"Opportunity Cost": Real World Example #1
19 Apr 2006 in Regulatory Economics
The concept of opportunity cost is central to benefit-cost analysis and generally not understood by non-economists. Previously we explained how the opportunity cost of regulation differs from expenditures on regulatory compliance. We are building a list of real-world examples that show why this concept matches up with common sense.
On April 17, Wall Street Journal reporters Greg Jaffe and Neil King Jr. published a Page One article (subscription may be required) concerning conflicts between certain senior military officers and Defense Secretary Donald Rumsfeld. The conflict appears to concern Sec. Rumsfeld's longstanding plans to transform the services into "faster, streamlined forces to make warfare more efficient." These issues transcend matters related to the wars in Afghanistan and Iraq.
Jaffe and King report that one element of Sec. Rumsfeld's plan is to downsize the Marine Corps from 180,000 to 175,000 active-duty troops by 2011. We have emphasized in boldface what we consider the crucial economic content::
Even before the ink was dry on a big congressionally mandated review of military spending and on the Pentagon budget for next year, some senior military officers were publicly questioning decisions in the two documents. Gen. Michael Hagee, commandant of the Marine Corps, publicly disagreed with the review's conclusion that the Corps, which has 180,000 active-duty troops, should shrink to 175,000 by 2011. That would force it to pare back important specialties it will need in the coming decades, Gen. Hagee recently told reporters and lawmakers. He has formed a study group, led by a two-star general, to determine exactly what would be lost if the Marine Corps shrank to 175,000.
Neutral Source has no insight concerning military transformation, and has no intention of debating defense planning in general or the appropriate size of the USMC in particular. Moreover, we are not adept with Milspeak and are likely to get some of the terminology wrong. Nevertheless, what Gen. Hagee appears to be doing is attempting to estimate the opportunity cost of the proposed change--i.e., "determine exactly what would be lost.".Opportunity cost is zero only if the USMC can achieve exactly the same mission effectiveness with 175,000 active-duty troops as it currently achieves with 180,000. If there is any reduction in mission effectiveness, then opportunity cost is the amount that we are willing to pay to avoid sacrificing that reduction. If the downsizing plan presumes that there is no change in overall defense mission, then whatever cost savings accrue from downsizing the USMC are reduced by the value of other (presumably Army) resources that must be diverted from their highest and best current use to fill the gap left by the USMC reduction. Value in this case does not mean out of pocket expenditure; it means the foregone benefits of lost mission effectiveness elsewhere. This could be zero if there was excess capacity in the Army (almost certainly false) or the Army could more effectively accomplish the specific missions no longer performed by the USMC (plausible but unlikely).
Clearly this is a complex problem for which an easy answer is not available. Still, thinking about the problem in opportunity cost terms is the best way to clarify the benefits and costs of the proposal.
