Holt 7525-9 S15_IT

Example 11: Professor wants to hire 10 students to participate in a research project. When
Professor offers to pay $20 per student, only two students are willing to participate in the project.
The supply of students is indicated on the supply schedule and the supply curve below:
Payments Quantity of Students $60 -
$20 2 50 -
S
30
40
4
6 $
40 -
30 -
50 8 20 -
60 10 10 -
0
0 2 4 6 8 10
Quantity of Students
To attract 10 students to the project, Professor has to pay each student $60. The first two
students, who were willing to supply their labor for $20, are receiving economic rent of $40. For
the group of students, the economic rent is the area above the supply curve and below the
payment amount ($60).
There is often a connection between the payment to a factor and the price of what the factor
produces.
Example 12A: The head football coach at Local High School is paid $55,000 per year, and
tickets to the high school games are $5. The head football coach at State University is paid $3
million per year, and tickets to the university games are $90.
Does the high salary of the university coach cause the high ticket prices to the university’s
games? No. The cause and effect runs in the other direction. The high ticket prices cause the
high salary. If economic rent for a factor is high, it is because the demand for what the factor
produces is high.
Example 12B: If the head football coach at State University agrees to coach for free during the
upcoming season, would the university lower its ticket prices? Not if the stadium sells out at $90
per ticket.
Functions of Economic Rent
Though economic rent is a payment in excess of opportunity costs, it is not an unnecessary
payment. Economic rent performs two functions:
1. Economic rent allocates resources to their most valuable use.
Example 13A: General Horatio Ordnance retires after a distinguished military career. General
Ordnance hopes to pursue a new career as a public speaker. He decides to make five public
speaking appearances each month. He receives offers for two hundred speaking appearances
each month. He accepts the speaking engagements that pay the most. The General’s desire for
economic rent allocates his labor to its most valuable use.
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2. Economic rent provides incentive for resource owners to develop the productivity of
their resources.
Interest, Present Value, Rent, and Profit 26 - 6