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Free Enterprise

Updated on April 12, 2024
Article byGeorgina Tzanetos, MA
Reviewed byDheeraj Vaidya, CFA, FRM

Free Enterprise Definition

Free enterprise in economics refers to the private sector that operates at will without government interference. Also referred to as free trade and free-market enterprise, this means an economy where companies can trade, operate, and set prices without restrictions. In other words, the business owners set the regulations themselves.

A free enterprise offers the citizens the freedom to utilize their money as they wish and pursue job opportunities they want. Moreover, unlike the government-controlled systems, which limit people to start business opportunities, a free marketFree MarketA free market refers to an economic system free from government interventions and controlled by privately owned businesses.read more enables multiple companies to compete with each other.

Features of Free Enterprise

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Key Takeaways

  • Free enterprise is the freedom of general economic activity within a nation.
  • Free enterprise examples include a private restaurant chain run without government interference or a person starting an online business.
  • Its characteristics include market competition, private property, specialization, voluntary exchange, a price system, and entrepreneurship. 
  • Some common types of free enterprises are liberal market economies, coordinated market economies, and mixed market economies.

How Does a Free Enterprise System Work?

Free enterprise is an economic system that allows citizens to operate it freely. One might have often heard of “laissez-faireLaissez-faireLaissez-Faire refers to an economic doctrine advocating minimum or no interference from the government in business and economic affairs.read more” markets, the French term for “leave-alone .” The idea of free enterprise is pretty much the same, in that the market itself determines the prices.

Central to this idea is that competitive markets exist and operate driven by the consumer. Since there is demand for a product, people will create a market to fill the demand. In theory, households and consumers own most of a country’s economic resources and decide what to do with them – not governments.

The laws of supply and demandLaws Of Supply And DemandThe law of supply and demand refers to one of the core concepts in economics explaining the relationship between demand, supply, and price of products and services. It integrates the concepts of the law of demand and the law of supply.read more are paramount to the concept of free-market enterprise. Those who believe staunchly in free enterprise believe that governments should allow supply and demand to run their course, regardless of its natural by-products.

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Our recent pandemic lends itself well to an example of such. 

Examples

Let us explore the idea further with two free enterprise examples. First, with nowhere to go and lots of time on their hands, consumers in 2020 largely turned to online shopping to fulfill their daily needs. As a result, free enterprise businesses like Amazon profited greatly. 

Amazon’s net profit increased 84% during the pandemic. Increased demand for delivery services allowed Amazon to fulfill the supply needed. 

In reverse, as we all know, retail businesses and restaurants took a devastating hit. With almost no demand for in-house dining and people going to brick and mortarBrick And MortarBrick and Mortar is a kind of business that offers goods and services to its customers face-to-face through a physical outlet. It represents a physical presence of a business. read more stores, large swaths of businesses were forced to close permanently. 

Another example of free enterprise can be the competition for cheap labor and manufacturing. A good portion of products sold throughout the world is manufactured in China. Even something as ubiquitous as the iPhone has many of its components manufactured in the country. China has cheaper labor and manufacturing capacities than other, more developed countries. 

Although the United States is more than capable of producing all of these products domestically, the forces of supply and demand prove it more efficient for companies to produce their goods in China and sell them in the United States for a higher profit marginProfit MarginProfit Margin is a metric that the management, financial analysts, & investors use to measure the profitability of a business relative to its sales. It is determined as the ratio of Generated Profit Amount to the Generated Revenue Amount. read more.

Characteristics of Free Enterprise

While there are different types of free enterprises, there are six basic principles under which the theory operates. They are:

  • Market Competition

Businesses or people competing against each other is considered market competition. It is the basis for the free-market enterprise. The opportunity to compete is the foundation of the free-market movement.

  • Private Property

Property is owned by individuals and companies, not the federal government. In other markets run by communist or socialist governments, this is not the case.

  • Specialization

People or businesses can focus on producing one specific product or service. Specializing in one area allows businesses to sell products at higher prices and supply higher wages.

  • Voluntary Exchange

Also referred to as consumer freedom, the ability for people to buy and sell whatever they want is voluntary exchange. For example, a consumer gives the money in exchange for bread because they feel like it. But in a communist market, for example, the consumer could be given certain amounts of coupons for the bread that is allocated to them.

  • Price System

Prices act as the direction of the value between products and services. The higher the price, the higher is the current value of items. It is the cornerstone of demand and of free enterprise businesses. The ability of the supplier and consumer to set price levels based on demand is crucial to free-market movement.

  • Entrepreneurship

Entrepreneurship is what allows people to start their own businesses. In a free market, people have limited restrictions for starting their own business. Therefore, the level and ease of business ownership within a country largely reflect the strength of its free-market enterprise.

Types of Free Enterprise

Although an ideology on its own, free enterprise is essentially the foundation for capitalismCapitalismCapitalism is an economic system consisting of businesses, resources, capital goods, and labour. Private entities own it, and the income is derived by the level of production of these factors. Because of the private hands, these entities can be operated efficiently and maximize their production activity also.read more. Most of the world’s largest and most developed economiesDeveloped EconomiesA developed economy is the one that has a high per capita income or per capita GDP, a high degree of industrialization, developed infrastructure, technical advances, and a relatively high rank in human development, health, and education.read more currently function as capitalist societies. Alternatives to capitalism, which we currently see in the international market, are communismCommunismCommunism is an ideology that bases itself on the belief that the means of production in a society should belong to the state.read more, socialism, and some forms of religious dictatorships. These types of markets control the socio-economic affairs of that country, the jobs created, consumer freedom, and goods and services available to citizens.

Free enterprise societies as such differ greatly from their more restrictive counterparts. That said, they also differ greatly amongst themselves. The degree of ‘freedom’Degree Of 'freedom'Degrees of freedom (df) refers to the number of independent values (variable) in a data sample used to find the missing piece of information (fixed) without violating any constraints imposed in a dynamic system. These nominal values have the freedom to vary, making it easier for users to find the unknown or missing value in a dataset.read more each of those societies allows may vary.

Free Enterprise Economy

Here are the 3 types of Free Enterprise Economy –

 #1 – Liberal Market Economy

One of the best examples of a free market enterprise is a liberal market economy. Liberal market economies are a type of economyEconomyAn economy comprises individuals, commercial entities, and the government involved in the production, distribution, exchange, and consumption of products and services in a society.read more that aims to function with the lowest possible amount of government interference to prices and wages. The United States and Great Britain are examples of liberal market economies.

#2 – Coordinated Market Economy

While arguably labeled a free enterprise economy when compared to communist countries, coordinated market economies have quite a bit of regulatory oversight. As a result, these governments tend to directly influence wages within their unions and manufacturing industries. Often called “Western Christian Democratic Economies,” Germany, Austria, Japan, and Sweden are all examples. 

#3- Mixed-Market Economy

MMEs have components of both a liberal and coordinated market economy. They have both liberal and socialistic elements under which the economies operate. For example, MMEs allow price levels to run their course and allow private property. But large swaths of industry are state-owned. 

For example, healthcare may be universal and state-run, but pharmaceuticals may be privatized. Also called “Mediterranean market economies,” Greece, Spain, Italy, and Portugal are all examples.

Important to Note

 Free enterprise is a fluid, constantly changing concept. As we see with the different varieties of capitalism, a country and economy are only as “free” as it is compared to another country. If we compare Germany to Cuba, we can call it liberal. However, one might argue Germany is more restrictive compared to the United States.

These labels have evolved and changed over the last decade as they continue today. What makes these economies different is the level of government interference or “red-tape” that exists.

Even liberal market economies have some degree of government regulation. For example, while the notion of free enterprise is heavily guarded in the United States, there are still market and trading caps, emissions caps, monopoly reducing strategies, legislation that controls who can conduct certain business, etc.

Essential to note is that a truly “free” market cannot and does not exist. There is a belief that free enterprise is in and of itself a market failure. If left unregulated, a free market will always result in information asymmetry and be controlled by only certain players, who will try to monopolize and take away its freedom.

For these reasons, we can think of free enterprise as a guiding light rather than infallible doctrine. 

Frequently Asked Questions (FAQs)

  1. What is a free enterprise?

    A free market functions by the rules and regulations set by itself and experience limited restrictions from the government. A private-sector market that functions without government interference is one of the free enterprise examples.

  2. How does the free enterprise system distribute jobs?

    Free enterprise systems offer individuals the freedom to pursue job opportunities of their liking. It enables people to start their businesses and work in an industry of their choice. The free market also encourages the free learning and distribution of skillsets.

  3. What countries have free enterprise economies?

    Two of the most liberal free enterprise economies are Great Britain and the United States. Although countries like Germany offer free functioning of markets to an extent, they still have more restrictions compared to countries like the U.S/.

This has been a guide to Free Enterprise and its definition. Here we explain how the free enterprise system works along with its characteristics, types, and examples. You can learn more from the following articles –