Economic Systems and the United States Mr. Sinclair Fall, 2016
Another Question What are the basic economic questions? Answer: who gets what, where, when, why, and how Answer #2: what gets produced, how much gets produced, for whom does it get produced? Should government be involved in answering these questions? 1. Yes absolutely 2. Nope, not at all 3. What is this government that you speak of?
What are "Economic Systems?" An economic system is the way a society uses its resources to satisfy its people's unlimited wants 1. Traditional economies: economic decisions based on customs and beliefs that have been handed down 2. Command economies: government makes allocative and production decisions 3. Market economies: based on individual choice and self-interest, "led by an invisible hand"
Traditional Economies In early times, all societies had traditional economies Advantages: clearly answers main economic question, little disagreement over economic goals Disadvantages: resistant to change, feature severe inefficiencies and underproduction
Command Economies In command economies, economic leaders determine what is produced, and how it is produced Systems where the leaders (usually the central government) make all of the decisions are called centrally planned economies Command economies resulted from the influence of Karl Marx Socialism (and communism...and democratic socialism) is an economic system that illustrates elements of central planning and governmental control
Before Command and Market Economies...There Was Mercantilism Mercantilism is a system of political economy that hinged on control of trade as a key to a nation's wealth and power Popular in Europe in 15th-18th century; followed feudalism Thomas Mun, Treasure by Foreign Trade (1664) Some tenets: nation maintains a positive trade balance, all raw materials be used for domestic manufacture, and that a nation's surplus be sold to foreign nations Viewed trade as a zero-sum game; economics could not maximize the common good Critiques of mercantilism came from Adam Smith, David Ricardo, David Hume and John Locke
Market Economies and Capitalism Free market economies/capitalism owe their origin to Adam Smith and The Wealth of Nations (1776) Smith argued that free market economies are more beneficial to societies, as well as more productive Concepts introduced and/or discussed include division of labour, money, opportunity cost, real vs. nominal prices, and market prices Capitalism: economic system based on private ownership of factors of production, and little or no governmental involvement Feature #1: private property rights Feature #2: limited government involvement Feature #3: voluntary exchange in markets Feature #4: competition, consumer's freedom of choice (consumer sovereignty) Feature #5: specialization (absolute vs. comparative advantage)
Market Economies and Capitalism, Part II Product market: market for goods and services stuff that is made Factor market: market for factors of production, including labour Items here are owned by individuals, such as his/her "ownership" of labour Circular flow model in market economies Advantages include freedom of choice, political freedom, and possibility of profit Disadvantages include no/poor mechanism for the provision of public goods and services, and inequality
Karl Marx, Excerpt from Communist Manifesto Hitherto, every form of society has been based on the antagonism of oppressing and oppressed classes. But in order to oppress a class, certain conditions must be assured to it under which it can, at least, continue its slavish existence. The serf, in the period of serfdom, raised himself to membership in the commune, just as the petty bourgeois, under the yoke of feudal absolutism, managed to develop into a bourgeois. The modern laborer, on the contrary, instead of rising with the progress of industry, sinks deeper and deeper below the conditions of existence of his own class. He becomes a pauper, and pauperism develops more rapidly than population and wealth. And here it becomes evident, that the bourgeoisie is unfit any longer to be the ruling class in society, and to impose its conditions of existence upon society as an over-riding law. It is unfit to rule because it is incompetent to assure an existence to its slave within his slavery, because it cannot help letting him sink into such a state, that it has to feed him, instead of being fed by him. Society can no longer live under this bourgeoisie. The essential condition for the existence, and for the sway of the bourgeois class, is the formation and augmentation of capital; the condition for capital is wage-labour. Wage-labour rests exclusively on competition between the laborers. The advance of industry, whose involuntary promoter is the bourgeoisie, replaces the isolation of the labourers, due to competition, by their revolutionary combination, due to association. The development of Modern Industry, therefore, cuts from under its feet the very foundation on which the bourgeoisie produces and appropriates products. What the bourgeoisie, therefore, produces, above all, is its own grave-diggers. Its fall and the victory of the proletariat are equally inevitable.
Karl Marx, Das Kapital, and Command Economies Centrally planned economies are those where the government make all economic decisions The writings of Karl Marx gave rise to socialism and command economies Marx wrote Communist Manifesto (1848) and Das Kapital (1867) as critiques of capitalism Identifies class struggles under capitalism as between those who own the means of production (bourgeoisie) and those who perform the labour (proletariat) Argued that the industrial system is based on the exploitation of workers
More on Command Economies Communism: extreme form of socialism featuring no private ownership of property and little or no political freedom Democratic socialism: form of socialism established through democratic processes Government owns basic industries; others are privately owned, and services including health care are centrally-planned Advantages: provide well for the sick and unable to work, government can produce items that may not earn profit in market economies Disadvantages: often misguided economic decisions, massive government bureaucracy, shortages, inefficient resource allocation, subordination of individual rights to the rights of the state
Command Economies Today There are no examples of pure command economies today People's Republic of China: gradual transition from command to free market economy Deng Xiaoping's market-based reforms still maintained state ownership of land, heavy industry, and influence in banking and financial sectors Socialist parties hold power in France, Venezuela, and other nations "Nordic model:" mixed-market economies of Nordic countries featuring generous welfare states Elaborate social safety net, including universal health care Strong property rights and contract enforcement Little product market regulation Astronomically high tax burdens, high government spending as a portion of GDP
Free Enterprise in the United States Capitalist systems are known as free enterprise systems because anyone is free to start a business In the US, government involvement is generally limited to protecting competition Key elements of free enterprise are open opportunity, legal equality, free contract, and profit motive Open opportunity, legal equality, and free contract are the legal rights built into the free enterprise system Profit works as an incentive to enter the marketplace
Producers, Consumers, and the Government: Resource Allocation The mixed economy of the US can be considered a modified free enterprise economy: enterprise system with some government involvement In the US economy, government plays role of both producer and consumer Resource (factor) market: government is consumer and spends to "buy" goods and factors of production, such as labour Product market: government is a producer, providing goods and services to households & businesses, and collecting money in the form of taxes Government employment at all levels is roughly 22 million
Market Failures and the Role of the Government, Part I: Public Goods Market failure: condition where markets produce an inefficiency, or do not result in the optimal allocation of resources Market failures often occur in markets with one or few buyers/sellers (monopolies), in the case of an externality, or in the market of a public good Public good: a good that is consumed by the public as a whole (one example of a market failure) 1. Individuals cannot be excluded from the consumption of a public good 2. One person's enjoyment of the good does not diminish the enjoyment of others The problem of free riders: a person who does not pay for a good, but enjoys the benefit of the good Solution: public good is provided by the government, not privately Governments charge taxes and provide public goods
Market Failures and the Role of the Government, Part II: Externalities Externality: a side effect of a transaction that affects a party who is neither the buyer nor the seller Positive externality: someone who receives an unintended benefit from the transaction Negative externality: someone who receives an unintended consequence of the transaction, or pays an unintended cost Role of the government: reduce negative externalities, encourage positive externalities Adjusting for negative externalities: imposing fines for pollution Examples of increasing positive externalities: tax credits for electric car purchases Subsidy: a payment that covers the cost of a transaction that is in the best interest of the public)
Market Failures and the Role of the Government, Part III: Imperfect Competition Certain markets may become noncompetitive as a result of collusion, resulting in either one or few buyers (monopsony/ oligopsony) or one of few sellers (monopoly/oligopoly) As a result, supply can be artificially restricted in order to keep prices higher and supply lower than at equilibrium The government's role here is to ensure that markets remain competitive Sherman Antitrust Act, 1890 Clayton Antitrust Act, 1914