at VMP=MEC, Therefore, condition for profit maximisation can be rewritten as - ME=MFC or ME =W incase of labour. Marginal productivity theory of distribution was an attempt to answer the question- what determines the prices of factors of production. Marginal productivity theory tries to explain how reward for factors of production are determined. The theory says that prices of factors of production depends upon its marginal productivity. In other words, factors are rewarded according to the contribution it makes to total output. The origin of the concept of marginal productivity can be traced in the theory of rent of David Ricardo. But the concept of marginal productivity was refined, developed and finalised by J.B.Clark, Jevons, Wicksteed, Walras, Marshall and J.R.Hicks.: mputs (Factors) 153 r qrewords of).B.Clark, "Under static conttitions, every factor including M preprenenr would get remuneration equal to its marginal product". | ccording to Mark Blaug, "The marginal productivity theory contends | an equilibrium each productive agent will be rewarded in accordance : i jtmarginal, productivity", @ mand for factors is derived demand, Factorsare demanded for the tribution they make in the process of production. Demand for factors om and upon their productivity. If the productivity is high, higher will be rice and ifthe productivity is low lower will be its price. ' Let us understand some concepts of the theory. 4 Marginal Physical Productivity (MPP) " Marginal Physical Productivity (MPP) refers to addition made to total sical Product by employing one more unit of factor with other factors 5 emaining constant. || , Marginal Value Product (MVP) _ | Marginal Value Product (MVP) refers to monetary representation of | Marginal Physical Product. It derived by multiplying product price by- Marginal Physical Productivity of a factor. 2 MVP =MPP x Price Marginal Revenue Productivity (MRP) Marginal Revenue Productivity (MRP) is addition made to the total revenue by employing an additional unit of a factor with other factors remaining constant. MRP = MPP x MR . Or actor fmt |. Average Revenue Productivity (ARP) Average Revenue Productivity (ARP) refers to average revenue per unit of a factor of production. #/ Assumptions The marginal productivity theory of distribution is based on the following assumptions, 1. Existence of perfect competition in product and factor market. 2. Identical factors of production (factor homogeneity) with same Productive efficiency. SRercan nba eee eae eS icae aR aeace NA154 , Micro Econor: 3. Since factors of production are identical = substituted for another. One factor 7 an be 4, Factors of production are perfectly mobile fr and one occupation to another. mone place toanother SAS 5. Factors of production are divisible. 6. Assumption of full employment 7. Theory holds good both in short run and Jong run. 8. Techniques of production remain constant. Let us explain the marginal productivity theo graph. *Y With the help of a “Wage Rate / Proaucavity 222 P, Suf ARPby for labc Similar. P, satE,, MRP ARP by N, N N, x enter tl Labourers Employed push tt perfect As shown in the figure above, in the short run Marginal Revenue MRP. Productivity is equal to marginal wage. With the assumption of perfect (yiticis competition, WW curveis a horizontal curve which represents equality of Average Wage and Marginal Wage. MRP is the Marginal Revenue Productivity curve. MRP is equal to AW or MW at point E, which is the point of equilibrium. If the producer employs less workers i.e., ON,. Here wage rate(EN) ) tis | ss Ceceeiciapehal ‘ Assum is ess than MRP (PN, ). Therefore, firm will employ more labour toincrease pe production. On the contrary, if the firm employs ON, labourers Margie! flvisib Revenue Productivity (P,N,) is less than wage rate (E,N,)-Since produ Meg incur losses, he will reduce the number of labourer to ON. ave {The In the long run, at the point of equilibrium MRP, ARP and wee tificy are equal. In the long run E is the point of equilibrium where W8° E E, We= AW = MW Wage / Productivity | H | | | fallow LUnre i = ~—Cne Inputs (Factors) 155 i ‘ — AW =MRP =ARP. The number of labourers employed is ON and Awe ae Be is OW ot NE. Therefore, the firm is enjoying normal profits in we thelong run Ye se Wage Rate / Productivity Labourers Employed Suppose in the short run wage rate is OW, wage rate is more than [ARPby E,Q. The firmis undergoing loss. Some firms will exit and demand for labourers will decrease, ultimately wages reduce and settle at OW. similarly, in the short run, if wages areat OW, the equilibrium of the firm isatE,, where ON, labourers employed. At this point wages areless than ARP by E,R. The firm start enjoying supernormal profit and new firms enter the market. As a result, demand for labour increases, which will push the wage rate to OW. Thus, in the long run with the existence of perfect competition, reward for a factor (wage) is equal to its ARP and MRP. Criticisms Marginal productivity theory of distribution is criticised on the following grounds. | 1.Unrealistic Assumptions bya It is criticised that the theory is based on unrealistic assumptions. fri Assumption of existence of perfect competition, perfect mobility of factors, 7 divisibility of factors, and idea of full employment are unrealistic. 2. Measuring MRP is Difficult The theory assumes that MRP can be measured. But in reality it is difficult to measure MRP of a factor.| 156 * Micro Econom cs 3, Reward Determines Productivity The theory states that reward for a factor is determined productivity of factor. Prof. Sydney Web says that Margi, Marginal Productivity is the cause and reward is the effect. Why ee Revenue higher wages, his standard of living is enhanced, he ail lal Bets health and his productivity will increase. Thus, reward have better determines productivity. for a factor 4, Factor Proportions cannot be Varied The theory states that factor proportions can be varied, criticised on the ground that factors cannot be varied or oubstitiacr eee cannot be changed freely. . Factors 5. Fails to Determine Reward The theory does not explain how a reward fora factor is determi 5 Tt only explains how much factors employed at a given price: It ont determined demand for factors rather than reward for factors. : 6. One Sided Theory The theory is criticised on the side of factors and neglected supply a factor is determined by its productivity. ground that it explained only demand side. It only explains that demand for 7. Static Theory It is astatic theory as it assumes changes can cause technology remain constant. Technical shift in the production function. It is not a complete eglected the change in technology. ws wp rrnantheory because ftinegtecteu wre sewrro~ oy Meaning of Rent Inanordinary language rent refers to a payment made by one person toanother for the use ofsome asset, say, land, building, machine, vehicle orany other asset that belongs to another person. However, in economics rent refers to the payment made by tenant to landlord for the use of land for production. Ricardian Theory of Rent David Ricardo a British economist explained theory of rent whichis popularly known as Ricardian theory of rent. David Ricardo defined rentse Inputs (Factors) 157 uthat portion of produce of the earth ‘which ts a ee jponginal and in destructible Powers of, fee . ni ‘Thus, to Ricardo Tent wasa differential Surplus because all lands are tbs equally fertile, Some Plots of land are more fertile and better situated others. The superior land yields surplus over the inferior lands. In jsdefinition Ricardo pointed out two: important words and “nidestructible', Here, original ofland. The term indestructible means fertility of the soil that cannot be destroyed by man. Assumptions 1. Land is free gift of nature and fixed insupply. 2. Land has some original powers which is not result of any human effort. 3. The powers or qualities of earth cannot be destroyed. 4, Land differs in fertility, 5. Land is used in the order of its fertility. Most fertile land used first and less fertile land used later, 6. Law of diminishing returns is applicable to land. 7. Existence of perfect ‘competition. 8. The theory is applicable in the longrun. 9. The land which covers its cost is called marginal land or no rent land. 10. Landis located in different situations, Ricardo assumed that there are four grades of land. These lands are arranged in the order of their fertility, namely, A, B,C, D. Land A is the most fertile land and land D is least fertile land. This can be shown in the following figure.Rent Grades of Land If people cultivate the most fertile land A, it produces 8000, qui food grain. When the demand for food grain increases along within er st in population, land B is brought under cultivation. Land B is able ti produce 6000 quintals of food grain. Now land A will get a surplusover land B i.e rent which is equal to their fertility difference. (8000 - 6000 - 2000) Now land A is intra marginal land and land B is Marginal land. The difference in production between them is rent. . Suppose population increases further, demand for food grains goes up. Then, C grade land is brought under cultivation, which produces 4000 quintals of food grain. Now, c grade is marginal land and A and B are intra marginal land. A and B grade land earns rent. If population increases further, D grade land is brought under cultivation which produces 2000 quintals of food grain whichis equal to the cost of cultivation. Since D grade land is marginal land, there isno rent for D Grade land. The shaded area in the above graph represents rent. Criticism 1. The assumption of original and indestructible power of land isnot correct. We can increase the fertility of land by humanefforts. 2. Ricardo completely neglected the rent which arises dueto scarcity 3. The assumption of perfect competition is wrong. ‘i 4. The assumption of no rent land is wrong because in the real worl no rent land is not at all available.1 gaputs (Factors) 159 e e rding to Ricardo rentis applicable only to land but in reality it 5. Ae plicable to other factors also. « Yi . ear explains only origin of rent it does not explain how rent 6 fixed oF determined. of diminishing returns is not applicable with the ent of science and technology in agriculture. ‘The law * improve ‘The concept of quasi rent was developed by Prof. Alfred Marshall. j rent isa temporary gain earned by a factor due to its limited supply. as period factors other than land like machinery, plant, buildings insho™ xed in supply. When demand rises for those factors, they earn ec ateincome whichis called quasi rent. Therefore, quasi rent refers to sa plus income gained when demand for products increases in short period. For example, if demand for some machineries increases suddenly, the supply cannot be increased all of a sudden. As a result, price of machineries goes up. The excess income earned is termed as quasi rent. But itis a purely temporary phenomenon. In the longrun when the supply ofmachines increases the surplus income will automatically disappear. Inthe long run all the costs are variable. Quasi rent = Total Revenue - Total Variable Cost. Let us illustrate the concept of quasi rent with the help of a graph. Y § D, D a7 zB 2. P a % é x Number of Equipments __Asshown in the figure above, DD is the demand curve and SS is the "upply curve of machines. Supply of machines is ‘perfectly inelastic in theis vertical. 'E' is the point of, and supply of machines are e, the demand for machines increases, to D,D,, ,, price increases to OP,. New equilibrium point isk, income earned because of increase in demand, is quasi rent ‘equal to EE, . However, in the long run, supply of machines ig ‘Which ig elastic umber of machines can be supplied at OP price, Th, eter, eos disappear because price is equal to transfer earnings,