What It Means to Have a Mixed Economy in the Modern World - dummies

What It Means to Have a Mixed Economy in the Modern World

By Sean Masaki Flynn

In the real world, few societies opt for an extreme type of economy, such as one that is totally market-based or one that features constant and pervasive government intervention. Instead, most societies opt for some mixture of markets, government intervention, and what economists refer to as traditional production. In their purest forms, these three types of economy can be defined as follows:

  • Market: A market economy is one in which almost all economic activity happens in markets with little or no interference by the government. Because of the lack of government intervention, this system is also often referred to as laissez faire, which is French for “to allow to do” or “to leave alone.”
  • Command: A command economy is one in which all economic activity is directed by the government.
  • Traditional: A traditional economy is one in which production and distribution are handled along the lines of longstanding cultural traditions. For instance, until the caste system was abolished in India during the last century, the production of nearly every good and service could be done only by someone born into the appropriate caste. Similarly, in medieval Europe, you couldn’t typically be part of the government or attain high military rank unless you were born a noble.

Because nearly every modern economy is a mixture of these three pure forms, most modern economies fall into the very inclusive category called mixed economies. With the exception of a few isolated traditional societies, however, the traditional economy part of the mixture has tended to decline in significance because most production has shifted to markets and because traditional economic restrictions with regard to age and gender have become less important (and more illegal).

Mixed economies today are a mixture of the command economy and the market economy. The mixtures that you find in most countries typically feature governments that mostly allow markets to determine what’s produced but that also mix in limited interventions in an attempt to make improvements over what the market would do if left to its own devices.

The precise nature of the mixture depends on the country, with the United States and the United Kingdom featuring more emphasis on markets and France and Germany, for instance, featuring more emphasis on government intervention. On the other hand, a few totalitarian states like North Korea still persist in running pure command economies as part of their all-encompassing authoritarian regimes.

Noting the failure of command and the absence of laissez faire in economics

Command economies have historically been dismal failures. Even well-intentioned governments can’t gather enough information about production and distribution to do a good job allocating resources. In fact, they do a much worse job than price systems do.

Consequently, the opposite extreme, absolutely no government intervention, can seem like an attractive option. Such laissez-faire systems were first suggested by French economists several hundred years ago in response to the habit of governments of that era to intervene very heavily in economic activity. However, no pure laissez-faire economy has ever existed or probably could ever exist. The simple fact is that properly functioning market economies that use price mechanisms to allocate resources require a huge amount of government support.

Among other things, market economies need governments to

  • Enforce property rights so people don’t steal
  • Provide legal systems to write and enforce contracts so people can make purchases and sales of goods and services
  • Enforce standardized systems of weights and measures so people know they aren’t being cheated
  • Provide a stable money supply that’s safe from counterfeiters
  • Enforce patents and copyrights to encourage innovation and creativity

Notice that all these things must be in place in order for markets to function. Consequently, a more moderate, more modern version of laissez faire says that government should provide the institutional framework necessary for market economies to function, and then it should get out of the way and let people make and sell whatever is demanded.

Deciding on the amount of government intervention in the economy

Because command economies don’t work very well and laissez-faire economies can’t really exist, most societies have opted for one form or another of mixed economy in which governments and markets share economic responsibilities. The precise nature of that mix varies from country to country but all such mixtures feature some instances of direct governmental command and control of economic activity interacting with markets that use a price system to allocate resources.

The vast majority of people want governments to do more than just set up the institutions necessary for markets to function. They want governments to stop the production and sale of things like drugs or to subsidize the production of things that the market economy may not provide a lot of, like housing for the poor. They often also want to tax well-off citizens to pay for government programs.

Many government programs are so commonplace that you don’t even think of them as being government interventions. For instance, free public schools, safety features on cars, warning labels on medicine bottles, taxes on alcohol and tobacco, and mandatory contributions to retirement systems are all government interventions in the economy.

The government interventions needed to implement such programs are, in many cases, not efficient. But many people would argue that there’s quite a bit more to life than efficiency and that the inefficiencies caused by many government interventions are well worth the benefits that they produce. For such people, the government interventions in question increase overall happiness despite the fact that they are, strictly speaking, inefficient.

At the end of the day, all government interventions — both good and bad — are the result of a political process. In democracies, the amount of government intervention is, broadly speaking, a reflection of the will of the people. Nations in which people have more trust in markets, like the United States and the United Kingdom, tend to feature mixed economies with less government intervention than nations in which people are more suspicious of corporations and impersonal market forces, like France and Germany.