1. Production Possibility Diagrams
EdExcel 1.1.4

2. Production Possibility Frontiers (PPF)
A PPF shows alternative combinations of two goods or services attainable when all resources are fully and efficiently employed
We normally draw a PPF as concave to the origin i.e. when we move down along the PPF, as more resources are allocated towards Good Y the extra output gets smaller
This is explained by the law of diminishing marginal returns, it occurs because not all factor inputs are equally suited to producing items leading to lower productivity
Land, labour and capital are imperfect substitutes
Output of Good X
Remember to express output in a given time period A X1 B X2 C X3 Y1 Y2 Y3
Output of Good Y

3. Production Possibility Frontier (PPF)
Output of Pizza
F is an output combination that is not yet attainable as it lies beyond the PPF F A D B
A, B and C are all efficient output combinations as they lie on the existing PPF
D and E are inefficient combinations – i.e. not all resources fully utilized C E
Output of Sugar

4. Understanding the PPF and Economic Efficiency
Combinations of the output of consumer and capital goods lying inside the PPF happen when there are unemployed resources or when resources are used inefficiently. We could increase total output of goods and services by moving towards the PPF
Combinations of goods and services that lie beyond the PPF are unattainable at the moment
A country would require an increase in factor resources, an increase in productivity and/or an improvement in technology to achieve an outward shift of the PPF
Trade between countries also allows nations to consume beyond their own PPF potentially leading to gains in economic welfare
Producing more of both goods with the same resources represents an improvement in welfare and a gain in allocative efficiency

5. The PPF and Opportunity Cost
Output of
Wheat
One hundred extra tonnes of cotton involves sacrificing 40 tonnes of wheat – the opportunity cost is 4/10ths of a tonne of wheat for each extra tonne of cotton A
200 B
160
The opportunity cost of employing more resources into cotton production is expressed in terms of the output of wheat given up
300
400
Output of Cotton
Examiners are keen that you understand the concept of opportunity cost in relation to the PPF!

6. PPF, Diminishing Returns and Opportunity Cost
With diminishing returns, the marginal (extra) output of cotton diminishes as more factor resources are allocated to it.
Output of
Wheat A
200 B
To be productively efficient, an economy must be on its production possibility frontier
160 C 80
The result is that the opportunity cost measured in lost wheat output increases
Output of Cotton
300
400
480

7. Drawing a Linear Production Possibility Frontier
A straight line PPF is an indication of perfect factor substitutability of resources
Output of consumer goods
If the production possibility frontier is a straight line, then the marginal opportunity cost of switching resources between consumer and capital goods is constant. 90
For example, the marginal opportunity cost of producing an extra 15 capital goods is 30 consumer goods i.e. the opportunity cost is 2 consumer goods per extra capital good 60 30
PPF1 10 25 40
Output of capital goods

8. An Outward Shift in the Production Possibility Frontier
Changes in production technology or more factor inputs can cause the PPF to shift outwards – this leads to an increase in a country’s potential output
Output of consumer goods
An improvement in the technology available to produce capital goods (other factors held constant) will lead to an outward shift in the production possibility frontier.
After the shift in the PPF more capital goods can be produced for each level of output of consumer goods 60
PPF1
PPF2 25 42
Output of capital goods

9. Causes of Shifts in the Production Possibility Frontier
Cause of an outward shift in the Production Possibility Frontier
Brief comment on the cause of the shift in the PPF
Higher productivity / efficiency of factor inputs
This increases the output per unit of input used in production
Better management of factor inputs
Improved management reduces waste and improves quality
Increase in the stock of capital and labour supply
e.g. from inward labour migration / capital investment
Innovation and invention of new products and resources
Improved production processes helps to boost efficiency
Discovery / extraction of new natural resources (land)
Discovery of commercially viable land inputs drives extraction

10. Can the Production Possibility Frontier shift inwards?
Yes – productive potential can contract – here are some causes
Damaging effects of natural disasters such as drought, a tsunami, an earthquake and severe floods
Destruction / loss of factor inputs caused by civil war and other forms of conflict that last for many years
Large scale net outward labour migration e.g. due to an economic depression that leads to a brain drain of skilled workers
A trend decline in the productivity of inputs perhaps caused by a persistent recession which causes net investment to be negative
Causes of an inward shift of the a nation’s PPF

11. Resource Depreciation and Resource Depletion
Machinery
Skills Atrophy
Buildings
Basic Infrastructure
Human Capital Flight
Capital Scrapping
Natural Disasters
Deforestation

12. Economic Recovery and the PPF Diagram
Capital goods
During an economic recovery, aggregate demand will be rising. This leads to an increase in real national output and a fall in the amount of spare capacity i.e. we move closer to the PPF boundary from E to F F B A E
PPF C D
Consumer goods

13. Economic Growth using PPF Diagrams
Capital goods
Economic Growth
A rise in a country’s productive capacity causes the PPF to shift out from PPF1 to PPF2 and this then allows increased supply both of consumer and capital goods.
PPF2
PPF1 F B A E
Successful supply-side policies can help to bring about an outward shift of the a country’s PPF C
Consumer goods D

14. Production Possibility Diagrams
EdExcel 1.1.4