Answer to Question #168781 in Microeconomics for Elliot

Question

Why is opportunity cost preferred over direct cost in cost analysis?

Answer 1

Direct costs are the expenditures that must be paid out of pocket in order to do anything, while opportunity costs are the value of the next best option that must be foregone.

Since opportunity cost is considered the true cost of a decision, it is favoured over direct cost in cost analysis.

Explanation

The theory that the true cost of something is the amount of all the items you have to give up is based on the concept of opportunity cost. Only the next best alternative to an action is considered, not the entire set of alternatives, and all variations between the two options are taken into account.

Example

When making a decision, consider the advantages and disadvantages of each choice.

For instance, If the government spends millions of dollars to fund weapons for war, say $800 million, that's $800 million that can't be spent on education, health care, or tax cuts/debt reduction.