Scarcity and Choice

  • opportunity costs are determined by the x and y axis of production possibility curve

where the x-axis represents the quantity of one good produced, while the y-axis represents the quantity of another good. This relationship illustrates the trade-offs involved in allocating resources effectively. To understand opportunity costs better, it is important to recognize that moving along the production possibility curve demonstrates how increasing production of one good results in a decrease in the production of another, highlighting the fundamental economic concept of scarcity.

for every wine I want to produce I have to give up 2/3 of wheat

Opportunity Cost of Good X = (Change in Good Y) / (Change in Good X)

Egypt wants to produce 1 unit of wine it has to give up 3/2 units of wheat. Conversely, if Egypt wants to produce 1 unit of wheat, it has to give up 2/3 of a unit of wine. These values represent the numerical opportunity costs of production for Egypt between these two goods.

Comparative Advantage

Japan opportunity cost to produce steel: 275/30 = 9.17

US opportunity cost to produce steel: 250/25 = 10

Japan has an absolute advantage in producing steel and cars

Japan has a comparative advantage in producing steel

Gains from trade

Wine Opportunity Cost:

Italy: 2/3

Egypt: 3/2

2/3 < 1 < 3/2

Italy should specialize in wine

Wheat Opportunity Cost:

Italy: 3/2

Egypt: 2/3

Egypt should specialize in wheat

Via trading and specialization, Italy and Egypt can reach point B which extends beyond their production possibilities curve

Cake Opportunity Cost:

Kate: ½

Sarah: 4/3

Kate has the comparative advantage in Cake

Bread Opportunity Cost:

Kate: 2

Sarah: ¾

Sarah has the comparative advantage in Bread

12 loaves of bread and 8 cakes can be produced

Law of Increasing Opportunity Cost

Positive vs Normative economics

  • Positive economics describes how thing are

  • Normative economics describes how things should be

  • Both have policy implications

    • Positive economics approach: forecasting public policy effects

    • Normative economics: advocating for specific policies