Welcome to
PMBA0608: Economics/Statistics
Foundation
Fall 2006
Sessions 3: August 26
Session 3:
Production Possibilities Frontier
 Shows the combination of two goods an
economy can produce efficiently in a certain
period of time with given amount of
resources and a given technology
 Assumptions




Only two goods
Fixed amount of factors of production
Given resources & technology
Efficiency (means what?)
 Maximized output given what is available
Production Possibilities Frontier
(PPF)
Roses
A
100
95
80
B
*U
C
D
60
PPF
*I
E
0
10
20
30
40
Guns
Remember the 10 Principles?
 Does this model show Principle
1?
 Does this model show Principle
2?
 Any other principles?
 How about Principle 8?
Production Possibilities Frontier
(PPF)
 Why is PPF downward sloping?
 Why is PPF bowed out?
 Why does the cost of producing 10
additional guns go up as we produce more
guns?
 What is point I?
 What is point U
 How can we move from I to B?
 How can we shift our PPF outward?
Now we are going to jump to
Chapter 3 of Mankiw
Trade
Absolute Advantage
 A nation has an absolute advantage
in production of a good over its trade
partner if it can produce one unit of
that good using fewer resources than
its trade partner or if, using all of its
resources, it can produce more of
that good than its trade partner.
 Example
Comparative Advantage
 A nation has a comparative
advantage in production of a good if
it can produce that good at a lower
opportunity cost compared to its
trade partner
 Example
Definition
 A trade benefits a nation if after trade
the nation can consumes no less of
any goods than before trade and
more of at least one good.
 Graph
In Class Assignment
 PPFs
 Who has absolute advantage in
what? Why?
 Is there going to be a trade based
on absolute advantage? Why or
why not?
In Class Assignment
 What is the Opp. Cost of producing
1 computer in each nation
 Who has comparative advantage in
what? Why?
 Is there going to be a trade based
on comparative advantage? Why or
why not?
 Who should specialize in production
of what? Why?
In Class Assignment
 Pre-trade points of production and
consumption
 Terms of trade (must be mutually
beneficial)
 Post-trade points of production
 Post-trade points of consumption
 Gains from trade