1. Production Possibility Lecture
PPF

2. Introduction
Every decision has an opportunity cost – the cost in foregone opportunities.

3. Introduction
A production possibility curve is used to illustrate opportunity cost.

4. Abstractions and Assumptions of a PPC
Compare 2 variables; goods or services
Trade-offs or opportunity cost involved
All available resources are fully employed
All available technology is fully employed
Productive efficiency: Resources are employed in the least costly way

5. Abstractions and Assumptions of a PPC
Economy is operating efficiently
Available supply of resources is fixed in quantity and quality at this point of time
No new development in technology during analysis
Economy produces only 2 types of products

6. What type of curve illustrates the statements below?
Increasing opportunity cost per unit of good B
Zero opportunity cost per unit of good B
Constant opportunity cost per unit of good B
Decreasing opportunity cost per unit of good B

7. The Production Possibilities Model
The production possibilities curve shows the trade-offs among choices we make.

8. The Production Possibility Table
A production possibility table lists a choice's opportunity costs by summarizing what alternative outputs you can achieve with your inputs.

9. The Production Possibility Table
Output – an output is simply a result of an activity.
Input – an input is what you what you put into a production process to achieve an output.

10. The Production Possibility Curve for an Individual
A production possibility curve measures the maximum combination of outputs that can be achieved from a given number of inputs.
It slopes downward from left to right.

11. The Production Possibility Curve for an Individual
The production possibility curve not only represents the opportunity cost concept, it also measures the opportunity cost.

12. The Production Possibility Curve for an Individual
The production possibility curve demonstrates that:
There is a limit to what you can achieve, given the existing institutions, resources, and technology.
Every choice made has an opportunity cost—you can get more of something only by giving up something else.

13. A Production Possibility Curve for a Society
The production possibility curve is generally bowed outward.
Some resources are better suited for the production of some goods than others.

14. A Production Possibility Curve for a Society10 9 8 6 5 4 3 2 1 . 2Y 1X A X
If the slope of the production curve is -2 at A, the opportunity cost
of 1X is 2Y. 7
McGraw-Hill/Irwin
© 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.

15. A Production Possibility Curve for a Society
Comparative advantage explains why opportunity costs increase as the consumption of a good increases.
Some resources are better suited for the production of some goods than to the production of other goods.

16. Increasing Opportunity Cost

17. A Production Possibilities Table and Curve
% of resources
devoted to
production
of guns
Number
of butter
Pounds
Row 20 40 60 80
100 4 7 9 1 12 15 14 5 A B C D E F
McGraw-Hill/Irwin
© 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.

18. A Production Possibilities Table and Curve
4 guns
1 pound of butter 15 B 14
3 guns
2 pounds of butter C 12 D 9
Butter E 5
1 gun
5 pounds of butter F 4 7 9 11 12
Guns
McGraw-Hill/Irwin
© 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.

19. Why is the production possibility curve is not a straight line?

20. Increasing Marginal Opportunity Cost
The principle of increasing marginal opportunity cost states that opportunity costs increase the more you concentrate on an activity.
In order to get more of something, one must give up ever-increasing quantities of something else.

21. Efficiency
In production, we’d like to have productive efficiency – achieving as much output as possible from a given amount of inputs or resources.

22. Efficiency
Efficiency involves achieving a goal as cheaply as possible.
Efficiency has meaning only in relation to a specified goal.

23. Efficiency
Any point within the production possibility curve represents inefficiency.
Inefficiency – getting less output from inputs which, if devoted to some other activity, would produce more output.

24. Efficiency
Any point outside the production possibility curve represents something unattainable, given present resources and technology.

25. Efficiency and Inefficiency
Guns 10 8 6 4 2
Butter C D A B
Unattainable point,
given available technology,
resources and labor force
Efficient
points
Inefficient
point

26. Tom’s Trade-offs: The Production Possibility Frontier

27. Can we produce outside the production possibility curve?
Can we have more?

28. Shifts in the Production Possibility Curve
Society can produce more output if:
Technology is improved.
More resources are discovered.
Economic institutions get better at fulfilling our wants.

29. Economic Growth
Production is initially at point A (20 fish and 25 coconuts),  it can move to point E (25 fish and 30 coconuts).
Economic growth results in an outward shift of the PPF because production possibilities are expanded.
The economy can now produce more of everything.

30. Shifts in the Production Possibility Curve
More output is represented by an outward shift in the production possibility curve.

31. Shifts in the Production Possibility Curve
Neutral Technological Change
Butter C D A B
Guns

32. Shifts in the Production Possibility Curve
Biased Technological Change
Butter C B A
Guns

33. Distribution and Production Efficiency
The production possibilities curve focuses on productive efficiency and ignores distribution.

34. Distribution and Production Efficiency
In our society, more is generally preferred to less and many policies have relatively small distributional effects.

35. Costs and benefits
The PPF shows us the economically efficient possibilities, but does not help us choose among them.
To choose, we must weigh costs and benefits:
take an action (move along the PPF)
if and only if the EXTRA benefits of the action are at least as great as the EXTRA costs

36. Examples of Shifts in the Production Possibility Curve
Test your understanding:
A meteor hits the world and destroys half the earth’s natural resources.
Nanotechnology is perfected that lowers the cost of manufactured goods.

37. Examples of Shifts in the Production Possibility Curve
Test your understanding:
A new technology is discovered that doubles the speed at which all goods can be produced.
Global warming increases the cost of producing agricultural goods.

38. Test your understanding
What trade-offs are involved?
Why is the PPC concave?
What does point (E), inside the PPC illustrate?
What is the significance of point (F), outside the PPC?
Under what conditions can point F be reached?

39. Exam type
Atlantis is a small, isolated island in the South Atlantic. The inhabitants grow potatoes and catch fish. The accompanying table shows the maximum annual output combinations of potatoes and fish that can be produced. Obviously, given their limited resources and available technology, as they use more of their resources for potato production, there are fewer resources available for catching fish.

40. Exam Type

41. Exam & Answer type
a. Draw a production possibility frontier with potatoes on the horizontal axis and fish on the vertical axis illustrating these options, showing points A–F.
The accompanying diagram shows the production possibility frontier for Atlantis.

42. PPF

43. Exam & Answer type
b. Can Atlantis produce 500 pounds of fish and 800 pounds of potatoes? Explain. Where would this point lie relative to the production possibility frontier?

44. Answer part b.
b. No, Atlantis cannot produce 500 pounds of fish and 800 pounds of potatoes. If it produces 500 pounds of fish, the most potatoes it can produce is 600 pounds. This point would lie outside the production possibility frontier, at point G on the diagram.

45. Exam type
c. What is the opportunity cost of increasing the annual output of potatoes from 600 to 800 pounds?
c. The opportunity cost of increasing output from 600 to 800 pounds of potatoes is 200 pounds of fish. If Atlantis increases output from 600 to 800 pounds of potatoes, it has to cut fish production from 500 pounds to 300 pounds, that is, by 200 pounds.

46. d. What is the opportunity cost of increasing the annual output of potatoes from 200 to 400 pounds?
The opportunity cost of increasing output from 200 to 400 pounds of potatoes is 50 pounds of fish. If Atlantis increases output from 200 to 400 pounds of potatoes, it has to cut fish production from 650 pounds to 600 pounds, that is, by 50 pounds.

47. e. Can you explain why the answers to parts c and d are not the same
e. Can you explain why the answers to parts c and d are not the same? What does this imply about the slope of the production possibility frontier?
e. The answers to parts c and d imply that the more potatoes Atlantis produces, the higher the opportunity cost becomes. For instance, as you grow more and more potatoes, you have to use less and less suitable land to do so.

48. . As a result, you have to divert increasingly more resources away from fishing as you grow more potatoes, meaning that you can produce increasingly less fish
This implies, of course, that the production possibility frontier becomes steeper the farther you move along it to the right; that is, the production possibility frontier is bowed out. (Mathematicians call this shape concave.)