Class XI, Principles of Economics, "Different Theories of Profit"

Different Theories of Profit

Many theories have been put forward by different economists. Some of them are as follows:

1. Dynamic Theory of Profit

The dynamic theory of profit was given by J.B. Clark. According to him profit accrues because the society is dynamic by nature. Since the dynamic nature of society makes future uncertain and any act, the result of which has to come in future, involves risk. Thus profit is the price of risk taking and risk bearing. It arises only in a dynamic society which means in a society where changes does not occur i.e. it is static by nature the risk element disappears and hence the profit element does not exist there.

Actually, a society is said to be dynamic when there is a change in its population, change in trends of the people, change in stock of the capital, change in the supply of entrepreneurs etc. when all these factors becomes constant, the future also becomes certain and the risk element disappears from the society.
According to Clark, profit is the result of an adjustment, which is brought about by the entrepreneurs themselves. They may find new techniques of production by inventing new machines. Their use reduces the cost of production and reduces the course of time as well and gives the entrepreneur higher profits. But when the use of machinery and production becomes common and used by the other entrepreneur operating in the economy. The supply of goods then increase and the prices fall. Hence the profit margin also goes down. Under this situation the profit is determined by the demand and supply of enterprise at a point where they are equal.

Criticism

This theory completely ignores the future or uncertainty. According to Prof. Knight only those changes, which cannot be foreseen, and which cannot be provided in advance will yield profits and not others. Also this theory often gives a misleading conclusion regarding the competition.

2. Marginal Productivity Theory of Profit

According to this theory, profit always equals to the marginal productivity of the entrepreneur. The marginal productivity of the entrepreneur cannot be evaluated in the case of the firm because there is only one entrepreneur in a firm. It is however can be easily done in an industry where the number of the firms can be calculated and hence the marginal productivity of various entrepreneurs can be measured.

According to this theory the profit depends upon the marginal production. Greater the marginal production greater will be the profit.

3. Wages Theory of Profit

According this theory the services of the entrepreneur are also classified as labour though of a superior type. These entrepreneurs do a lot of work in organizing the business unit as well. The entrepreneurs in the shape of profit pay to themselves for service just as managers are paid for their services. It means that profit is a wage for the entrepreneur for the services rendered by them.

4. Un-Certainty Breaking Theory of Profit

According to Prof. Knight

“Profit is the reward for uncertainty bearing and not the risk bearing”.

Prof. Knight has regarded uncertainty bearing as a factor of production. Knight’s theory classifies the position that profit arises because of the joint action of uncertainty bearing and capital.

5. Risk Bearing Theory of Profit

According to F.B. Hawley, “Profit is reward for risk bearing which is the most important function of an entrepreneur”. Hawley believes that risks are unpleasant and therefore no one likes to bear it, until and unless some reward is insured. Profit is a reward for bearing these risks.