Question

Last year, Jarod left a job that pays $60,000 to run his own bike-repair shop. Jarod's shop charges $65 for a repair, and last year the shop performed 3,000 repairs. Jarod's production costs for the year included rent, wages, and equipment. Jarod spent $50,000 on rent and $100,000 on wages for his employees. Jarod keeps whatever profit the shop earns but does not pay himself an official wage. Jarod used $20,000 of his savings to buy a machine for the business. His savings were earning an annual interest rate of 5 percent. Instructions: Round your answers to the nearest dollar and include a negative sign if appropriate. a. What is Jarod's annual accounting profit? b. What is Jarod's annual economic profit?

Answer 1

Answer:

(a) $45,000

(b) -$16,000

Explanation:

Accounting profits = Total revenue - Total costs

                               = ($65 × 3,000) - (100,000 + 50,000)

                               = $195,000 - $150,000

                               = $45,000

Economic profits = Accounting profits - Opportunity cost

                            = $45,000 - [$60,000 + (5% × $20,000)]

                            = $45,000 - [$60,000 + $1,000]

                            = $45,000 - $61,000

                            = -$16,000