The Market System and Circular Flow

Every society needs to develop an economic system which is a particular set of institutional arrangements and according mechanism, in order to respond to the economizing problem.
The command system, which is also known as socialism or communism, is the system which the government owns most property resources and economic decision-making occurs to a central economic plan. A pure command economy relies exclusively on a central plan to allocate the government owned property resources.
The opposite of the command system is the market system, or capitalism. The system is characterized by the private ownership of resources and the use of markets and prices to coordinate and direct economic activity. Participants seek to act in their own self-interest, with individuals and businesses seeking to achieve their economic goals for their own decisions regarding work, consumption, or production. In pure capitalism government’s role is limited to protecting private property and establishing an environment appropriate for the operation of the market system.
In the market system, private individuals and firms, not the government, own most of the property resources. The right of private property, combined with the freedom to negotiate binding legal contracts, enables individuals and businesses to obtain, use, and dispose of property resources as they see fit. Property rights extend intellectual property, patents, copyrights, and trademarks. Property rights also facilitate exchange. Property rights enable people to use their time and resources to produce more goods and services, rather than to protect and retain the property they already produced or acquired.
Freedom of enterprise insurance entrepreneurs and private businesses are free to obtain and use economic resources to produce their choice of goods and services and to sell them in their chosen markets.
Freedom of choice enables owners to employer dispose of their property and money as they see fit. It also allows workers to try to enter any line of work for which they are qualified, and ensures that consumers are free to buy the goods and services that best satisfy their wants and that their budget allows.
In the market system, self-interest is the motivating force of the various economics units involved in expressing their free choices. This means that each economic unit is trying to achieve its own particular goal, which usually requires delivering something of value to someone else.  The market system depends on competition among economic units requiring two or more buyers and two or more sellers acting independently in a particular product or resource market and requiring the freedom of sellers and buyers to enter or leave markets, on the basis of their economic self-interest. Competition among buyers and sellers defuses the economic power within the businesses and households that make up the economy. A market is an institution or mechanism that brings buyers and sellers into contact.
The market system things like competition, freedom of choice, self-interest, and personal rewards provide opportunities and motivations for technological advances. The market system and therefore encourages extensive use and rapid development of complex capital goods: tools, machinery, large scale factories, and facilities for storage, indication, transportation, and marketing. Advanced technology and capital goods are important because the most direct methods of production are often the least efficient.
Market economies rely on specialization to an extraordinary extent. Specialization is the use of resources of an individual, firm, region, our nation to produce one or few goods or services rather than entire range of goods and services.
Human specialization is called the division of labor and it contributes to society’s output in several ways:
•    Specialization enables individuals take advantage of existing differences in their abilities and skills.
•    Specialization allows learning by doing; by devoting time to a single task, a person is more likely to develop the skills required to improve techniques and networking in a number of different tasks.
•    Specialization saves time, by avoiding the loss of time incurred in shifting from one job to another.
Specialization also works on a regional or national basis, by allowing products to be produced where they are most efficient. Specialization enables multiple economies to produce more than is needed locally, and then swap their surplus.
Money performs several functions the most important of which is that it is a medium of exchange. Specialization requires exchange which can occur through barter, recently swapping goods for goods. Barter produces a problem because it requires a coincidence of wants between the buyer and seller. Money is simply a convenient social invention or to facilitate the change of goods and services were barter is inconvenient. Money is socially defined, whatever society accepts as a medium of exchange is money.
An active but limited government is the final characteristic of market systems in modern advanced industrial economies.
The key features of the market system explain how market economies respond to five fundamental questions:
•    What goods and services will be produced?
•    How will the goods and services be produced?
•    Who will get the goods and services?
•    How will the system accommodate change?
•    How will the system promote progress?
Goods and services produced in the continuing profit will be produced, and those produced in the continuous loss will not. Profits and losses are the difference between the total revenue received from the sale of its products and the total opportunity cost of producing those products. Consumer sovereignty is crucial in determining the types and quantities of goods produced. Through dollar votes consumers register their wants and the market. The employment of resources derived from the sale of goods and services that the resources help produce.
The production of goods and services will be organized in combinations in ways that minimize the cost per unit of output. Competition eliminates high cost producers because profitability requires that firms produced output at minimal cost per unit. The most efficient production techniques available depend on technology and the prices of needed resources. Economic efficiency requires obtaining a particular output of the product with the least input of scarce resources, when both output and resource inputs are measured in dollars and cents. A change in either technology or resource prices may cause a firm to shift from the technology it is using.
Generally any product will be attributed to customers on the basis of their ability and willingness to pay its existing market price. The amount of income possessed depends on the quantities of the property and human resources they supply and the price is those resources command and resource market.
Market systems are dynamic, as consumer preferences, technology, and supplies of resources all change. Change means that the particular allocation of resources that is now the most efficient for a specific pattern of customer tastes, range of technological alternatives, and amount of available resources will become obsolete and inefficient as consumer preferences change, new techniques of production are discovered, and resource supplies change over time. The market system relies on communication, and communication occurs as changes in prices and profits, relaying basic information such as consumer tastes.
Society desires economic growth and higher standards of living. The market system provides a strong incentive for technological advance enables better products and processes to supplant inferior ones. The market system also promotes the rapid spread of technological advances Russian industry. Failure to follow the lead of the most innovative firms can result in immediate losses and eventual failure, or creative destruction-the creation of new products and production methods can completely destroy the market positions of firms that are wedded to existing products and older ways of doing business. Most ecological advances require additional capital goods.
Some virtues of the market system require special emphasis:
•    Efficiency-the market system promote the efficient use of resources by guiding them to the production of the goods and services most wanted by society.
•    Incentives-market system encourages skill acquisition, hard work, innovation.
•    Freedom-a non-economic argument for market system is the emphasis on personal freedom, as the market system coordinates economic activity without coercion.
The dynamic market economy creates continuous, repetitive flows of goods and services, resources and money, which can be illustrated in by a circular flow diagram.  The other part of the circular flow diagram represents the resource market, the place where resources or the services of resource suppliers are bought and sold. The lower part of the diagram represents the product market, the place where goods and services produced by businesses are bought and sold.
The command systems, such as those used in the Soviet Union and pre-reform China, met demise because of coordination difficulties under central planning and the lack of profit incentive. Coordination problem resulted in bottlenecks, inefficiencies, and the focus on a limited number of products, while the incentive problem discouraged product improvement, new product development, and entrepreneurship.

McConnell, C. R., Brue, S. L., & Flynn, S. M. (2009). Economics: Principles, problems, and policies (18th ed.). Boston, MA: McGraw-Hill Irwin.

© 2012, Within this mind. All rights reserved.

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About Kinda Strange

I am a student at the University of Phoenix majoring in information technology. This is where I come to babble incoherently…err…make notes, talk about things that catch my interest, share ideas, etc...
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