The question arises of why proprietors, but not laborers, earn profit. At prevailing prices, labor can yield a surplus over subsistence costs in many industries. Classical economists tried to answer the question: Where does profit come from? Their answer was that it came from labor. In 1776 Adam Smith, in The Wealth of Nations, observed that with expansion of production and trade, enterprises were making profits over long periods of time, although they either had nothing to do with agriculture or else as agricultural enterprises. The classical "labor theory of value" was an innovative theory in response to the physiocratic doctrine that only land could yield surplus. One consequence of this work in environmental economics is that natural resource accounting increasingly resembles capital accounting. In 1989 Herman Daly and Jonathan Cobb, in For the Common Good, distinguished between nonrenewable resources that are consumed or depreciate irretrievably, and renewable resources where the rate of natural renewal is important. Long thought of as a self-sustaining input, land might depreciate just like produced assets do. Their theory is based on the possibility of substituting among factors to design alternative production methods, whereby the optimal production method allocates all the factors to equalize their marginal productivity with their marginal costs. Marginalists held that any factor of production could be scarce. Marginal productivity is the extra output obtained by extending a constant amount of labor and capital over an additional unit of land of uniform quality. It declares that rent reflects the marginal productivity of land -not, as with Ricardo, the productivity of good versus marginal land. Marginalism, as expounded in 1899 by John Bates Clark in The Distribution of Wealth, takes a different approach. The classical economists assumed only land -understood as natural resources -could be scarce in the long term. Ricardo saw rent as coming from differences in land quality (including accessibility) and scarcity. This worst land yields no rent -as long as some of it remains unused -and rent collected on better land is simply its yield in excess of that on the worst land. The value of a crop depends on the labor required to produce it on the worst land under cultivation. In 1821 David Ricardo, in The Principles of Political Economy and Taxation, stated what came to be known as the classical view: that rent reflects scarcity of good land. They recommended taxes on land as the only sound way to raise revenue and land-grabbing as the best means to increase the government's revenue base. Thus the physiocrats explained land rent as coming from surplus produced by the land. Only in agriculture, due to soil fertility and other gifts of nature, could a laborer palpably produce more than required to cover subsistence and other costs, so only in agriculture could proprietors collect surplus. In the same way, what they produced outside of agriculture fetched enough to cover only their wages and input costs with no margin for profit. In their view, laborers and artisans were powerless and in excess supply, and hence they earned on average only a subsistence-level income. It is intended to represent the contribution to production of nonhuman resources as found in their original, unimproved form.įor the French physiocrats led by Francois Quesnay in the 1750s and 1760s, land was the only factor yielding a reliable gain to its owner. This category sometimes extends over all natural resources. One intuitive basis for the classification of the factors of production is the manner of payment for their services: rent for land, wages for labor, interest for capital, and profit for entrepreneurship. A major conceptual application is in the theory of production functions. These include models purporting to explain growth, value, choice of production method, income distribution, and social classes. The factor concept is used to construct models illustrating general features of the economic process without getting caught up in inessential details. Entrepreneurship is a fairly recent addition. Before the twentieth century, only three factors making up the classical triad were recognized: land, labor, and capital. However, economists seek to classify all inputs into a few broad categories, so standard usage refers to the categories themselves as factors. Of course, in a literal sense anything contributing to the productive process is a factor of production. Land, labor, capital, and entrepreneurship: These are four generally recognized factors of production.
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