Economic Systems

An economic system, is a system of production, resource allocation and 

distribution of goods and services within a society or a given geographic area.

Capitalism

Capitalism, also called free market economy or free enterprise

economy, economic system, dominant in the Western world since the
breakup of feudalism, in which most means of production are privately
owned and production is guided and income distributed largely
through the operation of markets.

The ideology of capitalism was expressed in ‘’An Inquiry into the

Nature and Causes of the Wealth of Nations (1776), by the Scottish
economist and philosopher Adam Smith, which recommended leaving
economic decisions to the free play of self-regulating market forces.

Capitalism is the most prominent in our current global economic system.

Its main characteristic is that it most means of production and property
are privately owned by individuals and companies. The government has
a limited role in such an economy limited to management and control
measures. So a capitalist economy is a liberal economy. This means only
the free market will determine the supply, demand, and prices of the
products.

Definition of Capitalist Economy:

In the words of Loucks, “Capitalism is a system of economic
organization featured by private ownership and use for private profit
of man-made and nature-made capital’’.

According to Ferguson, “Capitalism is a free-market form or

capitalistic economy may be characterized as an automatic self-
regulating system motivated by self-interest of individuals and
regulated by competitions.”

Features/Charateristics of Capitalist Economy:

Capitalist economy has the following main features:

 Private Property: In this economy, private property is allowed.

All means of production like machines, implements, mines, and
factories etc. come under private property.
 Price Mechanism: The Capitalist economy is gained by the price
mechanism. Here prices are determined by the interaction of
demand and supply without the interference of any kind by the
government or any other external forces.
 Freedom of Enterprise: In this system, every individual is
independent to his means of production in any occupation that one
likes.
  The sovereignty of that consumer: Under this system, the
consumer plays the most vital role. The entire production pattern is
based on the desires, wishes and the demand of the consumer.
 Profit Motive: The maximization of profit is the main motive of
the producer. Profit guides the production in this type of economy.
 No Government Interference: Under a capitalistic system, the
government does not interfere in day-to-day economic activities.
This means producers and consumers are free to make decisions.
 Democratic: The capitalistic system is more democratic in
comparison to other economic systems as there are more changes
to chancel according to new environments of the economy.
 Self-Interest: The inspiring force in this system is self-interest. It
leads to hard work and to earn maximum income by satisfying
their consumers.

Merits of the Capitalist System:

The following advantages or merits below are:

 Individual Motivation: The capitalist economic system motivates

the businessmen to develop new items, produce in good quality
and undertakes innovative activities because of the initiative of
larger profits.
 Flexible and Dynamic Economy: Motivated by profits, individual
initiatives and competition among the traders and businessmen,
there is dynamism in the capitalist economy continuously goes
ahead with changes and innovative activities.
 The benefit of Perfect Competition: There exist perfect
competition between different traders and creditors who benefit
from the capitalist economy. There is no change of monopolistic
profits because of perfect competition. The existence of
competition initiates more economic welfare. According to George
Steiner, from the point of view of public welfare, competition
serves as a regulator and reducer of prices as an incentive to
improved production efficiency. Without competition, the
capitalist economy would become stagnant, unproductive and
exploitative.
 Capital Formation: The capitalist economy encourages for the
formation of capital, wealth and assets in the society. New
industrial and commercial institutions are set up with the
objectives of profits and also encourages the creation of additional
employment, income, and savings. 
 The economic growth of an economy is also faster and higher in a
capitalist economy. This is because the investors will also invest in
projects that are profitable for them. There is no pressure to
 produce any goods or services if they do not wish to do so for the
sake of the public.
 Consumers also benefit in a capitalist economy. Firstly they have
the freedom to choose whichever products or services they wish to
buy. Also, the competition is high and the producers are motivated
to make their best products in large quantities at reasonable prices.
 Capitalism also promotes fundamental rights of freedom and
choice for both the consumer and the producers.

Demerits of Capitalist System:

The countries which have become independent after the 1950s adopted
mostly the socialistic economic system because of the demerits of the
capitalist economic system. Human welfare aspect has completely
disappeared in the capitalist system and it has created disparity in
income and wealth. H.D. Dickinson writes, “Capitalism. …is
fundamentally blind, purposeless, and irrational and is incapable of
satisfying many of the urgent human needs.

Some of the important disadvantages or demerits of capitalism are:

 Increase Inequalities: It increases inequalities in wealth, income

and opportunities. Increase in economic inequalities creates
economic and social problems.
 Economic Instability: It is difficult to establish a balance between
the demand and supply. There will be a trade boom or recession or
the frequent fluctuations in prices. All the decisions relating to
production are taken by the capitalist and due to wrong estimates
of future requirements; imbalance in production is generally found.
Due to fluctuations in prices industrial and other economic
activities become unstable and this will have an adverse impact on
economic development and expansion.
 Inefficient Production: The capitalist always produces with the
motive of profit only. He always produces goods for use by the
higher income class of the community so that maximum profits can
be obtained. There is no place in the mind of the capitalist to
produce for consumption by common people. Goods and service
are not produced by keeping in view the interest and wants of the
common man, but with the motive of capitalist’s profits.
 Class Conflicts: The capitalist economy divides the community
into two parts; on the first side the top capitalists and on the other
side labor class which depends on the capitalists to fill their
stomach. Since the production resources are controlled by the
capitalists they exploit the labor from their reasonable reward.
 Unemployment: In a capitalist economy, full employment
situation cannot be brought due to lack of central economic
 planning. With the result, optimum use of resources cannot be
possible. This brings the situation of unemployment.
 Monopoly and Exploitation: The establishment of large-scale
business, improvement in technology, the motive of maximization
of profits, formation of combinations and acute competition are the
reasons for the creation of monopoly and exploitation of
customers.
 Neglect of National Interest: They are mainly oriented towards
self-interest of maximization of profits for which they compete
with each other. They neglect the social interests. They do not
undertake their activities keeping in view the national interest.