Chapter 2 Economic Systems Sections 1 2 Economic

Chapter 2 Economic Systems Sections 1 & 2

Economic Systems KEY CONCEPT • An economic system is the way in which a society uses its resources to satisfy its people’s unlimited wants. WHY THE CONCEPT MATTERS • An economic system determines what to produce, how to produce, and for whom to produce. Countries have mixed systems, but some systems give more economic and political freedom and create more wealth than others.

Introduction to Economic Systems Types of Economic Systems KEY CONCEPTS • Economic system — desires that can be met by consuming products • Three basic systems: traditional, command, and market economies • Mixed economies have features of more than one type of system

Types of Economic Systems TYPE 1: Traditional Economy • Traditional economy centers on families, clans, or tribes — decisions are based on customs and beliefs • Everyone has a set role; no chance of deviating from pattern • Good of the group always comes before individual desires TYPE 2: Command Economy • Command economy—government makes economic decisions — determines what to produce; how to produce; who gets products • Wants of individual consumers rarely considered • Government owns means of production: resources and factories TYPE 3: Market Economy • Market economy -driven by choices of consumers and producers — consumers spend money, go into business, sell their labor as they wish — producers decide how to use their resources to make the most money • Consumers, producers benefit each other when they act in self-interest

Characteristics of Traditional Economies KEY CONCEPTS • Early societies all had traditional economies • Traditional systems help societies survive • Tend to be inefficient; do not adapt to change

Characteristics of Traditional Economies TRAIT 1: Advantages and Disadvantages • Advantages: little disagreement over goals, roles — methods of production, distribution determined by custom • Disadvantages: as result of resistance to change, less productive — do not use new methods; people not in jobs they are best suited for — low productivity results in low standard of living TRAIT 2: Under Pressure to Change • Many traditional economies under pressure to change • Kavango people of Namibia lived as subsistence farmers for centuries • Modern telecommunications brought Kavango images of outside world — thousands have moved to cities — a few have turned to commercial farming

Command Economies Government Controls KEY CONCEPTS • Centrally planned economy—central government makes all decisions • Decides for whom to produce in part by setting wages — only some people have money to buy available products

Government Controls EXAMPLE: Government Planning • In all societies, government exerts some control over people’s lives • In centrally planned economy, government exerts great control — determines businesses to operate, amount produced each month — determines who is employed, work hours, pay scales EXAMPLE: Socialism and Communism • Karl Marx influenced some societies to adopt command economies — socialism—government owns some of the factors of production — communism—no private property; little political freedom • Authoritarian system requires total obedience to government — communism is authoritarian socialism • Democratic socialism established under democratic political process — government owns basic industries — other industries private — central planners make decisions for government-owned industries — central planners might control other sectors, such as health care

Karl Marx: Economic Revolutionary A New View of Economics • Marx lived during Industrial Revolution • Argued factory owners used workers as resource — exploited workers by keeping wages low to increase profits — workers would rebel, establish classless society • Wrote The Communist Manifesto (with Friedrich Engels), Das Kapital

Command Economies Today KEY CONCEPTS • No pure command economies today — modern telecommunications bringing about change • Some economies still have mostly command elements

Command Economies Today North Korea • Communist North Korea used resources for military, not necessities • Built large army; nuclear weapons program • In 1990 s and early 2000 s, millions died of hunger, malnutrition • In 1990 s, production decreased and economy shrank • Since 2003, some market activity allowed

Command Economies Today Impact of Command Economies • In theory, command systems fair to everyone; In practice, many disadvantage • Central planners do not understand local conditions • Workers have little motivation to be productive or conserve resources • Artificially low prices lead to shortages • People sacrificed to carry out centrally planned policies

Market Economies Fundamental of a Market Economy KEY CONCEPTS • Private property rights—right to own businesses and resources • Property means material objects, money, intellectual property, labor • Market—place or situation where people buy and sell goods, services

Fundamentals of a Market Economy FEATURE 1: Private Property and Markets • Private property rights must be defined and protected by law • Buyers must be sure sellers have right to sell products they offer • Sellers must be sure they will be paid for their products FEATURE 2: Limited Government Involvement • Laissez faire—government should not interfere in economy • Capitalism—system having private ownership of factors of production — says producers will create products consumers demand • Actual market economies all have some government involvement FEATURE 3: Voluntary Exchange in Markets • Voluntary exchange—traders believe they get more than they give up • In market economy, most trade is exchange of product for money • Profit—financial gain from business transaction

Fundamentals of a Market Economy FEATURE 4: Competition and Consumer Sovereignty • Competition—sellers’ efforts to get business by offering best deal • Consumer sovereignty—buyers choose products, control what is produced • Competition controls self-interested behavior • sellers offer low price or high value to please consumers, make profit FEATURE 5: Specialization and Markets • Specialization • people concentrate their efforts in the activities they do best • encourages efficient use of resourced • leads to higher-quality, lower-priced products

Circular Flow in Market Economies KEY CONCEPTS • Circular flow model illustrates how interactions occur in a market • Represents the two key decision makers: households, businesses • Shows the two markets where households and businesses meet • goods and services • resources

Circular Flow in Market Economies Product Markets • Product market—market where goods and services bought and sold • includes all purchases by individuals from businesses Factor Markets • Factor market—market for the factors of production • land, labor, capital, entrepreneurship • Individuals own all factors of production • own some outright, such as labor; some indirectly, such as stocks • individuals are producers; businesses are customers Circular Flow • Circular flow model shows how market economies operate • outside arrow shows flow of money • inside arrow shows flow of resources and products

Circular Flow in Market Economies KEY CONCEPTS • Late 1940 s to early 1990 s, many countries had command systems • U. S. S. R. , Eastern Europe, China, much of SE Asia, Cuba, North Korea • Most of these countries have now adopted market systems • remaining communist countries using some market measures

Impact of Market Economies Advantages • • Individuals free to make economic choices, pursue own work interests Less government control means political freedom, less bureaucracy Locally made decisions mean better use of resources, productivity Profit motive ensures resources used efficiently, rewards hard work — resulting competition leads to higher-quality, more diverse products Disadvantages • • • Pure market economy has no way to provide public goods and services Does not give security to sick or aged During U. S. industrial boom, business owners rich, workers low pay Businesses did not address problems caused by industrialization Industrialized societies adopt some government control of economy

Modern Economies in a Global Age Section-4 Today’s Mixed Economies KEY CONCEPTS • Mixed economy has elements of traditional, command, market systems • most common type of economic system • Traditional, command, market economies adopt elements from others

Today’s Mixed Economies Life in a Mixed Economy • Family farming in U. S. serves as example of mixed economy • traditional: all members of family help bring in harvest • command: affected by government—public school, roads, Social Security • market: own land, sell their products in competitive market

Today’s Mixed Economies Types of Mixed Economies • Most economies emphasize one type; U. S. basically has market system • Many European countries greater mix of market and command elements • France—government controls some industries; provides social services • Sweden—state owns part of all companies; lifelong benefits, high taxes • Namibia—traditional; state supports market, foreign investment

Trends in Modern Economies KEY CONCEPTS • Economies change in response to natural, social, political changes • East European economies changed after fall of communism

Trends in Modern Economies TREND 1: Changes in Ownership • Economies in transition often go through changes in ownership • To nationalize is to change from private to government ownership • To privatize is to change from government to private ownership Ties TREND 2: Increasing Global • Growth of global economy—economic actions across national boundaries • recent agreements open up world markets to trade among countries • fast, safe, cheap transport of resources, products eases distribution • phone, computer links make financial transactions quick, inexpensive • cross-border business partnerships lower research, production costs

Vocabulary Economic System Traditional Economy The way in which a society uses its resources to satisfy its people’s unlimited wants centers on families, clans, or tribes; decisions are based on customs and belief Command Economy Government makes choices on production Market Economy driven by consumers and producers Centrally Planned Economy central government makes all decisions Socialism government owns some of the factors of production Communism no private property; little political freedom Authoritarian system requires total obedience to government

Vocabulary Private Property Rights right to own businesses and resources Market place or situation where people buy and sell goods, services Laissez-Faire government should not interfere in economy Capitalism system having private ownership of factors of production Voluntary Exchange traders believe they get more than they give up Profit financial gain from business transaction Competition sellers’ efforts to get business by offering best deal Consumer Sovereignty buyers choose products, control what is produced

Vocabulary Specialization When people concentrate their efforts in the activities they do best Circular Flow Model illustrates how interactions occur in a market Product Market market where goods and services bought and sold Factor Market market for the factors of production Mixed Economy has elements of traditional, command, market systems Nationalize to change from private to government ownership Privatize to change from government to private ownership Ties Global Economy economic actions across national boundaries