Economic Systems

and Ordo-Liberalism

| Siegfried Herzog
 Economic Systems -Basic Tasks

• Meet needs of the people

• Solve scarcity problem
• Allocate resources
• Combine factors of production
• Coordinate all actors
• Work efficiently

21.07.2022 | Siegfried Herzog An introduction to Liberalism

 Systems of economic decision-making
• Allocation by government decision: central planning / political
decision-making
• Allocation by decentralised individual plans coordinated by
market-price mechanism
• No third system of decision-making - only combinations of
those two
• No pure form exists; but all existing systems follow one basic
form and mix the other system in for some goods and services

21.07.2022 | Siegfried Herzog An introduction to Liberalism

 Central Plan Features
• Planning and allocation on the basis of general
assessments of costs and utility
• Centralisation: decentralised planning would
produce conflicting plans
• Individual preferences irrelevant
• Calculation of full economic costs irrelevant
• Prices don’t indicate scarcity

21.07.2022 | Siegfried Herzog An introduction to Liberalism

 Consequences of central planning
• Standardised goods
• Tendency towards big units that can be monitored
• Investment favoured over consumption
• Sectoral concentration of investment

21.07.2022 | Siegfried Herzog An introduction to Liberalism

 Fundamental problems
• Severe curtailing of individual freedom
• Inability to absorb and process information
• Innovation low due to lack of incentives
• Absence of liability principle leads to faulty risk
management and bad maintenance
• Growing misallocation as scarcities go undetected

21.07.2022 | Siegfried Herzog An introduction to Liberalism

 Constitutive Principles of Market
System
• Market price mechanism fundamental
• Monetary stability – no distortions, low risk
• Open markets to sustain competition
• Private Property
• Freedom of contract
• Liability Principle
• Steadiness of economic policy – lower risk

21.07.2022 | Siegfried Herzog An introduction to Liberalism

 Regulating Principles
• Competition policy – no concentration of economic
power in few hands
• Moderate redistribution – basic social safety
• Internalisation of externalities – charge for costs of
pollution, congestion, etc., organise or pay for
important goods and services that the market
won’t provide, like infrastructure
• Correct anomalies of supply

21.07.2022 | Siegfried Herzog An introduction to Liberalism

 Consequences of a market economy
• High degree of individual freedom and choice
• Efficient allocation of resources as prices signal
scarcity
• Liability principle induces better risk management
• Competition spurs innovation and rewards
individual effort

21.07.2022 | Siegfried Herzog An introduction to Liberalism

 Problems of a market system

• Actors try to avoid competition

• Actors try to evade liability
• Fast pace of change breeds fear
• Risk management grows complex
• High pressure to adapt and innovate
• Financial system induces business cycles that cause pain

21.07.2022 | Siegfried Herzog An introduction to Liberalism

 The messy reality: selective intervention
• State ownership of some industries and banks
• Price regulations for politically sensitive goods
• Quantitative restrictions on goods
• Restrictions on movements of goods, capital and people
• Barriers to market entry by licensing
• Restrictions on contracts through regulation
• Liability not enforced by courts or assumed by state

21.07.2022 | Siegfried Herzog An introduction to Liberalism

 Problems of selective intervention
• Government uses other people’s money, violating
liability principle, leading to misuse of funds
• Fixing prices and quantities leads to distorted
incentives, inducing harmful consequences
• Barriers to enter markets creates vested interests
and breeds corruption
• Regulation imposes costs that are hidden and have
to be borne by others – no liability, danger of abuse

21.07.2022 | Siegfried Herzog An introduction to Liberalism

 Problems of selective intervention…
• Liability assumed by state leads to unnecessary
risks. Ex.: nuclear power
• Unenforced liability, including enforcement of
contracts, leads to high risks, high transaction costs,
thus limiting exchange – economy stagnates

21.07.2022 | Siegfried Herzog An introduction to Liberalism

 Empirical test: Economic Freedom of
the World Project
• Objective: find a way to measure economic
freedom and explore the connection between it
and other variables
• 20 year project
• Led by Professor Milton Friedman, Rose Friedman
and Michael Walker
• Involved 100 of the world’s top scholars

21.07.2022 | Siegfried Herzog An introduction to Liberalism

 Conclusion
• Historical and empirical verdict clear: market
system delivers the goods!
• task now: optimise market system by realising all
constitutive and regulative principles
• reorient the state to its core functions

21.07.2022 | Siegfried Herzog An introduction to Liberalism

Thank you.
Friedrich-Naumann-Foundation for Freedom
29 BBC Tower, 25th Floor, Sukhumvit 63 Road
Bangkok 10110