Ricardo Midterm

With Answers

(You may omit all of any question or questions and get 20% credit)

I. There are three qualities of land; each requires one dose of labor plus capital per acre in order to produce corn. One dose of labor plus capital costs £12. The table shows the amount of each kind of land and the amount of corn it can produce per acre. You cannot produce more corn per acre by applying more than one dose of labor plus capital. (10 points)

	Acres	Output/acre	Rent and Price for part A	Rent and Price for part B
Grade 1	100	4 bushels	4£/acre	£12/acre
Grade 2	100	3 bushels	0£/acre	£6/acre
Grade 3	200	2 bushel	0£/acre	0£/acre
Price of corn			£4/bushel	£6/bushel
Total Rent			£400/year	£1800/year

A. A total of 600 bushels of wheat is being produced. Show the price of wheat, rent per acre of each grade of land, and total rent collected on all land.

To produce 600 bushels requires all of the grade 1 and some of the grade 2, so grade 2 is the marginal land and pays no rent. It costs £12 to produce 3 bushels of corn on grade 2 land, so the price of corn is £4/bushel. Grade 1 land produces 4 bushels per acre at the same cost, which sells for £16 and costs £12, leaving £4 for rent. Another way of calculating it is to note that grade 1 land produces 1 bushel/acre more than the marginal land at the same cost, so the corn rent is 1 bushel/acre, implying a money rent of £4/acre. There are 100 acres of grade 1 land, and only it pays rent, so total rent is £400.

B. As in A, except that demand has increased to 800 bushels

Now the marginal land is grade 3, so it pays no rent; it costs £12 to produce 2 bushels of corn on marginal land, so corn is £6/bushel. Grade 2 land produes one bushel more, so rents for £6/acre, grade 1 produces two bushels more, so rents for £12/acre. 100 acres x £12/acre + 100 acres x £6/acre = £1800.

II: (p. 33): "All commodities which are produced by very valuable machinery, or in very valuable buildings, or which require a great length of time before they can be brought to market, would fall in relative value."
(10 points)

All of these correspond to having a high ratio of capital to labor. In the case of valuable machinery or buildings, there is lots of fixed capital; in the case of a long production cycle, the ratio of circulating capital to labor is high. In either case, an increase in wages will increase the production cost of such capital intensive goods by less than it increases the production cost of goods with an average capital/labor ratio, so the former will fall in relative value relative to the latter.

III: (p. 69-70): The friends of humanity cannot but wish that in all countries the labouring classes should have a taste for comforts and enjoyments, and that they should... (5 points)

Ricardo believes that in the long run, wages tend towards that wage at which the laboring population just reproduces itself. If wages are higher than that, the number of workers increases, driving wages back down, vice versa if lower--the so-called iron law of wages.
What that wage is depends in part on the tastes of the workers. If the average worker doesn't think he can afford to marry and have children until he is living quite well, the natural wage will end up high--which is a good thing, since it means that the bulk of the population is (relatively) well off. If workers have very modest tastes, the natural wage will be low--and when something goes wrong, pushing wages temporarily below it, people starve.

IV. (p. 83): The natural tendency of profits then is to fall; for in the progress of society and wealth, the additional quantity of food required is obtained by the sacrifice of more and more labour. (10 points)

In the progress of society, population expands, quantity of corn produced increases, and agriculture is forced onto worse and worse marginal land. Hence the cost in labor of producing a bushel of corn increases. Hence the natural wage, which is in large part determined by the price of food, rises. The result in agriculture is obvious--the farmer is getting less corn from an acre of marginal land, must pay the same amount of corn to his workers, so has less left over for his profit. The same thing happens in manufacturing, because the manufacturer must pay his workers a larger value for wages--which means a larger fraction of their output, since the value of the output doesn't change--by Ricardo's definition of value, constructed so that value only changes when the inputs needed to produce something change.

V. (p. 148): This circumstance is curious. By taxing the profits of the farmer you do not burthen him more than if you exempted his profits from the tax, and the landlord has a decided interest that his tenants' profits should be taxed, as it is only on that condition that he himself continues really untaxed. (10 points)

Version 1: profit on manufacturing money not taxed.
If you tax the farmer's profits, the price of corn must increase by the amount of the tax, so he still gets the same profits as everyone else. Like other capitalists, he pays the tax in the higher prices of everything.

The tax does not affect the landlord's corn rent, since it is determined by the difference between output on his land and output on marginal land with the same input--and since the same input means the same amount of capital, a tax on profit collects the same amount from both kinds of land, hence leaves the difference unchanged. If the profit on corn is untaxed, the same corn rent means the same money rent, and the landlord pays the tax in higher prices like everyone else. If it is taxed, corn is worth more, so the landlord's money rent goes up, compensating him for the cost of paying higher prices for everything he buys.

Version 2: profit on manufacturing money taxed.
Now the price of taxed goods stays the same (since it is the ratio of the cost of producing them to the cost of producing money, and both are taxed, leaving the ratio unchanged). The price of untaxed goods falls. If you tax the farmer's profits he pays the tax directly, if you don't the price of corn falls and he pays indirectly by getting less for his corn. Corn rent is still unaffected for the same reason as before. So if you tax the farmer's profits, the landlord's money rent stays the same, prices are the same, so he does not pay the tax. If you don't tax the farmer's profits, the landlord's money rent goes down (because the price of corn goes down), so he does pay the tax.

VI: Do either A or B: (on the back) (10 points)

A. (p. 98): Thus, then, it appears that the improvement of manufacture in any country tends to alter the distribution of the precious metals among the nations of the world: it tends to increase the quantity of commodities, at the same time that it raises general prices in the country where the improvement takes place.

England and France are currently in equilibrium with regard to trade; each exports and imports the same amount (measured in real money--gold). England makes an improvement in manufacturing something, lowering its money cost of manufacture. As a result, the amount of that good exported to France increases (or the amount imported from France decreases), so gold starts flowing into England from France, driving up prices in England. The process starts when the price change is just enough to bring trade back into balance--at which point prices are higher in England, there is more gold in England and less in France, and total production of commodities is higher due to the increased productivity due to the improvemente of manufacture.

B. (p. 276): The demand for labour will continue to increase with an increase of capital, but not in proportion to its increase; the ratio will necessarily be a diminishing ratio.

As the amount of capital increases, so does the amount of labor, increasing the demand for corn and pushing agriculture onto worse and worse marginal land. So the value of corn rises, so the value of wages rises, to the value of profit and the profit rate fall.

Since labor is becoming more expensive and capital cheaper, capital intensive forms of production are becoming more attractive relative to labor intensive forms of production, so the increased capital tends to go into more and more capital intensive forms of production, where it employs less labor than previous increases.