the burger and the hot dog industries) together use all the economy’s available factors of production. Note that money doesnt play into the ppf at all. Calculating Opportunity Cost. You can also see that when specializing, there is more wood and food in the economy as a whole then before, when they were just producing for their own consumption. So who has the comparative advantage in each good? Opportunity Cost is the cost of the next best alternative, forgiven. Specifically, if it raises production of one product, the opportunity cost of making the next unit rises. Learning Objectives. Now divide both sides by 20 to get: The O.C. On the PPF curve, it is impossible to increase one choice, without causing less production of the other. Mythica, which is a hypothetical economy, produces only two goods – textbooks and computers. Now lets add in beth, and look at their individual PPFs: We get the monthly production by multiplying daily production by 15 (assuming half of the month is devoted to gathering each) for Jimmy and 20 and 10 for Beth. But the true opportunity cost of one fish is the number of coconuts Crusoe must forego to catch that fish. 4. You can see that the more hamburgers we produce, we have to give up more and more hot dogs to get them. You can see that we are giving up 100 hot dogs, in order to get 200 hamburgers. Segment 3 of The Production Possibilities Frontier uses the production possibilities frontier to demonstrate how, in the real world, opportunity cost increases as production increases. PPCs for increasing, decreasing and constant opportunity cost. You can see that the opportunity for either good is simply the inverse of the other, meaning the OC for 1 wood is 2 food, so the OC for 1 food is ½ (the inverse of 2). China can produce 100 cars or 80 iron ore. Then can then trade at any rate between their opportunity costs in order to consume more than their original PPFs would have allowed them. If you always set up your information like this you can easily calculate the opportunity cost for any question. LS23 6AD, Tel: +44 0844 800 0085 By producing more capital goods, we can move the PPF curve out in the future to produce more of the consumption goods. A large part of her decision-making analysis will concern calculating and assessing opportunity cost. This post was updated August 2018 with new information and examples. Also, we can shift to PPF A if we have a disaster in the economy, such as hurricane Irene which destroys capital which will lower the total amount of goods that we can produce. Can you think of goods which fit this type of PPF (one for each axis)? Since the production possibilities frontier represents all of the points where all resources are being used efficiently, it must be the case that this economy has to produce fewer guns if it wants to produce more butter, and vice versa. You can see that we now have a bowed out PPF graph, which indicates that the opportunity cost of hamburgers is increasing as we move from point A to B to C, etc. Opportunity Cost and the Slope of the PPF . Opportunity Cost Calculation in Excel. Examiners are keen that you understand the concept of opportunity cost in relation to the PPF. If you can’t come to a clear conclusion, you can determine your opportunity cost by using a very simple formula: divide what you’ll sacrifice by what you stand to gain if you take one job over the other. Fax: +44 01937 842110, We’re proud to sponsor TABS Cricket Club, Harrogate Town AFC and the Wetherby Junior Cricket League as part of our commitment to invest in the local community, Company Reg no: 04489574 | VAT reg no 816865400, © Copyright 2018 |Privacy & cookies|Terms of use, Scarcity and Opportunity Cost [Head Start in A-Level Economics], Evaluating Supply Side Policies (Online Lesson), Introduction to Economics and the Operations of Markets - take the Yes/No challenge, Introduction to economics - Clear The Deck Key Term Knowledge Activity, Production Possibility Curve - Shifts in the PPC, Production Possibility Curve - Movements along the Curve, Introduction to Economics - 60 Second Challenge (Knowledge Retrieval Activity), Nature of Economics - Introductory Concepts, Foundations of Economics - 'Loose Change' activity, PPF Analysis: Ways to Increase the Labour Supply, PPF - An Inward Shift (Chain of Analysis). Indeed because resources are scarce, we must always consider how to spend our limited incomes or time. This is the currently selected item. if the PPF is curved, the opportunity cost is changing. The PPF might be linear if the opportunity cost of producing a good is constant as more of it is produced. by Marko Markolovic - August 25, 2011 - Calculate the slope to determine opportunity cost. Another term for this opportunity cost and negative slope is the marginal rate of transformation (MRT). Or in our case, when it is impossible to produce more of Good A without producing less of Good B. After completion of this worksheet students will be able to: Calculate opportunity costs along a PPF curve Calculate the per-unit opportunity cost of each good Graph a country's PPF gi What causes shifts in the production possibilities frontier (PPF or PPC)? This post was updated in August 2018 with new information and sites. Then, subtract the potential gain of the chosen option from the potential gain of the most lucrative option. Also, think about the scenario when there trade partners don’t have a comparative advantage, meaning their opportunity costs are equal. Alternatively, the opportunity cost can be calculated with hindsight by comparing returns since the decision was made. Let us now do the same Opportunity Cost example in Excel. Opportunity Cost: How much do I cost the NHS? You determine this by measuring the slope, the rise divided by the run. This video uses a Production Possibility Frontier Diagram (PPF) to explain the concept of Opportunity Cost The five fundamental principles of economics, basic terms we need to know in order to move on. Examiners are keen that you understand the concept of opportunity cost in relation to the PPF. We see a tradeoff between producing food or wood, as Jimmy produces more wood, he has to produce less food. Sort by: Top Voted. 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