Economic Systems

Chap 2.1

Political Systems• Over the course of time different systems have

evolved to deal with the issue of scarcity• The system a country adopts depends on the

goals of the country• Every society has to answer these questions:

a) What goods and services will be produced?b) How will they be produced?c) Who consumes the goods and services?

• These questions create dilemmasdefense or educationwelfare or consumer goodsguns and butter

Goals of Society• Economic Efficiency – most societies try to

maximize the return on their resources• Economic Freedom – different economic

systems allow different degrees of economic freedom

• Economic Security and Predictability – people want to know that their government will work for them and protect them – safety net

• Economic Equity – who gets what? Do the unemployed deserve the same as the employed. Should teachers be paid more or less?

• Economic Growth and Innovation – only when the economy grows will the standard of living improve. Innovations improve efficiency. Think internet

• Other possible goals – the environment, full employment, healthcare

Economic Systems• 1. Traditional Economies – relies on customs,

habits, and traditions.a) little change or innovationb) work usually along gender linesc) usually small, close-knit communitiesd) usually hunter-gatherer societiese) generally a low standard of livingf) examples include: almost every African country, Burma, Bangladesh

• 2. Command Economies – only the central government decides economic decisions a) also called command economiesb) main goal is to look after the peoplec) no competitiond) examples include: Cuba, China, North Korea

• 3. Mixed Economies – market-based system with government playing a limited rolea) most modern economies are mixedb) government controls fiscal and monetary policiesc) the accumulation of capital is the main goald) examples include: Italy, France, Spain

• 4. Market Economies – economic decisions are made by individuals, based on exchangea) laissez-faire - advocated by Adam Smithb) also called capitalism or free marketc) is very competitived) examples include: United States, Canada, Great Britain

Examining Issues

• In America, economics controls politicsRepublicans – individuals should take care of themselves with very limited help from the governmentDemocrats – the government should take care of the society (socialism)

• The bailouts – at least $8.5 TRILLION and growing

The Free market

Chap 2.2

The Free Market• Markets are everywhere• A market is a place where buyers and sellers

meet ie. Farmer’s market, stockmarket, Starbucks

• They exist because we need to trade – we exchange what we have for what we want

• Most people specialize in one skill or trade • Specialization is the most efficient use of

resources• Wages (money) is a medium of exchange for

other goods and services; hence the need for markets

Circular Flow Model of a Market Economy

• Firms purchase the factors of production from the people and then pay them wages for their labor – this is the factor market

• People purchase goods and services that firms provide – this is the product market

• A successful company sells the right product at the right price

• Too expensive or too cheap and the company will go out of business - $100 pencil

• According to Adam Smith, it is competition that keeps the marketplace functioning

• Smith wrote The Wealth of Nations and claimed self-interest is the greatest motivation

• Consumers will look for the lowest price• Lower prices are incentives• Producers will look to make the greatest profit• Competition amongst consumers regulates the

free-market• Incentives can be monetary or rewards• Smith said the invisible hand will regulate the

markets• Transfer payments can be made by governments

or businesses for no service ie. Food stamps, social security, even stimulus checks

Advantages of the Free Market• Economic Efficiency – self-regulating markets

can respond quickly to changes or fads ie. Cabbage patch dolls, Boot Camps, Pokieman

• Economic Freedom – free markets have the greatest degree of economic freedom

• Economic Growth – competition encourages growth. Entrepreneurs are always seeking an advantage

• Additional Goals – free markets offer more choices determined by the consumer – consumer sovereignty

Centrally Planned Economy

Chap 2.3

Centrally Planned Economy• The government tells firms what to produce and

how much

• The government owns the land, capital, and tells the labor where to work

• There is no competition

• There is no consumer sovereignty

• Socialism: a social and political philosophy that wealth should be equally distributed

• Socialism requires central planning

• In socialist countries the government owns major industries ie. Trains

• Socialist countries could have democracy

• Communism: all economic power is in the hands of the government

• They believe in the need for a violent revolution

• Communist countries cannot allow democracy

• True Communism has never existed!

Soviet Union

• Created in 1917 under Lenin, a socialist• Central planning was introduced in 1920 and

lasted until 1991• Soviet planners allocated scarce resources to

the military and the Space Race• The government created large state-owned

farms called collectives• The government monitored output• Soviet planners favored heavy industry, the

military, and the Space Race• Consumer goods became the opportunity costs

• Producers focused on quantity, not quality

• There was no incentive

• Food, accommodation, luxury items were scarce – but available on the blackmarket

Disadvantages of Centrally Planned Economy

• Guaranteed jobs removed incentives

• Workmanship was poor

• Stalin’s Five-year Plans had success in industry but were a disaster in agriculture – why?

• There was no place for innovation

• Individual freedoms were sacrificed for societal goals

• Ultimately most planned economies failed

Modern Economies

Chap 2.4

Mixed Economy• Most countries have a mixed economy – to

some degree

• However, government involvement has increased because problems have become greater ie. Banking collapse

• In America, private property is very important

• Society has to prioritize its economic goals and opportunity costs:Should taxes pay for the military?Should the unemployed receive benefits?What should the minimum wage be?

Circular Flow Model of a Mixed Economy

United States• The United States has a free market economy,

but there is government involvement

• Laws protect private property and the rule of law

• The government tries to act as a referee with few regulations

• Foreign investment is encouraged and protected

GlobalizationGlobalization

• Globalization is the integration of national economies of the world that we may be witnessing operation of a single worldwide economy.

• Benefits include:A) Expanded trade with new people and products. B) Income per person has increased in countries that have opened up their economies to globalization. C) Developing countries have seen the benefit of reduced hunger and child labor.D) Increased life expectancy.

Exports per Country

Country Exports (2010)

World $14,920,000,000,000

EU $1,787,000,000,000

Germany (1) $1,337,000,000,000

USA (2) $1,270,000,000,000

GDP