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Free market economies, mixed economy and command economy

a) Free market economy

Remember Paul Samuelson's three key economic questions? If you have been revising 1.1 then you should do. The structure of an economy is heavily influential in the answering of these questions, and there are three main categories that you must learn.

The distinguishing element of a free market economy is that the majority of resources are allocated through the price mechanism (you will cover this in more detail in 1.2.7). Because of this, there is competition in free market economies, whilst there is not in command economies. Consumers aim to maximise their satisfaction, whilst firms aim to maximise profits. In a perfect free market economy, the government has no interference in the market at all and the price mechanism allocates all resources. However, in practice this method always fails, as if the market is left alone monopolies will form, consumers will be exploited as firms aim to maximise profits, etc. Also, the government must have some role in an economy to enforce laws, as well as other things discussed below. According to the 2023 index of economic freedom rankings, Singapore is the most economically free country in the world.

Adam Smith

A free market economist, Adam Smith was a strong believer in, as he phrased it, a "laissez-faire approach from the government". He criticised the strong role they had played at the time in limiting trade through protectionism as well as other economic barriers. In his book 'The Wealth of Nations', as well as discussing his time spent in the pin factory (1.1.5) he referred to the price mechanism as the invisible hand in the market, and that it in the free market it would provide resources to everyone's advantage. He reasoned this statement by saying that because all individuals will be aiming to maximise their own satisfaction and profit, efficiency in this regard would be high and the net welfare benefit would be maximised. However, he did believe that the government should play some role in the economy, providing public goods such as roads and streetlights, and forming a legal framework. He also said that left alone, firms and individuals with the most power would attempt to distort the market for their own benefit, leading to the exploitation of others.

Friedrich Hayek

Hayek was an Austrian economist who worked in the UK at the time of the Second World War. Seeing the lack of freedom citizens of the Soviet Union and Nazi Germany had was heavily influential in moulding his economic thinking. In his most famous book 'The Road to Serfdom', this is very clear. He famously stated that you would be better off being poor in a free market economy than anyone in a command economy, because at least you would have your freedom. He argued that the controlling nature of command economies leads to totalitarianism, and their use of central planning meant that the wants of a minority group of people were forced on the majority of the population. However, some would argue that in free market economies a minority of people have most of the decision making power. For example, in the US especially large firms lobby members of congress to influence political outcomes.  


  • There is political freedom. 

  • Dependency on the price mechanism for resource allocation means that the system is automatic. This lowers administrative cost as the government does not have to decide how to allocate resources. 

  • High incentives (the profit motive) leads to higher motivation, increasing efficiency and innovation.

  • Consumer sovereignty, meaning consumers can choose what to buy and from where

  • Higher economic growth, although this is not necessarily the case. For example, China is a command economy but has grown to become the second largest economy in the world today.


  • If left alone, certain markets will form monopolies, giving these firms power over the market to charge higher prices, reducing consumer welfare.

  • There is more inequality as wages are not standardised and competition results in winners and losers.

  • There are some resources wasted on unproductive expenses, such as advertising. This would not happen in a command economy.

  • Because there is consumer sovereignty, consumers may be inclined to buy more demerit goods (ones which are intrinsically bad) and fewer merit goods (intrinsically good). By the price mechanism, this leads to overproduction and underproduction respectively.

b) Command economy

In stark contrast to a free market economy, in a command economy the majority of resources are allocated by the government, with the price mechanism playing a much smaller role. In fact, all of the factors of production except labour are owned by the state, with labour being heavily controlled. Again contrastingly, in a command economy individuals are assumed to be selfless and work together for a communal objective. However due to human nature, in practice this isn't a very realistic assumption. There is no consumer sovereignty, meaning that many goods are allocated rather than available for purchase, such as houses. Goods and often wages are standardised, limiting consumer choice. The lack of influence of the price mechanism in setting prices for goods and services, and the price limits set by the government result in excess demand. Command economies today include China and North Korea, however these countries are adopting more elements of free markets into their structure. For example, China's 1978 Open Door policy has allowed for more foreign direct investment and trade to occur.

Karl Marx

Probably the most famous command economist to have lived, Karl Marx believed in the concept of community in the economy, and heavily criticised capitalism. Living in Germany in the 19th century, he witnessed first-hand the significant class divide between the wealthy business and property owners and the working class. He thought that capitalism was to blame for this separation, and that it brought many negative consequences in addition to this. For example, he said that whilst there was the benefit of profit from capitalism, he thought that this was at the expense of exploiting workers by underpaying them. Another failure of capitalism in his eyes was that the high competition leads to firms failing, causing unemployment and a loss of income. He theorised that eventually the workers would rise up against the most powerful owners, taking control of the factors of production, owning and controlling them themselves to benefit all of society.


  • The state is obligated to provide a minimum standard of living. This reduces income inequality and the proportion of people living in extreme poverty.

  • Long term planning means that the state is more likely to allocate resources to firms with the best chance of future economic prosperity, meaning that the chance of failure is minimised, reducing structural unemployment.

  • Planning by the government can lead to fewer resources wasted if executed effectively.

  • There is more merit provision, as the government seeks to maximise the wellbeing of its citizens. 

  • Standardised goods means that all resources are allocated to one method of production, increasing efficiency and reducing costs.


  • Very rich individuals will bribe government officials to influence decision making, increasing bureaucracy (for example, the Oligarchs in Russia). However, arguably this still happens in free markets to some degree.

  • Because it is impossible for the state to make all of the right decisions, there will be resource waste. With the price mechanism, resources are allocated more naturally and there is subsequently less waste.

  • There is less freedom, politically and individually.

  • The standardised wage leads to a fall in motivation as workers realise that working harder will not increase their income or standard of living. This lack of motivation reduces efficiency.

c) Mixed economy

Because neither of these systems above necessarily provides overall net benefits to economic agents, the majority of countries today have elements of both in their economic structure, forming what is known as a mixed economy. Here, the free market and the government are responsible for resource allocation with their proportion of control ranging from country to country. Generally, the government has 40-60% of control. In 2022/23 in the UK, government spending was 45.6% of GDP.

Governments in a mixed economy are responsible for:

- Creating a rule framework for the protection of consumers. This may be from monopolies abusing their market power resulting in consumer exploitation, providing the law to prevent crime, etc.

- Redistributing income via progressive tax bands (in the UK there are 4 bands), welfare benefits (in the UK, Job Seeker's Allowance and Universal Credit), and state pensions (the age for this is 66 in the UK).

- Providing merit and public goods, such as roads and streetlights, healthcare (NHS) and education.

- Stabilising the economy in times of distress. For example, the Bank of England (which whilst independent from the government, does work closely with them) raising interest rates in recent months to combat the high inflation.

To help revise this, click the button below for my condensed flashcards!

EXAM TIP: This hasn't yet been used for a 25 marker, and it could easily be done given the amount of information. It may be a good idea to practice one at home.

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