Page 313 - Encyclopedia of Business and Finance

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Factors of Production

LAND ics is that natural resource accounting increasingly resem-
This category sometimes extends over all natural bles capital accounting.
resources. It is intended to represent the contribution to
production of nonhuman resources as found in their orig- LABOR
inal, unimproved form.
The classical “labor theory of value” was an innovative
For the French physiocrats led by Francois Quesnay theory in response to the physiocratic doctrine that only
in the 1750s and 1760s, land was the only factor yielding land could yield surplus. In 1776 Adam Smith, in The
a reliable gain to its owner. In their view, laborers and arti- Wealth of Nations, observed that with expansion of pro-
sans were powerless and in excess supply, and hence they duction and trade, enterprises were making profits over
earned on average only a subsistence-level income. In the long periods of time, although they either had nothing to
same way, what they produced outside of agriculture do with agriculture or else as agricultural enterprises. Clas-
fetched enough to cover only their wages and input costs sical economists tried to answer the question: Where does
with no margin for profit. Only in agriculture, due to soil profit come from? Their answer was that it came from
fertility and other gifts of nature, could a laborer palpably labor. At prevailing prices, labor can yield a surplus over
produce more than required to cover subsistence and subsistence costs in many industries.
other costs, so only in agriculture could proprietors collect The question arises of why proprietors, but not labor-
surplus. Thus the physiocrats explained land rent as com- ers, earn profit. Ricardo arrived at one answer: technical
ing from surplus produced by the land. They recom-
innovation increases labor productivity. Owners of inno-
mended taxes on land as the only sound way to raise
vative equipment, until its general adoption, get the pre-
revenue and land-grabbing as the best means to increase
mium from reduced costs. In 1867 Karl Marx in Capital,
the government’s revenue base.
added that wages reflect the cost of subsistence, not what
In 1821 David Ricardo, in The Principles of Political laborers can produce, and that profit is the difference
Economy and Taxation, stated what came to be known as between the two. Even without innovation proprietors
the classical view: that rent reflects scarcity of good land. would reap surpluses, Marx held, since laborers lack mar-
The value of a crop depends on the labor required to pro-
ket power and cannot afford their own equipment.
duce it on the worst land under cultivation. This worst
Why do wages differ for different types of labor?
land yields no rent—as long as some of it remains
Marx’s answer was that higher wages cover costs, beyond
unused—and rent collected on better land is simply its personal subsistence, of training and cultivation of skills,
yield in excess of that on the worst land. Ricardo saw rent acknowledging that one kind of equipment, known as
as coming from differences in land quality (including human capital, was available at least to some laborers.
accessibility) and scarcity. The classical economists
assumed only land—understood as natural resources— Marginalist economists noticed the advance of tech-
could be scarce in the long term. nology, which according to classical and Marxist views
made labor ever more productive, continually throws
Marginalism, as expounded in 1899 by John Bates
Clark in The Distribution of Wealth, takes a different laborers out of work. This led them to attribute produc-
approach. It declares that rent reflects the marginal pro- tivity to equipment rather than only to labor. Referring to
ductivity of land—not, as with Ricardo, the productivity equipment as capital, they developed production func-
tions featuring labor and capital as substitutes for each
of good versus marginal land. Marginal productivity is the
other. Choice among production techniques involving
extra output obtained by extending a constant amount of
different combinations of labor and capital became a
labor and capital over an additional unit of land of uni-
major theme in marginalist growth theory.
form quality. Marginalists held that any factor of produc-
tion could be scarce. Their theory is based on the
possibility of substituting among factors to design alterna- CAPITAL
tive production methods, whereby the optimal produc- This most controversial of factors is variously defined as
tion method allocates all the factors to equalize their produced equipment; as finance used to acquire produced
marginal productivity with their marginal costs. equipment; as all finance used to begin and carry on pro-
Long thought of as a self-sustaining input, land duction, including the wage fund; and as the assessed
might depreciate just like produced assets do. In 1989 value of the whole productive enterprise, including intan-
Herman Daly and Jonathan Cobb, in For the Common gibles such as goodwill. In 1960 Piero Sraffa, in Produc-
Good, distinguished between nonrenewable resources that tion of Commodities by Means of Commodities, showed that
are consumed or depreciate irretrievably, and renewable capital in the sense of produced equipment can fail to
resources where the rate of natural renewal is important. behave as expected in marginalist production functions
One consequence of this work in environmental econom- when an entire economy is modeled. Specifically, equip-

290 ENCYCLOPEDIA OF BUSINESS AND FINANCE, SECOND EDITION