Economic
Systems
The Market
System
The Five
Fundamental
Questions
The Invisible
Hand
Demise of
Command
Systems
The Circular
Flow
Last Word
Key Terms
2
The Market System
and the
Circular Flow
End Show
2-1
Copyright 2008 The McGraw-Hill Companies
Chapter Objectives
Economic
Systems
The Market
System
The Five
Fundamental
Questions
The Invisible
Hand
Demise of
Command
Systems
The Circular
Flow
Last Word
Key Terms
End Show
2-2
• Command Systems vs.
Market Systems
• Characteristics of a Market
System
• How Markets Determine What
to Produce, How to Produce,
and Who Receives the Output
• How Market System Adjusts
to Change and Promotes
Progress
• The Mechanics of the Circular
Flow Model
Copyright 2008 The McGraw-Hill Companies
Economic Systems
Economic
Systems
The Market
System
The Five
Fundamental
Questions
The Invisible
Hand
Demise of
Command
Systems
The Circular
Flow
Last Word
• Economic System Defined
– Ownership of Factors of
Production
– Method Used to Motivate,
Coordinate, and Direct
Economic Activity
• Command System
– Socialism or Communism
• Market System
– Capitalism
O 2.1
– Pure Capitalism – Laissez-Faire
Key Terms
End Show
2-3
Copyright 2008 The McGraw-Hill Companies
The Market System
Economic
Systems
The Market
System
The Five
Fundamental
Questions
The Invisible
Hand
Demise of
Command
Systems
The Circular
Flow
Last Word
Characteristics
• Private Property
• Freedom of Enterprise
• Freedom of Choice
GLOBAL PERSPECTIVE
Free
1- Hong Kong
3- Ireland
9- United States
Mostly
Free
22- Belgium
33- Spain
44- France
Mostly
Unfree
Repressed
81- Brazil
111- China
122- Russia
150- Cuba
152- Venezuela
157- North Korea
Key Terms
End Show
Source: Heritage Foundation (www.heritagefoundation.com) and The Wall Street Journal
2-4
Copyright 2008 The McGraw-Hill Companies
The Market System
Characteristics
Economic
Systems
The Market
System
The Five
Fundamental
Questions
The Invisible
Hand
Demise of
Command
Systems
The Circular
Flow
Last Word
Key Terms
End Show
• Self-Interest
• Competition
• Markets and Prices
• Technology and Capital
Goods
• Specialization
• Division of Labor
O 2.2
O 2.3
2-5
Copyright 2008 The McGraw-Hill Companies
The Market System
Economic
Systems
The Market
System
The Five
Fundamental
Questions
The Invisible
Hand
Demise of
Command
Systems
The Circular
Flow
Last Word
Characteristics
• Geographic Specialization
• Use of Money
–Medium of Exchange
–Barter
• Active but Limited
Government
Key Terms
End Show
2-6
Copyright 2008 The McGraw-Hill Companies
The Market System
Five Fundamental Questions
Economic
Systems
The Market
System
The Five
Fundamental
Questions
The Invisible
Hand
Demise of
Command
Systems
The Circular
Flow
Last Word
Key Terms
End Show
2-7
• What Goods Will Be
Produced?
–Consumer Sovereignty
–Dollar Votes
• How Will the Goods Be
Produced?
–Available Technology
–Prices of Needed
Resources
Copyright 2008 The McGraw-Hill Companies
W 2.1
The Market System
Five Fundamental Questions
Economic
Systems
The Market
System
The Five
Fundamental
Questions
The Invisible
Hand
Demise of
Command
Systems
The Circular
Flow
Last Word
Key Terms
End Show
2-8
• Who Will Get the
Output?
• How Will the System
Accommodate Change?
• How Will the System
Promote Progress?
–Technological Advance
–Creative Destruction
–Capital Accumulation
Copyright 2008 The McGraw-Hill Companies
The Market System
The “Invisible Hand”
Economic
Systems
The Market
System
The Five
Fundamental
Questions
The Invisible
Hand
Demise of
Command
Systems
The Circular
Flow
Last Word
Key Terms
End Show
2-9
• 1776 Wealth of Nations
by Adam Smith
–Efficiency
–Incentives
–Freedom
Copyright 2008 The McGraw-Hill Companies
The Market System
Demise of Command Systems
Economic
Systems
The Market
System
The Five
Fundamental
Questions
The Invisible
Hand
Demise of
Command
Systems
The Circular
Flow
Last Word
Key Terms
End Show
2-10
USSR
East Germany
Yugoslavia
• Two Insurmountable
Problems
–The Coordination
Problem
–The Incentive Problem
Copyright 2008 The McGraw-Hill Companies
Circular Flow
O 2.4
Economic
Systems
The Market
System
The Five
Fundamental
Questions
The Invisible
Hand
Demise of
Command
Systems
The Circular
Flow
Last Word
Resource
Market
Businesses
Households
Product
Market
Key Terms
End Show
2-11
Copyright 2008 The McGraw-Hill Companies
Circular Flow
O 2.4
Economic
Systems
The Market
System
The Five
Fundamental
Questions
The Invisible
Hand
Demise of
Command
Systems
The Circular
Flow
Last Word
Resource
Market
Businesses
Households
Product
Market
Key Terms
End Show
2-12
Copyright 2008 The McGraw-Hill Companies
Circular Flow
Economic
Systems
The Market
System
The Five
Fundamental
Questions
The Invisible
Hand
Demise of
Command
Systems
The Circular
Flow
Last Word
Both Flows Are Equal
Resource
Market
Businesses
Households
Product
Market
Key Terms
End Show
2-13
O 2.4
Copyright 2008 The McGraw-Hill Companies
Shuffling the Deck
Economic
Systems
The Market
System
The Five
Fundamental
Questions
The Invisible
Hand
Demise of
Command
Systems
The Circular
Flow
Last Word
Key Terms
End Show
2-14
Markets Systematically and
Purposefully Rearrange the
World’s Resources
• Extreme Number of Playing Card
Combinations
• Tens of Billions of Worldwide
Resources
• Many Combinations Useless
• Private Property Facilitates Best
Choice Selections – Mutual
Accommodations
• Result is a Complex and Productive
Arrangement of Resources
• Many Small Decisions that Others
Find Helpful
Copyright 2008 The McGraw-Hill Companies
Key Terms
Economic
Systems
The Market
System
The Five
Fundamental
Questions
The Invisible
Hand
Demise of
Command
Systems
The Circular
Flow
Last Word
Key Terms
•
•
•
•
•
•
•
•
•
•
•
economic system
command system
market system
private property
freedom of
enterprise
freedom of choice
self-interest
competition
market
specialization
division of labor
End Show
2-15
Copyright 2008 The McGraw-Hill Companies
• medium of
exchange
• barter
• money
• consumer
sovereignty
• dollar votes
• creative destruction
• “invisible hand”
• circular flow
diagram
• resource market
• product market
Next Chapter Preview…
Economic
Systems
The Market
System
The Five
Fundamental
Questions
The Invisible
Hand
Demise of
Command
Systems
The Circular
Flow
Last Word
Demand, Supply,
and the Market
Equilibrium
Key Terms
End Show
2-16
Copyright 2008 The McGraw-Hill Companies