THE PRINCIPLES OF POLITICAL

ECONOMY AND TAXATION

BOOK REVIEW
The science of political economy is essentially practical, and applicable to the common business
of human life. There are few branches of human knowledge where false views may do more
harm, or just views more good.

-Thomas Malthus

The brilliant British economist David Ricardo was one of the most influential of the classical
political economists and he was the true representative of the classical system whose founder
was Adam Smith. Smith’s work regarded as one of the most finest and polished at that time and
his work (wealth of nations) and writing style inspired many and Ricardo was one of them.
Ricardo’s subsequent friendship with two of the leading economists at that time – James Mill
and T.R. Malthus – further stimulated his interest in economics.

Ricardo articulated and rigorously formulated the "Classical" system of political economy. The
legacy of Ricardo dominated economic thinking throughout the 19th Century. His most well-
known work is “The Principles of Political Economy and Taxation (1817)”. Before that he got
recognition in 1810 when he wrote about “High price of bullion-A proof of depreciation of bank
notes”.

Ricardo in his book focused and broadened the theory of rent, wages, and profit and gave us the
theory of diminishing returns. He also gave us the idea of taxes his aim was at observing the
effects of taxation on different social and economic classes, viz. landlords, workers, &
capitalists1.

Further he developed a comparative advantage model used in foreign trade which we study till
date. However Ricardo's argument in favour of free trade has also been attacked by those who
believe trade restriction can be necessary for the economic development of a nation. Critics also
argue that Ricardo's theory of comparative advantage is flawed in that it assumes production is
continuous and absolute.

Therefore it becomes more important to compare and analyze the views of Ricardo with other
economists like Adam Smith, Karl Marx and somewhere with that of Carl menger too.

Theory of value
Adam Smith stated two kinds of values; use value and exchange value the former being the
utility of a good and the latter power of purchasing other goods. Use value a necessary condition
to have exchange value. Adam Smith further tries to distinguish ‘the value of use’ from ‘the
value in exchange’ by explaining the famous ‘diamond water paradox’. “The things which have
the greatest value in use have frequently little or no value in exchange; and, on the contrary,
those which have the greatest value in exchange have frequently little or no value in use.2”

David Ricardo argues, the utility is not the measure of exchange value but is the most essential
part of it. Therefore, possessing utility, commodities derive their exchange value from two
sources; from their scarcity, and from the quantity of labor required to obtain them. Ricardo
discusses only the latter category-goods that can be produced, and whose exchange value thus
depends on cost of production.

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 1
“The principles of political economy and taxation” by David Ricardo page no. 18
 2
Page no.131, chapter 4; Book1, The Wealth of Nations, Adam Smith;

For Smith, “The real price of everything, what everything costs to the man who wants to acquire
it, is the toil and trouble of acquiring it.3” By toil and trouble, Smith refers to the labor required
to produce a commodity, which he further coined as ‘labor embodied’. Every commodity
embodied with some amount of labor is exchanged with a commodity embodying a similar level
of labor. This in essence means that labor commanded is equivalent to labor embodied. He says,
“Labor, therefore, it appears evidently, is the only universal, as well as the only accurate
measure of value, or the only standard by which we can compare the values of different
commodities at all times, and at all places.4”

For David Ricardo, the labor-commanded can differ from the labor-embodied because labor-
commanded depends on other factors. For Smith, both were measure of value, and value and
price are equal but for Ricardo, labor-embodied determines value and labor-commanded
determines the price and both will be equivalent only if wages are always proportional to each
other. He further states that not only labor-embodied in production of final good but also the
labor-embodied in the intermediate good feeds into the value of final good. i.e., value of labor in
each step of the production should be added to get the value of the final good. One can relate it to
modern economics in the concept of GVA (Gross Value Added) where value at each step of
production is calculated.

Ricardo’s intension was to revive a pure labor theory but under adverse criticism and honest self-
examination, he made some changes in his labor theory. His theory is based on two implicit
assumptions first is only useful goods which are limited in supply are taken under account and
second there is free competition in the commodity market. He takes units of labor as
homogeneous and not heterogeneous as he believes that even with heterogeneous labor “the
scale once formed, is liable to little variation”5, hence a rise or any change in wages would affect
the money costs of all the commodities in equal proportions, and leave relative values
unaffected.

Further he tries to find an invariable measure of value, because of variability in relative values of
commodity, no other commodity can serve as measuring the value of other commodity therefore
some other measure have to guard against any fluctuations. He states that even money can’t
serve as an invariable measure of value since money itself is subject to relative variations from a
rise or fall of wages, on account of different proportions of fixed capital required to produce it.

Between all Carl Menger rejected the cost of production theories of value of Adam Smith and
David Ricardo both and given his own resultant perspective, the “Subjective Theory of Value”7.
Ricardo, like Adam smith, moved away from the labor theory of value to a cost-of-production
theory. However, Karl Marx showed interest in the labor theories of both Smith and Ricardo and
in his work he explains that even though the labor is the only common characteristic shared by
all commodities, not equivalent amount of labor but equivalent amount of ‘socially necessary
labor’. He further goes on to say that this scenario where a good is sold at the real value of labor
cannot be possible in a capitalist setting6. He is also criticized for using value and riches
interchangeably.

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 3
Page no.133, chapter 5; Book1, The Wealth of Nations, Adam Smith;
 4 Page no.131, chapter 4; Book1, The Wealth of Nations, Adam Smith;
 5
“The principles of political economy and taxation” by David Ricardo
 6
Chapter 1, Das Kapital, Karl Marx
 7
principles of economics by “Carl Menger”

Ricardo’s Theory of Rent

One of the earliest enquires into the nature of rent was done by Adam Smith in his book “An
Enquiry into the nature and causes of Wealth of Nations”. Later Ricardo came up with his own
theory of rent carrying forward some of the ideas given by Smith. However his Ideas did not
exactly converged with Smith’s Idea as is evident from his statement in his book, “Adam Smith
sometimes speak of rent in the strict sense to which I am desirous of confining, but often in the
popular sense, in which the term is usually defined.”8

Ricardo describes rent as a portion paid to the landowner for the use of the original and
indestructible powers of the soil, whereas Smith said that rent was paid for the value of the
commodity which can be removed from the land and not for the indestructible power of the land
itself. Also he stated later in his chapter that it is the price of the commodity that affects Rent.
Ricardo says, when in the progress of society, land of the second degree fertility is taken into
cultivation, rent immediately commences on that of the first quality, and the amount of that rent
is the difference in the quality of the two portions of the land. This chain continues on different
potions of land with every increase in population.

For example, there are three qualities or types (1, 2 and 3) of land and employing same unit of
labour and capital produces 1000, 800 and 650 quarters of corn respectively. Now if 2nd is not
taken into production and only 1st is used than there will be no rent for landowner of 1st land.
But if by time 2nd land is taken into the system then landowner of 1st will enjoy rent which is
equal to difference in productivity of both kind of land i.e. 200. Similarly if 3rd land is also
employed then the rent of 1st land will be now difference of productivity from 3rd land (least
productive land taken in system in general) i.e. 350 and now 2nd land will also bear rent of 150
but there will be 0 rent for 3rd land.

Then he says, suppose there exists an incentive such that before going into the production of
least quality land, it is worth to apply more capital and labour to good land to get additional
output, then worse land can be not considered in the system of production. This argument is
based on agricultural improvement, achieved in two ways, increase in productive powers of land
and improvement in machinery. However, rent can get reduced in such case, if demand doesn’t
increases.

However, rent theory can be criticised since Ricardo said that there will be no rent for the last
land brought under cultivation. This seems to be untrue, because the landlord will never lease out
the land without rent. Rent will be zero only if property rights are not defined, an area that
Ricardo doesn’t takes into account.

Malthus’s criticism of Ricardian rent: To David Ricardo economic rent is a surplus of

individual investors’ ‘paper profit’ over societal gain. As such, it doesn’t any gain but rather an
unearned transfer of wealth. To Malthus, there is material gain created in the re-investment
which is rent, but at some point such gain or economic rent may, as Ricardo said in regards to the
paper profit, has to be excess of social utility. It was seen that most modern economists believe
that Ricardo’s views on rent are not vastly different from those of Malthus, but are more
systematic and detailed in assumptions and principles.

Wages
On wages Ricardo’s principles are bit confusing as he shits on definitions of wages but Ricardo
clearly stated that labour has two prices; Natural price, and Market price. Natural price of labour
is the price paid to him that enables him to support himself or to maintain his level of subsistence
and his family based on quantity of “food, necessities and conveniences”.

With the progress of society, natural price of labour has a tendency to rise since natural price of
the necessaries also increases on which the wages of labour is expanded. Specially in a fast
developing economy where capital stock and demand of labour increases quickly.
Market price is explained as the price which is actually paid to labourer. Like other commodities
market price of labour has a tendency to differ from its natural price and if market price is above
natural price wage earners gain while if it’s the opposite then they lose.

He also shares his thoughts on the labour laws and criticised the laws given by Malthus.
According to him, like all other commodities, labour should be left free to the forces of market
demand and supply and thus no intervention should be done for their improved living.

However, one may criticise this as well since in the capitalist regime, labour are bound to get
deprived of subsistence, and therefore some intervention by the state is necessary for their
enhanced living. Thus, there should be a balance between free market forces and state
intervention.

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• 8
page no. 39“The principles of political economy and taxation” by David Ricardo
Profits
Profits are the remaining portion which is left after paying wages to labourer and rent to
landlord.

Adam smith stated in “The Wealth of Nations” that capitalists tend to earn profits by
“expropriating” the produce of industrious people who are put to work by them.

Karl Marx went on to advance the argument that capital itself was non -productive and that
therefore ownership of capital could not entitle capitalists to have a net profit income.

David Ricardo defined capital in the work as “Capital is that part of a country’s wealth which
was employed in production, and consisted of food, clothing, tools, raw materials and machinery
that are all needed to employ workers”8. Hence capital was of two types fixed and variable.

According to Ricardo profits depend upon the capital employed. One may argue that if a capital
gives high rates of profits then more capital would be attracted to that avenue leading to
increased quantity of the produce, in turn leading to excess supply and thereby fall in prices. He
also states that, with increased capital accumulation profits may increase in absolute value but
their relative value (profit percentage) tends to fall.

Ricardo said that profits depend upon the wages and price of the commodity produced. He said
that profits rise or fall in proportionate to wages, keeping prices constant. However, if wages
rise, along with increased prices of the produce (which rises due to the less productive land
brought under cultivation), then it’s mandatory for the profits to fall.

Foreign trade
David Ricardo gave the one of the famous theory of comparative advantage after Adam Smith’s
absolute advantage theory which favours the nation with better equipped resources proved to be
a major development because before that small economies fears of exploitation in trade. But
David Ricardo said that there are different products that each nation can produce most
advantageously, and it is in their best interest to concentrate on those products and acquire the
rest from the most efficient sources in the world in exchange for the products they produce.

Taxation
David Ricardo talked a lot about taxes in his book as he covered a wide range of topics like
‘taxable capacity’, the effect of taxes on profits, wages and rent and on land and gold. Ricardo
says that all taxes must fall on capital or revenue. He says that if the government consumption is
met with an increased production or by diminished consumption by people the taxes would fall
on revenues and if there is no such increased production or diminished consumption then the
taxes would fall on capital and will impair the funds allotted for productive consumption.

Ricardo starts with the taxes on raw produce and then further moves on to taxes on profits, wages
and rent and on land and gold.
Adam Smith also like Ricardo devoted a significant portion of the “Wealth of Nations” to the
issue of taxation. Who should be taxed, how much, to what purpose, and in what manner? Smith
argued that taxes should be proportional to how much a person benefits from living in society.
There should be proportionality across levels of income and sources of income such as rent,
profit, and wages10.

Conclusion
After reading the 4 books of classical and neo classical political economists it is evident that with
time economic environment has changed a lot as these authors gave their theories long ago in
this sense that they believed it might be possible that their theories will be helpful and applicable
in reading future economic environment and even now after 250 years of wealth of nations. Their
work remains the basis for further research and analysis. “The Principles of political economy
and taxation” by David Ricardo clarifies further on economy and its economics after Adam
Smith’s “Wealth of Nations”. Ricardo explained and focused on some topics in more detail like
rent, taxation and foreign trade and gave more finest solutions whereas with that too his work
remained a matter of development and change.

REFRENCES

 “The principles of political economy and taxation” by David Ricardo

 Book1, The Wealth of Nations, Adam Smith;
 Book2, The Wealth of Nations, Adam Smith;
 “principles of economics” by Carl Menger
 “Das Kapital” by Karl Marx