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Chapter 6

ECO100Y1 Chapter 6 Notes
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Department
Economics
Course
ECO101H1
Professor
Robert Gazzale
Semester
Winter

Description
ECO100Y1 Textbook Notes Chapter 16  The operative choice is not between an unhampered free-market economy and a fully centralized command economy. It is rather the choice of which mix of markets and government intervention best suit people’s hopes and needs. 16.1 Basic Functions of Government  Monopoly of violence: violent acts can be conducted by the military and the civilian police arms of government, and through its judicial system the government can deprive people of their liberty by incarcerating them or by executing them. o When the government’s monopoly of violence is secure and functions with effective restrictions against its arbitrary use, citizens can safely carry on their ordinary economic and social activities.  A related government activity is to provide security of property.  Institution building: official assistance given to developing countries in the form of political assistance rather than economic assistance. 16.2 The Case for Free Markets  The case for free markets has been presented in two different approaches: o “Formal defence”  Based on the concept of allocative efficiency.  In essence, if all markets were perfectly competitive, and if governments allowed all prices to be determined by demand and supply, then price would equal marginal cost for all products and the economy would be allocatively efficient. o “Informal defence”  Based on three central arguments:  Free markets provide automatic coordination of the actions of decentralized decision makers. o The decentralized market system is more flexible and adjusts more quickly to changes (i.e. change in price of oil; different consumers will reduce their consumption in different ways) o As conditions continue to change, prices in a market economy will also change, and decentralized decision makers can react continually (government quotas, allocations etc. are more difficult to adjust). o A market system allows for coordination without anyone needing to understand how the whole system works (i.e. dairy farmer example).  The pursuit of profits in free markets provides a stimulus to innovation and rising material living standards. o New products and techniques will be devised to adapt to shortages, gluts, and changes in consumer demands and to exploit new opportunities made available by new technologies. o In a market economy, individuals risk their time and money in the hope of earning profits. o Planners in more centralized systems have to guess which innovations will productive and which goods will be strongly demanded. o The biggest failure of centrally planned economies was their inability to encourage the experimentation and innovation that have been proven to be the driving forces behind long-run growth in advanced market economies.  Free markets permit a decentralization of economic power. o A free-market economy tends to decentralize power and thus requires less coercion of
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