Closed Economy vs Open Economy
In today’s modern economies, international trade plays a vital role. International trade ensures that countries produce and export products and services efficiently at a lower cost and import other products and services that they cannot produce efficiently from a country that can. Such an economy is called an open economy. A closed economy is a self-sufficient one that depends 100% on local production of all needed goods and services. The following article explores these terms in greater detail and provides a detailed explanation of their similarities and differences.
Open Economy
Open economies as the name suggests are economies that maintain financial and trade ties with other countries. In an open economy, countries will trade import and export goods and engage in international trade activities. An open economy also allows corporations to borrow funds, and banks and financial institutions to lend funds to foreign entities. Open economies will also trade technological knowhow and expertise.
Open economies have been encouraged, and many open economies exist through international trade agreements and economic and political unions. The North American Free Trade Agreement (NAFTA) is a free trade agreement between the US, Canada and Mexico, and the European Union (EU) is a union between 27 member states in Europe to encourage economic and political corporation. Such trade unions allow member countries to specialize in the production of goods and services (for which they have the right geographic landscape, resources, cheap labour, etc.) which they can then produce efficiently at a lower cost.
Closed Economy
A closed economy is one that does not interact with other countries. A closed economy will not import or export goods and services, and will become self-sufficient by producing what they need locally. The disadvantage of a closed economy is that all needed goods will have to be manufactured regardless of whether the economy has the required factors of production. This could result in inefficiencies which may drive up the cost of production and, therefore, increase the price that consumers pay.
Closed economies also lose the opportunity to sell to a larger market place, and will have limited product development opportunities due the restriction in knowledge and technology transfer. Another disadvantage is that corporations will not have access to global financial markets, which can restrict the funds available for investment. Furthermore, a closed economy may give dominance to local producers who may provide a lower quality, high priced product due to lack of competition from foreign producers.
Closed vs Open Economy
Closed economies and open economies are very different to one another in terms of the attitude towards trade and interaction with foreign countries. Closed economies are very rare as most closed economies have evolved into open economies over time. A closed economy does not interact with other countries and prefers to be self-sufficient, which may hinder their growth. An open economy, on the other hand, is beneficial to the global economy and will result in more trade, more funding for investment, and better development of products and services.
Summary:
• Open economies as the name suggests are economies that maintain financial and trade ties with other countries.
• A closed economy will not import or export goods and services, and will become self-sufficient by producing what they need locally.
• Open economies are preferred and encouraged due to the greater investment, development and growth that result from international trade and sharing of knowledge and capital.