Open economy

An open economy is an economy in

which there are economic activities
between domestic community and
outside people, including businesses,
can trade in goods and services with
other people and businesses in the
international community, and flow of
funds as investment across the
border. Trade can be in the form of
managerial exchange, technology
transfers, all kinds of goods and
services. Although, there are certain
exceptions that cannot be
exchanged, like, railway services of a
country cannot be traded with
another to avail this service, a
country has to produce its own. This
contrasts with a closed economy in
which international trade and finance
cannot take place. The act of selling
goods or services to a foreign country
is called exporting. The act of buying
goods or services from a foreign
country is called importing. Together
exporting and importing are
collectively called international trade.
There are a number of advantages
for citizens of a country with an open
economy. One primary advantage is
that the citizen consumers have a
much larger variety of goods and
services from which to choose. On
the other hand, a managed or closed
economy is characterized by
protective traffic state-run or
nationalized industries, extensive
government regulations and price
controls, and similar policies
indicative of a government-controlled
economy. In a managed economy
the government typically intervenes
to influence the production of goods
and services. In an open economy,
market forces are allowed to
determine production levels.
A completely open economy exists
only in theory. For example, no
country in the world allows unlimited
free access to its markets. Most
nations have fiscal and monetary
policies that attempt to improve their
economies. Many economies that are
open in some respects may still have
government owned, monopolistic
industries. A country is considered to
have an open economy, however, if
its policies allow market forces to
determine such matters as
production and pricing.
Chile and Argentina are examples of
two countries that have moved or are
moving from a managed economy to
an open economy. Chile has led the
way for South America and Central
American countries in adopting open
economy and free market policies
that have led to greater prosperity. As
a result of its open economy, Chile
became the fastest-growing economy
in Latin America from 1983 to 1993.
Among the steps Chile took to make
its economy more open was a
reduction of its protective tariffs to a
uniform 11 percent, which was one of
the lowest rates in the world. Such a
reduction in tariffs forced its domestic
producers to become more
competitive in the international
market. As a result, Chile improved
its balance of payments to the point
of enjoying a surplus of $90 million in
1991, compared to a deficit of $820
million in 1990. The country became
less dependent on its copper exports
as the economy diversified under
new policies. Chile also improved its
international trade by negotiating a
series of bilateral trade agreements.
In Argentina similar measures were
taken to promote an open economy,
including more favourable treatment
of foreign investors. An open
economy provides the same
treatment to foreign investors as it
gives to its own investors. Price
controls were eliminated for most
products, and several governments
owned industries were privatized. As
a result, Argentina's gross domestic
product increased by 18 percent
between 1991 and 1995. By 1997,
however, a widening gap between
the country's richest and poorest
inhabitants caused widespread social
unrest.
The transition from a managed
economy to an open economy can be
a difficult one. Following the collapse
of the Soviet Union, efforts to
establish free trade and an open
economy in Russia resulted in
widespread hardship among the
nation's middle class and a failed
bank system. In south east Asia a
full-scale financial, economic, and
social crisis erupted in 1998,
revealing how difficult it was to
maintain a small open economy in
countries such as Thailand,
Indonesia, Malaysia, the Philippines,
and Singapore. In South Korea, the
nation's president asked its citizens
to accept widespread unemployment
and bankruptcies in order to move
the country toward an open economy
by selling off government-owned
industries. Germany's transition to an
open economy resulted in high levels
of unemployment throughout the
nation.
Social, political, and economic
instability can be avoided in countries
moving toward open economies, but
domestic conditions must be
favourable. For example, states with
powerful bureaucracies can establish
favourable domestic economic
conditions if they have the proper
ideology, accept diversity, and
achieve legitimacy in the eyes of their
citizens. For open economies to
succeed in small countries that
formerly had managed economies,
favourable domestic conditions
include a working education system,
legal system, judicial system, and low
inflation. Such conditions provide the
stability necessary for an open
economy to flourish.
While the United States supports free
trade and an open economic policy, it
has never been a completely open
economy. The conflict between an
open economic policy and the need
to protect domestic industries from
unfair international competition, was
illustrated during 1998 as low-priced
steel imports into the United States
from Japan tripled.
Economists recognize an open
economy as being more efficient than
a managed economy. In the 18th
century, economist Adam smith
(1723 1790) wrote Inquiry into the
Nature and Causes of the Wealth of
Nations to explain the benefits of an
open economy and free trade. He
wrote that interventions in
international trade, such as tariffs and
duties, serve only to reduce the
overall wealth of all nations. Similarly,
interventions in the domestic
economy are also regarded as
inefficient. Smith developed the
concept of "the invisible hand," which
in effect stated that when individual
enterprises work to maximize their
own profits and well-being, then the
economy as a whole also operates
more efficiently. He argued that the
economy does not require
government intervention, because
the operations of domestic producers
are guided, as if by an invisible hand,
to benefit the economy as a whole.
An open economy is one where a
nation engages in copious amount of
free trade with other countries. The
country may impose some barriers
or tariffs on international economic
trade, but these are generally not
meant to dissuade imports or
exports. The advantages of an open
economy are numerous, with the
more important ones being lower
prices and better variety of goods, a
flexible economic environment, and
higher investment from outside
countries. All countries can engage
in this type of economy. To do so
successfully, the nation must set up
a government that adequately
controls the environment and
prevents international countries from
taking advantage of the economy.
In a standard free market economy,
price is typically the hinge pin for all
economic activity. When a country
engages in an open economy, it
allows for more competition, which
tends to bring down prices on goods
and services. Another related benefit
here is the ability for goods and
services to be of better quality.
When this is the situation, higher
prices can be offset with better-
quality goods, making consumer
choice more prevalent in the market.
In short, the open economy allows
for better competition in terms of
product output, which can benefit
consumers immensely.
Economic flexibility is often essential
for a country to grow and expands its
economic output. Smaller countries
tend to have a disadvantage
economically due to the lack of
natural resources. Most times, these
countries can only produce a certain
number and quantity of goods within
their borders. An open economy
allows for trade in terms or resource
allocation as well as purchasing the
requisite items for economic
production. Engaging in trade with
multiple countries can greatly
expand economic flexibility.
As more and more countries begin
to engage in an open economy,
however, the possibility for direct
investment increases dramatically.
For example, a country may initially
be pleased with exporting hairs
dryers to another country. As the
demand for these unit’s increases,
however, making a direct investment
by starting a production plant may be
possible. Therefore, the company
builds a plant to produce hair dryers
in the foreign country in order to
meet demand better.
Tariffs and trade barriers help
prevent a foreign country from
ruining a domestic economy..