27/08/2023, 13:13 Basic Problems of an Economy – Explanation and FAQs

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Basic Problems of an Economy

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Explain Briefly the Basic Economic Problem of an Economy

The fundamental problem in economics is the issue with the scarcity of resources but unlimited wants. Economics has also pointed out
that a man's needs cannot be fulfilled. The more our needs are fulfilled, the more wants we develop with time. By definition, scarcity
implies a limited quantity of resources. As a result of scarcity, there is constant opportunity cost. Opportunity cost means that if you use
your resources to consume a particular good, you cannot consume any other good with the given resource. Therefore, economists are
concerned with dealing with the optimum allocation of resources in society to make the usage of these resources efficient as well as
practical.

Introduction to Basic Problems of an Economy

1. What to Produce?
Ans: No country can produce all the goods because there are limited resources available to them. Therefore, a choice has to be made
between the different types of commodities that a country can produce with its available resources. For instance, a farmer who has a
piece of land can produce either wheat or rice. Similarly, the government of a country needs to decide where to allocate its resources
whether in consumer goods or defence goods or both, if both, then what will be the proportion of allocation of resources in the two
categories of goods.

2. How to Produce?
Ans: This economic problem is concerned with the technique of producing a commodity. This problem arises only when there is more
than one way of manufacturing goods. The techniques of production can be classified into two broad categories:

Labour Intensive techniques (extensive use of labour)

Capital Intensive techniques (extensive use of machinery)

Labour intensive technique is known to promote employment, whereas capital intensive techniques promote growth and efficiency in
manufacturing.

3. For whom to Produce?

Ans: All wants of people in a society can not be satisfied. So, a decision has to be made on who should get the amount of total output
of goods and services produced. Society decides on the amount of luxury and standard goods that have to be produced. The further
distribution of these goods directly relates to the purchasing power of the economy.

4. How Market Mechanisms Solve the Basic Problems of an Economy?

Ans: All the three kind of economies, Capitalistic economy, Socialistic economy and Mixed economy, solve the basic problems of an
economy in two methods:

Free price mechanism

Controlled price system which is also called State intervention

The Basic Problem of an Economy and Free Price Mechanism

A system of guiding the decisions of individuals within an economy through the price which is determined with the help of market forces
of demand and supply is called price mechanism. This system is free of any government intervention. When the market equilibrium is
reached by market forces of demand and supply, i.e. the quantity supplied becomes equal to the quantity demanded, then the price of
a commodity is determined. Price mechanism also facilitates the determination of resource allocation, consumption and production as
well as determining the level of savings and factor income. This method mostly takes place in a capitalistic economy.

The Basic Problem of an Economy and State Intervention System

This system is defined by administering the fixed prices of every commodity. In a socialist economy, the government plays a vital role in
determining the price of commodities. Ceiling price or floor price may be introduced by the government to regulate the prices of certain
commodities.

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27/08/2023, 13:13 Basic Problems of an Economy – Explanation and FAQs
Explain Briefly the Basic Economic Problem of an Economy in India
In India, the basic economic problems are

What to produce?
For whom to produce?
How to produce?

Starting in the early 1950s, India adopted a system of a mixed economy. The basic problem of economics is solved with the help of a
mixed economy in India. A Mixed economy is a system where the private and public sectors co-exist. In other words, a mixed economy
is a blend of a capitalist and socialist economy. In mixed economies, all the economic problems are solved with the help of free as well
as controlled price mechanisms.

Did you know?

1. Singapore is the most unique economy. Singapore’s economic success can’t be explained by one single economic theory. It is the
greatest example of combining extreme features of capitalism and socialism for a successful economy.
2. Economics was called “political economy” before the beginning of the 20th century

Last updated date: 21st Aug 2023 • Total views: 320.4k • Views today: 3.20k

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FAQs on Basic Problems of an Economy

1. Explain briefly the basic economic problem of an economy in terms of Microeconomics.

2. Explain briefly the basic economic problem of an economy in terms of Macroeconomics.

3. Where can you download Vedantu's explanation of Basic Problems of an Economy?

4. What is Economics?

5. What are the two categories of Economics?

6. Explain the important types of Economic Systems?

7. Explain the following terms

GDP
CPI
GNP
Poverty Line

GDP: Gross Domestic Product (GDP) refers to the market values of the finished goods and services produced within the geographical boundary of a country. It
is an important indicator of the progress of an economy.
GNP: Gross National Product (GNP) refers to the value of all finished goods and services produced by the citizen’s of a country, irrespective of the
geographical location.
CPI: Consumer Price Index (CPI) examines the prices of consumer goods and services, such as food, clothing, transportation etc. It is used to measure the
cost of living and inflation.
Poverty Line: The poverty Line is used to measure the level of an individual or family income. People belonging below a certain level are considered to be
poor according to the Government and require monetary assistance.

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