1.1.1 - Scarcity, choice and opportunity cost

Scarcity forces choice

An economy cannot satisfy every want because the resources used to produce goods and services are finite.

People want food, housing, entertainment, travel and many other things. Satisfying some wants often creates new ones: after buying a bicycle, someone may want safer roads or a better bicycle. Unlimited wants means there is no final point at which all people's wants are satisfied; it does not mean one person literally wants an infinite number of identical products.

Against those wants stand limited land and natural resources, workers' time and skills, and equipment. Even a wealthy country has only so many doctors, buildings and hours in a day. Scarcity is this mismatch between unlimited wants and finite resources. It is not the same as poverty or a temporary shop shortage. A rich person still has to choose how to spend a limited evening.

A town with one available building could use it as a library or a health centre. It cannot devote the whole building to both at the same time. Producing more of one service may mean producing less of another. More resources can ease particular constraints, but choices remain: new buildings need land, materials and labour that have other uses.

The next best alternative

The economic cost of a choice includes the most valuable alternative that the choice rules out.

Opportunity cost is the benefit of the next best alternative forgone. Suppose you have one free afternoon and rank the possible uses as visiting a friend, playing football, then watching a film. If you visit the friend, football is the next best alternative. The opportunity cost is the benefit you would have received from playing football, not football and the film added together. You could not have done both alternatives in that same afternoon.

Opportunity cost depends on the available alternatives and on how the decision-maker values them. For another person, the film could be the next best choice. There is no need to invent a money value for enjoyment when the question only asks what is sacrificed.

A money cost is the payment made. It can signal that purchasing power has been used up, but it is not automatically a complete statement of opportunity cost. Spending £20 on a concert might prevent buying a book that was your best alternative. The opportunity cost is the benefit of that book. A free concert can also have an opportunity cost if attending uses time that could have been spent doing something valuable.

Household and business decisions

Consumers and producers face different choices, but both must consider what their scarce resources could do elsewhere.

A consumer buys goods and services to satisfy wants. A household deciding between repairing its roof and taking a holiday cannot use the same savings twice. If it chooses the repair and the holiday is its next best alternative, holiday enjoyment is sacrificed. Recognising that sacrifice helps the household compare the security gained with the experience lost. The more attractive the alternative, the greater the opportunity cost of choosing the repair.

A producer makes goods or services. Consider a bakery with one oven and a fixed shift. It can use that shift for bread or cakes. If it chooses cakes, the next best alternative may be the earnings it could have gained from bread. Materials, equipment and workers' time all have alternative uses. An apparently profitable product may be a weaker choice than another feasible use of the same capacity.

Opportunity cost guides decisions; it does not dictate that everyone must choose the largest money return. The household may value a safe home more than a holiday. The bakery owner may accept lower earnings to supply an essential local service. The important question is whether the benefit gained justifies the best benefit sacrificed.

Government resource choices

Government spending uses resources that could support other public services or remain available for other uses.

A government with a fixed budget may choose between improving flood defences and expanding school buildings. If school expansion is the next best use of the funds, its lost educational benefit is the opportunity cost of the flood project. The comparison concerns the services forgone, not just a statement that construction costs money.

Government choices also use scarce real resources. Allocating engineers and machinery to a road can delay another project even if extra finance is available. Choices affect different groups: flood protection may especially benefit riverside households, while school expansion benefits pupils in crowded classrooms. Governments must compare these benefits and the costs of delay. Knowing the opportunity cost makes that trade-off visible; it does not show which group ought to be prioritised without a value judgment.