110Ch02 - Chapter 2 The Economic Problem Objectives...

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Chapter 2 The Economic Problem: Objectives Defining the production possibilities frontier and calculating opportunity cost Distinguishing between production possibilities and preferences and describing an efficient allocation of resources Explaining how current production choices expand future production possibilities Explaining how specialization and trade expand our production possibilities Explaining why property rights and markets have evolved
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Production Possibilities and Opportunity Cost The production possibilities frontier ( PPF ) is the boundary between those combinations of goods and services that can be produced and those that cannot. We look at a model economy in which everything remains the same ( ceteris paribus ) except pizzas and CDs.
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Production Possibilities and Opportunity Cost Points inside and on the frontier, e.g. A , B , C , D , E , F , and Z are attainable. Production Efficiency Cannot produce more of one without producing less of the other. Points on PPF are efficient. Points inside are inefficient.
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Production Possibilities and Opportunity Cost A move from C to D , increases pizza production by 1 million. CD production decreases from 12 million to 9 million, a decrease of 3 million. The opportunity cost of 1 million pizza is 3 million CDs. One pizza costs 3 CDs.
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Production Possibilities and Opportunity Cost A move from D to C , increases CDs production by 3 million. Pizza production decreases by 1 million. The opportunity cost of 3 million CDs is 1 million pizza. One CD costs 1/3 of a pizza.
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Production Possibilities and Opportunity Cost Note that the opportunity cost of CDs is the inverse of the opportunity cost of pizza. One pizza costs 3 CDs. One CD costs 1/3 of a pizza.
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Production Possibilities and Opportunity Cost Because resources are not all equally productive in all activities, the PPF bows outward—is concave. The outward bow of the PPF means that as the quantity produced of each good increases, so does its opportunity cost.
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Using Resources Efficiently Points along the PPF are efficient in terms of production. To determine which of the alternative efficient quantities to produce, we compare costs and benefits. The PPF and Marginal Cost The PPF determines opportunity cost. The marginal cost of a good or service is the opportunity cost of producing one more unit of it.
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Marginal cost of pizza As we move along the PPF in part a (shown here) the opportunity cost of one pizza, which is the marginal cost of pizza, increases.
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Marginal Cost of Pizza The blocks illustrate the increasing opportunity cost of pizza.
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