Lesson 2 Introduction to Economics:

The Economic Problem

Goals of these lessons

Knowledge

To have a basic impression or understanding of what

economics is.

To be able to understand and explain the following

terms and concepts from the Syllabus and support
material:-

 The Nature of Economics as a Social Science

- The Social Nature of Economics
- What it means for it to be a ‘science’
 The Economic Problem as a Problem of Choce
- Factors of Production – land labour capital
and enterprise – limited resources
- Unlimited Needs and Wants to be met by
those limited resources
- Scarcity (and sustainability)
- Opportunity Cost
 The cost of choice
 Free Goods
 The Basic Economic questions – what/how much
to produce, for whom to produce and how to
distribute the produce:
- calculating opportunity cost and
  production possibility curves:

Economic Reasoning

You should be able to:-

 Model the economy

o The circular flow of income
o Interdepdence between economic decision
makers interacting and making choices in an
economy: households, firms, the government,
the banks and financial sector, and the foreign
sector (foreign firms and households)
o Leakages and injections
 Demonstrate and explain the way that the
Production Possibility Frontier illustrates the
concepts of choice, scarcity, opportunity cost,
trade-offs, unemployment, productivity and
growth.
 Calculate opportunity cost using a PPF;
 
1. Now that we have ‘felt around’ the topic in the
introductory lesson, let’s look at some standard
“textbook” ways to describe economics Here are some
comprehensive definitions:-

Economics is the study of how a society uses its

limited resources to produce, trade and consume
goods and services.

Economics is the study of people's incentives and

choices and what happens to co-ordinate their
decisions and activities.

Economics is that social science which is concerned

with the way in which society allocates its scarce
resources in order to satisfy its unlimited material
wants.

Let us “unpack” this last definition:

It is a social science:-

 It’s “social” which means that it deals with “human

behaviour”. It does this by “simplifying the world” in
which humans exist in and dividing humans into
“groups” such as “producers” and “consumers” and
describing how `those groups act in a “system”. In
particular, economics looks at the effect on the system of
decisions made by groups; i.e “What will producers do if
prices go up?”. “What effect will this have on the
 system?” A simplification of a real system to make it
manageable is often referred to as a ‘model’ and this way
of looking at the world is described at the beginning of
section 1.3 Look at the “system” below that your
teacher will also show you on a PowerPoint:-

The circular flow of goods and incomes

Goods and services

S
Consumer
expenditure

Wages, rent
dividends, etc.
$

Resources (land, labour, capital, enterprise)

 This is a system that you will become very familiar with.

Can you describe what this system is all about? Is it
“real”? What are the groups in this system? Can you
think of any other groups of system that might make this
diagram a more realistic description of society? Can you
think of “other names” for the things in your system?

Have a look at the PowerPoint depiction of this model and

the way that we can make it a little more complicated.
Take careful note on how we have “sorted things into
boxes”. You have the same model described in way more
detail on pages 20 -23 of your textbook . It looks different
doesn’t it? Satisfy yourself that it is in fact the same!

Groups and systems could include:-

Households or consumers, firms or producers,

Governments, the Overseas Sector, the Financial Sector.
What do each of these do? What sort of decisions do
they make?

 It is a “science” which means that it uses scientific

method and reasoning. This is described on page 24 –
27 and see if you can read these sections quickly and
gain an understanding of:-
 The use of logic
 The use of hypothesis
 The Ceteris paribus assumption
 The use of empirical evidence
 Theories in relation to hypotheses
 The use of laws
 The use of models (again)
 The importance of refutation
After you’ve read these sections your teacher may ask you
to show your understanding by answering the ‘test your
understanding’ questions on page 27. Just some extra
thoughts about ‘scientific method’ in economics

It uses “inductive reasoning”. Looking at evidence about

what happens to generate a general theory for why it
happens. It also uses deductive reasoning where it uses
logic to work out what should happen without having made
observations about things. However, because it the science
of how societies act it is very hard for economists to do
controlled experiments to test their theories! Economists
just have to observe the world going on to make and test
their theories and make predictions!

“Unlimited material wants”

 Generally, “wants” can be described as the various types
of goods and services we, as individuals, or collectively
in groups, desire.
 They are unlimited in the sense that no society, no
matter how rich, can satisfy all of its wants.
 They vary in intensity.
 Some are recurrent (i.e food) - they keep coming back.
 Some are individual while some are collective.
 Some are competitive - some are complementary.

“Scarce Resources” or “factors of production”

Resources or factors of production are those things we use

to satisfying these unlimited wants. We satisfy our wants
with resources by using them to produce goods and
services. They have the following characteristics:-
 Known;
 Accessible;
 Capable of being used in production;
 Useful in satisfying wants.
We generally divide them into 4 types described on pages
7 and 8 of your text:-

 Land or natural resources: All natural resources. It

may surprise you but we can do things that increase or
decrease the amount of land available to satisfy wants.
Can you think of anything?;
 labour: All physical and mental human effort. A
major factor affecting the capacity of labour to satisfy
wants is is productivity. A lot of economics is about
working out what makes labour more productive. Can
you think of any ways?
 Capital Any human made thing which helps in
further production. It takes resources to make capital so
 when we make capital we are actually giving up
satisfying a present want. But we do it to satisfy more of
our unlimited wants in the future.
 Enterprise: It takes special people to be able to put all of
these resources together to satisfy people’s wants
effectively. Not everybody can work out that it’s a good
idea to make computers or Seacats and then have the
wherewithal to work out how to use resources to do it.
The capacity to put resources together to satisfy wants is
called enterprise.

Resources are generally regarded as limited. The higher

quantity and quality of our resources, the better able is an
economy to satisfy its wants.

As a class let us answer some questions about resources

that your teacher will provide.

 Exercise on classifying resources;

(with solutions)
 Class Improving Resources exercise with some
suggested answers;
 Shale oil exercise (which may, in fact be your first
assessment task!)

The economic Problem

Because our resources are limited yet our wants are
unlimited, people, individually and in groups, are
constantly having to make choices about the best way to
allocate our limited or finite resources to satisfy as many of
our limitless or infinite competing wants as possible.
Wants are competing because we can’t satisfy them all.
This is the economic problem: How best to allocate
our finite resources to satisfy our infinite wants - and the
study of economics is really about how societies do this.

Consequences and Implications of the Economic

Problem

 The economic problem means that we have to make

choices between alternatives:
 “What to produce?” What wants do we choose to
satisfy out of our infinite wants?;
 “How much to produce?” Once we have
decided what to produce we need to decide when
to stop and move onto something else?
 “How to produce?” What combination of
resources do we use to produce goods and
services in satisfaction of our wants?
 “How to distribute production?” Whose wants
do we satisfy? Who gets the biggest share and
who misses out?;

These are kind of traditionally referred to as ‘the basic

economic questions and they are described on page 10 of
your text.

Even at this stage of the course you can probably start

suggesting really basic broad answers to these questions
from your experience. Try suggesting a few.
 To do this we have to always look at things in terms of
opportunity cost. This is:-
the cost in terms of the best alternative that is
foregone when we make a choice.

Look at your definition of opportunity cost on page 8 of

your text and perhaps watch this funky explainer. Then try
and answer the questions that go with the explainer and
then the questions that your teacher will provide you with.

We always look for the alternative for which we sacrifice

the least. That is we will try to choose the option with the
lowest opportunity cost.

 The fact that resources are finite and cannot satisfy all of
the wants that we would like is called scarcity. Note that
this is not the same as rarity. The resource may be quite
plentiful but if it’s still not enough to satisfy every
possible want and there are competing ends to which it
can be used, it is scarce!
 The aim of society when making these choices is to
allocate its resources to satisfy as many wants as
possible. This is called allocative efficiency. It
involves:-
 making sure all our resources are being used;
 making sure they are being used to produce the
right combinations of goods and services.

Exercises:
Watch the Cookie Monster Gingerbread Man video and
complete the task that your teacher assigns you regarding
it.

Now read the article from the Conversation newspaper on

Opportunity Cost and complete any task that your teacher
assigns you

Your teacher may ask you to complete a task to “Concept

map the economic problem”…

Review Questions:-

Could you answer the following?

1.1.1 Review questions

1. Answer the following questions:
1. Describe and discuss the economic problem
2. List 4 different categories of wants
3. Explain why economists assume wants are infinite
4. What are the consequences of having unlimited and competing
wants but only scarce resources to satisfy these wants?

Have a go at Question 1 in the short answer questions from

Chapter 1 of the Workbook that your teacher will make
available to you online. Check it against the solutions that
your teacher will give you.