Economic Systems

Functions of an Economic System

There are four main functions of an economic system, which are usually presented in the form of questions called economic problems. The answers will determine what type of system the society has:

• What to produce?
• How much to produce?
• How to produce?
• Who gets what?

What to produce?

The most essential job of an economy is to determine what commodities and services will be produced. And while demands are limitless, resources are not. As a result, society is confronted with the challenge of selection.

One of the first things that society then has to figure out is what to produce. The provided resources are used to produce various items and services in order to satisfy the greatest number of consumer desires. Therefore, the community must choose between consumer and capital products.

Things become a bit more complicated when talking about consumer goods since a choice must be made between products for general consumption and those for luxury.

How much to produce?

Should production be at maximum potential or should there be some jobless people and wasted resources? How much to manufacture is governed by customer demand; unless someone purchases a particular item, manufacturing of that item would stop and a surplus would accumulate.

How to produce?

The next main issue to tackle is the issue of how to produce. In order to help figure out the answer, there are a few things that are taken into account before making a decision:

• Which commodities will be manufactured in public vs private sector?

• Which companies will be hired on to produce the commodities, and how many resources will be given to them to use for production?

• Which manufacturing methodologies will be adopted to ensure maximum output?

The community should adopt a style of production organization that can adequately meet the greatest number of people's desires.

Who gets what?

The allocation of output in society is another critical role of an economic system. The following criteria must be examined in order to ensure an equitable and efficient allocation of production.

• How output is allocated between households and the government.

• The ideals of fairness and efficiency

In a capitalist system, for example, allocation is done via the pricing mechanism, which produces disparities. Because of this, income plays a large role in who gets what.

Types of Economic Systems

Economic systems are classified into four types:

• command economic system
• market economic system
• mixed economic system
• traditional economic system

Each system has its advantages and disadvantages.

Command Economic System

The essential economic choices in command economies are made by the governments. The government decides which commodities will be produced and at which level and at what price they will be sold. The aim of a command economy is to meet all needs of society and prioritize social welfare over profits.

The advantages of a command economy or planned economy are that central planning allows the elimination of market failures, and in theory, better allocation of resources, prioritizing social needs over profits. Disadvantages, on the other hand, include limited consumer choice and a lack of incentives for innovation.

Market Economic System

Decision-making in a market economy is dictated by price fluctuations that happen between producers and consumers. Main characteristics of the market economy are private ownership, competition, and minimum to no government intervention.

The amount individuals pay for items is determined by the law of supply and demand. One advantage to this type of economy is that buyers are able to locate what they want and purchase as many of the items as they want and can finance. An issue is that there is no pricing stability, and enterprises that are mishandled can fail.

Mixed Economic System

A mixed economy combines elements of command and market economies. All of the societies present-day have features of both systems and are frequently called mixed economies, despite the fact that almost all societies tend to lean toward one form of the economy more than the other.

A mixed economy aims to reduce the drawbacks of both systems while implementing the advantages. In a mixed economy, government can intervene in a key sectors like education, or healthcare while leaving other, less important from the perspective of a wellbeing of the society, sectors to private companies.

The increasing government involvement also ensures that less competitive individuals are looked after. This eliminates one of the drawbacks of a market economy, which favors only the most successful or inventive.

Traditional Economic System

With traditional economies, historical norms and habits govern what and how things are created, distributed, and spent. Every individual within this society understands their place in the greater group. Because occupations are handed down through generations, there is minimal change in professions over time.

Traditional economic systems are often found in rural or remote areas where access to modern technology and infrastructure is limited. These systems tend to be self-sufficient and sustainable, but they may also be susceptible to external shocks and disruptions.

While money can be used in traditional economies, but it is often limited to certain transactions and may not be the primary medium of exchange. In many traditional economies, bartering is more common than using money.

Economic Systems Overview

The table below provides an overview of the four main economic systems: command economy, market economy, mixed economy, and traditional economy. Each system is described in terms of its main characteristics, advantages and disadvantages, and examples of countries that have implemented them. The key difference between economic systems is the different ways in which they manage factors of production.

Economic Systems Examples

Before diving into economic systems examples, it is important to remember that all countries are on the spectrum between the market economy and command economy, but some countries lean towards one of the systems more than the other.

Examples of economic systems in different countries are the United States - market economy, Sweden - mixed economy, the Soviet Union - command economy and Inuit communities - traditional economy. Let's take a look at these examples:

1. The Soviet Union was an example of a command economy where the government had complete control over the economy, and the planning was done by the central government.
2. The United States is an example of a market economy where businesses and individuals make decisions based on their own self-interest, and the government does not play a significant role in the economy.
3. Sweden is an example of a mixed economy where the government provides social services like healthcare and education, but the private sector drives the majority of the economy.
4. Inuit communities in Canada are an example of a traditional economy where hunting, fishing, and gathering have been the primary means of survival for generations.