Principles of Macroeconomics / Unit 1 MAC 0018 worked example, 60 to 90 seconds
Opportunity Cost from Two Prices
The idea
When income is fixed and two goods have fixed prices, the opportunity cost of one good is its price divided by the price of the other. First find the endpoints: income divided by each price gives the most of that good you could buy alone. Second, the slope of the line joining them is the horizontal good's price over the vertical good's price. Third, read the slope as a sentence: one unit of this costs so many units of that. The answer depends only on the price ratio, never on income.
In practice
Worked example: a student has sixty dollars a month, sandwiches cost four dollars and bus rides cost one dollar. Sixty dollars buys fifteen sandwiches, or sixty bus rides. So one sandwich costs four bus rides, and one bus ride costs a quarter of a sandwich. Double the budget to a hundred and twenty dollars and the endpoints double to thirty and a hundred and twenty, but one sandwich still costs four bus rides.
Where people slip
Two traps. The opportunity cost of each good is the reciprocal of the other, so if one sandwich costs four rides then one ride costs a quarter of a sandwich. And a change in income moves the line without changing its slope, so it changes what is affordable but not what anything costs in terms of the other good.
Your place on the trail
Every lesson rests on earlier ones and opens later ones. Tap any to jump.
Builds on
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