Every society faces the scarcity of resources due to their limited availability, this leads to the allocation of scarce resources in a way to attain maximum satisfaction of human wants. Allocation of resources raises the basic problem of the Economy which deals with the production, distribution and disposition of goods and services which are also known as the Central Problem of the Economy. These can be studied by knowing:
What to produce?
How to produce?
For whom to produce?
This helps to understand which good or services are required in the society (what to produce?) with which technique these are to be made (how to produce?) and who would consume these goods( for whom to produce?).
What to Produce?
There are different needs of every human in the society, considering that it is decided which goods and services are to be produced and in what quantity are they required in the society. As the resources are scarce, the production of one means sacrificing another. Production has to be done in a way that maximum satisfaction is achieved by society by looking into what is more important than another.
For example, the construction of a hospital can be done by giving up a highway. A public park or a school can be built on the same land, one has to decide what needs to be built by studying which is a more important need of the area.
There are different types of needs in society. Goods are of different categories from consumer goods, capital goods to civil goods or war goods. Keeping in mind the requirement of each their quantity is decided.
How to Produce?
This refers to different aspects of production from selecting which raw materials to be used, what technique of production has to be adopted, and where these goods would be produced. How means deciding the manner in which the goods are produced largely deals with deciding what amount of labor would be involved. There is a capital-intensive technique where more machinery is used and then there is labour intensive technique where more manpower is used.
Goods can be produced in-house or made in a foreign land. In-house production means employment generation whereas foreign land production means goods produced at a lesser price. All these aspects need to be seen keeping in mind their effect on society.
For example, the production of textiles can be done either by handloom or machine-based. The method which gives more output with lesser cost getting involved is chosen. In a country like India where there is an abundance of labor handloom can be chosen whereas in countries like the USA where the labour cost is high machine-based production is preferred.
For Whom to Produce?
This involves deciding who is the end consumer of the goods or services that are produced. Every good produced is made for a specific section of society as every product cannot satisfy all the sections of society due to difference in the paying capacity of the consumer. Inequality in the distribution of income can be noticed in society because of which there is a difference in the paying capacity of the consumer.
For example, the production of graded rice is for people with higher paying capacity and the production of non-graded rice is for lower-income people. Luxury goods and services are for people with high income.
The distribution of final goods and services is equal to the distribution of income among the factors of production( land, labour, capital, entrepreneurship). This has two aspects:
Personal Distribution: This refers to the distribution of income by a different group of individuals in society.
Functional Distribution: This refers to the distribution of income among different factors of production.