Economic Systems
Every society has natural resources, which are used to produce the goods and service that enable it to survive and
prosper. There are three types of resources: natural resources, human resources, and capital resources
Natural resources (often called land) refer to the resources such as mineral, water, trees, and land itself. Human
resources (labor) describe the human work effort, both physical and mental, expended in production. Capital resources
are the man-made physical resources (such as buildings, tools, machines, and equipment) used in production.
The study of economics explains how resources are used to provide the goods and services that satisfy human wants.
Because resources are limited, the goods and services that can be produced from them are also limited. In contrast, the
goods and services wanted by individuals and societies are virtually unlimited. Each economic system uses resources and
produces goods in a distinctive way.
There are basic economic questions that every society must answer:
1. What goods and services should be produced?
2. How will goods and services be produced?
3. For whom should the goods be produced?
Economic Systems
There are four types of economic systems: traditional economies, market economies, command economies, and mixed
economies. These economic systems differ in how to answer the three basic questions. In traditional economies, the
three economic questions are decided mainly by social customs. In market economies, individuals in the marketplace
decide the economic questions. In command economies, the questions are decided by the government. In mixed
economies, they are decided by a combination of market decisions making and government order. Many different
combinations of these four kinds of economic systems are operating around the world today, with different degrees of
success.
Traditional Economies: (Example Subsistence)
In a traditional economy, economic decision are based on custom and historical precedent. For example, in tribal
cultures or in culture characterized by a cast system, people in particular social strata or holding certain positions often
perform the same type of work as their parents and grandparents, regardless of ability or potential. A pure traditional
economy answers the basic economic questions according to tradition. Things are done as they were in the past based
on tradition, customs, and beliefs (religious). In a traditional economy people make goods for themselves and their
families. This is often referred to as subsistence because it is based on the substance an individual produces. There is
little surplus or exchange of goods. As a result, there are few markets, or places to buy and sell things. Traditional
economies are found mostly in the world’s poorer countries, particularly in rural areas.
Market Economy: (Example Capitalism)
In a market economy, people freely choose what to buy and sell. Market economies are guided by the ebb and flow of
the market. In this system supply and demand as well as competition among businesses determines the price of
products. The businesses’ need to make profits drives their decisions. Businesses supply products and set prices to meet
demand. This competition is the basis of capitalism. In a capitalist system, business, industries, and resources are
privately owned. Under a market economy the government does not intervene. Individuals own the factors of
production and the concept of supply and demand decides the answers of the basic economic questions. The market is
free to operate between buyers and sellers of goods and services. In a market economy decisions are guided by the
changes in prices that occur as individual buyers and sellers interact in the market place. As such, this type of economy
is often referred to as a price system. Other names for a market economy are free enterprise, capitalism, and laissezfaire.
Mixed Economies: (Example Socialism)
Many economists doubt that “pure” economic systems ever existed. A mixed economy contains characteristics of a
market and command system, with elements of traditional as well. For example, in the United States the government
makes many important economic decisions but most of the resources are owned and controlled by individuals in the
private sector.
Command: (Example Communism)
In a command economy the government makes all the basic economic decisions. The government decides what to
produce, where to make it, and what price to charge. The government even decides what people will earn. Prices are
not based on the market forces of supply and demand. For example, it may cost $1.oo to produce a loaf of bread.
However, the government may set the price at 25 cents so that people can easily afford it. The individual has little
influence over how the economic questions are answered in a pure command system. The government controls all
factors of production and makes all decisions. The government even decides the role everyone will play. It even guides
people into certain jobs. In a command economy decisions can be made by one person, a small group, or central
planners. They decide what resources to use at each step of production and the distribution of goods and services. This
is why this system is sometimes called a central planning system.
The key point to remember is that every society must develop an economic system to determine how to use its limited
resources to answer the three basic economic questions of how to produce, what to produce and for whom to produce.