 ECONOMIC SYSTEM

An economic system is comprised of the various processes of organizing and motivating

labor, producing, distributing, and circulating of the fruits of human labor, including
products and services, consumer goods, machines, tools, and other technology used as
inputs to future production, and the infrastructure within and through which production,
distribution, and circulation occurs. These processes are over determined by the
political, cultural, and environmental conditions within which they come to exist.

TYPES OF ECONOMIC
SYSTEM

CAPITALISM PLANNED MIXED

CAPITALISM –
an economic system based on private ownership and
on the investment of money in business ventures in
order to make a profit.
 Adam Smith
 University professor in Scotland
 Supported Capitalism
 Wrote “The Wealth of Nations”
 Examples: USA, Canada, Australia, UK.
CAPITALISM
 Ideas:
 Businesses compete with each other for the consumer’s
money.
 Each business tries to provide goods and services that
are better and less expensive than their competition.
 Government should not interfere in the economy.

 Laissez faire – letting owners of industry and business

set working conditions without interference
 No government regulations, such as minimum wage

laws, compensation laws etc.

 A market economy aims to produce the best goods at the

lowest prices.
ADVANTAGES OF CAPITALISM:

1) Little impact by the government, absence of those problems like corruption, total
control, regulations that limit diversity and competition, lack of incentives and poor
information.

2) Equal opportunities to every individual to make his own wealth that depends
only at efforts they put in.

3) In capitalism entrepreneurs feel free to take risks and introduce more

technological innovations that quickly causes structural changes and high rates of
economic growth and labour productivity.

4) More efficient and competitive capitalist enterprises − there's no limit to how

much wealth an individual can accumulate and how far he can progress in a capitalist
economic system.

5) Efficiency. Firms in a capitalist based society face incentives to be efficient and

produce goods which are in demand. These incentives create the pressures to cut costs
and avoid waste. State owned firms often tend to be more inefficient (e.g. less
incentives to try new innovative working practices.)

6) Economic growth. With firms and individuals facing incentives to be innovative

and work hard this creates a climate of innovation and economic expansion. This helps
to increase real GDP and lead to improved living standards. This increased wealth,
enables a higher standard of living;
DISADVANTAGES OF CAPITALISM:
Monopoly Power. Private ownership of capital enables firms to gain monopoly power in product
and labour markets. Firms with monopoly power can exploit their position to charge higher
prices.

Monopsony Power. Firms with monopsony power can pay lower wages to workers. In capitalist
societies, there is often great inequality between the owners of capital and those who work for
firms.

Social Benefit Ignored. A free market will ignore externalities. A profit maximising capitalist
firm is likely to ignore negative externalities, such as pollution from production. This can harm
living standards. Similarly, a free market economy will under-provide goods with positive
externalities, such as health, public transport and education. This leads to an inefficient allocation
of resources. Even supporters of capitalism will admit that government provision of certain
public goods and public services is essential to maximise the potential of a capitalist society.
Inequality creates social division. Societies which are highly unequal create resentment
and social division.

Diminishing marginal utility of wealth. A capitalist society argues it is good if people can
earn more leading to income and wealth inequality. However, this ignores the diminishing
marginal utility of wealth. A millionaire who gets an extra million sees little increase in
economic welfare, but that £1 million spent on health care would provide a much bigger
increase in social welfare.
In a planned economy, the factors of production are owned and managed by the government. Thus the
Government decides what to produce, how much to produce and for whom to produce.

Features:
1. All resources are owned and managed by the government.
2. There is no Consumer or producer sovereignty.
3. The market forces are not allowed to set the price of the goods and services.
4. Profit in not the main objective, instead the government aims to provide goods and services to
everybody.
5. Government decides what to produce, how much to produce and for whom to produce.

Examples of Planned economies

North Korea
Cuba
Turkmenistan
Myanmar
Belarus
Laos
Libya
Iran
ADVANTAGES:

A Fair System : gives equal distribution of national wealth and provides everyone with equal
opportunities, irrespective of their, color, caste, creed or economic status. Socialism, in its truest
sense, means equality by all means.

Reducing Disparities : reduces the social, economic, and political inequalities that exist within
capitalist societies. By taking the ownerships of production units from the rich and presenting them
to the workers, the government gives the workers a chance to earn more profits and thus rise to
levels of economic well being

More Humane & True

The effort to make everybody equal in economic, social, and political terms makes socialism more
morally worthwhile than capitalism. It reinforces the fact that everyone was created equally and it
was only through human actions that disparities arose.
Eliminates Social Evils : reduces poverty with eatable wealth distribution. It also eliminates ill
health, as it lays the foundation for the availability of proper health facilities for everyone.
Socialism eliminates other forms of social deprivation too, by caring for everyone.

Improved Standard Of Living

The idea behind socialism is to bring up the living standards of the poorest. It actually works
towards raising the living standards to similar levels, as the better-off members of the respective
societies.
Creates Better Human Resources
As all people, irrespective of their differences, are provided extensive public services and better
facilities, they achieve their full potential. Better education facilities for all also help in creating
better human resource. Manpower doubles, thus doubling the country’s economic growth, as
everyone works towards a life of betterment.

Unity
As people work for a common cause and all the profits are shared equally, the feeling of
selfishness is eliminated and a united feeling is gained. Plus, since socialism bars the difference
caused on the grounds of color, sex, creed or religion, harmony and unity become the keywords for
the countrymen.
DISADVANTAGES:

Improper Implementation
In socialist countries today, there are a handful of bureaucrats who control and use the power of the
state. They redistribute and regulate wealth and decide on taxation for the people. Thus, in reality,
people do not have control over wealth. This limits people’s political freedom and reverses the
overall concept.

Negatively Influences Growth Of Economy

Socialism is actually economically inefficient, as it puts off entrepreneurs from generating wealth,
because they usually have to pay higher taxes.
Consumers cannot choose and only those goods and services are produced which are decided by the
government.
Lack of profit motive may lead to firms being inefficient.
Lot of time and money is wasted in communicating instructions from the government to the firms.
Boosts Incompetence : provides the poorest with higher levels of income via social security
payments, it deters them from working hard, if at all. It also creates a negative feeling in the minds
of hard working fellows, as they gain no extra incentives for working hard. Adding to their woes,
lazy people get paid equally as they do. This negatively impacts productivity and thus economic
growth.

Poverty & Social Evils Are Not Eliminated It might redistribute some of the wealth of the
richest members of the society to the poor, but this move does not eliminate poverty as a whole.
The overall growth of economy suffers considerably. If there is not enough wealth, then
distribution can be hampered.
Economic
Capitalism Socialism
System
Socialism is concerned
with redistributing
Capitalism is unconcerned about
resources from the rich to
equity. It is argued that inequality is
Equity the poor. This is to ensure
essential to encourage innovation
everyone has both equal
and economic development
opportunities and equal
outcomes.
The State will own and
control the main means of
production. In some
Private businesses will be owned by
Ownership models of socialism,
private individuals
ownership would not be
by the government but
worker cooperatives.
It is argued that state
It is argued that the profit incentive ownership often leads to
encourages firms to be more efficient, inefficiency because
Efficiency
cut costs and innovate new products workers and managers
that people want lack any incentive to cut
costs
 Employment is often
In capitalist economic systems,
directed by the state.
the state doesn’t directly provide
therefore, the state can
jobs. Therefore in times of
Unemployment provide full employment
recession, unemployment in
even if workers are not
capitalist economic systems can
doing anything
rise to very high levels
particularly essential.
Prices are determined by market In a state managed
forces. Firms with monopoly economy prices are usually
Price Controls power may be able to exploit set by the government this
their position and charge much can lead to shortages and
higher prices. surpluses
3. A is an economy that includes a variety of private and government control;
reflecting characteristics of both capitalism and socialism.
There is not one single definition for a mixed economy, but the definitions always involve a
degree of private economic freedom mixed with a degree of government regulation of markets.
The relative strength or weakness of each component in the national economy can vary greatly
between countries.

The economic freedom side includes privately owned industry for reasons including individual
freedom, economic efficiency (most especially the allocative efficiency provided by the
invisible hand of markets), and the incentive to innovate provided by competition. The
government regulation side addresses concerns that the private sector cannot be (or at least has
never yet been) well equipped to address, such as environmental protection, maintenance of
employment standards, and maintenance of competition. In some mixed economies, it even
includes various degrees of centralized economic planning, that is, state ownership of some of
the means of production for national or social objectives.
1. Co-existence of public and private sectors:
Both public and private enterprises exist in this economic system. The role and areas of both the
sectors arc well defined.
The relative roles assigned to the public and private sector differ from economy to economy. But
generally the public sector is expected to perform certain basic functions such as:
(i) Development of economic infrastructures.
(ii) To promote basic industries that require huge investment and are of long gestation periods;
(iii) To promote industries in backward regions where inducement to invest is low.
(iv) To develop defence production industries in public sector.
Similarly, the private sector is expected to supplement the efforts of public sector and to take
advantages of investment opportunities enhanced by public enterprises.
In the mixed economy the two sectors are not rivals. The two sectors are partners in the process of
development, because for the efficient working of this system the co-operation between the two
sectors is necessary.
The private sector in mixed economy operates under certain controls and regulations of the
government.
2. Economic planning:
Generally a mixed economy is a planned economy. Public sector
enterprises have to work according to a definite plan to achieve
certain predetermined aims and objectives. Similarly the private
sector is not left to develop in its own way.
The growth of private sector is also regulated through various
controls and incentives to achieve the objects of plans.
Thus, the nature of economic planning in mixed economies is
‘planning by direction’ for the public sector and for private sector
‘planning by inducement’ is adopted’.
To ensures faster economic growth, the developmental
programmes of both the sectors are coordinated in such a way
that growth in one sector complements the growth in the other
sector
3. Division of industrial undertakings:
There is division of industrial enterprises in a mixed economy. The
division of industrial sector may differ from economy to economy.
Generally, the industrial economy is divided into following:
(i) Exclusively State Monopoly. In it same strategic and basic
industries are included.
(ii) Private Sector Industries. In it industries of lesser importance
are included such as consumer goods industries, small scale
industries, etc.
(iii) Joint Sector Industries. The industries included in this sector
are developed jointly by public and private sector.
(iv) Common Industrial Sector. Both public and private sector can
establish industrial units in this sector.
4. Existence of social welfare and private profit motive:
In mixed economy public sector works as the principle of social welfare
motive. Public sector tries to reduce regional economic inequalities and
to increase employment opportunities.
The basis of price policy of public sector is social welfare instead of
private profit. Whereas the operations and price policy of private sector
is guided by private profit motive.
But the private profit motive is controlled by government through fiscal
and monetary policies, direct controls, etc.

5. Individual freedom:
The people have freedom of consumption and to choose their
occupations in this economic system. Private entrepreneurs are to
choose technique of production.
From the above discussion, it is clear that mixed economy is a
marriage between capitalism and socialism.
It is an attempt to have the merits of both capitalism and socialism
Therefore, it is said and rightly too that mixed economic system a
golden path between capitalism and socialism