Resource Allocation

Market Command

Private

Resource Ownership

State

Private

State

Market Capitalism

Centrally Planned Capitalism

Market Socialism

Centrally Planned Socialism

Although market capitalism and centrally planned socialism have been the two paramount economic systems in modern history, there have been others. The upper right quadrant represents a system of centrally planned capitalism, in which resources are owned by private individuals, yet allocated by command. In the recent past, countries such as Sweden and Japan—where the government has been more heavily involved in allocating resources than in the United States—have flirted with this type of system. Nations at war—like the United States during World War II— also move in this direction, as governments find it necessary to direct resources by command in order to ensure sufficient military production.

Finally, in the lower left quadrant is market socialism, in which resources are owned by the state yet allocated by the market mechanism. The possibility of market socialism has fascinated many social scientists, who believed it promised the best of both worlds: the freedom and efficiency of the market mechanism and the fairness and equity of socialism. There are, however, serious problems—many would say "unresolvable contradictions"—in trying to mix the two. The chief examples of market socialism in modern history were short-lived experiments—in Hungary and Yugoslavia in the 1950s and 1960s—in which the results were mixed at best.

Economic Systems and This Book. In this book, you will learn how market capitalist economies operate. This means that the other three types of economic systems in Figure 3 will be, for the most part, ignored. Until 10 years ago, these statements would have been accompanied by an apology that would have gone something like this: "True, much of the world is characterized by alternative economic systems, but there is only so much time in one course . . ."

In the past decade, however, the world has changed dramatically: About 400 million people have come under the sway of the market as their nations have abandoned centrally planned socialism; another billion or so are being added as China changes course. The study of modern economies is now, more than ever before, the study of market capitalism.

Understanding the Market. The market is simultaneously the most simple and the most complex way to allocate resources. For individual buyers and sellers, the market is simple. There are no traditions or commands to be memorized and obeyed. Instead, we enter the markets we wish to trade in, and we respond to prices there as we wish to, unconcerned about the overall process of resource allocation.

But from the economist's point of view, the market is quite complex. Resources are allocated indirectly, as a by-product of individual decision making, rather than through easily identified traditions or commands. As a result, it often takes some skillful economic detective work to determine just how individuals are behaving and how resources are being allocated as a consequence.

How can we make sense of all of this apparent chaos and complexity? That is what economics is all about. And you will begin your detective work in Chapter 3, where you will learn about the most widely used model in the field of economics: the model of supply and demand.

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