Problem 4 Amy previously worked for an accounting firm where her salary was $35,

Question

Problem 4 Amy previously worked for an accounting firm where her salary was $35,000 per year. She became tired of working as an employee and started her own con sulting business using $20,000 of her savings which are earning interest of 10% per annum. She pays her part time assistant $12,000 per year and spends $24,000 per year for rent and utilities. She earns $80,000 in total annual revenue 1. List Amy's explicit costs and implicit costs 2. Compute her economic profit (per annum) from starting her own firm. For this part of the problem, assume that Amy doesn't feel any "implicit" bene- fit/cost of being her own boss. 3. Should Amy carry on running her own firm or should she go back to her old job? Again, assume that Amy doesn't feel any "implicit" benefit/cost of being her own boss. 4. Just as there are implicit costs that do not involve the payments to other parties, owning a firm and being your own boss might come with implicit benefits, that is, non-monetary benefits such as a sense of accomplishment or scheduling flexibility. Economic profit might be in this case be calculated as Econonmic Profit- (ImplicitErplicit Benefits) - (Implicit Explicit Costs) Suppose that after a year, Amy would consider returning to her old job only if she was offered at least $50,000 per year. What does this say about Amys implicit benefit of being her own boss?

Explanation / Answer

1. Amy's explicit costs include the accounting costs i.e the amount of money Amy spends in starting the business and operating the business. This includes savings of 20000 plus salary of 12000 plus 24000 on rent and utilities. The total explicit costs sums up to $56000. Amy's implicit costs include all the explicit costs as well as all the implicit costs like opportunity costs. Thus her implicit costs include 56000 of explicit cost plus 35000 of her salary that she wpuld have got had she not left her job and the 2000 that she would have got as interest on her savings, The total implicit cost sums up to be 56000 plus 37000 which is equal to $93000.

2. Economic benefit i = total benefit - total cost = 80000 - 93000 = loss of $13000

3. Yes, if she doesnt recieve any implicit benefit she should return to her job because currently she is suffering an economic loss.

4. If Amy would have considered returning to her job if it gave her atleast $50000 it would mean she has an implicit benefit of being her own boss worth $28000. We get this by adding the extra salary required to change her job i.e $15000 to the total loss which then becomes $108000 and then subtracting $80000.

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