Question

Suppose you have $10,000 in a savings account that earns 4% interest. Further, suppose you were to take all $10,000 out and start a business. After a year you sell the business for $15,000. What is the accounting profit AND economic profit you made on the sale of this business?

Answer 1

Economic profit = Total income - Total expenses - Cost of lost opportunity or forgone = 15,000 - 10,000 - (4% of 10,000) = 4,600 $

Here total income from selling = 15000 $

Total investment in the business = 10,000$

Opportunity forgone = 4% interest that would have been earned if the money was kept in bank ( also called implicit costs )

Accounting profit involves the explicit costs only . Accounting profit = Total income - Total expenses

= 15,000 - 10,000 = 5,000 $