Monday, October 24, 2011

Time to resurrect an old idea: Economic Rent

Have you ever heard of the term “economic rent”?  No?  That’s probably because of the greatest political coup in the history of our republic.  In politics, true power comes – not from your argument – but from the ability to steer the conversation to what you want to talk about and away from what you don’t want to talk about.  The true elites in our society have continued “winning” the political debate by removing a very important concept from the political conversation.

I admit, reading the term,  “economic rent” can cause eyes to glaze over quickly.  A more accurate description is “unearned income”.  It is people and companies who make money by doing zero work and risk little or none of their own assets.

Taking Back Adam Smith and “Classic Liberalism”

Many conservative economists claim to be staunch followers of Adam Smith.  They shout slogans such as “Supply and Demand!”  “Capitalism”! “  “Let the markets work!”  However, for anyone who actually read Adam Smith, you would note that the “invisible hand” was not his only observation of the inner workings of capitalism.  Adam Smith recognized that many in the economy were making gobs of money, but weren’t contributing anything.  He was referring to what was eventually called “economic rent”.

Smith observed that all production required 3 things.  Land, Capital, and Labor.  A very simple example would be a brick factory.  The building and oven needed to create the bricks are the “capital” – the owners are the capitalists.  The people making the bricks is the “labor” – the people doing the actual work.  The Land the factory occupies and the clay used to make the bricks is the “land” – the owners of the land are the “Rentiers”.  Any money made by selling the bricks is then divided up between these three groups: the rentiers, the capitalists, and the workers.

Adam Smith observed that only 2 of the 3 groups made any real contribution to the production process.  The workers contributed their time.  The capitalists contributed their capital that they either bought, but is now used and worth less than before it was used.  The Rentiers contributed their land, but have lost nothing.  Once the manufacturing of the bricks is done, they get their land back and it is still worth the same as it was before.  Any income they made by renting out their land was made without work, and without risk to their assets.  There is a word for someone that only takes, but doesn’t give back: a parasite.  Smith and those who carried on his work used the nicer term, Rentier.  This is where the phrase “economic rent” originates.  It originally described a no value-ad landlord.

Adam Smith and future classical economists existed in a time where the noble families of medieval Europe were still the large landowners.  The nobles had just turned into Rentiers.  Because they owned the land, they were able to rent it out to capitalist and workers and claim a portion of their profits and wages by charging “rent”.  They were able to do this without ever working.  It was unearned income.

Much of the work done by economists from Adam Smith until the late 19th century was all about finding and identifying “rent-seeking”.  These classical economists didn’t want to overthrow capitalism, they wanted to free it from the “rent-seeking” parasites.

The Neoclassical School “loses” rent

Right before the turn of the 20th century a new school of economists appeared.  They were later named the Neoclassical school and it continues today.  When the transition from classical to neoclassical occurred, one of the things that was lost was the concept of “economic rent”.  The Neoclassicals started treating land and capital as the same thing and therefore interchangeable.  In a world without land, economic rent no longer makes sense.  Some would argue(e.g. Gaffney’s Neo-classical Economics as a Stratagem against Henry George – pdf) that this was intentional.  If it was intentional, it was the greatest coup of ideas the elite class came up with to justify their existence since The Divine Right of Kings.  On the other hand, It may have just been a simple intellectual decision based on their new approach to economics.  In any case, the decision to treat land and capital as the same, haunts us to this day.  If land is treated as capital then the concept of “rent” goes away and rentiers can masquerade as capitalists and cloak their unearned “rent” income as justifiable profit.

John Maynard Keynes blew away everybody and what they thought they knew about economics in the 20s and 30s.  In response to Keynesian economics, the neoclassical economists didn’t die, they decided to fight back.    Milton Friedman is the most famous of this group.  To fight against keynesian economics, he and his contemporaries tried to lay claim as resurrecting the classic school of economics that said “less government is good”.  They even called themselves New Classicals.  However, this “revival” of the classical economics was actual a revival of the neoclassical school.  They, like the neoclassicals before, again conflated capital and land.  Therefore, many modern economists no longer make a distinction between land and capital.  They group together income from rent and income from capital and call it profit. This school remains in the mainstream and therefore the concept of economic rent is no longer discussed in our politics.


In the late 60s and early 70s “economic rent” saw a small revival among select economists.  For those select few, “Rent-seeking” was no longer defined as just “ownership of the land”.  It can take several shapes.  Rent-seeking is any income that is unearned. An alternative definition is “profit without a corresponding cost of production”.  “Economic Rent” can come from ownership of land and just “renting” it out for money. It can also come from collecting so much capital that a firm now has a monopoly and can set the price independent of supplydemand considerations, It can be from government monopoly granting, control of other “land” like our rivers, broadband spectrum, or “mineral rights” of land.  It can come from control of financial assets like capital gains, dividends, and interest on loans(especially usury). It can also come from political favors from the government.

Political Implications

Economic rent was something I’d learned about in school several years ago and quickly forgot about it once the class was over.  Now in a post bank-bailout world, I ran across it again one day while researching another article, It was like a light-bulb going off in my head.  (A high-efficiency light bulb).  This is what progressives are currently fighting against.  This is the concept, the vocabulary, the name for the rage I feel in my gut at what’s happened.  The rentiers have taken over our country by masquerading as capitalists.
How did this happen?  It was simple, once the neoclassicals removed the entire concept of “rentier” from the economic, and eventually political, conversation. It was all capitalism and capitalists in their world.  Therefore, now when progressives rail against the unearned income of the rentiers, we lack the vocabulary to properly express what is happening.  Instead, conservatives try to make it look like liberals are railing against capitalism itself or against businesses in general.  In some cases we may even come to believe it ourselves.  Many times when we’re fighting against the “excesses of capitalism”, what we are actually fighting is parasitic rentiers that are hurting the true capitalists as much as the workers.
  • When a company has a monopoly and can charge whatever they want, that’s not being a capitalist, that’s being a “Rentier”.
  • When oil company’s make “windfall profits” as the price of oil goes up, that’s not profit, that’s “economic rent”.
  • When a drug company can keep the government from negotiating lower prices, that isn’t capitalism, that’s classic “rent-seeking” behavior.
  • 99% of the money made on wall street is nothing but pure rent-seeking.
  • Companies lobbying for tax loop holes is just more unproductive rent-seeking.
Fortunately, some well known economists do talk about The Rentiers.  Unfortunately, not nearly enough are.  I’m guessing it’s because the vast majority of “influential” economists are neoclassicals and don’t believe they exist.  They can try to deny their existence, but when I see the top 1% of the country make more money in one night while they are sleeping then most will make working at their job for 6 months, it’s hard to deny their existence.  It’s unfortunately that our intellectual class “lost” these words and concepts from the mainstream discussion.

So where does that leave us now?  One could argue history is repeating itself.  200 years ago, the conservative vs. liberal mantra was that conservatives were fighting to keep the power of the nobles and large landlords intact.  The liberals were the ones trying to free themselves politically and economically from their control.  Today it’s the same.  Conservatives are fighting to maintain the privilege of the Rentiers by pretending to defend capitalism itself.  And once again, us liberals are fighting to free the market from the parasitical Rentiers.
Leave a Comment