A free-market Economy is an economic system in which individuals, rather than government, make
the majority of decisions regarding economic activities and transactions (see
Capitalism). Individuals are free to make economic decisions concerning
their employment, how to use or accumulate capital, what expenditures to make,
and whether to use their resources now or to save them for later consumption.
The principles underlying free-market economies are based on laissez-faire
(non-intervention by government) economics and can be traced to the 18th
century British economist Adam Smith. According to Smith, individuals acting in
their own economic self-interest will maximize the economic situation of
society as a whole, as if guided by an “invisible hand.” In a free-market
economy the government's function is limited to providing what are known as
“public goods” and performing a regulatory role in certain situations.
Public goods, which include defense, law and order, and
education, have two characteristics: consumption by one individual does not
reduce the amount of the good left for others; and the benefits that an
individual receives do not depend on that person's contribution. An example is
a lighthouse. One individual's use of light provided by a lighthouse does not
reduce the ability of others to use it. In addition, the lighthouse owner
cannot restrict individuals from using the light. The latter illustrates the
“free-rider” phenomenon of public goods—both those who helped pay for the lighthouse
and those who did not will enjoy the same amount of light. The “free-rider”
problem can be eliminated if governments collect taxes and then provide public
goods.
Government's role in a free-market economy also includes
protecting private property, enforcing contracts, and regulating certain
economic activities. Governments generally regulate “natural monopolies” such
as utilities or rail service (see Monopoly). These industries require
such a large investment that it would not be profitable to have more than one
provider. Regulation is used in place of competition to prevent these
monopolies from making excessive profits. Governments may also restrict
economic freedom for the sake of protecting individual rights. Examples include
laws that restrict child labor, prohibit toxic emissions, or forbid the sale of
unsafe goods.
Proponents of free-market economies believe they provide a
number of advantages. They see free-market economies as encouraging individual
responsibility for decisions and they believe that economic freedom is
essential to political freedom. In addition, many people believe that free
markets are more efficient in economic terms. Free markets provide incentives
both to individuals to allocate resources, such as labor and capital, among the
most productive uses, and to firms to produce goods and services that the
public wants, using the most efficient means of production.
Free-market economies are also criticized. Opponents
believe that a free-market economy cannot ensure basic social values, such as
alleviating poverty, or that the income distribution that results from a
free-market economy may not be equitable. A free-market economy may also permit
the accumulation of vast wealth and powerful vested interests that could
threaten the survival of political freedom.
Alternative economic systems include communism and mixed
economies. In communism, the government plans the economy and all means of
production are publicly owned. The economy of the former Union of Soviet Socialist Republics
was an example of a planned economy: all decisions regarding production and
distribution were made by the government. In contrast, a mixed economy is one
where the government does some planning and owns or controls more industries
than in a free-market economy. Governments may own key industries such as
steel, aviation, and banking, while the individual still plays an important
role. Sweden
and France
are examples of mixed economies.
Free market
A free
market is a market where the price of an item is
arranged by the mutual consent of sellers and buyers, with the supply and
demand of that item not being regulated by a government (see supply and
demand); the opposite is a controlled market, where supply and
price are set by a government.[1] However,
while a free market necessitates that government does not regulate supply,
demand, and prices, it also requires the traders themselves do not coerce or
defraud each other, so that all trades are morally voluntary.[2]
The notion of
a free market is closely associated with laissez-faire economic
philosophy, which advocates approximating this condition in the real world by
mostly confining government intervention in economic matters to regulating
against force and fraud among market participants. Hence, with government force
limited to a defensive role, government itself does not initiate force in the
marketplace beyond levying taxes in order to fund the maintenance of the free
marketplace. Some free market advocates oppose taxation as well, claiming that
the market is better at providing all valuable services including defense and law. Anarcho-capitalists,
for example, would substitute arbitration agencies and private
defense agencies.
In political
economics, the opposite extreme to the free market economy is
the command economy, where decisions regarding production, distribution,
and pricing are a matter of governmental control. In other words, a free market
economy is "an economic system in which individuals, rather than
government, make the majority of decisions regarding economic activities and
transactions."[3] In social
philosophy, a free market economy is a system for allocating goods
within a society: supply and demand within the market determines who
gets what and what is produced, rather than the state. Early proponents of a
free-market economy in 18th century Europe contrasted it with the medieval, early-modern and mercantilist economies
which preceded it.
Theory
The key idea
of a free market is voluntary exchange. If an exchange takes place under
coercion or fraud, then that exchange is not considered a free market exchange.
For example, if someone threatens someone with a gun to purchase what he is
selling then is a not a free market. If the government legally prevents a merchant
from selling his goods at any prices he wishes and that buyers agree upon, that
is not a free market. Or, if the government decrees what quantity of a
commodity one must manufacture it is not a free market. Thus, the operation of
supply and demand is not sufficient for a free market if decisions on supply
and demand are made under the threat of coercion. If an individual is lied to
in order to persuade him to purchase something, such as when a product or
service is misrepresented, this is not considered morally voluntary either.
Thus, a free market is one without "force or fraud."
The necessary
components for the functioning of an idealized free market include the complete
absence of artificial price pressures from taxes, subsidies, tariffs, or
government regulation (other than protection from coercion and theft), and
no government-granted monopolies (usually classified as coercive
monopoly by free market advocates) like the United States Post Office, Amtrak,
arguably patents, etc.
In an
absolutely free-market economy, all capital, goods, services, and
money flow transfers are unregulated by the government except to stop collusion
that may take place among market participants. As this protection must be
funded, such a government taxes only to the extent necessary to perform this
function, if at all. This state of affairs is also known as laissez-faire.
Internationally, free markets are advocated by proponents of economic
liberalism; in Europe this is usually simply called liberalism. In
the United States, support for free market is associated most with libertarianism.
Since the 1970s, promotion of a global free-market economy, deregulation and privatization,
is often described as neoliberalism. The term free market economy is
sometimes used to describe some economies that exist today (such as Hong
Kong), but pro-market groups would only accept that description if the
government practices laissez-faire policies, rather than state
intervention in the economy.[specify] An economy that
contains significant economic interventionism by government, while still
retaining some characteristics found in a free market is often called a mixed
economy.
A free market
does not require the existence of competition, however it does require that
there are no barriers to new market entrants. Hence, in the lack of coercive
barriers it is generally understood that competition flourishes in a free
market environment. It often suggests the presence of the profit motive,
although neither a profit motive or profit itself are necessary for a free
market. All modern free markets are understood to include entrepreneurs,
both individuals and businesses. Typically, a modern free market economy
would include other features, such as a stock exchange and a financial
services sector, but they do not define it.
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