By Thomas Nassif, Peter Ryan,

Anantnath Thakur & Jake Davis

Evolution of Economic Ideas- Part II

By Thomas “Massive” Nassif, Peter “Ace” Ryan, Anantnath
“No Show” Thakur and Jake “The Baby” Davis

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 By Thomas Nassif, Peter Ryan,
Anantnath Thakur & Jake Davis

Table of Contents

Introduction…………………………………………………………………………………………………….………………..3

Malthus Theory of Population……………………………………………………………………………….…….......4

The Law Of Diminishing Returns……………………………………………………………………………….……....5

The Law Of Variable Proportions…………………………………………………………………………….…………6

Classical vs. Modern Diminishing Returns…………………………………………………………………….…...7

Ricardo’s Theory Of Rent……………………………………………………………………………………..…………….

Workers, Landlords & Capitalists……………..…………………………………………………………………………9

Questions In Regards To The Theory Of Rent;

(A) What Is ‘A Grade’

Land?........................................................................................................................10
(B) What Happened To Returns When ‘B’ Land Came Into
Use?......................................................................................................................... 10
(C) What factors Kept Wages At A Subsistence
Level?....................................................................................................................... 10
(D) What Was The Equillibrium Of ‘A’ And ‘B’ Grade Lands?
…………………………………………………………………………………………..…………….…...… 10
(E) What Happened When ‘C’ Grade Land Became
Cultivated?............................................................................................................... 10
(F) How Was The Distribution Of Income
Changed?................................................................................................................. 10
(G) When Was The Stationary State
Reached?................................................................................................................. 10

Discussion Questions About Economic Rent…………………………………………………........11

Definition Of Economic Rent………………………………………………………………….………......11

Modern Examples Of Economic Rent………………………………………………………….……….12

Theory Of Comparative Costs And How It Relates To Free Trade…………………........13

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 By Thomas Nassif, Peter Ryan,
Anantnath Thakur & Jake Davis

Critics Of The Classical Tradition………………………………………………………………………14 - 16

Introduction
This booklet provides an insight into the economic theories of Adam Smith,
David Ricardo, Karl Marx and Thomas Malthus and explores the classical
foundation of economic ideas, thus forming a preface to modern economic
theory. It describes several important theories, such as Malthus’ Theory of
Population, Marx’s Theory of Surplus Value and Ricardo’s Theory of Rent, also
explaining the meaning of several key terms necessary for the understanding of
this topic including Utopian Socialism, Marxian Socialism and Hegelian
Philosophy.

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 By Thomas Nassif, Peter Ryan,
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1. Outline Malthus’ Theory of Population.

Malthus' six editions of his famous treatise 'An Essay

on the Principle of Population' (1798) put forth his
thoughts and his Theory of Population.
Influenced by the ideas of his father and his friends,
Malthus developed his thoughts about future
improvement of society.
The first edition of his treatise put forward his views
that opposed the belief of optimistic population
growth in England. England had experienced a steep
increase in its population during the Industrial
Revolution.
While some scholars believed that both man and
society could be made perfect, Malthus viewed
overpopulation as something that would reduce the amount of food available for everyone.

His theory was based on the thought that the power of population is much greater than the
power of the earth to provide resources for
man. He thought that, when unchecked,
population would grow and overtake food
supply, stating that population increases
geometrically, (e.g. 1, 2, 4, 8, 16…) while
food supply increases arithmetically (e.g. 1,
2, 3, 4, 5, 6).
According to Malthus, disease, food
shortage and death were nature's way to
control population, proposing that human
beings adopt measures to check population
growth.

Malthus believed that human society could never be perfected. He saw that man would work
minimally if enough food was available.
However, as soon as the constraints in food
supply due to an increase in population were
felt, he would again work hard to provide
enough food, leading to an increase in
agricultural production to provide for all.
However, at the same time, man would become

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complacent again, when all his needs were being fulfilled. Therefore, the cycle of
overpopulation and food shortage would start all over again.
2. Describe The Law Of Diminishing Returns As Outlined By Malthus.
Malthus' view on the arithmetic growth in food supplies was based on the Law of
Diminishing Returns - also developed by David Ricardo

In modern form, this is the law of Variable

Proportions:

Malthus' View:
x Kilos of Seeds x Tonnes of Wheat
 
1 1 As population grows, the need for food grows, cultivation
extends to less fertile (marginal) land and output per
2 1.5 acre/hectares diminishes.
3 1.7
This differs from modern theory in 2Commodity:
ways namely,
A raw material or
4 1.8 primary agricultural product
 That no one factor is held constant
that can be bought and sold,
such as copper or coffee.
 That is applied only to agriculture
 
The law of diminishing returns or principle of diminishing marginal productivity, is
an economic law stating that if one input in the production of a commodity is increased while
all other inputs are held fixed, a point will eventually be reached at which additions of the
input yield progressively smaller, or diminishing, increases in output.
In the classic example of the law, a farmer who owns a given acreage of land will find that a
certain number of labourers will yield the maximum output per worker. If he should hire more
workers, the combination of land and labour would be less efficient because the proportional
increase in the overall output would be less than the expansion of the labour force. The output
per worker would therefore fall. This rule holds in any process of production unless the
technique of production also changes.
In factory terms, hiring more workers in the same factory will produce marginally decreasing
benefits if all the other sectors of the factory remain the same. This is because workers would
need to line up to use machines, and the factory would become overcrowded.
However, Malthus’s theory doesn’t mention the fact that at a certain point, returns would
become negative. This is because, taking the factory example, more workers demand the
same wage, even though the benefit from them gets exponentially smaller. Therefore, one can
conclude that negative returns begin when the cost of one factor of production outweighs the
benefit to be gained from this same factor of production if none of the other factors are
changed.
Early economists, neglecting the possibility of scientific and technical progress that would
improve the means of production, used the law of diminishing returns to predict that as
population expanded in the world, output per head would fall, to the point where the level of
misery would keep the population from increasing further. In stagnant economies, where
techniques of production have not changed for long periods, this effect is clearly seen. In
progressive economies, on the other hand, technical advances have succeeded in more than
offsetting this factor and in raising the standard of living in spite of rising populations.

3. Why Is The Law Of Variable Proportions’ A Better Description?

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Malthus’s theory is called the Theory of Diminishing Returns

This theory states that:

 If the amount of one factor of

production is increased while all
others remain the same, the
benefit to be gained begins
diminishing. This diminishing of
returns continues until the
ultimate result is a lower per-unit
return than originally yielded.

For Example:

 If 1 kg of seed produces 1 tonne of grain on a field, then an additional kilogram of

seed would not yield an additional tonne of grain. In effect, 2 kilos of seed might
create 1.5 tonnes of grain instead of 2, and 3 kilos of seed might produce 1.7 tonnes
of grain instead of 3.Therefore, for maximum profit to be achieved, factors of
production have to be increased in tandem with each other.

This can be simply stated as:

If a production factor is increased, its marginal product may initially increase but will
ultimately decrease.

This Law Can Be Described In Three Stages:

 [1] The stage of increasing returns {where total product increases at an increasing
rate}.

 [2] The stage of diminishing returns {where total product continues to increase,
however, at a slower rate}.

 [3]The stage of negative returns {where total production declines}.

Recently, The Law Of Diminishing Returns has been renamed The Law of Variable
Proportions.

This is a better description as the

original name involves neglect for
the first and third stages it describes.
This apparent problem is ‘solved’ by
the inclusion of the law’s subject,
varying proportions.

4. How Does The Classical Version

Differ From The Modern Version
Of Diminishing Returns?

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The classical version of the Law of

Diminishing Returns did not depend upon the
way factors were combined but hinged on the
uneven quality of land. As population growth
increased, so did the demand for foodstuffs,
forcing cultivation to be extended to less fertile
land.

Obviously, this less fertile land produced less

food per acre than fertile land, therefore,
causing the output to diminish. This is often
referred to as the extensive version of the law.

This classical version differs from the law’s modern concept. We now think of the
law in the following way:
“If all factors of production save one are held constant, the increments to output
obtainable from the addition of successive units of a variable factor, will, beyond a
certain point, diminish".
In this form the law looks at the behaviour of output as the proportions of the factors
(usually capital and labour) are varied. This is often referred to as the intensive
version of the law.

The classical and modern versions of the Law of Diminishing Returns are very
similar; however, there are two main differences.
They are:
 The classical version did not depend on the existence of a fixed factor of
production. Instead the argument was presented in the context of change;
- It was a dynamic not a static phenomenon.
 For most classical economists the law only applied to agricultural production
and not to manufacturing. They anticipated that, in manufacturing, the basic
instruments of production would be multiplied without natural limit.
The modern version of the law is not specific to any area of production but applies to
all situations in which a fixed factor of production is present.

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5. Briefly Outline Ricardo’s Theory of Rent.

Ricardo’s theory of rent, formulated in 1908, is

among the most important and firmly
established principles of economics.
Ricardo defined rent as “the difference between
the produce obtained by the employment of two
equal quantities of capital and labour.”
The Law of Rent states that the rent of land is
equal to the economic advantage obtained by
putting that land to its most productive capability,
relative to the advantage obtained by using
marginal land for the same purpose, given the
inputs of labour and capital.

Ricardo proved this through the example:

 “If population is small enough so that
only "Grade A" land is used there is no
rent so long as further land of the same grade is available. But if population
grows to a point where some will have to live on "Grade B" land, then rent
will have to be paid to the holders of the best land.” In Ricardo's model, rent
would then be equal to the differences in product caused by the difference in
the fertility of the soil.
The Law of Rent makes clear that the landowner has no role in setting land rents, and
simply appropriates the additional production that more advantageous sites make
possible, compared to marginal sites.

From this diagram, we can see that only the A-grade land has rent as people pay
it for the better quality of land.
The B-grade land still gains profit if it is used but will not earn rent as it is not
the best quality of land. Both lands have wages to pay for the workers.

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6. In Ricardian Terms, Distinguish Between Workers, Landlords And Capitalists.

Landowners and landlords naturally resented imports because they depressed prices
and profits from their own grains. 
The landlords held the advantageous position, through the struggle of competing
capitalists, and the economic plight of the worker, David Ricardo envisioned an
unpromising future for capitalism.
To Adam Smith, society appeared balanced and harmonious, but, to Ricardo, society
was a bitterly competitive contest. Instead of raising the family standard of living
conditions when wages rose, the worker produced more children and thereby
increased the labour supply, offsetting the tendency for wages to rise as the supply
met and exceeded the demand for workers. Thus, the worker was doomed to gain no
more than a subsistence level of wages. 
As for capitalists, Ricardo saw them
as eternally seeking profits but
engaged all the while in fierce
competition with other capitalists.
This situation naturally reduced
profits. Worse, the capitalist was
further squeezed by the landlord
because profits depended largely on
the amount of wages which had to be
paid, and the high price of grain
always resulted in high food prices,
which led to higher wages. While
Ricardo considered the roles of the
worker and the capitalist in the
market system to be legitimate, he
saw the landlord as a villain.
Rent in the 19th century was not controlled or restricted by free competition because land
did not change hands. Thus, Ricardo viewed land as a monopoly. As the economy
progressed and the population increased, more farming was needed to meet the increased
demand for grain necessary to feed that population. This situation pushed the selling price
of grain up and increased the income of the landlord. Thus the capitalist, who paid
increased wages to the workers to enable them to live, also suffered.
Therefore, concluded Ricardo, of the three parties in this bitter struggle—Worker,
Capitalist, and Landlord—only the landlord profited. 
As to the future, it held little promise as the worker was doomed to a subsistence wage
because of his growing family, and the Capitalist had his profits gobbled up by the
landlord.

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7. Some Questions That Can Be Asked In Regards To “Theory Of Rent”

(A) What Was ‘A Grade’ Land?

A grade land was the original grade of land, usually the most fertile
and used before population required a larger food source.

(B) What Happened To Returns On ‘A Grade’ Land When B Grade

Land Came Into Use?
When B grade land came into use, the output and rent on A grade
land is increased, therefore the landlords of A grade land are able to
extract extra profits until the value of the lands are at the same level
as B grade land.
(C) What Factors Kept Wages At Subsistence Level?
The amount of profit and output from the B- grade land is distributed to worker in the
form of wages and capitalists in the form of profits. Ricardo argues that, because the land
is in abundance no rent would accrue to the B grade land.
Therefore, the amount of wages paid to workers would only be sufficient to cover for
their own subsistence and needs, and the surplus would then become a profit.
It also states that Ricardo believed that population are a contributing factor that would
keep wages at the subsistence level. This idea is referred to as the law of wages.
(D) What Was The Equilibrium Between ‘A’ and ‘B’ Grade Land?
An equilibrium is reached when the landlords would be able to extract a rent that reduced
the profits on the A grade land and place them into the level of those on the B grade land.
As long as profits can be made on A grade land, capitalists would need to be prepared to
pay higher rents. So then, equilibrium would be reached when there is no advantage for
the capitalist to move from one grade of land to another.
(E) What Happened When ‘C Grade’ Land Came Into Cultivation?
With the introduction of C grade land, the economic rents of B grade land is raised by an
amount namely x. As a result, the rent of A grade land is also raised, usually 2x.
Therefore, C grade land is a no rent land as it is cultivated at the margin.
A grade land > B grade land > C grade land.
(F) How Was The Distribution Of The Income Changed In The Above Example?
There are 3 grades of land like the above example. On A grade land, wages would be paid,
but the remaining money earned (or described as output) would be distributed in the form of
profits and rent. This means that landlords would be able to extract a specific amount of
money which reduces the output to the level of those on the B grade land, meaning they are
able to earn more money.
Furthermore, the same rule applies to B grade land landlords, the wages would be paid and
the remaining output would be distributed as profits. The landlords of B grade land do not
have as much profit as A grade land owners but are still able to earn an extra amount of
money.

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On C grade land however, wages use up all of the output, with no remaining money to be
distributed as profits. This means C grade land is the marginal land.

8. Discussion Questions In Regard To Economic Rent.

Grades of Land Yield in Quintals per Price per Quintal ($) Total Return ($)
Acre
A 50 50 2500
B 35 60 2100
C 20 70 1400
D 15 80 1200

(A) From the above table we can see that A grade land was the land which yielded the most
product (i.e. A grade land was the original grade of land, usually the most fertile and used
before the larger population required a larger food source)

(B) When B grade land came into use the output and rent on A grade land increased which
meant that the landlords of A grade land were able to extract more profits so that the
value of their lands is equal to that of the B grade land.

(C) Landlord- A person who rents land, a building, or an apartment to a tenant or tenants.
Capitalist- A wealthy person who uses money to invest in trade and industry for profit in
accordance with the principles of capitalism.

9. Define Economic Rent.

Economic rent is a term used to describe an excess payment made to or for a factor of
production over and above the amount expected by the owner.
In other words, the owner of a certain product is given a larger sum of money than what
the product is actually worth.
Economic rent is the positive difference
between the actual payment made for a factor
of production to its owner and the payment
level expected by the owner.
The existence of economic rent is due to
limited products or special services, (i.e., the
scarcity or exclusiveness of a product raises
the value of a product whether that product is
land, labour or capital). Economic rent is an
imperfection in the market; it would not exist
if the market was perfect since competitive
prices would drive down prices.

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Economic rent should not be confused with the more commonly used term rent which
refers to the payment made for the temporary use of an asset or property.
10. Identify Modern Examples Of Economic Rent.

Seeing as economic rent arises from conditions of exclusivity or scarcity the concept
can be used to demonstrate many pricing discrepancies in our current society.
These differences range from the higher pay for unionized workers compared to non-
unionized workers, to the huge salaries made by a star athlete or sportsperson versus
an average individual.
A good example of economic rent would be a worker who is willing to work for $15
per hour but receives $18 per hour for the same job because he/she belongs in a union.
The difference of $3 is economic rent.
We can also find examples of economic rent in various other jobs such as:
 Lawyers
 Miners
 Waste Disposal Workers
Seeing as these jobs are specialised, they receive higher pay or, in the case of
a lawyer, more money is offered for the choice of a better lawyer.

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11. Briefly Outline The Theory Of Comparative Costs And How It Affects Free
Trade.

Comparative cost, or comparative

advantage,
Is the theory that refers to how a person or
country can produce a good or service at a
lower cost than the other person or country.

The person that is able to produce a good or

service more efficiently is then able to sell the
surplus to another person. This person
benefits as a result seeing as they are able to
get rid of their surplus, and make a profit
from it at the same time.
In the case of trade between countries this
process also helps to boost the economy of the country with whom the trade has been
made. The country/person which buys from the other country/person which is able to
produce the good more efficiently is able to acquire goods/services that they find hard to
produce, and instead of trying harder to produce it, they are able to buy it.
For example;

 If using machinery, a worker in one country can produce both shoes and shirts
at 6 per hour, and a worker in a country with less machinery can produce
either 2 shoes or 4 shirts in an hour, each country can gain from trade because
their internal trade-offs between shoes and shirts are different.
The less-efficient country has a comparative advantage in shirts, so it finds it more efficient
to produce shirts and trade them to the more-efficient country for shoes.
Without trade, its opportunity cost per shoe was 2 shirts; by trading, its cost per shoe can
reduce to as low as 1 shirt depending on how much trade occurs (since the more-efficient
country has a 1:1 trade-off).

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The more-efficient
country has a
comparative advantage
in shoes, so it can gain
in efficiency by moving
some workers from
shirt-production to
shoe-production and
trading some shoes for
shirts. Without trade,
its cost to make a shirt
was 1 shoe; by trading,
its cost per shirt can go
as low as 1/2 shoe
depending on how much trade occurs.

Critics of the Classical Tradition

12. Briefly Describe The Following

Utopian Socialism-
 Socialism achieved by the moral persuasion of capitalists to surrender the
means of production peacefully to the people.

Hegelianism-

 A collective term for schools of thought

following or referring to G. W. F. Hegel's
philosophy which can be summed up by the
dictum that "the rational alone is real", which
means that all reality is capable of being
expressed in rational categories. His goal was to
reduce reality to a more synthetic unity within
the system of transcendental idealism.

The theory of Surplus Value-

 A concept illustrated by the economist Karl Marx.

 The Theory comprises mainly of the profit an employer indirectly receives

from his employee. The 'Surplus' that the employer receives is based on how
much effort the employee puts in to earn money for the company.

For Example;

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 An employee works at a shoe factory for $14/h.

 During that hour, the employee could make a lot of shoes, each of which
would go on to sell for $20 each.

 If the employee
made 4 shoes
(worth $80
altogether) in that
hour he/she would
only get $14 for
that hour while the
employer would
receive the $64,
with the exception
of the costs for the
machines and tools
needed to produce
the shoes.

 This is the main

idea behind “The Theory of Surplus Value.”

Marxian Socialism-

 Commonly referred to Marxism, it is an

economic and social system based upon the
works of Karl Marx and Friedrich Engels.

 Marxian socialism revolves around the theory

that class struggles have shaped history and
that every society has three stages. It states
that once Feudalism, where people work the
land for higher classes falls, and transitions
into Capitalism, the capitalist system will
eventually fall as a result of their supposedly
eventual exploitation and oppression through
a mass revolution; dictating that….

 Society will take a final transition into a

system of Socialism or Communism where
everyone is equal.

The Critical Ratios-

 Consist of three important ratios that describe the capitalist system viewed
by Karl Marx.

1. S/V is the ratio of surplus value (the amount of money after a worker's labour is
taken away from a product's costs) compared to variable capital (how much the

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worker is being paid). This ratio was described by Marx as the rate of surplus
value or the 'rate of exploitation'.

2. C/V is the constant capital (investment in machinery and materials) to variable

capital (workers' labour costs) ratio. This ratio was labelled as the 'organic
composition of capital'.

3. S/(C+V) is the ratio of surplus value to the sum of constant and variable capital.
The surplus value is how much the capitalist profits by, and C+V is how much he
has invested into the business that is earning him this profit.

This ratio is also referred to as the “Rate of Profit.”

Falling Rate of Profit-

 This was part of Marx's dynamic analysis of capitalism. To him, surplus value
could only be produced by labour, and not machines.
 A lowering of subsistence wage would increase the Surplus Value. Unless
capitalists could find ways to increase the rate of
profit, S (C+V) or it would end up as a loss.
 Therefore, the term Falling Rate of Profit was
coined.
The countervailing forces that Marx identified were:
 Increased exploitation by increasing work time or
speeding up working process.
 Lowering wages
 Materials and Capitals become cheaper.
13. In Marxian Terms Discuss What Was Meant By The
“Crisis Of Capitalism.”

Karl Marx was the first to create a model of

the trade cycle of capitalism.
He believed that capitalism was characterised
by falls and rises. He saw through his model
that every time there was a slump/depression,
it would be more severe than the last, causing
a crisis in that one day there will be an
extremely heavy depression which the world
cannot recover from.
This would be caused by the falling rate of
profit. The falling rate of profit was a result of capitalists having to invest large
amounts of capital to keep up with competition. However, as more capital is invested,
more money is used to produce the same products with the same price.
This leads to a fall in surplus, which results in loss of profits. Loss of profits also
occurred as accumulated capital resulted in a higher demand for labour, raising wages
and reducing profits.

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