February 7, 2010

Profit, Wages, and Capitalists

Perhaps one of the most influential and popular economic theories over the past century has been the theory of exploitation. The theory, which found its footing, ironically, in the writings of Adam Smith, was mostly promoted by the writings of Karl Marx. The exploitation theory laid the groundwork for the more recent theories of Keynes and the overall prevalence of socialist economic policies in our society.
According to the exploitation theory, capitalism promotes a system of slavery wherein the labor of workers is exploited to attain profits on behalf of the relatively few businessman or capitalists. These capitalists are seen as parasites upon the masses. Never mind the steady increase in the standard of living and working conditions. If it weren't for government intervention and labor unions, we would all still be working for $1 per day and dying of black lung.
George Reisman* explains the framework of the labor theory of value, one of the main aspects of the exploitation theory:
This framework is the belief that wages are the original and primary form of income, from which profits and all other non-wage incomes emerge as a deduction with the coming of capitalism and businessmen and capitalists. The framework easily leads to the assertion of the wage earner’s right to the whole produce or to its full value. It itself is based on the further belief that all income which is due to the performance of labor is wages and that all who work are wage earners.
In order to illustrate this assertion, let us imagine a pre-capitalist economy, if there ever was such a thing. In this economy, each person is the sole producer of any given commodity. Thus, each person would sell his or her commodity for a price. According to this theory, all income received in this economy is supposed to be wages, not profit, because all income is received by workers. The conclusion Marx made from this theory is that profit did not exist before capitalism because all income was wages. Thus, the advent of capitalism brought profit, at the expense of the wages of the laborer.
Marx says that in this pre-capitalist economy, production follows the sequence C-M-C. That is, a worker produces a commodity (C), sells it for money (M), and then buys other commodities (C). Here there is no exploitation because there is no supposed profit; all income is wages. Profit, or surplus value, comes about with capitalism which follows the sequence M-C-M. The capitalist spends money to pay for materials, machinery, and wages, a commodity is produced, and the commodity is sold for a larger sum of money than it cost to produce. The difference is profit.
Many non-Marxist economists actually ascribe to this framework but reach differing conclusions about profit based on the law marginal utility and time preference. These arguments are valuable, but they miss the point: the framework itself is flawed and needs to be re-evaluated. The definitions of the terms profit, wages, and capitalist themselves serve in restructuring the idea of a proto-capitalist economy.
  • Profit is the surplus in money received from the sale of commodities over the money costs of producing them
  • A capitalist buys products in order to sell them at a profit
  • Wages are money received in exchange for the performance of labor--not the products of labor, but the labor itself
It follows from these definitions that if there were only workers who made and sold their commodities, the money received from the sale of their commodities is not wages, but profit. In buying commodities, one does not pay wages, and in selling them, one does not receive wages. These roles are performed by the capitalist. Now, in the strictest sense, the workers in this economy are not capitalists because they have incurred no money costs in the production of their goods. Still, they have acted as capitalists in that they sell their products, not their labor, for money. Thus, all income received is profit, not wages.
Reisman* explains again, better than I can:

Wages are not the primary form of income in production. Profits are. In order for wages to exist in production, it is first necessary that there be capitalists. The emergence of capitalists does not bring into existence the phenomenon of profit. Profit exists prior to their emergence. The emergence of capitalists brings into existence the phenomena of wages and money costs of production.

Accordingly, the profits which exist in a capitalist society are not a deduction from what was originally wages. On the contrary, the wages and the other money costs are a deduction from sales receipts—from what was originally all profit. The effect of capitalism is to create wages and to reduce profits relative to sales receipts. The more economically capitalistic the economy—the more the buying in order to sell relative to the sales receipts, the higher are wages and the lower are profits relative to sales receipts.

Thus, capitalists do not impoverish wage earners, but make it possible for people to be wage earners. For they are responsible not for the phenomenon of profits, but for the phenomenon of wages. They are responsible for the very existence of wages in the production of products for sale. Without capitalists, the only way in which one could survive would be by means of producing and selling one's own products, namely, as a profit earner. But to produce and sell one's own products, one would have to own one's own land, and produce or have inherited one's own tools and materials. Relatively few people could survive in this way. The existence of capitalists makes it possible for people to live by selling their labor rather than attempting to sell the products of their labor. Thus, between wage earners and capitalists there is in fact the closest possible harmony of interests, for capitalists create wages and the ability of people to survive and prosper as wage earners. And if wage earners want a larger relative share for wages and a smaller relative share for profits, they should want a higher economic degree of capitalism—they should want more and bigger capitalists.

*George Reisman's complete article on capital and the exploitation theory originally appeared in The Political Economy of Freedom Essays in Honor of F. A. Hayek, Edited by Kurt R. Leube and Albert H. Zlabinger (M√ľnchen and Wien: Philosophia Verlag, The International Carl Menger Library, 1985).
The article can be accessed in pdf form here


giraffe said...

I think it is important to note that the "theory" of true capitalism has never been tested since the advent of written records. In principle and in an overly idealized world where people were not subject to ALL aspects of human nature (some of which are very inconvenient to "fairness") true capitalism would perhaps work...but how would we ever know? The obsession with intangible ownership is one aspect of human nature (or at least a cultural artifact) that has demonstrated the impracticality of darwinistic social experiments...think Bolivia's private water ownership in '97 for an easy example.

iron_brain said...

Do you have a thesis here? I can't find one. Are you saying the labor theory of value is correct, incorrect, or in need of re-evaluation?

Also, have you ever read anything written by Marx or are you basing everything you write on what other people have written about his theories? Please reference ALL of your sources so that we can follow along your thought process. Otherwise, this is just really sloppy psuedo-intellectualism.

BEN said...

This is a blog, not a scholarly journal, but thanks for your critique. I guess my thesis is this: "the framework itself is flawed and needs to be re-evaluated". Apparently it wasn't clear, but what I meant was if we reevaluate the framework, we will find that the labor theory is inaccurate.
I can give you sources if you like. What are you looking for? Most of the Marx references come from Das Capital:


iron_brain said...

But to say that we need to re-evaluate the labor theory of value you would need to prove that it is lacking. You haven't done so. In fact, it's pretty obvious that you've never read Marx.

You're simply muddling terms here in order to confuse the argument. For example, you say that wages are extracted from profit...as if profit exists without human labor...and then saying that proves that value is not derived from labor.

You can't just change the terms being discussed and then assert your view as evidence of your own view.

That's just being lazy.

Royal said...

In a nut shell, Profits come first and then wages. Whether the firm is a single individual or many labors with a "capitalist" as boss, makes no difference. Laborers are not automatically receiving a wage until a capitalist comes along and starts exploiting them for a profit, but rather each individual laborer is a capitalist him/her self.

BEN said...

Your assumption that I have never read Marx is based on what?....your assumption that I would agree with you if I had?
This is not a matter of semantics. I have read Marx. Not being a fan, I haven't read all the commentary etc on it. Maybe you could expound. The issue is where profit originates versus where wages originate. That was the way Marx argued it--the origin of profit and wages.
Wages being extracted from profit doesn't mean that profit exists without labor. Now you are muddling terms, because labor does not always imply wages. Labor implies income, but not all income from labor is wages. This is contrary to what Marx asserted and the exact point I am trying to make.
If you disagree, you would be better off actually addressing the argument rather than making off-handed comments aimed at discrediting me.

iron_brain said...

I don't understand why we have to put this in a nutshell. Let's crack the nut.

As for your reading of Marx, I'm assuming that you haven't read much because you haven't bothered to cite anything...besides a link to a four page section from Capital...a book with three volumes and another 800 pages of notes titled the Grundrisse.

So, to move back to the argument. Please explain to me how "Labor implies income, but not all income from labor is wages." How does "labor imply income?" What other forms of income come from labor besides wages?

I'm assuming that the point of your blog is convince people of your view. Unless you make careful arguments, cite sources, and use real-world facts, you're not going to convince anyone of anything.

In fact, the only thing I've taken from your post and subsequent replies is that you're completely confused about the entire subject.

BEN said...

Your point about citation is valid. I have read the Manifesto and parts of Das Kapital. I haven't read the notes. Maybe you could explain what I have wrong in my interpretation of Marx and/or my critique of his reasoning.
Otherwise, you haven't done this at all. You keep asserting that I haven't read Marx as if that itself were a refutation of what I say, but I can't even tell if you are trying to refute it.
Anyway, the other form of income from labor is profit. I feel that I explained that in my post. Feel free to critique why you think that is wrong--if you think it is wrong. Demand for goods does not mean demand for a given amount of labor. Goods with identical subjective value may not in fact have taken the same amount of labor to produce. The value is contingent on whether it is useful to a given person and whether it is scarce.
This would bring us to a discussion of capital, but maybe we can wait on that.

BEN said...

Besides, reading Marx makes me want to gouge my eyes out...maybe it would be more readable in the original German.
On another note, I have been glad to converse with you. We didn't do it much or at all in middle and high school...not even at WINGS. Nice to see you interested in something besides Sublime.

Timothy said...

Ben, FYI I'm not the individual who posted above, but yes I am a man of many and diverse interests and it's true I'm not as big of a Sublime fan as I was in junior high. But thanks for the kind thoughts. :)

BEN said...

Curious...you must at least know each other. You are the only two from NJ that have visited this blog recently. Anyway, I honestly welcome both of your comments, even if we fundamentally disagree on many things.
A short note on subjective value: Carl Menger was a 19th century economist that pioneered this concept, and it is generally accepted as the basis for supply/demand. The varying theories include labor theory, production cost theory, and subjective value theory. Along with Bohm-Bawerk, Menger pretty much founded "Austrian" economics as it were.
The theory is contrary to classical explanations, but it is by no means a refutation of supply and demand. Menger also was the formulator of the law of marginal utility.