Free market
A free market is an economic system where voluntary exchanges of goods and services occur between individuals or groups, driven by the expectation of mutual benefit. Transactions can range from small-scale trades, like collectible cards, to large international dealings. The price of goods and services is determined by the value assigned by the parties involved, influenced by factors such as supply and demand. While historically, market economies have existed since the time of early human societies, modern economies often involve workers and employers exchanging labor for wages.
The concept of a pure free market suggests minimal governmental regulation; however, many markets experience varying degrees of oversight, including taxation and price controls, which can impact economic growth and competition. Prominent economists like Adam Smith, John Maynard Keynes, and Milton Friedman have debated the role of government in regulating economies, with Smith advocating for minimal interference, while Keynes suggested government intervention during recessions. Despite the theoretical benefits of a free market, issues such as moral hazards and the need for safety regulations highlight its complexities and potential shortcomings. Understanding these dynamics can provide insight into the ongoing discussions regarding market regulation and economic policies across different cultures and societies.
Subject Terms
Free market
People in most societies engage in voluntary exchanges of goods or services. An assortment of such exchanges is a free market. These exchanges may take place between individuals or groups or may be transacted by agents representing others. The basis of free trade is the expectation of benefit. If a transaction does not benefit both parties, further exchanges are unlikely and the market would presumably collapse.
Free markets may function on a small scale, such as a trade of collectible cards, or a global scale, as in the transactions of international corporations. The terms of exchange rely upon the value placed upon it by both parties—the price or cost. A true free market is unregulated. Many markets, however, are regulated to some degree.
History
Market economies have existed since primitive times. The earliest division of labor—hunters and gatherers—was a market economy in which both groups exchanged food. This eventually led to economies in which specialists produced goods such as pottery, fabric, or metal instruments and weapons, while others hunted, farmed, or cared for livestock. Specialists traded goods for food, while food-providing laborers traded for goods. These transactions grew more sophisticated as society advanced and trade extended beyond traditional borders of villages and eventually cities to include exotic goods from other countries and continents. Modern transactions commonly take place between workers and employers; workers provide labor services, while employers pay wages.
The terms of exchange are the agreed-upon price or wage for goods and services. These are often influenced by supply and demand. A producer of goods with a surplus of product may have to reduce the price of the goods to encourage buyers to engage in an exchange. At the same time, a shortage of workers (or goods) that are in demand may drive up the price. Examples of this situation include popular toys—which often are in great demand but short supply at certain times of year—and skilled workers.
Though these terms of exchange may seem simple, a great deal influences each transaction. The cost of raw materials, labor, transportation, and other factors all affect the prices of items, while the consumer must evaluate desire, need, and available funds before making a purchase. The market is free when the terms of exchanges are made freely and voluntarily each step of the way.
Theories
Adam Smith founded the science of economics during the eighteenth century. He believed governments should not interfere in the economy. Smith, author of The Wealth of Nations, said that an individual benefits society while earning compensation for his labor and by producing something valued by others. The individual is motivated to benefit himself, and benefiting society is simply a byproduct of this desire. Smith's theory of wage rates holds that workers who have to learn difficult tasks and those doing dangerous or dirty work need to be compensated at a higher rate, or they have no incentive to take on such work.
Twentieth-century British economist John Maynard Keynes believed that during periods of recession, governments should help capitalist economies. He said that government should work to prevent high inflation after a boom period. His work and theories strongly influenced the British economy. He helped establish the International Monetary Fund and World Bank.
American economist Milton Friedman, a conservative, disagreed with Keynes and his theories. Friedman challenged the notion that the government should help regulate economies in the years following World War II. He believed the free market would regulate itself. His theories and influence were credited with helping bring about the fall of communism in northern Europe late in the twentieth century.
Regulation
Free markets are rarely purely free. Most are subject to some regulation, such as taxation or price controls. Taxation is an exchange that is not free and voluntary. Heavy taxation on production generally slows or halts economic growth. Governments and private industry frequently debate this issue. Price controls are employed in some markets. These may prevent competition by making it difficult or impossible for competitors to enter a market.
Other regulations control the impact an industry has and protect public safety. For example, laws dictate that factories cannot spill waste materials into rivers. In a pure free market, the industry would theoretically police itself or suffer the consequences if consumers refused to purchase its goods.
Some advocates of a pure free market argue that government should avoid all interference; they say doctors, medical facilities, lawyers, etc., should not be licensed or certified. Many legislators and individuals argue that legislation stifles economic growth and entrepreneurship.
While regulation has provided many benefits—the Clean Air and Water acts, which have reduced pollution, and the Federal Aviation Administration, which enforces air safety regulations—other regulation efforts have been unsuccessful. For example, some companies relocate to other countries to avoid U.S. legislation or move jobs offshore. Some attempts to regulate markets have proven to be very successful. Examples include the Federal Deposit Insurance Corporation (FDIC), which insures customers' money if a bank fails, and the Securities and Exchange Commission (SEC), which regulates the stock market and protects investors from insider trading and other activities.
Free Market Problems
Free markets do not succeed in some cases. Some markets are prone to moral hazards—for example, the belief by some individuals that society will not allow them to fail. Individuals may neglect to save for retirement or choose not to purchase health insurance because they expect society to take care of them. Social Security was established to force workers to contribute to their eventual retirement. Many developed countries have set up government-managed health care systems to provide medical care for all.
Bibliography
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