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October 28 - November 5, 2018
The key, in Marx’s view, is that labour is productive if–and only if–it produces a surplus value for production capital, the engine of the capitalist system;
For Marx, then, the production boundary is defined not by sectors or occupations but by how profits are generated–more specifically, whether an occupation is carried out in a capitalist production context. Only the capitalist enterprise will accumulate the surplus value that can lead to an expansion of production. In this way, the capitalist economy reproduces itself.
Here, Marx’s achievement was to move beyond the simple categorization of occupations and map them onto the landscape of capitalist reproduction.
What is more, in distinguishing between different types of capitalist activity–production, circulation, interest-bearing capital and rent–Marx offers the economist an additional diagnostic tool with which to examine the state of the economy. Is the sphere of circulation working well enough? Is there enough capacity to bring capital to the market, so that it can be exchanged and realize its value and be reinvested in production? What proportion of profits pays for interest, and is it the same for all capitalists? Do scarce resources, such as ‘intellectual’ ones like patents on inventions,
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As we will see in the next chapter, neoclassical (mainstream) economics has fundamentally changed this idea of rent into one of imperfections and impediments–which can be competed away.
other words, instead of facilitating industrial production, finance has simply degenerated into a casino, aiming to appropriate as much of the existing surplus as possible for itself.
The next chapter explores how, even as the ink was drying on Marx’s writing in the British Museum Reading Room, the intellectual world of the classical economists was about to be turned upside down.
As the Industrial Revolution progressed and threw masses of labourers in Europe into urban poverty, his labour theory of value was not just a set of abstract ideas, but an active critique of the system that he saw developing around him. If labour produced value, why was labour continuing to live in poverty and misery? If financiers did not create value, how did they become so rich?
Together, they made the obvious argument that if the value of commodities derives from labour, the revenue from their sale should go to workers.
During the recession of the 1880s, socialism became more widespread, culminating in the founding of the Labour Party in 1900. Here, Britain was a relative latecomer: the Socialist Workers’ Party of Germany was founded in 1875 and the Federation of the Socialist Workers of France four years later.
Above all, perhaps, the rising power of capitalists in a society long dominated by aristocratic landowners and local gentry meant that a new analysis of capitalism was required to justify their standing.
Furthermore, as scarce capital could be either invested or saved, profits were no longer linked to theories of exploitation but came to be seen as simply a return for saving and not consuming.
Two of the principal architects of what became known as neoclassical economics were Léon Walras (1834–1910) and William Stanley Jevons (1835–82).
Another economist who linked value to utility was Carl Menger (1840–1921), one of the founders of the ‘Austrian school’ of economics. As we shall see later, utility is a broad concept, combining ideas about a product’s efficiency–is the car reliable?–with vaguer notions of satisfaction and even happiness–does the new car impress the neighbours?
Walras, Jevons and Menger provided a positive and ‘scientific’ view of reproduction, exchange and income distribution. They used the construct which later came to be called ‘marginal utility’, and their propagation of a new view on value theory is now referred to as a ‘marginal revolution’4–it was, however, a slow one.
The marginal utility theory of value states that all income is reward for a productive undertaking.
But it did not come out of nowhere; indeed, it has a long history. In medieval times, thinkers argued that ‘just prices’ were those that reflected an object’s utility.
In Dante’s Inferno, usurers are consigned to the hottest part of hell (circle 7) because they are making money not from the productive sources, which for Dante were Nature or Art, but from speculation and differences in interest rates. Indeed, he is so disgusted by usury that he puts usurers just below the circle of hell housing the sodomites.
Smith’s contemporary and a hostile critic of Quesnay, argued in his 1803 book Treatise on Political Economy that the value of a commodity resides in its utility to a buyer and, therefore, that productive labour is labour which produces utility.
The most influential person in developing utility theory was the late-nineteenth-/early-twentieth-century British economist Alfred Marshall (1842–1924), Professor of Political Economy (as it was still called) at Cambridge.
He accepted that the cost of production was important in determining a commodity’s value. But he and his followers shifted thinking about value from the study of broad quantities of capital, labour and technology inputs and their returns to that of small incremental quantities. Using mathematical calculus, they focused on how a small–or ‘marginal’–change in one variable causes a change in another: for instance, how a small change in price affects the quantity of product demanded or supplied.
Prices, then, reflect the utility that buyers get from things. The scarcer they are–the higher their marginal utility–the more consumers will be willing to pay for them.
This concept of marginalism lies at the heart of what is known today as ‘neoclassical’ theory–the set of ideas that followed the classical theory developed by Smith and Ricardo and was extended by Marx.
Equilibrium was predicated on the notion of scarcity, and the effect of scarcity on diminishing returns: the more you consume, the less you enjoy each unit of consumption after a certain amount (the maximum enjoyment); and the more you produce, the less you profit from each marginal unit produced (the maximum profit).
Where there is an abundance of water, it is cheap. Where there is a scarcity (as in a desert), its value can become very high. For the marginalists, this scarcity theory of value became the rationale for the price of everything, from diamonds, to water, to workers’ wages.
The ‘marginal revolutionaries’, as they have been called, used marginal utility and scarcity to determine prices and the size of the market.
Competition ensures that the ‘marginal utility’ of the last item sold determines the price of that commodity. The size of the market in a particular commodity–that is, the number of items that need to be sold before marginal utility no longer covers the costs of production–is explained by the scarcity, and hence price, of the inputs into production.
As value is now merely a relative concept–we can compare the value of two things through their prices and how the prices may change–we can no longer measure the labour that produced the goods in the economy and by this means assess how much wealth was created.
Marginal utility and scarcity need a couple of additional assumptions for price determination to work as intended. First, all humans have to be one-dimensional utility calculators who know what’s best for themselves, what price to pay for what commodity and how to make an economically ‘rational’ choice.11 Second, there must be no interference, for example by monopolies, in price-setting.
What replaced it was the notion that it is only whatever fetches a price in the market (legally) that can be termed productive activity. Moreover, productivity will fluctuate with prices, because prices determine value, not vice versa.
The only part of the economy which clearly lies outside the production boundary and is unproductive, as in Figure 7, consists of those who receive income simply as transfers, such as subsidies to companies or social security payments to citizens.
There is no longer any room for the analytical distinctions that Ricardo or Marx made about a worker’s contribution to production, let alone the exploitation of that worker. You are valuable because what you provide is scarce. Because we are rational utility calculators in the face of scarcity, we don’t let things go to waste. Workers might choose unemployment because that gives them more marginal utility than working for that or a given wage. The corollary of this logic is that unemployment is voluntary. Voluntary unemployment arises from viewing economic agents as rationally choosing between
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In the 1940s the Russian-born British economist Abba Lerner (1903–82) formulated what he called the ‘first fundamental welfare theorem’,13 which basically states that competitive markets lead to ‘optimal’ outcomes for all. Once market exchange at equilibrium prices has taken place, no one can be made better off, or, in economic parlance, have their ‘welfare’ increased (for example, by accepting more work) without making someone else worse off.
But to get to these ‘optimal’ outcomes, we must ensure that equilibrium holds: all obstacles to equilibrium, such as an interfering government, monopolies, other rents arising from scarcity and so on, must be obliterated.
This approach has a very important consequence. It suggests that government should never intervene in the economy unless there are market failures.
Violations of any of these three assumptions leads to the inefficient allocation of resources by markets, or what marginalists term ‘market failures’.
If markets are not ‘Pareto-optimal’, then everyone could be better off as a result of public policies that correct the market failure in question.14 However, as we will see in Chapter 8, a body of economics referred to as Public Choice theory, advocated by Nobel Prize winner James Buchanan (1919–2013), later argued that as government failures are even worse than market failures (due to corruption and capture), so the correction of market failures by bureaucrats might make things even worse.
Defining everything that commands a price as valuable led to the marginalists’ conclusion that what you get is what you are worth.
The equilibrium view diverted attention from the tensions between capital and labour, and ultimately from alternative theories on the sources and distribution of value–which almost faded into oblivion from the late nineteenth century onwards,
Both were dedicated critics of the neoclassical view of production, believing that the concept of the ‘marginal’ product of labour and capital was ideologically based, and was also subject to a ‘fallacy of composition’: the neoclassical theory of production could not apply to the entire system.
Furthermore, following the ideas of Marx, Robinson and Sraffa argued that the rate of profit was not the reward for productive contribution of ‘capital’; it derived from social relations, that’s to say, who owned the means of production and who was forced to work for them. The circularity of the logic of neoclassical theory was partly accepted by Samuelson in a well-known 1966 article in the prestigious Quarterly Journal of Economics, where he admitted the logical validity of the points being made by Robinson and Sraffa.
But despite the critiques, marginal utility theory prevails and is highly influential.
On the basis of contemporary economic assumptions, we can no longer reliably say who creates value and who extracts it and therefore how the proceeds of production–income–should reasonably be distributed.
The concept of ‘rent’ has changed in economic thought over the centuries, because rent is the principal means by which value is extracted.
Neoclassical economists too; they see rent as an impediment to ‘free competition’ (free entry and exit of different types of producers and consumers). Once those impediments are removed, competition will benefit everyone.
The distinction between social classes, including who owns what, is obliterated, since whether one lends out capital or works for wages depends on an unexplained initial endowment of resources.
Funny
Profits and rent are thus determined analogously: the owners of capital (money) will lend it until the marginal utility from doing so is lower than that of consuming their capital.
So the return on capital and land is seen as compensation for future marginal utility at a level which could be enjoyed today if the capital were consumed instead of lent.
The main similarity is that both theories see rent as a type of monopoly income. But rent has a very different status in the two approaches. Why? Chiefly because of the divergent value theories: classical economics fairly clearly defines rent as income from non-produced scarce assets.
By contrast, in neoclassical economics–in general equilibrium–incomes must by definition reflect productivity. There is no space for rents, in the sense of people getting something for nothing.
