Question

What do you undestand by Opportunity Cost in Economics? Explain briefly.

Answer 1

Opportunity Cost Concept -

 

The concept of 'opportunity cost has got a special importance in cost analysis. Generally, cost is taken as the amount of expenditure incurred on factors of production. However, many a times no expenditure is actually incurred, but still a factor or resource has been used. We must account for this resource use for a correct valuation of cost. 

       The concept of opportunity cost is a direct outcome of Robbins' views that each resource or means have alternative a uses. If we use it at one place, naturally we can not use it at another place. In other words, by using it at one place we are foregoing the advantage or earning of its work at the other place. This loss of opportunity is the 'opportunity cost' of the resource. It can, therefore, be defined as the 'value of the apportunity foregone'.

       It is also called 'Transfer Earning'. In this sense, 'it can be defined as the possible earnings to a factor from its next best alternative use.'

      The concept of 'opportunity cost' or 'transfer earnings' can be best explained by the following example.

      Suppose there is a tractor, which can be used either in agriculture or in transportation. If it is used in agriculture, it an earn $100 per day and if it is used in transport it can earm $120 per day.

     Under this situation, the tractor will naturally be used in transport, where it is earning a higher sum than its alternative use. In this situation, the opportunity cost will be $100 which is the earning from its next best alternative use or which is the value of the opportunity foregone. The tractor will continue to be used in transport as long as the current earnings of $120 are greater than the opportunity cost.

     Now suppose the earnings from agriculture go up to $130 per day. In this situation, the tractor owner will shift its use to agriculture and then the opportunity cost would be $120, the earning from its next best alternative use. Thus, we find that as soon as the opportunity cost becomes greater than the current earning, the factor will shift to a more profitable use.

     The concept of opportunity cost is more important in determining the occupation and location of a factor than its cost of operation. It is, therefore, very important in decision making. That is why, economists are more bothered about apportunity costs while accountants are concerned with actual costs only.

 It is also called 'Transfer Earning'. In this sense, 'it can be defined as the possible earnings to a factor from its next best alternative use.'