The Market System Chapter 4 2/17/2019

Characteristics of a Market System Private Property Freedom of Enterprise and Choice Self-Interest Competition Reliance on Technology & Capital Goods Specialization Use of Money Active, but Limited, Government 2/17/2019

Private Property Individuals & firms (not government) own most of the property resources. Property rights encourage investment, innovation, exchange, maintenance of property, and economic growth. Patents, Copyrights, & Trademarks Resources meaning labor, land, capital, etc. If you are a business owner and you know that you will be rewarded for being innovative and/or selling something of value to the customer, then you will sell that item. These are protected under private property as well. This encourages people to invent new products and production processes without fear that others will steal them. 2/17/2019

Freedom of Enterprise & Choice Enterprise – ensures business owners the right to use resources to produce items that can be sold. Choice – enables owners to employ or dispose of their property and money as they see fit. 2/17/2019

Self-Interest Each economic unit tries to do what is best for itself. Involves maximizing some benefit. i.e. entrepreneurs try to maximize profit or minimize loss. Property owners try to get the highest price for the sale of their property. Workers try to maximize their utility by finding jobs that offer the best combination of wages, hours, fringe benefits, and working conditions. 2/17/2019

Competition Requires: Independently acting sellers & buyers operating in a particular product or resource market. Freedom of sellers & buyers to enter or leave markets on the basis of their self-interest. 2/17/2019

Reliance on Technology & Capital Goods The market system encourages extensive use and development of capital goods: tools, equipment, etc. 2. The most direct methods of production are often the least inefficient. 2/17/2019

Specialization Also known as “division of labor” Specialization makes use of differences in ability Specialization fosters learning by doing Specialization saves time 2. Enables individuals to take advantage of existing differences in their abilities and skills. 3. By devoting all your time to a single task, you are more likely to develop skills and improve your productivity. 4. Less time is wasted going from one job to another. 2/17/2019

Geographic specialization Certain regions produce things for which their resources are best suited. By specializing, you can produce “more” of things you can make efficiently and trade with other countries for things that they are good at. That’s the reason that NAFTA & the EU were developed 2/17/2019

Use of Money Functions: Medium of exchange- it makes trade easier Exchange can, and sometimes does occur through barter (swapping goods for goods). Barter requires a coincidence of wants 2. Barter requires that the buyer and seller wants what the other is offering. 2/17/2019

Active, but Limited, Government Government can increase the overall effectiveness of the economic system. Use of fiscal policy (taxation or government spending) to regulate the economy. 2/17/2019

The Market System at Work Four Fundamental Questions What goods & services will be produced? How will the goods & services be produced? Who will get the goods & services? How will the system accommodate change? 2/17/2019

What will be produced? Businesses seek profits and avoid losses Economic profit= total revenue – economic costs 1. Things that are produced at a profit will be produced. 2/17/2019

Economic Costs & Profits Economic Costs- payments that must be made to secure and retain needed amounts of resources. Normal Profit = Total Revenue – (Economic Costs + Entrepreneur’s Contributions) 2/17/2019

Expanding & Declining Industries Expanding- When industries experience economic profit, new firms enter Declining- unprofitable industries…firms leave these types of industries 2/17/2019

Consumer Sovereignty & Dollar Votes Consumer sovereignty- consumers spend their income on things they are willing & able to buy. Dollar Votes- by spending their money, consumers are stating their demand. 2/17/2019

Market Restraints on Freedom Consumers’ buying decisions make production of some products profitable and others unprofitable Businesses must match their production choices with consumer choices or risk facing losses Derived demand- demand for resources is derived from demand for goods & services they help produce 2/17/2019

How will the goods & services be produced? Producing products in the least costly way. The most efficient production technique depends on: Available technology Prices of needed resources 2/17/2019

Who will get the goods & services? Consumers that are willing and able to buy the product Ability to pay depends on income and preferences for those goods. 2/17/2019

How will the system accommodate change? Guiding function of prices Technological advance Through changes in prices it communicates changes in such basic matters as consumer tastes and elicits responses from businesses and resource suppliers. By affecting product prices and profits, changes in consumer tastes direct the expansion of some industries and the contraction of others. Includes new & improved methods that reduce production or distribution costs. By passing part of its cost reduction on to the consumer through a lower produce price, the firm can increase sales and obtain profit at the expense of rival firms. 2/17/2019

Competition & the “Invisible Hand” Firms seeking to further their own self-interest are guided by an “invisible hand” which promotes the public or social interest. 2/17/2019