Chapter 2

Economic Systems

Economic System
The way a society uses its scarce resources to satisfy unlimited wants and needs This determines the answers to the three questions: What to produce, How to produce, and For Whom. All countries today have a mix of systems

Section One: Introduction to Economic Systems

Three basic types of economic systems:
Traditional Command Market

There are no countries with these actual systems, all have a mixture of some kind

Theory of Traditional Economy

Families or tribes make economic decisions based on culture and tradition Based on beliefs and customs handed down through the generations One goal is simply to survive and everyone has a role in meeting this goal The good of the group always is put before individual preference Sometimes found within another economy as a separate society (Amish, tribes in South America and Africa, etc.)

Theory of Command Economy

The government decides what goods and services to produce, how this will be done and who will get them Government makes these decisions based on their judgment rather than citizen preference Government often owns means of production natural resources and factories North Korea and Cuba are closest to this

Theory of Market Economy

Individual makes the economic decisions Consumers spend money the way they wish, enter into business, sell their labor to whomever they want. Producers decide what to produce and how to use their resources to make the most money possible Individual act in their own self-interest which, in theory, benefits others (Adam Smiths theory)

Characteristics of Traditional Economy

Advantages:
It clearly answers the three economic questions Produces what is best to ensure the survival of the society with little disagreement over goals and roles

Disadvantages
Resistant to change, less productive than other economies, often no personal preference about role they play or use of skills/talents of the individual No development of wealth so standard of living is lower

Characteristics of Command Economies

Centrally planned economy leaders decide specifics such as wages, who gets those wages and how they are spent
What businesses can operate in your town What these businesses would produce and how much Who would work in these businesses and how much each of them would earn

Problems with Command

Individual preferences are not often taken into consideration Development is often limited to specific areas
former Soviet Union space travel North Korea weapons and arts

Lack of incentive (may even be restricted)

Characteristics of PURE Market

No government regulation or involvement Based only on supply/demand Right to own property and make a profit Right to accumulate wealth

Disadvantages of Pure Market

No Government controls Greed and corruption are not limited Environmental concerns are not addressed Working conditions and worker pay are not priority No way to provide public goods to those who cannot get them on their own Tends to be a gap in standard of living class system can develop

Mixed Economies
Authoritarian Socialism
Communism

Democratic Socialism
Socialism with citizen input

Capitalism
Market with government control the more control the government has, the closer it moves to socialism

Authoritarian Socialism**
Closest to the pure command model Often called Communism Government controls all factors Government often develops a long term plan for how resources are used and production is distributed - Cuba May have a repressive government - North Korea May have elements of other types of economies - China

Authoritarian Socialism **
Government answers the three questions (central planning) Often a dictator or religious authority People have little or no say in their economic lives Examples:
North Korea (closest to pure command) Some areas in Africa (tribal leaders) Islamic nations Parts of China

Problems with Authoritarian Socialism **

Technological advancements are not encouraged except in the selected areas (former Soviet Union and space travel) All resources tend to be concentrated in one area (North Korea military related production) Human rights are often not a priority (worker rights, reproductive rights, family choices, etc)

Democratic Socialism **
Mix of market and command Government owns some factors of production
Often limited to utilities, telephone networks and natural resources Control of these factors are often influenced by individuals through democratic elections

May include a Monarchy

Examples of Democratic Socialism in the United States **

Control of banking industry through Federal Reserve Infrastructure (bridges, roads, etc) Military Schools Police and Fire protection Public Libraries Social Security and Social Welfare Systems

Other Democratic Socialism Countries

Sweden Poland France Angola Mozambique Tanzania Great Britain (although also strong Capitalism)

Capitalism **
Closest to Market Individuals own the factors of production and answer the three questions Government does regulate to prevent market inequalities such as:
Environmental Protection Working Conditions and wage rates Product Safety

Problems with Capitalism **

Tends to favor business over worker Political influence over amount of government regulation (a key difference between Republicans and Democrats in our country) Regulation limits corporate profit

Examples of Capitalism **
United States Canada Mexico Japan All of these have elements of Democratic Socialism education, medical care (except US), natural resource management, etc.

Market Economies (Capitalism) Fundamentals

Right to own property Limited government involvement does not mean NO involvement means government only steps in when and where necessary (example: economic crisis) Voluntary exchange buying and selling occurs because both parties benefit Specialization and Markets people concentrate their efforts in the areas they do best (advantages) Competition and Consumer Sovereignty consumers are free to purchase what they want (ultimate control over what is produced)

Circular Flow of Free Market *

Example page 53 A circular flow model shows how the economic sectors relate to one another The free market model shows interaction between us (households) and businesses This is divided into product market and factors market

Factors Market
Households sell their resources (particularly labor and entrepreneurship to businesses.) In exchange for the resources, businesses pay income to households

Product Market
Businesses sell goods and services to households Households send payments for goods and services to businesses.
consumer spending and business revenue

Trends in Modern Economies

Changes in ownership
Moving toward a market or Capitalistic system often leads to privatization of resources (former Soviet Union) Moving toward command or Authoritarian Socialism often leads to nationalization of resources (Venezuela)

Economies are becoming more global in trade, business ownership, sharing of research and development expenses, etc

What type of economy do you have and WHY

Who owns and controls the natural and capital resources? How are workers paid and how much independence do they have Private ownership of businesses? Elected Government in true elections?