CIE AS SAMPLE ESSAYS
1.4 Resource allocation in different economic systems
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(b) Assess whether a market economy is always the best economic system to effectively answer the three basic questions of resource allocation. [12]
A market economy relies on the price mechanism to allocate resources without government intervention. This system aims to answer the three fundamental economic questions: What to produce?; How to produce? and For whom to produce?.
In a market economy, consumer sovereignty dictates what to produce, ensuring resources are allocated efficiently based on demand. When consumers buy more of a product, firms respond by increasing its production, preventing wastage and maximizing satisfaction. For example, the rising demand for electric vehicles has pushed car manufacturers to innovate and expand production. This competition drives technological progress, lowers prices, and enhances product quality, benefiting both consumers and the economy.
In this economy, firms decide how to produce based on cost efficiency and resource availability, ensuring optimal allocation of scarce resources. For example, manufacturers invest in automation and AI to streamline operations, lowering costs while maintaining quality. This efficient resource use increases output, reduces production costs, and enhances economic growth.
As for whom to produce?, market economy dictates based on consumers’ ability and willingness to pay, ensuring allocative efficiency. Producers supply goods to those who value them most, as reflected in market demand, preventing resource misallocation. For example, luxury cars are produced for high-income consumers, while affordable alternatives cater to broader markets. Hence, This system directs resources toward producing what is most desired, maximizing overall economic welfare.
Though the market economy efficiently answers the three questions, there are still other economic issues it fails to address. The market system may fail due to the overproduction of demerit goods and underproduction of merit goods, leading to inefficient resource allocation. In a free market, firms prioritize profits, often over producing harmful goods like cigarettes and alcohol. Since demand exists, businesses continue supplying these products, ignoring long-term social costs like health issues.
In the case of merit goods, essential services like healthcare and education are underprovided since they are not as profitable. Firms focus on goods with high private returns, neglecting those with wider social benefits. This results in market failure in a market economy.In contrast, a planned economy is able to correct the market failure through government intervention through subsidies or direct provision to correct inefficiencies.
Since goods and services are allocated based on purchasing power, the wealthy can afford essential and luxury goods, while the poor may lack access to necessities like healthcare and education. This creates a cycle of poverty, where low-income groups remain disadvantaged due to a lack of opportunities. This reinforces wealth disparities, as those with more economic power shape production decisions, widening the inequality gap.
Moreover, firms, driven by profit, may ignore environmental and social costs, producing goods in ways that harm society (e.g., pollution from factories).Without regulation, businesses may use the cheapest production methods, leading to excessive carbon emissions, deforestation, or health hazards.Since these costs are not reflected in prices in a market economy, society bears the burden, resulting in inefficiency and long-term economic harm.
In contrast, planned Economy helps mitigate these issues. The government enforces strict regulations, directly controlling production to minimize environmental damage (e.g., state-led clean energy projects).This reduces negative externalities by mandating sustainable practices. The government controls wages, provides free healthcare and education, and redistributes wealth through subsidies and welfare programs. As a result, planned economies aim for equal access to essential services, reducing economic disparity. Additionally, the state decides what and how much to produce, ensuring sufficient provision of public goods while restricting harmful goods. This prevents resource wastage and ensures essential goods are available for all.
While planned economies solve market failures, they lack efficiency and innovation due to bureaucratic decision-making, lack of consumer choice, and misallocation of resources when government forecasts are inaccurate.
In conclusion, a pure market economy is not always the best system, as government intervention is necessary to correct market failures and ensure fair resource distribution. Therefore it may not effectively answer the three basic questions of resource allocation. A mixed economy often proves superior as it leverages market efficiency while addressing market failures through regulation and social policies.
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With the use of examples, explain the difference between public goods and merit goods and consider whether markets will always provide enough of both goods. [8]
Public goods are characterized by non-rivalry and non-excludability. Non-rivalry means that one person’s use does not reduce availability for others, as seen in national defense—everyone benefits from protection regardless of individual contributions. Non-excludability implies that it’s difficult to prevent anyone from using the good, such as a lighthouse providing guidance to all ships.
In contrast, merit goods are typically under-consumed and under-produced due to information failure. They offer greater societal benefits than individuals realize. Education exemplifies a merit good; while it provides significant long-term benefits, many people may undervalue it, leading to under-consumption. Governments often subsidize merit goods to encourage greater uptake.
In a market economy, both public and merit goods are often inadequately supplied. Public goods lack profitability for private companies, as seen in national defense, where government funding is essential. Similarly, merit goods like education can be underprovided because private institutions may prioritize profit, leaving low-income individuals with limited access.
In a mixed economy, government involvement improves the provision of both goods. However, budget constraints can limit the effectiveness of these interventions, affecting the availability of public and merit goods.
Evaluating whether markets can provide enough of both public and merit goods reveals some insights. In public goods markets, without government intervention, it is unlikely that adequate provision can be achieved, as demonstrated by the national defense example.
Mixed economies can improve outcomes for both public and merit goods through government involvement. However, the extent and effectiveness of this involvement are critical. A mixed economy with sufficient funding and efficient government mechanisms can provide both goods effectively. Nonetheless, challenges such as budget constraints and political influences may hinder optimal provision. Thus, while government intervention is essential, its quality and efficiency greatly impact the availability of public and merit goods.