The Market System in Economics: Definition, Characteristics & Advantages

Lesson Transcript
Instructor
Ashley Johns

Ashley has taught college business courses and has a master's degree in management.

Expert Contributor
Steven Scalia

Steven completed a Graduate Degree is Chartered Accountancy at Concordia University. He has performed as Teacher's Assistant and Assistant Lecturer in University.

There are areas of the world where the government controls everything. Others give the people freedom to choose. The type of economy is a major part of how a society runs. This lesson discusses a market economy and how it functions. Updated: 05/11/2020

What is the Market Economy?

What exactly is the market economy? You've probably heard this term a lot. Well, the market economy is basically an economy that allows goods and services to be traded freely on an open market. A market economy provides a win-win situation for the business and consumer. The United States is an example of a country that utilizes a market economy system. It's easy for businesses to start, creating constant competition for other companies. This allows options for consumers and keeps business owners on their toes.

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  • 0:00 What is the Market Economy?
  • 0:32 Impact of Supply and Demand
  • 1:53 Characteristics & Advantages
  • 3:27 Lesson Summary
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Impact of Supply and Demand

Have you ever wondered why there are price changes? Did gas prices go down Monday and back up Wednesday? What about supermarket prices? It may seem frustrating to the consumer, but it's often related to changes in supply and demand. Let's look at how these changes impact pricing.

  • Increased supply and decreased demand: This scenario causes a price decrease. Imagine a concession stand at a football game. The workers made a lot of popcorn to keep up with the demand during halftime. At this time they could sell the popcorn for full price, a dollar a bag. As the game is ending, the workers realize they still have popcorn, people are leaving and it's better to decrease the price than throw it away. So they decrease the price to 50 cents a bag. As time goes on, the workers may have to decrease the price even more to break even rather than lose money on the product.
  • Decreased supply and increased demand: This scenario causes a price increase. Consider a new product launch. When a new gadget like a smartphone or tablet comes out on the market, it typically starts out at a high price, right? There are few of them in the beginning and the company wants to test the waters. By promoting the features and creating hype about the product the company is able to charge this price. It makes customers feel like they have to rush out and get the product since there are few available. It's the scarcity effect.

Characteristics & Advantages

  • Competition: Few businesses are excited about competition. However, it's an advantage for both the business and consumers. It forces companies to stay in touch with the consumer wants and needs, as well as find their own competitive advantage. The consumer benefits through lower prices and improved customer service.
  • Profit: Business owners are excited by the amount of profit they make. Profit is way more prevalent in a market economy than one that's controlled by the government. To make a profit, the business has to figure out how to get as many customers as possible that will pay the highest price possible. The customers, on the other hand, are looking for the best quality at the lowest price. This is where competition and profit come together.

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Additional Activities

The Market System in Economics - A Practical Exercise:

The following exercise is designed to help students apply their knowledge of the market system in real-life business situations.

Exercise:

You learned in your lesson about the various characteristics and mechanisms present in the market system. These elements can be listed as follows:

No.Characteristic
1Increased Demand
2Decreased Demand
3Increased Supply
4Decreased Supply
5Competition
6Profit

Below is a sample of real-life events that occurred in various markets around the world in the past few decades.

No. Event
AApple increased the selling price of its iPhones by over 300% in 10 years since consumers were willing to pay more for them.
BThe COVID-19 crisis led to a worldwide shortage of masks and other sanitary supplies.
CT-Mobile lowered phone bill prices in an effort to lure customers away from AT&T and Verizon.
DFewer people in the United States want to consume red meat after it was listed as a carcinogen by the World Health Organization.
EThe advent of shale oil in the United States has dramatically increased the amount of oil available for sale in international markets.
FMore people than ever before wish to consume Kale after its health benefits were discovered by food scientists.

Question:

For each of the events listed above, identify the corresponding characteristic of the market system.

Solution:

CharacteristicEvent
1F
2D
3E
4B
5C
6A

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