Emilia is a civil rights lawyer with her own firm. She travels the country and provides legal advice to high-profile clients. Last year, she earned $250,000 in revenue for her services. She pays one employee $50,000 to manage her office in Chicago and pays $30,000 for rent and utilities for that office. Her accountant tells her that if she sold all her office equipment, she could put that money in the bank and earn $3,000 in interest next year. Emilia also has received an offer to teach law at the University of Chicago at a salary of $100,000. Emilia's accounting profit is _____, and her economic profit is _____.

Question

Quizplus · Accepted Answer

To calculate Emilia's accounting profit, we add up all of her revenues and subtract all of her explicit costs:
Accounting profit = Total revenue - Explicit costs

Accounting profit = $250,000 - $50,000 - $30,000 = $170,000

To calculate Emilia's economic profit, we need to factor in her implicit costs. Implicit costs are the opportunity costs of using her resources in her current business instead of in the next best alternative. In this case, her next best alternative is teaching law at the University of Chicago for $100,000 per year.

Economic profit = Total revenue - Explicit costs - Implicit costs

Implicit costs = $100,000 (salary as a law professor) + $3,000 (interest forgone on the sale of office equipment) = $103,000

Economic profit = $250,000 - $50,000 - $30,000 - $103,000 = $67,000

Therefore, Emilia's accounting profit is $170,000 and her economic profit is $67,000.

Selling her office equipment would increase her accounting profit by $3,000, but it would not affect her economic profit because that money could be earning interest if she invested it elsewhere. Taking the job as a law professor would decrease her accounting profit by $100,000, but it would also decrease her implicit costs by the same amount, resulting in no change to her economic profit. Based on this analysis, Emilia should take the job as a law professor if she wants to maximize her economic profit.

Emilia Is a Civil Rights Lawyer with Her Own Firm