The Economic Problem Flashcards
What is economics?
Economics exists because there is a problem in the world. We have unlimited needs and wants and yet there are only a limited amount of resources in the world. So, we need to have a way of allocating these scarce resources among people.
Economic goods and free goods
Most things that we have are economic goods. This means that they are scarce - there is not an unlimited supply of these goods. However, there are some free goods. These are resources that are usually not seen as limited, such as air. Economists are interested in the allocation of economic goods.
The economic problem
The economic problem is how we go about allocating scarce (economic) resources.
Economists ask the following questions:
- What should be produced?
- How should it be produced?
- For whom should it be produced?
Microeconomics and Macroeconomics
Microeconomics looks at the economic problem in terms of how individual consumers, producers and governments are involved in the allocation of a product.
Macroeconomics looks at the economic problem in terms of an entire economy, and how households, businesses and the government are involved in the allocation of all resources in that economy.
Normative and Positive Statements
- In economics, some of what we deal with is fact and some of what we deal with is opinion. As economists you must be able to distinguish between the two
- Positive statements are factual. They are not necessarily correct but can be tested. For example, the UK has a population of over 66 million people.
- Normative statements are opinion based. They are value judgements with which you might agree or disagree. For example, there are too many people in the UK.
Economic Agents
Economic agents are the key groups of people involved in the economic problem.
Governments
Firms
Households
The role of the economic agents: households
Households have two key roles in the economy
1) As users/consumers of goods and services. We buy things, e.g. a new car or a packet of crisps, to use them. We call this process ‘consuming’. Therefore, households are consumers of goods and services.
2) Households provide the workforce of businesses/firms. Firms employ us in order to use our efforts to produce goods and services. For example, I am a teacher. I sell my time and academic ability to my school so that it can provide education. We call this ‘labour’. Households, therefore, provide the labour force to firms
The role of the economic agents: firms
Firms have two roles in the economy
1) They are producers of goods and services. For example, Coca-Cola is a producer of soft drinks
2) They are purchasers of the goods and services they use in their production process. For example, a dairy farm may purchase land, cows and machinery to be able to produce packaged milk as a finished product.
The role of the economic agents: governments
Government has many roles in the economy and various political parties have different views on what that role should be
- Governments may use taxation and spending to influence the microeconomy (for a single product) and/or the macroeconomy (for the entire economy). For example, the UK government uses high taxation rates to affect the market for cigarettes. The government also gives benefits to the unemployed to manage poverty.
- The government has other tools with which it can influence the economy. Often these are employed to improve society
However, not everybody agrees that the government is doing the right thing or making the right choices. This is where economics and politics often go hand in hand and also where normative judgements are made.
Rationality
- As economists, we are often dealing with all three economic agents (households, firms and government) when looking at decision-making.
- This means that we have to look at decisions from all three perspectives.
- This can be difficult, especially when we consider that not every household, firm and government thinks the same way.
- Therefore, we have to make an assumption that each economic agent will act rationally.
Rationality is the assumption that each economic agent acts in their own best interests. Usually this means that@
- households aim to maximise their own satisfaction. For example, you will only buy a sandwich if you think that the value of the sandwich to you is at least as much as the money it took to purchase it. If it is not worth that much, you would prefer to keep the money.
- firms aim to maximise their profit. For example, a hairdresser would only employ a new worker to cut hair if they believed that the new worker would bring in more money than the additional wage cost to the firm. A firm may have different objectives, which we will explore later in the course.
- governments aim to maximise welfare. For example, a government is unlikely to decrease the taxation on sugary foods, as it believes that these foods are bad for peoples health
The factors of production
The factors of production are the building blocks needed for a business to operate and be able to produce goods and services. There are four factors: land, labour, capital and enterprise
The business must pay to use the factors of production. This payment is known as the reward for the factor of production. Land is rewarded through rent, labour through wages, capital through interest and enterprise through profit.
