30 August 2012

Digression on the Theory of Value

This post began as a series of footnotes to my fourth post on reading Sraffa. It seemed obvious that I was going to need to explain a lot of points that simply don't fit into a footnote.

Steve Keen is interested in Piero Sraffa' Production of Commodities by Means of Commodities because he believes that it explodes theories of value and price. Having read and re-read a lot of related material, I am increasingly skeptical of Keen's attempts to enlist Sraffa. But in order to explain why, I need to explain some things about rival theories of value.


In the past, the concept of a "just price" and its close cousin, the "natural price," stimulated debates about the fairness of capitalism itself. One provocation of debate--and much pre-19th century regulation--was the sudden increase of prices for goods in times of scarcity. Another was the frequently inverse proportion between the wealth of some people and the amount of productive work they did. Most food, for instance, was produced by people who were themselves desperately poor and subject to continual toil.

One approach for jurists was to reason from the principle of a "just price" for goods, which supposed to be derived from what that particular culture regarded as fair (or decent, moral) business practices. Another approach was to reason from what goods ought to cost. Adam Smith, for instance, reasoned that goods had a "natural price":
When the price of any commodity is neither more nor less than what is sufficient to pay the rent of the land, the wages of the labour, and the profits of the stock employed in raising, preparing, and bringing it to market, according to their natural rates, the commodity is then sold for what may be called its natural price.
Wealth of Nations, I.vii-§4."Of the Real and Nominal Price of Commodities"
The natural price of any item could be divided into the share paid to land, labor, and capital. Of these, capital and rent could be divided into accumulated past labor required to make them available to the general economy. So, for example, money borrowed at interest to pay the rental fees for the table saw and electric router used could be instead represented as labor performed in the past to create those items. Likewise, the wood, varnish, and glue (or nails).

The value of those inputs was all determined by what what required to make them forthcoming in the desired amounts. If the value placed on labor was too low, then of course humans would avoid commercial occupations and stick to traditional subsistence occupations; or, that denied them (as was the case in 18th century Britain), they would likely starve and have few children, leading to a dearth of labor. If the interest on borrowed money (capital) was too low, then too little would be saved and banking would be strangled by insufficient loanable funds, etc.

Shortly after Smith published The Wealth of Nations, David Ricardo decisively demonstrated that the concept of the "natural price" was actually a fallacy, and like the Farallon Plate, it is now completely subducted under Ricardo's labor theory of value (LTV).


Deciding what the true price of things ought to be required some objective principle that united all things of value. One point of view was that there was a unique attribute of all goods that could be quantified for purposes of comparison, and this attribute was labor. While the production of most goods require other goods (like machines and raw materials) in addition to labor, those other goods--in turn--can be reduced to earlier labor inputs, and so on backward in time.

This was mentioned by Adam Smith several times:
The annual labour of every nation is the fund which originally supplies it with all the necessaries and conveniencies of life which it annually consumes, and which consist always either in the immediate produce of that labour, or in what is purchased with that produce from other nations.
Wealth of Nations, I.i-§1. "Introduction and Plan of the Work"
leading to his distinction between value in exchange and use-value.
The word VALUE, it is to be observed, has two different meanings, and sometimes expresses the utility of some particular object, and sometimes the power of purchasing other goods which the possession of that object conveys. The one may be called 'value in use ;' the other, 'value in exchange.' The things which have the greatest value in use have frequently little or no value in exchange; and on the contrary, those which have the greatest value in exchange have frequently little or no value in use. Nothing is more useful than water: but it will purchase scarce any thing; scarce any thing can be had in exchange for it. A diamond, on the contrary, has scarce any value in use; but a very great quantity of other goods may frequently be had in exchange for it.
Wealth of Nations, I.iv-§13. "Of the Origin and Use of Money"

The value of any commodity, therefore, to the person who possesses it, and who means not to use or consume it himself, but to exchange it for other commodities, is equal to the quantity of labour which it enables him to purchase or command. Labour, therefore, is the real measure of the exchangeable value of all commodities.
Ibid, I.v-§1 "Of the Real and Nominal Price of Commodities" (emphasis added)
Historically (according to Smith) this would imply that capital accumulation (and hence, interest on capital), rent on land, and ultimately, profit were diversions of (exchange) value away from the actual producer, labor.1

Smith was not happy about this, but he accepted it as having an important payoff for society. The accumulation of capital led to the division of labor, massively increasing its productive powers. This included developments people usually associate with machinery as such: things like metallurgy allowed workers to contribute to food production from activities as far afield as coal mining and steel production. Because of this, economists who came after Smith were content to regard this diversion of revenue away from labor as morally acceptable, since it greatly enhanced the absolute benefits available to laborers.

After 1870, the situation changed.William Stanley Jevons, Leon Walras, and Carl Menger each published books that had a major impact on the field of economics--all of which attacked the labor theory of value.2

Instead of accepting economic growth as a sort of loan from the worker (in exchange for which the worker was paid "interest" in the form of rising real wages), the marginalists argued that the value of objects arose from its use value. One of Menger's followers, Eugen Böhm-Bawerk (The Positive Theory of Capital, III.iii.) argues that value in use is augmented by value in exchange: claiming that the above-mentioned diamond-water paradox had stumped economists from Adam Smith onward, the Austrians made it a paradox without a satisfactory solution, but then came up with the casuistry that the use-value of a diamond was really big because its exchange value was.3

Therefore, the value of economic inputs was determined by their contribution to the overall utility of goods they were used to produce. According to marginalists, profit was actually an inherent cost of production, and reflected the income "advanced" to workers before the production process was complete (according to marginalists, labor was unique among the factor of production in so far as it was not entitled to payment prior to the completion of the production process, whereas all other inputs were.)4


A fundamental doctrine of economics is that markets are totally spontaneous relations that always occur between free actors.

Now, as a historical fact it has be made absolutely clear that markets are things that have to be made by conscious effort; stock markets, for example, consist of very specialized experts called "market makers." This is a really basic fact well known to anthropologists and actual historians of economics. Spontaneous markets usually are confined to exotic situations where commerce has long been established and is suddenly disrupted by a disaster.

But let us suppose that, once markets are set up for many different goods, they perform the unique miracle of price discovery, by establishing an equilibrium between supply and demand.

The problem with declaring that this is what value really is, was obvious even to the Austrian school of economics: even Carl Menger or Eugen Böhm-Bawerk, to say nothing of William Stanley Jevons or Alfred Marshall, were going to claim that that was what value actually was. Value may have been "discovered" (i.e., revealed) by the process of commerce equalizing effective supply and effective demand, but in order for it to be revealed, value had to exist.


This is a tricky topic and what I need to say has already been said in this passage, so I'm merely going to quote at length:
[There is a very important] distinction between use value, the subjective valuation an individual gives to a commodity, which is contingent and arbitrary, and exchange value, which is the long-run ratio of exchange between a commodity and another, including commodity money. [...] Marx point[ed] out that the greatest classical economist, David Ricardo, assumed that a commodity produced would have greater exchange value than the total value of the wages paid to the workforce making that commodity (the value of the wages itself also expressed in commodities). As Marx noted, Ricardo did not explain how this came to be, i.e. where the difference came from. Marx then argued that the difference, "surplus value," arose from labor and labor alone in the process of capitalist production: it resulted from the use value of labor power, which is the labor of people as sold as a commodity in a competitive labor market, being that it had the ability to produce surplus value.
Krul (2012) (emphasis added)
As I've already mentioned above, Smith's distinction between use and exchange value absolves him or anyone else from having to plumb the metaphysical questions of who deserves to possess the "utility" of the social product. This is not, after all, a preoccupation of Smith, nor is it of Ricardo, nor even of Karl Marx.

Reading the writings of neoclassical economists, it is clear that they are usually mindful that their readers are evaluating various radical views about the existing social order. A major preoccupation was "debunking Marx," an activity that almost all popular writers on economics feel compelled to do. As we have seen, the most dogged and vociferous were members of the Austrian school of neoclassical economics (Menger, Böhm-Bawerk, Ludwig von Mises, Friedrich von Hayek, and Murray Rothbard, and the mostly-sympathetic Joseph A Schumpeter.) While the Austrian school is subject to differences of opinion like all the others, one common feature was this tendency to attribute to Marx, et al. the view that intrinsic worth of commodities was the thing being alienated, and therefore Marx was just an obnoxious simpleton.5


When talking about the labor theory of value, it sounds very simple: value in exchange will represent the sum of all past labor inputs into the creation of this final commodity. One might acknowledge that "in exchange" assumes a few points: one is that "exchange" involves a mostly fixed bundle of commodities (nominal values of money being held in low esteem); and that while the "value in exchange" of, say, 1000 yards of muslin, is subject to fluctuation depending on things like access to your primary markets, prevailing tastes in textiles, etc., it is stable enough to make long-term plans.

Another assumption is that labor-power may be treated as a homogenous, interchangeable input. This is no different that ordinary Taylorist methods for planning a new production process. Again, since the Marxist LTV is describing capitalist production, it follows that we can prima facie assume management policies optimizing worker output and even uniformity. Willfully substituting inefficient methods of production, for purposes of argument, is in bad faith.

Marxism is especially significant because it actually represents a crucial endpoint in the system of economic analysis. Logically, it is a more logically robust than neoclassical economics because it is compatible with a huge range of realistic market failures and neoclassical theory is not; it acknowledges (where neoclassical economics emphatically denies) the concept of sectional interests in society winning control of "the market," which apparently Sraffan economics implies must happen.


Marxist theory uses the term "commodity" in a specialized sense.  While I strongly recommend Robert Vienneau's FAQ page on the LTV, the entry for "commodity" says very little.  When writers like Matthijs Krul say that "The 'residue' exists because capitalism has not always existed, that is to say, that there has been non-commodity production before commodity production," readers understandably will wonder how this could possibly be true.6

Krul includes an extended quote from Marx's Capital that explains what he meant by "commodity," but I did not really think this was helpful: "A commodity is, in the first place, an object outside us, a thing that by its properties satisfies human wants of some sort or another"; this is a necessary condition of being a commodity, but it cannot possibly be sufficient, because all human societies have produced that sort of thing (and what about services?).  I wanted a succinct explanation of what it was about "commodities" that distinguished them from the goods and services that pre-capitalist economies presumably produced.  
The most important thing to realize about the concept of human capital is the direct meaning of the term itself: human capital. Conceiving of skills and education as an aspect of labor in fact reinforces the understanding of labor itself as a commodity, which happens to reside in human beings individually. This has two important effects. First, the individual human’s labor has under neoclassical theory already been assumed to be a commodity, a mere instrument for the production of capital. Now, even the aspects of the carrier of labor, the human individual, which were hitherto considered to be given and outside the sphere of neoclassical capital theory are now subsumed within it. All skills, all education, in fact any number of intangibles relating to character, outlook and so forth can now be subsumed into the theory as means of production.
Krul (2010) (emphasis added)
I am pretty sure that Krul has nailed it right here.  The essence of capitalism is that it seeks to accumulate capital, which is to say, it uses a combination of technology and social control to build up continuously growing pool of stuff required for the production of more stuff.

...[L]abor takes a specific form under capitalist production, because it is now a commodity (labor-power) which in the process of generalized competition is made into homogeneous, abstract labor. It is not, therefore, just like any other commodity, but it is one which, as essential prerequisite for the process of capitalist reproduction, becomes the very yardstick of its own accumulation: value, which is nothing else than socially necessary labor time needed for the reproduction of any commodity.
Krul (2012)

The "stuff" could be inventories, buildings and fixtures, machinery, or "human capital"; probably anything one could name has been used as capital at some time or another (including the state, whether of the USSR or the government of Lake County, Florida).  Idealistically, one could equally imagine nearly all of those things not used as capital: an Indian tribe whose cement factory provides employment and public revenue, or a research facility whose findings are public domain, and so on. At that point they would cease to be commodities, since commerce in them would not be driven by the process of accumulating social power for some capitalist.

  1. Smith, Wealth of Nations, I.vi-§5. Smith goes a little further in his Lectures on Jurisprudence:
    Of 10,000 families which are supported by each other, 100 perhaps labour not at all and do nothing to the common support. The others have them to maintain beside themselves, and besides [those] who labour have a far less share of ease, convenience, and abundance than those who work not at all. The rich and opulent merchant who does nothing but give a few directions, lives in far greater state and luxury and ease and plenty of all the conveniences and delicacies of life than his clerks, who do all the business. They too, excepting their confinement, are in a state of ease and plenty far superior to that of the artizan by whose labour these commodities were furnished... Thus he who as it were supports the whole frame of society and furnishes the means of the convenience and ease of all the rest is himself possessed of a very small share and is buried in obscurity. He bears on his shoulders the whole of mankind, and unable to sustain the load is buried by the weight of it and thrust down into the lowest parts of the earth, from whence he supports the rest.
    Lectures, 29 March 1763, p.341
    Page number is taken from the Glasgow Edition of the Works and Correspondence of Adam Smith, Vol. 5, Liberty Fund (1982).

  2. William Stanley Jevons, The Theory of Political Economy, London: Macmillan and Co. (1871); Leon Walras (translated William Jaffe), Elements of Pure Economics, London: Allen and Unwin (1954/1870); and Carl Menger (translated by J. Dingwall and B. F. Hoselitz), Principles of Economics, New York University Press, (1981/1871).

  3. It seems to be an article of faith among Austrian economists that they alone can explain why a diamond (which has little practical benefit) is expensive, but water is cheap. For a long time, economists explained that diamonds were extremely scarce, arising from the immense amount of labor required for "production"; whereas water could be captured and exploited with little labor. If social relations made water consumption more urgent than it is, then the value of water would rise relative to that of diamonds.

    This was not at all a puzzle for economists until the utility theory came along. The distinction between use-value and exchange value was used for explaining the mechanism by which the "natural price" was aligned with the "market price" of the good, and was not relevant to the question of what the intrinsic value of water or diamonds was. Relevant passage in Eugen Böhm-Bawerk is The Positive Theory of Capital, III.iii-§2, where he accuses [classical] economists of confusing usefulness and use value.

  4. According to Eugen Böhm-Bawerk, when an entrepreneur paid the workers, he did so long before their labor resulted in business revenue; therefore, their wages constituted a loan. Oddly, this was somehow an anomaly for labor, but not for things he bought from other entrepreneurs like inventory, raw materials, fixtures, machinery, and so on. See Böhm-Bawerk, The Positive Theory of Capital, VI.iv-§3, It would appear to me this explains the politically conservative view that contractual obligations to workers are frivolities that do not warrant respect, whereas less-than-contractual obligations to rich parties (like bondholders and shareholders) are sacrosanct.

  5. From Karl Marx, Critique of the Gotha Programme, I.:
    Labor is not the source of all wealth. Nature is just as much the source of use values [...] as labor, which itself is only the manifestation of a force of nature, human labor power. the above phrase is to be found in all children's primers and is correct insofar as it is implied that labor is performed with the appurtenant subjects and instruments. [...] And insofar as man from the beginning behaves toward nature [...] as an owner, treats her as belonging to him, his labor becomes the source of use values, therefore also of wealth.
    This leaves a lot of room for interpretation (and I am not the best interpreter!) but clearly Marx's "LTV" applies only to a society predominantly under a capitalist mode of production.

  6. Krul (2012)

Sources & Additional Reading

Piero Sraffa, Production of Commodities by Means of Commodities, Cambridge University Press (1960): link goes to complete text online.

Matthijs Krul, "Steve Keen’s Critique of Marx’s Theory of Value: A Rejoinder," Notes & Commentaries blog (4 July 2012)

 Matthijs Krul, "A Critique of ‘Human Capital’ theory," Notes & Commentaries blog (11 October 2010)

Adam Smith, Wealth of Nations (5th Edition), London: Methuen & Co., Ltd.(1904/1776)

Robert Vienneau, "Frequently Asked Questions about The Labor Theory of Value" version 1.2.4 (Last modified April 2004)

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