In reality, no economy is purely free market nor entirely controlled by a government. Instead, economies exist along a spectrum with certain aspects favoring one type or the other. For example, in Europe, some critical industries may be government-owned and run and in China, the communist government has allowed special free-trade zones and cities to proliferate.
KEY TAKEAWAYS
- A command economy is one in which a centralized government controls the means of production and determines output levels.
- Command economies stand in contrast to free-market economies, those in which the law of supply and demand determines output and prices.
- Command economies have been associated with communist nations whereas free-market economies have been associated with democracies.
- Command economy advantages include low levels of inequality and unemployment and the common objective of replacing profit with equality as the primary incentive of production.
- Disadvantages of command economies include lack of competition, which can lead to lack of innovation, and lack of efficiency.
An Overview
In a command economy, the government determines what is produced, how it is produced, and how it is distributed. Private enterprise does not exist in a command economy. The government employs all workers and unilaterally determines their wages and job duties and product pricing.
There are benefits and drawbacks to command economy structures. Command economy advantages include low levels of inequality and unemployment and the common objective of replacing profit as the primary incentive of production. Command economy disadvantages include lack of competition, which can lead to a lack of innovation and lack of efficiency.
The Advantages of a Command Economy
Less Inequality
Because the government controls the means of production in a command economy, it determines who works where and for how much pay. This power structure contrasts sharply with a free market economy, in which private companies control the means of production and hire workers based on business needs, paying them wages set by invisible market forces.
In a free-market economy, the law of supply and demand dictates that workers who have unique skills in high-demand fields receive high wages for their services, while low-skill individuals in fields that are saturated with workers settle for meager wages if they can find work at all.
Low Unemployment Levels
Unlike the invisible hand of the free market, which cannot be manipulated by a single company or individual, a command economy government can set wages and job openings to create the unemployment rate and wage distribution that it sees fit.
Common Good vs. Profit Priority
Whereas the motivation for profit drives most business decisions in a free market economy, it is a non-factor in a command economy. A command economy government, therefore, can tailor products and services to benefit the common good without regard to profits and losses. For example, most true command economy governments, such as Cuba, offer free, universal healthcare coverage to their citizens.
The Disadvantages of a Command Economy
Lack of Competition Inhibits Innovation
Critics argue that the inherent lack of competition in command economies hinders innovation and keeps prices from resting at an optimal level for consumers. Although those who favor government control criticize private firms that esteem profit above all else, it is undeniable that profit is a motivator and drives innovation. At least partly, for this reason, many advancements in medicine and technology have come from countries with free-market economies, such as the United States and Japan.
Inefficiency
Efficiency is also compromised when the government acts as a monolith, controlling every aspect of a country’s economy. The nature of competition forces private companies in a free market economy to minimize red tape and keep operating and administrative costs to a minimum. If they get too bogged down with these expenses, they earn lower profits or need to raise prices to meet expenses.
Ultimately, they are driven out of the market by competitors capable of operating more efficiently. Production in command economies is notoriously inefficient as the government feels no pressure from competitors or price-conscious consumers to cut costs or streamline operations. They also may be slower to respond—or are even completely non-responsive—to consumer needs or changing tastes.
What are the pros and cons of a free market economy vs. a command economy?
Because a command economy is centrally planned, its pros include efficiency, theoretical equality between citizens (lack of inequality), focus on the common good as opposed to profits, speed, and low or non-existent unemployment. Some of the cons include a lack of efficient resource allocation, lack of innovation, and the needs/preferences of society may be ignored due to poor planning.
Free market economies are the opposite, they encourage innovation, efficient resource allocation, and competition, resulting in better prices for individuals and the needs and preferences of citizens being met. The cons of free markets include profits prioritized above equality and the worker and market failures.
What are some of the ways a command economy benefits and harms people?
A command economy benefits its citizens because the government ensures that all individuals are employed. Furthermore, profit isn’t prioritized but rather the worker. It leads to more equality, theoretically. It is harmful to people because it is an inefficient way to allocate resources and the needs/preferences of citizens may go unmet. Furthermore, due to the lack of competition, which leads to a lack of innovation, the quality of products may be poor.
What are the potential benefits of moving from a command economy to a market-based system?
The benefits include higher quality goods, better pricing, efficient allocation of resources, the ability to produce and sell what you want, and rewards for taking risks in the form of profits.
The Bottom Line
Command economies, where the government determines output levels and prices, come with many advantages, which include low or non-existent unemployment, speed in decision-making, equality amongst citizens, and a focus on the worker as opposed to profits.
Despite these advantages, there are also disadvantages, which include an inefficient allocation of resources, low-quality goods due to a lack of innovation, and the needs/wants of consumers not being met.