Chapter One Basic Economic Problem Flashcards
What is economics according to Lord Robbins?
“Economics is a science which studies human behaviour as a relationship between ends and scarce means which have alternative uses”
“Ends” refers to human wants which are unlimited. They are also growing with time. It is found that the moment one want is satisfied, the need to satisfy other wants arises.
“Scarce means” refers to the limited resources at the disposal of mankind. They are strictly limited and such resources can be put to different uses.
What is the Basic Economic Problem?
The basic economic problem is concerned with how best to allocate scarce resources so as to satisfy people’s unlimited need and wants. The mismatch between our limited resources and infinite wants gives rise to the basic economic problem which can be analysed in terms of scarcity, choice and opportunity cost.
Define scarcity
Scarcity means that our resources are not enough to satisfy our wants. It means that our resources are limited in supply in relation to its demand. In other words, the resources available to mankind are inadequate or insufficient to satisfy the growing needs and wants of the population.
Define Choice
Choice refers to a selection among alternatives. This means that among all the different wants, the one(s) which is selected become the choice.
A choice is normally based upon a scale of preference or priority list. This is an arrangement of wants in order of preference or priority. At the top, there are more important wants followed by the less important ones.
What is decision making at the margin?
Decision making at the margin is concerned with the effect of adding a further action to the current activity level. For instance, before undertaking any additional step, there is a need to consider the additional cost that will be involved and the additional benefit which will be subsequently generated. Hence, better decision will be taken whenever decisions are made on an incremental basis.
Examples of decision making at the margin:
1) Consumers needs to maximise their satisfaction with limited income. Hence, they can make use of the Equi-marginal principle.
2) Workers have limited time and thus must make a choice of occupation. They will be guided by the wage and non-wage factors available.
3) Producers is guided by the need to maximise profits. Hence, they will use the MC = MR rule. They also need to reduce costs and hence they will make use of the least combinations of factor inputs
4) Investors will consider the Marginal Efficiency of Capital and the Rate of Interest so as to know where to invest their money
5) Governments will carry out a Cost and Benefit Analysis to determine whether a project is economically feasible or not.
What does the Basic Questions for Resource Allocation - What to Produce means?
It refers to the allocation of resources between competing need and wants. Given the scarcity of resources, it is not possible to produce everything. The government will have to decide what good and services to provide and what not to provide. This will normally tallies with the population wants
It therefore explains the amount of resources to be allocated to the primary, secondary and tertiary sectors. As a country develops less resources will be diverted towards primary sector and more will be allocated towards manufacturing and tertiary sector. The government will also determine the resources to be diverted towards capital and consumer goods. A decision will have to made as to whether to invest more on national defence for internal security or undertake more investment to ensure the future
Basic Questions for Resource Allocation - How to Produce?
This refers to the way in which resources will be used. Resources being scarce, it is not possible to produce in whatever way. Scarce resources will have to be used in the best possible way so as to produce maximum amount of goods and services out of the limited means. There is a need to reduce wastages and produce as efficiently as possible.
Therefore, it related to the techniques of production to be used. For example, whether to use labour-intensive techniques or capital intensive ones. Whether to use genetically modified plants and animals or stick to traditional systems of production.
Basic Questions for Resource Allocation - For Whom to Produce?
It refers to the distribution decision. Due to scarcity it is not possible to produce for everyone. The government will have to decide for whom to produce and for whom not to produce. For instance, whether to produce more of those goods consumed by the rich or more of those consumed by the poor. A decision will have to be made as to whether to distribute the goods and services equally to everyone or allow the market to effect the distribution such that those who can pay more will have more and those who cannot pay will have to go without the product.
What is opportunity cost?
Whenever a choice is exercised, some wants are satisfied and some wants remain unsatisfied. The unsatisfied wants are known as alternative foregone.
Opportunity cost is the next best alternative foregone whenever a choice is exercised. It is the cost of having something in terms of other things that could have been obtained instead. Thus opportunity cost is the real or true cost of an economic activity.
