0CENTRAL PROBLEMS OF AN ECONOMY AND THEIR SOLUTIONS
‘Economy’ refers to the nature and level of economic activities in an area, which may be a village, a city, a town, a district, a state or a country. The main economic activities include:
- Production
- Consumption
- Investment
- Exchange
Every economy faces some problems because of the scarcity of resource and their alternative uses which are referred to as ‘Problem of Choice’.
CENTRAL PROBLEMS OF AN ECONOMY
The three main problems of an economy are:
- What to produce?
- How to produce?
- For whom to produce?
What to produce?
Since the resources that an economy has been limited, every economy has to decide which goods and services it should produce and in what quantity.
For example: If an economy wants to produce wheat and rice with its given resources, it will have to decide which good should be created and in what quantity as if it wants to produce more wheat, it will have to shift some resources from the production of rice to wheat.
How to produce?
This problem refers to the technique which should be used to produce the selected goods. There are two techniques of production. These are:
- The capital intensive technique, i.e. use of machines
- Labour intensive technique, i.e. use of manual labour
Every producer wants to minimize his cost and maximize his production. So, it is essential to adopt an appropriate technique of production.
For whom to produce?
This problem deals with the distribution of income or output, i.e. who will get and how much in the economy. The primary consideration here is whether the distribution of income is promoting equality in the economy or not.
SOLUTIONS TO THE CENTRAL PROBLEMS IN AN ECONOMY
Different economies solve the central problems of an economy in different ways. The various economies are:
- Market/Capitalist Economy: in which the decisions related to ‘what to produce, how to produce, for whom to produce’ are taken based on demand and supply in the market. The main objective of this economy is to maximize profits.
- Centrally planned/Socialist Economy: in which the decisions related to ‘what to produce, how to produce, for whom to produce’ is taken by the government. The main objective of this economy is social welfare.
- Mixed economy: in which the decisions related to ‘what to produce, how to produce, for whom to produce’ is taken by considering both market forces of demand and supply and social welfare.
Solutions to various problems by different economies
| Problems/Economy | Capitalist Economy | Socialist Economy | Mixed Economy |
| What to produce? | Goods which are high in demand and less in supply as they will offer high profits to producers. | Goods which are most useful for society. | Combination of both capitalist and socialist economy. |
| How to produce? | That technique which minimizes the cost of production and maximizes the profits. | That technique is socially most useful, such as labour intensive, to reduce unemployment. | Combination of both capitalist and socialist economy. |
| For whom to produce? | For those who can afford high prices, i.e. for a richer section. | For the poorer section of the society. | Combination of both capitalist and socialist economy. |
Have a nice day :)
