Disadvantages of a free economy, Managerial Economics

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Disadvantages of a Free Economy

The free market gives rise to certain inefficiencies called market failures i.e. where the market system fails to provide an optimal allocation of resources.  These include:

Unequal distribution of wealth:  The wealthier members of the society tend to hold most of the economic and political power, while the poorer members have much less influence.  There is an unequal distribution of resources and sometimes production concentrates on luxuries i.e. the wants of the rich.  This can lead to excessive numbers of luxury goods being produced in the economy.  It may also result to social problems like crimes, corruption, etc.

Public goods:  These are goods which provide benefits which are not confined to one individual household i.e. possess the characteristic of non-rival consumption and non-exclusion.  The price mechanism may therefore not work efficiently to provide these services e.g. defence, education and health services.

Externalities:  Since the profit motive is all important to producers, they may ignore social costs production, such as pollution.  Alternatively, the market system may not reward producers whose activities have positive or beneficial effects on society.

Hardship:  Although in theory factors of production such as labour are "mobile" and can be switched from one market to another, in practice this is a major problem and can lead to hardship through unemployment.  It also leads to these scarce factors of production being wasted by not using them to fullest advantage.

Wasted or reduced competition:  some firms may use expensive advertising campaigns to sell "new" products which are basically the same as may other products currently on sale.  Other firms, who control most of the supply of some goods may choose to restrict supply and therefore keep prices artificially high; or, with other suppliers, they may agree on the prices to charge and so price will not be determined  by  the interaction of supply and demand.

The operation of a free market depends upon producers having the confidence that they will be able to sell what they produce.  If they see the risk as being unacceptable, they will not employ resources, including labour and the general standard of living of the country will fall.


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