1. The owner/manager of an athletic shoe store has revenue of $260,000 per year
ID: 1169287 • Letter: 1
Question
1. The owner/manager of an athletic shoe store has revenue of $260,000 per year and labor, interest, inventory, and miscellaneous expenses of $200,000. The owner also owns the building the store is located in. It would rent out for $5,000 annually. The owner has $50,000 of his/her own money invested into the store. The market interest rate is 10%. Also, the manager just got an offer to manage a Foot Locker outlet at a salary of $50,000.
(a)What and how much are the store owner’s implicit costs?
(b)What is his/her economic profit?
2. Suppose you own a firm. If you manage it yourself, you give up a job which you could earn $70,000 per year. Alternatively, you can hire a manager for $70,000. In either case, your revenue is $200,000 per year and outlays on raw materials, production workers, etc. is $110,000.
(a) What is your economic profit if you manage the firm yourself?
(b) What if you hire a manager?
(c) Are your answers to (a) and (b) the same or different? Explain.
Explanation / Answer
1
a. Implicit cost is the opportunity cost equal to what a firm must give up in order to use factor of production which it already owns and thus does not pay rent for.
In this case salary of owner, interest on investment and rent of storehouse is the implicit cost
=50000+5000+50000/10=60000
b.
Totoal cost= accounting cost + implicit cost=200000+60000=260000
Total revenue= 260000
Economic profit is zero. 'Economic Profit is the difference between the revenue received from the sale of an output and the opportunity cost of the inputs used. Economic profit includes both implicit cost and explicit cost for estimation of profit.
2.
a.
total cost= cost+ implicit cost= 110000+70000=180000
revenue= 200000
economic profit is 20000
b.
when you hire a manager implicit cost will be zero, and total cost will still be 180000. salary of manager will be included in total cost.
Economic profit=20000
c.
Answer in the both part are same. As the owner’s implicit cost and manager’s salary have the same value. When these value differ then we will get different values of economic profit.
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