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Unformatted text preview: Production Possibilities Scarcity, Tradeoffs, and Opportunity Cost The Economy The ECONOMY is the mechanism through which resource use is organized to satisfy the desires of people living together in a society s In any economy decisions must be made to determine: 1. WHAT will be produced 2. HOW will it be produced 3. TO WHOM will it be distributed s The Process of Production Inputs Labor Capital Natural resources Entrepreneurship Production Technology Goods and Services 1st St. Outputs ECONOMIC MODELS An economic model is a means of explaining how a sector of the economy functions s Models consist of: s 1. Economic Variables s 2. Assumptions s 3. Implications s Economic models are abstractions that use logic to establish cause-and-effect relationships among economic variables s A Model of Production Possibilities: Variables: Outputs of two alternative goods per year s Assumptions: s 1. Fixed quantity and quality of economic resources s 2. Only two outputs s 3. Some inputs are specialized s 4. Technology is given s A Production Possibilities Curve Food per year F2 B D Infeasible F1 C Inefficient A Points on the production possibilities curve satisfy the criterion of productive efficiency indicating the maximum output of any one good given the output of the other, current technology, and resources available. 0 C2 C1 Clothing per year Implications: s If we achieve productive efficiency then in a given period, when resources and technology are fixed, we can obtain more of one item only by sacrificing the opportunity to produce alternative items. Scarcity of resources and fixed technology limits how much we can produce in a given period The Tradeoff between "Guns" and "Butter" Military Goods per year (GUNS) D 1M C 1M B T 1M 0 Increasing the output of "Guns" reduces the output of "Butter". The opportunity cost of one unit more of military goods increases as more are produced. A Other Goods and Services per year (BUTTER) The Law of Increasing Costs Because some resources are specialized, the opportunity cost of each additional unit of output increases as more of a good is produced over a given period. s The "bowed in" shape of the production possibilities curve reflects the law of increasing costs s An Economic Horror Story: The Great Leap Forward and Famine in China from 1958-1962 Agricultural Products A B Industrial Equipment The Trade off Between Environmental Quality and other Goods and Services Environmental Improvement services per year The opportunity cost of the same quantity of environmental quality improvement is higher at D than at C D Protection of the environment involves increases in costs of production that raise the price of products whose production or use results in pollution. As prices of these products rise we buy fewer of them thereby 0 trading off these items for cleaner air or water. C Other goods and services per year The Value of U.S. Resources devoted to the production of health care has increased from 6% in 1965 to 16% in 2007 Health Care Services per Year We are giving up more for health care than we have in the past and the cost of additional health care has been increasing B= 2007 A= 1965 0 Other Goods and Services per year (Billions of Dollars) ...
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This note was uploaded on 10/13/2008 for the course EC 205 taught by Professor Hymen during the Fall '08 term at N.C. State.

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