Question

Palpatine runs a facial cream business. He can make 100,000 bottles of facial cream per year and sell them for $3.50 each. It costs Palpatine $250,000 for the raw materials to produce the facial cream. Additionally, he must pay $30,000 annually to rent the factory needed to produce his cream. In order to start his business Palpatine withdrew $200,000 from his own savings account. The bank is currently paying a 3% interest rate on saving accounts. Before Palpatine opened his business he worked as a political consultant where he earned $80,000 per year.

What is the total revenue Palpatine earns in a year?
What are the explicit costs Palpatine incurs while producing bottles of facial cream? [2 Points]
(c) What are the implicit costs Palpatine incurs while producing bottles of facial cream? [2 Points]
(d) What is the amount of Palpatine’s accounting profit? [2 Points]
(e) What is the amount of Palpatine’s economic profit?

Answer 1

a. Total revenue:

= Bottles produced * selling price

= 100,000 * 3.50

= $350,000

b. Explicit costs:

Actual costs incurred.

= Raw materials + Rent + investment

= 250,000 + 30,000 + 200,000

= $480,000

c. Implicit costs:

Opportunity costs of going into the facial cream business.

= Amount he would have earned as interest + political consultant salary

= (3% * 200,000) + 80,000

= 6,000 + 80,000

= $86,000

d. Accounting profit:

= Revenue - explicit costs

= 350,000 - 480,000

= -$130,000

e. Economic profit

= Revenue - explicit costs - implicit costs

= 350,000 - 480,000 - 86,000

= -$216,000