The Economic Problem

scarcity

things are limited (time, money, etc.) - we can't have everything we want, so we have to make choices (tradeoffs)

budget constraint

the limited amount of income available to consumers to spend on goods and services

assumptions of the production possibilities model

production possibilities frontier (PPF)

a graph showing the maximum attainable combinations of two products that may be produced with available resources and current technology; sometimes also referred to as a production possibilities curve (PPC)

production possibilities frontier (PPF) graph

the model shows production combinations that are attainable or unattainable with available resources and current technology

homogenous resources

a resource having one form or set of skills; an equally productive resource

straight-line PPF

opportunity cost remains constant due to homogenous productive resources

heterogeneous resources

a resource having different forms or sets of skills; productivity is not uniform or constant

curved (bowed-out) PPF

increasing opportunity cost due to heterogeneous resources

capital goods

goods that are used in producing other goods, rather than being bought by consumers.

consumer goods

goods bought and used by consumers

law of increasing opportunity cost

once all factors of production (land, labor, capital) are at maximum output and efficiency, producing more of one good requires giving up an increasing amount of the other good

attainable but inefficient production level

combinations of goods produced located at points under the PPF are attainable (we have enough resources to produce them) but inefficient (available resources are being underutilized); point K on graph

attainable and efficient production level

combinations of goods produced located at points on the PPF are attainable (we have enough resources to produce them) and efficient (all available resources are being utilized); points A through I on graph

unattainable production level

combinations of goods produced located at points outside, or beyond the PPF are unattainable (we do not have enough resources to produce them); point L on graph

how does an increase in a productive resource affect the PPF?

increase in a productive resource that affects only one of the goods being produced will rotate the PPF curve outward on the axis for that good only

how does an improvement in technology affect the PPF?

improvements in technology improves productivity, shifting the PPF outward so that more of both goods can be produced

tradeoffs

the sacrifice of some or all of one economic goal, good, or service to achieve some other goal, good, or service; on the PPF, this is shown as a movement from one point to another ON THE PPF

opportunity cost

Cost of the next best alternative use of money, time, or resources when one choice is made rather than another (time given up sleeping to study instead)

opportunity cost calculation

law of diminishing returns

the point where the level of profits or benefits gained is less than the amount of money or energy invested; diminishing returns lead to increasing opportunity costs