The prosperity of nations all across the globe can be measured by the way their economies perform. By recognizing the manner in which the wealth and resources of countries are allocated in their respective societies, a deeper understanding of the relationships between government units and organizations is gained, potentially leading to opportunities to improve the quality of life in the long run.
This article navigates economic systems and their pros and cons. It answers questions like “What are the different types of economic systems?,” “Who are the biggest players?,” and “What is my significance as an individual to the economy?” In reading through the write-up, learners will gain a firm grasp of the various economic systems and how they apply to modern society.
Economic systems are a means by which governments and society’s sectors distribute resources throughout a region or country. They are complex and multidimensional, with the decisions made on production, produced goods, and those who would benefit from them having a moral and political context (Duffy, 2014). Encompassing organizational and regional directives, economic systems regulate capital, labor, and trade.
High-quality collective goods—including education, the environment, and even social institutions—are essential to economic development and a well-functioning society (Barney & Rangan, 2019). As such, there are a variety of ways these resources are allocated. Some economies have governments take control over the proceedings while others grant citizens near-free rein over which goods to produce, their prices, and the parties to sell them to. From those differences emerged 4 types of economies.
Source: IMF 2020
Each type of economic system has its own set of special features, and, with the exception of the mixed economy, they are vastly different from one another. None of the systems are universal solutions for all countries, as each has its own strengths and weaknesses (Gemma, 2020), but there are economies that are more likely to yield higher gross domestic products (GDPs) than others. In addition, a country may have one predominant type of economic system, but some of its regions may carry a different system, with real-world economies being more dynamic and more complex than their theoretical counterparts (Duffy, 2014).
Typically agrarian in nature, traditional economies allocate resources based on kinship, custom, and religion. It is the most long-lived of the four types and is reinforced by clannish, tribal, and sectional ties (Duffy, 2014). With this type of system, goods are produced commensurately with the needs of the local populace, thus surplus and profits are limited. Wastage, on the other hand, is also low, making this type of economy sustainable (Corporate Finance Institute, nd).
Businesses in traditional economies are conducted with social and/or religious norms in mind, sometimes at the expense of profits (Duffy, 2014). The barrier to entry is low and many of the items produced are basic consumer goods like farmland crops or woven textiles. In the event that producers gain a significant amount of surplus, they are often paid to more powerful entities like landowners or corporations.
Innovation moves at a far slower pace in traditional economies compared to the other types since there is little motivation for people to do so given that they receive an adequate supply of basic needs. The access to resources necessary to industrialize is also vastly limited, with those concentrated in the hands of a few people like corporations and aristocratic families. Nevertheless, the people, in general, are socially satisfied. After all, the ties that bind individuals and organizations are held in higher regard than profit.
In a command economy, the state decides what and how much will be produced and orders state-owned enterprises to meet specific quotas (Duffy, 2014). This type of economic system often takes shape if a country is in possession of large volumes of a valuable commodity; for instance, oil and precious minerals. The government controls that commodity’s production and distribution locally and internationally.
Command economies also occur in egalitarian forms of government like socialism and communism. In the former, the state owns and enforces the production of capital goods but allows the people to handle labor. Communism, on the other hand, grants state control and ownership of all the factors of production (Study.com, nd). Central planners are tasked to determine the goods needed by the public based on their perceived needs and wants along with their respective quantities.
With the government lording over an entire country’s production, there are enough jobs to accommodate a majority of the public, more than what the other economic systems have to offer in theory (Duffy, 2014; Gemma, 2020). Government initiatives are also unimpeded, rolled out with a concerted effort from the public, which potentially propels an economy. Certain public freedoms, however, are given up for the “greater good” of the country and the welfare of the people.
In a market economic system, the control and direction of financial and other resources lie preponderantly with entrepreneurs, enterprises, and executives operating in a diverse array of organizations within markets (Barney & Rangan, 2019). The government does not control the land’s valuable commodities nor does it figure heavily in the production and distribution of those commodities.
The market economic system, in theory, alludes to a free market with barely any government intervention in regard to producing and distributing a nation’s vital resources, but that is not really the case in real-world economies (Duffy, 2014). Governments in market economies regulate trade to maintain fairness within markets and prevent enterprises from gaining too much power over industries. This is also a means of curbing or preventing inflation and market volatility.
With enterprises in charge of their respective industries, the gaps between supply and demand can be quickly acted upon. Meanwhile, the competition in the market affords the public lots of options per commodity and also pushes producers to improve the quality of their goods. A downside, however, is the huge disparity in wealth among social classes.
A key identifier of this economic system is the separation between the market and the government (Gemma, 2020), with supply and demand dictating how resources are allocated (Amadeo, 2020).
Source: The Heritage Foundation 2020
The mixed economic system, also known as the dual system, combines some of the characteristics of traditional, command, and market economies (Amadeo, 2020). It has myriad variations, with the most prevalent ones incorporating free market systems in the industrial sector while applying some of the principles of command economies in utilitarian sectors like public utilities or education (Gemma, 2020). Meanwhile, the traditional economies in rural areas are left untouched.
The models of mixed economies tend to vary based on the needs and priorities of the public (Amadeo,2020). In some economies, governments are allowed to map out plans to raise economic performance akin to the planners in command economies. In others, governments take charge of international affairs and spearhead programs for aeronautics, banking, and other key sectors.
As mixed economies assimilate the traits of the other three economic systems, they gain some of the advantages and disadvantages that come with those systems. Moreover, the flexibility that a mixed economy affords is more applicable to real-world economies given their complex nature. After all, the states or regions that make up a country tend to vary in governance and the manner in which resources are produced and distributed.
As the world’s largest economy, the United States has mostly recovered from the Great Recession as it enjoys favorable rates on growth, inflation, and unemployment (Shatz, 2016). In 2019, this mixed economy posted a nominal GDP of $21.44 trillion, a figure that is expected to rise to $22.32 trillion in 2020 (Silver, 2020). It also has a purchasing power parity (PPP), which measures the purchasing power of nations, of $21.44 trillion.
Although it has lost the top spot in terms of PPP to China, the U.S. is projected to maintain its status as the world’s biggest economy in the near future with its projected nominal GDP of $24.48 trillion in 2023.
China is quickly catching up to the global economic leader, the United States, thanks to its massive export and manufacturing industries. In fact, it has already overtaken the U.S. in terms of PPP in 2019, amounting to $27.31 trillion, $5.91 trillion more than that of the U.S. In terms of nominal GDP, China stands at $14.4 trillion (Silver, 2020). The gap between China and the U.S. has been shrinking steadily, and it will continue to do so in the next few years, as it is projected to have a nominal GDP of $19.01 trillion in 2023 (Silver, 2020).
China’s economic system has been the subject of research. It was widely thought that the country has a socialist economy, a type of command economic system, after decades of being a communist country (Chappelow, 2020). However, in a study has revealed that the Chinese economy fuses elements of capitalism with socialism (Bada, 2019), making it a mixed economy.
Japan is the second-largest economy in Asia and the third-largest in the world. In 2019, the Japanese economy was valued at $5.15 trillion in terms of nominal GDP while its PPP was at $5.75 trillion (Silver, 2020). It is still feeling the effects of the 2008 financial crisis but has since taken measures to recover. Though fundamentally capitalist, Japan has a mixed economy, with the government intervening in several industrial sectors (Amadeo, 2020).
With a nominal GDP of $3.86 trillion and PPP of $4.44 trillion in 2019, Germany is Europe’s largest economy (Silver, 2020). Like most developed countries, it was heavily affected by the Great Recession in 2008 but managed to recover through its manufacturing industry, strategic taxation, and initiatives to cut down unemployment. Germany has a mixed economy, with a market economy in commodities and services and a command economy in defense, education, and healthcare (Amadeo, 2019).
India is one of the fastest-growing economies in the world and has become the world’s fifth-largest in 2019. It has a nominal GDP of $2.94 trillion and a PPP of $10.51 trillion (Silver, 2020). Although it has a long way to go before it catches up to the U.S. and China, the South Asian nation is steadily gaining ground on Germany and Japan. According to the Centre for Economics and Business Research, as reported by India’s The Economic Times, the country is poised to overtake Germany in 2026 and Japan in 2034 should the economic conditions remain constant (The Economic Times, 2019).
India has a mixed economy. Its urban regions carry a market economy while the rural cities have a traditional one (Amadeo, 2020).
Source: Investopedia 2020
With the 4 types of economies primarily concerned about systems and organizations, it is important to note that many laissez-faire economists fail to acknowledge that institutions are only as effective as the human factor qualities of those who design, lead, implement, and manage them (Adjibolooso, 2017). After all, human capital serves as the moving parts of economic systems, with individuals involved in every stage of production and resource allocation.
Human factor decay is reflective of an individual’s negative character traits (Adjibolooso, 2017) and is caused by a wide range of factors, from poor living and working conditions to human rights abuses and other forms of social injustice. If left unaddressed, the negative attitudes of people influence their work performance, which, in turn, yield outputs of lower quality and quantity. It could ripple up to later affect industries and eventually economies.
Solutions to enhancing the human factor are not as simple as offering raises or providing tax incentives, especially in less-developed countries; they are more dependent on their manpower. To fully enhance the human factor, transformational development in 1) spiritual capital, 2) moral capital, 3) human abilities, 4) human potential, 5) aesthetic capital, and 6) human capital should be enforced (Adjibolooso, 2017, p 95).
Transformational development is achieved through education, ingraining the six aforementioned dimensions across school curricula or training modules, then applied in communities. This will result in driven leaders, managers, and laborers who have a good moral compass (Adjibolooso, 2017).
Each type of economic system has its own distinguishing traits reflective of a country’s resources, the brand of leadership applied, and the needs and wants of the locale. A traditional economy is largely primitive as it operates on social norms, religious beliefs, and basic needs rather than prioritizing profit and economic growth (Duffy, 2014). A command economy features the government taking ownership of the production and distribution of major commodities (Gemma, 2020). Meanwhile, in a market economy, entrepreneurs, enterprises, and social organizations control the market (Gemma, 2020), creating a lot of opportunities for economic growth.
And finally, the most prevailing type of economic system among the world’s largest economies is the mixed system, which combines the features of the other types of economic systems (Amadeo, 2020). Countries with this economy typically leverage the profit-generating trade of free markets and implement a command system in sectors left out by market economies. It is by no means a perfect system, but many of the world’s biggest economies have transitioned to this type of economy to raise their GDPs and encapsulate their complex real-world economies, particularly China (Chappelow, 2020).
A variable that should not be left out of the discussion is the human element. After all, unmotivated or dissatisfied individuals influence organizational performance, which, in turn, can spiral to adversely affect economies (Adjibolooso, 2017). Enhancing the human factor is paramount should an economy intend to boost its yield. What countries can do is incorporate holistic transformational development methods into their educational programs, so a competent and driven workforce is produced at the scholastic level (Adjibolooso, 2017).
All that said, a perfect economic system has yet to be discovered. Although having a mixed economic system is a commonality shared by five of the world’s biggest economies, the ideal blend of market freedom and government intervention has yet to be realized. The truth is every economy is still a work in progress, including the most prosperous ones. And it will ceaselessly evolve with society and technology through time. With this, it is safe to assume that learning economics is a never-ending process.