Economy is the wealth and resources of a country in terms of production and consumption of goods and services.
An economic system is a way in which a nation organizes, manages or controls the factors of production (resources) so that the wealth of the country is somehow distributed among its population. How these factors of production are controlled and distributed defines economic system. There are different ways for a society to organize its economy. The people might follow traditions, following the same pursuits as their parents and grandparents. The government might decide what’s right for the country or it may stay out of it, leaving the economic system to be determined by the millions of people.
Types of Economic Systems:
• Traditional economic system
• Command economic system
• Market economy
• Mixed economy
• Islamic economic system
It can be defined as an economy which is based on customs and beliefs which people get from generation to generation. In a traditional economy resources are allocated by inheritance. Some African countries (Malawi, Ivory Coast, etc) still use this system. It is also at work among Australian Aborigines and Amazon tribes.
The main advantage of this type of economic system is that it produces only those goods and services which are required for the survival or which the people want to consume. Hence there is no wastage, it does not waste resources for goods and services which are unnecessary. Also in this economy everyone knows what there job is so there is no duplication of efforts. Traditional economies are less destructive to the environment.
This type of economy resists any changes because the people tend to think that the methods which are followed by their ancestors for generations are correct and it leads to lower productivity and there is lower development of the society or the country. Also due to low productivity people have lower standards of living than those economies which do not follow traditional economic system. In this type of economy people have to do jobs which are told to do but which they don’t want to do and hence it also lowers productivity.
Command economy also known as planned economy is an economic system where the government manages all or in some cases most of the resources within the nation. Some examples of countries that use command economic system are China, Cuba, North Korea and Russsia. Socialism and communism are two types of command economic system.
In communism the government owns all the factors of production and makes all the decisions on how the resources within the nation will be used. There is a restriction on the ownership of personal property. In communism personal belongings as clothing, shoes and watches are allowed to be owned by individuals but the houses are owned by the government. In communism individuals are assigned work by the state and they are given a bit reward for their services. People get ration from government department. People do not have choice of their own. They have to be content with whatever is prescribed for them. State provides all social services such as educational, hospital facilities, etc. The classic failed example of communism was of the Soviet Union. Its collapse led to the demise of the command economies around the world.
Suppose there is an entrepreneur who comes up with an idea of opening a coffee shop, first he will have to see some land to get the business started. In communism that would not happen because governments controls the factors of production, makes all the decisions about which industry should operate. So the government would determine how factors of production get utilized, who gets the capital, how that capital is used to build certain industries.
The government will ensure a more equal distribution of income and wealth. Essential goods and services will be provided to the community e.g. education. The government can determine which goods are produced. Only products that are required are produced and hence prevent production of socially undesired products. Government distributes wealth equally among the people so there are no inequalities. It provides a minimum standard of living for all citizens.
In communism there is little consumer choice. Since everything is allocated according to a planned process, consumers will have little say in what is directly provided by the state. There is little variety of goods and services. No individual freedom. It leads to productive inefficiency due to lack of competition and no profit motive. It lacks innovation. Product quality is poor. It cannot detect consumer preferences accurately. Resources are misallocated as consumer demands are not satisfied by production.
It is an example of command economy. In this type of system the government controls the critical industries but individuals are allowed to run non-critical businesses. Government will determine a certain factors will get build, making a product that people need, will provide jobs to the citizens, government may employ someone as a teacher, a certain number of people get hired to work n the farm, but if someone decides that he does not want to work there, he has got some other talent, he wants to become a musician/singer, he wants to use that talent to earn a living. He would be allowed to do so. So in socialism members of the society get an equal share what society produce however individuals are allowed to pursue businesses that are non-critical to the over all economic system.
The resources are utilized efficiently to produce socially useful goods. Economy is free from business fluctuations. Government plans well and everything is well managed so there is no over-production or unemployment. Because of well regulation of production and consumption of goods and services there is stability. People work for the country’s welfare. They receive their remuneration. The main concentration is on the production of basic necessary goods instead of luxurious ones. The state provides free education, cheap house, hospital facilities and social security for the people. Human development is more in socialist communities. Extreme inequality is prevented in socialist system.
People in social economies work without the fear of higher authorities. It does not give any initiative for the people to work hard. Allocation of factors of production is not done rationally. State provides the job and the place of work. Consumer’s choice is very limited. Any change in the production process will change the entire plan. Hence any innovation cannot be easily enforced. Technological changes are limited. Lack of competition makes the system inefficient and unstable.
In government economies the government is not involved. The market is mechanism of exchange of goods and services. Resources are distributed by the concept of supply and demand. There is private ownership of everything. The main idea of this system is that it should be the producers and consumers who decide how to utilize the resources. Thus the market decides what to produce, how much to produce and for whom to produce.
In market economy if an entrepreneur comes up with an idea of opening a shop or he wants to start a business, he needs to be able to access capital, he needs to be able to access labor, he need to be able to access the natural resources, here everything has a price, as long as the entrepreneur is able to raise the capital in order to hire the labor, pay the interest, purchase the natural resources required to build the shop. In short if he has money he is welcomed to start the business of his choosy.
So in market economies resources are owned privately. Profit is main motive of all businesses. Government doesn’t interfere in the business activities. Producers can produce things that they want, there are no limitations. Consumers are free to choose. In this type of economy prices are decided by the price mechanism i.e. the demand and supply of the goods and services. Countries using market economic system are: United States, Canada, Germany, Mexico, etc.
Market economies ensure the production of desired goods and services because people are ready to pay the highest prices to buy the things they want the most. Businesses will only produce things that return profit. Anything which is not demanded will be taken out of production. There will be variety of goods and services available in the market to suit everyone’s taste. Efficient use of resources is encouraged. The more efficient users will receive more benefit than less efficient ones. Here innovation is rewarded. The firms will produce goods and services at lower cost but more efficiently to earn profit.
Market economy is all about competition. However, there are many people in the society that are not able to compete e.g. the elderly, children and mentally challenged or physically disabled people. They need some caretakers. Caretakers are also at a disadvantage as their energies and skills are taken up with caretaking. Businesses in the market economy will only employ those factors of production which will be profitable and thus we may find a lot of unemployment as more machines and less labor will be used to cut cost. Free markets produce goods that are profitable for them and
ignore the fact that they might be harmful for the society.
Mixed economy is an economic system that features characteristics of traditional, command and market economies. This type of economic system seeks to have advantages of all three. There are little disadvantages. Mixed economies have three characteristics of the market economy: Private property, pricing and individual self-interest. Mixed economies have some elements of command economies. Government has a command role some areas.
This usually includes the international trade and national transportation e.g., PIA (Pakistan International Airlines) and PR (Pakistan Railways) are state owned enterprise of the government of Pakistan. Some mixed economies encourage the government to centrally manage health care, welfare, and retirement programs. Most mixed economies follow traditions that have been so deep-rooted that they may not even be aware of it. For example, many mixed economies still fund and give some power to royalty or emperors or Jirgah. Most of the world’s major economies are now mixed economies. Italy, Canada, Australia, Pakistan, India etc have mixed economic system.
A mixed economy can enjoy the advantages of a market economy. First, it can efficiently allocate goods and services where they are needed, by allowing prices to measure supply and demand. Second, it also rewards the most efficient producers with the highest profit, ensuring that customers are getting the best value for their dollar. Third, it encourages innovation that meets customer needs more creatively, cheaply or efficiently. Fourth, it automatically allocates capital to the most innovative and efficient producers. They, in turn, can invest the capital in more businesses like them. A mixed economy also minimizes the disadvantages of a market economy. Since a pure market economy rewards those that are most competitive or innovative, leaving others at risk, the expanded governmental role can make sure these less competitive members are cared for and valued.
Mixed economy can also take on all the disadvantages of the other types of economies, depending on which characteristics are highlighted. If it has too much free market, it can reward the competitive members of society and leave others without any government support. Central planning might do extremely well in mobilizing forces. Poor planning by the government would lead to the destruction of the state owned enterprises. This could also put the country into debt, slowing down economic growth in the long run.
Islamic Economic System:
Islamic economic system consists of institutions, organizations and the social values by which natural and man made resources are used to produce, exchange, distribute and consume wealth/goods and services under the guiding principles of Islam to achieve success in this world and also after it. The economic aspect is one of the most important parts of our life, while not being the whole of it. The Islamic system is balanced and places everything in its right place. Islam has given detailed regulations for the conduct of our economic life which concerns mainly the earning and use of wealth. The economic principle of Islam aim at establishing a just society where everyone will behave responsibly and honestly, and not as ‘cunning foxes’ fighting for as big a share of something as possible without regard for honesty, truth, decency, trust and responsibility. The Islamic economic system is based on the following fundamental principles:
1. Earning and Expenditure by Halal Means:
Muslims are not allowed to earn and spend in any way they like. The must follow the rules of the Quran and the Sunnah. Any earnings from the production, sale and distribution of alcoholic drinks are unlawful (Haram), as are earnings from gambling, lotteries and from interest (Riba) transactions. Earning by falsehood, deceit, fraud, theft and robbery is unlawful. Deceitful acquisition of orphans’ property has been particularly banned. Hording of food stuff and basic necessities and smuggling are unlawful.
Earnings from brothels and from such other practices which are harmful to society are also unlawful. Islam wants to establish a just and fair society. A Muslim must earn his living in Halal ways and he should always bear in mind that what ever he does, it is known to Allah. He will be accountable for his actions on the Day of Judgment. He cannot hide anything from Almighty Allah. Unlawful expenditure is also not allowed in Islam. It does not at all befit a Muslim to spend money irresponsibly. His actions should be responsible and meaningful. Lavishness and waste are strongly discouraged.
2. Right to property and individual liberty:
Islam allows a person to own his earnings. The Islamic state does not interfere with the freedom of speech, work and earnings of an individual if this freedom is not harmful for the society. Every individual will be answerable to Allah for his or her actions.
3. System of Zakah (welfare contribution):
Compulsory payment of Zakah is one of the main principles of an Islamic economy. Every Muslim who owns wealth more than his needs must pay the fixed rate of Zakah to the Islamic state. Zakah is a means of narrowing the gap between the rich and the poor. It helps the fair distribution of wealth. It is a form of social security. The Islamic state is responsible for providing the basic necessities of food, clothing, housing, medicine and education to every citizen. No-one should have any fear of insecurity or poverty.
4. Prohibition of interest (Riba):
An Islamic economy is free of interest. Islam prohibits all transactions involving interest. Interest is neither a trade nor a profit. It is a means of exploitation and concentration of wealth. Interest is the basis of modern capitalism. It is completely opposite to Zakah. Zakah channels wealth from the rich to the poor while interest takes away wealth from the poor and hands it over to the rich. Modern economics are so inter-linked with interest that people may think it is impossible to go without it. The situation is really very complex. But, we must aim at getting rid of interest. Unless people fight against the tyrant rulers and establish an Islamic state -the problems will still be there. Further, until Islamic state established, it will make us feel impossible to solve this Riba (interest) problem. Allah swt has not imposed on us something impossible. An interest-free economy will be a benefit for all peoples of the world.
5. Law of Inheritance (Mirath):
The Islamic law of inheritance is a wonderful system of stopping the concentration of wealth. It provides very detailed laws regarding the rights of dependents over the property of the deceased person.
An Islamic state must bring all productive resources into use, including unemployed man-power, unused land, water resources and minerals. An Islamic stare must take steps to root out corruption and all harmful pursuits even if they are economically lucrative. Individual freedom may have to be sacrificed for the social good. Islam encourages simplicity, modesty, charity, mutual help and cooperation. It discourages miserliness, greed, extravagance and unnecessary waste.
The Islamic economic system was introduced in Pakistan on 10 February 1979. By 1980, approximately 7,000 interest-free counters were opened at all the nationalized commercial banks. Thus, Pakistan became the first country in the Muslim world to embark the full fledged work on the Islamic banking system with concerning of the Interest-free economy. In spite of its initial gains and success, the programme failed to achieve international targets and to meet commercial interactions with other major international banks. Thus the programme was halted by 1988.