American Free Enterprise
Capitalism has become the economic system of choice in many parts
of the world because of its ability to generate wealth, just as it has for
Claire’s. Capitalism, as you have learned, is an economic system in which
private citizens own and use the factors of production to generate profits.
The U.S. economy is based on free enterprise. Under free enterprise,
resources are privately owned, and competition is allowed to flourish with a
minimum of government interference. We often use the terms capitalism
and free enterprise interchangeably, but they have different meanings. While
capitalism stands for the private ownership of resources, free enterprise is
the unhindered use of privately owned resources to earn profits.
Characteristics of Free Enterprise Capitalism
A capitalistic free enterprise economy has five important
characteristics: economic freedom, voluntary exchange, private property
rights, the profit motive, and competition.
Economic Freedom
Economic freedom means more than being able to buy the things you
want. It means that you have the freedom to choose your occupation, your
employer, and your job location. You can even leave your current job and
move on to another job that offers greater opportunity. Businesses also
enjoy considerable economic freedom. They are free to hire the best
workers, and they are free to produce the products they feel will be the most
profitable. Businesses can make as many items as they want, sell them
wherever they please, and normally charge whatever price they choose. In
short, they are free to risk success or failure.
Voluntary Exchange
A second characteristic of capitalism is voluntary exchange—the act of
buyers and sellers freely and willingly engaging in market transactions.
Voluntary transactions benefit both the buyer and the seller, or the exchange
would never occur. For example, when buyers spend their money on a
product, they act on a belief that the item they purchase is of greater value
than the money they give up—or they would not make the purchase. When
sellers exchange their products for cash, they believe that the money they
receive is more valuable than the product they sell— otherwise they would
not make the sale.
Private Property Rights
Another major feature of capitalism is private property rights, which
allow people to own and control their possessions as they wish. People have
the right to use or even abuse their property as long as they do not interfere
with the rights of others. Private property gives people the incentive to work,
save, and invest. When people are free to do as they wish with their property,
they are not afraid to accumulate, improve, use, or lend it. They also know
they can keep any rewards they might earn.
Profit Motive
Under free enterprise capitalism, people are free to risk any part of their
wealth in a business venture. If it goes well, they will earn rewards for their
efforts. If it goes poorly, however, they could lose part or all of their
investment. Profit is the extent to which persons or organizations are better
off financially at the end of a specific period than they were at the beginning.
The profit motive—the incentive that encourages people and organizations
to improve their material wellbeing—is largely responsible for the growth of
a free enterprise system.
Competition
Capitalism thrives on competition—the struggle among sellers to
attract consumers. Competition is possible because individual
entrepreneurs have the freedom to produce the products they think will be
the most profitable. Free enterprise capitalism allows competition to
flourish, benefiting both producers and consumers alike.
The Role of the Entrepreneur
The entrepreneur plays one of the most important roles in the free
enterprise economy. The entrepreneur organizes and manages land, capital,
and labor in order to seek the reward called profit. Entrepreneurs are the
people who start up new businesses such as restaurants, automobile repair
shops, Internet stores, and video arcades. They include people who may
have worked for others at one time, but who decided to quit and start their
own businesses. Entrepreneurs want to “be their own boss” and are willing
to take risks to make their dreams come true. Many entrepreneurs fail.
Others survive and manage to stay in business with varying degrees of
success. A few, and only a very few, manage to become fantastically
wealthy. Well-known entrepreneurs include Robert Johnson, founder of BET,
Bill Gates, who founded Microsoft, and Mary Kay Ash, who founded Mary Kay
Cosmetics.
Despite the high rate of failure among entrepreneurs, the dream of
success is often too great to resist. The entrepreneur is both the spark plug
and the catalyst of the free enterprise economy. When an entrepreneur is
successful, everybody benefits. The entrepreneur is rewarded with profits, a
growing business, and the satisfaction of a job well done. Workers are
rewarded with more and better-paying jobs. Consumers are rewarded with
new and better products. The government is rewarded with a higher level of
economic activity and larger tax receipts that can be used to build roads,
schools, and libraries for people not even connected with the original
entrepreneur. It does not stop there. Successful entrepreneurs attract other
firms to the industry who rush in to “grab a share” of the profits. To remain
competitive and stay in business, the original entrepreneur may have to
improve the quality of the product or cut prices, which means that
customers can buy more for less. In the end, the entrepreneur’s search for
profits can lead to a chain of events that brings new products, greater
competition, more production, higher quality, and lower prices for
consumers.
The Role of Consumer
Consumers have power in the economy because ultimately they
determine which products are produced. If consumers like a new product,
the producer will be rewarded with profits. If consumers do not buy it, the
firm may lose money or even go out of business. The term consumer
sovereignty recognizes the role of the consumer as sovereign, or ruler, of the
market. The phrase “the customer is always right” reflects this power. In
recent years, producers have had outstanding successes with products
ranging from video games to Internet search engines such as Google. Other
products—including “Crystal” Pepsi, celery-flavored Jell-O, and Dr. Care’s
aerosol toothpaste (which kids discovered they could spray around the
bathroom)—were rejected.
In addition, consumers’ wants change constantly as people are
exposed to new ideas and products. Today, Americans purchase more home
computers every year than TV sets, even though computers were barely
known just 25 years ago. They buy products all over the world and frequently
use the Internet to research products and make purchases. The dollars
consumers spend in the marketplace are the “votes” that give them a say in
what is, and what is not, produced. Because of this, consumers play an
important role in the American free enterprise economy.
The Role of Government
The role of government—whether national, state, or local—stems from
the desires, goals, and aspirations of its citizens. Government has become
involved in the economy because the citizens want it that way.
Consequently, government has become a protector, provider, regulator, and
consumer. In general, the role of government in the economy is justified
whenever the benefits outweigh the costs.
Protector
As protector, the United States government enforces laws such as
those against false and misleading advertising, unsafe food and drugs,
environmental hazards, and unsafe automobiles. It also enforces laws
against abuses of individual freedoms. Employers, for example, cannot
discriminate against workers because of their age, gender, race, or religion.
Provider
All levels of government provide goods and services for citizens. The
national government supplies a system of justice and national defense. It
provides subsidies to parts of the economy, such as agriculture. In addition,
it gives funding to state and local governments for some programs such as
road construction. State governments provide education, highways, and
public welfare. Local governments provide parks, libraries, sanitation, and
bus services.
Regulator
In its role as a regulator, the national government is charged with
preserving competition in the marketplace. It also oversees
communications, interstate commerce, and even entire industries, such as
banking and nuclear power. Many state governments oversee insurance
rates, while local governments regulate economic activity with building and
zoning permits. The regulatory role of government is controversial. Most
businesses do not like to be told how to run their affairs. Consumers,
however, do not always know when they are at risk from hazards, such as
potential poisoning from unsafe food preparation or false and misleading
advertising from some companies. As a result, they want the government to
monitor and regulate such activities.
Consumer
The tasks of protecting, providing, and regulating are expensive. All
levels of government, like any business, consume scarce resources to fulfill
their role. Government has grown so much in recent years that it is now the
second-largest consuming unit in the economy, after the consumer sector,
eclipsing spending by all private businesses combined. You will learn later in
this textbook how the government collects and spends the money required
to accomplish these tasks.
Modified Free Enterprise
Perhaps an unintended consequence of government’s role as
protector, provider, regulator, and consumer is the emergence of the mixed,
or modified free enterprise economy. In this economy, people and
businesses carry on their economic affairs freely, but they are subject to
some government intervention and regulation. Some people prefer to have
no government involvement in the economy, but this is not possible. After
all, some services, such as national defense and a system of laws and
justice, cannot be supplied by the private sector alone. Unfortunately there
is no clear answer to the question of how much government involvement is
necessary, but if it changes, it will be because the voting public wants it that
way.
