The opportunity cost of producing both cars and cotton is high for Country A. Similarly, for Country B, the opportunity cost of producing both products is high because of the effort required to produce cars given its lack of steel. An economy may be able to produce for itself all of the goods and services it needs to function using the PPF as a guide. However, this may actually lead to an overall inefficient allocation of resources and hinder future growth when the benefits of trade are considered.
Through specialization , a country can concentrate on the production of just a few things that it can do best, rather than trying to do everything on its own. Each country in our example can produce one of these products more efficiently at a lower cost than the other.
We can say that Country A has a comparative advantage over Country B in the production of cars, and Country B has a comparative advantage over Country A in the production of cotton.
Or, both countries could decide to specialize in producing the goods for which they have a comparative advantage. Each can trade its specialized product to the other and both countries will be able to enjoy both products at a lower cost. Quality will improve, too, since each country is making what it makes best. Determining how countries exchange goods produced by comparative advantage "the best for the best" is the backbone of international trade theory.
This method of exchange via trade is considered an optimal allocation of resources. It means that national economies, in theory, will no longer be lacking anything that they need. Like opportunity cost, specialization and comparative advantage also apply to the way in which individuals interact within an economy. At least in modern times, few people try to produce everything they consume. Sometimes a country or an individual can produce more than another country, even though countries both have the same amount of inputs.
For example, Country A may have a technological advantage that, with the same amount of inputs good land, steel, labor , enables the country to easily manufacture more of both cars and cotton than Country B. A country that can produce more of both goods is said to have an absolute advantage.
Better access to natural resources can give a country an absolute advantage, as can higher levels of education, skilled labor, and overall technological advancement.
It is not possible, however, for a country to have an absolute advantage in everything that must be produced. The curved shape reflects the law of diminishing returns. This law states that there comes a point where an added production factor has less of an impact. For example, adding additional resources toward the production process may initially result in fairly large gains. However, these gains gradually lessen, thus producing the PPF's outward curved shape.
A straight line occurs if the opportunity cost remains constant. In this scenario, the opportunity cost of producing two goods is projected as being equal regardless of where you are along the line. In reality, this scenario is uncommon and the PPF is more often shown as an outward bending curve.
A variety of factors can shift a nation's PPF outward or inward. Macroeconomic factors , such as high unemployment or rising inflation, could cause an inward shift in the PPF. On the other hand, the PPF could shift outward due to a number of factors. An increase in highly trained workers, improved technology, and greater access to capital to fund growth are examples of factors that could promote an outward PPF shift.
Business Essentials. Actively scan device characteristics for identification. Use precise geolocation data. This is less than the maximum that can be produced with our resources. We can produce 13W and 2R or 6W and 4R. If there are unemployed resources we produce LESS than the maximum possible. Ina previous lesson see 5Es we stated that productive inefficiency causes scarcity because less is produced. On our PPC this could be represented by point B. We can use the production possibilities model to demonstrate how economic growth can reduce scarcity.
Since this increase maximum output that we are able to produce it shifts the PPC outward. To achieve our new potential levels of output we also need full employment and productive efficiency.
It could be possible to have this type of economic growth so that we CAN produce the quantities represented by point E, but if there is unemployment and productive inefficiency we would be at a point beneath this new curve maybe point C.
So we may get new resources or new technology so we CAN produce more point E on PP2 , but if we don't use the new resources i. The most commonly used definition of economic growth is simply producing more. When an economy increases its output it is often said to have achieved economic growth. On our graph this would be represented by moving from point D to a point on the curve: A, B, or C.
This means increasing output per person. GDP per capita is calculated by dividing output by the population. This could be caused by war, famine, environmental degradation, and numerous other causes. How much we can produce in the future depends on WHAT we produce today. Then if we use our resources TODAY to produce more capital manufactured resources , we will have more resources in the future so we will be able to produce more goods and services. Which point on the graph below, A, B, or C, would give this economy the greatest potential most economic growth in the future?
Which point produces the most capital resources? Remember, any point on a graph represents two numbers. Point A represents the more capital goods than the other points, so if we produce at point A we will get more future growth. But this comes at a cost opportunity cost. Japan has been producing a lot of capital good and has achieved much economic growth. The cost of this growth is fewer consumer goods. The average Japanese income is about the same as that in the US, but they have fewer consumer goods in their homes.
We have been producing and consuming many consumer goods, but we have not been adding to our stock of capital resources as quickly as we could. Society does best when it directs the production of each resource toward its specialty. The more specialized the resources, the more bowed-out the production possibility curve. The curve does not tell decision-makers how much of each good the economy should produce; it only tells them how much of each good they must give up if they are to produce more of the other good.
It is up to them to decide where the sweet spot is. In a market economy , the law of demand determines how much of each good to produce. In a command economy , planners decide the most efficient point on the curve.
They are likely to consider how best to use labor so there is full employment. An economy's leaders always want to move the production possibilities curve outward and to the right, and they can only do so with growth. The leaders must create more demand for either or both products. Only after that occurs can more resources be used to produce greater output.
Supply-side economists believe the curve can be shifted to the right by simply adding more resources. However, without demand, they will only succeed in creating underutilized resources.
There can be a benefit in increasing the labor force , though. Once the unemployed are working, they will increase demand and shift the curve to the right. For it to work, they must be paid enough to create the demand that shifts the curve outward. There must also be enough unemployed to make a difference. An economy in full employment can't add more workers, no matter how much corporate taxes are cut. A decrease in resources can limit growth.
If there is a shortage of one input, then more goods will not be produced, no matter how high the demand. In those situations, prices rise until demand falls to meet supply. It creates cost-push inflation. Minnesota State University, Mankato. University of Minnesota Libraries. And then Scenario D we have in white. If you have time for 2 rabbits, you have time for berries. So that is right around there. So this is Scenario D. Actually, a little bit lower. So this would be , so is a little bit lower than that.
So it'll be right over there. That is Scenario D. Scenario E, if you have time for 1 rabbit, you have time for berries. So that gets us right about there.
That is Scenario E. And then finally Scenario F. You are spending all of your time looking for berries. You have no time for rabbits. So all of your time for berries, no time for rabbits. So this is Scenario F. So what all of these points represent, these are all points-- now this is going to be a fancy word, but it's a very simple idea. These are all points on you, as a hunter gatherer, on your production possibilities frontier. Because if we draw a line-- I just arbitrarily picked these scenarios.
So these are all points on the different combinations between the trade offs of rabbits and berries. So let me connect all of these. Let me connect them in a color that I haven't used it. So let me connect them. And do you see-- this should just be one curve. So I'll do it as a dotted line. It's easier for me to draw a dotted curve than a straight curve.
So this right over here, this curve right over here, represents all the possible possibilities of combinations of rabbits and berries. I've only picked certain of them, but you could have a scenario right over here. And then maybe it looks like you would get about 50 berries in that situation. So all of these are possibilities. You don't have to just jump from 4 rabbits to 5 rabbits.
Or maybe in this scenario you're spending 7 hours and in this scenario you spend 8 hours. But you could spend 7 hours and a minute, or 7 hours and a second. So anything in between is possible and all of those possibilities are on this curve. So these five scenarios, actually these six scenarios that we've talked about so far these are just scenarios on this curve. And that curve we call, once again-- fancy term, simple idea-- our production possibilities frontier.
Because it shows all of the different possibilities we can do, we can get. What we cannot do is something that's beyond this. So for example, we can't get a scenario like this.
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