Chapter 1. WIO_Krugman_Chapter2

Step 1

Work It Out

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You must read each slide, and complete any questions on the slide, in sequence.

Question

Atlantis is a small, isolated island in the South Atlantic. The inhabitants grow potatoes and catch fish. The accompanying table shows the maximum annual output combinations of potatoes and fish that can be produced. Obviously, given their limited resources and available technology, as they use more of their resources for potato production, there are fewer resources available for catching fish.

Maximum annual Output options	Quantity of potatoes (pounds)	Quantity of fish (pounds)
A	1,000	0
B	800	300
C	600	500
D	400	600
E	200	650
F	0	675

Table

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Step 2

Question

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Step 3

Question

Assume the economy of Atlantis only produces fish (point F). Calculate the opportunity cost of producing potatoes in 200 pound increments.

Maximum annual Output options	Quantity of potatoes (pounds)	Opportunity cost of Producing potatoes in terms of fish
F	0	FiDgTn4erZQ=
E	200	umtCjsP7rSENfBJaT4jiWW5cFfc=
D	400	3kWgAzDPl7+1jYG3gkc6rqBpvFI=
C	600	wiwMMLS1GL0C3Snq6EpFNChLaS4=
B	800	xTp3ztpprOZgQpPXo58zjY68L1M=
A	1,000	Vfrb19FEP2MHqM8jpRfoPFtudFM=

Table

To calculate the opportunity cost of producing potatoes (in terms of producing fish) you must calculate the change in quantity of fish produced as potato production is increased. For example, as potato production increases from 0 to 200 pounds, fish production decreases from 675 to 650 pounds. So the opportunity cost of producing the first 200 pounds of potatoes is 25 pounds of fish. Similarly when increasing potato production from 200 to 400 pounds, the result is a decrease in fish production from 650 to 600 pounds. Increasing potato production from 600 to 800 pounds results in a decrease in the production of fish from 500 to 300 pounds, or an opportunity cost of 200 pounds of fish.

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Step 4

Question

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In your response you should note that as the island of Atlantis faces increasing opportunity costs. Starting with zero potatoes (point F) and increasing production by 200 pounds leads to a decrease in the production of fish from 675 to 650 pounds(point E). The slope of the PPF from point F to point E is found by taking the change in fish production divided by the change in potato production which is -25/200 or -1/8. Furthermore, increasing the production of potatoes to 400 pounds leads to a decrease in fish production from 650 pounds to 600 pounds (point D). You will notice that with every 200 pounds of potatoes produced;the island must give up increasingly more pounds of fish. The slope from point E to point D is -50/200 or -1/4. Finally increasing potato production from 800 to 1000 pounds, moving from point B to point A,has an opportunity cost of 300 pounds of fish. The slope for this segment is -300/200 or -3/2. You will notice the production possibilities frontier gets steeper, the slope gets larger in absolute value, as the island produces more pounds of potatoes and fewer pounds of fish. The changing opportunity cost implies that as Atlantis produces more potatoes, the higher the opportunity cost. For instance, the island grows more and more potatoes, they will have to use less and less suitable land to do so. As a result, you have to divert increasingly more resources away from fishing as you grow more potatoes, meaning that you can produce less fish. This implies, ofcourse, that the production possibility frontier becomes steeper the further you move along it to the right, with the result that , the production possibility frontier has a bowed–out shape.

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