economic systems

Posted : April 13, 2018
Last Updated : April 13, 2018

economic systems

Supply and demand influences the cost of everything. Learn how to compare and contrast different types of economic systems, explain the movement of goods and services, and understand the concept of supply and demand.

Economics 101

Global economics impacts all of us. You are probably wearing something right now that came from another county. The money we spend to buy products connects countries all over the world. And that money impacts the economy of countries all around the world.

When most people hear the word "economics," they think about money. But economics is about more than just money. Trading goods, buying and selling, using resources, and monitoring cash flow are all ways we participate in economics on a daily basis.

Four Primary Economic Systems

The four primary economics systems include:

Traditional economic systems are based on tradition. The work that people do, the things they make and sell, and their use of resources are based on the way things have been done for a long time. Each new generation continues the pattern. So, if your parents and grandparents made rugs or pottery, then you would be expected to do the same thing. Traditional economies generally have very little waste, but they also have very little extra, or surplus, left over. Rural and underdeveloped locations often operate with a traditional economy.

In a command system, a large part of the economy is controlled, or commanded, by a central power. This is often the government and can be seen in countries that practice communism or socialism. Here, the government owns, controls, and regulates all aspects of production, trade, and income generated by the most valuable resources. The government also regulates wages and the price of goods and services. The government commands all aspects related to surplus and distribution of goods and services.

In this type of system, everything takes place within the "market"– where all kinds of things are sold, bought, and traded. The government is not involved in the activities related to the financial assets (or capital) used for business. This is referred to as capitalism. Individuals are completely in control of the resources, the production of goods and services, what jobs or training they will pursue, and what they will buy. The cost of goods and services is determined by supply and demand. In turn, buyers decide what goods and services they want and how much they are willing to pay for them. Capitalism is characterized by competition within the market.

A mixed economic system is one that combines certain aspects of the other three systems. The United States operates with a capitalistic mindset within a mixed economic system. People are free to pursue whatever business they desire and choose the types of goods and services they want to offer the public with limited government regulation or interference. Consumers are free to determine what types of things they want to buy, as well as how much they are willing to pay. In turn, the government collects taxes to pay for a variety of programs and services including the postal service, education, the military, and other social services that benefit the public.

Supply and Demand

A market economy is driven by something referred to as "supply and demand." Consumers drive a market economy by choosing what to buy or not to buy – that’s the "demand" part. Supply, on the other hand, is determined by the amount of resources available and the production of goods and services to be sold.

At higher prices, consumers will demand less. In response, companies may be willing to produce and supply more of an item, thus lowering their overall cost-per-item in order to get people to buy things. Competition is a major force driving supply and demand. If one company sells a good or service at a price that is too high, another company will sell a similar product for less money and sell more.

Companies want to sell things at the highest price possible; however, when prices become too high, people stop buying those things. That’s because consumers want to buy things at the lowest price possible. But companies would not be able to stay in business if their prices are too low. In this way, a market economy regulates itself and should require little, if any, government involvement.

Making It to Market

In a market-based economy, money is used to buy a product. Before something can be sold, however, it has to be made. Here is how that happens:

  1. A company creates a new design for a pair of shoes. They will purchase, from other companies, anything needed to make the shoes. This includes all the various materials and pieces, as well as any machines needed to make and package the shoes. The company makes money and pays their employees by selling their boxes of shoes to other stores.
  2. A shoe store pays for the boxes of shoes and then pays people to work in the store to sell the shoes. The shoe store also pays for some advertising and displays the shoes so people can try them on before they buy them.
  3. That is where you – the consumer – come in. You go to the shoe store, try on the shoes, and decide if the price is reasonable for those shoes. If it is, you pay for the shoes (using money you earned from babysitting or mowing lawns) and take them home.
  4. The shoe store uses the money you paid for your shoes, along with money from other people’s purchases, to pay business expenses – employees’ wages, rent, and utilities, and any advertising. They would also use the money to buy more shoes from the shoe manufacturer.
  5. The shoe manufacturer uses the money from the shoe store to buy more material to make more shoes. They would also use the money to pay the people who are making the shoes. The cycle would start again and continue as needed.

Final Thought

When you save up and pay cash for items, you can often take advantage of supply and demand fluctuations.

Source: Ramsey Solutions


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