Economic Systems

Basic Economic Problem

• How to allocate scarce resources between alternative uses
• Economy functions to resolve this problem
• 3 basic questions: what and how much to produce; how to produce; for whom to produce

Different Economic Systems

An economic system is a complex network of individuals, organisations and institutions in a society whose decisions determine the ways in which the scarce resources are used to produce goods and services and the manner in which these outputs are distributed for consumption.

Command Economy (Centrally planned economy)

1. Factors of production owned by the state (except labour)
2. Centralised planning
3. What and how much is determined by socio-political objectives set by the government
4. How to produce also determined by government
5. Production and distribution of goods also determined by government

Market Economy (Capitalism, Free Enterprise, Laissez faire, unplanned economy)

1. Private ownership of property
2. Freedom of choice and enterprise (maximise profit / satisfaction / income)
3. Self-interest is the primary motive
4. Competition
5. Limited Role for the government (legal framework)
6. Reliance on the workings of the price mechanism (Invisible Hand)

• Indicates to producers the preferences of the economy
• Provides incentives to producers to respond to changes in demand
• What and how much: indicated by price
• How to produce: least-cost method of production
• For whom to produce: Willing and able to pay

Mixed Economy

• A system in which resources are allocated partly via the price mechanism and partly by the government
• Production carried out by private enterprises
• Government steps in to regulate when necessary
• ALL economies in the world are mixed economies, especially due to collapse of communism

Conclusion

• Minimum wastage in market economy
• Strong incentive for innovation to find better ways to use resources
• Market economy supposedly efficient, but market failures exist, calling for government intervention

Summary

1. Economic systems of different countries vary according to extent to which they rely on market/government to allocate resources
2. Market economy features little government interference, economic decisions decided by demand and supply. Price changes eliminate surplus and shortage.
3. Central authority decides everything in a command economy
4. ALL real-world economies are a mixture, government intervention depends on aims of governments and nature of problems being tackled