Scarcity, Efficiency, and Scarcity, Efficiency, and Growth Growth - PowerPoint PPT Presentation

Econ Dept, UMR Presents Scarcity, Efficiency, and Scarcity, Efficiency, and Growth Growth

Starring Starring The 3 Basic Questions, and � The 3 Basic Questions, and � The Production Possibilities � The Production Possibilities � Model Model

Featuring Featuring The Invisible Hand Argument for � The Invisible Hand Argument for � coping with scarcity coping with scarcity Three Basic Questions � Three Basic Questions � Production Possibilities Model � Production Possibilities Model � Marginal Opportunity Cost � Marginal Opportunity Cost � Efficiency � Efficiency �

Part II Part II Production Possibilities Model � Production Possibilities Model � Marginal Opportunity Cost � Marginal Opportunity Cost � Efficiency � Efficiency �

Production Possibilities Model Production Possibilities Model Useful to show implications of scarcity � Useful to show implications of scarcity � Assumptions of the model � Assumptions of the model � � There are only 2 things we want There are only 2 things we want � � Resources and technology are held Resources and technology are held � constant constant � The trade The trade- -off is represented by off is represented by � Increasing marginal cost, or � Increasing marginal cost, or � Constant marginal cost � Constant marginal cost �

Concepts Illustrated by the PP Concepts Illustrated by the PP Model Model What? (where we choose to produce) � What? (where we choose to produce) � How? (we want to choose a point on � How? (we want to choose a point on � the frontier) the frontier) Marginal Opportunity Cost � Marginal Opportunity Cost � � Constant (The PPF is linear) Constant (The PPF is linear) � � Increasing (The PPF is concave) Increasing (The PPF is concave) � Scarcity � Scarcity � Productive Efficiency � Productive Efficiency � Growth � Growth �

Production Possibilities Table Production Possibilities Table Production Possibilities Table - - a table a table � Production Possibilities Table � that shows all combinations of goods that shows all combinations of goods and services that can be produced given and services that can be produced given the resources of society and the existing the resources of society and the existing state of technology state of technology For simplicity we assume all we want � For simplicity we assume all we want � are two things: House and All Other are two things: House and All Other Goods (AOG) Goods (AOG)

Production Possibilities Table: Production Possibilities Table: A Few Possible Combinations A Few Possible Combinations AOG/t Houses/t 112 0 98 7 80 13

Production Possibilities Table Production Possibilities Table (Complete) (Complete) All Other Goods/t Housing/t 112 0 98 7 80 13 60 18 40 22 22 25 8 27 0 28

Production Possibilities Production Possibilities Frontier (Table) Frontier (Table) This table let’s us know how much our � This table let’s us know how much our � economy can produce. Let’s show these economy can produce. Let’s show these possibilities graphically. possibilities graphically. To do this we measure the quantity of � To do this we measure the quantity of � each good on the x and y axes. each good on the x and y axes.

Production Possibilities (per Production Possibilities (per month) month) If all resources are used to make AOG � If all resources are used to make AOG � we can produce 112 AOG in one month we can produce 112 AOG in one month and implicitly no Houses. and implicitly no Houses. Let’s say we figure that it’s probably a � Let’s say we figure that it’s probably a � good idea to make some Houses. What good idea to make some Houses. What resources do we shift from AOG to resources do we shift from AOG to House production? House production? � To anticipate: shift resources such that the To anticipate: shift resources such that the � opportunity cost of the houses is as low as opportunity cost of the houses is as low as possible possible

Production Possibilities Production Possibilities Frontier Frontier AOG/t 120 Note the time 90 symbols, t 60 30 0 Housing/t 7 14 21 28

Production Possibilities Production Possibilities Frontier Frontier AOG/t 120 90 This is the first row in the table - where there are no houses and 112 60 units of AOG 30 0 Housing/t 7 14 21 28

Production Possibilities Production Possibilities Frontier Frontier AOG/t 120 90 This is the second row in the table - where there 60 are 7 houses and 98 units of AOG produced 30 0 Housing/t 7 14 21 28

Production Possibilities Production Possibilities Frontier Frontier AOG/t These are all of the 120 production possibilities from our table 90 60 30 0 Housing/t 7 14 21 28

Production Possibilities Production Possibilities Frontier Frontier AOG/t When we connect the points 120 we have the “Production Possibilities Frontier” 90 Note the 60 general “concave” or 30 “bowed out” shape 0 Housing/t 7 14 21 28

Opportunity Cost Opportunity Cost Opportunity Cost - - the benefits the benefits � Opportunity Cost � foregone from the next best alternative foregone from the next best alternative when a choice is made when a choice is made “There is no such thing as a free lunch.” � “There is no such thing as a free lunch.” � All costs are benefits, benefits foregone � All costs are benefits, benefits foregone � Thus all costs are subjective, not � Thus all costs are subjective, not � objective objective And our measurement is not then of � And our measurement is not then of � costs, but proxies, i.e., stands ins, for costs, but proxies, i.e., stands ins, for cost cost

Opportunity Cost in Our Opportunity Cost in Our Economy Economy When we make 7 houses, we are using � When we make 7 houses, we are using � resources resources Those resources could have been used � Those resources could have been used � to make something else, specifically, to make something else, specifically, they could have made 14 units of AOG they could have made 14 units of AOG Thus the opportunity cost of making � Thus the opportunity cost of making � the first 7 houses are the benefits given the first 7 houses are the benefits given up by not having 14 AOGs up by not having 14 AOGs

Per Unit Opportunity Cost Per Unit Opportunity Cost If the opportunity cost of making 7 � If the opportunity cost of making 7 � houses is 14 AOGs, then the average houses is 14 AOGs, then the average opportunity cost of making 1 house opportunity cost of making 1 house must be 2 AOGs (= 14/7) be 2 AOGs (= 14/7) must Most of the time when we are thinking � Most of the time when we are thinking � about opportunity cost, it is easier to about opportunity cost, it is easier to think of it in “per unit” terms. In other think of it in “per unit” terms. In other words, ask yourself “what is the words, ask yourself “what is the opportunity cost of doing one more opportunity cost of doing one more thing, another house, another hour of thing, another house, another hour of study, etc?” study, etc?”

How to Find Per Unit How to Find Per Unit Opportunity Cost Opportunity Cost A simple way to find the per unit � A simple way to find the per unit � opportunity cost is to use the following opportunity cost is to use the following equation: equation: � Opportunity Cost of a Good or Service Opportunity Cost of a Good or Service � Produced = Produced = Units of Good or Service Forgone Units of a Good or Serve Produced

Opportunity Cost and the PPF Opportunity Cost and the PPF AOG/t 120 Amount of AOG/t Given Up 90 60 Amount of Houses/t Gained 30 0 Houses/t 7 14 21 28

Opportunity Cost and the PPF Opportunity Cost and the PPF AOG/t 120 90 Amount of AOG/t Given Up 60 Amount of 30 Houses/t Gained 0 Houses/t 7 14 21 28

Opportunity Cost and the PPF Opportunity Cost and the PPF We know that the per unit opportunity � We know that the per unit opportunity � cost of Houses is AOG given up cost of Houses is AOG given up divided by Houses gained divided by Houses gained Graphically, that is the same thing as � Graphically, that is the same thing as � the vertical change divided by the the vertical change divided by the horizontal change (if we ignore the horizontal change (if we ignore the negative sign). negative sign).

Slope and Marginal Cost Slope and Marginal Cost When the PPF is concave throughout � When the PPF is concave throughout � you measure the slope at a point by you measure the slope at a point by drawing a tangent at that point drawing a tangent at that point The slope of that tangent is the � The slope of that tangent is the � opportunity cost in the limit (economists opportunity cost in the limit (economists call it Marginal Cost of the good on the x call it Marginal Cost of the good on the x or, horizontal axis) or, horizontal axis) The inverse of that slope is the Marginal � The inverse of that slope is the Marginal � Cost of the good on the y, or vertical, Cost of the good on the y, or vertical, axis axis