Lecture 05 Economic Systems What is Economic System

Lecture # 05 Economic Systems

What is Economic System 2 q All human needs and wants are centralized in economic welfare. q The way to address such economic problems is called Economic System. q In other words, the economic rules and regulations along with the environmental factors by which overall economic activities of a country are conducted is called the economic system. q Since each society’s way is different from each other, so there are different economic systems prevail in the world.

Different Economic Systems Ø Traditional Economic System Ø Market Economic System Ø Socialist Economic System Ø Mixed Economic System Ø Islamic Economic System 3

Traditional Economic System 4 q Before the invention of money people in ancient civilizations or small communities use to barter for goods. q Bartering is the process of trading one good for another. q The problem with bartering is that its not always easy to find the person who has the good you want and often it can mean carrying a heavy load in order to make a trade.

Market Economic System 5 “People who trade with each other don’t go to war with each other. ” – Adam Smith

Market Economy 6 q As long ago as ancient Egypt humans began to use forms of money goods and with the free trade of economic system. q In a market economy, producers make goods based on the amount of demand they perceive to exist among consumers. q Consumers in turn pay for items based on their supply. q For instance, gold is greatly demanded by people across the world, but its supply is limited. Therefore, gold is expensive.

Market Economy – Capitalism 9 q Another word for market economic systems is capitalism. q Capitalism is an economic and political ideology written about by an 18 th century thinker- Adam Smith in a book entitled “The Wealth of Nations. ” q Smith claimed that the more the people of different people trade with each other the less likely they are to go to war. q Moreover, he claimed that the government must not interfere with the economy or it may disrupt trade and people’s ability to prosper. Smith claimed that instead of a government running an economy an “invisible free hand” known as a market would.

Characteristics of Market Economics 7 q Private Property Rights – In a market economy, individual can own land, factories and other properties. The ownership and transfer rights are ensured by law. q Private Sector initiative – Individual can acquire resources from production, establish mills and factories, from trades and businesses according to their choice and facilities available. There is no government intervention or control. q Automatic pricing system – all economic functions are regulated through automatic pricing system. The price of a commodity is determined by demand supply, and production and consumption are based on pricing system.

Characteristics of Market Economics 7 q Freedom of consumers – every consumer can enjoy any commodity according to his ability, desire and choice. The producers produce goods according to the demand of consumers. q Profit earning – In market economic system, the ultimate objective of all production is to earn profit. If there is possibility of more profit, there will be more investment. Consequently, there may be more production of some goods and less production in other cases.

11 Karl Marx was the founder of the communist/ command economy ideology.

Command/Socialist Economy 13 q Critics of market economies claimed that capitalism was a form of “class warfare. ” q They claimed that capitalism/ market economies resulted in a few people ruling over the masses. q In order to end capitalism/ market economies critics claimed that a revolution was needed to redistribute goods equally. q This revolution came to be known as communism and its economy was known as a command economy. q In a command economy the government controls all aspects of the economy.

Characteristics of Socialist Economy 14 q State ownership of wealth – In a Socialist system, state ownership exists over land, mills and factories, minerals and other resources. The general public of the country or the state is the owner of the wealth. Whatever is earned from these resources is spent for the society. q Absence of individual initiative – Initiative means taking steps in production or trades and commerce. In socialism, all the factors of production are under the control of the state. So there is no individual initiative in matters of establishing industrial factories or carrying out trades and businesses, etc. as a result of there is no scope of making any individual profit. All activities relating to industry, agriculture, trade and commerce, etc. are carried out at the initiative of the state.

Characteristics of Socialist Economy 14 q Central planning – All economic activities are performed by the instruction of the central planning authority. The planning authority decides over the commodities and their quantity that are to be produced and also the method of production. q Limitation of the freedom of consumer – Production and import of goods and commodities take place at the initiative of government according to the needs of the society. For this reason, consumers can not spend money purchase goods of any type in sufficient quantities according to their choice. That is why, it is said that freedom of consumer in socialism is limited.

Mixed Economy 18 q Mixed economies exist somewhere between command market economies. q In a mixed economy the government tends to own major industries like utilities, health care and major manufacturing industries; however, individuals own most small businesses. q Mixed economies tend to tax their citizens more than market economies, but less than socialist economies.

Characteristics of Mixed Economy q The government controls large industries, while individuals control small businesses. 19 private q Citizens are taxed heavily to provide all citizens a social safety net such as welfare, free university tuition and free health care. q Property is controlled by both the government and private individuals. q Workers tend to be somewhat less productive than those in market economies, but less product then those in command economies. q Consumers generally have a wide variety choices.

Islamic Economy 20 q Islamic Economic system is an Ideology of economics based on the teachings of Islam that takes a middle ground between the systems of Socialism and Capitalism. q Advocates of Islamic economics generally describe it as a "third way", an ideal mean with none of the drawbacks of the other two systems. q Among the claims made for an Islamic economic system by Islamic activists and revivalists are that the Gap between the Rich and the Poor will be reduced and prosperity enhanced by such means as the discouraging of the hoarding of wealth, taxing wealth (through zakat) but not trade, exposing lenders to risk through Profit Sharing and venture capital, discouraging of hoarding of food for speculation, and other sinful activities such as unlawful confiscation of land.