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Economics: Markets and Market Failure
Economics: Markets and Market Failure
Opportunity cost and
Production possibility
Opportunity cost and
Production possibility
Source: Market in Algiers (1914) August Macke http://commons.wikimedia.org/wiki/File:August_Macke_031.jpg
StarterStarter
• Attempt these 10 questions on last week’s lessons and the homework
• QUIZ
• Attempt these 10 questions on last week’s lessons and the homework
• QUIZ
ObjectivesObjectives
By the end of the lesson students will be able to • Define and calculate opportunity cost• Understand production possibility curves• Relate PPC to Opportunity Cost• Understand efficient use of resources/
unemployed resources/ effects of technology or resource finds in the context of PPCs
And • Will be ready to explore economic systems
By the end of the lesson students will be able to • Define and calculate opportunity cost• Understand production possibility curves• Relate PPC to Opportunity Cost• Understand efficient use of resources/
unemployed resources/ effects of technology or resource finds in the context of PPCs
And • Will be ready to explore economic systems
Scarcity and choice revisited
Scarcity and choice revisited
• Human beings have • …………… wants • …………… resources
• Therefore humans have to balance………………………….. &
………………………………….
• Human beings have • …………… wants • …………… resources
• Therefore humans have to balance………………………….. &
………………………………….
Opportunity costOpportunity cost• Video• Opportunity cost expresses the relationship
between scarcity and cost. The true cost of an item is the cost of what a person has had to give up to get it, not just the monetary cost.
• Mankiw’s second principle- the opportunity cost of an item is what you give up to get that item
• “Opportunity cost or economic opportunity loss is the value of the next best alternative forgone as the result of making a decision“
• Video• Opportunity cost expresses the relationship
between scarcity and cost. The true cost of an item is the cost of what a person has had to give up to get it, not just the monetary cost.
• Mankiw’s second principle- the opportunity cost of an item is what you give up to get that item
• “Opportunity cost or economic opportunity loss is the value of the next best alternative forgone as the result of making a decision“
Source: Mankiw http://commons.wikimedia.org/wiki/File:GregoryMankiw.jpg
Opportunity costOpportunity cost
• It is clearly different from accounting cost which is direct and monetary
• It can encompass costs and benefits • It can be applied to most human (and
animal)activity
• It is clearly different from accounting cost which is direct and monetary
• It can encompass costs and benefits • It can be applied to most human (and
animal)activity
ExamplesExamples• The opportunity cost of my deciding not to work is the
wages I will have to give up and all this involves.
• The opportunity cost of my holiday to Florence this summer was that I was not able to buy a new deck for my patio
• The opportunity cost of the government increasing public expenditure and spending an extra £10 billion on interest payments is the extra resources that could have been allocated to the National Health Service
• The opportunity cost of my deciding not to work is the wages I will have to give up and all this involves.
• The opportunity cost of my holiday to Florence this summer was that I was not able to buy a new deck for my patio
• The opportunity cost of the government increasing public expenditure and spending an extra £10 billion on interest payments is the extra resources that could have been allocated to the National Health Service
Questions?Questions?• What is the opportunity cost of
buying an Apple Macintosh IMac for £900?
• What is the cost of your studying economics at University for 3 years?
• What is the opportunity cost of using arable farm land this year to produce non organic oilseed rape?
• What is the opportunity cost of buying an Apple Macintosh IMac for £900?
• What is the cost of your studying economics at University for 3 years?
• What is the opportunity cost of using arable farm land this year to produce non organic oilseed rape?
Source: http://commons.wikimedia.org/wiki/File:Imac_alu.png
Source: http://commons.wikimedia.org/wiki/File:Lochlevencastle.jpg
Examples of opportunity cost
Examples of opportunity cost
• Patrick Minford, a right wing economist, argued on the news on Monday evening (14/09/09) that public sector expenditure (particularly with regard to pay and pensions) must be cut- what opportunity costs might be associated with this policy?
• What is the opportunity cost of a school’s buying textbooks for their students?
• Patrick Minford, a right wing economist, argued on the news on Monday evening (14/09/09) that public sector expenditure (particularly with regard to pay and pensions) must be cut- what opportunity costs might be associated with this policy?
• What is the opportunity cost of a school’s buying textbooks for their students?
Source: http://commons.wikimedia.org/wiki/File:Patrick_minford1.jpg
Questions on exam?Questions on exam?
• Multiple choice• Define opportunity cost• Choose opportunity cost from options• Relate scarcity and choice
• Data response• Apply the concept of opportunity cost to
cases that are presented.
• Multiple choice• Define opportunity cost• Choose opportunity cost from options• Relate scarcity and choice
• Data response• Apply the concept of opportunity cost to
cases that are presented.
Models in economicsModels in economics• A model is a simplified version of a real world • It allows understanding through simplification.• The simplification usually comes in the form of
assumptions• Eg we will look at an economy where we assume there
are only 2 goods for sale. This allows for a 2 dimensional model which shows the fundamentals without confusing them with masses of real world detail
• Economists use the ceteris paribus assumption in order to concentrate on particular variables.
• Nb most models tend to have a quantitative element but this is not essential.
• A model is a simplified version of a real world • It allows understanding through simplification.• The simplification usually comes in the form of
assumptions• Eg we will look at an economy where we assume there
are only 2 goods for sale. This allows for a 2 dimensional model which shows the fundamentals without confusing them with masses of real world detail
• Economists use the ceteris paribus assumption in order to concentrate on particular variables.
• Nb most models tend to have a quantitative element but this is not essential.
Production Possibility Curves
Production Possibility Curves
• View introductory video by Bryn JonesSource: http://www.youtube.com/watch?v=c24MBi26tgQ&feature=related
• Explain briefly in your own words what a production possibility curve (also known as a production possibility frontier or transformation curve) is.
• View introductory video by Bryn JonesSource: http://www.youtube.com/watch?v=c24MBi26tgQ&feature=related
• Explain briefly in your own words what a production possibility curve (also known as a production possibility frontier or transformation curve) is.
Production Possibility Curves
Production Possibility Curves
• Simplistic view 1• Simplistic view 1
Production possibility curve for goods a & b
0
2040
60
80100
120
0 20 40 60 80 100 120
Production of good a
prod
uctio
n of
goo
d b
Production possibility curve for goods a & b
0
2040
60
80100
120
0 20 40 60 80 100 120
Production of good a
prod
uctio
n of
goo
d b
good a good b
0 110
10 100
20 90
30 80
40 70
50 60
60 50
70 40
80 30
90 20
100 10
110 0Task: create this chart in a spreadsheet application
Production possibility curve for goods a & b
0
2040
60
80100
120
0 20 40 60 80 100 120
Production of good a
prod
uctio
n of
goo
d b
Production possibility curve for goods a & b
0
2040
60
80100
120
0 20 40 60 80 100 120
Production of good a
prod
uctio
n of
goo
d b
Production Possibility Curves
Production Possibility Curves
• What do the 4 points signify?
• A:• B:• C:• D:
• What do the 4 points signify?
• A:• B:• C:• D:
A B
CD
What a PPC showsWhat a PPC shows• The production possibility curve shows all the efficient combinations of resource use.
• The production possibility curve shows the trade off between 2 sets of outputs that an individual, firm or economy faces
• It is possible but inefficient to operate inside the curve.
• It is not possible, given the current state of technology, scale of production etc to operate outside the curve
• The production possibility curve shows all the efficient combinations of resource use.
• The production possibility curve shows the trade off between 2 sets of outputs that an individual, firm or economy faces
• It is possible but inefficient to operate inside the curve.
• It is not possible, given the current state of technology, scale of production etc to operate outside the curve
PPC-more realisticPPC-more realisticgood a good b
0 1000
100 900
200 800
300 700
400 600
500 500
600 400
700 300
800 200
900 100
1000 0
Production possibility curve for goods a & b
0
200
400
600
800
1000
1200
0 500 1000 1500
Production of good a
pro
du
ctio
n o
f g
oo
d b
Linear Concave
Task: Sketch these using a spreadsheet application
PPC Wheat v Tanks
0
20
40
60
80
100
120
140
160
0 50 100 150 200
Tanks
Wh
eat
Wheat
Tanks Wheat0 150
50 14090 120
120 90140 50150 0
More realistic PPCsMore realistic PPCsTanks Wheat
0 15050 14090 120
120 90140 50150 0
In this more realistic scenario the PPC is concave to the origin.
At first 10 less tanks=50k bushels of wheat.
Then 20 less tanks=40k more bushels of wheat
Then 30 less tanks =30k more bushels etc.
Note the increasing opportunity costs of switching resources.
PPC Wheat v Tanks
0
20
40
60
80
100
120
140
160
0 50 100 150 200
Tanks
Wh
eat
Wheat
The meaning of PPCs: revised
The meaning of PPCs: revised
PPC Wheat v Tanks
0
20
40
60
80
100
120
140
160
0 50 100 150 200
Tanks
Wh
eat
Wheat
•Where is the most efficient position that 100 tanks can be produced.
•Where are there unemployed resources?
•What happens if you try to make 140 tanks and 140k bushels of wheat?
•When would a straight line PPC be realistic?
Opportunity cost and the PPC
Opportunity cost and the PPC
PPC Capital v consumer goods
0
500
1000
1500
2000
0 500 1000 1500 2000
Capital
Cons
umer
To get an extra amount of consumer goods, the opportunity cost is in capital goods.
The effects of new technology
The effects of new technology
yy
xx
Explain what has happened in both of these models.
Exam QuestionsExam Questions
Exam questionsExam questions
Research & Homework Activity
Research & Homework Activity
• You will be given a category a,b,c,d,e
a) Investigate how production and price decisions are made in a command economy
b) Investigate how production and price decisions are made in a pure capitalist economy
c) Investigate how production and price decisions are made in a mixed economy
d) Investigate Nationalisatione) Investigate Privatisation
You must then create a short presentation to be handed in electronically at the start of next week’s lesson. Five will be chosen at random to be presented to the class as a whole.
• You will be given a category a,b,c,d,e
a) Investigate how production and price decisions are made in a command economy
b) Investigate how production and price decisions are made in a pure capitalist economy
c) Investigate how production and price decisions are made in a mixed economy
d) Investigate Nationalisatione) Investigate Privatisation
You must then create a short presentation to be handed in electronically at the start of next week’s lesson. Five will be chosen at random to be presented to the class as a whole.
SourcesSources
• Tutor2u revision notes: http://tutor2u.net/economics/revision-notes/
• Tutor2u revision notes: http://tutor2u.net/economics/revision-notes/
