PRODUCTION POSSIBILITY CURVE (PPC) (Production Possibility Boundary / Frontier)

A PPF graphically shows the maximum possible output combinations of two goods (economic goods)
which can be produced by an economy by using its resources fully and efficiently with the given technology in
a given period of time. Thus, it shows the maximum productive potential of an economy. A PPF helps us to
analyse the trade-offs that must be made as a result of the basic economic problem.

A PPF slopes downwards from left to right. An economy, by

using its resources can produce either at a point on the PPC or
inside the curve. It cannot produce beyond the curve because of
the scarcity of resources. Therefore the area inside the PPC
shows the attainable area and the area outside the PPC shows the
unattainable area. Therefore a PPF separates both attainable and
unattainable areas.

Assumptions of drawing a PPC

1. Only two goods are being produced.
2. Resources are given and they have alternative uses.
3. Resources are used fully and efficiently.
4. Technology is given and it does not undergo any changes.
5. Time is given.

Scarcity of resources
An economy by using its resources fully can produce either at a point on the
curve or inside the PPC. It cannot produce outside the curve. Here the
reason for the existence of the boundary is the scarcity of resources.
The following diagram illustrates this:
So any point outside the PPC shows scarcity of resources. According to the
diagram, point A shows scarcity of resources because it lies outside the
PPC. An economy cannot produce that combination of output.

Full Employment and unemployment

This means that all the given resources in an economy are
used fully with efficiency in the production of goods and services.
That is, there is full and efficient use of resources.

Unemployment refers to a situation where some of the existing

resources in the economy are not used in the production of goods and
services.
When there is unemployment, since there are idle resources, the
economy will be able to produce more of either of the two goods or
both the goods without incurring opportunity cost by using those idle
resources.

Production possibilities Curve by S. Jega 1

According to the diagram, economy can move from point U to A, B
or C by using the idle resources without incurring opportunity cost.
Under utilization of resources means the resources are n employed in
order to get the maximum possible output. That is using the resources
below their fullest capacity and the production point will be located
inside the PPC.

Underutilization of resources
It means a condition where the resources are not being used to their fullest potential or capacity. The economy
will be operating at a point below the PPC. Underemployment means a condition where people are employed
only in part time jobs but would like to work in full-time or where people are employed in jobs which are below
their skill level (second choice occupations). For example, qualified lawyers or doctors find themselves working
as taxi drivers.

Efficiency and inefficiency

 This means producing the maximum possible output with the given resources and technology, i.e. using the
available resources to their maximum potential. All points along the PPF show full and efficient use of
resources. So, no one can be made better off without making others worse off.
 Efficiency on the boundary are of two types – productive efficiency and allocative efficiency. Productive
efficiency means the production takes place at the lowest cost. Productive efficiency is possible when there
is technical efficiency only. Hence, productive efficiency occurs when a given amount of resources
produces the maximum possible amount of goods. All points on the PPF show productive efficiency
because they show a combination of goods produced at the lowest cost for that combination.
 Allocative efficiency occurs when social welfare is maximized. It is important to note that not all the points
on the PPF are allocatively efficient. This is because NOT all the points will reflect allocation of resources
that lead to the production of goods which maximise consumer satisfaction.
 Inefficiency means the economy is producing less than the maximum possible output. Any point inside the
PPF is inefficient — some of the factors of production are unemployed or underemployed. At this time,
anyone can be made better off without making the others worse off.

Opportunity cost
Opportunity cost means the value of the next best alternative
foregone. Opportunity cost can be shown in a PPF by a
movement from one point to another along the PPF.
According to the diagram, the movement from x to y has an
opportunity cost of 40 capital goods and the movement from
x to w has an opportunity cost of 50 consumer goods.
Similarly, the movement from v to w has an opportunity cost
of 10 capital goods. The movement from y to z has an
opportunity cost of 50 capital goods

Production possibilities Curve by S. Jega 2

 The opportunity cost of producing one unit of consumer
good is 3 units of capital goods because 600/200=3. This
means for every 1unit of consumer goods produced, 3
units of capital goods are lost.

The opportunity cost of producing one unit of capital

good is ⅓ of a consumer good as 200/600= ⅓. For every
1 unit of capital good produced, ⅓ of a consumer good is
lost.

Economic growth and decline

This means a persistent increase in the country’s real Gross Domestic
Product - an increase in the productive potential of the country. When there is
economic growth, the country’s production capacity will increase and the
entire PPF will shift to the right

According to the diagram, when there is economic growth, the entire PPF will
shift from PPF1 to PPF2.

Factors causing economic growth

1) Increase in the quantity of resources / resource base
a) Increase in the availability of land. E.g. discovery of new resource, like a new oil field discovery, land
reclamation (port city), new land being used for farming and GMCs.
b) Increase in the size of labour force. E.g. an increase in net immigration of people of working age,
increase in natural growth of population (demographic changes), an increase in retirement age and a fall
in school leaving age.
c) Increase in investment which will increase the stock of capital. E.g. increase in the inward flow of
Foreign Direct Investment (FDI), expansion of the economic infrastructure facilities like electricity, road
network, telecommunication, ports and airport facilities, water supply etc.
2) Increase in the quality of the factors of production
a) An increase in the quality of labour. E.g. improvements in education and training will increase the size
of human capital and thus the productivity of labour, improved working practices (methods and
systems).
b) Improvements in technology allow new products to be made or more output to be produced using the
same amount of resources through increased productivity of factors of production (same amount to be
produced with fewer resources). So it cuts the average cost of production.
c) Increased efficiency in the use of resources. For example, in a market economy, increased competition
would lead to greater efficiency.
d) Improvement in management
e) Improvement in the quality of land. E.g. use of fertilisers and pesticides, improved drainage and
irrigation

Production possibilities Curve by S. Jega 3

Note: An improvement in technology will not always cause a
rightward shift in the PPF in both the products, if it can help
only one industry. For example, a new computerised production
process on manufacturing sector will only impact on the
manufacturing sector, while the service sector will remain
unchanged as shown in the diagram.

Economic decline
Very occasionally, the PPF shifts inwards. This means a persistent fall in the country’s real Gross
Domestic Product. When there is economic decline, the country’s production capacity will decrease and the
entire PPC will shift to the left from PPF1 to PPF2 as shown in the diagram.
For example, some kind of natural disaster or a war which destroys economic infrastructure, and rapid fall in
population and labour force can cause economic decline.
Some environmentalists predict that global warming will damage world agriculture and this will then affect all
production, leading to inward shift of PPF.

Shapes of PPF
A PPC can have the following shapes:
1. Concave to the origin – due to increasing opportunity cos
2. Convex to the origin – due to decreasing opportunity cost
3. A straight line PPC – due to constant opportunity cost
The shape of the PPC is mainly determined by the opportunity cost per unit.
Opportunity cost per unit = what is given up
what is gained

Concave PPF
A concave PPC shows increasing opportunity cost. Here increasing opportunity cost means that the amount of
one good which is sacrificed for every equal increase in the production of the other goods keeps on increasing.
When moving downwards along such a PPF, the
amount of good given up on the vertical axis for
every additional unit of the other good which is
measured on the horizontal axis keeps on
increasing. The following mathematical notation
illustrate this:

Production possibilities Curve by S. Jega 4

The reasons for the increasing opportunity cost are as follows:
Specificity of resources – Resources are not equally productive. In other words, factors of production do not
show the same efficiency at its alternative use. A given amount of resources is more suited in the production of
one good rather than the other. As a result, increasing amount of resources will be needed in order to increase
the production of the other good equally. This results in increasing opportunity cost and a concave PPC.

Consumption versus investment

There is a potential conflict between consuming now and economic growth caused by investment. If an
economy produces more goods for consumers now, then they are better off today. But, capital goods are
required to increase productivity (output per worker/per hour worked) because they can enable a worker to
produce more in a given time period. In turn, higher rates of productivity are likely to be associated with a
higher rate of economic growth.
Hence, instead of consumer goods, if it produces more capital goods like investing on new factories or new
machinery, then the productive potential of the economy is likely to increase in the future. As a result,
consumers may then be better off in the future.
Therefore, if a country wants to raise living standards it has to strike a balance between producing capital goods
and producing consumer goods. It needs more consumer goods to raise current living standards but it needs
more capital goods, like plant and machinery, to stay competitive. It is far better to produce a mixture of capital
goods and consumer goods than just all resources to produce consumer goods.

Suppose that two economies, A and B, at the start are the

same size in terms of overall production and population.
However, if country A produces more consumer goods
and fewer capital goods (at C) than country B (at D), then
over time country B will be able to grow at a faster rate
than country A as country B has devoted more of its
finite resources to capital goods which will increase the
productive potential of the economy.
As a result, country A’s PPF shifts to QQ and produces at
point E, whereas country B’s PPF shifts to RR and
produces at point F.
At the start of the period, consumers in country A were
wealthier than in country B as consumption of consumer
goods was higher. But at the end, consumers in country B
are wealthier as it is producing more of both consumer goods and producer goods than country A.

Note: The PPF by itself gives no indication of which combination of goods will be produced. All it shows is the
combination of goods which an economy could produce if output were maximised from a given fixed amount of
resources.

Production possibilities Curve by S. Jega 5