Command Economy: Characteristics, Pros, Cons, and Examples

Two Things a Command Economy Does Really Well

China's Five Year Plan
International Monetary Fund Managing Director Christine Lagarde speaks at the China Development Forum on March 20, 2016 in Beijing, China. Photo by Stephen Jaffe/IMF via Getty Images

A command economy is where a central government makes all economic decisions. The government or a collective owns the land and the means of production.  It doesn't rely on the laws of supply and demand that operate in a market economy. A command economy also ignores the customs that guide a traditional economy.  

In recent years, many centrally-planned economies began adding aspects of the market economy.

The resultant mixed economy better achieves their goals.

Five Characteristics of a Command Economy

You can identify a modern centrally planned economy by the following five characteristics.

1. The government creates a central economic plan. The five-year plan sets economic and societal goals for every sector and region of the country. Shorter-term plans convert the goals into actionable objectives. 

2. The government allocates all resources according to the central plan. It tries to use the nation's capital, labor and natural resources in the most efficient way possible. It promises to use each person's skills and abilities to their highest capacity. It seeks to eliminate unemployment.

3. The central plan sets the priorities for the production of all goods and services. These include quotas and price controls. Its goal is to supply enough food, housing, and other basics to meet the needs of everyone in the country.

It also sets national priorities.  These include mobilizing for war or generating robust economic growth.

4. The government owns monopoly businesses. These are in industries deemed essential to the goals of the economy. That usually includes finance, utilities, and automotive. There is no domestic competition in these sectors.

5. The government creates laws, regulations, and directives to enforce the central plan. Businesses follow the plan's production and hiring targets. They can't respond on their own to free market forces. (Source: Bon Kristoffer G. Gabnay, Roberto M Remotin, Jr., Edgar Allan M. Uy, editors. . 2007. Rex Book Store: Manila.)

Advantages

Planned economies can quickly mobilize economic resources on a large scale. They can execute massive projects, create industrial power, and meet social goals. They aren't slowed down by lawsuits from individuals or environmental impact statements. 

Command economies can wholly transform societies to conform to the government's vision. The new administration nationalizes private companies. Its previous owners attend "re-education" classes. Workers receive new jobs based on the government's assessment of their skills. 

Disadvantages

This rapid mobilization often means command economies mow down other societal needs. For example, the government tells workers what jobs they must fulfill. It discourages them from moving. The goods it produces aren’t always based on consumer demand. But citizens find a way to fulfill their needs.

They often develop a shadow economy, or black market. It buys and sells the things the command economy isn't producing. Leaders' attempts to control this market weakens support for them.

They often produce too much of one thing and not enough of another. It's difficult for the central planners to get up-to-date information about consumers' needs. Also, prices are set by the central plan. They no longer measure or control demand. Instead, rationing often becomes necessary.

Command economies discourage innovation. They reward business leaders for following directives. This doesn’t allow for taking the risks required to create new solutions.

Command economies struggle to produce the right exports at global market prices. It's challenging for central planners to meet the needs of the domestic market.

Meeting the needs of international markets is even more complex.

Examples

Here are examples of the most well-known countries with command economies:

 - This former Soviet satellite is still a command economy. The government owns 80 percent of its businesses and 75 percent of its banks. 

China - After World War II, Mao Tse Tung created a society ruled by Communism. He enforced a strictly planned economy. The current leaders are moving toward a market-based system. They continue to create five-year plans to outline economic goals and objectives.

 - Fidel Castro's 1959 revolution installed Communism and a planned economy. The Soviet Union subsidized Cuba’s economy until 1990. The government is slowly incorporating market reforms to spur growth.

Iran - The government controls 60 percent of the economy through state-owned businesses. It uses price controls and subsidies to regulate the market. This created recessions, which it has ignored. Instead, it devoted resources to expanding its nuclear capability. The United Nations imposed sanctions, worsening its recessions. The economy improved once the nuclear trade deal ended sanctions in 2015. 

 - In 1969, created a command economy reliant upon oil revenues. Most Libyans work for the government. Gaddafi had been instituting reforms to create a market-based economy. But his 2011 assassination halted these plans.

 - After World War II, President Kim Il-sung created the world's most centrally-planned economy.  It created food shortages, malnutrition and several bouts of mass starvation. Most state resources go into building up the military. 

Russia - In 1917, Vladimir Lenin overthrew the czars. He created the first Communist command economy. Josef Stalin built up military might and quickly rebuilt the economy after World War II. The Soviet State Planning Committee, or “Gosplan,” has been the most studied command economy entity. The USSR was also the longest running command economy, lasting from the 1930s until the late 1980s. Then, the state transferred ownership of the largest companies to oligarchs

Development of the Theory 

Viennese economist Otto Neurath developed the concept of a command economy after World War I. Neurah proposed it as a way to control hyperinflation. The phrase “command economy” comes from the German word "Befehlswirtschaft.” It described the fascist Nazi economy. (Source: John Eatwell, Murray Milgate, Peter Newman, . 1990. p 58.)

But centrally planned economies existed long before Nazi Germany. They included the Incan empire in 16th century Peru and the Mormons in 19th century Utah. The United States used a command economy to mobilize for World War II.  (Source: John Gary Maxwell, University of Oklahoma Press. 2016. "Inca Government and Economy." Early Civilizations in the Americas Reference Library, edited by Sonia G. Benson, et al., vol. 1: Almanac, Vol. 1, UXL, 2005, pp. 179-198. .)