Concept 1: Opportunity Cost
Definition and explanation: “In most trade-offs, one of the rejected alternatives is more desirable than the rest. The most
desirable alternative somebody gives up as the result of a decision is the opportunity cost.” Economics, 2010, Prentice Hall.
The opportunity cost of going to college is the money you would have earned if you worked instead. On the one hand, you
lose four years of salary while getting your degree; on the other hand, you hope to earn more during your career, thanks to
your education, to offset the lost wages.
A choice between two options must be made. It would be an easy decision if you knew the end outcome; however, the risk
that you could achieve greater "benefits" (be they monetary or otherwise) with another option is the opportunity cost.
Opportunity cost video explanations:
http://www.investopedia.com/video/play/opportunity-cost/
http://www.youtube.com/watch?v=PSU-_n81QT0&list=PL61AC163637CDE768
http://www.marketplace.org/topics/business/whiteboard/opportunity-cost-simple-whiteboard-explainer
Concept group 2: Thinking at the Margin, Marginal cost, and Marginal Benefit
Definition: Margins and Thinking at the Margin
Explanation: Economists look at decisions, and need to make lots of them, too. Many decisions require adding or
subtracting one more unit, such as a dollar or hour to help them decide the best course to take. This is called “thinking at the
margin”. A person needs to compare the costs and benefits of one opportunity cost to another. What will I sacrifice? What
will I gain? This leads us to compile a cost/benefit analysis to help us make our decision.
“To make rational…decisions at the margin, you must weigh marginal costs against marginal benefits. The marginal cost is
the extra cost of adding one unit, whether it be sleeping an extra hour or building one extra house. The marginal benefit is
the extra benefit of adding the same unit. As long as the marginal benefits exceed the costs, it pays to adding more units.”
Economics, 2010, Prentice Hall.
Concept group 3: The Law of Demand, Substitution effect, Income effect, Law of Supply, and Elasticity
Definitions and Explanations:
The Law of Demand says that when a good’s price is lower, consumers will buy more of it. When the price is higher,
consumers will buy less of it. Demand is affected by price.
The Substitution Effect takes place when a consumer reacts to a rise in the price of one good by consuming less of that
good and/or finding a substitute. Example: The price of pizza increases, so consumers choose tacos or burgers…If there are
few substitutes for a good, then even when its price rises greatly, you might still buy it. Your demand for that item is
inelastic. This is especially true if you need this item.
The Income Effect shows how consumers are affected by rising prices. Money is a scarce resource, so when prices
increase, we spend less and feel poorer. When prices decrease, we spend more and feel richer. What matters here is how
much is purchased. Consumers buy less when the price increases. Why? We can’t afford more. Income is often affected
because producers produce less, causing a slow-down of the economy, which is demonstrated with fewer hours at work,
fewer jobs available, and less money to spend.
Elasticity of demand measures how drastically buyers will cut back or increase their demand for a good when the price rises
or falls...If you buy the same amount or just a little less of a good after a large price increase, your demand is inelastic, or
relatively unresponsive to price changes. Can you think of things you would buy even if the price increases a lot? Gasoline,
perhaps? This would be a great example of a “need” vs. a “want”.
If you buy much less of a good after a small price increase, your demand is elastic. A consumer with highly elastic demand
for a good is very responsive to price changes. Can you think of things you would not buy if the price increased a little?
Candy, perhaps? This would be a great example of a “want” vs. a “need”…. Time will change elasticity. The longer we go
without buying something that we can do without for the short term, the more demand for the item catches up with us. We
develop pent up demand and purchase as soon as things look better. (example: new job, more hours at work, economy looks
brighter) Economics, 2010, Prentice Hall.
More explanation: The Elasticity of Demand video