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Costs, Revenues, Profits and the Growth of Firms

Normal profit, abnormal profit and economic profit

  • 3 things to know
  • All three components

Overview

Normal profit and difference between accounting profit and economic profit.

What you need to know

Answer each one before you reveal it.

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Key term

Define normal profit.

Key term

Define abnormal profit.

Key term

Where on a diagram does a firm earn only normal profit?

Questions from this subtopic

Each one with the model answer underneath.

  1. 1

    Define normal profit.

    Model answer

    Normal profit is the minimum return needed to keep a firm in its present industry. Normal profit is treated by economists as a cost of production.

  2. 2

    Define abnormal profit.

    Model answer

    Abnormal profit is any profit earned above the level of normal profit. Abnormal profit is also called supernormal profit or economic profit.

  3. 3

    Where on a diagram does a firm earn only normal profit?

    Model answer

    A firm earns only normal profit where average revenue equals average cost. The two curves touch at the chosen output and no profit area remains.

  4. 4

    Where on a diagram does a firm earn abnormal profit?

    Model answer

    A firm earns abnormal profit where average revenue lies above average cost at the chosen output. The gap multiplied by output measures the abnormal profit.

  5. 5

    What is the difference between accounting profit and economic profit?

    Model answer

    Accounting profit is total revenue minus the explicit money costs a firm pays out. Economic profit also subtracts the opportunity cost of the owner's own resources.

  6. 6

    Why do economists define profits differently to businesses?

    Model answer

    Economists count the opportunity cost of every resource, including the owner's time and capital. Businesses record only the money costs that appear in their accounts.

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