Cost-Benefit

Rational DecisionsDue to scarcity, Every decision involves an

opportunity cost.Economists assume that people make rational

decisions.We get something we want, but we give up

something else.

Rational Decisions

We weigh the benefits and cost of each option.

“Cost-benefit analysis” is when we choose the option whose benefits (in your opinion) outweigh its cost.

Rational DecisionsMarginal Benefit/Marginal Cost

Marginal Benefit – Extra amount gained when a choice is made.

Marginal cost refers to the value of what is given up in order to produce that additional unit. Extra amount given up when a choice is made (could be the same as opportunity cost).

Additional units of a good should be produced as long as

marginal benefit exceeds marginal cost. It would be inefficient to produce goods when the marginal

benefit is less than the marginal cost. Therefore an efficient level of product is achieved when marginal benefit is equal to marginal cost.

Marginal Benefit and Marginal Cost Many decisions are not either/or choices.

If you like popcorn and soda, you don’t always have to choose between buying one or the other.

You might need to decide how much of each item you can buy for a certain price in order to gain the greatest total benefit, or satisfaction.

Example:

Cost of bag of popcorn and cost of can of soda are the same

The first bag of popcorn you purchase will give you a lot of satisfaction

If you buy a second bag of popcorn, it will taste good, but it is not as pleasing as the first bag.

The additional pleasure, or Marginal Benefit, you would gain from it would be less than the first bag

Marginal Benefit/Marginal Cost

If you were going to spend more money, you would probably be more satisfied by buying a can of soda for the same amount of money as the second bag of popcorn.

The first can of soda would give you a greater marginal benefit for the additional money you are spending, which is called your Marginal Cost.

Marginal Benefit/Marginal Cost

When the marginal benefits you receive from a decision are equal to or greater than the marginal costs of making that choice, you are making a rational decision.

The Production Possibilities Curve

The graph Economists use to show what combination of two products is possible with a given amount of resources.

The Production Possibilities Curve

Companies that make and sell products also need to make rational decisions, in order to make a profit and stay in business.

Producers use their own version of cost-benefit analysis to decide what combination of things they should make to earn the highest possible profit, using their limited resources.

The Production Possibilities Curve

Like buyers, sellers must weigh marginal benefits and marginal costs.

A farmer grows corn and soybeans. If he can afford to hire ten workers, but he uses them all in his corn field, he is wasting his labor resources.

For the same labor cost, he could move some of the ten workers to his soybean field

The Production Possibilities Curve

If farmer moves a few of workers, he would achieve a big marginal benefit in soybean production, while causing only a small decline in his corn production.

He would be operating more “efficiently” to use his resources to achieve greater overall production without increasing his costs.

Thinking It Through

What is a rational economic decision?

A. One in which there are no opportunity costs B. One in which benefits are unknown, but costs are

low C. One in which marginal benefits are greater than

marginal costs D. One in which marginal costs are greater than

marginal benefits

Show what you know:

Most people would rather order one hamburger and one order of French fires, rather than two hamburgers and no French fries. Explain why economists consider this an example of rational decision making

Come up with the name of country List 2 products Draw the curve Label 3 points on the Production Possibilities

Frontier (A,B,C) Show 1 unattainable point and 1 point that is

inefficient Explain what the opportunity cost of moving

from one point to another would be. EX: The opportunity cost of producing 100 units

of butter is the 30 guns given up.