The Signal

Seven plates have built a case against rent, and it is time to build the case for it. The volume has shown rent as surplus handed to the controller of a scarcity, often unearned, sometimes manufactured by law, and ruinously costly to fight over; and all of that is true. But it is not the whole truth, and a fair accounting must now ask the question the indictment has postponed: does rent do any necessary work? Is there a case in which a rent is not a parasite on the economy but an essential organ of it — performing a function the economy could not do without? There is, and it is a strong case, made by some of the most penetrating economists who ever wrote, and it must be set out at full strength before it is answered. Rent, the defence runs, does three indispensable things. It rations a scarce resource to its most valuable use. It signals the scarcity of that resource to a watching world. And it spurs the supply of more, where more can be had. An economy stripped of rents would fail at all three, and fail badly. This plate grants the defence in full — and then shows, precisely, how much of it is true.¹

Begin with the first and most fundamental function. A scarce resource must somehow be allotted among the uses competing for it, and rent is the mechanism that allots it. Consider the land of a city, genuinely scarce, sought by housing and offices and shops and a hundred other uses, each able to wring a different value from it. How shall the scarce plots be distributed among these claimants? The rent decides: each plot goes to the use that will pay the most for it, and — where competition reigns — the use that will pay the most is the use that can make the most of it, the activity that serves others most valuably, as measured by what they in turn will pay.

The high rent of a central corner ensures that only a high-value use occupies it, while uses that can extract less locate where land is cheaper or do without. The rent, in short, rations the scarce resource to its most valuable employment, admitting the uses that can pay it and turning away those that cannot.² Take it away — make the land free, or hand it out by lottery or by favour — and the rationing collapses: the scarce central plots might then be held by uses that value them little, while uses that would have made far more of them are shut out, the most valuable land in the city squandered on whatever happened to seize it first. The rent prevents this. It is the device by which a scarce thing finds its way to the hands that will do the most with it — and in this it performs a service no economy can forgo.

The second function is subtler, and it was Friedrich Hayek who saw it most clearly. The knowledge an economy needs in order to allocate its resources — who wants what, how scarce each thing is, what can substitute for what — is not held in any one place. It is scattered in fragments across millions of minds, each knowing a little and none the whole; and no central authority could ever gather it. The price system, Hayek argued, is the marvel that solves this otherwise insoluble problem: it compresses all that dispersed knowledge into a single number, the price, that every participant can read and act on, coordinating the whole without anyone directing it.³ The rent on a scarce resource is one of these signals, and a vital one. When a resource grows scarcer, its rent rises, and the rising rent tells everyone, everywhere, at once, that the thing has become more precious — prompting them to use less of it, to seek substitutes, to supply more where they can, each response arising spontaneously from the signal, none of it commanded.

A high land rent in a crowded city is such a signal: it announces, to all who would build there, that the city's land is dear, and so calls forth taller buildings that economise on it, and ventures that locate elsewhere, and the reclamation and assembly of new sites. To abolish the rent would be to silence the signal — to leave the economy blind to the scarcity it most needs to see, allocating its scarcest resources in ignorance of how scarce they are. The rent is, in this sense, a strand of the economy's nervous system, carrying the news of scarcity to every cell. It is not a parasite on the price system; it is part of the price system, and the part that tells the truth about scarcity.

The third function is the one the volume has already half-told, in the plate on the bottleneck. The prospect of a rent is what calls forth the supply of scarce things. The quasi-rent earned by a new machine, a rare skill, a fresh innovation is, seen forward in time, the reward that induced someone to build the machine, acquire the skill, make the innovation in the first place; strip away the prospect of that reward, and the scarce thing is never supplied.⁴ Joseph Schumpeter built his vision of capitalism on this insight. The entrepreneur who innovates, he saw, wins for a season a kind of monopoly — his new product or process is briefly unique, and briefly commands a rent — and that temporary rent is precisely the prize that drives the innovation, the lure that makes the risk and the effort worth bearing. The monopoly is the engine of progress, not its enemy; and it is a temporary monopoly, dissolved as imitators crowd in and compete the rent away, in the perpetual storm of creative destruction that renews the economy by tearing down what it built before.

Society sometimes manufactures such rents on purpose, for exactly this reason. A patent is a temporary monopoly granted by law to an inventor — a deliberate, legally created rent — and its whole justification is to spur invention: the prospect of the rent induces the costly work of inventing, which might not otherwise be done.⁵ The patent is the clearest admission the law ever makes that a rent can be a reward worth paying — that some scarce and valuable things will not be supplied unless their suppliers are promised, for a time, the rent that scarcity yields. Here the defence reaches its strongest: not merely that rent rations and signals, but that without the prospect of rent, some of the most valuable things a society can have would never come into being at all.

And now the defence must be measured, for it proves something narrower than it first appears. Look again at each function, and ask not whether the rent must exist, but whether it must be kept by whoever controls the scarcity. The land's rent rations the land to its best use — but it rations equally well whether the rent is pocketed by a private owner or collected by the public, for the rationing is done by the price the user must pay, and that price is the same in either case; only the destination of the surplus differs. The rent signals the land's scarcity — but the signal lives in the number, in what the user pays to occupy the plot, and not at all in the identity of whoever receives the payment. The function, in each case, is a property of the price; and the price can be left entirely undisturbed while the surplus is moved from one recipient to another.⁶

This is the decisive distinction the whole volume has been circling: between the rent as a price, which must exist to do its work, and the rent as a surplus, which need not go to the party who controls the scarcity. The two are separable, and for one great class of rents they come cleanly apart. When the scarce factor is fixed in supply — land above all — its rent can be taxed away in its entirety without moving anything real: the supply does not shrink, because it cannot; the price the user pays does not change, because the factor is just as scarce as before; the allocation is untouched, and the only effect is that the surplus, formerly the landlord's, becomes the public's. A tax on the pure rent of a fixed factor has, uniquely among taxes, no deadweight loss at all.⁷ The efficiency defence, in other words, defends the price; it does not defend the rentier.

There is one real qualification, and it is the hinge on which the whole matter turns. The spur — the third function — does depend on who keeps the rent, but only for scarcities that supply can answer. Where the scarce thing can be made, the rent must be left, at least in part, with the maker, or it will not be made: tax away the innovator's reward and the innovation stops, tax away the prospector's and the prospecting stops, for these rents are inducements, and an inducement taken away induces nothing. But this qualification reaches exactly as far as the inducement reaches, and no further.

For a fixed factor — land, the spectrum, a site that nature or history made unique — the rent induces no supply, because no supply is possible; the land arrives in the same quantity whether its rent is lavish or taxed to nothing. So the incentive defence, real as it is, applies only to the reproducible rents, the quasi-rents that call forth machines and skills and discoveries; it has no purchase whatever on the pure rent of the fixed factor, which can be captured in full without costing a single unit of supply.⁸ And there are rents the defence does not touch at all. The manufactured rent of the licence — the cap that serves no public purpose but to enrich the holders of permits — rations nothing genuine, for the scarcity it rations is itself an artefact; signals a false scarcity, a shortage conjured rather than real; and induces no useful supply, but only the scramble to capture it. It fails every test the defence sets. So too the resources consumed in rent-seeking, which ration nothing, signal nothing, and supply nothing, but are simply burned. The efficiency defence is a defence of rents that do real work; of the rents that do none, that merely extract or are merely fought over, it says nothing, and there is nothing it could say.⁹

Gather the threads, and the defence, fully granted and fully measured, turns out not to weaken the volume's argument but to sharpen it to a point. It establishes, beyond dispute, that rent does essential work: that a scarce thing must command a price, and that this price rations the scarcity, signals it, and — where the thing can be supplied — rewards its supply. And it establishes, just as firmly, the limits of its own reach: that all of this is true of the price and not of the pocket; that the surplus on a fixed scarcity can be taken without disturbing any of the price's functions; and that the manufactured rent and the scramble to capture rents do no work the defence can vouch for.¹⁰ What emerges is not a vindication of the rentier but a map — a precise account of what in rent must be preserved and what may be taken. Preserve the price, for it rations and signals; preserve the reward, where it calls forth supply; but the pure surplus on a fixed factor, which rations and signals just the same whoever pockets it, and which calls forth nothing because nothing can be called forth — that may be taken in full, and taken without loss.¹¹

This is the threshold of the remedy. For seven plates the volume asked what rent is, and found it, too often, a verdict in favour of mere control; in this plate it has asked what rent is good for, and found that its genuine goods — rationing, signalling, rewarding — can be kept while its unearned surplus is captured, because the goods live in the price and the surplus is separable from them. The next plate takes the step this one has prepared: how to capture the pure rent of a fixed scarcity without touching the signal or the spur — how to take the surplus while leaving the price to do its work — which is the oldest and cleanest idea in the economics of rent, and the one toward which this whole volume has been moving.¹² The contest the book keeps naming, between contribution and control, is here at last adjudicated in principle: the scarcity's price is earned, in the sense that it does necessary work; the scarcity's surplus, where it does none, is not — and the difference between them is the difference the remedy will collect.¹³