Basic Economic Problem

Basic Economic Problem
 The fundamental economic problem is the issue of scarcity and how best to
produce and distribute these scare resources.
 Scarcity means there is a finite supply of goods and raw materials.
 Finite resources mean they are limited and can run out.
 Unlimited wants mean that there is no end to the quantity of goods and services
people would like to consume.
 Because of unlimited wants – People would like to consume more than it is
possible to produce (scarcity)
Examples of the economic problems in terms of this following aspects:
1.Consumers
Households have limited income and they need to decide how to spend their finite
income. For example, with an annual income of £20,000, a household may need to
spend £10,000 a year on rent, council tax and utility bills. This leaves £10,000 for
deciding which other food, clothes, transport and other goods to purchase.
2.Workers
Householders will also face decisions on how much to work. For example, working
overtime at the weekend will give them extra income to spend, but less leisure time to
enjoy it. A worker may also wish to spend more time in learning new skills and
qualifications. This may limit their earning power in the short-term, but enable a greater
earning power in the long-term.
3.Producers
A producer needs to remain profitable (revenue higher than costs). So it will need to
produce the goods which are in high demand and respond to changing demands and
buying habits of consumers – for example, switching to online sales as the high street
declines.
4. Firms
Firms may also need to make long-term investment decisions to invest in new
products and new means of production.
5.Government
The government has finite resources and its spending power is limited by the
amount of tax that they can collect. The government needs to decide how they collect
tax and then they need to decide whom they spend money on.
The Four Basic Problems of an Economy.
Basic Problems of an Economy – #1 – What to Produce?
What does a society do when the resources are limited? It decides which goods/service it
wants to produce. Further, it also determines the quantity required While it sounds
elementary, society must decide the type and quantity of every single good/service to be
produced.
Basic Problems of an Economy – #2 – How to Produce?
The production of a good is possible by various methods. For example, you can produce
cotton cloth using handlooms, power looms or automatic looms. While handlooms require
more labour, automatic looms need higher power and capital investment.
Basic Problems of an Economy – #3 – For whom to Produce?
Think about it – can a society satisfy each and every human wants? Certainly not.
Therefore, it has to decide on who gets what share of the total output of goods and
services produced. In other words, society decides on the distribution of the goods
and services among the members of society.
Basic Problems of an Economy – #4 – What provision should be made for

economic growth?
Can a society use all its resources for current consumption? Yes, it can. However, it is not
likely to do so. The reason is simple. If a society uses all its resources for current
consumption, then its production capacity would never increase.
References:
https://www.economicshelp.org/blog/glossary/basic-economic-problem/#:~:text=Basic
%20Economic%20Problem%201%20The%20fundamental%20economic
%20problem,more%20than%20it%20is%20possible%20to%20produce%20%28scarcity
%29
https://www.toppr.com/guides/business-economics/introduction-to-business-
economics/basic-problems-of-an-economy/
Economic System
An economic system is an organized way in which a country allocates resources

and distributes goods and services across the whole nation or a given geographic area.
It is including the combination of several institutions, entities, agencies, decision-making
processes and patterns of consumption that make up the economic structure of a
specific community. Hence it is a type of social system.
An economic system defines how all the entities in an economy interact. Defining
them today is much more complicated than it used to be. Ancient systems were
relatively simple – trade was carried out using barter and there were very few treaties
and rules of engagement.
Three main economic systems
In this world there are three main types of economic systems. Governments and
their leaders claim to have their own peculiar systems, but they are all basically mixed
economies. Economic systems can be basically classed into three categories.
1.Market economy- prices are determined by levels of supply and demand, instead of

central and or local government. Market forces determine what is produced, how much
is produced, how it is distributed, plus the prices of goods and services. All decisions
regarding investment and salaries are also driven by market forces in a market
economy. In a market economy, the government plays a minor role and only lays down
the rules so that businesses can thrive. An outdated word for this type of economy
is Capitalism.
2.Planned economy- all decisions regarding production, distribution, salaries,

investment and prices are made by a central authority – usually the government. The
closest examples to this type of economy today are North Korea and Cuba (to a lesser
extent). In a planned economy, also known as a centralized economy, controlled
economy or command economy, central government has planners who make all the
decisions. According to economists, the most fundamental difference between a market
and planned economy is the existence of private property, i.e. it exists in the free market
and does not in the command economy.
3.Mixed Economy- market economies sometimes get into trouble, at which point the
government feels compelled to intervene. Sometimes, when lawmakers believe some
players are being exploited unfairly, or the level playing field for business is under
threat, the government may become involved.
Reference:
https://marketbusinessnews.com/financial-glossary/economic-system-definition-
meaning/#:~:text=An%20economic%20system%20defines%20how%20goods%20and
%20services,they%20had%20for%20what%20they%20wanted%20or%20needed.
The Circular-Flow Model of the Economy
One of the main basic models taught in economics is the circular-flow model,
which describes the flow of money and products throughout the economy in a very
simplified way. The model represents all of the actors in an economy as either
households or firms (companies), and it divides markets into two categories:
 Markets for goods and services

 Markets for factors of production (factor markets)
Remember, a market is just a place where buyers and sellers come together to
generate economic activity.
Reference:
https://www.thoughtco.com/the-circular-flow-model-of-the-economy-1147015

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Basic Economic Problem

Examples of the economic problems in terms of this following aspects:

The Four Basic Problems of an Economy.

Basic Problems of an Economy – #1 – What to Produce?

Basic Problems of an Economy – #2 – How to Produce?

Basic Problems of an Economy – #3 – For whom to Produce?

Basic Problems of an Economy – #4 – What provision should be made for

An economic system is an organized way in which a country allocates resources

Three main economic systems

1.Market economy- prices are determined by levels of supply and demand, instead of

2.Planned economy- all decisions regarding production, distribution, salaries,

 Markets for goods and services

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