International Trade Theory and Policy
by Steven M. Suranovic
Trade 60-2
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The Production Possibility Frontier (Fixed Proportions Case)The production possibility frontier can be derived in the fixed proportions case by using the exogenous factor requirements to rewrite the labor and capital constraints. The labor constraint with full employment can be written as,
The capital constraint with full employment becomes,
Each of these constraint contains two endogenous variables Q_{C} and Q_{S}. The remaining variables are exogenous. We graph the two constraints in the adjoining Figure. The red line is the labor constraint. The endpoints and represent the maximum quantities of clothing and steel that could be produced if all of the labor endowment were allocated to clothing and steel production, respectively. All points on the line represent combinations of clothing and steel output which could employ all of the labor available in the economy. Points outside the constraint, such as B and D, are not feasible production points since there is insufficient labor resources. All points on or within the line, such as A, C and E, are feasible. The slope of the labor constraint is . The blue line is the capital constraint. The endpoints and represent the maximum quantities of clothing and steel that could be produced if all of the capital endowment were allocated to clothing and steel production, respectively. Points on the line represent combinations of clothing and steel production which would employ all of the capital in the economy. Points outside the constraint, such as A and D, are not feasible production points since there is insufficient capital resources. Points on or within the line, such as B, C and E, are feasible. The slope of the capital constraint is . The production possibility frontier is the set of output combinations which generate full employment of resources - in this case both labor and capital. Only one point, point E, can simultaneously generate full employment of both labor and capital. Thus point E is the PPF. The production possibility set is the set of all output combinations that are feasible. The PPS is the area bounded be the axes and the interior section of the labor and capital constraints. Thus at points like A there is sufficient labor to make production feasible but insufficient capital, thus point A is not a feasible production point. Similarly, at point B there is sufficient capital but not enough labor. Points like C however, which lie inside (or on) both factor constraints do represent feasible production points. Note that the labor constraint is drawn with a steeper slope than the capital constraint. This implies, which in turn implies (with cross multiplication), . This means that steel is assumed to be capital-intensive and clothing production is labor-intensive. If the slope of the capital constraint had been steeper then the factor intensities would be reversed.
International Trade Theory and Policy - Chapter 60-2: Last Updated on 7/31/06 |