Compare and contrast a planned economy with a free market economy. Discuss why in reality most economies are mixed economies.
SYSTEM OF THE FREE MARKET ECONOMY
The background of this economy is private ownership and individual economic freedom, i.e. the market of this economy operates only on the demand and offer basis, when buyers and sellers by themselves decide what and how to manufacture (Corsi, C. et al., 1997). This the main point of this system. Therefore this system is referred to as the system of the market-driven economy.
According to Schotter, A. (1990), In the countries of free market economy, thousands of markets are available, these markets are interconnected by millions of interfaces. Under the conditions of such a complex economy, processes are appropriately controlled and regulated by prices. Changes in market conditions are reflected by changes in prices as the prices inform and encourage the market players to change their behavior (Cobin, M., 2009). In this way, they introduce an order in a chaos.
One should not forget that, besides relationship between sellers and buyers and the price arising as the result of this relationship, there are several other market-driven economy elements. One of these elements is private ownership. According to Gianari, N. (1995), Private ownership is the ownership which is disposed by individual personalities and private companies; this is the prime right of the free business system which procures entities with freedom to own and use the products which have a value and to dispose them.
Here we have in mind the right of people and business undertakings to be the owners of means of production. Though market elements are available both in custom and command economy, in these economies, fixed production assets (companies, undertakings, agricultural undertakings, mines, and etc.) are owned by communities, which means that they are considered as all people’s ownership (Greaves, B. 2005). The owners of these assets are the groups of people or governments. In the market-driven economy, means of production are owned by private entities – ownership is private, whereas resources are distributed by the market in accordance with the laws of demand and offer.
Under the conditions of this economic system, each individual may be engaged in any activity he desires provided that he has assets and that demand is available. However, individuals may be forced to terminate their activities if they are short of money. There is a lot of competing with each other entities in the community of capitalism; these entities compete to receive profit, whereas the price level should secure sufficient profit (Przeworski, A., 2001). Private ownership encourages people to use their ownership so that it would bring profit.
Profit receiving aspiration encourages businessmen to manufacture products which are on demand and to sell them at the price acceptable to buyers. The profit motive encourages businessmen to manufacture products under cost-effective conditions so that businessmen would be able (Kearns, P., 2007):
To increase profit, which means to increase the difference between production costs and the sale price;
To sell products at a price lower than the price of competitors.
Rao, P. (1998) noticed, that choosing specific products or services in the market, the consumers makes the manufacturers to decide which products are to be manufactured in larger quantities and which – in smaller quantities, which products will be on demand and which products will not be on demand. Manufactures which correctly interpret the choices of buyers and which supply products necessary to buyers may have profit. Those manufacturers who do take into accounts these factors manufacture too large quantities or too small quantities or set too high or too low price and therefore do not have profit. The latter often have losses. In the market-driven economy, the votes of consumers may determine the existence or bankruptcy of business.
SYSTEM OF THE PLANNED ECONOMY
Under the conditions of the planned economy, all decisions concerning what to manufacture, how to manufacture and to whom to manufacture are approved by the sole centre or group (Smith, A., 1983). This economy is based on collective ownership. Fixed production assets are owned by the government, and resources, production and the quantities of future products are distributed according to a plan. The type of the system of the command economy was prevailing in the USSR, Cuba, and North Korea. According to Jozef M. van Brabant (1991), the plans of the system of the centralized economy are drawn up and implemented by the authorities and governmental political leaders after consulting with highly ranked professionals: engineers, economists, industrialists, and other experts. These planners decide which products to manufacture and which services to render. Their vote is decisive in approving decisions whether new undertakings are to be constructed, how many employees are to be employed at undertakings, whether modern equipment and advanced technology is to be applied at undertakings. The same planners, on the request of the political authorities of the country, decide who will consume the products manufactured and services, establish the amount of remuneration for everybody as well as the profit and interest rates.
When trying to process all information which is necessary to coordinate the activities of a large number of entities in the sole centre, unsolvable problems arise in the system of the command economy. Therefore, in the former USSR and in the closely related Warsaw Treaty countries: Eastern Germany, Bulgaria, Czechoslovakia, Poland, Rumania and Hungary, a large number of market elements was available along with the command management (Bosworth, B. (1995). Quite large differences between socialistic countries depended on the portion of assets owned by governments and the rigidity of planning of usage of resources.
If the number of products which are on demand amongst people who want to buy them does not coincide with the number of the products offered, the problem of mechanisms which would be capable of forming the equilibrium arises (McEachern, W., 2008). In the country of the market-driven economy, an individual manufacturer who wants to receive optimal profit regularly by itself tries to modify the quantity, quality and price of the products manufactured. It turned out that the system of the planned economy was hardly capable of being flexible and susceptible to changes. Virtually, it is impossible to change official prices. In addition to this, it turned out that it is very difficult to change the offer planned between the undertakings themselves as well as between companies and consumers. At long last, the desire to obtain acceptable quality at an acceptable price was seldom satisfied.
Thus, here, the market incentive is replaced by the commands of authorities. Therefore, here, it is difficult to change the price of products, to satisfy the needs of consumers – to develop the growth of the economy at a fast pace. According to McEachern, W. (2008), this was caused not only by the problems arisen in the cause of attempts to process such a large amount of information necessary to balance all the branches of economy in the centralized way but also for the reason that the deficit of products often satisfied the economic interests of a large number of “distributers” better than trade in the balanced market.
SYSTEM OF THE MIXED ECONOMY
One hardly may find the “pure” system or the system of the free market market-driven economy in the modern world. Though it is declared that the major economic decisions in the country are dictated by the market, the role of the government in the procedure of adopting these decisions is increasing (Ikeda, S., 1996). For example, 50 years ago the USA government acquired 15 per cent of the total number of products manufactured and the services rendered in America, whereas for the being time this figure already amounts to 20 per cent.
Due to this combination of market forces and participation of the government, the economy of America and a large number of other democratic countries is referred to as the mixed economy. The economy of countries which were included in the composition of the former USSR and which were under the influence of the former USSR now also is referred to as mixed one (Ikeda, S., 1996)..
The economy of countries of the modern world constitutes the combination of market-driven and governmental economies. Baumol, W. and Blinder, A. (2008) think that, in such countries as USA, the UK, France, Germany, Japan, and many other countries, the mixed capitalistic system is applicable. Thus, in the mixed economy, economic freedom prevails. However, some decisions are adopted by groups, very often – by governments.
COMPARISON OF ECONOMIC SYSTEMS
According to Baumol, W. and Blinder, A. (2008), difference between the free market (capitalistic) system and the command economic system is mostly manifested by the role of the government and the model of ownership to the means of production. In the market-driven economy, production exists for the benefit of an individual, whereas, in the planned economy, an individual exists for the benefit of production. As we know, under the conditions of the command economy, companies, agriculture, shops, and other production resources were owned by the government and major economic problems were solved by the governmental planning authorities. Thus, in the countries of centralized planning, the key role is performed by the government. The situation is radically different under the market-driven conditions: these problems are solved by buyers and sellers and the fixed production assets are owned by the right of ownership. In this economic model, the government performs a conditionally small role.
The combination of the market-driven (capitalistic) economy and the command economy is the mixed economy (Baumol, W. and Blinder, A., (2008). Both the theory of economics and world experience proved that the most effective is such a mixed economic system in which market relationship elements rather than command relationship elements prevail as both the USSR and other countries of the command economy regularly experienced the deficit of some or another products and did not cope with too slow increase in the efficiency of agriculture and other business activities. Though the mixed economy is more efficient if market relationship elements prevail, the latter elements also have some drawbacks.