Factors of Production

Topics: Economics, Neoclassical economics, Capital Pages: 5 (1507 words) Published: April 6, 2011

Factors Of Production
Land, labor, capital, and entrepreneurship: These are four generally recognized factors of production. Of course, in a literal sense anything contributing to the productive process is a factor of production. However, economists seek to classify all inputs into a few broad categories, so standard usage refers to the categories themselves as factors. Before the twentieth century, only three factors making up the "classical triad" were recognized: land, labor, and capital. Entrepreneurship is a fairly recent addition. The factor concept is used to construct models illustrating general features of the economic process without getting caught up in inessential details. These include models purporting to explain growth, value, choice of production method, income distribution, and social classes. A major conceptual application is in the theory of production functions. One intuitive basis for the classification of the factors of production is the manner of payment for their services: rent for land, wages for labor, interest for capital, and profit for entrepreneurship. A discussion of each of the factors follows. LAND

This category sometimes extends over all natural resources. It is intended to represent the contribution to production of nonhuman resources as found in their original, unimproved form. For the French physiocrats led by Francois Quesnay in the 1750s and 1760s, land was the only factor yielding a reliable gain to its owner. In their view, laborers and artisans were powerless and in excess supply, and hence they earned on average only a subsistence-level income; and in the same way what they produced outside of agriculture fetched enough to cover only their wages and input costs with no margin for profit. Only in agriculture, due to soil fertility and other "gifts of nature," could a laborer palpably produce more than required to cover subsistence and other costs, so only in agriculture could proprietors collect surplus. Thus the physiocrats explained land rent as coming from surplus produced by the land. They recommended taxes on land as the only sound way to raise revenue and land-grabbing as the best means to increase the government's revenue base. In 1821 David Ricardo, in The Principles of Political Economy and Taxation, stated what came to be known as the classical view: that rent reflects scarcity of good land. The value of a crop depends on the labor required to produce it on the worst land under cultivation. This worst land yields no rent—as long as some of it remains unused—and rent collected on better land is simply its yield in excess of that on the worst land. Ricardo saw rent as coming from differences in land quality (including accessibility) and scarcity. The classical economists assumed only land—understood as natural resources—could be scarce in the long term. Marginalism, as expounded in 1899 by John Bates Clark in The Distribution of Wealth, takes a different approach. It declares that rent reflects the marginal productivity of land—not, as with Ricardo, the productivity of good versus marginal land. Marginal productivity is the extra output obtained by extending a constant amount of labor and capital over an additional unit of land of uniform quality. Marginalists held that any factor of production could be scarce. Their theory is based on the possibility of substituting among factors to design alternative production methods, whereby the optimal production method allocates all the factors to equalize their marginal productivity with their marginal costs. Long thought of as a self-sustaining input, land might depreciate just like produced assets do. In 1989 Herman Daly and Jonathan Cobb, in For the Common Good, distinguished between nonrenewable resources that are consumed or depreciate irretrievably, and renewable resources where the rate of natural renewal is important. One consequence of this work in...
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