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The term rent is used for that payment which is made regularly for a fixed period for the use of the services of the goods. E.g. house, shop, furniture,

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Presentation on theme: "The term rent is used for that payment which is made regularly for a fixed period for the use of the services of the goods. E.g. house, shop, furniture,"— Presentation transcript:

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2 The term rent is used for that payment which is made regularly for a fixed period for the use of the services of the goods. E.g. house, shop, furniture, crockery etc. or for availing of the services of factors of production. Rent is the price paid for the use of the original and destructible powers of the soil.

3 Contract Rent - Contract rent is the payment which is made for the use of land and the capital invested thereon, or pre-determined conditions. Economic Rent – Economic rent is the price paid for the use of the services of land. Economic rent is also referred to as surplus because it is received by the landlord without any effort. So it is also called Economic Surplus.

4 Opportunity cost of a factor used in the work yielding maximum income, is the price of the output that the factor concerned can earn by working in the next best alternative use. Such price is called transfer earning or opportunity cost. The amount by which actual earning of a factor is higher than its transfer earning is called rent. Rent = Actual Earning – Transfer Earning

5 E.g. Suppose, the peon in your college receives Rs.2000 p.m as wage. If he gets employment in a bank on Rs.2500 p.m as wage, then the difference between his actual earning and transfer earning (Rs Rs. 2000) = Rs. 500 will be called rent. Rent can form part of the income of each factor of production, viz., labour, capital, enterpreneur besides land.

6 Economic Rent- Payment made for the use of land alone is called economic rent. Economic rent refers to the payment for the use of land only. Economic rent is also called Surplus, because it emerges without any effort on the part of a land lord. It is also called Economic Surplus. Gross Rent- Gross rent refers to that rent which is paid for the services of land and the capital invested on it. Followings are the constituents of gross rent: (a) Economic rent refers to the payment made for the use of land.

7 (b) Interest on capital invested for improvement of land, e.g. digging of a well, drainage, farm house, bonding, terracing etc. (c) Reward for the risk taken by the landlord by investing his capital on the improvement of land. Scarcity Rent- It is the price paid for the use of the homogeneous land when its supply is limited in relation to demand. If all rent is homogeneous, but demand for land exceeds its supply, then the entire land will earn economic rent by virtue of its scarcity. Thus, rent will arise when supply of land is inelastic.

8 Differential Rent- Rent arises because of difference in the fertility of land. Some land is more fertile and some land is less fertile. When farmers are compelled to cultivate less fertile land then owners of more fertile land get relatively more production. This surplus or relatively more production which arises due to difference in the fertility of land is called Differential Rent. Situation Rent- Rent also arises on account of difference in situation of land. It is called situation rent. Thus the surplus that landlord enjoys on account of difference in situation.

9 Two main theories of rent are: (1) Ricardian Theory of Rent (2) Modern Theory of Rent

10 According to them, the amount of labour employed for the cultivation of land is rewarded by nature by yielding produce which is many times more than the labour involved. This excess production is called net product or rent. According to Ricardo, Rent is that portion of the produce of the earth which is paid to the landlord for the use of original and indestructible powers of the soil.

11 (1)There is difference in the fertility of land. Some lands are superior or fertile, while others are inferior or less fertile. (2)From the point of view of the entire economy, supply of land is fixed. It cannot be increased or decreased. (3)Land has only one use, i.e. cultivation. There are no alternative uses of land. (4)There is no perfect competition in product market, hence one kind of agriculture production sells the entire market at one price. (5)Law of diminishing returns operates in agriculture.

12 1 Fertility of soil is neither Original nor Indestructible : According to Ricardo, rent is paid to the landlord for the use of original and indestructible powers of soil. According to critics there is no original and indestructible powers of land. If land is not treated with fertilizers and manures, its fertility will be lost. Likewise, if the so-called inferior land is properly cared for, by using good manures,irrigation facilities, pesticides etc. 2 Historically Wrong: Ricardos assertion that people,first of all,bring most bring most fertile land under cultivation is not supported by historical facts. American economist Carey said that it was not true that new settlers in American first of all cultivated the best land.

13 3) Marginal or No-rent Land: According to Ricardo in every country there is no rent or marginal land.Critics point out that marginal or no rent land is not necessary. 4)Rent is not due to Fertility but due to scarcity: Ricardos assertion that rent arises due to difference in fertility is also wrong. In reality, rent arises because of scarcity. If all land is uniformly fertile,but its demand is more than its supply,then it will command rent. 5)Rent does not enter into price: Acording to Ricardo, rent is not included in the price of a product. It means rise or fall in rent will not evoke corresponding rise or fall in price of the product. Critics hold that under certain circumstances rent does enter into price.

14 6)Rent is not paid only for land : According to Ricardian theory,rent is not paid for the use of land alone. But according to modern economists like Mrs.Joan Robinson, rent can also be paid for all other scarce factors of production than land. 7)It does not throw proper light on Determination of Rent : Ricardian theory refers to a general truth that a good quality product will always fetch a fancy price. Similarly, a more fertile land will command more rent than less fertile land. 8)Difficulty in Measuring the productivity of land only due to its Original Fertility : Critics are of the view that fertility of land is influenced both by its original power and the capital invested on it. It is almost impossible to know as to how much productivity of land is due to its original power.

15 9)Every land has some Fertility : If Ricardian theory is logically examined, it would mean that marginal land on which no rent arises should have no original fertile power. But according to critics it is wrong to assert that marginal or no-rent land lacks original fertile power. 10)Incomplete Theory of Rent : Ricardian theory of Rent simply tells how the share of rent is determined out of the national income from the point of view of the whole economy. It does not tell how rent is determined for the industry and firm.

16 Ricardian Theory of Rent is a significant theory. It was Ricardo who, first of all made an attempt to examine rent in a scientific manner. Although, the theory is not free from its defects, yet it has significant both from theoretical and practical point of view. Ricardos theory tells us that when the supply of a factor is limited and its demand increases, then it gets a surplus which is called Rent. From practical point of view, it can be said that socialists were inspired by Ricardian theory while formulating their progressive policies like abolition of zamindari, nationalization of land etc.

17 Modern theory of Rent is an amplified and modified version of Ricardian Theory of Rent. It was first of all discussed by J.S. Mill and subsequently developed by economists like Jevons, Pareto etc. According to modern theory, economic rent is a surplus which is not peculiar to land alone. It can be a part of the income of labour, capital and entrepreneur. Economic rent may be defined as any payment to factor of production which is in excess of its total supply price. Supply price refers to the minimum earning required to keep the factor in its present occupation. It is called transfer earning. Rent is a surplus that arises due to difference between actual earning and transfer earning. Rent = Actual Earning – Transfer Earning

18 Modern theory of rent concurs with the opinion of Ricardo, that main reason for emergence of rent is the scarcity of land. Supply of other factors like labour capital etc may also become scare in relation to their demand. In that case, the income earned by these scare factors in excess of their minimum income, is called economic rent. Austrian economist PROF. WIESER has divided all factors of production into two parts :(i) Specific factors and (ii) Non Specific Factors. Specific factors are those factors which have only one use, for instance a farm used for growing wheat alone or a textile labourer having wearing skill alone. Such factors have no mobility at all. On the other hand, non specific factors are those factors which have mobility and can be put to different uses.

19 Modern economists hold that just as price of a commodity is determined by its demand and supply, likewise rent of a factor of production is also determined by its demand and supply. Modern economist have studied the determination of rent in two parts; (1) Rent of land (2) General concept of rent as the difference between the actual earning and transfer earning.

20 According to modern economists, rent arises because of scarcity of land. Scarcity of land means that demand for land is more than its supply. Rent will be determined at that point where demand for land is equal to its supply. (1) DEMAND FOR LAND : Like other factors of production demand for land is derived demand. It means that demand for land depends upon the demand for agricultural products. If demand for foodgrains increases there is increase in demand for land as well.

21 (2) SUPPLY OF LAND : Supply of land for an economy,as whole, is fixed. Its supply is perfectly inelastic. It means, increase in price of land will not evoke any increase in its supply. Rent of land will be determined at a point where demand for and supply of land are equal. It is shown in the figure. SS is the supply curve of land. It is parallel to the OY axis meaning thereby that supply of land remains fixed at OS. Initial demand curve of land DD. Both intersect each other at point E. At this equilibrium position OR rent is determined. If due to rise in population demand curve of land shifts upward to D1D1 then new equilibrium point will be E1 rent will rise to OR1. On the other hand if demand curve shifts downward to D2D2 then new equilibrium point will be E2 and at this equilibrium point rent will fall to OR2. Demand curve of land can be D3D3. This situation arises in a newly settled country where demand for land is less than its supply.

22 D D3 D2 D1 X Y E R1 R R2 E1 D D2 E2 D1 D3 RENT

23 According to modern economists rent is the difference between actual earning and transfer earning or opportunity cost. In this sense, rent can be a part of the income of each factor of production, viz capital labour and entrepreneur etc. But these factors will earn rent only when their supply is less than perfectly elastic. Supply of factors of production can be three types. (1) SUPPLY OF FACTORS OF PRODUCTION CAN BE PERFECTLY ELASTIC. In this case rent is zero. (2) SUPPLY OF FACTORS OF PRODUCTION CAN BE PERFECTLY INELASTIC. In this case, all the income earned by a factor is called rent. (3) SUPPLY OF FACTORS OF PRODUCTION CAN BE LESS THAN PERFECTLY ELASTIC. In this case, that part of the income, earned by a factor, which is above its transfer earning is called rent

24 Supply of a factor is perfectly elastic when change in its demand at existing rate is followed by corresponding change in supply. Such a factor is not scare. At the existing rate, any amount of that factor is available. Consequently its actual earning and transfer earning will be equal. There being no difference between the two, rent will be zero. Actual earning = Transfer earning Rent= Actual earning –Transfer earning=zero

25 S D1 D D S CAPITAL RATE OF INTEREST 5% 10% 15% X Y

26 In the figure units of capital are shown on ox axis and rate of interest on OY axis. SS is the supply curve of capital. Its being parallel to OX axis indicates that supply of capital is perfectly elastic. Supposing, initially the demand curve of capital is DD. This demand curve DD cuts supply curve SS at point E

27 Supply of a factor of production is perfectly inelastic when increase or decrease in its demand is not followed by any change in its supply. In this case, transfer earning is zero. Transfer earning being zero, the difference between actual earning and transfer earning will be equal to actual earning. Thus, all the actual earning will be rent. Rent = Actual Earning (since Transfer Earning is zero)

28 Y XO UNITS OF LAND RENT D1 D D S I PERFECTLY INELASTIC SUPPLY E1 E

29 In the figure units of land are shown on OX axis and rent on OY axis. SS is the supply curve of land. It is parallel to OY axis, signifying that rise or fall in the price of land will evoke no change in its supply. When demand for land is DD, it cuts supply curve SS at point E. At point E the actual earning of land and its transfer earning is zero. If demand curve rises to D1D1 then new equilibrium is established at point E1. Thus the entire income of factor whose supply is perfectly inelastic, as for instance land,is called rent.

30 Supply of a factor is said to be less then perfectly elastic when increase In its demand is followed by relatively less increase in its supply. In this situation, when demand for factor increases its supply does not increase in the same proportion, as such, the actual earning of the factor exceeds its transfer earning. Thus the factor will get rent equivalent to the difference between its actual earning and transfer earning.

31 The main feature of modern theory of rent are as under; (1) Rent can be a part of the income of all factors of production. Entire income of land is called rent because its supply is perfectly inelastic. But in this case of other factors, only a part of their income is of the nature of rent. (2) Amount of rent depends upon the difference between actual earning and transfer earning. (3) Rent arises when the supply of the factor is either perfectly inelastic or less elastic. On the other hand no rent arise when the supply of the factor is perfectly elastic.

32 (1) According to Ricardian, rent is peculiar to land only. But the modern economists hold that rent can be a part of the income of each factor of production. (2)According to RICARDIAN THEORY, rent is the reward for the original and indestructible powers of the soil. Modern theory of rent attributes it to the difference between actual earning and transfer earning. (3) According to Ricardo, rent does not enter into price. Rent is not price determining, it is price determined. But according to modern theory of rent, relation between rent and price is not so simple, from the point of view of an economy, rent does not enter in price, but from the point of view of a firm it does not enter into price

33 MODERN THEORY OF RENT HAS AMPLIFIED AND MODIFIED THE RICARDIAN THEORY OF RENT (1) AMPLIFICATION OF RICARDIAN THEORY According to the Ricardian theory, rent is that portion of the produce of the earth which is paid to the landlord for the use of the original and indestructible powers of the soil. Rent therefore is peculiar to land alone. It is not available to other factors of production. But according to modern theory, rent is also earned by other factors, such as labour, capital entrepreneur etc, reason being that rent arises when a factor becomes either specific or its supply less than perfectly elastic.

34 2) MODIFICATION OF RICARDIAN THEORY (2) MODIFICATION OF RICARDIAN THEORY Modern theory of Rent has made the following modifications in Ricardian Theory: (i) Measurement of Rent : According to Ricardian Theory, rent is measured from the difference between the produce of marginal land and that of intra marginal lands. This concept is based on the assumption that there does exist a land that earns no rent, but in reality there does not exist any land. Consequently, rent in Ricardian sense cannot be measured. According to modern theory, rent is measured from the difference between actual earning and transfer earning.

35 (ii) Cause of emergence of Rent : The logic given by the modern theory regarding the cause of emergence of rent is more realistic. According to Ricardo, scarcity of land gives rise to rent. Because of scarcity of land, people have either to use of inferior land or put more and more units of labour and capital on the same piece of land. There is difference in amount of produce of inferior and superior land. Due to difference, superior land enjoys some surplus over inferior land.

36 (iii) RENT AND PRICE (iii) RENT AND PRICE Modern theory is a modified form of Ricardian theory, in respect of relation between rent and price. According to Ricardo, rent does not enter into price. But according to modern economists it is not wholly true. They hold that from the point of view of an economy, rent does not enter into price

37 THERE ARE TWO VIEWS OF ECONOMISTS IN RESPECT OF RENT AND PRICE : (1) RICARDIAN VIEW (2) MODERN VIEW RICARDIAN VIEW Ricardo is of view that the rent does not enter in price. It is price that influences rent and not rent that influences price. Ricardo said, corn is not high because rent is paid, but rent is paid because corn is high. Ricardos view is based on the assumption that (i) supply of land is limited for the society (ii) land has no cost of production and (iii) land has only one use. So rise in population leads to increase in demand for land. People are compelled to bring marginal land for cultivation. Marginal land is no rent land. It does not yield any rent. However price of agricultural produce is determined by the cost of production of the produce raised on marginal land.

38 Modern view of rent is more comprehensive and logical. According to this theory, it is wrong on the part of Ricardo to assert that rent never enters into price. Modern economists view the relationship between rent and price from three different angles: 1) From point of view of Economy : (1) From point of view of Economy : From the point of view of the entire economy, land is a free gift of nature. Total supply of land is perfectly inelastic, so there is no need of paying any minimum supply price for its use. In other words, from the point of view of economy transfer earning of land is zero. Accordingly, entire earning of land is a surplus or rent.

39 From the point of view of industry Land can have alternative uses for an industry. In order to make use of land, the industry will have to pay a minimum price equivalent to its transfer earning. If more price than the transfer earning is required to be paid for the land for a given industry, then the amount by which the price is more than transfer earning will be called its rent. Thus from the point of view of industry, transfer earning of the land is included in the cost and so influences the price ; but the income, over and above the transfer earning, called rent, is not included in cost and accordingly does not influences the price.

40 (3) From the point of view of individual producer (3) From the point of view of individual producer Price that an individual producer pays for the land, is very much a part and parcel of his expense and so is included in the average cost of production of the commodity. As such from the point of view of an individual producer, rent influences price, that is, rent enters price of the product

41 AREARELATION BETWEEN RENT AND PRICE 1.From the point of view of an economy 2. From the point of view of an industry 3. From the point of view of an individual producer Entire income of land will be called rent, but rent will not enter price (a)Minimum price or transfer earning of land will enter in price (b) Earning of land which is above the transfer earning is called rent and does not enter in price Rent enters price ; i.e., influences the price

42 The concept of quasi rent is introduced in economics by Dr. Marshall. It refers to the additional income earned by factors, other than land, whose supply is fixed in the short period. In the words of Marshall, The term quasi rent will be used in the present volume as income derived from machines and other appliances of production made by man. Term Quasi is derived from Latin meaning AS IF. It therefore, refers to as if rent. Marshall also believed like Ricardo, that land earns rent because its supply is scarce. In short run, supply of man made means of production is also scarce so the income of these means is as if rent. But it is not called rent, because in the long run there supply can be increased according to increased demand. So in the long run they do not get any surplus or rent. Thus the income of the man made means of production, in the short run, is like rent but in the long run, it is not like rent. Concept of quasi rent is applied to the income of any factor of production whose supply is fixed in the short period.

43 In the broad sense, quasi rent is not related to any particular factor of production. It is related to the total cost of a firm. In the short period, the firms total cost is composed of two elements ; (i) fixed cost (ii) variable costs in the short run, due to fall in the demand, a firm continues its production so long as its variable costs are covered by the prevailing price of the product and will suffer the loss of fixed costs. Thus whatever revenue a firm earns in the short period over and above its variable costs, is called quasi rent QUASI RENT = TOTAL REVENUE- TOTAL VARIABLE COSTS

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