insafresearchwinsafresearchwin       Insaf Research Wing Pakistan Tehreek-e-Insaf          IRW                           I...
Committee on Economics                                                Pakistan Economic Research ReportInsaf Research Wing...
Committee on Economics                                               Pakistan Economic Research Report                    ...
Committee on Economics                                                Pakistan Economic Research ReportExecutive SummaryPe...
Committee on Economics                                                 Pakistan Economic Research ReportAcknowledgementsTh...
Committee on Economics                                                     Economic Research: Pakistan                    ...
Committee on Economics                                                       Economic Research: Pakistanof minerals. In th...
Committee on Economics                                                      Economic Research: Pakistanlate 1970’s. The un...
Committee on Economics                                                   Economic Research: PakistanThe 1971 saw a return ...
Committee on Economics                                   Economic Research: PakistanConflicts of interest in literally eve...
Committee on Economics                                                     Economic Research: Pakistan                    ...
Committee on Economics                                                    Economic Research: Pakistanpredicted that the st...
Committee on Economics                                                   Economic Research: Pakistanintended to function f...
Committee on Economics                                                      Economic Research: Pakistanconfident growth of...
Committee on Economics                                                     Economic Research: PakistanNational expenditure...
Committee on Economics                                                       Economic Research: Pakistan         interest ...
Committee on Economics                                                     Economic Research: Pakistanhand, would get invo...
Committee on Economics                                                     Economic Research: Pakistangovernments while co...
Committee on Economics                                                      Economic Research: Pakistan         for firms ...
Committee on Economics                                                   Economic Research: PakistanThe advantages of the ...
Committee on Economics                                                  Economic Research: Pakistan            This is bec...
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Pak economic

  1. 1. insafresearchwinsafresearchwin Insaf Research Wing Pakistan Tehreek-e-Insaf IRW Insaf Research Wingginsafresearchwinginsafresearch Central Secretariat Street No. 84,winginsafresearchwinginsafresea Finding solutions for a better Pakistan Sector G-6/4, Islamabad, Pakistan. Tel: 92-51-2270744rchwinginsafresearchwinginsafre Fax: 92-51-2873893 irw@insaf.pksearchwinginsafresearchwinginsafresearchwinginsafresearchwinginsafresearchwinginsafresearch Pakistan Economic Research Reportwinginsafresearchwinginsafresea An analysis of the Pakistan’s Economy along with other countriesrchwinginsafresearchwinginsafre 08 June, 2010searchwinginsafresearchwingins Author: Asad Mahmood Committee: Economicsafresearchwinginsafresearchwin Dossier # 001 Version # 001ginsafresearchwinginsafresearch Nature of Document: Reportwinginsafresearchwinginsafresearchwinginsafresearchwinginsafresearchwinginsafredisciplinejusticehumanityequalityfaithpietydisciplinejusticehumanityequalityin
  2. 2. Committee on Economics Pakistan Economic Research ReportInsaf Research Wing (IRW) is a part of Pakistan Tehreek-e-Insaf (PTI) reporting to the secretary general. IRWwas created in 2009 to carry out research in order to find solutions for problems in Pakistan. The foremost goalof IRW is to keep people of Pakistan and PTI informed and prepared.The wing is composed of 9 committees. Each committee addresses issues related to its field of expertise. Thecommittees defined as of yet are (i) Socio-Political (ii) Information & Technology (iii) Economic (iv) Energy(v) Healthcare (vi) Corruption (vii) Foreign Affairs (viii) Education (ix) Environment.The research reports/papers are either commissioned by the central executive committee of PTI or committeemembers of IRW. PTI members can also suggest IRW to consider researching on a matter they find important.IRW welcomes any contributions in the form of scholarly work addressing important issues. Nevertheless, afterthe author(s) sends the document it is peer reviewed before getting published. In the process of peer reviewthe document is technically analyzed and scrutinized. The procedure is necessary to maintain quality control.However, varying opinions & ideas are not penalized.Apart from working on research reports/papers which shed light on problems and provide basic solutions, IRWaims to act as a conduit to the shadow cabinet and/or spokespersons aiding them with the task of preparingextensive policies for PTI. These inputs are from several professionals who are well versed in the subject. IRWalso serves as a check on the reigning government’s policies.The Wing does not follow a preset ideology while carrying out research. IRW does not endorse any opinionpresented in a published report/paper as an official position. Likewise, several research reports/paper on asimilar subject published by IRW can have contradictory recommendations though it should be noted thatthese point of views are sole responsibility of the author(s). Very rarely when there is a complete consensuson a certain research report/paper within IRW only then it is recommended to PTI for official perusal. Anypublished document by the wing does not constitute it as an official position of PTI unless otherwise stated.Insaf Research Wing works at a national level but its members are located throughout the world bringing in themuch needed international experience. IRW practices an open membership policy valid for all Pakistanisregardless of religion or race. Nevertheless, members of other nationalities from international organizationsinterested in helping Pakistan are always welcome to join IRW.Published reports of IRW can be accessed on the website. The headquarter of IRW is located at PTI’s CentralSecretariat, Street No. 84, Sector G-6/4, Islamabad, Pakistan.Copyright © 2010 by Pakistan Tehreek-e-Insaf All rights reserved.The contents of this report/paper cannot be reproduced without prior permission of IRW. 2Insaf Research Wing
  3. 3. Committee on Economics Pakistan Economic Research Report Table of ContentsExecutive Summary 4Acknowledgements 51.0 Chapter 1: Introduction 6-7 1.1 Background Information 7-9 1.2 Research Aim and Objectives 9-102.0 Chapter 2: Functions of an Economy 2.1 Making of an Economy 11-12 2.2 Economic Growth 12-14 2.3 Monetary & Fiscal Policy 14-16 2.4 Types of economic systems 16-20 2.5 Parameters of economic growth 20-22 2.6 Arguments against and for privatization, regulation and deregulation 22-233.0 Chapter 3: Different Economies and Systems 3.1 Key factors behind the economic success of Southeast Asian economies 24-26 3.2 Key economic drivers of Nordic countries 27-29 3.3 Research on Venezuelan economy 30-31 3.4 Poverty Reduction Initiatives 31-32 3.5 Hugo Chavez economic policies 32-344.0 Chapter 4: The Banking System 4.1 Islamic Banking 35-36 4.2 Role of World Bank, IMF, the Paris Club, Asian Development Bank (ADB) 37-40 4.3 Role of EU, NAFTA, GCC 40-435.0 Chapter 5: Current Pakistani Economic State 44 5.1 Manufacturing Industry 45-47 5.2 Services Industry 47-48 5.3 Agriculture Industry 48-50 5.4 Tourism Industry 50 5.5 Role of Foreign Aid 50-516.0 Chapter 6: Recommendations 52-56Bibliography 57-58Appendix 59-61 3Insaf Research Wing
  4. 4. Committee on Economics Pakistan Economic Research ReportExecutive SummaryPericles, head of the Athenian state, member of the democratic party, statesman, political philosopher and theranking member of the board of generals, eloquent about the threats to ancient Athens at the height of itspower around the year 461 B.C., said “what I fear more than the strategies of our enemies is our ownmistakes”. Indeed Pericles was right: our enemy is our own mistakes. The strategies we employ will, in the enddecide our fate.The incumbent Pakistani governments consistent mistakes threaten to harm ourselves and those associatedwith us. At a time when, Pakistan should be expanding the base of public spending, firmly taking control overits financial institutions, national resources and industries and enlarging public employment opportunities, thecountry has gone in to reverse to relinquish national development plans and hand over the economic decisionmaking to the private banking, foreign companies and multinational corporations. A shame for a country of170 million people blessed with natural resources both capital and land.The aim of the report is to analyze the current Pakistani economic state and provide guidance towards a socioeconomic policy in line with the manifesto of the party. An extensive secondary research was carried outexamining and presenting various viewpoints. The development challenges for Pakistan include a completeoverhaul of the current economic system. To achieve accelerated and sustained broad-based economic growthan economic emergency should be declared, a five year Keynesian measures should be implemented, that ispublic ownership of key industries and undertaking key infrastructure project in transport, oil gas and mineralsand telecommunication sectors. For the rural areas focusing on the important agriculture sector taking in toaccount water management, infrastructure development, livestock and fisheries. Chairman Khan hasannounced an education emergency when PTI comes in to power; the author believes an economic emergencyof the same kind should also be considered.The analysis of the various economic systems and countries highlighted the need for an economy comprising ndof 3 tiers: tier 1, a self supporting economy comprising of agricultural and manufacturing, 2 tier consisting of rdservice based economy incorporating leisure & tourism, banking, arts and entertainment, 3 tier intellectualbased economy focusing on science and technology, armament, space, medicine and genetics.The fact of the matter is that Pakistan urgently needs an alternative path of political development. It needsradical progressive economic planning compatible with the emerging revolutionary models being initiated inseveral countries in Latin America, notably Venezuela. In short Pakistan needs to deliver viable economicprograms to its general masses and restore its cultural edifice with its ideal historical values of collectivecommunity development, social harmony, heritage, justice and enactment of the principles of a welfare state. 4Insaf Research Wing
  5. 5. Committee on Economics Pakistan Economic Research ReportAcknowledgementsThe original idea of the report transpired through the formation of Insaf Research Wing (IRW) conceptualizedby Mr. Ali Hammad Razza. The inception of the economic committee led to invigorating discussions aboutvarious issues affecting the Pakistani economy. This led to the realization of researching an analysis of variousfactors, which affect the Pakistani economy and the wider exploration of the field of economics.Preparation and completion of this study was a challenging and an invigorating experience, as some of thecommittee members did not have prior familiarity to the field of economics or the study of this depth. Alongthe way personal difficulties led some committee members to curtail their involvement. However I would liketo thank the IRW members for their valuable suggestions.The economic committee would also like to express thanks to their family and friends for their support,encouragement, constructive criticism and suggestions throughout the course of the research work.Lastly it is hoped that this report will be used in stimulating thought, self reflection and valuable discussionamongst Central Executive Committee (CEC), PTI members, academics and provide as valuable a learningexperience for them as it has for the author. 5Insaf Research Wing
  6. 6. Committee on Economics Economic Research: Pakistan each zone with manageable community andChapter# 1: population size, its own state funded hospital, health service clinics, elementary and high schools,Introduction local judicial courts, police and an efficient transport and communication infrastructures. However after eight years of General Mushraf’s rule, incessant preaching of enlightened1.0 Introduction moderation and the non-stop blowing of trumpets of an economic recovery miracle the Pakistani nation stands today at the verge of an economicIslamic Republic of Pakistan is located in South Asia disaster.4and borders Central Asia and the Middle East. It has The state of the Pakistani economy can somewhata 1,046 kilometre (650 mile) coastline along the be compared to the state of the European countriesArabian Sea and Gulf of Oman in the south, and is notably Britain which was ravaged by two majorbordered by Afghanistan and Iran in the west, the world wars. After the Second World War, BritainRepublic of India in the east and the Peoples had emerged effectively bankrupt, with anRepublic of China in the far northeast. Tajikistan overstretched economy and massive popularalso lies adjacent to Pakistan but is separated by 1 expectations of economic and social improvement.the narrow Wakhan Corridor. Pakistan is a 5federation of four provinces, a capital territory andfederally administered tribal areas. The estimated The famous economist J M Keynes persuaded thepopulation of Pakistan is 172,800,000 making it the British policy makers of a big programme of post-worlds sixth most-populous country.2 With a war social reform, and a phased liberalization ofgrowing population and limited resources the international trade and payments. Keyneseconomic challenges for Pakistan are immense; demonstrated that the unemployment ratemoreover these challenges are intertwined with depended upon the level of aggregate demand, thevarious geopolitical factors. sum of total consumption and total investment. His remedy to reduce mass British unemployment wasThough the Pakistani administration claims that to expand investment by a programme of publicpoverty has decreased from 33% to 25%, several works, which would create additional consumptioninternational organizations reports indicate that 3 by the workers employed and further waves ofpoverty has in fact risen to 37%. Evidently the consumption and investment as new incomes wereadministration is simply manipulating the numbers. generated and additional expenditure made at eachFor example Lahore is a city of six million people. It round. The Labour governments of 1945-1951has a single state-run general hospital that provides enacted a political programme rooted intreatment to patients with neuro-surgical ailments. collectivism including the nationalisation ofThe sick from Lahore, the surrounding areas and far industries and state direction of the economy.off villages in Punjab suffer the indignities of theovercrowded wards and inadequate facilities of the Economists conventionally divide industry (thehospital. In the context of the contemporary needs production of goods and services for financial gain)of the masses, political correctness and a in to primary, secondary and tertiary sectors. Theprogressive socio-political ideology, the political primary sector is concerned with growing orestablishment of Pakistan should be planning urban extracting natural products and includesand rural development based on zonal structures – agriculture, fishing forestry, mining and extraction1 Encarta Encyclopedia 2000 4 Dr H Mehdi (2007) The Nemesis, political articles &2 Population reference Bureau - www.prb.org analysis, Lahore, Heritage Publications3 5 Dr H Mehdi (2007) The Nemesis, political articles & Alan Booth (2001) the British economy in theanalysis, Lahore, Heritage Publications twentieth century, London, PalgraveInsaf Research Wing 6
  7. 7. Committee on Economics Economic Research: Pakistanof minerals. In the secondary or manufacturing products at higher efficiency levels. The reason forsector, raw materials are processed in to physical the German advantage in these cases resulted lessgoods so they acquire added value. Everything else from vocational skills but from higher attainment infalls within the tertiary sector, which is concerned mathematics at school and continuing educationwith the supply of all forms of service.6 These that enabled German workers to operate computerdistinctions are useful, but the boundaries are not controlled machines that could not be used in 8always clear, especially between manufacturing Britain. These studies were small in scale andand services. As economies develop, the primary generally have unknown relevance to the widersector becomes relatively less important in terms ofoutput, though actual output may continue to Although fascinating studies but one should notgrow. The tertiary sector made the biggest single forget they are small in scale, do not control for thecontribution to output growth in most developed state of market demand and have unknowntwentieth century countries. relevance to the wider twentieth century. But what they do show is unequivocal link betweenThe importance of human capital formation to the education, training and productivity.processes and pace of economic growth isfundamental. For example, the high level of skill For Pakistan the basic economic infrastructure isamong manual workers was a decisive advantage in there however lack of governance and skilledBritain’s industrial revolution and the shortage of workers is one of the biggest obstacles. With a PTIskilled workers in those countries seeking to follow government the key will be establishing an expatBritain’s lead was almost certainly a decisive skills department within each Pakistani highdisadvantage. However Britain’s advantage in the commission in Western Europe, Japan, America andmid twentieth century sharply declined and during the tiger economies of Southeast Asia. These expatthe phase of high unemployment in the 1970’s skills department will be further subdividedmany manufacturing companies complained that according to various fields i.e. medicine, mechanicalthey could not fill vacancies for skilled and technical engineering, poverty alleviation, finance, banking,workers. In their study of matched (by type of leisure & tourism etc. Mass recruiting of keyproduct, size of firm, scale of production) firms in individuals with experience and relevantthe British and German machine tools industries, educational qualifications should then be soughtDaly and colleagues (1985) found that Germans and their skills matched in reforming variousproductivity levels were 50-80 percent higher than segments of the Pakistani economy.British. The authors identified three basicdifferences between firms in the two countries.German firms used more production engineers to 1.1 Background informationensure that workflows and handling equipmentwere fully utilized. German supervisory staff tendedto be better qualified than British at ensuring that The twentieth century saw a major expansion ofthe machines were properly set up and used for the the role of government both as a producer of goodsappropriate tasks and that workers were and services and as a regulator and stabilizer of theadequately directed. Finally German firms had 7 national economy. The Western world has come aproportionately twice as many skilled workers. In a full circle in their economic approach. Controversysimilar comparison of matched firms in the raged for many years in the economic world overfurniture trade, German firms made higher quality the proper role of government in an economy and6 Prais, S. J. 1995. productivity, education and it was especially fierce during the twentiethtraining: an international perspective, Cambridge, century. Left to its own devices the miracle of freeCUP7 Daly, A. D.M.W.N and Wagner, K (1985) market economic was widely triumphed since theProductivity Machinery and Skills in a sample of 8British and German Manufacturing Plants: results of Alt, J and Chrystal A 1983. political economics,a pilot enquiry’ NIER, 111: 48-61 Brighton, WheatsheafInsaf Research Wing 7
  8. 8. Committee on Economics Economic Research: Pakistanlate 1970’s. The unbridled and unregulated western factionalism inside the political parties also dividedeconomies however came close to a meltdown party politics along regional lines. While the Awamibeginning 2007 and came to rely on government league concentrated its efforts in East Pakistanfor massive bailouts. The state’s role as the only (now Bangladesh) the Muslim league dominatedpowerful force to reverse the present decline now the politics in the western wing of the country.remains unchallenged. Such political factionalism led to frequent dismissal of governments. From 1947 to 1958 Pakistan hadWhilst the western world comes to term with the seven prime ministers and eight cabinets. 10present economic crisis and governments praised Furthermore the extravagant and viceregalfor their decisive action to stabilize the market behaviour of the political elite set it apart from thesystem. A complete opposite remedy is being common people. The civil bureaucracy was asprescribed to the Pakistani government to cure its powerful as in India. The main difference, however,economic ills namely privatization and massive between the two civil bureaucracies was in theirloans. approach to military power and political control. While the Indian civil bureaucracy recognised andSince Pakistan’s inception in 1947, the military accepted the dominance of the politicians andgained prominence in the state apparatus as a established control over the armed forces throughresult of the first war with India. After the death of strengthening of the ministry of defence (MoD),the founding father, Jinnah, in 1948, Pakistani Pakistan’s civil bureaucracy chose to partner withpolitics was riddled was the problem of the bureaucracy – represented by a bureaucratfactionalism. The political contest took place on turned politician Ghulam Mohammad, the governorthree fronts: general during the early 1950’s viewed the military - Amongst the various political groups for as a junior partner capable of keeping the raucous the control of the state. politicians at bay. The governor general’s trust lay - Between the civil and military bureaucracy more in the army generals than the civilian prime and the political class ministers. 11 To make itself more relevant for the - Between the military and other dominant state, the military strengthened itself institutionally civilian actors. through enhancing its control over defence andOne of major cause of the debilitating state of the foreign policy making. The political leadership wasPakistani economy is the continuous bickering of far too fragmented to establish control over thethe dominant political leadership in the country. military and issues of national security. The seniorFor instance, Liaquat Ali Khan, the country’s first generals especially Ayub Khan, who was the firstprime minister manipulated politicians in the army chief, insisted that the defence matters were 12Punjab in his interest. However, when confronted the military’s forte. The political conflict betweenwith the situation of losing control of the largest the political and military leadership finally ended inprovince to a dominant leader of the Muslim league the first takeover by the army in 1958. The yearsin the Punjab, Mumtaz Daultana, Liaquat Ali Khan from 1958-1971 saw a crucial transformation in civilconnived with the governor general to dissolve the military relations, during which the armyassembly and bring the province under the direct established itself as the key political force.control of the central government. This situationcontinued for two years until the elections in March1951.9 10 Abbas Hassan (1979) the state in post colonial societies: Pakistan and Bangladesh in harryThe first constitution was promulgated in 1956, goulbourne (ed), politics and state in the third world,nine years after the country’s creation. The Hong Kong, Macmillan 11 Clloughly B (1999) the history of Pakistani army, Karachi, Oxford University Press9 12 Ayesha Siddiqa (2007) Military INC, inside Ayesha Siddiqa (2007) Military INC, insidePakistan’s military economy, London, Oxford Pakistan’s military economy, London, OxfordUniversity Press University PressInsaf Research Wing 8
  9. 9. Committee on Economics Economic Research: PakistanThe 1971 saw a return to democracy after the involved in profit making activities. Together withhumiliating loss by the army of East Pakistan. other major economic players such as the House ofDespite the majority won by Rehman’s Awai league Habib Ittefaq Group of companies, Hashoo group,in the elections of 1970, the west Pakistani Dawod Group and the feudal lords, such as Sethestablishment which included the military and Abid, Ghulam Mohammad Mehr, Ghulamother dominant classes was uncomfortable with Mustafa, Asif Ali Zardari etc. (Shahid ur-Rahman,the idea of transferring power to the Bengalis, who owns Pakistan) Thus what emerges is a 13whom they considered ethnically inferior. quagmire of interrelated interests between the political, military, landed feudal and the industrialFrom 1971-77, Zulfiqar ali Bhutto’s rule saw class. The much-tooted economic growth ofrestoration of confidence in Pakistani people, Pakistan is linked with the changing fortunes ofnationalization of industries, land reforms and most these ruling elites and not the common man miredimportantly setting the country towards the path of in poverty.becoming a nuclear power. To his critics howeverBhutto was like a Machiavellian prince, as he triedto maximize his power through adopting a dualapproach of propagating populist measures and 1.2 Research Aim and Objectivescoercing other players. From the standpoint ofBhutto’s relationship with the military he made theblunder of miscalculating the resilience of the This research papers aims to understand and studyarmed forces in thwarting the strategic changes he the various economic factors necessary forhad brought about in their management. The economic growth and then correlating that tomilitary capitalized in Bhutto’s dependence on provide guidance towards the formation of a socio-military force for building his personal political economic policy for PTI.power. It emerged from the ashes of 1971sufficiently strengthened for another takeover in The introduction mentioned development of Britain1977. and other European powers ravaged by the two world wars came out with a complete overhaul ofThe period from 1977-88, 1988-99 and 1999-2005 their socio-economic system. Analyzing thesesaw martial law, period of unstable democracy and changes, together with investigating differentthen back to another coup in 1999, until 2007 when economic models and theories in order to provideelections were held again following the PTI members a beforehand knowledge of theassassination of Benazir Bhutto. problems with the current system and their actual solutions is the aim of this study. It would alsoThe military in Pakistan is a formidable political serve as a check on the current governmentsplayer with greater influence than any other actor. actions on the accounts of economy.For example the military’s internal economy isoperating at three levels and in three segments of For the purpose of this study, relevant areas werethe economy, agriculture, manufacturing and the researched from the plethora of informationservice sector through their main four subsidiaries available. This study entailed the use of– the Fauji Foundation (FF), Army Welfare Trust interpretative approach that is; it is the people who(AWT), Shaheen Foundation (SF) and Bahria construct their own reality. As study of humanFoundation (BF). Moreover there are also three nature has always been complex due to the ficklemajor public sector organizations National Logistic nature of human beings.Cell (NLC), Frontier Works Organization (FWO) andSpecial Communication Organization (SCO) directly The analysis of the current Pakistani economic state showed up a dire state of affairs: inadequate13 Ayesha Siddiqa (2007) Military INC, inside infrastructure, mass unemployment, double-digitPakistan’s military economy, London, Oxford inflation, rampant corruption, crony capitalism etc.University PressInsaf Research Wing 9
  10. 10. Committee on Economics Economic Research: PakistanConflicts of interest in literally every industry havecrippled economic growth; injection of foreignloans, aid and remittances from overseasPakistani’s are currently keeping the economicsystem afloat. The state of the Pakistani eliterunning the economy can be co-related with whatan American cultural anthropologists CliffordGeertz asserted; ‘man is an animal trapped in a webof significance he himself has spun’.The rest of this study is structured as follows: Inchapter two analysis of the field economics isundertaken, citing and co-relating theories, models,and frameworks from a variety of academicsources. Chapter three describes the differenteconomic models and examines economic growthof some of the Southeast Asian countries and thesocialist model currently propagated by thecharismatic Venezuelan leader Hugo Chavez.Thereafter chapter four describes the Islamicbanking concepts, alongside the role of the IMF,World Bank and other donor organization. Chapterfive discusses the current state of the Pakistanieconomy, looking at key industries such asagriculture, manufacturing, and services. Finallychapter six draws conclusion and examines theissues in respect to the theories and frameworksoutlined in the previous chapters.Insaf Research Wing 10
  11. 11. Committee on Economics Economic Research: Pakistan services. Economists group buyers and sellersChapter# 2: together. For instance there is an international market for oil where large companies andFunctions of an governments buy and sell oil. There are also national markets for oil. Not every company orEconomy government involved in the buying and selling of oil in the UK will be involved in the US or the Malaysian oil markets. There are also regional and local oil markets. All these markets are interlinked but they are also separate.162.1 Making of an Economy The three most important western economists were: Adam Smith, Karl Marx and John MaynardEconomics is the study of systems of production Keynes. Each developed economic theories thatand distribution. In essence it is the analysis of the were put in to practice and affected the world’sways in which societies produce and distribute economies for generations.goods and services. Any system for deciding what isproduced, how it is produced and who gets to Adam smith (1723-1790), a Scottish philosopherconsume it, whether it is the system of an entire published his famous book, the wealth of nations inplanet as in the global economy or a defined 1776, the year of America’s declaration ofsegment of society in an economy and can be independence in which he explained why some 14understood in economic terms. nations are rich while other are not. Theories of labour productivity, wealth accumulation andEconomics has two main branches: productivity growth were delved in to by smith,Macroeconomics and Microeconomics. later expanded by generations of economists. Smith founded what is known as classicalMacroeconomics focuses on the study of whole economics i.e. the idea that free markets cansystems of production and distribution, that is, regulate themselves. The key doctrine of classicalwhole economies and large sectors of theeconomies. Whereas microeconomics focuses on economics is that a laissez-faire attitude byindividual economic entities, such as a single government toward the marketplace will create the greatest good for the greatest number of peoplebusiness or single household, or on specific and generate economic growth.17economic activities such as employment and prices. Karl Marx (1818-1883) a German economist andAn economy is made up of factors of productionsi.e. land, labour, capital and entrepreneurship political scientist looked at capitalism from a morecombined together to create goods and services for pessimistic and revolutionary viewpoint. Marx 15 believed that once the capitalist has set up theconsumption. Economies are structured in to means of production, all value is created by thethree main sectors, primary (incorporating the labour involved in producing. In Marx’s view,agriculture, forestry, fishing sector) secondary(manufacturing cars, food processing, steel making presented in his 1867 tome Das Kapital (Capital),etc) and tertiary (services sector such as transport, capitalist’s profits come from exploiting labour thatleisure & tourism, financial services, health and is underpaying workers for the value that they are actually creating. This situation of managementeducation etc) Then there are the markets at exploiting labour underlies the class struggle thatinternational, national and local level where buyers Marx saw at the heart of capitalism and heand sellers meet for exchange of goods and14 16 th Paul A Samuelson & William D Nordhaus (1998) A. Anderton (2006) Economics, 4 edition, Harlow,Economics, London, McGraw-Hill Causeway Press15 th 17 A. Anderton (2006) Economics, 4 edition, Harlow, Stephen L Slavin (1988) Economics a selfCauseway Press teaching guide, Wiley & SonsInsaf Research Wing 11
  12. 12. Committee on Economics Economic Research: Pakistanpredicted that the struggle would destroy GNP between 1938 and 1946. In many countriescapitalism in the end. Ultimately in Marx’s view exports had dropped to almost nil, meat productionsociety moves to a two-class system of a few declined by one third and bread output fell by 60%wealthy capitalists and a mass of underpaid, of pre war. Malnutrition was serious in occupiedunderprivileged workers. Marx’s thinking had a countries. 20 There was much talk of growing chaostremendous impact on the USSR (Union of Soviet and discontent followed by another war. This canSocialist’s Republics) in the twentieth century. be likened to more or less the present situation inHowever it is important to note socialist centrally Pakistan, where all areas of the economy are inplanned economies have proven far less efficient at ruin, severe power and water shortages - warproducing and delivering goods and services. raging in the northern areas and constant threat of terrorism in major cities across the country.John Maynard Keynes (1883-1946) Britisheconomist came up with different views from those One of the major reasons Western Europeof Karl Marx and Adam smith. Keynes argued recovered so rapidly was thorough planning mainlygovernment can play a crucial role in stimulating by the USA but to a lesser extent Britain andprivate sector investment. He favoured an Canada. During the last two years of the Secondapproach of using the government’s power to World War, the United States directed the creationspend, tax and borrow to keep the economy of the institutions which would allow the new 18stable. This policy was adapted in America during world system to function. These fell in to threethe great depression and in Europe after the main areas: money, trade and internationalSecond World War. During the UK recession of disputes. The first allied conference on long-termearly 1980s the conservative government did the economic problems was held in May 1943. Itopposite and cut government spending. However concentrated on food supply and led to thethe recent recession in the western world has seen creation of the food and agriculture organization oftaking up the Keynes policies again. the United Nations (FAO) at the end of 1944 with Britain a founding member. The desire to spare the world further armed conflicts was reflected in creation of the United Nations organisation set up2.2 Economic Growth in 1946. The currency problems were to be avoided in future by setting up of a world currency and payments systems in which gold reserves would beEconomists define economic growth as the rate of replaced by the US dollar as the basis of the valuechange of productive potential over time. of national currencies.21 Unlike gold, the supply ofProductive potential is what the economy can the US dollar would expand in step with the size ofproduce when all factors of production (land and the American economy and consequently of theraw materials, labour, capital and world economy of which it formed so large a part.entrepreneurship) are fully employed. 19 This system was agreed at the Bretton woods conference in New Hampshire in 1944. TheIn order to understand economic growth, one must conference led to the establishment in 1945 of thelook at how Western Europe developed so rapidly international monetary fund (IMF), a US fundedafter two major world wars. For example the structure for international payments. IMF, whichnumber of deaths caused by the Second World War was designed to help countries with seriousin Europe is estimated at about 40 million and over balance of payments deficits to achieve parity, was30 million Europeans had transplanted ordispossessed. Most countries suffered a large fall in 20 Anthony Sutcliffe (1996) An economic & social history of western Europe since 1945, London,18 Stephen L Slavin (1988) Economics a self Longman Publishing Ltd 21teaching guide, Wiley & Sons Anthony Sutcliffe (1996) An economic & social19 Alan Booth (2001) the British economy in the history of western Europe since 1945, London,twentieth century, London, Palgrave Longman publishing ltdInsaf Research Wing 12
  13. 13. Committee on Economics Economic Research: Pakistanintended to function for a short time only, until investments during the war yet were unlikely tomember countries had stabilized their accounts. attract private capital quickly enough in the postMore lasting was intended to be the work of the war years. The government also launched a bigWorld Bank, which was set up by the conference to programme of road improvement and constructionmake development loans to third undeveloped in 1955 and the M1 Britain’s first London to 22 23countries. Birmingham motorway was built. The concept of the ordered economy achieving full employmentCentral to the development of Western Europe was was largely the work of John Maynard Keynes, thethe marshal plan, named after the US secretary of academic economist who became an advisor to thestate, George C Marshal. This plan sought to treasury during the war. The vision of the Britishintegrate Western Europe in to a single economic welfare state was based on employment andarea, mainly on the basis of free trade but also related services by William Beveridge, an academicalong US approved political lines. The plan involved economist and former civil servant in 1942.the provision of $13 billion over a period of four Departmental proposals for health services,years. Officially titled the European recovery education and town planning soon followed. Publicprogramme (ERP) the fourteen countries had to optimism about the plans was boosted by thesign agreements committing themselves to a strong increasing success of the British war effort, whichproduction effort, expansion of their foreign trade, suggested that national planning backed by massivethe maintenance of financial stability and the public expenditure could achieve goals from whichdevelopment of European economic cooperation. all would benefit. This confidence which contrasted with the orthodox budgetary views and nonOne criterion of the success of reconstruction in interventionist policies prevailing before the warWestern Europe is the time it took for economic contributed to a growing electoral support for theactivity to return to its pre-war level. UK, France labour party which was able to present itself notGermany Italy were all at the pre-war level in only as the party of the masses but also as the partymanufacturing and agriculture in 1950/51, 5 years of modernity and national progress.after the war. France’s economic problem after the liberation wasBritain’s economic growth after the war depended less acute than in most European countries. Sheon boosting its exports, minimising its imports was virtually self sufficient in food and many rawtogether with reducing its borrowing. The Labour materials. More over French economy recoveredgovernment maintained wartime levels of high quickly and as early as 1947 industrial productiontaxation, the system of production quotas and had returned to the level of 1938. The idea ofrationing. High taxation financed the new welfare national planning was hugely anticipated andactivities without heavy borrowing, consumption widely entertained in the political andwas kept firmly in check and rationing became even administrative circles at the end of the war. Theless generous then in wartime. The government leading civil servants led by Charles de Gaulle’sgave priority to the development of the capital close associate Jean Monnet were especiallygoods and export industries, raw materials and interested in economic planning. In the late 1945agriculture. Between 1946 and 1949 the British Jean Monnet brought together a small team of civilgovernment passed legislation to nationalise servants in two rooms at a hotel for his planningpower, transport coalmines, iron, and the bank of work. This intimate group of the type favoured byEngland. This was directed towards efficiency and Jean Monnet quickly drew up an outline five yearhigh output than a socialist system of production. plan (the Monnet plan) taking effect from 1947 theThe industries chosen for nationalisation were plan was designed to create a climate for theessential to production rather than consumption.All had suffered from lack of maintenance and 23 Anthony Sutcliffe (1996) An economic & social22 D. H. Aldcroft (1993) the European economy history of western Europe since 1945, London, rd1914-1990 3 edition, London, Routledge Longman Publishing LtdInsaf Research Wing 13
  14. 14. Committee on Economics Economic Research: Pakistanconfident growth of industrial production in both generations, the first sought money; the secondthe private and public sectors. It emphasized born to money sought social and civic position; theinvestment in industries crucial to the growth of third born to comfort and family prestige looked toproduction – energy, transport, steel, cement and the life of music. This suggests the changingagricultural machinery. Its basic feature was the aspirations of generations as they place a low valuesetting of growth targets for industrial groups over on what they take for granted and seek new formsfive year periods. Twenty-four modernization of satisfaction.commission set up in 1946 and 1947 fixed thedetails of the targets in each sector. Civil servants,industrialist and trade unions sat in eachcommission. The plan produced a planning 2.3 Monetary & Fiscal Policypartnership between the state and the industry.The workers were not only involved in the planningbut also in the execution, through the post war Fiscal Policysystem of factory councils set up by de Gaulle inFebruary 1945 as an anti-class conflict measure. Fiscal policy is the use of government spending andThe Monnet plan reflected the widespread interest revenue collection to influence the economy. The two main instruments of fiscal policy arein Western Europe in achieving full resource government spending and taxation. 26 Changes inutilization. More practically however the Monnet the level and composition of taxation andplan can be seen as the appropriate response to the government spending can impact on the followingneeds of an economy, which in some sectors was variables in the economy:fully developed yet was very backward in others.French modernization was visible to all by the later  Aggregate demand and the level of1950’s, the government had established a number economic activity; aggregate demand isof investment funds and these together with the total of all expenditures in the economy at given price.existing public resources and the aid from the  The pattern of resource allocation;marshal plan greatly eased the flow of credit with  The distribution of income.banks and the stock market providing an increasing  Price level 24volume of capital. Sheer hard work and goodleadership enabled Western Europe to progress Most governments have four majorrapidly from the destruction of the war compared macroeconomic policy goals. These are to achieveto the rest of the world at the time. full employment with little or no inflation in a high growth economy with external balance (currentAs societies achieved maturity in the twentieth account) equilibrium. Fiscal policy can be used tocentury, three things happened: real income per achieve a wide variety of objectives. For example, ithead rose to a point where a large number of can be used to improve standards of healthcarepersons gained a command over consumption through increased spending on the health serviceswhich transcended basic food, shelter and clothing of a country. It can be used to make incomes lessand the structure of the working force changed in unequal by taxing the better and giving benefits toways which increased not only the proportion of the less well off. In Pakistan the key date in the yearurban to total population, but also the proportion for fiscal policy is the day of the budget whichof the population working in offices or in skilled occurs in May. In the Budget the treasury minsterfactory jobs. 25 In Thomas Mann’s novel of three gives a forecast of government spending and taxation in the coming financial year.24 Anthony Sutcliffe (1996) An economic & socialhistory of western Europe since 1945, London,Longman Publishing Ltd25 26 W.W Rostow. (1990) the stages of economic Sullivan, Arthur; Steven M. Sheffrin (2003). rdgrowth – a non communist manifesto, 3 edition, Economics: Principles in action. Upper Saddle River,Cambridge, Cambridge University Press New Jersey, Pearson Prentice Hall.Insaf Research Wing 14
  15. 15. Committee on Economics Economic Research: PakistanNational expenditure is one of the three ways of greater employment levels, leading to a greater 27calculating national income, usually measures as output, thus resulting in economic growth.GDP. National expenditure is made up of fourcomponents: Monetary Policy 1. Consumption: This is spending by Monetary policy is the manipulation of monetary households on good and services. variables, (i.e. interest rates, the money supply and 2. Investment: This is spending by firms and the volume of credit) to maintain a stable, growing individuals on goods which will aid in economy with low inflation and unemployment. production and may well accumulate wealth in the future. The main instruments of monetary policy include 28 3. Government Spending: This includes the rate of interest, and the money supply. current spending on wages and salaries. It also includes spending by government on Rate of interest investment goods for example, new roads or new schools. In the UK, US, and EU, the rate of interest is not set 4. Exports minus Imports: Foreigners spend by the governments, but is set by independent money on goods produced in the domestic economy; hence it is part of national central banks, for example, since 1997, monetary expenditure. However, households, firms policy has been controlled by the independent Bank and governments also spend money on of England. Central banks are responsible for the goods produced abroad. issue of notes and coins that are sold to the banking system and manage a country’s gold andThe UK government has been responsible for currency reserves.between 40 and 50 % of national expenditure overthe past 20 years. The main areas of national The rate of interest can be altered in order toexpenditure are the National Health Service (NHS), adjust aggregate demand in the economy to ensuredefense, education and roads. In addition the if it as close as it can be to the trend rate of growth.government is responsible for transferring large Changes in the rate of interest can affect aggregatesums of money around the economy through its demand in various means, such as:spending on social security and national insurancebenefits. This is financed mainly through taxes, such  Savings: Higher interest rates createas income tax and Value Added Tax (VAT). incentives to save more, as savers would receive more interest on their savingsFiscal policy is used by governments to influence (thus they would save more out of theirthe level of aggregate demand in the economy, in disposable income and spend less). Therefore consumption would fallan effort to achieve the economic objectives of reducing aggregate demand.price stability, full employment, a balance or  The exchange rate: A fall in the rate ofsurplus in the current account and economic interest in the domestic economy wouldgrowth. For example, to dampen inflationary lead to less foreign savings, thus therepressures, the government can increase taxes and would be less demand for the currency. Askeep spending constant, to decrease the level of fewer visitors would buy the domesticdisposable income of individuals thus, inhibiting currency thus reducing its value in the global markets of currency.consumers spending power thus reducing demand  The housing market: Most houses inpull inflation. To stimulate growth and reduce western economies are bought usingunemployment, the government can decrease mortgages, thus changes in the rate ofincome taxes and keep spending constant, tocreate greater incentives for the unemployed to 27 thseek jobs (as disposable income would increase), A. Anderton (2006) Economics, 4 edition, Harlow, Causeway Pressthus consumption would increase as a result of 28 th A. Anderton (2006) Economics, 4 edition, Harlow, Causeway PressInsaf Research Wing 15
  16. 16. Committee on Economics Economic Research: Pakistan interest would affect the demand of printing money by selling government debt to the mortgages and in turn the housing market. banking sector.  Consumption and investment: Drops in the rate of interest would encourage US Monetary Policy individuals and firms to take out loans in order to consume and/or invest. Consumption and investment are The Federal Reserve System is the central bank of components of aggregate demand thus the United States, which oversees and regulates the changes in the two components would commercial banking system and formulates and ultimately alter aggregate demand. implements the monetary policy. The Federal Reserve has three main responsibilities:The money supply 1. Oversee and regulate banking institutionsThe supply of money in the economy and the rate and protect the rights of consumers whoof interest are completely interlinked as the rate of utilise creditinterest determines the price of money, thus as the 2. Devise and implement a monetary policyprice of money decreases, economic theory would for the nation in order to maintain the stability of the financial systemsuggest an increase in the quantity of money. 3. Provide financial services to certain sectors of the economy, such as the public sector,However, using the interest rate to control the financial institutes and the US governmentmoney supply would give an indirect short-termresponse. There are a variety of other ways to The Federal Open Market Committee (FOMC) is thecontrol the money supply in a more direct manner. key policymaking body in the Federal Reserve System and makes the key decisions regarding theFirstly, the central bank can assign a percentage of bank’s open market operations. The FOMC has 12a bank’s financial assets as reserve assets; these are members who meet a minimum of 4 times a year inkept in liquid form (for example cash) and must be Washington and at each meeting the committeeheld if the bank is to lend out money. If the central member’s vote for the ideal long-run policybank wishes to increase the money supply, the objective for growth in the money supply.amount of money being held by the central bank inthe deposit increases, thus they are able to offermore money. This technique is named open marketoperations. 2.4 Types of Economic SystemsSecondly, the central bank can sell different formsof government debt, such as bonds to the non- Around the world different communities, nationsfinancial sector; if this is successful, then the money and regions have different economic systems, ofsupply would decrease, as money is being which some of the most obvious examples are:transferred from the public into the central bank(money held by the central bank is not counted in 1) Traditional economic systemsthe money supply). The contrary is also possible i.e. 2) Pure market systemsbonds can be bought back in order to decrease themoney supply. 3) Command and mixed systemsThirdly, the government can increase the money 1) Traditional Economic Systems: Refer to systemssupply by borrowing; in the UK this is known as the that are based on tradition where children do thepublic sector net cash requirement (PSNCR). The same things their parents did and follow theirmoney is raised in two ways, which includes example. Thus, boys would have the sameborrowing from the non-banking sector and occupation as their fathers and this would involve farming, hunting, artisanship, etc. Girls on the otherInsaf Research Wing 16
  17. 17. Committee on Economics Economic Research: Pakistanhand, would get involved in the occupation of their 3) Command System: Also called a centrallymothers, which would typically involve cooking, planned system, is an extreme on the opposite sidecleaning, sewing, fieldwork, housework, etc. of the spectrum. In a command system, a centralTraditional systems of production do not change authority or central planning committee wouldsignificantly overtime and the pattern of production make all the decisions regarding the basic economicstays the same more or less with the occasional questions of what to produce, how to produce andnew invention. A clear definition of private distribute. The market has no influence in theproperty may not exist in a traditional system allocation of resources and state owns or heavilyunlike other economic systems. Accordingly, in a regulates the use of most if not all property andtraditional system a lot of property is common other production resources. Private individuals andproperty, such as common grazing lands, fishing the forces of demand and supply will not influencegrounds, agricultural plots, etc. In addition, the the decision process. Instead, a central planningallocations of certain roles, which include committee will oversee all the production activitiesproduction, within the members of a society and income distribution. Thus, while pure marketdepend on long established traditions. This would economies rely on individual decisions and privatemean that members of society would rarely change property, command economies rely on collectivetheir allocated role in the economy, even after decision-making and collective ownership or 30generations. Thus, tradition and not resources resources. Central planning was a strong trend thanswered the basic economic questions of what to during the 20 century and at one point, almostproduce, how to produce and how to distribute. one-third of the population lived under a centrallyPrime examples of the traditionalistic system planned system to deal with basic economicinclude remote societies found in such places as the questions. Prime exampled included the formerCanadian arctic, the Himalayas, the Amazon jungle Soviet Union, Cuba, North Korea and China. 29and isolated parts of Papua New Guinea. However the system is no longer in wide spread use and many countries begun opting for a mixed2) Pure Market System: In this type of market, system and enacted reforms to create a market-there are large numbers of consumers who decide orientated economy.what goods and services to buy and at whatquantities. In addition, assumptions are made that While the main theories of economic systemsthere are a large number of firms who will cater to revolve around traditional, pure market or centrallythe demand of consumers by producing the planned systems, economies in the real world are aproducts they want and buying the necessary hybrid of market, traditional and centrally plannedinputs accordingly. In a pure market system, the economies leading to Mixed economies.individual decisions of both buyers and sellersdetermine the allocation of resources and the In a Mixed Economy, both the markets anddistribution of output. The central characteristics of governments have significant influence on thea pure market system are freedom of choice, economic decisions of resource allocation andprivate ownership and competition. These income distribution. The level of mixture of freedecisions are based on the forces of demand and market policies and government control differssupply. Thus, while the market answers the basic from economy to economy. For example theeconomic questions the state is relegated to play a economies of the US and UK are more liberal thanrole in maintaining law and order and external the economies of France or China. In addition, thisdefence. Pure market systems have never really mixture is not restricted to a general economy butexisted in practice. may also differ from sectors, industries, regions, etc. Thus the defence sector or industry in many countries are heavily controlled or monitored by 30 Lipsay, Richard and Chrystal, Alex. (2004)29 Truett, Lila and Truett, Dale (1987) Economics;. Economics - 10th edition. NewYork, OxfordLondon, Times Mirror/Mosby College University PressInsaf Research Wing 17
  18. 18. Committee on Economics Economic Research: Pakistangovernments while commercial industries of system based on cattle, the tribe still adheres to its 31information and technology are more laissez-faire. rigid cultural guidelines. Innovation is nearlyGovernments in mixed economies will seek to impossible since people rarely change theirachieve certain goals through intervention in the occupations and methods of production remain themarkets, with policy tools such as the monitory and same for generations due to tradition and culture.fiscal policies. Advantages of a pure market systemEconomic Systems Advantages and Disadvantages A pure market system drew its strength on freedom of choice and enterprise, Private ownership ofAdvantages of a traditional system resources and competition. These strengths allow aTraditional systems work well for isolated pure market system to foster an environment ofcommunities and ensure that resource allocation continuous innovation and the highest possibleand critical jobs are distributed and maintained. levels of efficiency in terms of resource allocationThis sort of system works best for a small and output. The forces of demand and supply arecommunity that is reliant on a limited number of influenced by price, which allow pure marketcritical jobs. In many tribal systems, parents and system to adapt to changes in demand and supplyelders teach the children and there is no sort of efficiently thus minimising waste and poorformal education system. Thus, it is practical for management. A pure market profit motivatedchildren to follow on the footsteps of their parents. system presents a strong incentive for individuals to work hard and for firms to innovate and increaseAnother important advantage of this system is that the quality of goods at the same time. Hence inin most cases, it reduces the problem of over terms of quality and prices, goods produced inconsumption and surpluses since the production of market economies surpass those produced in 32goods and services are only used when needed. command and traditional systems.Traditional systems have most often benefitedsmall tribes and communities such as those found Disadvantages of a pure market systemin Canadian arctic, the Himalayas, the Amazon Pure market systems also suffer from significantjungle and isolated parts of Papua New Guinea drawbacks, referred to as market failures. Theallowing them to function in extreme and isolated following highlight some of the main marketconditions. failures:Disadvantages of a traditional system - Discrepancy between social and privateTraditional economic systems may help societies benefits and costs: In a pure marketfunction but one of their biggest flaws is that they system firms and individuals make theirinhibit change and thus keep a society stagnated decisions based on private costs andsocially and economically. For example, the Masai benefits, and almost as always ignore thetribes of Africa have depended on a traditional total societal benefits and costs.economy based on cattle rising for centuries. - Monopolization: Contrary to theEveryone’s role is determined based on his or her competitive spirit of a pure market system,ownership and tending of cattle. Thus, cattle are there are no inherent characteristicsthe symbol of wealth and every family strives to within a pure market system to preventmaximise the size of its herd. However, this also the formation of monopolies or the abilitymeans as the size of the tribes increase so does thesize of the herds. This in turn has made pasturelands into deserts due to overgrazing, creating very 31 Truett, Lila and Truett, Dale (1987) Economics;.harsh conditions for the Masai and their herds. London, Times Mirror/Mosby College 32 Lipsay, Richard and Chrystal, Alex. (2004)Even with the obvious implications of a wealth Economics - 10th edition. NewYork, Oxford University PressInsaf Research Wing 18
  19. 19. Committee on Economics Economic Research: Pakistan for firms and labour to obtain monopolistic The most critical of these flaws included the power in order to further their own following: interests at the expense of the interests of society. - Lack of co-ordination: Central planners had to co-ordinate all the economic decisions - Distribution of income: Under a pure of production, investment, trade and market system, individuals receive their consumption by both producers and income based on the ownership and use of consumers. This needed a vast amount of their productive resources. However, not information and predictions that needed all individuals are born with the same to be collected and processed which talents or have the same amount of proved to be impossible, resulting in resources at their disposal. Based on this bottlenecks in production throughout the principle a pure market system would economy. imply that individuals who have no talents or productive resources should receive no - Failure of quality control: Factories were income. more interested in meeting their quota requirements than quality control since it - Specialisation and alienation: A free was meeting the quotas that brought market economy seeks to encourage rewards and failing to do so brought about specialisation and the division of labour punishments from the central planning however this results in monotonous and authority. Thus, managers used whatever repetitive work that could seriously affect methods possible, including improper the morale and long-term productivity of production methods and materials to labour. satisfy their quota requirements instead of meeting quality standards. This resulted inA pure market system being a theoretical extreme the production of goods of inferior quality.has no real world examples since governments willalways intervene to address these flaws. The credit - Misplaced incentives: One of the bestcrunch of 2007/08 demonstrates succinctly the features of a command economy wasneed for government role and intervention in order complete job security, but this alsoto create the necessary safeguards to protect all its crippled industries. As there were nocitizens from market failures. incentives to work hard and no penalty for sluggish work, which subsequently meantAdvantages of a command system many industries operated below optimum levels.The advantages of a command system, asenvisioned by Karl Marx and others were that if the Thus the advantages of command economies weregovernment plans all of the economic activity it the equitable distribution of national output but atwould create an equal and just distribution of the cost of controlling each element of theoutput amongst its citizens. Accordingly, citizens economy. Nations such as the former Soviet Union,were guaranteed jobs in industries regardless of China, Cuba heavily embraced and were the chieftheir efficiency and they were given state advocates of the command economic system untilsponsored goods and services, holidays, pensions, its systematic failure and rejection in the late 20 thetc. century.33Disadvantages of a command systemWhile command systems had grand ideals ofequality and fairness, the system had inherent 33 Lipsay, Richard and Chrystal, Alex. (2004)flaws and ran into a number of practical difficulties. Economics - 10th edition. NewYork, Oxford University PressInsaf Research Wing 19
  20. 20. Committee on Economics Economic Research: PakistanThe advantages of the mixed system GDP based on spending has four major components:A mixed economy seeks to combine the advantagesof both systems. Thus a mixed system will benefit 1.0 Private consumption: This refers to spendingfrom free market principles such as freedom of by individuals on goods and services, producedchoice and enterprise, private ownership of and sold to the final users during the year. This excludes the purchasing of new houses since itresources and competition while also addressing is considered as investment, while includingthe flaws of a pure market system by intervening in any final consumption spending of non-profitmarkets to achieve goals of economic freedom, making institutions serving households.equitable distribution of income, full employment 2.0 Government consumption: This refers to allwith price stability and economic growth. Thus, in a spending on goods and services made by themixed system the market and the government government over the year. Governmentwould be significant factors. The market would spending is typically valued based on the costaddress the flaws of the government while the rather than the market value. This is becausegovernment would address market failures. The some services provided by the governmentmix of government and market systems ultimately cannot be valued with a specific market price.decide the effectiveness of a mixed economy. Importantly, in the calculation of GDP only current spending on goods and services will beDisadvantages of a mixed system into account. Thus, expenditure on transfer The main problem with mixed systems is the payments, which refer to governmentchance of imbalance being created where either spending not made in return for currentlythe market or the government control more of the produced goods and services will not berunning of the economy. The recent credit crunch included in the calculation of GDP.in the western world is a prime example of 3.0 Investment: Refers to future spending ongovernment’s lax attitude towards interferences, production goods, subdivided into threewhich consequently lead to the near melt down of categories:many economies around the world. Moreover it isoften the vulnerable elements of society that areput at risk and suffer the most. 3.1 Changes in inventories: These are the stocks of finished and unfinished output held by firms. The main2.5 The Parameters of Economic Growth purpose of input stocks is to ensure a smooth production if there is short- term disruption in the supply ofThe main parameters of economic growth are the inputs, while a stock of outputs wouldGross Domestic Product (GDP) and Gross National help firm meet their outputIncome (GNI). 34 commitments even if there is a short- term fluctuation in the price of outputThe GDP refers to the value of total output actually sales. Since these stocks are anproduced in the whole economy over a period, investment, an accumulation of theseusually a year. The calculation of the GDP is done stocks are considered to be anby either adding up total spending (GDP spending increase in current investment while abased) or adding up total income (GDP income reduction in stocks will count as abased). decrease in current investment. In addition, these stocks are accounted34 Lipsay, Richard and Chrystal, Alex. (2004) for based on their value on the marketEconomics - 10th edition. NewYork, Oxford rather than their cost to firms so far.University PressInsaf Research Wing 20
  21. 21. Committee on Economics Economic Research: Pakistan This is because expenditure-based When calculating the GDP, an important difference 35 measure of GDP includes the value of arises in terms of the price of goods and services. what final spending on these goods This is because the price paid for many goods and would be, assuming they been sold, services by consumers may not equal the sales even if that is not the case. revenues of producers. This is especially true when considering taxes and subsidies. With the 3.2 Fixed capital formation: Capital goods imposition of taxes, producers receive less than refer to goods manufactured in order what consumers pay while the imposition of to aid the production process. Thus, subsidies will mean producers receive more than capital goods may include computers, consumers pay. Accordingly, basic prices will refer machines, factories, etc. Accordingly, to the prices of products as received by producers. an increase in capital goods would be While market prices refer to the prices that paid by an increase in investment. This also consumers. Since all spending categories are called a fixed investment or fixed calculated using market prices, GDP will also be capital formulation. calculated using market prices, the price paid by consumers and not that received by producers. 3.3 Net accumulation of valuables: Some goods are neither consumed nor used GDP based on income refers to adding up incomes in the production process. These of owners of resource inputs such as land, labour, goods are valued for their intrinsic capital, etc. Accordingly, national income is beauty, sentimental value or for their determined by three main factors: expected appreciation in value. Examples of such goods include art, 1.0 Operating Surplus: Business income after jewellery and music records. The net labour and material costs but before paying acquisitions of these valuables are direct taxes, levied on a firm’s income (profits). included in the national accounts as a Operating surpluses may also include the form investment. financial surplus of organizations other than companies, such as universities. Once a firm earns profits it will distribute a portion among its shareholders while saving the rest. Profits4.0 Net exports: Refer to the difference between that are both distributed and undistributed are total exports and total imports. This is an included in the calculation of GDP. important factor since the GDP measures the amount of goods and services produced within 2.0 Mixed incomes: Certain groups and individuals a given country. Only a certain amount of the have mixed incomes since it is not clear what spending value on imported goods or materials proportion of their income is equal to their can be accounted by the importing country wage and which proportion is equal to the while the rest will be accounted by the profit of a business. Examples would include exporting country. Therefore, in order to consultants who work on short-term contracts, determine the spending value on domestic the self-employed who run sole trader production activities, the GDP should exclude businesses and partnerships where the the value of imports since spending on partners of a business own the business as imported goods and services will contribute to well. a foreign economy’s GDP. The value of exports will be included since even though the goods will not be consumed in the domestic economy itself, the payments for the exported goods by foreign economies will contribute towards the 35 Lipsay, Richard and Chrystal, Alex. (2004) domestic economy’s GDP. Economics - 10th edition. NewYork, Oxford University PressInsaf Research Wing 21

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