What is a market economy?

A market economy is an economic system in which individuals and firms have freedom of initiative and the freedom to exchange and

move

goods and services

without hindrance.

Resources are allocated under this system through the market institution and the price mechanism that ensures the equation of supply (production) and demand (consumption), without the need for central intervention from the state to organize the production coordination process.

And prices, through the signals and information they send, play another role, which is to direct the bidders to produce the goods and services required of consumers, and thus push the market to a state of perfect equilibrium (satisfying the largest amount of consumers' needs using available resources).

The opposite of the market economy is the planned or central economy (the Soviet economy is a model), since the state is the one that allocates resources and determines which goods and services will be produced, in what quantities, and sold at what prices.

There is an intermediary economic system between the two called the mixed economy, which mixes dependence on the market and the state together, which is adopted in most countries of the world.

The degree of state intervention within the framework of the mixed economy system and the forms that this intervention takes (control and rationing, setting some prices, contributing to production…) differ from one country to another, according to the specificities of each country, the degree of maturity of its institutions, the depth of its markets, and the extent of the culture of free initiative among its residents.

Market and capitalism

Some people (even among economists) used to confuse market economy and capitalism as the same thing, but the first is to distinguish between them without separating, because the relationship between the two systems is very close.

The market economy is one of the components of the capitalist system, but the latter remains more comprehensive and general than the market economy and does not stop at the issue of relying on the market institution to organize production and coordinate the decisions of producers (supply) and consumers (demand).

Capitalism is a system based on private ownership of the means of production, as opposed to socialism, which is based on state (society) ownership of the means of production.

It is theoretically possible for an economy based on state ownership of the means of production to resort to the market rather than central planning in order to organize production.

This is what is called in economics the system of market socialism.

China is (to some extent) a working model representing market socialism given that an important part of the productive companies are still owned by the state, but the first is to describe it as a mixed economy as long as individuals (including foreigners) own their own companies, and the private sector lives alongside public sector.

Incentives and Efficiency

Proponents of the market economy believe that material profit is the most effective incentive and capable of motivating people to work, produce, take risks and invest, and that all individuals' pursuit of their personal interests is implicit in achieving the general interest of society.

They also believe that the market is the best way to coordinate between producers and consumers and to ensure that a state of equilibrium is reached, unlike the planned economy in which production is known as permanent imbalances between the overproduction of some commodities and the underproduction of others.

But the reality of human experience testifies that the market economy was not much better than the planned economy. Countries that have adopted the market economy system know periodic crises that have become part of the economic scene, and the mortgage crisis in the United States is not far from us.

Therefore, the market economy does not guarantee efficiency and the best results except through limited intervention (more or less, according to each case) of the state in the economic life.

This is done through mechanisms of control, regulation and direction in order to improve the functioning of markets, provide competition in them, and immunize them from the excesses of some interveners.

The state’s intervention is also through the implementation of major structured projects (infrastructure, heavy industries, scientific research…) that the private sector is unable to implement and whose positive effects include the entire economy.

This explains the presence of the state (varyingly) in the economy of many countries in the world, including some developed countries such as Germany, France and Japan.