Download Rent, Interest, and Profit

Rent, Interest, & Profit
Economic Rent
 The price paid for the use of land or other
natural resources that are completely fixed in
total supply (perfectly inelastic)
 Demand determines the price of rent

Demand is derived, as in labor markets
Product Price
 Productivity of the Resource
 Price of Complimentary Resources

Rent as a Surplus Payment
 Although capital is fixed in the short run, in
the long run it is not
 Capital is relatively elastic, thus upward
sloping
 Unlike capital, land supply is always fixed,
thus economic rent is a surplus payment (it is
not necessary to ensure the supply of land)

Not a cost to society, but a cost to firms because
they compete with alternative uses for the land
Economic Rent in Action
 How does economic rent explain suburban
sprawl?
 Why is land in Lake Oswego so expensive?
 Why is land in Western Oregon worth more
than land in Eastern Oregon?
 Complete Student Workbook Activity 50

Pages 245-246
Interest
 The price paid for the use of money
 Stated as a percentage (ex. APR)
 Money is not a resource

It is a means of purchasing resources/capital
 If a stranger wanted you to give them $5,
would you? What if they paid you $6 dollars
the next day? $10? $20? $50? $100?
Loanable Funds
 Interest is determined by the supply of and
demand for funds available for lending and
borrowing
 A supply & demand graph with interest on
the y-axis and loanable funds on the x-axis
 Households rarely lend, but do put money in
banks, which in turn lend money
Changes in Loanable Funds
 Supply



Increasing thriftiness
will decrease the supply
of loanable funds
Decreasing thriftiness
will increase the supply
of loanable funds
What causes changes in
household thriftiness?
 Demand



Higher rates of return
increase demand for
loanable funds
Lower rates of return
increase demand for
loanable funds
What causes changing
rates of return?
Other Reasons Interest Varies
 Risk—how likely it is to be paid back
 Maturity—length of time to pay it back
 Loan Size—typically the larger it is, the
higher the interest rate
 Taxability—exemptions lead to greater
willingness to lend and borrow
The Pure Rate of Interest
 A single, general rate of interest used to
simplify economic discussion of interest
rates
 Usually closest to long-term, near riskless
securities and bonds
Role of the Interest Rate
 Rationing the supply of loanable funds
 Low interest rates promote R&D
 Government banks manipulate interest rates
to expand or contract the economy

Take Macroeconomics to learn more about this
Two Types of Interest Rates
 Nominal Interest Rate

The rate of interest
expressed in dollars of
current value
 Real Interest Rate


The rate of interest
expressed in purchasing
power
Adjusted for inflation
Government Regulation of
Interest Rates
 Although many interest rates are influenced
by the Federal Reserve’s rates for borrowing
money from Uncle Sam, private lenders can
set rates at whatever price they like…should
government limit private lenders’ interest
rates (usury laws)? Explain.
Profit
 Total revenue minus implicit costs and
explicit costs
 Payment to the entrepreneur


Normal profit—payment necessary to retain the
entrepreneur (what could be made elsewhere)
Residual profit—remaining profit after all costs
are paid
Sources of Profit
 Innovation

E.g. Apple
 Monopoly Power

E.g. cell phone network providers
 Risk

Insurable vs. uninsurable
Changes in economic environment (e.g. recession)
 Changes in structure of the economy (e.g. s/d changes)
 Changes in government policy (e.g. taxes)

The Role of Profit
 Encourages
innovation
 Encourages
efficient use
of resources

Allocative
and
productive
efficiency
Homework
 Textbook Chapter 27 #2, 5, 6, 8, 10