What type of resources are called financial resources?

£Did you know that the work you put into your studies is an economic resource? The only difference between your studies and your future employment might be that you are not currently being paid to learn and acquire knowledge. In a way, you are investing your effort now for having a better job in the future. If only there were more than 24 hours in a day! Economists call this lack of a resource ‘resource scarcity’. Dive into this explanation to learn more about resources and their scarcity.

What are economic resources?

Economic resources are the resources used for carrying out economic activities. The main classes of economic resources are land, labour, capital, and entrepreneurship and the rest of the resources derive from these classes.

Figure 1 below depicts the main classes of economic resources, which are also known as the factors of production. These factors represent the scarce economic resources such as natural resources, human resources, and capital resources needed to produce economic output.

Figure 1. Factors of production, StudySmarter Originals

Factors of production are the inputs into the production process, such as land, labour, capital, and entrepreneurship. This is another name for economic resources.

Types of economic resources or factors of production

As we mentioned above, the four factors of production are land, labour, capital, and entrepreneurship. Let’s explore them in further detail.

'Capital' can be categorised into fixed or physical capital, such as machinery, and working capital such as partly-produced products. 'Entrepreneurship' relates to combining the factors of production in order to take risk, make decisions and gain profit.

Land

Land constitutes natural resources such as water or metal. The natural environment as a whole is also classified under ‘land’.

Natural resources

Natural resources are sourced from nature and used for the production of goods and services. Natural resources are often limited in quantity due to the time it takes for them to form. Natural resources are classified further into non-renewable resources and renewable resources.

Oil and metal are examples of non-renewable resources.

Timber and solar power are examples of renewable resources.

Agricultural land

Depending on the industry, the importance of land as a natural resource may vary. Land is fundamental in the agricultural industry as it’s used to grow food.

The environment

The ‘environment’ is a somewhat abstract term that includes all the resources in the surrounding environment that we can use. They primarily consist of:

• Abstract resources such as solar or wind energy.

• Gases such as oxygen and nitrogen.

• Physical resources such as coal, natural gas, and fresh water.

Labour

Under labour we classify human resources. Human resources do not only contribute to the production of goods but also play an essential role in offering services.

Human resources generally possess some form of education and skills. Businesses need to ensure their labour force is capable of conducting the production processes required by providing appropriate training and ensuring the safety of the work environment. However, the human resources are also capable of adjusting themselves, because they are a dynamic factor of production. They can increase their productivity to contribute more to the efficiency of production.

In terms of education or training, businesses can source labour from a specific educational background to reduce the training time.

When hiring for the department of network security, an IT company will look for candidates with an educational background in Computer Science or other similar subjects. Thereby, they do not need to spend extra time on training the labour.

Capital

Capital resources are resources that contribute to the production process of other goods. Hence, economic capital is different from financial capital.

Financial capital refers to money in a broad sense, which doesn’t contribute to the production process, though it is essential for the business and entrepreneurs to carry on their economic activities.

There are various types of economic capital.

Machinery and tools are classified as fixed capital. Partly-produced goods (work-in-progress) and inventory are considered as working capital.

Entrepreneurship

Entrepreneurship here doesn’t only refer to the entrepreneur who sets up a business. It also refers to the ability to come up with ideas that would be potentially turned into economic goods, risk-taking, decision-making, and running the business, which requires the incorporation of the other three factors of production.

An entrepreneur would need to take the risks of borrowing, renting land, and sourcing appropriate employees. The risk, in this case, involves the chances of not being able to pay the loan due to a failure in the production of goods or sourcing the factors of production.

Scarcity and opportunity cost

Scarcity is the basic economic problem. Because of scarcity, resources need to be allocated between competing ends. To respond to consumers’ wants, the distributions of resources need to be at the optimum level.

However, resource scarcity means that all the wants for different goods may not be satisfied, because the wants are infinite, whilst the resources are scarce. This gives a rise to the concept of an opportunity cost.

An opportunity cost is the next best alternative foregone when an economic decision is made.

Imagine that you want to buy a coat and a pair of trousers but you only have £50. The scarcity of resources (in this case money) implies that you have to make a choice between the coat and the trousers. If you choose the coat, the pair of trousers would then become your opportunity cost.

Markets and the allocation of scarce economic resources

The allocation of resources is regulated by the markets.

A market is a place where producers and consumers meet, and where prices of goods and services are determined based on the forces of demand and supply. The market prices are an indicator and a reference for the producers’ resource allocation to different products. This way they try to gain the optimal rewards (for example, profits).

Free market economies

The prices of goods and services in a free market economy are determined by the forces of demand and supply without government intervention.

A free market is a market with little or no government intervention on either the demand or the supply sides.

There are several pros and cons of a free market economy.

Pros:

• Consumers and competitors can drive product innovation.

• There’s free movement of capital and labour.

• Businesses have more choices in selecting a market (domestic only or international).

Cons:

• Businesses can develop monopoly power more easily.

• Issues relating to externalities aren’t addressed to meet the socially optimum demand.

• Inequality may be worse.

Command economies

Command economies have a high level of government intervention. The government controls and determines the allocation of resources centrally. It also determines the prices of goods and services.

A command or planned economy is an economy in which the government has a high level of intervention in the demand and supply of goods and services, as well as the prices.

There are several pros and cons of a command economy.

Pros:

• Inequality may be reduced.

• Lower unemployment rate.

• The government can ensure access to infrastructure and other necessities.

Cons:

• A low level of competition can lead to a loss of interest in innovation and incentives to produce at a lower cost.

• There might be inefficiency in the allocation of resources due to a lack of market information.

• The market may not be able to respond to consumers’ needs and wants.

Mixed economies

A mixed economy is the most common economic system in the world.

A mixed economy is a combination of a free market and a planned economy.

In a mixed economy, some sectors or industries have free-market features, whilst others have features of a planned economy.

A classical example of a mixed economy is the UK economy. The clothing and entertainment industries have free-market features. Sectors such as education and public transport, on the other side, have a high level of government control. The level of intervention is influenced by the types of goods and services and the level of externalities resulting from production or consumption.

Market failure and government intervention

Market failure occurs when the market mechanism leads to a misallocation of resources in the economy, either completely failing to provide a good or service or providing an incorrect quantity. Market failure can often be caused by information failure due to information asymmetry.

When there is perfect information for both buyers and sellers in the market, scarce resources are allocated optimally. The demand for goods and services determines the prices well. However, the price mechanism may break down when there is imperfect information. This may result in market failure, for example, due to externalities.

Governments can intervene when there are externalities of consumption or production. For example, due to the positive externalities of education, governments tend to intervene by providing free public education and subsidising further education. Governments tend to raise the prices to restrict the demand level for consumption of goods that lead to negative externalities, such as cigarettes and alcohol.

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