The economic problem Flashcards
What is scarcity?
A situation where there are limited resources (factors of production) to meet people’s unlimited wants.
What are the factors of production?
- Capital:
↳ refers to man made aids used in the production process. They are goods used to make other goods. - Entrepreneur:
↳ refers to a person who organizes, manages, and takes on the risks of a firm. - Land:
↳ refers to the natural resources in an economy. These are, for example, coal, oil, trees, the sea and the ground itself. - Labour:
↳ refers to the workforce in the production process.
What are the rewards for owning the factors of production?
Capital ➝ Interest
Entrepreneur ➝ Profit
Labour ➝ Wages
Land ➝ Rent
What is the difference between economic goods and free goods?
An economic good is a resource which is scarce because it’s use has an opportunity cost.
E.g. A diamond is an economic good because it is put at a high price to decide who gets it.
A free good is a resource which is not scarce because its use has no opportunity cost.
E.g. Air is a free good as its supply is endless and so there is not price put on it to own it.
What is the difference between a need and a want?
A need is the minimum required for survival. There are basic needs i.e. Food, water, shelter, clothing and warmth.
A want is the desire for goods and services which are not essential to human survival.
What is an opportunity cost?
The benefits forgone of the next best alternative.
In the exam you would write:
“The opportunity cost of… (what you did)… is….(what you sacrificed).”
What is the economic problem?
Wants are infinite but there are limited resources available (factors of production) to fulfil these wants. Allocating scarce resources in order to satisfy these needs and wants is the basic economic problem.
Scarcity forces economic agents (consumers, firms and governments) to make choices.
Economic choices involve a range of alternatives - this causes the opportunity cost of choice:
- For consumers, the opportunity cost of buying a chocolate bar is buying 2 packets of crisps
- For firms, the opportunity cost of buying a new machine is investment in marketing
- For the government, the opportunity cost of a fighter plane might be building a new school
What are the 3 factors of the basic economic problem for firms?
- What goods are to be produced?
↳ Firms are more likely to produce goods which are rising in price. If there is excess demand, the price of goods increase to decrease the demand - suggesting that this good is scarce. Firms will have the incentive to do this in order to maximize profits.
Once they have managed to increase the supply to meet demand, the price will fall as the product is no longer scarce, so consumers who could not afford it before can now.
- How to produce these goods?
↳ The firm has to decide which 4 factors of production - ‘land, labour, capital and entrepreneur’ - it should use to produce the supply of a good i.e. buying machinery (capital) rather than employing labour to increase efficiency.
Firms have the incentive to select the cheapest factor of production to make the product over the more expensive alternative e.g. Labour is far more expensive in the UK than in Asia and so capital would be used in the UK whereas, in Asia, labour would be used.
- Who gets these goods?
↳ Once the goods have been produced, in a capitalist society, prices are used to decide who gets the goods. However, in a communist society, it is not prices but the government who decides. They will supply and distribute goods in order to ensure equality.
What are the incentives of economic agents?
- Households are utility maximising. This means they aim to achieve the highest level of satisfaction possible. Their decisions will depend of the benefits gained from consuming a product relative to the costs involved. E.g., if the the price of a product falls, households have the incentive to consume more as the cost has fallen relative to the benefit.
- Firms are profit maximising. This means they aim to achieve the highest level of profit possible. Their decisions will depend on the potential profits that supplying a product can create. E.g., if the price of a product rises, a firm has the incentive to supply more of it assuming this increases their profits.
- Governments have the incentive to meet the 7 macro-objectives. These objectives will improve people’s quality of life. E.g., to reduce the consumption of demerit goods such as alcohol, the government may try to place a tax on it which would raise the price of alcohol.
How to measure choice?
We use the concept of opportunity cost.
If the value of the choice we have made is greater than the value of the opportunity cost (the next best alternative), then we have made a good choice and vice versa.
What is a renewable and non-renewable resource?
- A renewable resource can be economically exploited over and over again as they have the potential to renew themselves.
- A non renewable resource is one which once economically exploited cannot be replaced.
What is a sustainable resource and non sustainable resource?
- A sustainable resource is a renewable resource that is being economically exploited in such a way that it’s stock will not run out.
- A non sustainable resource is a renewable resource that is being economically exploited in such a way that it’s stock will one day run out.
