IAI Actuarial Core Principles · Business Economics · Relationship between economics and business
A Pune manufacturer can use a machine for either of two jobs. Job A earns revenue of Rs 12 lakh with explicit costs of Rs 7 lakh. Job B earns revenue of Rs 10 lakh with explicit costs of Rs 4.5 lakh. The owner chooses Job A. What is the economic profit of Job A, allowing for opportunity cost?
Economic profit is a loss of Rs 0.5 lakh. Job A gives accounting profit of Rs 5 lakh, but the forgone Job B would have given Rs 5.5 lakh, and subtracting that opportunity cost leaves minus Rs 0.5 lakh.
- ARs 5.0 lakh
- BRs 0.5 lakh lossCorrect
- CRs 1.0 lakh
- DRs 0.5 lakh profit
- Rs 5.5 lakh
Explanation
Accounting profit of Job A is 12 - 7 = 5.0 lakh. The forgone alternative, Job B, would have yielded 10 - 4.5 = 5.5 lakh. Economic profit = 5.0 - 5.5 = -0.5 lakh, a loss. Option A ignores opportunity cost; Option E is Job B's profit.
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