Where do profits come from?

Submitted by Matthew on 5 October, 2017 - 10:37 Author: Martin Thomas

How do capitalists make profits? An individual capitalist can profit by cheating, or by what orthodox economists call “technological rents” (the ability to charge a higher price for a distinctive product, or to command royalties). But that is no explanation for the whole capitalist class.

The simplest form of capitalist profit is the financial capitalist lending money at interest. But that cannot be the basic form. Capitalists cannot live by lending at interest to each other any more than an economy can be built on people taking in each other’s laundry. The question is, how does the value of the outputs from capitalist production get to be systematically bigger than the value of the inputs? So we must get some ideas of how the value of outputs is determined.

One common explanation is that price equals cost of production, that is, that the value of output equals the value of the inputs, and the input of “capital” attracts a cost equalling profits. As Marx remarked in Capital volume 3: “We do not learn at all in this way what price in general is”.

“A certain amount of money is paid [for commodities]… But what is money?”

The account assumes as natural, rather than analysing, the particular social relations which find expression in the fact that most goods and services appear in society with numbers attached to them according to which they exchange. Moreover, if part of value is to be numerically assessed as the contribution of capital, bearing a definite ratio to the amount of capital involved, then we need to know how to assess amounts of capital. But how much a particular mass of capital costs depends, in turn, on the rate of wages.

In 1960, Piero Sraffa showed that it is impossible to measure an amount of capital (that is, to add up all the stuff reckoned by the bourgeois economist to be “capital”) without first knowing what the wage and profit rates are. In other words, the rate of profit cannot be a mandatory percentage return generated (for whatever reason) by a given-in-advance quantity of capital.

Thus in such an account: “nothing remains but to declare… profit… to be in some unaccountable manner a definite extra charge added to the price of commodities…” (Marx, Capital volume 3). And how much should be added? 20%? 10%? 5%? Or maybe the idea that prices are determined by supply and demand will enlighten us?

If the price of an item were very low, there would be a lot of demand (assuming that the item has some use, at least, to some people), but no supply, because no-one could make a profit by producing it. As the price goes up, the demand will go down, but, above some minimum price, the item will be supplied. The price must be set by the point where demand equals supply. But if that were the gist of it, then in a “perfect” capitalist market, with no monopolies or suchlike, profits must be zero. If profits are 8%, then some capitalist can still make a dollar by selling at 4% profit, and can drive prices down. If the general rate is 4%, then some capitalist can out-compete and drive the price down by selling at 2% profit... and so on down towards zero profit.

As a well-known orthodox economics textbook puts it (inconspicuously): “In the long run under perfect competition prices will settle towards levels at which there is nothing left over for payment to the entrepreneur in excess of his managerial wage and interest on his capital”. In that case, of course, the “entrepreneur” will not bother, so capitalism is impossible.

Supply-and-demand analysis can be useful for explaining short-term variations in price, or price movements in special situation. It is no use for explaining the general phenomenon of profit. It becomes useful only if we can find some other theory to explain profit. Orthodox theory generally attributes profit to “the reward of abstinence”, or in more modern terminology, to “time-preference”. The capitalist with cash could have spent it on big dinners and expensive treats, but instead invested it for a period, and so deserves a reward. Put it another way: profit is the price which has to be paid to persuade the capitalist to wait (and wages are similarly theorised as the price which has to be paid to persuade the worker to emerge from idleness). Profit is “a measure of what we lose by receiving our money later rather than now”, as a textbook puts it.

If this account explains anything at all, it explains only interest. A productive capitalist who borrows the money from a bank will have to pay the full price of “waiting” or “abstinence” or “time preference” to the bank, and have no profit left over. So why bother with production? If taken seriously, it would imply that profits would be high in countries where people are impatient (so require big incentives to abstain or wait), and low in countries where they are patient. Yet in fact a capitalist investing millions in production has no desire to spend her or his whole fortune in one spree. The whole argument reads more like a plea about why capitalists should “deserve” profits than a scientific investigation of how they get them.

As Marx summarised it: “Our capitalist... exclaims: ‘Oh! but I advanced my money for the express purpose of making more money’. The way to Hell is paved with good intentions, and he might just as easily have intended to make money, without producing at all... “He tries persuasion. ‘Consider my abstinence; I might have played ducks and drakes with the 15 shillings; but instead of that I consumed it productively, and made yarn with it’. Very well, and by way of reward he is now in possession of good yarn instead of a bad conscience...”

The method of orthodox economics here is typical. It constructs a view of human nature by deduction from capitalist economics — here, a notion of human nature as essentially impatient, by deduction from the facts of investment and profit — and then turns round to demonstrate that capitalist economics is the result of human nature. The orthodox theory of profit can be improved by arguing that profit “rewards” not just “abstinence”, or waiting, but also risk and managerial labour.

But the improvement does not get far. It still gives no explanation of the profit left to the capitalists after they have paid the insurance company, the manager, the banker, etc. It still gives no real explanation of economic facts, but only an attempted sentimental apology for them. See what risk the capitalist runs! How hard he must work! How patient he must be! How does that explain why the capitalists pocket so much more than the workers who risk losing their jobs in every shift of the markets, who are whipped into “continuous improvement”, and who must often “abstain” as they wait for the end of the month or week for their wages?

We need to explain the economic fact of profit from other economic facts, not from sentimental pleas, circular arguments, or flat assertions. We cannot possibly find an answer if we limit ourselves to deducing value of outputs from value of inputs. We need a theory which relates value to production, and escapes the vicious circle of deducing values from values. We can explain money only after we have explained exchange in more general forms. Exchange symbolises a social process equating bibles, brandy, broccoli, babygros, etc., and identifying them as simply greater or smaller exchange-values. The use values are all of different kinds, but the exchange values are all of the same kind. They must represent some social property of the commodities, present in all of them in greater or lesser amount but always of the same kind.

But the process of producing commodities, if we look at it not from “above”, from the angle of the market, but from “below”, from the angle of production, is the process of allocating and re-allocating the social pool of labour to different lines of production. Or, at least, it is that so long as society has developed to the point where “labour” is a social substance which can (maybe with frictions and delays) be constantly re-allocated between different lines.

Marx wrote in his Contribution to the Critique of Political Economy, a sort of first installment of Capital published in 1859: “Universal social labour is... not a ready-made prerequisite but an emerging result”. (“Universal social labour” was his term then for what in Capital he would call “abstract labour”).

Now the difference between the value of outputs and the value of inputs is the difference between the amount of labour deployed and the value paid out to acquire that labour. At first sight it looks as if there should be no difference: we have the same “value of labour” both on the output side and on the input side. Look more closely! The workers do not own “labour”. They are seeking employment because they lack the means to “labour” productively on their own.

“In order to be sold as a commodity on the market”, wrote Marx, “labour must at all events exist before it is sold. But could the labourer give it [i.e. labour] an independent objective existence, he would sell a commodity [i.e. the product of that labour] and not labour”. Workers sell “labour-power”, their capacity to labour. Labour as such is deployed only as the capitalists “consume” the commodity labour-power which they have bought from the workers. Everything appears, and in a sense is, the realm of “Freedom, Equality, Property, and Bentham”, until we look into the process of the capitalists “consuming” labour power. Then we “perceive a change in the physiognomy of our dramatis personae. He who before was the money-owner, now strides in front as capitalist; the possessor of labour-power follows as his labourer. The one with an air of importance, smirking, intent on business; the other, timid and holding back, like one who is bringing his own hide to market and has nothing to expect but — a hiding”.

From that hiding, from the extraction of quantities of labour far in excess of the equivalent paid for labour-power, emerge profits. The capitalists have paid the workers the equivalent of, say, three hours’ labour, but make them toil for nine hours. Labour-power can become a commodity, more or less freely and fluidly bought and sold, only when “labour” has become a social substance which can (maybe with frictions and delays) be constantly re-allocated between different lines.

At that stage labour develops a twofold character. In one aspect it is “abstract labour”, the consumption of a quantum of the social pool of labour-power. In another aspect it is “concrete labour”, not commensurable at all. No quantum of software-coding will produce a loaf of bread, no quantum of baking will produce a computer program. The two aspects of labour are inseparable. No-one goes to work telling their friends: “oh, this week I’m just doing abstract labour”. But they are also different real social relations. Abstract labour is the eating-up or alienation by the capitalists of the workers’ energy, creative capacities, and time. Concrete labour is the production of ever-more-multifarious wealth.

In the later chapters of Capital, Marx documents the divergence of these aspects: workers become more and more cogs in a mechanism alien to them, capitalists and their hangers-on appropriate a richer and richer variety of wealth. Marx’s analysis of exploitation does not rest primarily on the “labour theory of value” as such. That the underlying relations between prices were an expression of relative deployments of labour-time was not an idea new to him. It was held by the bourgeois political economists Adam Smith and David Ricardo, and indeed by some of their successors such as John Maynard Keynes, none of whom had a theory of capitalist exploitation.

The contemporary Marxist economist Diane Elson has remarked shrewdly that with Marx the theory became more a “value theory of labour” than a “labour theory of value”. Another of Marx’s innovations compared to Smith and Ricardo was more analysis of how prices could diverge seriously and even systematically from being proportional to values. Price, Marx argued, is in bourgeois society the only phenomenal expression of value relations, but also an inaccurate one: “the possibility of quantitative incongruity between price and magnitude of value, or the deviation of the former from the latter, is inherent in the price-form itself”. Marx’s great innovations were the distinction between labour-power and labour, and the distinction between abstract labour and concrete labour.