1. Adam Smith’s Market Economy
AP Macroeconomics
Adam Smith’s Market Economy
Economic Logic of a Market System

2. Economic Systems Allocate Resources
Market Command Traditional
Every Economic System has to answer 3 Questions:
1) What to Produce?
2) For whom to Produce?
3) How to Produce it? (or when to produce)

3. Which Economic System?
WHAT ECONOMIC SYSTEM?
Society will choose an economic system based on goals:
Economic & Social
Growth
Employment
Efficiency
Stability
Justice
Equality
Environment
Freedom

4. Adam Smith (1723-90) Founder of Free Market Economics
Argued: Free markets best promote the social welfare
Government should not interfere!
“The Wealth of Nations”
Published in 1776

5. "It is not from the benevolence of the butcher, the brewer, or
the baker, that we expect our dinner, but from their regard
to their own interest.”
“We address ourselves, not to their humanity but of
their advantages."
Adam Smith
Self-interest is our incentive to work hard
End Result:

6. Reading: The Free Market at Work
High
Prices
Scarce
Resources

7. Adam Smith & The Invisible Hand
People follow their own self-interest
Threat of competition keeps people honest
Markets naturally self-regulate
Invisible Hand
Government
should not
Interfere!
Shortage of
A Good?

8. HOW WHAT FOR WHOM MARKET COMMAND TRADITIONAL Growth & Efficiency
Production
HOW WHAT FOR WHOM
Economic System
Growth &
Efficiency
Supply &
Demand
Price
MARKET
COMMAND
TRADITIONAL

9. Communism Soviet Union “adopts” command economic system
Karl Marx
1848
Soviet Union “adopts” command economic system
General Philosophy:
Government controlled economy (centrally planned)
stressed equality & the common good (collective society)
Economic Incentive to invent, work hard ?

10. Economic Systems Trade-offs
Efficiency vs. Equity
Free markets focus on efficiency not equity
Efficiency means society gets the most from its scarce resources
Equity means the benefits of scarce resources are distributed fairly in society 9

11. HOW WHAT FOR WHOM MARKET COMMAND TRADITIONAL Growth & Efficiency
Production
HOW WHAT FOR WHOM
Economic System
Growth &
Efficiency
Supply &
Demand
Price
MARKET
Equality
Gov’t or
Central Planner
Employment
COMMAND
Need
[Tradition]
Need/
Necessity
Stability
TRADITIONAL

12. Traditional Economic System

13. Bhutan Video: Traditional Economy
Benefits
Costs

14. Bhutan June 2011
Typical Village

15. No traffic lights in Bhutan

16. 2011 Music Video production in Bhutan

17. HOW WHAT FOR WHOM MARKET COMMAND TRADITIONAL Growth & Efficiency
Production
HOW WHAT FOR WHOM
Economic System
Growth &
Efficiency
Supply &
Demand
Price
MARKET
Equality
Gov’t or
Central Planner
Employment
COMMAND
Need
[Tradition]
Need/
Necessity
Stability
TRADITIONAL

18. Summary Market systems stress competition
Work “individually” in your own “self interest”
Invisible hand regulates economy
Command systems stress equality
Work “collectively” for the common good
Government centrally plans economy
Traditional systems stress preservation of culture
Government maintains culture of society