The opportunity cost is a concept of economic theory of choices. It is mostly used in the fields of investment and factor choice of production. If there are two options, which are mutually exclusive, then the person chooses the best option that gives the better return. The lost benefit that the person can earn by choosing the not chosen alternative is known as the opportunity cost. To understand the notion of opportunity cost considering an example of a farmer that has a piece of land that is a multi-crop land. The farmer can produce either 100 tonnes of rice or 150 tonnes of wheat by using the land for farming. The problem of the farmer is to find what will be beneficial for him to produce in the land. To find it the farmer will calculate the amount of money he can make by selling 100 tonnes of rice and 150 tonnes of wheat. Suppose, the price of rice per tonne is $15 and price of wheat per tonne is $12. Therefore, the revenue the farmer can make by selling rice and wheat can be calculated as
From the above equations, it is found that the farmer can earn $1500 and $1800 by selling rice and wheat respectively. To find which one to choose for production it is necessary to find which attracts less opportunity cost. According to the economic theory, lower the opportunity cost more is the acceptability of the option. The calculation of opportunity cost is made by the formula given below
Therefore, if the farmer chooses to produce rice, then the opportunity cost of producing rice is
Similarly, if the farmer chooses to produce wheat, then the opportunity cost of wheat is
It is beneficial for the farmer to choose the product with the lesser amount of opportunity cost. Therefore, from the above calculation of opportunity cost of rice and wheat it is found that
Therefore, the farmer chooses to produce wheat as it has lesser opportunity cost that rice.
The production possibility curve is the curve that gives the optimum combination of two products that a frim should produce so that it can minimize its opportunity cost. The extreme points on the PPC that lies on the X and Y axis. The PPC is straight line when the opportunity cost is constant that means when production increases the opportunity cost of the product remains whereas the bowed shaped PPC signifies that opportunity cost of product increases with increase in prodcution.
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