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Chapter 2: Economic Systems. 2.1: Answering the Three Economic Questions. 3 Key Economic Questions. What goods and services should be produced? How should these goods and services be produced? Who consumes these goods and services?. All Societies Must Answer.

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Chapter 2 economic systems

Chapter 2: Economic Systems

2.1: Answering the Three Economic Questions

3 key economic questions
3 Key Economic Questions

  • What goods and services should be produced?

  • How should these goods and services be produced?

  • Who consumes these goods and services?

All societies must answer
All Societies Must Answer

  • The way a society answers these three questions defines its economic system

  • Economic System the structure of methods and principles a society uses to produce and distribute goods and services

What to produce
What to Produce

  • Must decide in order to satisfy the needs and wants of its people

  • Example…How much do we spend on national defense, education, consumer goods, etc.

  • Remember…there is always an opportunity cost

How to produce
How to Produce?

  • Oil or solar?

  • Private or public education?

Who consumes goods and services
Who Consumes Goods and Services?

  • Answer is determined by how societies distribute income

  • Factor Payments income people receive in return for supplying factors of production

  • Includes Profit amount of money a business receives in excess of its expenses

5 major economic goals
5 Major Economic Goals

  • #1 Economic Efficiency

Economic efficiency
Economic Efficiency

  • Efficiency is a MUST because resources are ALWAYS scarce

  • The challenge is to accurately predict the goods and services a society wants

  • Produce what people need and want

Economic freedom
Economic Freedom

  • We value the right to make our own choices

  • May not always be successful, but we can make our own decisions

  • Can buy what we want, work where we want, own property, become entrepreneurs, etc

Economic security
Economic Security

  • We do not like uncertainty

  • Rest easier knowing help is available should we need it

  • Safety Net set of government programs that protect people who face unfavorable economic conditions

Social security system
Social Security System

  • Comes in three forms:

  • Old-Age Pension

  • Unemployment

  • Welfare

4 economic equity
#4: Economic Equity

  • What is fair?

  • Every society answers that question differently

Economic growth
Economic Growth

  • The economy must grow if people are going to have more income

  • Economic growth increases a nation’s standard of living level of economic prosperity

  • Encourages Innovation process of bringing new methods, products, or ideas into use

Goals can conflict
Goals Can Conflict

  • Sometimes these economic goals can conflict with one another

  • Which goals do you potentially see conflicting with one another and why?


  • When a society provides a safety net for all citizens, the added cost may slow economic growth

  • To protect the environment, a government may impose regulations on manufacturers that curb economic freedom

Traditional economies1
Traditional Economies

  • Oldest and simplest economy

  • Relies on habits, customs, and rituals

  • No room for innovation or change; Keep doing things they way they have always been done

Traditional economies2
Traditional Economies

  • Work is divided by gender

  • Hard time dealing with economic disasters such as floods or droughts

  • Lack modern conveniences

  • Low standard of living

Chapter 2 section 2
Chapter 2: Section 2

  • The Free Market

Why markets exist
Why Markets Exist

  • Market any arrangement that allows buyers and sellers to exchange things

  • Markets eliminate the need for any one person to be self-sufficient

  • Would be impossible for individuals to produce all we require to satisfy our needs and wants

It is all about exchange
It is all about Exchange!

  • In a market, we exchange the things we have for the things we want

  • This is not forced upon us, it is a voluntary exchange


  • Specialization the concentration of the productive efforts of individuals and businesses on a limited number of activities….huh?

  • Easier explanation We do what we are good at; I teach (no comments needed from you if you think I am good or not), I don’t fly airplanes

Leads to efficiency
Leads to Efficiency

  • Specialization creates efficient use of land, labor, and capital

  • It is easier for people to learn how to do one, or a few tasks very well

Chapter 2 economic systems

  • FME Economic system in which decisions on the three key economic questions are based on voluntary exchange in markets

  • Easier explanation Individuals and businesses make their own decisions about what to buy or sell

Households and firms
Households and Firms

  • Household person or group of people living in a single residence

  • Firm organization that uses resources to produce a product or service, which it then sells

Factor markets and product markets
Factor Markets and Product Markets

  • Factor Market Where firms purchase factors of production from households

  • Product Market When households purchase products made by firms

Adam smith1
Adam Smith

  • The “Father of Economics”

  • Wrote The Wealth of Nations

  • Big believer that people will always act in their own best interests

  • A transaction is not made unless it is in your best interest


  • “Give me that which I want, and you shall have this which you want…It is in this manner that we obtain from one another the far greater part of those goods and services which we stand in need of. It is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner, but from their regard to their own interest.”

The invisible hand
The Invisible Hand

  • Do not concern ourselves with what is good for the marketplace, simply do what is best for you and the rest will take care of itself

  • Self regulating economy

  • Did not believe in government involvement

  • Adam Smith would be against all the recent stimulus plans


  • Competition involves incentives

  • Incentive hope of reward or fear of penalty that encourages a person to behave in a certain way

  • People respond in a predictable way to incentives

  • Most incentives are monetary


  • Struggle among producers for the dollars of consumers

  • Competition is good for the consumer

  • Keeps prices low; Prices skyrocket when there is no competition

Advantages of the free market
Advantages of the Free Market

  • Efficiency

  • Freedom

  • Growth

  • And one more…

Consumer sovereignty
Consumer Sovereignty

  • Power of the consumers to decide what gets produced

  • Companies produce more of things people want, and less of things they don’t

  • Can be summed up best in a simple phrase that all of you have most likely heard before…

Famous phrase
Famous Phrase

  • “The Customer is ALWAYS right!”

Centrally planned economies
Centrally Planned Economies

  • The government, not the individual, answers the key economic questions

  • Government owns both the land and capital

  • Also owns labor in a sense as well, because they control where people work

Things they oppose
Things they Oppose

  • Private Property

  • Free Market Pricing

  • Competition

  • Consumer Choice

Socialism and communism
Socialism and Communism

  • These are not the same…They are different.

  • People often confuse the two of them


  • Range of economic and political systems based on the belief that wealth should be distributed evenly throughout a society

  • Economic equity can only exist if the centers of economic power are controlled by the government or by the public AS A WHOLE…not by individuals or corporations

Socialism free market
Socialism + Free Market

  • Example would be Sweden

  • Sweden is Socialist but it coexists with free market practices

  • The government uses its powers of taxation to redistribute wealth and provides other services

  • Socialism is considered to be an intermediate stage between capitalism and communism


  • Political system in which the government owns and controls all resources and means of production and makes all economic decisions

Father of communism
Father of Communism

  • Karl Marx

  • Believed labor was the source of all value

  • Under capitalism, he felt that profit created by the labor of workers ended up in the hands of factory owners

  • Capitalism exploits workers and leads to uneven distribution of wealth

Main difference
Main Difference

  • Socialist economies can be democratic

  • Sweden for example

  • Communist countries can NOT

  • Cuba for example

The soviet union and china
The Soviet Union and China

  • Page 37

  • Read the two sections on the Soviet Union and China. After reading, write a response answering the following questions


  • What was the benefit of the Soviet Union’s decision to concentrate on heavy industry? What was the opportunity cost of this decision? Who paid it?

  • What was China’s approach to controlling the economy? How was their approach flawed, and what steps were taken to correct it? Was it successful?

Mixed economies
Mixed Economies

  • Chapter 2, Section 4

Laissez faire
Laissez Faire

  • Belief that government generally should not interfere in the marketplace

  • Adam Smith

  • Still, the government must involved to some degree

Reasons for government involvement
Reasons for Government Involvement

  • National Defense who would provide it without government?

  • Education society cannot survive solely on private education

  • Government is needed to protect property rights

Private property
Private Property

  • Property that is owned by individuals or companies, not by the government or the people as a whole

  • 5th and 14th Amendments Declare that no person may be deprived of “Life, liberty, or property, without due process of law”

Mixed economy
Mixed Economy

  • A market based economic system in which the government is involved to some extent

  • There are NO pure free market or pure command economies

Comparing mixed economies
Comparing Mixed Economies

  • Mixed economies where government intervention dominates North Korea

  • Government owns all property and 95% of goods

  • Nearly all imports from other countries are banned

Hong kong
Hong Kong

  • Example of mixed economy where the Free Market dominates

  • Government protects private property, and sets some wage controls

  • No barriers to foreign trade

The united states economy
The United States Economy

  • Free Enterprise System economic system characterized by private or corporate ownership of capital goods

  • Government keeps order, provides vital services, and promotes general welfare