Basic Economic Problem Is Scarcity

The basic economic problem is scarcity. Scarcity means there are not enough resources to produce all the goods and services which consumers want. Scarcity arises because human wants for goods and services are unlimited but the resources required to produce them are limited.

It is because resources are SCARCE that Individuals, Companies and Governments are forced to make CHOICES. Each time a CHOICE is made, the next best alternative has been given up. The Alternative that has been given up is the OPPORTUNITY COST

At prices higher than the market price, firms supply more than consumers demand so there will be excess supply.  In order to persuade consumers to buy this excess supply, the price will have to fall. At prices lower than the market price the quantity demanded by consumers exceeds supply so there will be excess demand and as a result, the price will rise.  Disequilibrium = Market Forces operate to move prices up/down depending on excess supply or excess demand.

Small changes in price which cause big changes in quantity demand means price is elastic

Small change in price which causes minor change in quantity demanded = price inelastic

As demand has changed by a greater % than price, demand is ELASTIC. Price £5, £4 Quantity 100,110

Change in price 1

Original price 5          = 0.2 x 100 = 20%

Change in quantity 10

Original quantity 100        = 0.1 x 100 = 10%                 = ½ = <1 = inelastic

If PED >1 then price is elastic

If PED <1 then price is inelastic

If PED = 1 it is unit elastic

If you are a business, knowing your PED helps calculate by how much you can raise prices without affecting total revenue. Firms wish to know if an increase in price will cause its total revenue to rise. However, if qty demanded contracts significantly, revenue is likely to fall.