1. Chapter 2 The Market System and the Circular Flow McGraw-Hill/Irwin
Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.

2. Main Discussions Economic systems Market – Command – Islamic Economics
Common Features of Economic System
Distinctive Features of Economic System
3 Main Economic Questions
2-2

3. Economic Systems Set of institutional arrangements
Coordinating mechanism
Differ based on:
Who owns the factors of production
What method directs economic activity
At which level decisions are made
What motivates economic decision
2-3

4. Common Features of Econ. System
The market system
Private ownership
Markets
Self-interest
The command system
Government ownership
Central planning board
Collective interest
2-4

5. Common Features of Econ. System
The Islamic Econ. system
Private and state ownership
Markets + positive role of government
Self and public interest
The Mixed Econ. system
2-5

6. Index of Economic Freedom
Ranking of 157 countries for 2008
Free
Mostly
Free
Mostly
Unfree
Repressed
1- Hong Kong
3- Ireland
5- United States
20- Belgium
31- Spain
48- France
101- Brazil
126- China
134- Russia
148- Venezuela
156- Cuba
157- North Korea
2-6

7. Basic Econ. Questions What and how much to produce How to produce
For whom
Additional questions;
How the economic system adjusts to change and promotes progress
2-7

8. Market System Private property Freedom of enterprise Freedom of choice
encourage investment, innovation, exchange of assets, maintenance of property, and econ. growth
Freedom of enterprise
freedom to obtain and use resources, to produce and sell products of their choice
Freedom of choice
E.g. Owners of property and money resources; Workers; Consumers.
2-8

9. Market System Self-interest Competition- controlling mechanism
Entrepreneurs maximize profits;
resource suppliers maximize income;
consumers maximize satisfaction.
Competition- controlling mechanism
Markets and prices
Brings together buyers and sellers
Determine product and resource prices
Influence production and allocation decision
2-9

10. Market System Technology and capital goods Specialization Use of money
Division of labor
Use of money
limited government
2-10

11. Market System Questions
What will be produced?
consumer sovereignty
dollar votes
How will goods be produced?
technology
resource cost
Who gets the output?
Willingness and ability to pay
2-11

12. Market System Questions
How is change accommodated?
self-interest pursuit
market mechanism
How is progress promoted?
technological advance
capital accumulation
2-12

13. The Invisible Hand 1776 Wealth of Nations by Adam Smith
Unity and harmony of private and social interest
Virtues of the market system
Efficiency
Incentives
Freedom
2-13

14. The Command System Soviet Union, Eastern Europe, China
System was a failure
The coordination problem
Set output targets for all goods
The incentive problem
No adjustments for shortage or surplus
2-14

15. Circular Flow Resource Market Businesses Households Product Market
2-15

16. Circular Flow Both Flows Are Equal Money Income Costs Input Factors
Figure 2.2; page 40
Resource
Market
Money Income
Costs
Input Factors
Resources
Both Flows
Are Equal
Businesses
Households
Goods & Services
Goods & Services
Product
Market
Consumption
Revenue
2-16