Market economy

A market economy is an economic system in which

the decisions regarding investment, production and
distribution to the consumers are guided by the price
signals created by the forces of supply and demand.
The major characteristic of a market economy is the
existence of factor markets that play a dominant role in
the allocation of capital and the factors of
production.[1][2]

Market economies range from minimally regulated

free-market and laissez-faire systems where state
activity is restricted to providing public goods and
services and safeguarding private ownership,[3] to
Pike Place Market, Economy Market arcade, 1968
interventionist forms where the government plays an
active role in correcting market failures and promoting
social welfare. State intervention can happen at the
production, distribution, trade and consumption areas in the economy. The distribution of basic need
services and goods like health care may be entirely regulated by an egalitarian public health care policy
(while having the production provided by private enterprise), effectively eliminating the forces of supply
and demand.

State-directed or dirigist economies are those where the state plays a directive role in guiding the overall
development of the market through industrial policies or indicative planning—which guides yet does not
substitute the market for economic planning—a form sometimes referred to as a mixed economy.[4][5]
Mainland Eurasian economies are funded by tax-subsidized banks, British and American economies by
independent stock exchanges.

Market economies are contrasted with planned economies where investment and production decisions are
embodied in an integrated economy-wide economic plan. In a centrally planned economy, economic
planning is the principal allocation mechanism between firms rather than markets, with the economy's
means of production being owned and operated by a single organizational body.[6]

Characteristics

Property rights

For market economies to function efficiently, governments must establish clearly defined and enforceable
property rights for assets and capital goods. However, property rights does not specifically mean private
property rights and market economies do not logically presuppose the existence of private ownership of the
means of production. Market economies can and often do include various types of cooperatives or
autonomous state-owned enterprises that acquire capital goods and raw materials in capital markets. These
enterprises utilize a market-determined free price system to allocate capital goods and labor.[7] In addition,
there are many variations of market socialism where the majority of capital assets are socially owned with
markets allocating resources between socially owned firms. These models range from systems based on
employee-owned enterprises based on self-management to a combination of public ownership of the means
of production with factor markets.[8]

Supply and demand

Market economies rely upon a price system to signal market actors to adjust production and investment.
Price formation relies on the interaction of supply and demand to reach or approximate an equilibrium
where unit price for a particular good or service is at a point where the quantity demanded equals the
quantity supplied.

Governments can intervene by establishing price ceilings or price

floors in specific markets (such as minimum wage laws in the labor
market), or use fiscal policy to discourage certain consumer
behavior or to address market externalities generated by certain
transactions (Pigovian taxes). Different perspectives exist on the
role of government in both regulating and guiding market
economies and in addressing social inequalities produced by
markets. Fundamentally, a market economy requires that a price
system affected by supply and demand exists as the primary Rwanda fruits at the market
mechanism for allocating resources irrespective of the level of
regulation.

Capitalism
Capitalism is an economic system where the means of production are largely or entirely privately owned
and operated for a profit, structured on the process of capital accumulation. In general, in capitalist systems
investment, distribution, income and prices are determined by markets, whether regulated or unregulated.

There are different variations of capitalism with different relationships to markets. In laissez-faire and free-
market variations of capitalism, markets are utilized most extensively with minimal or no state intervention
and minimal or no regulation over prices and the supply of goods and services. In interventionist, welfare
capitalism and mixed economies, markets continue to play a dominant role, but they are regulated to some
extent by government in order to correct market failures or to promote social welfare. In state capitalist
systems, markets are relied upon the least, with the state relying heavily on either indicative planning and/or
state-owned enterprises to accumulate capital.

Capitalism has been dominant in the Western world since the end of feudalism. However, it is argued that
the term mixed economies more precisely describes most contemporary economies due to their containing
both private-owned and state-owned enterprises. In capitalism, prices determine the demand-supply scale.
Higher demand for certain goods and services lead to higher prices and lower demand for certain goods
lead to lower prices.

Free-market capitalism
A capitalist free-market economy is an economic system where prices for goods and services are set freely
by the forces of supply and demand and are expected by its supporters to reach their point of equilibrium
without intervention by government policy. It typically entails support for highly competitive markets,
private ownership of productive enterprises. Laissez-faire is a more extensive form of free-market economy
where the role of the state is limited to protecting property rights and enforcing contracts.

Laissez-faire

Laissez-faire is synonymous with what was referred to as strict free-market economy during the early and
mid-19th century as a classical liberal ideal to achieve. It is generally understood that the necessary
components for the functioning of an idealized free market include the complete absence of government
regulation, subsidies, artificial price pressures and government-granted monopolies (usually classified as
coercive monopoly by free market advocates) and no taxes or tariffs other than what is necessary for the
government to provide protection from coercion and theft, maintaining peace and property rights and
providing for basic public goods. Right-libertarian advocates of anarcho-capitalism see the state as morally
illegitimate and economically unnecessary and destructive. Although laissez-faire has been commonly
associated with capitalism, there is a similar left-wing laissez-faire system called free-market anarchism, also
known as free-market anti-capitalism and free-market socialism to distinguish it from laissez-faire
capitalism.[9][10][11] Thus, critics of laissez-faire as commonly understood argues that a truly laissez-faire
system would be anti-capitalist and socialist.[12][13]

Welfare capitalism

Welfare capitalism is a capitalist economy that includes public policies favoring extensive provisions for
social welfare services. The economic mechanism involves a free market and the predominance of privately
owned enterprises in the economy, but public provision of universal welfare services aimed at enhancing
individual autonomy and maximizing equality. Examples of contemporary welfare capitalism include the
Nordic model of capitalism predominant in Northern Europe.[14]

Regional models

Anglo-Saxon model

Anglo-Saxon capitalism is the form of capitalism predominant in Anglophone countries and typified by the
economy of the United States. It is contrasted with European models of capitalism such as the continental
social market model and the Nordic model. Anglo-Saxon capitalism refers to a macroeconomic policy
regime and capital market structure common to the Anglophone economies. Among these characteristics are
low rates of taxation, more open financial markets, lower labor market protections and a less generous
welfare state eschewing collective bargaining schemes found in the continental and northern European
models of capitalism.[15]

East Asian model

The East Asian model of capitalism involves a strong role for state investment and in some instances
involves state-owned enterprises. The state takes an active role in promoting economic development
through subsidies, the facilitation of "national champions" and an export-based model of growth. The
actual practice of this model varies by country. This designation has been applied to the economies of
China, Japan, Singapore, South Korea, Taiwan and Vietnam.
A related concept in political science is the developmental state.

Social market economy

The social market economy was implemented by Alfred Müller-Armack and Ludwig Erhard after World
War II in West Germany. The social market economic model, sometimes called Rhine capitalism, is based
upon the idea of realizing the benefits of a free-market economy, especially economic performance and
high supply of goods while avoiding disadvantages such as market failure, destructive competition,
concentration of economic power and the socially harmful effects of market processes. The aim of the
social market economy is to realize greatest prosperity combined with best possible social security. One
difference from the free market economy is that the state is not passive, but instead takes active regulatory
measures.[16] The social policy objectives include employment, housing and education policies, as well as a
socio-politically motivated balancing of the distribution of income growth. Characteristics of social market
economies are a strong competition policy and a contractionary monetary policy. The philosophical
background is neoliberalism or ordoliberalism.[17]

Socialism
Market socialism is a form of market economy where the means of production are socially owned. In a
market socialist economy, firms operate according to the rules of supply and demand and operate to
maximize profit; the principal difference between market socialism and capitalism being that the profits
accrue to society as a whole as opposed to private owners.[18]

The distinguishing feature between non-market socialism and market socialism is the existence of a market
for factors of production and the criteria of profitability for enterprises. Profits derived from publicly owned
enterprises can variously be used to reinvest in further production, to directly finance government and social
services, or be distributed to the public at large through a social dividend or basic income system.[19]

Advocates of market socialism such as Jaroslav Vaněk argue that genuinely free markets are not possible
under conditions of private ownership of productive property. Instead, he contends that the class differences
and inequalities in income and power that result from private ownership enable the interests of the dominant
class to skew the market to their favor, either in the form of monopoly and market power, or by utilizing
their wealth and resources to legislate government policies that benefit their specific business interests.
Additionally, Vaněk states that workers in a socialist economy based on cooperative and self-managed
enterprises have stronger incentives to maximize productivity because they would receive a share of the
profits (based on the overall performance of their enterprise) in addition to receiving their fixed wage or
salary. The stronger incentives to maximize productivity that he conceives as possible in a socialist
economy based on cooperative and self-managed enterprises might be accomplished in a free-market
economy if employee-owned companies were the norm as envisioned by various thinkers including Louis
O. Kelso and James S. Albus.[20]

Models of market socialism

Market socialism traces its roots to classical economics and the works of Adam Smith, the Ricardian
socialists and mutualist philosophers.[21]

In the 1930s, the economists Oskar Lange and Abba Lerner developed a model of socialism that posited
that a public body (dubbed the Central Planning Board) could set prices through a trial-and-error approach
until they equaled the marginal cost of production in order to achieve perfect competition and pareto
optimality. In this model of socialism, firms would be state-owned and managed by their employees and the
profits would be disbursed among the population in a social dividend. This model came to be referred to as
market socialism because it involved the use of money, a price system and simulated capital markets, all of
which were absent from traditional non-market socialism.

A more contemporary model of market socialism is that put forth by the American economist John Roemer,
referred to as economic democracy. In this model, social ownership is achieved through public ownership
of equity in a market economy. A Bureau of Public Ownership would own controlling shares in publicly
listed firms, so that the profits generated would be used for public finance and the provision of a basic
income.

Some anarchists and libertarian socialists promote a form of market socialism in which enterprises are
owned and managed cooperatively by their workforce so that the profits directly remunerate the employee-
owners. These cooperative enterprises would compete with each other in the same way private companies
compete with each other in a capitalist market. The first major elaboration of this type of market socialism
was made by Pierre-Joseph Proudhon and was called mutualism.

Self-managed market socialism was promoted in Yugoslavia by economists Branko Horvat and Jaroslav
Vaněk. In the self-managed model of socialism, firms would be directly owned by their employees and the
management board would be elected by employees. These cooperative firms would compete with each
other in a market for both capital goods and for selling consumer goods.

Socialist market economy

Following the 1978 reforms, China developed what it calls a socialist market economy in which most of the
economy is under state ownership, with the state enterprises organized as joint-stock companies with
various government agencies owning controlling shares through a shareholder system. Prices are set by a
largely free-price system and the state-owned enterprises are not subjected to micromanagement by a
government planning agency. A similar system called socialist-oriented market economy has emerged in
Vietnam following the Đổi Mới reforms in 1986. This system is frequently characterized as state capitalism
instead of market socialism because there is no meaningful degree of employee self-management in firms,
because the state enterprises retain their profits instead of distributing them to the workforce or government
and because many function as de facto private enterprises. The profits neither finance a social dividend to
benefit the population at large, nor do they accrue to their employees. In China, this economic model is
presented as a preliminary stage of socialism to explain the dominance of capitalistic management practices
and forms of enterprise organization in both the state and non-state sectors.

In religion
A wide range of philosophers and theologians have linked market economies to concepts from monotheistic
religions. Michael Novak described capitalism as being closely related to Catholicism, but Max Weber
drew a connection between capitalism and Protestantism. The economist Jeffrey Sachs has stated that his
work was inspired by the healing characteristics of Judaism. Chief Rabbi Lord Sacks of the United
Synagogue draws a correlation between modern capitalism and the Jewish image of the Golden Calf.[22]

Christianity

In the Christian faith, the liberation theology movement advocated involving the church in labor market
capitalism. Many priests and nuns integrated themselves into labor organizations while others moved into
the slums to live among the poor. The Holy Trinity was interpreted as a call for social equality and the
elimination of poverty. However, the Pope John Paul II was highly active in his criticism of liberation
theology. He was particularly concerned about the increased fusion between Christianity and Marxism. He
closed Catholic institutions that taught liberation theology and dismissed some of its activists from the
church.[23]

Buddhism

The Buddhist approach to the market economy was dealt with in E. F. Schumacher’s 1966 essay "Buddhist
Economics". Schumacher asserted that a market economy guided by Buddhist principles would more
successfully meet the needs of its people. He emphasized the importance or pursuing occupations that
adhered to Buddhist teachings. The essay would later become required reading for a course that Clair
Brown offered at University of California, Berkeley.[24]

Criticism
The economist Joseph Stiglitz argues that markets suffer from informational inefficiency and the presumed
efficiency of markets stems from the faulty assumptions of neoclassical welfare economics, particularly the
assumption of perfect and costless information and related incentive problems. Neoclassical economics
assumes static equilibrium and efficient markets require that there be no non-convexities, even though
nonconvexities are pervasive in modern economies. Stiglitz's critique applies to both existing models of
capitalism and to hypothetical models of market socialism. However, Stiglitz does not advocate replacing
markets, but instead states that there is a significant role for government intervention to boost the efficiency
of markets and to address the pervasive market failures that exist in contemporary economies.[25] A fair
market economy is in fact a martingale or a Brownian motion model and for a participant competitor in
such a model there is no more than 50% of success chances at any given moment. Due to the fractal nature
of any fair market and being market participants subject to the law of competition which impose reinvesting
an increasing part of profits, the mean statistical chance of bankruptcy within the half life of any participant
is also 50%[26] and 100% whether an infinite sample of time is considered.

Robin Hahnel and Michael Albert claim that "markets inherently produce class division".[27] Albert states
that even if everyone started out with a balanced job complex (doing a mix of roles of varying creativity,
responsibility and empowerment) in a market economy, class divisions would arise, arguing:

Without taking the argument that far, it is evident that in a market system with uneven
distribution of empowering work, such as Economic Democracy, some workers will be more
able than others to capture the benefits of economic gain. For example, if one worker designs
cars and another builds them, the designer will use his cognitive skills more frequently than the
builder. In the long term, the designer will become more adept at conceptual work than the
builder, giving the former greater bargaining power in a firm over the distribution of income. A
conceptual worker who is not satisfied with his income can threaten to work for a company
that will pay him more. The effect is a class division between conceptual and manual laborers,
and ultimately managers and workers, and a de facto labor market for conceptual workers.[27]

David McNally argues in the Marxist tradition that the logic of the market inherently produces inequitable
outcomes and leads to unequal exchanges, arguing that Adam Smith's moral intent and moral philosophy
espousing equal exchange was undermined by the practice of the free markets he championed. The
development of the market economy involved coercion, exploitation and violence that Smith's moral
philosophy could not countenance. McNally also criticizes market socialists for believing in the possibility
of fair markets based on equal exchanges to be achieved by purging parasitical elements from the market
economy such as private ownership of the means of production. McNally argues that market socialism is an
oxymoron when socialism is defined as an end to wage-based labor.[28]

The role of supply and demand in a market economy

Supply and demand play an instrumental role in driving market economies by setting both prices and
quantities traded in markets. Supply is defined as any increase in price leading to an increase in supply from
producers; demand on the other hand means any drop leads to an increase in desired quantities from
consumers; these two laws meet at equilibrium when provided quantity equals quantity demanded - known
as equilibrium price/quantity equilibrium point.[29] Prices play an extremely vital role in market economies
by providing important information about commodity and service availability. When there is strong demand
but limited supply, prices increase, signaling to producers that there may be opportunities to increase profits
by producing more of that product.[30] Conversely, when there is low demand with increased supply then
prices reduce, showing manufacturers they must either reduce output or find methods of cutting costs in
order to stay competitive and remain profitable.

External factors, including shifting technological standards, new government laws, and natural catastrophes
can have a substantial impact on supply and demand. Technological innovations may increase supply,
while laws issued by governments could decrease it or even demand. Natural disasters have the ability to
severely disrupt supply chains, creating shortages of key items that increase costs while simultaneously
decreasing demand. Supply and demand play an indispensable role in any market economy by ensuring
prices reflect market forces accurately, adapting accordingly as conditions shift between supply and demand
situations, while producers adjust production according to price signals from consumers, fulfilling
customers' requests while giving individuals freedom in making purchasing choices based on personal
preferences or financial constraints. Thus supply and demand play an instrumental part in shaping and
stabilizing economies governed by market forces.

Sustainable market economy

A sustainable market economy seeks to balance economic expansion and environmental preservation.[31] It
acknowledges that sustainable environmental protection and resource management are essential for long-
term economic growth. To achieve this balance, implementing sustainable practices across sectors, such as
lowering carbon emissions, developing renewable energy sources, and putting circular economy ideas into
practice. Tax incentives, carbon trading programs, and environmental requirements are just a few ways
government rules and policies encourage enterprises to adopt sustainable practices.

At the same time, consumer demand for eco-friendly goods and services and understanding of these issues
may influence market dynamics to favour more sustainable options.[32] A sustainable market economy may
encourage innovation, provide green employment, and guarantee the welfare of future generations by
incorporating environmental factors into economic decision-making. Prioritizing sustainability while
preserving economic development needs cooperation between governments, corporations, and people.

See also
Capitalism portal

Economics portal

Law portal
 Libertarianism
portal

Co-determination
Economic freedom
Gift economy
Grey market
Keynesian economics
Market structure
Neoclassical economics
Planned economy
Regulated market

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Further reading
Åslund, Anders. “The Rise of State Capitalism.” Russia’s Crony Capitalism: The Path from
Market Economy to Kleptocracy, Yale University Press, 2019, pp. 97–131,
doi:10.2307/j.ctvgc61tr.8 (https://doi.org/10.2307%2Fj.ctvgc61tr.8).
Beckert, J. and Aspers, P. (2011). The Worth of Goods: Valuation and Pricing in the
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External links
Media related to Market economy at Wikimedia Commons
Market Systems (https://www.britannica.com/topic/economic-system/Market-systems) at
Encyclopædia Britannica Online.

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