Economic problem

The economic problem, sometimes called the fundamental economic problem, is one of the fundamental economic theories in the operation of any economy. It asserts that there is scarcity, that the finite resources available are insufficient to satisfy all human wants. The problem then becomes how to determine what is to be produced and how the factors of production (such as capital and labour) are to be allocated. Economics revolves around methods and possibilities of solving the economic problem.

Overview

The economic problem is most simply explained by the question "How do we satisfy unlimited wants with limited resources?" The premise of the model of the economic problem is that human wants are constant and infinite due to the constantly changing demands (often closely related to changing demographics) of the population. However, resources in the world to satisfy human wants are always limited to the amount of natural resources or human resources (jobs) available. The economic problem, and methods to curb it, revolve around the idea of choice in prioritizing which wants can be fulfilled.

Concepts in the economic problem

Wants

While the basic needs of human survival (food, water, shelter, health and education) are important in the function of the economy, human wants are the driving force which stimulates demand for goods and services. In order to curb the economic problem, economists must classify the nature and different wants of consumers, as well as prioritize wants and organize production to satisfy as many wants as possible.

One of the assumptions made in economics and the methods which attempt to solve the economic problem is that humans are overall greedy, and thus themarket must produce as much as possible to satisfy them. These wants are often classified into "individual wants" (which depend on the individual preferences and an individual's purchasing power parity) and "collective wants" (those of entire communities). Things such as food and clothing can be classified as either wants or needs, depending on what type of good and how often.

Choice

The economic problem fundamentally revolves around the idea of choice. Due to the limited resources available, businesses must determine what to produce first to satisfy demand. Consumers are obviously the biggest influences of this choice, as the goods which they want must also fit within their budgets and purchasing power parity.

Different economic models place choice in different hands.

Socialism asserts that (at least) some economic choices are best made for the greatest good of society if they are made at the societal level for everyone, e.g. via a government agency. Communism takes this further and argues that most or even all major economic choices should be made through central planning by the government. Only by constructing a cohesive plan that takes the good of everyone into account, so the thinking goes, can the best allocation of resources be achieved. See also Marxism.

Capitalism argues for a more laissez-faire approach, wherein the role of the government is to protect the property rights of individuals and companies so that they can have the confidence to undertake the economic activity (and risks) that will create the most value. In a free-market economy without the constraints of government wage and price controls, proponents of market capitalism argue, resources are automatically allocated toward the things that society, collectively, values most. If a good or service is overvalued (i.e., the price is too high), the surplus will force poviders of the good or service to lower their prices or to re-allocate their capacity to produce something more worthwhile. If the supply of a good or service is inadequate, rising prices increase the value and so cause more production capacity to be directed toward the item. Adam Smith's The Wealth of Nations has been an extremely influential book for this school of thought. Another advocate of this approach, current as of 2008!!, is Alan Greenspan.

Opportunity cost

References