CHAPTER

Scarcity, Choice,
and Economic Systems

PowerPoint Slides
PowerPoint Slides prepared
prepared by:
by:
Andreea CHIRITESCU
Andreea CHIRITESCU
Eastern Illinois
Eastern Illinois University
University
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 The Production Possibilities Frontier
• Production possibilities frontier (PPF)
– A curve showing all combinations of two
goods that can be produced
• With the resources and technology currently
available
• Society’s choices
– Points inside or on PPF
• Unattainable
– Points outside PPF

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 The Production Possibilities Frontier
• Wheat / tanks economy, PPF:
– Maximum quantity of wheat that can be
produced for each quantity of tanks
produced
– Maximum number of tanks that can be
produced for each different quantity of
wheat

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 Figure 1
The Production Possibilities Frontier

Bushels of At point A, all resources

wheat per year are used for wheat.
Moving from point A to point B
requires shifting resources out of
A B wheat and into tanks.
1,000,000
950,000 C
850,000
D
700,000

E
400,000
At point F, all resources
are used for tanks.

Number of
1,000 2,000 3,000 4,000 5,000
tanks per year

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 Productive Inefficiency
• Productively inefficient
– More of at least one good can be
produced
• Without sacrificing the production of any other
good
– Points inside the PPF
– Firms
• Try to eliminate productive inefficiency
• Productive efficiency
– The absence of any productive inefficiency
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 Figure 3
Operating Inside the Production Possibilities Frontier

Bushels of Starting at a point inside

wheat per year the PPF, we can...

Produce more wheat with

A
1,000,000 B no decrease in tanks...
950,000 C
850,000
Or produce more
D of both goods.
700,000

E Produce more tanks with

400,000
W no decrease in wheat...

F
Number of
1,000 2,000 3,000 4,000 5,000
tanks per year

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 Economic Systems
• Economic system
– The way our economy is organized
• Features of economic systems
– Specialization
• Method of production in which each person
concentrates on a limited number of activities
– Exchange
• The act of trading with others to obtain what
we desire

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 Specialization and Exchange
• Specialization and exchange
– Enable us to enjoy greater production and
higher living standards
• Than would otherwise be possible
– All economies exhibit high degrees of
specialization and exchange

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 Specialization and Exchange
• Specialization: Examples

• Exchange: Examples

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 Specialization and Exchange
• Gains from specialization and exchange
– Development of expertise
• Become experts at one or two things, instead
of remaining amateurs at a lot of things
– Minimizing downtime
• Less unproductive “downtime” from switching
activities
– Comparative advantage
• Allocate our resources according to their
suitability for different types of production

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 Absolute and Comparative Advantage
• Absolute advantage
– Produce a good or service using fewer
resources than other producers use
• Comparative advantage
– Produce a good or service at a lower
opportunity cost than other producers

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 Absolute and Comparative Advantage
• Absolute Advantage: Examples

• Comparative Advantage: Examples

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 Resource Allocation
• The problem of resource allocation
– Deciding how society’s scarce resources
will be divided among competing claims
and desires
– Answering three important questions:

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 Resource Allocation
Answering three important questions:
1. Which goods and services should be
produced with society’s resources?

2. How should they be produced?

3. Who should get them?

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 Resource Allocation
• Societies determine the answers to these
questions about resources
– Tradition, Command, The market
• Traditional economy
– Resource allocation - long-lived practices
from the past
– Stable and predictable
– Little innovation and technological change
– Stagnant economies
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 Resource Allocation
• Command or centrally planned economy
– Resource allocation - explicit instructions
from a central authority
– The early years: production grows rapidly
• Provide everyone with a job and basic
consumer goods
– Enforced through brute force
– The final decades: living standards
stagnated
• Political and economic dissatisfaction
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 Resource Allocation
• Market economy
– Resources are allocated through individual
decision making
– Freedom of choice is constrained by the
resources one controls
– Resource allocation: markets and prices

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 Understanding the Market
• Market
– A group of buyers and sellers with the
potential to trade with each other
– Global - buyers and sellers who are
spread across the globe
– Local
• Markets
– Major role in allocating resources

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 The Importance of Prices
• Price
– Amount of money that must be paid to a
seller to obtain a good or service
– Is not always the same as cost
– Only a part of the opportunity cost
• Opportunity cost
– Total sacrifice needed to buy the good

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 The Importance of Prices
• Resources - allocated by the market
– People must pay for their purchases
– Forced to consider the opportunity cost to
society of their individual actions
– Markets - able to create a sustainable
allocation of resources

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 Markets, Ownership, Invisible Hand
• Adam Smith (1723–1790)
– Scottish social philosopher
– Often regarded as the first economist
– The Wealth of Nations, 1776
– Private resource owners are guided as if
by an invisible hand to benefit society as a
whole

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