Wages: Power or Productivity?

Most modern economists find the discussion of a "Just Wage" to be problematic because they believe that wages are regulated by a formula of the "natural law" the gives each "factor" of production (land, labor, and capital) its fair share of the output. This involves a basic misunderstanding of what the natural law is, but I will leave that question for a later post. The formula is called "marginal productivity," and it is supposed to fairly allocate rents, wages, and profits among all the players. It is built on the principle of marginal utility, where things are valued "at the margins," as it were. Marginal utility is a fairly reliable physical principle. Think about being thirsty. A glass of water would have a certain value to you. But a second glass would be less valuable, and a third glass would have no value at all. As it marginal unit is added, the usefulness declines and finally disappears. When marginal utility (in the form of marginal productivity) is applied to incomes in a free market, the theory states that wages, rents, and profits will not merely be fairly allocated, but will actually be "normalized" to each other; that is, the entrepreneur or rentier will not make that much more than the worker. In other words, there would not be great differences between the rich and the poor.

I will here leave aside the question of whether a purely physical principle can be generally applied to human relations; suffice it to say that the utilitarianism that is at the base of all neoclassical economics found this a useful principle, given their rather limited understanding of the human person. There are a lot of problems I could point out with the formula (and you can read my book on that question), but here I will deal with just one question: Is it productivity or power that is marginalized? Are workers under this formula rewarded for what they do, or for the power they have--or do not have? We may ask, "Does the CEO earn 500 times more than the line worker because he produces 500 times more or because he has 500 times more power? Does the seamstress in a sweatshop in Dacca make a pittance because she lacks productivity or because she lacks power? Have the wages of most workers stagnated because their productivity has stagnated or because their power has stagnated?"

If we look at the data, the pretensions of MP are hard to justify; actual events--and actual wages--better fit the idea that MP rewards power, not productivity. The productivity of average workers has stagnated in the face of dramatic productivity increases. Moreover (as John Bogle points out in his book The Battle for the Soul of Capitalism) a new class of uber-managers has sprung up with takes to itself rewards that more properly belong both to investors and workers. But if the data better answers our question with power rather than productivity, we should ask why?

In truth, wages are set in a negotiation between employer and employee. But in any negotiation, it is power that will be the decisive factor. Workers with skills that are in short supply are likely to get a premium, while workers with more easily available or replaceable skills will have little bargaining power. Further, as Adam Smith pointed out, the employers can hold out for a longer period of time, and most workers find it difficult to with-hold their labor while waiting for a better offer.

Of course, the best test of any theory is the internal test, the test that theory imposes on itself. And the test for the proper functioning of MP is normalized wages, profits, and rents. But clearly, the formula fails this test; wages and profits are NOT normalized to each other, and there are great differences in wealth and poverty, differences which are growing, not narrowing. So clearly, this formula fails its own test. Moreover, the more "free market" a market claims to be, the greater these differences become. Clearly, something is wrong with the theory. And the mistake is this: there is nothing in the mathematics that says what, precisely, is being rewarded at the margins. And all the clear evidence we have points clearly to something other than productivity; that thing is power.

When people are rewarded for their power and position rather than their productivity, the social fabric is weakened, and the economics no longer works. Societies run-up unpayable debts in a constant effort to prop-up demand. Indeed, if we stopped playing the debt game, both the government and the economy would fail. If, for example, the Chinese stopped lending a billion $/day, the Feds could not pay their considerable bills and the trade deficit could not be financed; and if we did not continue to borrow and live beyond our means, there would be an immediate failure of demand. The failure to rationally distribute incomes means a failure to have a rational economy; instead we have one mired in government intervention and debt at every level. Therefore, the question of distributions (the very question at the heart of Distributism) is, and has always been, the most important question for economics. It was naive of the neoclassical economist to believe that a mere mathematics could solve the thorny problems of human justice. The loved the formula because it was easy, while justice was hard. But thinking about justice is a lot easier than trying to fix an economy mired in injustice.

20 comments:

Kevin Thursday, August 2, 2007 at 9:07:00 PM CDT  

John, it would take me many comments to identify all of the sophistry and confusion in this post. Let me stick to your straw man: the modern economist. Do you have citations that support the ridiculous things you claim modern economists say? For instance, what economist believes "that wages are regulated by a formula of the 'natural law' [that] gives each 'factor' of production (land, labor, and capital) its fair share of the output", as you say in your very first sentence.

Economics is a science that deals with the financial behavior of humans. It tries to explain why they do what they do and what the aggregate result of their actions is. If any economist is saying what they *should* do, he is no longer speaking as an economist, but as a person making moral judgments that are merely informed by economic science. Indeed it may be the case that in economics the words "natural law" may find usage, but the meaning is so drastically (and obviously) different from the Catholic use of the phrase that it simply won't do to claim they are using the phrase wrongly. They are clearly using the word "natural" in its most general sense, modifying "law", not meaning to give the phrase any significance beyond the sum of its parts (contrast this with the very specific usage in Catholicism.) They are well within their rights to use the language this way.

Your poignant confusion in the beginning of your post is repeated at the end, when you say, "It was naive of the neoclassical economist to believe that a mere mathematics could solve the thorny problems of human justice." But the economist qua economist believes nothing of the sort, and you will find disclaimers to that affect at the beginning of every freshman economics textbook. If economics can shed light on the reasons for the prevailing wages or accurately predict the counterintuitive results of various government interventions, then policy wonks and politicians and the voters themselves may find their science useful, whatever they may think is required of justice. But you do a great disservice to your credibility by reading moral judgments into mere mathematics and behavioral sciences.

And if those who approach the neutral topic of economics from the proper perspective tend to be convinced that a particular governmental policy is helpful, then what does that tell you? Their credibility is intact because they recognize where the science ends and the use of it begins, while you cover up that distinction if indeed you were ever aware of it.

John Médaille Thursday, August 2, 2007 at 10:53:00 PM CDT  

The classic text on the subject is J. B. Clark's The Distribution of Wealth, which sets the tone for neoclassical economics. Clark says:
It is the purpose of this work to show that the distribution of the income of society is controlled by a natural law, and that this law, if it worked without friction, would give to every agent of production the amount of wealth which that agent creates.

Clark goes on to say, Where natural laws have their way, the share of income that attaches to any productive function is gauged by the actual product of [that function]. In other words, free competition tends to give labor what labor creates, to capitalists what capitalists create, and to entrepreneurs what the coordinating function creates.

You will find similar ideas in Marshall, Jevons, Menger, Walras, and all the other "biggies" of neoclassical economics.

Further, I know of no textbook that defines economics as "the financial behavior of humans." Such an "economist" would be laughed out of the profession by all sides, since it would mean that there is no economy without finance.

All of this is elementary and well-known. Once again, I am forced to remind you to study a subject before you comment on it.

Kevin Friday, August 3, 2007 at 7:58:00 AM CDT  

Those statements do not comment on what ought to be, in the sense of a moral imperative. You've misunderstood the phrase "natural law", as I pointed out. They are talking about what actually results from rational decision making.

You say that "utilitarianism ... is at the base of all neoclassical economics". But utilitarianism is a form of ethics, and economics, as a science, does not comment on ethics.

Kevin Friday, August 3, 2007 at 9:25:00 AM CDT  

Quoting John: "the theory states that wages, rents, and profits will not merely be fairly allocated, but will actually be "normalized" to each other; that is, the entrepreneur or rentier will not make that much more than the worker. In other words, there would not be great differences between the rich and the poor."

That is QUITE a claim, given that the complaint against the free-market advocate is often that he is perfectly ok with the gap between rich and poor. Perhaps you have a citation handy for this one?

John Médaille Friday, August 3, 2007 at 10:30:00 AM CDT  

Kevin, the quote from Clark means precisely what I said, if you understand economics. Further, Clark expands on the theme at great length in his book. And, the same theme is expressed by all the other neoclassical giants that I cited.

My account of neoclassical income theory is not controversial. You can dispute whether they are right or wrong, but not that they hold these beliefs. Further, you are big on demanding "cites," (and then ignore them when they are given) but you yourself provide nothing but you own opinions, opinions that are formed without bothering to consult any sources. Apparently you believe that "everyone is entitled to his own opinion." Maybe, but not everyone is entitled to an informed opinion; that is something earned by the effort of study and thought. Only such opinions compel our attention and earn a reply.

You seem to have a lot of deeply held opinions on matters you haven't bothered to study. Once again, I advise you to study first, write afterwards.

Kevin Friday, August 3, 2007 at 12:54:00 PM CDT  

Let me quote some wikipedia at you, then. This is from the article on Neo-Classical Economics.

For context, economists often use the word "normative" to describe the kind of moral-value involved reasoning that you are doing, as opposed to "positive" economics, the description of the phenomenon:

"Neoclassical economics is sometimes criticised for having a normative bias."

Now, why would this be a criticism of a bias if that's what they intend to do?

"Large corporations might perhaps come closer to the neoclassical ideal of profit maximisation, but this is not necessarily viewed as desirable if this comes at the expense of neglect of wider social issues. The response to this is that neoclassical economics is descriptive and not normative."

Whose response? The neo-classicists of course. Should we not trust their own description of what they intend to be talking about?

Here's a bit from the introduction to this article:

"As expressed by E. Roy Weintraub, neoclassical economics rests on three assumptions, although certain branches of neoclassical theory may have different approaches:

"1) People have rational preferences among outcomes that can be identified and associated with a value.

"2) Individuals maximize utility and firms maximize profits.

"3) People act independently on the basis of full and relevant information.

"From these three assumptions, neoclassical economists have built a structure to understand the allocation of scarce resources among alternative ends -- in fact understanding such allocation is often considered the definition of economics to neoclassical theorists."

Now is there anything in that that suggests neoclassical economists are trying to discuss how things morally ought to be? Not at all. They are discussing why things are the way they are.

Kevin Friday, August 3, 2007 at 1:14:00 PM CDT  
This comment has been removed by the author.
Kevin Friday, August 3, 2007 at 1:14:00 PM CDT  

Regarding my comment of 10:25, you really do need to back up such an outrageous claim.

Or, you know, just ignore me and press on. After all you never did show that Laffer said what you claimed he said, which I pointed out here and here and here.

Kevin Friday, August 3, 2007 at 1:16:00 PM CDT  

(nor did you retract, by the way)

John Connolly Friday, August 3, 2007 at 1:32:00 PM CDT  

Um, if I may be so bold...

Kevin, if you're sure that neoclassical economists didn't hold what John thinks, it seems pretty easy to refute him: use the weapons he uses. Don't demand quotes from him, but use quotes to refute him. If he's really wrong, the sources you crave should be used to prove that to him.

And as much as I love Wikipedia, it isn't the work of an economic thinker. So far, John's been the only one to bring up sources that have been scrutinized by the intellectual community.

John Médaille Friday, August 3, 2007 at 3:02:00 PM CDT  

The problem with "wiki-expertise" is that it insulates us from real study. I encourage my students to use encyclopedias as an introduction to a given topic, but I do not allow them to cite such works in their papers; for that they have to go to established authorities and original sources.

By the way, economists, as a profession, are usually woefully ignorant of their own sources. Just try to find one who has actually read Adam Smith, or Ricardo, or Marx, or Mill, or Keynes, or Clark, or Marshall. Of all the professions, economics is least in touch with its own sources.

I presented a paper at the History of Economics Society convention a few months ago at George Mason University. The loss of economic history was a common lament. One encouraging sign, however, was that at George Mason, a center of Austrian economics, the leading lights seemed to be backing off the assumption of "methodological individualism," an assumption that has done more damage to the study of economics than any other.

Kevin Friday, August 3, 2007 at 6:23:00 PM CDT  

Look, just pick up any economics text book and look up "normative" in the index. That will bring you to the standard disclaimer that "economic theory can't tell you what your normative criterion should be."

Kevin Friday, August 3, 2007 at 6:24:00 PM CDT  

(the sentence in quotes is from my macroeconomic textbook.)

Kevin Friday, August 3, 2007 at 6:30:00 PM CDT  

"economists, as a profession, are usually woefully ignorant of their own sources. Just try to find one who has actually read Adam Smith, or Ricardo, or Marx, or Mill, or Keynes, or Clark, or Marshall. Of all the professions, economics is least in touch with its own sources."

I beg to differ. Of all the disciplines of the university, the one that uses its sources the least is my own specialty, Mathematics. This is for good reason: A) Mathematical truths are the same no matter whose presentation of them you read. B) The real groundbreaking work throughout the centuries has not been published as pedagogical specialists. Calculus is difficult enough for students to grasp. There's no reason why anybody needs to go try to decipher Newton's works that first revealed the techniques, when they hadn't even figured out what a limit really was.

Kevin Friday, August 3, 2007 at 6:40:00 PM CDT  

Could it be that economists and mathematicians don't concentrate on the personal historical sources of their science for the same reason?

John Médaille Friday, August 3, 2007 at 7:13:00 PM CDT  

Kevin, I haven't the faintest idea of what you are arguing about, in post after post. Not only did I not claim that neoclassicism used normative arguments, my critique is precisely that they don't, but should. I think you might be confusing the term "normalized" with "normative." If you are a mathematician, as you seem to claim, this is an odd error.

As for whether Economists are well-read in their own field, you seem actually to be agreeing with me, but merely saying that they don't need to read the classics because theirs is a mathematical discipline. It isn't, and even the mathematics, such as they are, rest upon certain assumptions about the human person and human society, assumptions which do not, or should not, come from economics itself, but from the higher sciences. See my next blog entry.

Kevin Friday, August 3, 2007 at 7:49:00 PM CDT  

Well I'm confused, to put it mildly, that you didn't say that some time ago. What do you think "utilitarianism" is? Last I checked it was a branch of ethics (which I mentioned in my first comment). How else should I interpret you when you say things like,

"utilitarianism ... is at the base of all neoclassical economics"

and,

"It was naive of the neoclassical economist to believe that a mere mathematics could solve the thorny problems of human justice."

Furthermore, if you REALLY meant "precisely that they don't [use normative arguments]," why on earth did you so completely and confidently reject my comments saying exactly that?

On the contrary, I explained over and over again that economics deals with a neutral science that attempts to explain human behavior, rather than trying to determine what is just. And over and over again you replied thusly:

"I am forced to remind you to study a subject before you comment on it."

"Apparently you believe that "everyone is entitled to his own opinion." Maybe, but not everyone is entitled to an informed opinion; that is something earned by the effort of study and thought. Only such opinions compel our attention and earn a reply."

"You seem to have a lot of deeply held opinions on matters you haven't bothered to study. Once again, I advise you to study first, write afterwards."

"The problem with "wiki-expertise" [in other words the source I cited] is that it insulates us from real study. I encourage my students to use encyclopedias as an introduction to a given topic, but I do not allow them to cite such works in their papers; for that they have to go to established authorities and original sources."

Do you really expect me to believe that you were agreeing with me all along? Baloney, John. If you didn't change your position in order to save face, the other possibility is that you just didn't read my comments. Which is it?

John Médaille Friday, August 3, 2007 at 7:57:00 PM CDT  

Kevin says Well I'm confused, to put it mildly, that you didn't say that some time ago. What do you think "utilitarianism" is? Last I checked it was a branch of ethics (which I mentioned in my first comment).

There is no debate that neoclassicism, founded on marginal utility, is utilitarianism. Jevons even states explicitly that he has rooted all his concepts in Jeremy Bentham.

And frankly, Kevin, this must stop. You are free to argue for or against the subject of this blog, Distributivism, but you don't seem interested in the subject one way or another. You don't seem to have read any sources, and you seem determined that you shall not. And its a bore. If you continue to insist on being immoderate, I will have to put you on moderation.

John Connolly Saturday, August 4, 2007 at 9:08:00 AM CDT  

I hope it doesn't come to that. We need people like Kevin here, I think. I've seen too many havens of distributism stagnate because there's no dialog, just people sitting around and congratulating each other on being right. Dialog is what keeps ideas like this sane, and keeps those who hold it in search of the truth. They are forced to search for the truth by cooperating with those they disagree with. So please be clement, for our own sakes. Remember, not seven times only...

At the same time, I think Kevin could help us out here by toning down the belligerence that crops up in his rhetoric from time to time. Remember, we are here because we disagree with you, but the last thing we want to do is silence you. Help us come to the truth, through debate. There's no point to quarreling, unless it's to find the truth. So yes, disagree with us, and thank you. But remember, we're not trying to put you down. There's no need to get personal, or personally nasty. I disapprove of your effectually calling John a 'sophist'. If you think we're wrong or confused, don't you think it's better to treat us as poor, confused individuals who don't know normalization from the national debt? I've tried as hard as I can since stumbling upon this blog a few days ago to treat all your arguments seriously, because they deserve to be treated seriously enough too disagree with. And I think all people here deserve the benefit of the doubt: that they are wrong, and not malicious.

So please, on both sides? I'd hate to see a capitalist 'silenced' or ignored on a distributist blog. Where else can we see if distributism really holds up?

John Médaille Saturday, August 4, 2007 at 9:47:00 AM CDT  

Kevin--or anybody else--is welcome to post anything (pro or con) relevant to the topic. But, as you point out, certain standards are necessary for civil conversation. Dozens of angry posts which don't really address any issue and do not really engage with any idea are not acceptable.

It is not even the belligerence that is a problem; in fact, I hope people will be passionate about the things that matter. People are free to post "Distributism sucks because..." But if the "because" turns out to be "you suck," the post is not acceptable.

I dislike moderating, but if its necessary to ensure moderation, so be it.

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