Laugher Curve
Production Possibility Curve
Chapter 2-1
Introduction
„
An economic system has to solve
three coordination problems:
{
{
{
What, and how much, to produce.
How to produce it.
For whom to produce it.
Q. How many Marxists does it take to
screw in a light bulb?
A. None.
The bulb contains within itself the
seeds of its own revolution.
Introduction
„
All economic knowledge can be boiled
down to a single phrase:
There ain’t no such thing as a free lunch.
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Introduction
„
Every decision has an opportunity
cost – the cost in foregone
opportunities.
The Production Possibilities
Model
„
The production possibilities curve
shows the trade-offs among choices
we make.
Introduction
„
A production possibility curve is used
to illustrate opportunity cost.
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.
2
The Production Possibility
Table
The Production Possibility
Curve for an Individual
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.
„
The Production Possibility
Curve for an Individual
The Production Possibility
Curve for an Individual
„
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„
„
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.
The production possibility curve not
only represents the opportunity cost
concept, it also measures the
opportunity cost.
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© 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
3
The Production Possibility
Curve for an Individual
„
{
{
A Production Possibility Curve
for a Society
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.
A Production Possibility Curve
for a Society
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Comparative advantage explains why
opportunity costs increase as the
consumption of a good increases.
{
1X
Some resources are better suited for the
production of some goods than others.
A Production Possibility Curve
for a Society
„
If the slope of the production
curve is -2 at A, the
A
opportunity cost
of 1X is 2Y.
The production possibility curve is
generally bowed outward.
Some resources are better suited for the
production of some goods than to the
production of other goods.
X
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4
A Production Possibilities
Table and Curve
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© 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
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.
Butter
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1 pound
of butter 15
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2 pounds
of butter 12
B
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5 pounds
of butter
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4 guns
7
3 guns
9
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11 12 Guns
1 gun
© 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
McGraw-Hill/Irwin
Increasing Marginal
Opportunity Cost
A
Slope is flat at A. Low
opportunity cost of
guns.
Butter
% of resources
% of resources
devoted to
devoted to
production
Pounds
production
Number
of butter
of butter
of guns
of guns
A Production Possibilities
Table and Curve
Slope is steep at B. High
opportunity cost of guns.
B
Guns
5
Efficiency
„
Efficiency involves achieving a goal as
cheaply as possible.
Efficiency has meaning only in relation to
a specified goal.
„
„
Efficiency
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.
„
„
„
In production, we’d like to have
productive efficiency – achieving as
much output as possible from a given
amount of inputs or resources.
Efficiency
Any point outside the production
possibility curve represents something
unattainable, given present resources
and technology.
6
Shifts in the Production
Possibility Curve
Efficiency and Inefficiency
Unattainable point,
given available technology,
resources and labor force
10
Guns
8
6
C
Efficient
points
2
0
Inefficient
point
2
4
Butter
8
Technology is improved.
More resources are discovered.
Economic institutions get better at
fulfilling our wants.
10
Shifts in the Production
Possibility Curve
„
{
{
A
6
Society can produce more output if:
{
D
B
4
„
More output is represented by an
outward shift in the production
possibility curve.
Shifts in the Production
Possibility Curve
Neutral Technological Change
Butter
C
A
0
B
D
Guns
7
Shifts in the Production
Possibility Curve
Distribution and Production
Efficiency
Biased Technological Change
„
Butter
C
The production possibilities curve
focuses on productive efficiency and
ignores distribution.
B
0
A Guns
Distribution and Production
Efficiency
„
In our society, more is generally
preferred to less and many policies
have relatively small distributional
effects.
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.
8
Examples of Shifts in the
Production Possibility Curve
„
{
{
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.
(a)
(b)
(c)
(d)
9