Market Economy is an economic system where private businesses produce their goods or provide services in an independent fashion, which is demand driven.
The ownership, management, and control of the operation are under private institutional arrangements, without any involvement of the government.
1. How does a Market Economy Operate?
Very simply, when customers purchase your product or service, you understand their inclination. So, to meet their stipulated demand you will increase production of the required goods.
Since, the profit earned is the main income the production is carried out in the least expensive way to maximize profit, and the goods and services are priced at the highest prices that they can quote.
Although, it does not get unfair because of the presence of competition which keeps a check on exorbitant prices.
A zero percent involvement of the government in a market economy is more of a theoretical process.
All countries which operate with a market economy have a certain percentage of government interference, but not in a manner that exceeds the whole idea of a free market economy.
The involvement of the government ensures that all traders in the market get equal opportunities. The market rules apply equally across all sectors and all individuals irrespective of their status or rank.
A continuous and thorough system of taxation is maintained by the government and businesses, individuals, and markets are taxed accordingly to suffice for the welfare of people or for providing better public services.
2. Invisible Hand Economics
The invisible hand economics is a concept that was introduced by Adam Smith and states that the self-interest of individuals or their businesses leads to economic growth.
This can be explained in this way; demand is the driving principle for the prices of goods and services. If the availability decreases, the demand and price increase.
Hence, making demand and supply the invisible hand in market economies leads to the betterment of the economic outcomes.
3. Types of Market Economy
3.1. Perfect Competition
All businesses sell the same products, the prices of which are not influenced by market share.
Complete transparency in all operations and prices are not determined by them. The new players also do not face any problems.
When only one player dominates the whole market without any competition and provides the goods to the consumers.
3.3. Monopolistic Competition
If in a sector, a set of companies produce similar but not the same products, and sell them to the buyers they can definitely control the pricing as they’re monopolizing the entire sector, and beating competition across the complete product line.
Given there are some products or services which are exclusively provided by some sellers, they can then cooperate with each other for maximizing their profit; they control the entire market in this manner.
When the buyers are few and very powerful, other businesses are numerous it is called oligopsony.
When the sellers are in large numbers and are compared to a singular buyer who can then control prices, is called monopsony.
4. Characteristics of the Market Economy
4.1. Private Ownership
The idea of private property lays the foundation of any market economy, as it provides the owners with the complete right to sell their goods and services.
They can also earn profit by selling or leasing their properties.
4.2. Freedom of Choice
Any business or individual is allowed to produce, sell and purchase goods and services with healthy competition.
They just need to keep one thing in mind, if they’re producing some goods or providing services they should be providing them at prices that are feasible for the consumers and they can happily pay those.
The biggest guiding reason behind a market economy is the motive of self-interest. It provides individuals and businesses with an opportunity to do things their way.
They can earn the way they like, work how they want to, and carry out business operations in a manner that they fancy.
4.4. Efficient Market
All members of the market, the customers producers, sellers, and buyers have equal knowledge about supply and demand, and pricing.
There is a sense of equality and no misinformation.
In a market economy, any innovation in a product will be a reward to the producer as new products will fetch more buyers and help in a better price system.
Due to perpetual competition, there will be efficient production, competitive pricing, and good quality maintained.
When one business performs well there will be other individuals to invest in the same since it is a free market, this will lead to bigger and better companies.
Consumers are happy to pay prices for high in demand products, they also enjoy reduced prices in reverse situations.
Since there is no one in charge as such to balance the competition it can at times become unfair and also a disadvantage to the people who’re at the non – beneficial hand and this makes the market as a whole very ineffective.
The freedom of choice might lead to the creation of a gap in society, people with money and resources might use them only in their favor.
It might even leave lesser opportunities for less abled or less fortunate individuals, they might not be able to perform to their maximum potential as the economy is driven by self-interest and not the nation’s interest.
7. End Notes: What is the Coordinating Mechanism in a Market System?
The central coordinating mechanism in a market economy is the price mechanism and the price mechanism is a system where the economic decisions of pricing are dependent on the supply and demand that are in turn regulated by customers.
In this coordination problem, the firms that produce goods will set a price for the same, and if this price meets with the price that the customer is ready to pay for the same a transaction occurs.
This helps in the central planning of the economy which helps in deciding what quantities should be produced and sold at what prices.