What is a Free Market Economy?
A free market economy means that people (and companies) buy and sell with a minimum of government regulation.
A free market economy is one in which the operation of the economy is mostly left in private hands, with a minimum of government regulation restricting the buying and selling of goods and services. The United States is generally considered to have a free market economy. In concept, a free market economy is self-regulating and benefits everyone. Supply and demand should balance as businesspeople chose to create and sell items with the highest demand. Consumers get what they want as suppliers compete to fill the needs at prices the consumers want. Employees with the best skills should command the highest wages as companies compete for the best workers.
Imagine you and your friends discovered a new island and founded a new country. Your new economy is based on each of you using your strengths. Your best friend might make amazing coconut pie from those coconuts. Other friends might dig wells for water or raise the native goats for milk and meat. Each of you would find a demand to fill with your strengths, and you would trade those products or services to get the products and services you need. There would be no government interference or regulation needed for everyone to survive and thrive.
A free market economy is like a perpetual motion machine...
In theory, a perpetual motion machine, once started, stays in motion forever — with no friction or loss of energy ever occurring. It is perfect. Of course, no such machine exists. Similarly, a perfectly free market can exist in theory, but doesn’t exist in the real world. Some friction (market failure) enters the picture somewhere, requiring at least some government intervention. Some economies are much closer to a fully free market than others — just as some machines are more efficient than others.
The free market, in ordinary usage, means a market or economy in which economic actors are able to act freely — Buyers and sellers have no restrictions on their activities and can make any exchanges that the parties involved find mutually beneficial.
The free market is also sometimes used as a synonym for laissez-faire capitalism. However, it would be fair to apply the term “free market” as well to other purely voluntary forms of economic activity, such as voluntary socialism (e.g. a kibbutz).
The key factor in whether or not something is a free market (or can be described as free-market) is the absence of coercion — profit does not have to be the sole motivator or end goal.
Free markets and free market economies are not the same as free trade. Free trade happens when two countries have a legal agreement (like a treaty) that allows trade across borders without any tariffs, import restrictions, currency exchange manipulations, quotas, or other regulations on the trade itself.
Because free trade only affects the trade of goods across borders and does not negate other regulations on the buying and selling of those goods once they are in-country, it is not the same as a free market.
Free markets and free market economies are fueled by personal choice and economic freedoms. Personal wants (products, profit, or personal agendas) are the engine that creates needs (demand) that then trigger others to produce products or services to feed those needs (supply).
Free enterprise has minimal governmental interference and regulates itself — Just as evolution is self-regulating to the survival of the fittest. Adam Smith, one of the fathers of the idea of free markets, described the self-regulating nature of a free market economy as an “invisible hand” that naturally balances economic activity.
The concept of laissez-faire economics that free market economies come from is based on the idea that each person, in the process is striving to fill their own needs, will guide and self-regulate the market without the need for outside government regulations.
Laissez-faire is French for “let do” and describes the idea of letting people do what they want. In a free market economy, not only do workers compete with each other for jobs, but employers compete for the best workers.
A free market does not mean that there is no government at all. Free markets generally require a government to enforce the “rules of the road” — to provide for courts, police, etc. Contracts between private parties are meaningless if there is no one to enforce them; and individuals aren’t free if someone stronger can come along and take their property by force.
Countries have more or less free market economies on a spectrum, with the United States being at the relatively free end of the spectrum — Extremely controlled economies, such as North Korea’s, exist at the other end of the spectrum.
No country has a fully free market economy. Countries’ economies exist on a spectrum of how free-market they are. The United States is one of the largest free market economies — though it certainly has a number of regulations, businesses and individuals are generally free to do business as they see fit.
Rankings of economic freedom vary depending on who is doing the ranking, but some economies generally considered free-market include: Hong Kong, Singapore, New Zealand, Australia, Switzerland, the United Kingdom, Canada, and Ireland.
Some of the world’s least-free economies include: North Korea, Cuba, Venezuela, and Eritrea.
Yes, the United States economy has regulations in certain industries — for example, the pharmaceutical industry has many rules — but the American economy is mostly open and based on personal decisions. It is widely considered a free-market economy, and it is the largest free-market economy in the world.
For example, private property rights might be an advantage to some, but others might believe the state should have control over some property for the good of the country.
However, there are pros and cons of a free market economy that are more cut and dry.
Pros: Some of the advantages of a free market economy are innovation, lower cost of goods, ease of starting a business, and open competition.
In a free market economy, innovation flourishes because it is not restricted in general, and the rewards of innovation can be significant. This flourishing innovation leads to quick advancements in many fields, which benefits both the innovator and those who use those advances later.
Another advantage is the low cost of goods. Since a free market economy allows buyers and sellers to negotiate price freely, most products are naturally pushed to a lower price due to competition in the absence of government regulations artificially inflating prices. This competition is possible because of the ease of starting a business. A final advantage is the lack of state-mandated monopolies. Many real-world economies have specific industries where the government backs (or owns) a monopoly. These are often infrastructure type industries such as communications or medical care where the government is worried about instability should a company fail. In a free market, these are rare, which opens up the competition.
Cons: The downsides to a free market economy mostly come in where self-interest and real-world events clash with the theory of a self-regulating market. Survival of the fittest isn’t always a pretty picture and doesn’t worry about those left behind. Society, in general, wants some protections for those who would otherwise be left behind. This conflict often leads to calls for regulations and ultimately makes a real-world free market economy practically impossible.
Lack of consumer protections, environmental abuses, labor abuses, limited product choice, the possibility of catastrophic business failure in a vital industry, and conflicting self-interests are all downsides to a free market economy.
What is a Market Economy?
What is a Command Economy?
What is market capitalization?
What is Profit?
What is a Health Maintenance Organization (HMO)?
What is Outsourcing?
What is a Moral Hazard?
Moral hazard is a term in economics that refers to a situation where one party takes undue risks because they know someone else will pay for the cost of their actions – They are protected from the negative consequences of their risk taking.
What is a Surplus?
A surplus is when a person, group, or economy has more of a good or service than it actively consumes, allowing it to stockpile or export the remainder.
What is a Chief Executive Officer (CEO)?
A chief executive officer (CEO) is the top executive and decision-maker in a company, usually selected by a board of directors in a large company and considered the public face of the organization.
What is the Social Security Administration (SSA)?
The Social Security Administration (SSA) is a U.S. government agency that administers the Social Security program, providing benefits for retired and disabled individuals — and, in the case that the individual is deceased, to their surviving family members.
What is a Warrant?
A warrant is a financial instrument issued by a company that gives the owner the right to either buy or sell an underlying security for a specific price before a particular date.