Basic Tools in Economic Analysis/Next/Next

PRODUCTION POSSIBILITY FRONTIER
The concept of Production Possibility Curve (PPC) is developed by the famous economist Prof. Samuelson. It deals with the basic tool and core subject matter of modern economics particularly scarcity, choice and efficiency of resources.

Production Possibility Curve is a graphic presentation of alternative production possibilities facing an economy. As the total productive resources of the economy are limited, the economy has to choose between different goods. The productive resources can be employed for the production of various alternative goods. The economy has to decide which goods are to be produced more and which one less. In deciding what amount of different goods are to be produced, the society would in fact be deciding about the allocation of resources among different possible goods. How much labour should go into raising wheat on the farms and how much should be employed in the manufacturing cloth. How many factories would produce armaments for the army and how many should produce consumer goods for civilians. We assume fixed resources, full employment, complete technical efficiency and a given technology.

Production Possibility Curve can be illustrated by an example. Let us suppose an economy has certain amount of resources which can be used for producing two goods namely mobiles and cloth. If all the resources are used for production of cloth then production of mobiles is impossible and vice versa. The economy is supposed to produce a combination of both the goods. The various production possibilities of both the goods is depicted in the following table and a diagram.

Possibilities Clothes (Thousands Meters.) Mobiles A O 20  B 1 19  C 2 17  D 3 14  E 4 10  F 5 00

With the above possibilities, if all resources are used for the production of Mobiles, then production of clothes will be zero. On the other hand if the resources are entirely used for production of clothes then production of mobiles will be zero. In between these two extremes, there are a number of other possibilities. When the production of clothes is increased the production of mobiles will come down and vice versa. The production possibilities can be shows with the help of below diagram.

Diagram

In the above diagram, PP1 is the production possibility curve. It explains the schedule along with the two goods can be substituted for each other. If all the resources are used for the production of clothes, production of mobiles will be zero and vice versa. Points B,C, D and E represents the combinations of both the goods. If combination B is selected more of mobiles and less of clothes will be produced. On the other hand, combination of E signifies production of more clothes and less of mobiles. PPC shows the maximum amount of the two goods that can be produced given the inputs and technology.

The PPC has two properties: (a) PPC slopes downwards from left to right and (b) It is concave to the Origin point.PPC helps to find out solutions for basic problems such as- what to produce, how to produce, whom to distribute, how to achieve optimum utilization of resources, etc..

The problem of scarcity and concept of Opportunity cost are well brought out by production curve. PPF also indicates the level of efficiency attained by an economy in resource utilization. Moreover, the stage of development of the economy is also indicated by PPC.

Economic Growth and Shift in the Production Possibility Curve:

It is important to understand, if the productive resources expand or increase the PPC will shift outward and to the right showing that more of both goods can be produced than before. Further, when the economy makes progress in technology, that is, when the scientists discover new and innovative ways of doing things, the PPC will shift to the right and will indicate the possibility of producing more of both the goods such as from P-P1 to P2- P3 in the below diagram. The following diagram depicts the shift in the process of development.

Technological progress by improving productive efficiency allows the society to produce more of both the goods with the given and fixed amount of resources. This will mean full utilization of available labour and capital resources, the level of national income, output and employment will rise and the existing unemployment and under utilization of productive capacity will be removed. These measures aimed at generating economic growth will involve stepping up of the rate of capital accumulation and making progress in technology.

SCATTER DIAGRAM:

It is in the form of a chart indicating the relationship between two variables. One variable is represented on the X axis and the other on the Y axis. One dot on the graph will represent the value of both the variables. The relation between the two variables is indicated by the way the dots lies in the scatter diagram. Correlation between the two variables is indicated by either an upward or downward movement. If it is not possible to trace any trend in the diagram, then the variable do not have any correlation chart. Scatter diagrams can shows in the following different shapes:

Diagram

DERIVATIVES AND LIMITS:

The term derivative can be understood by looking into the function Y = f(x). In this case the value of ‘y’ also depends on the changes in the value of x. In such a case we can find the rate of change in y in response to change in x.

The derivative explains the rate of change in y when ∆x is very small. If units in which x and y, are given or known, the derivative can be expressed as so many units of y per units of x. The derivatives is itself is a function of x. In other words, for ach value of x, there is unique corresponding value for the derivatives function. The derivative of a function gives rate of change of f (x) at x. If it is positive the function is increasing at x and if it is negative, the function is decreasing at x.

One of the major problems calculus deals with is ‘to find the slope of the tangent line at a point on a curve’.

Given a simple function consider, a fn f(x) and any two points P (x1y1) and Q (x2 y2) on it.

The slope of the chord PQ is obtained by ΔyΔx. As q move closer and closer to point P, the curve reduces itself to a straight line which just touches f (x) only at a point and passes off. This is the geometrical tangent to f(x) at P, and the slope of this tangent is called the derivative. However, derivative is the slope of the tangent at a point on the curve. Therefore we have to take

limx→0ΔyΔx

If the limit of the incremental ratio at x, given by:

limh→0f(x=h-(x)exists, it is called the derivatives of f(x) at x.

Diagram

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Conclusion

References:


 * 1) Lipsey and Steiner: Economics,
 * 2) Lipsey: An Introduction to Positive Economics,
 * 3) Samuelson Paul: Economics,