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Lecture 2

Economics 1021A/B Lecture Notes - Lecture 2: Human Capital, Capital Accumulation, Allocative Efficiency


Department
Economics
Course Code
ECON 1021A/B
Professor
Terry Biggs
Lecture
2

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Lecture 2.
The production possibilities frontier (PPF) is the boundary between those combinations of
goods and services that can be produced and those that cannot.
To illustrate the PPF, we focus on two goods at a time and hold the quantities of all other goods
and services constant.That is, we look at a model economy in which everything remains the
same (ceteris paribus) except the two goods we’re considering.
Trade off- taking resources out of one good to fund another.
Ceteris paribus: everything else stays the same. Trade off is not always the same.
Labour has different skill levels, trading labour into a different category may affect the
outcome because workers are not equally skilled.
Opportunity cost if the trade off typically rises the more you change the labour to produce
another good
Any point on the frontier such as E and any point inside the PPF such as Z are attainable. Points
outside the PPF are unattainable. What gets produce is driven by demand/consumption. Changes
can shift the PPF
Production Efficiency
We achieve production efficiency if we cannot produce more of one good without producing
less of some other good.
Points on the frontier are efficient. If the resources are used to their full potential, they will produce
the most output which is called technological efficiency. No resources are slacking off or being wasted.
Making sure all resources are used to their full advantage; product. Effeciency. Technical and
capital
Any point inside the frontier, such as Z, is inefficient. At such a point, it is possible to produce
more of one good without producing less of the other good. At Z, some resources are either
unemployed or misallocated.
Tradeoff Along the PPF
Every choice along the PPF involves a tradeoff. On this PPF, we must give up some cola to get
more pizzas or give up some pizzas to get more cola
Opportunity Cost
As we move down along the PPF, we produce more pizzas, but the quantity of cola we can
produce decreases. The opportunity cost of a pizza is the cola forgone
Production Possibilities and Opportunity Cost
The quantity of pizzas increases by 1 million.
The quantity of cola decreases by 5 million cans.
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The opportunity cost of the fifth 1 million pizzas is
5 million cans of cola.
One of these pizzas costs 5 cans of cola.
All goods are divisible. If one pizza gets you 5 cans of coke. The opportunity cost of one coke is
1/5th of pizza
Resources are not equally productive hence the increase in OC. If all labour is equally skiled, it
creates a straight downward sloping straight line with the trade off constant
In moving from F to E:
The quantity of cola increases by 5 million cans.
The quantity of pizzas decreases by 1 million.
The opportunity cost of the first 5 million cans of cola is 1 million pizzas.
**One of these cans of cola costs 1/5 of a pizza.****
*y/*x= change in y over change in x
Opportunity Cost Is a Ratio
Note that the opportunity cost of a can of cola is the inverse of the opportunity cost of a pizza.
One pizza costs 5 cans of cola. One of these cans of cola costs 1/5 of a pizza.
Increasing Opportunity Cost
Because resources are not equally productive in all activities, the PPF bows outward. The
outward bow of the PPF means that as the quantity produced of each good increases, so does
its opportunity cost.
Marginal: 1 additional unit
Marginal cost is the extra cost to producing one more unit of a product ( OC)
Using Resources Efficiently
All the points along the PPF are efficient. 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.
Figure 2.2 I in the textbook states the marginal cost of a pizza.
As we move along the PPF, the opportunity cost of a pizza increases. The opportunity cost of
producing one more pizza is the marginal cost of a pizza.
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find more resources at oneclass.com
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