Question

Discuss the economic concept of opportunity cost in the context of rational decision making. Provide a separate discussion of rational decision making among consumers and then a second separate discussion for producers. Use graphs and/or charts to illustrate your answer.

Answer 1

Opportunity cost can be thought of what someone foregoes by accepting something else. From the perspective of a consumer, who has, say $100 to spend, with which they can buy either milk or fruits or a combination (see the first graph for their budget line), as they move up or down the budget line, they have to get less of one if they want more of the other. Moving away from the budget line is not an option, as there are no free lunches :-)

2 56

Similarly, from the perspective of a producer, usage of their resources (say Labour) for producing good X or Y or a combination, requires them to produce less of one if they want to produce more of the other, as resources are limited. Pls see the production possibility frontier below.

A rational individual (consumer / producer) would like to maximize their utility / profits, given their resources (and hence budget line / production possibility curve), and their indifference curve / profit function.