I took my first college economics course in 1969. One of the topics in the course was about alternative ways a country can organize its economy. Since my wife will tell you one of my passions is organization – for example, I have to have my books and folders all at right angles on my desk – this was likely the subject that most “hooked” me on economics.
Indeed, how a country organizes its economic transactions is one of the key decisions a nation must make, and this decision may be up for debate in our country. Although the U.S. has long been considered primarily a “capitalist” country, recent polls show more young people under 30 favor socialism.
So what exactly is capitalism and socialism, and what are their pluses and minuses?
Capitalism – also known as the free-market or “laissez faire” (pardon my French) – means the economy is organized around the private ownership of resources and the unregulated and free interaction of resource owners in economic relationships. Businesses decide what to make and sell based on their perceptions of what people want. A business’ objective is for the earnings from sales to exceed costs – resulting in a profit. Some individuals freely invest in businesses and become owners, while other individuals agree to work for businesses as employees.
One key to capitalism is the determination of prices through the interaction of supply (production) and demand (buying). Prices change as costs change, but they also change as the popularity of the product changes. More people wanting to buy a product will increase its price, while fewer people interested in purchasing a product will decrease its price.
Another aspect of capitalism is competition. Workers compete for jobs and incomes, and businesses compete for raw materials and workers, and for sales. Workers who have more scarce and more valuable skills to companies are paid more, while those with less productive capabilities earn less.
Supporters of capitalism say its focus on profits encourages efficiency and reduces waste. Backers also argue the system motivates individuals to work hard and acquire a needed skill because those effort leads to better income. Businesses in a competitive capitalist system will be fast to implement new technologies and products to accommodate quick changing markets. Fans of capitalism say all these benefits lead to higher standards of living.
In some ways socialism has developed to address the perceived downsides of capitalism. In particular, one of the common complaints about capitalism is the result of unequal outcomes. Workers will not earn the same. Instead, those who contribute more to the company because they have better talents, training or decision-making will earn more. Likewise, profit rates will vary across businesses, and downsizing and perhaps even closure of weak businesses looms as a constant threat.
At its core, socialism means economic decisions are transferred out of private hands (individuals, companies) to public hands – usually meaning government. Social Security is a good example. A public body (Congress) created the program, government enforces collecting taxes to fund the program, and formulas determine how much each person receives upon retiring. Individuals have no say over how much they pay or how much they get – except indirectly through their elected officials. Many other programs like Medicare, Medicaid and Food Stamps can be considered similar social programs.
However, socialism can be taken further – and has been in some countries. Control of private companies can be transferred from shareholders, boards of directors and CEOs to government appointees or representatives of labor unions. Rather than prices – including wages – being set in the marketplace through supply and demand, they can be directly set and controlled by government officials and agencies.
The philosophy of socialism is that, while capitalism and private decision-making do great things, that system doesn’t see the bigger picture because it’s focused mainly on one objective – profits. So to consider more than profits, supporters of socialism want to add forms of public decision-making to the economy.
There is a middle ground between capitalism and socialism which many say best describes the modern U.S. economy. It’s called the “mixed system” or “mixed economy”. Here, economic decisions are still mainly lodged with individuals and businesses. Companies and corporations are controlled by proprietors, partners, shareholders, private directors and CEOs. Prices are primarily freely set in the marketplace.
But the government is involved to provide for and protect individuals. Examples include the social safety for low-income households, Social Security and Medicare for retirees, financial support of education, rules about conduct in competition and approvals for pharmaceuticals.
Of course, people can argue about the levels and forms of support in these programs, and they do. For example, there’s a debate now about whether various poverty programs should be collapsed into simple income grants.
The big question is whether we essentially want private decision-making but with a government support system for some of the downsides of those decisions, or do we want a system of expanded public decision-making in more aspects of our lives. It’s a question that’s intrigued me for fifty years, and one that we collectively decide in almost every election.
Mike Walden is a William Neal Reynolds Distinguished Professor and Extension Economist in the Department of Agricultural and Resource Economics at North Carolina State University who teaches and writes on personal finance, economic outlook and public policy.