Overview
This lecture explains the concept of the production possibilities frontier (PPF) with increasing opportunity cost, economic growth, and introduces comparative advantage as it applies to trade and decision-making.
The PPF with Increasing Opportunity Cost
- The PPF shows all possible production combinations of two goods (e.g., airplanes and apples) using scarce resources.
- Increasing opportunity cost occurs when producing more of one good requires giving up increasingly larger amounts of the other.
- Resources have different efficiencies: some are better suited for one good than another.
- When shifting production, start with using resources least suited for their current use to minimize opportunity cost.
- As more resources are reallocated, their opportunity cost in producing the alternative good rises.
- PPF with increasing opportunity cost is bowed out (concave) from the origin.
Shifts in the PPF and Economic Growth
- Economic growth (more resources, technology) shifts the PPF outward, allowing more of both goods to be produced.
- Negative events (wars, pandemics) shift the PPF inward, reducing productive capability.
- Growth or decline can be sector-specific, shifting or pivoting only parts of the PPF.
Comparative Advantage and Trade
- Absolute advantage: ability to produce more of a good with the same resources.
- Comparative advantage: ability to produce a good at a lower opportunity cost compared to others.
- Countries (or people) specialize based on comparative advantage, trading for other goods to maximize overall benefit.
- Trade allows consumption of goods not produced domestically.
Economic Models and Objections
- Economic models simplify decision-making by illustrating trade-offs and opportunity costs.
- People may not consciously use models but generally act as if weighing costs versus benefits.
- Model assumptions: individuals maximize their satisfaction, which can include unselfish acts if personal benefit outweighs cost.
- Self-interested behavior can result in beneficial outcomes for society, though exceptions may require intervention.
Key Terms & Definitions
- Production Possibilities Frontier (PPF) — graph showing all possible combinations of two goods that can be produced with available resources.
- Opportunity Cost — value of the best alternative forgone when making a choice.
- Increasing Opportunity Cost — situation where producing more of one good requires larger sacrifices of the other.
- Absolute Advantage — ability to produce more of a good with given resources than another entity.
- Comparative Advantage — ability to produce a good at a lower opportunity cost than another entity.
- Specialization — focusing resources on production of goods for which one has a comparative advantage.
Action Items / Next Steps
- Complete assigned homework and quizzes on chapter two concepts.
- Review the relevant textbook sections on PPF, opportunity cost, and comparative advantage.
- Prepare for chapter three lectures.