Notes on economic systems

1. Economic Systems
Presenter: J. Pitterson

2. The Economic Problem
 Limited resources but unlimited wants
results in scarcity
 Scarcity is the economic condition
where all resources, though plentiful,
are not sufficient to meet humans
wants

3.  The problem of scarcity forces the
main economic agents (Households,
Firms & Government) to make choices
 These economic agents decide how the
scarce resources will be allocated, i.e.
the distribution of the economic scarce
resources among alternative uses

4. How Does The Economy
Work?
 The country must answer 3 basic Economic
questions:
 What goods and services should be
produced?
 How should the goods and services be
produced?
 For whom should the goods and services
be produced?
 The way a nation answers these questions
defines their economy.

5. Zeroing on the questions:
 What to produce?
 Since resources are scarce they must be
used to produce the most needy products
and in the most efficient way
 Should the economy produce only basic
items that people need (food, clothing,
shelter, health care, education) or what
they want (cars, designer clothing)

6.  How to produce?
 The method of production (flow, batch or
job), type of raw material and type of
labour should be decided on
 Capital intensive vs. labour intensive
production
 Scale of production: large or small scale

7.  For whom to produce?
 The economy must allocate the final
product to the different groups in society
 A decision on how the products will be
distributed should also be made. Some
goods are distributed on the ability to pay
the price while the government might
distribute goods on a basis of needs e.g
subsidize housing, free tuition and
healthcare

8. Types of Economic Systems
 There are four types of economic systems:
 Traditional or Subsistence
 Market or Free System
 Command (or Planned) System
 The Mixed Economy

9. Continuum of Economic
Systems
Command
Economy
Market or
Free
Economy
Mixed
economy

10. Traditional or Subsistence
Economy
 Features:
 People find food for
themselves and trade
for needed goods.
 No companies or
governments involved
 This system is found
among herders or small
farmers

11. Features of Traditional cont’d
 There is no money in
the economy
 Private individuals own
and allocate resources
 The economy is closed
to outside trade and
external influences
 Resources are passed
on by ancestors

12. Advantages & Disadvantages
 Advantages
 Sustainable system – there is little negative
impact on the environment
 The chance of overproduction is low
 Disadvantages
 Low living standards
 Poor health and education as there is no
government to provide these services

13. The Command Economy
 The Government controls the factors of
production and makes all the decisions The
government is responsible for answering the
three economic questions e.g. Cuba
Workers arrive at a factory in the
old Soviet Union in 1929.

14. Features of Command System
 The State owns all the factors of production and
business units
 The State makes laws, provides infrastructure
and is involved in production
 There is no private sector
 All workers are employed by the State
 There is restricted choice for the consumer
 Prices are usually fixed

15. Advantages of the Command
System
 Wastage of resources would be reduced since the
state makes the decision as to what is produced
and directs resources into these areas.
 Profits gained from State industries may be used
to provide goods and services that private
enterprise would be unwilling to provide, e.g.
hospitals and other welfare services.

16. Advantages of the Command
System cont’d:
 Since the State determines the price of
goods and the amount paid in salaries, no
group of workers by themselves can force
prices up
 Income is more evenly distributed
 It is not possible for private monopoly to
develop

17. Disadvantages of the
Command System
 Free enterprise and competition are
discouraged.
 There is wastage of manpower since there
will be many non-productive government
officials who are required to administer the
system.
 What the country needs may not necessarily
be what the people want.

18. Disadvantages of the
Command System cont’d:
 Centralized production may not respond quickly
enough to changing conditions and needs
 Creativeness and efficiency are not encouraged
 Production usually takes place ahead of demand
and this could lead to waste
 The lack of scope for individual incentives may
lead to a lack of initiative

19. The Market/Free Economy
 An economic system
characterized by private
ownership of businesses
and marketplace
competition
 The United States and
Japan are examples of a
Market Economy
New York Stock Exchange

20. Features of the Market
Economy
 Private individuals own all the factors of
production and business units
 The government makes laws and provides
infrastructure
 Private sector owns and allocates resources
 Resources are allocated through the price
mechanism, i.e. Demand and Supply
 Producers are guided by the profit motive
 There is freedom of choice

21. Advantages of Market
Economy
 Manufacturers are free to produce what the
consumers require and the customers are free to
spend their money on whatever goods they want
 A large variety of goods and services are produced
to satisfy the needs of the consumer.
 Decision making is not controlled, so there is
greater participation in the decision on what is to
be produced to satisfy the needs of the consumer.

22. Advantages of Market
Economy cont’d
 There is little government intervention in this
type of economic system.
 There is a greater degree of competition as
goods and services providers fight for a share of
the market.
 The market economy is adaptable to changes
that may arise from time to time.

23. Disadvantages of Market
Economy
 The main aim of businesses is to make a profit
thus, only those goods that yield the highest profit
will be produced.
 Consumers could be exploited through the
imposition of high prices for essential goods if
there is insufficient competition among producers
or government regulation of businesses.

24. Disadvantages of Market
Economy cont’d.
 It encourages inequalities of wealth
 The more powerful businesses may buy
out the smaller ones, thus reducing
competition
 Wealthy people are more able to purchase
and influence the market than the poor

25. Mixed Economies
 All economies are mixed they are classified
based on how much the government is
involved in the process

26. Features of Mixed Economy
 Many products are provided only by private sector
businesses not by the state, cars, computers and mobile
phones
 Most essential services, such as police, fire service,
defense, street lighting, social services, etc., are produced
by the state
 Many important goods and services, which can benefit
society as well as the consumer are provided by both the
state and the private sector

27. Features of Mixed Economy
 In order to finance state-operated services, the
population pays taxes to the government
 The government places limits on the nature of
business activity by taking measures to control
pollution from factories and by restricting
monopoly powers of some firms
 More equitable distribution of income than the
free market

28. Advantages of Mixed Economy
 The government is allowed to intervene in areas of
the economy to collect taxes and pass laws to
protect citizens from unfair trading practices
 Social costs like pollution are kept at a minimum
 Both the private and public sector may unite in
producing goods
 Government protects the consumers and
producers by setting minimum and maximum
prices of goods

29. Disadvantages of Mixed
Economy
 Some government-owned industries are allowed
to run inefficiently because they are supported by
government subsidies
 Government may regulate the economy so tightly
that this dampens the free enterprise spirit
 When the government intervene in the market to
set price controls, this may either cause excess
demand ot excess supply which can be costly to
regulate

30. Economy Ownership of the factors
of production
Role of government Role of private sector How resources are allocated
Traditional The entire society owns
resources; they are passed
on to future generations by
ancestors
No formal government No formal private sector,
however, private individuals
allocate resources based on
what was done by ancestors
Decisions are based on
customs and habit
Command State Allocates resources and is the
producer of goods and services
None Central planning authority
allocates resources based on
the state’s decision as to what
is best for individuals and the
economy
Free market Private individuals  Provides the framework
of laws
 Provides the aids to
trade: roads, water
electricity
 No role in the allocation
of resources
 Owner of factors of
production
 Allocates scarce
resources
Price mechanism
Mixed Government and private
individuals
 Provides the framework
of laws
 Provides the aids to trade
 Producer of some goods
and services
 Owner of factors of
production
 Allocates scarce
resources
 Government
 Price mechanism