Production Possibilities

I’m building a house in Okotoks, so I’m faced with numerous decisions. Not only is the new house costing me money, but I am also going to have to commute to my job in downtown Calgary. I have 2 choices with the commute. I can either take public transit, which would be a low cost but a less desirable option in my opinion. I would much prefer the Okotoks commuter bus, because I can study on the way to and from work in comfort. However, the commuter bus is far more expensive. I figure that if I scale back on some of the upgrades on my house, I can reduce my monthly mortgage cost by up to $400…..at the obvious cost of some of the finer upgrades to my new house. Let’s be honest, the upgrades are for my wife, so if I tell her we have to scale back the beauty of the house, you better believe that I’m going to hear about it! As you can see I’m faced with decisions, so I’m forced to consider what I am giving up against the option I choose. Would I prefer to have study time on the bus, but have to deal with my wife complaining that the house isn’t perfect, or do I upgrade the house now at the expense of my study time on the bus?

The reality of life is that we can’t have everything we want because resources are limited, and economics is a study of how people and firms make choices with this ever present scarcity looming. A production possibility curve is a model used to compare the opportunity costs of decisions by displaying the possible outputs of two goods over an equal period of time. You could go to any point in the curve and see what the possible outputs would be and easily compare the cost of one good’s output would be against another. When two items have an absolute even value then the curve will be a straight line. The Law of Increasing Costs will give the curve a bowed out shaped because as more of a single item is produced, it’s single unit cost of production increases. This is due to the fact that all of the resources and capital goods used to create a certain good may not be particularly suited to produce a different good, so the cost of production will go up as factories are forced to, for example, produce apples using orange trees. Obviously, that’s impossible, so if you must produce more apples, they’re going to have to come from somewhere, such as importing them, which will carry an increase in cost.

A possibilities curve is also based on the assumption that all conditions are favorable. If the output falls directly on the border of the curve, this would indicate a fully employed workforce, the best possible technology is being used, and all possible efficiencies are being utilized. If any of these assumptions are not met, then the output will fall somewhere on the inside of the curve. A factory with a full work force that uses outdated machinery is still able to produce goods, but obviously not going to be operating to full potential unless they upgrade their machinery. Output combinations outside of the curve are unattainable.  The border can expand or contract based on increases or decreases in the employment rate, technology, or efficiencies available in the separate industries the goods fall under, so what was once unattainable can become attainable in time.

Making the right decision when faced with scarcity is an important part of life, so a possibility curve can be an invaluable tool, especially in business. A model or a graph can be a great way to get a high level view of all the possible outcomes. As for my decision, I presented the possibility curve to my wife, and she presented me with a look of extreme disapproval….so it looks like I’ll be riding public transit, but I’ll get to go home to a fully upgraded house and a happy wife.  I can now appreciate what I can have, because I understand what I gave up.