Chapter 28: Problem 4

The possibility of carning economic rent is great if (LO5) a) the supply of a factor is very high relative to demand b) the demand for a factor is very high relative to supply c) both demand for a factor and supply of a factor are high d) both demand for a factor and supply of a factor are low

Short Answer

Expert verified

The possibility of earning a high economic rent is great if the demand for a factor is very high relative to its supply (option b). This is because the high demand and limited supply create competition among those seeking the factor, leading to increased actual payment for that factor, which would more likely be higher than the minimum required.

Step by step solution

Understand Economic Rent

Economic rent is typically the difference between the actual payment made to a factor of production, such as labor or land, and the minimum payment needed to bring that factor into use. In this context, earning a high economic rent would mean that the actual payment is much higher than the minimum required.

Option (a): High supply relative to demand

If the supply of a factor is very high relative to its demand, there will be many available options to choose from for that factor, resulting in competition among suppliers. In such a scenario, the actual payment would more likely be closer to the minimum required and may not be much higher. Therefore, the possibility of earning a high economic rent is not great in this case.

Option (b): High demand relative to supply

If the demand for a factor is very high relative to its supply, it means there are fewer options available to meet the high demand. This would create competition among those seeking the factor, leading to increased actual payment for that factor. In this case, the actual payment would more likely be higher than the minimum required, resulting in a greater possibility of earning a high economic rent.

Option (c): High demand and high supply

If both the demand and supply for a factor are high, there could be a balance, and the actual payment may or may not be much higher than the minimum required. This scenario does not provide a clear indication of the possibility of earning a high economic rent.

Option (d): Low demand and low supply

If both the demand and supply for a factor are low, it indicates that there isn't much interest in the factor, as well as a lack of availability. Such a situation would not provide enough information to determine the possibility of earning a high economic rent, leaving the possibility uncertain.

Conclusion

Based on the analysis of each option, the possibility of earning a high economic rent is great if the demand for a factor is very high relative to supply (option b).

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Key Concepts

These are the key concepts you need to understand to accurately answer the question.

Factors of Production

To deeply understand economic rent, it's essential to grasp the concept of factors of production. These are the resources used in the creation of goods and services and are traditionally categorized into land, labor, capital, and entrepreneurship. Each factor has a unique role: land provides the raw materials, labor contributes human effort, capital includes tools and machinery, and entrepreneurship drives innovation and manages resources.

When discussing economic rent, it's usually tied to the scarcity and exclusivity of these factors. For instance, a parcel of land in a prime location can command high economic rent due to its limited availability and high desirability. Likewise, a highly skilled workforce might be in short supply but high demand, leading to increased wages, which is reflective of their economic rent. Thus, understanding the interplay of these factors in production can elucidate the dynamics of income distribution and value within an economy.

Supply and Demand

The concept of supply and demand is foundational to economics and is used to determine prices in the market. Supply represents how much the market can offer, while demand indicates how much of a product or good is desired by buyers. The law of supply and demand dictates that a low supply and high demand increase price, whereas the greater the supply and the lower the demand, the lower the price will be.

In the context of economic rent, supply, and demand are critical. High demand for a factor of production coupled with low supply typically leads to increased competition among buyers, pushing the price above the minimum payment needed to bring the factor into use. Therefore, a factor owner can earn significant economic rent. Conversely, if the supply is too high relative to demand, prices tend to drop, minimizing economic rent. An optimal understanding of how supply and demand impact economic rent can provide valuable insights into labor economics and investment strategies.

Labor Economics

Labor economics is a branch dedicated to understanding the workings and dynamics of the labor force, a primary factor of production. It encompasses the supply and demand for labor, wage determination, job allocation, and the functioning of labor markets. A key element of labor economics is the concept of wages as a form of economic rent.

Wages are influenced by the rarity of specific skills or qualifications, the demand for those skills, the elasticity of labor supply, and the alternatives available to workers. For example, a specialist surgeon commands high economic rent due to the lengthy training, skill rarity, and high demand for their expertise. In contrast, unskilled labor may attract minimum wage as there is an abundant supply and low specialist skills. Labor economics helps explain why certain jobs pay more and others less, and it's at the heart of understanding income inequality, job satisfaction, and workforce trends.