Question

1. Definition of economic costs Jake lives in Detroit and runs a business that sells guitars. In an average year, he receives $704,000 from selling guitars. Of this sales revenue, he must pay the manufacturer a wholesale cost of $404,000; he also pays wages and utility bills totaling $286,000. He owns his showroom; if he chooses to rent it out, he will receive $3,000 in rent per year. Assume that the value of this showroom does not depreciate over the year. Also, if Jake does not operate this guitar business, he can work as an accountant, receive an annual salary of $20,000 with no additional monetary costs, and rent out his showroom at the $3,000 per year rate. No other costs are incurred in running this guitar business. Identify each of Jake's costs in the following table as either an implicit cost or an explicit cost of selling guitars. Implicit Cost Explicit Cost The wages and utility bills that Jake pays The salary Jake could earn if he worked as an accountant The wholesale cost for the guitars that Jake pays the manufacturer The rental income Jake could receive if he chose to rent out his showroom Complete the following table by determining Jake's accounting and economic profit of his guitar business. Profit (Dollars) Accounting Profit Economic Profit

Answer 1

	Implicit Cost (Opportunity lost)	Explicit Cost (Direct paid out cost)
The wages and utility		Yes
The salary Jake could earn	Yes
The wholesale cost for the guitars		Yes
The rental income Jake could receive	Yes

Accounting Profit = Total Revenue-Explicit cost = (704000-(404000+286000)) = $14000

Economic Profit = Total Revenue-(Explicit cost + Implicit cost) = (704000-(404000+286000+3000+20000)) = -$9000