Chapter-1

The Economic Problem

 Economic Problem
Economics is the study of a process we find in all
human societies—the process of providing for
the material well-being of society.
In its simplest terms, economics is the study of
how humankind secures its daily bread.
However, the humble matter of bread hardly
strikes the eye at all.
 Economic Problem
History is filled with such things as
Power
glory
faith and fanaticism
ideas and ideologies
Yet, if mankind does not live by bread alone, it is
obvious that it cannot live without bread.
 Economic Problem
Survival.
In many countries of Asia and Africa, in the Near East, and
even in some countries of South America, survival is the
main problem that stares humanity in the face. Millions of
human beings
have died of starvation or malnutrition in our present era,
as countless hundreds of millions have died over the long
past.
Similarly, the statistics, not of life but of premature death
throughout most of the world, are overwhelming and
crushing.
 Economic Problem
Living within or without societies
• Self Contained life (Independent)
Small scale traditional society
Provide for their own survival; less connected with
outside world.
• Dependant ; material life coupled with an extreme
dependence on others.
The richer the nation, the more apparent is this inability
of its average inhabitant to survive unaided and alone.
 Economic Problem
Division of Labor.
People survive in rich nations because the tasks they
cannot do by themselves are by an army of others.
For Example; we cannot grow food, we can buy it; if
we cannot provide for our needs ourselves, we can
hire the services of someone who can. This
enormous division of labor enhances our capacity a
thousand fold because it enables us to benefit from
other people’s skills as well as our own.
 Scarcity
Economics and Scarcity
Therefore, it is humankind, not nature, is the
source of most of our economic problems, at
least above the level of subsistence.
It means scarcity also depends on the social
application of human energy and skill and the
productive capability of the community.
 Scarcity
The Tasks of Economic Society
It is therefore needed to have systematic economic
function which must perform to bring human
nature into social harness.
A society must:
• organize a system to assure the production of
enough goods and services for its own survival, and
• arrange the distribution of its production so that
more production can take place.
 Scarcity
• PRODUCTION AND DISTRIBUTION
Mobilizing Effort
Mobilizing skills with machines and other
recourses at hand; avoiding waste, and of
utilizing social effort as efficiently as possible.
The basic problem of production is to devise
social institutions that will mobilize human
energy for productive purposes.
 Scarcity
Dilemma
Although millions of unemployed men and
women were eager to work, although empty
factories were available for them to work in,
despite the existence of pressing wants, a
terrible and mystifying breakdown called a
depression /recession occurs.
 Scarcity
In poor nations, where production is most desperately
needed, we frequently find that mass unemployment
is a chronic condition. The streets of many Asian cities
are thronged with people who cannot find work, but
this, too, is not a condition imposed by the scarcity of
nature. There is, after all, an endless amount of work
to be done, if only in cleaning filthy streets or
patching up the homes of the poor, building roads, or
digging ditches. What is lacking is a social mechanism
to mobilize human energy for production purposes
 Allocating Resources
• Allocating Effort
Putting men and women to work is only the first step in
the solution of the production problem.
They must not only be put to work, they must be put
to work to produce goods and services that
society needs.
Thus, in addition to assuring a large enough quantity of
social effort, the economic institutions of society must
also assure a viable allocation of that social effort.
 Allocating Resources
As with the mobilization of its total production
effort, society does not always succeed in the
proper allocation of its effort. It may, for
instance, turn out too many cars or too few.
It may devote its energies to the production of
luxuries while large numbers of its people are
starving.
 Allocating Resources
Such allocative failures may affect the
production problem just as seriously as a
failure to mobilize an adequate quantity of
effort, because a viable society must produce
not only goods, but the right goods.
Even having produced enough of the right
goods, society must now distribute those
goods so that the production process can go
on.
 Allocating Resources
Distributing Output
Unequal wages, Compensation and rewards
Health, undernourished labour, absenteeism.
Traditions, values and irrational behaviours
After Russian Revolution in 1917, some factories
were organized into communes in which
managers and janitors pooled their pay, and
from which all drew equal allotments.
 Allocating Resources
Therefore, for a viable economic society, we
must not only overcome the stringencies of
nature, but also contain and control the
intransigence of human nature.
 THREE SOLUTIONS TO THE ECONOMIC
PROBLEM
Within the enormous diversity of the actual social
institutions that guide and shape the economic
process, the economist divines three overarching
types of systems that separately or in
combination enable humankind to solve its
economic challenge.
1. Economies run by tradition
2. Economies run by command
3. Economies run by market or Market Economy
 Tradition

Tradition
Perhaps the oldest and, until a very few years ago, by far the
most generally prevalent way of solving the economic
challenge has been that of tradition. Tradition is a mode of
social organization in which both production and distribution
are based on procedures devised in the distant
past, endorsed by a long process of historic trial and error,
and maintained by the powerful forces of custom and belief.
Perhaps it is based on the universal need of the young to
follow in the footsteps of their elders—a profound source of
social continuity.
 Tradition

Tradition solves the problems of production

and distribution by enforcing a continuity of
status and rewards through social institutions
such as the kinship system. Typically, the
economic solution imposed by tradition is a
static one, in which little change occurs over
long periods of time.
 Tradition

Tradition- Benefits
Societies based on tradition solve their
economic problems very manageably.
A hereditary chain ensures that skills will be
passed along and jobs will be staffed from
generation to generation.
 Tradition

Adam Smith (The Wealth of Nations) the first great

economist wrote, “every man was bound by a
principle of religion to follow the occupation of his
father and was supposed to commit the most
horrible sacrilege if he changed it for another.”
In this way tradition has been the stabilizing and
impelling force behind a great repetitive
cycle of society, ensuring that society’s work would
be done each day very much as it had been done in
the past.
 Tradition

Tradition- Cost
A society that follows the path of tradition in its
regulation of economic affairs does so at the
expense of large-scale, rapid social and
economic change.
Tradition solves the economic problem, but it
does so at the cost of economic progress
 Command

Command
It is the method of imposed authority.
This authoritarian method of economic control
superimposed upon a traditional social base.
Example: Pharaohs of Egypt exerted their
economic dictates above the timeless cycle of
traditional agricultural practice on which the
Egyptian economy was based.
 Command
By their orders, the supreme rulers of Egypt
brought into being the enormous economic
effort that built the pyramids, the temples and
the roads.
Similarly, the classical China that produced,
among other things, the colossal Great Wall,
or in the slave labor by which many of the
great public works of ancient Rome were built.
 Command
Command-Benefits
Economic command, offers solutions to the twin
problems of production and distribution. In
times of crisis, such as war or famine, it may
be the only way in which a society can
organize its workers or distribute its goods
effectively
 Command
Unlike tradition, the exercise of command has
no inherent effect of slowing down economic
change. Indeed, the exercise of authority is
the most powerful instrument society has for
enforcing economic change.
If tradition is the great brake on social and
economic change, economic command can be
the great spur to change
 Command
Command-Cost
Command diverts economic effort toward goals
chosen by a higher authority. In both cases, it
interferes with the existing order of
production and distribution to create a new
order ordained
 Market Economy
The Market
This is the third solution to the economic
problem or a third way of maintaining socially
viable patterns of production and distribution.
Market organization of society— an
organization that, allows society to ensure
market solution to the economic problems.
 Market Economy
“In a market economy, no one is assigned to any
task. In fact, the main idea of a market society
is that each person is allowed to decide for
himself or herself what to do.” Leave
everything to people to decide for themselves.
In a market society, all the jobs will be filled
because it will be to people’s advantage to fill
them.
 Market Economy
The market will decide
What to produce
How to produce
For whom to produce
Market will solve all those question by itself.
 Summary
Provisioning wants
1. Economics is the study of how humankind
ensures its material sufficiency, that is, how
societies arrange for their material provisioning.
Scarcity
2. Economic problems arise because the wants of
most societies exceed the gifts of nature, giving
rise to the general condition of scarcity
 Summary
Scarcity, in turn imposes two severe tasks on
society:
Production: It must mobilize its energies for
production—producing not only enough
goods, but the right goods; and
Distribution: It must resolve the problem of
distribution, arranging a satisfactory solution
to the problem of Who Gets What?
 Summary
Division of labor
These problems exist in all societies, but they
are especially difficult to solve in advanced
societies in which there exists a far-reaching
division of labor. People in wealthy societies
are far more socially interdependent than
people in simple societies.
 Summary
Over the course of history, there have evolved
three types of solutions to the two great
economic problems.
These are tradition, command, and the market
system.
 Summary
Tradition:
Tradition solves the problems of production and
distribution by enforcing a continuity of status
and rewards through social institutions such
as the kinship system. Typically, the economic
solution imposed by tradition is a static one, in
which little change occurs over long periods of
time.
 Summary
Command:
Command solves the economic problem by
imposing allocations of effort or reward by a
governing authority. Command can be a
means for achieving rapid and far-reaching
economic change. It can take an extreme
totalitarian or a mild democratic form.
 Summary
Market:
The market system is a complex mode of
organizing society in which order and
efficiency emerge “spontaneously” from a
seemingly uncontrolled society.