ObjectivesObjectives

A. Traditional – “Custom rules”A. Traditional – “Custom rules”B. Command – “Government rules”B. Command – “Government rules”C. Market – “Individuals rule”C. Market – “Individuals rule”D. MixedD. Mixed 1.) Capitalism1.) Capitalism 2.) Communism2.) Communism 3.) Democratic Socialism3.) Democratic Socialism

FREEDOM OFFREEDOM OFENTERPRISEENTERPRISE

& CHOICE& CHOICE

PRIVATEPRIVATEPROPERTYPROPERTY

ROLE OFROLE OFSELF-INTERESTSELF-INTEREST COMPETITIONCOMPETITION

MARKETSMARKETS& PRICES& PRICES

FREEDOM OFENTERPRISE

& CHOICE

ACTIVE, BUTACTIVE, BUTLIMITED,LIMITED,

GOVERNMENTGOVERNMENT

ROLE OFROLE OFSELF-INTERESTSELF-INTEREST COMPETITIONCOMPETITION

PRIVATEPRIVATEPROPERTYPROPERTY

2. Freedom of EnterpriseFreedom of Enterprise (business) & Choice(business) & Choice Can move within the economy to any job, to buy or sell property, or start a business. The consumer is “sovereign”consumer is “sovereign” (kingking) in the economy. His dollars vote as it is he who decides what gets produced. The U.S. has over 100,000 business failures100,000 business failures each year.

1. Private PropertyPrivate Property – the right of individuals to exercise control over things owned. Freedom to negotiate binding legal contracts. Contracts are legally bindinglegally binding in oral or writtenoral or written form. [A verbal agreement is binding only if it involves a small sum of money over a short period of time and does not involve real estate purchases.]

3. Role of Self-InterestRole of Self-Interest–each producer or consumer tries to do what is best for themselvesbest for themselves. Self interest is the main force driving the economy. ProducersProducers aim for maximum profitsmaximum profits. ConsumersConsumers seek the lowest prices & highest qualitylowest prices & highest quality.

K-Mart?K-Mart?

And – an appendageto be named later,like a -

““Competition”Competition” and ““self-interest”self-interest” are like an “invisible hand”.“invisible hand”.

Monopolies can charge

an arm and a leg.

So, the “invisible hand”“invisible hand” refers to the way a marketeconomy manages to harness the power of self-interestfor the good of society.

A monopoly’s attitude is:A monopoly’s attitude is:

““WWe e ddon’t on’t care.care.We don’t have to.We don’t have to.We’re a monopoly!”We’re a monopoly!”

4. CompetitionCompetition – economic rivalry of a large number ofbuyers & sellers. [central mechanism of market economy]Monopolies become fat & unresponsive Monopolies become fat & unresponsive to consumers(higher prices & fewer choiceshigher prices & fewer choices). Competition preventsone seller from controlling the market. Monopolies are

““price makers”price makers”. It is better to have “price takers”“price takers”who are at the “mercy of the market.”“mercy of the market.”

5. MarketsMarkets & & pricesprices. Markets bring the buyers and sellers into contact.

Prices send signals. High pricesHigh prices send signals to increase increase production production and for other producers to enter the marketenter the market.

Low pricesLow prices send signals to decrease productiondecrease production and for producers to exit the marketexit the market.

6. Limited Government InterventionLimited Government Intervention in the economy.The role of government was one of “laissez faire.”“laissez faire.” [“hands off”“hands off”]In the words of Adam Smith, the government should not interfere withgovernment should not interfere withthe operation of the economy except serve as an arbitrator in settlingthe operation of the economy except serve as an arbitrator in settlingdisputesdisputes. The government’s rolegovernment’s role: (according to Smith) a. provide defense, b. administer justice, and c. maintain certain public institutions.The government controls about 1/3 of economic activity1/3 of economic activity.

ArbitratorArbitrator[settling disputes][settling disputes]

We have “Market Inventors”We have “Market Inventors”

likelike AL GORE!!!AL GORE!!!

1. Reliance on Technology1. Reliance on Technology and Capital Goodsand Capital Goods

RoundaboutRoundaboutProductionProduction

Assembly line Assembly line [roundabout production][roundabout production]

results inresults in moremore efficient productionefficient production and more output. and more output. Farmers Farmers are moreare more efficient efficient using using capital capital goodsgoods[plows & tractors] instead of their hands.[plows & tractors] instead of their hands.

1. Reliance on Technology1. Reliance on Technology and Capital Goodsand Capital Goods

2. S2. Specialization and pecialization and EEfficiencyfficiency

Makes Use of Differences in AbilityMakes Use of Differences in Ability

Fosters Learning by DoingFosters Learning by Doing

Saves TimeSaves Time

& & fast person can be a hunterfast person can be a hunter]][[slow person can fishslow person can fish

[when bilateral trade is not beneficial][when bilateral trade is not beneficial]

Texas RangersTexas Rangers

Three-wayThree-wayExchangeExchange

52. CrusoeCrusoe would get coconutswould get coconuts from (Friday/Saturday).53. There (is/is no) coincidence of wantscoincidence of wants between any 2 states.54. Money would flowMoney would flow (clockwise/counterclockwise).55. The “coincidence of wants”“coincidence of wants” problem means each transactor (must/must not) have a product which the other wants.

SSaturdayaturday

Has surplus bananasHas surplus bananas Wants fishWants fish

FridayFriday

Has surplus coconutsHas surplus coconutsWants bananasWants bananas

CCrusoerusoe

Has surplus fishHas surplus fishWants coconutsWants coconuts

1. Reliance on Technology1. Reliance on Technology and Capital Goodsand Capital Goods

2. Specialization and Efficiency2. Specialization and Efficiency

Division of LaborDivision of Labor

1.1. Reliance on TechnologyReliance on Technology and Capital Goodsand Capital Goods

2. Specialization and 2. Specialization and EfficiencyEfficiency

Geographic SpecializationGeographic Specialization

TexasTexas FloridaFlorida NebraskaNebraska

3. Use of Money3. Use of Money

1. Reliance on Technology1. Reliance on Technology and Capital Goodsand Capital Goods

2. Specialization and Efficiency2. Specialization and Efficiency

As a Medium of ExchangeAs a Medium of Exchange

3. Use of Money3. Use of Money

1.1.Reliance on Reliance on TechnologyTechnology

and Capital Goodsand Capital Goods

2. Specialization and 2. Specialization and EfficiencyEfficiency

Money Eliminates Barter System DifficultiesMoney Eliminates Barter System Difficulties

GLOBAL PERSPECTIVEGLOBAL PERSPECTIVEIndex of Economic Freedom, Selected NationsIndex of Economic Freedom, Selected Nations

Hong KongNew ZealandUnited States

BelgiumSpain

FranceRussiaBrazilChina Cuba

VenezuelaNorth Korea

FREEFREE

MOSTLYMOSTLYFREEFREE

MOSTLYMOSTLYUNFREEUNFREE

REPRESSEDREPRESSED

Source: Heritage Foundation & The Wall Street Journal

NS 50-51NS 50-5150. The following is unique to capitalist ideologyunique to capitalist ideology: (use of money/ specialization/private ownership of property).

51. “Roundabout “Roundabout productionproduction”” [assembly lineassembly line] leads to: (use of fewer capital goods/greater production).

The Three Basic Questions...Three Basic Questions...

WhatWhat, howhow, & for whomfor whom1. What will be produced?1. What will be produced?

The Three Basic Questions...The Three Basic Questions...

2. How will the goods be produced?2. How will the goods be produced?

1. What will be produced?

The Three Basic Questions...The Three Basic Questions...

2. How will the goods be produced? 1. What will be produced?

3. Who will get the goods & services?3. Who will get the goods & services?

The Case for the Market SystemThe Case for the Market System Efficiency, Incentives, and FreedomEfficiency, Incentives, and FreedomAdam Smith said the “invisible hand”“invisible hand” determines what gets produced, how, & for whom. It is the invisible handthat moves us along the PPC. The invisible hand is now called the market mechanismmarket mechanism. Its essential feature is the price signalprice signal.

Smith is saying that participants in the economy are motivated by

self-interestself-interest & that the “invisible hand”“invisible hand” of the marketplace guides this self-interest into promoting general economic well-beingpromoting general economic well-being.

Most needy or most moneyMost needy or most money

LimitedLimitedResourcesResources

UnlimitedUnlimitedWantsWants ChoicesChoices

WHATWHAT G/S G/Sto produce?to produce?

WHOWHO will receive will receivethe G/S produced?the G/S produced?

[Eskimo/pygmy][Eskimo/pygmy]

Answers to the above determine:Answers to the above determine:ECONOMIC SYSTEMSECONOMIC SYSTEMS

3 BASIC 3 BASIC ECONOMICECONOMICQUESTIONSQUESTIONS

TRADITIONALTRADITIONAL FREE MARKETFREE MARKETCOMMANDCOMMAND

HOWHOW will the will the G/S be produced?G/S be produced?

1. Traditional2. Pure Command3. Pure Market4. Mixed a. Capitalism b. Democratic Socialism c. Authoritarian Socialism [Communism]

The way the 3 basic questions are answeredDetermines an economic system.

1.1. TraditionalTraditional-[-[wherewhere “CUSTOM RULES”“CUSTOM RULES”]] A. What, how, and for whom are answered by tradition B. Change is resisted, no technology [clashes with tradition] C. Heredity and caste system limit the economic role of individuals. D. 35,000 Pygmies in the Ituri Forest are an example. E. Men hunt & women/children gather/prepare food. F. Wear loincloths from bark of fig trees [“PYGLER” or “PYBUGLE Boy”] G. Eat mushrooms, berries, roasted grasshoppers, monkeys, & plantain H. Eat bone marrow & everything else in an elephant.

I. Used to be ““PYGACHEPYGACHE””,, big Pygmies, have to wear ““LARDACHELARDACHE..””

– the way society produces the way society produces

productsproducts

2. PURE COMMANDPURE COMMAND - where the “GOVERNMENT RULES”.“GOVERNMENT RULES”. The government controls all resources. What, How, and For Whom answered by the government.

3. PURE MARKETPURE MARKET – where ““INDIVIDUALS RULE”. INDIVIDUALS RULE”. Individuals and firms control all resources. Thegovernment has no say. WHAT, HOW &FOR WHOM are decided by individuals.

MIXEDMIXED – all countries have mixed economic systemsHow are these words used in everyday life?

1.1. Traditional 2. Command 3. MarketTraditional 2. Command 3. Market

Karl MarxKarl Marx

Adam SmithAdam Smith

Fidel CastroFidel Castro

• A mixed economymixed economy is one that uses both market signals and governmentboth market signals and government directivesdirectives to allocate goods & resources.

• Most economies use a combinationcombination of market signals and governmentmarket signals and government directives to select economic outcomes.

The “role of government” [“LAISSEZ-FAIRE” – “HANDS OFF”][“LAISSEZ-FAIRE” – “HANDS OFF”]is limited to national defense, public education, maintaining theinfrastructure, and enforcing contracts. Smith said the marketsystem was best because it encouraged specialization, resulting inincreased output & more economic growth.Government was like an “INVISIBLE FOOT”“INVISIBLE FOOT” – government action to benefit particular groups. Keynes will say the G can act as a pressuregauge, letting off excess steam or building it up as needed. [active-not all inclusive role]

ADAM SMITHADAM SMITH WEALTH OFWEALTH OF NATIONSNATIONS – 1776 – 1776

[explained the free market concept][explained the free market concept]

The “INVISIBLE HAND”“INVISIBLE HAND” – when individual consumers/producers compete to achieve their own private self-interest.

Smith’s book was an attack attack onon mercantilismmercantilism. Wealth doesn’t come from an accumulation of gold and silver butfrom more productive people. A nation is wealthier if its citizensAre more productive. It is the ability of people to produce products and trade in free markets that creates a nation’s wealth.

MercantilismMercantilism

So mercantilism died So mercantilism died as economic theoryas economic theory.

My name is mercantilism.

NoNo “G” “G”

In loving memoryIn loving memoryof mercantilismof mercantilism

One man could do maybe 1 pin per day [1 man = 1 pin][1 man = 1 pin]Now if there is Now if there is specializationspecialization1 man draws the wire out1 man straightens the wire1 man cuts the wire1 man sharpens the point1 man flattens the head

There are 18 distinct operations18 distinct operations - some perform 2 or 3 operations10 people10 people do 48,00048,000 pins per dayday1 man = 4,800 pins per day1 man = 4,800 pins per day

Three circumstances come from this specializationThree circumstances come from this specialization.1. Increased dexteritydexterity (learning by doing)2.2. Saving timeSaving time (lose time when you move to different operations)1. Invention of machines (fosters inventivenessinventiveness)

The EndThe End