1. Production Possibilities

2. Trade-offs Opportunity Costs
When faced with SCARCITY of resources, decisions have to be made about how to use those resources
Trade-offs
Opportunity Costs

3. Trade-Offs
This is the decision making process that is occurring in your mind right now!
Am I going to pay attention to what Mr. Hayward is saying, or am I going to daydream?
Am I going to come to class or go buy a lottery ticket?
Am I going to stay in school or go find a full time job?
Each and every decision you make has a cost!! Not necessarily a cost in dollar terms, but a cost in that you must give up something in order to get more of something else.

4. Opportunity Cost
The “price you pay” for each decision you make is called the OPPORTUNITY COST.
Opportunity cost is vital to the understanding of economics.
“The amount of a product or service that must be forgone (given up) in order to obtain more of the next best alternative product or service”

5. Production Possibilities Frontier
Used to illustrate:
Productive Capacity
Opportunity Costs
Efficiency
Productive
Allocative
Economic Growth/Decline
Vital Link to Aggregate Supply (short/long run)

6. Production Possibilities Frontier Increasing Opportunity Costs. . . 80 70 60 50 40 20 10
Wheat
Rice
Wheat . 80 78 70 55 38 20 40 60 80
100 -2
+20 -8
+20 .
-15
+20
-17
+20
-38
+20 .
NOTE: The GAIN in Rice is
CONSTANT while the LOSS
In Wheat is INCREASING each Time…What is going on???
Rice

7. Production Possibilities Frontier Increasing Opportunity Costs
The type of land resource suitable for growing Wheat is DIFFERENT than the land resource for growing Rice.
If a society wants MORE Rice, then as you convert land suitable for growing Wheat (arable, relatively dry) so that you can grow Rice (wet, swampy) it will become MORE costly to do that, in terms of Wheat production
We have INCREASING OPPORTUNITY COSTS of producing Rice in terms of Wheat

8. Production Possibilities Frontier
Economy’s produce MORE that just Wheat and Rice.
We produce LOTS of goods of many different types.
We can broadly categorize goods into TWO categories
Capital Goods and Consumer Goods

9. The PPC shows the relationship between two goods:
The best way to illustrate Trade-Offs and Opportunity Costs is to use a Production Possibilities Curve
The PPC shows the relationship between two goods:
1. Capital Goods (Investment Goods)
Goods that satisfy our wants INDIRECTLY and promote future growth or “happiness” – Delayed gratification.
2. Consumer Goods
Goods that satisfy our wants DIRECTLY.
Instant Gratification
Lesson 1 Act 1

10. Production Possibilities Frontier. . A
Capital Goods
“Stuff you use to make other
Stuff”
Tools, equipment, factories, other
infrastructure
Capital
Goods B . C .
Consumer Goods
“Stuff” for immediate
Consumption. Food, consumer
Electronics, etc. D
Allocative Efficiency
Where a society decides to
Produce on its PPF. A value
Decision based on values/politics . E
Productive Efficiency
Full-employment of resources
And producing at the lowest
cost
Consumer Goods

11. Production Possibilities Curve (Frontier)
The reason the PPC is bowed is because of INCREASING OPPORTUNITY COSTS.
At Point “A” the economy gives up 10 capital goods in order to get 400 consumer goods.
400 Consumer goods = 10 Capital goods
1 Consumer good = 10 Capital goods/400
1 Consumer good = .025 Capital good
100 .A .B .C
Capital Goods .D
1000
Consumer Goods

12. Production Possibilities Curve (Frontier)
The reason the PPC is bowed is because of INCREASING OPPORTUNITY COSTS.
At Point “B” the economy gives up 10 Capital goods in order to get 200 more Consumer goods.
200 Consumer goods = 10 Capital goods
1 Consumer good = 10 Capital goods/200
1 Consumer good = .05 Capital good
100 .A .B .C
Capital Goods .D
1000
Consumer Goods

13. Production Possibilities Curve (Frontier)
The bowed nature of the PPC is due to INCREASING OPPORTUNITY COSTS
Not all resources are adaptable to alternative uses.
Resources used for Capital Goods may not be suitable to make Consumer Goods (and Vice Versa)
Marsh land suitable for growing rice could not easily be converted for use as a an airport. It would be much more costly than using farmland in Kansas.
100 .A .B .C
Capital Goods .D
1000
Consumer Goods

14. Production Possibilities Curve (Frontier)
Lets take a closer look at the PPC.
What do the different points on the PPC represent?
100 .A .B .C .D
1000
Consumer Goods

15. Production Possibilities Curve (Frontier)
Each point represents Productive Efficiency
This means that this economy is allocating ALL of it productive resources in the least costly way
100 .A .B .C .D
1000
Consumer Goods

16. Production Possibilities Curve (Frontier)
There are an infinite number of points on the PPC. Where a society decides to produce is called Allocative Efficiency
This represents the combination of Capital and Consumer Goods most desired by the society
100 .A .B .C .D
1000
Consumer Goods

17. Production Possibilities Curve (Frontier)
The WHOLE PPC represents
“FULL PRODUCTION”
Productive Efficiency
Full-Employment of Resources
100 .A .B .C .D
1000
Consumer Goods

18. Production Possibilities Curve (Frontier)
Do economy’s always produce on the PPC?
No! Often they operate inside their production possibilities .A
100 .B .C E .D
1000
Consumer Goods

19. Production Possibilities Curve (Frontier)
Do economy’s always produce on the PPC?
Point “E” represents a point inside the PPC.
Notice that this point “E” represents a lower bundle of Capital and Consumer Goods .A
100 .B .C .E .D
1000
Consumer Goods

20. Production Possibilities Curve (Frontier)
Do economy’s always produce on the PPC?
Point “E” represents a point inside the PPC.
The area between point “E” and the PPC represents underutilization of resources or under-employment of resources or unemployment. The economy is being inefficient. .A
100 .B .C .E .D
1000
Consumer Goods

21. Production Possibilities Curve (Frontier)
Do economy’s always produce on the PPC?
Point “E” represents a point inside the PPC.
This economy could be doing better… .A
100 .B .C .E .D
1000
Consumer Goods

22. Production Possibilities Curve (Frontier)
Do economy’s always produce on the PPC?
How about point “F”?
Point F is outside our PPC
It represents a combination of Capital and Consumer Goods that is currently not possible with this economies resources .A
100 .B .F .C E .D
1000
Consumer Goods

23. Production Possibilities Curve (Frontier)
Do economy’s always produce on the PPC?
How about point “F”?
Point F is outside our PPC
This point is desirable (more “stuff”) but currently not attainable. .A
100 .B .F .C E .D
1000
Consumer Goods

24. Production Possibilities Frontier. . . A
Capital Goods
“Stuff you use to make other
Stuff”
Tools, equipment, factories, other
infrastructure
Capital
Goods G B . C .
Consumer Goods
“Stuff” for immediate
Consumption. Food, consumer
Electronics, etc. . D F
Allocative Efficiency
Where a society decides to
Produce on its PPF. A value
Decision based on values/politics . E
Productive Efficiency
Full-employment of resources
And producing at the lowest
cost
Consumer Goods

25. Production Possibilities Curve The PPC shows ALL possible combinations of two goods that can be produced if ALL available resources are fully employed (used) with the best technology currently available
How do we get to point G??
1. Technological advancement which increases Productivity
2. Discover new resources
3. Take resources (War)
4. Trade for Resources A B G C
Robotics
(Capital Good) D F E
Compact Discs (Consumer Good)
“OUR ECONOMY IS DRIVEN BY TECHNOLOGICAL ADVANCEMENT”
CAN YOU THINK OF AN EXAMPLE IN HISTORY WHEN WE WERE INSIDE THE PPC?

26. Production Possibilities Curve The PPC shows ALL possible combinations of two goods that can be produced if ALL available resources are fully employed (used) with the best technology currently available
How do we get to point G??
1. Technological advancement which increases Productivity
2. Discover new resources
3. Take resources (War)
4. Trade for Resources A B G C
Robotics
(Capital Good) D F E
Compact Discs (Consumer Good)
“OUR ECONOMY IS DRIVEN BY TECHNOLOGICAL ADVANCEMENT”
CAN YOU THINK OF AN EXAMPLE IN HISTORY WHEN WE WERE INSIDE THE PPC?

27. [more/better resources, better technology]
Economic resources are not completely
adaptable to alternative uses.
The “curve” indicates a “changing trade-off.”
Obtaining more of one good requires giving up
larger amounts of the alternative good.
Possibilities-A, B, C, D, & E
Impossibility
[more/better resources, better technology]

28. So, How Is Economic Growth Demonstrated on a PPC Graph?
[Ability to produce a larger
total output over time] a e
Capital Goods b f C
Consumer Goods

29. Two Examples of Economic Growth FAVORING PRESENT GOODS
PRODUCTION POSSIBILITIES
Two Examples of Economic Growth
FAVORING PRESENT GOODS
CURRENT
CURVE
Goods for the Future
CONSUMPTION
Goods for the Present

30. Two Examples of Economic Growth FAVORING PRESENT GOODS
PRODUCTION POSSIBILITIES
Two Examples of Economic Growth
FAVORING PRESENT GOODS
CURRENT
CURVE
Goods for the Future
CONSUMPTION
Goods for the Present

31. Two Examples of Economic Growth
PRODUCTION POSSIBILITIES
Two Examples of Economic Growth
FAVORING
PRESENT GOODS
FAVORING
FUTURE GOODS
CURRENT
CURVE
CONSUMPTION
FUTURE
CURVE
FUTURE
CURVE
Goods for the Future
Goods for the Future
CURRENT
CURVE
CONSUMPTION
Goods for the Present
Goods for the Present

32. Going to War (U. S. ) When the U. S
Going to War (U.S.) When the U.S. entered WWI, we had severe unemployment.
We were able to step up production of consumer goods and war materials simply by
getting to full production. We went from 14.6% unemployment in 1940 to 1.2% in 1944.
Over 7 million people went to work that were not working in 1940.
United States
[Beginning of WWII] C
War Goods F
Civilian Goods
Going to War(Russia). Russia, on the other hand, entered WWII at full capacity.
So their preparedness entailed a shifting of resources from civilian goods and a drop in
their standard of living.
The U.S. position was similar as we entered the Viet Nam War at full employment.
We increased both military spending and domestic spending on the “War on
Poverty.” Our attempt to achieve more “guns and butter” in a FE economy was
doomed. We were trying to spend beyond capacity and ended up with double
digit inflation in the 1970s. C
Russia
[Beginning of WWII]
War Goods D
Civilian Goods