Risk bearing theory of profit:

This Theory of risk bearing was put forwarded by American economist professor Bernard Hawley in 1907 according to him profit is the reward for risk bearing. The theory explains like this.

Theory:

 In modern world, production is carried on in anticipation of demand the producer produces good for the future market and may face the risk of lack of demand for their commodities or a decline in the price or non availability of raw materials or power etc. all this in an anticipation of a fair reward. profit gives them an incentive face risk and thus profit is a reward for risk bearing.

According to this professor all the risk faced by an entrepreneur can be grouped into four categories.

• replacement risk that is depreciation
• obsolesced
• risk proper
• uncertainty

The first two risks are included in the cost and covered through prices. Therefore there is virtually not risk with regard to their two risks.

 But risk proper and uncertainty cannot be anticipated and give rise to profit. risk proper arises due to emergence of unforeseen changes during the interval between production and sale. And uncertainty means such contingencies which cannot be anticipated these two are not included in the cost.

 The amount of risk involved in the process of production differ from industry to understand due to this the profit also differ.

Criticism:

• The term risk have been vaguely use by Hawley. There are many risks like insurable and uninsurable but he does not make any distinction as such.
• According to professor carver profit arises not only because of risks but because of the ability and intelligence of entrepreneur.
• The theory considers profit as the reward for risk bearing. But according to critics there is no direct relationship between profit and risk taking.
• in reality profit is influenced by other factors also besides risk bearing.

Uncertainty bearing theory of profit:

This theory was first propounded by the American economist prof. knight according to him, profit is the reward for uncertainty bearing. Professor Knight divided risks under two heads.

• Foreseeable risk:

According to professor knight profit does not arise on account of foreseeable risk because such a risk can be covered through insurance. it is the insurable risk.

• Unforeseeable risk:

It is the uncertain bearing risk and it is due to this that profit accrued to the entrepreneur this are the non insurable risk which arises in a modern business this risk may take the following forms.

• Competitive risk: Existing firms may have to face serious competition from some new firms that enters into the industry.
• Technical risks: This risk arises because sometime new techniques of production are discovered or some new types of machines are invented. The existing firm may not be in a position to adopt or incorporate. These changes and may thus suffer losses in competition with other firms.
• Risk of government intervention: Sometimes the government may inter in the affairs of the industry like fixing the maximum price for the product which might reduce the profit of the firm.
• Business cycle risk: Sometimes due to recession or depression in the economy there is a reduction in the consumer purchasing power and consequently less demand for the product of the firm.
• The unpredictable risks are uncertain and hence uninsurable and therefore cannot be included in the cost.

According to professor knight there is a direct relationship between profit and uncertainty bearing greater the uncertainty bearing higher is the level of profit.

also read: explain the loanable finds theory of interest.