Capital, Labor, and Wages
by Faustino Ballvé
Utility and disutility. Production as creative. Capital and profit. Labor and wages. The “wages-fund” theory. The “iron law of wages.” The labor theory of value. “Social injustice.”
The essence of the market could be aptly described by saying that it consists in obtaining utilities in exchange for disutilities.
Utilities can be either goods or services, although the former almost always to some extent comprise the latter, even if only by virtue of the fact that the commodities in question are placed at the disposal of the consumers. A disutility consists in the deprivation one experiences from the lack of something or in the pains one takes to render some service.
This exchange of utilities for disutilities occurs directly more often than one might think. The black market in time of peace in countries more or less socialist, and in all countries in time of war, is, in fact, the real market and almost always involves direct barter transactions, since the scarcity of goods and services under such conditions causes people to consider money as of little worth. Normally, however, this exchange is effected indirectly through the medium of money. One does not engage in barter; one buys or sells. But this in no way alters the essential character of the market, because whoever pays money for a commodity has first obtained the cash in exchange for some disutility, by the expenditure of some kind of effort, and whoever sells a commodity for money can use the cash thus obtained to buy something that, for its purchaser, will be a utility and, for its seller, a disutility.
The disutility in exchange for which a utility (i.e., a commodity) is obtained in the market is what is called production. This is the physical and mental exertion needed to place a commodity at the disposal of the consumer. In this sense we are all producers, just as we are all consumers. Producer and consumer are not members of two distinct social classes; production and consumption are rather two functions that everyone performs every day without even realizing it. However, in the strictly economic sense, a producer is anyone in the business of supplying the market with utilities. A producer is thus not only one who cultivates the soil or manufactures machines or consumers’ goods, but anyone who is engaged in placing utilities within reach of the consumer, for him to take or to leave. From the economic point of view, things are not made or services rendered; utilities are produced, since the ultimate stage in the whole productive process is that at which these utilities become available to the purchaser.
Production signifies creation, though not, of course, in the strict sense of the word. As Lavoisier said, nothing in this world is either gained or lost; everything is simply transformed into something else. But to transform iron into a machine or gold into a jewel, or even to transform mere possibilities for travel into a route available to the tourist on vacation, is, from the economic point of view, an act of creation. Economically considered, creation is the realization of an idea, the accomplishment of a purpose. A producer, then, is one who, in a general way, converts possibilities into actualities by setting himself a goal and then employing the means to attain it. The sole producer, in this sense, is the entrepreneur. It is a mistake to refer to capitalists, technicians, and workers as productive forces. No one but the entrepreneur is a producer; the rest simply provide the services and materials of which he avails himself in carrying on the process of production.
The means of which the entrepreneur makes use are capital and labor. Capital consists of all the material factors that the entrepreneur employs to keep production in progress, from the land, buildings, machinery, and equipment, to the cash needed to maintain the cycle of production through reinvestment of the proceeds. It thus includes money as well as things, though the latter too are expressed in monetary terms in the calculations of the entrepreneur. The capital invested in an enterprise can be the property of the individual entrepreneur, or it can be provided by a number of people: one or more active entrepreneurs, either on their own or in association with capitalists who exercise no initiative in the conduct of the enterprise but share in its risks.
From the economic point of view, all of them are entrepreneurs because they all assume the risk. In such cases, they generally form an association with a juridical personality, which constitutes the enterprise. Since, as we have seen, capital goods can consist of things whose value is expressible in monetary terms, and since the owners of these capital goods run a risk, we can define capital as the money risked in an enterprise.
What is the specific compensation received for the use of capital goods? It has been held by some to be rent and by others to be interest. Both opinions are erroneous and involve the possibility of confusion. Economics employs the term “rent” for something else entirely. Interest too is an altogether different thing from what it is generally believed to be. The specific remuneration of capital is profit and is characterized by the fact that it is essentially uncertain and aleatory. The capitalist runs the risk involved in the enterprise; he can make a profit or suffer losses. Profit is justified, then, by the risk incurred.
The other factor of production is labor. This is a disutility that one takes upon oneself in exchange for a utility, viz., wages. “Cursed is the ground for thy sake; in sorrow shalt thou eat of it all the days of thy life; in the sweat of thy face shalt thou eat bread,” God says to Adam.1 To be sure, throughout the ages labor has had its panegyrists, from the ancient Romans, who spoke of it as the foremost of the virtues (labor prima virtus), to our own contemporaries, who have paid tribute to the “dignity” and the “joy” of labor and extolled “creative” work. Nevertheless, in the economic sense, what is done purely for pleasure is not labor—e.g., the work of the amateur artist or even that of the genius who feels himself called to a destiny to which he sacrifices everything; for neither of these activities is a means to an end; each is rather an end in itself. Labor is solely the more or less onerous exertion undertaken in exchange for the satisfaction of wants and desires and as a means of attaining this end.
A utility for the entrepreneur, labor is performed in exchange for wages, which represent for the worker utilities that he considers as more valuable than the effort he expends in return for them: the support of his family, the preservation of good health, opportunities for education and, as far as possible, recreation, and the possibility of periodic vacations and retirement in old age.
It has been said that labor is not a commodity, but in the economic domain this is not true at all. What is not a commodity is the worker, any more than is the entrepreneur or the capitalist. But labor, considered as a service, is a commodity, just like the services provided by the entrepreneur. Everything that has a price in the market is a commodity and, as such, is subject to the law of supply and demand.
In the so-called labor market, as in every market, each party seeks to receive more than he gives. The boss gives for the labor of the worker an amount that he considers less than the service he is getting in exchange; the worker, for his part, renders a service that he considers as less valuable than his wage. And the same holds true of the entrepreneur when he renders on behalf of the enterprise services that go beyond those concerned with minimizing his own risks, viz., when he performs some technical task or seeks to reduce the risks of his associates. For this kind of service he receives from the enterprise a remuneration that for him is worth more, and for his associates less, than the effort he puts forth. If he asks too much, the capitalists turn him down and seek some other, less expensive technician; if they offer him too little, it is he who goes in search of other capitalists. His situation in this respect is no different from that of any day laborer.
In the spirit of the classical school, an attempt has been made to find objective laws that would determine wages independently of the will of the parties concerned. The oldest is the so-called wages-fund theory, which was developed principally by Price, Smith, McCulloch, Mill, and Fawcett. According to this theory, the height of wages is determined automatically in an economic community (what is meant is the economy of a country) by the portion of capital that the entrepreneurs can devote to wages (the wages fund) and by the number of workers who are to share in it. If prosperity permits the entrepreneurs to augment the wages fund, each worker gets an increase in pay. If the opposite occurs, or if the number of workers becomes greater as a consequence of an increase in the population, the pay of each worker is correspondingly reduced. If a group of workers succeeds in some way in winning a wage increase, this can only be at the expense of the rest of their comrades in the working class.
This theory, whose defects we shall consider later, was revived in a different form at the end of the last century by Böhm-Bawerk and Taussig. According to them, we should be concerned, not with nominal or money wage rates, but with real wages, i.e., with the goods that the worker can buy with the money in his pay envelope. The existing supply of goods in a country is limited. This stock of goods has to be divided among such uses as the maintenance and improvement of the material factors of production, so that it can be kept in progress and even expanded; the maintenance of the personnel and materials needed for public services, from the post office to the army, paid for out of taxes; and, finally, the support of the participants in the process of production, from the entrepreneur to the worker. There is no point in raising money wages if the goods themselves do not increase proportionately, because then prices will rise and in the end the worker will be able to purchase no more with his new salary than he could with the old.
Prior in origin, but more recent in its formulation, is the doctrine of the iron law of wages. This was early suggested by the physiocrats Turgot and Necker and later given definitive form by Ferdinand Lassalle (1825–1864), the founder of the German workers’ movement, at that time to some extent allied with Marx; the influence of his ideas was still considerable in the German Social Democratic party before the Second World War (e.g., in the famous Erfurt program) and even in the Second International. According to this doctrine, the average wage always tends to be reduced to the minimum amount of indispensable necessities of life required to maintain and replace the labor force at the level of bare physiological subsistence. It cannot be raised much above this without resulting in an excessive birth rate among the working population, whose increased pressure on the labor market would then depress wages. It cannot, on the other hand, fall far below the subsistence minimum without adversely affecting the birth rate among the workers and giving rise to emigration, a reduction in their numbers, and a scarcity of labor.
Karl Marx founded his doctrine of wages on his theory of value. The value of a commodity depends on the amount of labor required to produce it. The labor of a skilled worker represents a multiple of that of an unskilled hired hand. In like manner, the value of the worker is measured by the cost of supporting him and of rearing and training a replacement with precisely the degree of skill needed; and the training, maintenance, and replacement of a skilled worker costs a multiple of the amount needed for the same purposes in the case of an ordinary unskilled laborer. This is what determines the price of labor in the market, i.e., wages. But the cost of supporting a worker is always less than what his labor produces. This difference is the surplus value which the entrepreneur retains, thereby depriving the worker of the full proceeds of his labor.
In criticism of these doctrines, the first point to be noted is that they are not scientific explanations of the way in which the mechanism of wages actually functions in the economy, but political lucubrations that are supposed to explain why the lower classes live in penury and to constitute a basis for a program of social reform. Even before Marx, Adam Smith, the founder of the classical school—which has been gratuitously accused of seeking to defend egoism and to justify servitude to those whom fortune has favored—had devoted a part of his famous book to a moving description of the sufferings of the poor, castigating the evils of the economic system of his age and proposing a number of reforms designed to redress what is today called social injustice.
All this is perfectly natural and even laudable. Neither economics nor anything else is studied solely out of pure curiosity to know the truth for its own sake, but in order to provide a sound basis for appropriate action. On the other hand, nothing is more commendable than to devote oneself to improving the lot of one’s fellow men. But, in the first place, it is not scientific to confound matters of fact with wishes and desires, and even less to distort the facts in order to justify one’s desires, however noble the latter may be. In the second place, there is no doubt that any schemes for reform that are based on erroneous beliefs about matters of fact are doomed to failure. An ostrichlike policy can lead to nothing but disaster. One has to look the facts boldly in the face. Only the truth can serve as a basis for successful action. This is what makes modern critical economics a science. It does not give advice; it is concerned purely and exclusively with matters of fact brought to light by honest investigation and rendered coherent by reflection. And, as regards wages, the facts are, essentially, as follows:
1. It is not accurate to say that wages depend on economic conditions in a particular community or country. They ultimately depend on international competition. This determines the prices of raw materials and manufactured products on the world market, from which no nation can withdraw if it does not want to be eliminated in this competition; and, by the same token, the latter determines the margin that remains, after other expenses have been paid, for the compensation of the entrepreneur and the worker. It even directly determines the height of wages because, other things being equal, the worker always goes where he can get the best pay.
2. It is not true that in every country the total amount of wages is determined by the fund that production can make available for that purpose or by the existing supply of consumers’ goods or by the minimum generally needed by the worker for his bare subsistence and replacement as such, and that this amount is then equally divided among the workers. Even in countries in which minimum wages are fixed by law, each branch of production, as well as each enterprise within it, has its own rate of wages determined, on the one hand, by the margin left over by competition from the prices of its products, and, on the other hand, by the greater or lesser and more or less organized supply of available labor. Nor are the workers in any particular branch of production content, for their part, to accept as payment for their services an amount determined solely by the fact that it is the prevailing rate of wages in other branches of production. On the contrary: they struggle to obtain higher wages if this is at all possible as a result of the scarcity of labor in their own branch or through the power of their trade-union; and even then the especially skillful or productive worker, who considers his labor as having a greater utility, demands a correspondingly higher wage than his comrades, and, if he does not get it, withholds his labor and offers it to another entrepreneur who better appreciates its value.
3. Nor is it precisely correct to say that wages are paid from the capital of the entrepreneur; they are ultimately paid by the consumer, for they constitute one of the elements that enter into the formation of the sales price. But even if this were not so, the wages-fund doctrine does not provide any criterion for determining how the wages fund is established.
4. Equally worthless as a criterion is the minimum indispensable for the nurture and subsistence of the worker. There is no objective standard for determining this amount. The worker of the present day, if he avoids ostentatious extravagance or intemperate self-indulgence, lives much better than Croesus in all his opulence or Louis XIV in all his splendor; and yet he complains of living poorly, and we agree with him. According to statistics, and taking into account fluctuations in the value of money, the real wages and standard of living of the French worker have doubled since 1848, and those of the American worker have quintupled; but as their material and cultural needs have likewise increased, their wages continue to represent, psychologically, a subsistence minimum. That it is practically impossible to state precisely what this minimum is may be seen from the fact that of two workers of equal competence and with the same family obligations and the same wages, one lives well and is able to save, while the other lives poorly and finds his pay inadequate.
5. It is not true that the value of commodities is measured by the quantity of labor they contain, or that the value of a worker is measured by the cost of his nurture, sustenance, and replacement by a worker in the same category. The first of these doctrines has already been refuted; and in regard to the second, it must be objected that when an entrepreneur hires a worker, he takes into account neither the cost of the latter’s nurture and training nor that of his present necessities as a qualified worker nor the ease or difficulty with which the worker may be able to rear and educate his own offspring as he himself was educated. The sole consideration in hiring a worker is his fitness for the job and the price of his labor. A good proof of this is provided by those so-called “white-collar proletarians” who receive salaries that neither compensate for what they cost their parents nor make it possible for their own children to receive the same education that they did.
6. The fact is that wages are determined by supply and demand, and not in a general way, but in each case, by branches of production, by enterprises within each one of these branches, and by individuals within each enterprise, on the basis of the existing need for labor, its abundance or scarcity, and the productive capability of each particular worker. This holds true not only in countries with a system of free enterprise but also in those with a more or less interventionist policy, like Mexico, and even in countries with a socialist economy, like Russia, where, as Davies notes,2 the differences in wages among the various branches of production and among individuals within each one of them are much greater than they are in the United States. This is evidenced by Stakhanovism and by the intelligentsia, a class of scientists, artists, and political functionaries that enjoys the greatest abundance amidst the general penury.
Up to now no better method of determining wage rates has been found than that of the market. The attempts to give to each according to his needs and to demand from each according to his abilities have failed every time they have been made (as they were in Russia at the beginning of the Bolshevik Revolution), for the simple reason that everything that the worker earns in wages, beyond what he would receive through the unhampered operation of the mechanism of supply and demand, he has to pay out in his capacity as a consumer because of the increase in prices thereby brought about. Nor is it possible, as we shall see later, to raise wages at the expense of entrepreneurial profits.
7. From what has already been said, it also follows that it is absurd to attempt to give the worker a share in the management and the profits. Profits are the compensation of the entrepreneur for the risk he assumes. For him to be able to take the risk exclusively on his own account, he requires all the independence correlative with his responsibility. The worker assumes neither the risk nor the responsibility of the enterprise and therefore has no claim to participation either in its management or in its profits. One can speculate about the possibility of an economy without entrepreneurial risk. But the workers’ participation in the management and profits of the enterprise is a hybrid and, as such, sterile solution of the problem.