Chapter 2
CHOICE, OPPORTUNITY COSTS,
AND SPECIALIZATION
Economics, 8th Edition
Boyes/Melvin
OPPORTUNITY COST

Opportunity cost: the value of the highestvalued alternative that must be forgone when a
choice is made. It is the evaluation of a tradeoff.

Marginal benefits and costs: the benefits and
opportunity costs associated with one
additional unit of the good.
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DECISION MAKING

Principle: Decision making involves trade-offs.

A trade-off means a sacrifice--giving up one
good or activity in order to obtain some other
good or activity.
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PRODUCTION POSSIBILITIES CURVE

The production possibilities curve shows the
maximum quantity of goods and services that
can be produced when the existing resources
are used fully and efficiently.
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PRODUCTION POSSIBILITIES
Only defense
goods produced
Defense Goods
200
A1
G1
B1
175
150
F1
Impossible
Defense
Non-defense
A1
200
0
B1
175
75
C1
130
125
D1
70
150
E1
0
160
F1
130
25
G1
200
75
Efficient
Combinations
C1
125
Underutilized
(Inefficient)
100
75
D1
E1
0
25 50 75 100 125 150
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Only nondefense
goods produced
Nondefense Goods
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GROWTH

The PPC moves outward (growth occurs) as
the result of:

Increased resources
Larger labor force
 Change in labor force participation
 Chance in labor-leisure decision




Improved technology (innovation)
Expansion of capital stock
An improvement in the rules (laws, institutions,
and policies) of the economy
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A SHIFT OF THE PPC
225 A2
Defense Goods
200
A1
B2
B1
175
C2
Defense
Non-defense
A2
225
0
B2
200
75
C2
175
120
D2
130
150
E2
70
160
F2
0
165
150
C1
D2
125
100
D1
75
E1
0
25 50 75 100 125 150
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E2
F2
Nondefense Goods
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MARGINAL COST

The Production Possibilities Curve (PPC)
illustrates the concept of opportunity cost. Each
point on the PPC means that every other point is
a forgone opportunity.

The PPC bows outward because there are everincreasing marginal costs to the production of any
good.
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ECONOMIC CONCEPTS ILLUSTRATED USING PPC





Opportunity Cost: This is indicated by the negative
slope of the PPC. As more of one good is produced,
less of the other goods are produced.
Full Employment: Producing on the PPC
Unemployment: Producing inside the PPC
Economic Growth: Indicated by an outward shift of the
PPC
Investment: Indicated by a trade-off between the
production of consumption goods and capital goods.
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FOR A BUSINESS PRODUCING SHIRTS AND
DRESSES, THE OPPORTUNITY COST OF A DRESS
IS
A. The market price that the business can obtain
for a dress.
B. The cost of the labor and raw materials used
in making the dress
C. The shirts that could have been produced with
the resources used to make the dress
D. The total cost of all the resources used to
make one dress
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WHICH OF THE FOLLOWING WILL NOT SHIFT A
COUNTRY’S PPC OUTWARD?
A.
B.
C.
D.
A reduction in the rate of unemployment
An increase in the size of the available labor
force
An advance in technology
An increase in the capital stock
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WHICH OF THE FOLLOWING WOULD CAUSE AN
OUTWARD-SHIFT OF A COUNTRY’S PPC?
A.
B.
C.
D.
E.
A decrease in unemployment
A decrease in natural resource prices
An increase in consumer demand
An increase in immigration
Negative net capital investment spending
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IN WHICH WAY DOES A CONCAVE PPC CURVE
DIFFER FROM A STRAIGHT-LINE PPC
A.
B.
C.
D.
E.
A concave PPC has decreasing opportunity
cost.
A concave PPC has constant opportunity cost
A concave PPC has increasing opportunity cost
A concave PPC does not show opportunity cost
There is no difference between the two PPC.
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BELLWORK #2

What is the difference between absolute
advantage and comparative advantage in
trade?
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SPECIALIZATION

Economic agents (individuals, firms, nations) will
be better off if they choose to produce those
things for which they have the lowest opportunity
costs, and trade for those with higher costs.

Agents do this because such choices involve
giving up the least amount of other things.
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ABSOLUTE ADVANTAGE

Absolute Advantage: the ability of a party
(individual, firm, or nation) to produce more
number of a good, product, or service than
competitors
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SPECIALIZATION & TRADE

Comparative Advantage: the ability to produce a
good or service at a lower opportunity cost than
someone else.

Law of comparative advantage:

proposition that the joint output of trading
partners will be greatest when each good is produced
by the low opportunity cost producer.
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SHOULD LEBRON JAMES MOW HIS OWN YARD?
Lebron can mow his lawn in two hours.
He can also film a Nike commercial in two
hours and make $10,000
 What is his opportunity cost of mowing his
lawn?
 Scotty the teenager can mow LeBron’s lawn in
four hours. He could also work at McDonald’s
for four hours at $8 an hour.
 What is Scotty’s opportunity cost of mowing
Lebron’s yard?

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SHOULD LEBRON JAMES MOW HIS OWN YARD?
Who has absolute advantage in mowing the
lawn?
 Who has comparative advantage in mowing the
lawn?
 Would Lebron benefit from the trade? Would
Scotty?

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OPTIMISM AND THE ECONOMY

How do natural disasters and terrorist attacks
affect international trade and economic growth?

A report from the World Trade Organization (WTO)
says while the immediate effect on particular
industries can be notable,
the economy-wide impact these events have
on trade and growth is short-term and generally
minimal.
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21
PRIVATE PROPERTY RIGHTS

Private property rights are necessary for a market
economy to develop. If no one owns something, no
one has the incentive to take care of it.
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COMPARATIVE ADVANTAGE
 We
give up
 If We Make
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
Chris can bake either 8 pies or 4 loaves of
bread per hour. For Chris, what is the
opportunity cost of baking an extra pie?
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What you give up
 What you gain

4 = 1
8
2

bread
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27
28
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OUTPUT EXAMPLE
State
Apples
Timber
Oregon
10
40
Washington
40
10
Opp. Cost of 1
Timber =
Opp. Cost of 1
Apple +
Absolute Advantage in Timber:
Absolute Advantage in Apples:
Comparative Advantage in Timber:
Comparative Advantage in Apples:
Draw these PPF’s. Assume each is producing (and consuming) at the
midpoint.
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OUTPUT EXAMPLE
State
Apples
Timber
Opp. Cost of 1
Timber =
Opp. Cost of 1
Apple +
Oregon
10
40
.25 Apple
4 Timber
Washington
40
10
4 Apple
.25 Timber
Absolute Advantage in Timber: Oregon
Absolute Advantage in Apples: Washington
Comparative Advantage in Timber: Oregon
Comparative Advantage in Apples: Washington
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INPUT EXAMPLE
Hours to
produce 1 unit
of Donuts
Hours to
produce 1 unit
of Coffee
Springfield
8
4
Shelbyville
24
8
Producing 1
unit of donuts
costs
Producing 1
unit of coffee
costs
Absolute Advantage in Donuts: Springfield
Absolute Advantage in Coffee: Springfield
Comparative Advantage in Donuts :
Comparative Advantage in Coffee:
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INPUT EXAMPLE
Hours to
produce 1 unit
of Donuts
Hours to
produce 1 unit
of Coffee
Producing 1
unit of donuts
costs
Producing 1
unit of coffee
costs
Springfield
8
4
2 units of
coffee
½ unit of
donuts
Shelbyville
24
8
3 units of
coffee
1/3 unit of
donuts
Absolute Advantage in Donuts: Springfield
Absolute Advantage in Coffee: Springfield
Comparative Advantage in Donuts : Springfield
Comparative Advantage in Coffee: Shelbyville
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PRE-CLASS WORK #4
A. 10 hours working; $50 income
 B. No. 0.0 – 1.0 =$50 oc

1.0 – 2.0 = $100 oc
 C. 10 hours studying; 1.0 GPA

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PRE-CLASS WORK #5
B. No one can have a comparative advantage
in both activities because it is the
“comparative” opportunity costs
 C. 4. OC of GPA: $300/4.0 = 75

OC of Income: 4.0/$300 = .013

5. OC of GPA: $360/4.0 = 90

OC of Income: $4.0/$360 = .011
 4 should study and 5 should work

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PRE-CLASS WORK #7
a. A-B: 10 units; B-C: 20 units; C-D: 30 units;
D-E: 40 units
 b. All other combinations
 C. 1. OC of HC: 100G/100HC = 1

OC of OG: 100HC/100OG = 1

2. OC of HC: 50/65 = .77

OC of OG: 65/50 = 1.3
 Nation 1 should specialize in All Other Goods
and Nation 2 should specialize in Health Care

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