Chapter – Market Regulation
Free Market
The free market economy is an economic system where the basic economic issues, such as what to produce, how to produce, for whom to produce, and at what price to produce, are determined by the market, and there is almost no or minimal role of government in the economy. Such an economy is also called a capitalist economy, in which the private sector/market makes economic decisions.
In a free-market economy, the role of government is limited to protecting the right to private property, providing basic public goods, and maintaining law and order to protect people’s lives and property.
It is assumed that the private sector is more efficient than the government, and so the private sector or market should be given responsibility for driving the economy. The government should facilitate the private sector.
A free-market economy assumes that the private sector can promote growth and prosperity through innovation and competition when it is given the right to private property. The price mechanism determines the efficient allocation of resources, and there is freedom of choice. The market economy determines the economic outcome through the interaction between market demand and supply. It promotes competition, efficiency, and growth of the economy.
Basic Assumptions of the Free Market
- Right to private property
- Freedom of choice in making economic decisions
- Price mechanism or demand-supply interaction
- Consumer soveirgngty
- Competition and innovation
- Limited (minimum) role of government
- Decentralized decision making
- Priority on efficiency and growth
- Efficient mobilization of resources
Collectivist Economy
In the collectivist economy, the resources are collectively owned by the community or state, where economic decisions such as what to produce, how to produce, and how much to produce, where to produce, etc, are decided by the government. There is no individual choice in economic decision-making and no right to private property.
This type of economy assumes that the government has better information on the needs and priorities of society. So, the government can better handle the economy. The follower of this type of economy argues that the private sector market works for only profit, and it is an inhuman or unjust system. The market of the private sector creates inequality by the structure of the economy itself. So, the government should control the economy for equity and justice.
In this type of economy, there is a centralized planning authority that makes all decisions about the economy. There is full control of the government in major economic decisions such as production, pricing, and distribution. The major goal of this type of economy is social welfare, equality, and the elimination of all forms of exploitation.
Basic Assumptions of the Collectivist Market
- Ownership of the resources by the state or government
- Centralized economic planning
- Equity and social welfare are the main objectives
- Absence of market forces and price mechanism
- No freedom in economic decisions
- Focus on distribution and equality
- No role of the private sector
- Government is the sole provider of employment
Efficiency vs Equity
Efficiency is related to increased productivity and economic growth. If the economic system promotes efficiency, it helps to maximize growth. Efficiency is enhanced through innovation and the development of better technology. The free market economy promotes efficiency where the private sector or market competes with each other and makes production more efficient.
To promote efficiency, the government should provide incentives to the private sector that help to enhance the productivity and growth of the economy.
On the other hand, equity is related to a fair distribution of resources. Equity aims to maximize social welfare through the even distribution of income, wealth, and opportunities. The collectivist economy prioritizes equity or distribution.
So, there is a trade-off between efficiency and equity in the economy. It means that if we are focused only on efficiency, it is costly for the economy. For example, in order to enhance efficiency, the government should provide incentives to the private sector, such as subsidies, tax exemptions, subsidized credit, private sector-friendly infrastructure, and an environment. This reduces the cost of doing business in the private sector, and more efficient firms can earn more profit and create more wealth, while the other, less efficient firms are losing their market and profit. It increases inequality in the economy.
Similarly, if we are focused only on equity, then we need highly progressive taxation and social security for those who are poor and marginalized. Since the focus is on the fair distribution of income and resources from the rich to the poor, it discourages private sector innovation, investment, and growth. This ultimately affects the efficiency and growth of the economy.
Although there is a trade-off between efficiency and equity, we can use appropriate policy to balance efficiency and equity in the economy.
The major policies for this are
- Investing in human capital, especially in the poor and disadvantaged sector of society.
- Market-friendly policies with social protection, such as food subsidies, basic health care, targeted cash transfer, etc.
- Public investment in infrastructure, basically in the remote rural areas.
- Promote a competitive market environment and control of monopolies, cartels, and unhealthy market practices.
- An appropriate tax structure system to support efficiency and equity.
- Reducing inequality of opportunity but not outcome.