Free Market Economy:
In a free market economy decision-making is decentralized, whereas in controlled economy decision making is centralized. Free market economy is also known as price mechanism. In this economy individual owns the factor of production and decide individually how to use them. The price system, which is one characteristics of Market economy, is only possible way to organize society. Price Mechanism or price system or free market economy, is an economic system in which relative prices constantly change to reflect changes in supply and demand of different commodities.
Problems Of Free Market Economy:
- What and how much should be produced?
- How should it be produced?
- For whom the goods are produced?
- Determination of money income?
- What And How Much Should Be Produced?
In a free market economy or price system, the interaction of demand and supply for each good determined as to what and how much to produce. If he highest price that consumers are willing to pay for a commodity Is less than the lowest cost at which a good can be produced, then output will be negligible or zero.
- How Should It Be Produced?
A firm can use various combinations of labor and capital to produce the same amount of output. In price system, the least cost combination technique is chosen because it maximizes profit. Firms using this technique will be able to offer for sale their products at a lower price and will make profit. The lower price will induce consumers to shift their demand from the high priced goods to the low priced goods. The inefficient firms will be forced to go out of business and in this way many firms will close their inefficient business and will induce consumers to shift their demand from the high priced products to the low priced products.
- For Whom The Goods Are Produced?
In a free market system, the choices about what is to be produced are made by the individual firms, but their this choice is determined by money incomes in the society. Those people who will have higher income, they would command different commodities than those who have less income.
- Determination Of Money Income
When a person is selling his human resources i.e. labor services then his income is based his wages, which he can get in the labor market. If a person owns land and capital then rent of land and interest of his capital will determines his ability to buy consumer products. If his income from interest and rent is less then his demand for goods, then he will have less consumer goods.