Opportunity costs are what you give up when you choose to buy or do something else (Mankiw, 2024). Opportunity costs may involve numerical (such as money or quantity produced) or non-numerical factors (such as convenience or other lifestyle factors). Numerical examples tend to be objective, while non-numerical opportunity costs are likely to be subjective. See two examples below, one numerical and one non-numerical, to understand how this concept works in different contexts.
Example #1: Continuing your education.
What are you giving up in order to get your degree? Your opportunity costs could be something as simple as time and money, but there are probably many other factors involved, too. What about family time, free time, or sleep? These would all be opportunity costs since you are choosing to complete an assignment or work on a project instead of going to the park or sleeping in on Saturday morning.
Example #2: Baking desserts.
If you and your sister are baking desserts for a local sports team and want to optimize your time, you may analyze your opportunity costs. You can make either 25 cupcakes or 40 cookies in an hour, and your sister can make 20 cupcakes or 50 cookies in an hour. Based on your opportunity costs, you would make cupcakes, and your sister would make cookies.
Calculating this opportunity cost would look like this:
What you give up ÷ what you produce = the opportunity cost.
Since you are choosing cupcakes and giving up cookies, your opportunity cost of producing cupcakes is:
40 cookies ÷ 25 cupcakes = 1.6 cookies per cupcake
This means that for every cupcake you make, you give up the opportunity to make 1.6 cookies. Alternatively, the opportunity cost of producing one cookie is:
25 cupcakes ÷ 40 cookies = 0.63 cupcakes per cookie
For your sister, the opportunity cost of producing cookies is calculated by dividing the cupcakes she gives up by the cookies she produces:
20 cupcakes ÷ 50 cookies = 0.4 cupcakes per cookie
This means that for every cookie your sister makes, she gives up the opportunity to make 0.4 cupcakes. Alternatively, the opportunity cost of producing one cupcake for your sister is:
50 cookies ÷ 20 cupcakes = 2.5 cookies per cupcake
Key takeaway:
Opportunity cost is always calculated as what you give up divided by what you gain, and it helps explain why specialization and trade can make everyone better off
Mankiw, N. G. (2024). Principles of Economics. Cengage Learning.
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