Economic System

Economic System Meaning, Definition and Types

Table of Content:-

  1. Meaning of Economic System
  2. Definition of Economic System
  3. Types of economic system

Meaning of Economic System

An economic system is a systematic process of allocating resources and exchange of goods and services for fulfilling the needs and wants of people in a country or the economy.

It is a means by which societies or governments organize and distribute available services, resources, and goods across all geographic regions of the country. It regulates the factors of production, including land, labour, capital, and physical resources.

National resources play an important role in satisfying people’s needs and wants. These resources are managed through an economic system which involves business organizations, institutions and policy mechanisms. It includes people involved in the means of production, distribution, exchange and consumption.

An economy is an organization through which citizens earn their livelihood. To deal with its internal problems, every economy establishes certain norms and rules of conduct, known as institutions. Resources, industries, money, kin, etc. are some examples of economic institutions.

An economic system is a cooperative pattern among associates of an economy, defined by its specific institutions. It includes the institutions that direct an economy. The ownership of the means of production also determines the economic system of a nation. This would mean government, private or joint ownership of the means of production.

A state consciously decides what needs to be fulfilled in the face of its scarce resources. The economic activities of consumption, production, distribution and exchange together with the institutions follow a set arrangement to reach their economic goals.  These arrangements develop into economic systems.

Definition of Economic System

According to Jan Prybyla, “An economic system may be defined as the sum total of devices which ugh their interaction give effect to economic choice, ie., which translate choice from an idea into action”.

According to W.W. Loucks, “An economic system consists of those institutions which a given nation or  group of nations has chosen or accepted as the means through which their resources are utilised for the satisfaction of human wants”

According to Carl Landauer, “An economic system is the sum total of the devices by preferences among alternative purposes of economic activity is determined and by which individual activities are coordinated for the achievement of this purpose”.

The financial system has this purpose side in its applications and it includes various aspects of an economy such as the role of the state, market mechanism, nature of property rights, ownership of resources, etc.

Types of Economic System

Three types of economic systems exist in the world today:

  • Capitalism
  • Socialism
  • Mixed Economy

Types of economic system


Capitalism, often referred to as a free economy, constitutes an intricate financial system that has underpinned the growth of numerous prosperous economies across the globe. It is based on the principles of free markets, private ownership, and competition.

In this system businesses privately own capital goods. In this system, business owners, also known as hire workers, capitalists, or labourers, who receive wages for their services. However, labour does not own the means of production but only utilizes them on behalf of the capital owners.

According to R.T. Byte “Capitalistic economy may be defined as that system of economic organisation in which free enterprise, competition and the private ownership of property generally prevail”.

Features of Capitalism

Freedom of Enterprise: Citizens are free to choose their occupation or profession based on their capabilities and preferences. They can utilize their means of production according to their preferences.

Price Mechanism in Capitalism: In the absence of external interference, prices in a capitalist economy are determined by the movement patterns of demand and supply. The production decisions regarding quality, quantity, and location are made in harmony with the price mechanism.

Profit Orientation: All economic activities are driven by the pursuit of profit.

Competition: The number of competitors is high due to the presence of a market economy and the price mechanism. Moreover, individuals can choose how to use their means of production without restrictions on the profit motive.

Labour as a Commodity: Labour is available in the market for a price, known as wages, from individuals with inadequate means of production who are unable to utilize their labour.

No Government Interference: The role of the government is to protect its citizens from foreign invasion, and acts of terrorism, and ensure law and order in the state. It does not interfere with certain economic activities.

Sovereignty of the Consumer: The ‘Customer is king’ principle prevails in a capitalist economy. As the consumer, through their choices, determines the demand and supply in the market, their satisfaction is given the utmost care.

Merits of Capitalism

  1. Economic freedom
  2. Equal right to work
  3. Right to accrue wealth
  4. Rich choice of goods and services
  5. Encouragement to success and hard work
  6. Consumer as the prime focus
  7. Quality production

Demerits of Capitalism

  1. Disproportionate sharing of wealth
  2. Neglect of public welfare
  3. Risk of cyclical fluctuations
  4. Ruthless competition
  5. Discord between the haves and have-nots.
  6. Consumer sovereignty becomes a myth as most consumption choices are influenced by advertisements and sales propaganda.


A Socialist economy also referred to as a ‘Planned Economy’ or ‘Command Economy,’ operates under distinct principles and organizational mechanisms. In socialism, the economic system is administered and regulated by the government, to secure the welfare and equality of society. The features of a Socialist economy stand in opposition to the ones mentioned for capitalism. This financial system type typically involves collective ownership of the means of production, often by the government. The primary objective of socialism is not to pursue personal profit but rather to work towards the collective good. Socialism places greater importance on the needs of society compared to individual needs. This means that the country’s resources and wealth are distributed in a way that benefits the entire community, rather than just a select few. As a result, people do not engage in profit-driven competition but rather collaborate for the betterment of all.

Features of Socialism

Social or Collective Ownership: All means of production are collectively owned and utilized by the government, with no encouragement for individual ownership in any form. However, an individual can hold private property as necessary for their subsistence.

Central Planning Authority: Based on a survey of available resources (both human and physical), a central planning authority established by the government makes decisions on economic issues. Subsequently, an exhaustive plan is formulated to pursue pre-determined goals. The planning authority prepares plans for the entire economy.

Government Control: Government control is present in all economic activities, including central planning. The plans of the central planning authority are implemented only with the approval of the government.

Social Welfare: Driven by the noble pursuit of securing the social welfare of all its citizens, the government, at times, engages in economic activities that may not be profitable. This is done to realize the dream of ‘well-being for one and all.’

Merits of Socialism       

  1. Optimum utilization of economic resources
  2. A better way out of basic problems
  3. Lesser cyclical fluctuations
  4. Rapid and balanced economic development
  5. Fair distribution of income
  6. Better equipped to face economic crisis

Demerits of Socialism 

  • End of consumer’s sovereignty
  • No importance to personal efficiency and productivity
  • Challenges in Implementing the Plan Correctly
  • Lack of freedom
  • Lack of motivation for work
  • Difficulty in determining the basis for calculating costs.
  • The lack of this foundation hampers efficient economic functioning.
  • Proper utilization of resources becomes challenging without this basis.

Mixed Economy

According to Anatol Murad, “Mixed economy is that economy in which both government and private individuals exercise economic control”.

A mixed economy system is a blend of both private and public sectors that co-exist and work together towards the economic development of the country. This system is a combination of capitalism and socialism, which aims to eliminate the negative aspects of both economic models.

A mixed economy system can create a balanced and sustainable economy by allowing private businesses to operate freely and by providing essential services through the public sector while also regulating them. Several countries have adopted a mixed economy system, including England, India, France, Brazil etc. 

Features of Mixed Economy

Partnership of the Private and Public Sectors: The public sector strives for the betterment of the interests of the common man, works towards a more equitable distribution of income, and promotes its ideals of a welfare state. The private sector is also assigned specific responsibilities.

Planned Economy and Government Control: In pursuit of economic development, the government formulates periodical plans for the nation, which both sectors are required to adhere to. To reach the set destination and uphold social welfare, the government regulates and controls the private sector.

Private Property and Economic Equality: With the recognition of the right to private property, the government employs a well-planned combination of laws, taxes, and welfare programs to ensure a fair distribution of income and wealth.

Price Mechanism and Regulated Economy: While the prices of some essential commodities, such as domestic fuel, railway fares, postal charges, etc., are controlled by the public sector, the price mechanism also exists.

Profit Motive and Social Welfare: It is a combination of the objectives of capitalist and socialist economies. However, if the government believes that any private sector industry is impeding the progress of society, nationalization is resorted to.

Merits of Mixed Economy

  • Economic freedom and capital formulation
  • Competition and efficient production
  • Efficient allocation of resources
  • Advantages of planning
  • Economic equality
  • Freedom from exploitation

Demerits of Mixed Economy

  1. In a mixed economy, the private sector is not allowed to operate freely.
  2. The public sector also doesn’t function to its optimum efficiency.
  3. Based on current strength, one sector may dominate, potentially destabilizing the mixed economy.
  4. This prevents desired growth in both sectors.
  5. The constraints hinder optimal performance in both private and public sectors.
  6. Based on the strength at a given time, one sector dominates the other, thereby tilting towards one economic system.
  7. Lack of efficiency
  8. Corruption

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