02 micro lecture 2- economics system (1)

8/10/2019 02 Micro Lecture 2- Economics System (1)

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2007 Thomson South-Western, all rights reservedLast Updated:27 October 2014 LMS SEGi education group 0

BDB1373 (DIBA/ DIM/ DIA)

Lecture 2- Economics Systems


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Learning Objectives

Students will able to learn :the economic questionsthe characteristics of free market, commandeconomy and mixedthe advantages and disadvantages of freemarketthe advantages and disadvantages of

command economyhow the economic systems answer the basiceconomic questions

Last Updated:27 October 2014 LMS SEGi education group 1


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Econ om ic Sys tem

Econo m ic Sys tem is a set ofmechanisms andinstitutions thatresolve the

_______, ______,

and ________questions



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Types of Economic Systems

The market economy

The command economy

The mixed economy



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Characteristics of Capitalism

Price Mechanism It means the free operation of demand and

supply forces without any governmentintervention.

All economic processes such asconsumption, production, savings,investment will according to price

mechanism (let people do as they choosewithout government intervention) and islabelled as invisible hand by Adam Smith



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Private Ownership

Private ownership of resources.Every individual has a right toacquire private ownership ofresources.

Private individuals canaccumulate property and use itas they choose.

Example : If Amin wants to buya bungalow, he can purchase

the property if he has sufficientmoney. There is no restrictionon the number of properties

Amin can own .



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Role of Interest

Individuals are free tomake choices.

Customers wouldmaximize their satisfaction.

Businessmen aremotivated by profits. Theyproduce in order tomaximize profits.



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Cons um er i s sa id to be the k ing .

Consumers decisionswould influence theproducers decisions of

what to produce. Producers have to produce

goods and services to meetcustomers tastes andpreferences, otherwise theywill not be able to sell whatthey produce.



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Presence of Competition

Competition is healthy as itencourages research anddevelopment.

Invention and innovation are

made possible with scienceand technology. With theexistence of such elements,economic growth can beachieved.

Producers will keep improvingtheir techniques of productionin order to compete with otherfirms.



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Limited government intervention

Limited governmentintervention in theeconomic activities of the

economy. All economic activities are

carried out by the privatesector.

For example : televisionstations and telephoneservices.



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Advantages : Economic Freedom

Economic freedom means theright to earn property.

It also means a freedom ofenterprise and a choice ofoccupations.

This will lead to the sourcing ofthe countrys manpower from

different sectors. Therefore, a flexible functioning

of different units of production.



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Production according to theneed of consumers Producers produce goods and services

that consumers want and this maximizesthe needs and satisfaction of consumers.



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Efficient utilization of resources

Competition creates efficiency inproduction.

Quality goods are produced at lower cost. Consumers get the highest quality goods

at a lower cost since productiontechniques are more efficient.



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Variety of Consumer Goods

Competition takes place with regard to allaspects of the product such as shape,quality, colour, design and packaging.

Therefore, consumers will enjoy a widevariety of the same product.

There is also a variety of consumer goodsbecause of freedom of enterprise,resulting in greater production.



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Enhanced trade, business,research and development Producers are always on the lookout for

new innovations to compete with otherproducers.

This will lead to a rapid expansion and anincrease in employment and income.

Innovators enjoy the benefits of theirresearch through copyright and patents.



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Automatic incentives

Capitalism provides encouragement toefficient producers.

Efficient producers will benefit from theprice mechanism as compared toinefficient producers.



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Flaws in Capitalism

No central authority to protect propertyrights, and enforce contracts.

Some producers may try to monopolize by

eliminating the competition. So-called p u b l ic g o o d s , such as national

defense, will not be produced by privatefirms because they cannot prevent non-payers from enjoying the benefits of publicgoods.



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Disadvantages : Unequal distribution ofincome and wealth

Since there is no governmentintervention in the market, thesystem of private propertywidens the gap between therich and the poor.

Those who have wealth canobtain resources and startbusinesses while the poor onlyhave their labor to offer.

In other words, the rich getricher and the poor get poorer.



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Inflation and high unemploymentrate

Since it is governed by the invisiblehand, business fluctuations cause high

unemployment rates during depression.



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Lack of social welfare

In free economy, social welfare isignored.Owners do not provide any

pension, social security oraccident benefits to employees.There is also insufficient provisionof public facilities such as

schools, hospitals and etc.Undesirable social effects suchas theft and crime tend to behigh.



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Misallocation of resources

A producers objective is to maximize profitand he will therefore, only produceproducts which give higher profits.

This will lead to the production of luxurygoods (for rich people), resulting in asurplus and a lack of production of goodsfor the poor.



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Social Costs

Workers may face social problems suchas health problems arising from thepolluted environment caused by animproper disposal of factory wastes.

The intention of most producers is toincrease private profit and this often leadsto a neglect in the welfare of their workers.

http://upload.wikimedia.org/wikipedia/commons/4/43/Lenin_CL.jpg


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Mao Zedong Vladimir Ilyich Lenin Last Updated:27 October 2014 LMS SEGi education group 25
http://upload.wikimedia.org/wikipedia/commons/4/43/Lenin_CL.jpghttp://upload.wikimedia.org/wikipedia/en/e/e1/Mao-tiananmen-portrait.jpg


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Characteristics of Pure CommandSystem Public ownership of resources All the resources are owned and operated

by the state or the government in theinterest of society as a whole.

This is to ensure equal opportunity of allcitizens regardless of their income.

Public ownership also aims to fully utilizethe countrys resources and maximizesocial welfare.



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Central Planning

The central authority is responsible formaking economic decisions for society.

The authority plans and allocatesresources between current consumptionand investment for the future.



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Price mechanism of lesserimportance Socialism gives less importance to market

forces. Prices are fixed by the government and

not determined by demand and supply. Private profits are not allowed and public

interest is emphasized in the commandeconomy.



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Command Economies: Advantages

Abundant provision of collective goods (e.g.education, health, public transport andrecreational facilities)



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Production according to basicneeds Production is directed at producing the

basic needs of the people such as food,clothing and building materials.

It is not determined by the purchasingpower of the rich in society.

The phenomenon of the rich getting richerand the poor getting poorer does not existin the socialist economy.



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Equal distribution of income andwealth

This system providesequal opportunities for all

citizens in earning anincome.



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No serious unemployment orinflation The unemployment rate and inflation are

usually taken care of by the government toensure economic stability in the country.



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Flaws of Command System

Running an economy is so complicated thatsome resources are used inefficiently.

Since nobody owns resources, people have lessincentive to employ them in their highest valueduse.

Central plans may reflect more the preferences ofcentral planners than those of society. Since government is responsible for all

production, the variety of products tends to bemore limited than in a market economy.

Each individual has less personal freedom inmaking economic choices.



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Absence of competition

Since there are limited private enterprises,less research and development activitiesare carried out.

This results in low quality products sincethere is no competition.



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Mixed Economy

This is an economic system whichcombines both capitalism and socialism tosolve basic economic problems.

A mixed economy is an economy in whichboth the public and private sectors play arole in the economy.



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Public and Private Ownership ofresources Private enterprises conduct business

freely.

Government encourages the private sectorby providing them with infrastructure andfacilities.



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Price mechanism and economicplans in making economic decisions The price mechanism is used to price both

goods and services. However commodities such as sugar,oil

and rice are declared as controlled itemsin Malaysia and the government fixes theirprices.

Most of the mixed economies accepteconomic planning as an instrument ofeconomic growth.



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Command Economy1. What? One person or a group of people (oftengovernment officials) decide what products areneeded. In most cases, their decisions are dictated bywhat they believe is important.

2. How? Since the government owns all the means ofproduction in a command economy, the governmentruns all the businesses. It decides how goods andservices will be produced. It employs all workers andcontrols all employment opportunities.

3. For whom? The government decides who will getwhat is produced. In principle, all the people shareequally in the nation's wealth. In that way, everyone'sbasic needs are met. There is much security in such asystem-but at the cost of individual freedom.



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Government helps to controlincome inequality In most mixed economies, the government

controls income inequality through incometaxes and welfare payments.

The government helps to narrow theincome gap between rich and the poor.



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Government intervention in theeconomy The government will not intervene in the

economy except for particular industries. In a mixed economy, the government uses

legislation for unsafe goods categorized asillegal products such as military items.

The government also uses direct provision suchas education, defense and health to increase thestandard of living.

The government caters projects that areconsidered as unprofitable for the private sector. Example : low cost housing projects.



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Government control ofmonopolies Monopolists are single players in an

industry. They have complete, sole control over the

price of goods or services. In order to avoid customers being

exploited by monopolists, the governmentwill regulate the power of monopolists.



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Market Economy1.What? Consumers decide what should be produced in a market

economy. They do this through the purchases they make in themarketplace. Only those items that satisfy consumer's needs andwants are purchased, so only those products succeed. Products thatdo not satisfy consumer's needs and wants are not purchased and sofail.

2. How? How products will be produced is left up to businesses in amarket economy. In such an economy, businesses must becompetitive. They must produce quality products at lower prices thantheir competitors. To do that, they must try to find the most efficient wayto use available resources when producing their goods and services.

3. For Whom? In a market econony, the people who have moremoney are able to buy more goods and services. To obtain money,people are motivated to work and invest the money they make.



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Learning Materials: Main Text :

Robert Pindyck & Rubinfeld. D (2008). Microeconomics . PrenticeHall

References :

Mankiw,G.N.(2008). Principles of Economics fifth edition, SouthWestern Cengage Learning.

Parkin, M (2008). Economics 8th edition, Pearson InternationalEdition.

Sloman, J. (2008). Economics, Harlow: Financial Times/Prentice Hall Deviga,V.,Karunagaran, M.(2008). Principles of Economics ,Oxford

Fajar Sdn.Bhd.

02 micro lecture 2- economics system (1)

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