ILRLE 3440 Study Guide - Final Guide: Corn Laws, Physiocracy, Diminishing Returns
18 May 2018
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ECON 3300 Final Study Guide;!
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Thomas Malthus (1766-1834);!
His Essay on population (1798) claimed perfectibility of society is hampered by population growth.!
Malthus said the power of population to grow is greater than the power of the earth to produce food.!•
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Malthus argues that population grows at a geometric rate where as food grows at an arithmetic rate. !
He uses the American colonies to prove this phenomenon.!•
Checks on population can either increase the death rate (positive) or lower the birth rates (preventive).!•
Positive checks were what he called misery and vice.!◦
Preventive checks were moral restraint, delay of marriage.!◦
He saw preventive checks as the main method for keeping population at a sustainable level.!◦
Malthus argues that positive checks are more prominent among the poor.!•
The Poor Laws were meant to block the positive checks, but guaranteeing a minimum wage reduced the ◦
preventive checks.!
Malthus advocated for a gradual abolition of the Poor Laws, saying they should be replaced by private ◦
charity, which is not guaranteed. He also divided the poor into the deserving and the undeserving.!
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Malthus Theory of Distribution;!
There are three groups in society, namely, Landowners, Capitalists, and Labourers.!•
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Question: According to Malthus, what happens to these groups during economic growth?!
Labourers and Wages;!
The increasing wealth of a nation does not better the condition of the labouring poor.!•
Any increase in wages above subsistence will cause population to grow, increasing the demand for food, raising •
food prices and driving population down again.!
Essentially, the REAL wages of workers remains the same, the Iron Law of wages.!•
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Malthus Law of Diminishing Returns;!
All land is not equally fertile and the most fertile land is farmed first (yielding high output per acre with low costs).!•
As food demand increases less fertile land is farmed so, at the margin, output per acre is always decreasing.!•
The market price (of food) is determined by the highest cost producer.!•
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Capitalists and Profits;!
As food prices rise in a growing economy, capitalists have to pay workers more to keep them at subsistence so •
profits fall.!
Since all investments come out of profits, economic growth will eventually choke itself off.!•
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Landowners and Rent;!
Land is a scarce resource so rents rise in a growing economy.!•
Malthus says this is the reward of present valour and strength or past cunning.!•
Malthus defends the Corn Laws;!•
High food prices, and hence high rents, will stimulate landowners to undertake profitable investments.!◦
If the Corn Laws were abolished then Britain would have to depend on foreign grain.!◦
Abolishing the Corn Laws will cause agriculture to shrink and manufacturing to grow as people move to ◦
cities. Malthus believed that a society based on manufacturing is insecure because of business cycles and
the living standards of the cities.!
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Malthus on Smith and the Physiocrats;!
Suppose we have a society where manufacturing grows and agriculture does too. According to Smith this is •
productive growth, which will increase nominal wages, but as the demand for food increases the price of food
increases too, keeping real wages constant. Malthus says this can't be considered real growth.!
He prefers the Physiocrats' idea that productive labour is done with the aid of nature and that manufactures are •
sterile workers.!
Producing more food is what benefits society as a whole.!•
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David Ricardo (1772-1823);!
Agreed with Smith that what must be studied is what happens to distribution in a growing economy,!•
Smith did not take into account diminishing returns or rising food prices.!◦
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The effect of capital accumulation on growth depends on fertility of land and import tariffs.!
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Case 1: poor quality land and prohibitions on food imports;!
Even small amounts of economic growth will be choked off, leading to a sharp fall in profits and a huge increase •
in rents (the stationary state).!
Case 2: high quality land and little to no tariffs on food importation;!
Increases in capital accumulation will only lead to a small decrease in profits and growth can continue for a long •
period of time.!
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Ricardo was against the Corn Laws which he thought would doom the economy by reducing profits, out of which •
investments for further growth comes.!
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David Ricardo’s had five key assumptions, namely;!
Long term wages is subsistence.!•
All investment comes out of profits.!•
Agriculture is subject to the law of diminishing returns.!•
Profit is the same at any given time in the economy.!•
Profit is determined by the last (lowest quality) piece of land in cultivation.!•
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Profit = Revenue - Cost (on the marginal piece of land).!
Revenue - Cost - Profit = Rent.!
So Rent = 0 on the least productive piece of land.!•
This is known as the Theory of Differential Rent.!•
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As an example, let wages = w s. We have economic growth, which increases the demand for food.!
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The price of food goes up and profits decrease.!•
Rent is what is sometimes referred to as “producers’ surplus”, the area between the price of food and the supply •
curve (the red area).!
Rent = Price - Supply.!◦
As the demand curve shifts out, rents increase for every landowner (the green area).!•
As the economy continues to grow, eventually there will be no more arable land, meaning no profits for •
investments, which leads to economic growth choking itself off.!
This is because of the Corn Laws and is known as the “stationery state.”!◦
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Now to rethink this model WITHOUT the Corn Laws;!
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Once domestic price hits the world price at X, Britain will not farm any of its land but buy grain from abroad.!•
The supply curve (blue line) therefore has a kink at point X.!•
In this case, rents (red area) remain the same which means profits stop falling.!•
John Stuart Mill (1806-1873);!
Although a Malthusian, Mill comes to different conclusions from his observations.!•
His observations are;!•
The price of grain between 1815 to 1846 should be going up, but the price of wheat falls by 29%. Basically the 1.
law of diminishing returns is not enough to explain food prices.!
From 1820 to 1845, real wages increase, going against the Iron Law of Wages and the skill premium goes up.!2.
The rate of growth of population peaks in the 1820s despite the fact that wages are going up.!3.
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Question: Can we use the Ricardian model to explain these observations?!
Answer: Mill thinks yes.!
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Mill's Law of Population;!
If workers do not make an effort to limit family size the Iron Law of Wages will hold.!•
Mill believes workers will start adopting moral restraint because they will become better educated.!•
On the skill premium;!•
Mill agrees with Smith on compensating wage differentials.!◦
In the 1830s and 1840s the skill premium is far higher than it was in the past.!◦
Here comes the Theory of Segmented Labour Markets;!◦
Skilled and unskilled don't compete with each other so wages in one group has no effect on the other.!‣
Children follow in the footsteps of their parents so skilled workers enjoy a natural monopoly.!‣
The wages of each class is determined by how fast the size of their labour force is growing.!‣
Given their education, skilled labourers marry older and have fewer children.!•
Given their lack of education, unskilled labourers marry younger and have more children.!•
This explains why the skill premium goes up.!‣
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Mill on Grain Prices in the Stationary State;!
The attainment of the stationary state depends on two things, namely,!•
The rate of population growth and,!1.
Technological growth in agriculture.!2.
Mill believed agricultural improvements were occurring at a faster rate that population growth and, therefore, did •
not believe that repealing the Corn Laws was the only way to avoid the stationary state.!
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Question: Where is society going with industrial growth?!
Mill says it is impossible to avoid the stationary state in the long run and welcomes it because it would be an •
improvement on current society.!
According to Mill a society with a more affluent working class, a larger middle class and no enormous ◦
fortunes is perfectly compatible with the stationary state.!
Mill also believed that policies should focus on better distribution.!•
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Mill on the Wages Fund;!
Mill says that there is a upper bound on the wages fund, but no lower bound.!•
According to Mill wages are the result of bargaining, therefore, workers must form unions and act as a monopoly •
to counteract the power of the firms, which could in turn lead to an equilibrium wage.!
However, in 1869, Mill agrees with Thornton that the so called “wages fund” doesn’t exist.!•
Instead, the only bound is an upper bound, which is the point to which firms are earning below normal profit ◦
rates (the lower bound is subsistence).!
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Mill’s Theories of Taxation (part of Distribution);
Earned income is defined as income from your own labour and savings.!1.
This income should be taxed proportionally.!◦
Mill believes this will preserve incentives unlike progressive taxes.!◦
2. Unearned income is from gifts, inheritance and RENT.!
This should be taxed progressively at very high rates.!◦
This has no effect of the receiver’s incentives.!◦
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Question: But what about when landowners increase their rent by improving their land?!
Land should be assessed every ten or so years. Then the average increase in rents should be taxed and any •
thing over the average increase is due to the landowners work to improve the land.!
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Document Summary
His essay on population (1798) claimed perfectibility of society is hampered by population growth. Malthus said the power of population to grow is greater than the power of the earth to produce food. Malthus argues that population grows at a geometric rate where as food grows at an arithmetic rate. He uses the american colonies to prove this phenomenon. Checks on population can either increase the death rate (positive) or lower the birth rates (preventive). Positive checks were what he called misery and vice. Preventive checks were moral restraint, delay of marriage. He saw preventive checks as the main method for keeping population at a sustainable level. Malthus argues that positive checks are more prominent among the poor. The poor laws were meant to block the positive checks, but guaranteeing a minimum wage reduced the preventive checks. Malthus advocated for a gradual abolition of the poor laws, saying they should be replaced by private charity, which is not guaranteed.
