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Course: Microeconomics > Unit 1
Lesson 3: Production possibilities frontier- Production possibilities curve
- Opportunity cost
- Increasing opportunity cost
- The Production Possibilities Frontier
- PPCs for increasing, decreasing and constant opportunity cost
- Lesson summary: the production possibilities frontier
- Interpreting graphs of the production possibilities curve (PPC)
- Calculating opportunity costs from a production possibilities curve (PPC)
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Lesson summary: the production possibilities frontier
Key takeaways
- A production possibilities frontier, or PPF, defines the set of possible combinations of goods and services a society can produce given the resources available. Choices outside the PPF are unattainable (at least in any sustainable way), and choices inside the PPF are inefficient. Sometimes the PPF is called a production possibilities curve.
- The law of diminishing returns holds that as additional resources are devoted to producing a good, the marginal increase in output will become smaller and smaller.
- All choices along a PPF display productive efficiency—it is impossible to use society’s resources to produce more of one good without decreasing production of the other good.
- The specific choice along a PPF that reflects the mix of goods society most desires is the choice with allocative efficiency. We need more information than just the PPF to determine allocative efficiency.
- When a country's opportunity cost for a specific good is lower than another country's, we say that the country has comparative advantage for that good.
The Production Possibilities Curve (PPC) is a model used to show the tradeoffs associated with allocating resources between the production of two goods. The PPC can be used to illustrate the concepts of scarcity, opportunity cost, efficiency, inefficiency, economic growth, and contractions.
For example, suppose Carmen splits her time as a carpenter between making tables and building bookshelves. The PPC would show the maximum amount of either tables or bookshelves she could build given her current resources. The shape of the PPC would indicate whether she had increasing or constant opportunity costs.
Key terms
| Term | Definition |
|---|---|
| production possibilities curve (PPC) | (also called a production possibilities frontier) a graphical model that represents all of the different combinations of two goods that can be produced; the PPC captures scarcity of resources and opportunity costs. |
| opportunity cost | the value of the next best alternative to any decision you make; for example, if Abby can spend her time either watching videos or studying, the opportunity cost of an hour watching videos is the hour of studying she gives up to do that. |
| efficiency | the full employment of resources in production; efficient combinations of output will always be on the PPC. |
| inefficient use (under-utilization) of resources | the underemployment of any of the four economic resources (land, labor, capital, and entrepreneurial ability); inefficient combinations of production are represented using a PPC as points on the interior of the PPC. |
| growth | an increase in an economy's ability to produce goods and services over time; economic growth in the PPC model is illustrated by a shift out of the PPC. |
| contraction | a decrease in output that occurs due to the under-utilization of resources; in a graphical model of the PPC, a contraction is represented by moving to a point that is further away from, and on the interior of, the PPC. |
| constant opportunity costs | when the opportunity cost of a good remains constant as output of the good increases, which is represented as a PPC curve that is a straight line; for example, if Colin always gives up producing 2 fidget spinners every time he produces a Pokemon card, he has constant opportunity costs. |
| increasing opportunity costs | when the opportunity cost of a good increases as output of the good increases, which is represented in a graph as a PPC that is bowed out from the origin; for example Julissa gives up |
| productivity | (also called technology) the ability to combine economic resources; an increase in productivity causes economic growth even if economic resources have not changed, which would be represented by a shift out of the PPC. |
Key model
The Production Possibilities Curve (PPC) is a model that captures scarcity and the opportunity costs of choices when faced with the possibility of producing two goods or services. Points on the interior of the PPC are inefficient, points on the PPC are efficient, and points beyond the PPC are unattainable. The opportunity cost of moving from one efficient combination of production to another efficient combination of production is how much of one good is given up in order to get more of the other good.
The shape of the PPC also gives us information on the production technology (in other words, how the resources are combined to produce these goods). The bowed out shape of the PPC in Figure
We can also use the PPC model to illustrate economic growth, which is represented by a shift of the PPC. Figure
Key Equations and Calculations: Calculating opportunity costs:
To find the opportunity cost of any good X in terms of the units of Y given up, we use the following formula:
Common Misperceptions
- Not all costs are monetary costs. Opportunity costs are expressed in terms of how much of another good, service, or activity must be given up in order to pursue or produce another activity or good. For example, when you head out to see a movie, the cost of that activity is not just the price of a movie ticket, but the value of the next best alternative, such as cleaning your room.
- Going from an inefficient amount of production to an efficient amount of production is not economic growth. For example, suppose an economy can make two goods: chocolate donuts and cattle prods. But half of their donut machines aren’t being used, so they aren’t fully using all of their resources. Graphically, that would be represented by a combination of goods in the interior of their PPC. If they then put all of those donut machines to work, they aren’t acquiring more resources (which is what we mean by economic growth). Instead, they are just using their resources more efficiently and moving to a new point on the PPC.
- On the other hand, if this economy is making as many donuts and cattle prods as it can, and it acquires more donut machines, it has experienced economic growth because it now has more resources (in this case, capital) available. This would be represented in a PPC graph as a shift outward of the entire PPC curve.
Discussion Questions
- How would you show with a PPC that a country has constant opportunity costs of production?
- Using a correctly labeled PPC model, show an economy that has increasing opportunity costs that can produce cattle prods and chocolate donuts that is underutilizing its labor.
Want to join the conversation?
Hey, thanks for these videos and notes they're really informative. I had a question though since the law of diminishing returns is stated as,
*As additional resources are devoted to producing a good, the marginal increase in output will become smaller and smaller.*
So is this law only applicable for *increasing opportunity cost ?* If not could you explain the other ways in which it may be applicable(i.e. applicable for constant and decreasing opportunity cost)?
Thanks :)(5 votes)- I don't think so that it should be applicable in constant opportunity cost as there is no increase or decrease in output. The output is in this case constant. You are not using any additional resources in either producing rabbits or berries. In decreasing opportunity costs, like for producing 20 pizzas, you are losing 5 garlic breads, then for 25 pizzas only 3. Here you are able to make more pizzas and also loosing less and less garlic breads. So no where you are investing additional resources. The output is also not contracting.(2 votes)
Hey KhanAcademy Team,
I have one question:
Is there a spelling error in the formula of calculating the opportunity cost of each unit of good X? The example uses the formula (y1-y2)/(x1-x2), however you use the formula as (y1-y2)/(x2-x1) in the example with iPads and AppleWatches. Or am I wrong here?
Many thanks!(3 votes)
Rather than getting specific with a formula identifying x1 and subtracting x2, would it be more accurate to say it is the difference in units between x1 and x2? In other words don't worry about x1 - x2 being a negative number, consider it as the absolute value of x1 - x2. There is a difference of 1 unit going from 2 to 3.
Or is this not accurate?(1 vote)
- Hey KhanAcademy Team,
Can we find the best combination of good X and good Y by simply looking at their PPC or using their opportunity cost?(2 votes)
PPC only shows efficiency curve with points. Everything below is inefficient, everything above is unattainable yet given the available resources. So, we can't. Because best is subjective term, if you meant efficiency then yes.(2 votes)
- hey i am having a bad day can someone reed for me or give in overall summary(1 vote)
- I'm sorry to hear that you're having a bad day. Let me provide you with a summary of the key points from the lesson on the production possibilities frontier (PPF):
- The production possibilities frontier (PPF), also known as the production possibilities curve (PPC), illustrates the different combinations of goods and services that a society can produce given its available resources.
- Choices outside the PPF are unattainable, while choices inside the PPF are inefficient.
- The law of diminishing returns states that as additional resources are allocated to producing a good, the marginal increase in output becomes smaller and smaller.
- All choices along the PPF represent productive efficiency, meaning that society's resources are fully employed in production.
- Allocative efficiency occurs at the specific choice along the PPF that reflects the mix of goods society most desires. However, determining allocative efficiency requires more information than just the PPF.
- Comparative advantage arises when a country's opportunity cost for a specific good is lower than another country's.
- The shape of the PPF indicates whether there are constant, increasing, or decreasing opportunity costs of production.
- Economic growth is represented by a shift outward of the entire PPF curve, indicating an increase in a society's ability to produce goods and services over time.(2 votes)
What is the difference between productivity and entrepreneurship?(1 vote)- Productivity refers to the ability to combine economic resources effectively to produce goods and services, while entrepreneurship refers to the ability to innovate, take risks, and organize resources to create new products or businesses.(1 vote)
- I don't think so that it should be applicable in constant opportunity cost as there is no increase or decrease in output. The output is in this case constant. You are not using any additional resources in either producing rabbits or berries. In decreasing opportunity costs, like for producing 20 pizzas, you are losing 5 garlic breads, then for 25 pizzas only 3. Here you are able to make more pizzas and also loosing less and less garlic breads. So no where you are investing additional resources. The output is also not contracting.(1 vote)
- Constant opportunity costs occur when the opportunity cost of producing a good remains constant as the output of that good increases. This is typically represented by a straight-line PPC.(1 vote)
- Hey, thanks for these videos and notes they're really informative. I had a question though since the law of diminishing returns is stated as,
*As additional resources are devoted to producing a good, the marginal increase in output will become smaller and smaller.*
So is this law only applicable for *increasing opportunity cost ?* If not could you explain the other ways in which it may be applicable(i.e. applicable for constant and decreasing opportunity cost)?
Thanks :)(1 vote)