Quasi-rent

In general, an Economic Rent is the difference between the income earned by a Factor Of Production in a particular use, and either the cost of bringing the factor into economic use (Classical factor rent), or the opportunity cost of using the factor, where opportunity cost is defined as the income available in the next best use (Paretian factor rent). In other words, economic rent is the difference between the absolute minimum required to draw a factor into a particular use (from the next best use, or no use at all), and the amount actually earned in that use.

Many Capital Investment s take the form of sunk cost investments in more or less highly specialized capital equipment, research and development, or training. For sunk cost investments, once the investment has been made, the cost of drawing the result into economic use may be minimal. For highly specialized equipment or training, the next best use may not pay much, so a large part of what is earned, constitutes a kind of rent. A sunk cost investment will only be made in the expectation that the resulting factor (e.g. capital equipment) can be employed to earn income; the expectation of income earned, induced the creation of the capital factor.

While a true rent is a payment in excess of what is necessary to bring a factor into productive use, a quasi-rent is only the realization of a payment, the expectation of which was necessary to bring the capital factor into production. Viewed in an economic short-term frame -- after the sunk cost investment has been made -- the income earned by a sunk cost investment constitutes a rent, to the extent that it exceeds the amount necessary to bring the results of the investment into economic use; viewed in an economic long-term frame, which includes the decision to make the investment, the same income is not a rent.

The existence of sunk cost investments and quasi-rents point to important problems for public policy and for business strategy. A business enterprise might form, for example, to build and operate a bridge across a river, charging a toll for crossing. Efficiency requires that the bridge be fully utilitized, but any toll charged will discourage some crossings. A toll set at a rate, which keeps the bridge fully utilized, will not necessarily include any return on (or even recovery of) the investment in the bridge, while a toll, which does yield a return on the investment in the bridge will not necessarily result in full, efficient utilization of the bridge.

Government policy is sometimes designed or manipulated to ensure that particular sunk cost investments earn larger quasi-rents. Patent s may be considered an example of such an intervention. In the absence of patents and other Intellectual Property Law , the sunk cost investment in research behind an invention could only earn a quasi-rent to the extent that secrecy inhibited competitors from freely utilizing the results of the research. Once the sunk cost investment in research has been made, of course, efficiency would require that the results (i.e. the invention) be freely and widely disseminated, which would seem to preclude earning a return, a quasi-rent, on the research. Patents give a time-limited legal right to charge for the use of an invention, which creates a potential quasi-rent, and return on investment.

Information About

Quasi-rent