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COURSE: AS LEVEL ECONOMICS (9708)
CHAPTER: 1 – Basic Economic Ideas and Resource Allocation
TOPIC: 1.1 – Scarcity, Choice and Opportunity Cost
Last edited:
August 2022
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Outline
1.1 - Scarcity, choice and opportunity cost
1.1.1 - Fundamental economic problem of scarcity
1.1.2 - Need to make choices at all levels (individuals, firms, governments)
1.1.3 - Nature and definition of opportunity cost, arising from choices
1.1.4 - Basic questions of resource allocation
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Needs & Wants
As human beings, we all have needs & wants.
Satisfying our needs is essential to our survival.
Examples: food, water, shelter, clothing, healthcare, safety, etc.
Satisfying our wants is non-essential, but it provides satisfaction.
Examples: cinema ticket, video games, massage, manicure, non-essential
food/drinks/clothing, etc.
Our needs are limited but our wants are unlimited.
That is, there is always something else we want that can improve our
satisfaction.
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Resources
In order to satisfy our needs and wants, we must consume goods and
services.
In order to produce these goods and services, we must use resources.
A resource (or input) is anything that can be used to produce goods or
services.
ALL resources are limited (i.e. they are available in a finite amount over a
given period of time).
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Resources
However, some resources are available in very large quantity (e.g. sunlight,
water, wood, wildlife, coal in certain locations and seasons)
Most resources have competing uses.
That is, we can use a given resource to produce different goods or services.
Task: List 4 different resources & 2 competing uses for each of them.
Questions: Is money a resource? Is time a resource? Is space a resource?
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Scarcity
Human wants are unlimited but resources are limited
Therefore, most resources are scarce.
A scarce resource is one that is not available in sufficient quantity to
produce all of the goods and services that we want, and which require
this particular resource.
Remark: Scarcity is a relative concept (e.g. time, location, etc.).
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The Basic Economic Problem
This all means that we cannot satisfy all of our wants.
It follows that we have to make decisions on how to allocate scarce
resources between competing uses in order to reach the highest possible
level of satisfaction.
This is known as the basic or fundamental economic problem.
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Opportunity Cost
A decision (or choice) is a cognitive process resulting in the selection of an
action among mutually exclusive alternatives.
Economic agents rank these alternatives in terms of how much benefit they
provide, and they select the best alternative.
The Opportunity Cost (OC) of a decision is equal to the lost benefit of the
second-best alternative.
Task: Discuss the opportunity costs of (i) ordering lasagna in a restaurant, (ii)
studying AS Economics, (iii) travelling to Hainan during the summer holiday
and (iv) keeping large files on a full hard drive.
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Opportunity Cost: Example 1
Cindy must decide what to do with her own labour over a 2-hour period of
time tonight.
She can either clean up her room, do her homework, or practice piano.
She prefers to practice piano rather than cleaning up her room, and she
prefers to clean up her room rather than doing her homework.
What is the opportunity cost of practicing piano?
The opportunity cost of practicing piano is the lost benefit of cleaning up
her room.
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Opportunity Cost: Example 2
A firm must decide what to do with some vacant office space.
It can either use it to create a break room, a storage room, or a print
room.
It prefers to create a print room rather than a break room, and it prefers
to create a break room rather than a storage room.
What is the opportunity cost of creating a print room?
The opportunity cost of creating a print room is the lost benefit of
creating a break room.
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Opportunity Cost: Example 3
A government must decide what to do with a natural area within a national
park.
It can either conserve it, engage in open-cast coal mining, or build a
hydroelectric dam and flood the area.
It prefers to conserve it rather than building the dam, and it prefers to build
the dam rather than mining coal.
What is the opportunity cost of conserving the natural area?
The opportunity cost of conserving the natural area is the lost benefit of
the hydroelectric dam.
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Impossible Trinity
ENOUGH
SLEEP
CHOOSE TWO
SOCIAL
LIFE
GOOD
GRADES
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Basic Questions of Resource Allocation
An economy is a system which provides a solution to the basic economic
problem.
In other words, an economic system must allocate resources between
producers, and final products between consumers, in order to reach the
highest possible level of satisfaction.
To that end, an economic system must answer 3 fundamental questions:
What to produce
How to produce
For whom to produce
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Basic Questions of Resource Allocation
Choosing what to produce consists in determining the combination of goods
and services that should be produced with the resources available.
Example: Should we produce 100 phones and 20 cars, or 50 phones and 40 cars?
Choosing how to produce consists in determining the combination of
resources that should be used in the production of each good or service.
Examples: Should we produce 100 phones with 10 machines and 100 workers, or
with 5 machines and 200 workers?
Choosing for whom to produce consists in determining the mechanism that
will allocate the economy’s output between economic agents.
Examples: price mechanism (i.e. free market), government-controlled
distribution, etc.
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Practice Time!
Consider your household economy:
What is produced by your household?
How is production organised?
For whom does production take place?
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