Transcript Ch. 29 Rent, Interest, & Profit

Ch 27
Rent, Interest, & Profit
A. Economic Rent
• Price paid for land or other resources that
are completely fixed in supply (perfectly
inelasticity supply)
• Changes in Demand
• Land Rent is a Surplus Payment due to
same amount of land available in society
– No ‘Incentive Function’ for rent
because supply is fixed (next slide)
Economic Rent
The Determination of Land Rent
Land Rent (Dollars)
S
R1
D1
R2
D2
R3
D3
0
a
b
L0
Acres of Land
D4
-- What is the value of land at each Demand curve?
-- The supply of land is perfectly inelastic
The supply of
land is perfectly
inelastic
B. Henry George
• Proposed a Single-Tax on land
• Progress and Poverty (1879)
• Economic rent could be heavily taxed
without diminishing the available supply of
land or economy as a whole
• Land performs no incentive function
• Critics cite many problems w/ this:
-- Current Gov’t spending wouldn’t be
covered by a single tax.
C. Interest
• Stated as a Percentage
• Money is Not an Economic
Resource
• Loanable Funds Theory of Interest
• Supply of Loanable Funds
• Demand for Loanable Funds
-- Loanable Funds Theory: S&D for funds available for
lending (and borrowing).
*** Be familiar
with this Graph***
Interest
The Market for Loanable Funds
Interest Rate (Percent)
S
i=
8%
D
0
F0
Quantity of Loanable Funds
Interest, cont’d
• Extending the Model
– Financial Institutions
– Changes in Supply
– Changes in Demand
– Other Participants
Interest, cont’d
• Range of Interest Rates
– Risk
– Maturity
– Loan Size
– Taxability
• Pure Rate of Interest
-- Pure rate of Interest is best approximated by the interest paid
on a long-term, virtually riskless securities such as long-term
bonds or of the U.S. Gov’t (20 year Treasury Bonds).
Interest, cont’d
• Role of the Interest Rate
– Interest and Total Output
– Interest and the Allocation of
Capital
– Interest and R&D Spending
– Nominal and Real Interest Rates
• Application: Usury Laws (next slide)
– Nonmarket Rationing
– Gainers and Losers
– Inefficiency
-- Nominal rates: interest expressed in dollars of current value.
-- Real rates: interest expressed in purchasing power (dollars
of inflation adjusted value).
Usury Laws
Interest Rate (Percent)
S
i=
8%
D
0
F0
Quantity of Loanable Funds
• Usury Laws specify a max interest rate for loans (price ceiling).
D. Economic Profit
• Explicit Costs - $ to outsiders
• Implicit Costs - $ sacrifices when using
own resources instead of selling on the
market (aka opportunity costs)
• Economic (Pure) Profit - $ after all costs
are subtracted from a firm’s total
revenue
• Role of the Entrepreneur
– Normal Profit: min return to stay in
business
Economic Profit, cont’d
• Sources of Economic Profit
– Static Economy: forces are constant
– Risk and Profit
•Insurable Risks: insurance for fire, etc
•Uninsurable Risks: unknown changes
in supply and demand conditions:
- Changes in General Economic
Environment
- Changes in the Structure of
the Economy
- Changes in Gov’t Policy
Economic Profit, cont’d
• Innovations and Profit
• Monopoly and Profit
• Functions of Profit
– Profit and Total Output
– Profit and Resource Allocation
• Income Shares