PRODUCTION POSSIBILITY

CURVE DIAGRAMS (PPC)

 Opportunity Cost
■ The scarcity of resources means that there are not sufficient goods and services to satisfy all
our needs and wants; we are forced to choose some over the others. Choice is necessary
because these resources have alternative uses- they can be used to produce many things. But
since there are only a finite number of resources, we have to choose.
■ When we choose something over the other, the choice that was given up is called the
opportunity cost. Opportunity cost, by definition, is the next best alternative that is
sacrificed/forgone in order to satisfy the other.
■ Example 1: the government has a certain amount of money and it has two options: to build a
school or a hospital, with that money. The govt. decides to build the hospital. The school,
then, becomes the opportunity cost as it was given up. In a wider perspective, the opportunity
cost is the education the children could have received, as it is the actual cost to the economy
of giving up the school.
■ Example 2: you have to decide whether to stay up and study or go to bed and not study. If
you chose to go to bed, the knowledge and preparation you could have gained by choosing to
stay up and study is the opportunity cost.
Production Possibility Curve Diagrams
(PPC)
■ Because resources are scarce and have alternative uses, a
decision to devote more resources to producing one product
means fewer resources are available to produce other goods. A
Production Possibility Curve diagram shows this, that is, the
maximum combination of two goods that can be produced by
an economy with all the available resources.
 Production Possibility Curve Diagrams (PPC)

■ The PPC diagram above shows the production capacities of two goods- X and Y-
against each other. When 500 units of good X are produced, 1000 units of good Y can
be produced. But when the units of good X increases to 1000, only 500 units good Y
can be produced.
■ Let’s look at the PPC named A. At point X and Y it can produce certain combinations
of good X and good Y. These are points on the curve- they are attainable, given the
resources. The economy can move between points on a PPC simply by reallocating
resources between the two goods.
■ If the economy were producing at point Z, which is inside/below the PPC, the
economy is said to be inefficient, because it is producing less than what it can.
■ Point W, outside/above the PPC, is unattainable because it is beyond the scope of the
economy’s existing resources. In order to produce at point W, the economy would
need to see a shift in the PPC towards the right.
For an outward shift to occur, an economy would need
to:
■ discover or develop new raw materials. Example: discover new
oil fields
■ employ new technology and production methods to increase
productivity
■ increase labour force by encouraging birth and immigration,
increasing retirement age etc.
An outward shift in PPC, that is higher production possibility, will
lead to economic growth.
In the same way, an inward shift can occur in the
PPC due to:

■ natural disasters, that erode infrastructure and kill the

population
■ very low investment in new technologies will cause
productivity to fall over time
■ running out of resources, especially non-renewable ones like
oil or water
An inward shift in the PPC will lead to the economy shrinking.
 How is opportunity cost linked to PPC?
■ Individuals, businessmen and the government can calculate the
opportunity cost from PPC diagrams. In the above example, if
the firm decided to increase production of good Y from 500 to
750, it can calculate the opportunity cost of the decision to be
250 units of good X (as production of good X falls from 1000
to 750). They are able to compare the opportunity cost for
different decisions.