Chapter 21 In general, the circular flow shows the flows of work (or, more generally, flows of inputs) through factor markets and the resulting flows of money payments for the work (or inputs). In addition, it also shows the flows of goods and services and the flows of the money spent to purchase these goods and services in the goods market as well as the flows of saving and borrowing in financial markets. To present a circular flow here, we have to make simplifications. First, our simplified circular flow figure leaves out the flows through the financial sector. Second, it assumes that there is no government. That is, the economy is make up of only households and firms. The figure looks at the flows between households and firms and does show firms buying goods from other firms. (That is, firms' purchases of capital goods are not illustrated.) However, none of the lessons that the circular flow teaches us are affected by these simplificactions. The figure shows the flow of money from households to firms in exchange for the flow of goods and services. In other words, this figure shows us that households buy the goods and services produced by business firms. In this economy, the amount that households spend is the nation's aggregate expenditure. Also, if we measure the value of these goods and services we get the nation's Gross Domestic Product. That is, the nation's GDP. Thus in this economy, the nation's GDP equals the amount of dollars flowing from households to firms. Aggregate expenditure equals GDP. But, this figure by itself is incomplete. Two important questions are left unanswered: How did the firms produce the goods and services? And, where did the households get the money to buy the goods and services? For answers to these questions, we must look at the second half of the circular flow by clicking on the figure below.