An economic problem is the problem of scarcity of resources in the face of desired ends. Solution of such problems essentially requires raising of resources to the level of the desired ends.
This involves the following problems also called as ‘basic or central problems’.
(i) What to Produce and in What Quantities:
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To earn income to plug the resource gap, one needs to produce either a tangible commodity or an intangible service. The basic question that one faces is what goods or services to produce and in what quantities so that the gap may conveniently be filled? Individuals in the private sector choose production of such goods or services and in such quantities that ensures them a high price in the market.
A high price prevailing in the market signals the existence of high product demand and the prospects of a speedy income generation for the producers. For them, price mechanism [refer to Section 1.3 (i)] is a tool of analysis.
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On the contrary, the public sector, striving for the maximisation of social welfare, resorts to the principle of maximum social advantage to decide type and quantity of goods to be produced.
While individuals in the private sector have the motive of profit maximisation, the public sector aims at raising social welfare, instead. The branch of economics dealing with this problem is known as the ‘Theory of Price’.
(ii) How to Produce:
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Having finalised the type and the quantity of the product to be produced, the next basic problem relates to the choice of the technique of production to be employed. Should it be labour intensive or capital intensive? Individuals in the private sector resort to the price mechanism again to finalise their choice of technique.
They choose the cheaper one of the two with a view to reducing costs as a part of their strategy of maximisation of profits. The public sector, on the other hand, resorts to the principle of maximum social advantage as the guiding factor to finalise the choice of the technique of production.
Public sector therefore goes for labour intensive methods with a view to promoting employment even though the same might prove more expensive than capital intensive methods. The branch of economics dealing with this problem is known as the ‘Theory of Production’.
(iii) For Whom to Produce:
This also means, who gets how much to consume? The answer to this question would depend on who has how much income to buy the products? The private sector solves the problem through the price mechanism. Who gets how much of the income depends on who commands what price in the market (factor-market).
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The price of a factor is determined through the price mechanism and every factor of production is paid the price it commands. In the public sector, the factor reward or the factor price is determined not so much through the price mechanism as it is through government action in view of equity and social justice.
The answer to the question in the public sector thus depends on who needs what to satisfy the minimum basic needs. The public sector, therefore, resorts to the principle of maximum social advantage to solve its problem. The branch of economics that deals with this problem is the ‘Theory of Distribution’.
(iv) Are the Resources Being Fully Utilised:
The problem of full utilisation of resources is of central importance. Under-utilisation of resources leads to wastage of scarce resources which has its own costs. To investigate and analyse the problem, the tool of Production Possibility Curve (PPC) is employed [refer to Section 1.3 (ii)]. The branch of economics that deals with the problem is ‘Theory of Employment’.
(v) How efficient is the Production:
Another central issue is the problem of inefficiency. Like the under-utilisation of resources, inefficiencies in production and in distribution have their own costs. The tool of analysis employed in this case, too, is the Production Possibility Curve (PPC) and the branch of economics dealing with the problem is the ‘Welfare Economics’.
(vi) Is the Capacity to Produce Growing:
This relates to the problem of growth. Capacity to produce must grow year-after-year. Growth is essential for development and modernisation. The tool of analysis is again the Production Possibility Curve (PPC) and the branch of economics that deals with the problem is the ‘Theory of Growth and Development’.
(vii) Is the Purchasing Power of Money Constant or is it being eroded Due to Inflation:
The problem relates to the stability of prices. Fluctuating prices disrupt every calculation and every solution. The study of causes and consequences of price fluctuation has been gaining concern all over the world.
Problems (i), (ii), (iii) and (u) relate to resource allocation and distribution of income. They are commonly grouped under microeconomics. Problems (iv), (vi) and (vii) are usually studied in macroeconomics.