Types of Economic System

Economic System is of strategic importance for an economy to decide what goods and services to be produced, how it is to be produced, and for whom it is to be produced. These questions are answered differently in different economic systems. Three types of Economic System are discussed below


Types of Economic System


Types of Economic System #1


Free Market or Capitalist System

In a free-market economy or a capitalist economy, the decisions regarding what, how, and for whom to produce are governed by the market forces. In other words, demand and supply are of strategic importance in this type of economic system. Only those goods and services are produced that have greater demand and that ensure greater profitability.

However, those goods that have low profitability will not be produced even if demand exists for them. For example, services such as free health will not be provided even though they are in demand as they are not profitable. This system does not acknowledge any kind of government intervention. For the production of goods and services, the choice of the factors of production is guided by the availability and the cost of factors of production. That is, those factors of production are used that are readily available and are relatively cheaper. Since the decisions regarding production are solely based on the market forces of demand and supply, economic growth is accelerated.

However, the distribution of goods and services is based on purchasing power. Only those consumers can purchase the goods and services who can afford them. As against this, those consumers who do not have the purchasing capacity will not be able to consume the goods and services. Thus, in this economic system, the welfare of the people is adversely affected.


Types of Economic System #2


Socialist System

Under a socialist economic system, the decisions regarding the central problems of what to produce, how to produce, and for whom to produce are taken by the government. As against the capitalist system, where the production and consumption decisions are taken on the basis of demand and supply, in the socialist system the main decisive factor is the welfare of the society as a whole.

In other words, the needs of the society are given prime importance in the decision-making by the government. The government ensures that social equality is maintained. The private players are devoid of any participation in the economy. The process of production is undertaken by the government. Also, the distribution of various goods and services is carried out by the government. The consumers in this economic system are not free to choose what they want to consume, rather they consume what is provided to them by the government. Although this system ensures welfare in the society, with the working of the government it is often found that corruption and inefficiency creep in the system.


Types of Economic System #3


Mixed Economy

This economic system identifies the role of both the private sector as well as the government. While on one hand, private players aim at maximization of individual profits, on the other hand, the government aims at maximization of the welfare of the society.

Thus, while the participation of market forces ensures accelerated growth, on the other hand, interference of the government ensures social welfare and equality. In the private sector, the production of goods and services is carried out in accordance with the market forces of demand and supply. Those goods and services are produced by the private sector which is in demand and is profitable. As against this, the production of certain key goods and services that are essential from the welfare perspective such as education, health, defense, etc. are provided by the government. India is an idealistic model of a mixed economy.


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