Today many people start thinking about things that never concerned them before. I think that five years ago there were two times less people who had at least basic insight in economics and how finances work than there are now. Problems make us start thinking and analyzing, that is the way problems are solved actually. And now, during the economic crisis, more and more people are having thoughts whether the world is going on the right way, or in other words, is the market economic system a completely flawless model or should economy be more controlled by the government? Or maybe we should all switch to socialism, as there are some impressing examples of efficiently working socialistic economies?
There is no country in the world with absolutely free market economy and our today’s world’s economy is mixed. But definitely, the reason for today’s global economic crisis is a free market economy and inactivity of the governments. The main issue for many countries today is to find the most efficient way to combine market economy and governmental control, because in order to survive in this crisis and to avoid it in future, we should change something in our ways of life and thinking. As Albert Einstein said: “We can’t solve problems by using the same kind of thinking we used when we created them.” And there is no reason to re-invent a wheel, as there are countries in the world that manage to function normally during that global crisis. Maybe we should just analyze their actions and performance and try the same approach?
1.2. The aim of the paper
The aim of this course paper is to analyze the importance of governmental control in mixed economy in connection with its main advantages and disadvantages and to investigate what can happen to an economy during the crisis when there is a lack of governmental control.
1.3. Main tasks
The main tasks are:
* To reveal main advantages and disadvantages of major economic systems
* To analyze macroeconomic indicators of different countries with different approaches to governmental control over economy
* To compare analyzed data and conclude what degree of governmental control is more appropriate during crisis.
1.4. Methods used and structure of the paper
Main methods used in this course paper:
* Graphical method
* Analysis of comparison
* Method of classification
In the theoretical basis main economic systems were described. Also main advantages and disadvantages of each system were distinguished.
In the economical analysis part main macroeconomic indicators for 5 major economies were displayed and analyzed in order to prove the importance of governmental control over economy.
Appropriate conclusions and recommendations were made according to the research questions and tasks.
2. Literature survey
2.1. Traditional economy
A traditional economy is an economic system in which resources are allocated by inheritance, and which has a strong social network and is based on primitive methods and tools (Wikipedia).
In other words, traditional economy is based on beliefs, religions and traditions. Nowadays there is no country in the world with a purely traditional economy. However we could say that there is a likeness to traditional economy in some third world countries such as Zimbabwe, where money has no value today and Somalia, where is no government at all.
We could say that such economy’s advantage is a stability, but this is just because it can not develop at all.
2.2. Command economy
In a Command Economy or Planned Economy, the central or state government regulates various factors of production. In fact, the government is the final authority to take decisions regarding production, utilization of the finished industrial products and the allocation of the revenues earned from their distribution (www.economywatch.com).
The main characteristic of such economy is a total control of all economic and natural resources by government.
In a country with command or planned economy the government has a control over:
* All enterprises from one centre
* The production of any good and service in the country, which makes market correlations impossible
* Motivation and salaries of workers.
Advantages of Command economy
According to Sloman (2006), theoretically there are lots of advantages of such economic system. These are:
* Distribution of wealth among people equally
* No poverty
* Unemployment and inflation can be avoided
* High stability of life.
But practice is not a theory, that is why there are also many disadvantages of such economy.
Disadvantages of Command economy
In command economy bureaucracy grows and spreads in all spheres, which makes efficiency growth in economy and production very difficult if not impossible.
Another disadvantage is impossibility of any kind of competition. The thing is that absolute governmentalisation of economy creates super monopolies, which are not interested in development of their production and services at all. They do not have to implement new technologies or improve their efficiency. The only thing they have to do is to stick to the plan of production given by the government, which supposes that forming such plan is too important to be given to the directors of productions. And unlike monopolies in the market economy, those are not even interested in producing goods that are wanted by customers, and this was exactly what was happening in the USSR and what caused it collapse.
One of the few spheres in USSR that was highly developed and was able to compete with analogs from the other countries was a military technology and equipment. The main reason why it was so is that there was always a competition between military design bureaus. And only this manifestation of market economy was able to move the whole sphere forward, even despite other disadvantages, such as inadequate motivation and salaries of engineers and workers. That is why we can say, that Command economy is an idealistic concept which has never been fully implemented. And Chinese government realized that and their economy is moving towards a Market economy since 70-s. Even economy of USSR had indications of Market economy which were stated above.
2.3. Market economy
A market economy is a type of economic system in which the trading and exchange of goods, services and information takes place in a free market. A market economy may therefore also be known as a free market economy (www.economywatch.com).
Market economy is another idealistic concept which is impossible in a pure way on practice. The main characteristics of a market economy are flexibility, decentralization, freedom and independence. Market economy and Command economy are antipodes in almost all concepts. The only thing they have in common is an idea of equality of all people, which can also be argued as two systems have a slightly different view on this issue.
Market economies work on the assumption that market forces, such as supply and demand, are the best determinants of what is right for a nation’s well-being. Same as with Command economy, this idea is impossible, which was proven by a number of global crises and depressions that were caused by a lack of control over the economy by governments. One of the most famous financiers G. Soros (2008) says: “Unfortunately, we have an idea of market fundamentalism, which is now the dominant ideology, holding that markets are self-correcting; and this is false because it’s generally the intervention of the authorities that saves the markets when they get into trouble.”
Advantages of Market economy
Another sphere where Market and Command economies are alike is their advantages, because in both cases those advantages are more theoretical than practical. All the advantages of Market economy would definitely work in a world with a perfect competition in all spheres, which is unfortunately impossible in our world that is imperfect by its nature. According to Sloman (2006), the main advantages of Market economy are:
* Price determination by demand and supply
* Optimal distribution of resources
* Competition, which improves the quality of products
Disadvantages of Market economy
It is our world’s disadvantages that make Market economy’s advantages into disadvantages. First of all, price determination by demand and supply works well when there is a perfect competition, while absolutely nothing is perfect except the ideas in our world. Monopolies and oligopolies always make prices on goods and services higher than they should be.
Market economy also causes unemployment and inflation, which consequently causes a growth of social inequality.
All these factors make Market economy impossible without governmental control and protection.
2.4. Mixed economy
There is no clear definition of a Mixed economy as it lies between socialism and capitalism. It is called “mixed” because it mixes ideas of a free market economy and a control by government. Actually this is a very unstable system, as the government always strives to have more control, while “representatives of a free market” or in other word businesses tend to get more freedom to gain more profit. The democracy is an instrument which allows this system to be unstable but functional. And as it is unstable, there are fluctuations, and as there are fluctuations, things are getting worse and better in turns. That is the reason why the governments always have to balance between more control, which causes more stability but less efficiency, and more freedom, which vice versa causes less stability, but more freedom.
As mixed economy is a mixture of two concepts, there is no need to repeat their main advantages and disadvantages, as they are both present in mixed economy. The only thing that has to be noticed is that the presence of these advantages and disadvantages is only dependent on how efficiently government combines those two concepts.
2.5. New economy
A New economy is an opposite of traditional economy, as it is being characterized by rapid changes, increasing complexity of businesses, usage of modern technologies and globalization. All these factors have caused a birth of a new era of business. Nowadays new businesses appeared, which are able to outcompete old giants. And only those giants who learned to move and react quickly survived.
The main assets in modern businesses are intangibles, or in other words, human and intellectual resources. That is why many Asian countries are rising today, and from the first sight it may seem that they rise from nowhere, because they did not have any significant natural resources or previous experience.
In New economy there are no more geographical borders or limitations, which makes competition more pure and efficient. For example, e-shops. 15 years ago a regular shop could give higher prices, knowing that another shop is too far and customer will not even know that the price is higher than it should be. Today we can compare prices on every goods with prices worldwide, and it can be done with just a few mouse-clicks.
3. Economic Analysis
In this part I will show a comparative analysis of the main macroeconomic characteristics between more capitalistic countries and more socialistic countries in order to find out which of them are more or less exposed to global economic crisis.
I have chosen 5 countries and put them in two groups. USA and United Kingdom are in the first group, as these two countries are the most capitalistic in the world. The second group consists of China, France and Norway as these countries have a socialistic deviation.
3.1. Macroeconomic indicators for USA
The US economy is considered to be the largest and most powerful in the world. It is well developed in all spheres, but at the same time many specialists blame USA for today’s World Economic Crisis, which, in their opinion, was caused by lack of government intervention into US stock markets, banking services and estate markets. It is a market-oriented economy with public social expenditures of 16.2% (as a percentage of GDP) in the year 2003.
Real GDP growth rate in USA
As seen on the figure 3.1, GDP growth rate in USA was increasing until 2005, but there was a 1.2% fall in 2006, after which in 2007 GDP growth rate has not changed. Later in 2008 a Global Financial Crisis has begun which caused 1.2% drop in GDP growth rate.
Change of inflation in USA
The inflation rate in USA, as we can see it on figure 3.2, has been growing constantly till the year 2006. The situation seemed to start getting better in 2007, when inflation decreased by 0.7%. But most probably caused by the beginning of Crisis, in the year 2008 it increased by 0.4%.
Change of unemployment rate in USA
As it is displayed on figure 3.3, the unemployment rate in USA has been stably falling starting from the year 2004 and it was not affected by Economic Crisis in 2008. However, there was a significant growth of unemployment due to serious problems that American car industry has encountered.
3.2. Macroeconomic indicators for United Kingdom
Despite losing its colonies and political and military influence after World War I and World War II, the UK has a developed and prosperous economy in many spheres, such as agriculture, natural resources, financial services and banking. Although it is a part of European Union, it is not a member of Economic and Monetary Union and is having its own currency unlike most European Union countries.
UK’s public social expenditure for year 2003 was 20.1% (as a percentage of GDP).
Real GDP growth rate in United Kingdom
The GDP of United Kingdom, as it is displayed on figure 3.4, was in its growth stage since 2003 till 2005. There was a relatively rapid fall in growth rate of GDP in 2006, followed by another constant growth from 2006 till 2008.
Change of inflation in United Kingdom
As seen on figure 3.5, the inflation rate of the UK has been fluctuating lately hitting its maximum in 2007 on the level of 3%. It is notable that the inflation rate decreased in 2008 even despite the beginning of Economic Crisis.
Change of unemployment rate in United Kingdom
The unemployment rate in UK, as it is shown on figure 3.6, was constantly falling since 2003 and slumped in 2007. But due to the beginning of the World Economic Crisis the unemployment rate skyrocketed in 2008 reaching its maximum at the level of 5.3%.
According to the Institute for Employment Studies (IES), the highest number of job losses have been experienced in the financial and construction sectors, primarily due to the credit crisis and the housing slowdown (http://www.financemarkets.co.uk/2008/06/12/uk-unemployment-figures-increase-by-38000/).
3.3. Macroeconomic indicators for Norway
Norway has one of the most successful economies in the world with one of the highest GDP per capita. The key to Norway’s success is in its rich natural resources and efficient governmental interventions.
Norway is often being called by a socialistic country, and there is a reason for that. In the year 2003 total expenditure for Social Security in percents from GDP was 25.1%.
Real GDP growth rate in Norway
As we see it on figure 3.7, Norway’s GDP growth rate boomed in 2005 and continued its growth till 2007. In 2008 it was most probably affected by Economic Crisis which let to decrease in GDP growth of Norway by 0.9%.
Change of inflation in Norway
During last 6 years inflation rate in Norway, as it is displayed on figure 3.8, was fluctuating but it was always kept relatively low. It is notable that despite the beginning of the World Economic Crisis in 2008 inflation rate in Norway decreased and reached a level of 0.8%.
Change of unemployment rate in Norway
As shown on figure 3.9, the general tendency in unemployment rate in Norway was declining since the year 2004, and what is also very noteworthy, it dropped by 1% in 2008, again, despite the beginning of the Economic Crisis in the whole world.
3.4. Macroeconomic indicators for China
Chinese economy is the second largest after US economy, though GDP per capita is still relatively small. In late 70-s Chinese economy became more market-oriented, which caused a huge growth in GDP. But still, the governmental control is very tight and China is a socialistic country.
Real GDP growth rate in China
We can see on figure 3.10 that GDP growth rate was increasing very steadily for the last 6 years and growth rate was not affected by World Economic Crisis, as in 2008 it increased by 1.2%.
Change of inflation in China
Chinese currency is linked to US dollar and in the year 2005 Chinese yuan was revaluated by 2.4%, which caused a growth in inflation that we can see on the figure 3.11. Although inflation rate dropped in the following two years, in 2008 it grew again till its maximum of 4.8% due to world economic crisis.
Change of unemployment rate in China
As we can see it on figure 3.12, for the last 5 years unemployment rate in China was decreasing, having a fall by 4.8% in 2007. It continued to fall even in 2008 despite World Economic Crisis.
However, estimates for 2009 are already showing that this indicator is more likely to rise due to recession in production by foreign companies.
3.5. Macroeconomic indicators for France
Today France has a modern economy which is one of the leading in Europe. Its main economic doctrine is “laissez-faire”, meaning that businesses are not controlled by the government. But at the same time France can be called a socialistic government because government owns many large companies and banks and is known to provide the best social defence to its citizens in the Europe, as French public social expenditure is 28.7% (as a percentage of GDP).
Real GDP growth rate in France
GDP growth in France, as it is displayed on figure 3.13, for the last 6 years was not very rapid – 1.5% per year in average. But it also was not much affected by Crisis in the year 2008 as it has remained the same as it was in 2007.
Change of inflation in France
As seen on figure 3.14, during last six years inflation in France was relatively low and it kept decreasing since 2005, stopping its decline in 2008, when it was equal to inflation in 2007.
Change of unemployment rate in France
The unemployment rate in France, as it is shown in figure 3.15, since the year 2003 was relatively high and that is partially caused by high level of social security in this country. However, starting from year 2005 this indicator started to decrease and in the year 2008, despite Economic Crisis, it reached its minimum at level 7.9%.
3.6. Comparative analysis
All economies that were analyzed are known to be strong and efficient, although we can see that some of them are more affected by the World Economic Crisis. If we make a comparative analysis to previous performance of USA and UK economies, we can see that their positive dynamics are not just stopping, but also reversing. GDP growth rate in United States hit its minimum of 2%, inflation has increased since 2007 by 0.4% and even despite a decrease of unemployment in comparison with year 2007, a significant growth of unemployment is predicted in year 2009. Indicators for UK look better, but almost doubling of unemployment in 2008 is a bad sign for whole economy.
On the other hand, countries from the second group do not seem to experience such problems and even vice versa, some of them are growing. For example Norway’s economy. A slump in global demand weakened Norwegian exports causing a 0.9% fall in GDP growth rate, but despite this inflation rate has reached its minimum of 0.8% in the year 2008 and unemployment rate continues to fall, reaching 2.5%. According to this data Norway’s economy is healthy. In China, where GDP growth in 2008 kept increasing up to impressive level of 11.9% and unemployment rate keeps decreasing, inflation rate spoils the whole picture, reaching level of 4.8% in 2008. However, we can say that Chinese economy is doing well. French economy also continues to grow, even despite its temps have decreased. GDP growth level in 2008remained the same as in 2007 (2.1%) and the same is with inflation rate, which was 1.5% in 2008. Unemployment rate also decreased by 0.8% in year 2008.
Table 3.1: Macroeconomic indicators for year 2008
GDP growth rate
If we compare values of these 3 macroeconomic indicators for all five countries for the year 2008, we can see that all economies except French from the second group of countries performed better than economies from the first group. But despite worse macroeconomic results, French government offers its citizens better social security.
The aim of the theoretical basis was to demonstrate the most important economic systems and their advantages and disadvantages. Briefly speaking, Market economy’s strong side is its ability to evolve and develop efficiently, and its weak side is a possibility of various depressions and crises. On the other hand, Command economy is much more stable and theoretically must be able to avoid any economical problems, but in practice it faces problems with bureaucracy and low motivation to work and improve efficiency in almost all spheres. Mixed economy represents a blend of these two systems, which may contain advantages and disadvantages of both, and everything is dependent on government’s decisions. And finally, the New economy, which is probably going to be the economic system of the future, where main assets are intangibles, such as human and intellectual resources and where the success of any business depends on usage of modern technologies.
The economic analysis part contains main macroeconomic indicators (public social expenditure, GDP growth rate, unemployment rate, inflation rate) for five economies that were divided into two groups. It also contains comparative analysis for these countries. After analyzing this data, it became clear that countries with stricter governmental control are able to cope with crisis more efficiently than those with more liberal economy.
1. It is recommended to all countries to reconsider their approach to market economy during the crisis and to make governmental control tighter. Actions should be made in order to save important businesses by subsiding or even buying them (interventions), and fiscal policy should be supportive on the first place and aimed to gain major part of budget from high income class citizens.
2. In order to decrease probability of economic crises in future, world should make a New economy as a major philosophy as soon as possible, as it will make principles of Market economy closer to reality due to increase of competition.
1. Sloman, J 2006, Economics, Prentice Hall, Harlow
1. Economy Watch, Command economy, accessed 20 May, http://www.economywatch.com/economy-articles/command-economy.html
2. Economy Watch, Market Economy, accessed 20 May, http://www.economywatch.com/market-economy/
3. Index Mundi, China GDP – real growth rate, accessed 22 May, http://indexmundi.com/china/gdp_real_growth_rate.html
4. Index Mundi, China Inflation rate (consumer prices) accessed 22 May, http://indexmundi.com/china/ inflation_rate_(consumer_prices).html
5. Index Mundi, China Unemployment rate, accessed 22 May, http://indexmundi.com/china/unemployment_rate.html
6. Index Mundi, France GDP – real growth rate, accessed 22 May, http://indexmundi.com/france/gdp_real_growth_rate.html
7. Index Mundi, France Inflation rate (consumer prices) accessed 22 May, http://indexmundi.com/france/ inflation_rate_(consumer_prices).html
8. Index Mundi, France Unemployment rate, accessed 22 May, http://indexmundi.com/france/unemployment_rate.html
9. Index Mundi, Norway GDP – real growth rate, accessed 22 May, http://indexmundi.com/norway/gdp_real_growth_rate.html
10. Index Mundi, Norway Inflation rate (consumer prices) accessed 22 May, http://indexmundi.com/norway/ inflation_rate_(consumer_prices).html
11. Index Mundi, Norway Unemployment rate, accessed 22 May, http://indexmundi.com/norway/unemployment_rate.html
12. Index Mundi, United Kingdom GDP – real growth rate, accessed 21 May, http://indexmundi.com/united _kingdom/gdp_real_growth_rate.html
13. Index Mundi, United Kingdom Inflation rate (consumer prices) accessed 21 May, http://indexmundi.com/united _kingdom/ inflation_rate_(consumer_prices).html
14. Index Mundi, United Kingdom Unemployment rate, accessed 21 May, http://indexmundi.com/united_kingdom/unemployment_rate.html
15. Index Mundi, United States GDP – real growth rate, accessed 21 May, http://indexmundi.com/united_states/gdp_real_growth_rate.html
16. Index Mundi, United States Inflation rate (consumer prices), accessed 21 May, http://indexmundi.com/united_states/inflation_rate_(consumer_prices).html
17. Index Mundi, United States Unemployment rate, accessed 21 May, http://indexmundi.com/united_states/unemployment_rate.html
18. Kay Murchie, June 12 2008, UK unemployment figures increase by 38,000, accessed 23 May, http://www.financemarkets.co.uk/2008/06/12/uk-unemployment-figures-increase-by-38000/
19. Wikipedia, 18 May 2009, accessed 19 May, http://en.wikipedia.org/wiki/Traditional_economy