C h a p t e r

2 THE ECONOMIC
PROBLEM

Key Concepts tained only by producing less of the other good.

Production points inside the PPF are inefficient,
with misallocated or unused resources.
„ Production Possibilities and Opportunity Moving between points on the PPF involves a tradeoff
Cost because something must be given up to get more of
The quantities of goods and services that can be pro- something else. The opportunity cost of an action is the
duced are limited by the available amount of resources highest-valued alternative foregone. In Figure 2.1, the
and by technology. The production possibilities fron- opportunity cost of obtaining 20 million more tapes by
tier (PPF
PPF ) is the boundary between those combina- moving from point a to point b is the 10 million bottles
tions of goods and services that can be produced and of soda that are foregone. Opportunity cost is a ratio. It
those that cannot. equals the decrease in the production of one good di-
vided by the increase in the production of the other.
FIGURE 2.1 When resources are not equally productive in produc-
A PPF with Increasing Opportunity Costs ing different goods and services, the PPF has increasing
opportunity costs and bows outward, as illustrated in
50 Figure 2.1. As more and more tapes are produced, the
Soda (millions of bottles per month)

The production opportunity cost of a tape increases.

a possibilities frontier
40 (PPF)
„ Using Resources Efficiently

30 b ♦ The marginal cost of a good is the opportunity cost

of producing one more unit of it. Because of in-
creasing opportunity cost, along a production possi-
20 bilities frontier the marginal cost of an additional
unit of a good increases as more is produced. So, the
10 marginal cost curve, illustrated in Figure 2.2 on the
next page, slopes upward.
Preferences are a description of a person’s likes and
0 10 20 30 40 50 dislikes. Preferences can be described using the concept
Tapes (millions per month) of marginal benefit. The marginal benefit from a good
is the benefit a person obtains from consuming one
A PPF is illustrated in Figure 2.1. All production possi- more unit of it. The marginal benefit of a good is
bilities frontiers have two characteristics in common: measured as the maximum amount someone is willing
to pay for another unit of it. The marginal benefit from
♦ Production points inside and on the PPF are attain-
additional units of a good decreases as more is con-
able. Points beyond the PPF are not attainable.
sumed. So the marginal benefit curve, which shows the
♦ Production points on the PPF achieve production relationship between the marginal benefit of a good and
efficiency because more of one good can be ob-

25
26 CHAPTER 2

♦ Comparative advantage differs from absolute ad-

FIGURE 2.2
vantage. Absolute advantage occurs when a person
Efficient Use of Resources: MB and MC can produce more goods in a given amount of time
that another person.
2.5
Marginal cost and marginal benefit
(bottles of soda per tape)

MC Specialization according to comparative advantage and

trading for other goods creates gains from trade because
2.0 such specialization and exchange allows consumption
(not production) at points outside the PPF.
1.5 ♦ Learning-by-doing occurs when people become
more productive in producing a good by repeatedly
producing the good.
1.0
♦ Dynamic comparative advantage occurs when
comparative advantage is the result of specializing in
0.5 MB a good and becoming the lowest opportunity cost
provider because of learning-by-doing.

0 10 20 30 40 50 „ The Market Economy

Tapes (millions per month)
Property rights and markets have evolved to help reap
the quantity consumed, slopes downward as illus- the gains from specialization and trade.
trated in Figure 2.2. ♦ Property rights are social arrangements that set the
Allocative efficiency is reached when it is impossible terms of the ownership, use, and disposal of re-
to produce more of one good without giving up some sources, goods, and services.
other good that is valued more highly. Allocative effi- ♦ A market is any arrangement that allows buyers and
ciency occurs when the marginal benefit from another sellers to do business with each other. Markets pool
unit of a good equals its marginal cost. In Figure 2.2, information into a price, which signals buyers and
producing 30 million tapes is the efficient allocation of sellers about the actions they should take.
resources between tapes and soda.
Goods markets are where goods and services are bought
and sold; factor markets are where factors of production
Economic Growth are bought and sold. Markets coordinate decisions in
Economic growth occurs when production expands. the circular flow through price adjustments.
Technological change, the development of new goods
and better ways of producing goods and services, and
Helpful Hints
capital accumulation, the growth in capital resources,
are two key factors that affect economic growth.
1. ASSUMPTIONS OF THE PPF : The PPF provides an
♦ Economic growth shifts the PPF outward. The
example of the role played by simplifying assump-
faster it shifts, the more rapid is economic growth.
tions in economic analysis. Clearly, no society in
♦ The opportunity cost of economic growth is today’s the world produces only two items but by assuming
consumption. that there are such “two-good” nations, we can gain
♦ Nations that devote more resources to capital accu- invaluable insights into the real world. For in-
mulation grow more rapidly. stance, we see that once a nation is producing on its
production possibilities frontier, no matter how
„ Gains from Trade many goods it produces, to increase the production
♦ A person has a comparative advantage in produc- of one good necessarily has an opportunity cost in
ing a good if he or she can produce it at a lower op- terms of some other good or goods that must be
portunity cost than anyone else. foregone. In addition, we also see that countries
that devote a larger proportion of their resources to
capital accumulation will have more rapid growth.
THE ECONOMIC PROBLEM 27

2. INEFFICIENT PRODUCTION POINTS : Points Questions

within the PPF curve are attainable but are ineffi-
cient. These production point occur whenever
some inefficiency or misallocation emerges within „ True/False and Explain
the economy, such as excessive unemployment of
Production Possibilities and Opportunity Cost
any resource or an inefficient use of resources.
Points beyond the PPF are unattainable. They are FIGURE 2.4
not classified as either efficient or inefficient because
True/False Questions 1 and 2
they are not production combinations that the soci-
ety can reach.

Computers (per day)

FIGURE 2.3 a
A PPF Between Corn and Cloth
a b
Corn (pounds per hour)

25 30
b
23
c c
20 20

15

10
40 60
Televisions (per day)
5
11. In Figure 2.4 point a is NOT attainable.

0 1 2 3 4 5 12. In Figure 2.4 the opportunity cost of moving from

Cloth (yards per hour) point b to point c is 10 computers.
13. From a point on the PPF, rearranging production
3. CALCULATING OPPORTUNITY COST : A helpful and producing more of all goods is possible.
formula for opportunity cost results from the fact
that opportunity cost is a ratio. Opportunity cost 14. From a point within the PPF, rearranging produc-
equals the quantity of goods you must give up di- tion and producing more of all goods is possible.
vided by the quantity of goods you will get. 15. Production efficiency requires producing at a point
For instance, consider the nation whose PPF is in on the PPF.
Figure 2.3. If we move along the PPF from a to b,
16. Along a bowed-out PPF, as more of a good is pro-
what is the opportunity cost of an additional yard
duced, the opportunity cost of producing the good
of cloth? The nation must give up 2 pounds of corn
diminishes.
(25 – 23) to get 1 yard of cloth (1 – 0). So the op-
portunity cost of the first yard of cloth is 2 pounds Using Resources Efficiently
of corn divided by 1 yard of cloth or 2 pounds of 17. The marginal cost of the 20th ton of cement equals
corn per yard of cloth. Next, if we move from b to the cost of producing all 20 tons of cement.
c, the opportunity cost of the second yard of cloth
is calculated the same way and is 3 pounds of corn 18. As people have more of a product, the product’s
per yard of cloth. marginal benefit decreases.
19. Efficiency is achieved by producing the amount of a
good such that the marginal benefit of the last unit
28 CHAPTER 2

produced exceeds its marginal cost by as much as FIGURE 2.5

possible. Multiple Choice Questions 3 and 4
Economic Growth

Audio tapes (per hour)

10. Economic growth is illustrated by outward shifts in
the PPF. 15
a
14
11. Increasing a nation’s economic growth rate has an b
12
opportunity cost.
Gains from Trade 9
12. Daphne definitely has a comparative advantage in
producing sweaters if she can produce more than 6
Lisa.
13. If two individuals have different opportunity costs 3
of producing goods, both can gain from specializa-
tion and trade. 0 1 2 3 4 5 6
14. If the United States has an absolute advantage in Video tapes (per hour)
growing corn and making computers, it must have
a comparative advantage in growing corn.
13. In Figure 2.5, at point a what is the opportunity cost
15. Learning-by-doing can lead to dynamic compara- of producing one more video tape?
tive advantage. a. 14 audio tapes
The Market Economy
b. 3 audio tapes
c. 2 audio tapes
16. Buyers and sellers must meet face-to-face in a mar-
d. There is no opportunity cost.
ket.
17. Price adjustments coordinate decisions in goods 14. In Figure 2.5, at point b what is the opportunity
markets, but not in factor markets. cost of producing one more video tape?
a. 12 audio tapes
b. 3 audio tapes
„ Multiple Choice c. 2 audio tapes
Production Possibilities and Opportunity Cost
d. There is no opportunity cost.
11. Production points on the PPF itself are 15. Production efficiency means that
a. efficient but not attainable. a. scarcity is no longer a problem.
b. efficient and attainable b. producing more of one good without producing
c. inefficient but not attainable. less of some other good is not possible.
d. inefficient and attainable. c. as few resources as possible are being used in
production.
12. If the United States can increase its production of
d. producing another unit of the good has no op-
automobiles without decreasing its production of
portunity cost.
any other good, the United States must have been
producing at a point 16. The existence of the tradeoff along the PPF means
a. within its PPF. that the PPF is
b. on its PPF. a. bowed outward.
c. beyond its PPF. b. linear.
d. None of the above are correct because increasing c. negatively sloped.
the production of one good without decreasing d. positively sloped.
the production of another good is impossible.
THE ECONOMIC PROBLEM 29

17. The bowed-outward shape of a PPF Using Resources Efficiently

a. is due to capital accumulation. 11. Moving along a bowed-out PPF between milk and
b. reflects the unequal application of technology in cotton, as more milk is produced the marginal cost
production. of an additional gallon of milk
c. illustrates the fact that no opportunity cost is a. rises.
incurred for increasing the production of the b. does not change.
good measured on the horizontal axis but it is in- c. falls.
curred to increase production of the good meas- d. probably changes, but in an ambiguous direc-
ured along the vertical axis. tion.
d. is due to the existence of increasing oppor-
tunity cost. 12. The most anyone is willing to pay for another purse
is $30. Currently the price of a purse is $40, and the
A nation produces only two goods — yak butter and cost of producing another purse is $50. The mar-
rutabagas. Three alternative combinations of pro- ginal benefit of a purse is
duction that are on its PPF are given in Table 2.1. a. $50.
Use this information to answer the next three b. $40.
questions. c. $30.
d. An amount not given in the answers above.
TABLE 2.1
Production Possibilities 13. If the marginal benefit from another computer ex-
ceeds the marginal cost of the computer, then to use
Pounds of yak Number of
Possibility butter rutabagas
resources efficiently,
a 600 0 a. more resources should be used to produce
b 400 100
computers.
b. fewer resources should be used to produce
c 0 200
computers.
c. if the marginal benefit exceeds the marginal cost
18. In moving from combination a to b, the opportunity by as much as possible, the efficient amount of
cost of producing more rutabagas is resources are being used to produce computers.
a. 6 pounds of yak butter per rutabaga. d. none of the above is correct because marginal
b. 4 pounds of yak butter per rutabaga. benefit and marginal cost have nothing to do
c. 2 pounds of yak butter per rutabaga. with using resources efficiently.
d. 0 pounds of yak butter per rutabaga.
Economic Growth
19. In moving from combination b to a, the opportunity 14. Economic growth
cost of producing more pounds of yak butter is
a. creates unemployment.
a. 0.10 rutabaga per pound of yak butter. b. has no opportunity cost.
b. 0.50 rutabaga per pound of yak butter. c. shifts the PPF outward.
c. 1.00 rutabaga per pound of yak butter. d. makes it more difficult for a nation to produce
d. 2.00 rutabagas per pound of yak butter. on its PPF.
10. Producing 400 pounds of yak butter and 50 rutaba- 15. The PPF shifts if
gas is
a. the unemployment rate falls.
a. not possible for this nation. b. people decide they want more of one good and
b. possible and is an efficient production point. less of another.
c. possible, but is an inefficient production point. c. the prices of the goods and services produced
d. an abhorrent thought. rise.
d. the resources available to the nation change.
30 CHAPTER 2

16. An increase in the nation’s capital stock will 21. Brandon has
a. shift the PPF outward. a. a comparative advantage both in plowing and
b. cause a movement along the PPF upward planting.
and leftward. b. a comparative advantage only in plowing.
c. cause a movement along the PPF downward c. a comparative advantage only in planting.
and rightward. d. a comparative advantage in neither in plowing
d. move the nation from producing within the PPF and planting.
to producing at a point closer to the PPF.
22. Christopher has
17. One of the opportunity costs of economic growth is a. an absolute advantage only in planting.
a. capital accumulation. b. an absolute advantage only in plowing.
b. technological change. c. a comparative advantage only in planting.
c. reduced current consumption. d. a comparative advantage only in plowing.
d. the gain in future consumption.
23. Brandon and Christopher can
18. In general, the more resources that are devoted to a. both gain from exchange if Brandon specializes
technological research, the in planting and Christopher in plowing.
a. greater is current consumption. b. both gain from exchange if Brandon specializes
b. higher is the unemployment rate. in plowing and Christopher in planting.
c. faster the PPF shifts outward. c. exchange, but only Brandon will gain from the
d. more the PPF will bow outward. exchange.
d. exchange, but only Christopher will gain from
Gains from Trade the exchange.
19. In order to achieve the maximum gains from trade,
people should specialize according to 24. A nation can produce at a point outside its PPF
a. property rights. a. when it trades with other nations.
b. PPF. b. when it is producing products as efficiently as
c. absolute advantage. possible.
d. comparative advantage. c. when there is no unemployment.
d. at no time ever.
In one day Brandon can either plow 40 acres of land or
plant 20 acres. In one day Christopher can either plow 25. A nation can consume at a point outside its PPF
28 acres of land or plant 7 acres. Use this information to a. when it trades with other nations.
answer the next four questions. b. when it is producing products as efficiently as
possible.
20. Which of the following statements about absolute c. when there is no unemployment.
advantage is correct? d. at no time ever.
a. Brandon has an absolute advantage in both The Market Economy
plowing and planting.
26. Which of the following does NOT help organize
b. Brandon has an absolute advantage only in
trade?
plowing.
c. Brandon has an absolute advantage only in a. Property rights
planting. b. Markets
d. Christopher has an absolute advantage both in c. The production possibilities frontier
plowing and planting. d. None of the above because all these answers
given help organize trade.
THE ECONOMIC PROBLEM 31

27. In markets, people’s decisions are coordinated by

TABLE 2.2
a. specialization according to absolute advantage.
b. changes in property rights. Sydna’s Production Possibilities
c. learning-by-doing. Possibility Dates gathered Fish caught
d. adjustments in prices. (per day) (per day)
a 54 0
„ Short Answer Problems b 50 1
1. What does the negative slope of the PPF mean? c 42 2
Why is a PPF bowed out? d 32 3
2. In Figure 2.6 indicate which points are production e 20 4
efficient and which are inefficient. Also show which f 0 5
points are attainable and which are not attainable.
FIGURE 2.7
FIGURE 2.6
Short Answer Problem 2 Short Answer Problem 3
60

Dates gathered (per day)

Pizza (per day)

50
40
40

30
30

20 20

10 10

0 1 2 3 4 5 6
0 10 20 30 40 50 Fish caught (per day)
Loaves of bread (per day)

3. Sydna is stranded on a desert island and can either 4. If the following events occurred (each is a separate
fish or harvest dates. Six points on her production event, unaccompanied by any other event), what
possibilities frontier are given in Table 2.2. would happen to the PPF in Problem 3?
a. In Figure 2.7 plot these possibilities, label the a. A new fishing pond is discovered.
points, and draw the PPF. b. The output of dates is increased.
b. If Sydna moves from possibility c to possibility c. Sydna finds a ladder that enables her to gather
d, what is the opportunity cost per fish? slightly more dates.
c. If Sydna moves from possibility d to possibility d. A second person, with the same set of fishing
e, what is the opportunity cost per fish? and date-gathering skills as Sydna, is stranded
d. In general, what happens to the opportunity on the island.
cost of a fish as more fish are caught?
e. In general, what happens to the opportunity
cost of dates as more dates are harvested?
f. Based on the original PPF you plotted, is a
combination of 40 dates and 1 fish attainable?
Is this combination an efficient one? Explain.
32 CHAPTER 2

TABLE 2.3 TABLE 2.4

Marginal Benefit and Marginal Cost of Pizza Production in France and the United States

Marginal Marginal Marginal benefit Computers produced Bottles of wine

Slice of benefit of cost of minus marginal in an hour produced in an hour
pizza slice slice cost United
10,000 20,000
1 6.0 1.5 ____ States
2 5.0 2.0 ____ France 12,000 8,000
3 4.0 2.5 ____
4 3.0 3.0 ____
TABLE 2.5
5 2.0 3.5 ____
Short Answer Problem 7 (c)
6 1.0 4.0 ____
Opportunity cost of Opportunity cost of
one computer one bottle of wine
5. A nation produces only pizza and tacos. Table 2.3
United
shows the marginal benefit and marginal cost ____ ____
States
schedules for slices of pizza in terms of tacos per
France ____ ____
slice of pizza.
a. Complete Table 2.3. How much wine and how many computers are
b. For the first slice of pizza, after paying the mar- produced in an hour in the United States?
ginal cost, how much marginal benefit — if any France also devotes half her resources to com-
— is left? puters and half to wine. How many computers
c. For the second slice, after paying the marginal and bottles of wine does France produce in an
cost, how much marginal benefit — if any — is hour? What is the total amount of wine pro-
left? How does your answer to this question duced by France and the United States in an
compare to your answer to part (b)? hour? The total number of computers?
d. Should the first slice of pizza be produced? f. Suppose that the United States specializes in
Should the second one be produced? Explain wine and France in computers. What is the total
you answers, especially your answer about the amount of wine produced by France and the
second slice. United States now? The total number of
e. In a diagram, draw the marginal benefit and computers?
marginal benefit curves. Indicate the quantity of g. What do your answers to parts (e) and (f) show?
pizza slices that uses resources efficiently. 8. How do property rights affect people’s incentives to
6. Bearing in mind the point that resources are lim- create new music?
ited, explain why is it important for a nation to use
its resources efficiently. „ You’re the Teacher
7. Suppose that both the United States and France
produce computers and wine. Table 2.4 shows 1. “The idea of the production possibilities frontier is
what each country can produce in an hour. stupid. I mean, after all, who ever heard of a nation
that produces only two goods. Come on, every na-
a. On graph paper, draw the PPF for the United
tion produces millions, probably billions of goods.
States for one hour.
Why do I have to bother to learn about the pro-
b. On graph paper, draw the PPF for France for duction possibilities frontier when it is so unrealis-
one hour. tic?” One reason for this student to learn about the
c. Complete Table 2.5. production possibilities frontier is that it will
d. In what good(s) does the United States have a probably be on the exams. But there are other rea-
comparative advantage? France? sons, too. Explain some of them to help motivate
e. Initially the United States uses half its resources this student.
to produce wine and half to produce computers.
THE ECONOMIC PROBLEM 33

Answers Using Resources Efficiently

17. F The marginal cost is the cost of the 20th ton
itself, not the cost of producing all 20 tons.
„ True/False Answers 18. T As people have more of a product, they are will-
ing to pay less for additional units, which means
Production Possibilities and Opportunity Cost
that the marginal benefit of the product will
11. F Any point on the production possibilities frontier
decrease.
is attainable, even points where the PPF inter-
19. F For resources to be allocated efficiently, it is nec-
sects the axes.
essary for the marginal benefit of the last unit
12. T The opportunity cost equals the number of produced to equal the marginal cost of the unit.
computers foregone, in this case the fall from 30
computers at point b to 20 at point c. Economic Growth
13. F Points on the frontier are production efficient, so 10. T As the PPF shifts outward, the nation is able to
increasing the production of one good necessar- produce more of all goods.
ily requires producing fewer of some other good. 11. T The opportunity cost is the loss of current
consumption.
FIGURE 2.8
True/False Question 4 Gains from Trade
12. F Based on the information in the problem,
Daphne has an absolute advantage, but without
Books (per week)

more information we cannot tell whether she has

a comparative advantage.
c 13. T A key observation is that both individuals gain.
14. F Comparative advantage requires comparing the
opportunity cost of producing corn in the
United States with the opportunity cost of pro-
b
ducing it elsewhere.
15. T Learning-by-doing means that the cost of pro-
a ducing a good falls as more is produced, so the
nation (or person) ultimately acquires a com-
parative advantage in making the good.
Magazines (per week) The Market Economy
16. F Buyers and sellers communicate with each other
in markets, but in most markets they do not
14. T Points within the frontier are inefficient, which meet face-to-face.
means its possible to rearrange production and
17. F Price adjustments coordinate decisions in all
boost the production of all goods and services.
markets.
This condition is illustrated in Figure 2.8, where
from (the inefficient) point a, it is possible to
move to points such as b or c where more of „ Multiple Choice Answers
both books and magazines are produced.
Production Possibilities and Opportunity Cost
15. T Production efficiency implies that the produc-
11. b Only points on the frontier are both attainable
tion of one good can be increased only if the
and efficient.
production of another good is decreased, which
is true only on the PPF itself. 12. a Only from points within the frontier can the
production of a good increase without decreasing
16. F As more of a good is produced, the opportunity
the production of another good.
cost of additional units increases.
13. c By producing 1 more video tape, audio tape
production falls by 2 (from 14 to 12), so the op-
34 CHAPTER 2

portunity cost of the video tape is the ratio of 2 point in the interior of the PPF to a point closer
audio tapes to the 1 video tape, that is, 2 audio to the frontier.)
tapes per video tape. 16. a Increases in a nation’s resources create economic
14. b As more video tapes are produced, the opportu- growth and shift the nation’s PPF outward.
nity cost of an additional video tape gets larger. 17. c If a nation devotes more resources to capital
15. b This answer is the definition of production accumulation or technological development,
efficiency. which are the main sources of growth, fewer re-
16. c When production is on the PPF, the tradeoff is sources can be used to produce goods for current
that if more of one good is produced, then some consumption.
other good must be foregone. This result means 18. c The more resources used for technological re-
that the PPF has a negative slope. search, the more rapid is economic growth.
17. d Increasing opportunity cost means that, as more
of a good is produced, its opportunity cost in- Gains from Trade
creases. As a result, the PPF bows outward. 19. d Specializing according to comparative advantage
18. c Moving from a to b gains 100 rutabagas and reduces the opportunity cost of producing goods
loses 200 pounds of yak butter, so the opportu- and services.
nity cost is (200 pounds of yak butter)/(100 ru- 20. a Brandon can produce more of both goods than
tabagas), or 2 pounds of yak butter per Christopher, so Brandon has an absolute
rutabaga. advantage in both goods.
19. b 100 rutabagas are foregone, so the opportunity 21. c Brandon’s opportunity cost of planting an acre
cost is (100 rutabagas)/(200 pounds of yak but- of land is plowing 2 acres, whereas Christopher’s
ter), or 0.50 rutabagas per pound of yak butter. opportunity cost of planting an acre is plowing 4
Note how the opportunity cost of a rutabaga is acres.
the inverse of the opportunity cost of a pound of 22. d Christopher’s opportunity cost of plowing an
yak butter, as calculated in the answer to the acre is planting1 4 an acre, while Brandon’s op-
previous question. portunity cost is planting1 2 an acre.
10. c When 400 pounds of yak butter are produced, a 23. a By specializing according to their comparative
maximum of 100 rutabagas can be produced; if advantages, both can gain from exchange.
only 50 rutabagas are produced, the combina- 24. d The PPF shows the maximum amounts that can
tion is inefficient. be produced.
25. a When a nation specializes according to its com-
Using Resources Efficiently
parative advantage and trades with another spe-
11. a Along a bowed-out PPF, as more of a good is cialist nation, both can consume at levels beyond
produced, its marginal cost — the opportunity their PPFs.
cost of producing another unit — rises.
12. c The marginal benefit from a good is the maxi- The Market Economy
mum that a person is willing to pay for the good. 26. c The production possibilities frontier shows the
13. a The benefit from the computer exceeds the cost limits to production and does not help organize
of producing the computer, so society will gain trade.
if resources are allocated so that the computer 27. d Changes in prices create incentives for people to
is produced. change their actions.

Economic Growth
14. c Economic growth makes attainable previously „ Answers to Short Answer Problems
unattainable production levels. 1. The negative slope of the PPF indicates that in-
15. d An increase in resources shifts the PPF outward; creasing the production of one good means that the
a decrease shifts it leftward. (A decrease in the production of some other good decreases.
unemployment rate moves the nation from a
THE ECONOMIC PROBLEM 35

A PPF is bowed out because the existence of non- FIGURE 2.10

identical resources creates an increasing opportunity Short Answer Problem 3
cost as the production of a good is increased. Be-
cause resources are not identical, some are better 60

Dates gathered (per day)

a
suited for producing one good than another. So
50 b
when resources are switched from producing items
for which they are well suited to producing goods c
for which they are ill suited, the opportunity cost of 40
increasing the output of these goods rises. d
30
FIGURE 2.9
Short Answer Problem 2 e
20
Pizza (per day)

Attainable and Unattainable 10

efficient points points
40 f
0 1 2 3 4 5 6
Attainable but
Fish caught (per day)
30 inefficient points

d. As more fish are caught, the opportunity cost of

20 an additional fish rises. In particular, the first
fish has an opportunity cost of only 4 dates; the
10
second, 8 dates; the third, 10 dates; the fourth,
12 dates; and the fifth, 20 dates.
e. As more dates are gathered, the opportunity cost
0
of a date rises. Moving from f to e shows that the
10 20 30 40 50
Loaves of bread (per day) first 20 dates cost only 1 fish so that the oppor-
tunity cost of a date here is1 20 of a fish. Going
2. Figure 2.9 shows the efficient/inefficient points and from e to d, however, makes the opportunity
attainable/not attainable points. The attainable but cost of a date1 12 of a fish. This pattern contin-
inefficient points are shaded; the attainable and effi- ues so that as more dates are gathered, their op-
cient points lie on the PPF itself; and the unattain- portunity cost increases. Finally, moving from b
able points are located beyond the PPF. to a has the largest opportunity cost for a date,
1 4 of a fish.
3. a. Figure 2.10 shows the PPF.
As parts (d) and (e) demonstrate, there is in-
b. Moving from c to d means that the number of
creasing opportunity cost moving along the PPF.
fish caught increases by 1 while the number of
That is, as more fish are caught, their opportu-
dates gathered falls from 42 to 32. Catching 1
nity cost — in terms of foregone dates — in-
fish costs 10 dates, so the opportunity cost of the
creases and as more dates are gathered, their op-
fish is 10 dates. In terms of a formula, the op-
portunity cost — in terms of foregone fish —
portunity cost of this fish is:
also increases. It is these increasing opportunity
42 dates − 32 dates costs that account for the bowed-outward shape
= 10 dates per fish.
3 fish − 2 fish of the PPF.
c. Moving from d to e indicates that the opportu- f. This combination is within the PPF and is at-
nity cost of the fish is 12 dates: The number of tainable. It is inefficient because Sydna could
dates gathered falls from 32 to 20 while the produce more of either or both goods. Therefore
number of fish caught increases by 1. she is not organizing her activities as efficiently
as possible.
36 CHAPTER 2

FIGURE 2.11 that she can catch. As a result, the maximum

Short Answer Problem 4 (a) number of dates increases, but the maximum
number of fish does not change. The PPF shifts
60 in the same general pattern as shown in Figure
Dates gathered (per day)

2.12.
50
FIGURE 2.13
40 Short Answer Problem 4 (d)
120

Dates gathered (per day)

30

100
20

80
10

60
0 1 2 3 4 5 6
Fish caught (per day) 40

4. a. A new fishing pond increases the number of fish 20

Sydna can catch, but it does not affect the
maximum number of dates she can gather. Her
PPF shifts generally as shown in Figure 2.11. 0 2 4 6 8 10 12
Fish caught (per day)
b. Increasing her output of dates does not affect the
PPF. Sydna might increase her gathering of dates
either by moving from a point within the PPF to d. Having a second worker on the island boosts
a point on (or closer to) the frontier or by mov- both the number of dates that can be gathered
ing along the frontier. Neither of these actions and the number of fish that can be caught. If the
shifts the PPF. second person has the same set of skills as Sydna,
the PPF shifts out in a “parallel” manner, as il-
FIGURE 2.12
lustrated in Figure 2.13. Be sure to note that the
Short Answer Problem 4 (c) scales on the axes in Figure 2.13 are different
60 from those on the axes in Figures 2.10–2.12.
Dates gathered (per day)

50 TABLE 2.6
Marginal Benefit and Marginal Cost of Pizza
40
Marginal Marginal Marginal benefit
Slice of benefit of cost of minus marginal
30
pizza slice slice cost
1 6.0 1.5 4.5
20
2 5.0 2.0 3.0
3 4.0 2.5 1.5
10
4 3.0 3.0 0.0
5 2.0 3.5 –1.5
0 1 2 3 4 5 6 6 1.0 4.0 –3.0
Fish caught (per day)
5. a. Table 2.6 shows the answers.
c. The ladder increases the number of dates that b. For the first slice of pizza, after paying the mar-
Sydna can gather, but has no effect on the fish ginal cost, there is 4.5 of marginal benefit left.
THE ECONOMIC PROBLEM 37

c. For the second slice of pizza, after paying the ciently, society ensures that as many of the most
marginal cost, there is 3.0 of marginal benefit important wants, measured by the marginal benefit
left. After paying the marginal cost, there is less from the goods that satisfy those wants, are satis-
marginal benefit left for the second slice of pizza fied.
than for the first. There is less surplus because
the marginal benefit of the second slice is less FIGURE 2.15
than that of the first slice and the marginal cost Short Answer Problem 7 (a)
the second slice is more than that of the first
12

Computers (thousands of computers per hour)

one.
d. The first slice should be produced because the 10
marginal benefit from the first slice exceeds its America’s production
possibility frontier
marginal cost. The second slice also should be 8
produced for the same reason. As long as the
marginal benefit from a slice of pizza exceeds its
6
marginal cost, society benefits if the slice is pro-
duced. The “net benefit” from the first slice is
more than that of the second slice, but as long 4

as there is a positive net benefit, society benefits.

2
FIGURE 2.14
Short Answer Problem 5 (e) 0 4 8 12 16 20 24
6.0 Wine (thousands of bottles per hour)
Marginal cost and marginal benefit
(tacos per slice of pizza)

5.0 7. a. Figure 2.15 shows the PPF for the United States.
The maximum amount of wine that can be pro-
MC
4.0 duced is 20,000 bottles and the maximum num-
ber of computers that can be produced is 10,000.
3.0
FIGURE 2.16
2.0 Short Answer Problem 7 (b)
12
Computers (thousands of computers per hour)

1.0
MB
10

0 1 2 3 4 5 6
8
Pizza (slices)
France’s production
e. Figure 2.14 shows the marginal cost and mar- 6 possibility frontier
ginal benefit curves. Four slices of pizza are the
quantity that uses resources efficiently because 4
the marginal benefit from the fourth slice equals
its marginal cost. The marginal benefit for any 2
greater quantity of pizza slices is less than the
marginal cost of the slice, so producing these
0 4 8 12 16 20 24
units would result in a net loss for society.
Wine (thousands of bottles per hour)
6. A nation should use its resources efficiently because
it has only a limited quantity of them. If resources
are used inefficiently, there is waste and fewer of b. Figure 2.16 shows the French PPF.
people’s wants can be satisfied. By producing effi-
38 CHAPTER 2

production of wine rises by 6,000 bottles per

TABLE 2.7
hour. The fact that world production of wine
Short Answer Problem 7 (c) and computers both increase demonstrates that
specialization, according to comparative advan-
Opportunity cost of Opportunity cost of
one computer one bottle of wine
tage, can boost world output of all goods.
United 8. Property rights play a key role in shaping the incen-
States
2 bottles of wine ½ computer tive to create new music or, more generally, to cre-
ate any new computer program, book, pharmaceuti-
France 2/ 3 bottles of wine 1½ computer
cal drug, and so forth. Creation is costly because
resources, time, and effort must be devoted to this
c. Table 2.7 shows the opportunity costs for the
process. By securing the property right to new mu-
goods. To illustrate how this table was obtained,
sic, the musician stands to benefit greatly from the
we can use the opportunity cost of a computer in
resources expended. But if the person cannot obtain
the United States as an example. To produce one
a property right, anyone can copy the new music. In
computer in the United States requires that re-
that case the musician’s return will be dissipated
sources work for1 10,000 of an hour at manu-
when a lot of people copy the music and, indeed,
facturing computers. So to produce an addi-
someone else might reap the rewards. Property
tional computer, resources must be switched
rights, by promising that the musician will person-
from the wine industry to the computer industry
ally benefit from the effort involved in creating the
for1 10,000 of an hour. During this time, if left
music, motivate significantly more new music than
in the wine industry, the resources could other-
would occur in the absence of property rights.
wise have produced (1 10,000 ) (20,000 bottles of
wine) or 2 bottles of wine. Hence to produce
one additional computer in the United States, 2 „ You’re the Teacher
bottles of wine are foregone. Two bottles of 1. “All economic models vastly simplify the complex
wine, then, are the opportunity cost of the com- reality. But that is no reason to throw them away.
puter. The rest of the opportunity costs are cal- The lessons that can be learned from the simple
culated similarly. two-good PPF carry over to the real world. For in-
d. The United States has a comparative advantage stance, the two-good PPF shows that there are limits
in wine because the opportunity cost of a bottle to production. These limits are represented by the
of wine in the United States — ½ computer — PPF curve, which divides attainable from unattain-
is less than the opportunity cost of a bottle of able production points. Now, just as you say, in the
wine in France —1½ computer. France has a real world billions of goods are produced. But there
comparative advantage in the production of are still limits. But no matter how many goods a
computers, because its opportunity cost — nation produces, every nation faces a limit of how
2 3 bottle of wine — is less than that in the much it can produce, just as in the simple two-good
United States — 2 bottles of wine. PPF case.
e. In the United States, 5,000 computers and “Plus, the simple PPF model demonstrates that pro-
10,000 bottles of wine are produced in an hour. duction can be efficient or inefficient. This result is
In France, 6,000 computers and 4,000 bottles of also true in the real world. “And, the two-good PPF
wine are produced in an hour. Overall, 11,000 shows that once production is efficient — a point
computers and 14,000 bottles of wine are pro- on the PPF — increasing the output of one good
duced in an hour. has an opportunity cost because the production of
the other good must be reduced. The same is true in
f. With the United States specializing in wine,
our real world. If we are producing efficiently, if we
20,000 bottles of wine are produced in an hour.
want to produce more of one good, we have to give
Because France specializes in computers, 12,000
up other goods. So, based on the assumption that
computers are produced in an hour.
there are only two goods, the PPF teaches us stuff
g. With specialization, world computer production that we can apply everywhere, not just on the next
rises by 1,000 computers per hour and world test.”
THE ECONOMIC PROBLEM 39

Chapter Quiz 16. The cost of textbooks ____ and the earnings fore-
gone because of attending college ____ part of the
opportunity cost of attending college.
11. Consider a constant slope PPF with a vertical inter- a. is; are
cept of 80 guns and a horizontal intercept of 120 b. is; are not
tons of butter. The opportunity cost of increasing c. is not; are
butter output from 30 to 31 tons is d. is not; are not
a. 1 2 gun.
b. 2 3 gun. 17. The best alternative foregone from an action is
c. 1 gun. called the action’s
d. 1 1 2 guns. a. “loss”.
b. “money cost”.
12. A nation produces at a point outside its PPF c. “direct cost”.
a when it trades with other nations. d. “opportunity cost”.
b. when it produces inefficiently.
c. when it produces efficiently. 18. The marginal benefit of a product is the
d. never. a. benefit that the product gives to someone other
than the buyer.
13. Which of the following statements is true? b. maximum someone is willing to pay for that unit
a. All resources are made by people. of the product.
b. Human resources are called labor. c. benefit of the product that exceeds the marginal
c. Capital is made only by labor. cost of the product.
d. Human capital is a contradiction in terms. d. benefit of the product divided by the total num-
ber of units purchased.
14. A situation in which some resources are used ineffi-
ciently is represented in a PPF diagram by 19. A marginal benefit curve has a ____ slope; a mar-
a. any point on either the vertical or horizontal axis. ginal cost curve has a ____ slope.
b. the midpoint of the PPF. a. positive; positive
c. a point outside the PPF. b. positive; negative
d. a point inside the PPF. c. negative; positive
d. negative; negative
15. Robert has decided to write the essay that is due in
his economics class rather than watch a movie. The 10. The production possibilities frontier will shift in-
movie he will miss is Robert’s ____ of writing the ward as a result of
essay. a. an increase in the production of consumption
a. opportunity cost goods.
b. explicit cost b. an increase in R&D expenditure.
c. implicit cost c. an increase in population.
d. discretionary cost d. destruction of part of the nation’s capital stock.

The answers for this Chapter Quiz are on page 309

40