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Unit 1 Micro: Factor Rewards
13th April 2014
Revision blog on factor rewards / factor incomes together with a revision quiz to check your understanding
Income
The main sources of income for people are:
- Wages and salaries from a job often boosted by overtime and productivity bonuses
- Interest from savings held in bank accounts
- Dividends from share ownership
- Rent income from the ownership of property and other assets such as equipment
The government can change people’s disposable income by taxing incomes and providing welfare benefits to households on lower wages, to those who are out of work or people who have retired
Wealth
Wealth is defined as the value of a stock of assets that, in turn, creates a flow of income.
- Financial wealth – e.g. stocks and shares, corporate and government bonds, savings built up in bank and building society accounts and contributions to private pension schemes
- Marketable wealth – items that can be sold for a price e.g. rare antiques and fine wines
- Social capital – social infrastructure such as transport systems, schools and hospitals
Income is not the same as wealth!
It is important to distinguish between income and wealth. For example, if you receive a higher wage or salary, this adds to your monthly income and if this is saved in a bank, or by making contributions to a pension fund then you are accumulating wealth. Being wealthy can generate income for if you own shares in companies you expect to receive dividend income perhaps once or twice a year. Money in savings accounts pays interest.Likewise, if you own properties you can rent it out to tenants.
Inequality in income and wealth
The distribution of income and wealth in many countries is highly unequal and there is a huge gap between the richest and poorest households. Globally, the United Nations has reported that the World's richest 1% own 40% of all wealth. Recent data released by the UK Government found that Britain's wealthiest 2.5m households are 4.3 times wealthier than the poorest 12.5m combined.
Millions of people rely on relatively low incomes with little opportunity to accumulate wealth. Is this fair? What are the consequences of a high level of inequality? Should the government intervene to change the distribution of income? These are important normative questions for economists.
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Who Earns What In the UK Economy?
Source: Office of National Statistics |
Labour and Wages: Millions of workers in the UK are paid hourly wages well below the national average. The minimum wage seeks to address some of the problems associated with low pay. On the other hand, some people have skills that are rare, and these people get high salaries in the labour market.
- Capital and Interest: Businesses often need to borrow money to fund investment projects. The reward for investing money is interest. Interest rates can go up or down. If the interest rate is high, it becomes less worthwhile to borrow money because any project will have to make more money than before to be profitable since more interest is being paid.
- Enterprise and Profit: In return for having good business ideas and taking the risk in putting funds into a business the entrepreneur takes any money that the business has left after the other factors of production have received their rewards. This is called gross profit. Taxes then have to be paid to the government, and the entrepreneur takes what is left. This after-tax profit is called net profit.
Business Objectives: Profits and Alternatives
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Maximisers and Satisficers
Maximisers behave in a traditional economic way and always try to make the best possible choice from the available alternatives. Satisficers examine only a limited set of alternatives, and choose the best between them Source: Professor Paul Ormerod |
Economists often assume that one of the main objectives of a business is to achieve maximum profits. But this is not always the case!
- Some businesses are looking to achieve a rising market share and increasing market share might mean having to sacrifice some profits in the short run by cutting prices and under-cutting rival suppliers in the market.
- There is also a growing interest in the concept of social enterprises, ethical businesses, and corporate social responsibility where the assumption of firms driven solely by the profit motive is being challenged and where businesses are encouraged to take account of their economic, social and environmental impacts.
- The rise of consumer power in influencing the decisions of businesses is part of this trend. Social network sites such as Twitter and Facebook may be giving consumers increased influence in shaping the decisions of many different businesses.
The main assumption in introductory microeconomics is that businesses are rational in wanting to maximise profits.
Test your understanding here:
Geoff Riley
Geoff Riley FRSA has been teaching Economics for over thirty years. He has over twenty years experience as Head of Economics at leading schools. He writes extensively and is a contributor and presenter on CPD conferences in the UK and overseas.