Definition of Opportunity Cost
Opportunity cost is the loss of the next best alternative when making a decision
Due to the problem of scarcity, choices have to be made about how to best allocate limited resources amongst competing wants and needs
There is an opportunity cost in the allocation of resources
When a consumer chooses to purchase a new phone, they may be unable to purchase new jeans. The jeans represent the loss of the next best alternative (the opportunity cost)
When a producer decides to allocate all of their resources to producing electric vehicles, they may be unable to produce petrol vehicles. The petrol vehicles represent the loss of the next best alternative (the opportunity cost)
When a government decides to provide free school meals to all primary students in the country, they may be unable to fund some rural libraries which may have to close. The libraries represent the loss of the next best alternative (the opportunity cost)
The Influence of Opportunity Cost on Decision Making
An understanding of opportunity cost may change many decisions made by consumers, workers, firms & governments
Factoring the opportunity cost into a decision often results in different outcomes & so a different allocation of resources
Example
Ashiko is wanting to visit her best friend in Iceland
She looks at flight prices from London to Reykjavík
On Friday night it costs £120 whereas Thursday night is only £50
She is about to book the Thursday flight but then realises that the opportunity cost of saving £60 on a flight is the inability to work on Friday (loss of £130 income)
Ashika books the more expensive flight. If she had booked the cheaper flight, it would have cost her the income from the missed day of work (£130) + £50 for the ticket