1.1.3 The Basic Economic Problem

Question 1

What is The Basic Economic Problem?

Answer 1

It involves the allocation of scarce resources between competing uses – people have an infinite number of wants but resources are finite, so choices have to be made. Resources have to be used and distributed optimally.

Question 2

What is an economy?

Answer 2

A system for the production and exchange of goods and services to satisfy the wants and needs of the population

Question 3

What is the problem of scarcity?

Answer 3

There are insufficient resources for everyone’s wants, scarcity means that economic agents (individuals, firms governments) can only obtain a limited amount of resources at any given time. Scarcity —> making choices —> Basic Economic Problem

Question 4

What are renewable resources?

Answer 4

A resource which is replaced naturally and can be used again.
e.g. oxygen, fresh water, solar energy, wind power

Question 5

What are non-renewable resources?

Answer 5

A resource that doesn’t renew itself at a sufficient rate for sustainable economic extraction in meaningful human time frames
e.g. fossil fuels, crude oil, gas, coal

Question 6

What are sustainable resources?

Answer 6

Sustainable resources are a particular type of renewable resource.
These are the types of resources that can be exploited economically and will not diminish or run out.
e.g. Forests are a renewable resource, however it is only a sustainable resource if it survives over time despite economic activities such as farming.

Question 7

What is opportunity cost?

Answer 7

Opportunity cost is the next best alternative forgone when making a decision
It represents the benefits that could have been gained from choosing an alternative course of action but were given up in favour of the chosen option.
Opportunity cost formula = total gained / total given up

Question 8

The importance of opportunity cost to economic agents (producers, government, consumers)

Answer 8

For example, producers might have to choose between hiring extra staff and investing in a new machine.
The government might have to choose between spending more on the NHS and spending more on education.
A consumer may have £10,000 to invest, they could invest it in stocks or put the money into a savings account with a fixed interest rate.
They cannot do both because of finite resources, so a choice has to be made for where resources are best spent.

Question 9

What are the Factors of Production/Factor Inputs?

Answer 9

• Land: not only the land itself but the resources below the earth, the ground, in the atmosphere and in the sea
• Labour: the workforce of an economy
• Capital (Working capital + Fixed capital): the manufactured stock of tools, machines, factories, offices, roads and other resources which are used in the production of goods and services
• Enterprise: seeking out profitable opportunities for production and taking risks in attempting to exploit these

Question 10

What is the difference between Short Run and Long Run economics?

Answer 10

• Short Run: At least one factor input is fixed
• Long Run: All factors of production are variable/changing

Question 11

What is Productivity?

Answer 11

• Productivity measures the output per unit input
  Factor inputs + Factor Productivity (efficiency) = Output of goods and services
• In the long run, productivity is a major determinant of economic growth and inflation
• A fall in labour productivity leads to a rise in firms’ (unit) costs of production (assuming the level of wages remain the same)
• Higher productivity allows businesses to pay higher wages and achieve increased profits at the same time

Question 12

What is the difference between Production & Productivity?

Answer 12

• Production: it’s a measure of the value of the output of goods and services e.g. measured by national GDP or an index of production in a specific industry
• Productivity (output per unit of input): a measure of the efficiency of factors of production, measured by output per person employed or by output per person hour

An increase in production DOES NOT automatically mean an increase in productivity - depends on how many factor inputs have been employed to supply the extra output