Scarcity, Choice and Opportunity Cost
Learning Objective
Explain the fundamental economic problem of scarcity, how it creates choices, and how opportunity cost is measured. Apply these ideas using the Production Possibility Frontier (PPF) and the basic economic methodology required by the Cambridge IGCSE/AS‑Level syllabus (9708).
1. The Fundamental Economic Problem
- Scarcity: The factors of production (land, labour, capital, enterprise) are limited, whereas human wants are unlimited.
- Because of scarcity every society must answer three basic questions (syllabus 1.1):
- What to produce?
- How to produce?
- For whom to produce?
2. Key Economic Concepts (Syllabus 1.1‑1.3)
| Concept |
Definition (concise) |
Typical Example |
| Scarcity |
Limited resources relative to unlimited wants. |
Only a finite amount of arable land is available for housing. |
| Choice |
Selecting one alternative over another because resources cannot be used for all purposes simultaneously. |
Choosing a new car instead of a two‑week holiday. |
| Opportunity Cost |
The value of the next‑best alternative that is foregone when a decision is made. |
Foregone wages when a student spends time studying. |
3. Measuring Opportunity Cost
- General formula (micro‑level):
Opportunity Cost = Quantity of the foregone good × its market price
- On a PPF the opportunity cost is expressed as the marginal rate of transformation (MRT)** – the slope of the curve at a particular point.
- Because resources are not perfectly adaptable, the MRT usually rises as production of a good expands (law of increasing opportunity cost).
Worked Numerical Example (Cars & Computers)
Assume an economy can produce only Cars and Computers. The current production point is 10 Cars and 0 Computers. To move to a new point the economy must give up 6 Computers to produce 2 additional Cars.
- ΔQCars = +2
- Price of one Computer = $5 000
- Opportunity Cost of the 2 Cars = 6 Computers × $5 000 = $30 000
- Thus, each extra Car costs 3 Computers (or $15 000) in terms of foregone output.
Student‑Time Illustration
A student has 4 free hours.
- Study economics for 2 hours → grade improvement worth 5 points.
- Work part‑time for 2 hours → earn $20.
If the student studies, the opportunity cost is the $20 that could have been earned. If the student works, the opportunity cost is the 5‑point grade improvement.
4. The Production Possibility Frontier (PPF) – Syllabus 1.5
- Definition: A curve showing the maximum combinations of two goods that can be produced with existing resources and technology.
- Key features:
- Points **inside** the curve – resources under‑utilised (inefficient).
- Points **on** the curve – efficient use of all resources.
- Points **outside** the curve – unattainable with current resources/technology.
- The **slope** (MRT) at any point equals the opportunity cost of the good on the vertical axis in terms of the good on the horizontal axis.
- Typically bowed‑outwards, reflecting the law of increasing opportunity cost.
- Diagram description (to be drawn in class): Vertical axis – Cars; horizontal axis – Computers. Mark points A (inside), B (on), C (outside) and label the slope between two points as “Opportunity cost of 1 Car = X Computers”.
5. Economic Methodology (Syllabus 1.2)
5.1 Positive vs. Normative Statements
- Positive: Describes what is; can be tested and proved false.
Example: “A rise in the minimum wage will increase unemployment among low‑skill workers.”
- Normative: Expresses a value judgement about what ought to be.
Example: “The government should raise the minimum wage to reduce poverty.”
5.2 Ceteris Paribus
Latin for “all other things being equal”. It isolates the effect of one variable by holding everything else constant – essential when analysing choice and opportunity cost.
5.3 Time‑frames: Short‑run vs. Long‑run
- Short‑run: At least one factor of production is fixed (e.g., factory size). Choices are limited by existing capacity.
- Long‑run: All factors are variable; firms can adjust plant size, adopt new technology, and fully respond to scarcity.
6. Factors of Production (Syllabus 1.3)
| Factor |
Definition |
Typical Example |
Factor Reward |
| Land |
All natural resources used in production (including minerals, forests, water). |
Arable farmland for crops. |
Rent |
| Labour |
Human effort, both physical and mental, employed in production. |
Factory workers assembling smartphones. |
Wages & salaries |
| Capital |
Man‑made goods that assist production (machinery, buildings, tools). |
Robotic arms in an automobile plant. |
Interest, profit |
| Enterprise (Entrepreneurship) |
Risk‑taking and organisational ability to combine the other factors to produce goods/services. |
Start‑up founder developing a new app. |
Profit (or loss) |
7. Economic Systems and Resource Allocation (Syllabus 1.4)
How the three fundamental questions are answered in different systems.
| System |
What to Produce? |
How to Produce? |
For Whom to Produce? |
Key Feature |
| Market (Capitalist) Economy |
Decided by consumer demand (price mechanism). |
Firms choose techniques that maximise profit. |
Distribution through income earned from factor services. |
Private ownership, competition. |
| Planned (Command) Economy |
Decided by central authority (government plan). |
State decides the techniques and allocates resources. |
Distribution according to plan‑set priorities (often “to need”). |
Public ownership of resources. |
| Mixed Economy |
Combination of market signals and government directives. |
Both private firms and public bodies produce goods. |
Market distribution plus welfare policies. |
Co‑existence of private and public sectors. |
Diagram suggestion
Draw a simple flow diagram contrasting the price‑mechanism (supply‑demand interaction) with central planning (government plan → allocation of resources).
8. Classification of Goods (Syllabus 1.6)
| Class of Good |
Characteristics |
Typical Example |
| Normal Good |
Demand rises as income rises. |
Restaurant meals. |
| Inferior Good |
Demand falls as income rises. |
Second‑hand clothing. |
| Luxury Good |
Demand increases proportionally more than income. |
Designer watches. |
| Public Good |
Non‑rival & non‑excludable. |
National defence. |
| Merit Good |
Undervalued by the market; socially desirable. |
Primary education. |
| Demerit Good |
Over‑consumed if left to market; socially undesirable. |
Cigarettes. |
| Club Good |
Non‑rival but excludable. |
Gym membership. |
9. Linking to the Next Topics (Preview of Syllabus Sections 2‑5)
- Demand & Supply (2.1‑2.3): How price determines quantity demanded and supplied; market equilibrium.
- Elasticities (2.4‑2.5): Price, income and cross‑price elasticity – measuring responsiveness.
- Government Intervention (3.1‑3.3): Reasons for intervention (public goods, externalities, market failure) and tools (taxes, subsidies, price controls).
- Macroeconomic Fundamentals (4.1‑4.6): National income, inflation, unemployment, fiscal & monetary policy – showing how the PPF links to aggregate output.
- These sections will be developed in later units; the present notes provide the essential micro‑foundation.
10. Summary
- Scarcity is the root of all economic activity – resources are limited, wants are unlimited.
- Scarcity forces societies to answer the three fundamental questions.
- Every choice entails an opportunity cost – the value of the next‑best alternative.
- The PPF visualises scarcity, choice, efficiency and the increasing opportunity cost.
- Economic methodology (positive vs. normative statements, ceteris paribus, short‑run/long‑run) underpins rigorous analysis.
- Different economic systems allocate resources in distinct ways, and goods can be classified to highlight market failures.
11. Practice Questions
- Define scarcity in your own words and give a real‑world example.
- Using a PPF diagram, explain why the opportunity cost of producing more of Good A is the amount of Good B that must be given up.
- Identify a situation where a decision involves a high opportunity cost and illustrate it with a simple numerical calculation.
- Classify the following statement as positive or normative and justify your answer: “Raising the tax on cigarettes will reduce smoking rates.”
- Explain the role of ceteris paribus when analysing the effect of a change in the price of wheat on the quantity of wheat demanded.
- Briefly describe how a market economy, a planned economy and a mixed economy each answer the three fundamental questions.
- Give one example of a merit good and one of a demerit good, and explain why government intervention may be justified for each.
12. Road‑Map for A‑Level Extensions (Topics 7‑11)
After mastering the AS‑Level foundations, students will progress to:
- Utility theory, indifference curves and consumer equilibrium.
- Market structures (perfect competition, monopoly, monopolistic competition, oligopoly).
- Advanced macro‑policy (aggregate demand & supply, Phillips curve, balance of payments).
- International trade and finance (comparative advantage, trade protection, exchange rates).
- Development economics and sustainability.
These later topics build directly on the concepts of scarcity, choice and opportunity cost introduced here.