Unit 1 Foundations: Making Choices with Scarcity, Opportunity Cost, and Trade

Scarcity

The basic economic problem that resources are limited while human wants are unlimited, forcing choices.

Resource (Factors of production)

Anything used to produce goods and services; includes labor, capital, land/natural resources, and entrepreneurship.

Labor

Human time, effort, and skills used in producing goods and services.

Capital

Man-made tools, machines, and equipment used to produce other goods and services.

Land / Natural resources

Inputs from nature used in production (e.g., land, minerals, water, energy sources).

Entrepreneurship

The ability to organize production, combine resources, and take risks to create goods and services.

Trade-off

The act of giving up one option to get another, created by scarcity and choice.

Three fundamental economic questions

What to produce, how to produce, and for whom to produce—questions every society must answer due to scarcity.

Shortage

A situation where quantity demanded exceeds quantity supplied at a given price; not the same as universal scarcity.

Opportunity cost

The value of the next best alternative given up when a choice is made.

Next best alternative

The single best option you did not choose; this is what opportunity cost refers to (not all forgone options).

Non-monetary opportunity cost

Opportunity cost that is not money, such as time, leisure, or forgone output/benefits.

Production Possibilities Curve (PPC) / Frontier (PPF)

A graph showing the maximum combinations of two goods an economy can produce using current resources and technology with full and efficient use of resources.

PPC assumptions (AP typical)

Two goods are produced; resources and technology are fixed in the period; resources are fully employed and used efficiently on the frontier.

Efficient production (on the PPC)

Output combination on the frontier where resources are fully employed and allocated effectively.

Inefficient production (inside the PPC)

A feasible but inefficient output combination indicating underused, unemployed, or misallocated resources.

Unattainable production (outside the PPC)

An output combination that cannot be produced with current resources and technology.

Movement along the PPC

A reallocation of existing resources that changes the mix of goods produced (capacity unchanged).

Increasing opportunity cost

As more of one good is produced, each additional unit requires giving up more of the other good; shown by a bowed-out (concave) PPC.

Bowed-out PPC (concave to the origin)

A PPC shape indicating increasing opportunity cost due to specialized resources that are not equally suited to producing both goods.

Straight-line PPC

A PPC shape indicating constant opportunity cost, implying resources are equally adaptable between the two goods (a simplifying assumption).

Shift of the PPC

A change in an economy’s productive capacity caused by changes in resources or technology (outward for growth, inward for negative shocks).

Absolute advantage

The ability to produce more of a good with the same resources (or the same output with fewer resources); based on productivity.

Comparative advantage

The ability to produce a good at a lower opportunity cost than another producer; the key driver of specialization and trade.

Terms of trade (mutually beneficial range)

The trade price that benefits both sides; it must lie between the two producers’ opportunity costs for the traded good.