Economics, 3rd Edition

endogenous variable

. Price, on the other hand, is the independent vari-

able – it affects the model (the quantity demanded) but is not affected by it. The price is not determined by, 

or dependent on, the quantity demanded. Price would be referred to as an 

exogenous variable

.

circular-flow diagram

 a visual model of the economy that shows how money and production inputs and outputs flow 

through markets among households and firms

endogenous variable

 a variable whose value is determined within the model

exogenous variable

 a variable whose value is determined outside the model

Understanding the difference between endogenous and exogenous variables is important because it 

helps us to separate out cause and effect. Does a change in price, for example, cause a change in quantity 

demanded or does it affect quantity demanded?