Survey
* Your assessment is very important for improving the workof artificial intelligence, which forms the content of this project
* Your assessment is very important for improving the workof artificial intelligence, which forms the content of this project
Practical #5 Help Sheet Definitions: When you choose one alternative over others, you give up benefits from the alternatives that are not chosen. Opportunity cost is defined as the value of the benefits from the most profitable alternative that is sacrificed. A production possibilities curve shows the trade off in the production of goods or services. It shows that to obtain more of one good that you have to give up an increasing amount of another good. The law of increasing opportunity costs states that to increase the production of one good, a greater amount of another good must be sacrificed. . Marginal Analysis is making decisions based on per unit changes in profit or some other measure of net benefit. The rule to follow in decision making is to follow a course of action if the benefits from a unit change in that action are greater than or equal to the costs of a unit change in that action. Opportunity Cost example: Consider the following production possibilities schedule: Consumer Goods 0 5 8 Units 10 11 Capital Goods 8 6 4 2 0 Draw the production possibilities curve. Put capital goods on the vertical axis and consumer goods on the horizontal axis and plot the points in the table. For example, plot the point (consumer goods, capital goods) = (0,8). Consumer Goods Production Possibilities Curve 12 11 10 9 8 7 6 5 4 3 2 1 0 0 2 4 Capital Goods 6 8 Note that the law of increasing opportunity cost holds: Sacrificing the first 2 units of capital goods gives 5 units of consumer goods but the next 2 units of capital goods gives only 3 units of consumer goods. In other words, the relative costs of consumer goods in terms of capital goods increases ( i.e. You pay the same price for consumer goods, two units of capital, but get less for your money as you buy more consumer goods). 2 What is the opportunity cost of moving from 5 units of consumer goods to 8 units? Going from 5 units to 8 units of consumer goods requires that 2 units of capital goods be sacrificed. This means that the opportunity cost is 2 units of capital goods. In making the move from 5 units of consumer goods to 8 units of consumer goods, 3 units of consumer goods are obtained at a cost of 2 units of capital goods: 3 consumer goods = 2 capital goods. This means that the unit cost of consumer goods is 2/3 the number of capital goods: consumer good = 2/3 X capital goods (i.e. Divide both sides by 3 to get the cost of consumer goods in terms of capital goods). If a unit of capital goods costs $10, what is the opportunity cost in dollars of one unit of consumer goods? Opportunity cost = 2/3 X $10 = $6.67 i.e. One unit of consumer goods is equivalent to 2/3 units of capital goods and a unit of capital goods is worth $10. Marginal Analysis example: Consider the following benefits and costs: Number of Machines Total Revenue Total Costs 3 4 5 $10 M $15 M $17M $5M $8M $11 M (M = millions) Should 3 or 4 machines be used? The benefit of a 4th machine is $5 M ($15 M - $10 M) and the cost is $3 M ($8 M - $5 M). Since the benefits of a 4th machine are greater than the costs of a 4th machine, four machines should be used. Should 4 or 5 machines be used? The benefit of a 5th machine is $2 M ($17 M - $15 M) and the cost is $3 M ($11 M - $8 M). Since the benefits of a 5th machine are less than the costs of a 5th machine, five machines should not be used.