The Market System and
Circular Flow
ECO 2013
Chapter 2
Prof. Maria Mari
2007
Economic Systems

A particular set of
institutional
arrangements and a
coordinating mechanism
to respond to the
economizing problems.
Determines





What goods are produced?
How they are produced?
Who gets them?
How to accommodate change?
How to promote technological progress?
Economic Systems differ



Who owns the factors of production
The method used to motivate, coordinate,
and direct economic activity
They answer the economic questions
Economic Systems

Market System or Pure Capitalism



Characterized by the private ownership of resources and
the use of prices to coordinate economic activity in
unregulated markets.
No government intervention in the economy
Adam Smith
Characteristics of Market System

Private property

Encourage







Investment
Innovation
Exchange
Maintenance of property
Economic growth
Freedom of enterprise
and choice
Competition






Market and prices
Technology and capital
goods
Specialization
Division of labor
Use of money
Active but limited
government.
Five Fundamental Questions
Which specific goods and quantities will be
produced?
1.
must make profit
consumer sovereignty
How will the goods and services be
produced?
2.
1.
2.
3.
Combination of technology and resources
Capital intensive or labor intensive
Who will get the output?
Continued
How will the system accommodate change?
How will the system promote progress?
4.
5.
1.
2.
3.
Technological advance
Capital accumulation
Economic growth
Economic System

Pure Command System




An economic system characterized by the public
ownership of resources and centralized planning
Government intervention in all areas
Karl Marx
North Korea and Cuba
Economic System

Mixed Economy



An economic system characterized by private
ownership of some resources and the public
ownership of other resources.
Some markets unregulated
Some markets regulated.
Answers to Questions
Question
Capitalism
Command
Mixed
What goods & services will be
produced?
Producers/
consumers
Government
Producers.
Consumers, and
government
How will goods & services be
produced?
Technology
and consumer
wants
Government
Technology,
consumer wants,
and government
For whom will goods & services be
produced?
Good rationed
by price
Government
Good rationed by
price and may be
regulated by
government
Economic Decision Makers

Households

Supply labor, capital, natural resources

Business

Government


Demand resources that households supply
There interaction determines how an economy’s
resources are allocated
Goods and Services

Resources are combined in a variety of ways
to produce goods and services



Good – a tangible item
Service – an activity
Scarce if the amount people desire exceeds
the amount available at a ZERO price
Economic Decisions Makers

Markets


A set of arrangements through which buyers and
sellers carry out exchange at mutually agreeable
terms.
Product


Goods or services bought and sold
Resource

Resources or services of a supplier are bought and sold
Circular Flow Model
$$$
Product
Goods
and
services
Goods
Firms
Households
Labor,
capital, land
$$
Resource
Labor,
capital,
and
land