The Basic Economic Problem (Cambridge (CIE) A Level Economics): Revision Note

The fundamental economic problem: scarcity

• The fundamental economic problem is that resources are scarce

  • There are finite/limited resources available in relation to the infinite/unlimited wants and needs that humans have

  • In economics, these resources are called the factors of production

  • Due to the problem of scarcity, choices have to be made by producers, consumers and governments about the best (most efficient) use of these resources

• Economics is the study of scarcity and its implications for resource allocation in society

• In a free market, scarcity has a direct influence on prices

  • The scarcer a resource, the higher the price for it will be

  • The less scarce a resource, the lower the price for it will be

• Resources can either be renewable or non-renewable

  • Renewable resources can be used repeatedly and naturally replenished

    • For example, wind-generated electricity

  • Non-renewable resources cannot be naturally replenished at a pace that keeps up with consumption

    • For example, oil and coal

Defining opportunity cost

• Opportunity cost is the loss of the next best alternative when making a decision

• Due to the problem of scarcity, choices have to be made about how to best allocate limited resources amongst competing wants and needs

Opportunity cost in decision-making

• There is an opportunity cost in the allocation of resources:

  • When a consumer chooses to purchase a new phone, they may be unable to purchase new jeans. The jeans represent the loss of the next best alternative (the opportunity cost)

  • When a producer decides to allocate all of their resources to producing electric vehicles, they may be unable to produce petrol vehicles. The petrol vehicles represent the loss of the next best alternative (the opportunity cost)

  • When a government decides to provide free school meals to all primary students in the country, they may be unable to fund some rural libraries, which may have to close. The libraries represent the loss of the next best alternative (the opportunity cost)