«No coercion» is another important rule. Coercion can include lying, so «no lying» is also part of the rules of a free-market system.
In economics, the rules are laws. That is why the government passes laws against theft, coercion, and fraud. In a free-market system, the government has to make and enforce whatever laws are needed to guarantee free choice.
Private Property
Maybe you currently have some amount of financial freedom. Maybe you get an allowance, or you have a part-time job that provides a bit of spending money. But what if your allowance was taken away or you lost your job? Then you might have to ask someone else for money. Since the people you ask are free to choose, they can say yes or no.
To be free, you need more than protection against coercion. You need to have resources, too. If you do not have your own resources, then your ability to make free choices is limited.
In a free-market system, individuals get to make free choices about what to do with the resources they have. Therefore, rules protecting private property are among the most important rules of a capitalist society. These rules are referred to as property rights.
Land is one of the resources that helps people be free.
The Resource of Work
Land, money, and capital are resources, but they are not the only resources that allow one to make free choices. Healthy adults who own no property still possess one important resource their own labor. The ability to work is an important resource in a capitalist system.
The rules of the free-market system protect you against coercion. It is illegal for anyone to force you to do something. This means that the rules guarantee that you can make free choices about how you sell your labor to others.
Labor is an important resource. Almost all production requires some labor. So, everyone who can work has an important resource, the resource of work. Having this resource gives people the ability to make free choices.
Competition
The free-market system relies on free choice and private property, but that is not all. Competition is another important part of capitalism.
Competition is needed to guarantee freedom. Without competition, people do not have a lot of choices. In fact, they might have only a single choice.
Free-market systems have to guarantee that there will be competition. It is one of the rules. Without competition, you would have to take the «free» out of free-market system.
Stock exchange
On the floor of the New York Stock Exchange, traders compete with each other to buy and sell shares.
The Importance of Competition
Imagine that you are hungry, and you want a sandwich. If there are a lot of different sandwich shops in competition with each other, then you will have a lot of choices. In fact, you will probably have fairly good choices. Because you can go to someone else, each shop is competing to get your business. This kind of competition gives the consumer a lot of good choices. They have got a lot of things to freely choose among.
But what if there were only one sandwich vendor? As a consumer, you would have to go to this one sandwich vendor and take what they had. Maybe they only have tuna fish sandwiches that cost $20. You do not even like tuna fish sandwiches, and you definitely do not want to pay $20 for one. But what other choice do you have? You have to buy the $20 tuna-fish sandwich or go hungry. You can always choose no sandwich and starve, but that is not much of a choice, is it? If your freedom consists solely of choosing between something you do not want an expensive sandwich you wont like and something else you do not want starvation then it is hardly worth calling it freedom. Without competition, consumers do not have the freedom they are supposed to have.
The Profit Motive
Free choice, private property, and competition are at the heart of the free-market system. They are so important that there are rules protecting them.
We saw before that games often have properties in addition to the rules. Such properties are not enforced like rules, but they affect how a game is played. Properties of the free-market system are often called market forces.
One important market force in a capitalist system is the profit motive. Producers make a profit by selling a good or service for more than it costs to produce. The difference between the total cost of production and the selling price is the producers profit. If the cost is greater, the producer suffers a loss and will struggle to stay in business.
There is no rule that says you have to follow the profit motive because there does not need to be such a rule. It is obvious to any producer that a profit is better than a loss. In the free-market system, the profit motive exists without any kind of coercion.
Profit and Competition
The profit motive is extremely important for the free-market system. Because of competition, efficiency and innovation often result from this drive to make a profit. If you are competing with others, you cannot afford waste. Waste increases costs, which cuts into profit. So producers work hard to be as efficient as possible.
Competition keeps prices low, which means that producers cannot just make up for inefficiency by raising prices. The incentive to be efficient and innovative is an example of market forces.
The profit motive can also work against competition. If you really want to make a lot of money, it would be better not to have any competition. That way, you could sell your goods and services for a much higher price and make more profit. Profit seekers have an incentive to get rid of competitors, if they can, to make more profit. This is another reason it is necessary for the government to make laws protecting competition.
What is So Free About a Free Market?
You have seen that the free-market system is based on free choice, private property, competition, and the profit motive. These rules and properties create one particular version of the game of economics. It is just one version, but it is the game that most societies play.
Advocates of the free-market system might argue that the most important goal is freedom. Freedom is so desirable, they might say, that it makes it worthwhile to sacrifice other goals. Some advocates of the free-market system, however, think that we might not need to make these sacrifices. They believe that pursuing freedom allows us to reach the other goals as well.
Adam Smith was an early advocate of the free-market system. In the same year that the Declaration of Independence was written, he published a book called An Inquiry into the Nature and Causes of the Wealth of Nations. It is often simply called The Wealth of Nations.
Modern free-market advocates often cite Adam Smith to support their claim that freedom is the most important economic goal. Read some of what Smith said so you can judge the claims of the free-market supporters who agree with his reasoning.
Adam Smith is sometimes called the founder of capitalism.
Read the following excerpt from The Wealth of Nations and think about the things that Adam Smith said about the free-market system.