Final answer:
Combinations of output inside the production possibilities curve represent inefficient use of resources. The PPF signifies productive efficiency where resources are fully utilized. Points inside the PPF suggest underutilization and the potential to increase production.
Step-by-step explanation:
Combinations of output that fall inside the production possibilities curve have inefficient use of resources. The production possibilities frontier (PPF) represents various combinations of the maximum amounts of two goods that can be produced with available resources and technology. Points on the PPF show productive efficiency, where resources are fully utilized. Any point inside the PPF indicates that more of one or both goods could be produced with the resources available, thus suggesting inefficiency.
The law of diminishing returns states that as more resources are added to production, the increase in output will become smaller. When an economy is operating on its PPF, it is not possible to increase the production of one good without reducing the production of another, a concept known as opportunity cost. However, if combinations are inside the curve, it means that resources are not being used to their full potential, and there is room to increase production until reaching the PPF, where the economy is efficiently using its resources.
Allocative efficiency occurs when the mix of goods being produced represents the mix that society most desires, and it is found at a specific point on the PPF. Changes in preference, technology, or the amount of resources will shift the PPF, reflecting new efficient combinations of production. Specialization and trade based on comparative advantage can allow countries to enjoy a greater variety of goods than they would be able to produce on their own.