What They Are

• Product Markets: The product markets, also termed goods or output markets, exchange the production of final goods and services, what is formally termed gross domestic product. The buyers of this production are the four macroeconomic sectors--household, business, government, and foreign. The seller of this production is primarily the business sector. A substantial part of macroeconomics is devoted to explaining how and why gross domestic product exchanged through the product markets rises or falls. When Duncan Thurly purchases a Deluxe Club Sandwich from Manny Mustard's House of Sandwich, he is operating through the product market.


• Financial Markets: The commodity exchanged through financial markets is legal claims. Legal claims, or financial instruments, represent ownership of physical assets (capital and other goods). Because the exchange of legal claims involves the counter flow of income, those seeking to save income buy legal claims and those wanting to borrow income sell legal claims. When Winston Smythe Kennsington III buys a few hundred shares of OmniConglomerate, Inc. corporate stock, then he is operating in the financial markets.


• Resource Markets: The services of the four factors of production--labor, capital, land, and entrepreneurship--are traded through resource markets. Resource markets, also termed factor markets, are used by the business sector to acquire the factor services needed for production. Payment for these factor services then generate income received by the household sector, which owns the resources. When Pollyanna Pumpernickel takes a job working at the Wacky Willy factory assembling Wacky Willy Stuffed Amigos, then she is participating in the resource markets. Note only factor services are exchanged through factor markets, not the actual factors.

Buyers and Sellers

• Household Sector: The household sector is the primary participant on the buying side of the product markets. This sector regularly purchases almost two-thirds of all gross domestic product exchanged through the product markets. This sector, in that it owns all resources, is also on the selling side of the resource markets. In fact, the income that it uses to purchase gross domestic product comes from selling factor services through the resource markets. Lastly, the household sector is on the buying side of the financial markets. When it buys legal claims, it is lending (or saving) income.


• Business Sector: The business sector is THE primary participant on the selling side of the product markets. This is the sector responsible for production. However, it also purchases capital goods through the product markets, meaning it operates on both the selling side and the buying side. This sector is also on the buying side of the resource markets. It acquires the factor services used for production from the household sector through the resource markets. Lastly, the business sector is largely on the selling side of the financial markets. When it sells legal claims, it is borrowing income that is more often than not used to purchase capital goods.


• Government Sector: The government sector participants on the buying side of the product markets along with the household and business sector. The government acquires a portion of gross domestic product in the course of pursuing its designated functions. This sector also surfaces on the selling side of the financial markets. If often sells legal claims to raise funds needed to pay for the purchase of gross domestic product.


• Foreign Sector: The foreign sector participants in the product markets, on both the buying side and the selling side. When goods are exported from the domestic economy, the foreign sector is on the buying side of the product markets. When goods are imported into the domestic economy, the foreign sector is on the selling side of the product markets.

A Circular Flow of Activity

The Circular Flow

• Household Income: The income received by the household sector at the far left is generated by selling factor services to the business sector. This income is then used to purchase goods produced by the business sector.


• Business Revenue: The revenue received by the business sector at the far right is generated by selling production to the other sectors, especially the household sector. This revenue is then used to buy the factor services supplied by the household sector.


• Government Taxes, Borrowing, and Spending: The tax revenue collected by the government sector in the center of the exhibit from the household sector is used to purchase output from the business sector through the product markets. The government sector also pays for a portion of these purchases with household sector saving that is borrowed through the financial markets. The resulting business sector revenue is then used to pay for factor services which becomes income that the household sector uses for taxes and saving.


• Foreign Exports and Imports: The imports sold by the foreign sector at the very top to the domestic economy generates revenue that is often used to purchase exports from the domestic economy.