Difference between revisions of "market economy"

Revision as of 11:27, 17 August 2010

A market economy (also called a free market economy or a free enterprise economy) is an economic system in which the production and distribution of goods and services take place through the mechanism of free markets guided by a free price system.^[1][2] In a market economy, businesses and consumers decide of their own volition what they will purchase and produce. Technically this means that the producer gets to decide what to produce, how much to produce, what to charge to customers for those goods, what to pay employees, etc., and not the government. These decisions in a free-market economy are influenced by the pressures of competition, supply, and demand. This is often contrasted with a planned economy, in which a central government or another entity or group decides what will be produced and in what quantities.^[3]

No pure market economy exists. Thus, almost all economies in the world today are mixed economies which combine varying degrees of market and command economy traits. For example, the United States has the reputation of having more market economy traits than Western European countries.^[4]

Spontaneous order or "Invisible hand"

Friedrich von Hayek, and other classical liberals, have argued that market economies allow spontaneous order; that is, "a more efficient allocation of societal resources than any design could achieve."^[5] According to this view, in market economies sophisticated business networks are formed which produce and distribute goods and services throughout the economy. This network was not designed, but emerged as a result of decentralized individual economic decisions. Supporters of the idea of spontaneous order trace their views to the concept of the invisible hand proposed by Adam Smith in The Wealth of Nations who said that the individual who:

"intends only his own gain is led by an invisible hand to promote an end which was no part of his intention. Nor is it always the worse for society that it was no part of it. By pursuing his own interest [an individual] frequently promotes that of the society more effectually than when he really intends to promote it. I have never known much good done by those who affected to trade for the [common] good." (Wealth of Nations)

Supporters of this view claim that spontaneous order is superior to any order that does not allow individuals to make their own choices of what to produce, what to buy, what to sell, and at what prices, due to the number and complexity of the factors involved. They further believe that any attempt to implement central planning will result in more disorder, or a less efficient production and distribution of goods and services.

Free market economy

Main article: free market

A true free market economy is an economy in which all resources are owned by individuals, and in which decisions about the allocation of those resources are made by individuals without government intervention.^[6]

The United States has restrictions on the attainment of monopoly, but also grants monopoly rights in some cases. Fewer restrictions are found in other countries, such as in Hong Kong and Singapore, according to the Index of Economic Freedom.

Free markets are also conflated with anarchy as many people believe that free market implies an absence of government. Only a few free market scholars advocate the elimination of government; most have believed government had a role to play, albeit a limited one (notably Adam Smith and Milton Friedman). Even anarcho-capitalists believe in the rule of law (either natural or contract) being defended by voluntarily-funded institutions.

Most free market scholarsTemplate:who? believe that governments should be limited to at least: operating a court system for the settlement of disputes, maintaining stable currency (combating inflation), protecting market competition and consumers, and protecting the country through national defence. These scholars debate and disagree with each other on whether or not governments are necessary to have government funded roads, schools, post offices, libraries, police stations, and fire stations, as some free market scholars believe the market can solve their externalities.

Although no country has ever had within its border an economy in which all markets were absolutely free, the term is typically not used in an absolute sense. Many states which are said to have a capitalist system have a high level of market freedom, even if it is less than some would prefer.

Decision making

The "economy" is usually associated with capitalism.

Generally market economies are bottom-up in decision-making as consumers convey information to producers through prices paid in market transactions. For a brief time during the 20th century, even self-described capitalist states engaged in top down market command where the government and or producers attempted to command and direct resources to valued uses. All states today have some form of control over the market that removes the free and unrestricted direction of resources from consumers and prices such as tariffs and corporate subsidies. Milton Friedman and many other microeconomists believe that these forms of intervention provide incentives for resources to be sent, and sometimes wasted, producing products society may not value as much as a product that is, as a result of these restrictions, not being produced in many ways.

However, the term "market economy" is not exclusive to traditional capitalist ownership where a corporation hires workers as a labour commodity to produce material wealth and boost shareholder profits. Market mechanisms have been utilized in a handful of socialist states, such as Yugoslavia and even Cuba to a very limited extent. China's government is still run by the Communist Party, but its economy involves considerable private enterprise and market forces in both private and public sectors. It is also possible to envision an economic system based on cooperative, democratic worker ownership and market allocation of final goods and services; the labour-managed market economy is one of several proposed forms of market socialism.

Market externalities

Main article: market failure

Examples of situations considered market failures, or externalities, include negative externalities, monopolies, lack of provision of public goods, and social disparities such as extreme poverty. Market failures are the result of the market not receiving enough or appropriate information through signals such as prices. For example, a market ma

Government intervention

It is possible according to some interpretations for a market economy to have government intervention in the economy. The key difference between market economies and planned economies lies not with the degree of government influence but whether that influence is used to coercively preclude private decision.Template:or In a market economy, if the government wants more steel, it collects taxes and then buys the steel at market prices. In a planned economy, a government which wants more steel simply orders it to be produced and sets the price by decree. An economy where both central planning and market mechanisms of production and distribution are present is known as a mixed economy. Germany's social market economy was one of the better functioning mixed economies, as microeconomists note that it had relatively free prices compared to other more socialist countries like the United Kingdom for much of the later 20th century.^[unverified]

The proper role for government in a market economy remains controversial. Most supporters of a market economy believe that government has a legitimate role in defining and enforcing the basic rules of the market. Different perspectives exist as to how strong a role the government should have in both guiding the economy and addressing the inequalities the market produces. For example, there is no universal agreement on issues such as protectionist tariffs, federal control of interest rates, and welfare programs.

Milton Friedman, along with many microeconomistsTemplate:who?, believed that too much government intervention and regulation can result in hampering or stopping the transmission of information necessary to allow the market to operate, resulting in very serious government externalities that can lead to inflation, deflation, recessions, and economic depressions. Milton Friedman believes that the Great Depression was the result of a government created externalities and thus was responsible for the causes of the Great Depression.

Market freedom

Friedrich von Hayek and Milton Friedman stated that economic freedom is a necessary condition for the creation and sustainability of civil and political freedoms. They believed that this economic freedom can only be achieved in a market-oriented economy, specifically a free market economy. They do believe, however, that sufficient economic freedom can be achieved in economies with functioning markets through price mechanisms and private property rights. They believe that the more economic freedom that is available the more civil and political freedoms a society will enjoy.

Friedman states:

"economic freedom is simply a requisite for political freedom. By enabling people to cooperate with one another without coercion or central direction it reduces the area over which political power is exercised." Friedman, Milton and Rose Friedman, Free to Choose: A Personal Statement, Harcort Brace Janovich, 1980, p. 2-3

Studies by the Canadian free market-oriented Fraser Institute, the American free market-oriented Heritage Foundation, and the Wall Street Journal state that there is a relationship between economic freedom and political and civil freedoms to the extent claimed by Friedrich von Hayek. They agree with Hayek that those countries which restrict economic freedom ultimately restrict civil and political freedoms.^[7][8]

Markets and communist states

In the 1980s, most of the planned economies in the world attempted to transform themselves into market economies, for various reasons and with varying degrees of success. In the Soviet Union, this process was known as perestroika while in China the creation of a "socialist market economy" was one element of Chinese economic reform.

Criticism of market economy

There are a variety of critics of the market as an organizing principle of an economy. These critics range from those who reject markets entirely, in favour of a planned economy, such as that advocated by some types of socialism, to those who merely wish to see markets regulated to various degrees, and these range from those who associate markets with greed which they believe to be inherently immoral to those who raise practical objections. One practical objection is the claim that markets wreak havoc through their externalities (things that the market price does not take into account), for example through environmental pollution. Another is the claim that through the creation of monopolies, markets sow the seeds of their own destruction.

Some proponents of market economies believe that governments should not diminish market freedom because they disagree on what is a market externality and what are government-created externalities, and disagree over what the appropriate level of intervention is necessary to solve market-created externalities. Others believe that government should intervene to prevent market failure while preserving the general character of a market economy. In the model of a social market economy the state intervenes where the market does not meet political demands. John Rawls was a prominent proponent of this idea.

Notes and References

Further reading

• 2007 Index of Economic Freedom, Heritage Foundation and the Wall Street Journal
• De Soto, Hernando. The Mystery of Capital: Why Capitalism Triumphs in the West and Fails Everywhere else, Basic Books, 2000.
• Economic Freedom of the World Report, The Frasier Institute
• [1] "The Multidimensional Crisis and Inclusive Democracy" by Takis Fotopoulos, Gordios Athens 2005. (Here an English translation)
• Friedman, Milton. Capitalism and Freedom, University of Chicago Press, 1962.
• Friedman, Milton and Rose Friedman. Free to Choose: A Personal Statement, Harcort Brace Janovich, 1980.
• Hayek, F.A., The Road to Serfdom, University of Chicago Press, 1944.
• Hayek, F.A. The Constitution of Liberty, University of Chicago Press, 1960.
• Lindsey, Brink. Against the Dead Hand: The Uncertain Struggle for Global Capitalism, Wiley, 2001.
• Przeworski, Adam. Democracy and the Market (New York: Cambridge University Press, 1991.
• Reed, Robert, Max Schanzenbach, "Prices and Information: A Simple Framework for Understanding Economics"
• Schumpeter, Joseph. Capitalism, Socialism and Democracy. Harper Perennial, 1962.
• Smith, Adam. An Inquiry into the Nature and Causes of the Wealth of Nations, 1776.
• Yergin, Daniel, and Joseph Stanislaw. The Commanding Heights: the Battle for the World Economy, Simon and Schuster, 1998

See also

• free price system
• social market economy
• participatory economy
• mixed economy
• market
• Barter
• capitalism
• financial markets
• free market
• command economy
• gift economy
• Inclusive Democracy
• self-organization
• neoliberalism
• minarchism
• microeconomics
• macroeconomics