What is a Free Market Economy - Assignment Example

FREE MARKET ECONOMY INTRODUCTION The supplier wants to sell his products as high a price as possible. On the other hand, the buyer wants to buy goods(Parkin, 1998) and services as low priced as possible. The free market economy facilitates the needs of both parties because they are not forced to offer or accept a price against their will. The free market economy is well discussed in the following paragraphs. BODY 1. Explain what is meant by the term 'free market economy'. How are resources allocated in such a system Free Market Economy A free market economy is the type of economy(Slavin, 1989) in which the resources are allocated based on the basic economic law of supply and the demand for them. But reality, this is mainly a theoretical concept because we all know that in every country ,including capitalist ones, there are import restrictions or quotas established to protect the countries' local competitors. The restrictions include both the ownership and exchange of commodities. In this type of economy, the price of each item or service is agreed upon with the mutual consent of sellers and buyers. The seller is free to offer how much he wants to sell his products or services. Likewise, the buyer is free to bid for the purchase price he wants or needs to buy the product or service he or she craves for. The free market economy is similar to laissez fair economy where the economic condition in the real world is mostly confining government intervention in economic matters as a regulating against force and fraud among market participants. Therefore, with the country's government force limited to a defensive role, government does not ignite the spark in the marketplace. The government, in this scenario has the economic role to levy taxes in order to finance the smooth flow of the free market economy. In the extremely free market economy, its advocates strongly denounce the government's tax intervention. On the other hand, the opposite to free market economy is a controlled market. In this type of economy, supply and price are set by a government. Clearly though, even a free market economy the players prefer that government does not dictate both the selling prices as well as the purchase prices. One general rule in the free market economy is that the traders and buyers themselves must not force for defraud the other party thereby making the other person unhappy. In short, all trading done are morally voluntary on all parties. Supply And Demand Theory Table 1. Demand Curve1 The above table shows that, if the buyer is made to choose, if the purchase price (P1) above was lowered (P2), the demand for the products increases from the original quantity (Q1) to the higher quantity (Q2). This is taken from the St. Charles County Community College Econ 100-80 Survey Economics class. Table 2. Supply Curve Supply Curve2 above shows that if the supplier is made to choose, the supplier can increase the quantity he sells when the prices of his goods and services increases. Table 3. Equilibrium Price. Table 3 above based on Deardorff's Glossary of International Economics3 , states that the equilibrium price is the price where the demand curve and the supply curve intersect or meet. This equilibrium price is designated by the letter E. This is the price that makes both the seller and the buyer happy. 2. Explain the possible reasons for state intervention in the working of free markets and decribe the manner in which such intervention could take place. (30 marks) In reality though, there is really no completely free market economy. We have to admit that all governments do interfere with the generally free market to some degree. There will always be government intervention in the form of price controls, taxes and restrictions that prevent new or unwanted competitors from entering the state's free market. In supply-side economics, free market is a technical term that is used to pinpoint to a political or ideological viewpoint on policy which is may be outside the boundaries of economics. Price Controls Price controls are instituted by the state to protect, to protect both the sellers and the buyers. If the suppliers band together and dictate the prices of commodities like foodstuffs and other basic necessities, then the low income purchasing public will go hungry. A banded group of suppliers that dictate prices of goods and services will monopolize the market. The government has to step in to place a cap to the selling prices. A cap is the maximum selling price that a supplier of a particular good or service is permitted can legally offer to the general public. Price controls will, in the long run, protect not only the buyers but also the sellers themselves. Taxes Taxes are collected by the state to pay its government expenses. The government uses the taxes collected to build roads and bridges and other infrastructure projects. The taxes are used to pay the salaries of the government employees. The government needs the money to run its affairs. Taxes are the lifeblood of the state. Also, Taxes are used to keep the peace and order in the free market economy. The free market economy will thrive better if peace abounds because there will be more customers visiting the stores without fear for their life. The government needs to collect these taxes to stay alive. Government often puts very high tariffs ( tax on imported goods) on imported competing products. This is the state's way of discouraging the foreign companies from selling their high quality products are a lower price. Based on the theories of supply curve, demand curve and equilibrium pricing in response to question 1 above that if a product is lower priced, not including the quality as a factor, then the customers' demand for the imported products will increase. This will in turn decrease the demand for the products of local manufacturers or service providers. The decrease in the local demand for the local industries' products and services will result to many employees being laid off or terminated. The unemployment rate of the State will increase. Restrictions Restrictions are imposed in order to protect to local industries. There are local industries that will be severely disadvantaged when lower priced and higher quality goods will flood the local market place. The low priced imported goods, as discussed in the TAXES topic above, will cause the state's some of the local industries' companies to forcefully terminate or retrench employees. This last resort method can be drastically used in order to lessen the salary expenses. The lessening of expenses are needed in case the total revenues from sales have drastically decreased even to the point where total expenses are higher than total revenues. Restrictions in the form of quota is the standard protectionist policy of the state. The foreign companies are allowed to export to the local state the maximum amount of goods and services shown in the exporting company's quota allocation. Restrictions are needed by the local manufactures in order for them to survive. 3. With regard to your own organisation in the free market micro economy, a) Explain the effects of any recent state intervention in the market in which it operates. Widney plc4 is a United Kingdom-based holding company. The Company has many subsidiaries that include Widney UK Limited, Belcot Tool & Die Limited, Widney Cabs Limited and Widney Pressings Limited. The Widney UK Limited deals with the sunblinds for similar applications , designing and manufacturing of telescopic slides and window systems for construction and agricultural vehicles. Belcot Tool & Die Limited designs and manufactures metal press tools for the automotive industry. Widney Cabs Limited designs and manufactures cabs and associated fabrications for construction, mining and agricultural vehicles. Widney Pressings Limited provides pressed metal assemblies for the automotive original equipment and after-market sectors. On November 24, 2006, the Company acquired certain assets of Vickers Pressings Limited. The head office is located in Plume Street Aston Birmingham, ENG B6 7SA GBR http://www.widney.plc.uk/. Widney Cabs Ltd5 with address at Main Road Far Cotton Northampton NN4 8ES Northamptonshire Tel: 01604 762261 Fax: 01604 701405. Widney Cabs is well known for in the manufacturing of cabs for off-highway and specialist vehicles, along with fabricated and welded assemblies. Yahoo UK finance news6 dated December 6, 2006 stated Widney Cabs Ltd has slipped into losses after a difficult year Because it had lost a contract with a major customer . Chairman Joe Grimmond said it was no surprise it had a difficult 2006 year following decreased volume sales in Widney Cabs. He stated "Following a very difficult 2006 I look forward to a steady improvement in 2007," he said. Widney Cabs decrease in sales this year was caused by a decline in volume sales from one major customer with sales of 32.6m which is markedly lower when contrasted with it forecasted 48.8m. It said the business is now winning significant new business from a broad range of other customers. The group reported a pre-tax loss of 149,000 for the year to September from a profit of 3.46m a year earlier, on turnover of 64.16m against 66.16m. "With significant increases in raw material costs, sourcing more components from low cost regions has enabled margins to be maintained," added Widney. The income statement of Widney Plc below, which is the holding company of several subsidiaries including Widney Cabs Ltd shows that the entire conglomerate generated profits on ordinary activities before taxation for both the years 2004 and 2005. the Profit and loss Account also shows that the Widney Plc generated turnover of 39,620,000 for the year 2004. The company had increased its turnover to the very much better and higher 66,163,000 for the year 2005. Table 4. Widney Plc Income Statement Ref: http://www.widney.plc.uk/WIDNEY2005.pdf a) Explain the effects of any recent state intervention in the market in which it operates. Based on the income statement above for the year 2005, the state has been continuously intervening with the company Widney Plc, the holding company of many subsidiaries including Widney Cabs Ltd, ever since the holding company had started operations. Widney Cabs Ltd produces Widney tractor cabs. The state's intervention is glaringly in the form of collection of taxes. The amount of taxes collected by the state is based on the amount profit on ordinary activities before taxation as shown above. The state collected 560,000 as tax revenue in 2004 because the company had generated profit on ordinary activities before taxation of 2,443,000 for the year 2004. In addition, the state has collected 1,018,000 taxes for the year 2005. This is very much higher than the taxes it collected during the year 2004. The main reason for the increase is that the higher 2005 tax amount is based on the higher profit on ordinary activities before taxation amounting to 3,459,000. The state has been intervening with the Widney Plc company through the collection of much needed lifeblood taxes in order to keep the free market economy in the United Kingdom cab industry and other Widney Plc subsidiaries in a conducive business environment. b) Explain how the organisation has responded. The company, Widney Plc responds to this government intervention by accepting the fact that the government interference through collection of taxes, generating laws and statutes that will contribute to a peaceful and fruitful economy a necessary part of going into business. The company responds by increasing its turnover. The increase in annual turnover will result in increase in profits after tax. According to Money talk, Jan 17, 2006 issue entitled Widney bashed by cabs business, Chairman Joe Grimmon of Widney Plc stated that Widney Cabs Ltd had remained weaker than anticipated and is forecasted to continue to decline further by 30% for the first half of the year 2006 when contrasted with the annual operating performance with the same period of the prior year 2005. As a result, the company has implemented an annual cost reduction budget amounting to 1,000,000. Chairman Grimmond further emphasized that the volatile demand for Widney Tractor Cabs in the manufacture of cab assemblies for agricultural and construction equipment was dependent on one major customer which is not good marketing strategy. This major customer had reduced his current year demand as compared to last year. In order to bounce back from this one customer failure, the company has already contacted many other news customers that will more than compensate for the decrease in sales. Chairman Grimmond further evidence this by showing to the stockholders a letter of intent form a new major customer based in the United Kingdom for Widney Tractor Cabs starting in the year 2006. Also, Chairman Grimmond further announced that negotiations are currently being advanced with three other major new customers that will increase turnover of Widney Tractor Cabs for starting the year 2006. CONCLUSION Free market economy is the type of economy in which the resources are exchanged based on the basic economic law of supply and the demand for them. The buyers are free to give a bid price for while the seller is not forced to give offer price. The free market economy is, in reality, being intervened by the state. The state's intrusion is to protect the purchasers from the seller's abuse. This abuse can be by offering a high selling price where the customer are forced to buy. The state also intervenes when it implements high tariffs on imported goods that are priced lower than the local competitors. The state also intervenes by setting quotas where the state's importers are allowed maximum limits on their products and services. Also, the state intervenes by imposing taxes. The taxes are used by the government to defray its operating expenses like paying government employees, building roads and bridges and other infrastructures that will keep the free market economy moving forward. Widney Cabs answers the government's intervention through collection of taxes by increasing its turnover. The increased turnover will increase net profits after tax. The free market economy is the best economic model because where the buyers and sellers are given the freedom to offer and bid for the exchange prices and the government intervenes only if necessary to keep all parties engrossed in the Free market economy happy. REFERENCES Widney bashed by cabs business, Money talk , Jan 17, 2006 Widney Plc Widney Cabs Ltd Yahoo Finance News Parkin, M., Microeconomics, Addison -Wesley, Harlow England, 1998 Slavin, S., Economics, Irwin, London, 1989 St. Charles County Community College NetMBA Deardorff's Glossary of International Economics ABSTRACT Widney Cab Equipment. Read More