CCEA GCSE Economics

The basic economic problem

People want more than can ever be produced. Wants are unlimited: as soon as one is met, another appears, and a person who has a phone wants a better one, a holiday or a car. The resources used to satisfy wants are limited. There is only so much land, so many workers, so much machinery and so much entrepreneurial effort in any country at a given time.

The gap between unlimited wants and limited resources is the basic economic problem. Another word for the limited supply of resources is scarcity. Because not everything can be produced, choices have to be made, and this is true for an individual deciding how to spend a weekly allowance, for a firm deciding what to make, and for a government deciding where to spend tax revenue.

Needs and wants are not the same. A need is something a person must have to survive, such as food, water, shelter and clothing. A want is anything beyond that which a person would like to have. In practice the line moves: a phone may be a want for one person and close to a need for another who uses it for work.

Opportunity cost

Every choice means that something else is given up. The opportunity cost of a decision is the value of the next best alternative that is not chosen. It is not the total of everything given up, only the best option left behind.

A student with a free Saturday who chooses to work for six hours at £9 an hour has given up the football match they would otherwise have gone to. If the match was the next best use of the day, the match is the opportunity cost. The £54 earned is the benefit.

Opportunity cost applies at every level:

• A household that spends £400 on a holiday cannot also put that £400 into savings.
• A firm that uses its factory to produce one product cannot use the same machines and workers at that time to produce another.
• A government that spends £1 billion on a new hospital cannot spend the same £1 billion on schools or roads.

Because opportunity cost is about the value of the best alternative, it is not always measured in money. Time, enjoyment and the environment can all be what is given up. A decision made well compares the benefit of the choice with its opportunity cost.

The production possibility frontier

A production possibility frontier (PPF) is a graph showing the maximum combinations of two goods an economy can produce when it uses all its resources fully and efficiently. A straight-line frontier is the simplest form, and it assumes resources can be moved from one good to the other at a constant rate.

Consider an economy that can produce only wheat and computers. If all its resources go to wheat it can produce 600 tonnes and no computers. If all go to computers it can produce 300 computers and no wheat. With a straight-line frontier the points in between lie on a straight line joining the two extremes.

A graph for this economy has wheat on one axis and computers on the other. The frontier runs from 600 on the wheat axis to 300 on the computers axis.

What the position of a point means

• A point on the frontier (B, for example) means resources are fully and efficiently used.
• A point inside the frontier, such as 200 tonnes of wheat and 100 computers, means resources are unemployed or used inefficiently, so the economy could produce more of one good without giving up any of the other.
• A point outside the frontier, such as 500 tonnes of wheat and 250 computers, cannot be reached with the resources the economy has now.

Opportunity cost on the frontier

Moving along the frontier shows the opportunity cost directly. Going from B to C, wheat falls from 400 to 200 tonnes while computers rise from 100 to 200. To gain 100 more computers the economy gives up 200 tonnes of wheat, so the opportunity cost of one computer is 2 tonnes of wheat. Because the frontier is a straight line this ratio is the same everywhere along it: 600 tonnes divided by 300 computers is 2 tonnes per computer. The opportunity cost of one tonne of wheat is therefore half a computer.

Economic growth on the frontier

If the quantity or quality of resources increases, the economy can produce more and the whole frontier shifts outwards. This is economic growth. Causes include new factories and machines, a larger or better-educated workforce, new technology and the discovery of new natural resources. If the economy can produce more of both goods the frontier moves out in parallel; if only one good benefits, for instance because of better farming technology, the frontier pivots out on that axis alone, and the intercept on the other axis stays where it was.

A fall in resources, for example from war, a natural disaster or the loss of workers, shifts the frontier inwards.

An economy can also grow without the frontier moving, if it was producing inside the frontier and then makes use of its unemployed resources, so that it moves from a point inside to a point on the frontier. This is a movement closer to the frontier rather than a shift of it.

Why choices differ between agents

Individuals, firms and governments face the same scarcity but weigh opportunity costs differently. A consumer compares the satisfaction of a product with what else the money could buy. A producer compares the profit from making one product with the profit from another. A government compares the benefits to society of different spending programmes and, since its resources are tax revenue and borrowing, has to decide which groups and needs come first.