Saturday, October 27, 2012

Rent seeking and Inequality - I

“ A simple definition of rent seeking[1] is spending resources in order to gain by increasing one's share of existing wealth, instead of trying to create wealth. The net effect of rent-seeking is to reduce total social wealth, because resources are spent and no new wealth is created.”  Rent seeking is not profit sharing as profit sharing attempts to create wealth whereas rent seeking does not do so. In economics, rent-seeking is an attempt to obtain economic rent by manipulating the social or political environment in which economic activities occur, rather than by creating new wealth.”

 The origin of the term is from extracting rents due to ownership of land rather than profit from actual cultivation. The mere possession of the given land resource entitled the holder to rent and the holder was not obligated to work the land and create wealth. In most cases the land was inherited wealth implying that the holder had no need to work to be in possession of the same. Hence the land holder was able to appropriate wealth on account of his position and not due to dint of hard work.

Rent seeking is seen in many areas of the economic sphere and is in its most vicious form when stemming from government regulation of free competition and thereby increasing inequality in society. An example of rent-seeking in a modern economy is effort made by firms and individuals to obtain control of various natural resources like mines, urban& rural land through lobbying and leveraging political strength and thereby corner profits from them.

Historically people and groups in power have always tried to increase their power and wealth and in the very least at least maintain them. They have a variety of instrumentalities to maintain the same. In the medieval ages, the king and the nobility ensured that they cornered a large part of the wealth of society. The religious classes also took shelter behind holy duties to maintain wealth and power. The spread of democracy and breakdown of medieval structures has made it difficult for these classes to corner wealth and power with the same reasoning and hence they had to search out justifications in tune with prevalent thought.

Post Industrial revolution the theory of marginal productivity primarily determined individuals who would get paid more for the work they put in. Demand and supply of labour determined the occupations which were better paid. The list of better paid occupations was never constant and varied with technologies of the time. Over a period of time the better paid occupations came to depend less on physical labour and more on brain power.

We can safely say that inequality in society would not increase if wages were paid based on marginal productivity. This however has not been the case and in present times the rules of the game have been skewed greatly to favor the wealthy. These rules, which are set by the governments and groups of individuals, affect the state of inequality in a society greatly. A famous example in regard to unfair rule setting is the limiting of access to lucrative occupations, as by medieval guilds or modern state certifications and licensures (Doctors, Lawyers etc.). Restricting entry to such professions help those that have already reached there to maintain their incomes and avoid sharing with newcomers. In economic parlance there are milking the rents of having already reached a given position by obstructing the cycle of demand and supply to the profession. People accused of rent seeking typically argue that they are indeed creating new wealth (or preventing the reduction of old wealth) by improving quality controls, guaranteeing that charlatans do not prey on a gullible public, and preventing bubbles.

As a country becomes increasingly dominated by organized interest groups, it loses economic vitality and falls into decline. [2] Olson argued that countries that have a collapse of the political regime and the interest groups that have coalesced around it can radically improve productivity and increase national income because they start with a clean slate in the aftermath of the collapse. An example of this is Japan after World War Two. But new coalitions form over time, once again shackling society in order to redistribute wealth and income to themselves. It looks as if a society needs to reinvent itself at regular intervals if it wants to avoid falling into the rut.

[2] Mancur Olson: The Rise and Decline of Nations

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