I have difficulty undrstanding the statement - "when the price of X in terms of Y is greater than the opportunity cost of Y, we are paying more than it really cost to produce X. In such a case we may say that the economy is inefficient."(Witztum. A, 2005)This statement was made in relation to a linear PPF, where 100 units of labour was available that can produce either 100 units of good X or 200 units of good Y and of course any feasable combinations of both. There was a point A on the PPF of coordinates (25,150), which represents a productively efficient point and a point B under the PPF of coordinates (25,100) which represents an productively inefficient point. I know that the opportunity cost of X is 2 units of Y and that the opportunity cost of Y is 1/2 unit of X.My problem come from understanding the price of X in term of Y and the concept of paying more than it really cost to produce X.
Could the statement in the textbook be incorrect? Should it have been "when the price of X in terms of Y is greater than the opportunity cost of X, we are paying more than it really cost to produce X".Can someone please help me to understand this important concept. Thanks for the help.
Might help if you included a link to the original article so it can be read in context.
Oh, and what's a PPF?
Sorry but I don't have a link, as I extracted it from a text book. The PPF is the Production Possibility Frontier.
Sprinter Jr
I understand the statement you quote to mean that there are two alternative products that could be produced from a set amount of raw materials, or labour. So, for example, 10 cars could be produced or 5 trucks from the same amount of metal, labour etc.
I understand it to be a fallacy in economics dating back to Ricardo and onto the Marxists to believe that that because the same amount of input is in both products, there is a necessary relationship in price. Again, as I understand it, one of tne of the big breakthoughs in economics was the understanding that price is subjective, discovered by both Menger and Jevons at about the same time.
From this we have to conclude that if someone was prepared to exchange a car for a truck, the truck must be worth more to the individual than the car. The car and truck will not be worth the same; one has to be worth more for the exchange to take place or why bother exchanging. Therefore, I am not sure it is valid to say that x can be expressedn in terms of y and vica verca.
So, if we understand that price is subjective, then cost will be too. Opportunity cost is subjective depending on the individual and not something that can be published.
With kind regards
Remnant
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