A. Chapter10, problem 12, [(10.1)]
Lee is a computer programmer who earned $35,000 in 2007. But on January 1, 2008 Lee
opened a body board manufacturing business. At the end of the first year of operation,
he submitted the following information to his accountant:
He stopped renting out his cottage for $3,500 a year and used it as his factory. The
market value of the cottage increased from $70,000 to $71,000.
He spent $50,000 on materials, phone, utilities, etc.
He leased machines for $10,000 a year.
He paid $15,000 in wages.
He used $10,000 from his savings account, which earns 5 percent a year interest.
He borrowed $40,000 at 10 percent a year from the bank.
He sold $160,000 worth of body boards.
Normal profit is $25,000 a year.
Calculate Lee’s opportunity cost of production and economic profit.
Lee has costs of $50,000 paid for materials, phone, utilities, etc; $15,000 for wages;
$10,000 paid for the machine lease; $4,000 paid for interest expense on the loan; $3,500 of
forgone rent for the cottage plus
$1,000 for the “depreciation” of the cottage (the cottage
actually appreciated); $500 in forgone interest from the savings account; and, $25,000 for
normal profit. These give a total opportunity cost of $107,000. Lee’s economic profit is the
total revenue, $160,000, minus the total opportunity cost, $107,000, for an economic profit
Lee’s accountant recorded the depreciation on his cottage during 2007 as $7,000.
According to the accountant, what profit did Lee’s make?
Lee’s accountant will include Lee has costs of $50,000 paid for materials, phone, utilities,
etc; $15,000 for wages; $10,000 paid for the machine lease; $4,000 paid for interest expense
on the loan; and, 7,000 of depreciation expense for a total opportunity cost of $86,000. The
total profit according to the accountant will equal total revenue, $160,000, minus total cost,
$86,000, for a profit of $74,000.
B. Chapter11, problem 2, [(11.2)]