Question

A key difference between accountants and economists is their different treatment of opportunity costs. Does this cause an accountant's estimate of total costs to be higher or lower than an economist's estimate? Explain using an example.

Answer 1

Opportunity costs refers to the benefit that has been forgone or sacrificed in order to gain the present one .It is simply the next best possible alternative available.

Economistst treat opportunity costs  slightly . different way, called, economic costs .

On the other hand an accountant needs to know what costs have been accrued over the past year, an economists wants to examine costs  as they relate to the firm's decision-making.

Accountant's estimate of cost = TR - Explicit cost

Economists estimate of cost = TR - ( Explicit cost + Implicit cost )

An economist cost is larger as it includes explicit + implicit cost. Accounting cost only includes explicit cost . Accountants includes only explicit cost in their computation of total cost. Profit is calculated using only explicit cost and is called accounting profit. Economics recognise cost in addition to the explicit cost listed by accountants i.e. a cost that is included in the economic concept of opportunity costs, but that is not an explicit cost.

A key difference between accounting profit and economic profit occurs because a firm incurs Total cost (TC) however Total revenue (TR) is the same for both accounting and economics .

Accounting profit (AP) is always greater than Economic profit (EP).

For example :-

A firm's Total revenue is 50,000 the total explicit cost is 20,000 and total implicit cost is 10,000

AP= TR - Total explicit cost

= 50,000 - 20,000

= 30,000

EP= TR - (Total explicit cost + Total implicit cost)

= 50,000 - (20,000+10,000)

= 20,000

Note :-

Explicit cost = These are Direct payment made to others in the course of running a business.

Example:- raw material , wages

Implicit costs=These cost are not paid to others they are self owned costs.

Example :- rent of own building.