The circular flow, injections and withdrawals

The circular flow

In the simplest model, households supply factors of production (labour, capital, land, enterprise) to firms and receive incomes (wages, interest, rent, profit). Households spend these incomes on goods and services from firms. So national output = national income = national expenditure.

Diagram in words: two boxes, households and firms. An outer loop of money: incomes from firms to households, spending from households to firms. An inner loop of real flows: factor services to firms, goods and services to households.

Income and wealth

Income is a flow of money over a period (wages per month, profits per year). Wealth is a stock of assets owned at a point in time (houses, shares, savings). Income can add to wealth if it is saved; wealth can generate income such as rent or dividends.

Injections and withdrawals

• Injections (J) add spending to the flow from outside the household-firm loop: investment (I), government expenditure (G) and exports (X).
• Withdrawals or leakages (W) take income out of the flow: savings (S), taxation (T) and imports (M).

If injections exceed withdrawals (net injection), national income rises. If withdrawals exceed injections (net withdrawal), national income falls. Income settles at equilibrium where J = W, that is I + G + X = S + T + M.

Worked example

I = 120, G = 200, X = 150, S = 110, T = 210, M = 170 ($ bn). Will national income rise or fall?

1. J = 120 + 200 + 150 = 470
2. W = 110 + 210 + 170 = 490
3. Net injection = -20

Answer: Withdrawals exceed injections by $20 bn, so national income falls.

Check yourself

1. I = 90, G = 150, X = 110 ($ bn). Find total injections in $ bn.
   Show answer

   $350 bn. J = 90 + 150 + 110 = $350 bn.

2. Injections are $480 bn and withdrawals $455 bn. Find the net injection in $ bn.
   Show answer

   $25 bn. 480 - 455 = $25 bn, so national income will rise.

3. Which is an injection into the circular flow?
   • Imports
   • Exports
   • Savings
   • Taxation
   Show answer

   Exports. Exports bring spending from abroad into the flow.

4. Which is a withdrawal from the circular flow?
   • Investment
   • Government spending
   • Imports
   • Exports
   Show answer

   Imports. Spending on imports leaves the domestic flow.

5. Which is an example of wealth rather than income?
   • A portfolio of shares worth $50,000
   • A monthly salary of $3,000
   • Annual dividends of $2,000
   • Weekly rent received of $400
   Show answer

   A portfolio of shares worth $50,000. Wealth is a stock of assets; the others are flows over time.

6. Tourist spending from abroad rises sharply. What is the likely effect on the circular flow?
   • Imports rise, so withdrawals rise
   • Savings rise, so income falls
   • Exports rise, so injections rise and national income increases
   • There is no effect because tourists are not residents
   Show answer

   Exports rise, so injections rise and national income increases. Tourist spending is an export of services, an injection.

7. Explain what happens to national income when withdrawals exceed injections.
   Show answer

   More money leaks out of the circular flow through saving, taxes and imports than is added by investment, government spending and exports, so total spending and national income fall.. A net withdrawal reduces the flow of spending, so income falls until a new equilibrium.

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Sources

• Pearson Edexcel International Advanced Subsidiary/Advanced Level in Economics specification, Issue 2 (June 2018)
• Pearson Edexcel IAL Economics WEC12 Unit 2 mark scheme, January 2025

Last updated 8 November 2026. Spotted a mistake? Tell us.