History of the Free Market

Characteristics of the U.S. Economy:

Freedom of Enterprise and ChoiceProducers are free to transform the factors of

production into (legal) products to sell

Consumers are free to purchase the products

Characteristics of the U.S. Economy:

CompetitionRivalry among producers/sellers of goods

and servicesencourages products that are innovative,

high in quality, low in price.

encourages efficient use of resources

Characteristics of the U.S. Economy:

Equal OpportunityEvery citizen has the right to gain an

education and to compete in the marketplace for wealth

Characteristics of the U.S. Economy

Binding ContractsAgreements between people that, once

entered into, must be fulfilled

Characteristics of the U.S. Economy:

Property Rights Individuals and businesses own the factors

of production, not the governmentPeople can also own their ideas and artistic

work

Characteristics of the U.S. Economy:

Profit Motive Because people have

the freedom to earn a profit, they have the incentive to work hard and produce quality goods/services

Characteristics of the U.S. Economy:

Limited GovernmentPreserves competitionProtects consumers, workers and the

environmentStabilizes the

economy

Market Economy: Flow

“The reason markets work so well is because one person’s output always becomes another person’s input.”

-- Ch. 3, p. 43

Adam Smith

Founder of modern economic thought

Wrote The Wealth of Nations in 1776

Self-Interest

“It is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but from their regard to their own interest. We address ourselves, not to their humanity but to their self-love, and never talk to them of our own necessities but of their advantages. Nobody but a beggar chooses to depend chiefly upon the benevolence of his fellow citizens.”

-- Adam Smith, The Wealth of Nations

The force that makes this possible:

the Invisible Hand of the Marketplace

The Invisible Hand:

“Every individual . . . neither intends to promote the public interest, nor knows how much he is promoting it . . . He intends only his own gain, and he is in this . . . led as if by an invisible hand to promote an end which was no part of his intention. Nor is it always the worse for the society that it has no part in it. By pursuing his own interest he frequently promotes that of the society more effectually than when he really intends to promote it.”

-- Adam Smith, The Wealth of Nations

How does it work?

Self-interest drives producers and consumers to help one another

Competition leads to more efficient production and lower prices

Jobs are created, trade occurs, the economy prospers, all without government intervention

This theory led to the doctrine:

Laissez-faire (“Let it Be”)Absence of government controlEconomic competition weeds out the

weak and preserves the strong (like natural selection)

Free Market System = Capitalism

The late 1800s and early 1900s was an era of rapid industrialization

Capitalism

Government stayed out of business, and monopolies formed, controlling prices and production

Capitalism

Millions worked long hours for low pay in dangerous factories and mines

no work-safety regulations, no minimum wage laws, no child labor laws, no social security or pensions

A Response: Karl Marx

Marx believed Capitalism would eventually destroy itself

Those at the bottom would rebel against the owners of the factories

Final Stage: Communism

A new society would rise in which all were equal and private property would disappear