1.2

The basic economic problem

GCSE Economics 1.2: scarce resources and unlimited wants, the three questions of what, how and for whom to produce, opportunity cost, and evaluating economic choices including their sustainability.

About 14 minutes to read

Scarcity, wants and the economic problem

Scarce resources
Resources are limited in supply — there is not enough land, labour, capital and enterprise to produce everything people would like.
Unlimited wants
People's desire for goods and services has no end; satisfying one want tends to create another.
The basic economic problem
Scarce resources have to be allocated between unlimited wants, so choices must be made.

Notice what scarcity does not mean. It does not mean rare or unavailable — water is scarce in economics even where it comes out of a tap, because the resources used to collect, clean and pipe it could have been used for something else. Anything that has a cost is scarce. Only free goods like sunlight are not.

Because resources are scarce and wants are not, every economy has to answer three questions. They apply to a household deciding how to spend its money, a firm deciding what to make, and a government deciding a budget.

Figure: The three questions of resource allocation
In a market economy these are answered by prices; in a planned economy by the government. The UK answers them with a mixture of both.

Opportunity cost

Opportunity cost is the value of the next best alternative given up when a choice is made. It follows directly from scarcity: if resources are limited, using them for one thing means not using them for another.

The wording matters and marks are lost on it. It is the next best alternative — one thing, the option you would otherwise have taken. Not everything you gave up, and not the money you spent.

A student with £30 could buy a pair of trainers, a concert ticket or three books. If they choose the trainers and would otherwise have bought the ticket, the opportunity cost of the trainers is the concert ticket. It is not £30, and it is not the ticket and the books together.

Opportunity cost applies to every choice made by every group:

• A consumer who spends on a holiday gives up the new phone they would otherwise have bought • A producer who uses a factory to make chairs gives up the tables it could have made • A government that spends £1 billion on a railway gives up the hospitals that money would have funded

That last one is why the phrase "including opportunity cost" appears again and again in the specification's policy sub-topics. Every pound of government spending has an alternative use, so no policy is free.

Worked example

A council can spend its remaining budget on a new library, resurfacing roads, or a leisure centre. It values the library most and the roads second. It chooses the library. State the opportunity cost and explain your answer.

  1. Identify the choice made: the library.
  2. Identify the alternatives given up: the roads and the leisure centre.
  3. Apply the definition — opportunity cost is the next best alternative, not all of them.
  4. The council valued the roads second, so the roads are the next best.
  5. State it precisely, and say why the other option does not count.

Answer: The opportunity cost of the library is the resurfaced roads, because that was the next best alternative the council would otherwise have chosen. The leisure centre is not the opportunity cost, since it was ranked third and would not have been chosen even if the library had been rejected.

Common mistake

Opportunity cost is not the money spent. Spending £30 on trainers has an opportunity cost of the thing you would have bought instead — the money is just how the choice was made.

Opportunity cost
the value of the next best alternative given up when a choice is made — one thing, not everything else forgone
Scarcity
the condition of resources being limited relative to wants, which is why every choice has an opportunity cost

Evaluating economic choices

The specification asks you to evaluate the costs and benefits of economic choices, including the impact on economic, social and environmental sustainability. Evaluation means weighing both sides and reaching a supported judgement — not listing advantages and stopping.

Sustainability is the extra dimension, and the three kinds are distinct:

• Economic sustainability — can this be maintained financially in the long run, or does it rely on borrowing or on a resource that will run out? • Social sustainability — what does it do to people's jobs, health, communities and quality of life, now and for future generations? • Environmental sustainability — what does it do to natural resources, pollution and the climate, and can the natural world keep supplying what it needs?

Figure: Evaluating one choice: opening a new coal mine
A strong evaluation reaches a judgement and says what it depends on — here, how long the jobs last and whether alternative employment exists.

Before you practise

  • Resources are scarce and wants are unlimited, so choices have to be made — that is the basic economic problem.
  • Scarce does not mean rare: anything with a cost is scarce.
  • The three questions are what to produce, how to produce it, and for whom.
  • Opportunity cost is the next best alternative given up — one thing, not all of them, and not the money.
  • Every group faces opportunity cost, including the government, which is why no policy is free.
  • Evaluation weighs costs against benefits and reaches a supported judgement.
  • Sustainability comes in three kinds: economic, social and environmental.

Now practise it

Reading is the easy half. Answer questions on 1.2 The basic economic problem and find out which parts you actually know.

Written questionsMultiple choice