A pair of hands, one holds a blue pill, the other a red pill
Image: © Warner Bros

What is Opportunity Cost?

Blue pill or red pill? Whichever you don't take is known as the 'opportunity cost' - and it's a really big deal when it comes to economics...

What’s the big idea?

They say everything has a cost. And when you look at your debit card bill from Saturday night, and see all those rounds of shots you bought for everyone, you might agree. Still, curing that hangover the next day was free, right? You were in so much pain, you kept your head under a blanket, binge watching House Of Cards, so you didn’t spend anything that day. Perhaps not.

But if you talk to an economist, he or she will happily point out that you paid quite a price: by choosing to spend the day muttering "Oh God why?" repeatedly into your pillow, you also chose not to spend your day, for example, weaving a basket to sell on Etsy for $50 (or whatever you fancy doing... we don't judge). So, the idea is that everything comes with a cost - the cost of all the other things you could have done instead.

Drawing of opportunity cost in which a girl chooses between an ipod and TV
Image by Brooke R, USA

That’s all?

Pretty much, yes. The whole concept of opportunity cost is really just the notion that you always pay for what you do with the opportunities you missed. The opportunity cost of drinking milk on a hot day, for instance, is a lovely cool glass of water.

Ron Burgundy drinks milk on a hot day

Why should I care?

Well, this rather simple idea is a big deal. It means you can put a value on things you wouldn’t otherwise be able to. For example, the question “how much do you value your weekend?” suddenly can be answered with something like "$300" if you could have worked all weekend for that amount of money, but didn’t. In this case, the cost of the weekend can be measured by the value of the work you didn’t do. This is really helpful when conceiving economic models that wouldn’t really be workable with answers like "quite a lot"!

And even if you’re not studying economics, the concept still helps you to put a value on things. Only got enough money left in your pocket to either buy that kebab you’re craving or the bus ticket home (after all those shots)? Well shoot, the price for feeding your hunger has just gone up by having to walk.

Or you might think about adding the opportunity cost onto payment for a thing you do instead, the way this cat does...

Cat Opportunity Cost

What else should I know?

The nice thing about the concept of opportunity cost is that it's universally applicable. If you define every missed opportunity as the cost of something else, you’ll be able to see it everywhere. But there's some trouble with this, and it’s to do with the way in which many economics courses are taught.

Remember when I said opportunity costs are used in economic models? Well, these models influence our lives in many ways, because politicians use the advice economists give them to create the laws and policies we live by. Overly relying on a concept like the one of opportunity cost - for example, to give leisure time a monetary value - is actually a huge simplification of the real world. There are many more factors than just cost that go into establishing the value of a choice.

So we can be critical of these kind of approaches, not only because they lack complexity, but also because they risk instilling in the students who learn them a certain way of looking at the world in which the monetary cost of everything is given priority over other things. They’ll have spent years learning to see the cost-benefit ratio of everyday decisions as something that can only be expressed in dollars, euros or yen - which may then have knock-on effects when it comes to organizing wider society.

At the end of the day, deciding on an opportunity cost is a personal thing - our values, needs and tastes are key factors. An economic model might not assign much value to the voluntary care work you do, as opposed to the paid work you might be doing instead - but for you and the person you care for, it may be priceless.

Related articles

Reader Comments