What is the difference between accounting and economic profit? Now answer the following

questions.

a. Jimmy owns a small guitar shop in Perth. The current value of the guitar shop is $1.2

million. If he were to sell the shop he could earn 6% annually on the proceeds.

However, he will only sell at some later date if he is making an economic loss. Last

year Jimmy received $1.0 million from selling guitars. He does not pay himself a

salary, but if he worked elsewhere he could have earned $70,000. His variable

explicit costs were $0.9 million. Ignoring taxes and depreciation, calculate Jimmy’s

accounting profit or loss. Should Jimmy operate in this market?

b. What happens if this year Jimmy is able to reorganise his operations such that his

explicit costs are brought down to $0.85 million; meanwhile, the national wage level

has gone up to $75,000 per annum.