
MODELS AND MULTIPLIERS

THE CIRCULAR FLOW OF TRANSACTIONS

As the Nolandian Academy of Scholars adjourned, most members felt a certain smugness over having prepared and understood a comprehensive accounting system. But Scholar C was perturbed by what he considered a missing link, and as he walked home with Scholar A, the following conversation took place:

SCHOLAR C. Do you recall, back in Chapter 2, how Scholar D made such a point of the fact that each transaction has an instantaneous impact on several variables in the system of accounts?

SCHOLAR A. Yes, I do. He was pointing out, for example, that production, income, saving, and investment can all occur at once, and because of a single action on the part of producers and households.

SCHOLAR C. At the time I was quite impressed by this fact. Now, however, I notice that the national product and related sector accounts are simply compilations of the debits and credits depicting many isolated occurrences, which have in common the fact that they all take place within the same period of time. But of what significance is the fact that debits and credits are both internally and externally balanced? If saving is defined as the excess of income over consumption and transfer payments made, of what world-shaking importance is it to notice, in the household account, that credits for income equal debits for consumption, transfer payments, and saving?

SCHOLAR A. Perhaps I can help you on this. I've been skipping through pages of remaining chapters, so I know a little about the direction in which we are heading. Important though they may seem at the time, we will discover that the accounting relationships are themselves a minor point. They only provide a framework through which more significant analysis can take place.

SCHOLAR C. In what way?

SCHOLAR A. Well, for example, you have noticed that personal saving is the excess of personal disposable income over consumption. Suppose, now, that the accounts, for some particular day, appear as follows:

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