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Academic Economics Chapter 1, Section 2 Choices, Trade-offs, and Opportunity Cost …or, why Superman shouldn’t save cats. Academic Economics Chapter 1, Section 2

The Result of Scarcity = Choices Must be made because of scarcity Made by every single person Choices drive an economy, and people look for three things when they make choices: Incentives – benefits offered to encourage people to act certain ways Utility – the usefulness of something The desire to economize – make decisions according to what you believe is best combo of costs and benefits. **Every choice involves a cost – “There is no such thing as a free lunch.”

Trade-Offs Exchanging (choosing) one thing for the use of another is called a trade-off. Trade-offs involve opportunity costs, or the loss of the next best alternative when you choose another. Considering the opportunity cost of a decision can help people make decisions.

Opportunity Cost The value of the next best alternative, the “cost” of choosing one thing over another. Ex. the opportunity cost of studying Fri. night might be missing the football game.

What is the difference between a trade-off and the opportunity cost of something? Name given to the next best alternative (thing you could do) Opportunity cost: The value of that next best alternative VS

Practice with opportunity cost Why might a student choose not to study for an exam even though she knows from past experience that she performs better on exams when she has spent time studying? Why would a hot dog vendor on a New York street corner lower the price of dogs late in the day? Why would a poor family in a developing country choose to send a 10 year-old to work in a factory rather than to school, even though they know that being able to read and write would offer the child better options for the future? Why are people in some parts of the world willing to work for $1 per day and in the U.S. employers often have trouble finding people willing to work minimum wage jobs?

Why Superman should not save cats This idea of trade-offs and opportunity cost gives us an idea of what we should spend our time doing…among other things So…why shouldn’t he?

Cost/Benefit Analysis In order to figure out whether something is “worth doing”, we can try a cost/benefit analysis.

From “Fight Club” – Narrator: A new car built by my company leaves somewhere traveling at 60 mph. The rear differential locks up. The car crashes and burns with everyone trapped inside. Now, should we initiate a recall? Take the number of vehicles in the field, A, multiply by the probable rate of failure, B, multiply by the average out-of-court settlement, C. A times B times C equals X. If X is less than the cost of a recall, we don't do one.

The value of a human life

Closer to home? Consider the following situation: Your grandmother needs a procedure to save her life. She is 94 years old, and has been in good health up to this point. But the procedure will cost $2.5 million and there is a 33% failure rate. What will you decide?