Production Possibilities Model 1.6

What does the Production Possibilities Curve (PPC) show?

It shows all the possible combinations of two goods an economy can produce using all resources efficiently.

What are the two goods in the classic PPC example?

Pizzas (consumer good) and industrial robots (capital good).

What does a point on the PPC represent?

Efficient use of resources—maximum output possible.

What does a point inside the PPC represent?

Inefficient use of resources—underemployment or misallocation.

What does a point outside the PPC represent?

Unattainable with current resources and technology.

What is the Law of Increasing Opportunity Cost?

As production of one good increases, the opportunity cost of producing additional units rises.

Why is the PPC usually bowed outward?

Because resources are not perfectly adaptable between goods—opportunity costs increase.

What causes the PPC to shift outward?

Economic growth—more resources or better technology.

What is opportunity cost in this model?

The amount of one good that must be given up to produce more of the other good.

Example: Moving from 2 pizzas & 7 robots to 3 pizzas & 4 robots—what’s the opportunity cost?

3 robots (you gave up 3 robots to gain 1 pizza).

Law of Opportunity Costs

As the production of one good increases, the opportunity cost of producing each additional unit of that good also increases.

the more you make of something, the more you have to give up of something else—and the cost of that trade-off keeps rising.

What are the four assumptions of the Production Possibilities Model?

1. Full employment

2. Fixed resources

3. Fixed technology

4. Two goods: consumer goods (pizzas) and capital goods (industrial robots)

What do pizzas and industrial robots represent in the model?

• Pizzas = Consumer goods (satisfy wants directly)

• Industrial robots = Capital goods (satisfy wants indirectly by enabling future production)

What trade-off does the table illustrate?

Producing more pizzas increases current satisfaction but reduces future production by sacrificing capital goods (robots).

What does moving toward point E on the table represent?

Choosing “more now” (more pizzas) at the expense of “much more later” (fewer robots → less future output).

What does moving toward point A represent?

Choosing “more later” (more robots) at the cost of “less now” (fewer pizzas).

What does the PPC show?

All combinations of two goods that can be produced with full employment and fixed resources/technology.

What does a point ON the PPC mean?

Efficient use of resources.

What does a point INSIDE the PPC mean?

Inefficient use of resources.

What does a point OUTSIDE the PPC mean?

Unattainable with current resources and technology.

What is the Law of Increasing Opportunity Costs?

As production of a good increases, the opportunity cost of producing additional units rises.

How is this law reflected in the PPC’s shape?

The curve is bowed outward—each additional pizza costs more robots.

Why do opportunity costs increase?

Resources aren’t perfectly adaptable—some are better at making one good than another.

Why can’t resources be perfectly interchangeable?

Some land/labor is better suited for pizzas, others for robots. As production expands, less suitable resources are used, increasing costs.

What is the rule for optimal allocation?

Produce where Marginal Benefit (MB) = Marginal Cost (MC).

Why is 200,000 pizzas the optimal quantity?

• At 200,000: MB = MC

• Below that: MB > MC → society gains

• Above that: MC > MB → society loses

What happens at 100,000 pizzas?

MB = $15, MC = $5 → net gain → increase production.

What happens at 300,000 pizzas?

MB = $5, MC = $15 → net loss → reduce production.

What does the PPC teach us about scarcity and choice?

Scarcity forces trade-offs. To get more of one good, society must give up some of another.

Marginal Benefit

The extra satisfaction or value you get from consuming one more unit of a good.

1. The first slice of pizza when you're starving? Amazing. MB is high.

2. The fifth slice? You’re full. MB is low.

So MB decreases as you consume more—this is called diminishing marginal benefit.

Marginal Cost

The extra cost of producing one more unit of a good.

In the production possibilities model

1. If you want to make one more pizza, you have to give up some robots.

2. That sacrifice is your opportunity cost, and it’s your MC.

And because of the law of increasing opportunity costs, MC increases as you produce more pizzas.