Micro Chapter 20
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Transcript of Micro Chapter 20
![Page 1: Micro Chapter 20](https://reader036.fdocuments.us/reader036/viewer/2022062321/56813832550346895d9fe129/html5/thumbnails/1.jpg)
Presentation 3- Cost of Production
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Cash expenditures a firm makes to those who supply labor services, materials, fuel, transportation etc.
Cash payments for the use of resources owned by others ($$ value)
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Opportunity cost of using self-owned, self-employed resources
Amount of $$ that self-employed resources could have earned in their best alternative use
Ex- using a building rather than renting it…the amount of rent you could have made
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The value or worth the resources used to produce a good would have in its best alternative use
Ex- steel in a building could be used for cars Ex- for an assembly line worker making
computers, the contribution he could have produced for another good
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The payments a firm must make, or the incomes it must provide, to attract the resources away from alternative production opportunities.
These payments can be explicit or implicit.
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The minimum payment you must receive for performing entrepreneurial functions for a firm rather than for yourself
Included in implicit costs
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Profit = Total Revenue- Explicit Costs
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Profit = Total Revenue – Economic Costs (Implicit and Explicit Costs)
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You have been earning $22,000/yr. You decide to open your own T-Shirt company. You invest $20,000 of savings that have earning you $1000/year in interest. Your firm will be in a small store that you own and have been renting out for $5000/year. You also hire a clerk for $18000/year. Calculate Accounting and economic profit
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Total Sales Revenue………………..120,000 Cost of t-shirts…………40000 Clerk’s salary…………...18000 Utilities…………………...5000TOTAL COSTS (Explicit)………………………(63,000)ACCOUNTING PROFIT…………………………$57,000
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$57,000 accounting profit looks good but doesn’t include implicit costs and overstates the economic success of the company.
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By providing your own financial capital, building and labor you incur implicit costs (forgone income):
Accounting Profit………………………57000 Forgone interest……………………….1000 Forgone rent…………………………...5000 Forgone wages………………………..22000 Forgone entrepreneurial income….5000TOTAL Implicit Costs…………………………….(33000)Economic Profit……………………………………$24000
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ECONOMIC Profit = TR-ECONOMIC COSTS= 120000 – 63000-33000
= $24000
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Gomez runs a small pottery firm. He hires one helper at $12,000 per year, pays annual rent of $5,000 for his shop, and spends $20,000 per year on materials. He has $40,000 of his own funds invested in equipment (pottery wheels, kilns, and so forth) that could earn him $4,000 per year if alternatively invested. He has been offered $15,000 per year to work as a potter for a competitor. He estimates his entrepreneurial talents are worth $3,000 per year. Total annual revenue from pottery sales is $72,000. Calculate accounting profits and economic profits for Gomez’s pottery.
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Explicit costs: $37,000 (= $12,000 for the helper + $5,000 of rent + $20,000 of materials). Implicit costs: $22,000 (= $4,000 of forgone interest + $15,000 of forgone salary + $3,000 of entrepreneurship).
Accounting profit = $35,000 (= $72,000 of revenue - $37,000 of explicit costs); Economic profit = $13,000 (= $72,000 - $37,000 of explicit costs - $22,000 of implicit costs).