Opportunity Cost - Term Paper Example

Opportunity Cost Opportunity cost is one of the topics in microeconomics that focuses on situations whereby investors have to make important decisions regarding allocation of the available resources. This paper focuses on the scarcity of resources as a reason why households and firms have to subject their alternatives to analysis resulting in opportunity cost. Government taxes and levies have been highlighted as some of the factors that lead to scarcity of resources portrayed in the paper as a major constraint. Environmental impact has also been discussed as a major factor leading to opportunity cost. A solution has been proposed to empower consumers and firms economically to help them satisfy their needs without sacrificing more economically viable alternatives. Further areas of research have been identified in the paper. Introduction When making important decisions regarding resource allocation in business, the important issue of opportunity cost arises. This is due to the fact that whereas the needs could be unlimited, the resources will always be scarce such that there is not one time when a person can afford to satisfy all his needs without sacrificing (Bloom 2004 p 26). In this essay, various examples have been used to substantiate the definition of opportunity cost which is the value of the sacrificed alternative in favor of the decision or choice made. It goes on to compare the relationship between scarcity and opportunity cost thereby showing that scarcity is the major factor that contributes to situations that result to households and firms undergoing opportunity cost. The essay also continues to examine the environmental impacts that are not of financial nature but which exerts pressure on the choices and alternatives which are available. A case of oil mining has been used as an example that has both positive and negative impacts on the economy and the ecosystem respectively, factors that can create conflicts between the investor and the environmentalists. In some cases like this, it has been noted that the opportunity cost can be influenced by availing incentives so as to add weight to the importance of choosing an alternative over another. Further areas of research regarding opportunity cost have also been suggested in this essay. Opportunity cost Opportunity cost can be referred to as the foregone cost or a decision made over a range of alternatives favoring one of the alternatives. It is an important aspect that enhances efficient use of resources (Bloom 2004 p 12). This situation whereby one is required to choose one alternative over others which may be considered as of less priority may arise from the economic constraints on the budget. For example, a business may be intending to acquire two items that are necessary for the effective running of the business such as a vehicle for transporting goods and also in the alternatives could be a building for expanding the business. Whereas these two assets could be of the same value, the scarcity of resources such as finance to acquire the assets may be a limiting factor. In this case, the business would have to decide between the two, giving priority to the asset which may bring quick returns to the business. It may be decided that instead of purchasing the vehicle, due to its vulnerability to risks and expenditure resulting from maintenance, the building would be the better alternative and as such, the aspect of opportunity cost arises, which would be the vehicle. Another example is the case of a consumer having $25 which he has a choice either to buy a pair of shoes or a pair of trousers. If he decides to buy the pair of shoes, then the opportunity cost becomes the pair of trousers and if he decides to buy the pair of trousers, then the opportunity cost becomes the pair of shoes. However, it does not only apply to financial situations but also on a wider scope incorporates decisions that are foregone which provide utility (Bloom 2004 p 30). This essay is an evaluation of the importance of opportunity costs as an aspect of microeconomics and the influence it has on the consumer demand for various personal and house hold items. Relationship between Scarcity and Opportunity Cost Scarcity is a factor that contributes to opportunity cost. Scarcity is the term used in Economics to define situations where the human wants exceed their power to acquire and fulfill the needs due to low production capabilities (Nicholson 2004 p 21). In this case, a person is forced to choose the best alternative thereby sacrificing their other needs which become the opportunity costs. In various companies and business enterprises, the managers are constantly faced with situations that arise due to the scarcity of resources whereby they are required to make the best decisions regarding what alternatives to be taken. A manager in a company could be faced with a situation for example whether to extend the company's investments or to pay dividends to share holders, if the funds are enough to acquire the two utilities, then there would be no opportunity cost to forego but in a situation whereby there is only enough to acquire one of them, then one of them becomes the opportunity cost. Thus, without scarcity, there would be no opportunity cost since there would be no need to make choices. In every decision that we make, there must be a cost to forego which could not necessarily be in monetary value (Nicholson 2004 p 26). Time is an important utility which could be scarce depending on the way we manage it. Everyone has various important activities that he/she wants to accomplish within a given time. For example, one may have options to evaluate so that he makes the best choice within a given time. These decisions are sometimes difficult to reach but one way or another, a decision has to be made. A person may have two alternatives, for example, to invest in a small enterprise and on the other hand, his fiancé may be insisting that they spend the funds in celebrating their wedding. If he chooses to go on and invest in the business, his partner may feel rejected and this may cause difficulties in their relationship which may result in separation. On the other hand, spending the funds on the wedding may result in a financial crisis afterward and as such, the two choices are essential to the decision maker. If he chooses one, he stands to lose the other but due to the circumstances, he has to evaluate the implications of the decision he decides to make (Zimmerman 2005 p 30). If he chooses the wedding, the investment becomes the opportunity cost and if he decides to invest, the wedding becomes the opportunity cost. Opportunity cost may also be determined by environmental impacts which may result from the type of investment that a business is undertaking (Bloom 2004 p 13). For example, oil drilling and mining activities have a great negative impact on the environment and nature. These could be for example oil spills which could be harmful to human and marine life. On the other hand, the financial benefits ranging from creating employment opportunities to generating income thus promoting growth and development. Therefore, the investors find themselves in a situation that requires decision making so as to determine the opportunity cost, whether to protect human and marine life by doing away with the projects or to go ahead and implement the projects which would endanger the latter. However, it is possible to influence the opportunity cost by allowing or providing incentives so as to be able to overweigh the benefits of the less privileged alternative. In this case, the investor can decide to invest in the projects and at the same time undertake measures to protect the ecosystem by for example treating waste products before releasing them to the environment so as to maintain the standards and also to observe the government policies in place. Levies and taxes charged on the produced goods are another factor that dictates the ability of households to satisfy their needs without having to subject their alternatives to opportunity cost. This due to the fact, that the demand for goods and services in most households exceeds the income which is subjected to taxation and other deductions for social welfare (Zimmerman 2005 p 26). The cost of production is also high due to the levies and taxes which are also passed to the consumer. This leaves the consumer without the ability to satisfy his needs, a factor that can be rectified by proper formulation of policies meant to empower the common man. Taxation should be reduced and salaries increased so as to empower the consumers with the purchasing power. Conclusion Microeconomics is the branch of economics that deals with the various decisions that are essential to firms and households. In all the activities that are done, important decisions have to be made regarding the most viable choices which tally with the available resources. This mostly occurs when there is more than one alternative that requires being fulfilled. Human wants are unlimited and as such, they cannot be fulfilled all at once (Gagnier 2004 p 3). The most important ones should be given the highest priority thus according to them more resources than others. However, the scarcity of resources creates a situation that results in difficulties in deciding what to accomplish at a given time. This is when the issue of opportunity cost arises which requires that the lesser prioritized requirements be postponed to give way to those with higher priority. As such they become the cost foregone or the opportunity cost. Sometimes the decisions made are influenced by the environmental factors whereby a firm may be forced to abandon a profitable business venture due to restrictions from the government agencies. The government ought to intervene and provide the necessary subsidies and technologies required to help investors to avoid ventures of less economic value just because they are less demanding, which in turn leads to opportunity cost. Other areas of research include; computation of opportunity costs so as to analyze and determine the real cost of the alternatives taken. This would help to determine the viability of an alternative taken over another as well as factors that contribute to the rise in opportunity costs. It is also important to conduct further research through case studies to determine the impact of opportunity cost on the productivity of organizations. References 1. Bloom R. Opportunity Cost in Finance and Accounting, Quorum Books, 2004 2. Gagnier R. The Insatiability of Human Wants: Economics and Aesthetics in Market Society, University Of Chicago Press, 2004 3. Nicholson W. Microeconomic Theory: Basic Principles and Extensions, South-Western College Pub, 2004 4. Zimmerman J. Accounting for Decision Making and Control, McGraw-Hill, 2005 Read More