Capitalism: Pros and Cons

Capitalism is an economic system where private companies own the four factors of production. The four factors are land, capital, land/natural resources, and entrepreneurship.

Characteristics of Capitalism

In a capitalist society, companies and individuals own the different factors of production. They receive rent, interest, profit, and wages from the ownership. This ownership and benefits incentivize capitalist society to maximize profit and thus maximize the most efficient use of these resources.

To use resources efficiently, the goods and services have to follow the law of supply and demand. This affects the prices the companies can charge for their goods and services. Since companies are trying to maximize their profit, they try to sell at the highest price and the lowest cost. If they don’t, then competitors will eat away their profits.

In a capitalist economy, governments generally tend to not intervene in the market unless some individuals or companies are getting unfair advantages in the form of monopolies. Often the government plays the role of providing public goods such as healthcare and education to the poor, who may not otherwise receive the same benefits.

Advantages of Capitalism

1. Competition

A common characteristic of capitalism is that consumers often get the best products at the best prices. Consumers are willing to pay for the best products and businesses will want to maximize their profits. This increases competition and forces businesses to be efficient and innovative. These incentives create pressures to cut costs and avoid waste.

2. Innovation

A capitalist society encourages and rewards innovative individuals and companies. This is an important factor for the growth of the economy. It forces efficiency and increases competition.

3. Political Freedom

If the government controls all the factors of production and sets the prices, then it creates a mighty central government that is often involved in all aspect’s of the citizen’s life. There is less political freedom in a communist state to keep the center so powerful.

Disadvantages of Capitalism

1. Marginalization

In a highly competitive and completely capitalist economy, there would be no place for the elderly, children, and the disabled who would presumably not have any skills. Private companies would not be incentivized to provide services for them if they didn’t have any money.  A capitalist economy will under-provide goods with positive externalities, such as health, public transport, and education.

2. Externalities

Capitalism ignores negative externalities, such as pollution and damage to health. While this makes products cheaper and in the short run, over time the country or society has to bear the cost. For example, a mining company will strip the land of its resources, dump toxic water and pollute the air. They have no incentive to do the opposite since that costs money. However, all the activities have a critical impact on the local ecology, community, and inevitably the environment as a while.

3. Monopoly power

Private ownership of the factors of production enables companies to gain monopoly power. These private companies with monopoly power can exploit their position to charge higher prices. Monopoly power also discourages companies to be innovative.

Examples of Capitalism

According to the Heritage Foundation, these are the top ten most capitalistic countries in the world. The countries are based on four categories – Rule of Law, Government Size, Regulatory Efficiency, and Open Markets. Each of these categories has other factors within them such as Property Rights, Government Spending, Business Freedom and Financial Freedom.

  1. Hong Kong
  2. Singapore
  3. New Zealand
  4. Switzerland
  5. Australia
  6. Ireland
  7. Estonia
  8. United Kingdom
  9. Canada
  10. United Arab Emirates

Even though the United States is considered to be the symbol of Capitalism, it only ranks 18th on the Heritage country rankings.

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