# Differential income – What is it, definition and concept | 2022

Formulated by the economist David Ricardo, the theory of differential rent maintains that the greater the amount of food generated by the land, the greater the productivity. Thus, the most fertile lands that require less labor will be harvested, leaving the less fertile lands unexploited.

However, the law of diminishing returns must be taken into account. This means that as the population size increases, the demand for food will also increase and less fertile land will begin to be cultivated. All this will lead to a growth in food prices, in such a way that the increase in nominal wages must go hand in hand with the increase in prices.

The differential income concept has been approached from different perspectives, looking for different explanatory factors to the way in which income is generated. There are those who have attributed it to the fertility of the land and those who consider that the income is due to the successive investment in capital.

## How does it arise?

As we previously pointed out, there are lands with different levels of fertility and that are found in more favorable locations. Therefore, there will be differences in labor productivity and in the different profits generated by the same capital investment.

Let’s take an example. Plot X has lower fertility, while plot Y is much more fertile. Thus, plot X, with an investment of 20 monetary units, produces one unit. Let’s take into account that the profit will be 25%, then the production price will be 25 monetary units. Thus, to satisfy demand, the price of each unit produced must be set at 25 monetary units.

See also  Should I request an extension of my line of credit?

Let us imagine that we apply an identical capital investment in plot Y. Here the production is 2 units. This means that whoever produces on plot Y receives an income of 50 monetary units. In this way, 5 monetary units correspond to the average rate of profit and the plus profit or income is 25 monetary units.

## Differential rent and land ownership

Now, if the person who works the land is the owner, he pockets the rent, while, if the land is rented, it will be the lessor who takes the rent.

Therefore, the labor employed on the more fertile lands will provide greater value than the labor exerted on the less fertile lands. In conclusion, the higher the productivity, the lower the production costs and the lower the production price with respect to less fertile land.

In any case, the income will be generated regardless of who owns it. What determines rent is the fertility of the land.

Authors such as Marx and Lenin have reflected in depth regarding land ownership, proposing that the state assume ownership of the land. However, if the property of the cultivated areas were nationalized, the rent would be monopolized by the State.

## Differential rent type II

Opposite to the classic visions of the beginning of the 20th century about what differential rent supposes, other theses emerge about what surplus profits suppose. These theses argue that the progressive investments in capital on the same crop area bring with them a lower productivity of the labor factor. In this way, the last investment will lead to generate a normal rate of profit.