What is a Market Economy? - Definition, Advantages, Disadvantages & Examples

An error occurred trying to load this video.

Try refreshing the page, or contact customer support.

Coming up next: What is a Contractionary Gap? - Identifying an Economy That is Below Potential

You're on a roll. Keep up the good work!

Take Quiz Watch Next Lesson
Your next lesson will play in 10 seconds
  • 0:04 What is a Market Economy?
  • 1:27 Advantages of a Market Economy
  • 2:11 Disadvantages of a…
  • 3:05 Examples of a Market Economy
  • 4:08 Lesson Summary
Save Save Save

Want to watch this again later?

Log in or sign up to add this lesson to a Custom Course.

Log in or Sign up

Speed Speed

Recommended Lessons and Courses for You

Lesson Transcript
Instructor: Shawn Grimsley

Shawn has a masters of public administration, JD, and a BA in political science.

We live in a market economy where our well-being and quality of life are largely determined by how well we interact in it. In this lesson, you'll learn about the market economy including its advantages and disadvantages. A short quiz follows.

What Is a Market Economy?

A market economy is an economy where most resources are owned and controlled by individuals and are allocated through voluntary market transactions governed by the interaction of supply and demand.

People exchange resources, such as money, for other resources, such as goods or services, on a voluntary basis in the market. The value of the resources exchanged is based upon how scarce each resource is and how many people want the resource. If the supply of a resource is low, but the demand is high, the price will tend to be high. If the demand is low and the supply high, the price will tend to be low.

Economic growth and development in a market economy is determined by the relative risks and rewards (or profits) that particular economic activity presents to individuals. If risks are too high and rewards are too low, then certain activities probably will not be pursued.

Government involvement in regulating market transactions in a market economy is limited to pretty much ensuring that the rules of the market are enforced and applied fairly to all participants. Additionally, government involvement in planning or directing economic development and growth is very limited. In practice, there is no such thing as a pure market economy because that would mean there would be no taxes on economic activities or government regulation of economic activities at all.

Advantages of a Market Economy

A market economy has several advantages:

  • Competition leads to efficiency because businesses that have fewer costs are more competitive and make more money.
  • Innovation is encouraged because it provides a competitive edge and increases the chance for wealth.
  • A large variety of goods and services are available as businesses try to differentiate themselves in the market.
  • Economic activity is encouraged because you need money to live and need to engage in economic activity (through employment or self-employment) to make money.
  • Freedom of individual choice is possible to the extent that the market provides options for work, developing a business, and purchasing goods and services (so long as you can afford them).

Disadvantages of a Market Economy

Market economies are also not without disadvantages:

  • Disparity in wealth and mobility exists in market economies because wealth tends to generate wealth. In other words, it's easier for wealthy individuals to become wealthier than it is for the poor to become wealthy.
  • Environmental damage results with no government regulations because it's usually more expensive to produce in an environmentally sound manner, which reduces profits.
  • There tends to be a reduced social safety net, including such programs as unemployment insurance, Social Security, and Medicare, because these programs are supported through taxation.
  • Poor working conditions can result due to a lack of government regulations because health and safety cost money, thus reducing profits.
  • Questionable priorities can result when the overriding decisions regarding production are profit-motivated rather than serving the needs of the people in society.

To unlock this lesson you must be a Study.com Member.
Create your account

Register to view this lesson

Are you a student or a teacher?

Unlock Your Education

See for yourself why 30 million people use Study.com

Become a Study.com member and start learning now.
Become a Member  Back
What teachers are saying about Study.com
Try it risk-free for 30 days

Earning College Credit

Did you know… We have over 200 college courses that prepare you to earn credit by exam that is accepted by over 1,500 colleges and universities. You can test out of the first two years of college and save thousands off your degree. Anyone can earn credit-by-exam regardless of age or education level.

To learn more, visit our Earning Credit Page

Transferring credit to the school of your choice

Not sure what college you want to attend yet? Study.com has thousands of articles about every imaginable degree, area of study and career path that can help you find the school that's right for you.

Create an account to start this course today
Try it risk-free for 30 days!
Create an account