Chapter Two – Economic Systems and Decision Making

Section One – Economic Systems i. An economy or economic system is an organized way of providing for the wants and needs of their people Traditional Economies i. In a traditional economy, all economic decisions stems from ritual, habit or custom ii. Individuals do not make decisions based on what they want, their roles are defined by the customs of their elders and ancestors Examples i. The Inuit in Canada or Aborigines in Australia

b. Advantages i. Everyone knows what role to play ii. Little uncertainty exists over what to produce iii. Roles stay in the family iv. Tradition dictates how people live their lives c. Disadvantages i. Discourages new ideas ii. Lack of economic progress = lower standard of living

II. Command Economies i. A central authority makes most of the (what, how, for whom) decisions a. Examples ii. North Korea, Cuba, China (not as much as the past) iii. Former Soviet Union and Eastern Bloc nations i. State Planning Commission made nearly all decisions b. Advantages i. Can change direction in a short period of time ii. The Soviet Union industrialized quickly iii. Healthcare and public services are provided at little or no cost

c. Disadvantages i. Not designed to meet the wants of consumers ii. No incentive to work hard a. Seldom lose your job, similar wages iii. Requires a large decision making bureaucracy a. Leads to slow decisions and raises the costs of production iv. Doesn’t have the flexibility to deal with day to day problems v. New ideas are usually stifled

III. Market Economies i. People and firms act in their own best interests to answer the (who, how and for whom) questions ii. Markets allow buyers and sellers to come together to exchange goods and services iii. Consumers play a key role because producers will look to produce what consumers desire a. Examples i. USA, Canada, Germany, Japan ii. Although there are differences the market is what binds them together

b. Advantages i. Over time it can adjust to change (gas prices reflect autos produced) ii. Change is usually gradual and new ideas are encouraged iii. High degree of individual freedom iv. Relatively small degree of government interference v. Decentralized decision making process vi. Variety of goods and services produced i. If someone will buy it, it will likely be produced vii. High degree of consumer satisfaction

c. Disadvantages i. Does not provide for the basic needs of everyone ii. May not provide enough of the services we value highly (healthcare, universal education, justice) iii. Relative high degree of uncertainty due to change (what will happen to my job, company etc) iv. They can fail if certain conditions aren’t met - Must be reasonably competitive - Resources must be free to move from one activity to another (including workers) - Consumers need access to adequate information

Section Two – Evaluating Economic Performance Economic and Social Goals a. Economic Freedom i. In the U.S. people place a high value on the freedom to make their own economic decisions b. Economic Efficiency i. Economies try to ensure the benefits gained are greater than the costs incurred c. Economic Equity i. Justice and fairness (no false advertising) ii. Cannot discriminate in hiring practices

d. Economic Security i. Unemployment insurance ii. Social Security iii. Medicare e. Full Employment i. Provide as many jobs as possible (could lead to higher standard of living) f. Price Stability i. People want stable prices. ii. Inflation can discourage business activity and hurt people on fixed incomes. iii. Makes budgeting easier and adds a degree of certainty to the future

g. Economic Growth i. Hope for a better future (cars, homes, jobs) ii. Necessary with a growing population h. Future Goals i. Cleaner environment? ii. Protection of endangered species iii. Reducing Reliance on foreign oil? II. Trade-Offs Among Goals i. Goals do have economic costs - Protect local industry (higher employment, less choice, higher prices? - New factory or environmental protection?

Section Three – Capitalism and Economic Freedom i. Market economies are normally capitalist (individuals own the factors of production) ii. Also called a free enterprise system, where competition is allowed with a minimum amount of government interference. Competition and Free Enterprise a. Economic Freedom i. People have freedom to choose what job to do, who to work for, and where to work ii. Businesses also have the freedom to produce what, when and how many they want

b. Voluntary Exchange i. Buyers and sellers freely and willingly engaging in market transactions ii. The transaction benefits both buyer and seller c. Private Property Rights i. People can own and control their possessions as they wish ii. Can use or abuse their property as you wish as long as you don’t interfere with the rights of others iii. Incentive to work, save and invest iv. People know they can keep the products of their labor

d. Profit Motive i. Profit is the extent to which people or organizations are better off at the end of a period than they were before. ii. Profit motive is the driving force that encourages people and organizations to improve their material well-being e. Competition i. The struggle among sellers to attract customers while lowering costs. ii. Is possible because private individuals own the factors of production iii. Goods are produced at the lowest possible cost and are allocated to hose who are willing and able to pay for them.

II. The Role of the Entrepreneur i. Organizes and manages land, capital and labor in order to seek profit ii. Start new businesses or develop new products iii. The dream of success pulls people in despite the odds iv. Everyone benefits when entrepreneurs are successful v. Draws in competition in that market

III. The Role of the Consumer i. Consumer sovereignty describes the role of the consumer as the ruler of the market (the customer is always right) i. Accept or reject products ii. Consumers tastes may change with the proliferation of technology i. More computers, less TV’s ii. Purchasing online iii. They have a say in what’s produced by their purchases in the marketplace

IV. The Role of Government a. Protector i. Enforces laws (safety of food, drugs, cars) ii. Protects property rights and enforces contracts b. Provider and Consumer i. National (defense) State (education, public welfare) Local (bus service) ii. Has grown very large recently c. Regulator i. Preserves competition ii. Oversees interstate commerce iii. Zoning laws d. Promoter of National Goals i. Government usually reflects social trends people would like to see in their economy (Social Security, Child Labor Laws, Minimum Wage) ii. The U.S. has a mixed economy i. Free enterprise, but subject to government intervention and regulation