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Generally, individuals and firms are assumed to be motivated by self-interest. Explain the central economic problem of limited resources and unlimited wants. [10]

This essay question is adapted from an actual A level economics essay examination

This economics essay is about the central problem of economics, and explains that the pursuit of self-interest by individuals and firms results in an efficient allocation of earth’s resources through the price mechanism, which solves the problem of scarcity and the central economic questions of what to produce, how to produce, and for whom to produce. Any society, whether capitalistic, socialist, or a command economy, needs to answer these three important economic questions. 

Human wants are unlimited, while the factors of production used to produce goods and services to meet human wants, which are land, labour, capital, and entrepreneurship are limited. Land refers to gifts of nature and natural resources, like physical land, oil, and natural gas. Labour refers to manpower and man’s efforts and “human capital”. Capital in economics often refers to goods that produce other goods, for example, machinery. And entrepreneurship refers to human risk taking and decision making to coordinate the limited resources available, and as Schumpeter once said, entrepreneurs use “creative destruction” to keep the economy humming with new goods and services that displace older goods and services. These four resources are limited, but are most importantly required to produce goods and services. 

However, human wants are unlimited; for example, people need food, clothing, housing, transportation, leisure and entertainment, education, and many other goods and services to meet their material standard of living. This situation of limited factors of production of land, labour, capital, and entrepreneurship, but unlimited human wants, results in scarcity. 

Scarcity necessitates choice, which means that rational economic choices have to be made to allocate the resources to competing uses. One related important economic concept here is the idea of opportunity cost, which is the cost of the next best alternative – rationally, as resources are scarce, allocating resources to one purpose means forgoing the next best alternative. In other words, there are trade-offs that arise from the allocation of the factors of production to competing uses. 

However, there is a solution that addresses the central problem of economics. 

This solution is the free market, with the price mechanism, which as Adam Smith once said, acts like "an invisible hand" that coordinates the matching of limited resources to competing uses. According to economic theory, this is the intersection of demand and supply that determines the optimal price and the quantity eventually produced, ceteris paribus. Ceteris paribus is the condition that all other factors remain constant; one example here is that, for the price mechanism to allocate resources efficiently, there should be no market failures resulting in allocative inefficiency. Demand is defined as the willingness and ability to purchase a good or service, ceteris paribus, while supply is defined as the willingness and ability to produce a good or service, also ceteris paribus. In economic theory, the optimal price and economic output of goods and services are the outcome of rational choices of millions, if not billions, of suppliers, producers, and firms meeting the requirements of millions of consumers, individuals, and households. 

In conclusion, the pursuit of self-interest by individuals and firms utilises the price mechanism to address the economic problem of scarcity, and it is the intersection of demand and supply that leads to an efficient allocation of scarce economic resources.

Economics Tutor's Comment - This is an excellent effort for the A levels and covers a few important economic concepts and arguments. However, it takes a slightly different approach compared to other economics essays on the central problem of economics that, for example, talk about signalling, rationing, incentivising effects of prices. What is the limitation of using that kind of approach? Also, it could be improved with the use of an economics diagram, and explaining the diagram could also add higher order reasoning to this paper. Nonetheless, it is still quite clear that this student’s economic theory is quite strong. Always think about what you could do to make your economics essays even better. Thank you for reading. Cheers!  

JC Economics Essays - This economics essays blog helps economics students with the A-Levels (Cambridge, A1/S, A2, A H1/H2/H3 levels), and even the international AS level economics examinations. IB students can also benefit from the economics content in JC Economics Essays. This top-quality economics essays website provides a range of relevant and useful economics content, materials, tips and techniques, and model economics essays that students in the United Kingdom and Singapore, and all around the world, can use to excel in their studies and economics examinations.

This model essay with economics tutor’s comments was contributed by WT, our Economics expert who helps students understand the beauty of Economics and its applications. WT has a strong interest in Econometrics, Economic History, International Trade, and Game Theory. This economics post was edited by SS, the editor of JC Economics Essays.

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