뒤로Cost Concepts and Comparative Advantage in Microeconomics
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Cost Concepts in Microeconomics
Historical Cost vs. Opportunity Cost
Understanding cost is fundamental in microeconomics, as it shapes individual and firm decision-making. While accounting often uses historical cost, economics focuses on opportunity cost, which is more relevant for behavior.
Historical Cost: The explicit payment made to acquire something; used in accounting but often irrelevant for economic decisions.
Opportunity Cost: The value of the highest forsaken alternative when a resource is used in a particular way.
Key Principle: Economics explains behavior by considering how people allocate scarce resources among competing alternatives.
Example: If you paid $200 for a concert ticket and a scalper offers $300 at the gate, your opportunity cost of attending is $300 (the value of the alternative: selling the ticket), not the historical cost ($200).
Understanding Opportunity Cost
Opportunity cost always refers to an action or use of a resource, and depends on the alternatives available. It is not simply the monetary or time cost, but what is sacrificed by choosing one option over another.
Opportunity Cost of a College Degree: Includes tuition, books, rent, and most importantly, the income or experiences forgone by attending college.
Key Point: Opportunity cost is only present when alternatives exist; if there is no alternative, there is no opportunity cost.
Costs vs. Bads: Costs are values of alternative uses; bads are undesirable features that reduce the value of a resource's use.
Example: For Mark Zuckerberg, the opportunity cost of a college degree may be the potential earnings and experiences from starting a business.
Sunk, Avoidable, Fixed, and Variable Costs
Different types of costs affect decision-making in distinct ways. Economists distinguish between costs that can be recovered or avoided and those that cannot.
Sunk Costs: Costs that cannot be recovered; they are irrelevant for future decisions.
Avoidable Costs: Costs that can be recovered or avoided; relevant for decision-making.
Fixed Costs: Lump sum costs that do not change with output (e.g., insurance premiums).
Variable Costs: Costs that change with output (e.g., expenses on gas).
Key Point: Decisions should be based on avoidable costs, not sunk costs. "Don't cry over spilled milk!"
Cost Classification Table
Avoidable Cost | Sunk Cost | |
|---|---|---|
Fixed Cost | Custom made sign outside (if removable) | Custom made sign outside (if not removable) |
Variable Cost | Comic books bought from wholesaler, "Special" pin given away with purchase | Heat in the store (if payment is non-refundable) |
Additional info: | For simplicity, assume all fixed costs are sunk and all variable costs are avoidable. |
Comparative Advantage
Definition and Application
Comparative advantage is a core concept in microeconomics, based on opportunity cost. It explains why individuals and countries specialize and trade, even when one party is more productive in all activities (absolute advantage).
Comparative Advantage: The ability to produce a good at a lower opportunity cost than others.
Absolute Advantage: The ability to produce more of a good with the same resources.
Key Point: The least opportunity cost producer in an activity has comparative advantage in that activity.
Example: Elaine and Jon's cleaning and cooking times:
Cleaning (min/room) | Cooking (min/meal) | |
|---|---|---|
Elaine | 60 | 80 |
Jon | 40 | 20 |
Jon has absolute advantage in both activities.
Opportunity cost calculations determine comparative advantage:
Opportunity Cost Formulas:
Elaine's OC of cleaning = meals per room
Jon's OC of cleaning = meals per room
Elaine's OC of cooking = rooms per meal
Jon's OC of cooking = rooms per meal
Specialization and Trade: If each specializes according to comparative advantage, both can achieve the same output with less total time, demonstrating gains from trade.
Why Do People Trade?
Trade allows individuals and countries to benefit from differences in opportunity costs, not just differences in productivity. Even if one party has absolute advantage in all goods, comparative advantage ensures mutual gains from trade.
Marginal Cost: The incremental opportunity cost from increasing output by one unit.
Key Point: Comparative advantage exists due to different marginal costs.
Example: Canada trades with Bangladesh because each has comparative advantage in different goods, regardless of absolute productivity.
Comparative Advantage and Marginal Cost Curves
Marginal Cost and Production Possibility Curve (PPC)
Comparative advantage leads to production at least cost, maximizing gains from trade. The pattern of production and trade is determined by opportunity costs, which are reflected in the marginal cost curve and the PPC.
Marginal Cost Curve: Shows the opportunity cost of producing additional units; typically slopes upward as low-cost producers are used first.
Production Possibility Curve (PPC): Represents the maximum combinations of two goods that can be produced when resources are allocated efficiently.
Example: Three individuals' production capabilities:
Machine Guns | Spinach | |
|---|---|---|
Sue | 8 | 4 |
Charles | 3 | 3 |
Daphne | 1 | 2 |
Order of production for spinach: Daphne (lowest OC), Charles, Sue (highest OC).
Order of production for machine guns: Sue (lowest OC), Charles, Daphne (highest OC).
Key Point: As more people are added, the PPC and MC curve become smoother, reflecting a range of opportunity costs.
Formula for Slope of PPC:
Additional info: Marginal cost curves slope upwards because increased output requires the use of higher cost inputs, as low-cost producers are utilized first.
