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What is a Planned Economy?

By Dale Marshall
Updated May 16, 2024
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A planned economy is an economic system in which economic decisions related to the allocation of resources, production, investment, and pricing are under the control of the government or some other authoritative body. In the 20th century, it was popularly believed that a centrally planned economy would do a better job than an unplanned economy of addressing the needs of the people without suborning those needs to the uncertainties and business cycles of a free market economy. A planned economy is characterized by government control of the means of production, even if actual ownership is private. By contrast, in a command economy, a more coercive type of a planned economy, the means of production are almost exclusively owned by the state.

The decisions necessary in economic planning are difficult to reach in a democratic state due to the many competing interests. Most planned economies, therefore, have generally existed only where the form of government is an oligarchy or a dictatorship, such as the former Soviet Union, and in India prior to 1991. China, another large dictatorship, had a command economy until 1978, when it began to permit private ownership of small businesses with some level of autonomy in decision-making.

There are several advantages to planned economies, chief among them the ability of the state to impose stability on sometimes volatile free markets. In such an economy, manufacturing concerns are relieved of the pressure to earn revenues and profits to continue their operations. They can, therefore, keep their workforces employed and provide a market for the raw materials they consume in their production.

Another advantage of a centrally planned economy is the ability to ensure production of "social goods" — goods and services that are deemed necessary, even if not very profitable. These could include low-income housing and "orphan" drugs. Advocates of central planning argue that in a free market economy, such goods wouldn't receive priority until they could be made to produce a greater profit, usually at the expense of the consumer.

Planned economies are impervious to market forces and business cycles, making major objectives easier to accomplish. Underdeveloped nations, for example, can require levels of investment in modernization and industrialization that wouldn't be sustained in a free market economy.

There are many disadvantages of planned national economies. It is almost impossible to plan for everything, so when something goes wrong that hasn't been taken into account, the entire system begins to malfunction. Historically, planned economies don't efficiently consider breakdowns of machines or equipment, and are thus generally characterized by chronic shortages of spare parts. Planned economies don't handle details well.

Another major drawback of a planned economy is the inability of planners to predict consumer behavior. Economic planning is conducted with the goal of accomplishing some macroeconomic or social goals, but it cannot guarantee that consumers will respond as expected. In essence, not all consumers have committed fully to the goals and objectives of the government.

While planned economies are impervious, at least in theory, to business cycles and the pressures of the free market, they haven't been very successful in terms of promoting long-term economic growth and consumer satisfaction. The large nations that employed economic planning in the 20th century have evolved to economies that permit a significantly greater level of involvement in economic decision-making by components of the economy other than the government. Those nations that still employ economic planning are generally small and struggling.

Although planned economies have not been very successful, no major nation has a completely free market. Instead, they employ a system of government influence of the economy, sometimes called a indicative planning or a mixed economy system. These systems are characterized by the use of government influence, tax policy, grants, and subsidies to affect economic decisions, but generally not coercion. In addition, all governments employ a more or less comprehensive system of regulations to govern the behavior of the different components of the market, even if they don't control the allocation of resources. That is, a government might not dictate auto production or prices, but it will dictate safety standards.

While all governments routinely try to influence their economies for a wide variety of reasons, those attempts have been most successful when they leave the ultimate choices to individual economic actors. The more extensively planned economies imposed by authoritarian governments have sometimes been successful in the short term in accomplishing economic stability, but haven't prevailed in the long term.

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Discussion Comments
By anon305006 — On Nov 23, 2012

There's plenty of things to solve about planned economies, but the lack of understanding displayed is a little sad.

It's a very popular mantra in the west that "communism has no incentives" but it falls apart on examination:

1: There's nothing inherent in marxism that wages should be exactly equal. In fact, they should be based on needs.

2: The USSR and DDR both employed wage differentials based on seniority, type of job and other factors, though the range from low to high was a lot more narrow than in a free market.

3: Communist countries had various degrees of "markets" permitted. In East Germany, businesses with no more than 10 employees were permitted, for example.

There's a very wide range between "completely free" and "completely planned."

By Moldova — On Dec 04, 2010

The real problem is the communism has failed every single time it is tried. The reason is simple. It removes the drive and ambition that people experience when they want to achieve an economic goal.

If you tell everyone that they will earn the same regardless of their effort, most people will do the minimal work because you have just killed their incentive to work hard.

However, if you tell people that they will get to keep what they earn and just pay the government a small subsidy in the form of taxes then people not only would be willing to work hard, but they would also be more innovative which would improve the economy even more.

Businesses are the really economic engine that gets people working and buying goods and services. If you get rid of private enterprise you will have a nation of miserable people who risk their lives everyday to avoid this oppression.

This is what the Cuban people face daily and the matters will get worse because they are also having trouble with their crops. The less governmental intervention there is the better the economy will be.

By subway11 — On Dec 01, 2010

That is so true. I just want to say that the economic situation is even worse in a command economy.

A command economy is a communist state in which the government controls everything. People are offered rations of products and all families receive the same amount of rations and the same of amount of salary every month.

Here the government controls every aspect of the economy and has taken over private businesses and nationalized them.

In a command economy there is no such thing as private property because the government owns everything. A great example of a command economy today is Cuba.

For over fifty years, this nation has been a totalitarian dictatorship that has eliminated all means of production. There are no private businesses because everything is state-run.

As a result of the abject failure, the government has had to lay off thousands of workers and the current leader of Cuba, Raul Castro has blamed this economic collapsed on the Cuban people. He stated that their lack of effort caused this collapse.

By mutsy — On Nov 30, 2010

I just want to say one of the biggest problems with a centrally planned economy is that innovation lagged in the centrally planned economies because people are not going to go through the trouble of developing an idea or a product and then have the government tell them how may they are allowed to manufacture and how much to sell it for and how many people will be.

Entrepreneurial people take huge risks with their ideas but they also expect huge rewards which will not happen in a planned economy or a planned destruction.

This is why you see these types of people flourish in the United States because they are able to make their product here and they reap all of the rewards. It gives these people the incentive to pursue innovation which is costly.

By Sunny27 — On Nov 28, 2010

Characteristics of a centrally planned economy include governmental price controls. In addition, the government would set the supply standards and control the production rate as well as control the demand of the product.

This is really how you define a centrally planned economy. When you think of a centrally planned economy you should think of China.

The difference between what is a centrally planned economy and a traditional economic system involves the level of governmental regulation. In a planned economy vs. a market economy, the government decides who will produce which goods, how much of those goods will be produced, what price the goods will be and how many of those goods a person will own.

In a market economy, like in the United States, the health of the businesses determines the health of the economy. If businesses, for example, receive tax breaks and incentives to invest, they will hire additional workers and produce more innovative products at the rate they the businesses see fit.

In a traditional economy, people are free to choose which goods or services they prefer. This will set the pricing for the product. When the demand goes up for a product, the businesses might raise the prices or choose to produce more, but they are the ones who decide not the government.

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