{"id":5063,"date":"2016-07-20T21:05:55","date_gmt":"2016-07-20T21:05:55","guid":{"rendered":"https:\/\/courses.lumenlearning.com\/microeconomics\/?post_type=chapter&p=5063"},"modified":"2016-07-20T21:05:55","modified_gmt":"2016-07-20T21:05:55","slug":"reading-the-production-possibilities-frontier","status":"publish","type":"chapter","link":"https:\/\/courses.lumenlearning.com\/atd-herkimer-microeconomics\/chapter\/reading-the-production-possibilities-frontier\/","title":{"raw":"Reading: The Production Possibilities Frontier","rendered":"Reading: The Production Possibilities Frontier"},"content":{"raw":"

Overview<\/h2>\nLet's review the production possibilities frontier and focus more specifically on the shape of the curve.\n\nAs a reminder, the\u00a0production possibilities frontier (PPF) <\/strong>is an economic model that shows the possible\u00a0combinations of two products or services that could potentially be produced by\u00a0a society. Remember, an economic\u00a0model\u00a0is a simplified version of reality that allows us to observe, understand, and make predictions about economic behavior. With the PPF\u00a0model,\u00a0we're\u00a0focused on a society's production choices and trade-offs.<\/span>\n\nBecause society has limited resources (e.g., labor, land, capital, and raw materials) at any given moment, there's a limit to the quantities of goods and services it can produce. Suppose a society desires two products: health care and education. This situation is illustrated by the production possibilities frontier in Figure 1.\n\n[caption id=\"\" align=\"aligncenter\" width=\"431\"]\"GraphFigure 1.<\/strong>\u00a0Health Care vs. Education Production Possibilities Frontier.[\/caption]\n\nFigure 1 shows a trade-off between devoting resources to health care and to education. Health care is shown on the vertical axis, and education is shown on the horizontal axis. If the society were to allocate all of its resources to health care, it could produce at point A. But it would not have any resources to produce education. If it were to allocate all of its resources to education, it could produce at point F. Alternatively, the society could choose to produce any combination of health care and education shown on the production possibilities frontier.\n\nSuppose society has chosen to operate at point B, and it's considering producing more education. Because the PPF is downward sloping from left to right, the only way society can obtain more education is by giving up some health care. That's the trade-off that society faces. Suppose it considers moving from point B to point C. What would be the opportunity cost for the additional education? The opportunity cost would be the health care that society has to give up.\n\nDo you remember Charlie\u00a0choosing combinations of burgers and bus tickets within his budget constraint? In effect, the production possibilities frontier plays the same role for society as the budget constraint plays for Charlie. Society can choose any combination of the two goods on or inside the PPF, but it doesn't\u00a0have enough resources to produce outside the PPF.\u00a0Just as with Charlie's\u00a0budget constraint, the opportunity cost is shown by the\u00a0slope<\/em> of the production possibilities frontier.\n
\n

Difference between Budget Constraint and PPF<\/h2>\nThere are differences between a budget constraint and a production possibilities frontier. A budget constraint model shows the purchase choices that an individual or society can make given a specific budget and specific purchase prices.\u00a0The production possibilities frontier\u00a0shows the possible\u00a0combinations of two products or services that could potentially be produced by\u00a0a society. Budgets and prices are\u00a0more precise. If you think about it, a society's\u00a0\"possibilities of production\" are vastly more complicated and have a great degree of variability. For this reason,\u00a0a PPF is not as precise.<\/span>\n\nConsider the PPF graph above. There are no numbers on the axes of the PPF because we don't know the exact amount of resources this imaginary economy has, nor do we know how many resources it takes to produce health care and how many resources it takes to produce education. If this were a real-world example, some data would be available, but\u00a0there's no single way to measure \"amounts\"\u00a0of education and health care. That said, you could probably think of ways to measure improvements<\/em> in education, such as more years of school completed, fewer high-school dropouts, and higher scores on standardized tests. Similarly, you could probably measure\u00a0improvements in health care according to things like longer life expectancy, lower levels of infant mortality, fewer outbreaks of disease, and so on. These types of measures in a PPF are useful, but do not have the same level of accuracy as a budget constraint model.\n\nWhether or not we have actual\u00a0numbers, conceptually we can measure the opportunity cost of additional education as society moves from point B to point C on the PPF. The additional education is measured by the horizontal distance between B and C. The foregone health care is given by the vertical distance between B and C. The slope of the PPF between B and C is (approximately) the vertical distance (the \"rise\") over the horizontal distance (the \"run\"). This is the opportunity cost of the additional education.\n\n<\/div>\n

The Law of Diminishing Returns and the Curved Shape of the PPF<\/h2>\nThe budget constraints presented earlier in this module, showing individual choices about what quantities of goods to consume, were all straight lines. The reason for these straight lines was that the slope of the budget constraint was determined by the relative prices of the two goods in the\u00a0budget constraint<\/em>. However, the production possibilities frontier for health care and education was drawn as a curved line. Why does the PPF have a different shape?\n\nTo understand why the PPF is curved, start by considering point A at the top left-hand side of the PPF. At point A, all available resources are devoted to health care and none is\u00a0left for education. This situation would be extreme and even ridiculous. For example, children are seeing a doctor every day, whether they're sick or not, but not attending school. People are having cosmetic surgery on every part of their bodies, but no high school or college education exists. Now imagine that some of these resources are diverted from health care to education, so that the economy is at point B instead of point A. Diverting some resources away from A to B causes relatively little reduction in health because the last few marginal dollars going into health-care services are not producing much additional gain in health. However, putting those marginal dollars into education, which is completely without resources at point A, can produce relatively large gains. For this reason, the shape of the PPF from A to B is relatively flat, representing a relatively small drop-off in health and a relatively large gain in education.\n\nNow consider the other end, at the lower right, of the production possibilities frontier. Imagine that society starts at choice D, which is devoting nearly all resources to education and very few to health care, and it moves to point F, which is devoting\u00a0all<\/em> spending to education and none to health care. For the sake of concreteness, you can imagine that in the movement from D to F, the last few doctors must become high school science teachers, the last few nurses must become school librarians rather than dispensers of vaccinations, and the last few emergency rooms are turned into kindergartens. The gains to education from adding these last few resources to education are very small. However, the opportunity cost lost to health will be fairly large, and thus the slope of the PPF between D and F is steep, showing a large drop in health for only a small gain in education.\n\n[caption id=\"attachment_5477\" align=\"alignright\" width=\"251\"]\"If<\/a> If you've ever pulled an all-nighter, you're probably familiar with the law of diminishing returns: as the night wears on and you get tired,\u00a0every additional hour you study\u00a0is a little less productive than the one before.[\/caption]\n\nThe lesson is not that society is likely to make an extreme choice like devoting no resources to education at point A or no resources to health at point F. Instead, the lesson is that the gains from committing additional marginal resources to education depend on how much is already being spent. If, on the one hand, very few resources are currently committed to education, then an increase in resources used can bring relatively large gains. On the other hand, if a large number of resources is\u00a0already committed to education, then committing additional resources will bring relatively smaller gains.\n\nThis pattern is so common that it has been given a name: the\u00a0law of diminishing returns.<\/strong>\u00a0This law\u00a0asserts that as additional increments of resources are devoted\u00a0to a certain purpose, the marginal benefit from those additional increments will decline. For example, after not spending much at all on crime reduction, when a government spends a certain amount more, the\u00a0gains in crime reduction could be relatively large. But additional increases after that typically cause\u00a0relatively smaller reductions in crime, and paying for enough police and security to reduce crime to zero\u00a0would be tremendously expensive.\n\nThe curve of the production possibilities frontier shows that as additional resources are added to education, moving from left to right along the horizontal axis, the initial\u00a0gains are fairly large, but those gains gradually diminish. Similarly, as additional resources are added to health care, moving from bottom to top on the vertical axis, the initial\u00a0gains are fairly large but again gradually diminish. In this way, the law of diminishing returns produces the outward-bending shape of the production possibilities frontier.","rendered":"

Overview<\/h2>\n

Let’s review the production possibilities frontier and focus more specifically on the shape of the curve.<\/p>\n

As a reminder, the\u00a0production possibilities frontier (PPF) <\/strong>is an economic model that shows the possible\u00a0combinations of two products or services that could potentially be produced by\u00a0a society. Remember, an economic\u00a0model\u00a0is a simplified version of reality that allows us to observe, understand, and make predictions about economic behavior. With the PPF\u00a0model,\u00a0we’re\u00a0focused on a society’s production choices and trade-offs.<\/span><\/p>\n

Because society has limited resources (e.g., labor, land, capital, and raw materials) at any given moment, there’s a limit to the quantities of goods and services it can produce. Suppose a society desires two products: health care and education. This situation is illustrated by the production possibilities frontier in Figure 1.<\/p>\n

\"Graph<\/p>\n

Figure 1.<\/strong>\u00a0Health Care vs. Education Production Possibilities Frontier.<\/p>\n<\/div>\n

Figure 1 shows a trade-off between devoting resources to health care and to education. Health care is shown on the vertical axis, and education is shown on the horizontal axis. If the society were to allocate all of its resources to health care, it could produce at point A. But it would not have any resources to produce education. If it were to allocate all of its resources to education, it could produce at point F. Alternatively, the society could choose to produce any combination of health care and education shown on the production possibilities frontier.<\/p>\n

Suppose society has chosen to operate at point B, and it’s considering producing more education. Because the PPF is downward sloping from left to right, the only way society can obtain more education is by giving up some health care. That’s the trade-off that society faces. Suppose it considers moving from point B to point C. What would be the opportunity cost for the additional education? The opportunity cost would be the health care that society has to give up.<\/p>\n

Do you remember Charlie\u00a0choosing combinations of burgers and bus tickets within his budget constraint? In effect, the production possibilities frontier plays the same role for society as the budget constraint plays for Charlie. Society can choose any combination of the two goods on or inside the PPF, but it doesn’t\u00a0have enough resources to produce outside the PPF.\u00a0Just as with Charlie’s\u00a0budget constraint, the opportunity cost is shown by the\u00a0slope<\/em> of the production possibilities frontier.<\/p>\n

\n

Difference between Budget Constraint and PPF<\/h2>\n

There are differences between a budget constraint and a production possibilities frontier. A budget constraint model shows the purchase choices that an individual or society can make given a specific budget and specific purchase prices.\u00a0The production possibilities frontier\u00a0shows the possible\u00a0combinations of two products or services that could potentially be produced by\u00a0a society. Budgets and prices are\u00a0more precise. If you think about it, a society’s\u00a0“possibilities of production” are vastly more complicated and have a great degree of variability. For this reason,\u00a0a PPF is not as precise.<\/span><\/p>\n

Consider the PPF graph above. There are no numbers on the axes of the PPF because we don’t know the exact amount of resources this imaginary economy has, nor do we know how many resources it takes to produce health care and how many resources it takes to produce education. If this were a real-world example, some data would be available, but\u00a0there’s no single way to measure “amounts”\u00a0of education and health care. That said, you could probably think of ways to measure improvements<\/em> in education, such as more years of school completed, fewer high-school dropouts, and higher scores on standardized tests. Similarly, you could probably measure\u00a0improvements in health care according to things like longer life expectancy, lower levels of infant mortality, fewer outbreaks of disease, and so on. These types of measures in a PPF are useful, but do not have the same level of accuracy as a budget constraint model.<\/p>\n

Whether or not we have actual\u00a0numbers, conceptually we can measure the opportunity cost of additional education as society moves from point B to point C on the PPF. The additional education is measured by the horizontal distance between B and C. The foregone health care is given by the vertical distance between B and C. The slope of the PPF between B and C is (approximately) the vertical distance (the “rise”) over the horizontal distance (the “run”). This is the opportunity cost of the additional education.<\/p>\n<\/div>\n

The Law of Diminishing Returns and the Curved Shape of the PPF<\/h2>\n

The budget constraints presented earlier in this module, showing individual choices about what quantities of goods to consume, were all straight lines. The reason for these straight lines was that the slope of the budget constraint was determined by the relative prices of the two goods in the\u00a0budget constraint<\/em>. However, the production possibilities frontier for health care and education was drawn as a curved line. Why does the PPF have a different shape?<\/p>\n

To understand why the PPF is curved, start by considering point A at the top left-hand side of the PPF. At point A, all available resources are devoted to health care and none is\u00a0left for education. This situation would be extreme and even ridiculous. For example, children are seeing a doctor every day, whether they’re sick or not, but not attending school. People are having cosmetic surgery on every part of their bodies, but no high school or college education exists. Now imagine that some of these resources are diverted from health care to education, so that the economy is at point B instead of point A. Diverting some resources away from A to B causes relatively little reduction in health because the last few marginal dollars going into health-care services are not producing much additional gain in health. However, putting those marginal dollars into education, which is completely without resources at point A, can produce relatively large gains. For this reason, the shape of the PPF from A to B is relatively flat, representing a relatively small drop-off in health and a relatively large gain in education.<\/p>\n

Now consider the other end, at the lower right, of the production possibilities frontier. Imagine that society starts at choice D, which is devoting nearly all resources to education and very few to health care, and it moves to point F, which is devoting\u00a0all<\/em> spending to education and none to health care. For the sake of concreteness, you can imagine that in the movement from D to F, the last few doctors must become high school science teachers, the last few nurses must become school librarians rather than dispensers of vaccinations, and the last few emergency rooms are turned into kindergartens. The gains to education from adding these last few resources to education are very small. However, the opportunity cost lost to health will be fairly large, and thus the slope of the PPF between D and F is steep, showing a large drop in health for only a small gain in education.<\/p>\n

\"If<\/a><\/p>\n

If you’ve ever pulled an all-nighter, you’re probably familiar with the law of diminishing returns: as the night wears on and you get tired,\u00a0every additional hour you study\u00a0is a little less productive than the one before.<\/p>\n<\/div>\n

The lesson is not that society is likely to make an extreme choice like devoting no resources to education at point A or no resources to health at point F. Instead, the lesson is that the gains from committing additional marginal resources to education depend on how much is already being spent. If, on the one hand, very few resources are currently committed to education, then an increase in resources used can bring relatively large gains. On the other hand, if a large number of resources is\u00a0already committed to education, then committing additional resources will bring relatively smaller gains.<\/p>\n

This pattern is so common that it has been given a name: the\u00a0law of diminishing returns.<\/strong>\u00a0This law\u00a0asserts that as additional increments of resources are devoted\u00a0to a certain purpose, the marginal benefit from those additional increments will decline. For example, after not spending much at all on crime reduction, when a government spends a certain amount more, the\u00a0gains in crime reduction could be relatively large. But additional increases after that typically cause\u00a0relatively smaller reductions in crime, and paying for enough police and security to reduce crime to zero\u00a0would be tremendously expensive.<\/p>\n

The curve of the production possibilities frontier shows that as additional resources are added to education, moving from left to right along the horizontal axis, the initial\u00a0gains are fairly large, but those gains gradually diminish. Similarly, as additional resources are added to health care, moving from bottom to top on the vertical axis, the initial\u00a0gains are fairly large but again gradually diminish. In this way, the law of diminishing returns produces the outward-bending shape of the production possibilities frontier.<\/p>\n\n\t\t\t

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Candela Citations<\/h3>\n\t\t\t\t\t
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CC licensed content, Original<\/div>