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MARKET ECONOMY: NECESSITY, ESSENCE AND MAIN FEATURES. Plan. I. II.

Introduction Main Part CHAPTER 1 Economic systems 1.1. Market economy 1.2. Planned economy 1.3. Traditional economy 1.4. Mixed economy CHAPTER 2 Features of market economy 2.1. Independent enterprise system 2.2. Effective competition 2.3. Normative governmental functions 2.4. Sound social credit system 2.5. Sound legal foundation III. IV. Conclusion List of literature

INTRODUCTION. THEME: Market economy: necessity, essence and main features. AIM OF THE PAPER: to analyze market economy and define its main features. GOALS: 1. find factual information about market economy; 2. analyze the information and define main features of market economy; 3. make a conclusion on the theme. THESIS: Most countries adopt market economic system in the current world, but only the nations with a standardized and effective market economic system have become prosperous. Although many countries have adopted market economic system for a long time, they are still struggling in non-standardized and inefficient market economic environment. Evidently, the market economy can be beneficial or not. In particular, what deserves our attention is that the transition from originally planned economy to market economic system is not always well carried out, so nations are subject to non-standardized and inefficient market economy. In my opinion, we need to analyze market economy and define its main features to find principal directions of our economical and political reforms for achieving the best results in standing of the modern society with a stable market economy.

ECONOMIC SYSTEMS An economic system is the system of production, distribution and consumption of goods and services of an economy. Alternatively, it is the set of principles and techniques by which problems of economics are addressed, such as the economic problem of scarcity through allocation of finite productive resources. The economic system is composed of people and institutions, including their relationships to productive resources, such as through the convention of property. An economic system can be defined as a set of methods and standards with the help of which a society decides and organizes the allocation of limited economic resources to satisfy unlimited human needs. At one extreme, production is carried in a private-enterprise system such that all resources are privately owned. It was described by Adam Smith as frequently promoting a social interest, although only a private interest was intended. At the other extreme, following Karl Marx and Vladimir Lenin is what is commonly called, such that all resources are publicly owned with intent of minimizing inequalities of wealth among other social objectives. Alternatively, 'economic system' refers to the organizational arrangements and process through which a society makes its production and consumption decisions. In creating and modifying its economic system, each society chooses among alternative objectives and alternative decision modes. Many objectives may be seen as desirable, like efficiency, growth, liberty, and equality. The basic and general economic systems are: Market economy Planned economy Traditional economy Mixed economy

There are several basic and unfinished questions that must be answered in order to resolve the problems of economics satisfactorily. The scarcity problem, for example, requires answers to basic questions, such as: what to produce, how to produce it, and who gets what is produced. An economic system is a way of answering these basic questions, and different economic systems answer them differently.

MARKET ECONOMY A market economy is economy based on the division of labor in which the prices of goods and services are determined in a free price system set by supply and demand. This is often contrasted with a planned economy, in which a central government determines the price of goods and services using a fixed price system. Market economies are also contrasted with mixed economy where the price system is not entirely free but under some government control or heavily regulated, which is sometimes combined with state-led economic planning that is not extensive enough to constitute a planned economy. In the real world, market economies do not exist in pure form, as societies and governments regulate them to varying degrees rather than allow self-regulation by market forces. The term free-market economy is sometimes used synonymously with market economy, but, as Ludwig Erhard once pointed out, this does not preclude an economy from having socialist attributes opposed to a laissez-faire system. Economist Ludwig von Mises also pointed out that a market economy is still a market economy even if the government intervenes in pricing. Different perspectives such exist as to how strong a role the government should have in both guiding the market economy and addressing the inequalities the market produces. For example, there is no universal agreement on issues such as central banking, and welfare. However, most economists oppose protectionist tariffs. The term market economy is not identical to capitalism where a corporation hires workers as a labour commodity to produce material wealth and boost shareholder profits. Market mechanisms have been utilized in a handful of socialist states, such as Yugoslavia and even Cuba to a very limited extent. It is also possible to envision an economic system based on independent producers, cooperative, democratic worker ownership and market allocation of final goods and services; the labour-managed market economy is one of several proposed forms of market socialism. Whether the society is developed or underdeveloped, market economy has several important advantages and several major disadvantages: Among the advantages are the following:

Competition between different firms leads to increased efficiency, as firms do whatever is necessaryincluding laying off workersto lower their costs; Most people work harder (the threat of losing one's job is a great motivator); There is more innovation as firms look for new products to sell and cheaper ways to do their work; Foreign investment is attracted as word gets out about the new opportunities for earning profit; The size, power, and cost of the state bureaucracy is correspondingly reduced as various activities that are usually associated with the public sector are taken over by private enterprises; The forces of production, or at least those involved in making those things people with money at home or abroad want to buy, undergo rapid development; Many people quickly acquire the technical and social skills and knowledge needed to function in this new economy; A great variety of consumer goods become available for those who have the money to buy them; and Large parts of the society take on a bright, merry and colorful air as everyone busies himself trying to sell something to someone else. Among the disadvantages are the following: Distorted investment priorities, as wealth gets directed into what will earn the largest profit and not into what most people really need (so public health, public education, and even dikes for periodically swollen rivers receive little attention); Worsening exploitation of workers, since the harder, faster, and longer people workjust as the less they get paidthe more profit is earned by their employer (with this incentive and driven by the competition, employers are forever finding new ways to intensify exploitation); Overproduction of goods, since workers as a class are never paid enough to buy back, in their role as consumers, the ever growing amount of goods that they produce (in the era of automation, computerization and robotization, the

gap between what workers produceand can produceand what their low wage allows them to consume has increased enormously); Unused industrial capacity (the mountain of unsold goods has resulted in a large percentage of machinery of all kinds lying idle, while many pressing needsbut needs that the people who have them can't pay forgo unmet); Growing unemployment (machines and raw materials are available, but using them to satisfy the needs of the people who don't have the money to pay for what could be made would not make profits for those who own the machines and raw materialsand in a market economy profits are what matters); Growing social and economic inequality (the rich get richer and everyone else gets poorer, many absolutely and the rest in relation to the rapidly growing wealth of the rich); With such a gap between the rich and the poor, egalitarian social relations become impossible (people with a lot of money begin to think of themselves as a better kind of human being and to view the poor with contempt, while the poor feel a mixture of hatred, envy and queasy respect for the rich); Those with the most money also begin to exercise a disproportional political influence, which they use to help themselves make still more money; Increase in corruption in all sectors of society, which further increases the power of those with a lot of money and puts those without the money to bribe officials at a severe disadvantage; Increase in all kinds of economic crimes, with people trying to acquire money illegally when legal means are not available (and sometimes even when they are); Reduced social benefits and welfare (since such benefits are financed at least in part by taxes, extended benefits generally means reduced profits for the rich; furthermore, any social safety net makes workers less fearful of losing their jobs and consequently less willing to do anything to keep them); Worsening ecological degradation (since any effort to improve the quality of the air and of the water costs the owners of industry money and reduces profits, our natural home becomes increasingly unlivable); With all this, people of all classes begin to misunderstand the new social relations and powers that arise through the operations of a market economy

as natural phenomena with a life and will of their own (money, for example, gets taken as an almost supernatural power that stands above people and orders their lives, rather than a material vehicle into which people through their alienated relations with their productive activity and its products have poured their own power and potential; and the market itself, which is just one possible way in which social wealth can be distributed, is taken as the way nature itself intended human beings to relate to each other, as more in keeping with basic human nature than any other possibility. As part of this, people no longer believe in a future that could be qualitatively different or in their ability, either individually or collectively, to help bring it about. In short, what Marx called "ideological thinking" becomes general); The same market experiences develop a set of anti-social attitudes and emotions (people become egotistical, concerned only with themselves. "Me first", "anything for money", "winning in competition no matter what the human costs" become what drives them in all areas of life. They also become very anxious and economically insecure, afraid of losing their job, their home, their sale, etc.; and they worry about money all the time. In this situation, feelings as well as ideas of cooperation and mutual concern are seriously weakened, where they don't disappear altogether, for in a market economy it is against one's personal interest to cooperate with others); With people's thoughts and emotions effected in these ways by their life in a market economy, it becomes very difficult for the government, any government, to give them a true picture of the country's problems (it is more conducive to stability to feed people illusions of unending economic growth and fairy tales of how they too can get rich. Exaggerating the positive achievements of society and seldom if ever mentioning its negative features is also the best means of attracting foreign investment. With so much of the economy depending on "favorable market psychology", the government simply cannot afford to be completely honest either with its own people or the rest of the world on what is really happening in the country); Finally, the market economy leads to periodic economic crises, where all these disadvantages develop to a point that most of the advantages I mentioned earlier simply dry up the economy stops growing, fewer things are made, development of the forces of production slows down, investment drops off, etc. (a close look at the trends apparent in the disadvantages of the market should make clear why such crises are inevitable in a market economy). Until an economic crisis occurs, it is possible to take the position that the advantages of a market economy outweigh its disadvantages, or the opposite position, and to develop a political strategy that accords with one's view, whatever it is. But if a crisis does away with most of the important advantages associated with the market, this is no longer possible. It simply

makes no sense to continue arguing that we must give priority to the advantages of the market when they are in the process of disappearing PLANNED ECONOMY Planned economy or directed economy is an economic system in which the state or workers' councils manage the economy. It is an economic system in which the central government makes all decisions on the production and consumption of goods and services. Its most extensive form is referred to as a command economy, centrally planned economy, or command and control economy. In such economies, central economic planning by the state or government controls all major sectors of the economy and formulates all decisions about the use of resources and the distribution of output. Planners decide what should be produced and direct lowerlevel enterprises to produce those goods in accordance with national and social objectives. Planned economies are in contrast to unplanned economies, such as a market economy, where production, distribution, pricing, and investment decisions are made by the private owners of the factors of production based upon their own interests rather than upon furthering some overarching macroeconomic plan. Less extensive forms of planned economies include those that use indicative planning, in which the state employs "influence, subsidies, grants, and taxes, but does not compel."This latter is sometimes referred to as a "planned market economy". A planned economy may consist of state-owned enterprises, private enterprises directed by the state, or a combination of both. Though "planned economy" and "command economy" are often used as synonyms, some make the distinction that under a command economy, the means of production are publicly owned. That is, a planned economy is "an economic system in which the government controls and regulates production, distribution, prices, etc." but a command economy, while also having this type of regulation, necessarily has substantial public ownership of industry. Therefore, command economies are planned economies, but not necessarily the reverse. Important planned economies that existed in the past include the economy of the Soviet Union, which, according to CIA Factbook estimates, was for a time the world's second-largest economy , China before 1978, and India before 1991, Afghanistan under the Soviet occupation and under the Taliban, and Iraq under Saddam Hussein from 1979 to 2003. Beginning in the 1980s and 1990s, many governments presiding over planned economies began deregulating (or as in the Soviet Union, the system collapsed) and moving toward market-based economies by allowing the private sector to make the pricing, production, and distribution decisions. Although most economies today are market economies or mixed economies (which are partially planned), planned economies exist in some countries such as Cuba, Libya, Saudi Arabia, Iran, North Korea, and Burma.

TRADITIONAL ECONOMY A traditional economy is an economy based on custom and tradition. The economic system in which resources are allocated by inheritance, has a strong social network and is based on indigenous technology and methods. Although this type of economy has been converted to mixed, command, or market technologies in many societies that were once traditionally driven; over 400 million people across the globe still practice this methodology, as researched by the World Bank. In this brand of economy, the closeness of the societal structure generally ensures that every member of society has a purpose and as well, a participatory function in society. This brand of economics also provides less of a demand on the resources of the earth because goods are usually only produced if they will be consumed, hence, there is a lack of over consumption and surplus such as can be found in many other economic systems. MIXED ECONOMY A mixed economy is an economic system that includes a variety of public and government control, or a mixture of capitalism and socialism. There is not one single definition for a mixed economy, but relevant aspects include: a degree of private economic freedom (including privately owned industry) intermingled with centralized economic planning and government regulation (which may include regulation of the market for environmental concerns, social welfare or efficiency, or state ownership and management of some of the means of production for national or social objectives). For some states, there is not a consensus on whether they are capitalist, socialist, or mixed economies. Economies ranging from the United States to Cuba have been termed mixed economies. The mixed economy as an economic ideal is supported by social democrats as a compromise between socialism and free-market capitalism, among others.

FIVE MAJOR FEATURES OF MODERN MARKET ECONOMY Independent enterprise system Independent entities are the cornerstone of the market economy, and enterprises are the main market players. One major difference of the market economy from planned economy is its allocation of resources through decentralized decision-making and the price lever. Decentralized decision-making enables each enterprise to plan and decide using their information, which overcomes the information difficulty under the planned economy. But to achieve decentralized decision-making, enterprises must have full independence. Under standard market economy, an independent enterprise system includes three meanings: First, enterprises have clearly-defined and independent property rights under effective legal protection; second, enterprises are the main body to make decisions and adjust their plans with changing market information; third, enterprises afford civil liability for their decisions and behaviors. The three aspects are interconnected and mutually reinforced, and neither is dispensable. Clearly-defined and independent property rights are not only basis of smooth market transactions, but the driving force of investment and trades and premise of an effective corporate governance structure. If the property rights are not clearly defined or not effectively protected, independent enterprise system can not be truly established. Similarly, enterprise ownership and being responsible for consequences of their decisions are two sides of a coin. If the decision-making of enterprises are often subject to external interference, they can not and should not be responsible for the consequences of their decisions. In turn, if enterprises are not truly responsible for the consequences, it is dangerous to give them decisionmaking autonomy. Modern economic research fully demonstrates that the market mechanism is a means of allocating resources, or rather an incentive and restraint mechanism. To have decision-makers take charge of the consequences of their decisions is a restraint as incentive. Effective Competition Competition is the most fundamental guarantee of effective market economy. As a result of survival of the fittest, enterprises are forced to reduce costs, improve quality, ameliorate management and innovate actively to increase efficiency and optimize resource allocation. But competition must be effective; otherwise it is very difficult to obtain good results. Drawn from standard market economic

system, effective competition mainly includes three aspects: fair play, completeness and orderliness. Fair play requires laws, regulations and government policies to treat different market participants equally. They should create an environment for equal competition for all kinds of enterprises in terms of market access, obtain of production factors, legal protection, policy support and others. At the same time, they should create equal opportunities in personnel flow, employment selection, vocational training, insurance and other welfares. Fair competitive environment means equal opportunities, and it is the latter that is the effective approach to achieve both of social justice and economic efficiency. To guarantee effective competition, we have to eliminate various administrative and economic obstacles which baffle enterprises enter and exit the market and ensure completeness of competition. Administrative obstacle mainly refers to monopolization under administrative power, such as industrial monopolies and local protectionism. And economic obstacle mostly refers to monopolization caused by over-sized enterprise(s) or over-concentrated market share. Although the two kinds of monopolies are different in nature, both would damage the effectiveness of competition and have to be eliminated. In addition, free exit is as important as free access. If the losers cant exit freely as a result of administrative or economic obstacles, it would also seriously damage the fairness and effectiveness of competition. Finally, the effective competition must be orderly. Orderly competition requires "rules" which accords with the demands of market economy, including formal laws regulations and informal industry standards, international practice and so on. Meanwhile, market players must abide by the rules, therefore, we must strictly refrain fraud, forgery, low price dumping, pricing cartel and other unfair competitions. Normative governmental functions One prominent feature of modern market economy is the separation of economy and the government. Market economy can not be separated from the normal functioning of the government, but the government must not overcharge and must be restricted by the law, otherwise, if the government interferes with economic activities arbitrarily, the vitality and creativity of national economy are still subject to damage. A government with normative functioning under which the market mechanism is given full play is often known as "Good Governance" or "limited and effective government". Good political rationale mainly covers the following aspects: First, the functions of the government are clearly and properly defined in the law. In standard market economic system, the government is not to replace but to

facilitate the market, namely, by making and implementing rules and regulations it maintains the order and fair competition and create a favorable environment for the market to work normally. If the problems can be properly solved through the market, the government would not have to intervene; otherwise, it must assume responsibility. When the government is needed but fails to play its function, it still damages normal running of the market. By this principle, the government should mainly take charge of three domains: First, to develop and implement rules, for instance to define and protect property rights, to supervise implementation of contracts and to enforce fairly. Second, macroeconomic regulation and control, income redistribution to prevent enlarging of the income gap and maintain a stable economic and social environment. Third, public products are provided. Second, democratic and transparent decision-making process of the government is required. Normal functioning not only requires the government to do what it should do, but also calls for correct decisions and mistakes minimization, while correct decisions depends on correct decision-making process. Along with development of the modern economy, it relies on increasingly complex information and professional knowledge to make decisions, and it is a great challenge to make right decisions simply with the wisdom of a few high officials. After inspecting government decision-making under standard market economic system, we find an important characteristic is that major decisions are based on professionally feasibility studies and opinions of all social sectors, especially those being regulated. Government decision-making process controlled by laws or regulations can also serve to monitor the government, inhibit arbitrarily interference and corruption. Third, power of the government has to be effectively restrained by laws. Since the government has inherent advantages over other main players in the market, its intervention in the economy must be logistically monitored, otherwise independent enterprise system and free trade can hardly be guaranteed. Laws and regulations must make detailed requirements that are in accordance to market economy on content, modes and authority of the government's economic intervention. If the law grants the government excessive and undue power to intervene in the economy, or the law leaves too many domains uncovered, or it is roughly stated and enables excessive flexibility, giving the government too much discretion, all of these possibilities would lead to the government's excessive and arbitrary interference. The government has to run within the legally permitted domains, and its behavior must be supervised by the legislature and the public. Fourth, corruption of the government officials is effectively controlled. A lot of empirical researches show that serious corruption is an important factor that results in low growth and low income. Corruption is costly and is the major factor that leads to un-standard, ineffective and bad market economy. Corruption will not only greatly increase transaction costs of the market economy, but will constitute a market access barrier, undermine effective competitive environment, tarnish the

reputation of the government and depress the government's effective management. Therefore, whether we can effectively stop the spread of corruption determines whether we can establish a perfect socialist market economic system successfully. Sound social credit system Honesty and trustworthiness are advocated in any country, any nation and all systems at any time. If one is dishonest or untrustworthy, does not work hard, any rule is difficult to work normally. But honesty and trustworthiness are particularly important to modern market economy. Because traditional market economy is mainly composed of spot transactions, namely the exchange of money and products takes place at the same time, while modern market economy is mainly composed of credit transactions. Credit transactions overcome restraints of separated time and space on trading, thus greatly expand the scope of market transactions. But credit transactions require both parties to be honest and trustworthy, otherwise the cost of transactions will greatly increase, and the trading breadth and depth will also be greatly affected. What is particularly noteworthy is that with development of modern information and network technology, low-cost ecommerce will be adopted in more domains, but without sound credit as the basis, the development of e-commerce will be subject to great constraints. Under standardized market economic system, honesty and credit not only invest enterprises with better reputation but also competitive advantage. Rigorous adherence to the contract rewards enterprises with customers and established brands. To be honest and creditable to the suppliers wins the company with their confidence, and thus better supply. To be honest and creditable to the creditors and investors means to obtain higher financing capacity with lower prices. What is particularly noteworthy, sound credit basis and culture are the foundation of modern enterprise system. If the directors are not honest and creditable to the shareholders, if the management personnel are not honest and hard-working, if the staff always delivers false information to deceive investors, even if the modern enterprise system is established in form, it can not function normally. When reviewing on the development experience of other nations, we find that compared with honesty and credit of main players in the market, the integrity of the government is more important. Transparent and predictable policies and strict fulfillment of commitment to the community not only directly affect credit of the society, also invest more confidence to other market players and set up a creditable model. Sound legal foundation After historical review on the evolution of various economic systems, we conclude whether a country can truly transform from the traditional market economy or

planned economy to modern market economy depends on whether it is able to truly establish the legal foundation suitable to the market economy. Because, as mentioned above, the market economy is a competitive system inseparable from the rules and laws. Without a sound and solid legal environment, independence of market players, effectiveness of competition, standardization of the government's behaviors and orderliness of the market all lack of fundamental guarantee. Therefore, fundamentally speaking, the modern market economy is an economy ruled by law. Market economy is diversified, and only the modern market economy ruled by law is effective to optimally allocate resources and enrich the people and strengthen the nation. This is an important lesson drawn from modern economic development and is worthy of conscientious reflection and learning. Law, basis of modern market economy, is defined in three aspects: First, the law is in accordance to the basic or generally accepted principles of justice, in particular, to the inherent requirements of the market economy. Sound legal environment is not necessarily creates with abundant laws, more important is the nature of laws. If the law does not protect property rights and fair competition effectively, but over-restricts the freedom of economic entities, then the more laws are promulgated, the greater harm is done to the society. The legal environment in many countries is not well established, nor does it facilitate the market to develop freely, not because the laws are not enough, but they are not in conformity with the objective requirements of market economy, or even to the contrary. Good laws are ensured by good legislation, which not only asks for open and transparent legislative process, but sound and solid democratic and constitutional basis. Second, the law is supreme, and everyone is equal before the law. In nations "ruled by law", all citizens, civic groups and government agencies must comply with the law, and not any is beyond regulations of the law. Any individual or organization, irrespective of their status and social background, their violation must be punished by the law. Third, the law is to be fairly implemented. It requires not only a sound judicial system, but full awareness of the law and abiding of the whole society needs. This is the most difficult point, because, after all, the enactment of the law can refer to established foreign legal documents, while a sound legal environment can only be created through own efforts, full awareness of the law and abiding demands a long period of publicity, education, culture and practice.