Tuesday, 24 November 2009

Production Possibility Frontiers (PPFs)

What is a PPF?

A PPF is an economic model which shows all the maximum possibilities of two goods that an economy can produce.

Why is the frontier downward sloping?

That as you go further on the frontier you will incur more opportunity cost, which is benefits foregone from the next best opportunity.

How can we calculate oppurtunity cost?

Total given up / total gained
(total given up divided by total gained)

What happens when the frontier is a straight line?

This tells us that the opportunity cost at every point is the same whereas on a curve we see that the opputunoity cost changes as you travel across the curve.

Why the frontier normally bowed outwards?

This is do with the increasing oppurtunity cost. The further you travel on the curve the bigger oppurtunity one has.

Explain why (a) points can be inside of the PPF? (b) points can be outside the PPF?

(a) This can be if resoures are not used to the their optimal level. For example labour is a resource and if unemployment is there then what happens is that the resources are not being used to maximum potential so the economy is working at a point below the optimal level which is depicted on the curve.

(b) This is not possible. It is not possible for an economy to operate at a level outside of the curve because the curve show the maximum points so outside it would be impossible. However, if resources are increased then the curve shifts.

Why does the frontier (a) shift right? (b) shift left?

(a) The frontier as we mentioned before can shift to the right if resources are increased. If resources are increased then there will be a new maximum level as more can be produced therefore the curve shifts right.

(b) The frontier can shif tothe left hand side. If resources can be increased then they can also be decresed too. For example, if a natural disaster takes place then the amount of resources will decreases and this means that optimal levels will decrease too so the curve is shifted inward.

How does resources such as; (a) land (b) labour (c) capital (d)technology increase in order to shift the frontier outward?

(a) Land can be increased in many ways e.g. if brownfield sites are generified, if other countries are invaded or new land like mountains are formed.

(b) Labour can be increased in several ways too e.g. if immigration increases, training/education increases or in the long-term a baby-boom will cause labour increase.

(c) Capital can increase too. Capital goods are things like machinery which in the long term help increase productivity. So investment in new capital, technological advances and automation will lead to this. It is important to recognise that consumer goods will provide short-term wealth to the economy but capital goods will bring long-term wealth.

(d) Technologicl advancement are similar. However, these include factors like if medical equipment is advanced than it will increase labour as people will be more healthy or if a new type of fast transport is invented then it will enable people to get to work faster - increasing output.

Explain how a PPF would be used in the real world?

In the real world PPFs are used with axes being 'consumer goods' and 'capital goods' as an economy can only make these two types of goods (this is a simplistic view). Analyst would see that if we should or shouldn't, and if we should then by how much we should invest in capital goods as this will in the long-term increase the output of the country. If for example an economy has just incurred a natural disaster then they would have focus more on consumer goods as demand for them would be higher and they need short-term goods like blankets not long-term capital.

Does the PPF have any disadvantages?

The PPF being an economic model is based on assumption and ceteris paribus. There are three assumptions being made with a PPF and these are:

1. We assume that in an economy there is only two types of goods.
2. That the units measuring one axis are the same units on the other axis. For example if our axis had food and clothes then we are assuming that both are measured in tonnes.
3. We have to also assume that it is over a fixed time period such as a year.

Also, I mentioned above it is based on ceteris paribus, which is all things being kept at a constant. For example if we look at our clothes and food PPF again we will have to take in account that subsidies, taxes etc. are all kept the same so the PPF does not affect it.

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