Economic Systems

Pure Market Economy• No govt.

• Private firms account for all production

• Coordination of economic activity based on prices generated in free, competitive markets

• Resource owners have property rights to the use of their resources & free to supply those resources to highest bidder more $$$

Pure Market Economy• Producers free to make/sell whatever they believe will be

profitable

• Consumers free to buy whatever they can afford

• Markets answer what/how/whom questions

Pure Market Economy

• Adam Smith developed invisible hand idea

• Although each individual pursues his/her self-interests, the invisible hand of market competition promotes the general welfare

Pure Market Economy Problems

• Difficulty enforcing property rights• Market activity depends on people using scarce

resources to maximize satisfaction• What if you were repeatedly robbed of your paycheck

on your way home?• Private markets break down if participants could not

protect their private property or enforce contracts

Pure Market Economy Problems

• Some people have few resources to sell• Due to a variety of factors, some people have few

resources to sell in market economy• Markets do not guarantee min. income some people

have difficulty surviving

• Some firms try to monopolize markets• Producers will try to unfairly drive out competitors or

conspire w/other competitors to fix prices• Less competition meant firms charge a higher price to

earn more profit

Pure Market Economy Problems

• No public goods• Private firms do not produce public goods (national

defense)• Public goods are available to all, regardless who

pays/does not pay

Pure Centrally Planned Economy

• All resources are govt.-owned

• Production coordinated by the central planners of govt.• Also known as communism

• Central planners believe market economies produce too many consumer goods & too few capital goods

• Also believe that the govt. should provide a more even distribution of goods across households

Pure Centrally Planned Economy Problems

• State-owned enterprises face no competition

• Some goods/services are rationed; others are sold @ prices set by central planners• Each household gets an allotted amount of living space• Prices are generally inflexible

Pure Centrally Planned Economy Problems

• Consumers get low priority• Central plans reflect preferences of the central

planners rather than consumers• Since goods/services are rationed and/or offered at an

inflexible price, there is strong chance for severe shortages

• Little freedom of choice• Variety of products tend to be narrower than in a

market economy• Govt. planners may decide where people live & where

they work

Pure Centrally Planned Economy Problems

• Central planning can be inefficient• Running an economy so complex that some resources

are used inefficiently• Farm products• What to grow• What resources to employ• Who gets to consume the harvest

• In the Soviet Union, 1/3 of yearly harvest rotted while being transported to consumers

Pure Centrally Planned Economy Problems

• Resources owned by the state are sometimes wasted• Nobody has incentive to be employed in a job making

the most money, or to take care of capital resources• New trucks/tractors could be dismantled for parts• In regards to private property, those goods were

meticulously maintained

Pure Centrally Planned Economy Problems

• Environmental Damage• Theory – Central planners have a focus on the

country’s “common good”, which includes the environment

• Reality – Central planners more concerned with meeting goals rather than consequences of their decisions

• While building up their military, Soviet Union set off over 125 nuclear bombs above ground• Resulting craters filled w/water, creating

contaminated lakes

Lake Baikal

• World’s deepest and oldest lake in the world

• Site of the Baykalsk Pulp & Paper Mill• Constructed in 1966• Bleached paper with

chlorine• Discharged waste into

the lake• Discontinued production

in 2010

Pure Centrally Planned Economy

Mixed Economy• U.S. has mixed economy – market economy combined

w/govt. regulation• 1/3 of all U.S.-economic activity is from the government• Market economy – where consumers & producers meet

to buy/sell goods

• Govt. regulation includes:• Pure food/drug laws• Anti-trust laws

Transitional Economy• Economic system in the process of shifting from central

planning to market economy• 24+ countries currently involved in this process

• Involves privatization – converting state-owned firms into private firms

Traditional Economy• Economic system shaped by custom/religion

• India’s caste system restricts occupational choice

• In the U.S., some jobs are dominated by women and others by mens• Which jobs?