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Economic Systems (Chapter 2)
Economic Systems (Chapter 2)
(A)
Introduction:
In the first chapter we have discussed the general framework of economic reasoning. By
applying this economic reasoning every society has to answer some basic questions concerning
its economic problems such as, what to produce, how to produce and for whom to produce.
To find answers to all above questions, every society has to have an institutional framework,
which is broadly known as the economic system of the society. The interaction between
societal laws and natural laws in solving economic problems eventually leads society to
establish an economic system compatible with the norms, values and worldview of the people.
Before we go into discussing the various components of an economic system and the different
features of various economic systems, you may ask what is an economic system in the first
place? What are the philosophical foundations of an economic system and how does the system
work to attain particular economic objectives of the society? This chapter of the book will give
you the analytical framework to better understand an economic system and a brief comparative
analysis of different economic systems prevailing in the world economic arena.
(B)
Every day you hear about Malaysias economic vision 220. The vision proclaims Malaysia to be a
fully developed nation by the year 2020. having a vision means Malaysians know what their
goals are and all economic and other governmental policies in Malaysia are aiming towards the
attainment of the vision. Same as the Malaysian society as a whole, think about yourself as an
individual with your own vision or aim in life. In order to be successful you have to have a specific
aim in life. Some of you may want to be a successful businessman, or a politician, or a doctor, or
a renowned scholar. All these ambitions will go in vain if you do not organize your life in a
systematic way. In other words, you have to be organized and systematic to attain specific goals
in your life. Like an individual, different also have different goals ad objectives i.e. economic
goals, social goal, and political goals (for example Malaysias vision 2020). To attain all these
societal goals and objectives, every society also has to be organized i.e., to have an economic
system, social system, and political system. An economic system depicts the organization of a
society to attain its economic objectives.
What is a system and how do the various components of the social structure interact with one
another and fuse into an economic system to attain economic objectives? Lets look at these in
greater detail ----A system is an aggregation or assemblage of objects united by some form of regular
interaction or interdependence, a group of diverse units so combined by nature or art as
to form an integral whole and to function, operate or move in unison to attain a specific
goal and often in obedience to some form of control; an organic or organized whole.
(Websters international dictionary)
From the above definition, three components of a system are obvious--
A system comprises of different entities and components.
natural laws and exist in every economy. On the other hand, societal laws are shaped by the
culture, traditions, history, climate, social norms and values, religion and above all, the worldview
of a particular society. For example, the production of prohibited (haram) goods and services that
add dis-utility to consumers from an Islamic perspective can be permitted in non-Muslim countries
but are prohibited in Muslim countries. Recognizing the fact of different responses towards
economic problems and different economic goals, different kinds of economic systems subject to
social norms and values are possible and also legitimate. Thus an economic system can be
illustrated in the following way -----
WORLD VIEW
SUB-SYSTEM
POLITICAL
SOCIAL
ECONOMIC
OPERATIONAL
PRINCIPLES
PHILISOPHICAL
FOUNDATION
GOALS AND
OBJECTIVES
Socio-economic justice,
Growth, Development,
Efficiency, Stability,
Equitable Distribution,
Employment Generation
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It should be noted that two-dimensional diagrams are often inadequate when trying to depict the
complexities of social interaction between sub-systems.
As you can see in the above diagram, economic system is one of the sub-systems, which stem
from the worldview of a particular society. Like any other sub-system, economic system has
various components such as philosophical foundation, operational principles, goal and objectives.
The following section will give you a brief idea about the various components of an economic
system.
Philosophical Foundations:
The philosophical foundations of an economic system provide the basic for the formation of an
economic system. It specifies among the others the nature and status of a human being in this
universe as an economic agent, the objectives for human being in related to another and how
economic pursuits of man and valued in this context. The philosophical foundation of an
economic system recognizes that man as integral part of the system, uses natural resources,
accumulates capital, established economic, social and political institutions and activates the
economic growth process. The behavior of man and his economic activities has to be within a
certain framework subject to social values and norms. Different frameworks will support different
economic systems.
Operational Principles:
Operational principles imply the manner a system functions. It explains the economic decision
making of a society i.e. how does society decide on what to produce, how to produce? What is
the mechanism of this decision making related to production, consumption and distribution? How
does the state intervene in the decision making of society and what are the instruments of his
intervention? Different economic systems answer the above question differently depending on
the philosophical foundation of the nature of the operational principles.
Goals:
Goals imply the ultimate outcome aimed for of all the decisions made in the economy. Some
common goals of all societies are for example, socio-economic justice, growth and stability,
fair and equitable distribution, general welfare of the people, fulfillment of basic needs of all
the people, efficiency and employment generation. While the goals may seem to be the same,
their meaning interpretation and priority may differ from one society and system to another.
Some economic goals are complementary and some are possibly conflicting with each other. All
these goals and objectives are not independent of the philosophical foundations and operational
principles; rather they are natural outcome and consequence of the philosophical foundations and
operational principles of an economic system.
(C)
Given the perpetual of scarcity in every society, decisions have to be made regarding the
allocation of scare resources for production, consumption and distribution purposes.
Organization of decision making varies from society to society based on the worldview of a
particular society. Thus different kinds of economic system can be adopted by different societies
and the past history of human civilization also gives testimony to this fact.
It is very easy to identify the philosophical framework of a particular society and differentiate
among different economic systems based on them. In the impending section we shall discuss the
features and principles of major economic systems of the world i.e. capitalist, socialist and the
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Islamic economic system. Comparing economic systems is very important, as it will enable you
to better understand how different societies and nations with different economic systems attempt
to address the economic problems they face.
There are basically three ways of trying to look at the economic system. The first looks at the
system by dividing economics into production, consumption and distribution. The second way
looks at the different sectors (agriculture, industry and manufacturing) in the economy and
analyses economic activity and decision making in these various sectors. This way is usually
found in government reports or case studies of countries. The third way is to look at some
common features/categories of comparison across different systems. No matter how different
economic systems are, they all have institutions that can be discussed under these features.
(a)
This third way of looking into economic systems is the main approach at comparing economic
systems. Certain fundamental features of any economic system are analyzed and economic
systems are classed based on their features. Usually, the features chosen are features which
produce extreme differences between capitalism and socialism since this way of comparing
systems was developed in the post world war II ear where capitalism and socialism were
comparing with one another.
Property ownership is one of the main features in the comparative economic systems approach.
Different economic systems depict the institution of poverty ownership in different ways based on
the ideology of the system itself. Property ownership is the social and legal relationship of an
individual or group with an object. This relationship is depicted by a bundle of rights (and
obligations) to tangible and intangible things of value. The nature and extent of property
ownership (public Vs private) differentiates one economic system from another. Thus, the
institution of property ownership does not emphasis the Thing itself but on the Bundle of Rights
(and obligations) that gives individual legitimate right to own, to possess, to control, to dispose
and to earn income from that property. Property can be of different types i.e. tangible or real
property, intangible property (intellectual property). On the other hand, in terms of ownership
property can be explained in categoriesprivates property. Lets look at them briefly.
Property
Real/Tangible Property
Intangible Property
Tangible property has physical existence. It is also called real property. You can get
physical services from real property. For example Land, Buildings, your own car, the
company car, your computer, the companys computer, capital equipment are all included
in real property. You can live in houses or you can produce goods by using capital
equipment these are examples of physical services.
12
Intangible property is a little more complex to define and discuss. Intellectual property is
the intangible product of creative efforts. These types of property do not have any
physical shape in their actual sense. But they can be expressed in terms of physical
existence. For example, the idea of writing a book is in the mind of the writer, you can
only know about it once the writer expresses his idea in the form of a book. In the same
way, music, computer programs and all kind of new inventions which only originate from
the creative expressions of the human intellect are examples of intangible property which
are transformed into certain product. Copy right and patent laws protect intellectual
property rights.
Property Ownership
Public Property
Common
Property
State Owned
Property
Private Property
Personal
Property
Private
Property
Private properties are owned by private individuals and private business organizations.
Your father owns a house in Kuala Lumpur, so it is a private property. It means that your
father has been entitled by the institution of property ownership to control, to maintain, to
earn income by renting it out or to live in that house. Private property attributes the
bundle of rights (and obligations) to private individuals. Similarly, private individuals own
business organizations, which are also private property. However, a distinction is made
between private property for personal use and that which are employed for productive
purposes. For example, you own a computer, so it is your personal property. But when
personal properties re employed into income earning activities than they are called
private property. If you open a computer-training center at your house and use you own
computer, then it is no longer personal but private property. Or in the previous example,
when your father rents the house then it termed as income earning private property. The
distinguishing feature is whether the use is for personal reasons or for the production
purposes.
If the bundle of Rights (and obligations) concerning a particular object is attributed to the
common public or the state, it is known as Public property. The access to and control of
public property is determined directly by reference to public interest. These are two main
categories of public property-State owned or Common property.
o
State owned property is controlled and managed by the state. The State has
complete rights and makes decision on the use based on public interest even if it
means giving it to the private sector to manage. For example, in Malaysia, the
government owns certain resources such as land and roads but the privatization
process of highway projects is an example to show how the state makes this
decision. However, this is still done in the name of public interest.
13
On the other hand, common property belongs to all people and everyone in the
society has equal access to that property. The state or any other private
organization can assume the management responsibility of common public
property but everyone is to have equal access to the property. Public Parks and
the sea are examples of common property.
The institution of property ownership is one of the basic elements analyzed in the comparative
economic systems approach. Different kinds of economic systems are based on different
foundations of property ownership.
The nature of interaction among the economic institutions in an economic system differs from
society to society based on the values, norms and ideological framework of that society. Human
beings are naturally created inquisitive. The needs of the body, mind and spirit make human
beings strive to constantly acquire what is necessary to meet these needs. This diverse behavior
is a resulting factor or consequence of diverse motivating factors in different economic systems.
Human beings are born with a natural inclination to achieve success. Why do you study? Why
dont you quit your study and get a job somewhere so that you can earn an income? There is
certainly a strong motivating factor that is stopping you from leaving the university. Similarly, the
choice of an economic system of the society depends on the compatibility of the motivating factor
of a certain system and the worldview of the society. Certain system stresses personal material
gain whereas others stress public duty and moral as the motivational factors.
Motivation
Material
Spiritual/Moral
Planning, organization and allocation of scare economic resources are necessary for efficiency in
the production, consumption and distribution processes. Given limited economic resources, every
economy must decide what to produce, how to produce, how must to produce, where to produce
and for whom to produce? This decision has to be made before the production, consumption and
distribution of a product takes place. But how or at which level are decisions made in different
economic systems? The governing role of for decision making in different economic systems can
be derived from the philosophical foundations and worldview of the economic system itself. The
organization of decision making can either be centralized or decentralized. In centralized
decision-making, a central authority makes the important decisions of economic activity regarding
production, consumption and distribution. Delegation of power regarding decision-making is very
rare in a centralized system. High level or the Central authority dominates the decision-making
just like a dictator makes all the decisions regarding the management of a whole country.
In a decentralized system, the organization of decision making is theoretically decentralized to the
lower levels. Individuals or private business organizations are the main agents of the economic
activity of the country. In fact, in a decentralized system, the decisions concerning production are
determined by the business sector while consumption is determined by the household sector, and
the distribution is determined by the assumed smooth functioning of the built in mechanism in the
product and factor markets. Given the fact of the current global economy, where multinational
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corporations are moving all over the world for new markets ignoring national boundaries,
centralized decision-making has been said to be inefficient. Since American based companies
operating in Malaysia cannot operate efficiently if all the decision are made in American and
implemented in Malaysia, for many economists and business corporations decentralized
decision-making is the way to go.
In the above discussion we were talking about the motivation, decision making process in
different economic systems and their implications in the practical world. But a central question
still remains. How do all these factors relate to each other? How are all the decisions regarding
production, consumption and distribution coordinated and implemented in the economy? The
coordination mechanism of the society is another characteristic of economic systems that can be
analyzed for comparative purpose. Certain economic systems give large freedom to individual
economic agents and institutions of the society to interact with one another through the market to
solve all the decisions made regarding production, consumption and distribution. Whereas other
economic systems do not give any independence to the economic agents and institutions to
interact, rather a central plan coordinates the decisions through the levels of society.
(b)
All economic systems have to solve the problems of production, consumption and distribution in
the economy. Given the fact that resources are scare compared to the uses they can be put to,
an economy has to decide what to produce and how to allocate the scare resources to produce
the desired goods and services. Society has to decide whether the production of certain goods
adds to the total utility or creates dis-utility to the society or are neutral in effect. The concept of
utility is also value loaded and differs from society, to society. For example, consumption of
alcohol and pork may add to the utility of a non-Muslim society i.e. China and U.S., but is a disutility to a Muslim society because the consumption of alcohol and pork is forbidden in Islam. So
in an Islamic economic system the production of alcohol and pork is not permitted for Muslims.
On the other hand, consumption of injurious drugs like heroine, cocaine is harmful for health and
therefore, production is forbidden in all economic systems.
The consumption behavior of the society also differs from one economic system to another.
Whereas, in an Islamic economic system, success in this world and in the hereafter is aimed for,
capitalism only gives value to current consumption. A moderate rather than a luxurious lifestyle is
strongly encouraged in an Islamic economic system. While in Socialism equality of utility or
consumption of public good is more stressed.
Distribution of income and output is also guided by the philosophy of a particular economic
system. For example, in mainstream neoclassical market capitalism, the distribution of income
and output is determined by the productivity of the factors of production (land, labor, capital and
entrepreneur) and depends completely on market forces, representing justice to them. No
inherent conscious consideration is given to those who are by passed from the process of
development. While, in an Islamic economic system justice takes a different meaning, where
productivity in distributing income and output is couple with optional and compulsory transfer
payments to take care of the people who are by passed from market distributive measures. In
socialism everyone in the society is provided only with basic needs. Latter on in the subsequent
chapter, we take a closer look at production, consumption and distribution.
(c)
There are different sectors in the economy. Classical structural theory of economic development
concludes that the dominance of certain sectors in the economy depicts the level of economic
development and economic maturity of a society. The sectoral analysis of an economic system is
generally used government reports to analyze the stage and level of economic development and
15
Since the inception of human civilization different economic systems dominated the global
economic. Every economic system is different given its different philosophical foundation,
operational principles and goals. The following section will introduce you with major economic
systems of the world and their salient features.
(a)
(1)
16
growth process. Private property ownership in capitalism is also subject to some broad
limitations posed by the State or certain framework of laws and culture of the society. If
someone uses his privately owned resources for the production of illegal drugs, it will be
detrimental to the society. In this case the ownership has to be restricted. Public
property is also in existence in capitalism. For example, public ownership of natural
monopolies is also found in capitalist systems for the efficiency use of certain resources
and public interest such as railway tracks, electricity generation generation and
telecommunication.
(2)
(3)
(4)
17
RESOURCES MARKET
Resource
cost
income
factors of
production
Coordination
mechanism through
market
Goods and
services
Revenue
Expenditure
Goods and
services
PRODUCT MARKET
Figure: Coordination mechanism in a market economy
As you can see in the above diagram, capitalism divides the economy into sectors such as
product market and resources market. Households and businesses interact. Households supply
factors of production in the resources market and in return they get income. On the other hand,
businesses buy resources from the resource market in return of payment for the production of
goods and services. Then in the product market businesses sell their products to the households
and get revenue. When the circle complete, the whole process starts again with the resource
market and continues. The price system in the economy acts as a lubricant to the process and
smoothen it further.
(1)
(2)
(3)
(4)
18
the productive resources into real goods and services and determining what these
products will be, guided by the actions of the consumers in the market place. The profit
motive is the locomotive that draws managers to produce goods that can be sold at
prices that are higher than the cost of production. Maximize the profit is the cornerstone
of decision-making by business firms in capitalism.
(5)
Role of self-interest: The primary driving force of capitalism is the promotion of ones
self interest; each economic unit attempts to do what is best for itself. Driven by selfinterest, individual business enterprises primary concern is to maximize profit and
maximize cost; public corporations aim to maximize the welfare of its shareholders and
individual consumers maximize their utility. The concept of self-interest should not be
confused with selfishness. In fact, in capitalism, self-interest is the way towards
maximizing the welfare of the whole society, albeit, unconsciously, and unintentionally.
(6)
(7)
Markets and the price system: The basic coordination mechanism of all the decisions
made under market capitalism is the market or the price system. A market is the place
where the buyers and sellers of a commodity come together and negotiate the value of a
certain product produced by a business or household. Price is the basic organizing force
of interaction in the market system. Price reflects the value consumers want to pay for a
particular product expressed in terms of money. The interaction of demand and supply
mechanism determines the price of a certain product.
Price
Y
Supply
P2
P1
D2
D1
0
Q1
Q2
(8)
Limited role of the government: In laissez-faire capitalism, the role of the government
is limited to providing stable social, political and legal framework in which the market
operates efficiently and to promote competition among the business firms. The selfadjusting and self-regulating notion of laissez-faire capitalism provides little scope for the
government to intervene in the operation of market.
19
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interest and action. The concept of self-interest will doom the welfare of society as a
whole; moreover it is a source of class struggle and social evil. The collective interest of
the society should get ultimate priority in a socialist economy. Therefore, public interest
is the motivating factor put forward in a socialist system. But the recent down fall of
socialist states has proven the lack of realism in that price basic assumption of socialism.
The unnatural suppression of the basic acquisitive instinct of human beings has proven
the failure of this aspect of socialism.
(3) Organization of decision making: The gradual mechanism of accumulating power by
the elite class in the market economy has posed a conundrum about the validity of the
system. And as a resulting factor, the rise of socialist ideology in different parts of the
world threatened the existence of capitalism. In socialist economic systems, all the
decisions regarding production, consumption and distribution are made by the authority
or the state. In some form of socialism/communism the existence of intermediate
business sectors has been obliterated. By eliminating the elite business class and
providing an equal platform for all the people in the economy through centrally made
decisions, socialism tries to give socio-economic justice to all the people in the society.
As above three seems to be lack of realism in the way socialist countries have tended to
organize themselves.
(4) Coordination mechanism: While capitalism gives full independence to market forces,
the socialist ideology restrict the independence of the economic agents and centralizes
the economic decision making to the state. The discussions are then conveyed through
a planning mechanism. It is the State in a socialist economy that decides what to
produce, how to produce, how much to produce and for whom to produce. The state also
determines the price rather giving the price mechanism independence to allocate the
economic products and outcomes. Price is ten communicated to the society via a plan or
instructions from the state.
(2)
State ownership of resources: In socialism most properties are owned by the state,
Socialist believes that the institution of private property in capitalism is the primary
source of evil in the system. Private ownership of resources eventually creates a huge
social gap between those utilize these properties in productive manner (capitalist) and
those who are by-passed from the flow of development (working class). Socialist believe
that state ownership of resources will preclude wealth discrepancy and eventually formed
a just society where every one shares the equal rights and obligations.
(3)
(4)
21
(2)
Motivational mechanism: The motivating factor in Islam stems from the Islamic
worldview. Motivation in an Islamic economic system delineates a real balance between
the material and spiritual wellbeing of human beings. Thus an Islamic economic system
extends the horizon of motivation from the visible and material to the invisible and
spiritual in the hereafter. The Islamic worldview recognizes the existence of the hereafter
and provides the motivating principle keeping in view that the welfare of both worlds will
be maximized, known as Falah or ultimate happiness. Economic actions and other
22
activities of man in line with the Shariah will determine his reward in the hereafter. In
fact, economic activities become worship in Islam if done correctly and with correct
institutions. Islam recognizes the self-interest of the individual but limits it within the
circumference of the Islamic framework. When the self-interest of individuals create
impediments to the welfare in the hereafter or to the society, then this simplistic notion of
self-interest has to be abandoned and replaced by a more complex notion of selfinterest which also incorporates the interest of society and happiness in the hereafter.
(3)
Organization of decision making: An Islamic system talks about Shura concerning the
organization of decision making. A Shura is the supreme body of decision making in an
Islamic state composed of selected qualified individuals from the society. The decision
making of Shura is not necessarily equal to democracy as understood in the usual
western sense. Islam always emphasizes on the truth and just decisions, not merely on
the number of votes per se. In an Islamic economic system, preference is given to
market forces. But the market does not necessarily reflect the welfare of the society all
the time. Whenever any imperfection occurs in the market, the state has an obligation to
intervene in the market and correct the imperfections. There is also a specified role for
the state in an Islamic economy. This is specially related in terms of regulations and
control if necessary, to fulfill the basic necessities of the people and curb manipulation in
the market by business firms. In this way the Islamic economic system recognizes that
individual decision making has to be bounded by the framework of the Shariah.
Therefore, while decentralization is favored, certain outlines and parameters could be
centralized.
(4)
RESOURCE MARKET
PRODUCT MARKET
Figure: The legitimate effective role of government in market Mechanism
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In an Islamic economic system, the concept of coordination mechanism is again derived from the
Islamic worldview which recognizes the existence of the hereafter and all economic actions of
man have to be aimed towards both worlds, here and hereafter. The coordination mechanism
relating to decision made about production, consumption and distribution should reflect human
welfare in both worlds. Given the Islamic values and norms already existent in the market, the
Islamic economic system gives market forces relative independence subject to the Islamic rules
of the game. The Islamic State has an effective role to play in the market mechanism. The
market system does not always reflect the welfare of society aimed at both this world and the
next. Here the Islamic State has to intervene in the market and correct the distortions in the
market and direct the operation of the market according to the Islamic rules of the game. The
Institution of al-Hisba is a distinctive future of an Islamic economic system. The institution of alHisba ensures that right kinds of products are being produced in the economy; sellers are giving
right measurement to the buyer as well as there is no fraud and cheating in the market. It also
regulates municipal services, settles petty disputes among the market players and finally paves
the way towards a free and fair market. In todays world, rather than look for one institution to
play all the roles of al-Hisba it is possible that the functions of al-Hisba are undertaken by different
bodies and organizations since societies have become very complex. The important distinction
here is that while the market mechanism is preferred, it is not sacrosanct. The state, via planning
can guide, regulate, and intervene for welfare of the society as a whole.
(1)
(2)
(3)
Extended time horizon: An Islamic economic system does not limit the outcomes of
economic activities only within this material world. The Islamic worldview recognizes the
existence of the hereafter. So all human economic activities should aim at both this world
and the world after. In fact, economic activities in line with the principles of Shariah will
work towards the welfare in both worlds.
(4)
Relative ownership of property: According to the Islamic worldview, God has created
everything in this world, so He is the absolute owner of all these resources. God has
entrusted man with all the resources for their own benefit. This concept of trust also
implies human responsibility and obligations in the use of all these resources. Man can
own property but not absolutely. Private ownership is acceptable but as a relative owner
of resources, man has to perform certain obligations prescribed by Shariah in the use of
economic resources. Public property is also a legitimate form of ownership.
(5)
The concept of Shura: Decision making in an Islamic economic system occur through
the concept of Shura or mutual consensus. While Islam gives preference to the market,
markets may not always reflect the welfare of the society all the time. When any
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imperfection occurs in the market, the state has an obligation to intervene and correct the
distorted market signals.
What kind of intervention is decided through mutual
consultation or Shura. The Majlis shura comprises selected individuals among the
people of the society based on their qualities and character. The decision making of the
Majlis shura is based on truth and justice.
(6)
Institution of al-Hisba: This acts as a regulatory body in the market. The institution of
al-Hisba ensures that the interactions among different institutions in the market are
according to the Islamic rules of the game. It supervises the activities of different market
participants. The institution of al-Hisba has its roots in the early days of Islam, when the
Muslim States established separate institutions to supervise markets, to provide
municipal service, and to settle petty disputes among the market players. The person
who administers the institution of al-Hisba is known as Muhtasib. In todays world the
role of Al-Hisba to some extent has been replaced by numerous separate organizations
such as the Ministry of police force Industrial court or consumer affairs e.t.c. in many
Muslim countries.
(7)
(8)
Central Economic
Question
What to produce?
Capitalisms Answer
What
business
firms
believe people want and
firms will make profit
How to produce?
Distribution according to
ability
and
inherited
wealth
Socialisms
Answer
What
central
planners
believe
socially beneficial
Central
planners
decide keeping in
view the greater
benefits
of
the
society.
Distribution
according
to
individual
need
determined by the
central planners.
Islamic Economic
What is permissible
in Islamic shariah and
needed.
No
extravagance
is
allowed.
Producer
decides
how
to
produce
efficiently
keeping
view
their
profit
motive.
Every one in the
society is provided
with
the
basic
necessities by the
Islamic state.
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Table B
Comparing salient features of different economic systems
Salient features
Capitalism
Socialism
Institution of property
ownership
Private property
State
property
owned
Motivational factor
Collective welfare
of the society
Organization of
decision making
Market mechanism
Central planning
Coordination
mechanism
Market mechanism
Central planning
Islamic Economic
System
Both
private
and
public property are
acknowledged
Attain falah in this
world
and
in
hereafter.
Market
mechanism
with a positive role of
the state
Market
mechanism
with a positive role of
the state.
Summary:
The governing principles of an economic system stem from the worldview of a particular
society. The philosophical foundation, operational principles and goals and objectives of
an economic system this has to be compatible with the worldview of the particular
society. Because of differences in worldview different economic systems with different
set of philosophical foundations, operational principles and goals and objectives are
possible and also legitimate.
Different economic doctrines dominated the world at different points of time such as
feudalism, mercantilism, capitalism, socialism and recently the resurgence of Islamic
economic system. No matter how different an economic system is it has to explain
production, consumption and distributive factor organization of decision making and
coordination mechanism are the most common features of any economic system.
Individual economic systems have their own distinctive features. While pure capitalism
gives individual economic agents substantial amount of freedom and favors the capitalist
class of the society socialism is created on the weaknesses of capitalism and favors
working class of the society. On the other hand an Islamic economic system propounds
for a balanced society by ascertaining basic necessities for each and every individual in
the society while allowing for the legitimate earning and accumulation of wealth.
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2.
Life: Another purpose of shariah is protection of life. It can be trees, animals or human
beings. Anything that can harm any life in any way is not allowed by shariah. Shariah is
very careful to protect life. For example during the Prophet Muhammads (SWA) time, in
the war field (jihad) nobody was allowed to destroy crops, trees, women, children, and
those who were not involved in war. This is because shariah gives the guarantee of
protection of life.
3.
Reason: Reason means Intellect (aql). Shariah does not allow to do to have anything
that may harm our senses, for example alcohol. Alcohol affects our reason and senses
negatively that is why shariah does not allow alcohol.
4.
5.
The main purpose of shariah is to preserve the above five things for our societys welfare.
Explain why we need maqasid al shariah in a market economy?
Market economy has some limitations or disadvantages. Sometimes these limitations deprive
some people even of their basic needs for example food, clothing, shelter, etc. To remove such
types of problems we need maqasid al shariah. The needs of maqasid al shariah arise for
number of reasons for examples:
1.
Market economy produces only for whom those are able and willing to buy. But some
people are to be able to buy their needs. Market economy does not care about them but
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maqasid al shariah is committed to the preservation of human life and dignity. So due to
this commitment the government in an Islamic state will help the poor and the needy to
ensure fulfillment of basic needs al those who can not afford the basic needs.
2.
Market economy aims at profit maximization. It does not care about the interest of the
society. Market economy will accept alcohol production and casinos gambling etc, if
these business are profitable. But maqasid al shariah committed to public interest. So,
due to this negative impact on public interest such economic activities will not be allowed
in Islamic society.
3.
Maqasid al shariah does not allow any waste of resources and properties. So it ensures
the most production efficiency while in market economy depends on producer.
4.
In the market economy, sometimes necessary goods can be denied by the producer
because of less profit and people will get difficulty to meet their basic needs. But
maqasid al shariah ensures first necessity goods then other goods for example
education, health care etc.
5.
Market economy motivated by profit maximization and allows economic activities that
may negative affect on future generation for example violation in film and TV, glorification
of sexual freedom, pornographic materials, etc. But these things have negative effect on
children and youth and lead to their moral decay and diseases for example crime, drugs,
HIV & AIDS, break down families etc. hence an Islamic society guided by maqasid al
shariah will prohibit all this things. Although market economy, driven by profit motive,
allows it. For the reason of protecting and promoting public interest maqasid al shariah
are needed to guide market economy.
So we can say that market economy has some limitations and maqasid al shariah is perfect to
remove these limitations. To remove the limitations of market economy any also for people
welfare we need maqasid al shariah in the market economy.
CAPITALISM:
Private Property-Gives every individual the right to own resources, acquire goods and
services and to dispose them according to their wishes.
Self Interest-The major motive of production is self interest under this system. Every
individual pursues his self interest, so as to maximize satisfaction and profit and minimize
the costs.
Absence of Planning-There are no central plans. Economy operates as a result of the
individual decisions based on demand supply, made by millions of economic units.
Free Occupation-Every individual is mobile free to choose his/her job
Competition-It encourages initiative and makes the market system flexible.
Economic Inequality-As a result of inequality of access to opportunities, the rich grow richer
and the poor grow poorer.
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SOCIALISM:
Planning-The Planning agency of the Government decides what to produce and how to
produce.
Consumer Sovereignty-Unlike capitalism, the producers do not produce what consumer
desire, because the consumers choice is replaced by the Governments decisions.
Motivational System-No self interest, but production is decided by government
planners/guided on the basis of usefulness to the society as defined by the government.
Organization of decision making and coordinating economic decisions - Is
Public Enterprise There is no private ownership, everything under the common
organization and owned and run by the government.
Income Equality-Fair distribution of income based on the principle: To All According to their
needs, From All According to their abilities.
Discuss the main objectives in Capitalism, Socialism and Islamic Economic System
Economic system consists of economic institutions which try to solve the basic economic problem
in the light of the beliefs, values and policies of a people. The basic economic problem faced by
every economy is the problem of scare resources and unlimited human wants. Given this
problem, the economic systems try to fulfill the needs of their people by answering the following
three primary questions in economics.
They are
1)
What to produce?
2)
How to produce?
3)
For whom to produce?
Basically in economics there are three types of philosophical economic systems. They are
market economy (capitalism), command or planned economy (socialism) and Islamic economic
system. These three systems answer the above three questions in accordance with their
philosophy and their explanations are as follows:
1)
Market Economy: It is also called capitalism and is the most widely practiced economic
system today. For example, the United States and most of the European countries
practices Capitalism in principle. In Capitalism the resources are owned and controlled
by the individuals or privately. The role of the government is to create conditions that
facilitate and ensure smooth and efficient functioning of the market. The government
performs this role as a neutral umpire. Capitalism answers the above three basic
questions as follows:
a)
What to produce: As in its name, market, the power to decide what to produce is in the
hand of market, since the consumer or buyer is Sovereign. Therefore, producers should
produce what the consumers want, as the main objective of the producers is to maximize
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b)
c)
2)
their profit. This determination is based on the market mechanism where the demand
meets the supply and it will determine the price of goods and quantity that will be
purchased and produced; also called equilibrium.
How to produce: The main aim of producers is to maximize their profit. This can be done
either by increasing the price of the product or reducing the costs or both. However,
generally it is difficult for the producers to raise their price due to high competition in the
market, leaving the cut-cost option. Therefore, producers try to reduce their cost by
enhancing efficiency in their production process. Thus the concept of efficiency tells the
producers how to produce. Efficiency can also be improved using technology in their
production process.
For whom to produce: Again, producers cannot produce what they cannot sell in the
market because of the consumers behavior. Therefore, they will produce what the
buyers want. This can be derived from the market demand. Therefore, sellers will sell
goods and services only to those who are able and willing to pay the market price of the
goods produced. FOCUS: Capitalisms main focus is on Economic growth.
Command Economy: It is also called Socialism or planned economy. Unlike Capitalism,
the resources in the socialist economy are owned and controlled by the government, for
example, former USSR, and Peoples Republic of China (China is slowly moving to
capitalism in recent years). Their philosophy is to provide goods and services to whole
community without discrimination. Therefore, the government will appoint a planning
committee called Central Planning Board makes the plans for whole nation. The
Socialism answers three questions as follows.
a) What to produce: Since government has all power in Socialism, Central Planning
Agency will decide what goods to be produced and these goods services will be
provided to the people. Buyers have no choice to decide what the producers should
produce neither can producers decide. However, the advantage is the system
guarantees that the basic needs (i.e. food, clothing, shelter, health and education) of
all will be fulfilled whether they are able to pay for it or not.
b) How to produce: Since the government owns all the resources and factories and
agricultural farms, business. Hence it is the government which decides what to
produce, all the decisions about what to produce and how much to produce are made
by the National Planning Board of the government. The planning Board is
responsibilities for setting up the short run and long run production targets for the
entire country and also for the economic development. The method of production is
also decided according to the plan by the production managers of factories who are
government employees. Since all production is run according to the government plan
and no profit motive and incentives are involved it leads to inefficiency in production.
Since their main concern is to provide goods and services to the people, not
maximizing profit, the basic needs of all will be met at any costs.
c) For whom to produce: Everybody in the socialist economy will be provided the basic
needs unlike the market economy, thus eliminating unequal distribution of income as
the system is based on the principle, TO ALL ACCORDING TO THEIR NEEDS,
FROM ALL ACCORDING TO THEIR ABILITIES. These kinds of guarantees also
take away the motivation for hard work and breed inefficiency in to the system.
FOCUS: Socialisms main focus is on distribution.
3)
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a)
b)
c)
What to produce: In Islam, it is important to provide goods and services that are
needed by the people and consumers will decide what to produce but it must be
permissible (halal) in Islam and meet the criteria of public interest as well.
Individuals can own the resources once they meet this criteria and also
acknowledge that this ownership is only an Amanah (trust) for which they are
accountable because actual absolute owner is Allah (SWT). Therefore, producers
will produce those goods which are permissible by Shariah and which have
demand in the market. Which is decided by market mechanism.
How to produce: The producers are allowed to maximize the profit in line with the
goal to achieve falah. Thus, producers will produce halal goods and services
subject to the criteria of public interest rooted in Maqasid-al-Shariah. Efficiency
must be achieved because resources are Amanah and must be utilized wisely, and
not wasted or abused. Hence implementing technologies, with concentration on
society and care for environment is strongly recommend.
For whom to produce: It is a duty of Islamic state to provide the basic needs to
people, therefore, necessities would be provided to every single person in the
community. For this reason the government is also allowed to own resources.
Hence Islamic economic system is more realistic and practical as it maintains
private ownership which is the source of motivation for hard work, efficiency,
creativity and innovation while at the same time allowing government the access to
resources to help the poor and the underprivileged. Thus, there will be production
for those willing and able to pay also for those who are too poor to be able to pay.
FOCUS: Islamic economic systems main focus is growth with socioeconomic
justice while preserving public interest. Therefore, the main difference compared to
other two economic systems is that Islamic economic system is both humane and
efficient and establishes a moral economic system that integrates economics and
moral values for the good of the entire society. Rich can continue to be richer and
not only that poor are not left out, they have every chance and support to improve
their lot within the market framework. Thus, motivation remains as the fundamental
engine of the economy ensuring efficient.
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hypothesis and this hypothesis can predict the outcome, like a doctor prescribes medicine for a
certain disease because he knows, in certain situations the medicine can cure the patient as it
cured other patients in the same conditions in the laboratory experiments. Thus, the use of
medicine (policy) is based on the prediction.
Therefore, we can predict the changes in quantity demand. For example, if there is a change in
price, or what will happen to the economy if the interest rates rise from 5% to 7%, for example.
Thus, scientific method is significantly important for an effective judgment and decision making in
the contemporary competitive markets.
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