Market economy

Market Economy is an economic system where all or most of the resources are owned and controlled by private individuals such that market forces of supply & demand are used to allocate scarce resources between alternative uses. In this system, government plays a limited role. In Market Economy the problems related to resource allocation are solved through price mechanism. Market Economy is otherwise known as Free Enterprise Economy, Capitalist Economy or Laizzes-faire Economy. This is a system which provides considerable freedom for producers and consumers. But pure market system does not exist in the world. The closest examples of this system exist in USA and Japan.

Features of Market Economy

1. Private ownership All or most of the means of productions are owned and controlled by private individuals. Individuals have the right to own, control and dispose land, buildings, machinery and other economic resources.

2. Freedom of choice Firms are free to decide what and how they should produce goods and services. Workers are free to enter and leave occupations. Consumers are free to spend their income as they wish. Hence, it provides a considerable freedom for all economic agents.

3. Self-Interest This system encourages people to do what is best for them. Firms will try to maximise profits, workers will try to maximise their income, and consumers will try to maximise their satisfactions.

4. Price mechanism In a market economy all the economic decisions related to resources allocation are done through price mechanism. The interactions of demand and supply determine the prices of goods and services.

5. Limited role for the government A market economy is often described as a free enterprise economy, because it is free from government control. A government has very few economic roles in a market economy. The government interfere only to maintain law and order and to protect the country from internal and external affairs.

Advantages of Market Economy

1.  More freedom for economic agents As Market economy provides a considerable freedoms, the economic agents have each and every right to work hard for their betterment. Thus, this gives success for the economy as a whole. 

2. Competition leads to efficiency This system encourages competition between the firms and individuals. The incentive and efforts to win the competition increases the efficiency of firms and individuals.

3. Efficient resource allocation Since the resources are distributed by private individuals according to the market forces of demand and supply, the resource allocation is done efficiently based on the principle of economizing(making the most of) the limited resources.

4. Incentives for innovation The huge competition in this system encourages firms and individual to innovate new ideas, techniques and technologies in order to be in front or cope with the competition forwarded by rivals.   

5. Consumer sovereignty This system provides the maximum powers to the consumers. Thus, consumers are described as the ‘kings’ in market economic system. Hence, producers should consider the tastes and preferences of consumers in order to carry out profitable economic activities.

6. Small number of civil servants In market economic system, private individuals own and control all or most of the economic activities. Therefore the government does not have to employ a very large civil service and can reduce the expenditure on the salary of civil servants to enjoy a positive budget.

Disadvantages of Market economy

1. Inequalities of income and wealth As each and every individual in this system try to maximise the benefit for him/her self, income and wealth are distributed unequally. Inequalities in private ownership of factors of production create a wide gap between rich and poor.

2. Economic Instability Since there is no body to regulate the market economy, it is always subject to booms and depressions (ups and downs). It creates uncertainty about employment and business success.

3. Abuse of monopoly power In a market economy more successful firms may drive out the less successful ones. If private monopoly is created and one or few private firms become dominant in the market, there is the possibility of exploiting the consumers by charging higher prices.

4. Absence of welfare motive Profit motive is the guiding principle of market economy. It makes no provision for the unsuccessful or less fortunate in the market. Private Sector in most cases fails to work for the welfare of the society. Resources are diverted only for the profitable goods and services.

5. Encourage the consumption of harmful goods Free market may encourage the consumption of demerit goods like drugs and alcohol...etc. A large market for these harmful goods may be created as the government role in the economic activities is limited. Moreover, people become addicted to these goods and the high demand for these goods attracts a large supply of these goods.

6. It lacks provision of public goods and merit goods As the main motive of private sector is to maximize profit, it is not often possible for them to be engaged in any economic activity in which no or low price is charged. So, private sector in most cases fails to provide merit goods and public goods.

7. It ignores social cost in the society When economic agents try hard for their own benefit, in most cases they fail to consider social costs for the society. It ignores the social cost like air pollution, congestion and over-exploitation of non-renewable resources.