trade-offs and opportunity cost
Economic choices involve trade offs and the careful evaluation of opportunity costs.
Trade Offs
Trade Offs
- Every decision we make has its trade offs, or alternative choices.
- The opportunity cost is the cost of the next best alternative use of money, time, or resources when making a choice.
production possibilities
Economies face trade offs when deciding what goods and services to produce.
To illustrate opportunity cost, economists use the production possibilities frontier, a diagram representing various combinations of goods and services an economy can produce when all its resources are in use.
Identifying Possible Alternatives
To illustrate opportunity cost, economists use the production possibilities frontier, a diagram representing various combinations of goods and services an economy can produce when all its resources are in use.
Identifying Possible Alternatives
- In a production possibilities frontier, there are typically two alternatives. One lies on the x axis, and the other on the y axis.
- All points on the curve, such as a,b, and c, represent maximum combinations of output that are possible if all resources are fully employed.
- If some resources were not fully employed, then it would be impossible for production to reach its maximum potential.
- As long as some resources are idle, the country cannot produce on its frontier - which is another way of saying that it cannot reach its full production potential.
- Opportunity cost applies to almost all activities, and it is not always measured in terms of dollars and cents.
- You normally have a number of trade offs available whenever you make a decision, and the opportunity cost of the choice you make is the value of the next best alternative that you give up.
- Economic growth, make possible by having more resources or increased productivity, causes the production possibilities frontier to move outward.
thinking like an economist
Economists use a strategy called cost benefit analysis to evaluate choices.
Build Simple Models
Build Simple Models
- An economic model is a simplified equation, graph, or figure showing how something works.
- Simple models can often reduce complex situations to their most basic elements.
- It is important to realize that models are based on assumptions, or things we think are true.
- In general, the quality of a model is no better than the assumptions on which it is based, but a model with simple assumptions is usually easier to understand.
- It is also important to keep in mind that models can be revised to make them better.
- If an economic model helps us to make a prediction that turns out to be right, the model can be used again.
- If the prediction is wrong, the model might be changed to make better predictions the next time.
- Most economic decisions can be evaluated with cost-benefit analysis, a way of comparing the costs of an action to the benefits received.
- Finally, it also helps to take small, incremental steps toward the final goal.
- This is especially valuable when we are unsure of the exact cost involved.
- If the cost turns out to be larger than we anticipated, then the resulting decision can be reversed without too much being lost.
the road ahead
The study of economics helps people become better citizens.
The study of economics also gives us a better understanding of the workings of a free enterprise economy - one in which consumers and privately owned businesses, rather than the government, make the majority of the what, how, and for whom decisions.
Topics and Issues
The study of economics also gives us a better understanding of the workings of a free enterprise economy - one in which consumers and privately owned businesses, rather than the government, make the majority of the what, how, and for whom decisions.
Topics and Issues
- All topics of economics have a bearing on our standard of living - the quality of life based on the ownership of the necessities and luxuries that make life easier.
- The study of economics helps us become better decision makers - in our personal lives as well as in the voting booths.
- Economic issues are often debated during political campaigns, so we need to understand the issues before deciding which candidate to support.
- Economics provides a framework for analysis - a structure that helps explain how things are organized.
- Because this framework describes the incentives that influence behavior, it helps us understand why and how the world changes.