Suppose an economy produces only two goods, X and Y. If year 1 is the base year, which of the following statements about the Production Possibilities Frontier (PPF) is correct?

• A. The PPF in year 1 is a straight line only if the opportunity cost of producing X and Y is increasing.
• B. The PPF in year 1 shows all combinations of X and Y that the economy can produce using all resources efficiently.
• C. The PPF in year 1 shows only the combinations of X and Y that the economy actually produced in that year.
• D. The PPF in year 1 cannot be used to analyze productive efficiency.

Answer: (B)

Verified step by step guidance

1. Step 1: Understand the definition of the Production Possibilities Frontier (PPF). The PPF represents all possible combinations of two goods (X and Y) that an economy can produce using all available resources efficiently and technology at a given time.
2. Step 2: Recognize that the PPF shows potential production combinations, not actual production. It illustrates the maximum output possibilities, assuming full and efficient use of resources, rather than what was actually produced.
3. Step 3: Analyze the shape of the PPF. A straight-line PPF implies constant opportunity costs between producing goods X and Y, while a bowed-out (concave) PPF indicates increasing opportunity costs as more of one good is produced.
4. Step 4: Evaluate the statements given in the problem. The correct statement should reflect that the PPF shows all efficient production combinations possible in the base year, not just actual production or inability to analyze efficiency.
5. Step 5: Conclude that the PPF in year 1 shows all combinations of X and Y that the economy can produce using all resources efficiently, which aligns with the fundamental concept of the PPF.