Economics: PPF, Market Efficiency, Externalities, and Market Equilibrium

Production Possibility Frontier (PPF)

A curve showing the maximum possible combinations of two goods that can be produced using all resources efficiently.

Point inside the PPF

Represents inefficient use of resources.

Point outside the PPF

Unattainable with current resources.

Economic Efficiency (Pareto Efficiency)

When no one can be made better off without making someone else worse off.

Efficiency vs Equity

Efficiency is maximizing total output; equity is fair distribution.

Marginal

"Additional" or "incremental" (extra units).

Marginal Analysis

Compare additional benefit vs additional cost to decide.

When to increase an activity

If Marginal Benefit ≥ Marginal Cost.

When not to increase

If Marginal Cost > Marginal Benefit.

Price Ceiling

A legal maximum price; causes shortages if set below equilibrium.

Price Floor

A legal minimum price; causes surpluses if above equilibrium.

Deadweight Loss

Loss of total surplus due to market distortions (price controls, etc.).

Externality

A cost or benefit affecting third parties (not reflected in market transaction).

Negative Externality

Harmful side effect (like pollution).

Positive Externality

Beneficial side effect (like benefit from vaccination).

Correcting Externalities

Government tools: taxes, subsidies, regulation.

Carbon Pricing

Taxes or fees to align private cost with social cost of emissions.

Bike Lanes Example

Reduce congestion and pollution; reduce negative externalities.

Property Rights

Clearly defined ownership to avoid overuse or abuse of resources.

Tragedy of the Commons

Overuse of a resource when no one owns it or enforces rules.

Private vs Social Benefit

Private = direct benefit to individual; Social = includes external benefits.

Positive Externalities Underproduction

Markets underproduce goods where social benefit > private benefit.

Diamond‑Water Paradox

Prices reflect marginal utility and scarcity, not total usefulness.

Market Equilibrium

Where quantity demanded = quantity supplied.

Shortage

Too much demand (price below equilibrium).

Surplus

Too much supply (price above equilibrium).

Competitive Markets

Firms are price takers; price set by supply & demand interaction.