Scarcity, choice and opportunity cost

The fundamental problem of economics is scarcity. There are infinite wants, but limited resources and so all societies have to make a choice about which wants to satisfy. The cost of that choice is called the opportunity cost and is defined as the next best alternative forgone.

An example of these concepts is seen in the article linked below, which describes how the health service for England has rejected the use of a cancer treatment because they do not consider the benefits to be worth the costs.

A few words on health provision in the UK. The National Health Service (NHS) provides healthcare free at the point of use. No member of the British public, or indeed visitors, are charged for NHS care although there may be a small charge for prescriptions. The service is paid for from general taxation which means that those not working, the old or the young are not required to have contributed to tax in order to benefit. There is little need, or requirement, to have private health insurance and only 9% to 11% of the population have it.

The NHS therefore provides healthcare from a budget allocated by the government. This is, by definition, limited and the NHS must decide on the most effective way to allocate the resources it has between alternative uses.

This is a classic case of scarcity, choice and opportunity cost. The drug the article is concerned with treats a form of breast cancer that affects about 1200 women a year. It costs 90,000 GBP (AU$153,000) a year and is estimated to extend life for the average patient by around nine month.

The decision to deny access to the drug seems callous. It is really quite distressing to those who will be denied access. But what is the opportunity cost of providing the treatment? What could the NHS do with 108 million pounds a year otherwise? Of course the answer is quite a lot and hence the decision not to fund the drug.

The diagram below shows a PPF for the NHS.

As the NHS has a limited budget they cannot simply buy more of all cancer treatments. If they provide extra breast cancer treatments by reallocating resources from point A to point B there will be CD more breast cancer patients treated, but EF fewer patients treated with other forms of cancer. This is the inevitable consequence of scarcity. The opportunity cost of providing CD more breast cancer treatments is, in this case, EF fewer other treatments.

The Guardian article is here

This is a fundamental principle for all economics students when starting their course. This is a particularly unpleasant exampleto illustrate these central concepts.

Applying Opportunitiy Cost

The central problem of economics is scarcity. There are finite resources in the world, but infinite wants. This means that all societies must make a choice about how to allocate resources.

Opportunity cost is the real cost of making a choice on how to allocate resources. It is defined as 'the next best alternative forgone' and is a vital concept to understand in the first week of any economics course.

The trick is to apply the concept to the real world. Below are links to two articles from recent days. They look at two examples of applying opportunity cost.

The first is about decisions made by Britain's National Health Service (NHS) on which cancer drugs to pay for. Britain's health service is funded through taxation and is 'free at the point of use'. The problem is it has a fixed budget from the government and so the NHS must decide which treatments to fund. The NHS is left with the unpleasant fact that when they choose one treatment they can't fund another and some people go untreated. (Actually they get other less effective drugs or palliative care.)

The second article looks at the dilemma of an American Football Club which also has a fixed budget. They must decide which players to hire/retain. If they pay one player a great deal of money then they can't hire or retain a number of other players.

Read the articles and answer the questions below.

The Daily Telegraph looks at the NHS cancer budget here

A US site looks at hiring players here

Questions:

1. Identify all the examples of scarcity and opportunity cost in the articles

2. Using examples from the articles explain how there is always an opportunity cost for any choice.

This post is relevant to all students of economics.

The market for foreign students

Australia likes to sell its education services to other countries. The fees they pay help to cover the costs of staff salaries, fund new facilities and research. For Australia the fees represent exports and so help maintain the external balance.

In recent years there has been a sharp drop in the number of foreign students attending Australian Universities and in 2011 this caused Monash to reduce staffing by 400 posts.

Now things are improving with a rise in applications for student visa's. There are a number of factors that have caused this, and The Guardian article gives most of them and backs them up with some useful data.

For Year 12 students this would be a good exercise in applying supply and demand analysis, Year 11 students will need to wait a little but can come back to it in around week 6. Year 12 students can also ponder if there is sufficient information in the article to apply any concepts of elasticity of demand to the situation.

I will say no more for now, but will return to this article in a few weeks to provide some analysis.

The Guardian article is here

Measuring inflation and the standard of living

Australia has an odd way of measuring inflation compared to the rest of the world. The data is collected infrequently and only in the urban areas.

This makes the measure difficult to use when answering the question "Is the standard of living rising or falling for Australians?"

Of course the real cost of goods and services is only one way of measuring the standard of living, but it is an important one. And in the election campaign much has been made of 'skyrocketing prices" by the idiot Abbott and his cronies.

This article in the Guardian Australia shows that Australians are actually better off in real terms when considering their nominal incomes and the price level. This is very much in contrast to the rest of the developed world and you have to ask why Labor have not made much more of this. But that's another story.

What the article does show is how important it is to include the correct prices of goods in any calculation of inflation and how you have to compare it to incomes when considering real incomes. It also exposes the Liberals claims on the cost of living as a crude distortion of the facts. But we are used to that from Australian politicians aren't we?

The Guardian article is here

And another more scathing article is here