Comparison between Rent and Profit | Microeconomics

We may now compare between rent and profit, for both involve some kind of surplus income of a factor.

Economic rent is the difference between the actual earnings of a unit of an input and its supply price. The actual earnings of an input is the price that it receives for selling its services for a given period of time. Its supply price, on the other hand, is the minimum sum of money that is required to retain it in its existing use. Rent is, therefore, a surplus.

Whether a factor earns a rental surplus or not depends upon the elasticity of its supply. The smaller this elasticity, the larger is the share of rent in its earnings. Again, a factor may have a relatively inelastic supply in the short run, but in the long run, its supply-elasticity may increase.

Thus, a factor may earn a surplus, viz., quasi-rent, in the short run, but in the long run its supply may become perfectly elastic and then it may earn no rent at all.

Let us now examine the nature of the surplus called profit, for, economic or pure profit is also a sort of surplus which is left to the entrepreneur over and above his cost of production including normal profit.

It should be noted here that the normal profit may be regarded as the entrepreneur’s transfer earnings. But a part of the profit earned by an entrepreneur may very well be a chance income unrelated to the nature of the supply and quality of entrepreneurship.

However, superior entrepreneurs are also able to produce the same product at a smaller cost than done by their inferior rivals, or they may produce a better quality with the same cost.

So, by their ability, the superior entrepreneurs are able to enjoy a better profit margin and this part of their earning is in the nature of differential surplus—a sort of rent of ability. Profit, therefore, is a mixed surplus, and a part of this surplus is rent.

We have seen that rent is a surplus determined by the price of the product and also by the ability of the factor concerned. A part of profit is also a price-and ability-determined surplus, and so this part of profit cannot be distinguished from economic rent. Given all this, we may say that the pure profit earned by an entrepreneur is a surplus which includes chance income over and above economic rent.

But rent and profit have also important dissimilarities between them.

First, from a social allocational point of view, rent is a nonfunctional payment which need not be paid to draw forth the supply of land. But profits are a necessary incentive-payment for obtaining the services of entrepreneurs to the society. In the absence of this incentive, the supply of entrepreneurship will dry up.

Second, since rent is only a surplus payment and not a functional one, it can exist for a factor whose supply is inelastic in the short run, but rent would vanish in the long run, when its supply becomes fully elastic as in the case of machinery. But not so with profit. The part of profit which is akin to economic rent may become zero in the long run, but the chance-income part of profit may not be zero even in the long run.

Third, rent is a surplus earned on the basis of a contract. This is because the actual earnings of the factor are fixed by contract. But profit is a residual surplus—it is not something fixed by a contract.

Profit is what is left for the entrepreneur after all types of costs of production including the normal profit of the entrepreneur and the contractual incomes of all other factors are paid. It follows then that rent can, at the worst, be zero when actual earnings of a factor becomes equal to its transfer earnings, while profit can be negative also.

In sum, rent is essentially a static surplus in the sense that rent earnings of a factor remain fixed till the expiry of the contract entered into by the factor with its employer. Profit, on the other hand, is a dynamic surplus.

For profit depends upon future expectations and uncertainty about the future. That is why rent may exist in a static, stationary society with imperfectly elastic supply of inputs, while profits would exist only in a dynamic economy.

Lastly, as the economic development of a country is geared up, and more and more uses of fixed resources are devised, we can say with certainty that rents will rise, but we cannot be sure about the behaviour of profit in future.