When an individual or an entity seeks to increase their own wealth without benefiting society

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What is Rent-seeking?

Rent-seeking is a concept in economics that states that an individual or an entity seeks to increase their own wealth without creating any benefits or wealth to the society.

Rent-seeking activities aim to obtain financial gains and benefits through the manipulation of the distribution of economic resources. Economists view such activities as detrimental to the economy and society. The practice reduces economic efficiency through the inefficient allocation of resources. Also, it commonly leads to other damaging consequences, including a rise in income inequality, lost government revenues, and a decrease in competition.

Rent-seeking Diagram

Rent-seeking doesn’t tend to increase productivity in the economy. On the other hand, it can be an easier alternative to production for the purpose of obtaining financial benefits. The practice can be especially favorable during economic slowdowns or recessions when companies cannot easily increase production.

Also, it is commonly viewed that rent-seeking activities discourage innovation. Instead of developing new innovative methods for revenue generation, companies may rely on the practice to increase their own wealth.

Origins of Rent-seeking

The concept of rent-seeking was developed by American economist Gordon Tullock in 1967. However, the term was offered by another economist, Anne Krueger.

In this case, the term “rent” is referred to as one of the sources of income generation that was conceptualized by Adam Smith. According to Smith, rent is an activity of lending one’s own resources in exchange for some benefits. Relative to other sources of income (profit, wages), rent is the least risky and the least labor-demanding source of income.

The Tullock Paradox

The corrupt politicians utilize their bureaucratic power to engage in rent-seeking activities. In order to gain certain benefits, the rent-seekers may bribe politicians. However, G. Tullock determined that there is a significant difference between the cost of rent-seeking (bribery) and the gains from this practice. This paradox is called the Tullock Paradox.

The Tullock Paradox states that rent-seekers generally obtain large financial and economic gains at an enormously small cost. This cost-benefit discrepancy stems from several possible explanations:

  • In democratic states, there is somewhat more transparency for voters to monitor the behavior of the politicians. Therefore, if a politician is corrupt and takes a bribe, it may be discovered, and voters can penalize the corrupt politicians by not reelecting them, or he may be criminally charged.
  • Another force that determines the costs for rent-seekers is whether there is competition among politicians. If there are different politicians that can ensure the delivery of certain benefits to rent-seekers, then the competing politicians will push down the cost of rent-seeking.

Examples of Rent-seeking Activities

  • Lobbies
  • Government subsidies
  • Grants
  • Tariffs
  • Taxi licensing

Related Readings

CFI is the official provider of the global Financial Modeling & Valuation Analyst (FMVA)® certification program, designed to help anyone become a world-class financial analyst. To keep advancing your career, the additional CFI resources below will be useful:

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