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Economic System

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An economic system is a system of allocating resources and apportioning goods and services in the society. It involves deciding mechanisms for production, distribution and consumption of goods and services among the members of the society.

Features of an economic system

Economic system is characterised by scarcity. Scarcity means that the economic resources are not abundant in supply to satisfy all the unlimited human wants. Therefore due to their limited supply, the government and economists have to make economic decisions which involve answering three basic economic questions which are:

What to produce?

The decision regarding what type of goods and services to produce is arrived after studying the market trends. The forces of demand in the market determine what to be produced in the economy. Production of a particular goods and services implies that the producers in the economy have to forgo production of other potential goods and services. This is normally the opportunity cost of forgone project.

How to produce?

The decisions on how to produce is determined by cost. The aim of producers in an economy is profit maximisation. As a result, they will employ the most efficient and effective means of production in deciding what type of goods or services to produce. If labour is cheap and efficient than machines, firms will adopt labour intensive technology in production. On the other hand, if machines are more efficient in production than labour, producers will employ labour intensive technologies in production.

Whom to produce?

The decision regarding whom to produce the goods and services depends on the consumers' purchasing power. This purchasing power is determined by incomes of consumers. If the purchasing power is high, the demand for goods and services increases and hence their production increases to meet the excess demand. Thus more efforts and resources will be invested in production of the highly demanded goods and services in the economy.

Market economy

In a market economy, forces of demand and supply control the economy. Therefore consumers decide on what type of goods and services will be produced in the economy. The key features that distinguish this type of economic system from the others are:

It purely relies on price mechanism in determining the prices of goods and services in the economy. Therefore prices changes relative to the demand of a commodity. There is free ownership of property and all economic resources are owned by producers and consumers with no government intervention. There is free transfer of resources. Producers and consumers are free to purchase and sale economic resources at their own will. There is consumer sovereignty since consumers determines what type of goods and services will be produced in the economy.

The main characteristic that this type of market shares with others is that producers are motivated by the urgency of maximizing profits.

Planned economy

In a planned economy, all resources and means of production are owned by the state. Individual ownership of property is prohibited and production activities are aimed for social benefit of all. Illegal economic activities such as hoarding and smuggling have no place in this type of economic system. The main features that distinguish this kind of economic system from others are:

All resources and means of production are owned by the state and individual ownership of property is prohibited. All economic activities are planned by the central government. It decides how the national economic resources will be distributed in the economic to ensure maximum production of essential; goods at the expense of other goods which may be highly demanded but do not contribute to the social benefit of all. The government therefore plans where the economic resources will be directed for production



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