the basic economic problem and Production possibility curve (PPC)

1. THE BASIC ECONOMIC
PROBLEM
By: Dr. Arifa Saeed

2. BASIC ECONOMICS PROBLEM /
PROBLEM OF SCARCITY
• In this world, the resources are limited, while the wants are infinite, leading
to the question of scarcity or the fundamental economic problem.
• Limited Resources + Unlimited Wants = Scarcity

3. Economics:
• It is a social science that studies human behavior between unlimited wants and limited resources
with their alternative uses”.
• In other words, it just simply tells us how we can make the best use of what we have in order to
satisfy our needs and wants.
• It is used by three main economic agents’ decision makers in an economy
• Individuals
• Firms
• Government

4. Limited Nature of Resources:
• All the products and energy that can be used to manufacture goods and
services are resources. For example, farming, farmers, machinery, etc.
Resources are of two types:
• Unlimited or free resources / Free Goods: These are unlimited in supply e.g. sunlight,
sea water, air rain etc. These resources are not much of a concern for economists.
• Scarce resources / Economic Good: These are limited in supply. E.g. machines,
building, agricultural area, oil, wheat etc.

5. • All the above mentioned economic agents address the basic economic questions:
• What to Produce?
• How to Produce?
• For whom to produce?
• The production of goods and services take place in two sectors of the economy. The
private section is where firms and individuals produce goods and services whereas the public
sector is where all the goods and services are produced by the government.
• Goods are physical items such as tables, clothing, car etc. whereas services are non-physical
items such as traveling, teaching, internet etc.

6. Needs and Wants:
• Needs are the essential goods and services required for human survival these
include food, shelter, clothing etc.
• Wants are those goods and services which are not essential for survival e.g.
luxury cars, luxury clothing. Thus, bread is a need whereas eating in a 5-star
restaurant is a want.

7. D-side (consumer side) S-side (Producer side)
Wants →are → good & services are resources
satisfied by produced by
Unlimited limited
Basic Economic Problem(SCARCITY)

8. Factors of Production
• These elements are required to carry out a business activity are collectively known as the factors
of production. These include:
• Land: It represents all the natural resources which are consumed during the business activity, e.g.
plains, seas, mines etc.
• Labor: The term refers to any kind of physical or mental human effort, E.g. carpenters, doctors,
etc.
• Capital: The term refers to the manufactured resources required in the production process. E.g.
machinery, tools, equipment, vehicles etc.
• Enterprise: This is the skill and risk-taking ability of the person who brings the other three
resources or factors of production together to produce a good or service. For example, the
owner of a business.

9. • Based on the type of the business these factors of
production will vary in quantity. A company-like car
manufacturing which has a higher proportion of
machinery than labor is known as capital intensive, on
the other hand a business that has a higher proportion of
labor than machinery is called labor intensive.

10. • proportion of machinery › labor (capital intensive)
• proportion of labor › machinery is (Labor intensive)

11. Sectors in the Economy:
• 1. Primary: This sector includes the extractive industries that acquired raw
material from naturally available resources, e.g. agriculture, mining etc.
• 2. Secondary: It comprises of the manufacturing industries that convert raw
material into semi-finished or finished goods. E.g. Textile industry.
• 3. Tertiary: This represents all kinds of services such as banking, retailing, etc.
• All the above-mentioned sectors are interdependent on each other to produce
goods and services. These sectors are linked together in what is known as chain of
production. Example: Oil is extracted from the ground (Primary), then refined in
an oil refinery (Secondary), transported by tankers (Tertiary) and sold at gas stations.

12. Relationship between Scarcity, choice &
opportunity cost
• Choice: selection of something
• Opportunity cost: benefit of next best alternative
sacrificed due to the current choice having made .
Scarcity choices satisfaction

13. Opportunity Cost
• People are forced to make choices due to the presence of the basic economic
problem mentioned above.
• Opportunity costs is defined as the next best alternative forgone.
• In simpler terms, the sacrifice by an individual or organization while giving
preference to one product to the other is known as the opportunity cost of a
particular decision.
• Remember that this is made by all economic decision makers: Consumers,
businesses and government.

14. Example
• 1. Consumer (individual) – An individual has $1000 and he/she can either buy
a laptop or a smart phone. If the individual chooses the laptop the smart phone
becomes the opportunity cost.
• 2. Business (firm) – A business has $1 million. It can either spend it on
expansion to a new country or invest in research and development. If the
businesses choose to invest it in expansion, the research and development becomes
the opportunity cost.
• 3. Government – A government has two options either to build roads or
building schools in the country. If the government chooses to build roads
developing schools would become the opportunity cost.

15. scarcity (shortage )
choice (selection )
OC
Max Satisfaction

16. D-side (consumer side) S-side (Producer side)
Wants →are → good & services →are → resources
satisfied by produced by
Unlimied limited
Basic Economic Problem(SCARCITY)

17. PRODUCTION POSSIBILITY CURVES
(PPC)
• Definition: It is a curve that shows all the
maximum possible combinations of two
goods and services which a country can
produce using all of available resources with
efficient technique of production at given
state of technology.

18. Assumptions of PPC: Let’s assume that the
PPC is of Country A.
• 1. Country a produces only two goods agricultural goods and
manufactured goods.
• 2. Economy is operating at full employment, i.e. all available resources are
utilized to produce goods and services.
• 3. Country A has limited number of factors of production. (Land, Labor,
Capital).
• 4. Country is using efficient technique.

19. Explaination
• A – All resources dedicated to the production of Agricultural Goods
• B – All resources dedicated to the production of Manufactured Goods
• C – All agricultural goods produced alongside M1 manufactured goods.
• D – A2 agricultural goods produced alongside M2 manufactured goods cars
• E – This point is beyond the PPC and is unattainable since it lies outside of the
productive capacity of the economy.
• F – This point is within the PPC. The production of both agricultural and
manufactured goods can be increased without any opportunity cost as there are idle
resources in the economy.

20. Explanation
• The figure above shows that if
producers want to increase the
production of manufactured goods
from M1 to M2 the amount of
agriculture good has to be
decreased from A1 to A2. The
opportunity cost of producing an
extra M2-M1 is A2-A1.

21. PPC
• A represents the maximum production od roses with no production of
guns (manufactured goods)
• B represents maximum production of guns with no production of roses
(agricultural goods)
• The curve joining these two extreme points (outward bending, inward
bending or straight line) is the PPC
• The points C and D is attainable point and shows trade-off between 2
goods.
• TRADE OFF: the production of roses can only be expanded by taking
resources away from the production of guns.
• ABCD are the attainable points
• E is the unattainable point
• F us under employment point

23. It is a curve that shows all the maximum possible
combinations of two goods and services which a
country can produce using all of available resources
with efficient technique of production at given state of
technology.

24. Points below, on & beyond PPC
Points on PPC Points below PPC Points beyond PPC
According to figure A,B,C D F E
Attainable Yes Yes No
Desirable Yes No Yes
Employment of
resources
Full employment Under employed -
Productive efficiency Yes No -
Opportunity Cost Yes No -

25. Shifts in PPC
Shift Inwards (Decrease)
Decrease in productive capacity of
a country.
Let’s suppose a that the country is hit
by a tsunami
Shift Outwards (Increase)
Increase in productive capacity of
a country.
Let’s suppose that country A
experiences technological
advancements, or discovery of more
natural resources

26. Shift Inwards (Decrease) Shift Outwards (Increase)

27. Causes of shifts in PPC
A change in quantity of
resources
• Land
• Labor
• capital
A change in quality of
resources
• Productivity is efficiency of Factor
of production
• Productivity is defined as output
per unit of input