The concept of opportunity cost is one of the foundations of economics. When you

Question

The concept of opportunity cost is one of the foundations of economics. When you make a decision, you give up an alternative. Whatever you give up or lose in this alternative decision is the opportunity cost.

Based on the given brief, discuss the following points:

1. Share an experience from your daily life where the concept of opportunity cost played (or should play) an important role in your decision making.

2. What were the opportunity costs and benefits of your decision?

3. If you were the owner of a small business or firm with an extra $5,000 to spend, how would you decide how to spend this money? How do you use the concept of opportunity cost to make this decision?

Explanation / Answer

1. Generally people save their money in banks so that they can earn interest rate on their savings. But some amount of money is not deposited by people in the banks just to meet transaction motive. Holding of money in the form of cash by general public has opportunity cost. Opportunity cost is the sacrifice of interest rate which a person can earn by depositing the same in the bank.

2. So, cost of holding cash is the loss of the interest rate on amount while benefit of holding cash is to meet the transaction demand and unforeseen demand. By holding cash, people can meet his speculative and transaction demand easily.

3. Person can use it to re-invest in the business to expand it or can save it in bank if money is not required. When person spend this additional money in expansion then opportunity cost is the loss of interest rate which person can earn by keeping this money with banks.

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