Economics & FinanceEconomics & FinanceChapter 2Chapter 2

Economic SystemsEconomic Systems

Chapter 2 Section 1Terms:Chapter 2 Section 1Terms:

Economy/Economic SystemEconomy/Economic System Organized way of providing for the wants and Organized way of providing for the wants and

needs of the people in a societyneeds of the people in a society

Chapter 2 Section 1Terms cont.Chapter 2 Section 1Terms cont.Three types of economic systems:Three types of economic systems:

Traditional EconomyTraditional Economy Nearly all economic activity stems from ritual, Nearly all economic activity stems from ritual,

habit, or custom.habit, or custom. Roles of individuals are defined by custom so Roles of individuals are defined by custom so

they lack the right to make decisions based they lack the right to make decisions based on their wants and needs.on their wants and needs. Ex: The Inuits of northern Canada up until the Ex: The Inuits of northern Canada up until the

1800’s1800’s

Three types of economic systems Three types of economic systems cont:cont:

Advantages of Traditional System:Advantages of Traditional System: Each individual knows their roleEach individual knows their role Little uncertainty of “what to produce”Little uncertainty of “what to produce”

Hunters hunt, women raise children, cook and sewHunters hunt, women raise children, cook and sew

Little uncertainty of “how to produce”Little uncertainty of “how to produce” Everything done the same from generation to generation.Everything done the same from generation to generation.

“ “ “ “ for “whom to produce”for “whom to produce” Determined by customs and traditionsDetermined by customs and traditions Life is generally stable, predictable, and continuous.Life is generally stable, predictable, and continuous.

Three types of economic systems Three types of economic systems cont:cont:

Disadvantages of Traditional System:Disadvantages of Traditional System: Discourages new ideas and methodsDiscourages new ideas and methods Punishes those who “act differently”Punishes those who “act differently”

Fishing with a pole versus a spear would be Fishing with a pole versus a spear would be frowned upon or chastised.frowned upon or chastised.

Lack of progressLack of progress Leads to lower standard of livingLeads to lower standard of living

Three types of economic systems Three types of economic systems cont:cont:

Command EconomyCommand Economy Central authority makes most of the WHAT, Central authority makes most of the WHAT,

HOW, and FOR WHOM decisions.HOW, and FOR WHOM decisions. Economic decisions made by governmentEconomic decisions made by government People have little, if any influencePeople have little, if any influence Exemplified by a Dictatorship:Exemplified by a Dictatorship:

Former Soviet UnionFormer Soviet Union CubaCuba North KoreaNorth Korea Germany from 1936 - 1945Germany from 1936 - 1945

Three types of economic systems Three types of economic systems cont:cont:

Advantages of Command Economies:Advantages of Command Economies: Can change directions drastically and in short period of time.Can change directions drastically and in short period of time.

Soviets changed from agricultural based economy to industrial in Soviets changed from agricultural based economy to industrial in just a few decades.just a few decades.

““Central Planning Agency” shifted resources on a massive scale.Central Planning Agency” shifted resources on a massive scale. Consumer goods ignored in favor of military, factories, Consumer goods ignored in favor of military, factories,

infrastructure.infrastructure. Shortage of male labor was dealt with by forcing women to manual Shortage of male labor was dealt with by forcing women to manual

labor.labor. Little uncertainty on part of the people.Little uncertainty on part of the people.

Your career, job status, and employment period are dictated by the Your career, job status, and employment period are dictated by the statestate

Minimum Education, Health and Public Services provided at little or Minimum Education, Health and Public Services provided at little or no cost to populationno cost to population

Three types of economic systems Three types of economic systems cont:cont:

Disadvantages of Command Economies:Disadvantages of Command Economies: Not designed to meet the “WANTS” of the consumer.Not designed to meet the “WANTS” of the consumer.

Autos, home appliances, entertainment may all be deemed Autos, home appliances, entertainment may all be deemed unnecessary by the government.unnecessary by the government.

Housing needs, design and amenities are determined by Housing needs, design and amenities are determined by government’s perception of “NEED”.government’s perception of “NEED”.

No incentive to work hard and produce more. (“They No incentive to work hard and produce more. (“They pretend to pay us, and we pretend to work”)pretend to pay us, and we pretend to work”) Workers of different skill and responsibility levels receive Workers of different skill and responsibility levels receive

similar wages.similar wages. People rarely lose job regardless of quality of work.People rarely lose job regardless of quality of work. Quotas based on arbitrary measures:Quotas based on arbitrary measures:

Electric motor weight quota led to workers making the world’s Electric motor weight quota led to workers making the world’s heaviest electric motorsheaviest electric motors

Quality and efficiency suffered greatlyQuality and efficiency suffered greatly

Three types of economic systems Three types of economic systems cont:cont:

Disadvantages of Command Economies cont:Disadvantages of Command Economies cont: Requires large decision-making bureaucracy.Requires large decision-making bureaucracy.

Glut of clerks, planners, and administrators needed to Glut of clerks, planners, and administrators needed to operate system.operate system.

Decisions can’t be made until consultation with large number Decisions can’t be made until consultation with large number of people and extensive paperwork.of people and extensive paperwork.

Slows process and raises cost of productionSlows process and raises cost of production Lacks flexibility to deal with minor, day-to-day Lacks flexibility to deal with minor, day-to-day

problems.problems. Size of bureaucracy discourages even the smallest Size of bureaucracy discourages even the smallest

adjustmentsadjustments Inefficiencies continue until systems collapses under its own Inefficiencies continue until systems collapses under its own

weightweight

Chapter 2 Section 1Terms cont.Chapter 2 Section 1Terms cont.Three types of economic systems:Three types of economic systems:

Market EconomiesMarket Economies People and Firms act in their own best interests to People and Firms act in their own best interests to

answer: WHAT, HOW and FOR WHOM.answer: WHAT, HOW and FOR WHOM. Arrangement allows buyers and sellers to come Arrangement allows buyers and sellers to come

together in order to exchange goods and services.together in order to exchange goods and services. Might be in a specific location: Farmer’s Market, Bulletin Might be in a specific location: Farmer’s Market, Bulletin

Board, Internet, or Mall Board, Internet, or Mall People’s decisions act as “votes” for that product or servicePeople’s decisions act as “votes” for that product or service Based on “dollar votes”, producers know what, how much Based on “dollar votes”, producers know what, how much

and for whom to produce.and for whom to produce.

Three types of economic systems Three types of economic systems cont:cont:

Advantages of Market Economies:Advantages of Market Economies: Over time, it can adjust to change.Over time, it can adjust to change.

During gas shortages of 1970’s, consumers During gas shortages of 1970’s, consumers reduced demand for large, gas-guzzling autos.reduced demand for large, gas-guzzling autos.

Auto makers began to produce smaller fuel Auto makers began to produce smaller fuel efficient carsefficient cars

When gas prices fell in the `80’s, trend began to When gas prices fell in the `80’s, trend began to reverse (SUV’s came on the scene) and auto reverse (SUV’s came on the scene) and auto makers again adjusted production.makers again adjusted production.

Change is neither prohibited or discouraged.Change is neither prohibited or discouraged. Change is neither delayed nor forced upon people.Change is neither delayed nor forced upon people.

Three types of economic systems Three types of economic systems cont:cont:

Advantages of Market Economies cont:Advantages of Market Economies cont: High degree of individual freedomHigh degree of individual freedom

Producers make WHAT they think will sell.Producers make WHAT they think will sell. Producers decide HOW to make it (most efficient Producers decide HOW to make it (most efficient

manner possible).manner possible). Consumers spend their money on the goods and Consumers spend their money on the goods and

services they PREFER.services they PREFER. Consumers choose WHERE and WHEN they want Consumers choose WHERE and WHEN they want

to work.to work. Consumers decide how they will invest further in Consumers decide how they will invest further in

their own education and training (choose career).their own education and training (choose career).

Three types of economic systems Three types of economic systems cont:cont:

Advantages of Market Economies cont:Advantages of Market Economies cont: Relatively small degree of government Relatively small degree of government

interference.interference. Exceptions: National Defense, Environmental Exceptions: National Defense, Environmental

Protection, National Highways etc.Protection, National Highways etc. Generally allows markets to determine what and Generally allows markets to determine what and

how much is needed.how much is needed. As long as COMPETITION exists, the market As long as COMPETITION exists, the market

economy tends to take care of itself.economy tends to take care of itself.

Three types of economic systems Three types of economic systems cont:cont:

Advantages of Market Economies cont:Advantages of Market Economies cont: Decision making is decentralizedDecision making is decentralized

Billions to trillions of economic decisions are made daily by Billions to trillions of economic decisions are made daily by buyers and sellers in the marketplace. buyers and sellers in the marketplace.

Collectively, these decisions direct scarce resources into Collectively, these decisions direct scarce resources into uses consumers favor.uses consumers favor.

Everyone has a voice through their “dollar votes”Everyone has a voice through their “dollar votes” Incredible Variety of goods and services.Incredible Variety of goods and services.

If buyers exist, it will be producedIf buyers exist, it will be produced High degree of consumer satisfaction.High degree of consumer satisfaction.

Choices are varied and fulfilled for all niches regardless of Choices are varied and fulfilled for all niches regardless of percentagespercentages

Three types of economic systems Three types of economic systems cont:cont:

Disadvantages of Market Economies:Disadvantages of Market Economies: Does not provide for basic needs of everyoneDoes not provide for basic needs of everyone

Health care for poor (government must step in through Health care for poor (government must step in through programs such as Medicaid)programs such as Medicaid)

Does not provide enough of certain services valued Does not provide enough of certain services valued highly by people:highly by people: Universal Education, National Defense, Comprehensive Universal Education, National Defense, Comprehensive

Health care etc. (again, government steps in to insure these Health care etc. (again, government steps in to insure these vital services are universally available)vital services are universally available)

Difficult for private markets to “sell” these servicesDifficult for private markets to “sell” these services Paid for through taxes and service/use feesPaid for through taxes and service/use fees

Three types of economic systems Three types of economic systems cont:cont:

Disadvantages of Market Economies cont:Disadvantages of Market Economies cont: Relatively high degree of uncertainty that workers and Relatively high degree of uncertainty that workers and

businesses face as result of changebusinesses face as result of change Companies may move or downsize (Ford)Companies may move or downsize (Ford) Competition may drive them out of businessCompetition may drive them out of business

For a Market Economy to succeed:For a Market Economy to succeed: Markets must be reasonably competitiveMarkets must be reasonably competitive Resources must be reasonably free to move from one Resources must be reasonably free to move from one

activity to anotheractivity to another Workers need freedom to change jobsWorkers need freedom to change jobs Producers free to produce in the most efficient wayProducers free to produce in the most efficient way Consumers need access to adequate information to weigh the Consumers need access to adequate information to weigh the

alternatives and make good choices.alternatives and make good choices.

Three types of economic systems Three types of economic systems cont:cont:

Disadvantages of Market Economies cont:Disadvantages of Market Economies cont: When markets fail, some businesses become When markets fail, some businesses become

too powerful and compensation can be higher too powerful and compensation can be higher than is justified by their productivity than is justified by their productivity (MONOPOLY)(MONOPOLY) Government regulates Monopolies to ensure Government regulates Monopolies to ensure

competition in the marketscompetition in the markets Government regulates resources to ensure Government regulates resources to ensure

freedom of movementfreedom of movement Government regulates disclosure of information to Government regulates disclosure of information to

ensure consumers make informed decisionsensure consumers make informed decisions

End Chpt 1 Sec 1End Chpt 1 Sec 1

Chapter 2 Section 2Chapter 2 Section 2Evaluating Economic Performance: Evaluating Economic Performance:

Economic and Social Goals:Economic and Social Goals: Economic FreedomEconomic Freedom

People choose their own occupations, employers, People choose their own occupations, employers, and use their own money as they chooseand use their own money as they choose

Economic EfficiencyEconomic Efficiency Recognizing that resources are scarce, factors of Recognizing that resources are scarce, factors of

production are used wiselyproduction are used wisely Economic decision making must be efficient so Economic decision making must be efficient so

that gains are greater than coststhat gains are greater than costs Economic EquityEconomic Equity

Chapter 2 Section 2Chapter 2 Section 2Evaluating Economic Performance cont:Evaluating Economic Performance cont:

Economic and Social Goals cont:Economic and Social Goals cont: Economic SecurityEconomic Security

Social SecuritySocial Security

Full EmploymentFull Employment Price StabilityPrice Stability

InflationInflation Fixed IncomeFixed Income

Chapter 2 Section 2Chapter 2 Section 2Evaluating Economic Performance cont:Evaluating Economic Performance cont:

Economic and Social Goals cont:Economic and Social Goals cont: Economic GrowthEconomic Growth Future GoalsFuture Goals

Chapter 2 Section 2Chapter 2 Section 2Evaluating Economic Performance cont:Evaluating Economic Performance cont:

Trade-OffsTrade-Offs

Chapter 2 Section 2 Activity:Chapter 2 Section 2 Activity:

Chapter 2 Section 3Chapter 2 Section 3

Capitalism and Economic FreedomCapitalism and Economic Freedom

Chapter 2 Section 3 Terms:Chapter 2 Section 3 Terms:

CapitalismCapitalism Free EnterpriseFree Enterprise Voluntary ExchangeVoluntary Exchange

Chapter 2 Section 3 Terms:Chapter 2 Section 3 Terms:

Private Property RightsPrivate Property Rights ProfitProfit Profit MotiveProfit Motive

Chapter 2 Section 3 Terms:Chapter 2 Section 3 Terms:

CompetitionCompetition Consumer SovereigntyConsumer Sovereignty Mixed EconomyMixed Economy

Chapter 2 Section 3 Terms:Chapter 2 Section 3 Terms:

Modified Private Enterprise EconomyModified Private Enterprise Economy

Competition and Free EnterpriseCompetition and Free Enterprise

Economic FreedomEconomic Freedom Voluntary ExchangeVoluntary Exchange Private Property RightsPrivate Property Rights Profit MotiveProfit Motive

ProfitProfit Profit MotiveProfit Motive

CompetitionCompetition

Role of the EntrepreneurRole of the Entrepreneur

Role of the ConsumerRole of the Consumer

Consumer SovereigntyConsumer Sovereignty

Role of GovernmentRole of Government

ProtectorProtector Provider Provider ConsumerConsumer RegulatorRegulator Promoter of national GoalsPromoter of national Goals

Mixed EconomyMixed Economy Modified Private Enterprise EconomyModified Private Enterprise Economy

Chapter 2 Section 3 ActivityChapter 2 Section 3 Activity