Economic rent

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In economics, economic rent is any payment to an owner or factor of production in excess of the costs needed to bring that factor into production. In classical economics, economic rent is any payment made (including imputed value) or benefit received for non-produced inputs such as location (land) and for assets formed by creating official privilege over natural opportunities (e.g., patents). In the moral economy of neoclassical economics, economic rent includes income gained by labor or state beneficiaries of other "contrived" (assuming the market is natural, and does not come about by state and social contrivance) exclusivity, such as labor guilds and unofficial corruption.

Political economy Study of production, buying, and selling, and their relations with law, custom, and government

Political economy is the study of production and trade and their relations with law, custom and government; and with the distribution of national income and wealth. As a discipline, political economy originated in moral philosophy, in the 18th century, to explore the administration of states' wealth, with "political" signifying the Greek word polity and "economy" signifying the Greek word "okonomie". The earliest works of political economy are usually attributed to the British scholars Adam Smith, Thomas Malthus, and David Ricardo, although they were preceded by the work of the French physiocrats, such as François Quesnay (1694–1774) and Anne-Robert-Jacques Turgot (1727–1781).

In economics, land comprises all naturally occurring resources as well as geographic land. Examples include particular geographical locations, mineral deposits, forests, fish stocks, atmospheric quality, geostationary orbits, and portions of the electromagnetic spectrum. Supply of these resources is fixed.

The history of patents and patent law is generally considered to have started with the Venetian Statute of 1474.

Contents

In the moral economy of the economics tradition broadly, economic rent is opposed to producer surplus, or normal profit, both of which are theorized to involve productive human action. Economic rent is also independent of opportunity cost, unlike economic profit, where opportunity cost is an essential component. Economic rent is viewed as unearned revenue [1] while economic profit is a narrower term describing surplus income earned by choosing between risk-adjusted alternatives. Unlike economic profit, economic rent cannot be theoretically eliminated by competition because any actions the recipient of the income may take such as improving the object to be rented will then change the total income to contract rent. Still, the total income is made up of economic profit (earned) plus economic rent (unearned).

In microeconomic theory, the opportunity cost, or alternative cost, of making a particular choice is the value of the most valuable choice out of those that were not taken. In other words, opportunity that will require sacrifices.

In economics, profit in the accounting sense of the excess of revenue over cost is the sum of two components: normal profit and economic profit. All understanding of profit should be broken down into three aspects: the size of profit, the portion of the total income, and the rate of profit. Normal profit is the profit that is necessary to just cover the opportunity costs of the owner-manager or of the firm's investors. In the absence of this profit, these parties would withdraw their time and funds from the firm and use them to better advantage elsewhere. In contrast, economic profit, sometimes called excess profit, is profit in excess of what is required to cover the opportunity costs.

Renting agreement where a payment is made for the temporary use of a good, service or property owned by another

Renting, also known as hiring or letting, is an agreement where a payment is made for the temporary use of a good, service or property owned by another. A gross lease is when the tenant pays a flat rental amount and the landlord pays for all property charges regularly incurred by the ownership. An example of renting is equipment rental. Renting can be an example of the sharing economy.

For a produced commodity, economic rent may be due to the legal ownership of a patent (a politically enforced right to the use of a process or ingredient). For education and occupational licensing, it is the knowledge, performance, and ethical standards, as well as the cost of permits and licenses that are collectively controlled as to their number, regardless of the competence and willingness of those who wish to compete on price alone in the area being licensed. In regard to labor, economic rent can be created by the existence of mass education, labor laws, state social reproduction supports, democracy, guilds, and labor unions (e.g., higher pay for some workers, where collective action creates a scarcity of such workers, as opposed to an ideal condition where labor competes with other factors of production on price alone). For most other production, including agriculture and extraction, economic rent is due to a scarcity (uneven distribution) of natural resources (e.g., land, oil, or minerals).

Patent Intellectual property conferring a monopoly on a new invention

A patent is a form of intellectual property that gives its owner the legal right to exclude others from making, using, selling, and importing an invention for a limited period of years, in exchange for publishing an enabling public disclosure of the invention. In most countries patent rights fall under civil law and the patent holder needs to sue someone infringing the patent in order to enforce his or her rights. In some industries patents are an essential form of competitive advantage; in others they are irrelevant.

Occupational licensing, also called occupational licensure, is a form of government regulation requiring a license to pursue a particular profession or vocation for compensation. Professions that can have a large negative effect on individuals, like physicians and lawyers, require occupational licenses in most developed countries, but many jurisdictions also require licenses for professions without that possibility, like plumbers, taxi drivers, and electricians. Licensing creates a regulatory barrier to entry into licensed occupations, and this results in higher income for those with licenses and usually higher costs for consumers.

Scarcity fundamental problem of economics where there are limited resources to fulfil societys unlimited wants

Scarcity is the limited availability of a commodity, which may be in demand in the market or by the commons. Scarcity also includes an individual's lack of resources to buy commodities.

When economic rent is privatized, the recipient of economic rent is referred to as a rentier .

Rentier capitalism

Rentier capitalism is a Marxist term currently used to describe the belief in economic practices of monopolization of access to any kind of property, and gaining significant amounts of profit without contribution to society. The origins of the term are unclear; it is often said to be used in Marxism, yet the very combination of words rentier and capitalism was never used by Karl Marx himself.

By contrast, in production theory, if there is no exclusivity and there is perfect competition, there are no economic rents, as competition drives prices down to their floor. [2] [3]

In economics, specifically general equilibrium theory, a perfect market is defined by several idealizing conditions, collectively called perfect competition. In theoretical models where conditions of perfect competition hold, it has been theoretically demonstrated that a market will reach an equilibrium in which the quantity supplied for every product or service, including labor, equals the quantity demanded at the current price. This equilibrium would be a Pareto optimum.

Economic rent is different from other unearned and passive income, including contract rent. This distinction has important implications for public revenue and tax policy. [4] [5] [6] As long as there is sufficient accounting profit, governments can collect a portion of economic rent for the purpose of public finance. For example, economic rent can be collected by a government as royalties or extraction fees in the case of resources such as minerals and oil and gas.

Unearned income is a term coined by Henry George to refer to income gained through ownership of land and other monopoly. Today the term often refers to income received by virtue of owning property, inheritance, pensions and payments received from public welfare. The three major forms of unearned income based on property ownership are rent, received from the ownership of natural resources; interest, received by virtue of owning financial assets; and profit, received from the ownership of capital equipment. As such, unearned income is often categorized as "passive income".

Passive income is income resulting from cash flow received on a regular basis, requiring minimal to no effort by the recipient to maintain it.

A tax is a compulsory financial charge or some other type of levy imposed upon a taxpayer by a governmental organization in order to fund various public expenditures. A failure to pay, along with evasion of or resistance to taxation, is punishable by law. Taxes consist of direct or indirect taxes and may be paid in money or as its labour equivalent. The first known taxation took place in Ancient Egypt around 3000–2800 BC.

Historically, theories of rent have typically applied to rent received by different factor owners within a single economy. Hossein Mahdavy was the first to introduce the concept of "external rent", whereby one economy received rent from other economies. [7]

Definitions

According to Robert Tollison (1982), economic rents are "excess returns" above the "normal levels" that are generated in competitive markets. More specifically, a rent is "a return in excess of the resource owner's opportunity cost". [8]

Henry George, best known for his proposal for a single tax on land, defines rent as "the part of the produce that accrues to the owners of land (or other natural capabilities) by virtue of ownership" and as "the share of wealth given to landowners because they have an exclusive right to the use of those natural capabilities." [9]

The law professors Lucian Bebchuk and Jesse Fried define the term as "extra returns that firms or individuals obtain due to their positional advantages." [10]

In simple terms, economic rent is an excess where there is no enterprise or costs of production.

Classical rent (land rent)

In political economy, including physiocracy, classical economics, Georgism, and other schools of economic thought, land is recognized as an inelastic factor of production. Land, in this sense, means exclusive access rights to any natural opportunity. Rent is the share paid to freeholders for allowing production on the land they control.

As soon as the land of any country has all become private property, the landlords, like all other men, love to reap where they never sowed, and demand a rent even for its natural produce. The wood of the forest, the grass of the field, and all the natural fruits of the earth, which, when land was in common, cost the labourer only the trouble of gathering them, come, even to him, to have an additional price fixed upon them. He must then pay for the licence to gather them; and must give up to the landlord a portion of what his labour either collects or produces. This portion, or, what comes to the same thing, the price of this portion, constitutes the rent of land ....

David Ricardo is credited with the first clear and comprehensive analysis of differential land rent and the associated economic relationships (law of rent).

Johann Heinrich von Thünen was influential in developing the spatial analysis of rents, which highlighted the importance of centrality and transport. Simply put, it was density of population, increasing the profitability of commerce and providing for the division and specialization of labor, that commanded higher municipal rents. These high rents determined that land in a central city would not be allocated to farming but be allocated instead to more profitable residential or commercial uses.

Observing that a tax on the unearned rent of land would not distort economic activities, Henry George proposed that publicly collected land rents (land value taxation) should be the primary (or only) source of public revenue, though he also advocated public ownership, taxation, and regulation of natural monopolies and monopolies of scale that cannot be eliminated by regulation.

Neoclassical Paretian rent

Neoclassical economics extends the concept of rent to include factors other than natural resource rents.

The labeling of this version of rent as "Paretian" may be a misnomer in that Vilfredo Pareto, the economist for whom this kind of rent was named, may or may not have proffered any conceptual formulation of rent. [15] [16]

Monopoly rent

Monopoly rent refers to those economic rents derived from monopolies, which can result from (1) denial of access to an asset or (2) the unique qualities of an asset. [17] Examples of monopoly rent include: rents associated from legally enforced knowledge monopolies derived from intellectual property like patents or copyrights; rents associated with 'de facto' monopolies of companies like Microsoft and Intel who control the underlying standards in an industry or product line (e.g. Microsoft Office); rents associated with 'natural monopolies' of public or private utilities (e.g. telephone, electricity, railways, etc.); and rents associated with network effects of platform technologies controlled by companies like Facebook, Google, or Amazon.

Labour

The generalization of the concept of rent to include opportunity cost has served to highlight the role of political barriers in creating and privatizing rents. For example, a person seeking to become a member of a medieval guild makes a huge investment in training and education, which has limited potential application outside of that guild. In a competitive market, the wages of a member of the guild would be set so that the expected net return on the investment in training would be just enough to justify making the investment. In a sense, the required investment is a natural barrier to entry, discouraging some would-be members from making the necessary investment in training to enter the competitive market for the services of the guild. This is a natural "free market" self-limiting control on the number of guild members and/or the cost of training necessitated by certification. Some of those who would have opted for a particular guild may decide to join a different guild or occupation.

However, a political restriction on the number of people entering into the competitive market for services of the guild has the effect of raising the return on investments in the guild's training, especially for those already practicing, by creating an artificial scarcity of guild members. To the extent that a constraint on entrants to the guild actually increases the returns to guild members as opposed to ensuring competence, then the practice of limiting entrants to the field [18] is a rent-seeking activity, and the excess return realized by the guild members is economic rent.

The same model explains the high wages in some modern professions that have been able to both obtain legal protection from competition and limit their membership, notably medical doctors, actuaries, and lawyers. In countries where the creation of new universities is limited by legal charter, such as the UK, it also applies to professors. It may also apply to careers that are inherently competitive in the sense that there is a fixed number of slots, such as football league positions, music charts, or urban territory for illegal drug selling. These jobs are characterised by the existence of a small number of rich members of the guild, along with a much larger surrounding of poor people competing against each other under very poor conditions as they "pay their dues" to try to join the guild. (Reference: "Freakonomics: Why do drug dealers live with their Moms?").

Terminology relating to rent

Gross rent
Gross rent refers to the rent paid for the services of land and the capital invested on it. It consists of economic rent, interest on capital invested for improvement of land, and reward for the risk taken by the landlord in investing his or her capital.
Scarcity rent
Scarcity rent refers to the price paid for the use of homogeneous land when its supply is limited in relation to demand. If all units of land are homogeneous but demand exceeds supply, all land will earn economic rent by virtue of its scarcity.
Differential rent
Differential rent refers to the rent that arises owing to differences in fertility of land. The surplus that arises due to difference between the marginal and intra-marginal land is the differential rent. It is generally accrued under conditions of extensive land cultivation. The term was first proposed by David Ricardo.
Contract rent
Contract rent refers to rent that is mutually agreed upon between the landowner and the user. It may be equal to the economic rent of the factor.
Information rent
Information rent is rent an agent derives from having information not provided to the principal.

See also

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References

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  17. Birch, Kean (2019). "Technoscience Rent: Toward a Theory of Rentiership for Technoscientific Capitalism". Science, Technology, & Human Values: 016224391982956. doi:10.1177/0162243919829567.
  18. Friedersdorf, Conor (23 March 2015). "In an era of Uber and Lyft, one city's taxi regulations make no sense: Santa Monica's dysfunctional rules for cabs". The Atlantic . Atlantic Media . Retrieved 14 April 2015. Santa Monica's residents were being afforded too many choices... a population of 84,000 was served by 454 licensed taxis... City experts settled on a franchise system: Competition would be limited to five cab companies. The total number of taxis would be fixed at around 200. The biggest losers, besides the Santa Monica residents who had a tougher time finding a taxi, were the single proprietors who'd bought taxis and earned their livings in the city only to be told that they were no longer welcome there.

Further reading

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