Question

000000" Cedric owns and runs a cafe. His monthly accounting profit is $5,000 and his monthly economic profit is -$1,000. Based on this information choose the best conclusion about his situation 1. He is doing well because he is earning $1000 more Option 1 Option 2 lave earned by using the inputs in their best alternative use. 2. He is not doing well because he is earning $1000 le Option 3 d have earned by using the inputs in their best alternative 3. He is doing well because he is earning $5000 more Option 4 lave earned by using the inputs in their best alternative use. 4. He is not doing well because he is earning $5000 less than he could have earned by using the inputs in their best alternative use. use. Check page Next page

Answer 1

Solution:

In the question, we are given that the accounting profit is positive, while the economic profit is negative for Cedric. The factor that separates or distinguishes accounting profit and economic profit is the implicit cost (or opportunity cost). This cost refers to the return generated by employing the resources/inputs to alternative use (for example, for Cedric, implicit cost could be the rent he could have received by renting out his cafe place, than running one by himself. This way, the land available to him could be put to alternate use such as renting).

Since, the options talk about an alternative use of the inputs, it involves talking about economic profit and not accounting profit, so we eliminate options 3 and 4.

Economic profit being negative, when accounting profit is still positive simply means that the implicit cost is too high to overpower the positive accounting profit.

Economic profit = accounting profit - implicit cost

With cafe, Cedric is earning $5,000. Possibly, Cedric could have earned $6,000 with best alternative input use (such that implicit cost is $6,000 and economic profit becomes -1000 as given). So, we can conclude that Cedric is earning $1,000 less than what he could have earned alternatively.

Thus, correct conclusion is option 2.