VALEDICTORY THOUGHTS ON FACTOR PRICES, EFFICIENCY, AND DISTRIBUTION

‘;he recent reversal of fortunes of labor and capital with profits rising rapidly over. the last two . decades as wages-stagnated-s-raises questions about the fairness as w~ll as the efficiency of the distribution of income in a market economy, Economists emphasize that a free market in capital and land will promote high rates of saving and investment, rapid economic growth, and healthy productivity growth. At the same time, many people worry that this same free market will lead the rich to become richer while the poor fall behind. We would offeruhree nnal thoughts on. these debates

1. Retirements preemie People’s market incomes are determined by rents, interest, and wages. We mayor may not like the competitive distribution of income, but we -must recognize competitive pricing helps solve the question of how goods are to be produced in an efficient manner. Getting the prices right is crucial to ensuring efficient selection of inputs in the pro,- duction process. , Consider, for example, how differential relative proportions of land and labor are reflected in different countries; Compare the United States, with plentiful land and scarce labor, with Hong Kong, where land is precious and labor abundant. As a result of supply and demand, wages are high relative to rents in America while the opposite is true in Hong Kong. Because these relative scarcities are transmitted by factor prices, markets help ensure that efficient land-labor combinations are used. Americans have huge farms and use labor sparingly, while land in Hong Kong is reserved for industry and housing rather than for land-intensive agriculture.

2. Capital marmosets balance saving and investment. The debates about profits tend to obscure the basic point about the role of capital in a market economy. The accumulation of capital and its return are driven by two fundamental forces. On the one , hand, the demand for capital results from the fact that indirect or roundabout production he recent reversal of fortunes of labor and capital- with profits rising rapidly over. the last two . decades as wages-stagnated-s-raises questions about the fairness as w~ll as the efficiency of the distribution of income in a market economy, Economists emphasize that a free market in capital and land will promote high rates of saving and investment, rapid economic growth, and healthy productivity growth. .At the same time, many people worry that this same free market will lead the rich to become richer while the poor fall behind. We would differential thoughts on. these debates: processes are productive; by abstaining from consumption today, society can raise consumption in ” the future. On the other hand, people must be willing to abstain from consumption in order to accumulate financial assets, lending funds to firms that will make the productive investments in roundabout productive processes. These two forces of technology and impatience are brought ‘into ‘balance. by the interest rate, which ensures that society’s accumulation of capital just matches the amount that people are willing to hold back
from consumption in the form of saving. .

3. Governments can inequality without impairing . efficiency. Finally,we must remember that the factor prices of wages, rents, interest, and profits are not carved’ in granite. Factor prices are affected by -government policies,’ and incomes can be modified by transfer payments. If society dislikes the inequality brought about by high land rents or fabulous wages of unique individuals, taxes on these factors can reduce inequality without inducing great inefficiencies. Well-designed taxes on high incomes and inheritance, efficient wage subsidies to low-wage workers, and transfer programs to help the truly needy can reduce the worst inequalities of a market economy-without impairing the ability of factor prices to guide markets to efficient allocations or unduly reducing working, saving, investment, and economic growth.

 With well-designed tax and transfer programs, a country can have its cake of owing productivity and share the cake more equally among, its citizens Our survey of the economics of labor, land, and capital concludes the essential analytically core of microeconomics. The appendix to this chapter pushes out .the frontier of our understanding by examining the behavior of the totality of markets, known as general equilibrium, and examining the efficiency properties of markets. Armed with our new tools from the previous chapters, we are prepared for the concluding chapters on microeconomics in Part Four; these examine important applications of the basic tools, including the structure of international trade, the role of government, and policies to combat inequality and environmental degradation.

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