Chapter 5: Types of Economy Flashcards
What is the aim of an economic system?
To allocate the scarce factors of production
What are the fundamental 3 questions for an economic system to focus on?
- What to produce- How to produce- Who to produce for
Define an economic system
A complex networks of individuals, organizations and institutions that allocates resources
How are resources allocated?
According to the market mechanism - which allocates resources through bringing together buyers and sellers who agree on a price for the product or the resource being sold.ORAccording to planning - the allocation of resources through administrative decision. It occurs within families when individuals make decisions about who in the family is to get what, it also occurs within firm where managers decide how to allocate resources. At a national level, governments and government bodies allocate resources through planning.E.G The finance minister announces plans for the government should spend money according to a budget.
Types of economies
- Free market economies- Planned economies- Mixed economies
What is a free market economy?(also known as capitalist / free enterprise / market economies). Mention key features.
An economic system that resolves the basic economic problem through the market mechanism(the allocation of resources is dependent on the coordination between buyers and sellers to agree on a price for a good or service being sold). A totally free marketoccurs when there is NO government intervention in the economy. Realistically, a free market economy only has to have MAJORITY OF ITS RESOURCES allocated through the market mechanism, rather than government and planning.FEATURES:- Firms are privately owned.- Decision on what to produce and how to produce goods are left to market forces (Adam Smith’s “invisible hand” metaphor).- Many “free market” economies will realistically have some limited government intervention however. E.G - the protection of private property, or the government may allocate resources for education, defense, roads, policing, etc.
What are the advantages of free market economies?
- More efficient allocation of resources (because firms have a profit incentive to produce goods that are in demand, they also have an incentive to cut costs and be efficient otherwise they will go out of business)- Consumers have the freedom to choose the best products, which they need- Avoids government bureaucracy which could lead to corruption and inefficiency-Incentive of a free market encourages individuals to work hard and set up new businesses- Increased competitionleads to lower prices and better quality.-Unlimited wealth, profits and income leads to greater living standards
Bureaucracy
Bureaucracyis a system of organization where decisions are made by a body of non-elected officials
Efficiency
Maximized productivity
What are the disadvantages of free market economies
- Private firms can gain monopoly power through mergers and acquisitions, leading to higher prices for consumers and greater inequality
- -Resource depletionandenvironmental degradationare often ignored
- Workers are exploited more
- Overconsumption of goods with negative externalities due to lack of government intervention
- Sometimesproduct quality fallsas firms lower quality standards in order toincrease profits
- Income inequality is greater because wealth is concentrated in the hands of a few as they are able to keepbuying upthe scarce factors of production. Thisincreases inequalityso the gap between the rich and the poor continues to grow.
Define command/planned economy (aka communism)
An economic system where government allocate resources in society through planning. The government owns the means of productions and decides what and how to produce.
What are the advantages of command economies?
- Government can prevent the abuse of monopoly power- Social equality is the goal of the system as opposed to profit maximisation, so there is lessinequality- All workers receive thesame wageirrespective of role or career. This helps create social equality- Lessunemployment-Resourcesof the nation can be directed towardsurgent priorities
What are the disadvantages of command economies?
- Receiving the same wage createsdisincentivesfor people to acquire difficult skills (e.g. doctor), as 8 years of study results in the same wage as no study
- A lack of competition means that there isless innovationand product development
- When government agencies control all areas of economic life, it is prone to bureaucracy, high administration costs and corruption.
-The government may be slow to respond to changing consumer preferences; with price controls, we may end up with shortages or surpluses.
-The government may have poor information about what to produce,leading to shortages and surpluses. - Consumers may face a lack of choice about goods to buy. People may be unable to set up businesses that they want.
Define mixed economy, and mention key features
An economic system where both the free market mechanism and the government planning process allocate significant proportions of total resources.It involves a degree of government intervention but many firms remain privately owned. Most modern economies are mixed.FEATURES- Government will implement taxes on income and goods (VAT)- Provide services which are under-consumed in a free market- Regulate markets and prevent monopolies and look after environmental issues and demerit goodsETC.
Define economic system
A complex network where resources are allocated
