A planned economy is an economic system in which economic decisions are made by centralized planners, who determine what sorts of goods and services to produce, and how they are to be priced and allocated. Since most known planned economies rely on plans implemented by the way of command, they have become widely known as command economies. Any economic system that is centrally-planned by a government is commonly referred to as statism. To stress the centralized character of planned economies and to contrast the term with decentralized planning in a market economy, a more specific term, centrally planned economy, is also used. Although a planned economy may include exchanges of money, these exchanges are less important in allocating resources than the central plan.
A palace economy may be considered as a subsistence economy augmented with elements of command economy.
Proponents and adversaries of planned economy put forth a number of arguments. It is not the goal of this article to discuss either the validity or the applicability of these arguments.
Support for centrally planned economies
Supporters of planned economies cast them as a practical measure to ensure the production of necessary goods—one which does not rely on the vagaries of free markets.
Some advocates of a centrally planned economy, in particular, of an administrative command system of the Soviet-type, claim the following advantages. The government can harness land, labor, and capital to serve the economic objectives of the state (which, in turn, may be decided by the people through a democratic process). Consumer demand can be restrained in favor of greater capital investment for economic development in a desired pattern. For example, many modern societies fail to develop certain medicines and vaccines which are seen by medical companies as being unprofitable, but by social activists as being necessary for public health. The state can begin building a heavy industry at once in an underdeveloped economy without waiting years for capital to accumulate through the expansion of light industry, and without reliance on external financing. Second, a planned economy can maximize the continuous utilization of all available resources. This means that planned economies do not suffer from a business cycle. Under a planned economy, neither unemployment nor idle production facilities should exist beyond minimal levels, and the economy should develop in a stable manner, unimpeded by inflation or recession. A planned economy can serve social rather than individual ends: under such a system, rewards, whether wages or perquisites, are to be distributed according to the social value of the service performed. A planned economy eliminates the dependence of production on individual profit motives, which may not in themselves provide for all society's needs.
Taken as a whole, a centrally planned economy would attempt to substitute a number of firms with a single firm for an entire economy. As such, the stability of a planned economy has implications with the Theory of the firm. After all, most corporations are essentially 'centrally planned economies', aside from some token intra-corporate pricing (not to mention that the politics in some corporations resemble that of the Soviet Politburo). That is, corporations are essentially minature centrally planned economies and seem to do just fine in a free market. As pointed out by Kenneth Arrow and others, the existence of firms in free markets shows that there is a need for firms in free markets; opponents of planned economies would simply argue that there is no need for a sole firm for the entire economy.
Objections to centrally planned economies
Critics of command economy argue that planners cannot detect demand with sufficient accuracy (in a market economy, price signals serve this purpose). For example, during certain periods in the history of the Soviet Union, shortages were so common that one could wait hours in a queue to buy basic consumer products such as shoes or bread. These shortages were due in part to the central planners deciding, for example, that making tractors was more important than making shoes at that time, or because the commands were not given to supply the shoe factory with the right amount of leather, or because the central planners had not given the shoe factories the incentive to produce the required quantity of shoes of the required quality. This difficulty was first noted by economist Ludwig von Mises, who called it the "economic calculation problem".
Critics also argue that the claimed advantages of the latter are in fact achievable by state intervention within the framework of market economy as well. In particular, it is it possible to create unprofitable but socially useful goods within the context of a market economy. For example, one could produce a new drug by having the government collect taxes and then spend the money for the social good. It is also claimed that market economies do allow societies to evaluate the cost of social goods and choose rationally between different alternatives.
Critics also point out that certain types of command economies may require a state which intervenes highly in people's personal lives. For example, if the state directs all employment then one's career options may be more limited. If goods are allocated by the state rather than by a market economy, citizens cannot, for example, move to another location without state permission because they would not be able to acquire food or housing in the new location, since those were not preplanned for (however, advocates of planned economy may point out that a market economy does not guarantee the existence of food and housing at the new location either).
Planned economies and socialism
For details on Soviet economic planning, see Planning in the Soviet economy.
Most planned economies were implemented by states that called themselves socialist. Nevertheless, a planned economy should not be seen as a necessary element of socialism. Considerable amounts of centralized planning in the economy supervised by government have proven possible within the context of a market economy.
Some have used criticism of command economy as a means of objecting to socialism. However, many socialists have pointed out that socialism (of the social democratic type) in Western Europe occurs in a context of a market economy and not a command economy. Indeed the People's Republic of China terms its own economy a socialist market economy.
However, the exact definition of "socialism" is hotly disputed by several political groups which identify themselves as "socialist" (including Marxists, social democrats, libertarian socialists, anarchists, and others), and that therefore the relationship between planned economy and socialism depends on the kind of socialism in question (for example, orthodox Marxists argue that state planning is essential to socialism, while anarchists and libertarian socialists are far more skeptical about the legitimacy of central authority).
Transition from a planned economy to a market economy
The shift from a command economy to a market economy has proven to be difficult, in particular, there are no theoretical guides for how to do so. For example, it is generally believed that China largely succeeded in converting to a market economy by first creating a pricing system and encouraging people to enter the market and start new businesses. China also carefully structured the transition so that no one would be much worse off under a market economy than a command economy while some people would be much better off. By contrast, the Soviet Union's transition was much more problematic and Russia has yet to generate the high rate of sustained economic growth that China has.