Market Economy is an economy which allows markets to determine the allocation of resources. Within it there are factors markets where the price of factors of production are determined by the supply and demand for those factors, and product markets, where the price of goods and services are determined in the same way.
- automatic : no need for regulation
- offers freedom of choice
- efficiently allocates resources
- leads to greater economic growth
- means those with the most money have greatest power
- monopolization within market-players can lead to inefficiency and exploitation
- leads to inequality of income
- the price of good may not reflect its cost to society; these costs are called externalities
The main advantage of relying on the market mechanism is that it is automatic and leads to greater efficiency. However, because markets possess disadvantages, in particular they tend to exploit the weakest members of society, they are always modified or regulated in some way by governments. The extent to which this regulation takes place is a political decision: in the formerly communist countries, free markets were almost completely eliminated and replaced by central planning, but this proves to be a mistake, not only because it was expensive and inefficient to operate, but also because it stifled initiative, and led to lower living standards.
A compromise between a wholly planned and a market economy is called a mixed economy.