1. © 2003 McGraw-Hill Ryerson Limited 2 - 1 u The choices made by society are often presented in terms of a production possibility curve. u The production possibilities curve shows the trade-offs among choices we make. The Production Possibilities Curve and Economic Reasoning

2. © 2003 McGraw-Hill Ryerson Limited 2 - 2 The Production Possibility Table u A production possibility table lists the maximum combination of outputs that can be obtained from a given number of inputs.

3. © 2003 McGraw-Hill Ryerson Limited 2 - 3 The Production Possibility Curve u A production possibility curve plots the maximum combination of outputs that can be achieved from a given number of inputs. u It slopes downward from left to right.

4. © 2003 McGraw-Hill Ryerson Limited 2 - 4 The Production Possibility Curve u The production possibility curve not only demonstrates the opportunity cost concept, it also measures the opportunity cost.

5. © 2003 McGraw-Hill Ryerson Limited 2 - 5 The Production Possibility Curve u The production possibility curve demonstrates that: l There is a limit to what you can achieve, given the existing institutions, resources, and technology. l Every choice made has an opportunity cost—you can get more of something only by giving up something else.

6. © 2003 McGraw-Hill Ryerson Limited 2 - 6 Economics grade 100 88 70 46 40 5866789498 History grade 20 hours of history 0 hours of economics E D C B 20 hours of economics 0 hours of history A Hours of study in history Grade in history Hours of study in economics Grade in economics 20 19 18 17 16 15 14 13 12 11 10 9 8 7 6 5 4 3 2 1 0 98 96 94 92 90 88 86 84 82 80 78 76 74 72 70 68 66 64 62 60 58 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 40 43 46 49 52 55 58 61 64 67 70 73 76 79 82 85 88 91 94 97 100 The Production Possibility Curve Fig. 2-1 (a and b), p 33

7. © 2003 McGraw-Hill Ryerson Limited 2 - 7 Increasing Marginal Opportunity Cost u The production possibility curve is generally bowed outward since some resources are better suited for the production of some goods.

8. © 2003 McGraw-Hill Ryerson Limited 2 - 8 Increasing Marginal Opportunity Cost u The concept of comparative advantage explains why opportunity costs increase as the consumption of a good increases. l Some resources are better suited for the production of some goods than to the production of other goods.

9. © 2003 McGraw-Hill Ryerson Limited 2 - 9 Increasing Marginal Opportunity Cost, p 33 Y 10 9 8 6 5 4 3 2 1 0. 2Y2Y 1X1X A X 1 2 3 4 5 6 7 8 9 If the slope of the production curve is -2 at A, the opportunity cost of 1X is 2Y. 7

10. © 2003 McGraw-Hill Ryerson Limited 2 - 10 Increasing Marginal Opportunity Cost u The principle of increasing opportunity cost states that opportunity costs increase the more you concentrate on an activity. u In order to get more of something, one must give up ever-increasing quantities of something else.

11. © 2003 McGraw-Hill Ryerson Limited 2 - 11 A Production Possibility Table, Fig. 2-2a, p 34 % of resources devoted to production of burgers Number of burgers % of resources devoted to production of DVDs Number of DVDsRow 0 20 40 60 80 100 0 4 7 9 11 12 100 80 60 40 20 0 15 14 12 9 5 0 A B C D E F

12. © 2003 McGraw-Hill Ryerson Limited 2 - 12 1211 A Production Possibility Curve, Fig. 2-2b, p 34 A DVDs Burgers 479 0 1 burger 5 DVDs 5 9 15 3 burgers 2 DVDs B C D E F 14 12 4 burgers 1 DVD

13. © 2003 McGraw-Hill Ryerson Limited 2 - 13 Increasing Marginal Opportunity Cost, p 35 DVDs Slope is flat at A. Low opportunity cost of burgers. Slope is steep at B. High opportunity cost of burgers. Burgers B A

14. © 2003 McGraw-Hill Ryerson Limited 2 - 14 Efficiency u In our production, we would like to have productive efficiency—achieving as much output as possible from a given amount of inputs or resources.

15. © 2003 McGraw-Hill Ryerson Limited 2 - 15 Efficiency u Any point within the production possibility curve represents inefficiency—getting less output from inputs which, if devoted to some other activity, would produce more output.

16. © 2003 McGraw-Hill Ryerson Limited 2 - 16 Efficiency u Any point outside the production possibility curve represents something unattainable, given present resources and technology.

17. © 2003 McGraw-Hill Ryerson Limited 2 - 17 Efficiency and Inefficiency, Fig. 2-3a, p 36 Efficiency and Inefficiency, Fig. 2-3a, p 36 DVDs 10 8 6 4 2 0 2 4 6810 Burgers CD A B Efficient points Inefficient point Unattainable point, given available technology, resources and labor force

18. © 2003 McGraw-Hill Ryerson Limited 2 - 18 Shifts in the Production Possibility Curve u Society can produce more output if: l Technology is improved. l More resources are discovered. l Economic institutions get better at fulfilling our wants.

19. © 2003 McGraw-Hill Ryerson Limited 2 - 19 Shifts in the Production Possibility Curve u An outward shift in the production possibility curve indicates more output that can be produced with given inputs.

20. © 2003 McGraw-Hill Ryerson Limited 2 - 20 Neutral Technological Change DVDs A B Burgers 0 Shifts in the Production Possibility Curve, Fig. 2-3b, p 36 C D

21. © 2003 McGraw-Hill Ryerson Limited 2 - 21 Biased Technological Change Shifts in the Production Possibility Curve, Fig. 2-3c, p 36 0 B A DVDs Burgers C

22. © 2003 McGraw-Hill Ryerson Limited 2 - 22 Distribution and Production Efficiency u The production possibilities curve focuses on productive efficiency and ignores distribution. u An increase in output that goes to one person and not to anyone else would not necessarily be efficient in some societies.

23. © 2003 McGraw-Hill Ryerson Limited 2 - 23 Distribution and Production Efficiency u Economists often talk about efficiency as if it means productive efficiency and achieving society's goals. u In our society, more is generally preferred to less and many policies have relatively small distributional effects.

24. © 2003 McGraw-Hill Ryerson Limited 2 - 24 Examples of Shifts in the Production Possibility Curve u If more inputs are available for the production of X and Y equally, the PPC shifts out along both X and Y axes. u If fewer inputs are available for the production of X and Y equally, the PPC shifts in along both X and Y axes.

25. © 2003 McGraw-Hill Ryerson Limited 2 - 25 Examples of Shifts in the Production Possibility Curve u If more inputs are available for good X only, the PPC shifts out on the X axis only. u If more inputs are available for good Y only, the PPC shifts out on the Y axis only.

26. © 2003 McGraw-Hill Ryerson Limited 2 - 26 (a) (c) (d) (b) Examples of Shifts in the Production Possibility Curve Fig. 2-4, p 37

27. © 2003 McGraw-Hill Ryerson Limited 2 - 27 Comparative Advantage, Specialization, and Trade u The production possibility curve becomes bowed out when individuals specialize in the production of goods for which they have a comparative advantage and trade with others.

28. © 2003 McGraw-Hill Ryerson Limited 2 - 28 Comparative Advantage, Specialization, and Trade u The comparative advantage argument used to explain the bowed-out shape of the production possibilities curve can be used to show how trade makes society better off.

29. © 2003 McGraw-Hill Ryerson Limited 2 - 29 Comparative Advantage, Specialization, and Trade u Collaboration and specialization can make society better off. u Total production can rise.

30. © 2003 McGraw-Hill Ryerson Limited 2 - 30 Comparative Advantage, Specialization, and Trade u The outward bow graphically represents the potential gains from trade.

31. © 2003 McGraw-Hill Ryerson Limited 2 - 31 The Gains From Trade u Sunder can either write one economics paper or four creative writing papers in a day. u Ti can either write one creative writing paper or four economics papers in a day.

32. © 2003 McGraw-Hill Ryerson Limited 2 - 32 The Gains From Trade u Sunder has a comparative advantage in creating writing and Ti has a comparative advantage in economics.

33. © 2003 McGraw-Hill Ryerson Limited 2 - 33 The Gains From Trade u The following table and production possibility curves demonstrate how output increases when two individuals collaborate and specialize in the activity for which each has a comparative advantage.

34. © 2003 McGraw-Hill Ryerson Limited 2 - 34 The Gains From Trade, Fig. 2-6a, p 41

35. © 2003 McGraw-Hill Ryerson Limited 2 - 35 The Gains From Trade, Fig. 2-6b, p 41

36. © 2003 McGraw-Hill Ryerson Limited 2 - 36 The Gains From Trade u Each individual's PPC is drawn by connecting the number of papers each can write in a day on a graph.

37. © 2003 McGraw-Hill Ryerson Limited 2 - 37 The Gains From Trade, Fig. 2-6c, p 41 Economics 1 2 3 4 5 4 3 2 1 5 (b) Sunder (a) Ti Creative writing

38. © 2003 McGraw-Hill Ryerson Limited 2 - 38 The Gains From Trade u The combined PPC curve is drawn by finding three points and connecting them.

39. © 2003 McGraw-Hill Ryerson Limited 2 - 39 The Gains From Trade, Fig. 2-6c, p 41 Economics 1 2 3 4 5 (c) Combined with trade 4 3 2 1 5 (b) Sunder (a) Ti B C A Creative writing

40. © 2003 McGraw-Hill Ryerson Limited 2 - 40 The Gains From Trade u Point A: This is the combined number of economics papers they both can write in a day. u If economics papers are on the Y axis, it is point 0,5.

41. © 2003 McGraw-Hill Ryerson Limited 2 - 41 The Gains From Trade u Point B: This is the combined number of creative papers they both can write in a day. u If economics papers are on the Y axis, it is point 5,0.

42. © 2003 McGraw-Hill Ryerson Limited 2 - 42 The Gains From Trade u Point C: This is where each is focusing on that activity for which he or she has a comparative advantage. u Sunder writes four creative papers and Ti writes four economics papers. u This is the coordinates 4,4.

43. © 2003 McGraw-Hill Ryerson Limited 2 - 43 The Gains From Trade u The combined PPC is bowed out because of comparative advantage and specialization.

44. © 2003 McGraw-Hill Ryerson Limited 2 - 44 The Division of Labor u Markets allow specialization and the division of labor. u They allow individuals to develop their comparative advantages, thereby increasing the production possibilities of society.

45. © 2003 McGraw-Hill Ryerson Limited 2 - 45 Markets, Specialization, and Growth u Markets and specialization have led to growth.

46. © 2003 McGraw-Hill Ryerson Limited 2 - 46 Markets, Specialization, and Growth u The growth in per capita income (constant 1990 dollars) in the past 2 millennia has been astonishing. u This owes largely to the introduction of markets and democracy.

47. © 2003 McGraw-Hill Ryerson Limited 2 - 47 Markets, Specialization, and Growth u As people are allowed to compete and specialize, they get better at what they do, develop new technologies and the market grows ever larger.

48. © 2003 McGraw-Hill Ryerson Limited 2 - 48 Growth in the Past Two Millennia Fig. 2-7, p 42 col17930_0207.eps $6,000 $5,000 $4,000 $3,000 $2,000 $1,000 2000150010005000 Per capita income (in 1990 international dollars)

49. © 2003 McGraw-Hill Ryerson Limited The Economic Organization Of Society End of Chapter 2