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Chapter 11: Problem 11

Suppose jill Johnson operates her pizza restaurant in a building she owns in the center of the city. Similar buildings in the neighborhood rent for \(\$ 4,000\) per month. Jill is considering selling her building and renting space in the suburbs for \(\$ 3,000\) per month, but she decides not to make the move. She reasons: "I would like to have a restaurant in the suburbs, but I pay no rent for my restaurant now, and 1 don't want to see my costs rise by \(\$ 3,000\) per month." Evaluate jill's reasoning.

Short Answer

Expert verified
Jill's reasoning is incorrect as she did not account for the opportunity cost. By moving to the suburbs and renting her own building, she could actually reduce her overall costs.

Step by step solution

01

Identifying explicit costs and benefits

Firstly, evaluate the explicit costs and benefits of the decision. Moving to the suburbs would incur Jill a rent of $3,000 per month.
02

Identify opportunity costs

Find out the opportunity cost of staying in the city center. If Jill were to rent out her own building, she could earn $4,000 per month. This is an opportunity forgone and forms an implicit cost for the decision to stay.
03

Compare the sum of explicit and implicit costs

The explicit costs of moving to the suburbs for Jill are indeed $3,000 which she would have to pay as rent. But, her implicit costs or opportunity costs of staying in the city center are higher, which are $4,000. This is because she could have rented out her own building and earned this amount.
04

Make a decision

Taking into account both explicit and implicit costs, it is more cost effective for Jill to move to the suburbs and rent her city center building. Her reasoning was flawed because it did not take into account the opportunity cost.

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Most popular questions from this chapter

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