UNIT: TYPES OF ECONOMIES

ECONOMICS
Introduction
China and Russia are Socialist Economies. The US is essentially a Capitalist Economy.
India is a Mixed Economy. Global events in the economic sphere highlight these
statements. What is different about the economies of these countries? Why do these
countries react so differently to economic situations?
This aspect of economic life in different countries can be clearly understood with knowledge
about the different types of economies. This unit will provide an insight into these issues.

Types of Economies: An Overview

Sara has learnt a lot over the last year. She has now understood that all the activities performed
by people can be grouped under two categories, i.e. Economic or Non-Economic. She also
knows that Economic Activities can be Primary, Secondary and Tertiary in nature.

So, can we now sum up all the Primary, Secondary and Tertiary economic activities? What
are these economic activities collectively called?

It is called an Economy.

An economy is a framework within which the Primary, Secondary and Tertiary activities
take place. For example, when we talk about the Indian economy we are referring to the
sum total of the Primary, Secondary and Tertiary economic activities taking place within
the territory of India.

An Economy includes activities such as producing, buying, selling, distributing and

other such activities.

Fig:- A lady buying vegetables. Fig:- A shop selling clothes.

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 Fig:- A factory producing cars.

How are these different types of Economic activities carried out?

These are carried out with the help of resources. We all know that resources are available in
limited quantities and the wants to be satisfied with these limited resources are unlimited.

Can we satisfy all our wants with our resources?

No, that’s not possible. remember, our resources are limited.

So, just as scarcity of resources forces people to make choices similarly, a nation makes
choices as every nation has limited resources. It has to make choices between its varying
developmental needs. i.e. the allocation of scarce resources among different uses. Nations
have to decide what to produce and how to distribute the produced goods.

Your coming to school today is a part of allocation of scarce resources; your time is a
scarce resource. The production of a can of Coke or a burger at Mac Donalds and your
mother buying it is also a part of allocation of resources and distribution of goods.

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 Scarcity of resources leads to the problem of allocation of resources

Fig:- Different kings of resources

Problem of allocation of resources

So, what are the questions that an Economy has to answer

while allocating scarce resources? These questions are:

(i) What goods should be produced?

(ii) How should these goods be produced?

(iii) For whom should these goods be produced ? or

how should the produced goods be distributed?
Fig:- The Economic problem
These three fundamental questions have to be answered by every economy, whether it is a
highly developed economy, the poorest of countries or a small group of people stranded on
a deserted island. These are also called ‘the Central Problems of an Economy’.

Do you think these basic economic questions are answered in the same way in all countries?
Who takes decisions on what, how and for whom to produce? Is it the responsibility of the
Government to decide or is the decision taken by the private individuals?

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Throughout the world different people have different views on how these economic
questions should be answered. The way a nation answers these questions determines it’s
type of economy, also called it’s economic system.

In other words, an Economic system is a system to find a solution to the basic

economic problems of what, how and for whom to produce.

Types of Economies

On the basis of how the fundamental

questions of what, how and for whom to
produce are answered, there are three main
types of Economies or Economic system
that are found. These are:

(i) The Market Economy

(ii) The Centrally Planned Economy

(iii) The Mixed Economy

Fig:- Types of Economies

The Market Economy

A Market Economy or Capitalist Economy is a free market system built on private

ownership, in particular, the idea that owners of capital have property rights that entitle
them to earn profit as a reward for putting their capital at risk in some form of economic
activity.

Such an economic system is based on private ownership of resources. Since resources are
privately owned, the decision on allocation of resources is also taken by private individuals.
The producers are free to produce whatever they wish to.

How do you think the producers decide what goods they should produce? Who decides the
price of the product? What guides them while taking economic decisions?

• In a Market Economy resources are privately owned. Producers are free to decide what
to produce and they are also free to decide the price of their product.

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• In a Market Economy, all economic decisions are guided by the motive to maximise profits.
Producers produce those goods which consumers want and are willing to pay for.

• The Government does not interfere in the functioning of the private enterprises.

• In such economies consumers are free to buy goods and services as per their choice and
preference. This type of economic system exists in USA, Japan, Australia and other
countries.

Fig:- Market Economy

A Market Economy is guided by profit motive

Advantages of a market economy:

• Market economies respond quickly to peoples’ wants.

• There is a wide variety of goods and services in the market.
• New and better methods of production are encouraged, leading to lower cost of goods
and services for the consumer and greater profit for the producer.

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 Adam Smith
Do you know?
Adam Smith, the father of Economics,
designed the modern Capitalist theory. He
claimed that nations would become wealthy
only if citizens were free to pursue their
economic interests.

Fig:- Adam Smith

Disadvantages of a market economy:

• Market economies encourage consumption of harmful goods.
• Public utilities may not be provided for in a Market Economy, thus the Government
may have to interfere to provide these types of goods.
• Social cost may not be considered while producing goods and services. It may lead to
unemployment because machines are used in production.

The Story of John

John is very happy and satisfied. A year back he had started this small production unit and
today it has given him quite a good profit.
John owned a large piece of land which had been lying vacant for a long time. A couple of
years ago he decided that he wanted to start a production unit on this land and started
exploring different possibilities. Keeping in mind the initial investment needed, the
availability of resources with him, the availability of raw material, labour to be employed,
marketing, etc. he chose to set up a readymade garments factory.
After going to different banks he finally took a loan from the bank that offered the lowest
rate of interest. He decided on the type of rooms that were needed to be constructed to
house a factory. He surveyed the markets and bought all the raw material/inputs from
wherever he could get it cheapest without compromising the quality. Initially he chose to
start out on a small scale till production started smoothly.
Soon his factory was producing garments of all different materials. He then decided on the
prices at which the various garments would be sold, keeping in mind the cost of production and
the profit he was aiming for. After all, his aim for setting up a production unit was profit.
Adam Smith
Slowly, the demand for his products increased and his profits increased.
Today, John is thinking of expanding production in his factory so that he can earn more.

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 I can produce so many things.

I have to decide for myself what

to produce and how to produce it.

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The Centrally planned economy

A planned Economy or Socialist Economy is a type of economic system in which decisions

on the three basic economic questions of what, how and for whom to produce are taken by
a central authority.

• In such economies the Government controls all the major sectors of the economy and
takes decisions on allocation of resources. The Government decides what and how
much to produce and how much is to be charged.
• Such economies are based on the belief that social welfare can be achieved only if the
Government plays an active role in the working of the economy.
• The Government allocates resources according to pre-decided goals and objectives to
attain maximum social welfare.

Fig:- The Government allocates resources in a Planned Economy

The only Centrally planned economies remaining are North Korea and Cuba.China and
Vietnam are still centrally planned to a large degree.

Advantages of a planned economy:

• The welfare of all citizens is the primary goal of this economic system.
• There is greater emphasis on the quantity of life (health, education, elimination of
poverty) than on the quantity of production (output) in the country.

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• The government can influence the distribution of income. Hence, there is less gap
between the rich and the poor.

Karl Marx

Do you know?

Karl Marx is the most influential

critic of Capitalism. Marx opposed
Capitalism and felt it should be
replaced by Socialism.

Fig:- Karl Marx

Disadvantages of a planned economy:

• There is no real incentive for individuals to be innovative due to absence of
competition. Goods are of poor quality since there is a lack of profit motive.
• Production of goods is decided by the Government. Thus, the consumers do not have
the freedom of choosing the goods they want to consume.
• Businesses are usually less efficient due to lack of profit motive.

Choosing a birthday gift.

Sally lives in London, England . Her birthday is around the corner and today she will be
going to the market with her mother to buy a gift for herself. This year she wants to choose it
herself. She has not decided what to buy. Infact, she wants to see what all is available in the
market before she decides.
In the afternoon Sally went to the market with her mother. She excitedly went from shop to
shop looking at all the things available there.
Oh dear! There were so many goods there and so many varieties of each. It would certainly
be very difficult to make a choice.
She could buy a dress with a pair of matching shoes or maybe that pretty pink bag or that
doll house or the jigsaw puzzle or ……………….the choices were endless.
After a long time of debating between this or that she finally made her choice and went
home very happy and satisfied with her gift.
Catliana lives in Cuba. It is her birthday today and her mother has got her to the market to
buy her a gift.
She most probably will buy a dress or maybe a pair of shoes. There are not too many goods /
too many varieties of goods in the market so it would not be difficult to make a choice.
Catliana bought a pink dress with pretty frills and a bow. Though she was happy with
her purchase, she wished she could have had more choice to choose from.

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The Mixed economy
A Mixed economy is an economic system in which both private sector firms and firms
owned by the government take part in economic activity. Since the 1980s the Government
role in most Mixed economies declined as Nationalisation gave way to privatisation.

• A Mixed Economy consists of elements of both Market and planned economies.

• In a Mixed economy resources are owned both by the Government and private
individuals.

• In such Economies some areas of economic activity are the sole responsibility of the
Government, while all other areas are open to the private sector. The Government
engages itself in those activities which promote social welfare and are considered
unprofitable by the private sector.

• The private sector operates with the aim to maximise profit by allocating resources
efficiently.

A Mixed Economy has joint ownership of resources

Advantages of a Mixed economy: Fig:- The Mixed Economy

• Since a Mixed Economy involves both Government and private enterprises, it has the
advantage of taking the benefits of capitalist nature of private companies and socialist
nature of the Government.
• There is less inequality of income because the intent of the Government is to have a
balanced economic growth.

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• A Mixed economy allows individuals to run their business and make profits but at the
same time it places some responsibility on these companies by inducing them to
contribute towards the welfare of society.

Disadvantages of a Mixed Economy:

• Since welfare of society is important in a Mixed economy it leads to more than optimum
use of the resources. The Government uses the resources for the production of those goods
and services which are beneficial for the society as a whole, rather than producing those
goods and services which in economic terms are more beneficial for an economy.
• Under mixed economy private enterprises have to face lot of difficulty because of
various Government loopholes like favoritism and bureaucratic nature which is
prevalent in Mixed economy.

Today, most countries of the world have adopted a Mixed economic System. Eg. India
is a Mixed economy country.

Do you know?

In the US only 25% people believe that Capitalism works well in its present form.
51% people feel that it needs some regulation and reform.

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 GLOSSARY

Capital - Wealth in the form of money or assets, taken as a sign of the financial strength of
an individual or a nation.

Capitalist Economy - An economic system in which the means of production and

distribution are privately owned and economic decisions are based on profit maximisation.

Economy / Economic system – An economy or economic system can be defined as an

organized way in which a state or nation allocates its resources for production of goods and
services.

Mixed Economy – An economic system in which both the state and the private sector
direct the economy, reflecting characteristics of both Market and Planned Economies.

Profit – The positive gain from an investment after subtracting all expenses.

Scarcity - Scarcity occurs when people want more of something than is readily available.

Socialist Economy – An economic system based on government ownership of resources.

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 Name of the School
Assessment Work sheet
Class -VII
Name: Time: 30 mins.
Class: Sec: Max Marks =10

Q1. Fill in the blanks using the words from the box given below: (3)

mixed unlimited planned

for whom scarce profit

An economic system is a way of determining how to use resources to satisfy

human wants. A nation must decide what, how and
to produce. In a economy private ownership of property is combined
with government intervention. A Capitalist Economy works on
motive. Inequalities of income are greatly reduced in a economy.

Q2. Complete the table with information about each economic system. (3)

Economic System Who owns the resources? Who takes economic decisions?

Market Economy

Planned Economy

Mixed Economy

Q3. State whether the following statements are true or false, by writing ‘T’ against the true
statement and ‘F’ against the false statement. Justify your answer. (4)
(a) Consumers enjoy freedom of choice in Capitalist Economies.

(b) An economy includes the activities of buying and selling only.

(c) Economic problems do not arise in Mixed Economies.

(d) Production processes are less efficient in Planned Economies.

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 WORKSHEETS

Worksheet 1

PUT ON YOUR CAPITALIST CAP

Write the main features of the Capitalist economies in the spaces provided.

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 Worksheet 2
Complete the crossword using the clues given below it:
1

Clues
Across
3. An alternative name for planned economies.
5. Scarcity of these leads to economic problems.
7. A framework in which all economic activities take place.
8. An economy which has features of both market and planned economies.
9. This is the number of basic problems all economies face.
Down
1. This is the main motive for businesses in market economies.
2. This country has a mixed economy.
4. It takes all economic decisions in a planned economy.
6. This is the main aim of the government while taking economic decisions.

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 Worksheet 3
1. Relate the statement given below to the ‘Type of economy’ and write the name of
the economy in the blank provided along with.
a) Jake takes the decision on allocation of his resources himself._____________________
______________________________.

b) The welfare of all citizens is the primary goal of this economic system._____________
_________________________________.
c) Jane is free to purchase any good or service as per her choice and preference.________
_________________________________ .
d) Economic decisions are based on profit maximisation.___________________________
_________________________________.

e) Some areas of economic activity are the sole responsibility of the Government, while all
other areas are open to the private sector.__________________________________.

f) The government does not interfere in the functioning of the private enterprises. ______
________________________________.

g) There is greater emphasis on the quantity of life._______________________________.

h) Resources are owned both by the Government and private individuals.______________

________________________________.

i) My decision to produce a good will depend on the demand for the good in the market.
________________________________.

2. Complete the following table:

Capitalist economy Socialist economy

Ownership of resources

Motive of production

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