What are the major differences between Explicit and implicit costs?
WHAT ARE EXPLICIT COSTS?
Explicit costs are those payments which the firms make to outsiders for their services and goods. It is the actual money expenditure incurred on purchasing and hiring of inputs. These costs are recorded in the firm’s account books. For producing a commodity, a firm incurs expenses on hiring factor input (like services of land, labour, capital etc.) and on buying non factor inputs (like raw material, power etc).
For example, a firm gets land on lease and pays rent. It hires labour and pays them wages. It borrows money and pays interest. Similarly, it spends money on transportation, raw material, insurance premium, fuels, advertising and on making up depreciation of machinery. All these money expenses are known as explicit costs of production.
NOTE: these costs include payments made to others and not to the owner himself for self owned, self owned, self supplied resources.
WHAT ARE IMPLICIT COSTS?
Implicit costs are costs of self owned or self employed resources. These are estimated values of inputs supplied by the owner of the production unit himself.
For example, an entrepreneur may utilize his own building or his own capital or may act as a manager of his firm himself. For these productive services, he does not pay rent or interest or salary to himself although the payments accrue to him. These are in a way implicit rewards or imputed costs of various factors owned and supplied by the owner himself.
In economics, the sum of explicit costs and implicit costs (or imputed costs) constitute the total cost of production of a commodity.