Download Production Possibility Frontier

Production Possibility Frontier
(PPF)
Production Possibility Frontier
Good Y
6
A
2
B
0
2
8
Good X
Production Possibility Frontier
Good Y
A
B
0
Good X
Production Possibilities Curve
– example for Grades in Mathemtics and Economics
4
Production Possibility Frontier
– Definitions
• For each level of the output of one good, the
production possibility frontier shows the
maximum amount of the other good that can
be produced.
• A graph that shows all the combinations of
goods and services that can be produced if
all of society’s resources are used efficiently.
• A curve depicting all maximum output
possibilities for two or more goods given a set
of inputs (resources, labor, etc.). The PPF
assumes that all inputs are used efficiently.
Production Possibility Frontier
Good Y
A
B
C
0
6
Good X
Production Possibility Frontier - Production Possibility Set
Good Y
0
Good X
A Typical PPF Picture
Good Y
Good X
The Shape of the PPF
Good Y
Good X
The Shape of the PPF
Good Y
Good X
Marginal Rate of Transformation (MRT)
Consumer
Goods
(Pizza)
MRT = -R / P
100
A
90
Cost = 40
pizzas
B
50
Benefit = 20
robots
25
45
50 Capital
Goods
(Robots)
Marginal Rate of Transformation
• The rate at which one good must be sacrificed in
order to produce a single extra unit (or marginal
unit) of another good, assuming that both goods
require the same scarce inputs.
• The marginal rate of substitution is tied to the
production possibilities frontier (PPF), which
displays the output potential for two goods using
the same resources. To produce more of one
good means producing less of the other because
the resources are efficiently allocated.
Good Y
60
50
40
30
20
10
0
10
20
30
40
50
60
Good X
Good Y
40
32
20
10
20
30
Good X
Law of Increasing Relative Cost
• As society attempts to produce more units of
certain good, the opportunity cost of
additional units of that good generally
increases.
Attainability of Production Level
Good Y
Attainable
Attainable
Unattainable
Attainable
Good X
Efficiency and the PPF
Good Y
D
Efficient
Unattainable
A
C
Inefficient
B
Efficient
Good X
Efficiency
• Efficiency is getting the most from available
resources.
• The case in which a given level of inputs is used
to produce the maximum output possible.
• The situation in which a given output is produced
at minimum cost.
• The condition in which there is no possibility to
rearrange production inputs which means we can
not increase the production of one good without
decreasing the production of another good.
Inefficiency
• Waste and mismanagement are the results
of a firm’s operating below its potential.
Reasons for the Inefficiency
• Typically countries aren’t operating along the PPF.
• Reasons:
- Un-/underemployment,
- Resources or capital not used efficiently / is waste
- Not the best technologies are applied
• More fundamentally:
- Imperfect information
- Uncertainty
- Laws and regulations
- Market failures
Changes in the PPF
Consumer
Goods
(Pizza)
Unattainable with
current resources and
technology
100
a
90
Cost = 40
pizzas
50
d
policy
c
Inefficient –
unemployed
resources
25
b.
Benefit = 20
robots
45
50
The PPF and Economic Growth
Consumer
Goods
Economic Growth =
GDP at t
(change in GDPt)
(change in GDPt-1)
GDP at t-1
Economic
Growth
Capital
Goods
Economic Growth
• Economic growth is an increase in the total
output of an economy. It occurs when a
society acquires new resources or when it
learns to produce more using existing
resources.
Reasons for Economic Growth
•
•
•
•
•
Physical capital
Human capital / labor
Technology
Resources
Entrepreneurship