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A market economy is an economy in which decisions regarding investment, production and distribution are based on supply and demand, and prices of goods and services are determined in a free price system. The major defining characteristic of a market economy is that decisions on investment and the allocation of producer goods are mainly made through markets. This is contrasted with a planned economy, where investment and production decisions are embodied in a plan of production.
Market economies can range from hypothetical laissez-faire and free market variants to regulated markets and interventionist variants. In reality market economies do not exist in pure form, since societies and governments regulate them to varying degrees. Most existing market economies include a degree of economic planning or state-directed activity, and are thus classified as mixed economies. The term free-market economy is sometimes used synonymously with market economy, but it may also refer to laissez-faire or Free-market anarchism.
Market economies do not logically presuppose the existence of private property in the means of production; a market economy can consist of various types of cooperatives, collectives or autonomous state agencies that acquire and exchange capital goods with each other in a free price system. There are many variations of market socialism, some of which involve employee-owned enterprises based on self-management; as well as models that involve public ownership of the means of production where capital goods are allocated through markets.
The term market economy used by itself can be somewhat misleading. For example, the United States constitutes a mixed economy (substantial market regulation, agricultural subsidies, extensive government-funded research and development, Medicare/Medicaid), yet at the same time it is rooted in a market economy. Different perspectives exist as to how strong a role the government should have in both guiding the market economy and addressing the inequalities the market produces.
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Capitalism generally refers to economic system where the means of production are largely or entirely privately owned and operated for a profit, structured on the process of capital accumulation. In general, investments, distribution, income, and prices are determined by markets.
There are different variations of capitalism with different relationships to markets. In Laissez-faire and free market variations of capitalism, markets are utilized most extensively with minimal or no state intervention and regulation over prices and the supply of goods and services. In interventionist, welfare capitalism and mixed economies, markets continue to play a dominant role but are regulated to some extent by government in order to correct market failures or to promote social welfare. In state capitalist systems, markets are relied upon the least, with the state relying heavily on either indirect economic planning and/or state-owned enterprises to accumulate capital.
Capitalism has been dominant in the Western world since the end of feudalism, but most feel[who?] that the term "mixed economies" more precisely describes most contemporary economies, due to their containing both private-owned and state-owned enterprises. In capitalism, prices determine the demand-supply scale. For example, higher demand for certain goods and services lead to higher prices and lower demand for certain goods lead to lower prices.
Anglo-Saxon capitalism refers to the form of capitalism predominant in Anglophone countries and typified by the economy of the United States. It is contrasted with European models of capitalism such as the continental Social market model and the Nordic model. Anglo-Saxon capitalism refers to a macroeconomic policy regime and capital market structure common to the Anglophone economies. Among these characteristics are low rates of taxation, more open financial markets, lower labor market protections, and a less generous welfare state eschewing collective bargaining schemes found in the continental and northern European models of capitalism.
The East Asian model of capitalism is based on a strong role for state investment, and in some cases, state-owned enterprises. The state takes an active role in promoting economic development through subsidies, facilitation of "national champions", and an export-based model of growth.
Laissez-faire is synonymous with what was referred to as strict capitalist free market economy during the early and mid-19th century as a classical liberal (right-libertarian) ideal to achieve. It is generally understood that the necessary components for the functioning of an idealized free market include the complete absence of government regulation, subsidies, artificial price pressures, and government-granted monopolies (usually classified as coercive monopoly by free market advocates) and no taxes or tariffs other than what is necessary for the government to provide protection from coercion and theft, maintaining peace and property rights, and providing for basic public goods. Right-libertarian advocates of anarcho-capitalism see nidia the state as morally illegitimate and economically unnecessary and destructive.
This model was implemented by Alfred Müller-Armack and Ludwig Erhard after World War II in West Germany. The social market economic model is based upon the idea of realizing the benefits of a free market economy, especially economic performance and high supply of goods, while avoiding disadvantages such as market failure, destructive competition, concentration of economic power and anti-social effects of market processes. The aim of the social market economy is to realize greatest prosperity combined with best possible social security. One difference from the free market economy is that the state is not passive, but takes active regulatory measures. The social policy objectives include employment, housing and education policies, as well as a socio-politically motivated balancing of the distribution of income growth. Characteristics of social market economies are a strong competition policy and a contractionary monetary policy. The philosophical background is Neoliberalism or Ordoliberalism
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Market socialism refers to various types of economic systems where the means of production and the dominant economic institutions are either publicly owned or cooperatively owned but operated according to the rules of supply and demand. This type of market economy has its roots in classical economics and in the works of Adam Smith, the Ricardian socialists and Mutualist philosophers.
The distinguishing feature between non-market socialism and market socialism is the existence of a market for factors of production and the criteria of profitability for enterprises. Profits derived from publicly owned enterprises can variously be used to reinvest in further production, to directly finance government and social services, or be distributed to the public at large through a social dividend or basic income system.
In Oskar Lange and Abba Lerner's model of market socialism, the Lange theorem posits that a public body (dubbed the Central Planning Board) can set prices through a trial-and-error approach until they equaled the marginal cost of production so to achieve perfect competition and pareto optimality. In this model of socialism, firms would be state-owned and managed by their employees, and the profits would be disbursed among the population in a social dividend.
A more contemporary model of market socialism is that put forth by the American economist John Roemer, referred to as Economic democracy. In this model, social ownership is achieved through public ownership of equity in a market economy. A Bureau of Public Ownership (BPO) would own controlling shares in publicly listed firms, so that the profits generated would be used for public finance and the provision of a basic income.
Libertarian socialists and left-anarchists often promote a form of market socialism in which enterprises are owned and managed cooperatively by their workforce so that the profits directly remunerate the employee-owners. These cooperative enterprises would compete with each other in the same way private companies compete in a capitalist market. An example of this economic model would be mutualism.
Self-managed market socialism was promoted in Yugoslavia by economists Branko Horvat and Jaroslav Vanek. In the self-managed model of socialism, firms would be directly owned by their employees and the management board would be elected by employees. These cooperative firms would compete with each other in a market for both capital goods and for selling consumer goods.
Following the 1978 reforms, the People's Republic of China instituted what it calls a "socialist market economy", in which most of the economy is under state ownership, but the state enterprises are reorganized into joint-stock companies where various government agencies own controlling shares through a shareholder system. Prices are set by a largely free-price system and the state-owned enterprises are not subjected to micromanagement by a government planning agency. A similar system called "socialist-oriented market economy" has been implemented in Vietnam following the Đổi Mới reforms in 1986.
However, this system is usually characterized as state capitalism instead of market socialism because there is no meaningful degree of employee self-management in firms, because the state enterprises retain their profits instead of distributing them to the workforce or government, and many function as de facto private enterprises. The profits neither finance a social dividend to benefit the population at large, nor do they accrue to their employees.
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Robin Hahnel and Michael Albert claim that "markets inherently produce class division." Albert states that even if everyone started out with a balanced job complex (doing a mix of roles of varying creativity, responsibility and empowerment) in a market economy, class divisions would arise.
"(...) Without taking the argument that far, it is evident that in a market system with uneven distribution of empowering work, such as Economic Democracy, some workers will be more able than others to capture the benefits of economic gain. For example, if one worker designs cars and another builds them, the designer will use his cognitive skills more frequently than the builder. In the long term, the designer will become more adept at conceptual work than the builder, giving the former greater bargaining power in a firm over the distribution of income. A conceptual worker who is not satisfied with his income can threaten to work for a company that will pay him more. The effect is a class division between conceptual and manual laborers, and ultimately managers and workers, and a de facto labor market for conceptual workers (...)".
David McNally argues that the logic of the market inherently produces inequitable outcomes and leads to unequal exchanges, arguing that Adam Smith's moral intent and moral philosophy espousing equal exchange was undermined by the practice of the free markets he championed. The development of the market economy involved coercion, exploitation and violence that Adam Smith's moral philosophy could not countenance. McNally also criticizes market socialists for believing in the possibility of "fair" markets based on equal exchanges to be achieved by purging "parasitical" elements from the market economy, such as private ownership of the means of production. McNally argues that market socialism is an oxymoron when socialism is defined as an end to wage-based labor.