Market System Cannot Allocate Resources Efficiently Economics Essay

A market can be defined as a place where the forces of demand and supply operate or where buyers and sellers can interact -directly or indirectly- to trade goods and services. This therefore means that marketing is the process of identifying, anticipating and satisfying consumer requirements effectively and profitably. The concept of marketing is basically to make profit by satisfying consumers in a particular location. In conclusion, the idea of a market and the concept of marketing can be utilized as the economic system of a country/state.

Economic Systems can be defined as a refereed journal for the analysis of causes and consequences of the significant institutional variety prevailing among all developed, developing, emerging, and transition economies (N.D) {Online} Available at journals.elsevier.com. It can also be defined as an organized way in which a state or nation allocates its resources and apportions goods and services in the national community (N.D) {Online} Available at businessdictionary.com. The major function of an economic system is to solve the basic economic problems which are; what to produce, how to produce, for whom to produce and how to maximize the use of resources.

“What to produce” simply talks about the goods and services a seller can provide to consumers in order to make profit. This economic problem always brings about opportunity cost {mainly for similar products} because an alternative must be foregone in favour of the other option. In an economic system, the issue of what to produce is addressed either by the government, the private individuals or even both. In a case where the government addresses this issue, a large number of the economy’s resources will be allocated to produce only those commodities that are necessary for day-to-day activities. They therefore show a blind eye to the production of luxury goods and in turn deny their consumers of having options to choose from. An example of such a case is Cuba. In Cuba, the government determine what to produce and only bother about making inferior goods available. Cuba never started providing Coke to its consumers until 1900. However, in a case where private individuals determine what to produce, the exact opposite is shown. Here, consumers have a lot of options to choose from. The quality of the product being supplied is strictly addressed because the motive of the private individual is to make profit. Luxury goods are also supplied in abundance in this case because private individuals focus is on the quality and meeting specific requirements. Finally, in a case involving both the government and private individuals taking up the responsibility of allocating resources, the scenario is somewhat similar to that of private individuals allocating resources. The only difference is that the government is around so as to set regulations in place to reduce exploitation of consumers.

“How to produce” is another economic problem that must addressed before an economic system can function. The question of how to produce is all about the methods with which an economic system would produce its goods. Like the issue of what to produce, how to produce is addressed either by the government, the private individuals or both. If the government determines how to produce then the question of how to produce will be answered by utilizing a labour-intensive method of production so as to increase employment opportunities for their citizens. In the case of where private individuals determine how to produce, then this question will be answered using a capital-intensive method of production. This is because the motive of private individuals allocating resources is to make profit. Therefore the total cost of producing their goods must be as minimal as possible so as to maximize profit and employing a capital-intensive method of production will prove cost-effective. Unlike the labour-intensive method of production, the capital-intensive method does not offer as much employment opportunities since the majority of the production process are done by machines. For example, in the United States, majority of the country’s resources are allocated by the private individuals and because it is cheaper to employ a capital-intensive method of production, private individuals will use it. This therefore leaves a lot of human labour unemployed and as a result, creates a huge gap between the rich and the poor.

The third question to be answered -which is quite simple once the first two questions have been answered- is the question of “who to produce for”. By now, the fact that there are three different types of economic systems- should be crystal clear. In the economic system where the government allocates resources, they produce for the general population. They standardize their products so as to generate a sense of equality among the citizens. In the market economy, the producers {private individuals} produce for those who can afford it. This therefore creates a gap between two sets of people {the rich and the poor}. In the mixed economy however, both the government and the private individuals determine who to produce for with the private individuals having a bigger say in answering this question by setting prices that favour them but the government try to make the products available and affordable to the general public by enforcing a maximum or minimum price or by reducing the private individuals cost of production by granting the producer some form of subsidy. An example of a country practicing mixed economy is Nigeria especially in their oil industry. It is a fact that Nigerians consume 35 million litres of petrol every day. Nigeria produces only 10 million litres of fuel every day. Therefore the remaining 25 must be brought in by oil marketers. Under the concept of common sense, oil marketers should be allowed to sell their product at whatever price they feel like selling it right? Wrong. Although after conversion the market price for petrol is N140, the government steps in and orders oil marketers to sell their fuel at N97 but promises to balance their losses by giving them subsidies worth N43 for each litre they sold. This is just a simple illustration of how an aspect of the mixed economic system is run.

These economic problems are generated as a result of limited resources whereas human wants for these resources are unlimited. Other functions are; to stimulate economic growth and to attain as much G.D.P as possible. Therefore, every country would try to employ an effective system which will result in efficient resource allocation to solve the issue of scarcity. Although no economic system can be considered perfect, how efficiently a country can employ an economic system -In terms of allocating its resources- is what determines how successful a country can be in the global market. Although, there are three types of economic systems, in the modern-day world, a lot of countries would prefer to employ an economic system that involves a lot of marketing.

A market economy can be defined as an economy in which the allocation of resources is determined only by their supply and the demand for them. Secondly, it can be defined as an economic system in which economic decisions and the pricing of goods and services are guided solely by the aggregate interactions of a country’s citizens and businesses and there is little government intervention or central planning. To conclude, the market economic system is basically a system whereby private individuals take up the responsibility of allocating resources to the public and relies chiefly on market forces to determine prices. Countries practicing the market economic system tend to assume that the forces of demand and supply are the main determinants of what is right for a nation’s well-being. They {the countries} rarely experience government interventions such as price fixing, license quotas and industry subsidizations. In reality, the market economy does not exist in pure form as there will always be some sort of government intervention in the economic activities of a particular country. What makes the market economic system different from others? What are its features? What are its characteristics? It is very simple to indicate.

Market Oriented– First of all and most clearly indicated by the name, the market economic system is “market oriented”. Since the responsibility of resource allocation falls on private individuals, the private individuals would want to utilize the resources available to them to make profit. But before they can make profit they must satisfy consumers by meeting the consumer’s requirements and ward off competition of other products in the same industry.

Private Property–Most goods and services are privately-owned. This allows the owners to make legally binding contracts to buy, sell, lease or rent their property. In other words, their property gives them the right to profit from ownership. However, there are exclusions to what is considered private property. For example, since 1865 the U.S. does not allow you to buy and sell other people, or even yourself. This includes your own body or body parts. (Source: University of Auburn, Market Economy)

Freedom of Choice– Both producers and consumers are free to produce, sell and purchase goods and services in a free market. The only limitations are the price they are willing to buy the product or sell the product and the amount of income or capital they have available to them.

Motive of Self-interest– As said earlier, the concept/motive of a market is for the consumer to be satisfied and for the producer to make profit. Therefore producers try to sell their goods or services to the highest paying consumers {those who can effectively demand their products}, while at the same time paying the least for the goods and services they need. Although the motive seems selfish and sly, it actually benefits the economy in the long run. That’s because this system fairly prices all goods and services inconsistently-due to the forces of demand and supply- but accurately depicts true supply and demand at any given point in time.

Competition with substitute products– The forces of competitive pressure keeps prices unstable but moderate, and ensures that goods and services are provided most efficiently. For example, if demand increases for a particular item, prices rise due to the law of demand which states that an increase in demand for a commodity would subsequently lead to an increase in price of that commodity. Once producers/competitors sense additional profit to be made, they start production and increase their supply. This lowers prices to a level where only the best producers remain. This force of competitive pressure also applies to workers, who are competing with each other for the highest-paying jobs. It also applies to consumers in a way, because they are competing for the best products at the lowest price.

System of Markets and Prices– A market economy can only function in an efficient market. In an efficient market, all buyers and sellers have equal access, and equal information to make their decisions. Prices rise and fall freely depending purely on the laws of supply and demand. For example, the increase in demand for umbrellas due to a recent change in weather will lead to an increase in supply and a subsequent increase in its price but consumers still have to buy because of the weather. Once the weather changes, consumers cease to buy umbrellas and before long, the price of the same umbrellas would reduce by almost half its original price. This can lead producers to allocate their resources elsewhere.

Limited Government– The role of government is simply to ensure that the markets are open and working. For example, it is in charge of national defence so no other country can destroy the markets. It also makes sure that everyone does have equal access to the markets. For example, government exerts penalties on monopolies, which unfairly restrict competition. The government watches to make sure no one is unfairly manipulating those markets, and that all information is distributed equally. (Source: National Council on Economic Education).

With the number of features the market economic system possesses, it is inevitable that a country finds itself in different types of market situations. These market situations possess distinctive characteristics which have a very huge part to play when allocating resources in a market economy. Basically there are five market situations a market economy can go through, but only four can actually be experienced in a market economy as the fifth one is unattainable but it shall be explained along with the other four. So the five different types of market situations are going to be examined in the following paragraphs.

Perfect Competition- the first type that will be examined is the perfect competition. Perfect competition is a market situation characterized by many different buyers and sellers. In a theoretical definition of perfect competition, there are an infinite number of buyers and sellers. With so many players, it is impossible for any one participant to alter/shift the general price in the market. If attempted, buyers and sellers have an infinite number of alternatives to pursue.

C:UsersThaReal_RVP10DownloadsPerfect_Competition_new_entrants_graph.jpg

The above graph shows the relationship between price and quantity as a result of changes in demand and supply in an industry where perfect competition is taking place. The graph also shows the relationship between changes in price and quantity supplied in a firm undergoing perfect competition. According to the graph, a firm undergoing perfect competition will -In the long run- allocatively and productively be efficient at points “A”, “P2=MC” and “AC=MC”. The perfect competition seems like the only type of market situation where allocation of resources can be done perfectly. This is why it is the only type of market situation that can never be attained. As a result, a market economic system undergoing perfect competition does not exist so no examples can be given under this. A commonly asked question is “why is it impossible for perfect competitions to exist?” It is impossible for it to exist because resources are limited, human wants/needs are unlimited and because resources are limited, it is only logical that only a limited number of firms can utilize these limited resources. A market system undergoing perfect competition requires the economy to possess and accommodate an infinite number of buyers and sellers which cannot be possible if the resources are limited. In conclusion, a market system undergoing perfect competition can never be attained and as a result, perfect allocation of resources can never be attained.

Monopoly- This is- In many ways -the opposite form of market situation to the perfect competition. In a pure monopoly, there is only one producer of a particular good or service, and generally no other substitute. Simply put, the producer in a monopoly represents the entire industry because he is the only supplier of that product. In such a market system, the monopolist is free to charge whatever price they wish due to the absence of competition. Although the monopolist is the only supplier of that product, that doesn’t guarantee the producer will experience abnormal profit because the overall revenue will be limited by the ability or willingness of customers to pay their price. A very good example of a monopoly is that of Monsanto and that of the American herbal market. Monsanto is a publicly traded American multinational agricultural biotechnology corporation. It is a leading producer of the herbicide glyphosate, which it markets under the Roundup brand as the only major brand in this market.

C:UsersThaReal_RVP10DownloadsMONOPOLY.jpg

The above graph shows a monopolistic company’s relationship between its cost & revenue and its output. The laws of demand are still applied in monopoly but only to a certain extent. The price of the product can rise and the quantity demanded will reduce. But the quantity demanded is not reducing because there are substitutes; instead it is reducing because some are not willing to pay such a high price for the product while others must still buy the product at the high price because they don’t have a choice. This advantage can play into the producers’ hands as they can over-price their products knowing fully well those consumers would still have to buy since there are no substitutes especially when the good is a necessary one such as petrol. This scenario is simply caused by improper resource allocation since all the available resources required for the production of this commodity belongs to only one individual and can lead to market failure as a result but only in the long run.

Oligopoly- Although very similar to monopoly, the difference between oligopoly and monopoly is that rather than having only one producer of a good or service, there are a handful of producers that make up a dominant majority of the production in the market system. While oligopolists do not have the same pricing power as monopolists, it is possible that -without proper government regulation- oligopolists will connive with one another to set prices in the same way a monopolist would. For example; in Canada, six companies (Royal Bank of Canada, Toronto Dominion Bank, Bank of Nova Scotia, Bank of Montreal, Canadian Imperial Bank of Commerce and National Bank of Canada) control the banking industry. There is every tendency that resources will be allocated unevenly due to the government’s inability to take regulatory measures.

C:UsersThaReal_RVP10DownloadsOLIGOPOLY.jpg

According to the graph above, the firm in question can actually undergo some sort of competition. However, competition here is quite minimal. This is due to the fact that the companies can easily come together and set a price that will be favourable enough to cover all their costs and make serious profit.

Monopsony-Market situations are not only differentiated according to the number of suppliers in the market. They may also be differentiated according to the number of buyers. Whereas a perfectly competitive market has an infinite number of buyers and sellers, a monopsony has only one buyer for a particular good or service, giving that buyer significant power in determining the price of the products produced. An example of this can be Apple. Apple has -in most ways- become a monopsony in that it can command specifications to suppliers of electronic components. Another example is Wal-Mart. In the US, journalists have made a case that Wal-Mart is a monopsony, setting specifications and requirements to suppliers and at the same time also acting as a monopolist to consumers – at least in some market sections.

Monopolistic Competition–Monopolistic competition is a type of market situation combining elements of a monopoly and perfect competition. Like a perfectly competitive market situation, there are numerous competitors in the market. The difference is that each competitor is sufficiently differentiated from the others that some can charge greater prices than a perfectly competitive firm. An example of monopolistic competition is the market for music. While there are many artists, each artist is different and is not perfectly substitutable with another artist.

From the characteristics and different market situations mentioned above, it is quite clear that the market economic system has some advantages over the other two economic systems. But it is even clearer that it has its disadvantages when compared to the other two economic systems. In some cases, these disadvantages can be overlooked but doing this ultimately leads to market failure in the long run. But before the disadvantages can seem clear, the advantages of the market economic system must first be examined.

Presence of competition- First and foremost, there is serious competition amongst producers. The presence of competition is what the market economic system strives on. Why this is so is because private individuals allocate resources in this economy. Now the only reason why a private individual would want to get involved in resource allocation is so as to make profit from utilizing these resources. Under normal circumstances, a producer can only make profit when his product is doing well in the market. The producer’s product can only do well in the market if consumers prefer to buy his product rather than its homogenous competitors. Now to ensure that the producer is able to attract consumers, they have to go the extra mile to convince consumers that their product is better than their competitors. This can result in companies generating new techniques and innovations so as to capture their target market. Since all companies in a particular industry are vying to attract and satisfy the same consumers, a lot of firms focus on quality of the product rather than quantity because of the competitive nature of the market.

Consumer & producer sovereignty- As mentioned earlier, the producer’s motive in this system is to make profit by satisfying consumers. This therefore gives consumers the freedom to purchase whatever good they wish to purchase because it is believed -in this system- that the forces of demand and supply are the main determinants of what is right for a nation’s well-being – even in the case of cigarettes. Although, the consumers have the freedom to purchase whatever good they wish to purchase, they are not the only ones who enjoy this freedom. The producers have just as much freedom as consumers to produce whatever they wish to produce since the resources they are allocating belong to them.

Political freedom- Milton Friedman- an American economist, statistician, and author – stated that the economic freedom of capitalism is a requisite of political freedom. This simply means that if a country wants to get the best out of this system, government intervention must be very minimal in terms of setting boundaries on what to produce and how much to produce. Once this is done, producers have the license and power to express themselves due to this freedom. However, this seems to be the only advantage the government would not want producers to make use of because it has a tendency of diminishing the power of political leaders.

Cost-effective resource allocation- According to Adam Smith, he concluded that the ‘invisible hand of the market’ is responsible for resource allocation in a market system. Capitalism ensures that resources are allocated according to consumer choice. No firm is rewarded for producing goods that people don’t desire so once a product is not doing well in the market, the resources used to make that product are quickly re-allocated.

Economic growth- Although it seems hard to believe, the capitalist economic system actually stimulates economic growth when measured by G.D.P, resource utilization or standard of living. Adam smith suggested that a free market should control production, price and resource allocation because it will stimulate economic growth. It seemed outrageous at the time but statistics show that the increase in global G.D.P overtime is as a result of countries using the modern-day capitalist system. For example:

C:UsersThaReal_RVP10PicturesG_D_P chart.gif

Now according to the graph above, China did not start employing of the market economic system until 1980. At this point in time their G.D.P- although one of the highest in the world -was far below the 2000 mark. As soon as this system was brought in, a steep increase in the G.D.P commenced. By 2005 China’s G.D.P boasted a huge 18232.1 billion (8.859 trillion) which was the highest G.D.P in the world at the time.

Everything that has its advantages must have its disadvantages and the market economic system is no different. Yes, the market economic system will guarantee economic growth, healthy competition and consumer sovereignty. But what are the side effects? Why do governments think twice before implementing such a system? Why can’t it be considered the “perfect” economic system since it allocates resources cost effectively? The next few paragraphs would answer that.

Social inequality- The common capitalist mantra that “anyone can be rich if they work hard enough” is a fallacy. There’s only so much room at the top. In order to make money, first you have to take it from someone else. This can be done through selling things, taxation or any other means. But this means that the rich cannot exist without the poor. Any way you look at it, there’s never going to be equality under capitalism.

Consumer & worker exploitation- We wouldn’t stand for dictatorship in our governments, so why do we stand for it in the workplace? CEOs get paid massive salaries, and award themselves huge bonuses on top of them, while they pay their workers minimum wage. The bosses don’t do the work, they don’t produce the goods we consume, and they merely own the means of production. As for those who do? The workers don’t have any say in how it is controlled.

War- Many of the wars fought in recent years have been over profit. In Iraq, the war was largely funded by oil barons, and it was private firms who handled most of the security after the initial invasion. In Libya, western forces intervened when the civil war caused oil supplies to be cut off. They only sided with the rebels because they thought they were the most likely to win. In Iran, military intervention is being threatened over the blocking of trading routes to transport oil.

Waste- In a society where resources are not evenly distributed, there is always going to be the wealthy who have an excess of resources. While occasionally these resources are given to the poor, often this excess is wasted. Millions of dollars’ worth of food is wasted by those who have more than they need, while there are many others who desperately need it.

Ignorance of basic social needs- There are many basic social sectors like literacy, poverty, public health, water supply, social welfare and social security. As the profit margin in these sectors is low, capitalists will not invest. Hence most of these vital human issues will be ignored in a capitalist system.