Question

A. In a free market economy, consumers are free to buy what they choose; businesses to produce what they choose and resource suppliers to make their property and labour available in whatever occupations they choose. How does such an economy manage to operate and what economic problems does it leave unresolved? [12 Marks]

B. What justification would you advance for government intervention in a free market system?

Answer 1

Question A)

A free market system is one, wherein the consumers demand derives the market itself. They ultimately decide what goods and services would be produced in the market type, and the same is provided by business owners at a price which is acceptable and earns profit. In such market types, the level of competition remains high which helps in innovation in the economy and gives rise to consumerism over a period of time.

These economies consider the fact, that those goods that are demanded highest by the consumers will come into existence by itself, and that markets need to be left alone without government control on business and only those goods and services need to be produced and operated on which bring in maximum benefits for a consumer. The concepts of natural elimination takes place, whereby if the demand for a good or service shifts towards another good, the supply of the previous good falls and the economy is very quick to make this change. These economies function by ensuring that maximum customer demand is met.

However, at times, this high demand may not suffice for better social conditions for the poor or for the minority demanding essential goods which may not interest the suppliers to produce. For example in a high technologically advanced country, the masses may not require food to be produced at cheaper rates, however the poor sections of the society even though small in number may not be able to afford goods at that rate. This leads to a problem wherein voice and demand of the masses are considered more important than that of the minority stake holders.

Question B)

In free market economies, if the country goes through a recession or an inflation cycle, wherein either the prices of goods and services falls too much or rises too much, government intervention becomes necessary and unavoidable. Another area where it may be required is when monopolies come into existence and disbalance the economy.

For example, when there is a recession cycle, the aggregate demand for goods and services is low like in the case of the Corona Virus Pandemic. This results in losses for the business owners who resort to firing people. As a result of which a cycle wherein low demand leads to low supply which further causes loss of income takes place. To resolve this, it is recommended that the government intervene and provide support to the industry respectively. This is done by reducing the tax rates which are charged which helps in additional availability of income for the consumers and the aggregate demand returns to normal, and also for the producers it becomes an additional source of capital which is utilized towards expansion activity.

Further, monopolies are companies which become powerful enough of being the only player in the market, and these must be discouraged to make sure that competition as a whole does not end. The government should be responsible of closely monitoring the same.

Please feel free to ask your doubts in the comments section.