The law of increasing costs is an economic concept that demonstrates the relationships between the factors and costs of production. In other words, this principle describes how opportunity costs increase as resources are applied. For a better understanding of this idea, it is necessary to know the meaning of the opportunity cost and review an example of the way how the law works in practice.
Explanation:
Opportunity cost is the loss of an individual, group of people, or an organization caused by choosing one option over another. For example, a business owner tries to choose between two options, namely, investing in building hotels and the opening of a touristic company. Selecting the second option, the businessman cannot spend financial means on building hotels and make a profit from it. This is going to be a loss that is defined as an opportunity cost in economics.
The law of increasing the opportunity costs states that the increase in production leads to the growth of the opportunity cost. The law of increasing the opportunity cost example will show how it works in practice. For instance, there are two products that are produced within one company- pencils and pens.
If all the financial means are invested in the production of pencils, there will not be any funding for the production of pens and vice versa. In other words, the growth of production of one item will lead to the reduction of the manufacturing of another one and vice versa. Therefore, the best economic situation is to produce a roughly equal number of both goods to achieve balance. This law is especially noticeable in the production possibilities curve presented in picture 1 below.
However, when there is a need to make more pencils, the manufacturers have to raise the price for each pencil to have enough resources for its production. In other words, the organization will have to find additional funds for the production of a more significant number of pencils without affecting the manufacture of pens.