ECONOMIC SYSTEMS AND DECISION MAKING. Understanding Economics - Chapter 2

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1 ECONOMIC SYSTEMS AND DECISION MAKING Understanding Economics - Chapter 2

2 ECONOMIC SYSTEMS Chapter 2, Lesson 1

3 ECONOMIC SYSTEMS Traditional Market Command Mixed! Economic System organized way a society uses its resources to provide for the wants and needs of its people! This is how it answers the three questions, WHAT, HOW and FOR WHOM.

4 TRADITIONAL ECONOMY! Traditional economy economic system in which the allocation of scarce resources is the result of ritual, habit or custom.! People s roles are defined by the customs of their elders and ancestors.! Job or roles are often handed down generation to generation.! Decisions are made according to historical pattern.! Often have a tradition of sharing and can survive as long as there are skilled hunters and farmers! The three questions of WHAT, HOW and FOR WHOM are answered according to tradition things are done they way they were always done.! Examples: African Mbuti, Australian Aborigines or Inuit of North America

5 TRADITIONAL ECONOMY Advantages! Roles are clearly defined.! Family and community ties are strong. Disadvantages! Change and new ideas are discouraged, so methods of production are inefficient.! Stagnation lack of progress! Choice of consumer goods is limited.! You are not allowed to choose a role different from the one given to you by tradition.! Lower standard of living

6 COMMAND ECONOMY! Command economy economic system characterized by a central authority (government) that makes most of the major economic decisions.! A central authority or government makes the decisions WHAT, HOW and FOR WHOM to produce.! This central authority can be a king, dictator, president or tribal leader or the government led by them.! Characterized by socialism economic system in which government owns factors of production and has a role in determining what and how goods are produced.! In a pure command economy, the government makes ALL decisions about WHAT, HOW and FOR WHOM.! Most command economies severely limit private property rights. (People cannot own homes and businesses.)! Some governments are generous with their country s wealth and share it with the people. Some governments hoard the wealth for the leader, and the people are left poor.

7 COMMAND ECONOMY! Command economy economic system characterized by a central authority (government) that makes most of the major economic decisions.! Decisions made by the government are not necessarily made for the people.! Examples of pure command economies: Cuba, North Korea, Venezuela! There are few examples of pure command economies as many of these countries have transitioned to capitalist economies. (Ex: Soviet Union)

8 COMMAND ECONOMY! Advantages:! Can change direction quickly! USSR went from agricultural to industrial in a few decades in the early 1900s.! Governments may provide goods and services some people cannot otherwise afford.! Universal healthcare, free education! Equality for the population! The majority of the population has the same income and same standard of living this is called income equality.

9 COMMAND ECONOMY! Disadvantages:! Leaders provide for themselves at the expense of the population.! Only government officials are in the upper class.! There are many people who are poor and may have to go without necessities.! North Korea has high spending for defense while people go without food.! Individuals do not have the freedom to choose! Even if you don t want national healthcare services, you have to pay for it anyway.! You may be told where to live or what type of job to have.! Media is free but controlled by the government. People only have access to propaganda.! Low quality goods! Workers are given quotas as motivation, not quality.! Large decision making bureaucracies! This slows decision making and raises the costs of production.! Decision makers are motivated by politics, not economics.

10 COMMAND ECONOMY! Disadvantages:! Little motivation to work hard! Workers are paid whatever the government decides and cannot get ahead by working harder or showing inventiveness.! Even a doctor may not make much more than a factory worker all wages are uniform.! This diminishes the motivation for people to become educated or learn new skills.! Decision making bureaucracies lack the flexibility to handle problems in a timely fashion.! As a result, they tend to go from crisis or crisis or even to collapse altogether.! Cannot react to global economic issues such as agricultural shortages or changes in prices for natural resources.! Command economies stay relatively small because they have a hard time making the decisions necessary for growth and change to take place.! When an economy reaches a larger size, such as the former Soviet Union, it is so hard to coordinate decisions that the country can collapse without outside pressure.! Limited consumer choices! Individuals are not free to start new businesses.! TINSTAAFL! Countries with free universal health care and free education (such as Denmark, Norway and Sweden) have very high taxes to pay for these services.

11 MARKET ECONOMY! Market meeting place or arrangement through which buyers and sellers interact to determine the price and quantity of goods and services.! Market economy economic system where WHAT, HOW and FOR WHOM decisions are made by individuals acting in their own self-interest! Characterized by freedom! People decide WHAT is produced by what they choose to buy.! Businesses are free to decide HOW to produce.! Individuals decide FOR WHOM by what they choose to buy.! Characterized by private ownership of resources! Characterized as capitalism economic system in which private citizens own and control the factors of production in order to generate profits.! The role of the government is limited.! Many of the most prosperous economies in the world are based on markets and capitalism: Australia, Canada, U.S., Great Britain, South Korea, Japan

12 MARKET ECONOMY! Advantages:! Freedom! Individuals are free to buy what they want, get any education they want, have any job they want, start any business they want.! Businesses are free to produce what they want, hire who they want and produce the way they want to produce.! The economy adjusts gradually to change over time.! Example: As fuel prices change, we change what types of vehicles we want to buy and businesses change what types of vehicles they produce.! Minimal government interference in the economy! Except for some regulation, government does not interfere in transactions between buyers and sellers.! Decision-making is decentralized! We, as individuals, make decisions about what the economy produces by what we choose to spend our money on. Individuals control the economy, not government.

13 MARKET ECONOMY! Advantages:! There is a wide variety of goods and services consumers can choose from.! If a product can be imagined, someone can build a business to produce it, and it becomes available to be bought.! There is a high level of consumer satisfaction.! Consumers can always find the products they want because such a wide variety of products are available.! Production is more efficient.! Because workers can be rewarded for hard work and inventiveness, they are motivated to find better and less expensive ways to produce products.! Private ownership of property! Property lasts longer and is better maintained because the individuals that own it care for it.! Property that is government owned or collectively owned is not cared for by any person.

14 MARKET ECONOMY! Disadvantages:! In a pure market economy, you must work to survive.! Individuals who cannot or do not work have no way to earn income.! A market economy may not provide enough of some basic goods and services.! Private markets do not supply all of the roads and libraries people would like to have.! Private markets do not supply free education and free healthcare.! Market uncertainty! Will a new business come along and take away the customers of existing businesses?! Will existing businesses move their operations to foreign countries?

15 DISADVANTAGES OF A COMMAND ECONOMY Output per capita is 18 times larger in South Korea than North Korea.

16 MIXED ECONOMIES Chapter 2, Lesson 2

17 MIXED ECONOMY! A mixed economy is the most common type of economic system.! There are many types of mixed economies.! Mixed economy economic system that has some combination of traditional, command and market economies.! Mixed economies exist because economic systems tend to change over time in response to crisis or because some things don t work the way they are currently done.! Example: Stalin rose to power in Russia in 1929 and changed the country from a peasant society into an industrial and military powerhouse as a command economy. Many countries tried to follow this model.! Example: Russia s socialist economy then collapsed in 1991 and the economy reverted to a mixed economy.! Example: Prior to the Great Depression in the 1930s, the U.S. was a powerful industrial country founded on free market principles. In response to needs by many during this decade, the government instituted many non-free market programs such as unemployment insurance, minimum wage, social security and price supports for agriculture.

18

19 MIXED ECONOMY! Mixed economy economic system that has some combination of traditional, command and market economies.! Characteristics vary with the varying degrees of market, traditional and command economies.! More market economy private ownership of productive resources! More socialist command economy government makes more of the decision about the three questions! More command economy government ownership of most of the productive resources! The more socialist an economy is, the more likely the political system is to be communist.! For example, Cuba, China and Vietnam are more economically socialist and politically communist, with no democracy at all.! The more market and capitalist an economy is, the more likely it is more economically developed.! Most economies are some form of a mixed economy.

20 COMMUNIST ECONOMIES! Communist economic philosophy originates with economic philosopher, Karl Marx ( ).! Communism (according to Marx) a state of economic and political affairs where everyone would contribute according to his or her abilities and consume according to his or her needs.! No government is ultimately needed in this utopian society.! During the transition to communism, a strong government is needed to serve the needs of the people. (???)! Because communist nations have such powerful governments, they are command economies.! Communism would start with the struggle between workers and property owners, where workers would rise up and overthrow the property owners.! No true example of Marx s communism exists in the world today.

21 MIXED SOCIALISM! Under socialism, the government controls some but not necessarily all of the resources.! Under socialism, the government provides some of the basic needs of the people.! Education, jobs, transportation and health care.! China is a mixed economy! Traditional economies exist in the rural areas while government makes the economic decisions and owns the factors of production (command)! Cuba, North Korea and the former Soviet Union have socialist governments that control virtually all of the resources.! Venezuela transitioned to a socialist country in 1999 when the government nationalized the corporations and redistributed property.

22 MIXED MARKET ECONOMIES! Norway government owns the petroleum industry, but individuals own and control most other resources. The government does provide social welfare programs.! Sweden strong private (market) economy but MANY social welfare programs. This led to very high taxes.! Denmark, Germany, France have significant social welfare programs.! South Korea, India and Thailand have not only characteristics of market and command economies, but traditional economies as well.! United States! Traditional because some follow in their parents businesses! Market Individuals own most resources and make decisions about their use.! Command Social programs are provided by the government

23 MIXED ECONOMIES Advantages! Command economies can advance in their development by adding some capitalism to their economies. (China in 1980s, former Soviet Union)! Individuals can still own the resources while the government provides some social programs. Disadvantages! Countries with many social programs like health care and free education need a way to pay for them higher taxes

24 THE GLOBAL TRANSITION TO Chapter 2, Lesson 3 CAPITALISM

25 TRANSITION TO CAPITALISM! In the last 40 years, many countries have transitioned from socialist or communist economies to capitalist economies.! GDP per capita GDP per person is higher in capitalist economies than command and traditional economies.! Capitalism provides economic growth for a country and increases their wealth and standard of living.! Still, a transition to capitalism can be very difficult.! Privatization conversion of state owned property to private ownership.! Private property is important because people will take better care of it if they own it.! Vouchers certificates that could be used to purchase government-owned property.! State-owned businesses are converted to corporations that can be bought with vouchers.

26 TRANSITION TO CAPITALISM! In command economies, political leaders have a great deal of power. Political leaders fear losing power as the country transitions to capitalism.! In some communist countries, leaders were ousted before industry was privatized.! Vouchers help distribute wealth to leaders during transition.! In some countries, leaders grabbed vouchers to retain ownership of privatized corporations (Russia). This means the old ruling group became the new ruling group.! When transitioning to capitalism, one must learn how to make decisions and take initiative on their own.! Workers used to make the same salary whether they worked hard or not now they get fired if they do a poor job.! Costs of transitioning to capitalism instability, unemployment and social unrest.

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