Three Central Problems of an Economy-Class 11/Class 12, Economics

The Central problems of an Economy refer to problems of allocation of limited resources to satisfy various human wants.

Human wants are unlimited. But resources to satisfy those wants are limited. Also, some of these limited resources have alternate uses. For example, water can be used for a variety of purposes like drinking, washing clothes, bathing etc. This situation gives rise to following problems (central problems of an economy)-

1. What to produce? - The problem of what to produce involves the selection of goods and services to be produced as well as quantities in which they should be produced.

It is related to the choice between

- Luxury and Necessary goods,

Or

- Consumer and Defence goods,

Or

- Capital and Consumer goods, etc.

As the available resources are limited, so all the goods can't be produced in the quantity desired by us. Hence this problem. For example, metals can be used to make machinery, utensils or car. As metals are limited in quantity, so the goods which metals can produce can't be produced in a desired quantity. Hence the problem of what to produce arises.




2. How to produce?
This problem involves deciding the type of technology which should be used for production.

There are basically two types of technology

Labour Intensive Technology: This technology requires more labour & less capital.

Capital Intensive Technology: This technology requires more capital & less labour

Capital intensive technology will lower the cost and increase the speed of production. On the other hand, labour intensive technology provides more employment (jobs). This gives rise to the problem of choice among these two technologies.

For example, Cloth can be produced by power looms as well as handlooms. Power looms reduce the cost and give more output. On the other hand, handlooms provide more employment. This gives rise to the problem of how to produce.




3. For whom to produce?

This problem is related to the distribution of goods & service in the economy.

It is related to the choice between

- Production of goods and services for richer section of society

Or

- Production of goods and services for the poorer section of society

Production of goods and service for poor leads to maximum social welfare, whereas production of goods and services for rich leads to more profit. For example, if an economy concentrates on the production of luxury goods, then this will improve the standard of living of rich class, but the life of poor will become more difficult. On the flip side, if an economy concentrates on the production of necessary goods, then this will serve the society but profits will reduce. Hence the problem of for whom to produce arises.

Also refer - Micro-Economics and its features