1. The Economic Problem: Scarcity and Choice Source

2. The Economic Problem: Scarcity And Choice The Three Basic Questions Every society has some system that transforms its scarce resources into goods and services. It must decide what gets produced, how it is produced, and to whom it is distributed. The primary resources that must be allocated are land, labour, and capital.

3. The Economic Problem: Scarcity And Choice capital Things that are produced and then used in the production of other goods and services. factors of production (or factors) The inputs into the process of production. Another term for resources.

4. The Economic Problem: Scarcity And Choice production The process that transforms scarce resources into useful goods and services inputs or resources Anything provided by nature or previous generations that can be used directly or indirectly to satisfy human wants. outputs Goods and services of value to households

5. Scarcity, Choice, and Opportunity Cost Scarcity and Choice in a One-Person Economy Nearly all the same basic decisions that characterise complex economies must also be made in a simple economy.

6. Scarcity, Choice, And Opportunity Cost Scarcity and Choice in a One-Person Economy Opportunity Cost: The concept scarcity is central to the discipline of economics. opportunity costs The best alternative that we give up, or forgo, when we make a choice or decision.

7. Scarcity, Choice, And Opportunity Cost Scarcity and Choice in a One-Person Economy Opportunity Cost: The growth of the fast food market in the last 50 years is a good example of the role of opportunity costs in our lives. Fast Foods and Opportunity Costs

8. Scarcity, Choice, And Opportunity Cost Scarcity and Choice in an Economy of Two or More Specialisation, Exchange, and Trade Buyers and sellers meet in a market place, real (a shop) or virtual (ebay)– and exchange at a market price. This mechanism – the market mechanism – is central to the study of microeconomics. Adam Smith wrote of an ‘invisible hand’ in 1776. And it’s an eternal truth that it’s very hard to go against the market mechanism – although people (and governments) often try.

9. Scarcity, Choice, And Opportunity Cost Examples of trying to beat the market In 1992 Britain tried to defend a fixed exchange rate that was too high. It failed – and left the exchange rate mechanism (the ERM). In 2015, China tried to stop the collapse of share prices by restricting share sales. It failed, and share prices collapsed anyway as investors sought to sell.

10. Scarcity, Choice, And Opportunity Cost Scarcity and Choice in an Economy of Two or More Weighing Present and Expected Future Costs and Benefits We trade off present and future benefits in small ways all the time.

11. Scarcity, Choice, And Opportunity Cost Scarcity and Choice in an Economy of Two or More Capital Goods and Consumer Goods consumer goods Goods produced for present consumption. investment The process of using resources to produce new capital.

12. Scarcity, Choice, And Opportunity Cost The Production Possibility Frontier Inefficiency Waste and mismanagement are the results of a firm’s operating below its potential. Sometimes, inefficiency results from mismanagement of the economy instead of mismanagement of individual private firms.

13. Scarcity, Choice, And Opportunity Cost The Economic Problem Recall the three basic questions facing all economic systems: (1) What gets produced? (2) How is it produced? (3) Who gets it? Given scarce resources, how do large, complex societies go about answering the three basic economic questions?

14. Economic Systems Command Economies command economy An economy in which a central government either directly or indirectly sets output targets, incomes, and prices.

15. Economic Systems Laissez-faire Economies: The Free Market laissez-faire economy Literally from the French: “allow [them] to do.” An economy in which individual people and firms pursue their own self-interest without any central direction or regulation. market The institution through which buyers and sellers interact and engage in exchange. Some markets are simple and others are complex, but they all involve buyers and sellers engaging in exchange. The behaviour of buyers and sellers in a laissez-faire economy determines what gets produced, how it is produced, and who gets it.

16. Economic Systems Laissez-faire Economies: The Free Market Consumer Sovereignty consumer sovereignty The idea that consumers dictate what will be produced (or not produced) by choosing what to purchase (and what not to purchase). Remember that in the neoclassical model, utility-maximising consumers interact with profit-maximising producers to determine the allocation of scarce resources. But this isn’t the only model of rationality and motivation.

17. Economic Systems Laissez-faire Economies: The Free Market Individual Production Decisions: Free Enterprise free enterprise The freedom of individuals to start and operate private businesses in search of profits.

18. Economic Systems Laissez-faire Economies: The Free Market Distribution of Output The amount that any one household gets depends on its income and wealth. Income is the amount that a household earns each year. It comes in a number of forms: wages, salaries, interest, and the like. Wealth is the amount that households have accumulated out of past income through saving or inheritance.

19. Economic Systems Laissez-faire Economies (the neoclassical model): The Free Market Price Theory In a free market system, the basic economic questions are answered without the help of a central government plan or directives. This is what the “free” in free market means—the system is left to operate on its own with no outside interference. Individuals pursuing their own self-interest will go into business and produce the products and services that people want. Other individuals will decide whether to acquire skills; whether to work; and whether to buy, sell, invest, or save the income that they earn. The basic coordinating mechanism is price.

20. Economic Systems Mixed Systems, Markets, And Governments The differences between command economies and laissez-faire economies in their pure forms are enormous. In fact, these pure forms do not exist in the world; all real systems are in some sense “mixed.” But by concentrating on the differences, we can gain understanding of how some eternal truths such as the price mechanism actually work.

21. Key Terms • capital • command economy • consumer goods • consumer sovereignty • economic growth • factors of production (or factors) • free enterprise • inputs or resources • investment • laissez-faire economy • market • opportunity cost • output • production