1 Production Possibilities, Opportunity Cost and Economic Growth ©2006 South-Western College Publishing.

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Production Possibilities, Opportunity Cost and

Economic Growth

©2006 South-Western College Publishing

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What are the three fundamental

economic questions?

What to produce?How to produce?

For whom to produce?

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What are two key concepts in this

chapter?Opportunity costsMarginal analysis

People face tradeoffs.

“There is no such thing as a free lunch!”

People face tradeoffs.

To get one thing, we usually have to give up another thing. Guns v. butter Food v. clothing Leisure time v. work Efficiency v. equity

Making decisions requires trading off one goal against another.

Decisions require comparing costs and benefits of

alternatives.

Whether to go to college or to work? Whether to study or go out on a date? Whether to go to class or sleep in?

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What isopportunity cost?The best alternative sacrificed for a chosen alternative

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What opportunity cost am I experiencing now?

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Can opportunity cost be something other

than money? Yes, that most desired activity that you are presently giving up is considered an opportunity cost

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Scarcity

Choice

OpportunityCost

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What ismarginal analysis?An examination of the effects of additions to or subtractions from a current situation

Rational people think at the margin.

Marginal changes are small, incremental adjustments to an existing plan of action.

People make decisions by comparing costs and benefits at the margin.

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What is an example of marginal analysis?

When your benefit of studying these slides exceeds the opportunity cost, you will spend time studying these slides

Our Second ModelThe Production Possibilities

Frontier

The production possibilities frontier is a graph showing the various combinations of output that the economy can possibly produce given the available factors of production and technology.

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What is technology?

The body of knowledge and skills applied to how goods are produced

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What assumptions underlie the productions

possibilities model?• Fixed resources• Fully employed resources• Technology unchanged

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What is the conclusion of the production

possibilities curve?Scarcity limits an economy to points on or below its production possibilities curve

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What is the law of increasing

opportunity costs?

The principle that the opportunity cost increases as production of one output expands

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What iseconomic growth?

The ability of an economy to produce greater levels of output, an outward shift of its production possibilities curve

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What makes possible economic growth?

Research and development of new technologies

Increase production in excess of worn out capital

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Technologicaladvance

Economicgrowth

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Critical Thinking

What happens when a country does not invest in new

technology?

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What happens when a country does not invest

in new technology?Everything else being equal,

the country will not grow

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What is investment?The accumulation of capital, such as factories, machines, and inventories, that is used to produce goods and services

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What is the opportunity cost of

investment?The consumer goods that could have been purchased with the money spent for plants and other capital

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What does an increase in investments make

possible in the future?Economic growth and more goods and services

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What conclusion can we make about investments?

A nation can accelerate growth by increasing production of capital goods in excess of the capital being worn out