1.3 PRODUCTION POSSIBILITY FRONTIER
This video is relevant for this section despite it saying that it is for AQA.
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Positive & Normative Statements
The production possibility frontier is a graphical representation of the combination of two goods that an economy can produce with a given level of resource.
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The resources are the factors of product – land, labour and capital. It is an over simplification of the whole economy because in reality economies produce hundreds of thousands of goods, and this model makes the assumption that the economy only produces two. These two goods can be anything. Examples are:
- Guns and butter
- Wine and cotton
- Ice cream and refrigerators
Any point below the PPF curve and between the two axes is obtainable but is not productively efficient. This is because not all resources are being used. Point V is a productively inefficient point. This economy could move from point v to s or x without having to sacrifice any quantity of cotton or wine, therefore it is in this economy’s interests to move to the boundary and become productively efficient.
Any point outside the PPF boundary is unattainable. This is because at the moment we do not have the resources or the technologies to produce the combination of goods. Point t is an example of an unattainable point.
Like I said, any point on the PPF curve is productively efficient. But is it allocatively efficient? Allocative efficiency is where the current combinations of goods and services produced and sold, give the maximum level of satisfaction for each consumer at their given level of income. This would occur when the price of goods is equal to the marginal benefit (will be discussed in the next section). The PPF curve cannot tell us anything about the preferences of individuals so we cannot see if the economy is being allocatively efficient.
Any point outside the PPF boundary is unattainable. This is because at the moment we do not have the resources or the technologies to produce the combination of goods. Point t is an example of an unattainable point.
Like I said, any point on the PPF curve is productively efficient. But is it allocatively efficient? Allocative efficiency is where the current combinations of goods and services produced and sold, give the maximum level of satisfaction for each consumer at their given level of income. This would occur when the price of goods is equal to the marginal benefit (will be discussed in the next section). The PPF curve cannot tell us anything about the preferences of individuals so we cannot see if the economy is being allocatively efficient.
Economic Growth
In the first diagram, point t was currently unattainable. However, over time the economy changes. More resources can found, new technologies can be invented and firms carry out investment. All of these have an effect on the productive potential of the economy. Suppose there was to be an increase in technology, which increased efficiency in the economy. This would mean that the same level of resources could produce more output (more wine and more cotton). This would be represented by an outwards shift of the PPF cure. Furthermore, suppose that we had an increase in one of the factors of production. This increase could be in the supply of labour through immigration. As the labour supply has increased the economy can now produce more and this is again represented by an outwards shift of the PPF curve.
In addition to positive effects, we can also have negative effect on the productive potential of the economy. One affect could be a war that destroys a large amount of capital (such as factories and machines). This means that the economy cannot produce as much as it could before. On the diagram this is represented by an inwards shift of the PPF curve.
Economic growth is represented by an outwards shifts of the PPF curve.
The graph below represents a positive effect on the productive potential of the economy. Now point t can be achieved. This point is productively efficient but we do not know if it is allocatively efficient, as we have not taken into account the preferences of each individual consumer.
In the first diagram, point t was currently unattainable. However, over time the economy changes. More resources can found, new technologies can be invented and firms carry out investment. All of these have an effect on the productive potential of the economy. Suppose there was to be an increase in technology, which increased efficiency in the economy. This would mean that the same level of resources could produce more output (more wine and more cotton). This would be represented by an outwards shift of the PPF cure. Furthermore, suppose that we had an increase in one of the factors of production. This increase could be in the supply of labour through immigration. As the labour supply has increased the economy can now produce more and this is again represented by an outwards shift of the PPF curve.
In addition to positive effects, we can also have negative effect on the productive potential of the economy. One affect could be a war that destroys a large amount of capital (such as factories and machines). This means that the economy cannot produce as much as it could before. On the diagram this is represented by an inwards shift of the PPF curve.
Economic growth is represented by an outwards shifts of the PPF curve.
The graph below represents a positive effect on the productive potential of the economy. Now point t can be achieved. This point is productively efficient but we do not know if it is allocatively efficient, as we have not taken into account the preferences of each individual consumer.