Opportunity Cost
Definitions and Basics
Opportunity Cost, from the Concise Encyclopedia of Economics
When economists refer to the “opportunity cost” of a resource, they mean the value of the next-highest-valued alternative use of that resource. If, for example, you spend time and money going to a movie, you cannot spend that time at home reading a book, and you can’t spend the money on something else. If your next-best alternative to seeing the movie is reading the book, then the opportunity cost of seeing the movie is the money spent plus the pleasure you forgo by not reading the book….
Getting the Most Out of Life: The Concept of Opportunity Cost, by Russ Roberts. Econlib, Feb. 5, 2007.
To get the most out of life, to think like an economist, you have to be know what you’re giving up in order to get something else….
What is Opportunity Cost? at Marginal Revolution University
Opportunity Cost, from Marginal Revolution University (AP Teachers’ conference video)
In the News and Examples
Opportunity cost, movies, and reading: Tyler Cowen on Your Inner Economist. EconTalk podcast episode, September 10, 2007.
“Economics is the study of how to get the most out of life.” Tyler Cowen, of George Mason University, talks about his new book, Discover Your Inner Economist: Use Incentives to Fall in Love, Survive Your Next Meeting, and Motivate Your Dentist. Cowen, legendary blogger at MarginalRevolution.com, talks with EconTalk host Russ Roberts about the economics of parenting, reading, dentistry, art museums and education. Highlights include Tyler’s favorite art museum and what to see there along with the challenges of being a tourist in Morocco….
Biggest cost of college is what students could otherwise earn by working: Human Capital, by Nobel Prize winner Gary Becker in the Concise Encyclopedia of Economics
Tuition and fees are not the only cost of going to college. Indeed, for most college students they are not even the major cost. On average, three-fourths of the private cost—the cost borne by the student and by the student’s family—of a college education is the income that college students give up by not working. A good measure of this “opportunity cost” is the income that a newly minted high school graduate could earn by working full-time. And during the eighties this forgone income, unlike tuition, did not rise in real terms. Therefore, even a 39 percent increase in real tuition costs translated into an increase of just 10 percent in the total cost to students of a college education.
Opportunity cost and TANSTAAFL: There Ain’t No Such Thing as a Free Lunch, by David Henderson.
The fact that the vast majority of goods are scarce, not free, leads directly to tradeoffs. If we want more of something, we have to give up some of something else. If you want more leisure time, you have to give up some income. If you want the latest, biggest flat-screen television set, then you would have to give up spending the money on something else or you would have to save less. There are always tradeoffs.
Opportunity cost, rock concerts, and grades: A Fable of the OC, by Mike Munger. Econlib, Apr. 3, 2006.
You get to the box office about midnight, but don’t sleep much because it’s noisy. Finally, sleep does come. It only seems like a few minutes later when the clank of the ticket window opening wakes you at 8:00 am. In the sunlight, you notice that there are way more people in line than you thought. Thousands, in fact. You may not get tickets, even after camping out.
But you start thinking about opportunity cost, the big OC. You recall from economics class that the OC is about foregone alternatives. In other words, the cost of doing one thing is all the other things you don’t get to do as a result….
I used this fable (sort of—it was Bruce Springsteen then) as a test question in my intermediate Microeconomics class at Dartmouth College….
Opportunity cost and crowding out of public projects. Public funding of public works projects is at the expense of other alternative, forgone, and equally worthy projects and goals. See: “The Seen and the Unseen: The Costly Mistake of Ignoring Opportunity Cost”, by Anthony de Jasay. Econlib, Jan. 10, 2005.
Yet “crowding out” is inevitable, for the same million cannot be spent on two alternative projects, each of which costs a million. The crowded-out alternative is not seen. It is quietly ruled out by the market because it is not judged capable of meeting the test of at least paying for itself.
Opportunity Cost and Hidden Inventions, by Dwight Lee. FEE.com.
Hidden Inventions: A persistent claim is that in market economies where the profit motive reigns supreme, extremely valuable inventions are hidden to prevent their sale. Supposedly, if the inventions were available they would destroy the profits of big corporations by making their products obsolete. So these corporations buy up wonderful inventions to make sure we can’t buy them.
That an amazing invention has never been found in some secret warehouse does nothing to reduce people’s belief that such things exist; they’re hidden, aren’t they? The reality is that the opportunity cost of hiding a valuable invention is so great that inventions worth more than they cost are quickly made available. Hidden inventions exist only in economically uninformed imaginations….
A Little History: Primary Sources and References
Early use of the term “opportunity cost”: The Theory of Choice and of Exchange, by Frank Knight. Part II, Chapter 3 in Risk, Uncertainty, and Profit
In spite, therefore, of the purely relative character of pain and pleasure and of the essential parity as motives of all alternatives of conduct, it is pragmatically necessary to distinguish in productive activity between the incoming “economic” utility and the sacrificed (resources, representing) non-economic, unspecified alternatives in general, between utility and disutility, or commodity and cost. “Cost,” in this sense, is “pain cost,” or “opportunity cost,” as one prefers; there is no real difference in meaning between the two…. [par. II.III.33]
Advanced Resources
Ticket Scalping and Opportunity Cost. EconTalk podcast, April 10, 2006.
Michael Munger of Duke University and host Russ Roberts talk about the economics of ticket scalping, examining our reactions to free and found goods, gifts, e-Bay, value in use vs. value in exchange, and opportunity costs.