Question

You have two career options. You can work for someone else for $50,000 a year, or, you can run your own business, with an annual revenue of $100,000, and explicit costs of $40,000 annually. Explain which career option a profit-maximizer would select and why.

Answer 1

The accounting profit from working somewhere else is $50000

The accounting profit from running your own business is = $100,000 - $40000 = $60,000

The economic profit is the profit which also takes into account the opportunity costs.

So, opportunity cost of doing business would be earning from working for someone else and the opportunity cost of working for someone else would be the income from running your own business.

So, Economic profit earned by working for someone else = Accounting profit - Opportunity cost

= 50000 - 60000 = -$10000

Economic profit earned by running your own business = 60000 - 50000 = $10000

So, we can see that in order to maximise the profits, we would choose to run our own business as the accounting profit as well as the economic profit is higher for this career option.

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