What is a Free Market Economy?

A free market economy is a decentralized economic system, where the government does not attempt to impose regulations on market transactions. In a free market economy, the allocation of economic resources, level of production, and prices are determined by supply and demand.

Restrictions on Free Market Economies

Though a free market economy is considered to be the most efficient type of economy, this concept in its purest form is not found anywhere in the world. Instead, countries have significant public sectors that provide some services. Also, governments impose regulations on some aspects of an economy. Further, governments may provide subsidies in certain areas and impose unusually high taxes in others. These factors alter the impact of supply and demand, resulting in less-efficient markets, though perhaps markets in which social needs are being met to a greater extent than would otherwise be the case. For example, government intervention in a free market economy may be warranted in the following situations:

The level of production is too high, based on the resulting impact of production on the environment. By imposing regulations on production, environmental costs are factored into the cost of production, which increases the prices at which goods are sold.
There is a temptation for suppliers to collude in order to artificially raise prices, so the government imposes anti-trust regulations to maintain a higher level of competition.
Developers may construct shoddy buildings, so the government imposes building codes to ensure that minimum standards are met.

The amount of government regulation imposed will typically depend upon the desires of the population, as expressed through their voting choices for political candidates.

Advantages of a Free Market Economy

There are multiple advantages to a free market economy, which are as follows:

Encourages innovation. A free market economy tends to encourage innovation, since anyone can enter a market and compete. The result is high levels of competition in terms of both product features and price, which is beneficial to consumers.
Consumers have maximum choice. Consumers drive the market by choosing products and services they prefer. Businesses must adapt to consumer needs and preferences to stay competitive.
Higher growth rate. Free markets often lead to higher productivity and economic growth. Further, investments flow to profitable sectors, enhancing overall efficiency.
Higher degree of flexibility. A free market economy quickly adjusts to changes in supply, demand, and economic conditions. This adaptability helps economies recover from disruptions.
More product offerings. Competition encourages diversity in products and services, so consumers benefit from a wide range of choices.
Lower prices. Competition among businesses tends to drive prices down, which benefits consumers.
Reduced government intervention. Minimal government interference reduces the administrative burden and potential inefficiencies of regulation.