The Production Possibilities Frontier

Most economic models, unlike the circular-flow diagram, are built using the tools of mathematics. Here we use one of the simplest such models called the production possibilities frontier, to illustrate some basic economic ideas.

Although real economic produce thousands of goods and services, let’s assume an economy that produces only two goods cars and computers. Together, the car industry and the computer use all of the economy’s factors of production. The production possibilities frontier is a graph that shows the various combinations of output in this case, cars and computers that the available production given the available factors of production an the available production technology that firms can use to turn these factors into output.

Figure 2 shows this economy’s production possibilities frontier. If the economy uses all its resources in the car industry, it can produce 1,000 cars and no computers. If it uses all its resources in the computer industry, it can produce 3,000 computers and no cars. The two endpoints of the production possibilities frontier represent these extreme possibilities.

More likely, the economy divides its resources between the two industries, and this yields other points in production possibilities frontier. For example it an produce 600 cars and 2.200 computer, shown in the figure by point A. Or by moving some of the factors of production to the car industry from the computer industry, the economy can produce 700 cars and 2,000 computers, represented by point B.

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