Production Possibilities Curve Notes

Production Possibilities Curve

Unattainable Points

  • Points above the production possibilities curve are unattainable with current resources.
  • These points can be achieved in consumption through trade, utilizing the concept of competitive advantage.

Attainable Points

  • Points on and below the curve are attainable.
  • Inefficient Points: Points below the curve indicate inefficient use of resources.
  • Efficient Points: Points on the curve indicate efficient use of resources.
  • Scarcity Principle: To produce more of one good, some of the other good must be sacrificed.

Krisha's Production Possibilities

  • Assumptions:
    • 6-hour workday.
    • Productivity: 4 pounds of coffee or 2 pounds of nuts per hour.
  • Extreme Points:
    • All hours on coffee: 24 pounds of coffee.
    • All hours on nuts: 12 pounds of nuts.

Opportunity Cost

  • Opportunity cost is calculated as \frac{Loss}{Gain}.
  • Example:
    • Opportunity cost of nut: 2 units of coffee.
    • Opportunity cost of coffee: 0.5 units of nut.

Tom's Production Possibilities

  • Productivity: 4 pounds of nuts or 2 pounds of coffee per hour.
  • Extreme Points:
    • All hours on coffee: 12 pounds of coffee.
    • All hours on nuts: 24 pounds of nuts.

Comparative Advantage and Specialization

  • Krisha's curve is steeper, indicating a comparative advantage in coffee production.
  • Tom's curve is flatter, indicating a comparative advantage in nut production.
  • By specializing and trading, both parties can benefit.

Gains from Specialization and Trade

  • Without specialization, both consume at a point on their curves (e.g., 8 units of coffee and 8 units of nuts).
  • With specialization:
    • Krisha produces 24 pounds of coffee.
    • Tom produces 24 pounds of nuts.
    • Through trade, both can consume 12 units of nuts and 12 units of coffee.
  • Gains from trade depend on the difference in opportunity costs.

Production Possibilities Curve for an Economy

  • Typically, the curve is bulging away from the origin, indicating increasing opportunity cost.

Increasing Opportunity Cost

  • As more of one good is produced, the sacrifice of the other good increases.
  • Example:
    • Moving from A to B: Lose 5,000 pounds of coffee, gain 20 pounds of nuts.
    • Moving from B to C: Lose 5,000 pounds of coffee, gain 10 pounds of nuts.
  • Not all resources are equally efficient at producing all goods, leading to increasing opportunity costs.

Shifts in Production Possibilities Curve

  • Changes in resources or technology can shift the curve.
  • Factors causing shifts: investment in capital, population growth, technology improvement, knowledge improvement.
  • Types of shifts:
    • Technology benefits both industries: curve shifts outward from the origin.
    • Technology benefits only coffee: curve shifts outward more along the coffee axis.
    • Technology benefits only nuts: curve shifts outward more along the nuts axis.

Factors Slowing Specialization

  • Low population density.
  • Poor transportation and communication systems.
  • Lack of legal framework to support business.
  • Underdeveloped financial markets.

Over-Specialization

  • Can reduce the market for goods.
  • Can make jobs boring and reduce productivity.

Impact of Trade

  • Benefits the economy as a whole but can hurt specific industries or individuals.
  • Some industries may suffer, and people may lose jobs.

Outsourcing

  • Some industries are more prone to outsourcing (e.g., medical transcription, customer call centers).
  • Some areas are less prone, especially where quality control and physical presence are important.
  • Not all jobs are equally affected by outsourcing.

Chapter Summary

  • The chapter covered comparative advantage and production possibilities curve.