The (Free) Market System | Economics for Grade 12 PDF Download

Different Economic Systems

• In order to solve the basic economic problem of scarcity, economic systems emerge or are created by different economic agents within the economy
  • These agents include consumers, producers, the government, & special interest groups (e.g. environmental pressure groups or trade unions)
  • Any economic system aims to allocate the scarce factors of production
•  The three main economic systems are a (free) market system, mixed economy, & planned economy
  

How the three questions are answered determines the economic system of a country

• Economic decisions need to be made to answer three important questions
  • What to produce? As resources are limited in supply, decisions carry an opportunity cost. Which goods/services should be produced e.g. better rail services or more public hospitals?
  • How to produce it? Would it be better for the economy to have labour-intensive production so that more people are employed, or should goods/services be produced using machinery?
  • For whom are the goods and services to be produced? Should goods/services only be made available to those who can afford them, or should they be freely available to all?

  How These Questions Are Answered Determines the Economic System

How a Market System Works

• A market system works to allocate scarce resources efficiently, purely through the forces of demand & supply (the price mechanism)
  • There is no government intervention in a pure market system (no taxes or government spending)
  • In reality, there is no economy which is a pure market system
•  In a market system, prices for goods/services are determined by the interaction of demand & supply 
  • A market is any place that brings buyers & sellers together
  • Markets can be physical (e.g. McDonald's) or virtual (e.g. eBay)
•  The price mechanism is the interaction of demand and supply in a free market
  • This interaction determines prices which are the means by which scarce resources are allocated between competing wants/needs
• The price mechanism fulfils several functions in an economy
  • Prices allocate (ration) scarce resources. When resources become scarcer the price will rise further. Only those who can afford to pay for them will receive them. If there is a surplus then prices fall & more consumers can afford them
  • Prices provide information to producers & consumers where resources are required (in markets where prices increase) & where they are not (in markets where prices fall)
  • When prices for a good/service rise, it incentivises producers to reallocate resources from a less profitable market to this market in order to maximise their profits. Falling prices incentivise reallocation of resources to new markets 

Market Equilibrium & Disequilibrium

• Equilibrium in a market occurs when demand = supply
• At this point the price is called the market clearing price
  • This is the price at which sellers are clearing their stock at an acceptable rate
    
• A graph showing a market in equilibrium with a market clearing price at P and quantity at Q
• Any price above or below P creates disequilibrium in this market
  • Disequilibrium occurs whenever there is excess demand or supply in a market