Geraldine wanted a compensation for risk bearing of $8,000 in order to run a tuition centre. Geraldine pays the rent of $4,000 a year, and her total revenue is $18,000 a year. She has also sacrificed $4,000 a year rental income she could have earned by renting her own building to someone else. She borrowed $1,000 at 10 per cent a year to buy tuition centre furniture. Depreciation costs were negligible. Calculate Geraldine's annual explicit costs, implicit cost and economic profit.

Answer:

Annual explicit cost is $1500.

Annual implicit cost is $12,000.

Economic profit is $900.

Step-by-step explanation

A.     Geraldine pays the rent of $4,000 a year.

She borrowed $1,000 at 10 per cent a year to buy tuition centre furniture.

Depreciation costs were negligible.

·        Explicit costs imply the out-of-pocket expenditure, such as rent, materials, and others.

Therefore, the annual explicit cost = $4000 + $[1000+(0.10*1000)] = $(4000+1100) = $5100.

Geraldine wanted compensation for the risk bearing of $8,000 in order to run a tuition centre.

She has also sacrificed $4,000 a year rental income she could have earned by renting her own building to someone else.

·        Implicit costs refer to a type of opportunity cost, that is, resource cost that is already owned by the individual, which could have been used for other purposes.

Therefore, the annual implicit cost = $4000 + $8000 = $12,000

Her total revenue is $18,000 a year.

·        Economic Profit = Total revenue - Total cost (explicit cost + implicit cost)

Or, Economic Profit = $18000 - $(5100+12000) = $18000-17100 = $900