Points along a production possibilities frontier show combinations of two goods— here, lives saved and "other goods'—that can be produced using available resources and technology. At point A, all resources are used to produce other goods, and no lives are saved. At point F, 500,000 lives are saved, but no other goods are produced. The concave, bowed-out shape of the frontier reflects the law of increasing opportunity cost.
"other goods" we're producing. In Figure 1, the quantity of "other goods" is measured on the vertical axis.
Now look at the curve drawn in Figure 1. It is society's production possibilities frontier (PPF), giving the different combinations of goods that can be produced with the resources and technology currently available. More specifically, this PPF tells us the maximum quantity of all other goods we can produce for each number of lives saved and the maximum number of lives saved for each different quantity of other goods. Positions outside the frontier are unattainable with the technology and resources at the economy's disposal. Society's choices are limited to points on or inside the PPF.
Let's take a closer look at the PPF in Figure 1. Point A represents one possible choice for our society: to devote all resources to the production of "other goods" and none to health care. In this case, we would have 1,000,000 units of other goods, but we would have to forego every opportunity to save lives. Point F represents the opposite extreme: all available resources devoted to life-saving health care. In that case, we'd save 500,000 lives, but we'd have no other goods.
If points A and F seem absurd to you, remember that they represent two possible choices for society but choices we would be unlikely to make. We want life-saving health care to be available to those who need it, but we also want housing, clothing, entertainment, cars, and so on. So a realistic choice would include a mix of health care and movies.
Suppose we desire such a mix, but the economy, for some reason, is currently operating at the undesirable point A—no health care, but maximum production of everything else. Then we need to shift some resources from other goods to health care. For example, we could move from point A to point B, where we'd be saving 100,000 lives. But as a consequence, we'd have to cut back on other goods, producing 50,000 fewer units. The opportunity cost of saving 100,000 lives, then, would be 50,000 units of all other goods.
Production possibilities frontier (PPF) A curve showing all combinations of two goods that can be produced with the resources and technology currently available.
Law of increasing opportunity cost
The more of something that is produced, the greater the opportunity cost of producing one more unit.
Increasing Opportunity Cost. Suppose we are at point B, and now we want to save even more lives. Once again, we shift enough resources into health care to save an additional 100,000 lives, moving from point B to point C. This time, however, there is an even greater cost: Production of other goods falls from 950,000 units to 850,000 units, or a sacrifice of 100,000 units. The opportunity cost of saving lives has risen. You can see that as we continue to save more lives—by increments of 100,000, moving from point C to point D to point E to point F—the opportunity cost of producing other goods keeps right on rising, until saving the last 100,000 lives costs us 400,000 units of other goods.
The behavior of opportunity cost described here—the more health care we produce, the greater the opportunity cost of producing still more—applies to a wide range of choices facing society. It can be generalized as the law of increasing opportunity cost.
According to the law of increasing opportunity cost, the more of something we produce, the greater the opportunity cost of producing even more of it.
The law of increasing opportunity cost causes the PPF to have a concave shape, becoming steeper as we move rightward and downward. To understand why, remember (from high school math) that the slope of a line or curve is just the change along the vertical axis divided by the change along the horizontal axis. Along the PPF, as we move rightward, the slope is the change in the quantity of other goods divided by the change in the number of lives saved. This is a negative number, because a positive change in lives saved means a negative change in other goods. The absolute value of this slope is the opportunity cost of saving another life. Now—as we've seen—this opportunity cost increases as we move rightward. Therefore, the absolute value of the PPF's slope must rise as well. The PPF gets steeper and steeper, giving us the concave shape we see in the Figure 1.1
Why should there be a law of increasing opportunity cost? Why must it be that the more of something we produce, the greater the opportunity cost of producing still more?
Because most resources—by their very nature—are better suited to some purposes than to others. If the economy were operating at point A, for example, we'd be using all of our resources to produce other goods, including resources that are much better suited for health care. A hospital might be used as a food cannery, a surgical laser might be used for light shows, and a skilled surgeon might be driving a cab or trying desperately to make us laugh with his stand-up routine.
As we begin to move rightward along the PPF, say from A to B, we shift resources out of other goods and into health care. But we would first shift those resources best suited to health care—and least suited for the production of other things. For example, the first group of workers we'd use to save lives would be those who already have training as doctors and nurses. A surgeon—who would probably not make the best comedian—could now go back to surgery, which he does very well. Similarly, the first buildings we would put to use in the health care industry would be those that were originally built as hospitals and medical offices, and weren't really doing so well as manufacturing plants, retail stores or movie studios. This is why, at first, the PPF is
1 You might be wondering if the law of increasing opportunity cost applies in both directions. That is, does the opportunity cost of producing "other goods" increase as we produce more of them? The answer is yes, as you'll see when you do Problem 2 at the end of this chapter.
very flat: We get a large increase in lives saved for only a small decrease in other goods.
As we continue moving rightward, however, we shift away from other goods those resources that are less and less suited to life-saving. As a result, the PPF becomes steeper. Finally, we arrive at point F, where all resources—no matter how well suited for other goods and services—are used to save lives. A factory building is converted into a hospital, your family car is used as an ambulance, and comedic actor Jim Carrey is in medical school, training to become a surgeon.
The principle of increasing opportunity cost applies to all of society's production choices, not just that between health care and other goods. If we look at society's choice between food and oil, we would find that some land is better suited to growing food and some land to drilling for oil. As we continue to produce more oil, we would find ourselves drilling on land that is less and less suited to producing oil, but better and better for producing food. The opportunity cost of producing additional oil will therefore increase. The same principle applies in choosing between civilian goods and military goods, between food and clothing, or between automobiles and public transportation: The more of something we produce, the greater the opportunity cost of producing still more.
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