Important Writers:

• Adam Smith (1723-1790) - Wealth of Nations,

1776.
• Thomas Robert Malthus (1766-1834) – an Essay
on the Principle of Population, 1978.
• David Ricardo (1772-1823) – On the Principle of
Political Economy and Taxation, 1817.
1817
• Nassau Senior – An outline of the Science of Political
Economy, 1836.
• John Stuart Mill (1806-1873) – Principle of Political
Economy, 1848.
• Karl Marx – Capital, Volume I, 1867.
DAVID RICARDO (1772-1823)
• A stockbroker turned economist.
• Economics study in 1799 – 28 yrs.
• 1810, -1st pamphlet, ‘the high price of bullion’. 1815 –
essays on the Corn Law controversy.
• His major work, Principle of Political Economy
& Taxation (1817) replaced Adam Smith’s
Wealth of Nation (1776), as the accepted book
on economic Q’s.
• Significant contribution to economic
theory: methodology, theories of value,
international trade, public finance,
diminishing returns and rent.

• Redirected economics away from the method and

scope of economics advocated by Adam Smith.
• Adam Smith – (i) deductive theory (ii) a
descriptive, informal narrative of contemporary and
historical institutions. Blended theory with historical
descriptive material.
• Ricardo - represents the pure theorist at work.
Abstracted from the economy of his time and
built an analysis based on the deductive method.
• Applied abstract analysis to political issue of
tariffs (importation grain into England).
• Strongly oriented toward policy.
Economic problems of his time:
– rising grain prices?????, rising rents and the
relative growth of industry and relative decline of
agriculture (∆ structure England).
– the policy question of free vs regulated international
trade.
– The landlords wanted protection from foreign
agricultural product, but many of the rising industrialists
were advocates of free trade, particularly for British
industries.
• Adam Smith - concerned with the forces
determining the wealth of the nations.
• Ricardo - the principal purpose of economics is
to determine the laws that regulate the
distribution of income among
landlords, capitalists and laborers.
To determine the laws which regulate this
distribution (income) is the principal problems in
Political Economy.
Observed - changes in the functional distribution of income
over time in the system.
Economy of 3 main groups: capitalists receiving profit and
interest, landlords receiving rent and laborers receiving
wages.
To explain changes in the shares received by the capitalists,
landlords and laborers, he developed a theory explaining
profits, interest, rent and wages (at the microeconomic level of
economy).
Examined the forces causing changes in relative
prices over time. He was primarily concerned with the effects
of changes in income distribution on the rate of capital
accumulation and economic growth.
 Ricardo’s Model
• The capitalists perform the essential roles in the
economy – the producers, directors and the most
important actors.

• They contribute to an efficient allocation of

resources because they move their capital to the
areas of highest return.

• If perfectly competition markets prevail,

consumer demands are met at the lowest possible
social cost.

• They also initiate economic growth by saving and

investing.
 Labor is essentially passive in his model.
 Real wage = wages fund/ labor force.
 The wages fund - depends upon capital accumulation, &
the size of labor force is governed by the Malthusian
population principle.
 If wages fund increases as a result of capital
accumulation, real wages will rise in the short run.
 Increasing real wages will result in an
increase in population and hence in the labor
force.
 Long-run equilibrium will exist when the labor force
has increased sufficiently to return real wages to the
subsistence level (minimum level of well-being).
 Landlords are mere parasites.

 The supply curve for land is perfectly elastic and the

social opportunity cost of land is zero.

 Landlords receive income, rent, merely for holding

factors production without serving any socially useful
function.

 Instead of saving and accumulating capital, the

landlords engaged in consumption spending.

 The activities of the landowning were harmful to the

growth and development of the emerging industrial
society.
Wealth & econ groups
• the total output or gross revenue of the economy is
distributed to the Ls, Ks, & Lls.
• The part of total output not used to pay labor at
subsistence wage and to replace the capital good
worn out is called net revenue of economic
surplus (Gross revenue – (subsistence wage+
depreciation) = net revenue).
• Net revenue consists of profits, rents, and
wages over the subsistence level.
• In long-run equilibrium, wages will be at a
subsistence level and net revenue will equal profits
and rents.
The workers and landlords spend
entire income on consumption, so
profits are the only source of saving,
or capital accumulation.
A redistribution of income
favoring the landlord takes
place over time as profits
decrease and rents rise,
with a consequent reduction
in the rate of economic
growth.
• Interest in the controversy of Corn Laws -
regulations placing tariffs on the importation of
grain into England.
• Growing concern over the pressure of population
on the food supply.
• Food price, rents, and investment in land were
rising steadily.
• High tariff would shift the distribution of
income in favor of the landlords.
• The period of Napoleonic wars, artificially
protected British agriculture from continental grain
& couple with inability agriculturally self-sufficient -
rising grain prices & rents.
Distribution of income over time
Rejected Smith’s reasons:
• i. Competion in L mkt – w rises – π must
fall
Refuted: Malthusian doctrine –w rises – pop
rises – L force rises – w falls.
• ii. Competition in the investment &
commd mkt
Refuted: competition will not result in a fall in
the general P level. P falls when it is not
possible to sell at previous P & existence of
over production.
Who are the sole
beneficiaries of long-run
growth process????
The Corn Laws imposed a floor on the price
of grain – 50 shillings per quarter.
Landlords demanded a floor of 80 shilings per
quarter – prompted an extensive controversy.
Ricardo published pamphlets explaining
higher tariffs resulted in higher grain
prices.
Higher tariff encourage greater Inv in agriculture,
increased output supply & P fall.
Higher P of grain was the results of
higher rents. Rents were price-
determined & not a cost of production.
 Average prices (shillings per
quarter of a ton)
• 1770-1779 45 shillings
• 1780-1789 45 shillings
• 1790-1799 55 shillings
• 1800-1809 82 shillings
• 1810-1813 106 shillings

• The higher price was in 1801 –

177 shillings
Corn Laws
• Protection of British agriculture from foreign
competition caused grain imports to decline
& output of grain in England to increase.
• Intensive and extensive margin
were pushed out and profits
declines as rents increased.
• Corn Laws accelerate the process of
redistribution of income toward the
landlord, slowing down economic growth &
hastening the stationary state.
Theory of Land Rent
• Constant return in manufacturing and
diminishing returns in agriculture.
• The coefficient of production for L and K were
fixed by technological consideration.
• Assume a fixed quantity of land & diminishing
returns begin immediately.
• The quantity of land is fixed, thus increases in
demand will result in higher prices (rents) with
no increase in quantity supplied.
• The opportunity of land was zero.
Bushels 100
(wheat)
90

A B
Extensive Margin of Land
Ricardo
Rents were price-determined
Rents were determined by Grain Price

Corn Laws or Adam Smith

Rents were price-determining
High price of grain was determined by
higher rents
Rents determined Grain Prices
Assumptions
1. Labor cost theory
2. Neutral Money.
3. Fixed coefficients of production for L & K.
4. Diminishing returns in agriculture & CTS in
manufacturing.
5. Full employment.
6. Perfect competition.
7. Economic actors.
8. Malthusian population theory.
9. Wages Fund doctorine
Assumptions
1. Labor cost theory – explained changes in relative
prices o/t
2. Neutral Money - Prices.
3. Fixed coefficients of production for L & K – to increase
Q, L & K must be added in a fixed proportion.
4. Diminishing returns in agriculture & CTS in manuf. - SS
curve slope upward (MCs increase as Q expands).
5. Full employment.
6. Perfect competition.
7. Economic actors – rational & calculating, max π, higher
wages & rents.
8. Malthusian population theory – pop expands faster than
food prod.
9. Wages Fund doctrine – real wages=wages fund/labor
force, wages fund ↑ real wages ↑.
 Higher Tariff  lower grain prices (dom)
encouraged more production.
 To increase Q demand more Lo & K – in fixed prop. -
Q increases.
 Diminishing returns  L fixed, land farmed more
intensively, marginal physical product decreases,
equivalent to say marginal cost increases  grain
prices rises.
 Also, more less fertile land were utilized (extensively
farmed)  relatively, fertile L is more expensive. Margin
was pushed down.
 Opp cost of L is zero, in CM π on different grades
of L is uniform.
 Rent is the payment to l/lord that will equalize
the π on different grades of L (less fertile
lower rent & more fertile higher rent)
Increase in the cost of producing grains
(????)  Higher grain prices.

Higher grain prices  demand more wages

 for workers to maintain a subsistence std of
living  higher grain P . Cost of grain was a
major part of L food budget.

W↑  Pop ↑  demand for more food 

increase grain prod  demand for more Land
diminishing marginal return rents ↑ & MC ↑
• Rents were determined by Grain Prices.
• Higher grain prices  higher rents.
• Grain prices is determined by labor cost
theory.
• SS curve is upward sloping reflecting
higher price as MC increases.
• Tariff is harmful to the economy.
• Tariff reduces profits , slower the capital
accumulation & lower the growth rate.
• Higher Tariff  higher money wages.
• Removing tariff on grains wld be beneficial to
England.
• Removing tariff  ↑ π  capital acc
↑ I ↑ ↑ growth.
• Protectionist: Removing tariff  food Prices &
w ↓ depressions.
Theory of land rent
• A labor theory of value must also deal with the question of land rent.
• Suppose that there are 2 laborers of equal skill working on 2 plots of
land of different fertility.
• What is the qtty of L necessary to produce a bushel of
wheat????

• The price of wheat depends upon the marginal

cost of the wheat produced least efficient.
• Price is determined at the margin & at the margin there is
no rent.
• Differing rents received by lands of differing
quality will not influence changes in relative
prices over time.
Ricardo Theory of Value
• Rejected the prevailing cost of production
theory of value (Adam Smith).

• What cause changes in relative Ps over time???

• ‘’The value of a commodity or the quantity of any

other commodity for which it will exchange, depends
on the relative quantity of labor which is
necessary for its production, and not on the greater
or less compensation (wages) which is paid
for that labor.’’
Ricardo’s Labor Cost Theory of Value.
• Use value vs exchange value.
• Use value is essential for the existence of exchange value.
• The price of commodities is derived from (i) scarcity & (ii)
the quantity of labor.
• Some commodities have a price that is determined by their
scarcity alone. Not freely reproducible - perfectly
inelastic ss curve – picture, books, coins, wines.
• The value of these goods is independent of the qtty of L
used to produce them.*
• Given a fixed inelastic ss curve, demand will
determine price.
• Excluded from Labor cost theory of value.
Competitively Produced Goods
Freely reproducible commodities.
Manufacturing constant costs & agriculture
increasing costs.
Qtty of labor that determines relative
prices not the wages paid to labor.
Qtty of L is measured by clock hours & wages
measures relative productivity of labor.
If differing skills remain constant over
time, changes in the prices of goods will not be a
result of the wages paid to labor (????).
Capital Goods
• All commodities require the utilization of both L & K.
• What is the influence of K on the prices of goods???
• K is a stored-up labor (L that has been applied in a
previous period).
• The qtty of L in a commodity produced by both K & L is
measured by
qtty of L immediately applied + qtty of L stored in
the K goods (time equivalent of the deprec.)
e.g:
100 hours of labor + 1 hour of labor
• The explanation is not satisfactory.