1.3 Optimization

True or false: we face trade offs whenever we allocate our time

true

Trade-offs

An economic agent faces a trade-off when the agent needs to give up one thing to get something else

Assigning a Monetary Value to an Opportunity Cost

Analyze the consequences of taking a part-time job or working additional hours at the part-time job you already have

Which of the following would be considered an opportunity cost of spending time going to the movies with your friends? a) The cost of a movie ticket b) The amount of money you would have made had you worked instead c) The cost of a new T-shirt d) The cost of renting a DVD

b)

Suppose your New Year resolution is to get back in shape. You are considering various ways of doing this: you can sign up for a gym membership, walk to work, take the stairs instead of the elevator, or watch your diet. How would you evaluate these options and choose an optimal one?

Do a cost-benefit analysis to compare the alternative

Trade-off example

If you spend one hour on Tiktok, you cannot spend that hour doing something else like homework.

Is cost-benefit analysis useful for positive economics?

In many cases, cost-benefit analysis correctly predicts the choices made by actual consumers

Opportunity Cost and Trade-offs

Suppose that a woodworker has a beautiful piece of maple that can be used to make a sculpture, a bowl, or a picture frame. If the woodworker's first choice is the sculpture and the second choice is the bowl, then the bowl is the opportunity cost of making the sculpture.

Budget constraint example

Suppose that you can do only one of two activities with your free time: surf the Web or work at a part-time job. Suppose that you have 5 free hours in a day. Think of these 5 free hours as your budget of free time. Then your budget constraint would be: 5 hours = hours surfing the web + hours working part-time job

You have already purchased​ (non-refundable and​ unsellable) tickets to a concert on Friday night. A friend also invites you to her birthday party on Friday. While you like your​ friend, you politely decline because you really want to go to the concert. Suppose instead that you notice that the concert ticket cost you $10: previously, you had believed that the price was $100. Should learning this affect your decision to go to the convert?

The benefit of the concert has not changed. You would still be missing a concert that you paid for.

Is cost-benefit analysis useful for normative economics?

Yes

Suppose there are three activities in which you could​ participate: 1. The opportunity cost of the first activity is missing 3 hours of work, 2. The opportunity cost of the second activity is missing a concert that you have tickets to, 3. The opportunity cost of the third activity is missing the afternoon nap that you take every day. Given this info, for which of these activities would you be able to compare opportunity costs?

You can compare all the activities after you translate all the missed activities into dollar amounts.

When making your decision about which activity to choose, you should consider the monetary cost _____ the opportunity cost of the activities. The goal is to choose the option that offers the greatest ____ benefit.

as well as, net

Cost-Benefit Analysis

calculation that adds up costs and benefits using a common unit of measurement, like dollars

Optimization

choosing the best feasible option

Assume every semester after finals, you fly back home using a $300 ticket you buy online. You have 40,000 frequent flier miles. You could exchange your miles for a roundtrip ticket to Bermuda over spring break. If you choose to exchange your miles for a round-trip to Bermuda, then your trip a) Is free, since you had planned to pay for the $300 ticket home anyways. b) If free, since you used airlines miles that you accumulated flying somewhere you needed to go c) Equal the sum of the costs of all your previous flights home, since accumulating those miles cost you money. d) Cost $300 since the next-best alternative for your mules was to use them to fly home at the end of the semester.

d)

Which of the following would not be considered one of the possible opportunity costs of a recent high school graduate starting college right away. a) Using your college fund to buy a new car b) Spending a year backpacking across Europe c) Getting a full-time job d) None of the above e) All of the above

e) all of the above

You have already purchased​ (non-refundable and​ unsellable) tickets to a concert on Friday night. A friend also invites you to her birthday party on Friday. While you like your​ friend, you politely decline because you really want to go to the concert. Suppose you learn that your friend is serving flank steak at her​ party; all-you-can-eat and at no charge. Flank steak is your favorite food. Your opportunity cost of going to the concert is now ____.

higher - the opportunity cost of missing the concert is now higher than you had previously thought

budget constraint

shows the bundles of goods or services that a consumer can choose given her limited budget

net benefit

sum of the benefits of choosing an alternative minus the sum of the cost choosing the alternative

Opportunity Cost

the best alternative use of a resource

Monetary Value

value in currency that a person, business, or the market places on a resource, product, or service.

Opportunity Cost Example

xAssume that your family is taking a vacation over spring break. Your choices are a Caribbean cruise, a trip to Miami, or a trip to Los Angeles. If your first choice is the cruise and your second choice is Miami, then your opportunity cost of taking the cruise is the Miami trip.