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Chapter 5 - ECON 1000

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ECON 1000
Sam Lanfranco

Chapter 2 The Economic ProblemOctober11111200 PMProduction Possibilities and Opportunity CostIf you want to increase production of one good you must decrease production of something elseThe production possibilities frontieris the boundary between combinations of goods and services that can be produced and those that cannotPPF focuses on two goods at a time and hold quantities produced of all other goods and services constantIt is a model economy where everything remains the same except for production of two goods we are consideringProduction Possibilities FrontierThe PPF for cola and pizza show limits to production of these two goods given total resources and technologiesPPF illustrates scarcity because we cannot attain points outside of frontierCan only produce points inside the PPF or on the PPFGraph also shows you can stop producing one good and move it to people to produce another goodProduction EfficiencyAchieved if goods and services are made at lowest possible costOccurs at points onthe PPFIf inside the PPF it is inefficient because too much is given up to produce a certain goodThis means resources are unused or misallocated or bothUnused idle but could be workingMisallocated assigned to tasks for which they are not best matchedSkilled pizza chefs to work in cola and skilled cola to work in pizzaTradeoff Along PPFEvery choice alongPPF involves tradeoffWe have a set amount of labour land capital and entrepreneurship and can produce goods and services but we are limited in what we can produceLimit defines boundary between what we can attain and what we cannotBoundary is the real worlds production possibilities frontier and defines tradeoffs we must makeTradeoffs involve a cost an opportunity costOpportunity CostOpportunity cost of an action is highestvalued alternative forgonePPF allows you to calculate opportunity costOnly two goods so there is only one alternative forgoneOpportunity cost of producing an additional pizza is the cola we mustforgoOpportunity cost of producing an additional cola is the pizza we must forgoMove from one point to anotherIf you get X more pizza but Y fewer cans of cola that means one pizza costs YX cans of colaOpportunity cost is a ratioDecrease in quantity produced of one good divided by increase of quantity produced of another goodBecause it is a ratio opportunity cost of producing an additional can of cola is equal to inverse of opportunity cost of producing an additional pizzaIncreasing Opportunity CostOpportunity cost of a pizza increases as the quantity of pizza produced increasesExample it costs 30 a barrel to get crude oil out of ground and to refineryOpportunity cost of barrel is 30When price of crude oil doubles it is worthwhile for people to extract more crude oil and from highercost sourcesAs production increases opportunity cost risesOpportunity cost of extracting oil is 50 a barrelAs we produce more crude oil we slide around our PPF and the opportunity cost of producing oil risesPPF is bowed outward because resources are not all equally productive in all activitiesExperienced X producers are not as experienced in producing YResults in less productive additional resources used to produce good and larger opportunity cost of a unit of that goodUsing Resources EfficientlyProduction efficiency is at every point of PPFAllocative efficiency When goods and services are produced at lowest possible cost and in quantities that provide greatest possible benefitMust measure costs and benefitsPPF and Marginal CostMarginal CostCost of producing one more unit of itCalculated from the slope of the PPFCalculate cost for 1 million X and graph itRefer to textbook page 35PreferencesDescription of one persons likes and dislikesMarginal benefitConcrete way to describe preferenceIt is the benefit received from consuming one more unit of itMeasured by most people are willing to pay for an additional unit of itYou are willing to pay less for a good than it is worth to you but not moreMost you are willing to pay for something measures its marginal benefitMarginal benefit curveShows the relationship between marginal benefit of a good and quantity consumedPrinciple of decreasing marginal benefitThe more we have of any good or service the smaller is its marginal benefit and the less we are willing to pay for an additional unit of itIt decreases because we like varietyThe more we consume of one good or service the more we tire of it and prefer to switch to something elseAllocative Efficiency ECON 1000 Page 1 Allocative EfficiencyCannot produce more of one good without giving up some other goodThe best point is where we cannot produce more of one good without giving up some other good that provides greater benefitIf marginal benefit is greater than cost then you produce moreIf marginal cost is greater than benefit then you produce lessEconomic GrowthIncreasing standard of living but does not overcome scarcity and avoid opportunity costTo make economy grow we face a tradeoffThe faster we make production grow the greater the opportunity cost of economic growthCost of Economic GrowthEconomic growth comes fromTechnological ChangeDevelopment of new goods and of better ways of producing goods and servicesCapital AccumulationGrowth of capital resources including human capitalTC and CA provides us with enormous quantity of cars giving us more transportationTo have more TC and CA you must decrease production of consumption goods and servicesTC and CA have opportunity costRefer to textbook page 28Fewer resources for producing pizza dn more for ovens the greater the future expain of production possibilitiesThe PPF will rotate outwardTo make more ovens you must make fewer pizzasEconomic growth does not abolish scarcityA Nations Economic GrowthCanada v Hong Kong is an example of how our choices on what and how to produce affect rate of economic growthIf a nation devotes all factors of production to producing consumption goods and services production possibilities in the future will remain the sameTo expand production possibilities a nation must devote fewer resources to producing consumption goods and services and someto accumulating capital and developing new technologiesDecrease in todays consumption is opportunity cost of tomorrows increase in consumptionGains from TradeProducing only one good or a few goods is called specializationComparative AdvantageIf one can perform activity at a lower opportunity cost than anyone elseDifferences arise form differences in individual abilities and from differences in characteristics of other resourcesExample land can be fertile and another can be infertileOne machine can have great precision but hard to operate another can be fast but breaks down oftenAbsolute AdvantageOne who is more productive than all othersInvolves comparing productivity production per hour where comparative advantage compares opporunity costsOne who has absolute advantage does not have a comparative advantage in everythingJoni Mitchell is a better folk singer and a better painter than mostAbsolute advantage in these two activitiesWhen compared to others she is a better folk singer than a painterComparative advantagein folk singingAbility and resources vary from person to person This is why people have different opportunity costs which are the source of comparative advantageRefer to page 40 for exampleDynamic Comparative AdvantageResources and technologies available determine comparative advantages that individuals and nations haveWhen you repeatedly produce a particular good or service you become more productiveThis is called learningbydoingLearning by doing is the basis of dynamic comparative advantageDynamic comparative advantage is a comparative advantage that a person has acquired by specializing in an activity and becoming the lowest cost producer as a result of learningbydoing ECON 1000 Page 2
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