Question

Paolo lives in Detroit and runs a business that sells pianos. In an average year, he receives $851,000 from selling pianos. Of this sales revenue, he must pay the manufacturer a wholesale cost of $476,000; he also pays wages and utility bills totaling $281,000. He owns his showroom; if he chooses to rent it out, he will receive $71,000 in rent per year. Assume that the value of this showroom does not depreciate over the year. Also, if Paolo does not operate this piano business, he can work as an accountant, receive an annual salary of $34,000 with no additional monetary costs, and rent out his showroom at the $71,000 per year rate. No other costs are incurred in running this piano business.

Identify each of Paolo’s costs in the following table as either an implicit cost or an explicit cost of selling pianos.

The rental income Paolo could receive if he chose to rent out his showroom Implicit cost or explicit cost

The wages and utility bills that Paolo pays Implicit cost or explicit cost

The wholesale cost for the pianos that Paolo pays the manufacturer Implicit cost or explicit cost

The salary Paolo could earn if he worked as an accountant Implicit cost or explicit cost

What is his accounting profit?

What is his economic profit?

Answer 1

Answer
The rental income Paolo could receive if he chose to rent out his showroom: it is Implicit cost becuase this is not paid in actual.

The wages and utility bills that Paolo pays: it is explicit cost and paid in actual for business and added in accounting.

The wholesale cost of the pianos that Paolo pays the manufacturer :
it is explicit cost and paid in actual for business and added in accounting.

The salary Paolo could earn if he worked as an accountant: it is Implicit cost becuase this is not paid in actual.

What is his accounting profit?
Accounting profit=revenue-explicit cost
=851000-476000-281000
=94000

What is his economic profit?
Economic profit=accounting profit-implicit cost
=94000-34000-71000
=-11000