Two university graduates, Bill and Steve, worked for an advertising agency at an annual salary of $40,000 each for 3 years after they graduated. Then, they decided to quit their jobs and start a partnership that designs and builds Web sites. They rented an office for $12,000 a year and bought capital for $30,000. To pay for the equipment, Bill and Steve borrowed money from a bank at an annual interest rate of 6 percent. During their first year of operation, the partners' total revenue was $100,000. The market value of their capital at the end of the year was $20,000. If Bill and Steve do not design Web pages, their best alternatives are to return to their previous job. A. What is the firm's economic depreciation

When we calculate economic costs, we must include opportunity costs. Opportunity costs are the extra costs or benefits lost from choosing one activity or investment instead of another alternative.

In this case, Bill and Steve's total costs are $80,000 in lost salaries, interests paid for their credit (= $30,000 x 6% = $1,800), and $12,000 paid in rent.

The economic depreciation = the equipment's initial cost + interests paid - market value at the end of the year = $30,000 + $1,800 - $20,000 = $11,800