Macroeconomics: production possibilities curve (PPC)

Production possibilities curve (PPC): an economic model that depicts the trade-off an individual agent, or a country has when it allocates its resources between two goods or services.

PPC models scarcity because only a specific amount of the two goods can be produced and consumed at any point on the curve.

A country, or individual can produce/ consume efficiently if they are on the curve. They can produce and consume anywhere inside its PPC, but they would be under utilizing their resources.

PPC models opportunity cost, by showing how much one good must be given up in order to produce one additional unit of the other good.

An individual PPC: The PPC below shows the relationship between the amount of time spent on relaxing and working in a day.

At point A, the individual is willing work 5 hours and relax for 19 hours. This choice involves an opportunity cost which is the benefit she would have gained by working more and relaxing less (and vice versa...).

At point B, the individual is working 18 hours and relaxing for 6 hours. The opportunity cost of working 13 extra hours is the 13 fewer hours they get to spend relaxing.

A country's PPC (constant opportunity cost): assume this country only produces two goods; deep dish pizzas and regular pizzas.

Since the slope was arbitrarily chosen to be -2x, the opportunity cost of one more deep dish pizza will always be two regular pizzas (and vice versa).

A country's PPC (increasing opportunity cost): using the same country, this time the two goods will be computers and deep dish pizzas.

The production of pizza is land intensive, its ingredients require a lot of land use. Furthermore, this production requires two types of specialized labor; farmers and cooks.

the production of computers require a type of labor that is highly skilled, for example engineers. Also, the production of computers is less land intensive than pizza.

Because land and labor resources are not perfectly adaptable to making computers or pizza, the opportunity cost to increase the production of computers rises in terms of pizzas the more computers are produced.

The law of increasing opportunity cost states that as the output for one good increases, the opportunity cost of producing another unit rises. Then, the PPC must have a convex shape.

Notice that the opportunity cost of producing the first computer is one pizza, but the cost of producing the fourth computer is 7 pizzas.

Reference: Welker, Jason. AP Maroeconomics Crash Course. Research & Education Association (2014). p 28-33.

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