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| ==Opportunity costs in consumption== | ==Opportunity costs in consumption== | ||
| Opportunity cost is assessed in not only monetary or material terms, but also in terms of anything which is of value. For example, a person who desires to watch each of two television programs being broadcast simultaneously, and does not have the means to make a recording of one, can watch only one of the desired programs. Therefore, the opportunity cost of watching ''Dallas'' could be not enjoying the other program (such as ''Dynasty''). If an individual records one program while watching the other, the opportunity cost will be the time that the individual spends watching one program versus the other. In a restaurant situation, the opportunity cost of eating steak could be trying the salmon. The opportunity cost of ordering both meals could be twofold: the extra $20 to buy the second meal, and his reputation with his peers, as he may be thought of as greedy or extravagant for ordering two meals. A family might decide to use a short period of vacation time to visit Disneyland rather than doing household |
Opportunity cost is assessed in not only monetary or material terms, but also in terms of anything which is of value. For example, a person who desires to watch each of two television programs being broadcast simultaneously, and does not have the means to make a recording of one, can watch only one of the desired programs. Therefore, the opportunity cost of watching ''Dallas'' could be not enjoying the other program (such as ''Dynasty''). If an individual records one program while watching the other, the opportunity cost will be the time that the individual spends watching one program versus the other. In a restaurant situation, the opportunity cost of eating steak could be trying the salmon. The opportunity cost of ordering both meals could be twofold: the extra $20 to buy the second meal, and his reputation with his peers, as he may be thought of as greedy or extravagant for ordering two meals. A family might decide to use a short period of vacation time to visit Disneyland rather than doing household renovations. The opportunity cost of having happier children could therefore be a remodeled bathroom. | ||
| In ], opportunity cost is also applicable. This has been demonstrated in the legislation that required the carcinogenic aromatics (mainly ]) to be largely eliminated from gasoline. Unfortunately, this required refineries to install equipment at a cost of hundreds of millions of dollars – and pass the cost to the consumer. The absolute number of cancer cases attributed to exposure to gasoline, however, is low, estimated a few cases per year in the U.S. Thus, the decision to require fewer aromatics has been criticized on the grounds of opportunity cost: the hundreds of millions of dollars spent on process redesign could have been spent on other, more fruitful ways of reducing deaths caused by cancer or automobiles.<ref>{{cite book |author1=Harold A. Wittcoff |author2=Bryan G. Reuben |author3=Jeffery S. Plotkin |year=2004 |page={{page needed|date=October 2011}} |title=Industrial Organic Chemicals |publisher=Wiley |isbn=978-0-471-44385-8}}</ref> These actions (or strictly, the best one of them) are the opportunity cost of reduction of aromatics in gasoline. | In ], opportunity cost is also applicable. This has been demonstrated in the legislation that required the carcinogenic aromatics (mainly ]) to be largely eliminated from gasoline. Unfortunately, this required refineries to install equipment at a cost of hundreds of millions of dollars – and pass the cost to the consumer. The absolute number of cancer cases attributed to exposure to gasoline, however, is low, estimated a few cases per year in the U.S. Thus, the decision to require fewer aromatics has been criticized on the grounds of opportunity cost: the hundreds of millions of dollars spent on process redesign could have been spent on other, more fruitful ways of reducing deaths caused by cancer or automobiles.<ref>{{cite book |author1=Harold A. Wittcoff |author2=Bryan G. Reuben |author3=Jeffery S. Plotkin |year=2004 |page={{page needed|date=October 2011}} |title=Industrial Organic Chemicals |publisher=Wiley |isbn=978-0-471-44385-8}}</ref> These actions (or strictly, the best one of them) are the opportunity cost of reduction of aromatics in gasoline. | ||
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Opportunity cost is the cost of any activity measured in terms of the value of the next best alternative forgone (that is not chosen). It is the sacrifice related to the second best choice available to someone, or group, who has picked among several mutually exclusive choices. The opportunity cost is also the "cost" (as a lost benefit) of the forgone products after making a choice. Opportunity cost is a key concept in economics, and has been described as expressing "the basic relationship between scarcity and choice". The notion of opportunity cost plays a crucial part in ensuring that scarce resources are used efficiently. Thus, opportunity costs are not restricted to monetary or financial costs: the real cost of output forgone, lost time, pleasure or any other benefit that provides utility should also be considered opportunity costs.
History
The term was coined in 1914 by Austrian economist Friedrich von Wieser in his book "Theorie der gesellschaftlichen Wirtschaft". It was first described in 1848 by French classical economist Frédéric Bastiat in his essay "What Is Seen and What Is Not Seen".
Opportunity costs in consumption
Opportunity cost is assessed in not only monetary or material terms, but also in terms of anything which is of value. For example, a person who desires to watch each of two television programs being broadcast simultaneously, and does not have the means to make a recording of one, can watch only one of the desired programs. Therefore, the opportunity cost of watching Dallas could be not enjoying the other program (such as Dynasty). If an individual records one program while watching the other, the opportunity cost will be the time that the individual spends watching one program versus the other. In a restaurant situation, the opportunity cost of eating steak could be trying the salmon. The opportunity cost of ordering both meals could be twofold: the extra $20 to buy the second meal, and his reputation with his peers, as he may be thought of as greedy or extravagant for ordering two meals. A family might decide to use a short period of vacation time to visit Disneyland rather than doing household renovations. The opportunity cost of having happier children could therefore be a remodeled bathroom.
In environmental protection, opportunity cost is also applicable. This has been demonstrated in the legislation that required the carcinogenic aromatics (mainly reformate) to be largely eliminated from gasoline. Unfortunately, this required refineries to install equipment at a cost of hundreds of millions of dollars – and pass the cost to the consumer. The absolute number of cancer cases attributed to exposure to gasoline, however, is low, estimated a few cases per year in the U.S. Thus, the decision to require fewer aromatics has been criticized on the grounds of opportunity cost: the hundreds of millions of dollars spent on process redesign could have been spent on other, more fruitful ways of reducing deaths caused by cancer or automobiles. These actions (or strictly, the best one of them) are the opportunity cost of reduction of aromatics in gasoline.
The Opportunity Cost of consuming good y, relative to good x (y:x), can be calculated by the price of good y, relative to good x (Py/Px). For example, a movie (good x) costs $10 (Px) and bowling (good y) costs $20 (Py), the opportunity cost of going bowling is 2 movies (Py/Px = 20/10). That is the $20 spent on bowling could have been used to see two movies priced at $10. Conversely the opportunity cost of going to watch a movie is 0.5 (10/20) games of bowling. Units should be specified in the opportunity cost, for example if forgoing 3 party invitations to go out on a date you would not say "I passed on 3 for this date", your date would need to know the units of the good forgone for the statement to make sense.
Opportunity costs in production
Opportunity costs may be assessed in the decision-making process of production. If the workers on a farm can produce either one million pounds of wheat or two million pounds of barley, then the opportunity cost of producing one pound of wheat is the two pounds of barley forgone (assuming the production possibilities frontier is linear). Firms would make rational decisions by weighing the sacrifices involved.
Explicit costs
Explicit costs are opportunity costs that involve direct monetary payment by producers. The opportunity cost of the factors of production not already owned by a producer is the price that the producer has to pay for them. For instance, a firm spends $100 on electrical power consumed, their opportunity cost is $100. The firm has sacrificed $100, which could have been spent on other factors of production.
Implicit costs
Implicit costs are the opportunity costs in factors of production that a producer already owns. They are equivalent to what the factors could earn for the firm in alternative uses, either operated within the firm or rent out to other firms. For example, a firm pays $300 a month all year for rent on a warehouse that only holds product for six months each year. The firm could rent the warehouse out for the unused six months, at any price (assuming a year-long lease requirement), and that would be the cost that could be spent on other factors of production.
Non-monetary opportunity costs
Opportunity costs are not always monetary units or being able to produce one good over another. The opportunity cost can also be unknown, or spawn a series of infinite sub opportunity costs. For instance, an individual could choose not to ask a girl out on a date, in an attempt to make her more interested by playing hard to get, but the opportunity cost could be that they get completely ignored, which could lead to other opportunity costs.
Evaluation
Note that opportunity cost is not the sum of the available alternatives when those alternatives are, in turn, mutually exclusive to each other – it is the value of the next best use. The opportunity cost of a city's decision to build the hospital on its vacant land is the loss of the land for a sporting center, or the inability to use the land for a parking lot, or the money which could have been made from selling the land. Use for any one of those purposes would preclude the possibility to implement any of the other.
Criticism
Most opportunities are difficult to compare. Opportunity cost has been seen as the foundation of the marginal theory of value as well as the theory of time and money. In some cases, it may be possible to have more of everything by making different choices; for instance, when an economy is within its production possibility frontier. In microeconomic models this is unusual, because individuals are assumed to maximize utility, but it is a feature of Keynesian macroeconomics. In these circumstances, when one investment is assumed to be as good as any, opportunity cost is a less useful concept.
See also
- Budget constraint
- Economic value added
- Opportunity cost of capital
- Parable of the broken window
- Production-possibility frontier
- There Ain't No Such Thing As A Free Lunch
- Time management
- Trade-off
References
- "Opportunity Cost". Investopedia. Retrieved 2010-09-18.
- James M. Buchanan (2008). "Opportunity cost". The New Palgrave Dictionary of Economics Online (Second ed.). Retrieved 2010-09-18.
- "Opportunity Cost". Economics A-Z. The Economist. Retrieved 2010-09-18.
- Friedrich von Wieser (1927). A. Ford Hinrichs (translator) (ed.). Social Economics (PDF). New York: Adelphi. Retrieved 2011-10-07.
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• Friedrich von Wieser (1914). Theorie der gesellschaftlichen Wirtschaft (in German). Original publication.{{cite book}}: Unknown parameter|month=ignored (help); Unknown parameter|trans_title=ignored (|trans-title=suggested) (help)CS1 maint: postscript (link) - Harold A. Wittcoff; Bryan G. Reuben; Jeffery S. Plotkin (2004). Industrial Organic Chemicals. Wiley. p. . ISBN 978-0-471-44385-8.
