1. Module The Production Possibilities Curve Model3
KRUGMAN'S
MACROECONOMICS for AP*
Margaret Ray and David Anderson

2. What you will learn in Module 3:
The purpose of Module 3 is to extend the concepts of scarcity and opportunity costs by introducing the model of production possibilities.
This simple model identifies the notion of efficiency and furthers the discussion of economic growth by asking the three (3) basic economic questions

3. What you will learn in Module 3:
The importance of trade-offs in economic analysis
What the production possibilities curve model tells us about efficiency opportunity cost, and economic growth
The two sources of economic growth - increases in the availability of resources and improvements in technology

4. The Production Possibilities Curve
Better known as the PPC
a/k/a the Production Possibility Frontier
PPF
The PPC is a basic workhorse in economics
Important for understanding some basic issues in economics
Efficiency
Opportunity Cost
Economic Growth
All models have simplifying assumptions:
Available supply of resources is fixed in quantity and quality at this point in time.
Technology is constant during analysis.
Economy produces only two types of products.

5. The Production Possibilities Curve
To be efficient, an economy must produce as much of each good as it can, given the production of other goods, and it must also produce the mix of goods that people want to consume
PPC shows the amount that can possibly be produced if all resources are fully employed
All models have simplifying assumptions:
Available supply of resources is fixed in quantity and quality at this point in time.
Technology is constant during analysis.
Economy produces only two types of products.

6. The Production Possibilities Curve
All models have simplifying assumptions:
Available supply of resources is fixed in quantity and quality at this point in time.
Technology is constant during analysis.
Economy produces only two types of products.

7. The Production Possibilities Curve
All models have simplifying assumptions:
Available supply of resources is fixed in quantity and quality at this point in time.
Technology is constant during analysis.
Economy produces only two types of products.
A PPC is a graphical representation of different production choices that use all of the available resources.
All points along the curve are efficient in production, showing that resources are not created equal.
All models have simplifying assumptions:
Available supply of resources is fixed in quantity and quality at this point in time.
Technology is constant during analysis.
Economy produces only two types of products.

8. OPPORTUNITY COST
The opportunity cost of an activity is the value of the resources used in that activity when they are measured by what they would have produced when used in their next best alternative.
The slope of the PPC measures the marginal opportunity cost of producing one good in terms of the amount of the other good foregone.

9. Opportunity Cost - Constant
A PPC with a straight line has a constant slope, and therefore, constant opportunity cost.
Opportunity Cost - Constant
A PPC with a straight line has a constant slope, and therefore, constant opportunity cost.

10. Opportunity Cost - IncreasingL
A PPC that has a bowed-out shape reflects increasing opportunity cost
Opportunity Cost - Increasing
Question for Students:
If we want more bulldozers, and if we were controlling this economy, what would we need to do?
We would need to move some pizza makers (and capital, and natural resources) to bulldozer production.
Has anyone ever had a bad pizza or a great pizza? Is it safe to say that not all pizzas are created equal? Then is it also safe to say that not all pizza makers (the labor) are created equal?
Are some pro athletes better than others?
Are some acres of land more fertile (for growing food) than others?
Are all laptop computers equal, or are some faster than others?
The point is that resources are not created equal. Can the students agree that some units of labor are better pizza makers than others? If that’s the case, then let’s redraw the PPC.
Redraw the PPC with a concave shape. You don’t need numbers.
There is something that economists call the “Law of increasing opportunity costs”
1. The amount of other products that must be foregone to obtain more of any given product is called the opportunity cost.
2. The more of a product produced the greater is its (marginal) opportunity cost.
3. The slope of the production possibilities curve becomes steeper (going left to right), demonstrating increasing opportunity cost. This makes the curve appear bowed out, concave from the origin.
Why?
1. Economic recourses are not completely adaptable to alternative uses.
2. To get increasing amounts of Bulldozers, resources that are not particularly well suited for that purpose must be used. Workers that are accustomed to producing Pizza in a restaurant may not do well as heavy equipment builders.
A pizza oven is a piece of capital equipment that is not very adaptable to building Bulldozers.

11. Economic Growth means
Expansion of the economy’s production possibilities—the economy can produce more of everything
Availability of resources (land, labor, capital, entrepreneurship)--CELL
Technology—technological advances
A bigger or a more educated/skilled work force
Economic growth means an expansion of the economy’s production possibilities: the economy can produce more of everything.

12. The PPC is typically bowed-out or linear.
A Typical PPC Picture
The marginal opportunity cost of consumer goods in terms of capital goods is increasing as we move down the PPC!
The PPC is typically bowed-out or linear.
It is not bowed-in
Capital
Goods
just attainable
unattainable
inefficient
just attainable
Consumer Goods

13. What questions need to be asked
THE THREE KEY ECONOMIC QUESTIONS
WHAT to produce
HOW to produce
FOR WHOM to produce
THESE THREE ECONOMIC KEY QUESTIONS APPLY TO EVERYTHING—ASK YOURSELF
Economic growth means an expansion of the economy’s production possibilities: the economy can produce more of everything.

14. Economic Growth
Draw a new PPC that has shifted outward in a roughly parallel manner. How could this happen?
When factors of production expand in quantity or quality. A bigger or a more educated/skilled work force.
When technological advances are occurring. Technology always advances, we don’t forget our technology.

15. PRODUCTION POSSIBILITIES CURVEA B F C
Capital Goods G D E
Consumer Goods

16. PRODUCTION POSSIBILITIES CURVEA B F C
Capital Goods G D E
Consumer Goods

17. The Production Possibility Curve —What is it?
The curve itself is determined by what would be possible if there were full employment in the economy
An economy can not produce more of one good without producing less of the other.

18. EASY ON THE MEMORY
GIVE UP
OPPORTUNITY COST =
GET

19. PPC Gymnastics PPF new PPF old
The PPF is also useful for many other types of questions.
Questions about efficiency.
Questions about equity.
Questions about tax and transfer policy.
Questions about composition of output.
Questions about growth and productivity.
Capital
Goods
PPF new
PPF old
Consumer Goods