Production Possibility
Frontiers/Curves
The Setting
• Production Possibility Curves/Frontiers
measures the maximum production of a
society that produces only 2 goods
• The two goods are interdependent,
meaning anytime you make more of one
good you have to make less of the
other…this tradeoff is the opportunity cost!
Assumptions
• All Economic Models rely on a set of
assumptions
• Assumption 1- Bigger is Better—All things
being equal as long as both good 1 and
good 2 are desirable, a curve further from
the origin is better than a curve closer to it.
• Assumption 2- A society wants to produce
at maximum efficiency
Factors of Production
• In order to make the goods you need
certain inputs, since the goods are
generic, so are the factors of production
• Three Factors of Production—plus the socalled Multiplier!
– Labor
– Land
– Capital
For later Use
• In Economics the payoff for each of the
factors of Production is as follows
– Labor- Wages
– Land- Rent
– Capital – Interest
• Multiplier????------Entrepreneurial Ability-------PROFIT!!!
To Draw the Curve
• The curve measures the maximum output
possible of two goods with current Factors
of Production- Presently Existing– Land
– Labor
– Capital
• Example Using Land, Labor and Capital
how many Cars and how many Tomatoes
can a society produce
The Curve as a Straight Line
• Linear Production
Possibility Curve
This area is
Impossible w/out a
change in the
factors of production
Cars
inefficient
Tomatoes
100%
efficient
Linear Curve
-Constant Slope
-Means that the
trade off or
opportunity cost
remains standard
throughout
Getting Beyond the Curve
• A Change in any one of the Factors of
Production will lead to a change in the
PPC
Increase in
possible
production of
tomatoes due
to increase of
land labor or
capital
100
Cars
Decrease in
possible
production of
tomatoes due to
decrease of land
labor or capital
0
100
Tomatoes
1
1
Why Bigger isn’t always Better
• Shifts outward in the Production Possibility
Curves-due to a population increase
100% increase in
production due to a
100% increase in
population- means
the pie gets bigger
but the slices of the
pie remain the same
cars
tomatoes
Why do we care? So what?
• Economic Goals
– As long as both goods that a society makes are
desirable then more is better
– A bigger pie is better than a smaller pie. Economic
Strength is sometimes measured by the size of the
Pie – e.g. China is a world economic power because
of its economic size despite the fact the slices are
small slivers
– But a bigger slice is better than a smaller slice
• Best case scenario, the Pie gets bigger at a faster pace than
any of the inputs
THE MULTIPLIER
• A BETTER MOUSETRAP!!!
– Entrepreneurial Ability• Changes in Technology and/or Practices can shift
the Production Curve out to the right without any
increase in the factors of production
• Examples– Agricultural Revolution- Better Crop Yields with mutated
seeds
– CAD/CAM allows faster production of architectural
projects
– Assembly Line – Specialization allowed Henry Ford to
build better cars at a lower cost
Opportunity Cost and
Specialization and Henry Ford
• The Production Possibility Curve
measures the Trade Off in Choosing
making one good versus making another
• The Assembly Line – Each person
becomes proficient at one particular task.
By specializing at that one task the
company can make goods at a lower per
unit cost.
Pushing the Envelope
• The faster the PPC pushes out the faster
growth takes place
• All countries seek to increase their PPC
• The measurement of a country’s
Production in a given year is called GDP
• GDP stands for Gross Domestic
Production
GDP (to be studied later)
•
•
•
•
•
•
•
•
GDP= C + I +G + (x-m)
C= Consumption
I= Investment
G=Government Spending
X= Exports
M= Imports
The US GDP for 2004 was appr. $11 Trillion
Per Capita GDP in the US is appr. $37,000.00
Rule of 72
• The US GDP grows at approx. 3% rate
• The Rule of 72 is a quick way to determine
how fast a number doubles
• The numerator is 72
• The denominator is the percentage rate of
growth but take away the decimal point
• At 3% any investment will double in 24
years
• 72/3=24
Fast Growth v. Slow Growth
• THE WONDERS OF COMPOUND
INTEREST
• $100 invested at 2% over 40 years will
become approx. $215.00
• $100 invested at 6% over 40 years will
become approx. $1200.00 (note the interest
rate is 3x 2% but the increase (215 to 1200) is almost
6x!!!)
Pro Growth Policies
• A country tries to devise policies that foster
entrepreneurial growth so that in the long run
their country’s will witness strong sustainable
growth
• What those policies are is debatable
– Infant industry (Alexander Hamilton)
– MITI (Japan’s policy in the 70s and 80s)
– Internet, Interstate and Velcro  None created by Al
Gore but all created by the US Govt.
Throwing a Curve in
• The PPC- Where the “C” comes from
– The PPC is not a Linear Curve but a Convex
Curve
So Who Cares???
Remember Linear Curves have a constant slope
This means the Opportunity Cost or Trade off by
making one good instead of another is also
constant- The Slope = The Trade Off
cars
A Curve has a constant changing slope
This means the opportunity cost is
constantly changing
tomatoes
The Constantly Changing Slope
• AT THE TOP OF THE CURVE 1 CAR IS VERY
EXPENSIVE. BY GIVING UP THE
PRODUCTION OF ONE CAR SEVERAL
TOMATOES CAN BE GROWN
• At THE BOTTOM OF THE CURVE 1 TOMATO
IS VERY EXPENSIVE. BY GIVING UP THE
PRODUCTION OF ONE TOMATO A BIG
PORTION OF A CAR CAN BE MADE
• WHY????
BACK TO THE FACTORS OF
PRODUCTION
• When Bob picks his baseball team-> who
does he pick first??? Who does he pick
last?
• THEORITICALLY!!! WHO DOES
GENERAL MOTORS PICK FIRST TO
MAKE CARS? WHO LAST?
• WHICH LAND IS USED FIRST TO GROW
TOMATOES, WHICH LAND IS LAST
USED?
RATIONAL THOUGHTS
• If we are only growing tomatoes, the first
people hired to make cars will be the best
car makers, therefore the first cars made
will be made at the least cost.
• As we produce more and more cars we
use resources less and less adapted to
car production therefore production will
become less and less efficient
Rational Thoughts II
• If we are only making cars, the first land
used to grow tomatoes will be the best
land available. Therefore the first tomatoes
made will be made at the least cost.
• As we produce more and more tomatoes
we use resources less and less adapted to
tomato production therefore production will
become less and less efficient
NO GOLDILOCKS
• While Goldilocks was the epitome of
compromising…NOT TOO HOT NOT TOO
COLD NOT TOO HARD NOT TOO
SOFT…Being in the middle of the curve
on the PPC is no better than any other
position. One society might like lots of
tomatoes, another lots of cars
• Remember all points on the Curve are
Production at 100% efficiency