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The key to understanding a command economy is understanding what determines the prices of inputs and how markets operate. A good example of this is supply and demand. The supply is defined as something that is needed, while demand is the amount of people and enterprises willing to buy or sell. Put quite simply, if there are more buyers than sellers, then the supply will be high, and if there are fewer buyers than sellers, then the supply will be low. It can get more complex, but that's the gist of it.

Because of demand and supply conditions, prices are driven up or down. In a command economy, the government decides which activities should be allowed to take place and control prices through regulation. That is why businesses are not allowed to charge below market value, otherwise they face stiff penalties. This doesn't mean, however, that prices are controlled by the consumers; rather, the government decides how much the market will bear, and controls the price accordingly. The end result is that while the government controls the supply, it also controls the demand.

The above description of how a market normally operates applies equally to a free-market system. A free-market system is a system in which there is no inherent power to command a price level. Market prices are determined by supply and demand, as previously discussed. In such a market, prices are set by the expectations of both buyers and sellers.

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What does this have to do with a command economy? Let's use a classic example to explain. If there are two producers, A and B, who are both trying to sell their goods at the same price, then A will have a natural monopoly on the market. Because no one can enter the monopoly, it will always be the price level preferred by all market participants, including A and B. Because of this, there will be no demand for either product.

This situation arises whenever a firm establishes a policy of raising its price above the competitors. In a market with a free-market price level, no firm can legally raise its price unless it can generate a profit. So, even if there are numerous competing firms, A cannot legally increase its price above the competition's price. A properly functioning market, then, is characterized by price level changes that are driven by individual decisions, rather than by the wishes of firms.

So, what does this mean for the understanding of how a market works? Since the centralization of economic power is at the heart of how a market is controlled, it becomes evident that a command economy is characterized by centralization of political power, with the result that some people benefit from the results of others' choices. Central planning is impossible in a pure market. Prices, instead, are determined by individual decisions, and the results of these decisions are dispersed into the marketplace. However, because a market distributes the effects of decisions, price level effects are always just beyond the horizon of the participants in the marketplace.

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