Download The Economic Problem: • Production Possibilities Frontier (PPF

The Economic Problem:







Production Possibilities Frontier (PPF) – the boundary between those combinations of goods and
services that can be produced and those that cannot
To illustrate the PPF we focus on two goods at a time, holding all others at a constant
We look at a model economy in which everything remains the same (ceteris paribus) except the
two goods we’re considering
Problem: limited resources. How should they be allocated across the various production of G&S?
What is the best combination?
Any point on or inside the PPF is attainable, points outside the frontier are unattainable

Production efficiency: is achieved if we
cannot produce more of one good without producing
less of some other good

Points on the frontier are efficient, points
inside, like D, are inefficient

(See appendix to chapter 1 for graphing)

Every choice along the PPF involves a tradeoff

The opportunity cost of a gun is the butter
forgone

The OC of a gun is the inverse of the OC of
butter
Because resources are not equally productive in all activities, the PPF bows outward = concave
o As the quantity produced of each good increases, so does its OC
To determine which of the alternative efficient quantities to produce, we compare costs and
benefits
o The PPF determines OC
o The MC of a GorS is the OC of producing one more unit of it
o The OC of producing one more unit of butter is the MC of a gun
 The maringal cost line is
determined by creating a column graph from
the dots on the PPF and drawing a line
through them
 The MC line passes through
the centre of each bar









Preferences are a description of a person’s likes and dislikes
To describe rpeferences, economists use the concepts of MB and the MB curve
The MB of a GorS is the benefit received from consuming one more unit of it
o Measured by the amount a person is willing to pay for an additional unit of a GorS
General rule – the more there is of a good, the smaller the marginal benefit and the less one is
willing to pay for an additional unit of it
o = the principle of decreasing marginal benefit
The marginal benefit curve shows the relationship between the MB and the quantity of the good
consumed
o The MB curve (line) slopes downward, reflecting the principle of decreasing MB
Allocative Efficiency: when we cannot produce more of any one good without giving up some
other good that we value more highly
o Producing at the point on the PPF that we prefer above all other points
Production Efficiency: when we cannot produce more of any one good without giving up some
other good
o Producing at a point on the PPF
The point of allocative efficiency is the point on the PPF at which
MB = MC
o Not $ but guns per unit of butter
This point is determined by the quantity at which the MB curve
intersects the MC curve
Economic Growth:

The expansion of production possibilities – an increase in the material standard of living – is
called economic growth. Influenced by:
o Technological change – the development of new goods and better ways of producing
G&S
o Capital accumulation – the growth of capital resources, includes human capital

The cost of economic growth 0 to use resources
in research and development, we must decrease our
production of consumption G&S

The OC of EG is less current consumption

By using some resources to produce capital
goods, the PPF shifts outward in the future

To graph OC of EG, compare capital input
purchased with output

Capital accumulation shifts the PPF outwards