David Ricardo 5

7/27/2019 David Ricardo 5

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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 PoliticalEconomy, 1836.

John Stuart Mill (1806-1873) Principle of PoliticalEconomy, 1848.

Karl Marx Capital, Volume I, 1867.


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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 SmithsWealth of Nation (1776), as the accepted bookon economic Qs.

Significant contribution to economictheory: methodology, theories of value,international trade, public finance,diminishing returns and rent.

Redirected economics away from the method andscope of economics advocated by Adam Smith.

DAVID RICARDO (1772-1823)


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Adam Smith (i) deductive theory (ii) a

descriptive, informal narrative of contemporary and

historical institutions. Blended theory with historicaldescriptive 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 oftariffs(importationgrain into England).

Strongly oriented toward policy.


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Economic problems of his time: rising grain prices?????, rising rents and the

relative growth of industry and relative decline ofagriculture ( structure England).

the policy question of free vs regulated internationaltrade.

The landlords wanted protection from foreignagricultural product, but many of the rising industrialistswere advocates of free trade, particularly for Britishindustries.

Adam Smith - concerned with the forcesdetermining the wealth of the nations.

Ricardo - the principal purpose of economics isto determine the laws that regulate thedistribution of income among

landlords, capitalists and laborers.


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To determine the laws which regulate thisdistribution (income) is the principal problems inPolitical Economy.

Observed - changes in the functional distribution of incomeover time in the system.

Economy of 3 main groups: capitalists receiving profit andinterest, landlords receiving rent and laborers receivingwages.

To explain changes in the shares received by the capitalists,landlords and laborers, he developed a theory explainingprofits, interest, rent and wages (at the microeconomic level ofeconomy).

Examined the forces causing changes in relativeprices over time. He was primarily concerned with the effectsof changes in income distribution on the rate of capitalaccumulation and economic growth.


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The capitalists perform the essential roles in the

economy the producers, directors and the mostimportant actors.

They contribute to an efficient allocation of

resources because they move their capital to the

areas of highest return.

Ifperfectly competition markets prevail,

consumer demands are met at the lowest possiblesocial cost.

They also initiate economic growth by saving andinvesting.

Ricardos Model


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Laboris 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 Malthusianpopulation 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 anincrease in population and hence in the laborforce.

Long-run equilibrium will exist when the labor forcehas increased sufficiently to return real wages to thesubsistence level (minimum level of well-being).


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Landlords are mere parasites.

The supply curve for land is perfectly elastic and thesocial opportunity cost of land is zero.

Landlords receive income, rent, merely for holdingfactors production without serving any socially useful

function.

Instead of saving and accumulating capital, thelandlords engaged in consumption spending.

The activities of the landowning were harmful to thegrowth and development of the emerging industrialsociety.


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Wealth & econ groups

the total output or gross revenue of the economy isdistributed to the Ls, Ks, & Lls.

The part of total output not used to pay labor atsubsistence wage and to replace the capital goodworn out is called net revenue of economic

surplus (Gross revenue (subsistence wage+depreciation) = net revenue).

Net revenue consists ofprofits, rents, and

wages over the subsistence level. In long-run equilibrium, wages will be at a

subsistence level and net revenue will equal profitsand rents.


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The workers and landlords spendentire income on consumption, so

profits are the only source of saving,or capital accumulation.


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A redistribution of income

favoring the landlord takesplace over time as profits

decrease and rents rise,

with a consequent reductionin the rate of economic

growth.


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Interest in the controversy of Corn Laws -regulations placing tariffs on the importation ofgrain into England.

Growing concern over the pressure of populationon the food supply.

Food price, rents, and investment in land wererising steadily.

High tariff would shift the distribution ofincome in favor of the landlords.

The period ofNapoleonic wars, artificiallyprotected British agriculture from continental grain& couple with inability agriculturally self-sufficient -rising grain prices & rents.


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Distribution of income over time

Rejected Smiths reasons:

i. Competion in L mkt w rises mustfall

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 inthe general P level. P falls when it is notpossible to sell at previous P & existence ofover production.


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Who are the sole

beneficiaries of long-rungrowth process????


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The Corn Laws imposed a flooron the priceof grain 50 shillings per quarter.

Landlords demanded a floor of 80 shilings perquarter prompted an extensive controversy.

Ricardo published pamphlets explaininghigher tariffs resulted in higher grainprices.

Higher tariff encourage greater Inv in agriculture,increased output supply & P fall.

Higher P of grain was the results ofhigher rents. Rents were price-determined & not a cost of production.


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Average prices (shillings perquarter 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


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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 profitsdeclines as rents increased.

Corn Laws accelerate the process of

redistribution of income toward thelandlord, slowing down economic growth &hastening the stationary state.


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Theory of Land Rent

Constant return in manufacturing and

diminishing returns in agriculture.

The coefficient of production for L and K werefixed by technological consideration.

Assume a fixed quantity of land & diminishingreturns begin immediately.

The quantity of land is fixed, thus increases in

demand will result in higher prices (rents) withno increase in quantity supplied.

The opportunity of land was zero.


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A B

Extensive Margin of Land

100

90

Bushels(wheat)


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Ricardo

Rents were price-determined

Rents were determined by Grain Price

Corn Laws or Adam SmithRents were price-determining

High price of grain was determined by

higher rentsRents determined Grain Prices


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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


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Assumptions

1. Labor cost theory explained changes in relativeprices o/t

2. Neutral Money - Prices.

3. Fixed coefficients of production for L & K to increaseQ, 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 , 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 .


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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 moreintensively, marginal physical product decreases,equivalent to say marginal cost increasesgrainprices rises.

Also, more less fertile land were utilized (extensivelyfarmed) relatively, fertile L is more expensive. Marginwas pushed down.

Opp cost of L is zero, in CM on different grades

of L is uniform.Rent is the payment to l/lord that will equalize

the on different grades of L (less fertilelower rent & more fertile higher rent)


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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 amajor part of L food budget.

W

Pop

demand for more food

increase grain prod demand for more Landdiminishing marginal returnrents & MC


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Rents were determined by Grain Prices.

Higher grain prices higher rents.

Grain prices is determined by labor costtheory.

SS curve is upward sloping reflectinghigher price as MC increases.


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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 toEngland.

Removing tariff capital acc I growth.

Protectionist: Removing tariff food Prices &w depressions.


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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 ofland of different fertility.

What is the qtty of L necessary to produce a bushel ofwheat????

The price of wheat depends upon the marginalcost of the wheat produced least efficient.

Price is determined at the margin & at the margin there isno rent.

Differing rents received by lands of differingquality will not influence changes in relativeprices over time.


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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, dependson the relative quantity of laborwhich isnecessary for its production, and not on the greater

or less compensation(wages) which is paidfor that labor.


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Ricardos 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 - perfectlyinelastic ss curve picture, books, coins, wines.

The value of these goods is independent of the qtty of Lused to produce them.*

Given a fixed inelastic ss curve, demand willdetermine price.

Excluded from Labor cost theory of value.


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Competitively Produced Goods

Freely reproducible commodities.

Manufacturing constant costs & agricultureincreasing costs.

Qtty of labor that determines relativeprices not the wages paid to labor.

Qtty of L is measured by clock hours & wagesmeasures relative productivity of labor.

Ifdiffering skills remain constant overtime, changes in the prices of goods will not be aresult of the wages paid to labor (????).


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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 aprevious period).

The qtty of L in a commodity produced by both K & L ismeasured by

qtty of L immediately applied + qtty of L stored inthe K goods (time equivalent of the deprec.)

e.g:100 hours of labor + 1 hour of labor

The explanation is not satisfactory.

David Ricardo 5

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