Discuss how the concept of opportunity cost is related to the concept of production possibilities frontier.

Expert Solution

A production possibility frontier of an economy shows the different combinations of two goods that can be produced by using the available resources and technology of production in the economy. The resources of an economy are scarce and fixed. So if one of the goods is required to produce more, then some amount of the production of other good must be sacrificed. Here, the resources are transferred from the production of the good which is sacrificed and are used in the sector where the production is increased.

The following figure shows a PPF for an country.

In the above figure, the curve PPF shows the production possibility frontier of a country. Here the country is producing two goods, X and Y. From the figure, we see that if the country produces at point 'a', it is producing Y1 of good Y and X1 of good X. Now, if the country requires to produce more of good X, then it must reduce the production of good Y. So, we see that when country increases the production of X from X1 to X2, it decreases the production of Y from Y1 to Y2. At this combination of production, the country produces at point 'b' on the PPF.

Opportunity Cost - The oppotunity cost is the cost a person or a business entity bears for sacrificing one alternative and choosing another alternative. It is a loss of potential gain arises from giving up one option and choosing another option. The opportunity cost arises because of the scarcity of resources. It may be even scarcity of money, time, etc.

After discussing the PPF and opportunity cost, we see that the concept of opportunity cost is related to the concept of production possibilities frontier. In case of PPF, we see that because of the scarcity of resources, the production of one good must be sacrificed when the production of another good is required to increase.

In the above figure of PPF, the opportunity cost is as follows;

Opportunity Cost = Amount sacrificed / Amount gained

Or, Opportunity Cost = ( Y1 - Y2) / ( X2 - X1)

Thus, the concept of opportunity cost is related to the concept of production possibilities frontier.

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Rahul Sunny answered 7 months ago

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