Production Possibilities
Curve
PPC
• This illustrates the fundamental problem of scarcity. Since wants will
always exceed available resources, people living in a given economy
must make production choices. Therefore the economy must decide
how many of certain items they will produce to try to maximize the
return.
PPC
• Since this is a simple model we are assuming a few things:
• only two things will be produced by this simple economy (this makes
the economic trade-off very clear: the increased production of one
good can be achieved only by sacrificing some quantity of the
alternative product).
• The economy has fixed technology and resources (this model is over a
short period of time so we are assuming that the economy cannot
acquire new technology or obtain or import more resources).
• The economy is at full employment (so we can’t just add more
workers to produce more products).
Production Item #1
Possibilities Ex.
Tablets
A
0
B
C
D
E
F
1
2
3
4
5
Item #2
Ex. Cell
Phones
150
Opportunity Cost of Additional
Tablet Production (quantity of cell
phones that must be given up)
Relative Cost to Society (what are they
going to gain and give up as the level of
production of each good changes)
10
The production of 1 more tablet = 10
less cell phones that can be produced.
20
The production of 1 more tablet = 20
less cell phones that can be produced.
30
The production of 1 more tablet = 30
less cell phones that can be produced.
40
The production of 1 more tablet = 40
less cell phones that can be produced.
50
The production of 1 more tablet = 50
less cell phones that can be produced.
140
120
90
50
0
The Law of Increasing Relative Costs
• The economic cost of one tablet relative to cell phones is not given in
a dollar amount but by the number of cell phones that have to be
given up in order to make one tablet. This is called the tablet’s relative
cost.
• This table shows the law of increasing relative cost. This is when in
order to get greater amounts of one product you must sacrifice an
ever-increasing amount of another product. These graphs will have a
bowed out or concave shape to them. This happens because although
tablet production changes by a constant amount each time cell phone
production changes by an increasingly larger amount each time.
The Law of Increasing Relative Costs
• The production possibility schedule (the table listing tablet and cell
phone production) contains the maximum potential output that can
be produced for each of the two products. The curve that these
points would form creates the outer limit or frontier of production
possibilities. Therefore anything above the line is unattainable and
anything below the line is not an efficient use of resources (they could
be making more products).
Law of Diminishing Returns
• The law of increasing relative cost deals with the relationship
between two outputs (ex. products that have been created: in our
case tablets and cell phones) while the law of diminishing returns
deals with the relationship between an input (ex. resources that are
used to create a product such as labour) and an output (what is being
created).
• The law of diminishing returns – outputs will increase when a
particular input is increased, but only to a point. After this point has
been reached, increasing inputs will not have an significant effect on
the production of outputs.
Law of Diminishing Returns
• Think of “too many cooks in the kitchen” if you have one person
trying to create a meal for 25 people it will take them a long time –
let’s say 5 hours, if they get another person to help maybe it will take
3 hours, 3 people 2 hours, 4 people 1.5 hours, 5 people 1 hour 20
minutes,
• At 4 or more people the benefit is not as large as it once was so the
benefit of the return they are providing is diminishing (decreasing).
This is assuming that they all have to use the same resources (ex. you
can’t use two kitchens etc.).
The Law of Increasing Returns to Scale
• This tells us what happens when all productive resources are
increased at the same time.
• Example: (using the cooks in the kitchen) being able to increase the
kitchen space (ex. Building or renting another kitchen space) and
increasing the number of workers at the same time.
• In this case the scale of the operation has increased.
• However in the real world we can’t always continue to increase the
amount of kitchen space we have and the number of workers (we
don’t have the money to pay the workers and buy new kitchen
space).