INTRODUCTION TO AGRICULTURAL

ECONOMICS
AEDM 111

Lecture 2: Economic systems

Prepared by
Dr. M Christian
 UNIT OUTCOMES
At the end of this unit, students should be
able to:
 describe the three central economic questions
 describe the major differences between traditional,
command, market and mixed economies
 describe the salient features of the market economy
 briefly describe the contributions of Adam Smith, Karl
Marx and John Maynard Keynes to economic science
Basic Economic Questions
What goods and services will be produced and in
what quantities? These are output questions.
How will each of the goods and services be
produced? How much of the scarce resources will be
used in the production of each good? These are input
questions.
For whom will the various goods and services be
produced? Who will receive the goods and services?
How much of them will they receive? And where will
the production occur? These are distribution
questions.
The basic mechanisms that are used to solve these
questions are:
the traditional system,
the command system,
the market system and
the mixed system.

Our emphasis is on the market system and the mixed

system, since most economies today are mixed
systems in which the market plays a central role.
An economic system is a pattern of organisation
which is aimed at solving the above-mentioned three
central questions.
Economic systems do not always work well, but they
are often so vast and complicated that it is quite
marvellous that they work at all.
An economic system is means by which
societies or government organize and distribute
available resources, services, and goods across
a geographic region or country.
It regulates the factors of production -
 Different Economic Systems
1. Traditional
2. Command/Socialism
3. Capitalism/Market
4. Mixed
1. Traditional Economic System
The oldest solution to the three central
questions is tradition.
Past generations provided their own products
using their intuitions and skills.
The compilation of their ways of life is
custom.
People use the same techniques of production
as their parents
Traditional systems tend to be subsistence economies.
In traditional systems economic activity is not the first
priority.
Economic activity is usually secondary to religious and
cultural values and the desire to perpetuate the status quo.
Important aspects of economic behaviour are still
governed by tradition. Some children still follow in their
parents’ footsteps.
In wealthy families, for example, status and tradition are
still important. But the children are not bound by tradition
when they have to make important decisions about what
to produce and how to produce it.
Advantages Disadvantages
Economic roles are Discourages new
set ideas
Stable, predictable, Lack of progress
and continuous Lower standard of
living
Does a traditional economy answer the
big three questions?
What will be produced?
– Whatever tradition, values, and rituals dictate
How will it be produced?
– However tradition, values, and rituals dictate
For whom will it be produced?
– Village or community
 2. Command Economy

A central authority (government)

has to answer the big three
questions

Government decides the needs of

the people, the best way to
produce it and for everyone!
 Command Economy
There is very little if any input from the
people.

Examples: North Korea, Cuba, China

 Advantages Disadvantages

Basic Needs taken Doesn’t meet wants

care of No incentives
Education, public Requires a large
health, other services bureaucracy
cost very little if New and different
anything ideas are discouraged
Very little No room for
unemployment individuality
Does a command economy answer the
big three questions?
What is being produced?
– Whatever the government decides
How is it being produced?
– The government will tell someone to make it
For whom is it being produced?
– Whomever the government decides needs it
 3. Capitalism/Market

System that relies on consumption choices

made by consumers

Consumers dictate what is produced, how

much is produced, and how much things
cost
A market is any contact or communication
between potential buyers and potential sellers of a
good or service.
This contact can be personal, or it can take place by
means of a telephone, a fax machine, a computer , a
smart phone, newspaper advertisements or any other
means.
Any institution or mechanism which brings potential
buyers (“demanders”) and prospective sellers
(“suppliers”) of particular goods and services into
contact with each other is regarded as a market.
Markets can be local, regional, national or
international.
Mechanisms of Market Coordination

Market exists only when:

There is at least one potential buyer and one
potential seller.
The seller has offered something to be sold.
The buyer has the means of purchasing the
commodity
The market price must be determined.
Final agreements must be sealed by law or
traditions.
Sellers usually fix their prices, and prospective
buyers shop around to find the best bargain.
A market system is one in which individual decisions
and preferences are communicated and coordinated
through the market mechanism.
The most important elements of this mechanism are
market prices.
Market prices are signals or indices of scarcity
which indicate to consumers what they have to
sacrifice to obtain the goods or services concerned.
At the same time market prices also indicate to the
owners of the various factors of production how these
Market systems are often called capitalist
systems.
Like socialism, capitalism refers to a particular
type of ownership of the factors of production.
Whereas most factors of production in a
socialist system are owned by the state (or by
society at large), a capitalist system is
characterised by private ownership.
In other words, the focus is on market
In market capitalism, economic activity is driven by
self-interest.
Consumers want to maximise their satisfaction.
Business people wish to maximise their profits.
Workers want the highest possible income for a given
amount of work.
How does a system in which self-interest plays a
crucial role succeed in solving the central questions?
 Advantages Disadvantages

Individual Freedom Rewards only productive

people
for all
Workers and businesses
Lack of government face uncertainty
interference (Competition)
Not enough public goods
Incredible variety to (Education, health,
choose from defense)
High degree of Unemployment
consumer satisfaction Must guard against
market failure
 Answer the big three…
What will be produced?
– Whatever the consumer wants

How will it be produced?

– Entrepreneurs will respond to demand

For whom will it be produced?

– Whomever is willing to work for it (or afford it)
 4. Mixed Economy
a mixed economy is that in which private property,
private initiative, self-interest and the market
mechanism all play an important role.
The South African economy is an example.
It is characterized by a substantial degree of
government intervention.
The men behind the systems:
Smith, Marx and Keynes
 Adam Smith
Adam Smith was born in Edinburgh in Scotland.
He studied at Oxford and at the age of 28 he was appointed as Professor of Logic at
the University of Glasgow. In 1759, he published his first book, The theory of
moral sentiments.
In 1776, he published another book on An inquiry into the nature and causes of the
wealth of nations.
This book, which is usually referred to simply as The wealth of nations, laid the
foundation of economic science as we know it today.
He is universally regarded as the intellectual father of the market system and of
capitalism.
As far as the sources of wealth (or the national product) are concerned, Smith
emphasised the importance of three interrelated things: the division of labour, free
trade and a limited role for government.
 Karl Marx
Karl Marx was born in Germany in 1818.
In 1867 Marx published the first volume of his major work, Das Kapital (Capital).
The central theme of his work was the historical evolution of institutions.
He argued that capitalism was self-destructive and that it would be replaced by a
classless system in
which there would be no private property.
Labour is the source of all value.
The value of every commodity ultimately depends on the labour embodied in it.
Workers, however, are only paid enough to survive (ie a subsistence wage).
Marx thus saw internal contradictions in the working of the capitalist system.
Capitalists want to increase surplus value (ie profit) but in the process they displace
the real source of surplus value (labour) by machines.
 John Maynard Keynes
He was born in England in the year in which Karl Marx died.
Aggregate level of economic activity is determined by the
aggregate demand for goods and services.
Classical economists said that total production (or aggregate
supply) would create its own demand (Says Law)
While the classical economists believed that there could never
be a sustained deficiency of demand at the macroeconomic
level, Keynes explained why aggregate demand could be
insufficient to sustain the levels of production and
employment.
Stimulate the total demand for goods and services by applying
the appropriate policy measures – Tax Reduction or Increase
in government expenditures.
Thank you