ECONOMIC SYSTEMS and AMERICAN FREE

ENTERPRISE

Economic Systems • Defn

• The ways a country answers the 3 basic economic questions determines which economic system they have

• 4 Economic Systems:Free Market (aka Free Enterprise,

Capitalism, and Laissez Faire)Command (centrally planned)Traditional Mixed

Economic Goals:• Shared by most societies

• Importance based on the needs and values of each society

1. Economic efficiency- making the most of resources

2. Economic freedom- Freedom from govt intervention in the production and distribution of goods and services

3. Economic security and predictability- Assurance that g & s will be available.

4. Economic equity- Fair distribution of wealth

5. Economic growth and innovation- GDP

Innovation leads to economic growth, and growth leads to a higher standard of living.

6. Economic stability- no drastic fluctuations in prices; no ups and downs

Traditional Economies:• People rely on traditions or customs

to make the what, how, and who choices

• Less common and usually found in rural areas/ less modern

• Based on agricultural industries

• Meant to meet local needs

• Kids tend to have the same jobs as their parents by gender

Command (Centrally Planned) Economies:• Govt owns factors of production

• Govt answers the 3 economic questions

• There is NO self-interest or competition

• Socialism- uses democratic means to distribute wealth evenly; tries to couple political equality with economic equality

• Communism- ALL power in hands of govt; usually preceded by violent revolution. It doesn’t allow democracy- usually authoritarian

ex- Soviet Union 1920-1991; Romania til 1989

Advantages of Centrally Planned Economies:

• Can jump-start select industries

• Guarantee jobs and wages

Disadvantages:

• Poor quality

• Serious shortages of non-priority goods and services

• Diminishing production

• Can’t meet consumers wants/ needs

• Lacks incentives/ rewards to workers; discourages change & innovation

• Lacks flexibility

• Decisions become overly complicated

• Sacrifices individual freedom for social goals

** Most command economies have moved toward mixed economies b/c they can’t meet consumer’s needs, were inefficient, and public unrest due to lack of freedom

Free Market:• Market- defn ex- mall, internet, catalogue, etc.

• Specialize- defn markets allow for easy exchanges of goods/services we specialize in for those that others specialize in

• Free Market- defn Ask yourself: who owns the factors of production??

• What motivates us? If this is true, how can we promote the best interests of society as well?

• Adam Smith- father of economics; Wealth of Nations He said we are guided by the invisible hand (defn) and competition regulates us.

4 Pillars of Free Enterprise:1. Private property- we

decide how to use/care for things we own; this gives us incentive to use our resources efficiently

2. Price system- prices guide us by giving us information about products/ resources; they also provide us with strong incentives

3. Market competition- scarcity makes firms and consumers compete for g & s

-firms compete for profits (defn) P=TR-TC

4. Entrepreneurship- encouraged by Free Mkt by providing incentives; this encourages growth

Circular Flow of G/S & Money:• Definitions: circular flow, households,

firms

• 4 components:

–Households

–Markets for Resources (Factor Mkt)

–Production of Goods and Services

–Goods and Services Market (Product Mkt)

Mixed Economies:• No economy is purely command or free-

some are more one than the other

• One advantage is individuals make their own economic choices but the govt provides goods and services people wouldn’t have otherwise

China is mixed on the side of command- they are in “transition”

Let’s compare economic systems (see tran)

American Free Enterprise: Goals of US economy-

* full employment- jobs for all who are able

* economic growth- higher standard of living (defn)

Gross Domestic Product (total value of all G&S produced in an economy) is one tool we use to measure economic growth/ business cycle (defn)

* stability

* freedom

* security

* equality

* efficiency

Free market needs govt intervention to provide what the mkt can’t/ ex??

Free mkt encourages economic growth.

Government’s Role in Free Mkt:• Do they have one? If so, what and to what

extent? Is public interest their job?

• Do they ever go beyond the boundaries?

• Is it fair to say, “majority rule but minority rights?”

• Is it right?

• To what extent are we a mixed economy?

• Should the govt intervene in the economy in an effort to make it better? Does this sacrifice any of our rights?

• Providing Public Goods:

–Public good (defn) a shared good or service for which it would be inefficient or impractical 1) to make consumers pay individually and 2) to exclude nonpayers

ex: roads, bridges, dams, space program

What would happen if you had to pay to have a road built in front of your house?

–private good (defn) goods that provide benefit only to the purchaser; these goods are produced b/c of the incentive the producer receives for it

–Free rider problem: people benefit from a G/ S & would not choose to pay for it

ex: Would you be willing to pay equally for your share of the costs associated with running the military?

Providing a Safety Net:• Why should we provide a safety net for those

who can’t seem to support themselves?

• As a society, we recognize some responsibilities to the very young, very old, sick, poor, and the disabled. They deserve to have at least a minimal standard of living.

• Govt attempts to do this by redistributing income through taxation and welfare programs such as cash transfers (social security, worker’s comp, unemployment), in-kind benefits (food stamps, WIC, legal aid, housing), medical benefits, and education benefits