Economic Problem

• Economics


  • Looks at the behaviour of humans, individuals or part of organisations such as firms and governments, and their use of scarce resources
• Methodology used by economists

  1. Develop theories and create economic models to explain phenomena

  2. Use simplifying assumptions to limit the number of variables in an investigation

  3. Test theories and models against relevant known facts, making use of observation, deduction, graphs, statistics and other tools

  4. Use empirical data to improve and revise their economic models

  5. Use economic models to make predictions
• Economists can't conduct controlled laboratory experiments where only one variable is changed at a time
• Ceteris paribus


  Latin for 'all other things remaining equal'
• Economists use ceteris paribus when looking at the relationship between two factors, assuming that only these two factors change and all other factors remain the same
• Using ceteris paribus enables economists to develop theories and models, and make predictions
• Positive statements


  Objective statements that can be tested by referring to available evidence
• Normative statements


  Subjective statements which contain a value judgement - they are opinions
• Normative statements influence decision-making and government policy
• The economic problem


  How best to satisfy infinite desires using limited resources
• Factors of production


  • Land
  • Labour
  • Capital
  • Enterprise
• Land


  Includes all the Earth's natural resources, both renewable and non-renewable
• Nearly all things that fall under the category of land are scarce - there are not enough natural resources to satisfy the demands of everyone
• Free goods


  Things that are not scarce and which can therefore be obtained for free
• Economic goods


  Things that are scarce and which can therefore be traded
• Labour


  The work done by people who contribute to the production process
• There are usually people who are capable of working but don't have a job, known as the unemployed
• There are also people who aren't in paid employment but still provide things people need or want, e.g. homemakers
• Human capital


  Factors like education, experience or training that can make some people more employable or productive than others
• Capital


  Equipment, factories and schools that help to produce goods or services
• Much of an economy's capital is paid for by the government
• Enterprise


  The willingness to take a risk to make a profit
• If the business succeeds, the reward for the entrepreneur's risk-taking is profit
• Economic activity involves combining the factors of production to create outputs that people can consume
• Forms of economic activity

  • Making goods
  • Providing services
  • Consumption (buying or using goods and services)
• There is an endless array of things that could be produced and consumed, but only limited resources
• Fundamental economic questions


  • What to produce
  • How to produce
  • Who to produce it for
• Economic agents


  • Producers
  • Consumers
  • Governments
• In a market economy, economic agents are assumed to be rational and will make decisions based on economic incentives
• Producers decide what to make and how much to sell it for


  Consumers decide what they want to buy and how much they're willing to pay for it
• Governments have to decide how much to intervene in the way producers and consumers act


  This is based on economic incentives such as making profit or paying as little as possible for a product
• Producers will want to produce goods that they can make a profit from
• Producers will want to produce goods in the most efficient way to maximise their profits
• Producers will produce goods for consumers who are willing to pay for those goods
• Production Possibility Frontiers


  Show the maximum possible output
• The PPF below shows the maximum number of houses and vehicles that can be produced with the available resources
• The horizontal axis represents the number of houses and the vertical axis represents the number of vehicles
• The PPF shows all the combinations of houses and vehicles that can be produced with the given level of resources
• All points on the PPF are productively efficient because all resources are being used as efficiently as possible
• Points inside the PPF are productively inefficient because not all resources are being used efficiently