Explain how a production possibility diagram can be used to illustrate some features of the fundamental economic problem. [15 marks] - 4.1.1.5

Question 1

Draw a PPF

Answer 1

Question 2

Definition of fundamental economic problem

Intro

Answer 2

• The fundamental economic problem, also known as the problem of scarcity, arises from the fact that resources are limited, while human wants and needs are unlimited.
• This creates the need for choices to be made about how to allocate those scarce resources efficiently. (What to produce? How to produce? For whom to produce? Etc.).
• The Production Possibility Frontier can help illustrate this.

Question 3

Para 1 - Definition of PPF

Answer 3

• The Production Possibility Frontier (PPF), is a graphical representation of the various combinations of two goods or services that can be produced by an economy, given its limited resources and technology.

Question 4

The curve illustrating opportunity cost and the reason it is bowed

Para 1

Answer 4

• The curve illustrates the concept of opportunity cost, which is the cost of forgoing the production of one good or service to produce more of another good or service.
• PPFs tend to be convex (bowed outward) to the origin because of the law of increasing opportunity cost. The law of increasing opportunity cost states that as an economy produces more of one good, the opportunity cost of producing an additional unit of that good increases.

Question 5

Economy operating on the PPF curve

Para 1 - Part 2

Answer 5

• When an economy is operating on the PPF, it is maximizing its production potential and utilizing its resources efficiently. This point is pareto efficiency, and it is the state in which resources are allocated in a way that makes it impossible produce to more of one good without sacrificing the production of another one.
• This is because factors of production such as labour, capital and natural resources are limited, and if more resources are allocated to one good, more cannot be allocated to another.

Question 6

Economy operating inside the PPF curve

Para 1 - Part 3

Answer 6

• When an economy is operating inside the PPF, it means that some factors of production, like labour or capital, are not being utilized fully.
• By putting these unemployed factors of production to work, the economy can increase its output without sacrificing the production of other goods. This increase in output can result in short-run economic growth.

Question 7

Outward shift of the PPF

Para 2

Answer 7

• Outward Shift: An outward shift in the PPF occurs when an economy’s productive capacity expands. This can be due to several factors, such as: technological advancements, increase in human capital, increase in physical capital
• An outward shift of the PPF signifies long-run economic growth and an increase in the standard of living, as the economy can produce more goods and services to satisfy the wants and needs of its population.

Question 8

Economy can choose where to allocate

Para 3

Answer 8

• The PPF shows different combinations of goods and services that can be produced with the available resources.
• Where an economy chooses to operate on the PPF depends on its priorities and preferences.
• For example, a society that values healthcare more than education might allocate more resources to healthcare production, leading to a point on the PPF where healthcare output is higher and education output is lower.
• This decision reflects the society’s preferences and its willingness to make trade-offs to produce the goods it values most.