Natural Rates of Wages, Profit, and Rent - Essay Example

Compare and Contrast the Views of Smith and Ricardo on the Determination and Possible Evolution over Time of the Natural Rates of Wages, Profit and Rent Table of Contents Introduction 3 Viewpoints of Adam Smith 4 Viewpoints of David Ricardo 6 Comparison of the Viewpoints between Smith and Ricardo 8 Conclusion 10 References 12 Introduction The determination and the possible evolution over time of the “natural prices of rent”, “natural profits” and “natural wages” can be related with the study of classical economics concentrating on the growth of economies. The “natural rates” of rents, profits and wages are fundamentally determined with the interaction between demand as well as supply which further specifies the production function. It has been apparently observed that the “natural prices” of rents, profits and wages are present in every community as well as in every different employment segment. It is worth mentioning that the “natural prices” of the aforementioned criteria, i.e. profits, wages and rents are further examined to fluctuate in accordance with the varied circumstances in the job market scenario. According to the viewpoints of various economists, it has been noted that the “natural rates” of rent, profit and wages are likely to be continuously changing due to the presence of a huge number of buyers as well as sellers and also because of the increasing market competition. Subsequently, various theories have been developed in order to examine the determinants of production function in an economy which is further believed to steer the overall growth rate in that particular nation1. Among the commonly applied theories, the most influential and certainly the most debated theories have been the growth theory of Adam Smith and David Ricardo. In this paper, the views of two economists i.e. Adam Smith and David Ricardo upon the subject matter of the determination as well as the possible evolution over time of the “natural rates” of rents, wages and profits will be analysed and compared. Viewpoints of Adam Smith Adam Smith, the world renowned economist and philosophist of the 1770s, stated that the conception of “natural rate” is principally described as the price which is offered to any particular commodity in order to yield a significant portion of revenue. As per the growth theory of Adam Smith, governments play an imperative role in the determination as well the possible evolution of the “natural rates” of wages, profit and rent over time. In this similar context, Smith strongly believed that the government of any particular nation must enforce effective contracts and simultaneously grant copyrights as well as patents for the purpose of promoting new inventions and innovative ideas which can assist in greater capital accumulation within the nation, resulting in the increased wealth of the economy and therefore influencing the “natural rates”. Moreover, the government should deliver ‘public works’ that include the construction of bridges and roads among others with the intention of promoting business trade by a greater extent facilitating labour growth and thus, influencing the “natural rates” of wages. Hence, it can be apparently observed that in his theory of growth, Smith emphasised that roles played by the government are quite likely to impose considerable impacts upon determining the “natural rates” of rent, profit and wages. Based on this particular context, it can be apparently observed that Smith considered certain important thoughts while determining the natural rates. Stating precisely, Smith’s thoughts include the formation of laissez-faire environment, principally focusing upon the ideas of capitalism. Smith regarded the notion of laissez-faire government as a circumstance deciphering minimum degree of government interventions. In this regard, Smith realised that the different market forces ensure the production of commodities that ultimately affect the “natural rates” of rent, wages and profit2. As per the observations made by Smith, the establishment of a laissez-faire political environment with limited government intervention would ultimately give rise to free-market economy that is quite likely to impose extensive impacts upon determining the “natural rates” of wages, rent and profits in the nation. This is owing to the reason that with the establishment of free-market economy, the market competition will increase at large where the producers would intend to sell their respective products at lower costs and thus attain minimal profits influencing its “natural rates”. Additionally, as market competition is assumed to have direct and strong effects on the labour growth, such governmental structure can also make the “natural rates” of wages more fluctuating. Contextually, the views of Smith specified that a monopoly system within the economy can broadly affect the “natural rates” of rent, profit and wage. However, with a monopoly system enforced within the economy, the businesses are more likely to keep the business market incessantly under-stocked in order to sell different products in excess of the natural prices and attain huge profits. Smith’s theory concerning capitalism also provided an idea towards the determination as well as the probable evolution of the “natural rates” of rent, profit as well as wages over time. In this similar concern, Smith viewed that the capital required for the production function and consequently for the effective allocation of wealth in the nation, could work most efficiently given the limited government interference. According to Smith, limited governmental interferences can largely promote the business operations of various commercial as well as private enterprises and can also maximise the financial well-being of the community2. Thus, on the basis of the above discussion, it can be stated that Smith fundamentally considered the formation of laissez-faire environment and the idea of capitalism to impose considerable impacts upon the determination and the probable evolution of the “natural rates” of rent, wages and profit over time. Viewpoints of David Ricardo Based on a similar context, the perceptions of David Ricardo have been viewed to be quite dissimilar from the viewpoints of the Adam Smith concerning the determination of “natural rates” for rent, profit and wages. When assessing David Ricardo’s growth theory, it can be observed that he considered certain important theoretical aspects that included the concept of relative prices and exchange value while determining the “natural rates”. From the perspective of the theory relating to exchange value, Ricardo realised the significance of exchange value in determining the “natural rates” of rent, profit along with wages within a given economic context. According to the viewpoints of Ricardo, a particular commodity must possess an exchange value with the change in quantity of labours along with other charges involved in its manufacturing process. As the concept of labour costs are considered to be related with wages and the production function to be linked with profits, Ricardo explained the theory of exchange value as one of the imperative determinants for the changes witnessed in the “natural rates” of rent, profit and wages3. As per the observation made by Ricardo, it has been viewed that exchange value of a particular commodity or product does not primarily depend upon wages; it actually depends upon labour. Moreover, Ricardo also recognised that there exist an inverse association between profit and wages and thus a transformation particularly in wages does not principally alter its exchange value by a greater degree. With regard to the theory of relative price, Ricardo revealed that the relative prices of commodities principally depend upon demand fluctuations as well as short-term supply functions that tend to impose extensive impacts upon the determination of natural prices of rent, profit and wages. Additionally, Ricardo identified that an inverse association between profits and wages relating to relative price. Thus, any alteration particularly in the “natural rates” of profits would not significantly change the relative price of the products. In relation to determine the “natural rates” of rent, Ricardo noted that as the population of the entire world is augmenting at a rapid rate, the demand for food and other basic products is also rising by a greater degree. Hence, as per Ricardo’s theory, a direct relationship persists between the “natural rates” of rent, wages and profit within an economic context3. According to Ricardo, the “natural rates” for rents generally increase due to the hikes in the food prices and simultaneously, the “natural rates” of wages also elevate due to the moving up of the food prices. These alterations in the “natural rates” of rents and wages ultimately results in a surge of “natural rates” of profits in the nation. Apart from considering the aforementioned aspects based on the theories relating to exchange value along with relative prices, Ricardo also considered the theory of comparative costs in order to determine the “natural rates” of rent, profit and wages. In this similar context, it has been observed that Ricardo viewed the ‘theory of comparative costs’ as the law governing comparative advantages which can be further linked with the determination of “natural rates” of rent, profit and wages. With regard to the theory of comparative costs, Ricardo strongly believed that both labour as well as capital can be taken into concern when determining the “natural rates” for the aforesaid criteria as they involve huge costs. Contextually, Ricardo’s theory of comparative costs assumes that the absolute difference in the costs ultimately enables trade to take place Stating precisely, according to Ricardo, the two important aspects relating to the theory of comparative costs which tend to support the determination of the “natural rates” of profit, rent along with wages, are labour and capital3. Comparison of the Viewpoints between Smith and Ricardo After acquiring a brief idea about the viewpoints of the two economists, i.e. Adam Smith and David Ricardo regarding the determination and the possible evolution of the “natural rates” of rent, profit and wages, it can be stated that both these economists possess dissimilar standpoints about the aforementioned subject matter. In this regard, one of the most apparent differences identified between Smith and Ricardo was the consideration of different theoretical aspects. To be mentioned, Adam Smith generally considers the ideas of capitalism and the formation of laissez-faire political environment that helps to determine the “natural rates” of rent, profit and wages. Whereas, David Ricardo considered various theoretical aspects relating to comparative costs, relative prices of the products and exchange value when determining the “natural rates” of these attributes4. The other dissimilarity that has been recognised with reference to the standpoints explained by Smith and Ricardo can be illustrated with reference to their developed methods for determining the “natural rates” of rent, wages and profit. In this connection, it has been apparently observed that Smith emphasized upon various theories of value in order to assess the “natural rates” associated with rent, wages and profit. The theories include labour cost, production cost and labour command among others. Conversely, Ricardo remained much focused upon the theories relating to diminishing costs and distribution among others for evaluating the “natural rates” of rent, profit and wages. In the similar context, Smith recognised the factors that encompass non-governmental interferences, capitalism and rational mankind as the vital determinants of assessing the “natural rates” of rent, profit and wages. On the other hand, Ricardo viewed the factors of production as well as labour costs as the chief contributory aspects that play a decisive role in the determination of “natural rates” of rent, profit and wages by a greater degree4. Furthermore, Smith recognized the impacts caused by economic structure of the basis of market competition theories by explaining that monopoly as one of critical factors in imposing extensive impacts upon determining the “natural rates” of the aforementioned criteria. However, Ricardo was observed to be much focused on examining the factors such as demand fluctuations, short-term supply, increased population and rise in the food prices as the determinant factors of “natural rates’ of rent, profit and wages4. According to Ricardo, profits and wages are inversely related to each other due to extreme fluctuations in the business market. However, as per the observation of Smith, profits and wages are not inversely related to each other owing to the effects of a monopolistic market competition structure. As per the views explained by Smith, economic players tend to create monopoly within the market structure and once a monopoly is achieved, a direct relationship is confirmed between profits and wages. In this regard, Smith argued that profits and wages cannot be inversely related as the monopolists sell their respective commodities particularly at higher prices by making the business market under-stocked to a substantial extent. Finally, it can be stated that there also exist a crucial difference between the viewpoints of Smith and Ricardo regarding the theory linked with absolute and comparative costs. In this regard, Smith considered the theory relating to absolute costs which mainly deals with the production of various commodities. Whereas, Ricardo considered the theory in relation to comparative costs that generally deals with assessing the opportunity costs of the commodities4. Conclusion The determination of the “natural rates” of rent, profit and wages can be linked with the study of classical theories concentrating upon economic growth. It has been viewed that the natural prices of the aforementioned criteria is typically determined on the basis of business market fluctuations and can be observed in every economic dimension. In order to evaluate the differences in the viewpoints of Adam Smith and David Ricardo, it has been apparently observed that both these economists hold dissimilar perceptions concerning the determination of “natural rates” of wages, rent along with profits. To be illustrated, Smith generally considers different theories that include absolute comparative cost, market competition structure, production function and labour command in determining the “natural rates” of rent, profit and wages. Conversely, Ricardo considers the theories relating to exchange value, relative prices of the products and comparative costs for determining the “natural rates” of the aforesaid attributes. However, based on the economic learning that no market structure is perfect in deciphering a monopolistic structure or an oligopoly or a perfectly competitive industry environment, Smith’s view that monopoly shall drive the “natural rates” of rents, wages and profits can be argued as unrealistic. Thus, comparatively, the assumptions and the views explained by Ricardo can be considered as much valid when determining the possible evolution of the natural rates of wages, profit and rent over time. References Cottrell, A. ‘Smith on Natural Wages and Profits’, The Background, , No Date (accessed 11 February 2013). Kennedy, B. ‘Chapter Seven: The Classical School – David Ricardo’, The Currency Question, , No Date (accessed 11 February 2013). Paschke, D. ‘The Significance of Ricardos Contributions to the Classical Model. In Particular, the Notions of Ricardian Rent and Ricardos Development of the Theory of Value’, Introduction, , No Date (accessed 11 February 2013). Scribd Inc. ‘Introduction’, Documents, , 2013 (accessed 11 February 2013). Read More