MICRO - LS6 - Types Of Economy Flashcards
Planning definition
The process in which a government allocated resources - this is funded through taxation
Market definition
Anywhere buyers/sellers exchange goods/services - can be physically or digitally
What do government do
- plan what to produce e.g education /Park/army etc…
- plan how to produce it e.g. who they outsource it to/who they offer services to
- produce for consumers
What do producers do
Use price mechanism to decide what to produce and how to do so
Produce for target market
What do consumers do
Don’t decide what/how/who to produce for
Will buy things based on price mechanism
3 types of economy
Free market
Command
Mixed
Free market economy (also known as lassiez-faire, market, capitalist economy)
An economy in which resources are solely allocated by the price mechanism (private sector)
Has:
- Limited role for gov - restricted to protecting property rights of people/businesses through legal system and real value of money by keeping inflation low
- little/no regulation
- aims to maximise profit so consumer preference demands allocates resources
- high quality of goods and competition
- no surplus of goods
- private ownership of resources
Private sector
Part of an economy that’s not controlled by government
Example of free market economy
- not really one but closed would be US
Advantages of free market economy
- profit motive leads to range of choices of products - incentivises firms to develop new products to meet consumer demand - freedom of choice
- buy & sell resources
- efficient - maximises resources to maximise profit
- higher quality and innovation as there are rewards - profit motive and competition (want more customers)
- incentive to workers to work harder for higher wages, encourages productivity
Disadvantages of free market economy
- less equal wealth and income - owners of capital and land accumulate wealth over time which is passed to kids
- may not make non-profitable goods e.g. medicine for rare conditions (won’t seek enough for profit)
- can cause concentrated markets and monopolies which can be abused (e.g. coca-cola and Pepsi dominate market)
- disregulated markets lead to instability
- under providing ‘merit goods’ - many can’t afford them lowering social welfare e.g. education/healthcare
- lack of public goods
- over production of goods with negative externalities
- market failure due to information gaps
- unemployment/low worker pay
Command economy
An economy in which resources are solely allocated by the state
- often communist countries (USSR) - rarer now
- gov des ideas how resources should be allocated - often sets targets based on own subjective views of people’s wants
- market prices play little or no part in resource allocation
- gov owns & allocates resources
- allocates good through rationing
Command economy example
China/North Korea
Public sector
Part of an economy controlled/owned by the government
Command economy advantages
- prevents monopolies
- low unemployment - gov can find everyone a job
- maximises welfare - more control over economy so they can prevent inequality and redistribute income fairly
- ensure production of goods are those that people need and are beneficial to society - public goods
- can invest in infrastructure easily
- can protect environment easily, take into account externalities in decision making
Command economy disadvantages
- no profit motive, firms told what to produce leading to limited choices for consumers
- less quality/innovation - don’t need to make a profit
- less efficient - lack of completion which drives profit motive
- poor decision making - lack of accurate information (mainly comes from wealthy not normal/poor)
- slow to react to changing needs and wants compared to market
- planners for government not as accurate as market at determining prices - causes shortages/surplus
- weak incentives - lowers productivity/quality - lowers living standards
- government failure possible
Mixed economy
An economy in which resources are allocated by the state and price mechanism - mix of public and private sector
Gov often intervened when there is market failure (free market causing undesirable outcome)
- may change law/tax breaks - incentivise people
- buy/provide goods/services
Example of mixed economy
Uk and most other countries
State is made up of
- territory
- citizens
- government
Role of state in mixed economy
- regulates consumers/firms
- redistributes income through welfare planning
- allocated resources through planning
Adam Smith (1723-1790)
- shaped traditional economic theory - free market and its ‘invisible hand’ allocated resources in societies best interest as consumers and producers are both motivated by self-interest
- consumer demands and producers supply will lead to price levels being set at beneficial point for both
- will only work properly with no monopolies and low barrier entry to maximise competition
- founder of free market economics but recognised need for some gov. Intervention
Karl Marx (1818-1883)
- critical of free market - believed it created small ruling class of producers (bourgeoisie) schibboleth dominated and exploited larger working class (proletariat) - would continue till proletariat revolution whereby then everyone would have an equal share
- lead to rise of communism but ideas contained little about how command economies would actually work
Friedrich Hayek (1899-1992)
- supported market system and critisises command economies
- believed gov shouldn’t intervene due to lack of information and instead consumers and producers had the best knowledge
- Price mechanism is the best
- like Smith but more to the side of free market
