Microeconomic

s
INSTRUCTOR:
‘Sir Muhammad Mumtaz
Khan’

ABOUT STUDENT;
NAME : SYED OWAIS ALI
ID : SP07-BB-0135

Article;

Opportunity cost
Definition:
In economics, opportunity cost, or economic cost, is
the cost of something in terms of an opportunity
forgone (and the benefits which could be received
from that opportunity), or the most valuable forgone
alternative (or highest-valued option forgone), i.e. the
second best alternative. An early representation of the
concept of opportunity cost is the broken window
fallacy illustrated by Frédéric Bastiat in 1850.
For example, if a city decides to build a hospital on
vacant land it owns, the opportunity cost is the cost of
some other thing which might have been done with
the land and construction funds instead. In building
the hospital, the city has forgone the opportunity to
build a sporting center on that land, or a parking lot,
or the ability to sell the land to reduce the city's debt,
but the opportunity cost can only be one of the
options listed above. Also included in the opportunity
costs would be what investments or purchases which
the private sector would have voluntarily made if it
was not taxed to build the hospital. The total
opportunity costs of such an action can never be
known with certainty (and are sometimes called
"hidden costs" or "hidden losses" because what has
been prevented from being produced cannot be seen
or known).
Opportunity cost need not be assessed in monetary
terms, but rather can be assessed in terms of anything
which is of value to the person or persons doing the
assessing. For example, a person who chooses to
watch, or to record, a television program cannot
watch (or record) any other at the same time. (The
rule still applies if the recording device can
simultaneously record multiple programs; there is
going to be a limit, and if the number of desired
programs exceeds the capacity of the recorder, some
of them will not be saved, and thus cannot be seen.)
In any case, at the time the person chooses to watch a
program, either live or on a recording, they cannot
watch something else, and if they are not able to
record another program showing at the same time, the
opportunity to view it is lost (presuming the
particular program is not repeated). Or another
example, someone having a video game can choose
to watch a program or play the video game on the
TV; they can't do both simultaneously. Whichever
one they choose is a lost opportunity to experience
the other.
The consideration of opportunity costs is one of the
key differences between the concepts of economic
cost and accounting cost. Assessing opportunity costs
is fundamental to assessing the true cost of any
course of action. In the case where there is no explicit
accounting or monetary cost (price) attached to a
course of action, ignoring opportunity costs may
produce the illusion that its benefits cost nothing at
all. The unseen opportunity costs then become the
implicit hidden costs of that course of action.
Note that opportunity cost is not the sum of the
available alternatives, but rather of benefit of the best
alternative of them. The opportunity cost of the 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, or the
loss of any of the various other possible uses -- but
not all of these in aggregate, because the land cannot
be used for more than one of these purposes.
However, 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 maximise utility,
but it is a feature of Keynesian macroeconomics. In
these circumstances opportunity cost is a less useful
concept.
Pitfalls in the calculation of Opportunity Costs:
Hidden Costs
One has to be careful in calculating the opportunity
cost of any course of action. There are two pitfalls in
the way of such a calculation: some relevant costs
may be ignored in the calculation and some costs
which should not be included may be included. For
example: Sunk costs should not be included in
opportunity costs because once that cost is incurred,
sunk costs are not part of the firm's alternatives
because they cannot be put to alternative use. In a
brief summary, an opportunity cost is the benefit lost
from making one choice over another. Further, not
all foregone opportunities are counted in the
calculation, but only the costliest of those foregone.
When government taxes to provide what are seen as
social goods, there is no way to know with certainty
what the opportunity cost of this action is. If this
money were left in the private sector, it would have
been directed toward different investments and
projects. These opportunity costs are "hidden"
because one cannot see what has not been produced
due to the taxation. Especially complicating the
matter is that what investments and spending would
have been voluntarily made varies from individual to
individual according to each one's particular goals.
As a result, one cannot know whether the opportunity
costs of taxing to provide a social good is greater or
less than the social benefit provided. For this reason,
some argue that whenever possible it is best to simply
leave the wealth in the private sector and allow
voluntary decision of what projects to pursue through
the operation of markets. Others do not trust markets
to provide social goods and prefer government to
force investment.