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Chapter 29 Rent, Interest, and Profit

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I. The concept of rent
   
A. Economic rent applies to amounts above those required to keep
         factors employed at their current use, i.e., the factors' opportunity cost. 
         1. Since economists include a normal return on investment in costs, profit represents rent.
         2. Companies with monopoly power that results in profit receive economic rent.
    B. Pure economic rent is the concept of economic rent applied to
         factors fixed in supply such as land and other natural resources.
    C. Economic implications of pure economic rent 
        1. Supply is fixed, perfectly inelastic, and price therefore does not
            perform the incentive function of increasing quantity supplied.
        2. Socialist philosophers questioned whether pure economic rent should be paid.
            a. Originally free, owners of land receive pure economic rent which is a surplus. 
            b. Henry George wanted to tax rent away in 19th century America. 
                1) Called the single-tax movement, he wanted to replace
                     all taxes with one tax on land. 
                2) Three problems exist with this philosophy.
                     a)  Land is not free to current owners.
                     b) Capital improvements are necessary to make modern land useful.
                     c) Modern rent does perform a rationing function because land is of such differing quality.
                3)
Read Robert Clancy / The Story of the Georgist Movement  for the latest on this movement.
     D. A modern demand schedule has land's rent derived from the  revenue it generates (MRPL). 
          For those interested in finance,  land is valued at the present value of future income.
     E.
Check out AP Microeconomics Review Materials!

 

 


 

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II. Interest is the price paid for capital
     A. The price of capital goods (any person-made aid to production) will be analyzed.
     B. Our main concern will be the cost of the funds required to buy the physical goods, i.e., interest.
     C. Interest rates are a function of supply and demand for loanable funds.
          1. Demand for funds is a function of individual, business, and government attitudes toward investment risk. 
              a. These attitudes
determine the required rate of return an asset must earn to be a viable part of the production process. 
              b. The more the
risk, the higher the required rate of return. 
         2. Supply of funds is a function of individual, business,
and government saving and Federal Reserve policy. 
            
    D. The market for loanable funds (debt) may be depicted as follows.
         1. Demand comes from the needs on individuals, business, and government to borrow for investments.
         2. Supply comes from the savings of individuals, business, our governments, and foreigners who loan us 
             profits from trading with us.
        
3.  During the 1980's a dramatic increase in the demand for loanable funds combined with a decrease in savings 
              to yield a dramatic rise in real interest rates. This increase caused a decrease in business capital investment and 
              slow economic growth.

Business Cycle

30-Year Treasury Yields (%)

Inflation  Rate %

Real Yields %

Free Book Summaries- 3 New York Times Bestsellers WhiteSmoke's writing software

01/54 to 10/57

3.05

1.57

1.48

11/57 to 04/60

3.93

2.23

1.70

05/60 to 11/69

4.68

2.17

2.51

12/69 to 10/73

6.57

4.53

2.04

11/73 to 12/79

8.27

7.25

1.02

01/80 to 06/81

12.01

9.25

2.76

07/81 to 05/89

9.30

4.55

4.75

Source: Kleinwort Benson Government Securities Inc. as published in The Wall Street Journal and the author's notes for 04/96

Recent year-end real yields from Economics Internet Library

04/96

6.83 3.33 3.5

12/01

5.49 2.8 2.69

12/02

5.4 2.2 3.2

 

III. Enterprise and business profit
      A. Economic profit is revenue minus costs
          (explicit + implicit).
      B. An amount greater than zero represents
          economic rent.
      C. Entrepreneurs receive economic rent for
           these activities.
           1. Initiative
           2. Decision making 
           3. Innovation
           4. Risk taking
           5. Monopolizing markets
           6. Controlling Government
     D. In theory, conomic profit, which exists in
          expanding industries, eventually disappears
          as a result of competitive forces.

 

     E. U.S is an entrepreneurial country

Source The Economist Magazine 10/5/13

F. new-book-explains-why-business-investment-has-been-low-profits-prophet The Economist Magazine 10/5/13

 
          G. Politics plays a role 

 

 

 

 

 

 

 

 

The "carried interest rule" allows the managers of private-equity funds (formerly called leveraged buyout firms) to call their 20% bonus for success capital gains rather than income. The bonus is in addition to the 2% of assets they get as asset managers is taxes at 35%. One estimate has the carried interest as 1/3 of company profits. as  estimate.

Editors Note: After it was discovered that presidential candidate M. Romney's average tax bill runs under 15%, the rule was being questioned. While the poor pay little or no income tax, they pay 6.2% of wages up to an annual wage maximum ($110,100 in 2012) for Social Security and a tax of 1.45% of all wages for Medicare. The total of 7.64% can be doubled to 15.28% as employee portions are matched by employees. A majority of the poor die before being able to collect Social Security and Medicare.


 
Last Chapter  Part III Government Activity, Capitalism, and Our Mixed
Chapter 29 Class Discussion Questions Table of Contents
Chapter 29 Homework Questions Economics Internet Library

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