In a market economy, the decisions concerning production, investment and distribution are usually guided by the anticipated market price signals generated by the elastic forces of demand and supply. This means that changes in consumer spending patterns, for example, are translated into corresponding changes in prices. Thus, decisions about how to allocate capital and labor are intimately linked to the overall direction of market prices. Thus, even if demand shifts abruptly from one area to another, it does not result in a corresponding reduction in the total amount of investment or production. Prices, on the other hand, respond to the level of employment, income growth or unemployment, causing changes in the amount of employment and total investment necessary to keep current output levels equal to the potential level of output.
The existence of a large number of individually-centered actors also supports the fact that the allocation of economic resources is not governed solely by raw economic considerations. Although market economies are characterized by diffuse coordination among diverse economic units, the existence of a large number of such actors also tends to centralize decision-making processes, resulting in less democratic control over economic policies. Decision making in the market economy relies on the ability to make accurate estimates of risks and the possibility of losses based on knowledge of the current state of the total market, including both risks associated with the existing and prospective state of the underlying goods or services markets. Market-oriented decision making relies on the ability to identify the likely impact of changes in prices on the volume, quality and availability of goods and services and the extent to which these changes will affect the balance of payments between domestic and foreign creditors and borrowers. Market-oriented economic systems also rely on the ability to accurately measure external factors that can have a profound impact on the market economy. These include political, institutional and financial constraints, the existence and duration of adverse credit circumstances, the availability of adequate substitutes for specific economic goods and services, and the ability of governments to successfully run budget deficits.
Humans are not well-designed to be self-interested agents. For example, if all of us were interested in achieving our ends, the results would probably be self-interest driven. However, the results of economic activity are not always self-interest driven. They can also be determined by the conditions of supply and demand in relation to the existing and potential motivations for action.
The basic concept of the market economy is that the buying and selling of goods and services take place within a market economy. A market economy exists when there are sufficient goods and services for everyone to reasonably obtain the items they need for personal use and consumption. A market economy also allows businesses to exist and to make a profit. There are two forms of this concept. One is classical liberal market economy, which assumes that each person has the freedom to engage in economic activity to the fullest extent possible within the framework of a free and open society. The other is modern liberal market economy, which assumes that individuals have a responsibility to contribute to the overall well-being of society in the way that they choose to participate in the economic process.
Classical liberal economic theory believes that individuals and their choices are the driving forces of the market economy. The classical liberal also believes that individuals have a responsibility to contribute to the overall well-being of society in the way that they choose to participate in the economic process. In other words, classical liberal economic theory believes that individuals are economically responsible for both demand and supply of goods and services. On the other hand, a market economy allows for a command economy, which is basically an economy where the government controls the distribution of goods and services based on some pre-set principles or standards.
In a market economy, demand and supply are the central factors determining prices. Prices are determined by demand and supply, since the supply cannot increase unless the demand does as well. If the demand for certain goods and services is increasing, then the price of those goods and services also increases. However, this is not necessarily true for all cases.
Market economies promote competition and discourage hoarding. A basic rule of economics states that consumers will always want more of a product if it is cheaper than that same item is sold in other markets. A similar rule applies to physical products as well. For instance, most people prefer to buy items which are readily available at the gas station rather than buying goods from Wal-Mart which requires miles upon miles of driving to get to the store.
Market economies also generate a surplus, or surplus of resources which are then used for public purposes. The concept of surplus is especially important in modern day economic theory, which is heavily influenced by utilitarianism – the belief that the good of the human race is infinitely better than anything that can be produced or created in any amount of time. In a market economy, surplus production occurs when the production of a good exceeds the demand for it. In the United States, this concept plays out in the form of federal loans and grants for research and education, along with various other public goods and services.