Question

Consider the hypothetical example of Dominion Island that has firms producing only two goods, gold and cotton, the proceeds of which it uses to purchase other goods and services from neighbouring islands through its banks. Assuming that all other required institutions in an economy are prevalent in this island, discuss the circular flow of income and spending in Dominion Island. Give a broad discussion (Marks 20)

Answer 1

Answer

Dominion Island produces Gold and Cotton which is purchased by the households in Dominion island and also by the nearby islands (exports). The money is received from other islands in the banks of Dominion Island, which is paid to the firms of the Dominion Island in their currency. This money ultimately goes to the households in terms of wages and profits.

At the same time, the Dominion Island (the households) imports goods and services from other islands. Dominion Island pays its own banks, which inturn transfer the money (by converting the currency) to other islands.

Thus, the circular flow is completed as there is import and export of goods from and to other islands plus trasnfer of money from and to other islands plus there is household labor employed and in return they receive the profits and wages.