The Model of A Simple Economy

Introduction

In the previous section – Developing a Model – we built a simple model of an economic system. This section picks up where that one left off. (If you have not reviewed that section, I suggest that you do so now.) As a matter of fact, we use the same model here as the first version in our demonstration of a simple economy.

The purpose of this section is to examine the relationships between production rates, consumption rates, and savings levels. What effect will different values for these variables have on the performance of the system? Does a reduced rate of consumption, which will cause an increased level of savings, help or hurt production and consumption over the long term?

Some readers at this point might ask where market transactions (or exchanges) fit into this model. All exchanges occur within the stock of Savings. This model shows the flow of goods through a system; it does not depict ownership. Thus, when two parties exchange economic units it has no effect on the level of Savings. (Read my comments about trade and exchange in the third tab.)

In the next tab (above) I give a brief description of the models in this section.

The Models

In this section we complete this simple model and provide three different versions based on changes in consumption:

Version 1: Complete Model: As I mentioned in the introduction this is the same model as you saw in the final step of the model development. I have started here to give you an opportunity to re-familiarize yourself with the elements of that model and run some more simulations on your own.
Version 2: Dramatic Demonstration: In this version we input the values to the fractional consumption rate (using a table of values) in order to give a dramatic demonstration of the effects of changes in consumption rates.
Version 3: Steadily Increasing Consumption: With the third version we input values to the fractional consumption rate that demonstrate the effect of continuously rising rates of consumption. This last version lays the foundation for evidence of the deleterious effects of stimulating consumption.

A Comment: Trade/Exchange

At this point I need to make a parenthetical comment about the nature of trade and exchange. Many people have bought into the fallacious argument that consumption creates demand. That argument simply does not stand the test of logic.

Economic demand consists of offering one economic good in exchange for another economic good (even when using a medium of indirect exchange, like money.) Therefore, demand requires first having a product (or production). Ergo, it only makes sense to say that production creates demand.

Some systems thinkers make the mistake of confusing the information feedback from market exchanges, which can lead entrepreneurs to take the risk of additional production, with the creation of real demand. (We will deal with the feedback from Savings in the next model.)

Putting these fallacies together creates the popular argument that an economy can be stimulated by an intervention that increases consumption. I will show later in the economic intervention presentation how that simply does not work.

Let's review our completed model in version 1 of the Simple Economy…