I’m currently taking a Microeconomics class, and we were going over the productive capacity curve at the end of class and how the graph gets shifted, how the slope/concavity changes, etc. Anyway, at the end of class he asked a question he wanted us to think about before the next class (Thursday). The question was something along the lines of: “Assume there is a recession and there is unemployment. What does this do/how does it affect the shape of the productive capacity graph?”
Anyway, it got me thinking… aren’t there numerous things it could do? This assumes a group of people (lets call it a nation) can only produce two things (Lets call them A and B).
The first thing I thought unemployment could do (assuming that the companies only lay off workers to ensure profitability/survival) would be to keep the PPC graph the same (as in the MAXIMUM productive capacity doesn’t change) and the unemployment merely puts a point underneath the curve (Indicating that some resources aren’t being utilized (in this case labor)).
Then I thought that if its a classical Austrian recession and the unemployment is mal-investments being liquidated that the curve would change because either A, B, or both (if there were mal-investments in both) would lose productive capacity so the PPC graph would lower because the nation couldn’t produce as much.
I was just wondering if either of these is the “right” answer or if they’re both right or if there are options I haven’t considered.
I only skimmed over it, but (from what I read, which was limited as I was reading right before class) there was nothing on the affect of unemployment on the PPF. While I guess the point was for me to come to the conclusions based the “Austrian” perspective regarding the PPF, my point is that I’ve come to conclusions based on my own assumptions and wanted to know if mine were backed up by people who had written on this subject specifically or any of your opinions.
Well… you can’t really draw a PPF then because what people consider “maximum utilization” changes from day to day… whats the point of even studying it? I guess most central planning involves the assumption of “Normal” conditions (whatever those are) so thats why its intrinsically flawed.
But, if a company is liquidated and unemployment results as a result of that, the curve changes but a point on the curve isn’t dotted as the actual production… whereas if a company merely lays off worker to ensure profitability then there is a point plotted that is below the curve.
Like what Sr. Catalan said, unemployment above the natural rate of unemployment, irrespective of the cause, would represent a point within the inner region underneath the maximum PPF curve.
If resources are simply malinvested, because of a previous credit expansion, then such a liquidation would mean the reallocation of non-specific factors in the production from one set of goods to another. This would be represented by the movement of the point within the PPF, without an inward shift of the PPF curve.
For the specific factors, either those factors remain idle or in time adapted for more appropriate uses. This again is represented by the movement of the point within the PPF, without an inward shift of the PPF curve.
Keep in mind that the PPF model posits a maximum output, not that all possible resources would be put to productive use.
That said, a prolonged credit expansion can bring can bring about a phenomena called capital consumption. In a progressive or static economy, capital either needs to be adequately maintained or replaced. But instead, resources necessary to maintain these essential capital goods are diverted into some other project. This neglect over time would erode the productive capacity for a particular line of production.
Too much capital consumption and the economy would regress. In terms of the PPF, the resulting loss of productivity because of capital impairment (capital goods are worn out or ruined) can be represented by an inward contraction of the PPF region.
There really is no purpose to the PPF. It’s meant to symbolize what would be maximum productivity, and then see where the economy is at currently (whether it is underpreforming, or if growth is unsustainable). But, what does the image matter if the people using it don’t have the proper theoretical framework to even really know whether the economy is unsustainable or not? And, using employment as a measure is misleading. Unemployment prior to the 2007 bust was higher than any previous “natural unemployment”, thanks largely to the welfare state, and yet economic growth was unsustainable, yet I’m sure that most mainstream economists didn’t consider the growth unsustainable.
In any case, I’m not sure any economist takes the PPF seriously outside of a basic macroeconomics class. It’s purpose is only to illustrate a concept, similar to supply and demand graphs, although the concept being illustrated by the PPF curve arguably doesn’t even matter (and is somewhat obvious).