- In order to solve the basic economic problem of scarcity, economic systems emerge or are created by different economic agents within the economy
- These agents include consumers, producers, the government, and special interest groups (e.g. environmental or trade unions)
- The economic system aims to allocate the scarce factors of production
- Any economic system needs to decide how to answer the three fundamental economic questions
- What to produce? More weapons for the military or more schools to educate the children?
- Who to produce for? Only those who can afford to pay for it? Or for everyone in society?
- How to produce it? Should more labour be used or should the economy focus on using technology instead?
- Adam Smith, Karl Marx and Friedrich Hayek had very different ideas about how these questions should be answered
The Distinction Between Free Markets, Mixed and Command Economies
- A free-market economy is an economy that has no government intervention in the allocation of resources and distribution of goods/services
- A command economy is an economy in which all of the resources are owned by the state and the government controls the distribution of goods/service
- A mixed economy is a blend of the free market and planned economy as individuals, firms and the government own factors of production and distribute goods/services
- Each economic system has numerous advantages and disadvantages. Understanding the strengths and weakness of each system helps policy makers to tackle the disadvantages head on while building on its strengths
The Advantages and Disadvantages of Free Market Economies and Command Economies
|Type of Economy||Advantages||Disadvantages|
|Free Market Economy||
Multiple choice questions often explore your understanding of the different characteristics of free market, mixed and planned economic systems.
When answering structured questions that ask you to discuss/explain the difference between two systems, ensure that the disadvantages of one system are not always just the opposite points to the advantages of the other system. Develop some unique points for each system.
- Some mixed economies have a higher level of government intervention than others
- Government intervention occurs mainly through taxation (to raise revenue) and then spending that revenue to redistribute income and provide essential goods/services
- There are many different type of tax intervention including personal income tax, corporation tax, value added tax, tariff on imports, inheritance tax etc.
- Income is redistributed through the creation of a welfare system which often includes unemployment benefits, healthcare, and pension provision
- Government spending is often focused on infrastructure, merit goods (e.g. schools) and public goods (e.g. national defense)