1.1.6 Free market economies, mixed economy and command economy Flashcards
Free Market Economy
Based on the principle of supply and demand. Prices are determined by the interation of buyers and sellers.
Economic decisions made by private individuals or firms.
There is no government intervention in the allocation of resources or distribution of goods/services
Key figure of Free Market Economy: Adam Smith
advocated for the“invisible hand” of the market to allocate resources efficiently with low levels of government intervention
he saw a role for governments to ensure efficiency in the allocation of resources and provide public and merit goods
but believed economies function best when private individuals work in their own self-interest
“It is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but from their regard to their own interest”
Command (planned) Economy
Government or central authority makes all economic decisions.
All resources are owned by the state and the government controls the distribution of goods/service.
Government decides what goods and services will be produced and how resources will be allocated.
Key Figure of Command Economy: Karl Marx
- believed free markets lead to capitalism in which the owners of factors of production (capitalists) exploited the workers
- created inequality and lead to a breakdown between classes
- role of state therefore is to share means of production and ownership with all of the workers of society
- required abolition of private property
- State had to become the **central planner and decide **how the 3 economic questions would be answered
Mixed Economy
Blend of free market and planned economy as individuals, firms and the government own factors of production and distribute goods and services.
Both the private sector and the government play significant roles in economic decision-making. **The US are a mixed economy. **
Key Figure of Mixed Economy: Friedrich Hayek
- believed that command economies were flawed
- identified information gaps between what economies actually required and what the central plannners in command economies were saying it required
- These gaps led to shortages or surpluses of goods/services in command economies
- he felt that the threat to efficiency and economic is overly heavy government intervention
Advantages of a Free Market Economy
- Profit incentive incentivises people to work or develop entrepreneurial ideas and firms to produce efficiently and innovate
- Consumer choice, consumers have a wide range in choice of products and services
- Competition leads to better quality of goods and services it also leads to innovation and product development
- Free markets can lead to rapid economic growth and higher living standards, e.g. USA Free-market has lead to significant technological advancements and economic growth
- More efficient use of scarce resources
Disadvantages of a Free Market Economy
- Inequality: Income and wealth disparities can be significant.
- Sometimes** product quality falls **as firms lower quality standards in order to increase profits
- Lack of Public Goods: Free-markets can often **underprovide **public goods without government intervention (e.g. public healthcare)
- Boom-Bust Cycles: Free markets can be prone to economic cycles of booms and busts. (e.g. 2008 financial crisis exposed shortcomings of unregulated financial markets)
Advantages of Command Economy
- **Social equality **is the goal of the system as opposed to profit maximisation, so there is less inequality
- All workers receive the same wage irrespective of career helping to create social equality
- Less unemployment
- The government owns monopoly businesses so consumer exploitation through high prices can be avoided
- Example: North Korea
Disadvantages of a Command Economy
- Lack of Incentives: Central planning may discourage innovation and** individual initiative** to gain skills. (e.g. 8 years of study to be a doctor results in same wage as no study)
- A** lack of competition** means that there is less innovation and product development
- Black markets multiply as the population seeks to address shortages
- Access to high standard of living is near enough impossible for most of the population
- Personal freedom restricted
Roles of the State in a Mixed Economy
Government intervention occours at various levels in different mixed economies.
-
Regulation,
in consumer protection, environmental standards, and financial markets. (e.g. agencies like the Environmental Protection Agency (EPA)) - Public Goods and Services
government spending provides public goods and services that may not be adequately supplied by the private sector, including merit goods (e.g schools/education and healthcare) and public goods (free-market does not provide (e.g. national defense) - Welfare and Redistribution
Governments implement social safety nets and income redistribution policies to address poverty and inequality.
(e.g. progressive taxation and welfare programs like unemployment benefits and pension provision)
- Stabilization and Economic Planning
Governments may use fiscal and monetary policies to manage economic cycles and prevent economic crises.
Example: Central banks adjust interest rates to control inflation and promote economic growth.
Ecomomic welfare
the level of well-being or prosperity or living standards of an individual or group of individuals such as a country
Neo-classical theory
a theory of economics which typically starts with the **assumption **that economic agents will maximise their benefits and act rationally, and which develops how resources will be **allocated in markets **and at what price through the forces of demand and supply
