Political Economist

1. How do Smith, Ricardo and Marx analyze the evolution of the rate of profit over time? Analyze the mechanisms involved. What implications can one draw from the trajectories implied by the different theories?

Classical political economists share a lot of theoretical aspects in common. Among them is the long term falling tendency of the rate of profit. However, their explanations are different from each other. In this essay, I will present their theory of profit briefly, and then draw some implications.

First, Smith approaches this issue when he analyzes the effects of competition. According to him, competition among capital will lead to the rate of profit to fall. However, he did not provide with systematic explanations to his argument. He seems to be confused or identify the ‘equalization of profit’ with ‘the falling rate of profit.’

In contrast to Smith, Ricardo attributed the falling rate of profit to the rise of food price and rent. In his critical analysis of Smith’s theory of rent, Ricardo argues that as population grows the more land which has less fertility and quality will be introduced in order to supply food. This new cultivation of land and competition to obtain more fertile land among agricultural capitalists will lead to the rise of rent. According to Ricardo, the rise in the price of land and rent, in turn, results in the decrease of the amount of profit for capital. In this way, Ricardo attributed the falling rate of profit to the rising rent and the expensive food price. That is why Ricardo advocated the abolition of the Corn Law which prevented cheap corn and foods from importing from outside England.

Finally, Marx also pointed out the falling rate of profit in his analysis of capital accumulation. At first, he analyzes the increasing ‘organic composition of capital.’ The competition among capitalists forces individual capital to introduce new machines and production technologies. This mechanization of capital will lead to the changes of ratio between ‘constant capital’ and ‘variable capital,’ the latter of which is the only source of ‘surplus value.’ The more the capitalist introduce new machinery and technologies in order to reduce the production cost or unit labor cost, the faster the aggregate profit appropriated from production process will be reduced. In this way, Marx explained the falling rate of profit through the mechanization process of capital forced by competition.

In this connection, the falling rate of profit is intrinsic characteristics of modern capitalist mode of production. Even though there are also countervailing tendencies and effect, the falling rate of profit cannot be superseded until the profitability and profit remain the only motive for production.

2. Contrast Ricardo’s theory of international trade with that derived from Smith and Marx. What are the specific points of departure within the general theory of competition? What are the differing implications for the opening up of trade between countries that are competitively unequal (as is currently proposed by the World Bank and the WTO)?

The role of international trade in the development of an economy is one of the most controversial issues in modern development economics. While Ricardo argues that international trade would bring about mutual benefits to both countries which are engaging in international trade, Marx pointed out that there would be ‘unequal exchange,’ and thus be chronic trade deficit in less developed country.

First of all, Ricardo argues that international trade will give rise to ‘trade balance’ between countries. Unlike his previous labor theory of value, which can be summarized as the relative price of commodity is regulated and/or determined by the relative quantity of labor required for its production, Ricardo introduces different kind of price/value theory, namely ‘quantity theory of money’ when dealing with the effect of international trade.

According to him, if two countries which have different production levels with different technologies start to export and import their relatively advantageous commodities, the money inflow and outflow would result in trade balance in the long run. More specifically, if England starts to engage in foreign trade with Portugal which has absolute advantage in every production sectors, the money will flow from England to Portugal. This money inflow in Portugal will increase the general price level in Portugal on the one hands, the money outflow in England will lead to lower the price of commodities in England on the other hands. The effect of money flows, according to Ricardo, would result in the loss of absolute advantage in Portugal, and in the end, both countries will gain benefits from each other.

Unlike Ricardian perspective, Marx’s treatment of international trade is closely related to his theory of competition. As most classical political economists agree, the behind logic of capital accumulation is profit and profitability. In order to gain much more profit from investment, every capitalist introduces new machinery and technologies. This capital movement is forced by real competition among capitals.

Marx’s theory of international trade is, thus the analysis of the effect of this competition among capitalists on different regions and countries. According to Marx, the effect of competition on different countries has radically different meanings and results: unlike the competition within an industry or different industrial sectors within the same region, international trade or competition between countries does not equalize the rate of profit.

Rather, foreign trade between countries which have different technologies and ‘unequal’ productivity will lead to chronic trade deficit and economic dependency in underdeveloped countries. Unlike Ricardo’s ‘quantity theory of money,’ money outflow from the underdeveloped countries or the Third World countries will be owned by the capitalist in the developed countries or the ‘center’ of ‘the world capitalist system.’

This money can also be invested in the Third World countries, thus sometimes create the employment opportunities for the workers in the Third World countries. However, this so-called ‘job creating effect’ of foreign direct investment is usually accompanied by the undermining endogenous economic development, destroying domestic firms and thus increasing job instability, increasing rate of unemployment.

In sum, while Ricardo argued that foreign trade would lead to trade balance and effective factor endowment (specialization of industry) through quantity theory of money, Marx pointed out the devastating effect of international trade on less developed countries in analyzing and extending his theory of competition.

Finally, considering the income gap and inequality among countries, and the detrimental effects of foreign trade, especially the effect of foreign direct investment and the financial speculation, the economic urge of the IMF and the WTO toward the underdeveloped countries is the ideology for the interest of the capitalist in the developed countries. If so, it is necessary for underdeveloped countries in East-Asia, Latin America and Africa to search for alternative economic developmental strategies unlike that of the IMF and the World Bank. And in this context, understanding of different economic development patterns from historical and comparative perspective seems to be necessary.

The Basic Structure of the Classical Theory of Price

8. How does Marx approach the question of aggregate profits? Where do aggregate profits come from, and why and how? What is the significant of the distinction between profits arising from a transfer of value or wealth, and profit based on the extraction of a surplus product?

* All of other profits and revenues (the revenue of the state, financial capital’s arbitrage, taxes, stock and bond dividends etc,) are derived from the surplus value produced in the capitalist production process. That is why Prof. Shaikh calls Marx’s analysis of profit as “aggregate profit.”

Marx’s theory of profit is one of the most significant contributions in the development of the labor theory of value. Marx deals with this problem from the analysis of the money (capital) and exchange (circuit of capital). However before reviewing his analysis of aggregate profit, it is necessary for us to distinguish two different kinds of gaining methods of profit in Marx’s perspective.

First of all, Marx differentiates profit on alienation from aggregate profit appropriated form the capitalist labor process. The former is profit on transfer of wealth, which was dominant characteristics feature of Mercantilist capitalism. Individual trading profit arises whenever a commodity is resold at a profit. This profit is originated from the individual entrepreneurial ability to ‘buy cheap and sell dear.’ But from the perspective of the system as a whole, this transaction simply serves to share out the total selling price.

Thus the increase of wealth of one country or region is accompanied by the loss of the same amount of wealth of the other country or region. On the contrary, Marx emphasizes the latter case, which is the production of surplus product within the typical capitalist mode of production. This is the origin of surplus value and Marx describes this process as the intrinsic characteristics of industrial capitalism.

With regard to the analysis of the surplus value, Marx begins his analysis from the analysis of exchange of capital and labor. In contrast to simple money circuit (circuit of revenue), which can be summarized as C-M-C, the circuit of capital starts from money capital which is invested in order to make more money at the end of the process compared to the original money capital.

This circuit of capital can be summarized as follow: M-C-M’ in other words, a certain amount of Money capital (M) is invested on particular production sector. This money capital is used to buy certain amount of labor power and means of production (machinery, raw materials, etc). From this initial stage, capitalist organized labor and production process in order to produce certain amount of commodity. After the production, capitalist sell his/her commodity (final physical form of capital) on the market in order to make more money (final money form of capital; M’)

While analyzing the circuit of capital, Marx raised a question: Where does increased money come from? According to Marx, this profit comes from labor power. This source of profit for capital, which is called ‘surplus value,’ is extracted from surplus labor time. In order to explain this mechanism it seems necessary for us to introduce distinctive concept of capital in Marx.

The capital in production is composed of two components: constant capital (C) and variable capital (V). Unlike Ricardo’s distinction between ‘fixed capital’ and ‘circulating capital,’ this distinction has an important meaning because with this distinction Marx was able to explain the mechanism of appropriation of surplus value. According to Marx, in the capitalist production process, total labor time (W) is composed of labor value of means of production (C) and living human labor estimated by time (L).

If V is socially necessary labor time required for commodity production, or socially necessary labor time necessary for laborer’s reproduction, S is surplus labor time. Thus W = C+V+S. In this analysis, the surplus value or surplus labor time is the above and beyond the necessary labor time. Marx analyzes this surplus labor time and surplus value is the secret source of the aggregate profit for capital.

This distinction between two different kinds of profit has significances in understanding current real world economy. Even though the exploitation of surplus value is unique characteristic feature and dominant basis of modern capitalism, the understanding of the fact that appropriation of surplus value is not the only source of profit open our eyes to the necessity of the historical and empirical research to the problems of transfer of profit and the current economic situation of the Third World or developing countries. In this sense, the concept and the existence of the transfer of profit can be utilized in the context of the analysis of the transfer of value from non-capitalist sphere, or periphery to the center of capitalist economy system.

 5. Trace the treatment of “value” in Ricardo and Marx. Howe does each pose the question, how do they proceed, and how do they end up? What are their differences? Be sure to define what each means by the relevant terms.

Classical Political Economists draw the distinctions between two values: the one is ‘value in use’ and the other is ‘value in exchange.’ Smith pointed out that the ‘value in use’ is ‘utilities of some particular objects.’ It is associated with ‘usefulness’ of products. On the contrary, ‘value in exchange’ is the ‘power of purchasing of other goods.’

According to Ricardo, the value of commodity is ‘exchange rate of other commodities.’ It is an ‘exchanging power’ of particular commodity. Ricardo also differentiated ‘use value’ from ‘exchange value.’ Use value is ‘utilities (satisfaction of social needs) of some objects.’ Ricardo pointed out two different determinants of exchange value of commodity: the one is scarcity and the other is quantity of labor required to produce it.

However, exchange value of particular commodity determined by its scarcity forms a small part of mass of commodities. The quantity of these kinds of commodities is limited. For example, scarce paintings and stamps, rare wines and pictures, statues, etc. are all limited in numbers and do not form the general market. On the contrary, the value of all commodities is determined by the relative quantity of labor (measured by time) required for their production.

Based on these conceptual tools, Ricardo analyzes the source and the origin of value of commodity. Unlike Smith, Ricardo

Relative quantity of labor time

Marx also draws the similar distinction between use value and exchange value. According to him, commodity is both use-value and exchange value. Use value, as a result of concrete labor, is ‘material thing or effect some of whose properties satisfy human want.’ It is an output produced by productive labor.

On the contrary, exchange value is the object of social exchange. While use value is related to concrete labor, exchange value is estimated by the abstract human labor. The abstract labor, or to put it in quantitative way, the abstract socially necessary labor time is the foundation of exchange value of all commodities and the foundation of real exchange on the market. It was the amount of labor time which determined the value of commodity in Smith and Ricardo’s perspective. In Marx, it is the abstract socially necessary labor time which determines the exchange value

Hypothetical state of society - Rude and early state of society (Smith & Ricardo) vs. simple commodity production (Marx)

The object of analysis – modern capitalist society (Smith & Ricardo) vs. capitalist commodity production (Marx)

The determinants of value of commodity - Relative quantity of labor time (Smith & Ricardo) vs. the abstract socially necessary labor time (Marx)

6. How do Smith, Ricardo and Marx analyze the evolution of the rate of profit over time? Analyze the mechanisms involved. What implications can one draw from the trajectories implied by the different theories?

Classical political economists share a lot of theoretical aspects in common: they paved the way for classical labor theory of value; they also used similar theoretical schemes and concepts such as distinction between natural price and market price, use value and exchange value, etc. But there are also huge differences between them. In this essay, I will present the similarities and theoretical differences among classical political economists. While doing so, I will explain how they analyze the falling rate of profit from different perspectives.

Firstly, they point out the fact that the relative amount of labor regulates the relative prices of commodities. In this sense, they are all advocates of classical labor theory of value. But Smith asserted that the rule would be changed due to the introduction of accumulation of capital and the appropriation of land. Smith argues that in modern capitalist economy, the aggregate income becomes split into three parts: wages for labor, profits for capital and the rent for landlords. Smith assumes that this change will lead to the modification of his labor theory of value unlike the case of his early and rude state of society.

Unlike Smith, however, Ricardo proved the validity of labor theory of value even when accumulation of capital introduced. Even though there exist social classes and the separation of aggregate income into different class incomes, competition among labor and competition among capital will equalize both the real wages and profit rates across production sectors. This means that if capital and labor ratios remained the same, the relative prices of commodities would be exactly the same as the quantity of labor required for their production.

Secondly, they draw distinction between natural price and market price. The concept of natural price is converted from the quantity of labor required for commodity production based on the assumption that the value of commodity is the same as the price of commodity. In this scheme, natural price plays a significant role in determining and explaining the fluctuations of market price of particular commodity. The natural price, as a center of gravity, regulated the real price movements.

Thirdly, they argue that the rate of profit will fall in the long term. Smith and Ricardo point out the tendency of the rate of profit to fall. But Smith does not provide any scientific explanation. He just attributes the falling rate of profit to fierce competitions among producers. In this sense, Smith seems to identify the falling rate of profit with the equalizing tendency of profit in production sectors. Smith also does not pay significant attention to the problem of rent. He only dealt with this issue from the perspective of application case of his primitive labor theory of value.

On the contrary, Ricardo’s explanation of falling rate of profit is closely related to the theory of rent. He started from diminishing material return of rent. As accumulation proceeds, demand for food will be increased. Accordingly, much more land and less fertile land will be introduced in order to produce foods. This means that the cost and labor for agricultural production will increase and lead to the rise of corn prices. This, in turn, leads to fierce competition to get into much more fertile land, and the rise of rent. This whole process will raise the wage, and thus reduce the amount of profit for capital.

In this way, Ricardo attributed the falling rate of profit to the rising rent. That is why Ricardo proposed to import cheap corn from abroad. If the cheap-price corn can be imported from abroad, the wages for labor will not increase, and thus the profit for capital will not necessarily fall.

1. Review of the discussions on competition

(1) The ways how to competition operate in the capitalist system: In Marxian perspective, the competition can be described as a war against each other. Competition has a selective structure (filtering effects on the introduction of machinery) but this does not imply the optimal equilibrium. There is no guarantee the general increase of profitability. Competition is driven by profit gain. This process leads to constant expansion and conflicts among capital.

(2) The laws of competition (common characteristics of classical political economists)

① Competition within an industry:

ⅰ. Competition within an industry forces a roughly common price on individual sellers

ⅱ. Competition lower the cost as an active policy (lowering the cost is an imperative). This price cutting (setting) tendencies lead to one company’s winning the market share and its defeating the uncompetitive firms. But the winner does not imply or represent the optimal equilibrium.

ⅲ. Competition makes new plant of equipment constantly come in displacing the old leading to reduced/ lowered cost.

ⅳ. Considering there are various firms and competitors with different technologies and thus the different margin of profits/ the rate of profit, and given the condition that there exist common price, this tendency of lowering the cost of the firm will bring about higher unit profit. Thus, competition equalizes the price but dis-equalizes the rate of profit.

② Competition among/between industries:

- Competition among and between industries will make the profit on the new investment (in regulating capitals) roughly equal.

- This notion of competition is totally different from that of ‘perfect competition.’

③ Competition across regions/nations:

- If the competition has these properties in the capitalist system, what are the implications for international trade? This issue lead to the problem of foreign trade.

- Every region does not have the equal average rate of profit and the relative price of any two goods are regulated by the relative real cost (direct and indirect unit labor cost)

2. Karl Marx’s theory of international trade (in comparison with David Ricardo)

(1) In Marxian perspective, the competition among nations and different regions leads to ‘unequal exchange’ among them.

(2) Two different theories of international trade: Px^($)/Pn^(yen) * XR^(yen/$) = XR^(Yen/$)/ Pm^(yen)/Px^($)

ⅰ. Smith and Marx:

- There is no guarantee to full employment and there is no guarantee to effective factor endowments (specialization of employments).

- According to them, the Third Worlds countries (Underdeveloped Capitalist Regions; UCR) will decline and lead to trade deficit if they are engaging in international trade. Gold money inflow from the Third World countries into NDCs(Now Developed Countries; or the Developed Capitalist Regions; DCR) will be given to the hands of capitalists, not to the whole national wealth. The outflow of money from the UCR will lead to the increase of interest rate, and the money of capitalists can be invested on the TWC to buy bond and stock, etc. leading to the chronic and shock crisis.

- Unlike the Ricardian theory of international trade, the foreign trade is determined by real cost (relative quantity of labor time required for manufacturing goods and labor time for import/ export)

ⅱ. Ricardo and Post-Keynesian and Neoclassical economists

- The underlying assumption behind the Ricardo and Neoclassical economy is that those countries which are engaging in the foreign trade will mutually better off and this trade will lead to trade balance. Likewise, full employment and the trade balance are two presuppositions to modern international trade theory.

- David Ricardo’s theory of foreign trade: Ricardo drops the ideas of two relative prices will not be regulated by relative costs, but rather will lead automatically to balance trade via his quantity theory of money.

 3. Compare and contrast Smith’s and Marx’s treatment of the transformation of the labor process by capital. How does Smith’s description of the transformation of the pin factory compare to Marx’s analysis of the rise of modern manufacture? What are their differences, if any? What does this imply for issues of technical change in the modern world?

The division of labor is specialization of specific labor and skill. Smith regarded division of labor as being rooted in human nature. According to him, division of labor leaves people having different skill and resulting apparent different human talents. Historically, this division of labor has been limited by the extent of market (limits of sectors of market and limits of aggregate demand in the market). Thus the division of labor could be developed in accordance with the development of market.

Unlike Smith, Marx introduced the concept of the division of labor in much more specific context, the historical transformation of labor process by the capital accumulation. At the beginning of capitalist production, workers have their own craft and skill for labor. The combination of workers by capital is merely formal.

At this stage, the mode of production is not yet determined by capital but found on hand by it. As capitalist system develops, this initial stage of labor process transformed into labor for profit. Capitalist no longer employs workers as it finds them, but sets them work together. Capitalism appears as collective force of the workers. Initially it is simple cooperation of workers working together to produce the same sort of commodity. This leads to concentration of labor into one particular place under supervision. Under this system, workers placed in one place and forced to work in definite partial operations.

Factory and Modern industry: machine dominates production. Machine becomes the dominant factor in the labor process, and workers become inferior to machine. Every improvement of machinery spread rapidly among capitalists through competition.

It follows from this transformation of labor process under capitalism that the ratio between capital and labor, productivity also increase. Reserve army of labor is created by capitalist mechanization

Marx explains the capitalist population growth according to the ‘natural self-sustaining feedback rule. When capital grows faster than population, the rate of unemployment will shrink. If so the wage will rise  profit fall  growth rate of capital will decrease  labor market become tight.

Two factors which influence on the rate of unemployment are displacement rate of labor and the increasing growth rate of capital. Due to these two factors’ combination real unemployment rates are always oscillating around the normal rate of unemployment.

4. Contrast Ricardo’s theory of international trade with that derived from Smith and Marx. What are the specific points of departure within the general theory of competition? What are the differing implications for the opening up of trade between countries that are competitively unequal (as is currently proposed by the World Bank and the WTO)?

Ricardo’s theory of international trade is closely related to his labor theory of value, which can be summarized as the relative price of commodities is almost equal to the relative labor time for their production. He asked whether this principle can be applied to the realm of foreign trade. His answer is no.

Unlike Smith and Marx, he suggested that the ratio of exported price with imported price is not equal to the ratio of exported labor time with imported labor time. Ricardo asserted that the ratio between imported commodity price and the exported commodity price will determined in such a way as to make export equal to import.

To use his own example, if England and Portugal start to export their relatively advantageous commodities to each other, England gold money will be imported to Portugal and Portugal’s cheap exports will be introduced to England. This would cause affluence of gold money in Portugal and abundance of goods in England. Ricardo claims that this international exchange will lead to trade balance and specialization of industry in both countries.

* Both countries will gain mutual benefits from foreign trade

* Each countries will specialize industries so that each country will have comparative advantage in particular sectors which leads to optimal factor endowments.

* Ricardo’s version of foreign trade is based on the quantity theory of money which can be summarized by MV = PY formula where M is the quantity of money, V is velocity of money, P is price level and finally the Y is production condition in a given time. Ricardo argued that if two countries, i.e. England and Portugal start to import and export their respective comparative advantage goods, or lat least start to foreign trade, the outflow and inflow of gold money will affect the general price level and thus lead to mutual industrial specialization, optimal factor endowment in the long run.

Unlike this Ricardian notion of foreign trade, Marx started his approach from the perspective of competition among capitals. Capital is driven by profitability in the first place. In order to increase the rate of profit, every individual capital introduces new machinery and technologies. All of these processes are forced by real competition. In order to increase the rate of profit, in order to survive under fierce competition, individual capitalists move from one production sectors, regions, countries to another production sector, regions and countries. In this sense, the behind motive of the international trade lies in the capital accumulation and competition.

However, unlike competition among capital in an industry, or between industries, the effect of competition among regions and countries, especially among different countries does not bring about the full employment and trade deficit. There is no guarantee of the profit being equal to or across regions and countries. Because there are different technological development levels, competition among capitals does not equalize the same technology and wage level across the regions and countries.

Thus, from Marxian perspective, the competition of capital among nations and different regions leads to ‘unequal exchange’ among them. First of all there is no guarantee of full employment and effective factor endowments (specialization of capital). According to this logic, the Third World countries or underdeveloped capitalist regions will decline and lead to trade deficit if they are engaging in international trade. Gold money inflow from the TWC into NDC will be given to the hands of capitalists. The outflow of money from the UCR will lead to the increase of interest rate, and the money of capitalist can be reinvested on the TWC to buy bond and stock, etc. leading to the chronic crisis.

* In marx’s perspective, competition is described as a war against each other. Even though competition among capitals in an industry bring about the equalizing effect of the rate of profit, and force individual capitals to equip the same level of technologies, there is no guarantee the general increase of profitability. There is no optimal equilibrium, thus this process leads to constant expansion and conflicts among capitals.

 1. Discuss the concept of productive labor in Smith and Marx. Why is the concept introduced? What is its characteristic structure in each author? What are some implications of the concepts? What arenas, if any, do you think it might apply to in the modern world?

Labor is considered as organizing activities of human being to produce various kinds of products in classical political economists. In Smith’s perspective, labor not only produces goods and services but also produce the secondary products such as machinery and raw materials. This production scheme is radically different from that of neoclassical economic theory where machinery and raw materials are considered with labor only as inputs to produce certain amount of products, outputs.

The distinction between productive labor and unproductive labor is derived from Smith’s arguments. According to him, the productive labor is related to direct material production. Unlike unproductive labor, this always adds to value. On the contrary, unproductive labor has nothing to do with value-added labor. For example, the labor or activity of “the sovereign and his officer of justice and war,” “the labor of menial servants” do not increase the value even though their labor deserves to be rewarded. The labor of those “who are engaged in protection,” “security of the commonwealth” also does not add to the value. Their activities, the products of their labor always perish “in the very instant of their performance.”

With this distinction, Adam Smith was able to draw a sharp line between those who were engaged in material production and those who were maintained by the industry of other peoples. Even though this concept did not have any moral, ethical connotation, and even though there are many ‘unproductive labor’ which produce ‘social utilities,’ this concept and distinction between the two provided useful parameter with which political economist could estimate and measure the significance of productive activity. With this distinction, Smith attacked socio-political obstacles or hindrance laid in front of the increasing accumulation of capital, and thus the increase of the wealth of nation.

According to Ronald Meek’s explanation, Smith regarded accumulation of capital as a basic motive and a cause of the increase of the wealth of nation. In order to reveal the nature and cause of the increase of the wealth of nations, it was necessary for Smith to analyze the process of modern economy, and the source of value. That is a reason why Smith introduced the concept of productive labor and its differentiation from unproductive labor. While doing so, Smith was able to criticize certain political institutions which hindered the accumulation of capital, and attack particular social attitudes which discouraged the increase of wealth.

Marx also maintains similar distinction between productive labor and nonproductive labor. In the first place, Marx uses the term, productive labor in relation to the concept of use value. Use value is a product of concrete productive labor. However, the distinction between production labor and non-production labor is not identical to the distinction between use value and exchange value. In Marx’s approach, the distinction between the two concepts is closely related to his theory of surplus value. While Smith described productive labor as the labor which add value in material production to wealth of nation, Marx attributed the productive labor only to that produces surplus value in the capitalist labor process.

2. Compare the treatment of profits in Smith, Ricardo and Marx. How does each introduce the issue? How does Marx’s analysis of profit differ from that of others? What are some implications of these differences? What is the role of rent in all of this?

The theory of profit is among the most significant issues in classical political economists. Unlike modern neoclassical economists, most classical political economists pointed out the long term tendency of falling rate of profit in the capitalist mode of production with various reasons. In this essay, I will present different treatments of profit by Smith, Ricardo and Marx, and show the general features of their theory.

First of all, Smith introduced this issue in his Wealth of Nations. In order to understand Smith’s theory of profit and price, we should pay attention to his theoretical procedure. He postulates that there was ‘rude and early state’ of society where there is no ‘profit’ or ‘rent.’ In that society there is only ‘income.’ In this society, price of product will be proportional to labor time, and thus the relative income will be equalized through competition among producers.

Smith went further to examine the possibilities of modification of the labor theory of value and the price when modern capitalist economy is prevailed. Unlike ‘rude and early state’ of society, there are social classes and the differentiation between wages and profits (rents) in developed economic circumstance.

Even in this situation, Smith asserted that the regulation of exchange need not be disturbed directly by labor time. Even if the total amount of income should be divided into wages and profits, competition will still produce equal income for workers. In order words, there will exist equal wage across the production sectors.

However, Smith pointed out that if there exist equal rate of profit on capital in two production sectors, ‘competitive outcome for capital’ would exist. But if the rate of profit on capital, namely the ratio between profit and capital, is different from each other, then the principle will no longer hold. Smith called this ‘modification of rule.’

In sum, in Smith’s perspective, the value added is considered to be split into wage and profit in modern capitalist economy. The existence of accumulation of capital and the appropriation of land, namely the existence of different social class incomes, e.g., profits and rents modifies the determination of relative value by the relative labor time bestowed on its commodity. In this way, Smith was not consistent in the theory of labor value. He said at the end of the book that ‘three forms of incomes are the independent sources and elements of income.’

Smith also mentioned the ‘falling rate of profit.’ He said that ‘as accumulation raises capital stock, the increased competition lead to profit falling down.’ However Smith did not elaborate this mechanism in detail.

1. The concept of productive labor and unproductive labor

The concept of productive labor and its distinction from unproductive labor had been a central issue among classical political economists, such as Smith, Ricardo and even Marx. Even thought Ricardo did not use this term, he also distinguished productive labor from unproductive labor, especially when he dealt with the distribution of incomes into social classes. Moreover, it is well known that Marx too tried to reconstruct productive labor concept in his major works.

The distinction between productive labor and unproductive labor is derived from Smith’s argument. According to Ronald Meek’s explanation, like other contemporary economists, Smith regarded accumulation of capital as a basic motive and cause of the increase of the wealth of nation. In order to reveal the nature and cause of the increase of the wealth of nations, it was necessary for Smith to analyze the process of modern economy, and the source of value. That is a reason why Smith introduced the concept of productive labor and its differentiation from unproductive labor. While doing so, Smith was able to criticize certain political institutions which hindered the accumulation of capital, and attack particular social attitudes which discouraged the increase of wealth.

According to Smith, the productive labor is related to direct material production. Unlike unproductive labor, this always adds to value. On the contrary, unproductive labor has nothing to do with value-added labor. For example, the labor or activity of the sovereign and his officer of justice and war, the labor of menial servants, even though their labor deserves to be rewarded, do not increase the value. The labor of those who are engaged in protection, security of the commonwealth also does not add to the value. Their activities, the products of their labor always perish ‘in the very instant of their performance.’

With this distinction, Adam Smith was able to draw a sharp line between those who were engaged in material production and those who were maintained by the industry of other peoples. Even though this concept did not have any moral, ethical connotation, and even though there are many ‘unproductive labor’ which produce ‘social utilities,’ this concept and distinction between productive labor and unproductive labor seemed to provide useful parameter with which political economist could estimate and measure the significance of productive activity. With this distinction, Smith attacked soci0-political obstacles or hindrance laid in front of increasing accumulation of capital, and thus increase of the wealth of nation.

Finally, there is an issue whether this notion can be applied to modern society. Regarding this question, I would like to address theoretical antinomy or problems which arise from both Smith’s theory and complicated real world. As Karl Marx already put it, particular labor which is not directly engaged in material production, but is closely related to the production of material goods can also be regarded as productive labor. For example, boxing or delivery is not necessary for particular production. Therefore, according to Smith’s explanation, these labors are unproductive labor. However, boxing labor also can be regarded as value-added activity, thus productive labor.

Smith did not provide enough explanation of this kind of concrete estimation. So I think it is impossible to apply this concept to much more complicated society than Smith’s age. In other words, because Smith did not elucidate his notion in every detail, whether particular labor can be called productive labor or not seems to be remained controversial. Moreover, if we consider the modern world characterized by high level of division of labor and complexity, trial to apply Smith’s concept of (un-)productive labor does not seem to be plausible.

2. The role of the “rude and early state” in the classical theory of value (B)

The labor theory of value, which can be summarized as the notion that the relative value of products and commodities is determined by the relative quantity of labor which was required to obtain them, is one of the most significant contributions of classical political economists such as Adam Smith and David Ricardo.

In order to grasp underlying principles which regulate the relationship between value and price, determine commodities’ relative exchangeable value, Smith invited us to his imaginary state of society, the “rude and early state of society.”

In this state, there was no accumulation of stock, no appropriation of land. There are some production sectors which are mainly composed of direct productive labor. Smith provided us with beaver production and the case of deer production for examples.

If the market price of beaver lowered below its natural price, and thus the relative value of deer become rise, every producer would invest their labor in the latter sector. Then to competition among deer producers cause to fall in the price of deer until the relative price of beaver production become rise.

With this description, Smith asserted that in rude and early state of society the relative value of products was proportional to the quantity of labor required for their production. In addition, Smith also pointed out that the competition among producers is a driving force of equilibrium allocation of resources.

However, Smith claimed that in more developed economy, this basic rule would no longer hold. With the effect of accumulation of capital stock, with the effect of appropriation of land in the hands of individuals, according to Smith, the rule – the relative value of commodity is proportional to the quantity of labor requisite for its production – should be modified.

In contrast to Smith, Ricardo pointed out, in his The Principles of Political Economy and Taxation (chapter 1 “on Value”), that even considering the effect of accumulation of capital, we don’t have to give up the labor theory of value.

All in all, the thought-experimental ‘rude and early state’ of society was utilized as a theoretical basis upon which Smith and Ricardo developed their original contribution to the labor value theory.

1. Discuss the concept of productive labor in Smith. Why is the concept introduced? What is the characteristic structure of the argument? What are some implications of the concept? What arenas, if any, do you think it might apply to in the modern world?

The concept of productive labor and its differentiation from unproductive labor has an important meaning in most classical political economists. Even though, Ricardo did not use this term, it is certain that he also adopted the same notion. Furthermore, it is well-known that Marx tried to reconstruct the concept of productive labor in his major critique of political economics works.

Firstly, Smith distinguished productive labor from unproductive labor. The distinction between the two has nothing to do with moral judgement in the first place. This implies that labor which is not directly associated to material production, such as sales labor, military service, and government officials use up the wealth of scarcity.

Smith provided some examples for this labor. According to him, the sovereign with officers of justice and war who serve him, public servants, those who are engaged in the protection, security and defense of the commonwealth, churchmen, lawyers, physicians, players, buffoons, musicians, actor, etc., do not add to the value of the materials. Even though, their labor deserves to be rewarded, their labors do not fix or realize themselves in some particular subject or commodity. Rather, their labor products perish in the very instant of their performance. In this sense, they are maintained by the annual produce of the industry of other people.

The reason why Smith introduced this distinction between productive labor and unproductive labor can be traced back to his main theoretical concerns. According to Ronald Meek’s explanation, Smith, like contemporary economists, regarded the accumulation of capital as the basic cause of the increase of wealth, and therefore, his theoretical systems were primarily designed to illustrate the nature, causes and effect of capital accumulation. While doing so, Smith criticized and attacked certain socio-political institutions and attitudes hindered and discouraged the effective accumulation of capital, the general increase of the wealth of nations. (R. Meek, “Ricardo and the Labor Theory,” Studies in the Labor Theory of Value)

This distinction between productive and unproductive labor is also implicit in Ricardo’s works, even though he did not use these terms. Considering his theory of rent, especially where he dealt with different distribution of value into different social classes, and his passionate advocate of import of cheap corn from other European countries, Ricardo can also be considered a theorist who drew distinction between the two.

Another interesting point related to this concept is that modern neoclassical economists also have similar distinction between productive labor and nonproductive labor. However, contrary to Smith, their concept of nonproductive labor is only the thing that is oriented to non-market system. This means that all labors which produce certain amount of incomes (not values) are considered to be productive labor. This neoclassical conceptualization of (non-) productive labor seems to fails to understand the nature and cause of value, which had been a central issue or theme in classical political economy.

Finally, we can think of some implications of the distinction between productive labor and unproductive labor. To apply Smith’s notion to modern world, every politicians, government officials, and those who are mot engaged in direct material production, can be described to be nonproductive labor, even though they produce specific utilities for social community. Even though, it is impossible to apply this concept to complicated modern economic world without any modification, the very notion, point of which the only labor directly engaged in material production, may be used as a sort of parameter to which social scientists including economists estimate the social significance and utility of each occupation.

In summary, the concept of (non-) productive labor played a significant role in Smith’s theoretical framework. With this concept and distinction, he was able to reveal the nature and causes of the wealth of nations.  With this concept, he was able to justify the need for the accumulation of capital, and attack certain social institutions which hindered the increase of the wealth of nations.

2. What is meant by ‘value in use’ and ‘value in exchange’? What factors regulate each?

The concept of value has significant meanings in classical political economy. Major classical political economists, such as Smith, Ricardo, and even Marx, started their respective theory with this concept.

To begin with, to Smith, the word value has two different meanings: one is the utilities of some particular objects, and the other is the power of purchasing other goods which the possession of that object conveys. The one is called ‘value in use’ and the other, ‘value in exchange’. According to Smith, the commodities or goods which have the greatest value in exchange have frequently little or not value in use. Smith gave an example for this distinction with water and diamond respectively. (A. Smith, The Wealth of Nations, Book 1: Chapter 4)

Like Smith, Ricardo also drew a sharp line between value in use and value in exchange (exchangeable value). The exchangeable value has the same meaning as ‘exchange rate of other commodity’ and ‘exchanging power’ of particular commodity. If particular commodity can be exchanged on the market, it has to have utilities which satisfy social needs. Ricardo pointed out that commodities which were use value derived their exchange value from following two sources: scarcity and quantity of labor requited for its production.

According to him, exchange value which is determined by its scarcity can only forms a small part of masses of commodities. For example, the quantities of scarce paintings, picture, stamps, statues, and rare wines which can only be produced specific regions of the earth are highly limited, and their value is not influenced by quantity of labor requisite for their production. Utilities are not the measure of exchange value, although they are essential to it.

On the contrary, exchanges value which are determined by the quantity of labor required to obtain them form vast bulk of commodities. The value of these commodities is dependent on the relative quantity of labor which is necessary for their production. In other words, the quantity of labor embodied in commodities regulates their exchangeable value. (D. Ricardo, The Principles of Political Economy and Taxation: Chapter 1 On Value)

With this distinction, Smith and Ricardo explore the determinants of exchange value. If vast bulk of commodities or goods have exchange value, and they are actually exchanged with each other on the market, what kind of rule regulate their relative value of commodities? And what is the underlying principle which regulates market price? What’s the relationship between price and value? Smith and Ricardo tried to deal with these questions in their respective works. Whatever their concrete answers may be, their common theoretical questions would be called the rudimentary ‘labor theory of value’.

To sum up, the concept of value and the distinction between value in use and value in exchange dwell on the center of classical political economists. With this distinction, they were able to develop their researches to the general principle which regulate the relationship between value and labor, the source of income, different components of income, and their relative distribution.

3. What are the sources of profit and rents? What are the conflicting arguments in Smith, and where does Ricardo stand on the matter? What is the significance of this issue?

The theory of profit was a central issue in Smith’s classical political economy. Smith was the first who appreciate the existence of profits and rent, and accordingly the existence of conflicting social classes. In order to understand his argument on ‘class income’, it is necessary to introduce his basic notion of labor theory of value.

Smith started from ‘early and rude state of society’ where there is no accumulation of capital, no appropriation of land, and thus no profits and rents  in order to develop his theory of value and price. In this imaginary society, competition among producers resulted in equalizing net incomes among them. Smith provided the relationship between beaver production and deer production for examples to illustrate this point. Consequently, incomes become proportional to producers’ labor time in this society. The determination of exchange value by the relative labor time required to its production is the gist of labor theory of value.

Smith went further in order to examine the possibilities of modification of this principle, when modern capitalist production relation was prevailed. According to him, in the more developed situation, there started to be profits and rents because there is ‘stock’ of means of production owned by non-producers. Smith asserted that due to the existence of profit and rent, the rule which was held in rude and early state of society can no long hold.

Ricardo started his theory of value criticizing Smith’s value theory. According to him, even though there are accumulation of stock and appropriation of land, the rule is not necessarily modified. The exchange value of commodities, the relative value of commodities is determined by the relative quantity of labor required for its production. Ricardo pointed out the same logic could also be applied to the rent.

In this sense, the introduction of profit and the appreciation of the existence is a critical point with which reader can differentiate Smith from Ricardo. Even though they shared theory of labor value in common, Smith abandoned his theory on account of the existence of profit and rent.

However, both Smith and Ricardo seemed to fail to understand the nature of profit. They regarded it as a category of income. But they failed to provide scientific explanation of the origin and distribution mechanism of profit and rents.

4. How does accumulation affect the level of the rate of profit over time? What accounts for these changes, and what are some of their implications?

5. How and why does the consideration of equal profit rates alter the relation between the relative price of two commodities and the relative total labor times required for their production?

6. What is meant by Smith’s argument that labor is “the fund which originally supplies all necessaries and conveniences of life?” Does this ignore capital? Land?

Part 1. Three main approaches to economic growth

Most advanced countries have experienced rapid economic growth measured in GDP per capita after the World War 2, especially after the 1960s. Regarding the causes or reasons for this economic growth, three different types of economists provided us with answers.

Firstly, neoclassical economists argue that the determinants of rapid economic growth in most advanced countries are availability of production factors such as capital and effective supply of labor and technological progress. According to the Solow model, which paved the foundations for modern ‘neoclassical synthesis’ of economic growth theory, the aggregate (output per capita) is the function of the combination of capital and labor, or the combination of capital and ‘effective supply of labor’ in its intensive form with ‘technical change.’ In other words, Solow and other neoclassical economists proclaims that economic growth can be attained through increases in capital accumulation with appropriate growth rate of the population which will constitute the labor supply.

With this kind of model, neoclassical economist was able to argue that economic growth can be achieved at a balanced growth path. Unlike previous Harrod-Domar’s unstable growth pattern, neoclassical theory presupposes that there would not be any turbulent business cycle and crisis. In their original perspective, there is no room for economic crisis or unstable growth pattern.

Thus if there is any such a kind of instability, this is easily attributed to the effects of exogenous factors such as state intervention, particular social institution. In this way, neoclassical economists described economic growth as a function of capital and labor based on their smooth possibility of substitution and argued smooth convergence to general equilibrium.

Unlike neoclassical economists, Keynesian economists admit the possibility of the lack of availability of labor supply. In their perspective, equilibrium condition, which can be summarized as a point where aggregate demand and aggregate supply meets, can only be achieved by accident. In most cases, capitalist economic growth is always accompanied by disequilibrium of demand and supply.

Based on this notion, and based on empirical observations of the 1930s’ Great Depression, Keynesian economists formulated the positive role of the government in enhancing aggregate demand/effective demand. By increasing government spending, an economy can achieve the increase in the effective demand, and this in turn leads to the increased level of consumption and investment, which constitute aggregate supply. This approach and its related policies adopted by the government resulted in real recovery of economic growth. Thus Keynesian economics was able to take a dominant position in modern macroeconomics.

Contrast to both neoclassical and Keynesian economists, classical Marxian political economy shows quite different visions of economic reality. Firstly, Marxian economics does not presuppose the lack of factor availability. The capitalist system itself produces endogenously the pool of labor supply. Marx himself called this pool of labor as ‘reserve army of labor’ which is determined by the capital accumulation process. Thus, if there is any kind of economic crisis, this is not due to the lack of labor supply. Instead, this economic crisis is originated from the capital accumulation process.

Another distinctive line between Marxian approach and both neoclassical and Keynesian theorists lies in its treatment of technical changes. As we already saw, neoclassical economists treated technical changes as neutral or exogenous variable which affects on the increase of ‘effective labor supply.’ In his original growth model, Solow regarded ‘technical change’ as various factors which influence the productivity of labor. Even though, he admitted the fact that the increase in the GDP, he left the determinants and directions of the technical changes unsolved. To use his own term, the ‘total factor productivity growth’ was not analyzed in his model.

Later neoclassical economists, admittedly, tried to incorporate the role of technical change in their growth model (‘endogenous growth model’). However, they still fail to explain why technological progress is made and how this progress is closely related to capital accumulation.

Unlike neoclassical economists, Marxian approach regards technical changes as necessary condition for capital accumulation and appropriation of the profit. According to Marx, individual capitals have to reduce the unit labor cost in order not to be defeated by competitions in capitalist market system. With the introduction of technical changes, capital can increase the labor productivity, and this in turn leads to increase in the amount of profit share for the capital. If profitability is the driving force of capital accumulation, and the capital accumulation is the unique source of economic growth, at least in capitalist economic system, the technical changes and any other types of factors which might affect the production process and organization of labor can be reduced or incorporated systematically into the profitability of capital.

In this way, Marxian theory explains the dynamics of economic growth, capital accumulation and the rate of technical changes. As already anticipated, economic crisis comes from profitability. Marx attributed this crisis of profitability to the intrinsic logic of capital accumulation.

Part 2. Three main theoretical approaches to unemployment

Unemployment rate, which is the ratio of the number of unemployed people to total number of active labor force, varies from countries to countries, from periods to periods.

With respect to the determinants of unemployment level, neoclassical economists have tried to argue that there is only one types of unemployment; natural rate of unemployment or voluntary unemployment. According to them, natural rate of unemployment is the concept which describes the rate necessary and natural for ‘search unemployment’ and ‘wait unemployment.’ Because market economy is in its equilibrium condition, full-employment is already presupposed in neoclassical economics. Thus, the term ‘natural rate of unemployment’ is the normal unemployment which occurs naturally under fully employed situations in order for finding a new job (search unemployment) and waiting for better wage terms (wait unemployment).

Thus, in principle, there is no room for excessive high unemployment level and historical changes in the rate of unemployment in neoclassical economics. If there is any sudden change in the natural rate of unemployment, this might be attributed to the adjustment process of an economy to an new equilibrium, or due to external factors such as excessive government spending, etc.

Unlike neoclassical economics, Keynesian economics admits the possibility that there may be high unemployment rate. In their perspective, the equilibrium condition of an economy is not automatic. Thus Keynesian economists argue that proper state intervention through fiscal and monetary policies is necessary in order to achieve effective demand. For them, high unemployment rate and historical change of the rates are good symptoms of economic disequilibria and thus the signal for necessary government policies.

However, both neoclassical and Keynesian economists share the belief of the existence of equilibrium in common. The only difference between them is the extent and time of adjustment, and the necessary means to achieve the general equilibrium. Contrast to these theories, Marxian theory regards the unemployment as a byproduct of capital accumulation. According to Marx, capital accumulation can only achieved through profit gain. Thus investment decisions of the firms and the saving rates are all dependent variables of profitability. In this connection, extraordinary increase in the level of unemployment and reduction of unemployment are all possible in capitalist economy. The points of these whole processes are that these phenomena are dependent on capitals’ profitability.

Secondly, technical change is also determined by profitability. In order to defeat competitors on the market competition, it is necessary for individual firms to introduce new technologies in their production process. This introduction might increase the unemployment rates. However, this can also result in the increased number of employees. In other words, technical change or the introduction of new technologies itself does not determine the level or rate of unemployment. Once again, the level of unemployment is determined not by technical change but by profit gain for capital.

In this connection, the treatment of technical change by neoclassical economists is radically different from Marxian approach. They attribute the rate of unemployment to the technical change in a given condition.

Finally, both neoclassical and Keynesian economists argue that unemployment is negatively related to inflation rate.