Alex has been working as a chef in a large restaurant for many years. He has been earning a salary of $60,000 per year. He has always dreamt of starting a catering business. One day, he decides to do it. He quits his job. He needs money to pay costs for the business, so he withdraws $50,000 from his bank savings account, which had been earning 4% interest revenue. He hires an assistant and a kitchen; and buys some ingredients for cooking ($20,000). In the first year, he sells $80,000 worth of food; pays his assistant $25,000; and pays $12,000 for the hire of the kitchen. What is his economic profit for the year?

Question

BlackTom AI · Accepted Answer

We start by restating the situation to ensure we’re evaluating the right numbers.
- Revenue from year: $80,000.
- Explicit costs: assistant wages $25,000, kitchen hire $12,000, ingredients $20,000. Total explicit costs = 25,000 + 12,000 + 20,000 = 57,000.
- Implicit costs (opportunity costs): quitting the salaried job means giving up $60,000 in salary, and withdrawing savings $50,000 means foregone interest of 4% annually, i.e., $2,000. Total implicit costs = 60,000 + 2,000 = 62,000.
Now, economic profit = Revenue − Explicit costs − Implicit costs = 80,000 − 57,000 − 62,000 = 80,000 − 119,000 = −39,000.

Option by option analysis:
- Option a: $23,000. This would imply positive profit after accounting only for explicit costs and perhaps ignoring implicit costs. The given data show substantial opportunity costs (salary and foregone interest), so this positive figure is inconsistent with the full economic cost framework.
- Option b: −$39,000. This matches the calculation when both implicit costs (lost salary + foregone interest) and explicit costs are included. It reflects that the business did not cover all economic costs in the first year.
- Option c: −$87,000. This would require either miscounting either the explicit costs or including much larger implicit costs. The explicit costs total 57,000 and the combined implicit costs are 62,000; adding them gives 119,000, not 87,000, so this is overstated.
- Option d: $20,000. This might arise if someone counted only explicit costs and subtracted them from revenue without considering implicit costs. However, ignoring the opportunity costs is inconsistent with the concept of economic profit used here.

In summary, when both explicit costs (57,000) and implicit/opportunity costs (62,000) are included, economic profit equals −39,000, which aligns with option b. The other options arise from omitting or miscounting either explicit costs or implicit costs or both.

MUF0061 Economics Unit 1 - Semester 1, 2025 Revision Quiz: Economic Profit (5 - 10 minutes)

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