Capitalist Economy Vs Socialist Economy

Watsala Shakya

Capitalist economies and Socialist economies are economic systems countries use to manage and regulate economic resources in the nation. In reality, countries around the world predominantly use a mix of both the capitalist and socialist economy. For instance, Sweden is considered to be a socialist economy while the United States of America is considered to be a capitalist society from international standards, but neither are in full compliance with capitalism nor socialism, both the economies have blended the two philosophies that work for their own nation. The core principle that differentiates Capitalist economies from Socialist economies is the extent of government intervention. While, that is not the only principle that separates the economies, to understand the other areas where the philosophies behind the two economies part way, it is essential to understand what and how Capitalist economy and Socialist economy functions.

What is a Capitalist Economy?

A capitalist economy is a free market where market forces organize the whole economy. In this sort of economic system, in with the factors of production of all sorts such as capital goods, labor, natural resources, and human capital, are regulated and monitored by private businesses. The private businesses are able to own and control ‘properties’, which are the factors of production. These business can act on their own accord with their individual interests, to this demand and supply set prices in the market that caters to the interests of the society. Although many economies today function based on capitalism, while not all may fully comply with the principles of capitalism. However, during the last century, socialist economy was the economic system that dominated countries.

In order to reach a deeper understanding of what a capitalist market acts like, it is vital to understand the essence of capitalism – profit making motive. The father of modern economics, Adam Smith had said the world does not run on the kindness and benevolence of others, it is actually our own interests that keeps us going. Buyers and suppliers bring their own interests in an exchange or transaction and wish for the outcomes to be in line with their interests even if it means the other party in the exchange does not meet their desired outcome. This is the rational self-interest that brings economic prosperity, as believed by philosophers of capitalism. The foundations of capitalism are:

  1. Private property
  2. Self-interest
  3. Competition
  4. Price mechanism
  5. Independent consumers
  6. Free trade
  7. Government interference
  8. Flexible labor markets

Perks of Capitalist Economy

  1. Producers in a capitalist economy are motivated to produce the best of their capacity due to this profit driven mechanism and ability to hold private property. In this type of economy, investors find opportunities to invest in profitable projects, this in turn also provides motive to produce more, not in the interest of the public but because of their interests .Therefore, in this mechanism economic growth is higher.
  2. Private businesses are capable of owning all resources and factors of production, which means private businesses are able to use these in the most productive way which results in optimum utilization of resources.
  3. In this kind of economy, even consumers benefit. Consumers are free to choose products and services as desired among a wider range of commodities. Since capitalism encourages competition producers strive to better their production, consumers therefore are able to consume the best.

Pitfalls of Capitalist Economy

  1. Capitalist economies provide means for growth, however, it creates equal opportunities to widen economic inequality in countries. This may lead to social injustice as the gap between the haves and the have-nots widen.
  2. Misallocation of resources and factors of production is a risk that persists in this type of economy. This may lead to higher production of luxury good instead of necessary goods. This assists in further widening the gap between the haves and the have-nots as resources only reach the haves as they possess the ability to purchase expensive commodities, while not everyone in a capitalist economy may be equally fortunate.
  3. Private businesses tend to indulge in promoting and selling their production, which uses huge amounts of resources and factor of production. This is a waste of resources.

Why Capitalism?

Companies are driven by motivation for profit under Capitalism. In small businesses, owners and managers are usually the same but as businesses grow and expands with time, the owners may hire managers that may not have any ownership stake in the firm. At these times, the managers are called the owners’ “agents” and with this a separation between ownership and management comes to exist. While the management performs complex tasks which extends beyond making profits, the tasks and responsibilities of owners lie with bringing growth, stability, direction and maintaining daily operation of the business. All in all, a capitalist economy operates with the goal of the maximizing shareholder wealth.

In addition, under capitalism, the government’s role is vital, although the principles of capitalism may indicate the intervention of government is minimal. But, the government in fact performs the role of enforcing laws and regulations to make sure there privately businesses are ethical and are operating in a fair manner. This reduces the potentials for abuse in that industry.

Some models of Capitalist economies around the world are Hong Kong, United Arab Emirates, Singapore, New Zealand, Australia, Canada, Switzerland, United Kingdom, United States of America and Ireland.


Business Cycle and Its Various Stages

10 Key Macroeconomic Indicators That Investors Should Look Into Before Investing

What is a Socialist Economy?

A Socialist Economy is an economic system in which the factors of production, such as human capital, capital goods, labor and natural resources, are regulated and monitored by the public, which means the state regulates and monitors on behalf of the people. Under socialist economies, every person of the state or the government has to work for the resources and factors of production, which is then equally distributed to them by the government. Therefore, we can see the government intervention is high in this type of economy. The government aims to provide the best to all of its people equally. For this, socialist economies operate with the principle of acting on what is best for all and decides on the method that will be most efficient when distributing wealth among public institutions.

In theory, socialist economies provides a restricted free market in comparison to capitalist economies, due to this, taxes collected in such economies are higher that of socialist economies. This is because the state or the government is responsible for providing the people with the services such as education, healthcare, among others.

The pillars of socialist economy are:

  1. Collective ownership
  2. Equality economically, socially and politically
  3. Economic planning
  4. No competition
  5. Significant role of the government
  6. Allocation based on needs and ability
  7. Maximum social welfare

Perks of Socialist Economy

  1. In Socialist economy, wealth is equally distributed among the entire population. This results in almost no social inequality, which means the gap between the haves and the have-nots are closed or almost closed. This reduces relative poverty.
  2. Since the gap between the haves and the have-nots is narrow, social stability can be found. Socialist economies provide the same universal basic facilities like education, healthcare, and also provide basic income based on what the individual person requires from the tax collected.
  3. The philosophy of socialist economy is people- oriented, which is to say, it gives great importance to humans, therefore, it emphasizes on providing grater rights for humans, for their workers and their people. Workers are protected from exploitation with strict laws by the government.

Pitfalls of Socialist Economy

  1. In Socialist economies, the idea is based on the assumption that every person in the economy will work in unity, but the reality may be far from the expected. If there is no guarantee that people will work toward the same goals with cooperation, this economy will not operate as expected.
  2. The government holds absolute power, which may be abused at times. Since the government decides on how wealth is distributed, a corrupt government could result in unequal distribution of resources.
  3. Socialism does not encourage competition, and without competition the need of innovation is not realized. Therefore, businesses or institutions may not be interested in improving their production nor innovating new productions.

Why Socialism?

Socialism was first mentioned in the book “Communist Manifesto” by the philosophers Karl Marx and Fredric Engles. The word meant that all men were equal. Under socialism, the workers of the economy in industries, agriculture, transport and other sectors become the joint owners of the wealth or resources and the factors of production. Both the workers and the individual workers work collectively in an integrated process of production.

In addition, the goal of socialist economy is to neutralize capital, to coordinate the production of goods and services, and to directly satisfy demand of all people in the economy. It also aims to eliminate the business cycle and crises of overproduction that occur as a result of an economy based on owning capital as well as resource accumulation and owning private property.

Cuba, North Korea, and the former Soviet Union are examples of countries that have socialist economies. On the other hand, China maintained a command economy for decades before transitioning to a mixed economy with features of both communist and capitalist economies.

From The Author:

What Is Money? Creation & Evolution Of Money

Fiscal And Monetary Policy: How They Influence Economic Development?

(Liked this article??? If you are also interested in publishing your articles related to business, finance, and economics, then mail us your article at


Investopaper is a financial website which provides news, articles, data, and reports related to business, finance and economics.

Leave a Reply

Your email address will not be published.

error: Content is protected !!