Opportunity Cost: How It Affects Your Money

The term "opportunity cost" may not be commonly heard, but in reality, every time we need to make a choice, we encounter opportunity cost. What is opportunity cost, and how does it relate to our daily lives and financial situation? Let's understand what is meant by opportunity cost and how it affects you.

What Is Opportunity Cost?

Opportunity cost is the hidden price tag on every choice we make. Suppose you have RM1,000 and are contemplating whether to buy a new mobile phone or invest the money in ASB (Amanah Saham Bumiputera). If you choose to buy the new phone, the opportunity cost is that you are forgoing the opportunity to invest in ASB and enjoy potential dividends from it.

Therefore, opportunity cost can be defined as the options we must give up because we choose what seems better. When making decisions, we weigh the benefits and drawbacks of each option. Opportunity cost adds another factor to consider before making a decision. For example, between buying a mobile phone and investing in ASB, we choose the phone because it appears trendier. It is the latest model with more attractive features, even though our existing phone is still perfectly functional.

However, when deciding, we should also consider the opportunity cost of not investing in ASB, such as the annual dividends and having an emergency fund. With these additional considerations, we might make a more financially beneficial decision.

It "forces" us to think beyond the immediate benefits of our decisions. As a result, we begin to consider what we miss out on by not making a particular choice. Understanding the concept of opportunity cost can help you make wiser decisions not only in financial matters but also in various aspects of life.

Examples of Opportunity Cost:

1. Value of Time

Time is a precious resource, and opportunity cost plays a significant role in determining how to use our time. When we choose to do something, we automatically sacrifice the opportunity to do something else.

For instance, if we decide to spend the evening watching a movie, it means we are forgoing the opportunity to engage in other recreational activities. Since time is limited, it's crucial to use it wisely to achieve desired goals.

2. Monetary Value

Opportunity cost plays a crucial role in every financial decision we make. For example, every purchase we make involves a choice, whether to buy product A or B. When we make a purchase, we're not just spending money; we're also giving up the opportunity to use that money for something else.

Therefore, before making any financial decisions, especially those involving wants versus needs, it's essential to weigh the trade-offs carefully. The line between these two can be very thin, and we often overlook prioritizing needs over wants.

For example, comparing buying a new mobile phone to building an emergency fund is a trade-off between wants and needs. While the immediate satisfaction of a new phone may make you happy, in the long run, your happiness might diminish as new models come out or the phone's performance deteriorates.

However, if you choose to invest in ASB, you will find greater satisfaction each time you receive returns on your investment.

You will be happier as the savings you build can help you acquire valuable assets like a house or car. In this scenario, opportunity cost includes the potential returns and achieving larger goals through investment.

Therefore, remember that it's crucial to assess the long-term impact of each choice by thoroughly examining the opportunity cost of the second option compared to the first.

Balancing Opportunity Cost and Making the Best Choices

Understanding the concept of opportunity cost will help you become more cautious when making decisions and choices. This is because it enables you to identify the actual value of each decision and what you need to sacrifice when making a choice.

That's why it's recommended to take three days before making any significant purchasing decisions, especially for substantial purchases. This 3-day period allows you to be more careful and avoid impulsive purchases.

So, as you navigate the various decisions that need to be made in life, remember to weigh the costs and benefits and make choices that will bring you closer to your financial goals and life dreams.

While the need to think about opportunity cost every time you want to buy something or go on vacation may seem excessive, it's a necessary step when making financial decisions, whether big or small.