Production Possibilities
Curve
Production Possibilities Curve
• Shows the different combinations of the quantities
of two goods that can be produced (or consumed)
in an economy at any point of time.
• Depicts the trade off between any two items
produced (or consumed).
• Highlights the concepts of scarcity and opportunity
cost
o Indicates the opportunity cost of increasing one item's
production (or consumption) in terms of the units of the
other forgone
• Assumptions
o The economy is operating at full employment.
o Factors of production are fixed in supply; they can
however be reallocated among different uses.
o Technology remains the same.
Production Possibilities Curve
Contd…
Food
Technically
P Infeasible Area
FP
FQ Q
Productively
Inefficient Area
O
CP CQ Clothing
Figure 1.3: PPC for the Society
Production Possibilities Curve
Contd…
• All points on the PPC (like P and Q) are points of
maximum productive efficiency.
• In the figure, OFp of food and OCp of clothing can
be produced at Point P and OFQ of food and OCQ
respectively at point Q, when production is run
efficiently.
• All points inside the frontier are feasible but
productively inefficient.
• All points to the right of (or above) the curve are
technically impossible (or cannot be sustained for
long).
• A move from P to Q indicates an increase in the units
of clothing produced and vice versa.
• It also implies a decrease in the units of food
produced. This decrease in the units of food is the
opportunity cost of producing more clothing.
Consumer Preferences
and Choice
Consumer Choice
• Given the prices of different commodities,
consumers decide on the quantities of these
commodities according to their paying
capacity, and tastes and preferences.
• Consumers’ choices, tastes and preferences
rests on the following assumptions:
o Completeness: A consumer would be able to
state own preference or indifference between
two distinct baskets of goods.
o Transitivity: An individual consumer’s preferences
are always consistent.
o Non-satiation: A consumer is never satiated
permanently. More is always wanted; if “some” is
good, “more” of the good is better.
Consumer Choice
• Commodities are desired because of their
utility
o Utility is the attribute of a commodity to satisfy or
satiate a consumer’s wants
o Utility is the satisfaction a consumer derives from
consumption of a commodity
• Mathematically: utility is the function of the
quantities of different commodities
consumed:
U= f(m1, n1, r1)
Cardinal Utility Analysis
• Marshall and Jevons opined that Utility is a cardinal
concept and is measurable (in utils) like any other
physical commodity
• Total Utility (TU)
o Sum total of utility levels out of each unit of a commodity
consumed within a given period of time
• Marginal Utility (MU)
o Change in total utility due to a unit change in the
commodity consumed within a given period of time.
dTU
o MU=TUn -TUn-1 or MU=
dQ
Cardinal Utility Analysis
• Law of Equimarginal Utility
o Marginal utilities of all commodities should be
equal
• The consumer has to distribute his/her income on different
commodities so that utility derived from last unit of each commodity is
equal for all other commodities in the consumption basket.
• Mathematically:
MU M MU N
= = ... = MU I
PM PN
Cardinal Utility Analysis
• Law of Diminishing Marginal Utility
o Marginal utility for successive units consumed goes on
decreasing.
o When the good is consumed in standard quantity, continuously
and in multiple units and the good is not addictive in nature.
• The following diagrams show Total Utility (TU) and Marginal
Utility (MU) curves
TU of X MU of X
MU
TU
O O
Quantity of X Quantity of X
