Chapter 17 of 26 · Capitalism: A Treatise on Economics by George Reisman
Chapter 14. The Productivity Theory of Wages
CHAPTER 14
THE PRODUCTIVITY
PART A
THE MARXIAN EXPLOITATION
THEORY
1. The Influence of the Exploitation Theory
T he Marxian exploitation theory has been and continues to be among the most influential economic doctrines in the world. Despite the global collapse of socialism, it continues to be the prevailing theory of wages. Its truth in the explanation of the determination of wage rates is taken for granted both by the overwhelming majority of intellectuals and by the great mass of ordinary citizens in all countries of the world. It is for this reason that I find it necessary to begin my discussion of wage rates with an account of this theory.
According to the exploitation theory, capitalism is a system of virtual slavery, serving the narrow interests of a comparative handful of “exploiters”—the businessmen and capitalists—who, driven by insatiable greed and powerlust, exist as parasites upon the labor of the masses. This view of capitalism has not been the least bit shaken by the steady rise in the standard of living of the average person that has taken place in the capitalist countries since the beginning of the Industrial Revolution. The rise in the standard of living is not attributed to capitalism, but precisely to the infringements that have been made upon capitalism. Thus, people attribute economic progress to labor unions and social legislation, and to what
THEORY OF WAGES they consider to be improved personal ethics on the part of employers. By the same token, they tremble at the thought of unions not existing, of a society without minimum-wage laws, maximum-hours legislation, and child-labor laws—at the thought of a society in which no legal obstacles stood in the way of employers pursuing their self-interest. In the absence of such legislation, people believe, wage rates would return to the minimum-subsistence level; women and children would labor once more in the mines; and the hours of work would be as long and as hard as it is possible for human beings to bear—all for the benefit of the businessmen and capitalists, precisely as Marx maintained.
As I have indicated, the exploitation theory has been and continues to be a guiding force in the thoughts and actions not only of the various Communist and socialist parties around the world, but also in those of the great majority of people who regard themselves as anticommunists and antisocialists. It is believed to be correct by almost everyone, not as a description of present-day conditions, to be sure, but as a description of the workings of laissez-faire capitalism—of capitalism free of all government intervention into the economic system, of capitalism as displayed in its essential nature in the nineteenth century.
Thus, the exploitation theory is almost universally accepted as the basis for the interpretation of modern economic history. Even the great majority of anticommunists and antisocialists believe that economic conditions in the nineteenth century were bad for the average person because of the unrestrained greed of the capitalists. By the
same token, the subsequent improvement in economic conditions is almost universally believed to be the result of government intervention that limits the operation of that greed.
The belief in the essential correctness of the exploitation theory as applied to laissez-faire capitalism underlies the advocacy of the socalled mixed economy and the welfare state—of virtually the whole economic program of the present-day “liberals.” Among the measures enacted and maintained in force as the result of its influence are not only maximum-hours, minimum-wage, prounion, and child-labor legislation, but also progressive income and inheritance taxes and social-welfare spending, such as that for public housing, public education, social security, and socialized medicine. It is believed that none of these measures is at the expense of the workers, but only of the capitalists. Their cost, it is believed, comes exclusively at the expense of the capitalists’ profits—from “surplus-value.” From the point of view of the workers, it is thought, the measures represent nothing but a source of gains: less work, higher wages, and more housing, education, income security, medical care, and so forth.
In effect, these measures are perceived merely as giving back to the workers some of the wealth allegedly exploited from them by the capitalists. Indeed, the validity of the exploitation theory is so taken for granted that “liberal” politicians routinely campaign on the assumption that no possible basis can exist for opposing their allegedly humanitarian projects except membership in the class of the “rich”—that is, of the capitalist exploiters—or else some utterly perverse desire to prevent the great mass of people from being benefitted at no cost to themselves.
Thus, the influence of the exploitation theory is to be found not in any support it may provide for a Communist revolution, but in the perception it offers of the allegedly evil nature of capitalism and the need to control that allegedly evil nature, which perception is held by the overwhelming majority of people, especially by the overwhelming majority of today’s intellectuals. In this essential respect, the influence of the exploitation theory is as great as ever. Indeed, the exploitation theory is the leading manifestation of the prescientific, demonological worldview that I described in Chapter 1 as continuing to be prevalent in economics. 1 The alleged good and evil arbitrary powers that are supposed to rule the economic world according to that view are, first and foremost, the businessmen and capitalists of the Marxian exploitation theory, who, of course, are the allegedly evil powers, and the government of the “liberals” and the socialists, which is the allegedly good power.
The remaining sections of this part present an exposition of the substantive content of the exploitation theory, the conceptual framework of the exploitation theory having already been presented and refuted in Chapter 11. 2 That substantive content is the Marxian version of the labor theory of value and the Marxian version of the iron law of wages, both of which represent profound distortions of the classical economists’ ideas on these subjects, as a comparison with the relevant portions of Chapter 11 will clearly confirm. 3 Because Chapter 11 has already presented in great detail a mutually exclusive version of the labor theory of value, it will not be necessary in this chapter to present any further critique of this aspect of the exploitation theory. The mere presentation of the Marxian version of the labor theory of value will be enough to refute it, in the light of the material previously presented in Chapter 11. However, the same cannot be said for the iron law of wages, and thus Part B of this chapter incorporates a critique of the Marxian version of the iron law of wages, mainly in the form of the positive exposition of the mutually exclusive theory of wages that I call the productivity theory of wages and after which I have titled both Part B and the present chapter as a whole.
While the productivity theory of wages can be interpreted as a flat-out alternative to the ideas of the classical economists on the subject of wages, I believe that it is actually the theory of wages that is consistent with the essential core of classical economics. For example, it is very closely related to Say’s Law, in that just as Say’s Law explains real demand as determined by production and supply, so the productivity theory of wages explains real wages as also determined by production and supply—specifically, by the production and supply of goods relative to the supply of labor. 4 It is also closely related to the classical economists’ ideas on saving and capital accumulation and to their doctrine of the wages-fund theory. 5 In addition, of course, as I have already indicated, it is consistent both with Ricardo’s doctrine on profits and with his views on the labor theory of value, both of which I have shown to be in actual opposition to the exploitation theory. 6
2. Marx’s Distortions of the Labor Theory of Value
Marx twists the labor theory of value into a form in which Smith and certainly Ricardo would not have supported it. He proceeds as though the quantity of labor required to produce a good were the sole, exclusive determinant of its price, ignoring all the repeated statements by Ricardo in particular to the contrary. 7 He seems never to have heard of categories of goods whose prices are determined by supply and demand, nor of the time factor, the rate of profit, and differences in wage rates as
THE PRODUCTIVITY factors influencing prices. He writes:
A use-value, or useful article, therefore, has value only because human labour in the abstract has been embodied or materialized in it. How, then, is the magnitude of this value to be measured? Plainly, by the quantity of the value creating substance, the labour, contained in the article. The quantity of labour, however, is measured by its duration, and labour-time in its turn finds its standard in weeks, days, and hours. 8
In answer to the objection that his theory implies that commodities should be more valuable the more idle and unskillful the workers are who produce them, Marx states that he is speaking of “socially necessary” labor-time. “The labour-time that is socially necessary,” he explains, “is that required to produce an article under the normal conditions of production, and with the average degree of skill and intensity prevalent at the time.” 9
The phenomenon that is actually referred to with these words is market competition. But competition and its effects are quickly forgotten. For competition is responsible for the fact that, in the same market at the same time, equal quantities of products of the same type sell for the same price, irrespective of the very different amounts of labor that may have been expended to produce them. In the very next paragraph, in full contradiction of what he has just said about socially necessary labor time, Marx declares:
Commodities, therefore, in which equal quantities of labour are embodied, or which can be produced in the same time, have the same value. The value of one commodity is to the value of any other, as the labour-time necessary for the production of the one is to that necessary for the production of the other. “As values, all commodities are only definite masses of congealed labour-time.” 10
The problem created for Marx’s version of the labor theory of value by the existence of skilled labor is disposed of with equal sleight of hand, a few pages later. This problem is the fact that the products of a given amount of skilled labor tend to be worth more than the products of the same number of hours of unskilled labor—a circumstance which represents a direct contradiction of the proposition that the value of all commodities is in proportion simply and only to the relative quantities of labor required to produce them. Marx writes: “Skilled labour counts only as simple labour intensified, or rather, as multiplied simple labour, a given quantity of skilled labour being considered equal to a greater quantity of simple labour. . . . For simplicity’s sake we shall henceforth account every kind of labour to be unskilled, simple labour; by this we do no more than save ourselves the trouble of making the reduction.” 11
Thus, with these difficulties out of the way, Marx feels free to develop his own peculiar, absolutist version of the labor theory of value—a version which recognizes noth—
THEORY OF WAGES 605 ing but the quantity of labor as the determinant of exchange ratios and prices. A few samples of his virtual obsession with the notion of “congealed labour” follow:
The equation, 20 yards of linen = 1 coat, or 20 yards of linen are worth one coat, implies that the same quantity of value-substance (congealed labour) is embodied in both;
that the two commodities have each cost the same amount of labour or the same quantity of labour-time. 12
Therefore, 10 lbs. of tea = 40 lbs. of coffee. In other words, there is contained in 1 lb. of coffee only one-fourth as much substance of value—labour—as is contained in 1 lb. of tea. 13
In this sense, every commodity is a symbol, since, in so far as it is value, it is only the material envelope of the human labour spent upon it. 14
Thus, in Marx’s view, the exchange value of commodities is determined by their congealed labor content. Every commodity is perceived as containing so much labor that has entered into its production. The value of every commodity relative to the value of every other commodity, i.e., their mutual exchange ratio, is then seen as nothing but a ratio of their respective congealed labor contents. The price of every commodity is seen as nothing but the ratio of the labor required to produce a unit of it to the labor required to produce a unit of gold. If, for example, an article sells for ten dollars, it can only be, according to Marx, because it takes ten times the labor to produce a unit of it as it does to produce the quantity of gold defined as one dollar.
Marx, in other words, presents what I call an absolutist version of the labor theory of value—a version which, totally unlike that of the classical economists, holds that the quantity of labor required to produce something is always the determinant of its value and is the sole and exclusive determinant of its value. Marx’s “congealed labour” can only be understood as some kind of alleged pulsating sweat-content that is immanent in commodities, and that allegedly gives off some kind of charged field, so to speak, whose interaction with the similarly charged fields of other commodities supposedly determines exchange ratios and prices, and does so in proportion to the respective pulsating sweat-contents—that is, to the respective “congelations” of “labour.”
Implications for Value Added and Income Formation
Marx’s absolutist version of the labor theory of value provides a remarkably simple explanation of the determination of “surplus-value”—i.e., of the extent of the alleged deduction of profits from wages that the exploitation theory fallaciously claims. (Marx, of course, mistakenly believes that surplus-value—profit—comes into existence only with the appearance of businessmen and capitalists, under “capitalistic circulation.” 15 )
606 CAPITALISM
His absolutist version of the labor theory of value implies that the total of the value added at any stage in production, and thus the total of the income earned in that stage of production—that is, the sum of profits and wages together—must be due to the performance of fresh labor at that stage of production. This is because any product that is produced contains all of the labor that went into producing the materials required for its production. It also contains an appropriate share of the labor that entered into producing the machines and factory buildings that were used in its production. (On this last point, Marx says, for example, “Suppose a machine to be worth 1000 pounds, and to wear out in 1000 days. Then one thousandth part of the value of the machine is daily transferred to the day’s product.” 16 ) If the product is to be worth more than the nonhuman means of production— the materials and plant and equipment—used up or otherwise productively consumed in producing it, then it must, according to Marx’s absolutist version of the labor theory of value, be the product of a larger number of hours of labor than entered into those means of production. This is possible only to the extent that fresh labor is applied in transforming the materials, with the aid of the machinery and factory buildings, into the product. In Marx’s own words:
We have seen that the [nonhuman] means of production transfer value to the new product, so far only as during the labour process they lose value in the shape of their old use-value. The maximum loss of value that they can suffer in the process, is plainly limited by the amount of the original value with which they came into the process, or in other words, by the labour-time necessary for their production. Therefore the means of production can never add more value to the product than they themselves possess independently of the process in which they assist. However useful a given kind of raw material, or a machine, or other means of production may be, though it may cost 150 pounds or, say, 500 days’ labour, yet it cannot, under any circumstances, add to the value of the product more than 150 pounds. Its value is determined not by the labour-process into which it enters as a means of production, but by that out of which it has issued as a product. In the labour-process it only serves as a mere use-value, a thing with useful properties, and could not, therefore, transfer any value to the product, unless it possessed such value previously. 17
But, we are told:
It is otherwise with the subjective factor of the labour-process, with labour-power in action. While the labourer, by virtue of his labour being of a specialised kind that has a special object, preserves and transfers to the product the value of the means of production, he at the same time, by the mere act of working, creates each instant an additional or new value. . . . The substitution of one value for another, is here effected by the creation of a new value. 18
In accordance with this view, Marx introduces his distinction between “constant capital” and “variable capital.” The constant capital, representing the portion of capital invested in materials, machinery, and factory buildings, allegedly conveys to the product only the value it itself represents. It is in no way value creating. In this sense it is “constant.” The variable capital, however, that is, the portion of the capital invested in the payment of wages—in the purchase of “labour-power”—is value creating. In this sense it is “variable.” In Marx’s words:
That part of capital then, which is represented by the means of production, by the raw material, auxiliary material and the instruments of labour, does not, in the process of production, undergo any quantitative alteration of value.
I therefore call it the constant part of capital, or, more shortly, constant capital.
On the other hand, that part of capital, represented by labour-power, does, in the process of production, undergo an alteration of value. . . . This part of capital is continually being transformed from a constant into a variable magnitude. I therefore call it the variable part of capital, or shortly, variable capital. 19
The “variable capital,” then, is variable in the sense that in employing fresh labor, it alone makes it possible for the product to contain more hours of labor than the materials and other constituents of the constant capital. And thus the value of the product can be greater than the value of the nonhuman means of production used up or otherwise productively consumed in producing it.
Now to the extent that the value of a product exceeds the value of the nonhuman means of production, income exists in the form of profits plus wages. Profit, of course, is the excess of the value of the product over the value of all of the means of production required to produce it, including the fresh labor applied at the current stage of production. It is the excess of the value of the product over the total costs of production. The value merely of the nonhuman means of production used up or otherwise productively consumed in order to produce a product is equal to all the costs of production but wages. Thus, when this amount is subtracted from the value of the product, the difference is profits plus wages. That is, sales – (cost – wages) = profits + wages. 20 For example, if the value of a product is $100 and the costs of producing it are $80, the profit earned is $20. If, of the $80 of total costs, the costs on account of capital goods are $45, while the costs on account of labor are $35, then the difference between the value of the product and the value of the capital goods alone is equal to $100 – $45, which is $55. This $55 in turn is equal to the sum of the profit of $20 plus the wage cost of $35. That the difference between the value of the product and the value of the capital goods alone is equal to the sum of the profit plus the wages can be seen directly, by recognizing that $100 – $45 is equal to $100
THE PRODUCTIVITY
– ($80 – $35), which, of course, equals the $20 of profit plus the $35 of wages.
In just this way, fresh labor is perceived as adding to the value of the nonhuman means of production consumed in producing the product the sum of wages and profits together. The sum of the wages and the profits together earned at any given stage of production is held to be in proportion to the fresh labor added at that stage.
It should be realized that, according to Marx’s view, if there were a fully automated factory, requiring the performance of virtually no fresh labor to transform materials into a product, the value of the product could not exceed the value of the materials plus the depreciation on the machinery and factory. Similarly, according to Marx’s view, there is no way of explaining the wellknown fact that older wine or whiskey has a higher value than younger wine or whiskey, even though no additional labor is performed in the aging process.
3. Marx’s Version of the Iron Law of Wages
Now, according to Marx, what determines the division of the value added—allegedly all by the performance of fresh labor—between wages and profits is a further application of his absolutist version of the labor theory of value. This time Marx applies his absolutist version of the labor theory of value to the determination of the value of labor itself, and, in so doing, provides his own peculiar version of the socalled iron law of wages. The value of labor, or “labour-power,” as Marx calls it, is allegedly determined by the quantity of labor required to produce labor! The meaning of this proposition is explained by Marx in the following words:
The value of labour-power is determined, as in the case of every other commodity, by the labour-time necessary for the production, and consequently also the reproduction, of this special article. So far as it has value, it represents no more than a definite quantity of the average labour of society incorporated in it. Labour-power exists only as a capacity, or power of the living individual. Its production consequently presupposes his existence. Given the individual, the production of labour-power consists in his reproduction of himself or his maintenance. For his maintenance he requires a given quantity of the means of subsistence. Therefore the labour-time requisite for the production of labour-power reduces itself to that necessary for the production of those means of subsistence; in other words, the value of labour-power is the value of the means of subsistence necessary for the maintenance of the labourer. 21
In elaboration, Marx writes:
The value of labour-power resolves itself into the value of a definite quantity of means of subsistence. It therefore varies with the value of these means or with the quantity of labour requisite for their production.
THEORY OF WAGES 607
Some of the means of subsistence, such as food and fuel, are consumed daily, and a fresh supply must be provided daily. Others such as clothes and furniture last for longer periods and require to be replaced only at longer intervals. One article must be bought or paid for daily, another weekly, another quarterly, and so on. But in whatever way the sum total of these outlays may be spread over the year, they must be covered by the average income, taking one day with another. If the total of the commodities required daily for the production of labour-power = A, and those required weekly = B, and those required quarterly = C, and so on, the daily average of these commodities = (365A+52B+4C+&c.) . Suppose that in this mass of com—
365 modities requisite for the average day there are embodied 6 hours of social labour, then there is incorporated daily in labour power half a day’s average social labour, in other words, half a day’s labour is requisite for the daily production of labour-power. This quantity of labour forms the value of a day’s labour-power or the value of the labour-power daily reproduced. If half a day’s average social labour is incorporated in three shillings, then three shillings is the price corresponding to the value of a day’s labour-power. If its owner [viz., the wage earner] therefore offers it for sale at three shillings a day, its selling price is equal to its value, and according to our supposition, our friend Moneybags, who is intent upon converting his three shillings into capital, pays this value. 22
It should be observed that when Marx and his followers denounce capitalism for treating labor “like a commodity,” what they really mean, as these passages make plain, is that they believe that under capitalism the value of labor is determined in the same way as the value of products—i.e., by the quantity of labor required to produce it. It should also be observed where Marx stands literarily and intellectually in resorting to the use of such expressions as “our friend Moneybags” in referring to the capitalist employer. Marx repeats some of the qualifications of Ricardo about the meaning of “subsistence.” He says:
. . . the number and extent of his [the wage earner’s] socalled necessary wants, as also the modes of satisfying them, are themselves the product of historical development, and depend therefore to a great extent on the degree of civilisation of a country, more particularly on the conditions under which, and consequently on the habits and degree of comfort in which, the class of free labourers has been formed. In contradistinction therefore to the case of other commodities, there enters into the determination of the value of labour-power a historical and moral element. Nevertheless, in a given country, at a given period, the average quantity of the means of subsistence necessary for the labourer is practically known. 23
Nevertheless, Marx’s version of the iron law of wages fundamentally differs from that of the classical economists. This is because Marx assumes that wages are somehow directly determined by “subsistence,” totally
608 CAPITALISM apart from any connection to population growth and the operation of the law of diminishing returns. (According to the classical economists, of course, what created the alleged tendency of wages toward subsistence was precisely population growth and the ensuing operation of the law of
24 diminishing returns. ) Wages are supposedly put at subsistence directly—by the arbitrary will of the capitalists. And, at bottom, despite the passage quoted, when Marx speaks of subsistence, he usually means it in a strict, biological sense. In his view, if employers can get away with it, they will pay wages sufficient to cover only the cost of the commodities vitally necessary to the worker’s survival—and not even that. He declares:
Capital cares nothing for the length of life of labour-power.
All that concerns it is simply and solely the maximum of labour-power, that can be rendered fluent in a given working day. It attains this end by shortening the extent of the labourer’s life, as a greedy farmer snatches increased produce from the soil by robbing it of its fertility. 25
In The Communist Manifesto, Marx declares:
The average price of wage-labor is the minimum wage, i.e., that quantum of the means of subsistence, which is absolutely requisite to keep the laborer in bare existence as a laborer. What, therefore, the wage-laborer appropriates by means of his labor, merely suffices to prolong and reproduce a bare existence. 26
He even states that “The constant tendency of capital is to force the cost of labour back towards zero.” 27
In reading Marx, it is difficult to avoid reaching the conclusion that, in his view, if the capitalists could operate without restraint of any kind, there would be a section in the financial pages of the newspapers that does not presently appear—namely, a listing of the prices of such wage earners’ necessities as potatoes, bread, and loincloths, and the rentals of cardboard shanties and mud huts. The capitalists, supposedly, would then periodically adjust wages to conform with the changes in these prices.
The Rate of Exploitation Formula
Marx’s essential idea that fresh labor adds all value and yet is paid in accordance only with the labor required to “produce” it—that is, produce its necessities—gives rise to his formula for the expression of the degree of exploitation of the worker by the capitalist. I quote him at length:
We have seen that the labourer, during one portion of the labour-process, produces only the value of his labour-power, that is, the value of his means of subsistence. Now since his work forms part of a system, based on the social division of labour, he does not directly produce the actual necessaries which he himself consumes; he produces instead a particular commodity, yarn for example, whose value is equal to the value of those necessaries or of the money with which they can be bought. The portion of his day’s labour devoted to this purpose, will be greater or less, in proportion to the value of the necessaries that he daily requires on average, or, what amounts to the same thing, in proportion to the labour-time required on average to produce them. If the value of those necessaries represents on an average the expenditure of six hours’ labour, the workman must on an average work for six hours to produce that value. If instead of working for the capitalist, he worked independently on his own account, he would, other things being equal, still be obliged to labour for the same number of hours, in order to produce the value of his labour-power and thereby to gain the means of subsistence necessary for his conservation or continued reproduction [viz., for his continued ability to work]. But as we have seen, during that portion of his day’s labour in which he produces the value of his labour-power, say three shillings, he produces only an equivalent for the value of his labour-power already advanced by the capitalist; the new value created only replaces the variable capital advanced [viz., the wages paid]. It is owing to this fact, that the production of the new value of three shillings takes the semblance of a mere reproduction. That portion of the working day, then, during which this reproduction takes place, I call “necessary” labour-time, and the labour expended during that time I call “necessary” labour. Necessary as regards the labourer, because independent of the particular social form of his labour; necessary, as regards capital, and the world of capitalists, because on the continued existence of the labourer depends their existence also.
During the second period of the labour-process, that in which his labour is no longer necessary labour, the workman, it is true, labours, expends labour-power; but his labour, being no longer necessary labour, he creates no value for himself. He creates surplus-value which, for the capitalist, has all the charms of a creation out of nothing. This portion of the working day, I name surplus labour-time, and to the labour expended during that time, I give the name surplus labour. It is every bit as important, for a correct understanding of surplus-value, to conceive it as a mere congelation of surplus-labour-time, as nothing but materialised surplus-labour, as it is, for a proper comprehension of value, to conceive it as a mere congelation of so many hours of labour, as nothing but materialised labour. The essential difference between the various economic forms of society, between, for instance, a society based on slave labour, and one based on wage labour, lies only in the mode in which this surplus-labour is in each case extracted from the actual producer, the labourer.
Since, on the one hand, the values of the variable capital and of the labour-power purchased by that capital are equal, and the value of this labour-power determines the necessary portion of the working day; and since, on the other hand, the surplus-value is determined by the surplus portion of the working day, it follows that surplus-value bears the same ratio to variable capital, that surplus-labour does to necessary labour, or in other words, the rate of surplus-value s surplus labor s surplus labor
= . Both ratios, and v necessary labor v necessary labor
THE PRODUCTIVITY express the same thing in different ways; in the one case by reference to materialised, incorporated labour, in the other by reference to living, fluent labour.
The rate of surplus-value is therefore an exact expression for the degree of exploitation of labour-power by capital, or of the labourer by the capitalist. 28
Marx’s doctrine is thus actually the essence of simplicity. Fresh labor adds the entire amount by which the value of a product exceeds the value of the nonhuman means of production consumed in producing the product. But that labor is not paid in accordance with the number of hours for which it works, but in accordance with the smaller number of hours of labor required to produce the necessities that give the worker the capacity to work. To the extent that the workers work more hours than corresponds to the hours required to produce their necessities, they perform surplus labor, which is the foundation of surplus-value.
To express the idea even more simply, the consumption of necessities produced by only six hours of labor gives a worker the ability to perform twelve hours of labor. The capitalist is thus allegedly enabled to buy a working day of twelve hours at a wage corresponding to the six hours of labor required to produce the necessities that make possible the twelve hours of labor. The capitalist is therefore able to add twelve hours of labor to the value contained in the nonhuman means of production that must be consumed in order to produce his product, and he obtains that labor for a wage corresponding to only six hours of labor. In other words, he allegedly obtains twelve hours of labor, and the value added by twelve hours of labor, for a wage corresponding only to six hours of labor. This is the alleged source of his profit and of all other forms of “surplus-value.” It is allegedly unpaid labor time. In Marx’s own words:
Let us examine the matter more closely. The value of a day’s labour amounts to 3 shillings, because on our assumption half a day’s labour is embodied in that quantity of labour-power, i.e., because the means of subsistence that are daily required for the production of labour-power, cost half a day’s labour. But the past labour that is embodied in the labour-power, and the living labour that it can call into action; the daily cost of maintaining it, and its daily expenditure in work, are two totally different things. The former determines the exchange-value of the labour-power, the latter is its use-value. The fact that half a day’s labour is necessary to keep the labourer alive during 24 hours, does not in any way prevent him from working a whole day.
Therefore, the value of labour-power, and the value which that labour power creates in the labour-process, are two entirely different magnitudes; and this difference of the two values was what the capitalist had in view, when he was purchasing the labour-power. The useful qualities that labour-power possesses, and by virtue of which it makes yarn or boots, were to him nothing more than a conditio sine qua
THEORY OF WAGES 609 non; for in order to create value, labour must be expended in a useful manner. What really influenced him was the specific use-value which this commodity possesses of being a source not only of value, but of more value than it has itself. 29
The following example makes the substance of Marx’s entire system clear. (It should be noted that this example is virtually identical with the one extensively employed by Marx himself, except for the use of dollars rather than English shillings, and for the assumption that a unit of money represents just one hour of “congealed labor-time” rather than two such hours. 30 )
Assume as a universal principle that for every hour of labor “congealed” in a product, there corresponds $1 of product value. (This would imply, according to Marx, that on a gold standard, 1 hour of labor was required to produce the quantity of gold defined as $1.) Assume in particular that the production of a certain quantity of cotton yarn begins with a quantity of raw cotton that is itself the product of 40 hours of labor. The money value of this raw cotton is, accordingly, $40. Assume further that the machinery by means of which, and the factory building in which, the yarn is produced lose a portion of their useful life in the processing of this particular batch of raw cotton which represents an additional 8 hours of labor. (In order to better understand this last assumption, we might assume that the machinery and factory building have required 8 million hours of labor to construct, and have a useful life such that they can contribute to the processing of a million batches of raw cotton such as the one they presently process. In that case the machinery and factory building contribute 8 hours of labor to the production of each of one million batches of yarn.) The monetary value of the contribution of the machinery and factory building to the batch of yarn is, accordingly, $8.
Thus, in this example, we have a “constant capital” used up representing 48 hours of congealed labor in all, and therefore $48 of monetary value. These 48 hours of labor congealed in the constant capital now pass over into the product, the cotton yarn. The cotton yarn is the product of all the labor that has entered into the constant capital used up to produce it and, in addition, is the product of the fresh, additional labor that is applied within the cotton mill itself. We assume with Marx that the quantity of this fresh, additional labor is 12 hours. On these assumptions, we end up with a quantity of cotton yarn that is the product of 60 hours of labor in toto—48 hours contributed by way of the constant capital used up to produce it and 12 hours more contributed by the fresh, additional labor that is employed in the cotton mill to process the raw cotton with the aid of the plant and equipment constituted by the mill. The monetary value of the resulting cotton yarn is, of course, $60.
The difference between the monetary value of the cotton yarn and the monetary value of the constant capital used up to produce the yarn is $12, precisely corresponding to the 12 hours of fresh, additional labor performed. The $12 represent the sum of all incomes earned at this stage of the process of production. They are the sum of the profits (and all other forms of “surplus-value”) and the wages together. For they equal the $60 value of the product minus the $48 of costs of nonhuman means of production, that is, the costs other than wages. And thus, by the formula that sales – (cost – wages) = profits + wages, $60 of sales minus $48 of costs other than wages equals $12 of profits plus wages.
And now we come to see just how, according to Marx, profits and all other forms of “surplus-value” are deducted from the value supposedly added by the labor of the wage earners. The alleged “secret of profit making,” to use Marx’s expression, is that for the 12 hours of fresh, additional labor, and thus for the addition of $12 of monetary value to the constant capital that is used up, the capitalist pays a wage that corresponds not to the time the worker works, but to the time required to produce the necessities the worker requires in order to be able to work—the necessities he requires in order to be able to deliver his “labour-power.” If the worker can perform 12 hours of labor by means of consuming necessities produced in only 6 hours, then the capitalist buys his 12 hours of labor for a wage of only $6. In this way allegedly, he obtains a product containing 60 hours of labor and worth $60, at a cost of only $54. He incurs a cost of $48 on account of constant capital that is used up and a further cost of only $6 for the performance of the 12 hours of labor. The “secret” is that he allegedly receives 6 hours of labor—the labor the worker performs in excess of what is equivalent to providing for his subsistence, i.e., the socalled surplus labor—that he, the capitalist, does not pay for. What he allegedly pays for is only the labor equivalent to what is required to produce the wage earner’s necessities, i.e., the socalled necessary labor. In this way, says Marx,
Every condition of the problem is satisfied, while the laws that regulate the exchange of commodities have been in no way violated. Equivalent has been exchanged for equivalent. For the capitalist as buyer paid for each commodity, for the cotton, the spindle and the labour-power, its full value. He then did what is done by every purchaser of commodities; he consumed their use-value. . . .
By turning his money into commodities that serve as the material elements of a new product, and as factors in the labour-process, by incorporating living labour with their dead substance, the capitalist at the same time converts value, i.e., past, materialized, and dead labour into capital, into value big with value, a live monster that is fruitful and multiplies. 31
4. Implications of the Exploitation Theory
It should be clear from the preceding discussion that the Marxists are deadly serious when they speak of “wage slavery” and describe all of history as a “class struggle” in which today’s wage earners are the counterpart of the slaves and serfs of previous ages and in which today’s businessmen and capitalists are the counterpart of the slave owners and feudal aristocrats of former times. 32 Marx’s theory of “surplus-value” explains profit and the other nonwage incomes as the result of precisely the same facts that make possible the gains of a slave owner. The source of a slave owner’s gain is the fact that a slave can perform more labor than is required to provide for his own subsistence. The excess goes to the benefit of the slave owner. Precisely that is held to be the source of the capitalist’s profit and of every other form of “surplus-value.”
The exploitation theory also implies that the workers are men without a country and “have nothing to lose but their chains,” as The Communist Manifesto declares. 33 According to the exploitation theory, all economic progress simply passes the workers by. The effect of economic progress is to make available new and better goods and to reduce the prices of existing goods. But, according to the exploitation theory, the effect of reductions in the prices of goods purchased by the wage earners is a corresponding reduction in wages and increase in the portion of the worker’s labor time appropriated for the creation of surplus-value. In the words of Marx:
The value of commodities is in inverse ratio to the productiveness of labour. And so, too, is the value of labour-power, because it depends on the value of commodities. . . . [S]urplus-value is, on the contrary, directly proportional to that productiveness. It rises with rising and falls with falling productiveness. The value of money being assumed to be constant, an average social working day of
12 hours always produces the same new value, six shillings, no matter how this sum may be apportioned between surplus-value and wages. But if, in consequence of increased productiveness, the value of the necessaries of life fall, and the value of a day’s labour be thereby reduced from five shillings to three, the surplus-value increases from one shilling to three. Ten hours were necessary for the reproduction of the value of the labour-power; now only six are required. Four hours have been set free, and can be annexed to the domain of surplus-labour. Hence there is immanent in capital an inclination and constant tendency, to heighten the productiveness of labour, in order to cheapen commodities, and by such cheapening to cheapen the labourer himself. 34
Thus, according to Marx, the wage earners are deprived of the ability to buy any larger quantity of the goods whose prices fall and, by the same token, of the ability to set aside funds for the purchase of goods they
did not previously purchase. Thus, all economic progress allegedly operates exclusively to the benefit of the “exploiters.”
The exploitation theory implies not only that all economic progress passes the workers by, but, still worse, that the workers actually fall into a deepening state of impoverishment. In the words of The Communist Manifesto:
Hitherto, every form of society has been based, as we have already seen, on the antagonism of oppressing and oppressed classes. But in order to oppress a class, certain conditions must be assured to it under which it can, at least, continue its slavish existence. The serf, in the period of serfdom, raised himself to membership in the commune, just as the petty bourgeois, under the yoke of feudal absolutism, managed to develop into a bourgeois.
The modern laborer, on the contrary, instead of rising with the progress of industry, sinks deeper and deeper below the conditions of existence of his own class. He becomes a pauper and pauperism develops more rapidly than population and wealth. And here it becomes evident that the bourgeoisie is unfit any longer to be the ruling class in society, and to impose its conditions of existence upon society as an overriding law. It is unfit to rule, because it is incompetent to assure an existence to its slave within his slavery, because it cannot help letting him sink into such a state that it has to feed him, instead of being fed by him. 35
The theoretical basis for the doctrine of progressive impoverishment is a combination of two alleged circumstances that are supposedly unique to capitalism: an allegedly limitless greed for surplus-value on the part of capitalists, which supposedly arises from the nature of production for the sake of monetary gain, and an alleged tendency toward a declining rate of profit, which latter supposedly requires a rising rate of exploitation in order to limit the decline. In connection with the first of these circumstances, Marx writes:
As capitalist, he is only capital personified. His soul is the soul of capital. But capital has one single life impulse, the tendency to create value and surplus-value, to make its constant factor, the means of production, absorb the greatest possible amount of surplus-labour.
Capital is dead labour, that vampire-like, only lives by sucking living labour, and lives the more, the more labour it sucks. The time during which the labourer works is the time during which the capitalist consumes the labour-power he has purchased of him. 36
It is, however, clear that in any given economic formation of society, where not the exchange value but the use-value of the product predominates, surplus labour will be limited by a given set of wants which may be greater or less, and that here no boundless thirst for surplus-labour arises from the nature of production itself. Hence in antiquity overwork becomes horrible only when the object is to obtain exchange value in its specific independent money form; in the production of gold and silver. 37
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The doctrine of a falling rate of profit is implied in the exploitation theory on Marx’s assumption that economic progress and capital accumulation are accompanied by a growth in socalled constant capital relative to “variable” capital. In Marx’s own words:
Suppose 100 pounds are the wages of 100 labourers for, say, one week. If these labourers perform equal amounts of necessary and surplus labour, if they work daily as many hours for themselves, i.e., for the reproduction of their wage, as they do for the capitalist, i.e., for the production of surplus-value, then the value of their total product = 200 pounds, and the surplus-value they produce would amount s to 100 pounds. The rate of surplus-value, , would = 100 v percent. But, as we have seen, this rate of surplus-value would nonetheless express itself in very different rates of profit, depending on the different volumes of constant capital c and consequently of the total capital C, because s the rate of profit = . The rate of surplus-value is 100
C percent:
100
If c = 50, and v = 100, then p′= = 66 2 ⁄ 3 %;
150
100
“ c = 100, and v = 100, then p′= = 50%;
200
100
“ c = 200, and v = 100, then p′= = 33 1 ⁄ 3 %;
300
100
“ c = 300, and v = 100, then p′= = 25%;
400
100
“ c = 400, and v = 100, then p′= = 20%.
500
This is how the same rate of surplus-value would express itself under the same degree of labour exploitation in a falling rate of profit, because the material growth of the constant capital implies also a growth—albeit not in the same proportion—in its value, and consequently in that of the total capital. 38
Not surprisingly, in his chapter on counteracting influences concerning the tendency toward a falling rate of profit, Marx provides “Increasing Intensity of Exploitation” and “Depression of Wages Below The Value of Labour-Power” as section headings 1 and 2. 39 He declares: “The tendency of the rate of profit to fall is bound up with a tendency of the rate of surplus-value to rise, hence with a tendency for the rate of labour exploitation to rise.” 40 For, as Marx’s example above indicates, a rise in the rate of “surplus-value” can correspondingly offset the alleged negative effects on the rate of profit of a rise in “constant capital” relative to “variable capital.” In Marx’s view, the inherent greed of the capitalists, and the tendency of the rate of profit otherwise to fall, leads the capitalists to seek to extend the working day to the maximum possible limit, as a principal means of raising the rate of “surplus-value.” In effect, the capital—
ists see the workers lolling about after work in pubs or amusing themselves on playing fields, expending energy that the food provided by the capitalists has made possible. Instead of allowing that energy to be wasted in such idleness, the capitalists will allegedly capture it in the factories, in the production of commodities, where it can add to the magnitude of “surplus-value.” They allegedly accomplish this by reducing hourly wages, thereby compelling the workers to work longer hours to earn subsistence. The result is a corresponding rise in the amount and rate of “surplus-value,” and an accompanying offset to the fall in the rate of profit. If, for example, the working day can be extended to eighteen hours from twelve hours, while the worker still requires necessities produced in only six hours, then the rate of surplus-value is increased from s surplus labor 100 percent to 200 percent. For = = v variable capital 18 − 6
= 200 percent. Thus, the rate of profit can alleg-6 edly be doubled, or at least maintained in conditions in which it would otherwise have been cut in half.
Marx describes the “greed for surplus-labour” in the following words:
“What is a working day? What is the length of time during which capital may consume the labour-power whose daily value it buys? How far may the working day be extended beyond the working time necessary for the reproduction of labour-power itself?” It has been seen that to these questions capital replies: the working day contains the full 24 hours with the deduction of the few hours of repose without which labour-power absolutely refuses its services again. Hence it is self-evident that the labourer is nothing else, his whole life through, than labour-power, that therefore all his disposable time is by nature and law labour-time, to be devoted to the self-expansion of capital. Time for education, for intellectual development, for the fulfilling of social functions and for social intercourse, for the free-play of his bodily and mental activity, even the rest time of Sunday (and that in a country of Sabbatarians!)— moonshine! But in its blind unrestrainable passion, its were-wolf hunger for surplus-labour, capital oversteps not only the moral, but even the merely physical maximum bounds of the working day. It usurps the time for growth, development, and healthy maintenance of the body. It steals the time required for the consumption of fresh air and sunlight. It higgles over a meal-time, incorporating it where possible with the process of production itself, so that food is given to the labourer as to a mere means of production, as coal is supplied to the boiler, grease and oil to the machinery. It reduces the sound sleep needed for the restoration, reparation, refreshment of the bodily powers to just so many hours of torpor as the revival of an organism, absolutely exhausted, renders essential. It is not the normal maintenance of the labour-power which is to determine the limits of the working day; it is the greatest possible daily expenditure of labour-power, no matter how diseased, compulsory, and painful it may be, which is to determine the limits of the labourers’ period of repose. 41
The greed for “surplus-value,” claims Marx, leads the capitalists to appropriate the labor of women and children in exactly the same way as, he alleges, they appropriate the additional hours of labor of the adult males. Namely, they reduce wage rates and thereby make it necessary for a wage earner’s entire family to perform labor in order to earn enough for the family to obtain subsistence. In this way, once again, the expenditure of energy made possible by the food the capitalists enable the workers to buy is allegedly captured in the production of commodities and thus in the generation of “surplus-value.” Now, in exchange for a wage enabling the worker to buy the products of the same 6 hours of “necessary labor,” or perhaps just a little more, the capitalist allegedly obtains the equivalent perhaps of 48 hours of total labor, as the labor of the adult male is joined by the full-time labor of his wife and children. And thus the rate of surplus— s surplus labor value can rise to 700 percent. For = = v variable capital 48 − 6
= 700%.
6
Marx describes this alleged phenomenon in the following passages of Das Kapital, in which he blames machinery for making such exploitation possible:
In so far as machinery dispenses with muscular power, it becomes a means of employing labourers of slight muscular strength, and those whose bodily development is incomplete, but whose limbs are all the more supple. The labour of women and children was, therefore, the first thing sought for by capitalists who used machinery. That mighty substitute for labour and labourers was forthwith changed into a means for increasing the number of wage-labourers by enrolling, under the direct sway of capital, every member of the workman’s family, without distinction of age or sex. Compulsory work for the capitalist usurped the place, not only of the children’s play, but also of free labour at home within moderate limits for the support of the family.
The value of labour-power was determined, not only by the labour-time necessary to maintain the individual adult laborer, but also by that necessary to maintain his family. Machinery, by throwing every member of that family on to the labour market, spreads the value of the man’s labour-power over his whole family. It thus depreciates his labour-power. To purchase the labour-power of a family of four workers may, perhaps, cost more than it formerly did to purchase the labour-power of the head of the family, but, in return, four days’ labour takes the place of one, and their price falls in proportion to the excess of the surplus-labour of four over the surplus-labour of one. In order that the family may live, four people must now, not only labour, but expend surplus-labour for the capitalist. Thus, we see, that machinery, while augmenting the human material that forms the principal object of capital’s exploiting power, at the same time raises the degree of exploitation. 42
No absurdity escapes Marx in applying his doctrine that the capitalists arbitrarily pay the worker a wage conforming to the labor time needed to produce his minimum subsistence. Thus, according to Marx, still a further means of increasing the rate of “surplus-value” is “the intensification of labor”—what the labor unions nowadays describe as a “speedup.” The intensification of labor represents the performance of more labor in a given time, and supposedly increases surplus-value both by reducing the labor time required to produce the worker’s necessities and by representing the equivalent of a lengthening of the hours of work as well. 43 It allegedly becomes of particular importance after the enactment of laws limiting the length of the working day. 44
And, beyond this, yet still another alleged method of raising the rate of “surplus-value,” according to Marx, is a cheapening of the worker’s diet. 45 If the workers could be forced to substitute potatoes or rice for more expensive food, the socalled necessary labor time would be reduced and “surplus-labor-time” correspondingly increased.
This then is the exploitation theory—a doctrine so contorted in its development and so grotesque and absurd in its implications that it deserves to evoke laughter in the very act of being expounded. Nevertheless, instead of being greeted with laughter, the doctrine has been taken with the utmost seriousness and, as I have shown, stands as the intellectual foundation of the whole economic and social program of twentieth century “liberalism.” Above all, the mentalities that have posed as liberal “intellectuals” in the last century and a quarter—that is, as serious thinkers—have taken the validity of the theory absolutely for granted and as the starting point of their economic and social programs.
According to them, if not prevented by government intervention, the capitalists would, indeed, set wage rates at the point of minimum subsistence and the hours of work at the maximum possible limit, in order to maximize their profits. But government intervention, they believe, especially in the form of prounion legislation, can serve to decree higher wage rates, and all that occurs is that “surplus-labor-time” and “surplus-value” are reduced, thereby equivalently benefitting the wage earners at the expense of the capitalist exploiters’ profits. In exactly the same way, the “liberal intellectuals” believe that the government’s and the unions’ decree of shorter hours also serves merely to reduce “surplus-labor-time” and “surplus-value,” again allegedly benefitting the wage earners at the expense of the capitalist exploiters’ profits. And, of course, identically the same analysis is present in their arguments for child labor legislation and laws compelling improvements in working conditions.
With the exploitation theory as their foundation, the
THEORY OF WAGES 613
“liberal intellectuals’” contribution to the life of their times has been to set about busying themselves both with the critique of the capitalist society in which they have lived, and with the concoction of all manner of schemes and programs for overcoming the various evils that the exploitation theory in its flights of fancy absurdly and maliciously attributes to capitalism. They have bent art and literature, history and journalism, even philosophy and science, as well as politics, law, and government to conform with the exploitation theory and its ludicrous implications.
When the absurdities of the exploitation theory are fully understood, as they ought to be by the end of this chapter, it will be clear that never in all of human history has a greater bunch of pompous ignoramuses with pretensions to knowledge behaved more destructively and self-destructively—made themselves more a spectacle of downright fools meriting the utter contempt of all mankind—than have the “liberal intellectuals” of the last four or five generations. Their lack of genuine liberalism will be seen to be surpassed only by their lack of genuine intellect.
In the next part of this chapter, my first order of business will be to thoroughly overturn the Marxian version of the iron law of wages—that is, the belief, so central to the exploitation theory, that wages are determined by the arbitrary power of businessmen and capitalists, or at least would be if not for the existence of such measures as prounion legislation and minimum-wage and maximum-hours laws. I will then explain how real wages—the goods and services that a worker’s money wages can actually buy—are determined by the productivity of labor, that is, by the output per unit of labor prevailing in the economic system. The remainder of the part will constitute a refutation of all aspects of the exploitation theory which may thus far have escaped direct criticism. As I have indicated previously, the refutation will be accomplished primarily simply by means of developing the implications and underlying foundations of the fact that real wages are determined by the productivity of labor.
PART B
THE PRODUCTIVITY THEORY OF
WAGES
1. The Irrelevance of Worker Need and Employer Greed in the Determination of Wages
The Marxian version of the iron law of wages—that is, the doctrine of the alleged arbitrary power of employ—
ers over wages—appears plausible because there are two obvious facts that it relies on, facts which do not actually support it, but which appear to support it. These facts can be described as “worker need” and “employer greed.” The average worker must work in order to live, and he must find work fairly quickly, because his savings cannot sustain him for long. And if necessary—if he had no alternative—he would be willing to work for as little as minimum physical subsistence. At the same time, self-interest makes employers, like any other buyers, prefer to pay less rather than more—to pay lower wages rather than higher wages. People put these two facts together and conclude that if employers were free, wages would be driven down by the force of the employers’ self-interest—as though by a giant plunger pushing down in an empty cylinder—and that no resistance to the fall in wages would be encountered until the point of minimum subsistence was reached. At that point, it is held, workers would refuse to work because starvation without the strain of labor would be preferable to starvation with the strain of labor.
What must be realized is that while it is true that workers would be willing to work for minimum subsistence if necessary, and that self-interest makes employers prefer to pay less rather than more, both of these facts are irrelevant to the wages the workers actually have to accept in the labor market.
Let us start with “worker need.” To understand why a worker’s willingness to work for subsistence if necessary is irrelevant to the wages he actually has to work for, consider the analogous case of the owner of a late-model car who decides to accept a job offer, and to live, in the heart of New York City. If this car owner cannot afford several hundred dollars a month to pay the cost of keeping his car in a garage, and if he cannot devote several prime working hours every week to driving around, hunting for places to park his car on the street, he will be willing, if he can find no better offer, to give his car away for free—indeed, to pay someone to come and take it off his hands. Yet the fact that he is willing to do this is absolutely irrelevant to the price he actually must accept for his car. That price is determined on the basis of the utility and scarcity of used cars—by the demand for and supply of such cars. Indeed, so long as the number of used cars offered for sale remained the same, and the demand for used cars remained the same, it would not matter even if every seller of such a car were willing to give his car away for free, or willing even to pay to have it taken off his hands. None of them would have to accept a zero or negative price or any price that is significantly different from the price he presently can receive.
This point is illustrated in terms of the simple supply and demand diagram presented in Figure 14–1. On the vertical axis, I depict the price of used cars, designated by P. On the horizontal axis, I depict the quantity of used cars, designated by Q, that sellers are prepared to sell and the buyers to buy at any given price. The willingness of sellers to sell some definite, given quantity of used cars at any price from zero on up (or, indeed, from less than zero by the cost of having the cars taken off their hands) is depicted by a vertical line drawn through that quantity. The vertical line SS denotes the fact that sellers are willing to sell the specific quantity A of used cars at any price from something less than zero on up to as much as they can get for their cars. The fact that they are willing to sell for zero or a negative price has nothing whatever to do with the actual price they receive, which in this case is the very positive price P 1 . The actual price they receive in a case of this kind is determined by the limitation of the supply of used cars, together with the demand for used cars. In Figure 14–1, it is determined at point E, which represents the intersection of the vertical supply line with the demand curve. The price that corresponds to that juncture of supply and demand is P 1 . The fact that the sellers are all willing if necessary to accept a price less than P 1 is, as I say, simply irrelevant to the price they actually must accept. The price the sellers receive in a case of this kind is not determined by the terms on which they are willing to sell. Rather, it is determined by the competition of the buyers for the limited supply offered for sale. (This, of course, is the kind of case Böhm-Bawerk had in mind when he declared that “price is actually limited and determined by the valuations on the part of the buyers exclusively.” 46 )
Essentially the same diagram, Figure 14–2, depicts the case of labor. Instead of showing price on the vertical axis, I show wages, designated by W. Instead of the supply line being vertical to the point of the sellers being willing to pay to have their good taken off their hands, I assume that no supply whatever is offered below the point of “minimum subsistence,” M. This is depicted by a horizontal line drawn from M and parallel to the horizontal axis. Thus, the supply curve in this case has a horizontal portion at “minimum subsistence” before becoming vertical. These are the only differences between Figures 14–1 and 14–2.
Figure 14–2 makes clear that the fact that the workers are willing to work for as little as minimum subsistence is no more relevant to the wages they actually have to accept than was the fact in the previous example that the sellers of used cars were willing to give them away for free or pay to have them taken off their hands. For even though the workers are willing to work for as little as minimum subsistence, the wage they actually obtain in the conditions of the market is the incomparably higher wage W 1 , which is shown by the intersection—once
Figure 14–1
Determination of Price by the
Competition of the Buyers
P
S
D
P 1 E
D
S
Q
0
A again at point E—of the demand for labor with the limited supply of labor denoted by point A on the horizontal axis. Exactly like the value of used cars, or anything else that exists in a given, limited supply, the value of labor is determined on a foundation of its utility and scarcity, by demand and supply—more specifically, by the competition of buyers for the limited supply—not by any form of cost of production, least of all by any “cost of production of labor.” 47
It also quickly becomes clear that “employer greed” is fully as irrelevant to the determination of wage rates as “worker need.” This becomes apparent as soon as the case of the art auction is recalled that I presented in Chapter 6 in order to demonstrate the actual self-interest of buyers. 48 There I assumed that there are two people at an art auction, both of whom want the same painting. One of these people, let us now call him Mr. Smith, is willing and able to bid as high as $2,000 for the painting. The other, let us now call him Mr. Jones, is willing and able to go no higher than $1,000.
Of course, Mr. Smith does not want to spend $2,000 for the painting. This figure is merely the limit of how high he will go if he has to. He would much prefer to obtain the painting for only $200, or better still, for only $20, or, best of all, for nothing at all. What we must recall here is precisely how low a bid Mr. Smith’s rational self-interest allows him to persist in. Would it, for exam—
THEORY OF WAGES 615
Figure 14–2
Determination of Wages by the
Competition of Employers
W
S
D
W 1 E
D
S
M
Q
0 A ple, actually be to Mr. Smith’s self-interest to persist in a bid of only $20, or $200?
It should be obvious that the answer to this question is decidedly no! This is because if Mr. Smith persists in such a low bid, the effect will be that he loses the painting to Mr. Jones, who is willing and able to bid more than $20 and more than $200. In fact, in the conditions of this case, Mr. Smith must lose the painting to the higher bidding of Mr. Jones, if he persists in bidding any sum under $1,000! If Mr. Smith is to obtain the painting, the conditions of the case require him to bid more than $1,000, because that is the sum required to exceed the maximum potential bid of Mr. Jones.
This case contains the fundamental principle that names the actual self-interest of buyers. That principle is that a buyer rationally desires to pay not the lowest price he can imagine, but the lowest price that is simultaneously too high for any other potential buyer of the good, who would otherwise obtain the good in his place.
This identical principle, of course, applies to the determination of wage rates, as I also indicated in Chapter 6. 49 The only difference between the labor market and the auction of a painting is the number of units involved. Instead of one painting with two potential buyers for it, there are many millions of workers who must sell their services, together with potential employers of all those workers and of untold millions more workers. This is
because just as in the example of the art auction, the essential fact that is present in the labor market is that the potential quantity demanded exceeds the supply available. The potential quantity of labor demanded always far exceeds the quantity of labor that the workers are able, let alone willing, to perform.
For labor, it should be recalled, is scarce. It is the most fundamentally useful and scarce thing in the economic system: virtually everything else that is useful is its product and is limited in supply only by virtue of our lack of ability or willingness to expend more labor to produce a larger quantity of it. (This, of course, includes raw materials, which can always be produced in larger quantity by devoting more labor to the more intensive exploitation of land and mineral deposits that are already used in production, or by devoting labor to the exploitation of land and mineral deposits not presently exploited. 50 ) As I have shown, for all practical purposes there is no limit to our need and desire for goods or, therefore, for the performance of the labor required to produce them. In having, for incomes example, five a or need ten times and desire the incomes to be able we presently to spend spend, we have an implicit need and desire for the performance of five or ten times the labor we presently perform, for that is what would be required in the present state of technology and the productivity of labor to supply us with such increases in the supply of goods. Moreover, almost all of us would welcome the full-time personal services of at least several other people. Thus, on both grounds labor is scarce, for the maximum amount of labor available to satisfy the needs and desires of the average member of the economic system can never exceed the labor of just one person, and, indeed, in actual practice, falls far short of that amount because of the existence of large numbers of dependents. 51
The consequence of the scarcity of labor is that wage rates in a free market can fall no lower than corresponds to the point of full employment. At that point the scarcity of labor is felt, and any further fall in wage rates would be against the self-interests of employers because then a labor shortage would ensue. Thus, if somehow wage rates did fall below the point corresponding to full employment, it would be to the self-interest of employers to bid them back up again.
These facts can be shown in the same supply and demand diagram I used to show the irrelevance to wage determination of workers being willing to work for subsistence. Thus, Figure 14–3 shows that if wage rates were below their market equilibrium of W 1 , which takes place at the point of full employment, denoted by E—if, for example, they were at the lower level of W 2 —a labor shortage would exist. The quantity of labor demanded at the wage rate of W 2 is B. But the quantity of labor
Figure 14–3
Employer Competition Versus
Labor Shortage
W
S
D
Upper
Zone
H
W 3 Lower
_ E Zone
W 1 _ _
W 2 _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ L
_ _ D
MS _ _ _ _
_ _ Q
0 C A B available—whose employment constitutes full employment—is the smaller amount A. Thus, at the lower wage, the quantity of labor demanded exceeds the supply available by the horizontal distance AB.
The shortage exists because the lower wage of W 2 enables employers to afford labor who would not have been able to afford it at the wage of W 1, or it enables employers who would have been able to afford some labor at the wage of W 1 to now afford a larger quantity of labor. To whatever extent such employers employ labor that they otherwise could not have employed, that much less labor remains to be employed by other employers, who are willing and able to pay the higher wage of W 1 .
For the sake of simplicity, we can assume that at the artificially low wage of W 2 the entire quantity AB of labor is employed by employers who otherwise could not have afforded to employ that labor. (Of course, under the conditions of a shortage, it is a random matter who actually ends up as the employer. But this is inconsequential in the present context. All that is essential to the argument is that any part of the quantity AB of labor end up in the hands of employers who otherwise could not have afforded it.) The effect of this is to leave an equivalently reduced quantity of labor available for those employers who could have afforded the market wage of W 1 . The labor available to those employers is reduced by AC, which is precisely equal to AB. This is the inescapable result of the existence of a given quantity of labor
and some of it being taken off the market by some employers at the expense of other employers. What the one set gains, the other must lose. Thus, because the wage is W 2 rather than W 1 , the employers who could have afforded the market wage of W 1 and obtained the full quantity of labor A are now able to employ only the smaller quantity of labor C, because labor has been taken off the market by employers who depend on the artificially low wage of W 2 .
The employers who could have afforded the market wage of W 1 are in identically the same position as the bidder at the art auction who is about to see the painting he wants go to another bidder not able or willing to pay as much. The way to think of the situation is that there are two groups of bidders for quantity AB of labor: those willing and able to pay the market wage of W 1 , or an even higher wage—one as high as W 3 —and those willing and able to pay only a wage that is below W 1 —a wage that must be as low as W 2 . In Figure 14–3, the position of these two groups is indicated by two zones on the demand curve: an upper zone HE and a lower zone EL. The wage of W 1 is required for the employers in the upper zone to be able to outbid the employers in the lower zone. 52
The question is: Is it to the rational self-interest of the employers willing and able to pay a wage of W 1, or higher, to lose the labor they want to other employers not able or willing to pay a wage as high as W 1 ? The obvious answer is no. And the consequence is that if, somehow, the wage were to fall below W 1 , the self-interest of employers who are willing and able to pay W 1 or more, and who stood to lose some of their workers if they did not do so, would lead them to bid wage rates back up to W 1 . The rational self-interest of employers, like the rational self-interest of any other buyers, does not lead them to pay the lowest wage (price) they can imagine, but the lowest wage that is simultaneously too high for other potential employers of the same labor who are not able or willing to pay as much and who would otherwise be enabled to employ that labor in their place.
The principle that it is against the self-interest of employers to allow wage rates to fall to the point of creating a labor shortage is illustrated by the conditions which prevail when the government imposes such a shortage by virtue of a policy of price and wage controls. In such conditions, employers actually conspire with the wage earners to evade the controls and to raise wage rates. They do so by such means as awarding artificial promotions, which allow them to pay higher wages within the framework of the wage controls.
The payment of higher wages in the face of a labor shortage is to the self-interest of employers because it is the necessary means of gaining and keeping the labor
THEORY OF WAGES 617 they want to employ. In overbidding the competition of other potential employers for labor, it attracts workers to come to work for them and it removes any incentive for their present workers to leave their employ. This is because it eliminates the artificial demand for labor by the employers who depend on a below-market wage in order to be able to afford labor. It is, as I say, identically the same in principle as the bidder who wants the painting at an auction raising his bid to prevent the loss of the painting to another bidder not able or willing to pay as much. The higher bid is to his self-interest because it knocks out the competition. In the conditions of a labor shortage, which necessarily materializes if wage rates go below the point corresponding to full employment, the payment of higher wages provides exactly the same benefit to employers.
On the basis of the preceding discussion, and also discussion in Parts B and C of Chapter 13, it should be clear that average money wage rates are determined neither by worker need nor by employer greed, but, basically, by the quantity of money in the economic system and thus the aggregate monetary demand for labor, on the one side, and by the number of workers willing and able to work, on the other—that is, by the ratio of the demand for labor to the supply of labor. It should also be clear that in a free labor market, money wage rates can fall no lower than corresponds to the point of full employment.
Two points should be realized in connection with the principle that it is against the self-interest of employers to allow wage rates to fall below the point that corresponds to full employment. First, the operation of the principle does not require that full employment be established throughout the economic system before wage rates cease to fall. On the contrary, the principle applies to each occupation and, still more narrowly, to each occupation within each geographical area. For example, the wage rates of carpenters in Des Moines can fall no further than corresponds to the point of full employment of carpenters in Des Moines. Any further fall would create a shortage of such carpenters and thus would be prevented or quickly reversed, even though there might still be major unemployment in other occupations or in other geographical areas.
Second, the operation of the principle need not be feared as possibly serving to bring about the establishment of subsistence wages through the back door, so to speak. By this, I mean that so long as unemployment exists, there is room for wage rates to fall without the creation of a labor shortage. And in a free market, wage rates would in fact fall in such circumstances. This is because in such circumstances, the self-interest of the
employers, and also of the unemployed, would operate to drive them down. It should not be thought, however, that the fall in wage rates in these circumstances meant that the conditions of supply and demand were capable of accomplishing the human misery that Marxism attributes to the alleged arbitrary power of businessmen and capitalists.
It should be recalled that we saw in Chapter 13 that a drop in wage rates to the full employment point does not imply any drop in the average worker’s standard of living. That is, it does not imply any reduction in the goods and services he can actually buy—any reduction in his so called real wages—because the elimination of unemployment that the fall in wage rates brings about means more production and a fall in costs of production, both of which mean lower prices. Indeed, we saw that it is likely that real wages actually rise with the elimination of unemployment, even in the short run, because not only do prices fall as much as, or even more than, wages, but also the burden of supporting the unemployed is eliminated, with the result that disposable, take-home pay drops less than gross wages and less than prices. 53 When these facts are kept in mind, it is clear that insofar as market conditions require a fall in wage rates, they are, if anything, at the same time operating to raise the average worker’s standard of living further above subsistence, not drive it down toward subsistence. 54
2. Determination of Real Wages by the Productivity of Labor
With the Marxian version of the iron law of wages now out of the way, it is possible to turn to the exposition of the productivity theory of wages proper. Chapter 13’s analysis of what happens to real wages when money wages fall in the course of eliminating unemployment provides a good beginning, because it points the way to an understanding of the role of the productivity of labor in determining real wages. In Chapter 13, we saw that despite the fall in money wage rates, real wage rates—on a gross basis—stayed the same. (On a net basis, of course, they increased, because of the elimination of the burden of supporting the unemployed.) 55
Real wages stayed the same in the analysis of Chapter 13 because the productivity of labor remained the same. This was responsible for the fact that the employment of additional workers resulted in an equal proportional increase in the production and supply of consumers’ goods and thus, in the face of constant demands for consumers’ goods and labor, in a fall in the prices of consumers’ goods in the same proportion as the fall in wage rates. This left the purchasing power of wages—real wages— unchanged. In other words, with a constant productivity of labor, increases in the supply of labor and consumers’ goods take place in the same proportion and cause equal reductions in wage rates and prices in the face of constant demands for labor and consumers’ goods, leaving real wages the same.
We shall now see that not only in the case of the elimination of unemployment through a fall in wages and prices, but in all cases, real wages are determined primarily by the productivity of labor—i.e., by the output of goods and services per unit of labor. This conclusion follows from the very nature of real wages.
Real wages—the goods and services the worker can buy with his money wages—are, in the first instance, determined by the relationship between wages and prices. They can be expressed as the ratio of wages to prices. The higher are wages relative to prices, or equivalently, the lower are prices relative to wages, the more can the worker’s money wages buy. All this is expressed in the formula
W
Average Real Wage Rate =
P where W is the average money wage rate, and P is the general consumer price level.
We can understand how the productivity of labor operates to determine real wages if we once again employ the formulas for money wages and the price level, namely:
W = D L
S L and
P = D C .
S C
In these equations, of course, D L is the aggregate demand for labor, as manifested in a definite total expenditure of money to employ labor in the economic system, that is, in total payrolls of a given size; S L is the aggregate supply of labor, as manifested in a definite total quantity of labor employed; D C is the aggregate demand for consumers’ goods, as manifested in a definite total expenditure of money to buy consumers’ goods; and S C is the aggregate supply of consumers’ goods, as manifested in a definite total quantity of consumers’ goods produced and sold.
We can begin by holding everything constant but the productivity of labor, which, for the sake of simplicity, we can assume doubles over the course of some period of time. Thus, we assume that the money supply is the same and therefore that the aggregate monetary demands for labor and consumers’ goods are the same. We also assume that the size of the population and the number of workers employed are the same. As I say, everything is
assumed to be the same except the productivity of labor, which is assumed to double. This is Case 1.
Using asterisks to denote fixity or lack of change, we see the results of Case 1 in the following equations:
∗
D L ∗ = W ∗
S L
∗
D C = P .
2S C 2
The result of prices halving while money wages remain the same is a doubling of average real wages. For inasmuch as
W
= Average Real Wage Rate,
P it follows that
∗
W
= 2 × Average Real Wage Rate.
1
× P
2
Case 1 shows that with the demand for and supply of labor the same, average money wage rates remain the same. It also shows, and this is critical, that the effect of a doubling of the productivity of labor, given the employment of the same number of workers, is a doubling of the supply of consumers’ goods produced and sold. Indeed, since the productivity of labor is the output per unit of labor, it can be expressed by the following equation:
Productivity of Labor = S C .
S L
The meaning of this equation is that the productivity of labor is reflected in the ratio of the supply of consumers’ goods produced and sold to the supply of labor employed. The higher is the productivity of labor, the greater is the supply of consumers’ goods produced and sold relative to the supply of labor employed. With S L fixed, a doubling of the productivity of labor means a doubling of S C . That is, if the supply of labor employed is the same and the productivity of labor doubles, the supply of consumers’ goods produced and sold doubles. In equation form,
2 × Productivity of Labor = 2S C ∗ .
S L
Now, in the face of an unchanged demand for consumers’ goods, the doubling of the supply of consumers’ goods has the effect of halving the prices of consumers’ goods and thus of doubling the buying power of the unchanged average money wage rates—that is, of doubling average real wage rates. Stating matters somewhat more broadly, the doubled productivity of labor doubles
THEORY OF WAGES 619 real wages by virtue of doubling the supply of consumers’ goods relative to the supply of labor and thereby halving the prices of consumers’ goods relative to wage rates.
We see much more in Case 1 than the fact that when the productivity of labor doubles, real wages double. Obviously, the general principle that is present in Case 1 is that real wages vary directly with the productivity of labor, whatever it may be. This is because if the productivity of labor had increased by a factor of five or ten, rather than by a factor of two, and that had been the only change, then prices would have fallen to a fifth or a tenth, instead of to half, while money wage rates stayed the same. And thus real wage rates would have increased by a factor of five or ten, instead of two, precisely in accordance with the increase in the productivity of labor. This is because at a fifth or tenth of the initial price level, the same money wages would buy five or ten times more, respectively. (By the same token, to take an example of a fall in the productivity of labor, if the productivity of labor had halved, and that had been the only change, then the supply of consumers’ goods would also have halved, and prices would have doubled while money wage rates remained the same. In this case, real wages would have halved, in accordance with the halving of the productivity of labor.)
Now that we have seen the effect of a rise in the productivity of labor in the context of a constant quantity of money and thus constant monetary demands for labor and consumers’ goods, it is important to consider the effect of an increase in the quantity of money and the monetary demands for labor and consumers’ goods. Once again, for the sake of simplicity, we assume that the magnitudes which increase neatly double. To isolate the effect of their increase we now assume that both the productivity of labor and the number of workers employed remain the same. This is Case 2, whose implications are shown in the following equations:
2D ∗ L = 2W
S L
2D C = 2P.
∗
S C
In this case, where the supply of labor employed is unchanged and there is no increase in the productivity of labor, there is also no increase in the supply of consumers’ goods. Hence, where the supply of consumers’ goods is shown, it is accompanied by an asterisk. All that occurs in this case is that, in the face of unchanged supplies of labor and consumers’ goods, the doubling of the quantity of money, and the consequent doubling of the aggregate demands for labor and consumers’ goods, succeeds in
doubling both wage rates and prices, with the result that average real wages remain absolutely unchanged, for
2W = Average Real Wage Rate ∗ .
2P
What is important about Case 2 is that it shows that, in sharpest contrast to an increase in the productivity of labor, a rise in money wages by itself does not represent any rise in real wages. The rise in money wages here is the result of an increase in the quantity of money, which operates to raise prices fully as much as wages, thus leaving real wages unchanged. In Case 2, the doubling of the quantity of money and the aggregate demands for labor and consumers’ goods serves to double prices along with wages, leaving the real wages of the average worker absolutely unchanged. Obviously, the result of unchanged real wages would apply to any increase in the quantity of money and the aggregate demands for labor and consumers’ goods. So long as wages and prices both increase in the same proportion, whether by two or by two hundred, or by any other number, the higher wages buy no more than did the lower wages of the past.
Now that we have considered the effects of an increase in the productivity of labor and in the quantity of money separately, in Cases 1 and 2, it is time to consider a case in which both factors operate side by side. This we do in Case 3. In this case, we assume that over a period of years both the productivity of labor and the quantity of money double, and that these changes once again respectively result in a doubling of the supply of consumers’ goods produced and sold and in a doubling of the monetary demands for labor and consumers’ goods. The substance of this case appears in these two equations:
2D ∗ L = 2W
S L
2D C = P ∗ .
2S C
When the results of these two equations are combined, the effect on average real wages is shown to be
2W
∗ = 2 × Average Real Wage Rate.
P
Thus, in Case 3, we find that once again average real wages double. They double because in contrast to Case 2, the doubling of money wages is accompanied by a general consumer price level that is unchanged. What makes it possible for the general consumer price level to remain unchanged, in the face of a doubled quantity of money and a doubled aggregate demand for consumers’ goods, is the doubling of the productivity of labor. This causes the supply of consumers’ goods to double as the demand for them doubles, and so leaves their price level unchanged. In effect, the doubled quantity of money and the doubled aggregate monetary demand for labor that it causes come up against an unchanged supply of labor and thus double average money wage rates, but thanks to the doubled productivity of labor, the doubled quantity of money and the doubled monetary demand for consumers’ goods that it causes come up against a doubled supply of consumers’ goods and thus leave the average of consumers’ goods prices unchanged. (It should be realized that the doubling of the productivity of labor also leaves average unit costs unchanged despite the doubling of wage rates, for the doubled wage per worker is spread over double the number of units produced per worker.)
The essential point to realize is that the source of the rise in real wages is always the rise in the productivity of labor, not the increase in the quantity of money and the consequent increase in money wage rates. What is also very important to realize is that the way the rise in the productivity of labor raises real wages is not by raising money wages, but by reducing prices!
It is the increase in the quantity of money that increases money wages, not the increase in the productivity of labor. The increase in the productivity of labor increases money wages only insofar as it serves to increase the production of the monetary commodity under a system of commodity money, that is, only indirectly, insofar as it is the cause of an increase in the quantity of gold or silver money. Apart from this, the rise in the productivity of labor operates to reduce prices even in conditions such as those of Case 3, in which prices do not actually fall.
In such a case, it operates to reduce prices not in comparison with what they were, but in comparison with what are unchanged they otherwise in Case would 3, have even been. though The the fact quantity that prices of money and the demand for consumers’ goods has doubled, thereby tending to make prices double, is the result only of the fact that the doubling of the productivity of labor simultaneously operates to cut prices in half. Prices are unchanged only as the result of being halved from the doubled level that the increase in the quantity of money and the monetary demand for consumers’ goods would otherwise have made them reach.
The essential role of the productivity of labor in determining real wages is no less present if we further increase the complexity of our analysis to allow for changes in the supply of labor. If the productivity of labor remains constant, while the supply of labor employed increases, and, at the same time, the quantity of money and the aggregate monetary demands are constant, then money wages and prices both fall to the same extent, leaving average real wages unchanged. Indeed, we have already considered precisely this case in our discussion
of the elimination of unemployment. 56
If, when the supply of labor employed increases, the productivity of labor also increases, while the quantity of money and the aggregate monetary demands stay the same, then prices fall more than wages, for the supply of goods increases to a greater extent than the supply of labor. In this case, real wages rise once again, in accordance with the rise in the productivity of labor. For example, if both the supply of labor and the productivity of labor were to double, while the quantity of money and the respective aggregate monetary demands for labor and consumers’ goods were to remain unchanged, then average money wage rates would fall to one-half of their initial height, reflecting the doubling of the supply of labor, while the general consumer price level fell to one-fourth of its initial height, reflecting the quadrupling of the supply of consumers’ goods that ensues when twice the workers each on average produce double. Thus, once again, average real wages would double, in conformity with the doubling of the average productivity of labor.
The case which has actually occurred in the world in most periods since the end of the Dark Ages, and in a very pronounced way in the last two hundred years, is that the supply of labor, the productivity of labor, and the quantity of money and the respective aggregate monetary demands all increase at the same time. In this case, depending on the extent of the increase in the quantity of money and the aggregate monetary demands, money wage rates may still fall, while prices fall further; or money wage rates may remain constant, while prices alone fall; or money wage rates may increase, while prices fall, remain constant, or even rise—depending on how great is the increase in the quantity of money and the aggregate monetary demands for labor and consumers’ goods. In all these possible cases, real wages will still be found to vary precisely with the variation in the productivity of labor, for it is the productivity of labor that determines the supply of consumers’ goods relative to the supply of labor, and thus the prices of consumers’ goods relative to wage rates.
The essential role of the productivity of labor in determining real wage rates can now be shown more abstractly, by means of the following simple algebraic derivation.
We already have established the following equations: (1) W
Average Real Wage Rate = ,
P
(2) W = D L ,
S L and
(3) P = D C .
S C
THEORY OF WAGES 621
If we now substitute equations (2) and (3) into equation (1), we obtain
(4) Average Real Wage Rate = D L ÷ D C .
S L S C
Next, by the arithmetical rule of inverting and multiplying when dividing by a fractional expression, we obtain
(5) Average Real Wage Rate = D L × S C .
S L D C
On the basis of the fact that quantities can be multiplied in any order, equation (5) is equivalent to
(6) Average Real Wage Rate = S C × D L .
S L D C
The supply of consumers’ goods relative to the supply of labor, is, of course, the expression of the productivity of labor. The demand for labor relative to the demand for consumers’ goods can be called the “distribution factor,” for want of a better description. It represents the extent to which wage payments are the source of consumption expenditure versus other sources of consumption expenditure, such as dividend and interest payments. Thus we have, finally,
(7) Average Real Wage Rate = The Productivity of Labor × The Distribution Factor.
which expresses the fact that real wages are the product of the productivity of labor times the “distribution factor.”
A moment’s reflection shows that the productivity of labor is by far the more important determinant of real wages, for it has no fixed limit. It can be increased to whatever extent the human mind is capable of improving the capital equipment by means of which labor produces. The distribution factor, on the other hand, has a maximum potential limit of less than one (inasmuch as there must be some consumption on the part of the owners and creditors of business firms or they would have no motive to conduct production), and has probably been fairly close to its limit in the United States and Great Britain since the middle of the eighteenth century. 57 As will be shown in subsequent discussion, the distribution factor is the more favorable to wage earners, the higher is the economic degree of capitalism, i.e., of saving and productive expenditure relative to sales revenues. 58
Thus, we have traced the influence of the productivity of labor on real wages first in isolation and then alongside the operation of changes in the quantity of money and the respective monetary demands for labor and consumers’ goods, as well as changes in the supply of labor. Whatever the other factors present, the one that always explained the change in average real wages was the
productivity of labor. And now, finally, we have seen the decisive role of the productivity of labor set forth as an algebraically derived general principle.
3. The Foundations of the Productivity of Labor and Real Wages: Capital Accumulation and Its Causes
The productivity of labor is not the ultimate explanation of real wages; it itself has causes. In the first instance, of course, it depends on the quantity and quality of the equipment and materials with which the average worker works, i.e., on the supply of capital goods per worker. Without the appropriate capital goods, products either cannot be produced at all or can be produced only with the expenditure of far more labor per unit of product. For example, automobiles cannot be produced at all without a preexisting supply of various metals and tools for shaping metal. Without moving assembly lines and all manner of complex equipment, their production requires far more labor per unit of output than with such facilities.
The supply of capital goods, I will show, is the result of the joint operation of two further causes: (1) the economic degree of capitalism—in particular, the extent to which this results in the economic system concentrating on the production of capital goods relative to the production of consumers’ goods; (2) the efficiency of the economic system in using existing capital goods. (This latter cause, as we shall see, subsumes technological progress.) I will also show that these two causes in turn depend, still more fundamentally, on respect for property rights and the consequent security of private property, and on the degree of rationality in a society—in short, on the values of freedom and reason.
Saving as a Source of Capital Accumulation
As I have indicated previously, in describing it as the ratio of Marx’s M to his M′, the economic degree of capitalism refers to the proportion of sales revenues and incomes in the economic system that is saved and productively expended—that is, used in the purchase of capital goods and labor by business firms, as opposed to being expended for consumers’ goods. It is the measure of the extent to which people act capitalistically, i.e., buy for the sake of subsequently selling (implicitly, of course, at a profit). In determining the proportions in which money is spent to buy capital goods relative to consumers’ goods, saving and productive expenditure determine the proportions in which the economic system devotes its existing ability to produce to the production of capital goods relative to the production of consumers’ goods.
As an illustration of this last point, the extent to which a firm with consumers’ goods divisions and capital goods divisions divides its efforts between the two types of products depends on the relative demands for these products. For example, General Motors will devote a larger proportion of the labor of its employees and of its existing capital goods to the production of capital goods, like diesel locomotives and trucks, and a smaller proportion to the production of consumers’ goods, like passenger automobiles, if the demand for diesel locomotives and trucks rises relative to the demand for passenger automobiles. 59
The operation of this principle does not require that firms have both capital goods divisions and consumers’ goods divisions. A rise in the demand for capital goods relative to the demand for consumers’ goods will favor firms and industries that produce capital goods relative to firms and industries that produce consumers’ goods. Through the operation of the uniformity-of-profit principle, this will bring about a shift of capital and labor from the production of consumers’ goods to the production of capital goods. For example, to take the case of an industry in which some firms concentrate on the production of capital goods and others on the production of consumers’ goods, a rise in the demand for factory and office buildings relative to the demand for residential housing will favor the branches of the construction industry that concentrate on factory and office buildings. As a result, a larger part of the construction industry will tend to devote itself to this type of construction. Similarly, a rise in the demand for the machinery and equipment used by business firms relative to the demand for home appliances will favor the producers of the former relative to the producers of the latter, and thus will have a similar effect on how existing means of production are employed. And, of course, the total capital invested in industries producing capital goods can be increased by the withdrawal of capital from other industries where it had been devoted to the production of consumers’ goods.
Thus, in addition to firms with both consumers’ goods and capital goods divisions being induced to concentrate more heavily on the production of capital goods, the operation of the uniformity-of-profit principle causes labor and capital to be withdrawn from firms and industries exclusively devoted to the production of consumers’ goods and transferred to firms and industries exclusively devoted to the production of capital goods, if the demand for capital goods rises relative to the demand for consumers’ goods. 60
As explained in Chapter 4, the proportion of its efforts that an economic system devotes to the production of capital goods is vital in determining whether or not it accumulates capital goods. 61 Capital goods are constantly being consumed in production (and, indeed, by virtue of mere exposure to nature): materials and supplies are used up; machinery, factories, and buildings and
THE PRODUCTIVITY installations of all kinds wear out or run down. If these capital goods are to be replaced, they must be replaced out of production itself. Just as a farmer must replace the seed he consumes in the planting of his crop, out of the crop itself, so in a modern economic system, the steel mills and cement factories, the inventories of wheat and flour, and so on—all the factories, equipment, materials, and supplies—that are consumed in production must be replaced out of production. In other words, if the supply of capital goods is merely to be maintained intact—if the productive consumption of capital goods is to be offset— it is necessary to devote some definite, and more or less considerable, proportion of the existing means of production to the production of capital goods.
What this means, for example, is that some proportion of the output of steel mills and cement factories and so forth must be devoted to the production of steel mills and cement factories and so forth, in order to keep up the number and productive capacity of such plants. By the same token, some proportion of the economic system’s production must take such forms as the production of steel sheet to replace the supply of steel sheet consumed in the production of automobiles, and of iron ore to replace the supply of iron ore consumed in the production of steel sheet.
The proportion of existing means of production that must be devoted to the production of capital goods in order to offset their productive consumption I call the maintenance proportion. If the proportion of existing means of production devoted to the production of capital goods equals the maintenance proportion, then the economic system produces as large a supply of capital goods as it consumes and thus succeeds in maintaining its supply of capital goods intact. If the proportion of existing means of production devoted to the production of capital goods exceeds the maintenance proportion, then the economic system produces more capital goods than it consumes and thus succeeds in increasing its supply of capital goods. If the proportion of existing means of production devoted to the production of capital goods falls short of the maintenance proportion, then the economic system produces a smaller supply of capital goods than it consumes and thus suffers a reduction in its accumulated stock of capital goods. Assuming a constant population and supply of labor, in the first case the economic system is stationary; in the second, it is progressive; in the third, it is retrogressive. In the first case, because the supply of capital goods remains the same, the productivity of labor and the general level of real wages remain the same. In the second case, because of capital accumulation, the productivity of labor and the general level of real wages increase. In the third case, because of capital decumulation, the productivity of
THEORY OF WAGES 623 labor and the general level of real wages decrease. 62
Figure 14–4 illustrates the nature of a stationary economic system. In Figure 14–4, I assume that the existing supply of capital goods and labor—namely, 1K of capital goods plus 1L of labor—can be used to produce varying combinations of capital goods and consumers’ goods ranging from 2K of capital goods and 0C of consumers’ goods, at one extreme, to 0K of capital goods and 2C of consumers’ goods, at the other extreme. These extremes are the values that would result if 100 percent of the existing supply of capital goods and labor were devoted to the production of capital goods, and 0 percent to the production of consumers’ goods, and vice versa.
For the sake of simplicity, I assume that all the capital goods in existence at the beginning of a year are productively consumed in that year. Thus, by implication, I further assume (also for the sake of simplicity) that the maintenance proportion is one-half, for the replacement of 1K of capital goods out of an output that is equivalent in size to 2K of capital goods is, of course, half of that output. Figure 14–4 represents a stationary economic system, because in each year the relative production of capital goods is one-half, precisely equal to the maintenance proportion, while the relative production of consumers’ goods is, of course, also one-half. Thus, the supply of capital goods remains stationary.
Figure 14–4 illustrates the previous proposition that the relative production of capital goods and consumers’ goods is in accordance with the relative demands for capital goods and consumers’ goods. The downward sloping arrows in Figure 14–4 trace the transformation of existing capital goods and of labor into their products—namely, further capital goods, shown on the left, and consumers’ goods, shown on the right. The proportions shown in Figure 14–4, of 50 percent and 50 percent in the relative production of capital goods and consumers’ goods in each year, are in response to the fact that the demands for capital goods and consumers’ goods in each year are 500 and 500 respectively. (These numbers can be thought of as abstract monetary units. As I stated in Chapter 13, each such unit could be taken as representing a billion dollars a few years back, and ten billion dollars today. It makes no difference which, just so long as the size is held fixed at some definite amount and is large enough so that the example can be understood as referring to the economic system as a whole.) It is in response to these demands of 500 and 500, which each represent one-half of an assumed total aggregate monetary demand of 1,000 each year for capital goods and consumers’ goods taken together, that the utilization of existing capital goods and labor is 50 percent for the production of capital goods and 50 percent for the production of consumers’ goods.
624
The Relative Production
Year 1
Year 2
50% n1K OF CAPITAL GOODSn
In Response to a Demand for Capital Goods of 500
50% Year 3 n1K OF CAPITAL GOODSn
In Response to a Demand for Capital Goods of 500
50% Year 4 n1K OF CAPITAL GOODSn
In Response to a Demand for Capital Goods of 500
50%
Year N n1K OF CAPITAL GOODSn
In Response to a Demand for Capital Goods of 500
CAPITALISM
Figure 14–4 of Capital Goods in a Stationary Economy
1 K OF CAPITAL GOODS
PLUS 1L OF LABOR
PRODUCE
50% n1C OF CONSUMERS’ GOODSn
In Response to a Demand for Consumers’ Goods of 500
1 K OF CAPITAL GOODS
PLUS 1L OF LABOR
PRODUCE
50% n1C OF CONSUMERS’ GOODSn
In Response to a Demand for Consumers’ Goods of 500
1 K OF CAPITAL GOODS
PLUS 1L OF LABOR
PRODUCE
50% n1C OF CONSUMERS’ GOODSn
In Response to a Demand for Consumers’ Goods of 500
1 K OF CAPITAL GOODS
PLUS 1L OF LABOR
PRODUCE
50%
n1C OF CONSUMERS’ GOODSn
In Response to a Demand for Consumers’ Goods of 500
THE PRODUCTIVITY THEORY OF WAGES 625
Figure 14–5
The Relative Production of Capital Goods in a Progressing Economy
Year 1
1 K OF CAPITAL GOODS
PLUS 1L OF LABOR
PRODUCE
60% 40% Year 2 a1.2K OF CAPITAL GOODSn a.8C OF CONSUMERS’ GOODSn
In Response to a Demand for In Response to a Demand for Capital Goods of 600 Consumers’ Goods of 400
1.2 K OF CAPITAL GOODS
PLUS 1L OF LABOR
PRODUCE
60% 40% Year 3 a.96C OF CONSUMERS’n a1.44K OF CAPITAL GOODSn
GOODS
In Response to a Demand for In Response to a Demand for Capital Goods of 600 Consumers’ Goods of 400
1.44 K OF CAPITAL GOODS
PLUS 1L OF LABOR
PRODUCE
60% 40% Year 4 a1.152C OF CONSUMERS’a a1.728K OF CAPITAL GOODSn
GOODS
In Response to a Demand for In Response to a Demand for Capital Goods of 600 Consumers’ Goods of 400
1 .728K OF CAPITAL GOODS
PLUS 1L OF LABOR
PRODUCE
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 60% . . . . . . . . . . . . . . . . . . . . . . . . . . . 40% . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Year N aaaaaaaaaaaaaaaaaaaaaaaa aaaaaaaaaaaaaaaaaaaaaa
1.728K x 1.2 N–4 OF a1.152C x 1.2 N–4 OF
CAPITAL GOODS CONSUMERS’ GOODS
In Response to a Demand for In Response to a Demand for Capital Goods of 600 Consumers’ Goods of 400
In Figure 14–4, the capital goods and labor of each year are devoted to the production of capital goods and consumers’ goods which become available for sale at the beginning of the following year. It is the relative demands for capital goods and consumers’ goods in the following year, assumed to be correctly anticipated in the present year, that govern the relative disposition of capital goods and labor in the present year. Thus, the 1K of capital goods plus 1L of labor which exist in Year 1, produce 1K of capital goods and 1C of consumers’ goods which become available for sale and are sold at the beginning of Year 2, each for 500. Thereupon, the producers in Year 2 begin a new round of production, with the aid of the 1K of capital goods that has been purchased for 500 and with the aid of a fresh 1L of labor. In the course of production in Year 2, the fresh 1K of capital goods is, of course, productively consumed in producing another fresh supply of 1K of capital goods and 1C of consumers’ goods, which become available for sale and are sold at the beginning of Year 3—once again for 500 units of money each. The downward sloping arrows show a 50 ⁄ 50 relative production of capital goods and consumers’ goods in Year 2, this time in response to the 500 ⁄ 500 relative demands for capital goods and consumers’ goods that are made at the beginning of Year 3.
In Year 3, exactly the same story is repeated as takes place in Year 2, and will thereafter continue to be repeated indefinitely—down to Year N. Year in and year out, production begins with 1K of capital goods and 1L of labor; the capital goods are productively consumed in producing a fresh supply of 1K of capital goods, along with a supply of 1C of consumers’ goods—in response to the relative demands for capital goods and consumers’ goods of 500 ⁄ 500 .
Figure 14–5 depicts the conditions of a progressing economic system. As in Figure 14–4, the initial supply of capital goods, in Year 1, is assumed to be 1K. But the labor and capital goods of Year 1 are utilized very differently in Figure 14–5 than in Figure 14–4. In Figure 14–5, they are devoted 60 percent to the production of capital goods, instead of only 50 percent; and only 40 percent to the production of consumers’ goods, instead of 50 percent. As a result, the supply of capital goods available to serve in production at the start of Year 2 is 1.2K instead of only 1K. By the same token, the supply of consumers’ goods is .8C, instead of 1C. The 20 percent larger supply of capital goods in Year 2, in comparison with the supply in existence at the start of Year 1 in Figure 14–5, is the result of devoting 20 percent more resources to the production of capital goods than is necessary for the mere maintenance of their supply.
This change in the proportions in which capital goods and consumers’ goods are produced is, of course, the result of the change in the proportions in which they are demanded. In every year in Figure 14–5, the demand for capital goods and the demand for consumers’ goods are 600 and 400 respectively, instead of 500 and 500 respectively, as was the case in Figure 14–4. The 60 ⁄ 40 relative demand for capital goods and consumers’ goods underlies their production in the 60 ⁄ 40 ratio.
Now, as I have indicated, this change in the relative demands for capital goods and consumers’ goods has its foundation in greater saving. For the source of the demand for capital goods, indeed, for all of productive expenditure, including the demand for labor, is saving. The demand for capital goods depends on the funds expended to buy capital goods not being expended to buy consumers’ goods instead. That is, people who possess the necessary funds must abstain from consuming them— they must save them and employ them in productive expenditure for capital goods if the demand for capital goods is to be increased relative to the demand for consumers’ goods. Precisely this represents the role of saving in capital accumulation. Namely, the degree of saving determines the relative demand for and production of capital goods. 63 I will have more to say about the role of saving, shortly, following the elaboration of the analysis depicted in Figure 14–5.
In Figure 14–5, I introduce the further assumption that the total productive ability of the economic system is in proportion to the supply of capital goods. Thus, when the supply of capital goods increases by 20 percent in Year 2 in comparison with Year 1, the total ability of the economic system to produce also increases by 20 percent. As a result, the limiting combinations within which capital goods and consumers’ goods can be produced are increased from 2K of capital goods, 0C of consumers’ goods at one extreme, and 0K of capital goods, 2C of consumers’ goods at the other extreme, to 2.4K of capital goods, 0C of consumers’ goods at the one extreme and 0K of capital goods, 2.4C of consumers’ goods at the other extreme. (The extremes, of course, are the products that would result from the use of the existing 1.2K of capital goods and 1L of labor in proportions of 100 percent and 0 percent in the respective production of capital goods and consumers’ goods or, alternatively, consumers’ goods and capital goods.) Because the 60 ⁄ 40 relative production of capital goods and consumers’ goods is maintained, the actual total product of Year 2 is 1.44K of capital goods and .96C of consumers’ goods, which are the supply of goods available at the start of Year 3. (These are the results found by respectively multiplying .6 and .4 times the alternative limiting production extremes of 2.4K and 2.4C.)
Thus, 1.44K of capital goods is the supply of capital goods available with which to carry on production in
THE PRODUCTIVITY
Year 3. And because production in Year 3 is thereby carried on with a 20 percent larger supply of capital goods than was production in Year 2, the total productive ability of the economic system in Year 3 increases by 20 percent once again, with the result that, under the prevailing 60 ⁄ 40 relative production of capital goods and consumers’ goods, the supply of capital goods and consumers’ goods available for sale at the beginning of Year 4 is 1.728K of capital goods and 1.152C of consumers’ goods—a 20 percent increase over the respective supplies at the start of Year 3. (These are the results found by respectively multiplying .6 and .4 times the new limiting production extremes of 2.88K and 2.88C, which are the products of 1.44K of capital goods and 1L of labor devoted 100 percent to the production of capital goods or, alternatively, 100 percent to the production of consumers’ goods.)
Indeed, in the conditions depicted in Figure 14–5, production and the supply of capital goods will go on increasing by 20 percent in every year, with the 20 percent larger supply of capital goods in each year increasing the ability to produce in comparison with the preceding year by a further 20 percent, including the ability to produce capital goods. Thus, in Figure 14–5, in Year N, the supplies of capital goods and consumers’ goods are shown as their respective amounts in Year 4 times 1.2 compounded for the number of years elapsing between Year 4 and Year N, namely, N–4, which is the exponent used in the compounding.
The dynamic effects of changes in the relative demand for and production of capital goods cannot be overemphasized. Obviously, what is essential for capital accumulation to take place is that the supply of capital goods produced exceed the supply of capital goods productively consumed, and that for this to happen, the proportion of its efforts which an economic system devotes to the production of capital goods must exceed the maintenance proportion. This, of course, will occur only if the demand for capital goods relative to the demand for consumers’ goods is sufficiently great, which in turn requires that the degree of saving be sufficiently high.
But increases in the supply of capital goods do not depend on continuous increases in the relative demand for and relative production of capital goods. Once the relative demand for capital goods rises to the point that their relative production exceeds the maintenance proportion, so that capital accumulation takes place, the productive ability of the economic system is increased, including its ability to produce capital goods. This greater ability to produce capital goods then results in a further accumulation of capital goods—provided only that the higher relative demand for and corresponding relative production of capital goods is maintained and
THEORY OF WAGES 627 that the maintenance proportion does not rise.
In other words, once an economic system devotes a sufficiently large proportion of its efforts to the production of capital goods, it can go on accumulating capital goods on the strength of the larger supply of capital goods produced in the year before. For example, once the first railroads and steel mills were brought into existence on the basis of saving and a greater relative production of capital goods, the very existence of these additional capital goods made possible a further increase in the supply of capital goods. For once in the possession of these capital goods, the total ability of the economic system to produce was increased, and this included its ability to produce further capital goods no less than consumers’ goods. Given the possession of the first railroads and steel mills, it became easier to produce railroads and steel mills, and virtually all other capital goods, than it was before, without them. On the basis of the greater productive ability made possible by their existence, the continuation of the same, higher relative production of capital goods had to result in a further increase in the supply of capital goods. Thus, once in possession of the first railroads and steel mills, it became possible to produce more, bigger, and better railroads and steel mills, and then, with the aid of these, to produce still more, still bigger, and still better railroads and steel mills, and so on and on, decade by decade—and, of course, to produce more capital goods of all kinds, for the principle applies throughout the economic system, to the ability to produce in general. Thus, to have continuous capital accumulation and economic progress, it is not necessary to go on raising the relative demand for capital goods and the relative production of capital goods, but only to maintain a sufficiently high relative demand and relative production.
This fact has major implications for the role of saving in capital accumulation. It implies that in an economic system with a given quantity of money and thus a given overall volume of spending for capital goods and consumers’ goods combined, continuous increases in saving and decreases in consumption expenditure would not be necessary for the existence of capital accumulation, provided that the existing degree of saving, and thus the existing demand for capital goods relative to consumers’ goods, were sufficiently high.
Given a relative demand for and production of capital goods that already exceeds the maintenance proportion, and total output that increases in proportion to the increase in the supply of capital goods, the effect of further increases in saving and the relative demand for and production of capital goods would be as force to acceleration is in the world of physical phenomena: that is, they would achieve a more rapid rate of capital accumulation and economic progress. For example, demand for
and production of capital goods in a 70 ⁄ 30 ratio to consumers’ goods, rather than the 60 ⁄ 40 ratio assumed in Figure 14–5, would result in 1.4K of capital goods and .6C of consumers’ goods in Year 2, 1.96K of capital goods and .84C of consumers’ goods in Year 3, and 2.744K of capital goods and 1.176C of consumers’ goods in Year 4—that is, an annual increase in production, and thus in the supply of capital goods and the ability further to increase production and the supply of capital goods, of 40 percent instead of 20 percent. (The figures of 1.4K of capital goods and .6C of consumers’ goods for Year 2 result from the multiplication of the respective limiting extremes of 2K and 2C by .7 and .3 respectively. Similarly, the 1.96K of capital goods and .84C of consumers’ goods that would be available at the start of Year 3 are respectively 70 percent and 30 percent of the increased limiting extremes of 2.8K of capital goods or 2.8C of consumers’ goods that could alternatively be produced with the aid of an existing 1.4K of capital goods and 1L of labor, devoted 100 percent to the respective production of capital goods or, alternatively, consumers’ goods. Likewise, the figures of 2.744K of capital goods and 1.176C of consumers’ goods for Year 4 are the result of multiplying .7 and .3 times the further increased respective limiting extremes of 3.92K or 3.92C that could be produced with the aid of an existing 1.96K of capital goods and 1L of labor, devoted 100 percent to the respective production of capital goods or, alternatively, consumers’ goods.)
The rates of increase in production and in capital supply that I am assuming are, of course, unrealistically high, and substantially exceed even the record rates established by Japan and other East Asian countries in the last generation. This is the result of the simplifying assumptions I use. 64 Nevertheless, the essential point remains true that the greater the degree to which the relative demand for and production of capital goods surpasses the proportion required for the mere maintenance of the supply of capital goods, the more rapidly does the economic system tend to progress. For then, each year the production of capital goods exceeds the supply of capital goods consumed in production by a correspondingly wider margin. The production of each succeeding year then takes place with the aid of that much more of a larger supply of capital goods than did the production of the year before. And each year, by virtue of raising the productivity of labor that much more, the more enlarged supply of capital goods makes possible the production of a correspondingly still more enlarged supply of capital goods, as well as consumers’ goods, in the following year.
In making the claim that production can increase in proportion to the supply of capital goods, I may appear to be in contradiction of the law of diminishing returns. Actually, I am not. It is true that there can be diminishing returns to capital goods. However, this is not a necessary fact. Diminishing returns to capital goods are implied as a necessary fact only in the context of the employment of increasing quantities of capital goods of a definite physical type relative to labor. An increase in the supply of capital goods as such, however, does not mean an increase in the supply of some one, homogeneous factor of production employed. On the contrary, it can encompass the most radical changes in the technological methods of production. It can mean the substitution of steel for iron, titanium for steel, petroleum for coal, atomic power for petroleum, and so on. An increase in the supply of capital goods as a genus stands outside the context assumed by the law of diminishing returns insofar as its employment is accompanied by changes in the technological methods of production that are implemented. It is no more possible to speak of a necessary diminution of returns to capital goods as a genus than it is possible to speak of a necessary diminution of returns to human intelligence.
Indeed, even if one considers the case of a homogeneous capital good, such as iron ore of a given quality that has been mined, the law of diminishing returns can have no application insofar as the products made possible by a larger supply of iron ore may be steam engines instead of windmills, and then diesel engines and electric motors instead of steam engines, and so on, in one line of production after another. There can be diminishing returns to capital goods, but there need not be; in fact, there can even be increasing returns to capital goods as the result of advances in technology.
Only in the sustained absence of further technological progress must an additional supply of capital goods afford a less than proportionate increase in total productive power. Only in such circumstances does the additional supply of capital goods mean at some point increasing the supply of capital goods of the same types relative to labor. And this, as we shall see, results first in a slowing up and then in a complete cessation of the accumulation of additional capital goods, unless the proportion of the existing supply of factors of production devoted to their production should increase.
In connection with the above, it should be realized that even increases in the supply of capital goods of the same types relative to labor do not result in diminishing returns insofar as it is a question of extending the application of improved methods of production to a larger proportion of the labor force. For example, if initially 5 percent of
automobile factories are operating with the aid of moving assembly lines, the extension of the use of moving assembly lines to 10 percent, 20 percent, and ultimately, 100 percent, of the automobile factories will not result in diminishing returns. Diminishing returns set in only with the employment of more capital goods (of a given type) in conjunction with a given worker or group of workers, such as a given assembly-line team. Then, sooner or later, the result must be a less-than-proportionate increase in output.
As this fact indicates, it is consistent with this discussion that increases in the relative demand for and production of capital goods could be accompanied by an acceleration in the rate of capital accumulation and economic progress that itself took place at a decelerating rate. This would be the case insofar as the lapse of time was required to produce capital goods of different, technologically more advanced types than those presently in existence. Thus, for example, when the relative demand for and production of capital goods rose from a 60 ⁄ 40 ratio to consumers’ goods, to a 70 ⁄ 30 ratio, the increase in productive ability could be in a lesser proportion than 1.4 to 1.2 insofar as the resulting 1.4K of capital goods were of the same kind as the 1.2K of capital goods that would otherwise have been produced and, in addition, had to be employed more heavily with the same, limited units of labor.
Technological Progress as a Source of
Capital Accumulation
This brings me to the role of technological progress in capital accumulation. In order for the supply of capital goods to go on increasing on the basis of previous growth in the supply of capital goods, it is necessary that at some point further technological progress take place. In the conditions described in Figure 14–5, further technological progress is what ultimately keeps up the process of capital accumulation after the achievement of the rise in the relative production of capital goods from 50 percent to 60 percent and its resulting initial increase in the supply of capital goods. Further technological progress is what is ultimately required to offset the operation of the law of diminishing returns and thus for the existence of constant returns to a growing supply of capital goods. It is what is necessary for the process of a 20 percent larger supply of capital goods resulting in a 20 percent greater ability to produce and thus in a further 20 percent increase in the supply of capital goods with a consequent still further 20 percent increase in the ability to produce, to go on indefinitely.
In the prolonged absence of technological progress, the larger supply of capital goods from one year to the next would sooner or later result in an increase in total productive ability in the economic system that was less
THEORY OF WAGES 629 than in proportion to the increase in the supply of capital goods. For the law of diminishing returns would set in. For example, in the absence of further technological progress, the increase in the supply of capital goods, say, in Year 8 in comparison with Year 7, could well be accompanied by a less than proportionate increase in the ability to produce in Year 8 in comparison with Year 7. On the basis of a 20 percent increase in the supply of capital goods in Year 8, production might increase by only 15 percent, say. This would mean that the subsequent increase in the supply of capital goods available for Year 9 would also be only 15 percent. This lesser increase in the supply of capital goods in Year 9 could, in turn, well be accompanied by an increase in the overall ability to produce that was less than in proportion to it, say, only 10 percent. Thus, the growing supply of capital goods would encounter diminishing returns, and as a result, the supply of capital goods would eventually stop growing, because the additional production out of which further capital accumulation takes place would be steadily diminishing.
In the absence of technological progress, the point must always sooner or later be reached where additional supplies of capital goods would increase the ability to produce by diminishing amounts, with the result that capital accumulation would eventually peter out, no matter how great the relative production of capital goods. In effect, in the absence of technological progress, the diminishing additional output per unit of additional capital goods would imply a falling average productivity of capital goods—that is, a falling ratio of output to the supply of capital goods. Since the supply of capital goods would still have to be replaced out of production, the further implication would be a corresponding rise in the proportion of output required to replace the capital goods consumed in production—viz., in the maintenance proportion. The maintenance proportion would tend to rise all the way to the point of equalling the relative production of capital goods, however high the latter might be. At that point, both capital accumulation and the increase in production would cease.
Technological progress, however, offsets the operation of the law of diminishing returns and makes possible the existence of longterm constant returns to a growing supply of capital goods. Exactly as I showed in connection with the limitless potential of natural resources, the law of diminishing returns continues to apply in a given state of technology, but not under the conditions of an improving state of technology. 65 And thus, because of the offset it constitutes to the law of diminishing returns, technological progress provides a parallel in the world of economic phenomena to the absence of friction in the world of physical phenomena. By virtue of its ability to
achieve constant returns to a growing supply of capital goods, technological progress stands in the same relationship to the ability of a larger relative production of capital goods to bring about capital accumulation as the absence of friction does to the ability of force to achieve acceleration in the world of physical phenomena. By virtue of technological progress, a one-time increase in the relative production of capital goods is capable of achieving an indefinitely long series of subsequent increases in the supply of capital goods. In effect, technological progress makes it possible for an increase in the relative production of capital goods to launch economic progress along a kind of inertial path, as it were.
Now, seen in this light, technological progress stands revealed as a fundamental source of capital accumulation. Without it, capital accumulation either cannot continue at all or can do so only by virtue of continuous increases in the relative demand for and production of capital goods, and in no case can be very substantial. If, for example, there had been no technological progress over the last two centuries, there could have been virtually no capital accumulation over this period. However high the relative production of capital goods in an economy whose technology was characterized by sailing ships and horse-drawn wagons, it would still have been simply impossible to produce any significant part of the capital goods that can be produced today, from the standpoint both of quantity and quality.
This is why, in Chapter 13, I ridiculed the secular-stagnationist variant of consumptionism as I did. It is simply absurd to believe that saving—the determinant of the relative production of capital goods—could somehow by itself provide the means of building modern steel mills and a modern railroad network and that fortunately these capital-using technologies appeared on the scene to provide uses for all the capital allegedly being generated by the process of saving. The truth is, as previously stated, that it is technological progress which is indispensable to the very existence of virtually all of the growing supply of capital goods that becomes available to implement further technological progress. It was precisely earlier technological advances in steel making, railroad building, and so forth, that underlay the growing supply of capital goods required to make possible the implementation of more advanced technologies in steel making, railroad building, and so forth later on. In effect, the technological advances of each decade played a crucial role in providing the growing supply of capital goods required to implement the technological advances of the following decade. Over the course of a period such as a generation or more, it should be obvious that it is the process of technological progress itself that is indispensable to the provision of the capital goods required for the implementation of technological progress.
Regrettably, while the role of technological progress as a major, indispensable source of capital accumulation should now be obvious, the prevailing view in contemporary economics is that saving alone is the source of capital accumulation and that the role of technological progress is to provide “outlets” for the expanding supply of capital goods allegedly generated all by saving, and thereby to keep up the rate of profit. 66 In other words, the prevailing view is that underlying the consumptionist doctrine of secular stagnation. 67
Even when technological progress appears to be recognized, more or less in passing, as being responsible for capital accumulation, its essential role in connection with capital accumulation is still seen as that of keeping up the rate of return in the face of capital accumulation allegedly caused by saving. For example, Samuelson and Nordhaus write: “As a result of technological progress, capital per worker, output per worker, and wages per worker grow over time, yet the real interest rate does not decline. If no invention had occurred, perhaps Marx would have been proven correct in his prophecy of the falling rate of profit. But invention increases the productivity of capital and repeals the law of the falling rate of profit. In the race between diminishing returns and advancing technology, technology has won by several lengths.” 68 Thus, even though the role of technological progress in capital accumulation appears to be acknowledged in the opening words of the quotation, the acknowledgment is of no substance, and matters stand just where they stood before, with the essential role of technological progress seen as that of keeping up the rate of profit in the face of capital accumulation caused by saving. Indeed, when Samuelson and Nordhaus say that “as a result of technological progress, capital per worker . . . grow[s] over time, yet the real interest rate does not decline,” they should almost certainly be understood as meaning not that technological progress causes the growth in capital per worker, but that it is responsible for the fact that the growth in capital per worker caused by saving can go on without the real rate of interest declining.
This interpretation is also consistent with the fact that they, along with most other contemporary economists, regard the contribution of technological progress to the increase in production as separate from and independent of any contribution to capital accumulation. They see technological progress as contributing only to the increased production of consumers’ goods. Indeed, when the importance of technological progress to the increase in the production of consumers’ goods is recognized, it is taken as the basis for minimizing the importance ascribed to capital accumulation! For example, Samuelson
and Nordhaus declare: “Thus of the 2.1 percent-per-year increase in output per worker, about .25 percentage points is due to capital deepening, while an astounding 1.85 percent per year stems from T. C. [technological change].” Elsewhere in their book, Samuelson and Nordhaus make clear that by “capital deepening,” they mean capital accumulation. This is when they describe capital deepening as “a rise in the capital-labor ratio,” i.e., as an increase in the supply of capital goods per worker. 69
Thus, Samuelson and Nordhaus, along with most other contemporary economists, end up in a position in which they fail to see not only the role of technological progress as a source of capital accumulation, but also the greater part of the role of capital accumulation itself in raising the productivity of labor. They believe that technological progress raises the productivity of labor directly, without any need for a corresponding additional quantity of capital goods. 70 I will show the error of this last view in the very next section of this chapter.
The Reciprocal Relationship Between Capital
Accumulation and Technological Progress
It is necessary to stress that the ability of the economic system to implement advances in technology depends on the supply of capital goods it already possesses, which crucially depends on the economic degree of capitalism and on the closely related concept of capital intensiveness. Capital intensiveness in the economic system can be conceived of in terms of the ratio of the total value of accumulated capital in the economic system to—alternatively—aggregate sales revenues, wage payments, or consumption expenditures. 71 It is the greater, the higher are these ratios.
The economic degree of capitalism and the degree of capital intensiveness in the economic system operate, as it were, as a kind of long-range “radar net” for technological progress—with cumulative longrun consequences for capital accumulation and the ability to implement technological advances, in that they determine which kinds of technologies can be picked up and implemented at any given time.
The fact that the ability of an economic system to implement technological advances depends on its existing supply of capital goods can be illustrated by a close analogy from the conditions of our lives as consumers. Thus, for example, a Mercedes 450 SE represents a more advanced technology in automobiles than, say, a Chevy Nova. If we ask what it is that stops people from implementing this more advanced technology, the answer is obviously not that they lack the necessary technological knowledge of how to drive a Mercedes. They already know perfectly well how to drive one. What stops them from doing so, obviously, is the fact that they lack the
THEORY OF WAGES 631 wealth—the means—to implement this more advanced technology. They simply cannot afford to buy the Mercedes.
In just the same way, there are more advanced technologies in business that businessmen already know how to employ or could easily learn to employ, but which they cannot afford to adopt, because they lack the capital. For example, as von Mises used to say in his seminar, every farmer in India who has seen American movies showing tractors and harvesters knows that he too could benefit from the use of such equipment. Again, what stops him is not that he doesn’t know how to operate such devices (he could easily learn), but that he lacks the capital to purchase them. And, of course, as Say’s Law shows, what makes him lack the purchasing power to buy the necessary capital goods is precisely the inability of the economic system physically to produce them or to produce them in sufficient quantity. The possession of capital— more fundamentally, the physical ability of the economic system to produce capital goods—is thus vital to the ability of the economic system to implement more advanced technologies.
An outstanding example of this fact in our own economy is that the implementation of the technology involved in the production of space rockets and communications satellites, and all that may subsequently depend on them, would not be possible if there did not already exist a highly developed electronics industry, chemical industry, computer industry, transportation system, metallurgical industry, and electrical industry, and all the other industries necessary to the existence of these industries. The mere technological knowledge alone would not be sufficient to make possible the actual production of space rockets and communications satellites.
The fact that as the result of a higher economic degree of capitalism an economic system possesses a higher relative production of capital goods and is more capital intensive means that it is able to implement technologies that it otherwise would not have been able to implement. Its greater relative production of capital goods and greater capital intensiveness provide it with the necessary capital. For example, in the nineteenth century, Great Britain was the world’s most capital-intensive economy. It possessed the capital necessary to implement such highly capital-intensive technologies as railroading, and even to provide other countries with the means of doing so. If the British economy had had no greater capital intensiveness than, say, the economy of Italy, it would have been impossible for Britain to undertake railroading. The only possible source of the necessary capital would have been stripping other industries of their vital capital, and thus to end up actually reducing production overall. But with a sufficient degree of capital intensiveness in the British
economic system, the capital necessary for the first railroads was available without disrupting production elsewhere. Thus, Britain could have railroads and even provide them to others.
Now once the first railroads were built, the effect, of course, was to increase the economic system’s overall ability to produce—to produce not just consumers’ goods but also further capital goods, including the means for more, bigger, and better railroads. As previously stated, once the first railroads, steel mills, and so forth came into existence, it became easier to build more and bigger and better railroads, steel mills, and so forth, because their production could be undertaken with the aid of the first railroads, steel mills, and so forth. In other words, the achievement of a higher degree of capital intensiveness, like the closely related achievement of a higher relative production of capital goods, made possible an increase in production which was itself the source of a second increase in the supply of capital goods. Thus, the effects of greater capital intensiveness were and are cumulative. In any given period of time, greater capital intensiveness permits the adoption of technologies that otherwise could not be adopted. And then, the increase in production that results from the adoption of those technologies provides still more capital goods in the future, so that still more advanced technologies can be adopted—without the necessity of further increases in the degree of capital intensiveness.
On this basis, it should be clear that the relationship between capital accumulation and the ability to implement more advanced technologies is reciprocal. Technological progress is both a vital, indispensable source of capital accumulation and, at the same time, the ability to implement advances in technology depends on the existing supply of capital goods and, more fundamentally, on the relative production of capital goods and degree of capital intensiveness in the economic system. 72 Technological progress is not implemented in a vacuum. A country which already annually produces, say, one-half of a ton of steel per capita is able to implement more advanced technological processes of production both in steel making and probably in all other branches of production than one which only produces a quarter of a ton per capita, and that country is able to implement more advanced technological processes of production than a country which only produces one-eighth of a ton of steel per capita; and it is the same with respect to the ability to produce in innumerable other lines of production, from aluminum and its products to zirconium and its products.
To take one final example, imagine, as was quite possibly the case, that all the technological knowledge required for the construction of the steel mills and oil refineries of the kind constructed in the 1960s existed in 1920. Nevertheless, it would not have been possible to construct such steel mills and oil refineries at that time, at least not economically, if for no other reason than that it would have made too great a demand on the then existing supply of steel and petroleum products. Because the supply of capital goods was increasing, it was, however, possible to construct more advanced facilities for steel making and petroleum refining in the decade of the 1920s than had been possible in the previous decade. With the aid of the larger production of capital goods made possible by these more advanced facilities, it was then possible in the decade of 1930s to construct still more advanced facilities for the production of steel and petroleum than had been possible in the 1920s; and with the aid of the then still larger supply of capital goods made possible by these still more advanced facilities, it became possible in the next decade to implement further improvements in the production of steel and oil until, two decades later, it became possible to construct steelmaking and petroleum-refining facilities of the type built in the 1960s.
As the preceding words suggest, it is not necessary that further technological progress occur concurrently in order to maintain the returns to additional capital goods. Probably, even in the present-day United States, several years could go by without further technological progress taking place, and the returns to additional capital goods would remain undiminished. In the case of a backward country, such as India, most likely decades could go by, and the returns to a larger supply of capital goods would not diminish, even though no new technological knowledge came into existence. This is because the growing supply of capital goods would make possible the implementation of already known technologies which it had not been possible to implement before because of a lack of a sufficient supply of capital goods. However, sooner or later, further technological progress is always necessary to maintain the productivity of capital goods.
What it is crucial to recognize in connection with real wages, which is our central concern in this chapter, is that capital accumulation and a rising productivity of labor depend on a combination of technological progress and a sufficiently high economic degree of capitalism, which latter is responsible both for a sufficiently high relative demand for and production of capital goods and for a sufficiently high degree of capital intensiveness. 73
The Economic Degree of Capitalism, the Wage
“Share,” and Real Wages
It is important to realize in addition that the economic degree of capitalism determines real wages not only by virtue of its connection with capital accumulation and the
productivity of labor, but also by virtue of its connection with the socalled distribution factor—i.e., the relationship between the demand for labor and the demand for consumers’ goods, and thus the proportion of consumer spending originating in wage payments.
The wages paid by business firms are paid by the business firms, not by the consumers, who buy the ultimate product of business firms. The wages are a part of productive expenditure, not consumption expenditure. 74 The higher the economic degree of capitalism—i.e., the larger the proportion of sales revenues and incomes saved and productively expended—the higher is not only the demand for capital goods relative to the demand for consumers’ goods, but also the higher is the demand for labor relative to the demand for consumers’ goods. For example, if the owners of a given firm, with sales revenues, let us say, of $1 billion, pay themselves an annual dividend of $50 million instead of $100 million, and thus save and productively expend $950 million instead of only $900 million, their firm’s demand for labor, as well as for capital goods, is bound to be larger. And it will be all the more enlarged relative to their own consumption expenditure, which is fully halved in this case. It should be obvious that to the extent that such behavior prevails in the economic system as a whole, the same conclusions apply. Thus, a rise in the economic degree of capitalism acts in a double way to raise real wages. It raises the wage share of consumption along with raising the productivity of labor. Both members of the equation determining real wages are increased.
The full contribution of the economic degree of capitalism to real wages can be described in terms of a simple equation that represents all of the essential elements of aggregate monetary demand. Thus,
M = D L + D K .
M′ D C + D K
The only new item in the equation is D K , which is the aggregate demand for capital goods, D L being the by-now-familiar aggregate demand for labor, and D C the by-now-equally-familiar aggregate demand for consumers’ goods. M and M′, of course, respectively represent the aggregate productive expenditures made by business and the aggregate sales revenues of business. The equation of D expresses L plus D K the and fact D C that plus these D K . are the respective sums
The twofold positive effect of a rise in the economic degree of capitalism on real wages can be illustrated in terms of this equation. Thus let us begin with an economic degree of capitalism of .8, reflecting an aggregate demand for capital goods of 500, an aggregate demand for labor of 300, and an aggregate demand for consum—
THEORY OF WAGES 633 ers’ goods of 500. The figure of .8 for the economic degree of capitalism equals the result of substituting the assumed numbers in the above equation. The assumed value of 500 for the demand for capital goods is, of course, substituted both in the numerator and in the denominator, inasmuch as the demand for capital goods is equally a part both of productive expenditure and of sales revenues. (For the most part, the numbers assumed merely repeat the numbers assumed in Figure 14–4. All that is added is the assumption that the aggregate demand for labor is 300—Figure 14–4 made no assumption about the demand for labor.) Thus, we have:
800M = 300D L + 500D K .
1,000M′ 500D C + 500D K
In these initial conditions, the 500 of demand for consumers’ goods comes from the wage earners’ consumption expenditure of their 300 of wages and the further consumption expenditure of 200 by businessmen and capitalists, out of such sources as dividend and interest payments.
Now let us observe the effect of a rise in the economic degree of capitalism to, say, .95. This comes about as the result of businessmen and capitalists becoming more future-oriented and thus reducing their consumption expenditures from 200 to 50, while correspondingly increasing their saving and productive expenditures from 800 to 950. We further assume that of the 150 of additional saving and productive expenditure, 100 is an additional demand for capital goods and 50 is an additional demand for labor, which the wage earners will add to their expenditure for consumers’ goods. Thus, the aggregate demand for capital goods is now 600, just as in Figure 14–5, and the aggregate demand for consumers’ goods is now 400, also just as in Figure 14–5. (The demand for consumers’ goods falls only by 100, rather than by the 150 reduction in the consumption expenditure of businessmen and capitalists because part of the effect of the businessmen and capitalists consuming less is an increase of 50 in wages, which enables the wage earners to increase their consumption by that amount. Thus, total consumption is reduced only by 100, from 500 to 400. In the new circumstances the wage earners consume 350 and the businessmen and capitalists, 50.)
Inserting these numbers in the equation, we obtain
1,000M′ 950M = 400D 350D C L + + 600D 600D K K .
Here then, is a rise in the economic degree of capitalism and, as the direct result of it, a rise in the relative demand for and production of capital goods, which serves progressively to raise the productivity of labor and thus real wages, and, in addition, a rise in the socalled distri—
bution factor in favor of wage earners, from 300 ⁄ 500 to 350 ⁄ 400 . Thus, as the economic degree of capitalism rises, we observe a twofold source of higher real wages, namely, the source of a rise both in the productivity of labor and in the “distribution factor.” Of course, the rise in the productivity of labor is potentially capable of continuing without fixed limit, thanks to the ability of capital accumulation to continue without fixed limit, on the strength of a rise in the relative demand for capital goods. In contrast the potential rise in the “distribution factor” is of a one-time, nonrepeatable nature and is extremely limited.
Other Factors, Above All Economic Freedom and
Respect for Property Rights, as Sources of
Capital Accumulation
In addition to the relative production of capital goods and technological progress as determinants of the supply of capital goods, and thus of the productivity of labor, there is, as mentioned, the general efficiency with which existing capital goods are employed—viz., the productivity of existing capital goods. By the productivity of capital goods, I mean, of course, the ratio of output to the supply of capital goods. Technological progress is obviously a major contributor to this factor and is subsumed under it. But it is not the only thing that contributes to it. In Chapter 4, I pointed out how the division of labor itself, in all the aspects in which it increases production in general, operates to increase the production and supply of capital goods. 75 Wider still, as Ricardo pointed out, increases in the supply of capital goods can be achieved by anything that operates to increase the overall ability to produce. In Ricardo’s words, “Capital is that part of the wealth of a country which is employed with a view to future production, and may be increased in the same manner as wealth.” 76
This means that capital accumulation can also result from such things as the adoption of free international trade, since free trade enables the same quantity of labor and capital goods to produce more, including more capital goods. 77 Indeed, it can result from the adoption of freedom of immigration. Freedom of immigration results directly in an increase in the total ability to produce—by virtue simply of adding to the supply of labor. In so doing, it adds to the ability to produce capital goods no less than to the ability to produce consumers’ goods. In a free, capitalist economy, it also ultimately results in a permanently higher productivity of capital goods and correspondingly lower maintenance proportion in the economic system, thanks to a larger absolute number of gifted people being available and motivated to pursue careers in science, invention, and business, and thereby to accelerate the rate of technological progress. In addition, it makes it possible to carry the division of labor further throughout the economic system and thus to achieve the improvements in the production and supply of capital goods that result on this score as well. 78
As I indicated in Chapter 4, in the example of the isolated farmer who must use part of his crop as seed, the more efficient an economic system is in the utilization of its existing supply of capital goods—the higher the productivity of its existing capital goods—the greater is its ability to accumulate additional capital goods. 79 This is because a greater efficiency in the utilization of existing capital goods means that with any given supply of capital goods it can produce a larger total product, including a larger supply of capital goods for any given proportion of its productive efforts that it devotes to the production of capital goods. The effect of this, in turn, is that the proportion of its output which it needs to have in the form of capital goods in order to make possible the replacement of the capital goods consumed in production—its maintenance proportion—is correspondingly reduced. To whatever extent the economic system was already devoting to the production of capital goods a larger proportion of its efforts than was required for mere replacement, this reduction in the maintenance proportion further widens the margin by which it accumulates capital, and thus the rate at which it accumulates capital.
To illustrate this point, one need only imagine that in Figures 14–4 and 14–5, it became possible to produce with 1L of labor and each 1K of capital goods used in conjunction with 1L of labor not merely 2K of capital goods or, alternatively, 2C of consumers’ goods, but 3K of capital goods or 3C of consumers’ goods. Under these conditions, the maintenance proportion of the economic system would no longer be 50 percent, but only 33 1 ⁄ 3 percent. For a mere one-third of an output equivalent to 3K of capital goods would be sufficient to replace the 1K of capital goods productively consumed in producing that output. As a result, the economic system would become capable of accumulating capital even in the conditions of Figure 14–4—merely by continuing to devote half of its productive effort to the production of capital goods, for a 50 percent relative production of capital goods exceeds a maintenance proportion that has been reduced to 33 1 ⁄ 3 percent. In these circumstances, the supply of capital goods in Year 2 of Figure 14–4 would be 1.5K instead of merely 1K. In Year 3, continuing with a 50 percent relative production of capital goods and the same higher productivity of capital goods, the supply of capital goods would grow to 2.25K, and so on. (The figure of 2.25K results from multiplying .5 by 4.5K, which latter would be the output of 1.5K of capital goods and 1L of labor operating under the conditions of the higher productivity of capital goods and devoted 100
percent to the production of capital goods.) In Figure 14–5, of course, the effect of the improvement in efficiency and consequent reduction in the maintenance proportion to one-third would be a still more rapid rate of capital accumulation than had previously been possible with a 60 ⁄ 40 relative production of capital goods and consumers’ goods, and one that would be correspondingly larger than the now enormously rapid rate achievable even with a 50 percent relative production of capital goods.
Nothing can be more vital than to realize that the fundamental source of capital accumulation is economic freedom—not only in connection with international trade and immigration, but across the board.
First, of course, it cannot be stressed too strongly that the demand for labor and capital goods, and, consequently, the wage share of consumption, the relative production of capital goods, and the closely related concept of the degree of capital intensiveness in the economic system, all depend on saving and provision for the future, as opposed to current consumption. Saving and provision for the future, in turn, depend on the freedom to enjoy one’s property: they depend on respect for property rights and the consequent security of property. This is an indispensable basis of the motive to save and provide for the future. 80 If individuals could not count on benefitting from their saving and provision for the future, because the government or private bands could be expected to seize their wealth before they could enjoy it or its fruits, they would not save and provide for the future, or would do so to a far lesser extent. And to whatever extent they did continue to do so, they would do so in secret—in ways that could easily be concealed from the envious eyes of others, such as hoarding gems or precious metals, and thus in ways that would not provide material means for raising the productivity of labor.
However, as the preceding discussion of this section has shown, economic freedom and respect for property rights promote capital accumulation in ways beyond providing an environment in which people are motivated to save and invest, and thus to secure a sufficiently high relative production of capital goods and a sufficiently high degree of capital intensiveness. They do so no less by virtue of increasing the output per unit of capital goods in the economic system and thus reducing the maintenance proportion and allowing any greater actual relative production of capital goods to achieve capital accumulation.
Raising the productivity of capital goods is the result of economic freedom and respect for property rights not only in connection with international trade and immigration, which has already been shown, but also with respect
THEORY OF WAGES 635 to other, wider phenomena. For example, the searching out and implementation of technological advances by businessmen comes under this heading. This is because such activity depends on the motive of profit and loss and on the freedom of competition, both of which, in turn, presuppose the existence of private ownership of the means of production. 81
As we have seen, the incentive of profit and loss and the freedom of competition underlie all the benevolent effects of the operation of the uniformity-of-profit principle and, indeed, underlie and drive the entire price system. 82 As we should now be able to understand, these benevolent effects of the uniformity-of-profit principle are dynamic. That is, they consist not only in raising the productivity of labor in the present, but also in permanently raising the productivity of existing capital goods and correspondingly reducing the maintenance proportion, and thereby powerfully contributing to capital accumulation and the continuing rise in the productivity of labor that comes from capital accumulation. Thus, the operation of the uniformity-of-profit principle is a leading source of capital accumulation. For so long as businessmen are inspired continually to introduce productive innovations of all kinds as the means of earning a premium rate of profit in the face of economic competition, the productivity of capital goods will be elevated and remain elevated.
The enormous contribution of the price system to capital accumulation becomes obvious when one recalls the destructive effects of socialism. We have seen that when private ownership of the means of production and the price system are destroyed by socialism, economic chaos results and thus the productivity of the existing supply of capital goods becomes so low and the maintenance proportion so high that capital accumulation becomes impossible, except at the price of mass murder, and even then only with the aid of an outside, capitalist world to provide vital supplies. 83
Furthermore, we have also seen, in contrast, that the more fully are property rights respected, the more powerfully do the incentives of profit and loss and the freedom of competition operate. This is because, to that extent, profits are not taxed away, nor are subsidies of any kind given by the government, and all industries are legally open to everyone. Thus, the incentive of profit and loss and the freedom of competition can operate with corresponding lack of diminution. Full respect for private property rights implies the maximum incentive to cut costs and increase output per unit of input, and thus to achieve the maximum possible efficiency in the use of existing capital goods. 84 (The freedom of profits from taxation, of course, also operates powerfully to increase the economic degree of capitalism and thus the relative
production of capital goods and degree of capital intensiveness in the economic system, because most of the profits left in the hands of business firms are plowed back into the purchase of capital goods and the payment of wages.)
Of course, even more fundamental than economic freedom as the foundation of capital accumulation is the degree to which a society values human reason. As I explained in Chapter 1, the prevalence of a substantial degree of rationality is required for the existence of economic freedom and respect for property rights. This is because it is the foundation of the view of man and the human individual as supremely valuable and as competent to run his own life, and thus as possessing individual rights which the government must respect. The degree of rationality also further underlies the willingness to save and provide for the future in that only the exercise of reason can make the future appear real in the present, which is necessary if people are to provide for it. Also it is the influence of reason and the acceptance of causality and human free will that makes it possible for people to come to regard themselves as self-responsible causal agents able to provide for the future and with an obligation to do so. And, of course, it is the acceptance of reason and causality that underlie all scientific and technological progress. 85
Thus, the ultimate foundations of a rising productivity of labor and rising real wage rates are freedom and reason.
It should be obvious that this discussion fully confirms the thesis previously advanced in the critique of the exploitation theory in Chapter 11, that the parties crucially responsible for the rise in real wages are businessmen and capitalists. It is they who are constantly on the lookout for more efficient methods of production and who provide the capital funds that ensure a sufficient relative production of capital goods and degree of capital intensiveness, and that constitute the demand for labor. As far as it relates to wage earners, the effect of their activities is entirely to raise real wages: it is to raise the demand for labor relative to the demand for consumers’ goods and, far more importantly, continually to raise the productivity of labor through the accumulation of capital, the latter resulting from the combination of a greater relative production of capital goods and higher degree of capital intensiveness and the highest possible productivity of capital goods.
The present discussion has also fully confirmed the thesis of Chapter 9, that private ownership of the means of production and respect for property rights are to the self-interest of everyone, not just the owners of the means of production. In underlying the profit motive, competition, and saving and productive expenditure, and in making possible their fullest and most efficient functioning, private ownership of the means of production and respect for property rights make possible the rapid accumulation of capital and thus the continuous and rapid rise in the productivity of labor and real wage rates, and at the same time assure the highest possible share of consumption originating in wage payments.
Thus, what this discussion has confirmed is that private ownership of the means of production, respect for property rights, and economic freedom are in the interest of wage earners no less than businessmen and capitalists.
Unfortunately, it is one of the great ironies—and injustices—of history that while businessmen and capitalists and the institutions of capitalism have created the modern standard of living of the average wage earner, and are capable of raising it further without any fixed limit, the great majority of mankind has believed, largely under the influence of Marxism, that profits and interest are derived from the impoverishment of the wage earners, and that the institutions of capitalism represent legalized theft and plunder. The ultimate irony—and justice—of this state of affairs is that to the degree that these vicious and destructive beliefs are put into practice, those who hold them impoverish themselves. The greater their ignorance and envy, and the legalized looting and plunder that result, the more do they push themselves into poverty.
The Undermining of Capital Accumulation and
Real Wages by Government Intervention
It is essential to realize the extent to which government intervention undermines capital accumulation, and with it the demand for labor and the productivity of labor, and thus real wages and the general standard of living.
The progressive personal income and inheritance taxes, and the corporate income and capital gains taxes, are paid mainly with funds that would otherwise have been saved and productively expended. Thus, their effect is to reduce the demand for capital goods and the demand for labor by business enterprises, and thus to reduce the economic degree of capitalism and the degree of capital intensiveness in the economic system. Consumption expenditure of the government and of those to whom it gives money replaces expenditure for capital goods and labor by business enterprises, and thus consumption expenditure of the employees of business enterprises. In accordance with this change in demand, the existing ability of the economic system to produce is diverted from the production of capital goods to the production of consumers’ goods, and from the production of consumers’ goods that the employees of business would have bought to the production of the consumers’ goods that the government and its employees and dependents buy. Such taxes threaten
not only the economic system’s ability to progress, but even its ability to produce sufficient capital goods to replace those that are used up in production—i.e., to remain stationary.
These taxes also greatly undermine the incentives to introduce improvements in efficiency in the economic system, as do government subsidies, antitrust laws, prounion legislation, environmental legislation, and government regulation in general. In all these ways, government intervention operates to reduce output per unit of capital goods and thus to retard capital formation by this means too. The taxes reduce the rewards of economic success and thus discourage the efforts necessary to achieve it. At the same time, subsidies perpetuate inefficient methods of production by sustaining their practitioners. Thus, the taxes and the subsidies hold down the productivity of capital goods.
Furthermore, in depriving innovative small firms of the profits that would make possible their expansion, or more rapid expansion, most of these taxes also substantially reduce the force of competition in the economic system. They create a protective shelter around established firms that have already accumulated substantial capital and are now made more or less immune from the threat of new competition, since the potential competitors are prevented from accumulating capital, or from doing so as rapidly as they might have. 86 Essentially the same analysis applies to government regulation insofar as it is more difficult for small firms to comply with it, as when the regulations give an advantage to firms able to afford the employment of staffs of lawyers and accountants.
The antitrust laws stand in the way of business mergers that would achieve important economies and thereby render production more efficient. For example, the larger firm that results from a merger can often provide a sufficient volume of production to justify the purchase of machinery that the smaller firms which preceded it could not, or makes it possible to eliminate wasteful duplication in the use of existing equipment. In such ways, mergers make possible a more efficient use of capital. Preventing them prevents such more-efficient use of capital. In so doing, it retards capital formation.
Similarly, prounion legislation, in making it possible for the unions to prevent or delay the introduction of labor-saving machinery and more-efficient work practices, holds down the total output that otherwise could be produced in the economic system by the same quantity of labor working with the existing quantity of capital goods. In so doing, it holds down the size of the output that is available to meet whatever relative demand may exist for capital goods. Socalled environmental legislation likewise provides numerous examples of reducing
THEORY OF WAGES 637 output per unit of capital goods, such as depriving the capital and labor employed in the energy industry of its most productive uses by closing off vast territories to the very possibility of exploration and development, and imposing all manner of regulations on business in general that require the employment of additional capital and labor to accomplish a given result. All such regulations needlessly reduce output per unit both of labor and of existing capital goods, while correspondingly increasing costs per unit. 87 Indeed, in some cases business firms must invest once in order to produce their products, and the equivalent of a second time in order to be in compliance with the government regulations inspired by the pathological fears of the environmentalists.
Every government regulation, of whatever description, that needlessly raises costs, correspondingly reduces the output of the economic system and thus the efficiency with which existing capital goods are employed. This conclusion follows from the proposition established back in Chapter 6 that reductions in unit cost underlie increases in output in the economic system, by virtue of releasing labor and capital to produce more either of the good whose unit cost is reduced or of other goods. 88 The corollary of this proposition is that increases in unit cost operate to reduce output in the economic system. Both propositions also follow from the fact that with any given magnitude of aggregate productive expenditure, average unit cost in the economic system as a whole varies in inverse proportion to output.
Indeed, given any definite magnitude of aggregate productive expenditure, the only way that average unit cost in the economic system can increase is by virtue of aggregate production correspondingly decreasing, for average unit cost in the economic system as a whole is aggregate productive expenditure divided by aggregate output. By the laws of mathematics, with a numerator that is fixed, the only way that a fractional expression can increase is by virtue of a corresponding decrease in the denominator, which in this case is aggregate output. Thus, any government regulation that raises average unit costs in the economic system is accompanied by a corresponding reduction in aggregate output.
The consequence of any lesser overall ability to produce is, of course, a reduced ability to produce capital goods, as well as consumers’ goods. More precisely, the effect of all such regulations is to reduce the ratio of output to the capital goods consumed in producing that output, and therefore to make the maintenance proportion unnecessarily high. When placed together with the taxes described a few paragraphs back, the combined effect is a lower relative production of capital goods and a higher maintenance proportion, with a corresponding two-sided reduction in the portion of output available for
new capital formation. Indeed, that portion can be eliminated altogether, and stagnation or outright capital decumulation made to take the place of capital accumulation.
Government budget deficits and social security, like the taxes I have described, also operate to reduce saving and productive expenditure. To the extent the deficits are financed by borrowing from the public (as opposed to the printing of money), they represent a diversion of savings from use as capital to the financing of the government’s consumption. To the extent they are financed by the creation of money, they operate to create both additional nominal profits, on which businesses must pay taxes, and to raise the replacement cost of capital assets. Thus, they operate to make it more difficult or even impossible to replace capital assets. And in still other ways, inflation-financed deficits undermine capital formation. 89 Social security leads people to reduce their provision for the future, in the belief that their needs will be provided for by the government. Meanwhile the government consumes their social security contributions. Thus, in this way too, capital accumulation is undermined. 90
In the face of such an assault on the foundations of capital formation, it should hardly be surprising that the present-day United States has fallen from its previous position of unchallenged economic eminence. The United States is a country whose economic foundations have been sapped by wave after wave of socialistically motivated assaults on capital formation. In this century, there has been the Progressive Era and the Square Deal, then the New Deal, the Fair Deal, and the Great Society, all bent on fundamentally altering the nature of the American economic system and, unfortunately, succeeding in doing so. Until these policies, and the envy-and resentment-filled mentality on which they are based, are reversed, the United States will continue on its path of decline.
What is required to restore economic progress and rising real wages in the United States is nothing less than radical reductions in government spending, taxation, and government regulation of business. Specifically, what is necessary is to begin phasing out the progressive personal income and inheritance taxes, the corporate income tax, the capital gains tax, the social security system, and the whole of the welfare state, which makes the revenues raised by these destructive taxes appear necessary, and, at the same time, to move toward a gold standard and the end of the arbitrary creation of money. Such a program, coupled with an equally massive reduction in government regulation, would enormously increase not just the incentive and means to save, which would be important enough, but all of the incentives to produce and compete. People would work harder and produce more in the knowledge that more of what they earned was theirs to keep. More new companies would be started and be able to grow rapidly and challenge the established firms, if they could plow back most of their profits. All firms would improve in efficiency if they were free of restrictive regulations. The rate of innovation and technological progress would increase. Thus, along with a sharp rise in the relative production of capital goods, the productivity of capital goods would greatly increase and the maintenance proportion correspondingly decrease. This combination of a higher relative production of capital goods and reduced maintenance proportion would assure a sharply higher rate of capital accumulation. It would thus restore a rising productivity of labor and rising real wages. (And, of course, real wages would increase on the strength of a rise in the demand for labor made possible by the reduction in government spending, taxes, and deficits.) This is clearly the path to the longterm economic recovery of the United States (or any other country). The effect would be to lift the United States out of the stagnation of the last generation and restore it to rapid economic progress—to rapidly rising real wage rates and a rapidly rising general standard of living.
Regrettably, so powerful is the grip of ignorance and envy, that no amount of economic decline by itself seems likely to awaken the present generation of Americans to the fact that they, their twentiethcentury political heroes, and their present chosen leaders might in any way be responsible for the decline through the economic policies they support and sustain, and that what is required is the radical reversal of those policies. Following the completion of my economic analysis, the final chapter of this book will attempt to develop a concrete, long-range political-economic program and strategy for achieving the necessary changes.
Happily, a leading implication of the analysis of capital accumulation I have presented here is that it is never too late for such a program. For what I have shown is that while no amount of existing capital goods and prosperity, however great, is a guarantee of the maintenance of those capital goods and prosperity, so too it is possible even for the very poorest of countries to rise, or for a country to resume its rise no matter how great its fall from former prosperity. All that is necessary is that it become more efficient in the use of whatever capital goods it continues to possess, and devote a proportion of them and of its labor to the production of further capital goods that is greater than the maintenance proportion. It is highly unlikely that the economic decline the United States may experience in the coming decades will place it below the level of Japan in 1950. But even if that were the case, it would still be possible for the United States rapidly to reverse the damage and, before too long, to exceed its former peak and go on advancing from there. To do so,
it would simply have to turn once again to the philosophy of economic freedom on which it was built. That would ensure both the necessary efficiency in the use of whatever capital goods existed and a sufficient concentration on the production of further capital goods.
The Nonsacrificial Character of Capital
Accumulation Under Capitalism
It should be obvious that the analysis of this chapter implies that capital accumulation under capitalism takes place nonsacrificially, and was in the interest of the average wage earner even in the earliest years of the Industrial Revolution. (This, of course, is in sharpest contrast to conditions under socialism, where capital accumulation, if it can be achieved at all, must be achieved at the cost of human life. 91 )
Capital accumulation under capitalism was not inaugurated by any temporary fall in the standard of living of the average wage earner. It did not come about as the result of any sudden major rise in the demand for capital goods coming at the expense of a reduction in the demand for labor and thus at the expense of consumption expenditure on the part of wage earners. On the contrary, it was inaugurated by a rise in the economic degree of capitalism, combined with a rise in the efficiency with which existing capital goods were employed. The effect of the higher economic degree of capitalism was a rise in the demand for labor alongside the rise in the demand for capital goods. Thus, a higher degree of capital intensiveness in the economic system was achieved as part of a process which raised wage payments relative both to consumption and to total sales revenues in the economic system. In addition, the Industrial Revolution represented the greatest increase in the efficiency of production and in the use of existing capital goods in all of human history. This in turn meant the greatest decrease in the maintenance proportion in all of human history. To this extent, capital accumulation was not the result of any actual reduction in consumption, however temporary, on the part of anyone—even businessmen and capitalists. For, to this extent, capital accumulation was made possible out of an increase in production.
In limited circumstances, to be sure, there can be a fall in the demand for labor and rise in the demand for capital goods. Indeed, when Ricardo became aware of this possibility, he mistakenly concluded that his previous views concerning the beneficial effects of machinery were mistaken and “that the opinion entertained by the labouring class, that the employment of machinery is frequently detrimental to their interests, is not founded on prejudice and error, but is conformable to the correct principles of political economy.” 92 Marx, of course, also assumed that capital accumulation originating in a reduced demand for
THEORY OF WAGES 639 labor was necessarily against the interests of the wage earners. It can now be seen that the actual effect of such a change in demand, to whatever extent it occurs, is ultimately to reduce prices to a greater extent than wage rates and thus to raise real wage rates—that, in other words, Ricardo and those who follow him in this have committed the error, so clearly identified by Ricardo himself, of confusing “value” and “riches,” that is, of confusing a reduction in the monetary demand for labor with a decline in the real wealth obtained by wage earners. 93 This conclusion can be demonstrated both on the basis of the determination of prices by cost of production and on the basis of the determination of prices by supply and demand.
If the rate of profit remains the same, a reduced demand for labor reduces wage rates, costs of production, and prices all to the same degree. This follows from the fact that the price of every product can be expressed as a sum of wage payments made at the various stages of production, with each such wage payment multiplied by one plus the rate of profit raised to a power corresponding to the time which elapses between the making of the wage payment and the sale of the ultimate consumers’ good. 94 For example, the price of a loaf of bread can be expressed as the sum of the wages paid per loaf of bread to workers engaged in wheat growing, flour milling, and baking (and all the other stages of production that stand behind the baking of bread), with each such wage payment multiplied by one plus the rate of profit raised to a power corresponding to the time which elapses between the payment of the respective wages and the sale of the loaf of bread. Thus, if the rate of profit remains the same, while wage rates fall, it follows that prices must fall in proportion to the fall in wage rates. However, precisely the fact that the fall in demand for labor and in wage rates is the result of a rise in the demand for capital goods and thus in the relative production of capital goods and hence in the productivity of labor, means that unit costs, and therefore prices, must fall to a greater degree than wage rates. For the corollary of the rise in the productivity of labor is a corresponding reduction in the quantity of labor required to produce a unit of goods. Thus, unit costs of production and prices fall because of the operation both of the fall in demand for labor and the rise in the productivity of labor, while wage rates fall only because of the fall in demand for labor. The net upshot is that this case merely constitutes yet a further confirmation of the proposition that real wages are determined by the productivity of labor.
In terms of demand-and-supply analysis, the reduced demand for labor and enlarged demand for capital goods both reduces the demand for consumers’ goods (inasmuch as the wage earners have equivalently less to spend
for consumers’ goods) and, as I will show in Chapter 17, by enlarging the demand for capital goods relative to the demand for consumers’ goods, serves to lengthen the “average period of production.” 95 The result is that, once again, the prices of consumers’ goods fall in proportion to the fall in demand for labor and wage rates. At the same time, however, the higher productivity of labor, which results from the greater relative production of capital goods, increases the supply of consumers’ goods. Thus, prices fall more than wage rates because both prices and wage rates fall in proportion to the fall in the demand for labor, while prices also fall in proportion to the resulting increase in the supply of consumers’ goods.
A few further words are required to show why supply-and-demand analysis supports the fact that prices must fall in proportion to wage rates—apart from their further fall in proportion to the increase in the supply of consumers’ goods. Strictly speaking, a fall in the demand for labor brought about by a rise in the demand for capital goods must decrease the demand for consumers’ goods by a lesser percentage than it decreases the demand for labor. This is the case insofar as the demand for consumers’ goods is initially larger than the demand for labor. Thus, for example, if the demand for consumers’ goods is initially 500 units of money and the demand for labor is initially 400 units of money, an equal decrease in the demand for labor and consumers’ goods of 100 units of money reduces the demand for labor by 25 percent, and the demand for consumers’ goods by only 20 percent. Nevertheless, the prices of consumers’ goods still tend to fall by 25 percent.
What reconciles the unequal percentage changes in demand with the outcome based on the cost-of-production analysis is, as I have indicated, a lengthening of the average period of production, which necessarily results from the demand for capital goods rising at the expense of the demand for labor and thus, indirectly, at the expense of the demand for consumers’ goods. The nature of a lengthening of the average period of production, and its influence on prices in the face of the demand for consumers’ goods falling proportionately less than the demand for labor can be understood in terms of the example of twelve-year-old scotch replacing eight-yearold scotch in the market. A 20 percent reduction in expenditure for scotch would easily be capable of being accompanied by a reduction in the price of scotch of 25 percent, indeed, of far more than 25 percent, if twelve-year-old scotch now sold for 20 percent less than eight-year-old scotch used to be sold for. Just so, a lengthening of the average period of production means that in general, goods with a longer average time span in their production come to take the place in the market of goods with a shorter average time span in their production. In this way, a lesser percentage fall in demand for consumers’ goods is capable of being accompanied by price reductions of a greater percentage than itself.
To place this analysis in the actual context of the rise in the economic degree of capitalism, what it means is that the demand for labor may recede somewhat from the peak to which a higher economic degree of capitalism has raised it. But then, of course, on the basis of the more rapid rate of capital accumulation and increase in the productivity of labor that is brought about by the greater relative production of capital goods and higher degree of capital intensiveness, real wages quickly recover from any temporary setback and go on further and further surpassing any previous peak. And, of course, in the process, the demand for labor, and with it average money wage rates, would also almost certainly be rising, as the result of the increase in the quantity of money that would almost inevitably accompany increasing production under a commodity money standard.
To understand just how rapidly any such temporary decline in real wages could be made good, it is only necessary to realize that over a 10 year period, a 2 percent addition to the annual rate of economic progress raises real wages by approximately 22 percent and that a 3 percent addition raises them by approximately 34 percent. (At the approximately 6 percent annual rate of economic progress that has taken place in Japan and other East Asian countries over the last several decades, the rise in real wages over the course of a decade is 79 percent. Over the course of three decades, it is over 579 percent.)
Indeed, it is virtually impossible that the inauguration or intensification of capital accumulation and economic progress in a capitalist country could ever result in a reduction in average real wages that would not be made good very quickly. This is because the basic effect of a higher economic degree of capitalism is to raise the demand for labor, as well as the demand for capital goods, relative to consumption and total sales revenues in the economic system. At the same time, the higher economic degree of capitalism is itself part of an even wider process which has as another major effect a rise in the productivity of capital goods and corresponding fall in the maintenance proportion.
The conclusion concerning the very limited extent and temporary nature of any fall in real wages as the result of capital accumulation and economic progress appears all the stronger, when one takes into account the fact that any rise in demand for capital goods at the expense of the demand for labor that might take place, despite the fundamental background of a rise in the demand for both, would not take place suddenly and dramatically, all at once, but only gradually, over a period
of years. Thus each succeeding year over which the process occurred would benefit from the operation of forces already in place that were working to bring about a rise in real wages. Indeed, in the case of the Industrial Revolution in England, the process of capital intensification and the corresponding rise in the ratio of the value of accumulated capital to wage payments, appears to have taken place and been largely completed in the century and a half or more prior to 1775—the year usually taken as marking the beginning of the Industrial Revolution. This was manifested in the fall in the rate of interest on longterm government bonds in England to 3 percent as early as 1757. 96 Thus, under no circumstances could the Industrial Revolution have been responsible for any fall, however temporary, in the average worker’s real wages in England.
What did hold down the standard of living of the average English worker at the time was twenty-five years of almost uninterrupted war with France between 1790 and 1815. The taxes and loans to pay for the war deprived business firms of the ability both to pay wages and to buy capital goods and thereby worked against both the socalled wage share of national income and the productivity of labor. Wartime inflation and the subsequently resulting postwar deflation and depression further substantially contributed to the undermining of capital accumulation and the rise in real wages. 97
Only in a socialist country, such as Soviet Russia, with its gross inefficiencies and impossibly high maintenance proportion, can a process of capital accumulation or, more accurately, alleged capital accumulation, not be accompanied by rising real wage rates starting at virtually the same time. 98
On the basis of the foregoing, it is necessary to disagree completely with such alleged defenses of capitalism as the following statement of de Jouvenel’s: “[O]ne may ask whether the ‘hard times’ so bitterly evoked, and for which capitalism is arraigned, were a specific feature of capitalist development or are an aspect of a rapid industrial development (without outside help) to be found as well under another social system. Does the Magnitogorsk of the 1930s compare so favorably with the Manchester of the 1830s?” 99 In this passage, de Jouvenel displays the grossest ignorance of the actual nature of capitalism’s economic development, equates nineteenth-century capitalist Great Britain with twentiethcentury Communist Russia, and implies that socialism is capable on its own of achieving capital accumulation. It is difficult to imagine compressing a larger number of more profound errors into such a small number of words. 100
While capitalism and the Industrial Revolution operated from the very first to raise the standard of living of the average worker, even they could not succeed in
THEORY OF WAGES 641 raising the standard of living of workers who refused to abandon occupations made obsolete by the process of improvement, as was the case with the English handloom weavers, for example. As the progressive application of machinery driven by manmade power drove the price of cloth ever lower and enabled the average wage earner in Britain, and in all the countries to which Britain exported cloth, to enjoy rising real wages insofar as they could now afford to buy more and better cloth and clothing, the handloom weavers, in blind obstinacy, carried on in the weaving of cloth by hand. As a result, for them, the falling price of cloth meant falling earnings.
Such occurrences were not the fault of capitalism and the Industrial Revolution, but of the refusal of workers to change occupations (and, of course, of any legal factors that may have prevented them from changing their occupations.) If such workers had changed their occupations, and thus reestablished their capacity to earn an income, the effect would have been that they, along with everyone else, would have benefitted even from the very improvements that initially had cost them their jobs, as did American horsebreeders and blacksmiths as the result of the coming of the automobile. The case of the handloom weavers, and all other such workers, is the same in principle as that of the potato growers, which I presented in connection with the exposition of Say’s Law in the last chapter. 101 In the absence of government intervention, there is absolutely no need for it to have any other outcome than a beneficial one for all concerned. Capitalism should not be blamed either for the existence of government intervention that prevents workers from making rational choices concerning their occupation, or, in the absence of government intervention, for the refusal of workers to make rational choices concerning their occupation.
Appendix to Section 3: An Analytical Refinement
Concerning the Rate of Economic Progress
The extremely rapid rate of reciprocating capital accumulation and increases in production present in Figure 14–5 is the result specifically of the assumption that it is possible to have a progressing economy in which all capital goods are productively consumed in a single year. In reality, of course, this is not possible. This is because there are numerous capital goods, such as virtually all major factories and office buildings, whose construction time is significantly longer than a year. Construction times for railroads, bridges, tunnels, highways, dams, and so forth are typically even longer than those for factories and office buildings. Also, given the great expense of producing these various types of capital goods, and most types of machinery as well, it is essential that they be used for periods substantially longer than a year.
Thus, in reality, the accumulated stock of capital goods in existence at the beginning of any given year substantially exceeds the portion of that stock which is productively consumed within the year.
These facts can be allowed for in our analysis by introducing the assumption that while 1K of the opening stock of capital goods in any given year is productively consumed in producing an output lying between the extremes of 2K, 0C and 0K, 2C, there must be an accumulated stock of capital goods in existence at the beginning of the year that is, for example, five times larger, namely, 5K. Under this assumption, the 20 percent increase in the production of capital goods in Year 1 of Figure 14–5 would not constitute a 20 percent increase in the accumulated stock of capital goods available at the start of Year 2, but only a 4 percent increase, namely, an increase in the ratio of 5.2K: 5K.
Furthermore, if the addition to the supply of capital goods were all in the form of work in progress, such as construction in progress, the larger supply of capital goods in existence at the beginning of Year 2 would not serve to make the output of Year 2 larger than that of Year 1. The increase in output would have to await the completion of projects extending beyond a year.
To keep matters as simple as possible with this more complicated context, let us momentarily assume that no increase in production can take place until 5 years have elapsed, by which time the 20 percent larger relative production of capital goods in each year will have resulted in increasing the accumulated stock of capital goods from 5K to 6K. Under this assumption, the 20 percent increase in the overall ability to produce that is made possible by a 20 percent increase in the supply of capital goods will not take place until Year 6, rather than Year 2. And then that 20 percent increase in the ability to produce, assuming that it is devoted 60 percent to the production of capital goods, will result in an increase in the accumulated stock of capital goods to 6.24K at the start of Year 7. (This is because 1.44K of capital goods are now produced, while 1.2K of the 6K are productively consumed.)
Assuming once more that the additional supply of capital goods is all in the form of work in progress and that 5 years of such capital accumulation must go by before production can increase in proportion to the larger stock of capital goods, it will not be until Year 11 that the overall ability to produce increases by a second 20 percent.
In other words, while the fundamental principle is still present that increases in the supply of capital goods increase the ability to produce capital goods and thereby constitute the basis for continuing capital accumulation, the operation of that principle is slowed down by the need to build up an additional capital stock over a period of years. The regularly recurring 20 percent increases first in the stock of capital goods, then in production, and then again in the stock of capital goods because of the preceding increase in the ability to produce, now take place over 5-year intervals instead of from year to year. The effect of this, of course, is to reduce the annualized rate of economic progress from 20 percent to 4 percent.
To carry the analysis yet another step closer to the details of reality, we must recognize that the greater part of the increases in the supply of capital goods that occur in less than 5-year intervals serve to increase the overall ability to produce also in less than 5-year intervals. Thus, perhaps in Year 3, for example, when the supply of capital goods has reached 5.4K, the overall ability to produce might now be increased by a few percent in comparison with that of Year 1. And it would almost certainly further increase by an additional few percent in Years 4 and 5. (To the extent such increases in production take place prior to Year 6 rather than all being concentrated in Year 6, the increase in production in Year 6 would, of course, be correspondingly less than 20 percent.) The average annual rate of increase in the supply of accumulated capital and in production would still be on the order of 4 percent rather than 20 percent, though somewhat more rapid than in the case in which the increase in production occurs only in 5-year intervals, because now there is compounding over shorter intervals of time.
This establishes the basic pattern of the relationship between my simplifying assumptions and the complex conditions of actual reality.
4. The Productivity Theory of Wages and the
Interpretation of Modern Economic History
Now that the productivity of labor and thus real wages have been shown to be determined by capital accumulation, which in turn has been shown to rest on a foundation of respect for property rights and individual freedom— and ultimately, at the deepest level, on the influence of reason in a country’s culture—it is possible to see that the productivity theory of wages provides a full alternative to the Marxian interpretation of modern economic history. According to the Marxian interpretation of economic history, which is generally taken for granted, the standard of living of the average worker in the nineteenth century was low because the capitalists had unchecked freedom to exploit him.
The Cause of Low Wages and Poor Working
Conditions in the Past
The productivity theory of wages explains the low real wages and low standard of living of the nineteenth cen—
tury not on the basis of any “exploitation of labor” by the capitalists, but on the basis of a low productivity of labor, inherited from centuries of feudalism, which low productivity of labor the activities of the businessmen and capitalists immediately began to raise.
To understand how low the productivity of labor was in the past, all one has to do is to look around at the goods commonly available today in the United States and other Western countries, and consider just how recent was their introduction. As we go back in time, the automobiles, airplanes, air-conditioners, computers, telephones, television sets, tape recorders, radios, phonographs, motion pictures, refrigerators, freezers, electric lights, antibiotics, antiseptics, and anesthesias all disappear. So do motor trucks, tractors and harvesters, electric power plants, steamships, and railroads. So do electric motors, steam engines, and power tools and power-driven machinery of every description. Not only do so many of the goods we take for granted simply disappear, but whatever goods remain must be produced laboriously, by hand—by human muscle power aided only by animals and, at best, by the power of wind and falling water.
In the absence of all of these goods and of all the modern methods of production, it should certainly not come as a surprise that the average standard of living was miserably low. By modern standards, the standard of living even of the world’s richest people of two hundred years ago, or even just one hundred years ago, was extremely low. It was simply not possible for people to have goods that did not exist. And of the goods that did exist, it was simply not possible for most people to have very many of them, when, for example, each piece of wood used to build a house had to be sawed by hand and everything else that entered into the construction or furnishing of a house had to be made by hand; when every piece of clothing that a person wore, and every piece of food that he ate, had to be produced in the same way, that is, with the aid of virtually no power-driven machinery of any kind.
The low productivity of labor of earlier generations provides a full and sufficient explanation of the low standard of living of those generations. It also explains the long hours of work, child labor, and the bad working conditions. Long hours and child labor existed because the low productivity of labor—the low output per hour of labor—meant that a minimal standard of living could be achieved only by the performance of a correspondingly large number of hours of labor, to compensate. People worked long hours because the low productivity of labor rendered the output of a shorter working day, of the length we are accustomed to think of as desirable, inadequate to provide the minimum supply of goods people considered it necessary to have. Children worked
THEORY OF WAGES 643 alongside of adults because the low productivity of labor rendered even the long hours of the adults insufficient to produce the minimum supply of goods people considered it necessary to have.
Working conditions were very poor in large part because the low productivity of labor meant that the means of making them better simply did not exist. For example, it was absolutely impossible to give workers the benefit of electric light or air conditioning or modern plumbing on the job, when such things had not even been invented. For the rest, working conditions were very poor because the low productivity of labor made it impossible to improve them except at the expense of driving the workers’ low standard of living still lower.
In this connection, it must be understood that there are two types of improvements in working conditions among those that are possible within any given existing state of technology: namely, those improvements which pay for themselves, through making production more efficient, and those which do not pay for themselves. Improvements in working conditions of the kind which pay for themselves, through bringing about sufficient increases in efficiency, are adopted by employers not only voluntarily, but with exactly the same eagerness as leads them to adopt any other improvement in efficiency, such as better machinery.
Improvements in working conditions of the kind which do not pay for themselves represent an increase in the cost of employing workers. If such improvements are not to be equivalent in their effects to a forced increase in nominal wages—that is, to cause unemployment, higher prices, and a burden of supporting the unemployed— they must be accompanied by an equivalent reduction in that part of the cost of employing labor which the worker receives directly for himself, i.e., his take-home wages. In either case, such improvements in working conditions are at the expense of the average worker’s standard of living off the job. In the latter case, his take-home wages are reduced. In the former case, if he is lucky enough to keep his job, the prices he must pay are increased, and he must help to support those who become unemployed as the result of the rise in employment costs. If his standard of living is already very low, then it follows that improvements in working conditions that reduce it still further are likely to be against the actual self-interests of the workers and to be rejected by them in the labor market. What this means is that when asked to choose between jobs offering better on-the-job conditions but correspondingly lower take-home pay, and jobs offering poorer on-the-job conditions but correspondingly higher take-home pay, the workers will choose the jobs offering the poorer on-the-job conditions and higher take-home pay. To this extent, working conditions are poor because
in the prevailing conditions of a low productivity of labor, the wage earners judge that they cannot afford to have them any better.
How Real Wages Rose and the Standard of Living Improved
The productivity theory of wages explains how all aspects of the workers’ conditions improved. The starting point was a growing degree of rationality and a growing respect for property rights in society. These resulted in the achievement of a sufficiently high relative production of capital goods, the discovery and adoption of technological advances, and a general improvement in the efficiency of use of capital goods, all of which brought about capital accumulation and a rising productivity of labor. At the same time, of course, the sufficiently higher relative production of capital goods was accompanied by a rise in the demand for labor relative to the demand for consumers’ goods—both changes being the reflection of a higher economic degree of capitalism. This, too, contributed to a rise in real wages, even if on an essentially nonrepeatable basis.
The direct effect of a rising productivity of labor was a rise in the average worker’s real wages. As people’s real wages rose, a further effect was that they could afford to reduce their hours of work. For as the real earnings from jobs requiring the accustomed number of hours rose, so did the real earnings from jobs requiring fewer than the accustomed number of hours. For example, in the earliest years of the Industrial Revolution, the productivity of labor was still so low that many people needed to work eighty hours a week in order to earn enough to support a family. A generation or two later, a doubled productivity of labor not only doubled the real earnings that could be obtained from a job of eighty hours a week, but, at the same time, made it possible to obtain substantially larger real earnings from jobs requiring seventy or sixty hours a week than it had originally been possible to obtain from jobs requiring eighty hours a week. Although jobs requiring eighty hours a week still offered more than jobs requiring seventy or sixty hours a week, the jobs requiring seventy or sixty hours a week now offered enough for most people to be able to afford to take them.
As more and more workers could afford the relatively lower earnings from jobs with shorter hours, and came to desire such jobs, the competition of the labor market operated to reduce the number of hours in the average work week. Whenever employers had to compete for labor, the offer of shorter hours was a powerful means of recruiting the labor they sought. And as the shorter week became more and more widespread, it became necessary for those employers who had not yet offered it, to do so, in order retain the labor they already had.
In addition, another powerful competitive factor favored the adoption of a shorter work week. Namely, the desire of workers for a shorter week operated to make it more economical to employers to offer a shorter week. This was because to the extent that workers wanted a shorter week, they became willing to accept jobs offering shorter hours at wage rates that were lower more than in proportion to the shorter hours. For example, to the extent that they strongly desired a sixty-hour week, say, in place of an eighty-hour week, they became willing to accept jobs requiring a sixty-hour week at wages less than three-fourths of the wages of jobs requiring an eighty-hour week. This meant that an employer who offered the shorter week would have correspondingly lower unit costs of production than employers who offered the longer week. This represented a cost reduction over and above any reduction that could be achieved by virtue of the workers’ being able to produce more per hour with a shorter week, which in itself was no doubt significant.
There should be nothing surprising or disturbing in any of this. The statement that the desire of workers for shorter hours leads to a discount in the wage rates for shorter hours is only another way of saying that the labor market tends to impose premium wage rates for jobs requiring hours that the market regards as excessive. Just as today premium rates for overtime imposed by the government discourage the use of overtime, so the premium rates that the market comes to generate for jobs with relatively long hours discourage the offer of such jobs. And the more strongly the workers prefer to work shorter hours, the greater are the relative discounts in the wage rates that can be offered in connection with jobs requiring shorter hours, and the greater are the relative premiums in the wage rates that must be offered in connection with jobs requiring longer hours. Thus, to the extent that the workers come to be able to afford and to desire shorter hours, the greater is the encouragement to the offer of shorter hours.
This, not legislation, is the actual process by which the hours of work have been reduced over the span of the last two hundred years—first, from eighty hours a week to seventy or sixty hours a week, then to fifty hours a week, and then to forty hours a week. Future generations of capitalism, with further doublings and redoublings of the productivity of labor, could well see real wages raised to such a point that people would be able to earn vastly more in thirty, twenty, or even ten hours a week than they now can earn in forty hours a week, with the result that the average person might someday have a real income substantially higher than that of a present-day physician, say, while working the hours of a present-day college professor.
The rise in the productivity of labor was also responsible for the progressive reduction in child labor. For as people’s real wages rose, another effect was that they could afford to keep their children home longer. Thus, child labor diminished—not as the result of legislation, but as the result of rising real wages brought about by a rising productivity of labor.
Although the connection just made is actually very simple, it cannot receive enough stress or elaboration. With the exception of orphan children, those who decided whether or not children would work, and, if so, to what extent, were the children’s parents. As soon as parents began to decide that they no longer needed as much help from their children, because their own real wages were now higher, they began to keep their children home longer, and thus to reduce the amount of child labor.
Thus, as the productivity of labor and the real wages of the parents rose, the age at which children went to work steadily increased. In the preindustrial seventeenth century, humanitarians contemplated ways in which orphan children of the age of three might be taught some simple skill, so that they might be enabled to contribute to their own support and thereby survive, in the face of the very meager charitable contributions that were all that the extremely poor society of the time could provide. In the earliest years of the Industrial Revolution, there were children who went to work at the age five or six. In the early nineteenth century, the starting age rose to seven or eight; later in the century, to nine or ten. By the beginning of the twentieth century, it was more often eleven or twelve. Today, it is typically not until the completion of a high-school or college education, and in a significant number of cases, a postgraduate education.
In addition, the rise in the productivity of labor was responsible for the improvement in working conditions that has taken place over the last two hundred years. As already indicated, one aspect of the rising productivity of labor was the very coming into being of goods that could constitute an improvement in working conditions in the first place, such as electric light and air conditioning. Another aspect was that as the productivity of labor rose in the production of goods capable of improving working conditions, and reduced their cost, the instances in which improvements in working conditions paid for themselves through greater efficiency increased. This was because any given improvement in efficiency was now weighed against a reduced cost of achieving it. A further aspect of the rise in the productivity of labor was that the higher real wages it achieved enabled workers more and more to afford to take jobs offering relatively better working conditions at the cost of relatively lower take-home pay. This was because jobs with relatively
THEORY OF WAGES 645 lower take-home pay now offered far more than had jobs geared to the utmost in take-home pay in the past.
Thus, working conditions improved by virtue of the same process of competition in the labor market as reduced the hours of work. As workers came to be increasingly able to afford better conditions at the price of lower take-home pay, employers who offered the combination of better conditions together with take-home pay lower by enough to offset their cost, gained an increasingly powerful competitive advantage in recruiting workers. For as real wages rose because of the rising productivity of labor, the marginal utility that wage earners attached to the specific amount of real income required to achieve a given improvement in working conditions progressively fell. Once it fell below their rising valuation of the better working conditions, the effect was a growing relative discount in the wages of jobs with better working conditions, and a growing relative premium in the wages of jobs with poorer working conditions, which premiums and discounts more and more exceeded the cost of providing the improvements. Thus, the offer of better conditions was made more and more economical to employers. In the present-day United States, for example, the premium in take-home wages that would have to be paid to induce most workers to work in a factory without modern plumbing so far exceeds the cost of having such plumbing as to make its absence almost unthinkable. Or, to say the same thing in different words, the offer of an amenity such as modern plumbing makes possible to employers a saving in take-home wages that far outweighs its cost. The same principles, of course, apply to the presence or absence of such things as airconditioning, cafeterias, recreational facilities, child-care centers, and so on, and to job safety, which is an important aspect of working conditions.
It needs to be pointed out that government policies promoting inflation and credit expansion, and thus the boom-bust cycle, especially when compounded by policies that interfere with the fall in money wage rates in the depression phase, can impede the market’s ability to shorten hours and improve working conditions. To the extent that a situation is created in which money wage rates need to fall to reestablish full employment, and have not yet done so, or are prevented from doing so, reductions in labor cost may instead be achieved by a lengthening of hours in the face of the same weekly wages and at the expense of working conditions. In a free labor market, the workers would choose a fall in money wage rates as the means of reducing labor costs, and, as I have shown, would end up with no reduction in their real wages, because of the resulting fall in prices. 102 But to the extent that that is made impossible, they become willing to accept the equivalent of substantially lower
real wages in the form of longer hours and poorer conditions rather than become unemployed and earn no wages. This constitutes a further argument against inflation and credit expansion and government interference with wage rates.
It is appropriate to consider here the fable of the company towns. Though I have not been able to find it in the writings of Marx himself, the doctrine of company towns claims that, not content with the payment of outrageously low wages, the capitalist exploiters also frequently built company towns for the purpose of charging the workers outrageously high prices. It is difficult to understand why the capitalists would go to the trouble of investing substantial sums in the construction of whole towns in order to squeeze extra profits from the workers if they have arbitrary power over wage rates, as the Marxists believe. Because if they really did have such power over wage rates, it would be far simpler for the capitalists just to cut wages by an amount equal to the profit they allegedly make by virtue of owning the company town. This would give them the same amount of profit or “surplus-value” and a substantially higher rate of profit, because they would avoid having to tie up the substantial amount of capital needed to build and operate a town.
Of course, the capitalists do not have arbitrary power over wage rates, and to induce workers to work for them they must offer the workers a combination of wage rates, working conditions, and—as far as competition with capitalists in other areas goes—living conditions (including access to housing and retail stores) that is superior to any other such combination that the workers believe is available to them. If they do not, they will lose their workers. The obvious reason that the capitalists sometimes built company towns was that doing so enabled them to offer a combination of these elements that was of greater value to the workers than if the same amount of capital had been invested in the payment of wages exclusively. In the case of companies operating in relatively isolated areas, which offer few amenities and little of value to spend money on, the payment of the maximum possible wage rates is of less value to the workers than the offer of a combination of lower wage rates together with such amenities as housing and stores. This is why company towns were built. This is why they are still occasionally built today. For example, American companies operating in places like Saudi Arabia or the North Slope of Alaska provide the equivalent of company towns. Such towns represent a major positive value to the workers and are essential for attracting sufficient workers.
The fact that prices in the stores of a company town may often be higher than prices in better-located, more-populous areas is indicative not of unusual profits being made in such stores, but of the high costs of supplying such remote and isolated locations. If high profits were the explanation, there would soon be other suppliers in the vicinity. The fact that occasionally a worker might become excessively indebted to the stores in a company town is of no more significance than the fact that people can and do become excessively indebted without company towns. The complaints against company towns deserve no more credence than any other aspect of the exploitation theory.
5. A Rise in the Productivity of Labor as the Only Possible Cause of a Sustained, Significant Rise in Real Wages
It needs to be understood not only that the rise in the productivity of labor has been the cause of the rise in real wages and the average wage earner’s standard of living over the last two hundred years, but also that the rise in the productivity of labor is the only possible such cause. For let us consider the alternatives.
Any rise in money wage rates, by itself, is inherently incapable of raising real wage rates (with one relatively minor exception to be explained shortly). This becomes clear when we examine the possible sources of a rise in money wage rates.
The Futility of Raising Money Wage Rates by
Means of an Increase in the Quantity of Money or
Decrease in the Supply of Labor
A rise in money wage rates can be achieved either by an increase in the demand for labor or by a decrease in the supply of labor. The most obvious source of a rise in the demand for labor is an increase in the quantity of money. But, as we have already seen, while increases in the quantity of money operate to raise the demand for labor and thus money wage rates, they also operate at the same time to raise the demand for consumers’ goods and thus the prices of consumers’ goods, and to the same extent. Thus, the rise in money wage rates brought about by a larger quantity of money does not constitute a rise in real wages. Indeed, when increases in the quantity of money exceed the relatively modest rate of increase in the supply of precious metals, they constitute inflation and begin to produce all of the problems associated with inflation. Among these problems is a slowing down of capital accumulation or outright capital decumulation, as will be shown in Chapter 19 of this book. This, of course, holds down the rise in the productivity of labor and real wages, or actually causes them to decline. 103
A rise in money wage rates brought about by a reduc—
THE PRODUCTIVITY tion in the supply of labor also does not represent any rise in real wages, but the contrary. We have already seen that this is the case when the supply reduction represents nothing more than forced unemployment for the purpose of achieving or maintaining a higher level of money wage rates. For then, there is the problem of fewer workers employed producing fewer consumers’ goods, which must be sold at correspondingly higher prices, and the further problem of having to support the unemployed. By the same token, a longterm reduction in the size of the population, and thus in the number of people able and willing to work, would raise money wage rates, but it would also reduce the extent of the division of labor, and thus operate to reduce the productivity of labor and therefore to raise prices even more than wage rates. 104
The demand for labor could rise by virtue of a decrease in the desire of people to hold money, which would manifest itself in a rise in the socalled velocity of circulation of money—that is, in a more rapid rate of spending of any given quantity of money. However, as I have shown, such a phenomenon, when significant, is itself the result of rapid increases in the quantity of money. Moreover, like any increase in the quantity of money, it tends to raise prices at least to the same extent as it tends to raise wages. 105
The Futility of a Rise in the Demand for Labor
Coming at the Expense of the Demand for Capital Goods
It is conceivable that the demand for labor could rise without either an increase in the quantity of money or a decrease in the desire to own money. It could rise by virtue of a drop in the demand for capital goods. While this would raise nominal wage rates, it would reduce real wage rates, for it would raise prices by more than wages. This case is simply the converse of the case of a fall in the demand for labor and rise in the demand for capital goods, which I have already considered. 106
Thus, in this case, the rise in demand for labor would raise wage rates, unit costs, and prices to the same extent, and the accompanying reduction in the relative production of capital goods and productivity of labor would raise unit costs and prices beyond the rise in wage rates. In terms of supply-and-demand analysis, the rise in demand for labor would result in a virtually equivalent rise in the magnitude of demand for consumers’ goods, as the wage earners consumed their additional incomes. This, together with the shortening in the average period of production that is entailed in the rise in the demand for consumers’ goods relative to the demand for capital goods, would raise the prices of consumers’ goods in proportion to the rise in wage rates. The reduction in the productivity of labor and thus in the supply of consumers’
THEORY OF WAGES 647 goods would raise prices beyond the rise in wage rates.
Indeed, because of the accompanying reduction in the ongoing rate of capital accumulation, and thus the compounding effect on the productivity of labor, the rise in prices relative to wages, and thus the fall in real wages, would become greater and greater with the passage of time.
Of course, it is not necessary that the supply of consumers’ goods fall in comparison with what it was in the past, as the result of the decline in the demand for capital goods. The fall could take the form of the increase in the supply of consumers’ goods being less than it otherwise would have been. This as a minimum must be the effect of a rise in the demand for labor coming at the expense of the demand for capital goods. In either event, in every year in which the relative demand for capital goods remained lower in order to make possible a higher relative demand for labor and consumers’ goods, the reduction in the actual or potential supply of consumers’ goods would become greater. The result of this would be that the rise in prices relative to wages, and the consequent reduction in real wages, would become greater, at least in comparison with what they otherwise would have been.
The present discussion should not be taken to imply that the demand for labor should never rise at the expense of the demand for capital goods or that it is always desirable for the demand for capital goods to rise at the expense of the demand for labor. In a free market, the demand for labor could rise at the expense of the demand for capital goods if the consumers decided they preferred a larger quantity of goods whose production entailed a relatively greater amount of wage payments and smaller expenditures for capital goods at the expense of goods of the opposite description. Such a case would not represent a fall in real wages, but a rise in comparison with the real wages that would exist if the change in consumer demand were not met and thus output was wasted in the form of goods consumers wanted less. A fall in real wages is entailed only insofar as the demand for labor is increased at the expense of the demand for capital goods as the result of government or labor-union coercion.
Moreover, it is important to realize that when a rise in the demand for capital goods at the expense of the demand for labor can serve to raise the productivity of labor (which, of course, is the typical case), there is always the question of by how much and starting at what point in the future. Here both the law of diminishing returns and the height of the rate of profit and interest play a decisive role in limiting the degree of capital intensiveness in the economic system and thus in limiting the demand for capital goods relative to the demand for labor. 107 The essential point of this discussion, however,
648 CAPITALISM is that forced increases in the demand for labor coming at the expense of the demand for capital goods reduce real wages.
The Futility of Raising the Demand for Labor by Means of Taxation
The demand for labor, and thus nominal wage rates, might be increased in still another way. The government could levy taxes that individuals paid with funds they otherwise would have used to purchase consumers’ goods. The government could then expend these taxes in the expansion of its own payroll, with the effect of equivalently increasing the economy-wide, aggregate demand for labor. While those who had to pay the taxes would consume less by the amount of the taxes, the recipients of the government’s additional wage payments would consume more by the amount of the taxes. Thus the total demand for consumers’ goods in the economic system would remain the same, with the government’s employees enabled to consume in the place of the taxpayers. Only the aggregate demand for labor would change: it would increase.
If the government’s additional demand for labor came at a time of full employment, the effect would be an increase in money wage rates on a pretax basis. It if came at a time of unemployment, the effect could be an increase in overall employment in the economic system.
Essentially this case led Ricardo to call into question his previous convictions about the economic ill-effects of war and government spending. In the same chapter in which he commits his previously discussed error—of arguing that a rise in the demand for capital goods that takes place at the expense of the demand for labor is against the interest of the average wage earner—he also argues that the rise in the demand for labor in the present case is to the interest of wage earners. He writes:
Independently of the consideration of the discovery and use of machinery, to which our attention has been just directed, the labouring class have no small interest in the manner in which the net income of the country is expended, although it should, in all cases, be expended for the grati— fication and enjoyments of those who are fairly entitled to it.
If a landlord, or a capitalist, expends his revenue in the manner of an ancient baron, in the support of a great number of retainers, or menial servants, he will give employment to much more labour than if he expended it on fine clothes or costly furniture, on carriages, on horses, or in the purchase of any other luxuries.
In both cases the net revenue would be the same, and so would be the gross revenue, but the former would be realized in different commodities. If my revenue were
10,000l., the same quantity nearly of productive labour would be employed whether I realized it in fine clothes and costly furniture, etc., etc., or in a quantity of food and clothing of the same value. If, however, I realised my revenue in the first set of commodities, no more labour would be consequently employed: I should enjoy my furniture and my clothes, and there would be an end of them;
but if I realised my revenue in food and clothing and my desire was to employ menial servants, all those whom I could so employ with my revenue of 10,000l., or with the food and clothing which it would purchase, would be to be added to the former demand for labourers, and this addition would take place only because I chose this mode of expending my revenue. As the labourers, then, are interested in the demand for labour, they must naturally desire that as much of the revenue as possible should be diverted from expenditure on luxuries to be expended in the support of menial servants.
And then, very significantly, Ricardo adds:
In the same manner, a country engaged in war, and which is under the necessity of maintaining large fleets and armies, employs a great many more men than will be employed when the war terminates, and the annual expenses which it brings with it cease. 108
Here again, in assuming, irrespective of context, that the wage earners are always “interested in the demand for labour,” Ricardo commits the error he himself warned against, namely, confusing “value” and “riches,” or money income and real wealth. 109 Even in the very strongest case for Ricardo, namely, that capitalists and landlords voluntarily decide to spend less in purchasing consumers’ goods and equivalently more in employing consumers’ labor—i.e., labor employed not for the purpose of making subsequent sales (which is necessarily the kind of labor demanded when “a landlord, or a capitalist, expends his revenue in the manner of an ancient baron, in the support of a great number of retainers, or menial servants”)—there is no gain to wage earners as a class, and almost certainly a significant loss. 110
This is because the effect of an increase in demand for labor in the form of an increment of demand for consumers’ labor is correspondingly to decrease the proportion of the supply of labor employed as producers’ labor, that is, the proportion employed by business firms, for producing products to be sold. This is true even in the case of unemployment, inasmuch as any unemployed workers who end up becoming employed as consumers’ labor could have become employed as producers’ labor—at least if money wage rates were free to fall. Since all producers’ labor is employed directly or indirectly in the ultimate production of consumers’ goods, the effect of this reduction in the proportion of the supply of labor employed as producers’ labor is correspondingly to reduce the production and supply of consumers’ goods and thereby to raise their prices in full proportion to the additional demand for labor and any increase in money
THE PRODUCTIVITY wage rates that is present in this case. The following example, based on our formulas for the wage and price level, will make this point clear.
I assume that initially the demand for labor in the economic system is 400 monetary units, consisting entirely of a demand for producers’ labor. Now, because capitalists and landlords change their pattern of consumption to favor the purchase of consumers’ labor rather than consumers’ goods, a demand for consumers’ labor emerges equal to 100 monetary units. Thus, the total demand for labor in the economic system rises to 500 monetary units, an increase of 25 percent. The effect of this is that if the economic system already enjoyed full employment, the average wage rate in the economic system would also be increased by 25 percent in comparison with its initial level, in accordance with the rise in the aggregate demand for labor in the ratio of 500 to 400. Indeed, whether the economic system already had full employment or not, the average level of money wage rates at which full employment can now exist is 25 percent higher than it would otherwise have been. That is, wage rates can now be 25 percent higher than the level to which they otherwise might have had to fall to achieve full employment.
Nevertheless, no one can gain from such a rise in the demand for labor and in wage rates. The reason is that one-fifth of the labor of the economic system is now employed as consumers’ labor, which leaves only four-fifths to be employed as producers’ labor. This is the new pattern of employment, because the 100 monetary units of demand for consumers’ labor is one-fifth of the now larger the same total token, demand the for 400 labor monetary of 500 units monetary of demand units. for By producers’ labor, which used to constitute the entire demand for labor, now constitutes only four-fifths of the demand for labor and thus employs only four-fifths of the labor of the economic system.
Given a constant productivity of labor, four-fifths of the supply of labor working as producers’ labor produces only four-fifths the output of consumers’ goods. In the face of an unchanged aggregate demand for consumers’ goods—which, as we have seen is the case here—four-fifths of the supply of consumers’ goods results in prices of consumers’ goods that are five-fourths of what they used to be. Thus, in this case, prices rise just as much as wages. That is, both rise in the ratio of 5 to 4.
They do so because, as I say, to precisely the same extent that wages are increased by the additional aggregate demand for labor that is constituted by the additional demand for consumers’ labor, a corresponding proportion of the labor force is bid away from employment as producers’ labor. The result of this is that the production and supply of consumers’ goods ultimately falls in in—
THEORY OF WAGES 649 verse proportion to such rise in the demand for labor, and, as a result, the prices of consumers’ goods rise in direct proportion to it. The rise in prices here can, of course, also be understood on the basis of a rise in the costs of production that is brought about by the additional demand for labor and rise in wage rates. Other things being equal, higher wage rates cause correspondingly higher costs of production and thus, given the rate of profit, correspondingly higher prices of consumers’ goods.
To grasp the supply and demand aspects of the case algebraically, all we need do is state the aggregate demand for labor D L as the sum of the wages paid by business plus the wages paid by consumers, that is, as the sum of the demands for producers’ labor and consumers’ labor. Thus, where w b is the wages paid by business, that is, the demand for producers’ labor, and w c is the wages paid by consumers, that is, the demand for consumers’ labor,
D L = w b + w c .
The rise in the aggregate demand for labor and in w b + w c wage rates is in the ratio of . At the same time, w b the fall in the proportion of the supply of labor employed w b by business is in the inverse ratio w b + w c . Given the same productivity of labor, this last ratio is also the measure of the reduction in the supply of consumers’ goods produced, which, accordingly, must be expressed as w b w + b w c × S c .
Inasmuch as the general consumer price level P is
D C equal to , when this reduced supply of consumers’
S C goods is divided into the demand for consumers’ goods, D C , what we see is that
D C = w b + w c × P, w b w + b w c × S c w b which last expression shows that prices rise to precisely the same extent as wage rates.
Thus far, I have assumed that the productivity of labor remains the same. The fact is that the productivity of labor will almost certainly decrease, thereby bringing about a rise in product prices more than proportional to the rise in wage rates, since the supply of products produced will fall in greater proportion than the supply of labor employed by business. This is because the labor which is transferred from the employ of business to the
employ of consumers will come at the expense of manufacturing and industries supporting manufacturing, where economies of scale prevail, which now cannot be exploited as fully. This is the case inasmuch as the origin of the rise in the demand for labor is supposed to be precisely a drop in the demand for luxury products of manufacturing.
If the rise in demand for labor is brought about by taxation, the negative effects are far more serious. First of all, in this case, the change in demand represents a virtual deadweight loss to whoever must pay the taxes. 111 To continue with Ricardo’s assumption that it is only capitalists and landlords whose demand for consumers’ goods is replaced by a demand for consumers’ labor, the situation now is that these parties are compelled to give up the purchase of various luxuries in order to pay for various government expenditures. In place of the “fine clothes and costly furniture” they would have bought for themselves, they now obtain the dubious benefit of the existence of “large fleets and armies,” or some peacetime equivalent. Furthermore, because the funds are obtained by taxation, that is, involuntarily, by force, and thus the change in the pattern of demand does not reflect the free choice of the owners of the funds, it cannot be expected that the owners will pay the taxes simply at the expense of their consumption expenditure. Indeed, the major effect of any such tax—any tax whatever that is aimed at the income or consumption of businessmen and capitalists (including, of course, “landlords”)—is to reduce saving, the relative demand for and relative production of capital goods, and thus the accumulation of capital, the productivity of labor, and real wages. It is also to reduce the incentive to improve products and methods of production and thus the productivity of capital goods, thereby raising the maintenance proportion, all of which compounds the destructive effects on capital accumulation and the productivity of labor. 112 Finally, it is to reduce the wage “share” of national income, further adding to the reduction in real wages. A similar “boomerang” effect exists in connection with efforts to limit the consumption of businessmen and capitalists. 113
Ricardo assumed that the additional tax fell on the consumption of capitalists and landlords rather than wage earners. In reality, the tax would more likely fall on the consumption of wage earners. Only to the extent that it did, would the destructive effects on saving and capital accumulation be mitigated. 114 However, even if the tax fell entirely on the consumption of wage earners, it would still do substantial damage.
This is because even if the effect of the government’s larger payroll were more employment, the great majority of wage earners, who are already employed and who must pay the tax, must forego part of their own consumption in order to finance the consumption of the additional government employees. Like the capitalists and landlords in the case already considered, they receive little or no compensation for their reduced consumption by virtue of the activities of those government employees. To the contrary, the government’s additional employees may very well render their lives more difficult, through imposing additional regulations and controls on them, on the suppliers they buy from, or on the employers they work for or might work for.
If the government’s additional demand for labor comes at a time of full employment and so raises the average money wage rate in comparison with what it was before, the standard of living of the wage earners is likewise reduced. For in this case, there is a rise in the prices of consumer goods as great as the rise in wage rates, and, over and above this, a rise in taxes. Thus, the average worker finds that his take-home pay does not keep pace with the rise in prices. The consequences here can be understood in terms of our previous example of the rise in demand for labor from 400 monetary units to 500 monetary units. If the 100-monetary-unit rise in taxes and the demand for labor is paid for by taxes on wage earners, then wage earners as a class are in the position that their aftertax wages are no higher than they used to be, while prices are now 25 percent higher. For in this case, while total wages are 500 monetary units, the taxes paid out of wages are 100 monetary units. Thus, there are still just 400 monetary units in total aftertax wages to be paid to the same total number of workers. At the same time, prices are 25 percent higher, both on the foundation of 25 percent higher wage rates and labor costs and on the foundation that only four-fifths of the previous labor is available to produce consumers’ goods, which are thus produced in only four-fifths the quantity and therefore sell at five-fourths the price. Indeed, even the average government worker is worse off now than he was before. On an aftertax basis, he, too, ends up earning no more than he used to earn, while having to pay higher prices. And even if the government workers were previously unemployed, they are worse off in comparison with what they could have had if they had been reemployed privately and thus have added to the total of output, instead of having to share in the restricted output of others. To whatever extent wage earners are taxed to pay for the government’s additional payroll spending, these effects are present.
The Limited Scope for Raising Real Wages
Through a Rise in the Demand for Labor
What all of the discussion in this section leads to is the conclusion that the only way in which a rise in the demand for labor and in money wage rates can in fact
THE PRODUCTIVITY benefit wage earners is if and to the extent that people decide to consume less and to save and productively expend more for labor. When, for example, consumption out of dividend and interest payments falls and the funds thereby saved are used by business firms to employ labor, there is a rise in the demand for labor and in wage rates, but no rise in the general consumer price level. Thus, there is a rise in real wage rates.
The consumer price level remains the same in this case because both the aggregate demand for and supply of consumers’ goods remain the same. The overall demand for consumers’ goods remains the same inasmuch as the additional consumption expenditure of the wage earners resulting from their higher wages merely takes the place of an equivalent reduction in the consumption expenditure of businessmen and capitalists, which is the foundation of the rise in wages and the consumption of the wage earners. At the same time, in contrast to the previously considered case of a rise in the demand for consumers’ labor, here there is no bidding away of part of the supply of producers’ labor in favor of consumers’ labor as an accompaniment of the rise in wages, and thus no reduction in the supply of consumers’ goods produced. Thus, with both the supply of and the demand for consumers’ goods remaining the same, the result is that the general consumer price level remains the same. At the same time, of course, the rise in the demand for labor raises wage rates. Thus, real wage rates rise. 115
Precisely this case, which is characterized by a change in demand from consumption to saving and productive expenditure, represents a rise in the socalled distribution factor in favor of wage earners. It is an aspect of a rise in the economic degree of capitalism. And because of this, it is necessary to refine the expression of the distribution factor. It is now clear that stating it simply as the demand for labor relative to the demand for consumers’ goods is too broad. It must be stated as the demand for labor specifically by business enterprises—that is, the demand for producers’ labor—relative to the demand for consumers’ goods. This refinement was not necessary so long as the only demand for labor under consideration was the demand for labor by business. Now that the demand for labor by consumers has been introduced, however, and has displayed very different characteristics, the refinement in definition is necessary.
What is present in cases of a rise in the distribution factor is a fall in net consumption, which, as I indicated in the last chapter, and will explain more fully in Chapter 16, is consumption in excess of wage payments, made possible by consumption out of such sources of funds as dividend and interest payments. 116 A fall in net consumption, I will show, operates to reduce the general or average rate of profit and interest in the economic system,
THEORY OF WAGES 651 and this explains why in cases of this kind the rise in costs of production constituted by the rise in wage rates does not operate to raise the general consumer price level— namely, it is offset by a fall in the rate of profit. 117
The ability of a fall in net consumption to bring about a rise in real wages by means of raising the demand for labor and thus changing the distribution factor in favor of labor is strictly limited, however. Moreover it is operative only in an environment of security of property, in which people voluntarily choose to consume less and save more. In the present-day United States, net consumption on the part of all private individuals combined almost certainly equals substantially less than 10 percent of national income. This can be inferred by starting with the fact that normally less than 30 percent of national income represents profits and interest, or any other income that is not wages or salaries. Of this 30 percent, half or more can be assumed to be siphoned off in federal, state, and local corporate and personal income taxes. Something on the order of half of the remaining 15 percent of national income in the form of profits and interest can be taken as representing saving out of such incomes. 118 Thus, an amount equal most probably to something on the order of 7.5 percent of national income remains as private net consumption. 119
It follows that even the total disappearance of today’s private net consumption and the use of all of the resulting additional savings to make an additional demand exclusively for labor, would be capable of raising the demand for labor, and thus average wage rates, only on the order of 10 percent. The figure of 10 percent results from dividing the 7.5 percent of national income that can be taken as today’s private net consumption, by the approximately 70 percent of national income that is typically in the form of wage or salary payments. Of course, whatever the precise figure for it might be, the rise in the demand for labor and in wage rates would be on a one-time, nonrepeatable basis only.
In fact, however, the disappearance of private net consumption could never take place, because, as we have seen, businessmen and capitalists have no motive to save and accumulate capital except as a means of ultimately contributing to their own consumption. Thus, their consumption cannot be eliminated without destroying the economic system. Nor can it even be significantly reduced by means of force without inflicting major damage on the economic system. 120 Net consumption is at a minimum precisely in a society in which property rights are fully respected and in which a high degree of rationality leads people to be future oriented and adopt a low time preference. In such conditions, the motive to accumulate for the future rather than to consume in the present is at a maximum. The attempt to use force to bring
about a still further fall in net consumption (or to use force to cause a fall in net consumption under any conditions) results in property becoming insecure and thus in the loss of incentives to accumulate and maintain capital. As we have seen, this destructive process entails a reduction both in the relative production of capital goods and degree of capital intensiveness and in the productivity of capital goods. 121 Depending on the extent of the use of force, the consequences range from the slowing of capital accumulation and rise in real wages to outright capital decumulation and falling real wages. In all cases, the effect is to reduce real wages, at least in comparison with what they would otherwise have been.
Nevertheless, as the result of the existence of improper government activity on a large scale, there is today a significant potential source of a fall in net consumption and rise in the demand for labor by business relative to the demand for consumers’ goods. This is a reduction in government spending and thus in budget deficits and in the taxes that fall on saving and productive expenditure. If government spending and the funds the government takes to finance that spending were reduced, more funds would be left to business enterprises to expend in meeting payrolls and in buying capital goods. The effect would be a significant one-time rise in the ratio of demand for labor by business to demand for consumers’ goods. Of course, far more significant for the longterm rise in real wages would be the accompanying rise in the relative production of capital goods and in the degree of capital intensiveness. These, together with the greater incentives to technological progress and efficiency that would come from reduced government regulatory activity and reduced taxation, would bring about a sharply higher rate of capital accumulation and thus a sharply higher rate of increase in the productivity of labor. Thus, real wages could be increased at first in significant part on the basis of a rise in the demand for labor and then, thanks to the continuing stimulus given to capital accumulation and the productivity of labor, go on increasing without limit. 122
The potential for raising real wage rates through a rise in the demand for labor by business relative to the demand for consumers’ goods—viz., through a rise in the distribution factor—is always highly limited, even in conditions in which the demand for labor by business relative to the demand for consumers’ goods is very modest. In such conditions, increases in the demand for labor by business are accompanied by substantial increases in the supply of labor drawn from the ranks of manual workers who are not wage earners. For example, imagine a society in which the demand for labor is 100 units of money while the demand for consumers’ goods is 1,000 units of money. Imagine also that only one manual worker in ten is a wage earner. In these conditions, a doubling of the demand for labor is likely to be accompanied by approximately a doubling of the proportion of manual workers who are wage earners.
As a result, in these conditions, the rise in demand for labor does not raise money wage rates correspondingly. In addition, because the increase in the supply of wage earners does not mean any overall increase in the amount of labor actually performed in the society, it is not accompanied by any corresponding increase in the supply of consumers’ goods. Thus, while wage rates stay basically the same, there is also no fall in the prices of consumers’ goods caused by an increased supply of labor, and thus real wages cannot rise in proportion to the rise in the demand for labor. In terms of our formula showing real wages as determined by the product of the distribution factor times the productivity of labor, the rise in the distribution factor in these circumstances is accompanied by an apparent decline in the productivity of labor. The decline in the productivity of labor must be termed apparent because it signifies only that as manual workers change their status from non–wage earners to wage earners, the supply of consumers’ goods produced increases to a much lesser extent than does the supply of wage earners. The main significance of the distribution factor in this context is that of a gauge of the proportion of the manual workers who are wage earners.
Of course, as such, the rise in the distribution factor indirectly does represent some significant rise in real wage rates. In bringing about a rise in the proportion of manual workers who are employed as wage earners, it is the basis of an increase in the division of labor and thus of a rise in the productivity of labor. As a result, while the supply of consumers’ goods produced does not rise in proportion to the number of workers who are wage earners, it does rise relative both to the total number of workers and to the number who are wage earners, and thus prices do decline relative both to money incomes in general and to wage rates in particular. However, what is responsible for the improvement is the rise in the productivity of labor, not the rise in the distribution factor itself. 123
Increases in the distribution factor signify directly corresponding increases in real wage rates only insofar as the proportion of manual workers who are wage earners can be assumed to be fixed. This assumption is perfectly reasonable in the conditions of modern, industrial economies, in which almost all manual workers are already employed as wage earners. In this case, increases in the distribution factor signify increases in wage rates in the face of unchanged prices of consumers’ goods. But
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THE PRODUCTIVITY in this case their potential for raising real wage rates is even more limited, for the reasons explained. 124
6. Critique of Labor and Social Legislation
It is now possible to turn to a critique of the doctrine that labor and social legislation have been responsible for the rise in the average worker’s standard of living.
Redistributionism
It should be obvious that the belief that economic conditions in the past were poor because of an unjust “distribution” of wealth and income, and were improved by the imposition of a more just distribution of wealth and income, is completely wrong. In the early years of capitalism, and in all of history preceding capitalism, there was virtually nothing to redistribute. The workers of the early nineteenth century did not lack automobiles and television sets because the capitalists were keeping the whole supply to themselves. There simply were no automobiles or television sets—for anyone. Nor did the workers of those days lack sufficient housing, clothing, and meat because the capitalists had too much of these goods. Very little of such goods could be produced when they had to be produced almost entirely by hand. If the limited supplies of such goods that the capitalists had could have been redistributed, the improvement in the conditions of the workers would hardly have been noticeable. If one person in a thousand, say, is a wealthy capitalist, and eats twice as much and has twenty times the clothing and furniture as an average person, hardly any noticeable improvement for the average person could come from dividing the capitalist’s greater-than-average consumption by 999 and redistributing it. At the very best, a redistribution of wealth or income would have been useless as a means of alleviating the poverty of the past.
Worse than that, it would have been positively harmful for the wellbeing of the average person. As I have shown, the overwhelming bulk of the wealth of the capitalists is in the form of capital goods, on which the productivity of labor depends. A policy of seizing the wealth of the capitalists, to improve the consumption of the masses, is actually a policy of capital decumulation, which must destroy the foundations of the productivity of labor and thus real wages. 125
As I have shown, redistributionism through a policy of taxation of the capitalists’ incomes and estates reduces the incentive and means for capital accumulation. It reduces saving and productive expenditure and thus the economic degree of capitalism, and with it both the demand for capital goods relative to the demand for consumers’ goods and, however ironically, the wage “share” of national income. At the same time, it reduces the incentive to search out and
THEORY OF WAGES 653 implement technological advances, and the incentive to be efficient in the use of capital goods. Thus it reduces the productivity of capital goods and raises the maintenance proportion. In other words, it does everything possible to impair the increase in the supply of capital goods and thus the increase in the productivity of labor. It does everything possible to hold down the rise in real wages, and actually to reduce real wages. 126
The truth is that what made possible the rise in real wages and the average standard of living over the last two hundred years is precisely the fact that for the first time in history the redistributors were beaten back long enough and far enough to make largescale capital accumulation and innovation possible. What distinguishes eighteenth and nineteenth century Britain and America is precisely the respect shown for property rights. It was this that provided the indispensable foundation for the accumulation of capital and the rise in the productivity of labor and real wages. To the extent that the redistributors have subsequently been able to reimpose their philosophy, the rise in real wages and the average standard of living has been less than it otherwise would have been. 127
As I have shown, the major victims of redistributionism are always the wage earners. Taxes imposed on profits and interest are paid largely with funds that otherwise would have been used to purchase labor services and capital goods. Taxes imposed on inheritances fall almost entirely on funds that otherwise would have been used in this way. In contrast, there are the taxes imposed directly on wage earners, which cannot be passed on to anyone insofar as they are imposed on workers in all industries and all occupations. To the extent that taxes are imposed on wages in this way, they simply reduce the benefit the average worker derives from the labor he performs. They make the conditions of the average wage earner equivalent to what they would be if the productivity of labor were lower. (The effects of a consumers’ sales tax are essentially similar.) However, insofar as taxes are imposed on profits, interest, and inheritances, they not only make the conditions of the workers equivalent to what they would be if the productivity of labor were lower, but have the further effect of retarding or altogether stopping any further rise in the productivity of labor, and thus of making the worsened conditions longer lasting or even permanent. Indeed, such taxes have the potential for plunging the economic system into capital decumulation and economic retrogression, by virtue of bringing about a relative production of capital goods and productivity of capital goods insufficient for the replacement of existing capital goods. Thus, as I have shown, from the point of view of the longrun interests of the wage earners, taxes falling on profits,
interest, and inheritances are actually worse than taxes falling directly on wages. 128
It is necessary to deal briefly with the special fallacies present in the belief, so prominent in the labor-union movement, that profits can be converted into additional wage payments. The labor unions have only to see significant profits, and immediately they believe that a source of additional wage payments exists, which can serve to raise the wage rates of their members. 129
The fact is that, apart from all the other considerations I have raised against the redistribution doctrine, profits as such are not actually available for redistribution. Profits are not, as most people appear to believe, a separable part of sales revenues that goes to the businessmen and capitalists, and which potentially could go elsewhere. All of the sales revenues go to the businessmen and capitalists, who in turn expend the far greater part of those revenues in the purchase of capital goods and labor. The separable part of sales revenues that goes to the personal use of the businessmen and capitalists is not profits but dividend payments, and the draw of funds by partners and proprietors. Profits themselves are actually an accounting abstraction—the difference between sales revenues and historical costs, that is, costs derived from previous outlays for labor and capital goods, made years in the past in many cases. They are not the difference between sales revenues and current outlays for labor and capital goods.
Profits can exist with no portion of sales revenues going to the personal disposition of the businessmen and capitalists; they can exist with 100 percent of sales revenues being used to purchase capital goods and to pay wages. For example, a firm could have sales revenues of a million dollars a year and expend the equivalent of the whole of its sales revenues in the purchase of capital goods and the payment of wages, and still have a profit—possibly, a very substantial profit. It would have a profit to the degree that the costs it deducted from its sales revenues were less than a million dollars. Its costs would be less than a million dollars, insofar as the million it spent in each year for capital goods and labor was for the purchase of durable equipment or for the accumulation of inventory.
If, for example, half of its outlay in each year were for equipment that would last ten years, and another quarter of its outlay represented the accumulation of inventory, its total costs deducted from sales revenues in that year on account of expenditures made for capital goods or labor in that year would amount to a mere $300,000, and thus its profit to as much as $700,000. This is because of its $500,000 of outlay for equipment, only $50,000 would show up as depreciation cost that year. And of its remaining $500,000 of outlay, only the $250,000 that does not go for inventory accumulation would show up as a cost that year. Thus, its total costs on account of expenditures made in that year for capital goods and labor would be no more than $50,000 plus $250,000, or $300,000 in all.
To calculate the firm’s overall, total costs in that year, one would, of course, have to add depreciation costs resulting from expenditures for plant and equipment made in prior years. If this amounted to another $100,000, say, then its profit would still be $600,000, even though in the same year that its sales revenues were a million dollars, it expended a full, equivalent million in the purchase of factors of production.
In this case, if a labor union demanded the payment of the profit as additional wages, the only possible source of the funds would have to be a reduction in the firm’s expenditure for capital goods, or, however absurd, its existing expenditure for labor! Or the funds would have to come from outside the firm, which would entail a reduction in wage payments and the demand for capital goods elsewhere.
Not only in this case, but in every case without exception, the only significant funds which can be added to the payment of wages in any given firm are funds which are withdrawn from the purchase of capital goods in that firm, or from the purchase of capital goods or payment of wages in other firms. As I have shown, funds used to finance the personal consumption expenditure of businessmen and capitalists are not only not significant relative to wages, but also cannot even be obtained as a source of additional wage payments without damage to the economic system on a vastly greater scale. This last is because so long as the businessmen and capitalists retain their capital, they have the power to go on consuming with little or no diminution, while if they lose that power, they lose the incentive to accumulate and maintain capital. 130 We already know the destructive effects of forcibly increasing the demand for labor at the expense of the demand for capital goods. 131
Furthermore, the notion of converting profits into the payment of wages is held in ignorance of the fact that a substantial portion of profits exists as the result of nothing more than the increase in the quantity of money and volume of spending in the economic system. Such profits reflect the fact that productive expenditure and sales revenue in the current period are greater than the productive expenditure of the past, on which the costs deducted from sales revenues in the current period are based. The growth in productive expenditure from year to year naturally takes the form of rising wage payments and increasing spending for capital goods. At the same time, the rising sales revenues it causes in each year generate profits because, as I say, the costs of each year reflect productive expenditures of the past, which were smaller. 132 Thus, to the extent that profits reflect merely the
growth in spending, they already provide all the benefit to wage earners that they can possibly provide. This is because they are already expended as wage payments or in the purchase of capital goods. To ask that because they are profits they be paid instead as wages, is to ask for the payment of the same sum twice over to the benefit of wage earners. 133
And the same is true of real profits, insofar as they reflect merely the increase in the physical volume of wealth in the possession of business firms. This increase in wealth represents additional capital goods, which are used in further production, and additional consumers’ goods sold to wage earners. The full benefit of this additional wealth already goes to wage earners. The profit merely marks the increase in such wealth. It is not available in any way further to increase the benefits to wage earners.
On the basis of our previous discussion both of the cause of higher real wages and of the effects of redistributionism, it should be clear that the attempt of the labor unions to convert profits to wages by means of force cannot raise the average worker’s standard of living and must actually tend to reduce it. As I have shown, it is in part an attempt to raise the wages paid to one set of workers at the expense of the wages paid to another set of workers, by virtue of requiring funds to be withdrawn from the payment of wages in some firms in order to be added on to the payment of wages in other firms. And for the rest, it is an attempt to raise wages and consumption at the expense of the demand for capital goods. Insofar as it may succeed in reducing profits, it does so only as the accompaniment of a reduction in the rate of economic progress and thus in the increase in real wages. It slows the increase in production, which reduces both the real profits of business and the rise in real wages. 134
Labor Unions
This brings me to the general subject of the effect of labor unions on real wages and the wage earners’ standard of living.
The productivity theory of wages implies that the labor unions (and the public at large) have an utterly wrong idea of how the average level of real wages and the average standard of living are increased. The goal of the unions is to increase the money incomes of their members. And that, of course, is the goal of practically every individual with respect to his own wages. But I have shown that almost all of the ways of accomplishing a rise in the general or average level of money wages cause either no increase in real wages and the general standard of living or actually reduce real wages and the general standard of living—by bringing about unemployment or a lower productivity of labor. I have shown
THEORY OF WAGES 655 that the general level of real wages and the average standard of living are simply not raised to any significant sustainable extent by virtue of the average worker earning more money, but only by virtue of the productivity of labor rising and prices falling. I have also shown that the only major way that everyone can earn more money is by virtue of an increase in the quantity of money, which raises prices as much as wages, and that in that case only a rise in the productivity of labor makes it possible for prices to rise less than wages and so enables the rise in wages to represent an increase in real wages.
I now must reconcile the perception of individuals, that the way to raise their standard of living is by earning more money, with the productivity theory of wages, which shows that the general standard of living does not rise by virtue of the earning of more money, but by virtue of the rise in the productivity of labor and the consequent fall in prices relative to wages.
When an individual increases the productivity of his own labor, whether by becoming more efficient in a given job or by raising his level of skills to the point of being able to perform a more demanding job, the likely result is that he will increase his money income. What enables the individual to increase his money income in this way is partly the fact that, at the same time that he is increasing his productivity, the quantity of money and volume of spending in the economic system are also probably increasing. But this is not the major reason for people concluding that greater productivity means correspondingly more money income. A close connection between the individual’s improvement in his productive ability and an increase in his money income would exist even if the quantity of money and the volume of spending in the economic system remained constant. It would exist insofar as the improvement in the productivity of the individual’s labor is an improvement relative to the productivity of labor of his competitors in the rest of the economic system.
In considering the relationship between the improvement in his productivity and the increase in his money income, the individual is usually not aware that what is decisive for his being able to earn a higher money income is the rise in his productive ability relative to productive ability in the rest of the economic system. He experiences the improvement in his productive ability as an absolute improvement, not a relative improvement. In his mind, he does better and so he is paid better.
Nevertheless, what actually enables the improvement in his abilities to result in bringing him a higher money income is that it is an improvement relative to the abilities of other people. If everyone improved his productive ability at the same time and to the same extent, no one would earn any more money than before—except to the
extent that there was an increased ability to produce the commodity used as money. There would be an increase in the supply of goods relative to the supply of labor, real wages and the standard of living would rise, but the improvement would be achieved through a fall in prices in the face of unchanged wages, not through a rise in wages.
As an illustration of the fact that the greater productive ability of an individual results in a greater money income for him only insofar as it represents a greater relative productive ability, consider the following case. An individual who works in an office or a factory wants to be promoted to manager and thereby earn a higher income. If all that happens is that he improves his performance and now surpasses all of the other candidates for the job, he will most likely be promoted and earn the higher income. But suppose that one or more of the other candidates improve their performance just as much as he improves his. Then his improvement is definitely no guarantee of his being promoted and earning a higher income. The improvement in his performance, the improvement in the performance of all of the competitors, will still tend to raise the general standard of living, through its effect on the supply of goods and services available to the firm’s customers, but it will not tend to raise the income of any of the competitors themselves, except insofar as the improvement in the performance of one of them surpasses the improvement in the performance of the others or enables their performance as a group to surpass the performance of other such groups.
This last points to the fact that the same principle applies between firms and industries. Insofar as an improvement in the productive ability of some or all individuals within a given firm creates a competitive advantage for that firm, the result might be that some or even all of its employees now earn more money. But in that case, the firms in the industry that lag behind, and their employees, suffer corresponding reductions in revenue and income. If all the firms in an industry are inspired to become more productive, it might be that they all increase their revenues and incomes. But then they do so in competition with other industries, whose firms and employees suffer corresponding reductions in revenue and income. Once again, we are driven to the fact that the only way that everyone in the economic system can earn more money is insofar as there is a larger quantity of money and thus greater volume of spending in the economic system as a whole. More production by itself does not produce this result.
In fact, as I have already shown, there are numerous cases in which, when everyone does increase his ability to produce, the average member of the group actually earns less money. The example of the potato growers, in the discussion of Say’s Law, was precisely such a case. 135 The same sort of situation exists in cases often cited by labor-union supporters, in which the adoption of piecework stimulates all of the workers to improve their efficiency and results in such an increase in the supply of the product and fall in its price, that the wage per piece falls to the point where most, or even all, of the workers in the occupation earn less than before. In such a case, there is still, of course, an improvement in the general level of real wages and the average standard of living. But before the pieceworkers can participate in it, some of them must leave the field and find other jobs, just like the potato growers. What is present in this case is that piecework so increases the productivity of labor in the particular occupation, that a temporary relative overproduction of the product and oversupply of labor exists in this particular line, accompanied, of course, by a corresponding underproduction of products and undersupply of labor elsewhere. The adoption of labor-saving machinery frequently produces such results.
The efforts of individuals to improve their wellbeing by earning more money are perfectly reasonable and actually harmonious, even in circumstances in which the existence of a given quantity of money and a given volume of spending for consumers’ goods and labor would imply that to the extent that any individual or group succeeds in earning more money, other individuals or groups must earn correspondingly less money. I demonstrated this back in Chapter 9, in showing that the fall in prices would be sufficient to provide higher real incomes to all, provided they made the necessary changes in occupation. 136
The principle I established there was that everyone gains in real terms, in accordance with the increase in his productivity, but only those gain in monetary terms whose productivity rises by more than the average, that is, rises relative to the productivity of the average producer. Naturally, to the extent that a simultaneous increase in the quantity of money and volume of spending goes on, a corresponding general rise in money incomes takes place.
This then is the nature of the connection between the productivity of labor of the individual and the money wages of the individual. It appears to the individual that his gain is in the form of more money, because he considers the effects of an improvement in the productivity of his labor on the assumption of all other things being equal—specifically, the productivity of the labor of others being equal and the buying power of money being equal. This is perfectly understandable, in that an individual has very substantial control over the productivity of his own labor, while he has virtually no control over the general productivity of labor in the economic
system as a whole, and virtually no control over the buying power of money. As far as matters are up to him, the general or average productivity of labor in the economic system, and the buying power of money, go on being whatever they are—all that changes is his own individual productivity. On this basis, it appears to him that the way he improves his standard of living is by earning more money, for in such circumstances, a rise in the productivity of his own labor will bring him more money, which will enable him to buy correspondingly more.
Thus, the earning of a higher money income is the reasonable way for an individual to attempt to raise his standard of living. And insofar as individuals seek to increase their money incomes through production and exchange, in an environment of freedom of competition, the effect of their actions is to increase their real incomes whether they succeed in earning higher money incomes or not. In such conditions, win, lose, or draw in terms of money, they all win in real terms, because what is fundamental and essential is not that the individual earns more money, but that, in the quest to earn more money, he produces more goods. That is the actual basis on which the standard of living of everyone rises, whether given individuals in a given case end up earning the same, more, or less money.
Unfortunately, most people, and especially the supporters of labor unions, view the earning of more money as the fundamental and essential phenomenon and mistakenly assume that everyone could be made better off simply by the earning of more money. Insofar as individuals act in a private capacity, this mistaken belief results in no direct harm. But when they act in a public and collective capacity and seek to elevate money wages by means of force, through the coercive methods of labor unions or otherwise, then the result is very harmful indeed. This is because, as I have shown, the earning of a higher money income is simply not a reasonable way to attempt to raise the general or average standard of living.
When the unions seek to raise the standard of living of their members by means of raising their money incomes, their policy inevitably reduces to the attempt to make the labor of their members artificially scarce. The unions do not have much actual power over the demand for labor. But they often achieve considerable power over the supply of labor. And their actual technique for raising wages is to make the supply of labor, at least in the particular industry or occupation that a given union is concerned with, as scarce as possible.
Thus, whenever possible, unions attempt to gain control over entry into the labor market. They seek to impose apprenticeship programs, or to have licensing require—
THEORY OF WAGES 657 ments imposed by the government. Such measures are for the purpose of holding down the supply of labor in the field and thereby enabling those fortunate enough to be admitted to it, to earn higher incomes. Even when the unions do not succeed in directly reducing the supply of labor, the imposition of their wage demands still has the effect of reducing the number of jobs offered in the field and thus the supply of labor in the field that is able to find work.
If the unions were confined to just one or a small number of industries, and did not have the power to determine wage rates in the rest of the economic system, their achievement of higher wages in particular industries would not cause unemployment in the economic system as a whole. The workers displaced from the unionized industries would be able to find work—at lower wages—in the nonunion industries. The effect of unions in these circumstances would be the creation of an artificial inequality of wages—higher wages in the unionized fields, based on an artificially imposed scarcity of labor in those fields, accompanied by correspondingly lower wages in the nonunion fields, based on an artificially imposed oversupply of labor in those fields. 137
A further consequence of this process would be some significant reduction in the average productivity of labor in the economic system. This is implied by the fact that the artificially imposed pattern of employment would be equivalent to the pattern of employment that would result if the workers in the economic system possessed fewer skills, or less potential for developing skills, than they actually do. If those people denied entry into occupations had never had the ability to gain entry in the first place, the result would be equivalent to the unions’ keeping them out. The lesser degree of ability implied is the basis for inferring a lower general productivity of labor. The further implication of this is that even if the powers of the unions did not go beyond those of this case, their effect would be not simply to reduce the standard of living of some workers by as much as they raised the standard of living of other workers, but to reduce the standard of living of some workers by more than they raised the standard of living of other workers—in other words, to bring about a net reduction in the overall average level of real wages. This is because what is involved in this case is not only that some wage earners earn higher wages while others earn correspondingly lower wages, but also that the supply of goods produced is less—to the extent that a forced reduction in the exercise of skills is present. 138
The artificial wage increases imposed by the labor unions result in unemployment when the unions have the power to raise wage rates throughout the economic system, or when the wage increases they achieve in particular
fields take place alongside the existence of minimum-wage laws. A rise in wage rates throughout the economic system creates unemployment in virtually every line of work, and leaves no avenue open for workers displaced from any one branch of production to find work in another.
To achieve such a system-wide increase in wage rates, it is not necessary that the entire economic system actually be unionized, or even that the greater part of the economic system actually be unionized. It is sufficient merely that some substantial portion of the economic system be unionized and that the potential exist for the nonunion portions easily to become unionized. If it is possible for unions to be formed easily—if, as in the present-day United States, all that is required is for a majority of workers in an establishment to decide that they wish to be represented by a union—then the wages imposed by the unions will be effective even in the nonunion fields. Employers in the nonunion fields will feel compelled to offer their workers wages comparable to what the union workers are receiving—indeed, possibly even still higher wages—in order to ensure that they do not unionize. The nonunion employers will be likely to believe that if they do not pay wages comparable to union wages, then they will be faced with a union and, as a result, not only union wages, but the loss of major management prerogatives concerning the efficiency of production, and thus experience an even greater increase in costs than is incurred merely by matching union wages.
Furthermore, even if the wage increases caused by the unions are not universal, they will still certainly result in unemployment if they take place alongside the existence of minimum-wage laws and public welfare assistance. Widespread wage increases closing large numbers of workers out of numerous occupations put extreme pressure on the wage rates of whatever areas of the economic system may still remain open. These limited areas could absorb the overflow of workers from other lines at low enough wage rates. But minimum-wage laws prevent wage rates in these remaining lines from going low enough to absorb these workers. So too does the existence of public welfare assistance, inasmuch as people are not willing to work at such low wages if they can obtain a comparable income without working.
In these ways, labor unions cause unemployment— and unnecessarily low wages for those who work in whatever lines remain open to free competition.
From the perspective of most of those lucky enough to keep their jobs, the most serious consequence of the unions is the holding down or outright reduction of the productivity of labor. With few exceptions, the labor unions openly combat the rise in the productivity of labor. They do so virtually as a matter of principle. They oppose the introduction of labor-saving machinery on the grounds that it causes unemployment. They oppose competition among workers. They force employers to tolerate featherbedding practices, such as the requirement that firemen, whose function was to shovel coal on steam locomotives, be retained on diesel locomotives. They impose make-work schemes, such as requiring that pipe delivered to construction sites with screw thread already on it, have its ends cut off and new screw thread cut on the site. They impose narrow work classifications, and require that specialists be employed at a day’s pay to perform work that others could easily do—for example, requiring the employment of a plasterer to repair the incidental damage done to a wall by an electrician, which the electrician himself could easily repair. 139
To anyone who understands the productivity theory of wages, it should be obvious that the unions’ policy of combatting the rise in the productivity of labor renders them in fact a leading enemy of the rise in real wages. However radical this conclusion may seem, however much at odds with the prevailing view of the unions as the leading source of the rise in real wages over the last hundred years or more, the fact is that in combatting the rise in the productivity of labor, the unions actively combat the rise in real wages. The unions and the public do not realize this because they do not even realize that the productivity of labor is the key to real wages. Instead, they believe that the source of a higher standard of living for the workers is higher money wages, which the unions certainly do seek. But, as we have seen, the unions’ efforts along these lines are totally misdirected. The truth is that, while claiming to have the purpose of raising the workers’ standard of living, the unions are dedicated to the active combatting of the rise in real wages, along with the creation of artificial inequalities in wages and of unemployment.
Consider, for example, the typical union attitude toward an improvement in machinery, such as computer-controlled typesetting equipment. The unions believe that such an improvement should be opposed, on the grounds that it will cause unemployment of typesetters and tend to reduce their wages. They have absolutely no conception that the improvement actually raises real wages—not immediately of the present typesetters perhaps, but of all the wage earners throughout the economic system who are buyers of books and other printed matter. The unions simply do not grasp that the rise in real wages comes about through a lower price of the product, and that it is the real wages of the workers who buy the product, not the workers who produce it, that improvements in productivity raise.
The ignorance of the unions and the public concerning the role of productivity is such that they believe that
whenever there is a rise in the productivity of labor in a given industry, the workers in that industry are automatically entitled to a corresponding increase in wages. They simply do not understand that the improvement operates to raise the real wages of the workers who buy the product, and that it is perfectly reasonable and appropriate that the money wages of the workers who produce the product fall in many cases as the result of the improvement—because their labor is temporarily placed in a position of relative oversupply as a result of it.
Indeed, the naïve notions of the unions and the public concerning productivity imply that in industries such as computers and pocket calculators, where increases in productivity have occurred on the order of a hundredfold or more, wages should now be a hundred times or more higher than they were a decade or two ago. By the same token, in other occupations, in which there has been little or no increase in productivity, such as waiting on tables, it follows, on this view, that wages should be no higher now than in the past—indeed, in this particular case, no higher now than centuries ago, when the last improvement in the productivity of labor took place (which was probably the invention of the tray).
Of course, an industry-by-industry determination of wages based on productivity is absolutely absurd. So long as the workers of any industry can be employed in other industries—so long, for example, as the workers who today work as waiters can be employed to produce computers or calculators, or to take the jobs of other workers who can be so employed—their wages must be commensurate with the wages of such workers. And the fact is that their wages do stay commensurate, because where the productivity of labor rises, the basic effect is not to raise the money wages of the workers who produce the product, but to reduce the price of the product, which serves to raise the real wages of all workers who buy the product, including those in occupations in which there is no rise in the productivity of labor. And insofar as the rise in the productivity of labor does not succeed in reducing prices, because of an increase in the quantity of money and volume of spending, the effect of the larger quantity of money is to raise the demand for and wages of all types of labor—in the long run, basically in the same proportion, so that once again, wages remain commensurate in all the various occupations open to the same kind of workers. In other words, improvements in the productivity of labor do not raise real wages occupation by occupation, through higher incomes, but, as we have seen, throughout the economic system, by means of lower prices—prices that, as a minimum, are lower in comparison with the level to which increases in the quantity of money and volume of spending would otherwise have raised them.
THEORY OF WAGES 659
In sum, far from being responsible for improvements in the standard of living of the average worker, labor unions operate in more or less total ignorance of what actually raises the average worker’s standard of living, and are responsible for artificial inequalities in wage rates, for unemployment, and for holding down the average worker’s standard of living.
Minimum-Wage Laws
It should already be clear that minimum-wage laws cause unemployment. It should also be clear that the extent to which they do so depends on the extent of union activity in the economic system. The more the unions close off employment opportunities, the greater is the number of workers forced to seek employment elsewhere, and thus the greater is the downward pressure on wage rates elsewhere. Thus, the greater is the number who will be unemployed as the result of a minimum-wage law, which, in effect, closes the gates in the occupations still free from the imposition of union wage-scales against the workers streaming in from the branches of production subject to union wage-scales.
An important implication of these facts is that the problem of low wages, which a minimum-wage law is intended to remedy, would be far less serious in the absence of the ability of labor unions to impose their artificially high pay-scales. If the power of the unions to impose such pay-scales ceased to exist, wages in the portion of the economic system that presently manages to remain free of union pay-scales would be higher, because fewer workers would need to seek employment in these industries, since they would be able to be employed in what are now the industries subject to union pay-scales.
As a consequence of the unemployment they cause, minimum-wage laws deny many people the opportunity of acquiring work experience and the skills they might have acquired by means of working. In the absence of minimum-wage laws, many of the people who would have become employed at lower wages would not have had to earn such wages for the rest of their lives, but could have qualified themselves, through experience and skills acquired by working, for higher paying jobs later on. By aborting such individual processes of development, a minimum-wage law tends to exert a lifelong depressing effect on people. It both stops them from working and prevents them from becoming qualified for anything better than the kind of low-skilled jobs to which a minimum-wage law tends to apply. As I have shown, these results are particularly true today of black teenagers, who are denied not only the possibility of employment by the minimum-wage laws, but also the possibility of gaining the on-the-job experience and improvement in their skills
that employment would have provided. These teenagers are condemned to a life of poverty on the welfare rolls, largely because of minimum-wage legislation. 140
Although the avowed purpose of minimum-wage laws is to help unskilled workers, by providing them with a better income, their actual effect is to achieve the exact opposite. A minimum-wage law prevents less-skilled individuals from successfully competing with more-skilled individuals. It operates precisely against the least-skilled and most-disadvantaged members of society. As I have shown, in a labor market free of government interference, less-skilled individuals can successfully compete with more-skilled individuals by being willing to work for lower wages. 141 In raising the wages of less-skilled workers relative to those of more-skilled workers, a minimum-wage law deprives the less-skilled workers of their ability to compete. It reduces their ability to compete with higher-skilled workers in the same occupation and operates to attract higher-skilled workers into the occupation from other occupations. This last observation, of course, applies equally to wage increases caused by unions. Part of the problem of unemployment in any given industry stems from the attraction to that industry of higher-skilled workers from outside the industry, as a result of wages in that industry being elevated relative to wages in other industries. This compounds the unemployment caused by the reduction in job offerings in the industry that a higher wage rate brings about. 142
Thus, minimum-wage laws cause unemployment, a lifelong depressing effect on the earnings of many of those forced into unemployment, and harm in particular the least-skilled, most-disadvantaged members of society.
Maximum-Hours Legislation
Although it is generally taken for granted that the effect of maximum-hours legislation is to enable the workers to work less while enjoying the same income— with the cost taken out of the employers’ profits—the actual effect of such legislation is correspondingly to reduce the real wages of the workers. This conclusion can easily be shown in terms of our familiar equations for average money wage rates and the general level of consumers’ goods prices. Thus, taking the context of the present day, I assume the passage of a law reducing the work week from its present forty hours to thirty hours. I also assume that the respective demands for labor and consumers’ goods remain the same, because of the existence of a fixed quantity of money. On these assumptions—using an asterisk to denote the fixity of the demand for labor, and stating the supply of labor in terms of hours worked—our equation for average money wage rates shows:
D L ∗ =
3
4 S L (in terms of hours)
4
Average Hourly Money Wage Rate.
3
That is, average hourly wage rates increase in the ratio of four to three, as the result of dividing the fixed demand for labor by three-fourths the supply of labor in terms of hours.
At first thought, this may appear to fulfill one of the most ambitious hopes of the union leaders who seek to shorten the work week and who, in order to avoid any reduction in weekly earnings, demand a rise in hourly earnings sufficient to compensate for the shorter hours. In the formulas, the assumption of a constant demand for labor implies that hourly earnings would indeed rise in inverse proportion to the fall in the hours worked and thus that weekly earnings would remain unchanged. But before concluding that this situation would fulfill the hopes of the union leaders, let us consider the effect on the prices of consumers’ goods, namely:
∗
D C = 4 P.
3 3
4 S C
This equation shows that three-fourths the labor performed shows up in three-fourths the supply of consumers’ goods produced and sold, and thus, in the face of an unchanged demand for consumers’ goods (indicated by the use of an asterisk), in a rise in their price in the ratio of four to three. Thus, prices rise in the same proportion as hourly wage rates. And because weekly wage rates are unchanged (again indicated by the use of an asterisk), inasmuch as
4 3
Average Hourly Money Wage Rate × Hours Worked 3 4
= Unchanged Average Weekly Money Wage Rate, the net result is
∗
Average Weekly Money Wage Rate =
4
P
3
3
Average Weekly Real Wage Rate,
4 which means that the rise in consumers’ goods prices in the ratio of four to three implies a fall in average weekly real wages in the ratio of three to four. Thus, there is a reduction in real weekly earnings in exactly the same ratio as the hours worked! Not surprisingly, to the degree
THE PRODUCTIVITY that he produces less, the average worker receives less. When he does three-fourths the work, he receives three-fourths the real wages, even if his money wages remain unchanged, for then the supply of goods is three-fourths as great and prices are four-thirds as great.
The principle here is that if less work is done, fewer goods will be produced and goods will be rendered correspondingly scarcer relative to the number of workers, and thus their prices will rise relative to the incomes of the workers—i.e., real wages will decline. This principle applies to every reduction in the hours of work, whether from forty to thirty, as might be contemplated in our day, or from sixty to fifty, or even from eighty to seventy, as occurred in previous generations. Always, less work per worker means less output relative to the supply of labor and thus higher prices relative to wages, and, therefore, a corresponding decline in real wages.
There is certainly no harm in such a drop in real wages, provided the workers can afford it, and value the additional leisure more highly than the real wages they must forgo in order to achieve that leisure. As I have shown, that situation will exist if the productivity of labor has risen sufficiently, in which case the labor market itself operates to bring about a shortening of hours. But there can be great harm from forced reductions in the hours of work imposed by maximum-hours laws. These laws force workers to accept lower real wages than they judge they need to have. Their effect is to force poor people to become still poorer, in the misguided belief that their poverty can be alleviated at someone else’s expense. Maximum-hours laws did not help to raise the standard of living. Insofar as they took effect concurrently with the rise in the productivity of labor and the consequent reduction in hours achieved by the operations of the labor market, they were superfluous. Insofar as they took effect in advance of the necessary rise in the productivity of labor and the operations of the labor market, they were destructive.
My analysis of the effects of maximum-hours laws, and of labor-union wage demands to offset them, has assumed that the demands for labor and consumers’ goods remain constant in the face of higher wages and prices. These assumptions would not be able to hold up in a context of free international trade in which the various countries used the same money. In such a context, there would be movements in the supply of money from country to country, in response to changes in relative wages and relative prices among the various countries. A rise in wages and prices in any one country relative to wages and prices in other countries would be accompanied by a fall in the quantity of money and volume of spending in that country, and a rise in the
THEORY OF WAGES 661 quantity of money and volume of spending in other countries, as buyers sought to take advantage of the less expensive markets. The effect would be to cause largescale unemployment in that country.
To avoid such unemployment, it is likely that a forced shortening of hours would not be accompanied by anything like an inversely proportionate rise in hourly wage rates in the country in which the shortening occurred. More likely, hourly wage rates would show very little increase in that country. Indeed, they would tend to increase across the world in inverse proportion to the fall in the world supply of labor constituted by the lower hours in this particular country. If, for example, hours are reduced in the ratio of three to four in a country that represents 10 percent of the world economy, this would represent a reduction in the world supply of labor and consumers’ goods, not of 25 percent but of only 2 1 ⁄ 2 percent. In this case, hourly wages, and prices, would rise not in the ratio of four to three, but on the order of 100 to 97 1 ⁄ 2 , on a world basis. Thus, in the country in which it occurred, the reduction in hours would be accompanied by an almost equivalent decline in weekly money earnings, with prices nearly stable. However, the essential result—the decline in real wages—would, of course, still be the same as before.
The same essential analysis applies insofar as a country has obligated itself to maintain a fixed exchange rate between its currency and the currency of other countries. In this case, if wages and prices in the country were to rise significantly relative to those in other countries, the country’s currency would be turned in, in exchange for foreign currencies, which people would now want in greater quantity, in order to be able to buy relatively more cheaply. To be able to meet the demand for foreign currencies at the fixed exchange rate, the country’s government would have to contract the supply of its own currency, in order to reduce such demand. Thus the result would be much the same as under a single international money.
Child-Labor Legislation
The abolition of child labor is certainly something that is highly desirable, just as is the shortening of the hours of work. But, like the shortening of hours, it is desirable only when it can be afforded. In order for this to happen, it is necessary first that the productivity of labor rise to the point where parents no longer need the labor of their children to help make ends meet. As I have shown, as that point is approached, child labor gradually disappears, simply by virtue of the decisions of more and more parents to keep their children home longer and longer.
The abolition or reduction of child labor by law, rather than by the voluntary decisions of parents in a progress—
662 CAPITALISM ing economy, ignores the precondition of the productivity of labor being high enough to enable the parents to afford its reduction or abolition. As a result, child-labor laws have had the perverse effect of rendering poor families still poorer, and, in so doing, of jeopardizing the health and wellbeing of the very children they were intended to protect.
In essence, their effect can be understood by imagining the conditions of an isolated family on a desert island, such as Swiss Family Robinson. The family needs the labor of its children if it is to survive or achieve some minimal degree of wellbeing. Now a social worker comes to the island to observe the family and he decides that he does not like the fact that the children are working. He later returns with a policeman and forcibly prevents the children from working. The actions of this social worker could certainly not be said to promote the lives and wellbeing of the family members in general or of the children in particular. He would simply force that family to be poorer and more wretched than it needed to be, including its children. This is the effect of a child-labor law on a desert island. Its effect in society is no different. This is because in society too, the real income of a family depends on the amount of work its members perform. And when they perform work that may appear excessive by the standards of those who are more affluent, it is usually because they have a real need to do so.
Child-labor laws do not deserve credit for the abolition of child labor. The abolition of child labor was an accomplishment of capitalism and the rise in the productivity of labor it achieved. As in the case of maximum-hours laws, insofar as child-labor laws merely ratified the abolition of child labor already being achieved by the market, they were superfluous. Insofar as they went ahead of the market, and imposed reductions in child labor beyond what parents judged their families could afford, they were destructive. Along with depriving poor families of urgently needed income, they had the effect of forcing children to work at lower wages and in poorer conditions than they needed to. This was the result of closing off major categories of relatively desirable employment opportunities, such as were provided by larger employers, and leaving open only lower-paying, less desirable employment opportunities. 143
A question can arise concerning a possible role for child-labor laws in curbing the actions of parents who do not in fact require the labor of their children, but who would send their children to work out of indifference to their wellbeing. There certainly are such parents, and a strong case can be made for compelling them to provide better for their children—on the grounds of the right of a child to be supported by his parents to the extent that his parents have the means of supporting him.
Nevertheless, in an otherwise free society, child-labor laws are not the appropriate means for dealing with this problem, because their scope cannot be limited to such cases. They necessarily have the effect of forcibly interfering with families who are not indifferent to the wellbeing of their children, but who send their children to work out of economic necessity. To the extent that there is immigration from poor countries, to the extent that there are any significant numbers of poor people who have not yet been sufficiently assimilated into the economic system, there will be poor families who depend on some contribution from their children that would be inappropriate in the context of families that are better off. The destructive consequences of child-labor laws in such cases far outweigh the possible good they might accomplish in prohibiting this one manifestation of parental indifference. As a general principle, it is necessary to realize that even where the particular goal the government seeks to accomplish may be legitimate, its intervention can easily introduce worse evils than it seeks to remedy. This is particularly true as concerns the relations between parents and children.
Forced Improvements in Working Conditions
The same perversity of result—that of harming the very people whom one intends to help—occurs no less in the case of government-sponsored improvements in working conditions. This, of course, includes improvements in working conditions imposed by labor unions in a position to resort to force without fear of prosecution, or which enjoy such legal privileges as the government compelling employers to deal with them.
Insofar as improvements in working conditions do not pay for themselves, their coming into being is equivalent, from the point of view of employers, to a rise in wage rates. It is an increase in the cost of employing workers. (Where the improvements pay for themselves, then, as previously explained, their implementation comes about in the same way as any other improvement in efficiency, such as the adoption of better machinery.)
A forced increase in wage rates, or, as in this case, the equivalent of a forced increase in wage rates, causes unemployment, higher production costs, reduced production, and higher prices. It thus leaves the average worker in the economic system in the position of having to accept a reduction in his real take-home pay, even if he is among those fortunate enough to escape the unemployment. This is because even if he keeps his job, he is confronted with higher prices caused by the additional costs imposed by the forced improvements, while his take-home wages remain the same. Indeed, as we have seen, to the extent that unemployment is caused, the
THE PRODUCTIVITY average worker’s take-home pay is actually reduced, by his having to use some portion of his wages to support the unemployed.
If unemployment is not to result, then it is necessary that wage rates fall by enough to compensate for the cost of the forced improvements in working conditions, so that employers do not experience a rise in the cost of employing workers. In either case, the cost of the improvements is at the expense of the real income of the average worker. In the case in which unemployment is created, he earns a reduced take-home money wage (after allowing for his support of the unemployed), and, at the same time, must buy at higher prices, to cover the cost of the forced improvements. In the other case, in which unemployment is avoided, he earns take-home wages that are reduced by enough to offset the cost of the forced improvements, and must buy at the same prices. In either case, the socalled improvements are at the expense of the workers, who cannot afford them.
When this fact is recognized, it becomes clear that “improvements” which must be forced upon the market have no right to be called improvements at all. They appear to be improvements only so long as one does not see that they have to be paid for by the very class of people whose poverty is the source of constant complaint, and whose members are unwilling to bear such costs. In reality, they represent no more of an improvement than forcing a poor person to eat steak instead of hamburger would represent an improvement, given the fact that he must pay for it and thus have less left over for other things, which he regards as more important to have than the out-of-context improvement in his food.
The fact that it is workers who end up bearing the cost of forced improvements in working conditions does not always mean that it is the particular workers whose conditions are improved who bear the cost in the form of lower real take-home wages. It can happen that the higher costs of employing workers in a particular occupation or industry are met by a withdrawal of funds from the payment of wages or the purchase of capital goods elsewhere in the economic system. In such a case, it is the wages of other workers that will tend to fall. In the short run, the wages of the workers who have the benefit of the improvements will be lower only in the sense that the cost of the improvement in their working conditions could just as well have been given to them in the form of higher take-home wages. Their take-home wages are lower in comparison with what they might otherwise have been. In the long run, however, if the freedom of competition exists, there will be a tendency for the take-home wages of these workers to fall, as workers from other lines, where wages have been reduced, move in to compete with them. In addition, to the extent that a
THEORY OF WAGES 663 reduction in the demand for capital goods is involved, the supply of goods produced in the economic system will be less, and prices higher, and will be so progressively insofar as a permanent fall in the relative demand for and production of capital goods is present. The essential point here is that wage earners as a group must suffer as the result of forced improvements in working conditions.
7. The Employment of Women and Minorities
The productivity theory of wages provides the analytical framework necessary for understanding the economic effects of the employment of women and minorities under the freedom of competition.
A large segment of public opinion fears such employment on the grounds that it causes unemployment of white-male workers and reduces the wages of white-male workers. 144 It should already be understood that to the extent that the competition of women and minority-group members succeeds in reducing the wages of white-male workers, it does not result in unemployment. On the contrary, it enables any given aggregate demand for labor to employ a larger total number of workers, and thus enables the women and minority-group members to work alongside the white-male workers. In a free labor market, absolutely no unemployment need result from the employment of women or minority-group members.
The productivity theory of wages also shows that the fall in the money wages of the white-male workers that follows from free competition does not mean a fall in their real wages. The larger supply of goods resulting from the employment of the women and minority-group members means lower prices. (The lower wages that result also mean lower costs of production.) If the productivity of labor remains the same, the increase in output is precisely in proportion to the increase in the supply of labor employed. And thus, given constant aggregate demands for labor and goods, the fall in prices is fully in proportion to the fall in wages.
If this were all that happened, every married couple would certainly have a considerable gain as the result of the wife going to work. The fall in wages of the husband would be compensated for by the wages earned by the wife, and at the same time prices would fall, so that the actual buying power of the couple would rise. To illustrate this point, imagine that all workers are married and that initially no married women work. Now imagine that all married women work. Thus, the number of workers employed is doubled, and the average money wage per worker is halved. But production too is doubled and prices fall in half. The position of the average couple would be that it earned the same money income and bought at half the prices. Its real income would be doubled.
664 CAPITALISM
The actual fact is, however, that the free competition of women and minority-group members, just like the free competition of immigrants, must ultimately operate to raise the average productivity of labor, because it means the presence in the productive system of a larger absolute amount of talent. If there are women and minority-group members with the potential to be better foremen or company vice presidents, and so on, than some of the white males holding these jobs, then the effect of their obtaining them under free competition must be to raise the productivity of the workers under them. If the absolute number of productive geniuses is increased in proportion to the employment of women and minority-group members, or even if it is increased only half or a quarter as much, there must be a substantial rise in the average productivity of labor. This is the operation of the pyramid of ability principle. 145
Thus, under the freedom of competition, the employment of women and minority-group members is actually to be welcomed from the point of view of the material self-interests of white male workers.
It must be stressed, however, that this conclusion applies only under the freedom of competition. It does not apply insofar as minimum-wage and prounion legislation result in a freezing of the overall number of jobs available. Nor does it apply insofar as a system of sexual, racial, or ethnic quotas favors the advancement of less-able women and minority-group members over more-able white male workers. In such conditions, all of the negative results of violations of the freedom of competition are to be found, namely, unemployment, a reduced productivity of labor, and group conflict.
8. The Productivity Theory of Wages and the
Wages-Fund Doctrine
The productivity theory of wages incorporates essential features of the classical economists’ doctrine of the “wages-fund.” As result, it is necessary to explain the wages-fund doctrine and to answer the unjustified criticisms that served to bring it down in the last century and which could otherwise now be directed against the productivity theory as well.
The wages-fund is simply what we have been calling the aggregate demand for labor, i.e., total payrolls. The classical economists recognized it, together with the supply of labor, as determining the level of average wage rates. They also recognized that the demand for consumers’ goods is separate and distinct from the demand for labor, and that the prices of consumers’ goods are determined by the demand for consumers’ goods together with the supply of consumers’ goods. 146 Indeed, Cairnes, the last major classical economist, was able to go so far as to recognize explicitly that “real wages will advance with the productiveness of industry in producing such real wages—in producing, that is to say, the commodities of the laborer’s consumption.” 147 Nevertheless, the classical economists never succeeded in developing the wages-fund doctrine into the productivity theory of wages. They did not so much as get to the point of carrying out the analysis I presented in Section 2 of this Chapter-part, let alone systematically apply to the determination of the productivity of labor and real wage rates the further critical elements of the theory that I presented in Sections 3 – 6. 148
The explanation is that they were generally pessimistic concerning the prospects for wage earners, mainly because of their failure to realize that a division-of-labor, capitalist society is able to overcome the operation of the law of diminishing returns. 149 As a result, they did not see much potential for a rise in the productivity of labor, and thus did not give much consideration to its ability to raise real wages. Cairnes himself wrote, as late as 1874, “Nothing is more certain than that taking the whole field of labor, real wages in Great Britain will never rise to the standard of remuneration now prevailing in new countries—a standard which after all would form but a sorry consummation as the final goal of improvement for the masses of mankind.” 150
Because, as I say, the productivity theory of wages incorporates essential features of the wages-fund doctrine, it is necessary to deal with the objection that is certain to be raised against it, which is that the wages-fund doctrine was refuted in the nineteenth century. Both the substance of the arguments raised against the wages-fund doctrine and the basis for the conviction that it was refuted can be found in the quotation from John Stuart Mill that appears below. For most of his life, Mill had been a leading supporter of the doctrine, but in these famous passages he recants his previous support. Mill’s recantation, given his eminent status as the intellectual leader of classical economics in his day, was immediately seized upon as constituting an irrefutable and irrevocable overthrow of the doctrine. Mill writes:
It will be said . . . supply and demand do entirely govern the price obtained for labour. The demand for labour consists of the whole circulating capital of the country, including what is paid in wages for unproductive labour. The supply is the whole labouring population. If the supply is in excess of what the capital can at present employ, wages must fall. If the labourers are all employed, and there is a surplus of capital still unused, wages will rise. This series of deductions is generally received as incontrovertible.
They are found, I presume, in every systematic treatise on
political economy, my own certainly included. I must plead guilty to having, along with the world in general, accepted the theory without the qualifications and limitations necessary to make it admissible.
THE PRODUCTIVITY THEORY OF WAGES 665
The theory rests on what may be called the doctrine of the wages fund. There is supposed to be, at any given instant, a sum of wealth, which is unconditionally devoted to the payment of wages of labour. This sum is not regarded as unalterable, for it is augmented by saving, and increases with the progress of wealth; but it is reasoned upon as at any given moment a predetermined amount. More than that amount it is assumed that the wages-receiving class cannot possibly divide among them; that amount, and no less, they cannot but obtain. So that, the sum to be divided being fixed, the wages of each depend solely on the divisor, the number of participants. . . .
But is there such a thing as a wages-fund, in the sense here implied? Exists there any fixed amount which and neither more nor less than which, is destined to be expended in wages?
Of course there is an impassable limit to the amount which can be so expended; it cannot exceed the aggregate means of the employing classes. It cannot come up to those means; for the employers have also to maintain themselves and their families. But, short of this limit, it is not, in any sense of the word, a fixed amount.
In the common theory, the order of ideas is this: The capitalist’s pecuniary means consist of two parts—his capital, and his profits or income. His capital is what he starts with at the beginning of the year, or when he commences some round of business operations; his income he does not receive until the end of the year, or until the round of operations is completed. His capital, except such part as is fixed in buildings and machinery, or laid out in materials, is what he has got to pay wages with. He cannot pay them out of his income, for he has not yet received it. When he does receive it, he may lay by a portion to add to his capital, and as such it will become part of next year’s wages-fund, but has nothing to do with this year’s.
This distinction, however, between the relation of the capitalist to his capital, and his relation to his income is wholly imaginary. He starts at the commencement with the whole of his accumulated means, all of which is potentially capital: and out of this he advances his personal and family expenses, exactly as he advances the wages of his labourers. . . . If we choose to call the whole of what he possesses applicable to the payment of wages, the wages-fund, that fund is coextensive with the whole proceeds of his business, after keeping up his machinery, buildings and materials, and feeding his family; and it is expended jointly upon himself and his labourers. The less he expends on the one, the more may be expended on the other, and vice versa. The price of labour, instead of being determined by the division of the proceeds between the employer and the labourers, determines it. If he gets his labour cheaper, he can afford to spend more upon himself. If he has to pay more for labour, the additional payment comes out of his own income; perhaps from the part which he would have saved and added to capital, thus anticipating his voluntary economy by a compulsory one; perhaps from what he would have expended on his private wants or pleasures. There is no law of nature making it inherently impossible for wages to rise to the point of absorbing not only the funds which he had intended to devote to carrying on his business, but the whole of what he allows for his private expenses, beyond the necessaries of life. The real limit to the rise is the practical consideration, how much would ruin him or drive him to abandon the business: not the inexorable limits of the wages-fund.
In short, there is abstractedly available for the payment of wages, before an absolute limit is reached, not only the employer’s capital, but the whole of what can possibly be retrenched from his personal expenditure: and the law of wages, on the side of demand, amounts only to the obvious proposition, that the employers cannot pay away in wages what they have not got. On the side of supply, the law as laid down by economists remains intact. The more numerous the competitors for employment, the lower, ceteris paribus, will wages. . . .
But though the population principle and its consequences are in no way touched by anything that Mr. Thornton has advanced, in another of its bearings the labour question, considered as one of mere economics, assumes a materially changed aspect. The doctrine hitherto taught by all or most economists (including myself), which denied it to be possible that trade combinations can raise wages, or which limited their operations in that respect to the somewhat earlier attainment of a rise which the competition of the market would have produced without them,—this doctrine is deprived of its scientific foundation, and must be thrown aside. The right and wrong of the proceedings of Trade Unions becomes a common question of prudence and social duty, not one which is peremptorily decided by unbending necessities of political economy. 151
It should be obvious that the whole basis of Mill’s recantation is demolished by our analysis in Section 5 of the present part of this chapter. There we examined the ability of the demand for labor to increase at the expense of net consumption (viz., the personal consumption expenditure of the businessmen and capitalists) or at the expense of the demand for capital goods. We saw that the ability of the demand for labor to increase at the expense of net consumption is extremely limited and, moreover, cannot be forced. We also saw that an increase in the demand for labor coming at the expense of the demand for capital goods is against the longrun self-interests of the wage earners.
Thus, the fact remains that the only possible basis of a sustained, significant rise in average real wages is a rise in the productivity of labor and that this depends on the economic degree of capitalism and the productivity of capital goods (which depends on technological progress), both of which, in turn, depend on economic freedom—i.e., capitalism in the political sense—and the cultural influence of rationality. We have seen, and will see further, that all the essential tenets of classical economics in general and the wages-fund doctrine in particular concerning the role of saving in determining
666 CAPITALISM both capital accumulation and the demand for labor are absolutely correct. The fact remains, despite Mill’s socialistic inclinations, that capitalism, not government intervention and socialism, is the only possible basis of a high and rising standard of living for the average worker.
9. The Productivity Theory of Wages Versus the Marginal-Productivity Theory of Wages
The productivity theory of wages should not be confused with the similarly named marginal-productivity theory of wages. The marginal-productivity theory begins with the premise that the value of factors of production (whether labor, land, materials, machinery, or capital in the abstract) is derived in every case from the value of the product produced—for example, that the value of flour is derived from the value of bread, and the value of wheat from that of flour. It rests on the further assumption that it is possible to determine a physical product that is uniquely attributable to a factor of production in every given case. It then takes the monetary value of that physical product and calls it the marginal-value product of the factor of production.
The reason for the use of the word “marginal” is that the theory is concerned with the determination of the physical and value products of incremental quantities of factors of production. For example, it seeks to determine the number of bushels of wheat that are attributable to the employment, say, of a tenth farm worker, all other conditions remaining the same. It arrives at such a determination by taking the difference between what is produced, all other things being equal, with the presence of that worker, and what is produced without him (assuming that it is actually possible to do this). If, for example, 10 workers on a given farm, with given equipment, produce 1,000 bushels of wheat per year, while 9 workers on the same farm, with the same equipment, produce only 925 bushels of wheat per year, it is said that the tenth farm worker is responsible for the production of 75 bushels of wheat. Seventy-five bushels of wheat are held to be the marginal-physical product of labor on this wheat farm, given the employment of ten workers on the farm. The marginal-value product of labor is then held to be determined by multiplying the marginal-physical product by the price of wheat. If that price is, say, $1 per bushel, then, it is held, the marginal-value product of a worker is $75.
The wages of every given type of labor, and the price of every material, semi-finished good, piece of equipment, land site, and so forth, is held to be determined by the combination of a schedule of diminishing marginal-value products, which allegedly represents the demand for the factor of production, and the supply of the factor of production in question. The wage of every worker and the price of every nonhuman factor of production, it is held, tends to equal the marginal-value product corresponding to the quantity of the factor of production that is used in production. Thus, if the supply of farm labor is such that production on a farm will be carried to the point of using ten workers, the wages of those workers will be $75 each. If the supply of such labor were less, the wages of those workers would be greater; if it were greater, the wages of those workers would be less. 152
The productivity theory of wages, in contrast, takes a different view. It is fully compatible with the recognition given by Austrian economics to the fact that the importance of means derives from the importance of the ends which they serve, and thus that ultimately the value of factors of production must derive from the value of the products they produce. However, it does not hold that in each and every individual case this is so. The productivity theory of wages recognizes that in many, indeed, probably the great majority of individual cases, it is simply not possible to establish a marginal-physical product that could be relevant to the determination of the actual value of factors of production.
Even in such a rather simple and contrived case as that of wheat farmers, a serious problem can arise. For example, what if while the output of 10 workers on the farm is 1,000 bushels, that of 9 workers is only 875 bushels? In this case, the marginal-physical product of the tenth worker would be 125 bushels of wheat. If each of the 10 farm workers is to be paid in accordance with the principle of marginal productivity, the total wages paid would exceed the value of the product produced. They would be 10 times 125, or 1250, times the price of the product. Nothing whatever would be left for profit or even to allow for the value of other factors of production.
This kind of problem can be sidestepped so long as the discussion is confined to cases like wheat farming. This is because in such cases the answer can be made that a factor of production will be used in a zone of diminishing returns. Farm workers will be employed to the point where the marginal-physical product of the last one will be low enough so that the payment of wages is not so great as to leave nothing over for the value of the other factors of production and for profit. This is the answer given by Rothbard, for example. 153 However, even in such cases as farm workers, this answer is dubious, if the assumption is to be maintained that all other things are truly equal. For then, it is quite possible that one less worker means that some important piece of equipment must lie idle, thereby causing a sharp drop in production.
The problems become even more obvious if we apply the methodology of the marginal-productivity theory to materials and components, which must be done insofar
THE PRODUCTIVITY as the value of labor is allegedly derived through the intermediary value of materials or components. Thus, the marginal-productivity theory implies that the price of automobile parts, for example, is determined on the basis of the portion of an automobile’s utility that is lost if the part in question is not present. In a case of this kind it is glaringly obvious that the sum of the value of the parts would end up far exceeding the value of the product, if the marginal-productivity theory were correct. This is because if one asks how much of a car’s utility or value depends on its having a steering wheel, any one of its four wheels, or accelerator pedal, fuel pump, carburetor, and so on, the answer, over and over again, is the whole value, or at least the far greater part of the value, of the automobile. In the same way, the utility of a television set, or virtually any product, vitally depends on the presence and functioning of a number of parts. In all such cases, if the value of the parts is to be determined by the loss of utility of the product that follows from the absence of the part, the sum of the values of the parts must far exceed the value of the product.
As I showed in Chapter 10, the truth is that in such cases the value of the parts is not derived from the value of the product. On the contrary, the value of the parts, and, as a rule, the value of the product itself, is determined on the basis of cost of production. For example, even though the whole utility of an automobile depends on the functioning of its carburetor, one virtually never has to pay a price for a carburetor corresponding to its contribution to the utility of an automobile. One pays the far lower price corresponding to the cost of producing the carburetor. And the price of the automobile itself is, as a rule, actually determined on the basis of the prices of the components, machinery, and so forth together with the wages that must be paid in order to produce it—i.e., on the basis of its cost of production. The truth is that in the great majority of cases, including all the cases of materials, components, and parts, the buyer does not pay a price that comes up to the utility of the particular product in question, but a far lower price, determined on the basis of the product’s cost of production. Although it may seem paradoxical, this fact represents the actual operation of the principle of marginal utility, which itself implies that in the first instance the prices of most products are determined on the basis of their cost of production. 154
The productivity theory of wages, as opposed to the marginal-productivity theory of wages, regards wages and the productivity of labor as the fundamental determinants of costs of production, including the prices of materials, components, and machinery, and, by way of determining costs of production, as the determinants of the prices of consumers’ goods in most cases. It regards
THEORY OF WAGES 667 wage rates themselves, however, (and the prices of land and of raw materials whose supply cannot be quickly adapted to changes in demand) as reflecting the valuations of the consumers of the final products.
But even in stating this last proposition, one must be careful not to concede too much to the role of consumer demand. As I will conclusively demonstrate in the next chapter, the demand for most labor in the economic system is constituted by productive expenditure—that is, expenditure by business enterprises for the purpose of producing products for sale. It comes out of capital, which has had to be saved, not out of consumption expenditure. Given the quantity of money, and thus the total, overall ability to spend, the demand for labor employed by business enterprises varies inversely with consumption expenditure, not directly. The influence of the consumers on wages is basically that of determining the relative wages of different groups of workers—above all, the wages of skilled workers relative to those of unskilled workers, and the wages of professional-level workers relative to those of these two groups. And the same applies to the influence of consumer demand on the prices of land and raw materials. The actual causal sequence is that consumer demand determines the prices of the fundamental factors of production relative to one another and these prices in turn then help to determine the prices of most products, including most consumers’ goods, relative to one another. (Those products whose value is not determined in this way are determined in value on the basis of their own, direct marginal utility.) 155 The value of means of production is most certainly not derived from the value of the products on a case-by-case basis.
Aside from its naïveté in assuming such derivation, the marginal-productivity theory of wages suffers from the further serious defect of placing the emphasis on the income a worker earns, to the neglect of the prices he must pay for the goods he buys. A sound theory of wages must, as I have shown, concentrate not merely on what determines the money wages of the average worker, but on what determines the relationship between those wages and the price of goods. This the socalled marginal-productivity theory of wages totally neglects, in addition to failing in the attempt to explain money wage rates.
The Productivity Theory of Wages and the
Effect of Diminishing Returns
The marginal-productivity theory of wages is valuable in one respect, namely, that it calls attention to the law of diminishing returns and to the fact that its operation has an important bearing on real wage rates. Here I will incorporate the operation of the law of diminishing returns into the productivity theory of wages. I have
668 CAPITALISM largely neglected to do this up to now, because, apart from explaining why capital accumulation would come to an end in the face of the operation of the law of diminishing returns not offset by technological progress, I have gone on the assumption of continuous technological progress—technological progress caused in part by the increase in the supply of labor itself. 156
In the absence of technological progress and the capital accumulation it makes possible, a doubling of the supply of labor results in less than a doubling of the supply of consumers’ goods—for the sake of illustration, let us say 1.9 times the supply of consumers’ goods. Thus the second half of the now larger supply of labor adds an output of consumers’ goods of only .9 times the original output. Because both halves of the now larger supply of labor are interchangeable, each of the two halves of the now larger supply of labor will end up with real wages of .9 times the original real wages. Thus, the original workers will experience a 10 percent decline in their real wages. This 10 percent decline in the original amount of real wages represents an equivalent increase in “rents” in the economic system. This is because the inability of production to double is the result of the greater scarcity of land and natural resources, the real income derived from which, and the real value of which, accordingly increases. (Strictly speaking, along with the 10 percent decline in the real wages of the original workers, businessmen and capitalists will experience a 10 percent decline in their real profits and interest derived from investments other than in land or natural resources.)
In terms of money, if the demand for consumers’ goods were originally 500 units of money, then in the absence of an increase in the quantity of money, it would tend to remain at 500 units of money. Thus, prices would fall in the inverse ratio of the increase in the supply of consumers’ goods, namely, to 10 ⁄ 19 their original height. If the demand for labor were originally 400 units of money and remained at 400 units of money, the wage earners would be worse off because the doubling of the supply of labor would imply a halving of wage rates, while prices fell by less than half, to 10 ⁄ 19 . However, under these assumptions they would be worse off only on the order of 5 percent, namely half the money wage rate divided by 10 ⁄ 19 the price level, which equals a real wage of 19 ⁄ 20 , i.e., a real wage that is 1 ⁄ 20 or 5 percent less. What the marginal productivity theory helps to stress is that real wages in such a case would not fall merely by 5 percent but by 10 percent, that is, in proportion to the fall in the marginal productivity of labor, which is as .9 to 1. What makes real wages fall this much in the analysis of the productivity theory of wages is that a fall takes place in the demand for labor on the order of 5 percent. Thus the average money wage rate falls by more than half, which, when combined with the fall in prices of less than half, adds up to a fall in average real wages of 10 percent.
What makes the demand for labor fall is a rise in the funds absorbed in connection with “rents” for land and natural resources. In an economic system such as our own, in which the literal renting of land and natural resource deposits plays a minor role, the absorption of funds in connection with such “rents” should be thought of ultimately in terms of a rise in the magnitude of net consumption attendant on the rise in the capitalized value of the land and natural resources. Thus, under the operation of the law of diminishing returns and an invariable money, when the supply of labor increases, wage rates decrease not only because of a larger supply of labor but also because of a smaller demand for labor, as funds are shifted away from the demand for labor, first to bidding up the capitalized value of land and natural resources and then to greater net consumption based on such greater capitalized values. Prices, of course, fall by less than wage rates on two counts: the fact that the supply of goods increases by less than the supply of labor, and the fact that the demand for labor falls.
This analysis, of course, has bearing on the destructive effects of environmentalism. It shows that policies of prohibiting or restricting the application of technological advances to land and natural resources must serve to reduce real wage rates in part by reducing the demand for labor as well as by means of holding down the increase in the supply of consumers’ goods. 157
THE PRODUCTIVITY
THEORY OF WAGES 669
Notes
1. See above, p. 32.
2. See above, pp. 475–485.
3. See above, pp. 497–498.
4. On Say’s Law, see above, pp. 559–580. 5. On these subjects, see below, pp. 622–642 passim, and 664–666.
6. See above, pp. 478–480 and 486–491. 7. For these statements, see above, pp. 487–490. 8. Cf. Karl Marx, Capital, trans. from 3d German ed. by Samuel Moore and Edward Aveling; Frederick Engels, ed.; rev. and amplified according to the 4th German ed. by Ernest Untermann (New York: 1906), vol. 1, pt. 1, chap. 1; (reprinted, New York: Random House, The Modern Library), p. 45. Hereafter this work will be cited as Capital, vol. 1. References to the Modern Library Edition will appear in brackets. 9. Ibid. [p. 46].
10. Ibid. The sentence in quotation marks is from an earlier work by Marx himself.
11. Ibid., sec. 2 [pp. 51–52].
12. Ibid., sec. 3, pt. A, subsec. 2(b) [p. 61]. 13. Ibid., pt. C, subsec. 1 [p. 77].
14. Ibid., chap. 2 [p. 103].
15. See above, pp. 477–478.
16. Marx, Capital, vol. 1, pt. 3, chap. 8 [p. 227]. 17. Ibid. [p. 229].
18. Ibid. [pp. 231–232].
19. Ibid. [pp. 232–233].
20. The profits should be taken as gross of interest or any other nonwage income.
21. Marx, Capital, vol. 1, pt. 2, chap. 6 [pp. 187–188]. 22. Ibid. [pp. 191–192].
23. Ibid. [p. 190].
24. See above, pp. 491–493.
25. Marx, Capital, vol. 1, pt. 3, chap. 10, sec. 5 [pp. 291–292]. 26. The Communist Manifesto, trans. Samuel Moore, chap. 2; (1848; reprint ed. Chicago: Henry Regnery Company, Gateway, 1954), p. 43. Subsequent page references to the Gateway Edition appear in brackets.
27. Capital, vol. 1, pt. 7, chap. 24, sec. 4 [pp. 658–659]. 28. Ibid., pt. 3, chap. 9, sec. 1 [pp. 239–241]. 29. Ibid. chap. 7, sec. 2 [pp. 215–216]. 30. Cf. ibid., chap. 7, sec. 2 [pp. 208–218], and chap. 8 [pp. 221–226].
31. Ibid., chap. 7, sec. 2 [p. 217].
32. Cf. The Communist Manifesto, chap. 1 [pp. 13–15]. 33. Ibid., chap. 2 [p. 50], chap. 4 [p. 82]. 34. Capital, vol. 1, pt. 4, chap. 12 [pp. 350–351]. 35. The Communist Manifesto, chap. 1 [pp. 37–38]. 36. Capital, vol. 1, pt. 3, chap. 10, sec. 1 [p. 257]. 37. Ibid., sec. 2 [p. 260].
38. Karl Marx, Capital, 3 vols. (Moscow: Foreign Languages Publishing House, 1962), 3:207–208. 39. Cf. ibid., pp. 227, 230.
40. Ibid., p. 234.
41. Capital, vol. 1, pt. 3, chap. 10, sec. 5 [pp. 290–291]. 42. Ibid., pt. 4, chap. 15, sec. 3, subsec. a [pp. 431–432]. 43. Cf. ibid., subsec. c, especially the reference to “the increased yield of relative surplus-value through the heightened
productiveness of labour” [pp. 447–449, especially p. 448]. 44. Ibid.
45. Ibid., pt. 7, chap. 24, sec. 4 [pp. 658–659].
46. See Eugen von Böhm-Bawerk, Capital and Interest, 3 vols., trans. George D. Huncke and Hans F. Sennholz (South Holland, Ill.: Libertarian Press, 1959), 2:245. See also above, pp. 162– 163.
47. On the treatment of labor as existing in a given delimited supply, see above, pp. 201–202 and 206–209.
48. See above, pp. 204–205.
49. See above, p. 206.
50. On this point, see above, p. 59. See also above, pp. 63–70. 51. On the scarcity of labor, see above, pp. 42–45 and 58–61. 52. Although the diagram indicates that with a below-market wage, labor would be lost only by marginal employers—employers in the upper zone—the labor lost could actually be on the part of employers willing and able to pay even more than employers in the upper zone: employers having the most vital and urgent need for labor combined with the greatest ability to pay for labor. In this connection, one should recall the fact that under price controls on oil, the resulting shortage threatened the most vital and urgent uses for oil, such as the continued operation of oil rigs. On this point, see above, p. 211.
53. See above, pp. 584–585.
54. In individual cases, of course, real wages may be reduced. But to that extent, they are increased all the more elsewhere. 55. See above, pp. 584–585.
56. See above, ibid.
57. Evidence for this conclusion is provided by the relatively low rates of interest prevailing in Great Britain and the United States since that time, at least when the influence of inflation, taxation, and budget deficits is put to the side. For an explanation of why low rates of interest indicate a low proportion of total consumption on the part of businessmen and capitalists and a correspondingly high proportion on the part of wage earners, see below, pp. 725–744.
58. The concept of the “economic degree of capitalism” was introduced above, on pp. 478–480.
59. Passenger automobiles produced for rental car fleets, of course, are capital goods. By the same token, trucks produced for a government’s post office are consumers’ goods. On these points, see above, pp. 444–446.
60. For a discussion of the uniformity-of-profit principle, see above, pp. 172–173.
61. See above, pp. 132–133.
62. Most of the major elements of my analytical framework can be found in James Mill’s remarkable essay Commerce Defended (London, 1808); reprinted in James Mill Selected Economic Writings, ed. Donald Winch (Chicago: University of Chicago Press, 1966) especially pp. 128–131. See also above, pp. 132–133.
63. The ratio of accumulated savings to total sales revenues, wage payments, and consumption expenditures is also of importance in the process of capital accumulation inasmuch as these ratios are largely measures of the degree of capital intensiveness in the economic system. On the significance of capital intensiveness, see below, pp. 631–632. See also below, p. 824.
64. For elaboration of this point and for the pattern of bringing
the analysis closer to the complexities of actual reality, see below, pp. 641–642.
65. See above, pp. 69–70.
66. For an explanation of what is responsible for the failure to see the role of technological progress in capital accumulation and the belief that saving alone is the source of capital accumulation, see below, p. 709.
67. For a critique of the secular-stagnation doctrine, see above, pp. 556–558.
68. Paul Samuelson and William Nordhaus, Economics, 13th ed. (New York: McGraw-Hill Book Company, 1989), pp. 858– 859.
69. Ibid., pp. 864, 967.
70. For further discussion of the error of not perceiving the role of technological progress as a cause of capital accumulation and of understating the role of capital accumulation in economic progress, see below, pp. 776–778. There it will be shown that this error is present in the work of Robert Solow, the leading economic theorist of the Clinton administration, who, ironically enough, has been lauded for his alleged contributions in this area. See also below, p. 709.
71. More broadly, as pointed out earlier in this chapter in n. 63, it can be conceived of as the ratio of the total of accumulated savings relative to any of these magnitudes. Accumulated savings embrace both the value of capital in the strict sense of wealth reproductively employed and savings lent at interest to finance the purchase of consumers’ wealth such as homes and personal automobiles. (On this subject, see above, pp. 449– 450.) In addition, capital intensiveness can be conceived of in terms of the ratio of the total value of accumulated capital (or accumulated savings) to national income and net national product, both of which differ relatively little from aggregate consumption expenditure. For examples of such usage, see above, pp. 302 and 364, and below, pp. 759–762. See also below, pp. 699–706 and 712, which provide a demonstration both of the equality of national income and net national product and of their inherent closeness to consumption.
72. For elaboration of the role of the economic degree of capitalism and the degree of capital intensiveness in determining the ability to implement technological advances, see below, p. 824.
73. To see how the economic degree of capitalism underlies the degree of capital intensiveness, see below, pp. 725–762, which show how net consumption and productive expenditure bear on the degree of capital intensiveness. Net consumption, it will be clear, is equivalent to the difference between M and M′ in the context of an invariable money.
74. For elaboration of this point, see below, pp. 682–699. 75. See above, p. 132.
76. David Ricardo, Principles of Political Economy and Taxation, 3d ed. (London, 1821), chap. 20; reprinted as vol. 1 of The Works and Correspondence of David Ricardo, ed. Piero Sraffa (Cambridge: Cambridge University Press, 1962), p. 279. Subsequent references to the Sraffa edition appear in brackets. For extensive quotations from Ricardo on the subject of capital accumulation, see below, pp. 819–820. See also, above, pp. 132–133.
77. See above, pp. 351–354 and 360–361.
78. On the contribution of free immigration to capital accumulation, see above, pp. 363–364. On the contribution to capital accumulation made by the freedom of capital export, which is closely related to the freedom of immigration, see above, pp. 366–367.
79. See above, pp. 132–133.
80. Cf. above, pp. 298–299. There, the same conclusions reached in the present discussion of real wages are arrived at starting from the perspective of the benefit of private ownership of the means of production to nonowners of the means of production. 81. Concerning these last connections, see above, pp. 137–139. 82. On the uniformity-of-profit principle and its effects, see above, pp. 172–174 and 176–180. On the necessity of private ownership of the means of production for the existence of the price system, see the preceding note and, above, pp. 267–275 and 279–282.
83. See above, pp. 277–278.
84. See above, p. 299.
85. Cf. above, pp. 19–21.
86. Cf. Ludwig von Mises, Bureaucracy (1944; reprint ed., New Rochelle, N. Y.: Arlington House, 1969), pp. 13–14. 87. See above, pp. 98–99. The hampering of the energy industry is an example of the wider phenomenon of the environmental movement’s systematic thwarting of efforts to overcome the operation of the law of diminishing returns in agriculture and mining. On this point, see above, pp. 316–317.
88. See above, pp. 178–179.
89. On the subject of the undermining of capital formation by inflation, see below, pp. 930–937.
90. Concerning social security, see above, pp. 22–23.
91. See above, pp. 277–278.
92. Ricardo, Principles of Political Economy and Taxation, chap. 31 [p. 392]. See his whole discussion of the subject in the first portion of his chap. 31 [pp. 386–392].
93. Cf. Ricardo, Principles of Political Economy and Taxation, chap. 20 [pp. 273–288].
94. See above, p. 491. See also above, pp. 200–201.
95. See below, pp. 820–824 and 852–854.
96. Cf. T. S. Ashton, The Industrial Revolution (New York: Oxford University Press, 1969), pp. 8–9.
97. On these points, see T. S. Ashton, “The Standard of Life of the Workers in England, 1790–1830,” in F. A. Hayek, ed., Capitalism and the Historians (Chicago: University of Chicago Press, 1954).
98. Once more, see above, pp. 277–278.
99. Bertrand de Jouvenel, “The Treatment of Capitalism by Continental Intellectuals,” in F. A. Hayek, ed., Capitalism and the Historians, p. 102. While de Jouvenel’s essay clearly fails as a defense of capitalism, the same cannot be said, happily, of most of the other essays in the book, notably, the introductory essay by Hayek, the two by T. S. Ashton, and the one by W. H. Hutt. These essays refute in historical terms most of the popular myths held about early nineteenth-century capitalism in England.
100. In contrast to de Jouvenel, for an accurate description of matters, see Ayn Rand, “What Is Capitalism?” in Ayn Rand, ed., Capitalism: The Unknown Ideal (New York: New American Library, 1966), p. 21.
101. See above, pp. 561–564.
102. On this point, see above, pp. 584–585.
THE PRODUCTIVITY
103. See below, pp. 930–937.
104. See above, pp. 358–360.
105. See above, pp. 519–526.
106. See above, pp. 639–641.
107. On the role of the rate of return in limiting the degree of capital intensiveness, see below, p. 758. See also below, pp. 778–784. In connection with the operation of the law of diminishing returns, it should be realized that while the economic system as a whole can take for granted the availability of the same supply of labor, irrespective of almost any decrease in the demand for labor and increase in the demand for capital goods, the same is certainly not true for any individual firm. An individual firm that would spend less for labor and more for capital goods, would almost certainly lose a good portion of its workers to other firms, and thus would not be able to produce as much, despite its possession of more capital goods. Such considerations obviously greatly limit the demand for capital goods relative to the demand for labor.
108. Ricardo, Principles of Political Economy and Taxation, chap. 31 [pp. 392–393].
109. As we shall see, the same basic errors as Ricardo made on this subject are propounded in contemporary textbooks of economics in the form of the socalled balanced-budget multiplier doctrine. According to this doctrine, the government can raise the national income and the pretax income of the average citizen by virtue of raising taxes and its expenditures by an equal amount. See below, pp. 714–715.
110. For discussion of the concept of consumers’ labor and all other such categories, such as producers’ labor, and consumers’ goods and capital goods, see above, pp. 442–447.
111. See above, pp. 591–593.
112. See above, pp. 296–310 and pp. 622–642. See also below, pp. 737–744 and 826–831.
113. See above, pp. 300–301.
114. See above, pp. 308–310.
115. To the extent that the increase in demand for labor here is accompanied by an increase in the supply of labor employed by business, the rise in wage rates is less. But then, precisely because there is an increase in the supply of labor employed by business, there is an increase in the supply of consumers’ goods produced and sold and thus a corresponding fall in the general level of the prices of consumers’ goods. Thus, real wages still increase.
116. See above, pp. 569–570, and below, pp. 725–736.
117. See below, pp. 725–736, especially pp. 735–736, for an understanding of how a lower rate of net consumption results in a lower rate of profit.
118. Cf. U.S. Department of Commerce/Bureau of Economic Analysis, The National Income and Product Accounts of the United States, 1929–1976 Statistical Tables (Washington, D. C.: U.S. Government Printing Office, 1981), pp. 23–24, 34–36, 195–196; for subsequent years, cf. idem, Survey of Current Business, especially the July issues.
119. In Chapter 9, I argued that today the consumption expenditure of the significant-sized capitalists, namely, those with a capital of $2 million or more, is probably on the order of 5 percent of the total consumption of the economic system. (See above, pp. 302.) This is an amount that is less than 5 percent of national income to whatever extent saving out of income makes
THEORY OF WAGES 671 national income exceed consumption expenditure, which today is certainly not by very much. The excess of total private net consumption over the consumption expenditure of the significant-sized capitalists is accounted for by the consumption expenditure of all the smaller-sized capitalists, including, of course, wage earners in their capacity as savers who earn and consume interest.
120. See above, p. 301.
121. See above, pp. 298–300 and 636–639.
122. As the degree of capital intensiveness in the economic system increased in consequence of the reduced depredations made upon businessmen and capitalists and their ability to save, private net consumption would show a tendency to rise (not in its rate, but simply in its absolute amount) thanks to the resulting increase in accumulated capital. To properly understand the significance of this development, one should think of it simply as the undoing of the decline in the degree of capital intensiveness of the economic system that I described in Chapter 9 as having accompanied the forcible reduction in the personal consumption of significant-sized capitalists from something on the order of 10 percent of total consumption to something on the order of 5 percent of total consumption. (See above, p. 302.) Of course, even with the restoration of private net consumption, both the distribution factor and the demand for capital goods relative to the demand for consumers’ goods would continue to be substantially higher than under the policy of government depredations and spending. It would be a question of total private net consumption increasing perhaps from its present level of about 7.5 percent of national income to about 15 percent of national income. Over the same period of time, the government’s taxation of profits and interest would have fallen by approximately twice as much, leaving the difference to constitute a permanent increase in the demand for capital goods and labor by business. A further substantial permanent increase in the demand for capital goods and labor by business would result from the elimination of government budget deficits, inasmuch as the government’s reduced consumption and borrowing would be accompanied by correspondingly more funds being made available to business firms with which to buy capital goods and pay wages.
123. It should be realized that only insofar as the rise in demand for labor serves directly or indirectly to raise wage rates relative to profit incomes can it serve as the basis for inducing non– wage earners to become wage earners.
124. See above, pp. 621–622.
125. See above, pp. 296–303.
126. See above, pp. 296–310 and 618–642.
127. Cf. Ludwig von Mises, Human Action, 3d ed. rev. (Chicago: Henry Regnery Co., 1966), pp. 840–851.
128. See above, pp. 308–310 and 618–642.
129. For elaboration of the following analysis, see my article “Are Profits Available for the Payment of Additional Wages?,” Il Politico 29, no. 3 (June 1964), pp. 564–572.
130. See above, pp. 300–301.
131. See above, pp. 647–648.
132. See below, pp. 762–767. The present discussion presupposes knowledge of relationships that are not fully demonstrated until the first part of Chapter 16. Thus, to be fully clear, it should probably be reread after reading pp. 719–787.
133. The call for such a double payment was implicit in the previous example, inasmuch as all of the profit of $600,000 already had its counterpart in spending for capital goods or labor.
134. Under a commodity money standard, as a by-product of this process, it also reduces the rate of increase in the supply of commodity money, which reduces both the nominal rate of profit and the rise in nominal, that is, money, wages.
135. See above, pp. 561–564.
136. See above, pp. 367–371.
137. It should be realized that unions cause lower wage rates or unemployment in complementary fields, by means of reducing the demand for the services of those fields. For example, when a carpenters’ union secures higher wage rates for carpenters, it thereby increases the construction cost and thus the price of houses. This reduces the quantity demanded of houses and thus the demand for the services of plumbers, electricians, workers who produce wallboard, and so on. These groups of workers must then either suffer unemployment or accept lower wage rates as the result of the carpenters’ union-imposed wage increase.
138. Less is produced insofar as the supply of goods consumers want more is held down while the supply of goods they want less is increased. Less is also produced insofar as union restrictions lead to imbalances in the supply of various complementary means of production.
139. See Henry Hazlitt, Economics in One Lesson, new ed. (New Rochelle, N. Y.: Arlington House, 1979), chap. 8. 140. See above, pp. 375–376 and 382–384.
141. See above, pp. 355–356.
142. See above, pp. 382–383.
143. For an historical account of the destructive effects of child-labor legislation, see Robert Hessen, “The Effects of the Industrial Revolution on Women and Children” in Ayn Rand, ed., Capitalism: The Unknown Ideal.
144. See above, pp. 548–549.
145. See above, pp. 357–367 passim.
146. Cf. John Stuart Mill, Principles of Political Economy, Ashley ed. (1909; reprint ed., Fairfield, N. J.: Augustus M. Kelley, 1976), pp. 343–344, 79–88; John E. Cairnes, Some Leading Principles of Political Economy Newly Expounded (1874; reprint ed., Fairfield, N. J.: Augustus M. Kelley, 1974), pp. 149–213; James Mill, Elements of Political Economy, 3d ed., rev. and cor. (1844; reprint ed., Fairfield, N. J.: Augustus M. Kelley 1965), pp. 131–135.
147. Cairnes, Political Economy, p. 282.
148. This is not to say that the classical economists were unaware of those elements. On the contrary, my analysis of capital accumulation as being determined both by the relative demand for capital goods and by the productivity of capital goods is based largely on their writings. See above, p. 669, n. 62, and the quotation from Ricardo on p. 634, earlier in this chapter . See also below, pp. 819–820.
149. Cf. above, pp. 491–497.
150. Cairnes, Political Economy, p. 283.
151. Cf. John Stuart Mill, Principles, pp. 992–993, where these passages appear as the entire quoted content of “Bibliographic Appendix O.”
152. For a typical textbook presentation of the theory, see Samuelson and Nordhaus, Economics, 13th ed., chap. 27. 153. See Murray N. Rothbard, Man, Economy, and State, 2 vols. (New York: D. Van Nostrand & Co., 1962), 1:406–408. 154. Cf. above, pp. 200–201 and 206–209. Also cf. the lengthy quotation from Böhm-Bawerk on this point, on pp. 414–416. 155. See above, pp. 201–202 and 206–209.
156. However, see above, the preceding page, n. 107, where I indicate that the law of diminishing returns plays a major role in determining the allocation of capital between the demand for labor and the demand for capital goods.
157. Cf. above, pp. 316–317.
Capitalism: A Treatise on Economics
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