basic economic problems and economic systems

the basic elements of an economic system

01. there are decision making units in an economic system. eg: households, government and business firms. 02. the existence of a decision coordinating mechanism. eg: price mechanism, planning mechanism. 03. having an incentive system to motivate the decision making units. 04.existence of rules and regulations eg: regulatory framework, procedures, policies and traditions.

role of government in a mixed economy

1. preparing a legal and social framework for the smooth operation of market mechanism 2. maintaining the competition 3. redistribution of income( taking steps to remove income distribution disparity) 4. taking steps for efficient allocation of resources. 5. taking steps for growth and distribution.

characteristics of a mixed economic system

1. production factors are owned by both government and private sector. 2. both the state enterprise and the private enterprise are in operation. 3. resources are allocated through both the price mechanism and the planning mechanism. 4. government intervention to overcome from the drawbacks of the price mechanism

what are the 03 basic economic problems ?

1. what to produce in which quantities?(allocation problem) 2.how to produce ?(production problem) 3. whom to produce?(distribution problem) these are common problems in every society.

basic features of a traditional economic system

1.production takes place based on tradition, rituals and habits. 2. these are simple self sufficient economies. 3. simple production technologies are used. 4. collective property rights. 5. distribution of the production is based on the rituals.

planned economic system

an economic system where the basic economic problems are solved through the commands given by a central planning authority or an authorized person, resource ownership vested with the government and a public enterprise system is in operation is identified as a planned economic system eg: Cuba, North Korea basic characteristics of a planned economic system 1. except labour all the other resources are owned by the government. 2. basic economic problems are solved through a central planning authority. 3. wide role played by government. 4.personal freedom is restricted. 5.no competition. 6.low level of income disparity.

functions of profit in a market economy

it encourages innovations supports efficient allocation of resources among the alternative uses. rewards for bearing risks provide resources needed for the expansion of the firm a source of tax revenue to the government.

advantages of a planned economy

low level of income disparity. sufficient allocation of resources to produce public goods and merit goods. social welfare centered instead of self interest. economy is working on a long term plan and vision.

incentive system

material incentives ( market economic system ) coercive incentives (command economic system) moral incentive (traditional economic system) even though economic systems can be categorized into various categories based on different criteria, combinations. therefore taking both theoretical and practical circumstances into consideration, four alternative economic systems can be identified four alternative economic systems 1.marker economic system ( capitalist free market economy) 2.planned economic system ( socialist command economy ) 3. mixed economic systems 4.traditional economic system

economic systems

a social and institutional program or the mechanism set by the members of a society to solve their basic economic problems. functions of an economic system deciding what to produce in which quantities? deciding how to produce? deciding whom to produce?

mixed economic systems

a system which is a combination of both the market economic system and command economic system

advantages and disadvantages of a market economy

advantages efficiency in resource allocation economic freedom competition it is an automated system disadvantages there are situations where resource allocation is inefficient . inequality in income distribution(income distribution disparity). macro economic instability. market exploitations. consumer preference is altered through advertising.

alternative economic systems

although the main objective of any economy is to solve the basic economic problems, a variety among the economic systems can be seen based on the following criteria, 01. resource ownership 02. decision coordinating mechanism 03. incentive system

price mechanism/ price system

price mechanism is the decision coordinating mechanism of a market economic system. as this is not operated by anyone or any institution, this is identified as the invisible hand which operates the market economy. through this, the economy is operated, solves basic economic problems, coordinates the decisions through the response of the consumers, producers and factor owners to the price

why are these common problems in every society?

when allocating the scarce resources in fulfilling human needs and wants, every society should essentially solve these basic economic problems. therefore these are common problems for every society, this because of, 1. scarcity of resources is common for every society 2. existence of alternative uses.

market economic system ( capitalist free market systems )

an economic system where the price mechanism is used to solve the basic economic problems, the property are vested with the private sector and a private enterprise system is in existence is identified as a market economic system. eg: USA, UK Canada, Australia basic characteristics of a market economy 1. private property ownership. 2. price mechanism 3. free enterprise and freedom for choice 4. incentive system based on the self interest( profit based incentive ) 5. limited role of government 6. competitive markets accordingly the market economic system is developed On the major pillars of private, property, private enterprise, self interest and freedom of choice.

market

any institutional program where the buyers and sellers are interacting with each other in order to decide the price and the quantity of exchange of a good or a service is identified as a market.it need not necessarily be a physical place. two major types of markets, 01. goods and services market this is where the goods and services are traded. households are the buyers in this market, whereas production firms are the sellers in the market. 02. factor market this is the market where the factors of production are traded. households are the sellers whereas production firms are the buyers

ownership of resources and property rights

capitalist economic system- private property ownership socialist economic system-government owns the resources(public ownership) mixed economic system-both private sector and government owns resources. property refers to the real property, financial property and the intellectual property. property rights can be identified as in 03 different points of view, right to control right to earn income from them(cash flow right) right to sell or exchange property(disposal rights)

consumer sovereignty in a market economy

consumer sovereignty means that the ultimate decision maker in a market economy is the consumer. that is what the basic economic problem of what to produce is solved based on the choice of consumers. situations where consumer sovereignty is challenged when there are monopoly situations when there is advertising when there is a government intervention in the market

whom to produce?(distribution problem)

deciding the way of distributing the produced goods and services among the members of the society is identified as the problem of whom to produce.

how to produce?( problem of production technology)

deciding what technology to use in the production of goods and services is identified as the basic economic problem of how to produce. basically this refers to whether the the capital intensive production methods are used in the production or labor intensive production methods are used.

criteria used in evaluating the performance of an economic system

full employment economic efficiency economic growth price stability fair income distribution external stability economic freedom

institutional characteristics of an economic systems ( decision making system)

households a household is a small family unit lives under one roof and satisfies needs and wants with one common budget. this is the basic and main section of any economic system. government a government is a common feature that can be seen in every country. decisions regarding the improvements of efficiency in the allocation of resources. establish law and peace. increasing economic growth rate. business firms/ enterprise these are the entities which engage inn the production and supply of goods and services. these might be possessed either by private sector or by government. they make decisions on the basic economic problems eg: labour organizations markets non-governmental organizaitons

allocating resources in a command economy

in a planned economic system, the decisions regarding the solution of basic economic problems are taken based on a plan by the central planning authority. the solution of basic economic problems are solved using the central planning authority (CPA)

Determination of price in a socialist planned economic system

prices are used as a tool of implementing the plans of the central planning authority. there are two types of prices in a command economy , 1. wholesale prices of production enterprises 2. retail prices of consumer goods a. determining the price at a greater level than its cost order to earn a profit by the government. eg: luxury goods, motor cars , liquor b. determining the price equal to the cost for some goods eg: stable food items c. determining a price even less than the cost for some commodities upon welfare reasons. eg: essential medicine and stationaries d. providing some goods for free of charge eg: education and health services

functions of price mechanism in a market system

signaling function price provides information for the decision making units in a market economy. accordingly it provides information for consumers for their consumption decisions, producers for their production decisions and factor suppliers for their factor decisions. if false information was transmitted through price signals, the market will function inefficiently leading t o market failures. incentive function price provides incentives for both the consumers and producers for their economic activities. they make their own decisions in order to maximize their self interest based on these prices. rationing function(allocative function) price allocates the scarce resources among the alternative uses in a market economy. upon the way consumers and producers are responding to the price signals of the markets scarce resources are allocated among the competing uses. eg: when the price of a certain good increases, producers tends to increase the supply of it. due to this resources will be transferred from less profitable goods to the industry being considered.

what to produce in which quantities?

since available resources are not sufficient to fulfill all human needs and wants the resources are having alternative uses, an economy should decide what goods to be produced and how much should be be produced from each of those goods. this is what is meant by ' what to produce?' the economy decides the amount of quantities to be produced

new trends of economic systems

social market economy these are the market systems which stresses the social equity. eg: Germany, Switzerland, Norway these countries implement the concept of market economic system in a more meaningful manner. socialist market economy under this, the ownership of resources is vested with the government while the decisions regarding the resource utilization is done through a market process. eg ; china new traditional economic systems the economic system which solve the economic problems by largely giving their attention to the religious teachings and philosophy but are mixed with the new technology and modern society. eg Saudi Arabia

disadvantages of planned economy

social preference is ignored. loss of consumer sovereignty and the freedom of choice. innovations are not encouraged due to the absence of incentives. government monopoly. quality of goods are low. low level of economic growth.

traditional economic systems

the economic systems which solve their basic economic problems through traditions, rituals and habits.

transitional economies

the economies which are in the process of transferring from one economic system to another economic system. at present most transitional economies are transferring form planned to market economic systems.

decision coordinating mechanism

this refers to the mechanism used in decision making regarding the allocation of scarce resources and coordinating those decisions. market economic system- price mechanism is used to coordinate decisions command economic system- planning mechanism is used to coordinate decisions. traditional economic system- rituals and traditions are used to coordinate decisions.