1979-02/05 How Capitalism Works [Buick]

By ALB [Adam Buick], Socialist Standard, February (1-2), March (3), April (4) & May (5) 1979


The reason the natural and industrial resources of the world are not used to provide the abundance they are capable of producing is to be sought, not in the realm of technology, but in that of economics.

Economics is basically the study of what happens when wealth is exchanged — that is when it is either bartered for other wealth or bought and sold for money. It is not the study of the production and allocation of wealth as such, but the study of its exchange and how this affects decisions about production and allocation.Exchange is not to be confused with allocation.

Allocation (sometimes called distribution) is about the use which people make of the wealth they have produced: how much they consume immediately. How much they store for future consumption. How much they use to build up or renew their stock of tools and machines. “Allocation” is used here in preference to “distribution” because the latter has acquired other meanings which can cause confusion; it sometimes means transportation (which is really part of production)— but worse shops, which are exchange institu¬tions, have taken to calling themselves the “distributive trade”.

In some past societies the amount and kind of wealth that was produced and allocated were decided according to some prearranged plan, even if this “plan” was just a set of tribal customs or some other unwritten code of social behaviour. Wealth was allocated directly for individual and communal use so that the sole aim of production could be said to have been direct allocation, or use.

In societies where the bulk of the wealth is exchanged after it has been produced (and before it is allocated) the production and allocation of wealth is no longer decided according to human plans or customs. The decisions are of course still made by people but within terms of reference outside of their control. Economics is the study of these terms of reference or, perhaps, of the laws or economic forces which come into operation once production for exchange becomes widespread.


An exchange institution is a body set up to take economic decisions; that is, decisions about the production and allocation of wealth in an exchange economy. A shop (where products are sold) or a bank (where money is deposited) are obvious examples. Not so obvious perhaps is the “enterprise” or firm, an institution for making decisions about the use of the large-scale, collectively-operated workplaces where the bulk of the world’s wealth is produced. The enterprise is the key modern exchange institution since, apart from the sale of human energy for wages and the purchase of consumer goods by wage-earners, exchange today takes place overwhelmingly between enterprises.

An enterprise is an institution which seeks continually to increase the monetary value of its assets (the instruments of production, the raw materials, the stocks and the cash, including the wage fund, it controls.) The monetary value of these assets is sometimes called “capital”; hence “capitalism” as the name for the modern exchange economy. The aim of inter-enterprise exchange is profit, the difference between production costs and sales receipts.

Enterprises aim to increase their capital through making profits, the ratio of the increase in capital to its original value being the rate of profit.

The internal structure of the enterprise— who makes the decisions? Who gets the profits? —varies from State to State according to their differing historical and political conditions. The two most common types of enterprise are the joint-stock company and the nationalised or state industry.

In the joint-stock company the key decisions are made by a board of directors elected by and responsible to the shareholders who supplied the money to buy the assets of the enterprise. The profits are shared between the share¬holders as dividends and the directors (and sometimes the top managers) as fees and high “salaries”.

The assets of a state enterprise are usually controlled by a management board appointed by the government. Its profits can be. and are. shared in a great variety of ways. They can. for instance, simply be handed over to the government to use to pay interest to those who have lent it money. Or they could find their way into the pockets of the state-appointed managers, once again through inflated “salaries”. Or they could be used to maintain in comfort and privilege those who control the state.

What is significant about the enterprise from an economic point of view is not its internal structure but its role as the mechanism through which the laws of the market are transmitted tc those who make the decisions about the production of wealth— whoever they may be and however they may be chosen. The internal structure of the enterprise could be, and in a few cases is, quite different from either private or state enterprises. The workers could elect their own management committee or workers’ council, but not even this would make any difference to the enterprise’s economic role. The workers’ council would still have to take decisions in accordance with what the market dictated. Real control by the producers over the production and allocation of wealth is not possible within an exchange economy.


The production of wealth is now a process involving millions of men and women in even,’ part of the world. What used to be the division of labour between individual skilled workers has become, with the development of modern technology, a division of the work of production between hundreds of thousands of collectively-operated workplaces (farms, plantations, mines, ships, docks, railways, factories, offices, warehouses) spread all over the world. Indeed, it is no exaggeration to say that every article produced today is the product of the world labour force co-operating within this world-wide division of labour.

Wealth production is no longer individual or local or national; it is social and worldwide. A single world society already exists but, because the workplaces of the world are controlled by enterprises, it takes the form of a world exchange economy.

The fact that there is only one, worldwide exchange economy is obscured by the political division of the world into states, each with the power to issue its own currency, impose tariffs, raise taxes and pay subsidies. The different economic policies of these states mean that conditions in the world market vary and give rise to the illusion that rather than there being one world economy there are as many “national economies” as there are states. But although states can. and do, try to change world market conditions in their favour, because of the worldwide character of the pro¬ductive process they do not have the power to isolate exchange within their frontiers from exchange outside. Far from it. World market conditions are in the end the most important factor states have to take into account when formulating their policies. They, like enterprises, have to work within the terms of reference of the exchange economy. Of course, states do have the power to make laws about the production and allocation of wealth, as about any other human activity, but enforcing such law is another matter. So is their economic effect.

The natural and industrial resources of the world are now controlled by profit-seeking private and state enter¬prises. In every state only a small minority can draw on these profits as a source of personal income. Whether or not they have title deeds to prove it, they are in practice the owners of the means of production. This applies equally to profit-taking politicians and managers and to shareholders and bondholders. Collectively these owners form a class with exclusive control — a monopoly — over the means of production. This class monopoly is the basis of modern society.


The personal income of those excluded from the means of production is the wage (or salary) they are paid by the enterprise which employs them. These wage-earners form a class of propertyless people since, collectively, they do not own the means of production. As individuals of course most of them do have some personal possessions and savings, but these cannot be used to produce wealth.

It is because they are members of a propertyless class that they are compelled by economic necessity to work for wages. This is the only way they can get money to buy the things they need to live. The wage relation which arises between the owning and the non-owning class is a basic feature of the present exchange economy. The use of wage-labour to produce the wealth of society signifies that human skill and energy has become an article of exchange due to the exclusion of the producers from the means of production. The existence of wage-labour means the existence of production-for-profit and vice versa: they are two aspects of the same social relationship.

The law of wages says that wage-earners tend to receive from their employer a sum of money sufficient to pay for the goods and services they have to buy in order to maintain their working skill and to raise and keep a family at the same standard. It also says that any sum of money regularly paid to wage-earners from a source other than their employer and any goods and services regularly provided free by employers or anyone else means that employers need pay wage-earners a smaller sum than they would otherwise have to.

In terms of goods and services, what this means is that other things being equal, over a given period of time the wage-earners’ standard of living is fixed at the amount of goods and services they need to maintain their skills and their families. Except within very narrow limits they can get no more and no less than this. So any attempt, say by the state, to raise their standard of living by providing free services or money payments is bound to fail. The operation of the law of wages will tend to ensure that the overall standard remains the same by causing a reduction in the sum of money paid by the employer. Similarly any reduction in the amount in a pay packet caused by increasing taxes, either on the goods they buy or directly on their wages, will be self-defeating. The law of wages will tend to bring about a corresponding increase in the sum paid by the employer.

Actually this is an oversimplified picture since the law of wages is not an automatic process; it operates only through human activities, through the struggles between the wage-earners and the profit-seeking enterprises that employ them over the size of the wage packet (or salary cheque). Indeed this struggle is the operation of the law of wages and to the extent that the wage-earners cannot, or do not, struggle then their living standards can be reduced. Other factors, like the levels of output and unemployment and the depreciation of the currency, also complicate the picture, sometimes considerably, but the broad outline remains accurate: the wage-earners’ standard of living cannot be improved by state subsidies nor can it be reduced by taxation.

This is not to say that the amount of goods and services the average wage-earner gets can never be altered at all. It can be, by two factors. First, by a change in the average skill of the worker. In the 19th century when the skilled handicraftsman was being replaced by a mass of less skilled machine-minding factory hands, often wo¬men and children, the average degree of skill did fall, and with it the wage-earners’ standard of living. In the 20th century, on the other hand, with the spread of universal education the average degree of skill, and with it the standard of living, has tended to rise. Second, the amount of goods and services needed to maintain wage-earners and their families is not something that could be calculated ;n precise terms by a team of doctors and scientists. Social factors enter into it too. People’s tastes and habits in regard to food, dress, housing, transport and entertain¬ment vary from place to place and change as advancing technology makes new products available. And when, as in a prolonged period of high employment, wage-earners have come to regard as necessities what were once luxuries then what they need to maintain themselves and their families has not only changed but has also increased.

The law of wages does not rule out such changes m living standards but, by their very nature as long term trends, they are increases that cannot be brought about by the actions either of the state or of the wage earners themselves.


But why are wages fixed at a certain level? Wages are a price, the price of the skills and energies wage-earners sell to enterprises, and like all prices are not fixed arbitrarily. Prices, in a roundabout way. reflect the amount of human effort that had to go into producing an article from start to finish. So wages, the price of human energy, are an indirect reflection of the amount of work that has to be done to produce all the goods and services needed to keep a human being alive and fit to work.

Wages are the form taken in an exchange economy of the amount of wealth that must be consumed to create and maintain the supply of human energy for the work of production, while profits are the form taken by the surplus wealth produced over and above this. The restriction on the amount of wealth allocated to the class of wage earners is the inevitable outcome of human energy being an article of exchange.



The law of profits says that each enterprise strives to make the maximum amount of profits, and that each state strives to have the maximum amount of profits made by enterprises operating within its frontiers.

An enterprise can only be said to “make” profits in the sense of acquiring through exchange more money than it originally had. The real origin of profits, however, lies elsewhere. As profits are the monetary expression of the surplus wealth produced over and above that consumed by the class of wage earners, they are produced in the first instance by human being applying energy to change nature. So the total amount of profits that can be made by all enterprises is limited by the total amount of this surplus wealth that has been produced. In fact the most convenient ways of understanding profits is to see all the surplus wealth produced as first converted into money and then pooled: and to see all enterprises competing with each other to draw from this pool the largest amount of profits they can. If this competition between enterprises were completely unrestricted then each enterprise would tend to make the same rate of profit: the amount of profits made by each enterprise would in other words, be directly related to the size of its capital. Price would then equal cost of production plus a margin equal to the average rate of profit.

This is what does tend to happen, but is complicated by the fact that competition is not unrestricted due to the various monopolistic practices adopted by enterprises, and particularly States, in order to try to increase their share of profits.
The competitive struggle for profits is not just a struggle between enterprises selling the same product, but a struggle involving every enterprise irrespective of the particular products they are trying to sell. The more profits one enterprise makes the less are left for the others. Like the law of wages, the law of profits is the outcome of the activities of people: in this case of those in charge of enterprises as they try to make profits.

For enterprises to make profits the price at which they succeed in selling their products must be higher than the cost of producing them. But price is not something enterprises can control at will. The amount of money those who want some product are prepared to spend on buying it constitutes the market for that product, while its market-price is determined by its supply in relation to the market demand for it. Generally speaking, the larger the supply the lower the price. In order for enterprises to make profits from satisfying a particular market, therefore, the total output of ail the enterprises producing for that market must be restricted to the level at which the interaction of the supply and the demand will result in a price high enough, not only to cover costs of production, but also to allow a margin for profits.

Where there are no monopolistic practices, this restriction is not the result of agreement between the enterprises involved, but comes about through ail enterprises seeking to make at least the average rate of profit. If the profit margin is less than average in a particular industry, then some of the enterprises will either stop producing for that particular market or will go out of business altogether. In either case output (supply) will fall and prices rise. If, on the other hand, profits margins are higher than average then new enterprises will be attracted: output will rise and prices fall. The stable situation, under these conditions, is where output is at the level where the selling price equals cost of production plus the average rate of profit.

Where elements of monopoly are present prices will be higher and the output probably lower than this. Few pure monopolies — where only one enterprise supplies the market — exist, but monopolistic practices of one kind or another (from cartels to informal collusion over prices) are fairly widespread. They allow prices to be raised above cost of production plus average profit and so for monopoly profits to be made. These profits are made at the expense of enterprises which supply other markets in that they reduce the pool of profits and so also the average rate of profit.

There is a further, technical restriction on the averaging of the rate of profit. Modern large-scale industry is such that it is not possible for a new enterprise to enter an industry as soon as the profits there become higher than average. This works the other way too. Enterprises cannot withdraw quickly if profits fall below average. Indeed they may even continue producing at a loss for a period just to cover fixed costs until the market, prices and profit margins recover. In the long run. however, a high or low rate of profit will be reflected in a permanent rise or fall in output. For enterprises make their decisions about the amount of wealth they will allocate to expanding the productive capacity of the workplaces they control in die light of such long run profit trends. In this way market conditions equally influence decisions about the size of the stock of means of production as they do about the level of current production.

So enterprises respond to market conditions by adjusting output to prices and then by adjusting productive capacity to output. Normally they will not produce articles, nor build factories to produce articles, for which they believe there to be no profitable market. The general rule which governs the production of wealth today is “no profit, no production”.

The reason, for instance, why millions of people are starving in the world today is quite simply because they have no money to buy the food they need and hence do not constitute a market. Again, the reason an abundance of high-quality consumer goods — good food, clothes, household goods, cars — is not produced today is because the market demand for consumer goods is restricted by the amount of money the operation of the wages system puts into the pockets of wage and salary earners. In an exchange economy wealth is produced to meet not what people need, but only what they can pay for.


The law of profits says that States (insofar as they are not profit-seeking enterprises themselves) aim to have the largest possible amount of profits made by enterprises from within their frontiers. States can use their power to help home enterprises in two ways: to find and protect markets and to keep costs down.
They can, for instance, impose taxes on goods entering from outside their frontiers in order to protect home enterprises from foreign competition. They can by diplomatic and if necessary military means, seek to acquire protected foreign markets for the home enterprises and, on the cost side too, they can bargain and use force to acquire sources of cheap raw materials for home industry. (These are reasons why the competitive struggle for profits can be said to be the cause of modern wars). Also on the cost side, they can throw their weight behind the enterprises in their struggle with wage-earners over the size of the wage packet or salary cheque.

The need to keep the costs of home enterprises down is the great restriction on the freedom of action of States in the economic field. Any money the State spends must come in the end out of the profits of enterprises. In the case of taxation this is obvious, with taxes on wages and the products wage-earners buy being passed on to the enterprises as higher money wages. If the State tries to obtain more money by using the printing press, it will cause the currency to depreciate and prices to rise. Rising prices at home mean, in relation to the world market, rising costs so that the profits of exporting enterprises and of enterprises facing foreign competition in the home market will be reduced. In other words, these enterprises will in effect be paying for the State’s inflation-financed spending out of their profits.

The consumption of the wage-earners is part of the cost of production and cannot rise without threatening profits. This is why no action by the State can bring any lasting improvement in the living standards of wage-earners. Generally speaking, however, most States make no attempt to disguise that their policy is to keep wage costs down. In this sense governments of States have learned to be realistic and that there are certain limits to what they can do in the economic field. In formulating, whether willingly or reluctantly, their policies in the light of the facts of economic life Stales act as a mechanism through which the laws of the world exchange economy are transmitted to those who make decisions about the production and alloca¬tion of wealth.

The internal structure of a State, like that of an enterprise, is irrelevant in this respect. A democratic State where the government is elected by a majority of wage and salary earners still has to pursue policies in the interest of the profit seeking enterprises within its frontiers. On the other hand, not even the most ruthless dictatorship can overcome the laws of the world market. Indeed, dictatorships have generally come into being precisely in response to pressures from the operation of the world exchange economy on a particular State.

Artificial scarcity, for that is what the restrictions the world exchange economy places on the production of wealth amount to, is not the only consequence of the production-for-exchange associated with the class monopoly of the means of production. A further consequence is that much of the work that is done is wasted from the point of view of rationally satisfying human needs, as will be examined in the next two articles in this series.


Work and waste

To STICK TO THE word’s original meaning only work which plays a direct part in producing wealth can be described as « productive ». Any other work would be « non-productive ». This is not to make a judgement as to its usefulness, but merely to record the fact that it does not result in any wealth being produced.

The productive non-productive distinction is not the same as that often made between manual and non-manual work. (The latter is an unreal distinction anyway, since all human work involves a person using both brain and hands). A craflsman working on his own must himself do all the work connected with production, planning and organising his work as well as fashioning the raw materials. In the modern workplace these productive tasks are divided among specialist workers, some of whom may wear white collars, work in offices and never see or handle the raw materials. This work — planning, organising, and design — is just as much productive as that done at the coal face or the factory bench. Similarly, an architect’s office is as much a productive workplace as an engineering factory. The distinction here is between productive and non-productive work rather than between productive and non-productive workers, since in practice many jobs involve both kinds of work.

Since work is the expending of energy it includes a whole range of human activities which, though very necessary, do not result in wealth being produced. Eating, drinking. washing, walking, playing and other activities a person must do in order to stay alive do not produce wealth. Nor does the work involved in education, health and entertainment which is equally vital to human survival. These non-productive activities are all personal or communal services which are necessary to keep people alive and healthy. Insofar as they also keep people in a fit state to work they do, it is true, make a very real contribution to production. But this is only an indirect contribution, since the act of carrying out these services does not in itself result in any wealth being produced. To call these services « non-productive » is a useful reminder that those who perform them, and the equipment and materials they use, have to be supplied out of the surplus wealth created by productive work.

The non-productive work just discussed is essential whatever form human society takes. But there is other non-productive work which only arises in certain kinds of human society. In class-divided societies, for instance, the ruling minority has to maintain an apparatus of coercion. The armed men who perform this coercive function do work, but they do not produce wealth. And in societies where wealth must be exchanged before it can be used part of the workforce has to be engaged in activities connected with the exchange, as opposed to the production, of wealth. The extra work of an exclusively exchange or profit-making character which has to be performed today is really quite extensive.

Each enterprise employs, in addition to its productive workforce, people to buy the raw materials, people to hire and fire workers, people to sell the end-products and people to record and check all these exchange transactions. Certain enterprises have come to specialise in exchange activities. Shops are the obvious example. But so do banks, building societies, insurance companies, pension schemes, estate agents, accountants, employment agencies and so on.

A large proportion of the employees of the State, at local as well as national level, are engaged directly in exchange activities, from those who collect taxes, pay benefits and allocate government money to those who advise on the government’s finance, tax, trade and economic policies. Also, the State itself functions as an exchange institution when it takes part in the competitive struggle for profits. So the members of the diplomatic services and of the armed forces can also be regarded as doing exchange work (to the extent that the armed forces are involved in maintaining law and order at home, their non-productive work is a coercive rather than an exchange activity).

Exchange workers, like those who perform essential services, have to be maintained out of the surplus which productive work creates. So do the buildings, materials and equipment they use, from bank premises to military airfields, from notepaper to uniforms, and from cash registers to nuclear missiles. All this plant and equipment is wealth in the sense of being the result of human beings applying energy to change Nature. The workers who produce it are, therefore, engaged in productive work. It may seem contrary to common sense to describe the work of those who make guns and bombs and tanks as « productive » but remember that the productive /non-productive distinction is not meant to be a judgement of social usefulness.

Exchange work is essential in an exchange economy and does contribute indirectly to production since without it wealth could not be produced. But it is not absolutely essential to human society in the sense that education is, and it would be superfluous in a society whose wealth was allocated directly for use without first having to be exchanged.

But if bank employees are non-productive and are maintained out of surplus wealth, where do the profits of banks (and other exchange enterprises) come from? Enterprises are best thought of as competing to draw profits from a pool formed by converting into money all the surplus wealth produced. Exchange enterprises (and, for that matter, other « non¬productive » enterprises such as profit-making schools and hospitals) take part alongside « productive » enterprises in this struggle for profits and also tend to obtain the average rate of profit on their capital which, in their case, will be the money-value of the buildings and equipment they use together with their cash and their fund for paying wages. The profits they make are a kind of payment from the productive enterprises for arranging for wealth to be exchanged (or for workers to be trained or kept healthy, as the case may be). Productive enterprises are forced to share their profits with non-productive enterprises as an alternative to having to employ more non-productive staff themselves to do the work. This hiving-off of non-productive tasks to specialist enterprises has proved to be the cheapest way of getting them done.

This suggests an alternative definition of « productive » which might have some relevance in analysing the way the world exchange economy works: productive-of-profit as opposed to productive-of-wealth. On this definition any workers whose work helps to produce profits for the enterprise which employs them would be productive, whether or not they actually produce any material wealth. This means that services would under some circumstances be regarded as productive. Non-productive work would be work which does not result in profits being made, as for instance the work of domestic servants and of some State officials.

This definition did have some relevance in the struggle waged by the individual employers of the late 18th and early 19th centuries against the « waste » of the aristocrat-controlled State machine. They wanted what they regarded as non-productive work reduced to a minimum so that they could retain a larger share of the surplus wealth for investment as capital. Reducing non-productive-of-profit work to a minimum so as to increase the pool of profits is still favoured by the enterprises who have now taken over from the individual owners as the main employers.

Earlier, we classified arms production as productive (of wealth) even though this seemed to conflict with common sense. This classification, though quite justified, seems odd because arms clearly do not serve to increase human welfare. This suggests the need for another distinction besides the productive, non-productive one, between work which furthers human welfare and work which does not. This would be a distinction between « useful » work and non-useful or « wasteful » work.

How would the various kinds of productive and non¬productive work discussed above fit into this classification? Obviously, the productive work of producing the food, clothing and shelter and the other things human beings need to live and enjoy life is useful. So is the non-productive work involved in carrying out essential services like health and education, and the productive work associated with it. Obviously too, the non-productive work of the armed forces and the productive work of manufacturing arms for them is wasteful.

But what about non-productive exchange work? This is a more difficult question. This work is not absolutely essential to human life as it would be superfluous in a society where wealth was not produced for exchange but was directly allocated for use. So the question can be re-phrased: is an exchange economy in the interest of mankind? This is an easier question because, as we have shown, wars, pollution, social unrest, anarchy in production, restricted output, destruction of wealth, and recurring mass unemployment are the inevitable consequences of the world exchange economy. Further, the kind of world commonwealth which alone could provide the framework for abolishing material want while at the same time conserving world resources would of necessity also be a non-exchange and direct-allocation society.

For, in a society in which the resources of the Earth, natural and man-made, had become the common heritage of all humanity there would be no place for the transfer of property between property-owners, which is essentially what exchange is. Exchange work, then, must be classified as wasteful and with it the work of producing the equipment and materials exchange workers use.

This shows a considerable proportion of the workforce to be wastefully employed and a smaller, but still significant, proportion of the gross social product waste. So another major charge against the world exchange economy must be that it misuses the resources of the world. It means also that the diversion of labour and materials from wasteful to useful work could play a major part in abolishing material want throughout the world.


Anarchy of production

IN AN EXCHANGE economy control over the use of the means of production is scattered among thousands of profit-seeking enterprises with no central co-ordination of decisions about the amount and the kind of wealth to be produced. Anarchy inevitably prevails.

For a group of enterprises to make profits, its total productive capacity and output have to be restricted to the level at which the interaction of supply and demand will give a price high enough to cover both the cost of production and a margin for the average rate of profit. The chaotic way in which decisions about production are made means that it is sometimes difficult to restrict productive capacity and output to this level.

In agriculture in particular over-supplying the market is a chronic problem. This is due partly to lack of control over the process of production (essentialy the natural process of growth) and partly to the large number of small individual producers who still survive in this sector of the world exchange economy.

Once a market has been over-supplied, the immediate problem is how to offset the fall in prices which threatens the profits of the agricultural enterprises and the personal incomes of the individual producers. The immediate answer is to destroy the excess market supply, and every year fruit is dumped or milk is poured away or vegetables ploughed back into the ground or butter is fed to pigs. This is often mistakenly said to be the result of « overproduction ». It is due rather to more having been produced than can be sold at profitable prices. « Overproduction » is quite the wrong word since frequently there are people who desperately need the goods (although unable to pay for them): « market oversupply » would be a more accurate description.

The long-term solution is just as restrictive. The State steps in and takes measures aimed at restricting not simply output but productive capacity as well. The most notorious of these policies is that adopted in America in the 1930s under which farmers are paid not to grow food. The Common Market now has a similar policy and has paid farmers to slaughter their cattle and pull up fruit-trees as well as to curtail farm production.

The States which govern the areas where food and agricultural raw materials are produced have also taken steps to combat the problem of chronic market oversupply. Typically they operate a quota system under which each State undertakes to restrict production within its frontiers to an agreed level and to destroy any amount produced in excess of this quota. This is why recent years have seen public bonfires of cocoa or coffee in poverty-stricken African states like the Ivory Coast, Ghana, and Kenya. When in 1968 the main wheat-producing States were faced with two bumper harvests on the run, they agree to restrict production. Canada’s contribution was to pay its farmers to grow virtually no wheat at all during 1970.

Not that these restrictive practices were intended to secure monopoly profits. They aim merely to allow agricultural enterprises to make the average rate of profit (or the individual producers to get a very modest minimum income). Their significance lies in the fact that they dramatically show up the way in which the operation of the exchange economy restricts productive capacity even when human welfare demands it be increased.

Industry too destroys productive capacity in order to restrict output, as when a market is contracting. States then pay Industriai enterprises to destroy their machinery and equipment or themselves buy up (nationalise) their assets and arrange for the allegedly excess productive capacity to be destroyed. Generally speaking though industrial enterprises themselves manage on their own to restrict productive capacity and output to the profitable level. The problem of chronic oversuppiy of the market does not arise because the extra workplaces or the extra equipment that might produce the « surplus » are nor built in the first placs.

This is the important point. The problem is not so much excess market supply as excess productive capacity. Excess market supply in agriculture and industries faced with a shrinking market is only a symptom of the fact that productive capacity there is able to supply the market with more than will result in profitabie prices.


The problem of matching production with market demand is not confined to particular markets: it arises also for the exchange economy as a whole. Here again in the long-run the competitive struggle for profits does result in the two being matched, but at the expense of short-term fluctuations. These have been features of the exchange economy since the end of the 18th century and have been called « the trade cycle », « the industrial cycle », « the business cycle » and « the boom slump cycle ».

The regular occurrence of « slumps », during which production is well below the existing productive capacity — the notorious paradox of poverty in the midst of plenty — has led some economic thinkers to suggest that built-in to the exchange economy is a permanent lack of market demand or, as they often put it, « a chronic shortage of purchasing power. Slumps arise, in their view, because in the long run total market demand is not large enough to keep the existing productive capacity fully used. This amounts to saying, not simply that the need to sell products on the market at a profit restricts the productive capacity of society (a valid charge) but to saying that the system also has a permanent difficulty in selling at a profit even the wealth it does allow to be produced.

Whether or not the symptom allows the productive capacity it has created to be more or less fully used, it is guilty of not expanding its productive forces fast enough.

One lack-of-market-demand theory says that because prices are composed of wages plus profits and because market demand is composed only of wages then there must be a chronic lack of purchasing power. It is quite true that the wages paid to the workforce can never be enough to buy the whole net social product, but they do not have to because what wage-earners do not buy can be bought by enterprises out of their profits (whether it always will be is another matter).

The wealth which enterprises buy is generally quite different in character from the wealth wage-earners buy. Enterprises buy new raw materials, new buildings, and items to use the following year to produce more new wealth. Wage-earners buy food, clothing and shelter for immediate consumption. This distinction is between producer goods and consumer goods, « investment » being the act of buying producer goods and « consumption » the act of buying consumer goods.

Early critics of the capitalist economy failed to see the real nature of investment as the purchase of producer goods. They saw, correctly, investment as a deduction from consumption but made the mistake of assuming that the level of market demand was determined by the level of consumption. If you believe this, then it follows that the act of investment inevitably leads to a state of general market oversupply: the increased output brought about by investment faces a market reduced by the very act of investment! This theory of course makes the growth of the profit-motivated economy impossible unless markets outside the system can be found, and this indeed was how these theorists did explain growth.

Early defenders of the capitalist economy could see these critics were wrong, but they went to the opposite extreme and claimed that total market demand would always equal actual productive capacity. They conceded that productive capacity and demand in particular markets could get out of line but vehemently denied that this could happen to the economy as a whole. This denial was maintained in the face of the regular occurrence of periods when productive capacity was not fully used.

This view is known, somewhat inaccurately, as « Say’s Law » (after the early 19th century French economist I.B.Say who was among the first to suggest something like it). It implies that the money obtained from selling one product is immediately spent on buying another one. But what if one seller decides not to spend the money he gets from a sale? Would this not interrupt the whole process?

Say’s Law did not take into account the fact that money could be hoarded. But once « this possibility is accepted then so must the possibility of total market demand being, temporarily at least, below actual productive capacity: general market oversupply leading to idle productive capacity becomes a theoritical possibility. Hoarding must not be confused with saving. When a person hoards money he takes it right out of circulation and holds it idle. Saving is defined rather as lending the money, either directly or through the banking system, to someone else to spend. Since (if there is no hoarding) the money saved, or not spent on consumer goods, must be spent on producer goods, then savings and investment are equal. From this angle, the mistake the early lack-of-market-demand critics made was to assume that saving and investment had the same economic effect as hoarding.

But why should anyone want to hoard money and not use it either to buy consumer goods or to bring him an income as interest? Why indeed should any person? Wage-earners, however, are not the only buyers since enterprises also have money to spend. Most of the profits enterprises make are invested, spent on buying producer goods for future production. But, according to the law of profits, enterprises will only invest in future production if they think that they will make enough profits from selling the products. If they think that the chances of profit-making are too low then they apply the rule « no profit, no production ». But, in this event, what happens to the profits they made the previous year? They are to all intents and purposes hoarded by being held idle as cash or maybe lent for short intervals at a low rate of interest.
This is how in the real world a state of general market over-supply and under-used productive capacity can come about. If, because of the slim profit prospects, enterprises hoard rather than invest their previous profits then total market demand will come to be insufficient to fully use the existing productive capacity.

Enterprises tend to judge the future rate of profit by the existing rate. Next month, in the context of explaining slumps, what might cause the rate of profit to fall will be examined.


Keynes and Capitalism

AN ENTERPRISE’S RATE OF PROFIT is ihe ratio of the amount of profits it makes, say in a year, to the money-value of its assets at the beginning of that year. The average rate of profit of the whole economy is the ratio of total profit to total capital.The rate of profit would tend to fall if over time the amount of the total capital tended to increase at a faster rate than the total amount of profits.

This fall tends to happen as a result of the increasing amount of old wealth that must be used as fixed equipment in producing new wealth (or, what amounts to more or less the same thing, to the increasing size of the means of production in relation to the amount of human labour needed to operate them). Because there are so many offsetting factors, this tendency for the average rate of profit to fall only becomes evident in the very long run and so could not explain the onset of a much shorter term occurrence like a slump.

What else, then, could cause the rate of profit to fall? The ratio would also be reduced if for some reason the amount of profits made on the same amount of capital were to fall. Since profits are what is left after part of the newly created wealth has been allocated for consumption by wage-earners, then tney would fall if wages were to rise.

The law of wages tends to keep wages down to what the workforce must consume to reproduce itself and keep fit for work, but wages are a price and so subject to the influence of supply and demand. Wages are the price of the skills wage-earners sell to enterprises so the market demand for these skills depends on the amount and kind of work enterprises want done. As the economy expands and as more and more workers are employed, then the level of more or less full employment of the workforce will be reached. At this point the market demand for workers’ skills will begin to exceed the market supply: wages will tend to rise, eating into profits. The rate of profit would then tend to fall.

Rising wages eating into profits is only one possible cause. Another would be a miscalculation by a group of enterprises about the size of the market they supplied. The resulting oversupply in that particular market, and the resulting cut¬back in production for it would have a cumulative effect on the profits of other groups of enterprises and so on the economy as a whole. The particular market oversuppiy would then, through affecting general profit prospects, have become a genera! market oversupply and lead to idle productive capacity.

Despite the regular occurrence of slumps the general trend has been for the amount of wealth in the world, especially means of production, to increase. This means that in practice enterprises have been able to find profitable investments. These they have found in two main areas. First, in meeting the market demand for new equipment which is continually being created as the competitive struggle for profits forces enterprises to innovate in order to reduce costs. Second. in meeting the market demand created by the extension of exchange relationships into more and more parts of the world.

Slumps, in this light, appear as temporary setbacks to economic growth from which the system always recovers. Slumps (during which total market demand falls short of existing productive capacity) are the opposite of booms (during which total market demand exceeds existing productive capacity). Booms and slumps are in fact two sides of the same coin: they are complementary phases of the business cycle and the course which long-term growth follows.

Bui can there not be steady growth? Although the decision-making structure of the exchange economy is chaotic, the structure of production itself is extremely systematic with each workplace being an inter-dependent part of a world-wide system. This is why decisions made by enterprises controlling one part of this system are bound to affect the profit prospects of enterprises controlling other, especially closely related parts. It is also why a miscalculation in one sector can have a cumulative effect on the whole economy.

Leaving aside any instability introduced by changes in ihe rate of profit, in order to avoid booms and slumps there would have to be balanced growth of all the sectors of the economy. Each sector would have to expand at a given rate determined by its place in the productive system. This wouid require a degree of central co-ordination quite impossible so long as control over the parts of the system is scattered among thousands and thousands of profit-seeking enterprises. The anarchy which results from this makes balanced growth quite impossible.


The man generally credited with having « saved capitalism » is the English economist John Maynard Keynes whose main work appeared in i936, Writing in the middle of the great slump of that period, he couid see that Say’s Law, as the dogma that total market demand would always be equal to existing productive capacity, was wrong. He showed how, due to what amounted to hoarding of profits (which he called « liquidity preference »), there couid be a lack of market demand. He went on to claim, however, that this could be permanent, that even in the long run existing productive capacity wouid not necessarily be fully used. This places Keynes in the camp of the lack-of-market-demand school of economists.

Keynes was saying in effect that there was no reason to believe that the system would always recover from a slump: the lack of market demand might be permanent and lead to a permanent slump, to state of stagnation. He believed that the tendency of the economic system was towards such a state of stagnation. As the amount of capital in the world increased, he argued, so the rate of profit would tend to fall, thereby discouraging investment. At the same time people would be choosing tc spend a smaller and smaller part of their rising incomes on consumer goods, thereby discouraging consumption. But this would mean, he went on, a falling market demand since market demand is composed of investment (purchase of producer goods) and consumption (purchase of consumer goods).

Keynes’ solution was for the State to intervene and take steps to encourage investment and consumption. Investment could be increased by the State increasing its spending, while consumption could be raised by taxing the incomes of the rich and giving some of it to the poor (on the principle that many poor people will spend more on consumer goods than a few rich people).

A theory or permanent slump was obviously attractive in the 1930s. But even then it was wrong. One way or another — by the planned physical destruction of « excess » productive capacity on a massive scale, if need be — capitalism can in time always recover from a slump. I: was the war and then repairing the damage the war caused — not Keynsian policies — wb:ch ended the slump of the 1930s. Since then the world exchange economy has resumed its growth, still punctuated by booms and slumps, misieadingiy called « stop-go » to givs the illusion that these fluctuations are the result of deliberate government policies rather than the normal working of the unpiannabie exchange economy. The Keynesians have the cheek to claim that the very event which proved their stagnation thesis wrong — the post-war re-expansion of capitalism — was the result of the adoption of their policies. Keynes did not « save capitalism » since, in the absence of a successful movement to abolish it, the system was capable of « saving » itself.

That the profit-motivated exchange economy tends towards a permanent slump brought about by a chronic lack of market demand has long been a view popular among reformers of the system. Keynes seemed to have confirmed their views: they in turn, have tacitly accepted his views. For in explaining, as many of them do, capitalism’s survival by State spending on armaments they are in effect conceding Keynes’ claim that States can engineer the « full employment » of the workforce within their frontiers.

That States do in fact possess such a power is very much open to question. They do not intervene in the capitalist economy from outside but rather are themselves essential parts of it, and have to rely for every item of wealth they consume on what they can obtain from enterprises, non-State as well as State. This means that State spending is ultimately limited by the amount of profits made by enterprises, or rather by the amount of profits it can take from enterprises without thereby reducing their incentive to invest or damaging their competitive standing in the world market. For, as explained in a previous article, State spending ;s a charge on profits, a cost enterprises have to bear and one which, like all costs, they want kept to a minimum.


It is true that over the years State spending, as a proportion of total market demand, has tended to increase. But this has not been the result of a conscious policy aimed at saving capitalism from collapse. Rather has it been due to enterprises handing over to the State the responsibility for carrying out certain and increasingly costly non-productive services like health and education and to the increasing cost of maintaining and equipping the armed forces (another essential service as far as enterprises are concerned).

A growing number of people directly employed by the State in non-productive work will have some effect on the working of the exchange economy because the kind of work the State employs these people to do is not so dependent on market conditions as work done for enterprises. So will the growing demand of the State for buildings and equipment (schools and hospitals as well as armaments) to carry out this work. But these developments would mean that a slump, insofar as it affects employment, might tend not to spread as far as it would if wage-earners were employed by enterprises rather than the State. On the other hand, States do have to cut their spending when enterprises are suffering from lowered profits and are curtailing production, precisely because profits are the ultimate source of the money which States spend. This happens even though, in Keynsian theory, they should rather be increasing their spending.

The idea behind the State spending during a slump is that the State should take over and spend the profits enterprises are hoarding. If States were to do this, then it is possible they might help to speed recovery by closing the gap between market demand and existing productive capacity. But States do not act in this way because to tax away the hoarded profits of enterprises during a slump would only make matters worse. Enterprises would be discouraged from investing even that part of their profits they had continued to. The increased State spending would then be offset by the decreased investment of enterprises.

States prefer to get the money to spend during a slump by printing it themselves. Actually they do not usually do it as directly as that. What they do is to increase the National Debt by borrowing more and then repaying part of the debt and the interest in newly-printed money (or rather money-tokens). This of course is a policy of currency depreciation or inflation. Keynes believed that the rise in prices caused by depreciating the currency in this way would encourage enterprises to invest rather than hoard their profits. Whether or not he was right, one result of Keynsian doctrines has been permanent inflation, it is no accident that prices have been rising in Britain since 1940, the year of the first Keynsian budget. For, although States have not adjusted their spending in accordance with Keynes’ theories, they have chosen to finance some of it by a policy of inflation. This has certain internal political advantages (Keynes himself pointed out that it is easier to keep wage-earners’ living standards down by raising prices more than money wages than by reducing money wages in line with falling prices), but has definite external disadvantages. Rising prices at home means increasing costs in relation to the world market, a fact which places another limit on the extent of State spending.

Even if the State were itself to take over direct responsibility for all investment by establishing a state capitalist economy within its frontiers, it could still not escape the dictates of the world market. The State enterprises set up in place of the old non-State ones would still have to take part in the world-wide competitive struggle for profits. State spending would still be limited by how successful these enterprises were in that struggle. And the State would still be compelled to keep the consumption of its wage-earners to a minimum, as the experience of States like Russia which have tried this policy has shown.

Rather than States being able to control the capitalist economy as Keynes taught, it is the other way round. States have to trim their policies to the changing conditions brought about by the world capitalist economy as it expands and contracts.

The world economy needs to keep millions of people, some permanently and some for shortish periods, out of non-productive as well as productive work. A pool of unemployed is needed for two reasons. First, so that competition among wage-earners for jobs will prevent wages from rising and eating into profits. Where unemployment has been relatively low, as it was until recently in some of the industrialised parts of the world, the States there have implicitly recognised this by adopting policies of planned wage restraint as a substitute. Secondly, enterprises need a reserve of unemployed workers they can call on to work for them during the periods when they are expanding production. The bulk (but by no means all of the world’s unemployed) are located in the industrially backward parts of the world which have supplied large numbers of extra workers for enterprises in the industrially advanced parts. Hence the migration of the unemployed to Europe and North America.


The full charge sheet against the world exchange economy with regard to the way it forces people to use the world’s resources can now be drawn up. It reads:

(1) That, although there has been a long-term expansion of productive capacity and oil output, this has been only a fraction as fast and as extensive and as safe as technology has made possible.

(2) That, although in the long run the existing capacity has been more or less fully used, this has been broken by regular periods of under-use.

(3)) That, in agriculture and in industries faced with declining markets, there has been deliberate destruction of productive capacity and regular destruction of wealth.

(4) That millions and millions of human beings who could have contributed to producing useful things have been prevented from working at all.

(5) That millions and millions more human beings have been allowed to work but only to engage in wasteful exchange and coercive activities.

(6) That the existing productive capacity has been used to produce considerable amounts of waste.

These are all serious charges and all of them are proved. They point to the need for the world’s people to recover control over the productive system by abolishing the exchange economy altogether and replace it by a society that will allow them to plan the production of wealth in their own interests and to allocate the products for their own individual and collective use.



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