1.2 — Resource Allocation and Economic Systems

Since the economy is fundamentally scarce, resource allocation is really important to its functioning.

Governments

• The government must step in to help allocate (distribute) resources. The question is how much government involvement.
• When there is not enough to go around, what are the different ways to decide who gets the limited resource?

Every society must answer three economic questions:

• What goods and services should be produced?
• How should these goods and services be produced?
• Who consumes these goods and services? The way these questions are answered determines the economic system. An economic system is the method used by a society to produce and distribute goods and services.

Economic Systems

• Centrally-Planned (Command) Economy
• Free Market Economy
• Mixed Economy

Similar economic systems, like monopolies and oligopolies, are further described in 3.7 — Perfect Competition.

Centrally-Planned Economy (Communism)

• The government owns all the resources
• They decide what to produce, how much to produce, and who will receive it
• However, centrally planned economies face problems of poor-quality goods, shortages, and unhappy citizens?
• No profit means there is no incentive to work harder
• With government owning the resources, and with government deciding which goods and services to produce, and how much to produce, change is slow if it happens at all

Advantages and Disadvantages of Communism

Pros

• Low unemployment – everyone has a job
• Great job security – the government doesn’t go out of business
• Equal incomes means no extremely poor people

Cons

• No incentive to work harder
• No incentive to innovate or come up with good ideas
• No competition keeps the quality of goods poor
• Potential corruption of leaders
• Fewer individual freedoms, more restrictions on the population

Characteristics of a Free Market

• Little government involvement in the economy (Laissez Faire = Let it be)
• Individuals own resources and answer the three economic questions
• The opportunity to make a profit gives people an incentive to produce quality items efficiently
• Wide variety of goods available to consumers
• Competition and self-interest work together to regulate the economy (keep prices down and quality up). The “invisible hand”

Communism vs. Free Market

Free markets regulate themselves because other business have an incentive to compete and earn profit. More competition lowers prices and provides better quality products with more product variety. We produce the goods and services that society wants because “resources follow profits”

However, in communism, other businesses cannot compete and there is no competition. Thus, there is often higher prices, lower quality, and less product variety. More products will not be made until the government creates a new factory. The end result: there is a shortage of goods that consumers want, produced at the highest prices and the lower quality.

The Invisible Hand

The concept that society’s goals will be met as individuals seek their own self-interest

• Profit-seeking producers will make more
• Competition between firms will result in low prices, high quality, and greater efficiency.
• The government doesn’t need to get involved since the needs of society are automatically met.
• Competition and self-interest act as an invisible hand that regulates the free market

Attacks Against Capitalism

• Companies are greedy and do anything to screw over consumers
• Companies have an incentive to satisfy the needs of consumers. If they don’t, they will go out of business
• Capitalism causes companies to outsource US jobs overseas. America suffers because companies want more profit!
• Capitalism only helps the rich. US companies enslave and exploit third-world workers in sweatshops
  • Sweatshop workers are not forced labour, they make the decision to work there voluntarily. Why?
  • Although the working conditions are far below US standards, working in a sweatshop is better than the alternative
  • Sweatshop wages in third-world countries are more than double their country’s average wages

Who is to blame for these people being so poor? Low productivity. If a country doesn’t produce very much, it can’t afford to pay it’s workers much.

Why do these countries have such low productivity? Corrupt governments, inadequate physical capital and infrastructure, and undeveloped human capital