Revision Guide: Unit 1

Markets at Work



(A) The Basic Economic Problem

What is it?

The basic economic problem is the fact that RESOURCES are SCARCE (limited in supply) but WANTS are INFINITE (never ending). As a result of this, consumers, producers and the government have to make CHOICES about how to ALLOCATE scarce resources.

When we choice one thing, we often sacrifice or give-up something else. OPPORTUNITY COST is the highest valued alternative that we forego because scarce resources allocated elsewhere.

What are resources?

Resources are all the elements that go into the production of goods and service. Resources are often known as the

FACTORS OF PRODUCTION. There are 4 factors of production:

  1. LAND: All natural resources used in production, for example building land, oil, water, wheat, apples
  2. LABOUR: The human contribution to production- i.e. workers!
  3. CAPITAL: Capital refers to man-made equipment that is developed to aid the production of other goods and services. For example machines, computers, vehicles, shop fixtures, tills
  4. ENTERPRISE: The person(s) who has the initial business idea, raises the money and organises the other factors of production.

Economic Systems

All economies face the basic economic problem. However, they may have different approaches to addressing it and

allocating resources. The approach they choose is known as an “economic system”

  1. PLANNED ECONOMY: All resources are owned by the PUBLIC SECTOR (the sector of the economy owned and controlled by the government). The public sector determines what goods and services are made and how. Goods and services are “shared out” amongst the population
  2. FREE-MARKET ECONOMY: All resources are owned by the PRIVATE SECTOR (the sector of the economy owned and controlled by private individuals). Goods and services are allocated via the MARKET MECHANISM, that is via demand and supply (prices)

There are pros and cons of planned and free-market economies:

Pros Cons
Planned Economy It is fair, everyone will get something There is no incentive to be efficient
Theoretically, everyone can be given a There will be little choice for consumers
job or workers
The government can provide merit There may be corruption
goods such as health and education, and Economic growth tends to be great low
public goods such as defence because of the lack of profit incentives
Free Market Economy There is competition- this is good for Inequality- there will be absolute and
consumers (Low prices, better quality, relative poverty- poor people will be
more choice, more innovation) reliant on charity and will have no choice
There is more incentive to be efficient as Public and merit goods may not be
low costs can allow low prices which provided/will be under
may be important if markets are produced/consumed- eg not enough
competitive access to education and health care
Environmental costs (eg pollution) is
likely and there is no incentive to look at
sustainable use of resources