Scarce resources force a choice among competing alternatives. Given a
total budget of $12 million that must be split between road repair ($1
million per kilometre) and new bicycle paths ($500 000 per kilometre),
some points are unattainable. The green line is the budget line and shows
all of the combinations of the two alternatives that fully use the budget.
The slope of the budget line reflects opportunity costs. The opportunity
cost of one extra kilometre of road repair is two kilometres of new bicycle
paths. The opportunity cost of 1 kilometre of new bicycle path is 0.5
kilometres of road repair.
In this setting, Susan and her colleagues need to make a difficult decision.
How should the available funds be allocated between the two
alternatives? To decide, they will need to compare the benefits of road
repair to the benefits from building new bicycle paths. But they will also
need to think about costs. For this discussion, we will focus only on the
issue of costs.
What is the cost of an extra kilometre of road repair in this situation? One
simple answer is that the cost is $1 million. An alternative and more
revealing answer is that the cost of an extra kilometre of road repair is the
two kilometres of new bicycle path that must be given up to get it. In fact,