Production Possibility Frontier - Assignment Example

Question 1 A. i. The opportunity cost to increase production of capital goods to 6 units from 2 units is BC. ii. Production Possibility Frontier “is a point where the resources of an economy are used in the best possible manner to produce goods and services so that maximum efficiency can be achieved”. (Shenk, 2010) A research in this field shows that “production possibility frontier underlies the supply curve”. (Garrison, 1995) This study has made it possible to understand the reason the production possibility curve to have a shape as shown in the diagram. The concept of production possibility was developed due “to the concept of scarcity”. (PPF, 2010) This made the production possibility curve look so. iii. The points which are attainable as seen from the curve are A, B, C, D, and U. iv. The points which will attainable by having more resources are E & W v. Yes, it is possible to work at point U but would show that some of the factors have been underutilized. B. i. The graph looks as follows The above graph shows that the equilibrium is attained at a price of 20 as the quantity demanded matches quantity supplied and is 105. ii. At a price floor of 30 quantity demanded is 90 where as quantity supplied is 120. This shows a surplus as quantity supplied is more than quantity demanded. Price floor determines “the minimum price that needs to be paid for a particular product and is devised to protect the producer”. (Price floor, 2010) It is usually seen that government employs price floor to protect the poor farmers, set the minimum wages that needs to be paid. On the overall basis it is seen that employing such a mechanism will ensure that poor are not over exploited. iii. At a price ceiling of 10 quantity demanded is 124 where as quantity supplied is 86. This shows a shortage as quantity demanded is more than quantity supplied. Price ceiling is a mechanism which the government uses. In this mechanism the governments “sets the maximum price which the product can be sold and it is usually below the market equilibrium price”. (Cram, 2010) The government looks towards setting a price ceiling is to ensure that the consumers are protected. Devising this mechanism ensures that the consumers don’t have to pay extra and is usually adopted by the government to bring a check on rising prices. iv. The complete table looks as Price Quantity Demanded Quantity Supplied New Supply curve 5 135 75 93 10 124 86 104 15 114 96 114 20 105 105 123 25 97 113 131 30 90 120 138 35 84 126 144 The new graph looks as This helps to identify the equilibrium price to be 15 and the equilibrium quantity to be 114. C. i. The demand for jewelry if household income increases looks as The above graph shows an increase in demand due to increase in income keeping the supply the same. Ii. The graph for increase in demand due to forecasted rain is as The above graph shows an increase in demand due to increase in the chances of rain keeping the supply the same iii. The graph for gym as people perceive it to be healthy The above graph shows an increase in demand due to increase health conscoiusness keeping the supply the same iv. The graph if a new car factory is opened is as A new factory increases supply of cars keeping the demand the same. Question 2 A. i. The coefficient = Change in quantity / Change in price = {(150000 – 100000) / (150000 + 100000)} / {(600 – 900) / 600 + 900)} = (50000 / 250000) / (300 /1500) = 1 The coefficient highlights that the price elasticity of demand is 1 signifying that for a 1% change in price demand changes by 1%. ii. The coefficient = Change in quantity / Change in price = {(120000 – 100000) / (120000 + 100000)} / {(600 – 900) / 600 + 900)} = (20000 / 220000) / (300 /1500) = 0.45 The coefficient highlights that the price elasticity of demand is 0.45 signifying that for a 1% change in price demand changes by 0.45%. iii. The coefficient = Change in quantity / Change in price = {(170000 – 100000) / (170000 + 100000)} / {(600 – 900) / 600 + 900)} = (70000 / 270000) / (300 /1500) = 1.3 The coefficient highlights that the price elasticity of demand is 1.3 signifying that for a 10% change in price demand changes by 13%. iv. Consumers are likely to increase the demand for product if the price falls by 50% as the elasticity is greater than 1 and is 2 which means that the demand will be twice. v. Yes it is complementary goods as the change in price of product A increases the demand for product B vi. Yes it is substitute goods as the change in price of product A decreases the demand for product B B. The imposition of tax on cigarettes decreases the demand for cigarettes as seen from the graph. The demand has fallen from 10 packets to 6. Since the price of cigarette has increased by .5 instead of 1 so the sellers bear 50% of the tax burden This has brought about a change in the burden of tax. Collection before tax = 10 * 2 =20 Collection after tax = 6 * 2.5 = 15 C. i. The table is as Q Variable Cost Marginal Cost Price per unit Marginal Revenue AVC ATC Total Profit 1 1 0 45   1 31 14 2 3 2 40 -5 1.5 16.5 47 3 6 3 35 -5 2 12 69 4 10 4 30 -5 2.5 10 80 5 15 5 25 -5 3 9 75 6 21 6 20 -5 3.5 8.5 69 7 28 7 15 -5 4 8.29 47 8 36 8 10 -5 4.5 8.25 14 9 45 9 5 -5 5 8.22 -30 10 55 10 0 -5 5.5 8.5 -85 ii. The graph for the monopolistic looks as follows The monopolistic will produce at a point where the profit is maximum. This helps to identify the maximum output as 4 units as the profit is maximum and amounts to 80 at this point. iii. The graph for a perfectly competitive market is as follows The firm will produce where revenue matches cost and there is no super normal profits. This will be at a point where profits is equal to zero. This will be mid way between 8 and 9 units. iv. At a fixed cost of 300 the chart looks as Q Price per unit Total Profit 1 45 -256 2 40 -223 3 35 -201 4 30 -190 5 25 -190 6 20 -201 7 15 -223 8 10 -256 9 5 -300 10 0 -355 The monopoly won’t produce at this point as it is continuously earning losses so the firm won’t produce at any point. Question 3 a. The growth in population and shortage in the production of goods and services is forcing the economy to look at forces which will ensure that the market is able to sustain and create competitiveness. This gives rise to competitive markets. It is one where demand matches supply and the market forces determine the price and quantity. But, since shortages arise and also leads to price differentials the government has to interfere and use certain measures like price floor and price ceilings to ensure that the market continues to function. Price ceiling is a mechanism which the government uses. In this mechanism the governments “sets the maximum price which the product can be sold and it is usually below the market equilibrium price”. (Cram, 2010) The graph after imposing the ceiling looks as follows It is seen from the above diagram that P* is the point where there is equilibrium i.e. demand matches supply. The government imposes a ceiling as P which is below the equilibrium. Producers and sellers have to ensure that they sell it below ceiling and selling above it is illegal. This creates a situation where the “marginal benefit derived exceeds the marginal cost leading to a dead weight loss” as seen from DWL. (Price ceilings, 2010) To ensure that the price ceiling continues and the price is set at that pint then the government has to interfere by supplying the goods so that stability is maintained at that price point. The government looks towards setting a price ceiling is to ensure that the consumers are protected. Devising this mechanism ensures that the consumers don’t have to pay extra and is usually adopted by the government to bring a check on rising prices. This has its bad effects and lead towards black marketing and shortages thereby sometimes making the prices climb even higher. A study conducted in the field of price ceiling highlights the fact that “price ceiling leads towards creation of collusion”. (Norman & Engelmann, 2006) This states that ceilings lead towards market where the prices are low then it should be in a competitive market. This forces the suppliers to form collusion so that they can black market the goods and earn a higher return as the demand is more at that point. This thereby sometimes help the manufacturer and suppliers but proper government watch and reforms can ensure that such tactics don’t apply. A look at the price ceiling above and below the market equilibrium also helps to identify areas which are vital and useful for planning. The graph looks as follows Setting the price ceiling higher than the equilibrium will lead towards little effect as the market will continue at the same equilibrium because of excess supply the customers won’t be willing to pay extra. This will result in more goods which will finally drive the price down to equilibrium. (Cram, 2010) Setting price ceiling below will result in low price charged and create excess demand in comparison to supply but since a legal intervention has been put it will force the producers to sell at this price as seen above. This will make certain producers go out of the market. It will also create a rationing system and it is often seen that government combine their rationing programs with the ceilings to ensure supply for the consumer. For example, it is seen that in the medical field government puts a restriction on certain drugs by announcing the maximum price to be charged especially if it’s a life saving drug. This thus protects the consumers and helps even the poor section to get the products easily. Pricing ceiling is thus a mechanism which government adopts to reduce the pressure on the consumers. This helps to ensure that the market has the necessary competitive spirit and there is no concentration of power in the hands of a few players. This helps to ensure that the government is able to deliver upon the promises and it helps to check over exploitation by the private players. This is a mechanism which is mostly employed in poor and developing countries and is used when the economy is under severe inflationary conditions. Having a price ceiling in those situations helps ensure that the customers are not exploited. This is thereby a mechanism which restrict the private players from misusing their power and look at the broader picture of the society. Having a price ceiling is a common phenomenon is most countries as the government has to look towards the well being of the society. While doing so the government also ensures that the private players are not over burdened. This could have a negative effect and could further increase pressure on the government as certain production houses might shut down operations which will be a hindrance in the path of the government. Thus, having a price ceiling ensures that the consumers are protected and helps to bring uniformity in the market by ensuring that the intervention of the government acts as a step which protects the larger interest of the society. b. Externalities are referred as third parties effects which arise due to factors like production and consumption of goods and services which does not account for any sort of compensation (Externalities, 2011). This results in large loss to the society if the cost associated with the same in not taken into consideration. This creates a negative externality and results in a loss for the society. This makes it important that government intervenes and look towards the betterment of all. Negative externalities thus arises in situation when the production or consumption of goods results in an external cost for the society but no compensation has been paid for it. For example, land dumping, passive smoking, air pollution and, others (Externalities, 2011). This helps to identify that the social cost for the society = private cost + external cost. In case of negative externalities social cost becomes more than the private cost. This cost is not compensated by any one resulting in a loss for the society. This is shows in the graph below The above graph shows negative externalities as the social cost is more than the private cost. Since, this cost hasn’t being compensated by any one it results in extra burden on the society. This makes it important that government intervenes to assure that the social cost is taken care of. Negative externalities can be reduced by imposing different types of taxes. This will increase the burden on the company as the private cost will rise. To ensure that the negative externalities don’t raise business will take steps in this direction. Some of the ways in which externalities can be reduced are as follows Land Fill Tax: will ensure that organizations emitting large scale pollution are compensated accordingly. Putting a tax on companies dumping harmful and materials not suitable for use will help to bring down the land fills and will act as a measure to curb negative externalities (Riley, 2006). Pollution Charge: is a mechanism through which the government charges the private parties who use the public space. Increasing the pollution charge will reduce the dependance on private vehicle. This will help to bring down pollution levels as the entire population will look towards using the same infrastructure and reduce the pollution level thereby helping to curb negative externalities (Riley, 2006). Plastic Bag Tax: is a way through which the government charges people who manufacture plastic bags. Since, plastic bags don’t decompose so having a tax which increases the cost of plastics will shift people to use other materials like paper. This will help to curb the land and environmental pollution. This is a step which requires monitoring and strictness and will ensure that the negative externalities reduce to a large extent (Riley, 2006). Using the above mentioned methods to reduce externalities will increase pressure on the government and will have an effect in the way negative externalities are controlled. Some of the effects of controlling negative externalities through the above methods are as below Assigning the right tax structure: It is very difficult for the government to identify the correct tax structure which will help to reduce the negative externalities. There could be a situation where imposing a tax has little or no effect on the negative externalities. This thereby will fail the objectives with which the tax was ascertaining (Riley, 2006). Incomplete information: with the government is another area which will make it difficult to reduce the negative externalities. To ensure effective measures of reducing negative externalities it is important that the government gather all the information to determine the appropriate structure. This is difficult thereby making it difficult to ensure a correct mechanism to reduce externalities (Riley, 2006). Consumer welfare effects: Imposition of taxes by the government will lead towards a situation where the prices of the products are raised to a certain extent. A part of the tax will be borne by the customers. This will increase the pressure on the government as they will have to cope with the extra taxes thereby having an effect on the welfare of the consumers (Riley, 2006). Employment & investment consequences: Imposition of taxes will increase unemployment as certain manufacturing units will shut down operations. Taxes will take away a share of the profits for the private players which will also have an effect on investment as it will reduce. Thus taxes will have a negative effect and might lead towards reduction in investment and more unemployment. This makes it important that the government identifies the manner in which negative externalities are controlled and while devising a mechanism it has to be ensured that the negatives form using that method is limited. The government has to ensure that the negative externalities get reduced. The government on this aspect has to design a mechanism which helps to reduce the externalities. While doing so it should be ensured that the steps don’t backfire as it could put the government in a situation where coming out of it becomes difficult. The government needs to weigh all the possibilities and gather the useful information from the market. Also developing a model which looks into minute details and ensures that the steps reap maximum benefit will help the economy. Thus, the government by having an appropriate model will ensure that the government is able to control negative externalities. This will thereby act as a measure to bring down the effects of negative externalities and help the economy on a whole. c. An instance which highlights negative externality is in the use of plastics. Since, plastics don’t decompose so it leads towards land fills and increase in environmental pollution. In this situation the cost is more than the benefits reaped from it. This is making the society loose valuable money and resources as the externalities are having an effect on the pattern of consumption. The Australian government faced this situation and it has resulted in a situation where the social cost is more that the private cost. This results in dead weight loss for the society and is an area that needs to be watched out. The manner in which it leads towards a deal weight loss is shown in the graph below The above graph shows that using plastics which had harmful effects on the environment resulted in the dead weight loss as highlighted by the arrow mark. This is a loss for the society and it is the responsibility of the government to ensure that the negative externality reduces (Negative Externalities, 2011) This led towards rapid rise in global warming, sea level rising, and the amount of consumable water depleting is a concern for all economy. The Australian government on their part has started with the Carbon Pollution Reduction Scheme with the aim to reduce emission. The government has set a cap and will work towards those and ensure that it’s below the limits. The government for this scheme has developed the overall initiative looking into different areas. The scheme will yield better results if recycling is also looked into seriously. The Carbon Reduction Pollution Scheme started by the Australian government is an initiative to reduce carbon emission. “The scheme starts in 2011 with the prime mechanism to reduce greenhouse gas emissions”. (DAFF, 2010) The government to ensure that emission levels fall have taken “commitment to reduce it by 60% by 2050 of 2010 level”. (DAFF, 2010) The government for this is only looking towards the domestic sources. The government while devising the pollution scheme has looked into the fact that the terms of the Kyoto Protocol which is in favour of reducing carbons is taken care of. The Carbon Reduction Pollution Scheme as framed by the Australian Government has proposed “the cap and trade system to control green house gas emission “. (CRPS, 2010) The government in this scheme has “kept an upper limit to the amount of carbon the country will emit and will reduce it as years pass by on a rolling basis”. (CRPS, 2010) In this scheme “a cap has been placed and as the caps lower the emission level has to come down”. (CRPS, 2010) The scheme works as a cap has been put and trading in carbons will be allowed. For example suppose a cap has been put on 200 tones of carbon dioxide than it will be ensured that the emission is below limits. “The country has allowed for trading of carbons and the price will be determined on the basis of market price”. (CRPS, 2010) The emission arises most due to “landfills of organics which emit carbons and if a process of recycling is looked for especially for the electronic goods industry it will help to curb down emission”. (Gerard, 2010) The cost for each item should be decided on the amount of emission it does which will help to keep the goods disposed by household out of this purview. The recycling of electronic equipments will help to reduce emission. The Carbon Pollution Reduction scheme in tandem with the recycling plant will help to curb emission. “Recycling of mobiles phone will ensure that new materials are processed from those as 90% of the materials used in mobiles can be used to recycle and make items like jewellery, steel products and plastic posts”. (Mobile Phone Recycling, 2008) this will help in the scheme as “2120 kg of mobile phones have been used as land fills and recycling those will curb emission and will allow the Australian government to ensure that the cap limit can be lowered every year”. (Mobile Phone Recycling, 2008) Thus, the step by the government to bring a binding on the use of plastics and ensure recycling of the waste is ensuring that the negative externalities reduce to a large extent. This is also helping to ensure that the dead weight loss for reduces to a large extent. d. The government can look towards solving the negative externalities by having the following steps in place Gathering the collect information: The government needs to ensure that the correct information form the correct source is gathered so that the policies related to the taxation structure can be determined. This will help to ensure that the effectiveness of the structure increases and the negative externalities reduce to a large extent (Caplan, 2008) Look for alternatives: the government needs to look at different alternatives that are available to the consumers. This will help to reduce the dependence on plastics and will help to curb the negative externalities associated with the same. Along with it the government needs to ensure that the industry which will help to solve this ever increasing problem of plastics is supported by the government. This will act as a measure which helps the industry to grow and will ensure that the externalities reduces (Caplan, 2008) Carbon emission trading: In this scheme “a cap has been placed and as the caps lower the emission level has to come down”. (CRPS, 2010) The scheme works as a cap has been put and trading in carbons will be allowed. For example suppose a cap has been put on 200 tones of carbon dioxide than it will be ensured that the emission is below limits. “The country has allowed for trading of carbons and the price will be determined on the basis of market price”. (CRPS, 2010) This will act as a measure to curb environmental degradation as companies will look to save carbons so that they can gain by trading in it. This will thereby help to reduce the negative externalities. Increasing compliances: is another way which will help to reduce the negative externalities. The government can increase the compliance process which will make it difficult for the industries to be able to meet those. This will automatically ensure that the government is able to take control of the negative externalities. (Caplan, 2008) The government has different mechanism which it can look towards using which will help to bring down the negative externalities. Using any of the above mentioned alternatives will bring certain obstacles along with it. This is an area that organizations need to look at develop a model which will ensure that by using the above mentioned alternatives the economy is able to control externalities. This will thereby help the economy to ensure that using a mix of different steps reduces negative externalities which will result in benefit for the consumer and the dead weight loss associated with the externalities gets reduced to a large extent. References Boyes, W. & Melvin, M. 2008, “Macro economics”, 7th edition, Houghton Mifflin Company Cram, 2010, “Price Ceiling”, Economics, The New York Times Company CRPS, 2010, “Carbon Reduction Pollution Scheme”, Government of Australia Undertaking, retrieved on April 14, 2011 from http://sites.thomsonreuters.com.au/carbon/ DAFF, 2010, “Carbon Reduction Pollution Scheme”, Department of Agriculture, Fisheries and Forestry, retrieved on April 14, 2011 from http://www.daff.gov.au/climatechange/carbon_pollution_reduction_scheme Externalities, 2011, Negative Externalities, retrieved on April 13, 2011 from http://tutor2u.net/economics/revision-notes/as-marketfailure-negative-externalities.html Garrison R, 2005, “Linking the Keynesian Cross & the Production Possibilities frontier”, Journal of Economic Education, Volume 26 Gerard V, 2010“Recycling in a carbon constrained environment”, Westwick-Farrow Pty Ltd Mobile Phone Recycling, 2008, “Mobile Phone Recycling now easier in Canberra”, Westwick-Farrow Pty Ltd PPF, 2010, “Production Possibility Frontier”, retrieved on April 13, 2011 from www.oxfordtextbooks.co.uk/orc/gillespie_econ Price floor, 2010, “Price Floor retrieved on April 13, 2010 from www.economics.fundamentalfinance.com Price ceiling, 2010, “Price Ceilings”, retrieved on April 13, 2011 from www.economics.fundamentalfinance.com Norman H & Engelmann D, 2006, “Price ceilings as focal point: an experimental test”, Social Science Research Journal, Volume 13, Issue 2, page 2-13 Negative Externalities, 2011, Negative Externalities, retrieved on April 13, 2011 from http://www.economicshelp.org/marketfailure/negative-externality.html Riley, G. 2006, Government Intervention & Externalities, retrieved on April 13, 2011 from http://tutor2u.net/economics/revision-notes/as-marketfailure-government-intervention.html Shenk R, 2010, “Production Possibility Frontier”, retrieved on April 13, 2011 from http://www.tutor2u.com Read More