Types of economic systems

Types of economic systems

An economic system is the way a nation uses its resources  to satisfy its people’s needs and wants. All economic systems consider  the same three basic questions: What should be produced? How should it be produced? For whom should it be produced? The workings of scarcity and trade-offs affect what goods and  services are produced. Because of the scarcity of resources, no nation can produce every good or service that it needs or wants.

Nations must make choices. If nations or businesses produce more of one thing, then they must produce less of something else. For example, if nations spend more resources on national  defense, fewer resources are available for public universities. Next, nations decide how to produce the goods and services at the lowest possible cost. They must choose from the possible trade-offs. For example, a public university might offer some courses on the Internet to save capital.

Finally, a nation must decide how to distribute the goods and services. In the United States, distribution occurs through a price  system. Other nations distribute goods by sharing them equally, through military force, by majority rule, or in many other ways.

There are four basic types of economic systems: traditional, command (or controlled), market (or capitalist), and mixed. Each system is identified by how it answers the three basic economic questions. In a traditional economy, economic decisions are based on customs and beliefs handed down from previous generations. For example, if your parents were farmers, you would become a farmer. You would also farm and sell your crops the same way as your parents. The advantages of a traditional economy are that you know what is expected of you and that you enjoy strong family and community ties. The disadvantages are that the economy discourages change, production methods are inefficient, consumer choice is minimal, and people’s material well-being rarely rises.

In a command economy, government leaders control the factors of production and make all economic decisions. Individuals have few choices with regard to what they make or buy, what jobs they do, or how much they earn. The disadvantages of this kind of controlled economy are a lack of incentives to work hard or efficiently and a lack of consumer choices.

In a market economy, also called capitalism, individuals control the factors of production and freely make economic decisions based on their own and their families’ best interests. The market—the process of freely exchanging goods between buyers and sellers—guides decisions. Changes in prices signal how much of which goods and services should be bought and sold. Economists use an economic model called a circular flow of income and output to show how resources, goods and services, and income flow in a circle. Businesses sell goods and services to individuals who pay for them. In turn, individuals sell their resources, such as time, to businesses and are paid by the businesses. At the same time, businesses and individuals pay taxes to the government, which provides benefits, such as safety, in return. The advantages of a pure market system are freedom of economic choice and competition that increases consumer choice and determines costs efficiently. A disadvantage is that survival may be difficult for individuals who are unable to work.

A mixed  еconomy combines characteristics of more than one type of economic system. Most nations have a mix of command and market economies—individual  оwnership of the factors of production and individual decision making are combined with government intervention. For example, in the United States,

individuals make most economic decisions, but the government also passes laws to protect the environment or consumers.