Overview
This lecture introduces economic systems, compares market and planned economies, explains mixed economies, and discusses the circular flow model and government intervention.
Fundamental Economic Questions
- Societies must answer: what to produce, how to produce, and who gets the products.
- The answers to these questions define an economic system.
Types of Economic Systems
- Planned Economy: Government controls the factors of production (land, labor, capital).
- Communism: Classless society with no private property; production and output shared equally.
- Socialism: Mix of private and public ownership aiming to meet collective goals and provide public goods.
- Command Economy: Government decides all production aspects (e.g., North Korea).
- Market Economy (Capitalism): Individuals own factors of production; government takes a "hands-off" approach (laissez faire).
The Invisible Hand and Market Incentives
- In free markets, businesses act in self-interest, leading to efficient resource use and desired products.
- Consumer preferences drive competition; inefficient firms fail.
- "Invisible hand" means self-interest guides societal benefit (Adam Smith).
Role of Government
- Free markets need government for rule of law, public goods (roads, defense), and market regulation.
- Government regulates production for safety, emissions, and worker rights.
- All real-world economies have some government involvement.
Mixed Economies & The Circular Flow Model
- Most countries are mixed economies combining market and planned features.
- Circular flow model shows interactions among households, businesses, and government.
- Households sell resources (labor) to businesses, earn income, and buy goods/services.
- Government collects taxes and provides public goods, services, and transfer payments.
Economic Systems in Practice
- Countries move along the spectrum between command and market economies.
- Examples: China added market elements; Denmark and Canada increased planning in healthcare.
- Debate remains about the ideal level of government involvement.
Trade-Offs and Opportunity Costs
- Policy choices involve trade-offs and opportunity costs.
- Government regulations can raise costs but offer social benefits (e.g., health, equality).
Key Terms & Definitions
- Factors of Production — Land, labor, and capital needed to produce goods/services.
- Planned Economy — Government manages resource allocation.
- Command Economy — Government controls all economic decisions.
- Market Economy — Individuals and firms freely make production and consumption choices.
- Mixed Economy — Combines elements of market and planned economies.
- Invisible Hand — Self-interest in markets leads to societal benefit.
- Circular Flow Model — Diagram showing movement of money, resources, and goods between households, businesses, and government.
- Opportunity Cost — The value of the next best alternative when a choice is made.
Action Items / Next Steps
- Review the circular flow model and understand its components.
- Reflect on your own views regarding government involvement in the economy.
- Prepare for the next lecture on the history and evolution of economic thought.