Let's talk about the different types of Economic Systems.
The objective of this section is to efine
economics
and describe the two types of economic systems:
capitalism and command economy.
Economics is the study of how wealth is created
and distributed.
By “wealth” we mean anything of value.
“How wealth is distributed” simply means
“who gets what.”
The way in which people deal with these two
issues
determines the kind of economic system, or
economy, that a nation has.
Economics is usually studied from two perspectives:
Microeconomics is the study of the decisions
made by individuals and businesses.
Macroeconomics is the study of the national
economy and the global economy.
Factors of production are the resources used
to provide goods and services.
There are four such factors.
Land and natural resources—Elements in their
natural state that can be used in production,
such as crude oil, forests, minerals, land,
water, and even air.
Labor—Human resources such as managers and
employees.
Capital—Money, facilities, equipment, and
machines used in the operation of organizations.
Entrepreneurship—The willingness to take
risks and
the knowledge and ability to use the other
factors of production efficiently.
An entrepreneur is a person who risks his
or her time, effort, and money to start
and operate a business.
A nation’s economic system significantly
affects all the economic activities of its
citizens and organizations.
A country’s economic system provides answers
to four basic economic questions.
What goods and services—and how much of
each—will be produced?
How will these goods and services be produced?
For whom will these goods and services be
produced?
Who owns and controls the major factors of
production?
Capitalism is an economic system in which
individuals own and operate
the majority of businesses that provide goods
and services.
Adam Smith in his book, Wealth of Nations,
published in 1776,
argued that a society’s interests are best
served when the individuals within that society
are allowed to pursue their own self-interest.
Adam Smith created the concept he called the
invisible hand,
which describes how a business owner’s personal
gain benefits others
(through the product that is produced or through
the wages that are paid to workers)
and a nation’s economy (through increased
GDP, taxes, exports, etc.).
Adam Smith’s capitalism is based on four
fundamental issues as shown in Figure 1-4.
First, the creation of wealth is properly
the concern of private individuals, not of government.
Second, private individuals must own the resources
used to create wealth,
and the owners of resources should be free
to determine how these resources are used.
Third, Smith contended that economic freedom
ensures the existence of competitive markets
that allow both sellers and buyers to enter
and exit as they choose.
The freedom to enter or leave a market at
will has given rise to the term market economy
(sometimes referred to as a free-market economy)
an economic system in which businesses and
individuals make the decisions
about what to produce and what to buy;
the market determines how much is sold and
at what prices.
Finally, in Smith’s view, the role of government
should be limited to
providing defense against foreign enemies,
ensuring internal order,
and furnishing public works and education.
With regard to the economy, government should
act only as rule maker and umpire.
Smith believed that each person should be
allowed
to work toward his or her own economic gain,
without government interference.
The French term “laissez faire” describes
Smith’s system;
loosely translated it means “let them do”
(as they see fit).
Capitalism in the United States.
The U.S. economy is a mixed economy because
it exhibits elements of both capitalism and socialism.
In today’s economy, the four basic economic
questions are answered by three groups as
shown in Figure 1-5.
Households are consumers of goods and services,
as well as owners of some of the factors of
production.
Approximately 70 percent of U.S. production
consists of consumer products for personal consumption.
As “resource owners,” the members of households
provide businesses with labor,
capital, and other resources.
As “consumers,” household members use
their income to purchase the goods and services
produced by business.
Like households, businesses are engaged in
two different exchanges.
They exchange money for natural resources,
labor, and capital;
and they use these resources to produce goods
and services.
Then they exchange their goods and services
for sales revenue.
Government provides a variety of services
that are considered important but either
(a) would not be produced by private business
firms or
(b) would be produced only for those who could
afford them.
Examples would be national defense, police/
fire protection, education,
and construction of roads and highways.
Command Economies.
A command economy is an economic system in
which the government decides
what will be produced,
how it will be produced,
for whom available goods and services will
be produced,
and who owns and controls the major factors
of production.
Two types of economic systems serve as examples
of command economies.
In a socialist economy, the key industries
are owned and controlled by the government.
Depending on the country, private ownership
of smaller businesses is permitted to varying degrees.
What to produce and how to produce it are
determined in accordance with national goals.
In a communist economy, almost all economic
resources are owned by the government.
The basic economic questions are answered
through centralized state planning,
which also sets prices and wages.
Emphasis is placed on the production of goods
the government needs
rather than on the products that consumers
might want.
Karl Marx was the father of communism.
