Central Problem of an Economic System

Central problem of an economy can be discussed in the following way:

(a) Problem of allocation of resources which consists of

(i) What to produce

(ii) How to produce

(iii) For whom to produce.

(b) Problem of Efficient or Full utilization of resources

(c) Problem of Growth of Resources

(d) Problem of Economic Growth.

Let us give brief description of above four arguments.

(a) Problem of Allocation of Resources:

1. What to Produce:

The first basic problem of an economy is to decide what type of goods it should produce. The requirements of every economy are unlimited while the resources to satisfy these requirements are limited. These resources are capable of being put into alternative uses. Once the nature of goods to be produced has been determined, then there arises the problem to determine the quantities of these goods i.e. how many quintals of wheat, how many million metres of cloth, how many refrigerators, how many T.V.s. etc. have to be produced.

Since the resources of the economy are scarce, so, the nature of goods and their quantities has to be decided on the basis of the preferences of the society. If the society gives priority to the production of more consumer goods now, it will have less in future. A higher priority on capital goods implies less consumer goods now and more in the future.

2. How to Produce:

The other related problem of the economy is how to produce the goods. This problem is essentially concerned with the choice of technique of production i.e. either the labour intensive techniques or the capital intensive techniques are to be adopted. If, in an economy labour is available in abundance, it may use labour intensive techniques.

On the other hand, if labour is scarce, capital intensive techniques may be used. Moreover, technique to be used also depends on the type and quantities of goods to be produced. For instance, in order to produce capital goods, complicated and expensive machines and techniques are required. On the other hand, for simple consumer goods small and less expensive machines are required. But, while choosing between different methods of production, those methods should be adopted which bring about an efficient allocation of resources and, thereby, increase the overall productivity in the economy.

3. For Whom to Produce:

The third central problem of the economy is the allocation of goods among the members of the society. The problem “For Whom to Produce” is related to the manner in which the national product will be distributed among different individuals and classes of persons. The allocation of goods among the households takes place on the basis of exchange.

The choice in this case would be whether to produce for the benefit of a few rich persons or for providing for the needs of large number of poor and unprivileged persons. In a poor country like India, if a large proportion of the national product consists of T.V. sets, motor cars, refrigerators, superfine cloth etc., then the economy is said to be producing for the sake of rich.

On the other hand, any economy which wants to benefit the maximum number of persons would first try to provide for the necessities of the entire population and only after this job is accomplished will gradually shift to the production of comforts and luxuries.

(b) Problem of Efficient or Full Utilization of Resource:

A very significant question that can be asked about the working of an economy is: Are the resources being used efficiently? Since Resources are scarce, it is obviously desirable that they should be most efficiently used, i.e., the production and distribution of the national product should be efficient. Production is called to be efficient, if it is not possible to produce more of one good without reducing the output of other goods in the economy. In the same way, the distribution is efficient if it is not possible to make anyone person/persons better off without making any other person/persons worse off through any redistribution system.

(c) Problem of Growth of Resources:

Another important issue to know whether the productive capacity of an economy is increasing, static or declining. The increase in productive capacity of an economy over time is called economic growth. For under-developed economies, their basic problem is how to accelerate the pace of their economic growth.

Even developed countries would not like to do so. In fact, they are able to achieve higher annual rate of growth than the under-developed ones. The problem of growth is thus not peculiar to the under-developed countries. But, it is quite crucial to all those countries whether developed or underdeveloped, whether free market or centrally planned.

(d) Problem of Economic Growth:

Presently every economy whether rich or poor is new facing with the problem of economic growth. Its aim is rapid economic growth in order to raise the living standard of its people. It also means that the rate of economic growth should be higher than the growth of population. Therefore, economy decides regarding the rate of saving and investment. But, we should remember that less developed countries face the problem of unemployment and poverty. They want to get rid of these problems at the earliest.

To conclude, we must note that there are two branches of modern economic theory i.e. Micro Economic Theory and Macro Economic Theory. Micro theory known as price theory, deals with the allocation of resources in the market economy. Thus, what to produce, how to produce and for whom to produce is decided as the basis of price-mechanism. On the other hand, macro theory deals with the fuller utilization of resources. It studies about the growth of resources along with other problems such as unemployment, poverty, inflation and other such like problems.