Free Enterprise: Definition, How It Works, Origins, and Examples
The main goal of free enterprise is to allow citizens to dictate market and decide the value of trade. Instead of relying on government intervention or public policy, free enterprise's main goal is to allow markets to move themselves without constraint, self-discovering efficiencies and inaccuracies.
What Is Free Enterprise?
Free enterprise, or the free market, refers to an economy where the market determines prices, products, and services rather than the government. Businesses and services are free of government control. Alternatively, free enterprise could refer to an ideological or legal system whereby commercial activities are primarily regulated through private measures.
Free Enterprise As Law and Economics
Free markets include private property rights, voluntary contracts, and competitive bidding for products and services in the marketplace. This paradigm contrasts with public ownership of property, coercive activities, and fixed or regulated distribution of commodities and services.
In Western nations, free enterprise is synonymous with laissez-faire capitalism and philosophical libertarianism. However, free enterprise differs from capitalism. Capitalism is a way of producing and distributing limited resources. Free enterprise refers to a system of legal norms governing business interactions.
Friedrich Hayek, a Nobel-winning economist, proposed another definition of free business based on economics. Hayek referred to such systems as "spontaneous order." Hayek argued that free business involves the coordination of dispersed knowledge among experts, not bureaucrats.
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The Origins of Free Enterprise
In the fourth or fifth century B.C., Laozi, also known as Lao-tzu, contended that governments hindered prosperity and pleasure by interfering with people. This was the earliest documented reference to free economic systems.
Legal codes similar to free enterprise systems were not widespread until much later. Between the 16th and 18th centuries, England served as the birthplace of modern free markets. This rise corresponded with, and most likely contributed to, the first industrial revolution and the creation of modern capitalism. Previously, the English legal system was fully devoid of international trade obstacles, tariffs, entrance hurdles in most sectors, and restrictions on private transactions.
During the 18th and 19th centuries, the United States likewise relied heavily on free-market legal principles. Today, however, both the United States and the United Kingdom are better described as mixed economies. Countries like Singapore, Hong Kong, and Switzerland are more representative of free enterprise.
Characteristics of Free Enterprise
In the absence of central planning, a free enterprise legal system tends to create capitalism, yet voluntary socialism or even agrarianism may emerge. In capitalist economies, such as the United States, customers and producers choose which commodities and services to make and which to buy. Contracts are voluntary and may be enforced privately, such as via civil courts. Competitive bidding sets market pricing.
The five basic elements of the United States' free enterprise economic system are the freedom of people to pick firms, the right to private property, profits as an incentive, competition, and consumer sovereignty.
- Economic Choice: In a free enterprise, consumers have the ability to choose who to transact with. This is only possible if there are multiple market suppliers. Consumers also have freedom to choose what they want to pay, although a seller must agree to this price for a transaction to occur.
- Right to Private Property: In a free enterprise, consumers have the right to acquire private property. This may be in the location in which they want to acquire property and should not be restricted by personal or financial limitations.
- Profit Motive: In a free enterprise, the goal is to make money in a freely-flowing society. Individuals have the right to buy and sell goods to personally profit, though there are less restrictions on doing so compared to other restrictive forms of economies.
- Competition: In a free enterprise, buyers and sellers compete. Buyers attempt to acquire goods for lower prices or more favorable terms, while sellers attempt to sell goods for higher prices. Market equilibrium is met where these two parties agree to come together.
- Voluntary Exchange: In a free enterprise, consumers have the right to choose to or not to exchange goods. Individuals can not be forced into trade or be required to consume any products.
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Advantages and Disadvantages of Free Enterprise
Pros of Free Enterprise
In a free market, there is no bureaucracy. Processes are supposedly more efficient and may cost less to run a firm and communicate with customers. This is particularly true in highly regulated industries; nevertheless, increasing competition may transfer costs elsewhere.
Market participants are often granted more freedom and flexibility. Entrepreneurs are not bound by governmental policy or prescribed what products must be created. According to free enterprise theory, successful organizations will develop to fulfill market demand, whereas unsuccessful enterprises would cease to exist due to lack of market relevance.
Instead of government policy dictating how resources are allocated, free enterprise gives customers a stronger say in the economy. The customer chooses the final price of a thing, which products are required in a market, and which goods fail or succeed. It is incumbent to a free enterprise company to comprehend these customer preferences and change its operations appropriately.
Cons of Free Enterprise
There are drawbacks to what seems to be infinite freedom. First, things that are typically unprofitable to make will not be created in a free market. This is because there is no economic motivation for a company to create these things (unless there is government assistance or stipend). This may involve restrictions on where items are distributed. For example, government money may partly cover the cost of distributing telecommunications services to remote regions; without this assistance, local communities may not have access to these services.
A free enterprise system may also encourage bad behavior owing to profit prioritizing. Consider the case of Enron, which failed to meet public reporting regulations, ending in financial catastrophe. When there are little or no norms to observe, firms in a free business may forgo worker safety, environmental standards, or ethical conduct in order to increase profits.