BEC - Production Possibilities Lesson

Production Possibilities Lesson

Production Possibilities - Individual

View the following video to be introduced to individual production possibilities.  To make the video full screen, click the double arrows at the bottom right corner of the object.

Production Possibilities - Society

View the following video to be introduced to society's production possibilities curve. To make the video full screen, click the double arrows at the bottom right corner of the object.

Scarcity, trade-offs, and opportunity costs can be visually represented through the use of the Production Possibilities Curve (PPC). To introduce the model and establish basic economic theory, we assume a simple economy with a finite amount of resources that can be used to produce two goods. The quintessential example for Production Possibilities is the "guns and butter" scenario. In this scenario, the country of Alpha can produce two goods, guns and butter. Alpha can allocate its resources in a variety of ways between the production of these goods. The chart below shows the various combinations of guns and butter that can be produced if Alpha is fully employing all of its factors of production.

Production Possibilities Schedule

Combinations	Butter	Guns
A	0	50
B	1	48
C	2	40
D	3	25
E	4	0

The information in the schedule above can be plotted to create the PPC shown below.

Production Possibilities Curve for the Country of Alpha

There are a few important notes to make about the production possibilities curve.

First, it demonstrates that resources are limited because there is a maximum amount of goods that can be produced (represented by the curve that joins the x and y intercepts). Even if the country wanted to produce a combination of goods greater than any given combination contained in the schedule, it cannot because of the scarcity of resources. That means all points outside of the curve, like G, are currently impossible, given current resources.

Second, the points that make up the curve represent production combinations when resources are being fully utilized. This means there is no waste of resources and no inefficiencies in production.

Third, all points that lie inside the curve represent inefficient, although possible, combinations of goods. This would be represented by a point like F. Resources are not being fully utilized. Because resources are scarce, countries want to produce on the curve because it represents no waste of those resources.

Furthermore, the country would seek to eventually attain levels of production outside the curve (which is, in effect, a shift of the PPC to the right) and this would represent economic growth, as shown in the graph below. The PPC represents that concept of trade-offs with the choices of goods it can produce - guns or butter. In addition, opportunity costs are present on the PPC. For example, to gain additional butter resources must be diverted away from gun production toward butter production. By doing so, the country gains butter, but loses some quantity of guns (the amount of guns lost is the opportunity cost of deciding to produce additional butter). 

Production Possibilities Curve - Shifts in Both Goods

Production Possibilities Curve - Pivot of Curve

PPC and Change in Resources

View the following video on PPC and change in resources. To make the video full screen, click the double arrows at the bottom right corner of the object.

What does the shape of the PPC tell us? The shape of the PPC reveals the type of opportunity cost involved with changes in levels of production of the goods. An outwardly bowed curve represents increasing opportunity costs. This means that for every additional unit of butter produced, the incremental losses of guns gets larger and larger. This is due to the suitability of the resources in regard to the production of the goods.

For example, some resources are less suited and some are better suited to the production of guns. As butter production is increased, it would make the most sense to pull the resources less suited to gun production and redirect them to the production of butter. It would result in minimizing the opportunity cost (the number of guns given up). However, as butter production continues to increase, eventually the resources that are better suited to the production of guns are redirected to the production of butter. This results in larger losses in terms of gun production (the opportunity cost increases). The slope of the PPC represents the opportunity cost. Because the PPC is outwardly bowed, it means the slope is increasing. Therefore, the opportunity costs are increasing.

PPC with Increasing Opportunity Costs

Production Possibilities Curve for the Country of Alpha

As you can see in the graph above, when production moves from point A to point B, 1 unit of butter is gained, but two units of guns are lost. If production is moved from point B to point C, 1 unit of butter is gained, but 8 units of guns are lost. Every additional unit of butter is costing an increasing amount of guns.

A linear PPC represents constant suitability of resources to the production of each good. Let's consider a country that produces burritos and tacos. Ground beef is a common resource used to produce either good. It is also safe to say that one pound of ground beef is no better at producing burritos or tacos than another pound of ground beef.

Therefore, every time the country decides to redirect a pound of ground beef toward producing another batch of tacos, a constant amount of burritos is lost. A linear PPC always represents constant opportunity cost (it has a constant slope). It's also important to note that the negative slope of a PPC reflects the concept of opportunity cost. The most basic interpretation of slope is rise/run. If your "run" is positive, then the "rise" is negative. Of course, the opposite of that is also true. Every gain will create a loss. 

PPC with Constant Opportunity Costs

Linear Production Possibilities Curve for Food Nation

As you can see, when production moves from point A to point B, 20 tacos are gained, but 10 burritos are lost. If production is moved from point B to point C, an additional 20 tacos are gained and an additional 10 burritos are lost. The production of each additional taco requires giving up the ability to produce .5 burritos. That is, the slope would be -10/20, or -1/2, along the entire distance of the curve. 

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