1 Production Possibilities, Opportunity Cost and Economic Growth ©2006 South-Western College Publishing

2 What are the three fundamental economic questions? What to produce? How to produce? For whom to produce?

3 What are two key concepts in this chapter? Opportunity costs Marginal analysis

People face tradeoffs. “There is no such thing as a free lunch!”

People face tradeoffs. To get one thing, we usually have to give up another thing. u Guns v. butter u Food v. clothing u Leisure time v. work u Efficiency v. equity Making decisions requires trading off one goal against another.

Decisions require comparing costs and benefits of alternatives. uWhether to go to college or to work? uWhether to study or go out on a date? uWhether to go to class or sleep in?

7 What is opportunity cost? The best alternative sacrificed for a chosen alternative

8 What opportunity cost am I experiencing now?

9 Can opportunity cost be something other than money? Yes, that most desired activity that you are presently giving up is considered an opportunity cost

10 Scarcity Choice Opportunity Cost

11 What is marginal analysis? An examination of the effects of additions to or subtractions from a current situation

Rational people think at the margin. Marginal changes are small, incremental adjustments to an existing plan of action. People make decisions by comparing costs and benefits at the margin.

13 What is an example of marginal analysis? When your benefit of studying these slides exceeds the opportunity cost, you will spend time studying these slides

Our Second Model The Production Possibilities Frontier The production possibilities frontier is a graph showing the various combinations of output that the economy can possibly produce given the available factors of production and technology.

15 What is technology? The body of knowledge and skills applied to how goods are produced

16 What assumptions underlie the productions possibilities model? Fixed resources Fully employed resources Technology unchanged

17 What is the conclusion of the production possibilities curve? Scarcity limits an economy to points on or below its production possibilities curve

18 What is the law of increasing opportunity costs? The principle that the opportunity cost increases as production of one output expands

19 What is economic growth? The ability of an economy to produce greater levels of output, an outward shift of its production possibilities curve

20 What makes possible economic growth? Research and development of new technologies Increase production in excess of worn out capital

21 Technological advance Economic growth

22 Critical Thinking What happens when a country does not invest in new technology?

23 What happens when a country does not invest in new technology? Everything else being equal, the country will not grow

24 What is investment? The accumulation of capital, such as factories, machines, and inventories, that is used to produce goods and services

25 What is the opportunity cost of investment? The consumer goods that could have been purchased with the money spent for plants and other capital

26 What does an increase in investments make possible in the future? Economic growth and more goods and services

27 What conclusion can we make about investments? A nation can accelerate growth by increasing production of capital goods in excess of the capital being worn out