3.1 What Is an Economy? - River Dell Regional School District


3.1 What Is an Economy?


Economic Systems

Economic Systems

  Economy – The organized way a nation provides for the needs and wants of its people.

Countries with different economic systems have different approaches when making choices; as well, a country’s resources determine economic activities, such as manufacturing, buying, selling, transporting, and investing.


    Resources – All the things used in producing goods and services.

Factors of Production – Economic term for the four categories of resources: land, labor, capital and entrepreneurship.

  Land includes everything contained in the earth or found in the seas, such as coal, crude oil, trees, plants; also climate and geography can help a country’s tourism.

Labor refers to all the people who work, including workers in both private and public sectors; economies with well-educated and well trained labor have an advantage.

  Capital includes money to start and operate a business as well as goods used in the production process, such as factories, office buildings, computers and tools.

Entrepreneurship refers to skills of the people who are willing to invest their time and money to run a business.

Infrastructure – The physical development of a country, including its roads, ports, sanitation facilities, and utilities.

Entrepreneurship – The process of starting and operating your own business.


   Scarcity – The difference between what consumers want and need and what the available resources are.

Different economies have different amounts of resources, for instance, the United States has an educated labor force, a great deal of capital, abundance of natural resources and entrepreneurs, but many underdeveloped countries may not be that fortunate.

Nations have unlimited wants and needs, but only limited resources to meet them, which is why even in the United States, people live below the poverty level and businesses go bankrupt.

How Does an Economy Work?

How Does an Economy Work?

  Nations need to answer three basic questions when determining how to use their limited resources:   1. Which goods and services should be produced?

2. How should the goods and services be produced?

 3. For whom should the goods and services be produced?

Economists have classified economic systems into three broad categories:  Traditional  Market  Command

Traditional Economies

   Traditional Economy – Traditions and rituals that answer basic questions of what, how, and for whom.

The answers of what, how and for whom are typically answered based on cultural or religious practices.

The questions asked:   1. What? In a traditional economy there is little choice about what to produce. 2. How? Again, this is bound by traditions.  3. For whom? Tradition regulates who buys and sells and where and how the exchange takes place.

Market Economies

   Market Economy – An economic system in which individuals and companies decide what will be produced, when, and how it will be distributed.

There is typically no government involvement in a market economy.

The questions asked:   1. What? Consumers decide what should be produced in a market economy through the purchases that they make in the marketplace.

2. How? Businesses in a market economy decide how to produce goods and services.  3. For Whom? In a market economy, the people who have more money are able to buy more goods and services.

Command Economies

   Command Economy – An economic system in which the government decides what, when, and how much will be produced and distributed.

In a command economy, the government controls the factors of production and makes all decisions about their use.

The questions asked:  1. What? One person (often a dictator) or a group of government officials (a central planning committee) decides what products are needed based on what they believe is important.

  2. How? Since the government owns all means of production, it runs all businesses.

3. For Whom? The government decides who will receive what is produced and in theory, wealth is shared equally among all people.

Mixed Economies

  No economy is purely a traditional, market, or command economy; for example, the United States is considered a mixed economy with leanings toward a market economy.

Since all economies in the world are considered mixed, a meaningful economic classification depends on how much a government interferes with the free market, based on the three political philosophies:    Capitalism Socialism Communism


  Capitalism is the same as free enterprise, characterized by marketplace competition and private ownership of businesses.

The political system frequently associated with capitalism is democracy, the belief that political power should be in the hands of the people and that government and economy should be run based on the decisions of the people.

Examples: United States, Japan


   Communism is a social, political and economic philosophy in which an authoritarian government controls factors of production and gives no private ownership of property or capital to the people.

In a communist country, jobs are assigned to the people, schooling and housing is decided for people, medical care is free and there is little or no economic freedom given to the people.

Very few communist countries are left in the world today as most communist economies have collapsed in the past.

Examples: Cuba, North Korea, Vietnam, Laos, China


   Socialism originally referred to systems on their way toward communism, but today, most socialist countries have democratic political institutions with a goal to meet basic needs for all with some government involvement.

Socialist countries have a tendency to have social services for everyone, such as medical care, pensions, elderly care and education, usually offset by high taxes.

The government runs key industries such as utilities, transportation and banking.

Examples: Canada, Germany, Sweden

Economies in Transition

     The Soviet Union and most Eastern European countries have moved toward global market economies and democratic forms of government.

Privatization of businesses from the government to the people generates much needed revenue for the governments and shows commitment to moving toward market systems.

Today, many socialist countries are privatizing in order to help balance their budgets as social service costs rise.

Example: Great Britain sold most of its utility companies, as well as British Airways, to private companies.

Developing economies are mostly poor countries that are trying to develop infrastructure and prosperity.