The usage of opportunity cost in public policy

1. Introduction
According to ODA (1988), opportunity cost is defined as the value of goods and services
with the usage of producing the other goods and service. Moreover, in the perfectly competitive
market, as defined by Perkins (1994), the price of input is the same with supply price which has
reflected opportunity cost and this opportunity cost has been defined as the total resources to
product input for other goods and services. Hence, opportunity cost is available when there is
any choice. In the meantime, public policies have been established with the focus on the
choices of individuals and government. Hence, policy decision maker needs to involve
opportunity cost into their process of creating new policies. This paper emphasizes on the
relationship between opportunity cost and public policies. However, as mentioned in many
studies, opportunity cost is involved into public policy indirectly through Cost Benefit analysis
which is the tool to choose or make the decision on policies because opportunity cost is one of
the most important elements of Cost Benefit analysis. Hence, this paper will be outlined as
follow
 Public policy and Cost Benefit analysis in Public Policy decision
 Opportunity Cost, Cost Benefit analysis and Public Policy decision
 Case study about the limitation of public policies without mentioning about Opportunity
Cost
2. Public policy and Cost Benefit analysis in Public Policy decision
With the appearance in the mid-1960s, public policy is considered the subfield of political
science and the decisions and actions which have been implemented by government to deal
with some public concerns (Cochran and Malone, 2005).
There are many studies analyzing Cost Benefit analysis. As defined by Pearce (1983),
Cost Benefit analysis is the process in which there is the measurement of gains and losses to
individuals as well as to society. Moreover, Board et al (2006), Cost Benefit analysis is
considered the method of accessing policy to find out the monetary terms as well as all
consequences which have been influenced to all members of society. In short, Cost Benefit
analysis is used to make the analysis of many choices for making the decision. Moreover, it is
the tool which has been to determine the value of the project, program and policy.
Cost benefit analysis and public value
The goal of public policy has been debated by many scholars and public decision
makers. As mentioned by Moore (1995), the goal of public policy is to create public value which
has been achieved when the policy has implemented three tests, for example, firstly, the policy
need to be valuable for all members of society such as institutions, clients and others; secondly,
its result is to create the sustainability of politics and lastly, the policy need to be implemented
operationally and administratively (Moore, 1995) (Figure 1, p. 2)
Figure 1: Strategic Management Framework

Source: Moore (1995)
With the purpose of achieving the sustainable value of the policy, Cost Benefit analysis
is considered the analytical tool which has been used. Even though Cost Benefit analysis has
not been able to find out all kinds of public value (Kelly et al, 2002, p. 32), this method can help
policy decision maker recognize the value of public policies (Moore, 1995). Moreover, the key
steps of Cost Benefit analysis have shown the importance of this tool to the decision process.
According to Hills and Sullivan (2006), the process of Cost Benefit analysis comprises 8 steps
such as determining scope and objectives, finding out the constraints, clarifying the alternatives,
identifying costs and benefits, evaluating costs and benefits, sensitivity for uncertainty,
considering some issues relating to cost and benefits, and lastly, reporting.
The importance of Cost Benefit analysis in the process of decision making has been
defined through most of countries all over the world having their specific guidelines relating to
the implement of regulatory impact analysis in which Cost Benefit analysis is considered the
factor playing the important role (Kitchen, 2010)
3. Opportunity Cost, Cost Benefit analysis and Public Policy
3.1.Opportunity Cost
Opportunity cost is the kind of cost which always exists when having any choice and
defined in many studies. However, there are two kinds of opportunity cost in the analysis of
economy such as the opportunity cost on utilizing the private resource and the opportunity cost
for taking another action. From two branches of the definition of Opportunity cost, there are
many different studies mentioning different ways when defining opportunity cost. According to
ODA (1988), opportunity cost is defined as the value of goods and services with the usage of
producing the other goods and service. Moreover, in the perfectly competitive market, as
defined by Perkins (1994), the price of input is the same with supply price which has reflected
opportunity cost and this opportunity cost has been defined as the total resources to product
input for other goods and services. It means that the opportunity cost is equal the value of
goods and services which are foregone. For example, when you decide to take the learning
course, the cost of this course comprise not only the fee of tuition and other fee but also the
forgone salary.
In society, people have faced many choices hence the cost of pursing this choice is the
foregone result of the other choice. In aspect of government programs, the opportunity cost has
been determined through the most valuable alternative one. There are two kinds of tradeoff
which society has faced such as the tradeoff between national defense and social goods, the
tradeoff between environment and income. In the first tradeoff, for the fixed amount of money,
government can use it for military or social goods with the same amount. However, government
cannot use this amount of money to buy for both. It means that the decision of having more one
good is also the decision of having less other kind of goods. The second tradeoff which society
faces is the tradeoff between cleaner environment and higher salary. It means that with the
purpose of having cleaner environment, government have implemented more laws with many
regulations to reduce pollution level which results in the higher production cost. Even though
regulations can make cleaner environment, but increase the operation cost and then, decrease
the profit rate which has influence to the wages and salary of employees. Hence, with the target
of cleaner environment, there is the tradeoff in decreasing salary and increasing product price
offered to customers.
3.2. Opportunity cost, cost benefit analysis and Public Policy
As mentioned in the process of Cost Benefit analysis, identifying costs and benefits is
one of the most important steps of Cost Benefit analysis which is used to make the decision of
public policy. For one proposal, there are some typical costs such as initial investment capital,
other capital costs for any tangible assets which need to be replaced in the life of the proposal,
the cost used for operation and maintenance in the life of the project and the cost which cannot
be determined by money terms, called “intangible”. However, besides these kinds of costs, one
other cost which is easily forgotten by economists and policy makers is opportunity cost.
Resources can be used for many programs and policies. Hence, they can be implemented for
this project, instead of other projects. In practice, opportunity cost is considered the fundamental
part of Cost Benefit analysis (Commonwealth of Australia, 2006). As considered as one of the
important costs in Cost Benefit analysis which has been used for making the decision on public
policy, opportunity cost is also involved into the process of public policy making.
Besides involving into Cost Benefit analysis on Public Policy decision, there is the direct
relationship between opportunity cost and public policy. Society is considered the group of
people with unlimited demands under the limited resources, hence, public policy will determine
which one needs to be satisfied and which will be forgotten. For example, there is the tradeoff
between national defense and social goods. It means that with the fixed amount of money,
when government invests into buying military goods, they will buy social goods. Or in aspect of
environment and economy, when some regulations are applied to reduce the amount of
pollution, organizational profit will be decreased because operation cost, including environment
cost, increases. Hence, income and other related economic criteria will be influenced in the
negative way.
In detail of involving opportunity cost into the process of making the decision on public
policy, the example of national defense and social welfare has been taken to analyze through
Production Possibilities Curve. As shown in Figure 2 (p. 5), for example, the economy stands at
the point of A and there are two kinds of idea, one wants to pull A to B to invest more into
national defense while the other wants to pull to C with the higher production of social goods. It
means that society wants to move to Point D and has higher demand with the limitation of good.
However, there is no solution to have more social goods without reducing national defense or
vice serve. If government makes the decision to move from A to B, society is at the expense of
creating less amount of social welfare. Or if government wants to move from A to C, it cannot
satisfy the higher level of national defense.
Figure 2: Production Possibilities Curve

Source: Rittenberg and Tregarthen (Chapter 2)
4. Case study about the limitation of public policies without mentioning about
Opportunity Cost
4.1.Opportunity Cost and Proposed environment policy – Air Pollution – Reduce SO2
objective in UK
This case study has implemented the appraisal of new SO2 air quality objective in UK.
This project needs to implement two objectives such as the assessment of the minimum cost
method to meet the requirements of NAQS which is National Air Quality Strategy and the
assessment of SO2 deduction. To handle these two objectives, Cost Benefit analysis has been
handled (European Commission, 1999, p. 113). This project has been implemented through 8
steps basing on the process of Cost Benefit analysis.
Mentioning about the comprehensive Cost Benefit analysis, from the cost side, there are
some kinds of cost which have been analyzed and calculated such as foreseeable direct and
indirect or secondary effects. From this analysis, the net social value of meeting the
requirements of NAQS has been remained positive. However, this value has not be compared
with alternative policies relating to the reduction of SO2 in UK such as road safety, handling
research on cancer, education course on health, making laws and regulations relating to SO2
limitation, etc. It means that there is no opportunity cost between air pollution policy and other
policies relating to health safety. Hence, it is difficult to know whether implementing air pollution
policy will bring better result than other policies on health safety
4.2. Opportunity Cost and Municipal Solid Waste Case Study
Through applying Cost Benefit analysis under the management system on Municipal
Solid Waste, the Commission has implemented its aim in this project as the assessment of
some kinds of costs such as environment cost and economic costs in the different ways. After
implementing Cost Benefit analysis, this framework of cost and benefit for this project has been
shown and summarized in the Figure 3 (European Commission, 1999, p. 159).
With the full Cost Benefit Analysis shown in the above figure, there is no mention about
the potential impacts which this project has been caused in the implementing process. Hence, it
is difficult to determine what are opportunity costs to apply one management system or to
change to other system.
Figure 3: Cost Benefit framework for Municipal Solid Waste

Source: European Commission (1999, p. 159)
4.3. Opportunity Cost and Policy Evaluation
As mentioned above, there are two ways which opportunity cost appears. Firstly,
opportunity cost is considered the result on using individual resources defined as the inputs of
policies and proposals. Secondly, opportunity cost will be lower if one policy has been
implemented at the higher level (European Commission, 1999, p. 159, 153). In aspect of
economic policy, European Commission stated that it is necessary to involve opportunity cost
which has been associated with the usage of particular resources from economic appraisal
(Smith, 1999). When facing many choices, to make the best public policy, government needs to
consider and evaluate each option to decide which must be satisfied and unsatisfied.
5. Conclusion
It is necessary to involve opportunity cost into public policies, especially economic and
environmental policies. This paper has analyzed the relationship between opportunity cost and
public policies through the intermediate called Cost Benefit analysis as well as found out some
case study mentioning the limitation of public policies without mentioning about Opportunity
Cost.
6. Reference
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