__________/21
Name
Date
Period
Econ Unit 1: Economic Basics PPF Graph and Comparative Advantage Problem Set
A production possibility frontier (PPF) shows the maximum possible output combinations of two goods or services an economy can
achieve when all resources are fully and efficiently employed




A production possibility frontier (PPF) shows the
maximum possible output combinations of two goods
or services an economy can achieve when all resources
are fully and efficiently employed.
Combinations of the output of consumer (Sugar) and
capital goods (Pizza) lying inside the PPF happen when
there are unemployed resources or when resources are
used inefficiently (Points D and E).
Combinations that lie beyond the PPF
are unattainable at the moment with the given resources
(Point F).
o A country would require an increase in factor
resources (LLC), an increase in the
productivity or an improvement in
technology to reach this combination.
Trade between countries allows nations to consume
beyond their own PPF via trading for the good they are
not producing.
Opportunity Cost and the PPF




We normally draw a PPF on a diagram as concave to
the origin i.e. as we move down the PPF, as more
resources are allocated towards Good Y (Wheat) the
extra output gets smaller – so more of Good X (Cotton)
has to be given up in order to produce Good Y
Reallocating scarce resources from one product to
another involves an opportunity cost. (moving from
Point A to B)
If we increase our output of consumer goods (i.e.
moving along the PPF from point A to point B) then
fewer resources are available to produce capital goods
(Wheat) because they are being used to produce
consumer goods (Cotton)
o If the law of diminishing returns holds true
then the opportunity cost of expanding output
of X measured in terms of lost units of Y is
increasing.
This is an explanation of the law of diminishing
returns and it occurs because not all factor inputs are equally suited to producing items
PPF and Economic Efficiency




A production possibility frontier is used to illustrate the concepts of opportunity cost, trade-offs and also show the effects of
economic growth.
Points within the curve show when a country’s resources are not being fully utilized
Combinations of the output of consumer and capital goods lying inside the PPF happen when there are unemployed
resources or when resources are used inefficiently. We could increase total output by moving towards the PPF
Combinations that lie beyond the PPF are unattainable at the moment



A country would require an increase in factor resources,
an increase in the productivity or an improvement in
technology to reach this combination.
Trade between countries allows nations to consume beyond
their own PPF.
Producing more of both goods would represent an
improvement in welfare and a gain in what is
called allocative efficiency.
1.
What does a PPF demonstrate? Explain how this relates to
scarcity.
2.
If a point on a PPF moves along the PPF (Point A-B, B-C),
what does this tell us about the economy?
3.
How does a country increase the size of its PPF (a shift outward)?
4.
What happens when a PPF shifts inward?
5.
Plot the points to create a PPF and answer the following questions
Point
Watermelons (x)
Shoes (y)
A
0
15
B
8
14
C
14
12
D
18
9
E
20
5
F
21
0

Are there trade-offs demonstrated in this graph?

How could technology change the graph for Watermelons
only?
Comparative Advantage and Absolute Advantage: Comparing the Output of Two Entities
A person has a comparative advantage at producing something if he can produce it at lower cost than anyone else.
Having a comparative advantage is not the same as being the best at something. In fact, someone can be completely unskilled at doing something, yet
still have a comparative advantage at doing it! How can that happen?
First, let's get some more vocabulary. Someone who is the best at doing something is said to have an absolute advantage. LeBron James has an
absolute advantage at basketball. For all I know, LeBron James may also be the fastest typist in the world, giving him an absolute advantage at typing,
too. Since he's better at typing than you, can't he type more cheaply than you? That is, if someone has an absolute advantage in something, doesn't he
automatically have a comparative advantage in it?
The answer is no! If James takes time out from shooting hoops to do all his own typing, he sacrifices the large income he earns from entertaining fans
of basketball. If, instead, his secretary does the typing, the secretary gives up an alternative secretarial job—or perhaps a much lower salary playing
basketball. That is, the secretary is the lower-cost typist. The secretary, not LeBron James, has the comparative advantage at typing! The trick to
understanding comparative advantage is in the phrase "lower cost." What it costs someone to produce something is the opportunity cost—the value
of what is given up. Someone may have an absolute advantage at producing every single thing, but he has a comparative advantage at many fewer
things, and probably only one or two things. (In James’s case, both basketball and also as an endorser of Nike.)
Amazingly, everyone always has a comparative advantage at something. Let's look at another example. Suppose you and your roommate want to clean
the house and cook a magnificent Chicken Kiev dinner for your friends one night. The easy case is when you are each better at one activity. If you are
an accomplished chef, while your roommate doesn't know the range from the oven; and if after you vacuum the carpet the dust bunnies have shifted
from under the sofa to under the coffee table, while your roommate can vacuum, dust, and polish the silverware faster than you can unwrap the vacuumcleaner cord, then you and your roommate will each be better off if you cook and your roommate cleans. It's easy to see that you each have a comparative
advantage in one activity because you each have an absolute advantage in one activity.
But what if your roommate is a veritable Martha Stewart, able to cook
and clean faster and better than you? How can you earn your keep
toward this joint dinner? The answer is to look not at her absolute
advantage, but at your opportunity costs. If her ability to cook is
much greater than yours but her ability to clean is only a little better
than yours, then you will both be better off if she cooks while you
clean. That is, if you are the less expensive cleaner, you should clean.
Even though she has an absolute advantage at everything, you still
each have different comparative advantages.
The moral is this: To find people's comparative advantages,
do not compare their absolute advantages. Compare their
opportunity costs.
The magic of comparative advantage is that everyone has a comparative advantage at producing something. The upshot is quite extraordinary: Everyone
stands to gain from trade. Even those who are disadvantaged at every task still have something valuable to offer. Those who have natural or learned
absolute advantages can do even better for themselves by focusing on those skills and buying other goods and services from those who produce them
at comparatively low cost. (Even more surprising is that the absolutely disadvantaged may gain more from the resulting trade than the absolutely
advantaged; but that's a different topic.)
When David Ricardo first illustrated the importance of comparative advantage in the early 1800s, he solved a problem that had eluded even Adam
Smith. Comparative advantage explains why a country might produce and export something its citizens don't seem very skilled at producing when
compared directly to the citizens of another country! (For example, in the past few years India has become a major supplier of phone-answering services
for the American market, even though their English-language skills are not up-to-par.) The explanation of the apparent paradox is that the citizens of
the importing country must be even better at producing something else, making it worth it for them to pay to have work done by the exporting country.
Amazingly, the citizens of each country are better off specializing in producing only the goods at which they have a comparative advantage, even if
one country has an absolute advantage at producing each item.
One of the clearest explanations of comparative advantage ever written was in fact one of the first explanations ever written. In 1821, James Mill saw
that Ricardo's exposition was hard to understand, so he clarified it in his Elements of Political Economy, excerpted below. Explanations since Mill's
typically rely on ever-updated examples and extensions to the understanding of opportunity costs other than just labor, but Mill's exposition still retains
the fresh clarity of someone trying to sort out for himself a topic that is naturally confusing.
-Lauren F. Landsburg Source: http://www.econlib.org/library/Topics/Details/comparativeadvantage.html
There are two ways to figure out which country, individual, producer, etc. has a comparative advantage (input and output). We will
concentrate on the output method.
Output Method to find Comparative Advantage
This method is used to show the maximum amount of product(s) that each country, individual, producer, etc. can produce per unit. In
the scenario below, we want to know which country should produce Trains, and which one should produce Planes.
Always Remember: Output = Other goes Over (OOO)
USA
Canada
Trains
4
5
Planes
2
1
Who has the comparative advantage in Train and Plane production in the chart above?
USA
Canada
Trains
4 (1T = 2 over 4 or 1/2P)
5
Planes
2 (1P = 4 over 2 or 2T)
1
Method:
To find comparative advantage for USA Trains: 1T = 2 over 4 which is 1/2P (Other goes Over)
To find comparative advantage for USA Planes: 1P = 4 over 2 which is 2T (Other goes Over)
Use the same method for Canada:
To find comparative advantage for Canada Trains: 1T = 1 over 5 which is 1/5P (Other goes Over)
To find comparative advantage for Canada Planes: 1P = 5 over 1 which is 5T (Other goes Over)
USA
Canada
Trains
4
5
Planes
2
1
Who has the comparative advantage in production? In other words, who is giving up less to produce a product?
To produce 1 Train, the USA is giving up the production of 1/2 Plane but Canada is only giving up 1/5 of a Plane to produce 1 Train.
In this case, Canada has the comparative advantage in Train production because 1/5 is less than 1/2.
To produce 1 Plane, the USA is giving up the production of only 2 Trains but Canada is giving up 5 Trains. The USA has a
comparative advantage when it comes to producing Planes.
In short
 The USA should produce ONLY __________
 Canada should produce ONLY ____________
The two countries will trade their surplus with each other . . . this ___________ both countries.
-Absolute Advantage and Comparative Advantage Class Generated NumbersConcept of Absolute Advantage –no Specialization
T
-X Axis-
C
-Y Axis-
Name:
Name:
Directions: Graph the information above and answer the questions below
Follow the steps above to determine the opportunity costs for your two classmates
1.
Who has the absolute advantage in T? In C? Explain.
T:
C:
2.
Who has a comparative advantage in T? In C? Use the above formulas (show your work) to answer the question. Is there any
change from the above question? Explain why.
 T:

C: