Production Possibility Curve, Effects On Equilibrium Price And Output, Elasticity Of Demand, Output And Costs

Nepal's textile and plastics production possibility curve

(a) Nepal is a major exporter of textile and plastics. The following production possibility curve (PPC) represents the textile and plastics output of the economy, with various production bundles:

State if the following statements are TRUE or FALSE. Provide a short explanation for your answer.

(i) A decision to produce bundle D instead of bundle B will lead to an opportunity cost of 70 units of plastics.

(ii) Production bundle F is unattainable.

(iii) There is no difference between production bundles C and E in terms of resource utilisation.

(iv) Production bundle A can be attained with technological advancement.

(v) B, C and D represent efficient production bundles.

(vi) The shape of the PPC will not be concave if the textile output was plotted on the vertical axis and plastics output was plotted on the horizontal axis.

(b) South Korea is one of the world’s leading smartphone producer. Explain the effects of the following incidences on the equilibrium price and output in the market for Android smartphones in South Korea. Use a demand and supply diagram for each scenario to illustrate your answers.

(i) A recent diplomatic row between Japan and South Korea had resulted in Japan restricting the exports of semiconductor materials used to produce smartphones to South Korea.

(ii) The trade war between the United States and China had led to a ban on China’s Huawei Android mobile phones from access to updated apps, including popular services such as Google Maps, Music, YouTube and others.

The table shows elasticity of demand for various items.

(a) If the organiser of the BlackyPink Kpop concert wishes to increase total revenue, explain the pricing strategy it can adopt. Use a diagram to illustrate your answer.

(b) If the median income in Singapore rose from $4,000 to $4,700, calculate the change in demand for air-conditioners.

(c) If the price of the related good to wireless headphones rises by 15%, calculate the  change in demand for wireless headphones. Give an example of such a related good.

Food blogger Danial Fries decided to act on his love for fast food by setting up his very own burger joint, the Shakey Shacky. The following table shows the output and cost of the burger joint.

(a)

(i) Find the missing variables in the table above. Show all working and label each variable correctly.

(ii) Identify one fixed factor and one variable factor of production.

(iii) Identify the point where the burger joint first experiences the law of diminishing marginal returns in production. Provide a brief explanation for your answer.

(iv) Assume that Danial’s burger joint currently hires 3 waiters. If he were able to vary all factors of production to hire 6 waiters to operate 2 shops equipped with 8 grill ovens, suggest a possible output that would illustrate increasing returns to scale in production.

(b) Danial discovered that he could only sell each burger for $24. If he raised the price above $24, he would not have any customers at all.

(i) Identify the market structure for burgers and provide relevant justification.

(ii) Find the optimal number of burgers to be produced by Danial’s burger joint.

(iii) Calculate the profit made based on the output in (b) part (ii).

(iv) Use relevant diagrams to illustrate and explain the long run profit of the burger joint.

1. i) A decision to produce bundle D instead of bundle B will lead to an opportunity cost of 70 units of plastics.

The above statement is true. The production level of plastics needs to be diminished from 100 units to 30 units as to enhance the textile production.  The opportunity cost denotes the amount of goods needs to be sacrificed in order to obtain other good in the monetary terms.

(ii) Production bundle F is unattainable.

The statement is false. The company will operate under inefficiency if the point F lies under the Production Possibility Frontier (PPF). The available product endowments on the PPF are utilized by the producers at optimum level.

(iii) There is no difference between production bundles C and E in terms of resource utilization.

The statement is false. There is a notable difference as the level C indicated full efficient utilization of resources, whereas, level E denotes inefficient utilization of resources as textile has not been properly utilized.

(iv) Production bundle A can be attained with technological advancement.

The above statement is true. The technical enhancement in the production process can shift the PPF to the outward movement, implying the growth in the production process.

(v) B, C and D represent efficient production bundles.

The statement is true as all the three production bundles, such that, B, C and D lies on the PPF. The each and every resource endowment available on PPF denotes most efficient production endowment.

(vi) The shape of the PPC will not be concave if the textile output was plotted on the vertical axis and plastics output was plotted on the horizontal axis. 

The above mentioned statement is false as the PPC or PPF cannot be concave even if the resources change their axis positions. The concave PPC indicates that opportunity cost of production of one good increases as a response to augment the productivity of on good.

(b) (i) The recent trade restriction of Japan on smartphone production of South Korea

Figure 1: Export restriction diminishes supply

Source: (Created by the author)

The current trade restriction on the export goods of South Korea by Japan results in the detrimental impact on the production of the android smartphones in South Korea (Moeller 2018). The semiconductor material is the core input material during the course of smart phone production. The trade restriction on the export goods including the semiconductor is likely to cause diminishing effect on the supply of the android phone (Lee et al. 2016). As a consequence to that, the contraction in supply results in the enhancement of the commodity price with respect to the existing demand level, stated in figure 1.

Effects on equilibrium price and output in South Korea's android smartphone market

(b) (ii) The global trade war impacts on smartphone market of South Korea

Figure 2: Trade conflict boosts the smartphone demand

Source: (Created by the author)

The emerging trade conflict between China and the USA was considered as a cause of diminishing demand of China’s Huawei smart phone. This android company is the major competitor for South Korea’s smartphone companies (Hemmert Bstieler and Okamuro 2014). The lowering demand for China’s smartphones is expected to enhance the demand for South Korea’s smartphones. Referring to the figure 2, the growth in demand surge both the price and quantity level with respect to the given supplied amount.

(a) The revenue enhancement strategy of BlackyPink Kpop concert

The price elasticity of demand is always negative as increase in the price level discourages the consumption level of the consumer. Here, the price elasticity is valued at 0.35, less than 1. This states that the demand of the product is inelastic implying that increase in the price level brings negligible change on the demand (Bas, Mayer and Thoenig 2017). The slope of the demand curve is comparatively stepper here.

Figure 3: Inelastic product

Source: (Created by the author)

On the account of inelastic price demand explained in the figure 2, the change in price from P₁ to P₂ results in the minor change in the demand from Q₁ to Q_2. Therefore, revenue will likely to see a considerable growth via surging the price level.

1. b) The rising income impacts on demand

The change in the median income level from $4,000 to $4,700 will alter the demand for air-conditioner by 6.65%. Income elasticity is stated here 0.95 which is less than 1 implying that the air-conditioner is the necessary good. Hence, the sizable change in income calls for minor change in the demand for the necessary good.

(c) The impact of relative price change of the related good on wireless headphone

The negative cross elasticity of demand, valued at -2.4, denotes that the related goods are complementary goods for the wireless headphone. The increase in the price of one good decreases the demand of other good and vice-versa. The 15% hike in the price of related goods will pull down the demand of the wireless headphone by 36%.

(a) – (i)

Table 1: Production details of Danial’s burger joint

Source: (Created by the author)

(a) – (ii)

Fixed factor is capital and labor is a variable factor.

(a) – (iii)

The diminishing level of production here starts when company produces 172 units with help of 5 units of labor.

Elasticity of demand for various items

(a) – (iv)

Considering the production plan with 6 waiters, 2 shops along with 8 grill ovens, Danial’s burger joint is expected to yield 200 units of product. Table 3 denotes that. The company will no longer be able to improve productivity if it hires labor more than 3 units. The company is found to produce optimum output up to 3 units of labor. As a consequence to that, the company has planned to start a new shop with the same amount of input structure. Finally, the company’s expected total output will be 200 units by employing total 6 number of waiters and 8 number of grill ovens.

b (i)

As per the report, the company operates its business in the perfect competitive market. This sort of market structure allows the producers to do free entry and free exit (Azevedo and Gottlieb 2017). The company will apparently loose al the customers if it charges price more than $24. The consumer will start buying another company’s good as there are several companies are ready to offer goods with same features at $24 or below.

b (ii)

The optimum number of burgers produced by the company will be 140 units as at the market price level equals to the marginal cost of $24.

b (iii)

Considering b (ii), the company fails to earn profit at the optimum level. The total cost ($4735) exceeds the total revenue ($3360) at the optimum output level.

b (iv) Long run profit scenario

  The all companies are permitted to do free entry and exit from the market under the perfect competitive market structure. There are large number of sellers who produce goods with same features via giving perfect market information to each and every buyers. The market offers a lot number of perfect substitute goods to the buyers.

Figure 4: Long-run perfect competitive market

Source: (Created by the author)

Figure 1discusses the long-run profit condition of the company. In terms of the long run perfect competitive market, no company is able to obtain profit as a number of companies can join the market when profit occurs there (Cardoso and Crespo 2014). Meanwhile, the companies are allowed to exist while the market is suffering from loss. Therefore, the burger joint earns normal profit implying no loss and no gain on the long-term basis.

References 

Azevedo, E.M. and Gottlieb, D., 2017. Perfect competition in markets with adverse selection. Econometrica, 85(1), pp.67-105.

Bas, M., Mayer, T. and Thoenig, M., 2017. From micro to macro: Demand, supply, and heterogeneity in the trade elasticity. Journal of International Economics, 108, pp.1-19.

Cardoso, M. and Crespo, E., 2014. Some critical appraisals on the profit-led models of growth.

Hemmert, M., Bstieler, L. and Okamuro, H., 2014. Bridging the cultural divide: Trust formation in university–industry research collaborations in the US, Japan, and South Korea. Technovation, 34(10), pp.605-616.

Lee, K.E., Kim, S.H., Ha, T.Y., Yoo, Y.M., Han, J.J., Jung, J.H. and Jang, J.Y., 2016. Dependency on smartphone use and its association with anxiety in Korea. Public Health Reports, 131(3), pp.411-419.

Moeller, J.O., 2018. US–China Trade War: Opportunities & Risks for Southeast Asia.