What Is a Production Possibilities Curve? (With Explanation)

By Indeed Editorial Team

Published 29 June 2022

The Indeed Editorial Team comprises a diverse and talented team of writers, researchers and subject matter experts equipped with Indeed's data and insights to deliver useful tips to help guide your career journey.

A production possibilities curve is an economics tool that can help you understand how to efficiently and reasonably use production resources to create two commodities. It also shows the opportunity costs associated with producing more or less of these commodities. Interpreting a possibilities curve for production and comparing curves over time can help you make better business decisions. In this article, we explain what a production possibilities curve is, discuss how it works and share how to create and use one in a business.

What is a production possibilities curve?

A production possibilities curve (PPC) is a graph that shows the maximum output for two different products or services using available resources. Resources can be natural resources, such as land, capital goods such as equipment, labour and entrepreneurship. The most efficient businesses and societies produce as much as they can using all the resources they have. The PPC makes clear that when using all available resources, increasing the production of one good or service requires reducing the production of the other. Here are some other names for a production possibilities curve:

  • Transformation curve

  • Production possibilities frontier

  • Production possibilities boundary

Related: 15 Types of Graphs and Charts (With Examples)

How a PPC works

Each point on the PPC shows the number of products or services a business or economy can deliver efficiently when it allocates resources to create a set number of two commodities. It may create more of one commodity and less of the other or an equal mix. Points inside the curve show inefficient options. At these points, the entity uses fewer resources than it has available. Points outside the curve show unattainable options. At these points, the entity uses more resources than it has available. As the curve moves from one efficient option to the next, the graph shows how much of one commodity gets sacrificed to create more of the other.

The shape of a PPC reveals the state of resources. A PPC with a bowed-out shape shows increasing opportunity costs while a bowed-in curve shows decreasing opportunity costs. A linear slope, rather than a curve shape, shows constant costs.

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How to create a PPC

Here are the common steps for creating a PPC for the business:

1. Label the axes with products or services

A PPC has a standard x- and y-axis. Each axis gets labelled with one of the two products or services compared on the curve. For example, a toy maker may label one axis 'Dolls' and the other axis 'Cars'.

2. Calculate how the business could use its resources

Performing calculations gives you data to plot your points on a graph. Consider how many of each commodity you could efficiently produce if you produced none of the other. Then perform other calculations to determine how much of each commodity you could create if you were creating a mix of both commodities. You could calculate how many commodities you could create when producing an even mix and more of one commodity and less of the other. Express each pair of numbers as coordinates, with the commodity on the x-axis written first.

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3. Plot points on the graph

You can now create your PPC by plotting the data from your calculations onto the graph. Carefully transfer every coordinate from your calculations to the graphs. You can complete your PPC by connecting your points with a smooth line. The accuracy of your PPC increases the more points you plot.

4. Revise the PPC periodically

As conditions change, so may your PPC. For example, if the business employs new manufacturing technology, it may be able to increase its overall production numbers. There may also be advances that boost efficiency for producing one commodity or the other. Revising the PPC periodically to reflect changes like these ensures you can work with the most accurate, current data.

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Ways to use a PPC

Here are the common ways you can use a PPC to learn more about the business and make better decisions:

Assess the efficiency of current production

The PPC can tell you whether the business uses its resources efficiently. Simply plot your current production levels to see if they sit on the curve, inside it or above it. If the current production level is on the curve, this confirms the business is on the right path.

The business can also take corrective measures if its production levels are on either side of the curve. If the business's production levels sit inside the curve, it could increase its production levels and potentially increase its profits. If demand suggests a production increase may create a surplus, the business may grow its market first by launching a marketing campaign or expanding its delivery area, for example. If the business's production levels sit outside the curve, it could decrease production to preserve its resources. It may then try to increase its resources to restore output to its previous level.

Related: What Is Benchmarking in Business and Why Is It Important?

Assess the efficiency of production plans

Before implementing production plans, you can consult a PPC to see if the plan is efficient. If the curve suggests your plans are the most efficient, you can feel confident proceeding. You may also revise your production plans if they fall outside the curve to make sure they take advantage of available resources.

For example, if the PPC suggests your resources are inadequate for your production targets, you may decide to make less of a particular product to ensure you have sufficient resources. You could also try to procure the resources you need to meet your production goals. If you can secure more resources, you can create a new PPC to reflect increased resources.

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Plan use of very limited resources

When a business has very limited resources, when it's launching, for example, it's important to use those resources available efficiently. A PPC can help a business on a restricted budget make the smartest choices for its resources. Information from a PPC can help a business decide which products to prioritise and at what ratio.

Related: What Is Material Requirements Planning (MRP)? (5 Step Guide)

Calculate opportunity cost

If the toy maker above wants to make more dolls, it's important to make fewer cars to use its available resources efficiently. The reverse is also true. Coordinates from the toy maker's PPC can help the company calculate the opportunity cost. This is the cost of one commodity in terms of the number of the other commodities that were sacrificed. Calculating the opportunity cost can help you decide whether it's worth giving up something to make more of something else.

The formula for calculating the opportunity cost of commodity X is (Y1-Y2) / (X1-X2), where the 1 values represent the current situation and the 2 values represent the planned situation. For example, the toy maker currently makes six dolls and two cars each week. It wants to increase car production to three a week. The PPC says the most efficient way to do this is by reducing doll production to four. This means the opportunity cost of one car = (6-4) / (3-2) dolls = 2/1 dolls = 2 dolls. In other words, the toy maker gives up two dolls to make one car.

Related: What Is Project Cost Control and Why Do Projects Need It?

Compare PPCs over time

As factors such as technology and the economy change, so will the PPCs. Comparing the way PPCs change over time can reveal how conditions have changed. For example, if a new PPC sits above a previous curve it shows the economic climate has improved. Production levels that were impossible in the past are now the most efficient use of resources, perhaps because technology has improved or the business has more resources available to support increased production.

Comparing past and present PPCs can also help you predict the future. If the curves change in a consistent way, you might expect similar changes in the future. Your predictions can help you set realistic production goals.

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