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# Microecon 1021A- Chapter 2

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School
Department
Economics
Course
Economics 1021A/B
Professor
Ronald Wintrobe
Semester
Fall

Description
Chapter 2 The Economic Problem 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. • The figure below shows the production possibilities frontier for cola and pizza. • The table lists some combinations of the quantities of cola and pizza that can be produced given the resources available. • The dots marked A, B, C, D, E, and F on the PPF correspond to the six combinations in the table. • If we stop producing pizza and move all the people who produce pizza into producing cola, we produce at point A. • If we stop producing cola and move all the people who produce cola into producing pizza, we produce at point F. • We can produce at any point on the PPF—on the blue line—or inside the PPF—in the orange area. • We cannot produce at any point outside the PPF. • We achieve production efficiency if we produce goods and services at the lowest possible cost. • Production efficiency occurs at all points on the PPF. • Possible production points inside the PPF such as point Z are inefficient. • The opportunity cost of an action is the highest-valued alternative forgone. • If we move from point C to point D, we must give up 3 million cans of cola to produce 1 million more pizzas. The additional million pizzas cost 3 million cans of cola. • Opportunity cost is a ratio. • It is the decrease in the quantity produced of one good divided by the increase in the quantity produced of the other good as we move along the production possibilities frontier. • The PPF reflects increasing opportunity cost. • The PPF is bowed outward because resources are not all equally productive in all activities. Using Resources Efficiently • Marginal cost is the opportunity cost of producing one more unit. • Let’s find the marginal cost of pizza. • In figure part (a) above if pizza production increases from zero to 1 million, the quantity of cola decreases from 15 million cans to 14 million cans. • So the opportunity cost of the first million pizzas is 1 million cans of cola. • If pizza production increases from 1 million to 2 million, the quantity of cola decreases from 14 million cans to 12 million cans. • So the opportunity cost of the second million pizzas is 2 million cans of cola. • If pizza production increases from 2 million to 3 million, the quantity of cola decreases from 12 million cans to 9 million cans. • So the opportunity cost of the third million pizzas is 3 million cans of cola. • The opportunity cost of a million pizzas is also the marginal cost of producing a million pizzas. • Figure part (b) graphs this marginal cost. • Preferences are a description of a person’s likes and dislikes. • To describe preferences, economists use marginal benefit. • Marginal benefit of a good or service is the benefit received from consuming one more unit of it. • The marginal benefit curve shows the relationship between marginal benefit of a good and the quantity of that good consumed. • The more we have of any good or service, the smaller its marginal benefit and the less we are willing to pay for an additional unit of it. • We call this tendency the principle of decreasing marginal benefit. • The figure below shows the marginal benefit curve. • The points
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