Make big profit

3 Responses to “Why are economists more interested in economic profit than accounting profit? Can economic profit be negative?”

1. helper, on August 1st, 2010 at 5:41 am Said:

   Unlike accounting profit, which is computed by subtracting only explicit costs from revenue, economic profit subtracts both explicit costs and implicit costs from revenue.

   For example, if you quit a job that pays $50,000 to open a business from which you earn $80,000 in revenue and incur operating costs of $40,000 in your first year, then your accounting profit in that year is 80,000-40,000=$40,000. Since you also incurred an implicit cost of foregone salary, whoever, your economic profit is 80,000-40,000-50,000
   =-$10,000. This means that had you worked your current job, instead of opening the business, at the end of one year you would have had $10,000 more than you now have.

   The above example shows that economic profit can be negative, even when accounting profit is positive (though accounting profit can also be negative). It also shows why economic costs include implicit costs, namely, that implicit costs are relevant to economic decision making.

2. haggismoffat, on August 2nd, 2010 at 5:26 am Said:

   because accounting profits are not important. accounting profits include payment of inputs such as work by the owner, fixed capital and other costs that really should be accounted for in the production decision. for example if I am an accountant and I make 100k a year for a firm i can decide to go on my own. If i do my company may bring 90K a year after I pay for a building, staff etc. My company has made 90K a year in accounting profits but really I lost 10K in economic profit. I really should have stayed at the firm if money is all I care about.

3. ZepOne, on August 5th, 2010 at 3:06 pm Said:

   I’m sure this won’t pass muster for your homework assigment, but because economic profit is reality. Accounting profit is fiction.

   Yes. E.p. can be negative while a.p. is positive. Let’s say you give me $1,000 to invest for you for one year. I give you back $1,003 next year. You’ve just made a $3 accounting profit. Sounds good, no?

   However, you could’ve just plunked it in a low-risk money market account and earned $50. Yuck. You really just lost $47 (economic profit).

   Unfortunately, this is the case with many companies out there.

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