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Take–away of today’s lecture
1. Basic Economic Questions
2. Production Possibility Curve
Lecture Outcome
1. Describing the basic economic problems
2. Student will be able to understand and correlate
the concept of opportunity cost between two
products/decisions
Let’s recall previous content
1. How short period is different from long period?
Identify the difference with the help of an
example.
2. What are the different forms of Economic
Analysis? Why Normative economics plays an
important role in business economics?
Basic Economic Problems
Kinds of Economic Decisions
The fundamental problems faced by an economy are:
1. What to Produce?
This relates to the type and range of goods to be
produced
2. How to Produce?
This relates to the means of production (Labour or
capital)
3. For whom to Produce?
This relates with the problem of distribution of
the product among various economic agents
4. Are Resources used Economically?
5. Are Resources Fully Employed?
6. Is the Economy Growing?
The first four problems are related to
microeconomics whereas 5th and 6th problem is
related with macroeconomics.
Polling question
Scarcity is a situation in which
(a) People cannot satisfy all their wants
(b) Most people can get only bare necessities
(c) People can satisfy all their wants
(d) Some people can get all they want and some
cannot.
Production Possibility Curve
Used to explain the basic
economic concepts: Scarcity,
Choices and Opportunity cost
The PPC shows the various possible combinations of
goods and services
produced within a specified time period
with all its resources fully and
efficiently employed.
Assumptions
1. The economy is operating in full employment
and full production capacity (full efficiency).
2. The amount of resources available are fixed.
3. The state of technology does not change
throughout the production.
Good X Good Y
0 15
1 14
2 12
3 9
4 5
5 0
SHAPE OF PPC
Good Y
16 PPC IS CONCAVE
14
Increasing Opportunity Cost
12
10
4
2
Good X
0 1 2 3 4 5
Good Y
If it allocates all its resources to Good Y, it will
produce at Point A.
16
A If it allocates all its resources to Good X, it will
produce at Point F.
14
12 C
If the country is at Point C on the
10 D PPC, it can produce the
combination of 2 units of Good X
8 and 12 units of Good Y.
6 Point D shows the production of
3 units of Good X and 9 units of
4 Good Y.
2
F
0 1 2 3 4 5 Good X
Good Y
16 Z
A
B UNATTAINABLE Point outside the PPC
14 (Point Z) ➔ SCARCITY
C
12 Y
Any point along the PPC
➔ CHOICES
10 D
8
ATTAINABLE
6 Point inside the PPC
(Point Y) ➔ Waste E
4 of resources and
inefficiency
2
F
0 1 2 3 4 5 Good X
How do we measure slope of PPC
• The value of slope at any point on the Production
Possibilities Frontier (PPF) curve or Production
Possibilities Curve (PPC) indicates the opportunity
cost.
• It is also called as marginal rate of transformation
(MRT). Slope of the PPC defines the rate of
producing two goods with available resources and
technology.
Polling question
______________ is the locus of all such combination of two
commodities which can be produced in a country with its given
resources and technology?
a. Production Possibility Curve
b. Marginal Rate of Substitution
c. Indifference Curve
d. None of the above
Shape of PPC
• Increasing Opportunity Cost- Concave PPC
• Constant Opportunity Cost- Linear PPC
Constant Opportunity Cost Increasing Opportunity cost
Constant opportunity cost is a Increasing opportunity cost is a
case of perfect substitution so case when more of a special
that the production possibility good is made, the cost in terms
curve is linear. of other goods or services
grows.
Factors that influence Shift in PPC
Good Y
1. Economic
Growth 16
When the country
14 enjoys economic
growth, the PPC
12 bounds outward.
10
8
When the country
6 is struck by natural
disasters, economic
4 growth will decline
and the PPC will
2 shift to the left.
Good X
0 1 2 3 4 5
Good Y
2. Improvements
in Technology 16
Technology increases the
14 production of Good Y.
12
Technology increases the
10 production of Good X.
4
2
0 Good X
1 2 3 4 5
Good Y
3. Population
16
14
Increase in
population
12
10
8
Decrease in
6
population
4
2
0 Good X
1 2 3 4 5
