Question

Explain precisely why ‘Opportunity Cost' is always a RELATIVE concept and is never to be construed in ABSOLUTE terms. In addition, why is the PPF function never strictly convex -what is the economic implication of strict convexity? You are free to provide appropriate examples of your choice.

Answer 1

Answer:

See the explanation below.

Explanation:

a. Explain precisely why ‘Opportunity Cost' is always a RELATIVE concept and is never to be construed in ABSOLUTE terms.

Opportunity cost is always a relative concept because it considers the benefits or gains that must be missed or forgone in order to chose one economic activity or option over others.

Opportunity cost is measured as the difference between the return on best foregone option and the return on chosen option . For example, if a $100,000 investment A with a return of 6% is chosen over another $100,000 investment B with a return of 8%, the opportunity cost is 2% (i.e. 8% - 6% = 2%).

On the other hand, absolute terms only consider the difference between the absolute value of two options. For example, if an investment A provide $5,000 revenue,while investment B provides $4,500 revenue; the absolute difference is $500.

b. In addition, why is the PPF function never strictly convex -what is the economic implication of strict convexity?

PPF function is never strictly convex due to the fact that there are no goods that are totally the same in real life. This implies there are no perfect substitutes in real life.

The economic implication of strict convexity is that when we have two dimensions that have an attribute of strict monotonic preferences as well as two consumption bundles that are each on the same indifference curve denoted as y, any point on a line that link the two points, apart from their own points, will lie on an indifference curve that is higher than y.