1. Lecture 3 The PPF: Position, Properties and Opportunity Costs
Dr. Jennifer P. Wissink January 31, 2018
©2018 John M. Abowd and Jennifer P. Wissink, all rights reserved.

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4. One More Time… Economics: The study of the allocation of
scare resources to
produce commodities to
satisfy infinite human wants.

5. The Production Possibilities Frontier
Better known as the PPF.
The PPF is a basic workhorse in economics.
Often introduced in the first couple of lectures in both micro and macro intro courses.

6. The PPF: What Is It?
A description of the possible or feasible combinations of commodities an economy can produce, using all of the available resources efficiently.
Shows the trade-off between more of one good in terms of another.

7. The PPF: Its Assumptions
Given: endowments of resources
Given: technologies
Given: a fixed time frame
Given: efficient production

8. i>clicker question
Which one of the following would an economist classify as capital (K)?
The head TA’s $100 bill.
The guitars used by Bruce Springsteen and the E-Street Band.
A corporate bond issued by IBM.
Unfinished lumber purchased by a furniture manufacturer to make chairs.
All of the above.

9. The PPF: What You Get A graph! Typical teaching set-up
Two final goods.
Guns (G) and Butter (B)
Two input goods and final goods technologies.
So drop “land” for now, no big deal.
Kapital (K) and Labor (L) both go into making guns and butter according to some known and given technology that can be described by production functions.
G = g(K, L) and B = b(K, L)
PPF is a frontier that shows the maximum amount of one good you can produce given a fixed amount of the other.
Frontier is a graph.

10. Getting Started Constructing a PPF: The Gun Production Function (given)
GUNS K L
Guns (tons) 2 1 3 4 5 10

11. Getting Started Constructing a PPF: The Butter Production Function (given)K L
Butter (lbs) 1 21 2 30 3 37 4 39 5 40 11

12. Guns & Butter & The PPF GUNS K L Guns (tons) 2 1 3 4 5 BUTTER K L1 3 4 5
BUTTER K L
Butter (lbs) 1 21 2 30 3 37 4 39 5 40
THE PPF
Butter
(lbs)
Guns (tons) 12

13. The PPF Graphed THE PPF Butter (lbs) Guns (tons) 40 39 1 37 2 30 3 2139 1 37 2 30 3 21 4 5 13

14. The PPF & Its Properties
Its location depends on the endowment of resources, the time frame and the state of technologies and efficient production.
Its direction will typically be downward sloping.
WHY?
If you are efficient and at the frontier, you must give up “this/butter” to get more of “that/guns”.
That is, there is a real cost!
Its curvature is typically “bowed-out” away from the origin [or, sometimes, it’s a downward sloping straight line].
WHY would it be “bowed-out”?
Heterogeneous factors of production
The law of diminishing marginal returns 14

15. The PPF: What It Tells Us & What is Does Not
What’s Feasible
What’s Not
What’s Efficient
What guns cost us
What butter costs us 15

16. i>clicker question
Which one of the following output combinations is the most efficient? That is, is best?
The output combination at point A.
The output combination at point B.
The output combination at point C.
The output combination at point D.
Who knows!?

17. 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.
Total opportunity cost (TOC)
Marginal opportunity cost (MOC)
The slope of the PPF measures the marginal opportunity cost of producing one good in terms of the amount of the other good foregone.

18. The PPF: Measuring Total and Marginal Opportunity Cost
Butter
lbs.
Guns tons 40 39 1 37 2 30 3 21 4 5 18

19. The PPF: Seeing Total and Marginal Opportunity Cost

20. Increasing MOC: So Why The Bowed-Out PPF Curve?
Two-fold answer:
(1) Heterogeneous factors of production
(2) The “Law of Diminishing Marginal Returns” (LDMR): As you add more and more of a variable factor to some activity, in the presence of a fixed factor, the marginal contribution of the variable factor will eventually decline.

21. Checking For The LDMR: Look At Marginal Product of Inputs
The “Law of Diminishing Marginal Returns” (LDMR): As you add more and more of a variable factor to some activity, in the presence of a fixed factor, the marginal contribution of the variable factor will eventually decline
Consider the marginal product of labor in each technology.
Marginal product of labor in making output “O” = MPLO
MPLO = (change in output O) / (change in labor)
MPLO = (ΔO) / (Δlabor)
So consider
the Marginal Product of Labor in Guns
the Marginal Product of Labor in Butter

22. Checking For The LDMR In Guns & Butter
MPLG 2 1 3 4 5
production function for Guns
MPLG
BUTTER K L
Butter
MPLB 1 21 2 30 3 37 4 39 5 40
production function for Butter
MPLB

23. So to Review… Heterogeneous factors of production and/or
The “Law of Diminishing Marginal Returns” (LDMR) imply increasing marginal opportunity costs, that is to say, a “bowed-out” PPF B
PPF G