In today’s political and economic world, many governments have been in a state of paradox about the allocation of scare resources (Riley, 2012). In fact in economics the main issue every economist addresses is what resources should be provided, who to provide it for and how should it be provided (N/A, 2012). Every economy has a different economic system in which they decide on how these questions should be addressed. In economics there are three main economic systems; free market, planned economy and mixed economy. Over the years many economies have transformed from being a command economy to free or mixed economies such as China and Russia (Kotz, 2005). Some economists have questioned these transformations as to whether it has been beneficial for the concerned governments. In this essay I will examine this statement by comparing the two respective economies with the help of reliable and valid research and reaching a rational conclusion. My hypothesis, which is based on my general knowledge about the political and economic situations of Russia and China, is that adopting a mixed economic system has helped both economies respectively in terms of international trade and a more efficient and competitive domestic market.
A planned economy is an economy where economic decisions are centrally planned by the government (N/A, 2014). Essentially the central state or government plans the allocation of between the current consumption of the whole economy and the required investment for the long run. (Sloman & Garratt, 2010). Centralized governments increase the economic growth rate by sacrificing some of the present consumption and diverting useful resources into investment (Cukierman.A, Hercowitz.Z, Liederman.L, 1992). The amount of its scare resources would depend on the government’s macroeconomic strategy. Secondly at a microeconomic level, the authorities plan the output of each of its industry, the factors of production of its businesses and the techniques that will be used (Sloman & Garratt, 2010). Finally in a planned economy, the officials also plan the distribution of output between consumers. It distributes goods and services according to people’s needs and wants and normally they distribute the goods and services directly (system of rationing). From this we can contend that the most common market structure in this type of economy is monopoly (Appendix 1 Figure 1). This indicates that there is only one operating firm in the industry which decides all the allocation of resources due to lack of competition and complete power.
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On the other hand free market economies are economies based on the interaction of supply and demand with little or no government control (N/A, N/D). A mix of these two distinctive economies, which includes a mixture of capitalism and socialism, is known as a mixed economy (N/A, N/D). Both types of economic systems encourage that individuals are free to make their own economic choices; workers can choose on how much to work, consumers can buy freely with their incomes and most importantly businesses are free to choose what to sell and how to produce (reference). It can be argued that in these types of economies, there are many industries that experience perfect competition (Appendix 1 Figure 2 and 3). This signifies that there are “many market structures where there are many firms due to freedom of entry which produce identical products and services; where all firms are price takers (Sloman & Garratt, 2010). This is because the governments encourage business competition by giving freedom to the private sector thus there are many start-ups.
However the main question is that which economic system is the most effective and efficient? In the next part I will look at the advantages of disadvantages of both types of economies by using two dominant economies; China and Russia.
China and Russia; two previous communist states
Chen Duxiu and Li Dazhao were the first people to introduce China to communism in June 1921 while Russia was introduced to communism in 1917 by their leader Lenin (Simkin, n.d.). The benefits of being a planned economy such as China and Russian in the early 1900s are numerous. Firstly, planned economies “are great at allocating scarce economic resources quickly, efficiently and on a large scale” due decisions being centralized by the government. This helps the economy avoid inefficiencies such as illegal practices as there are no ‘middle men’. Secondly, governments can carry out big projects, create industrial power and attain important goals for society as their main motive is to meet society’s needs (Amadeo, 2013 n.p.). In addition due to the government distributing goods and services directly the society would benefit from merit and public goods such as good public healthcare, improved public transport and excellent public education. As a result this would help improve the standard of living of people of Russia and China in the early 1900s.
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Though mixed economy has advantages one should also consider the drawbacks of the previous communist China and Russia. Firstly, the main disadvantage is that there is less competition in the economy of Russia and China due to all decisions being taken by the government hence there is lack of innovation and efficiency. Secondly, in a planned economy, there is a lot of money and resources wasted in the communication between the government and the firms, which again makes the economy ineffective and inefficient (DineshBakshi.com,2012). Finally resource allocation being centralized means that there is no individual liberty. Consumers have less choice from goods and services because everything is made and decided by the government and workers cannot work according to their choice, which refers to that they cannot work for longer hours. (Sloman & Garratt, 2010).
China and Russia; transition from communism to mixed economy
China transformed itself from communism to mixed economy in late 1970’s whereas; Russia transformed its economy from communism to mixed economy in early 1990’s. Post the fall of communism in both economies, China and Russia have benefited in several ways by being a mixed economy. Firstly in a mixed economy, governments encourage competition and give freedom to the private sector on what to produce and for whom to produce. This helps the economy operate and use resources more efficiently as private businesses are concerned with maximizing profits thus they would operate as efficient as possible (Amadeo, 2011). In the long run both economies will experience economic growth (Appendix 1 Figure 4). Secondly with some government intervention in the market, monopolies will not be able to form in markets thus reducing the risk of market failure (Dineshbakshi.com, 2012). Finally with firms operating freely and efficiently, China and Russia’s export will increase, as local businesses are able to compete on an international scale (Amadeo, 2011).
Being a mixed economy such as China and Russia also consists of disadvantages, which can affect the economic growth and stability of both economies. Though giving freedom to businesses might lead to economic growth in the short run, there might be inflation in the economy, which can lead to higher prices of inputs such as raw materials and labor wages (Pettinger. T, N/D. hence businesses will start to experience a rise in their costs, which can lead to them being less profitable as result negatively affecting the economy. Another key disadvantage of mixed economy is that there might be external costs to society by the increase in competition in the private sector. This is known as a negative externality of production, which is a type of market failure (Appendix 1 Figure 5)
In conclusion after carrying out explicit and detailed research on the economies of China and Russia and analyzing the two economic systems, it is fair and reliable to say that being a mixed economy is more beneficial than operating as a planned economy. In fact in today’s world China is considered as the second largest economy in the world due to its high economic growth and stability. Similarly Russia has also thrived on exports of oil and gas by becoming a mixed economy due to trading with the world. If we consider today’s current communist states such as North Korea, one can argue that these economies have been on the downfall due to inefficiency in the local market and the international market. Personally I believe that in economies a balance is necessary for any economy to thrive in thus in a mixed economy there is balance between freedom to the private sector and government intervention.