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Meaning Of Rent In Economics

 Rent, Meaning of Economic Rent

Meaning of Rent

            Rent denotes the hiring or leasing charges for a product which is hired such as car, machinery, house etc. It is frequently taken to mean payments received by owners of all types of private property that is leased for a fixed sum. But what an owner receives is not pure rent. It is in fact, contract rent or gross rent and includes (a) interest for the capital invested in making improvements (b) its depreciation and maintenance charges (c) wages of management (d) some profits as the reward for risk taking involved in hiring, leasing and investing and economic rent which is surplus arrived at by deducting items (a) to (d) from gross rent.

            Thus in economics, according to Dr. Marshall, “the income derived from the ownership of land and other free gifts of nature is commonly called rent.” It is a surplus above cost of production due to the bounty of nature or to the scarcity of land in relation to its demand.

Meaning of Economic Rent

            Modern economists use the word rent as an “economic surplus or transfer earnings which means the earning of a factor of production in excess of the minimum amount necessary to keep it in its present use”. It is not a differential surplus, the difference between the superior inferior grades of lands, as Ricardo meant by rent.

            Moreover, it accrues not to land alone, but to all other factor services. A piece of land which is earning $500 in its present use can earn at the most $400 in its next best use; the difference of $100 is economic rent. If it cannot be put to any alternative use its transfer earning is zero and the whole of the present earning of $500 is rent.

            Likewise, there is a rent element in the wages when a worker is able to earn more in his present occupation than in the alternative one. There is an element of rent in interest when a saver gets the market rate interest though he is prepared to lend at a lower rate and an entrepreneur may obtain larger profit than is required for him to stay in business. Thus economic rent is an element that enters into the incomes of all factors and is not peculiar to land alone.

The Ricardian Theory of Rent

            David Ricardo defines rent as “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.” Two inferences are clear from this definition, (i) land possesses original and permanent properties with reference to its nature, condition, environment and construction and rent is paid for the use of land alone. These in turn reveal that rent accrues to the landlord both from extensive and intensive cultivation of land as well as due to the situation of his land.

Its Postulations

  • There is perfect competition in the economy

  • The supply of land is limited

  • There is difference in the fertility of land

  • There is marginal or no rent land in the economy

  • Land has original and indestructible powers of soil

  • The demand for agricultural products increases with population growth

  • The Law of Diminishing Returns applies

  • Rent accrues from land above

  • Rent arise in the long run

  • Land and capital are single factors

  • Rent is price determined

  • Land is cultivated in historical sequence i.e. first the best land, then the less fertile and in this order.

Criticisms of the Ricardian Theory

There are some criticisms such as

  • No original and indestructible Powers of the soil is there in the rent payment

  • The best land is not cultivated first as stated by Ricardo

  • Scarcity is actual and not the fertility, the cause of appearance of rent

  • There is no No-rent land in realism

  • The law of diminishing returns can be held in abeyance

  • In reality, perfect competition is not found

  • Rent also arises in the short run and not as stated in the classical doctrines

  • Rent not a payment for the use of land but also other factors which could earn rent

  • Capital and labour alone are not the only homogeneous factor

  • In short the thesis of rent is said to be incomplete since there are so many other factors involved in the rent factor.

  • As told, unconventional uses of land and rent are not predetermined.

Rent and Price

  1. Ricardian View – According to him, rent is price-determined and not price determining. Rent is differential surplus between the produce of the superior and the marginal land. Since marginal land is no rent land, therefore by hypothesis rent does not enter into the price corn.
  1. Conversely, rent is price determined, when the price of corn starts rising, the existing A grade lands are cultivated more intensively and the inferior grades of land are bought under the plough. Consequently, the superior lands start earning rent. Rise in the price of corn above the cost of production on the marginal land makes it possible for the marginal land owners to earn rent.
  1. The higher the price of corn, the higher will be the rent.
  1. Modern View – According to modern analysis, land has alternative uses. What land can earn in its most profitable alternative use is the transfer cost of land. The transfer cost of land forms part of the cost of production and thus enters into price. In order to understand as to whether part rent enters into price or not, let us analyse it from the point of view of the society, an industry and an individual producer.
  1. From the point of view of the society, the supply of land is fixed and it has no alternative use. Its supply price or transfer cost is zero as it is provided free to society by nature. Thus rent is not included in the real cost of total produced goods to the society as a whole. Rather, when the demand for land rises, its supply being fixed, it increases rent. Thus rent is predetermined.

Conclusion

            In the ultimate analysis, rent is neither wholly price-determined nor price determining. Both rent and price are determined by the relative scarcity of land in relation to its demand. If the supply of land is fixed, rent is not price-determining. If the supply of land is less than perfectly elastic as from the point of view of an industry or use, a part of earnings of land may be price determining and a part price determined. If the supply of land is perfectly elastic from the stand point of a producer rent enters into price.

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