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9/21/2016
Different Economic Systems
Scarcity refers to the limited supply of productive resources –
natural, human, and capital.
Every country must deal with the problem of scarcity since no
country has everything that its people need or want.
Economic Systems:
The Production, Distribution, and
Consumption of Goods
In a Nutshell: Economic Systems
Definition – the way societies deal with
scarcity
Every country must develop an economic system to determine how
to use its limited resources to answer the three basic economic
questions:
1.) What goods/services will be produced?
2.) How will goods/services be produced?
3.) Who will consume the goods/services?
The way a country answers these questions
determines its economic system.
Economic Systems
OR Can be categorized by: who owns the property 1.) Capitalism = individual ownership
Can be categorized by the way economic decisions are
made Market = individuals decide what, how, for whom & how much
to produce
Command = government decides
Tradition = determined by customs and traditions
Mixed- Most countries are mixed, since there are no true
pure market or true pure command systems.
2.) Socialism = key industries owned by gov; others owned
privately
(can be authoritarian or democratic in gov)
3.) Communism = common ownership
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Cowisms:
The following 2 cow terms will be extra-credit questions on
the next Econ. Exam ☺
Economic Systems:
E-Cow-nomics (Cowisms)
Back in the Day:
Feudalism:
You have two cows.
Your lord takes some of the milk
Economic Systems:
E-Cow-nomics (Cowisms)
Capitalism – you have 2 cows.
You sell one & buy a bull.
Your herd multiplies & the economy grows.
You sell them & retire.
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E-Cow-nomics (cowisms)
Economic Systems
E-Cow-nomics (cowisms)
Socialism -You have two cows.
The government takes them and puts them in a barn with everyone
else's cows.
You have to take care of all the cows.
The government gives you as much milk as you need.
Pure Communism – you have 2 cows.
The State takes both & gives you some
milk.
RUSSIAN COMMUNISM:You have two
cows.You have to take care of them, but
the government takes all the milk.
Cambodian Communism --You have two
cows. The government takes both and
shoots you.
E-Cow-nomics (cowisms)
Pure Democracy:You have two cows.Your neighbors decide who gets
the milk.
Representative Democracy --You have two cows.Your neighbors pick
someone to tell you who gets the milk.
Bureaucratism --You have two cows. At first the government regulates
what you can feed them and when you can milk them. Then it pays you
not to milk them. Then it takes both, shoots one, milks the other and
pours the milk down the drain. Then it requires you to fill out forms
accounting for the missing cows. In Triplicate!!!!
E-Cow-nomics (cowisms)
Pure Anarchy:
You have two cows
Either you sell the milk at a fair price
Or,
Your neighbors take your cows and
Kill You!
E-Cow-nomics (cowisms)
Fascism: you have two cows. The government
takes them both, hires you to take care of them
and sells you the milk at a high price
Nazism -- If you have 2 cows, the government
shoots you and keeps the cows.
Dictatorship:You have two cows. The government
takes both and drafts you.
TOTALITARIANISM:You have two cows. The
government takes them and denies they ever
existed. Milk is banned.
Traditional
Economies
Economic decisions are
handed down from
generation to generation.
Customs and traditions
from families answer the
3 basic economic
questions of
1. What to produce?
2. How to produce it?
3. And, for whom to
produce?
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Traditional Economic System
Traditional Economic System is different
from all other sort of Economic Systems
because it chose to answer all the three
questions with customs rather then with
reason.
Three Questions in Traditional
Economic System
Normally people decide what to produce
by looking at their needs,
because what ever their needs are, they are
going to produce every good themselves.
Based on Agriculture.
Example: Primitive African Societies.
There is not really any choice for
answering How to produce?
People produce according to their set
customs and how they had produced in the
Past.
Three Questions in Traditional
Economic System
There is a very simple answer to
For whom to produce? And that is
“for yourself.”
Normally every person has his own
farm where he grows his own
crops for entire year’s of
consumption.
Every body have got a couple of
cows for milk, hens for eggs and
cow and goats for meat.
Traditional Economy
Example:
A country that does
mostly farming or hunting
animals, with little or no
manufacturing
Strengths of Traditional Economies
Everyone knows their role
Little uncertainty over what to produce or how to
produce
The question of For Whom to produce is answered by
custom
Life is generally stable, predictable, and continuous
Independence: Every individual in this economic system
produces its own goods and services and so he is not
dependent on any body for his consumption.
Goods are fresh and healthy and contamination free
from air & water pollution.
Weaknesses of Traditional Economies
Tends to discourage new
ideas
Lack of progress leads to
lower standard of living
Lack of Efficiency:
Little growth
Less Variety of goods
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Command Economies
the government makes all economic decisions.
Individuals have little or no say about what goods and
services to produce and how to produce them.
The government decides how much something will cost and
which people receive training for particular jobs.
Also there is no concept of private property and every
resource is owned by the government.
The government even decides what the jobs people may have
The term “communism” & “socialism” applies to
command economies.
Examples: Soviet Union,
Cuba and North Korea
In Cuba, many people rely on their friends and bartering to get the goods
they need because of the government run command economy.
Command example:
a government may decide to use
all the steel to build railroad tracks
instead of cars
A government may use all the
country’s energy resources to
build up its military instead of
allowing its citizens the use of
energy for electricity.
Strengths of Command Economic
System
More Equal distribution of income and wealth: This is the prime
objective of any country when it tries to introduce Command
Economic System.
As there is no profit motive, and government allocates every resource,
this system discourages concentration of wealth in few hands.
This economic system is NOT-PROFIT driven so every project is
evaluated on its Social Costs and Benefits which takes in to account
any pollution, congestion or any other costs a project may cause to its
community.
These costs are normally ignored in Market economic system where
the sole aim to maximize the profits.
Weaknesses of
Command Economy
Not designed to meet the
wants and needs of individuals
Lack of incentives and profit
motive to work hard leads to
unexpected results
People with new or unique
ideas are stifled
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Free-Market Economy (Capitalism):
Economy with
private ownership,
free trade, and
competition
there is no or
minimal government
involvement.
Market (Free Enterprise)
Individuals make their own decisions about
what to produce,
how to produce it, and
for whom to produce it.
People and businesses make what they think consumers want.
Consumers have choices about which goods and services to buy.
Prices are determined by demand and supply. Markets
allow buyers and sellers to come together in order to
exchange goods and services
Also, referred to as Capitalism.
3 Questions in Market Economic
System
Market Forces (The dynamics of a
Free Market) & Demand and
Supply decide What, How, and for
Whom to Produce in market
economy.
Strengths of Market System
1.) Freedom of Choice
Wide variety of goods and
services
2.) More efficiency:
The sole aim for production in Market
system is Profit Maximization.
It is there for that each producer will come
up with more cost efficient ways of
production to cut the cost and increase the
profit margin.
Strengths of Market System –
continued…
3.) Market Economic system responds quickly to the
changing trends and desires of consumers:
As market economic system works on demand and supply, as soon as
demand for any product declinesmarket responds by reducing the production of that good or
service.
4.)Private ownership of property.
Weaknesses
The primary weakness is deciding for whom to produce
The young, sick and old would have difficulty in a
pure market environment
Markets sometimes fail:
Competition (monopolies may develop)
Resource mobility (resources are sometimes hindered
from moving about)
Availability of information (producers often have more
information than do consumers, which gives them
advantage)
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Mixed Economies
Mixed Economy
A system where both the
government and the free-market
forces work together to allocate the
resources of nation.
In some cases, the government is
more active
In other cases, the government lets
the market forces manage the
economy and only steps in where
market forces are unable perform
well.
Most countries are mixed, since
there are no truly pure market or
pure command economies.
Mixed Economy
Examples:
People can own and run
their own businesses, but
still have to follow
business laws that are set
by government
Minimum wage laws,
child labor laws, etc.
U.S., Japan
Think of a country’s economy as falling on a continuum like the
one below. The more government control of your economy,
the closer the country will be to pure command. Likewise, the
more individual freedom or choice, the closer the country will
be to pure market.
Pure
Command
Mixed Economy
O % Individual
Freedom
Pure
Market
100% Individual
Freedom
How do we move from one Economic
System to another?
How do we move from one Economic System to another?
Nationalization: This is a process
which takes place when you move
from Market Economic System to
Command Economic System.
The state just starts to nationalize various
industries of an economy which means
government take over the owner ship of
industries from Private owners and places
it under Government control.
This is what happened in Pakistan in
1970s under the rule of Prime Minister
Zulfikar Ali Bhutto.
Also, in Venezuela in 1999 under the rule
of Hugo Chavez
Summary
Privatization: This is a process
through which an Economic System
moves from Command to Market
Economic System.
In conclusion, I would just like to point out that
all Economic Systems are hypothetical except for
Mixed Economic Systems.
During Privatization, state offers
ownership of industries previously
held by public sector to the private
sector.
This is because practically there is no Economic
System on earth in which every thing is
controlled by government and also there is no
Economic System in which every thing is
determined through market forces.
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Summary
So it would not be wrong if we say that every
economic system in this world is a mixed
economic system.
Case of USA
USA is perhaps the single country in world which is most
close to Market Economic System. The government’s role in
managing the economy is perhaps the lowest in the world.
They just differ from each other to the extent
where there is more government interference in
one model then in another. Some systems are
more tilted towards Command Economic
Systems and some are more tilted towards the
Market Economic Systems.
How did we reach this conclusion?
Tax rates in USA are among the lowest in the
developed world
Government Spending in providing Public
Services like Health, Education as a proportion of
GDP is also lowest in USA.
The USA government believes and supports
Capitalism which is a distinct feature of Market
Economy.
Types of Trade Barriers
Tariff- a tax on imported goods
Quota- a set number limit of a particular good that can be
imported from a particular country
Embargo- a ban on trade with a particular country (example:
The United States has an embargo on Cuban goods)
Tariff- tax on imported goods
• A tariff is used to increase the prices of imported goods and
protect a country’s own industries from foreign
competition.
• When no tariff or other restrictions are placed on trade this
is called free trade. Many people argue that free trade is
necessary for increased economic activity world wide.
Others believe free trade only makes the economy
dependent on global markets rather than protecting the
stability of their own country’s economy.
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Embargo- ban on trade
The United States placed an embargo on
Cuba, which means there is no trade
allowed between the countries. The
embargo was imposed on Cuba in 1960
after the Cuban government took over U.S.
businesses and properties in Cuba during
the Cold War. It was meant to hurt Cuba’s
economy and a means of punishing Cuba
for the government’s actions.
Why Do Countries Trade With Each Other?
Trade maintains and improves relations between countries.
Trade allows countries to acquire goods and services, often natural
resources or raw materials, that it does not have available to them.
Trade allows countries to obtain products that other countries may
produce more efficiently and therefore are less costly.
International Trade is the exchange of goods
and services across international boundaries
or territories. This is due to interdependence
between nations because the more people
specialize and trade, the more interdependent
they become.
NAFTA (North American Free Trade
Agreement)
Free Trade agreement between the United States, Canada,
and Mexico
Lifts trade restrictions/ barriers and goods flow freely
between the three countries
Specialization- Specialization means that
people or nations produce a few special
goods and services and trade those
goods and services for other things that
they want.
International Trade
Some Basic Terms:
Imports – goods or services purchased from another country
Exports – goods or services produced in one country and then sold
to people in another country
Currency- type of money a country or region uses
Trade- the voluntary exchange of goods and services among people
and countries
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Economics vocabulary….
Currency exchange- The price of one
country's currency expressed in
another country's currency. In other
words, the rate at which one currency
can be exchanged for another.
Productive Resources- the natural, human, and
capital resources used to make goods and services
Why would countries need a way
To exchange their currencies?
Economics- the study of how people choose to use
scarce resources (natural, human, and capital) to
produce and distribute goods and services
Natural Resources- products of the earth that
people use to meet their needs
Goods- items that are useful to people
Services- actions performed to satisfy a need or to
fulfill a demand
• Capital- refers to something of value
(something worth money). The two types of
capital are……
1.
Entrepreneurs- people who provide money to start
and own businesses
capital goods (physical capital)factories, machines, technologies, buildings,
and property needed by businesses
2. human capital- workers (people)
Income- money a person gets from wages,
investments, profits, or others sources.
• Investment- using money in hopes of gaining
more money in return
–Types of capital investments – building a
new factory, buying machinery, equipment,
and purchasing new software for a
computer, etc.
– Types of human capital investmenteducation and training of people
GDP- (Gross Domestic Product)- total market value of all goods
and services produced in a country in one year
GDP per capita- A country’s GDP divided by the total
population. It represents what each individual would receive if
the GDP were divided equally between everyone in a country.
Standard of Living- financial health of a country as measured by
the number of material goods, health, and education of people
Literacy Rate- percentage of people who can read and write in a
country
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World Literacy Rate
high literacy rate = high standard of living
low literacy rate = low standard of living
Indicators that a nation has a high standard of
living and a high quality of life if…
the population growth rate is low
the population age distribution is even
The literacy rate, life expectancy rate and
percentage of urban people is high
the infant mortality is low
Answer the following questions:
1.
2.
3.
4.
5.
6.
What are some examples of investing in capital goods?
What are some examples of investing in human capital?
How would investment in human capital influence a country’s
GDP?
How would investment in capital goods influence a country’s
GDP?
Most countries have which type of economic system?
Explain.
Why do you think a country with a high literacy rate will have
a higher standard of living?
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