Two-sector model
Topic: Aggregate Demand, Income Determination and the Multiplier · NCERT: Class 12, Ch 2 "National Income Accounting"; Class 12, Ch 4 "Determination of Income and Employment"
Meaning
The two-sector model is a simplified picture of an economy that has only households and firms. There is no government and no foreign trade. Households supply labour and other factors to firms and buy their goods. Firms produce and invest. Aggregate demand in this model is AD = C + I = C̄ + Ī + cY. Starting this simply makes income determination and the multiplier easy to see. Government (G and taxes) and trade (exports minus imports) are added later.
Example
With C = 40 + 0.8Y and I = 10, the two-sector economy settles at Y* = 50/(1 − 0.8) = 250.
Don't confuse with
- Three-sector and four-sector models: a three-sector model adds government, so AD = C̄ + Ī + G + c(Y − T). A four-sector (open) model also adds net exports (X − M).