Five Fundamental Questions

All economic systems must answer: 1. What goods and services will to be produced? 2. How will the goods and services be produced? 3. Who will get the output? 4. How will the system accommodate change? 5. How will the system promote progress?

What will be produced? businesses must respond to consumers’ wants , i.e. Consumer Sovereignty “Dollar votes” determine which industries/products continue or fail.

How will the goods and services be produced? market rewards least-cost production i.e., one that produces a given amount of output with the smallest input

Who will get the output? Products go to those who are willing and able to pay for them

How will the system accommodate change? Markets are dynamic. Prices help signal change Increased demand=higher prices=greater output. and vice versa Higher prices=more profits=new firms entering the market, and vice versa.

How will the system promote progress? An entrepreneur or firm that introduces a popular new product will be rewarded with increased revenue and profits New technologies that reduce production costs, and thus product price, will spread Creative destruction occurs when new products and production methods destroy the market positions of firms that are not able or willing to adjust

Demise of the Command Systems Coordination problem Incentive problem