A market economy is a system in which the economic decisions and the prices of goods and services are determined by supply and demand. The assumption behind a market economy is that supply and demand are the best determinants for an economy’s growth and health. The advantages of a market economy include increased efficiency, productivity and innovation.
Unlike other types of economies, a market economy increases efficiency of businesses. The government limits its involvement in regulating market transactions in a market economy. The lack of heavy government intervention leads to competition and increases efficiency. With the existence of competition, a business tends to do whatever is necessary to lower its costs and achieve a higher number of sales and increase its profit. (For related reading, see: The Amateur Investor’s Guide to Analyzing Corporate Efficiency.)
Increased productivity is also associated with a market economy. In a market economy, people need money to purchase goods and services. Generally, this leads to increased motivation, because workers want to earn more money to live comfortable lives. When people are motivated to work, there is increased productivity and increased output for the economy. In a command economy, where wages are set and desirable products may be in limited supply because the government doesn’t consider them important enough produce, there is not as much worker motivation.
Innovation for a Competitive Edge
A country with a market economy also has increased innovation. With money as the main motivating factor for firms and individuals, they look to create new products and technologies to generate higher incomes. In a market economy, firms and individuals are encouraged to innovate products because they provide a competitive edge. This is different than a command economy, where the government controls production, including supply and demand, so there is no reason for companies to compete. Innovation also leads to a variety of goods and services, which provides a wider selection for consumers. (For related reading, see: Why Innovation Is Crucial to Business Success.)