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This text explores the concept of opportunity cost in maximizing surplus and profits, with a focus on isoquants. Learn how to calculate the cost of producing a desired output in the most cost-effective manner.
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Dead Weight Loss • Let Q* be the output that maximizes surplus plus profits. Let CS* and * be these profits. • Let Q be any other output. Let CS and be the surplus and profits at this other Q. • DWL = CS* + * -(CS + )
Opportunity Cost • When one considers using an asset or input for a particular use, • The opportunity cost of an asset or input is its value in its best use other than the particular use being considered. • EX: I worked for my Dad. The opportunity cost is the value of my labor working for the highest paying employer other than my Dad.
Isoquants Again • Axes are quantity of input. • Qth-Isoquant is all input bundles that produce the output Q. • -P2 / P1 is slope of isocost line • Draw (or look at ) isoquant • Draw any isocost line with slope -P2 / P1 • Use drawn line as guide and visually construct parallel line that is tangent to isoquant
Isoquants Again and Again • Now mark the input bundle at tangency • Read off the amounts of inputs 1 and 2, x1 and x2. • Calculate P1 x1 + P2 x2. This is what it cost to make Q in a least cost fashion.
