Solving the Productivity Puzzle

February 27, 2018

Previous | Next

McKinsey Global Institute, “Solving the Productivity Puzzle: The Role of Demand and the Promise of Digitization,” 2018. 

This report discusses why the rate of growth in economic productivity has been so low in recent years, and how it might improve in the future.

Productivity: Why it matters

The report makes a fundamental assumption: “Productivity growth is crucial to increase wages and living standards, and helps raise the purchasing power of consumers to grow demand for goods and services.” That’s basic economics, but worth remembering at a time when people in many countries have grown accustomed to minuscule productivity growth.

Production and consumption are, of course, two sides of the same economic coin. The most obvious way for the average worker to receive more goods and services is for the average worker to produce more goods and services per hour of work. People can also get ahead by working more hours, but then they are paying for their economic gains with reduced free time.

The benefits of high productivity may not be distributed evenly, but that’s another issue. Workers may not receive their fair share of the benefits when productivity is rising, but they are even less likely to get ahead when productivity is not rising. Then the competition for benefits is more of a zero-sum game, and the haves will be especially resistant to redistributing benefits to the have-nots. The widespread assumption that anyone’s gain must be someone else’s loss is a big reason why our politics have become so ugly. (That last point is mine, not the report’s.)

Sagging productivity

The report is based on data from seven countries: France, Germany, Italy, Spain, Sweden, the United Kingdom, and the United States. Productivity is defined simply as Gross Domestic Product per hour worked.

The data show these trends for recent decades:

  • Productivity growth was strong during the postwar economic boom
  • In general, productivity growth has been much slower since the 1970s
  • A brief productivity boom occurred from about 1995-2005, especially in the United States, associated with applications of information and communications technology (ICT)
  • Productivity has stagnated since then, with near zero annual growth in both Europe and the U.S.

The report identifies three main reasons for low productivity growth, describing them as waves passing over the economy one by one.

First, the rate of innovation associated with ICT slowed after 2005. For example, big retailers like Walmart had used the new technologies to make their supply chains more efficient, but the biggest changes had already occurred by then.

Second, the financial crisis of 2007-08 ushered in a period of “weak demand and uncertainty.” Businesses were reluctant to make costly changes in production without confidence that the market could absorb the additional goods or services produced. Companies held back on new investments and held the line on wages. The economy recovered from the recession, but it was a “job-rich” and “productivity-poor” recovery. As long as there were people wanting to return to work, “companies met slowly rising demand by filling excess capacity and adding hours,” not by raising productivity and wages. Hopefully, the economy can now move beyond recovery into a new period of productivity growth and wage gains. The danger is that the economy becomes stuck in a vicious cycle, in which workers earn too little to raise demand, and businesses fail to invest in higher productivity because they can meet existing demand with low-cost labor.

Third, a revolution in digital technology is underway, but “the impact of digital is not yet evident in the productivity numbers.” Many sectors of the economy, such as education, health care and construction, are only beginning to digitize their operations. Transition costs can be high, including not only the costs of equipment and training, but the disruptive impact on existing operations. A retailer that adds an online store may suffer offsetting declines in business at its brick-and-mortar stores.

Prospects for digital-based productivity growth

As of now, the economy is in a paradoxical position: “…In an era of digitization, with technologies ranging from online marketplaces to machine learning, the disconnect between disappearing productivity growth and rapid technological change could not be more pronounced.” How long can it be before technological know-how actually translates into productivity gains and higher wage potential for the average worker?

The authors of this report see “the potential for at least 2 percent [productivity] growth a year over the next ten years, with 60 percent coming from digital opportunities.” But they also see some potential problems that need to be addressed if that potential is to be realized.

One of their concerns is the market power that digital technologies may bestow on a few hugely successful companies:

Various digital technologies are characterized by large network effects, large fixed costs, and close to zero marginal costs. This leads to a winner-take-most dynamic in industries reliant on such technologies, and may result in a rise in market power that can skew supply chains and lower incentives to raise productivity.

To put it more simply, once a company has made a large initial investment in new technologies, it may be able to turn out products so cheaply and maintain such a locked-in customer base, that it may no longer have to raise productivity to dominate a market. It might just become fat and lazy. I doubt if this phenomenon is unique to the digital age. It may be part of the dynamics of capitalism, helping to explain why productivity-based economic change comes in cycles of growth, maturation and stagnation.

Demand-side constraints on productivity

Another big concern is that weak economic demand may continue to exert a drag on investment and productivity growth. Some of the weak demand may be just cyclical, a normal after-effect of recession. But the authors of this report join other economists in worrying that some of it may be structural–that is, built into today’s economy. They express concern that “declining labor share of income and rising inequality are eroding median wage growth, and the rapidly rising costs of housing and education exert a dampening effect on consumer purchasing power.”

How digital technologies affect jobs also has implications for the demand side. In theory, the benefits of higher productivity could appear in the form of higher wages and shorter work weeks, as they did in the postwar era. If, on the other hand, a large segment of the labor force is simply replaced by smart machines, their loss of purchasing power could reduce economic demand and nip economic growth in the bud. “Unless displaced labor can find new highly productive and high-wage occupations, workers may end up in low-wage jobs that create a drag on productivity growth.”

This line of reasoning leads the authors to recommend public policies that focus on the demand side. That is in contrast to conservative policies that focus on helping the supply side (businesses and their investors) with tax cuts and looser regulations. The implicit assumption (perhaps rarely stated since it seems so counter-factual) is that the poor capitalists don’t have enough capital to raise productivity and grow the economy. If, however, the problem is more on the demand side, then the economy may be helped by government spending to supplement the purchasing power of low-income consumers, invest in public works like infrastructure repairs, make education and health insurance more affordable, and support worker retraining for new jobs.

The report also recommends that companies “rethink their employee contract in order to develop a strategy, potentially together with labor organizations, where people and machines can work side by side and workers and companies can prosper together.” If that sounds like pie in the sky in this era of anti-labor capitalism, we should remember that it is a pretty good description of the business-labor understanding that existed during the last great era of productivity growth. More of us knew then what many of us seem to have forgotten recently, that the economic engine runs best when its benefits are widely shared. In the 1950s, the “widely shared” part mainly applied to white men. Now we must learn to be even more inclusive.

Overall, the report is an optimistic, yet not unrealistic vision: “A dual focus on demand and digitization could unleash a powerful new trend of rising productivity growth that drives prosperity across advanced economies for years to come.”


Kids These Days

January 31, 2018

Previous | Next

Malcolm Harris. Kids These Days: Human Capital and the Making of Millennials. New York: Little, Brown and Company, 2017.

This is an unusual book, a portrait of a particular generation’s experience, interpreted in the context of a changing capitalist society. I found it reminiscent of Paul Goodman’s Growing Up Absurd from the 1950s, a book that resonated with many young Baby Boomers. Here the focus is on the Millennial generation, who were born between 1980 and 2000 and make up today’s young adults 18 to 38. Malcolm Harris himself is one of them.

Here he describes the book’s goal:

The only way to understand who we are as a generation is to look at where we come from, and the social and economic conditions under which we’ve become ourselves. What I’m attempting in this book is an analysis of the major structures and institutions that have influenced the development of young Americans over the past thirty to forty years.

Harris is not a social scientist, but just a “committed leftist and a gifted polemicist with a smart-aleck bent,” according to one reviewer. He provides no deep analysis of capitalism, but makes a broad claim that the frenetic quest for profits is now bringing society to some kind of breaking point:

Lately, this system has started to hyperventilate: It’s desperate to find anything that hasn’t yet been reengineered to maximize profit, and then it makes those changes as quickly as possible. The rate of change is visibly unsustainable. The profiteers call this process “disruption,” while commentators on the left generally call it “neoliberalism” or “late capitalism.” Millennials know it better as “the world,” or “America,” or “Everything.” And Everything sucks.

The burden of this supercharged capitalism is falling most heavily on Millennials. They will either by crushed by it, as America becomes some sort of fascist dystopia, or else lead a revolution against it. Harris sees little middle ground.

Human capital and hypercompetition

For Harris, the key to understanding what is happening to the younger generation is the idea of human capital. “We need to think about young people the way industry and the government already do: as investments, productive machinery, ‘human capital’.” Human capital is the economic value placed on the capacity for future work. New technologies can reduce that value by making existing capacities obsolete, most obviously when manual labor is replaced by machinery. But future workers can enhance their value by acquiring new capacities, enabling them to master technologies or provide some essential human input. This puts young people under pressure to become one of the value-enhanced winners instead of the devalued losers.

Isn’t this just the same old competition for success that has been a hallmark of modern society? Harris obviously sees it as more than that. As the development of human capital has become more extensive and more costly, paying for it has become a systemic problem. Society is currently organized in such a way that the benefits of human capital formation go primarily to capitalist organizations and their shareholders, while the costs fall primarily on individuals and their families. Investment in human capital is good for society, but it is risky for individual employers, since they do not normally own their workers and their future labor. Workers can leave and take their newly acquired human capital with them. So employers find it more profitable to hire workers who are already capable–or nearly capable–of doing the job; or just replace workers with robots, whose future labor they do own.

The intensified competition for good jobs becomes more than an individual competition to demonstrate merit. It is a competition among families to raise the most accomplished children they can, with the most expensive educations and all the trimmings–the music lessons, science projects, field trips, SAT prep classes, and so forth. Families of limited means are at a big disadvantage.

The paradox of productivity

In theory, the higher productivity resulting from new technologies and skills could lead to higher wages and/or more leisure. If people are more productive, why shouldn’t they enjoy a higher standard of living? And why shouldn’t the most tech-savvy generation be on its way to the highest standard of living of all? There’s little sign of that so far. “As it turns out, just because you can produce an unprecedented amount of value doesn’t necessarily mean you can feed yourself under twenty-first-century American capitalism.”

The problem goes to the heart of the capitalist system. Producing more per hour doesn’t translate into higher pay per hour if the extra output and its economic value belong solely to the employer. In that case the employer gets the benefits, in the form of higher revenues and lower labor cost per unit of output.

On the one hand, every kid is supposed to spend their childhood readying themselves for a good job in the skills-based information economy. On the other hand, improvements in productive technology mean an overall decrease in labor costs. That means workers get paid a smaller portion of the value they create as their productivity increases. In aggregate, this operates like a bait and switch: Employers convince kids and their families to invest in training by holding out the promise of good jobs, while firms use this very same training to reduce labor costs.

We may wonder why competition among employers for good workers doesn’t force them to raise wages. It does, but mainly in specialized occupations where needed skills are actually in short supply. What is remarkable is how little wages have risen in recent decades, even for college graduates. “Wages for college-educated workers outside of the inflated finance industry have stagnated or diminished, with real wages for young graduates down 8.5 percent between 2000 and 2012.” What seems to be working in favor of employers is a system that delivers a large enough supply of human capital to hold wages down, while making families bear the costs of developing that capital.

Harris notes that men and women have experienced this situation differently. “Median wages for men (50th percentile) have remained stagnant, at nearly $18 per hour, while median wages for women have increased from $11.28 in 1973 to $14.55 in 2009.” Women’s improvement in labor force participation and wages is a mixed blessing. Putting wives as well as husbands into the labor force is one way for families to try and get ahead. But it places the burden on families to work harder instead of on employers to pay better. “All work becomes more like women’s work: workers working more for less pay. We can see why corporations have adapted to the idea of women in the labor force.”

To summarize:

Technological development leads to increased worker productivity, declining labor costs, more competition, a shift in the costs of human capital development onto individual competitors, and increased productivity all over again. Millennials are the historical embodiment of this cycle run amok….

Education: The labor of enhancing one’s labor

One of my graduate school professors used to say that the social function of higher education was not to produce and disseminate knowledge, but to keep young people out of the labor force so they could serve the economy as needed consumers rather than unneeded producers. Maybe that made sense at a time when people were enjoying the new prosperity and leisure of the post-Depression, postwar era. Having recently achieved good wages and a shorter work week, unions weren’t eager to see a horde of young people enter the labor force and drive wages and working conditions down.

Harris’s take on youth and education is very different, and probably more relevant to our times. Not only are a large percentage of young people in the labor force already–70% of college students, for example–but they are working very hard at their own human capital development, primarily for the benefit of their future employers. As a result of the economic conditions described, “Every child is a capital project.”

…It’s cheaper than it used to be to hire most workers, and extraordinarily hard to find the kind of well-paying and stable jobs that can provide the basis for a comfortable life. The arms race that results pits kids and their families against each other in an ever-escalating battle for a competitive edge, in which adults try to stuff kids full of work now in the hope that it might serve as a life jacket when they’re older.

In theory, new information technologies ought to make it easier to learn. My generation could have saved many hours digging for information in the library if we could have accessed a whole world of knowledge on a laptop (not to mention the time we could have saved on a term paper if we had word processing). Paradoxically, Harris reports that American children spend more time in school, more time on homework, and less time on unsupervised play than they used to. And they are producing a lot: “Nongrade measures of educational output–like students taking Advanced Placement classes or tests, or kids applying to college–have trended upward….” Grades have risen too, and Harris is not so quick to dismiss that as mere grade inflation.

A government study reported that “the number of applicants to four-year colleges and universities has doubled since the early 1970s, [but] available slots have changed little.” That form of intensified competition allows schools to raise tuition and fees dramatically. Only part of this increase is due to reduced public funding, since the increase by private schools is almost as great. The additional revenue has not gone into instruction; on the contrary, the ample supply of graduates seeking academic employment has allowed colleges to hire more lower-paid, part-time and temporary teachers. Instead it goes mainly toward administrative salaries or amenities to attract well-heeled students.

What this all amounts to is a clear tendency for both public and private colleges to behave like businesses, passing off a lower-quality product at a higher price by tacking on highly leveraged shiny extras unrelated to the core educational mission. Stadium skyboxes, flat-screen monitors, marble floors, and hors d’oeuvres for the alumni association. Consultants of all flavors and salaried employees to make sure it’s all efficient. Competition hasn’t improved the quality of higher education, it has made colleges more like sleepaway camps or expensive resorts.

Because they are defined as students rather than real workers, students can be made to work very hard for someone else’s profit. College sports generate substantial revenue, but not for the athletes, who regularly spend thirty to forty hours a week on their sports without being paid. Many students try to enhance their credentials with unpaid internships, although research has found no more than a slight impact on job offers.

Even the time spent on social media can be seen as exploitable unpaid labor. “These technologies promise (and often deliver) connectivity, efficiency, convenience, productivity, and joy to individual users….” Older adults may see them as a frivolous form of leisure. But they are also a way that young people self-publish their creative work and build an audience for it. That also generates profits for others, most obviously for the big companies that run the sites, but also for record producers that are spared the costs and risks of developing talent themselves. They can wait and see who is becoming popular, and only then offer a recording contract.

Not only do students get little immediate reward for their hard work, but most of them have to borrow against their future earnings to finance their higher education. They have to indenture themselves to obtain an enhancement in earning power that may or may not materialize. If their schools educate them poorly–and some for-profit schools seem to make that part of their business model–borrowers are still on the hook for the money. Excessive debt is one of the reasons why today’s young adults have relatively low net worth, not just in comparison to today’s older adults, but also in comparison to young adults of an earlier time. Between 1983 and 2010, net worth dropped 21% for the 29-37 age group.

Overall, Malcolm Harris finds that the pressure to develop their own human capital has forced Millennials to compete harder for a limited supply of rewards. What they get for their harder work is the mere promise of a higher standard of living–someday. So far at least, someday has not arrived.

Continued


The New Class War

May 30, 2017

Previous | Next

Michael Lind, “The New Class War.” American Affairs, May 20, 2017.

Having just read Martin Ford’s The Rise of the Robots, with its very pessimistic outlook for American workers, I found Lind’s perspective to be an intriguing alternative. His article comes from what is for me an unlikely source. American Affairs is a new journal devoted to rethinking conservatism in the light of the Trump ascendancy. The way things are going, we may need another journal to make sense of a Trump descendancy. But let’s assume that at least some of what Trump represents may survive his mess of a presidency–in particular, his nationalistic concern about saving American jobs in an era of global competition. How will that impact the prevailing political ideologies?

Social class in the Cold War era

Unlike many mainstream conservatives, Lind is willing to acknowledge the reality of social class. Following scholars like James Burnham and John Kenneth Galbraith, Lind describes a “managerial elite” consisting of “private and public bureaucrats who run large national and global corporations and exercise disproportionate influence in politics and society.” This is a “mostly hereditary” class, since it draws its membership primarily from the children of the previous generation of the same elite. The class system has a semblance of meritocracy, since educational credentials are an important means of success, but access to the “right” education is itself very unevenly distributed.

As Galbraith argued, “countervailing power” can keep an elite from entirely having its way. This was especially true in the “golden age of capitalism from the 1940s to the 1970s, combining high growth with a more equal distribution of its rewards than has ever existed before or since.” In Lind’s view, the desire for national unity in the face of foreign threats was a major motivation for reaching a reasonable “settlement” of management and labor differences. Workers won the right to organize, more favorable wages and working conditions, and a stronger social safety net. The bargaining power of labor was strengthened by factors that kept the labor market tight, such as the immigration restrictions that had been passed in the 1920s, and the withdrawal of many women from the labor force at the end of World War II.

Multinational oligarchy and popular discontent

All of this changed after the breakup of the Soviet Union and the end of the Cold War. A new pattern of global production and corporate organization destroyed the existing accommodations between business and labor.

Through the empowerment of multinational corporations and the creation of transnational supply chains, managerial elites disempowered national labor and national governments and transferred political power from national legislatures to executive agencies, transnational bureaucracies, and treaty organizations. Freed from older constraints, the managerial minorities of Western nations have predictably run amok, using their near-monopoly of power and influence in all sectors–private, public, and nonprofit–to enact policies that advantage their members to the detriment of their fellow citizens.

Developed countries had long been accustomed to concentrations of economic power within domestic industries. Now those concentrations became more international, so that in many industries, a handful of giant companies controlled over half of the global market. While profits and managerial compensation soared, productivity slowed and wages stagnated. Lind believes that this was because transnational companies had other ways to pursue profits besides technology-driven productivity growth. It was easier to move factories from high-wage areas to lower-wage areas, or to take advantage of favorable tax policies. Apple not only made its iPhones in China, but channeled profits through Irish shell companies to shield billions from taxation. Transnational companies also worked to harmonize national laws in ways that favored capital, especially free trade agreements, while resisting efforts to set international standards for wages and working conditions or environmental protection.

Corporations that had to operate domestically were not as free to search the world for the cheapest labor or lowest taxes. But they did benefit from looser immigration policies that kept labor supply up and wages down in some markets. Marx had already argued in the nineteenth century that ethnic conflict divided labor and strengthened capital: “The ordinary English worker hates the Irish worker as a competitor who lowers his standard of life….His attitude towards him is much the same as that of the “poor whites” to the Negroes in the former slave states of the U.S.A….This antagonism is the secret by which the capitalist class maintains its power.”

As the income gap between the managerial class and the working class has widened, popular discontent has increased. But Lind does not think that populist movements alone will bring about very much change. Historically, oligarchies have usually been able to survive populist challenges. The populists have usually had to give up or sell out. In some places, such as the Deep South and much of Latin America, this pattern has repeated itself for a long time:

Most of the time, coteries within a nepotistic elite run things for the benefit of their class. Now and then, a charismatic populist arises, only to fail, sell out to the establishment, or establish a personal or dynastic political-economic racket. Formal democracy may survive, but its spirit has fled. No matter who wins, the insiders or outsiders, the majority will lose.

It is sobering to think that if we keep on as we are going, the country could deteriorate into a kind of banana republic with chronic and perhaps violent unrest and political repression.

Managerial elites are bound to dominate the economy and society of every modern nation. But if they are not checked, they will overreach and produce a populist backlash in proportion to their excess. By a misguided policy of suppressing wages and thus throttling mass consumption, unchecked managerial elites may inadvertently cripple the technology-driven productivity growth responsible for their rise….

This could even result in a more feudal type of society, in which the rich live off the “rents” from their accumulated wealth rather than creating new wealth by investing in higher productivity.

The multipolar challenge

So what would counteract the drift toward global oligarchy? Lind believes that peace among the international powers has been a necessary condition for managerial globalism. This has been the case “only in the decades immediately following the Cold War, when the United States was the ‘sole superpower’ and no credible ‘peer competitor’ had yet emerged.” But now, the rise of China and other powerful players may be a game-changer. Americans may have to rethink the idea that international boundaries no longer matter, and that the global economy benefits everybody in some kind of classless meritocracy. We must now ask tough questions about whether the cumulative effects of transnational capitalism on the United States are really in our national interest.

Lind sees the world becoming not borderless but multipolar, divided into several “great-power blocs,” most likely China, India, the US and Europe. Within each bloc, countries may trade very freely, but each bloc will need to be careful about giving up too much of its industrial capacity. On that may depend its ability not only to create new jobs and income, but to wage war. Strength, unity and internal harmony could become more prominent national values, as they were during the Cold War.

The elites may be too powerful to have much to fear from populism, but their division into competing power blocs may force them to fear one another. Policies that promote the wellbeing of business and labor as members of the same national team could have broad political appeal.

Unsatisfactory alternatives

Lind accepts part of Donald Trump’s critique of the United States, that we have let other countries produce too much of what we could have produced at home, creating unnecessary hardships for American workers. Our chronic trade deficit with countries like China and Germany is indeed a weakness, and their “parasitic export-oriented strategy” of development is better for them than it is for their debtors. Unlike Trump, however, he rejects the most conservative response, which he calls “radical renationalization” or “radical de-globalization.” He sees it as neither feasible nor desirable to retreat from the world by restricting the entry of foreign goods and forcing consumers to buy only what is produced at home. That would sacrifice the benefits of “supra-national economies of scale,” the efficiencies to be achieved by producing things for the largest possible market.

At the other extreme, Lind also rejects the idea that the ill effects of oligarchic globalization can be corrected by countervailing power exerted by global government, global labor unions, or other transnational institutions. He just doesn’t think that a multipolar world will produce the necessary degree of international cooperation. I thought that Lind was a little too dismissive there, since global agreements like the Paris Climate Accord may be needed, at least to address global emergencies.

A third unsatisfactory alternative is “neoliberalism plus”:

Neoliberalism plus, also called “inclusive capitalism,” is the preferred response of the transatlantic managerial class to the populist revolts in Europe and America. Essentially, neoliberalism plus is Reagan-Thatcher-Clinton-Blair neoliberalism with more subsidies to the “losers” of globalization. The disempowerment of non-elite citizens by the oligarchic capture of politics and the destruction of unions would not be altered. But the masses would be bribed into acquiescence by means of higher wage subsidies, like the Earned Income Tax Credit (EITC) in the United States, or perhaps a universal basic income providing every citizen a poverty wage.

That last measure is exactly what Martin Ford recommends in order to maintain the workers’ purchasing power as the robots take more and more of their jobs. Lind believes that such strategies will fail. As long as companies can rely on cheap labor at home or abroad, they do not need to invest much in new technologies. The full potential of those technologies cannot be realized, and the economy cannot generate the economic growth needed to pay for any new “bribes” for the masses.

I would only add that if “neoliberalism plus” is an inadequate solution, then “neoliberalism minus” is even worse. That may be a good term for the Congressional Republican agenda of more freedom and lower taxes for the elite, but benefit cuts for the struggling working class. That the President goes along with that strategy while claiming to champion the workers puts his presidency on very thin ice.

A “new developmentalism”

What Lind would like to see is a different strategy for national progress that he calls a “new developmentalism.” He describes it only in very general terms in this article. It would require new checks on the freedom of managerial elites, as well as a new “settlement” between business and labor for the sake of economic cooperation and national unity.

Lind wants great powers to compete in the global arena, but do it differently. I would describe what he wants as a “race to the top” instead of a “race to the bottom.” Public policy would discourage corporations engaged in international trade from seeking profits through lower wages and tax avoidance. For companies that operate domestically, it would encourage “tight labor markets for domestic service workers, achieved by immigration restriction, work-sharing, shorter workweeks, or other means.” High wages could boost productivity in two ways, by supporting the mass market for large-scale industries and encouraging labor-saving technologies, which themselves could be dynamic new industries. “If high wages lead to the replacement of fast-food workers by kiosks, the manufacture of the kiosks could become a new, capital-intensive, high-technology industry.”

Keeping labor markets tight and wages up, while at the same time investing in labor-saving technologies, sounds like a contradiction, and it requires a difficult balancing act. The key is productivity–using new technology not just to unemploy labor but to employ it more productively, so as to justify higher pay. That relates to what I wrote previously about favoring human-machine collaboration over the human replacement expected by Martin Ford. Replacement alone could destroy the working class and send the economy into a downward spiral.

The heart of Lind’s argument is perhaps best captured by this statement:

Great-power competition, even in the form of limited cold wars, is likely to reward nations whose economic model is based on developing productive technology and raising the incomes of domestic worker-consumers….In cold wars and trade wars, even if no blood is shed by the contenders, countries and blocs with empowered and patriotic workers are likely to do better than rival nations crippled by immiserated workforces and selfish, nepotistic, oligarchic elites.

The future may depend on how many of our leaders can figure this out.


Postcapitalism (part 3)

May 5, 2016

Previous | Next

Profit and Intrinsic Value

Paul Mason’s interpretation of the long cycles of capitalism relies heavily on the idea that profits tend to fall during the latter half of each cycle. “Fifty-year cycles are the long-term rhythm of the profit system.”

In past cycles, profits have recovered when new waves of innovation have begun, so falling profits have not been as fatal to capitalism as Marx predicted. Mason thinks that the latest wave of innovation will be different.

The key to understanding the rise and fall of profits is the relationship between profit and intrinsic value. Market prices fluctuate, but “there has to be a more intrinsic price around which the selling price moves up or down.” A house is too costly and too useful to sell for the price of a paper clip. Well I say “useful” anyway. Mason would just say “costly in human labor,” since he subscribes to a labor theory of value. I will keep returning to that distinction throughout the discussion, although my difference with Mason doesn’t keep me from reaching many of the same conclusions.

Mason’s crisis theory vs. mainstream economics

In Oscar Wilde’s Lady Windermere’s Fan, one of the characters defines a cynic as “a man who knows the price of everything and the value of nothing.” Mason makes a similar accusation against the economic theory of marginal utility, that “there is no intrinsic value to anything, except what a buyer will pay for it at a given moment.” And so economics becomes preoccupied with “capitalism’s inner tendency towards equilibrium” as prices adjust to fluctuations in supply and demand. Economists have trouble explaining periodic crises, which are dramatic departures from equilibrium.

Without being able to distinguish market price from intrinsic value, mainstream economics also has trouble dealing with social issues like injustice, exploitation, discrimination, fraud, or class struggle. To say that workers have been underpaid or consumers overcharged, one has to judge the price of something against some standard of value. An economic theory that treats the market price as the “right” price is implicitly conservative, although it may hide its conservatism behind a veneer of scientific detachment or value neutrality.

Labor as the standard of value

Mason’s theory of value uses labor as the standard of value, in the tradition of David Ricardo and Karl Marx. Human labor is the source of value, and “a commodity’s value is determined by the average amount of labour hours needed to produce it.”

That has the virtue of simplifying the problem, but I think it leaves too much out. The labor theory focuses on the cost of something in terms of human effort, but not the benefit of something in terms of human need or enjoyment. From the buyer’s perspective, two things produced by similar amounts of labor could have very different use values. Two medical researchers could put in the same hours, but only one might come up with a cure for cancer. When the FDA evaluates a drug, it doesn’t ask how many hours of labor it represents; it asks whether it is safe and effective. Both its cost in labor and its benefit to the consumer can reasonably affect its price.

The greater the human cost of making something, the greater the scarcity and the lower the supply. But the greater the human benefit from making something, the greater the desire to have it and therefore the greater the demand. Considering both sides might seem to bring us back to the conventional free-market view that the only measure of value is the actual price that buyers and sellers negotiate, that is, the equilibrium price where supply and demand meet. However, one can save the idea of intrinsic value by regarding it as the value that buyers and sellers can recognize when the interests of both parties (costs to sellers and benefits to buyers) are fairly represented. To the extent that they are not, then prices will deviate from underlying value.

Why wouldn’t the interests of both parties be fairly represented in a free-market economy? In reality, the free market is a somewhat ideological notion, and participants are not as free as the ideology likes to pretend they are. To understand why, some notions of power and control need to be incorporated into the theory. While mainstream economists have tended either to ignore power or to regard as benign, sociologists have certainly appreciated its darker side. Power can be used cooperatively, on behalf of an entire group or organization, as when a responsible adult exercises economic power on behalf of a child. But where consensus is lacking and collective norms are weak, power is likely to be employed to have one’s way without regard to the interest of others. It is naïve to think that in an unregulated market, concentrated economic power won’t be used to take advantage of the less powerful, by tricking consumers into paying more than a product is worth, or by paying workers less than their labor is worth.

But that brings us to the question, what is the value of labor itself? Here again, the answer depends on whether both sides of a transaction are considered (costs to the sellers of labor and benefits to the buyers of labor), or only the cost side. In Mason’s labor theory of value, the value of a commodity is the labor needed to produce it. So the value of a worker’s labor would be the labor needed to produce that labor, which is the labor performed by other workers to provide whatever the worker in question needs to live and to work. That would be the labor value of labor. This definition of value leads to one conception of a just wage or living wage, the wage needed by the worker to buy not only the means of sheer survival, but the education and other inputs needed to do the work of a modern society.

Again, I find this incomplete because I would want to take into account the use value of labor as well as the labor value of labor. A simple example shows how the failure to do so can lead to illogical valuations. My first job was a summer job doing clerical work in a government office. At first I was slow to complete certain tasks, and I remember one particular occasion when a more experienced worker made a suggestion that allowed me to speed up my work considerably. The use value of my labor certainly clearly increased, but the labor theory would miss that since the labor value of my labor as defined in the previous paragraph wouldn’t have changed.

The use value of labor is its value to the buyer of labor, the consumer or employer. Two workers who require the same support in order to live and to work may differ greatly in their value to the employer. One may be put to work more productively than the other. Employers can add to the use value of labor by innovations in work organization or technology. This has implications for the discussion of profit and the cycles of rising and falling profits.

Where does profit come from?

The labor theory of value takes a rather critical view of profits from the start. Including use value as well as labor value in the discussion changes the picture a bit, although it does not place profits entirely above criticism.

Mason adopts the classic Marxian position that businesses generate profits by extracting surplus value from labor.

If we forget money and measure everything in ‘hours of necessary work’, we can see how profit is generated. If the cost of putting Nazma at the factory gate six days a week is thirty hours work by other people spread across the whole of society (to produce her food, clothing, energy, childcare, housing and so on), and she then works sixty hours a week, her work is providing double the amount of output for the inputs. All the upside goes to the employer. Out of an entirely fair transaction comes an unfair result. This is what Marx calls ‘surplus value’, and is the ultimate source of profit.

Although Mason states the problem in terms of hours, it could also be expressed in terms of wages. The pay required for the worker to purchase the necessary labor of others could be considered a living wage, and profit would come from paying workers less than that wage. Workers put up with this because they are in too weak a bargaining position to be truly free to say no.

Does that mean that workers should receive all the revenue produced by their labor, leaving nothing for capitalist owners and investors? Many socialists have arrived at that conclusion, seeing value only in the labor of an owner-manager, but not in the contribution of capital as such. If capital makes no distinct contribution to value, that makes it rather easy to look forward to the demise of capitalism!

Suppose, however, the owner uses some capital to buy the workers new and improved tools, enabling them to turn out products faster. As in the example where I worked faster in my clerical job, the labor value of the labor hasn’t changed. (The labor value of each unit of product has actually declined, but that’s another matter.) What has changed is the use value of labor, since capital has added value to that. The labor theory of value is blind to this added value, insisting that only labor generates surplus value.

Who should get the profit resulting from this added value? I think that ideally it should be a win-win. The provider of the capital should get a return on capital. But since working with the new tools requires the cooperation of labor, labor should share the rewards as well. This yields a somewhat different conception of a just wage, one that requires giving workers a share of the benefits of their own increasing productivity.

If businesses can add to the use value of labor by innovations in work organization or technology, then the return on capital can be a fair reward for adding value, and not all profit derives from the exploitation of labor. Nevertheless, where workers are weak and unorganized, and social norms governing economic behavior are weak or poorly enforced, capital can derive excess profit from paying workers less than they are worth. That remains true whichever way worth is considered: from the cost side as the labor value of labor, or from the benefit side as the use value of labor. And the theory can also relate power and profit in a vicious circle. The greater the power of capital over labor, the greater the potential for excess profits. Those profits in turn contribute to the accumulation of still more power. The process would continue until the social costs become too great to bear, generating movements for social reform.

Productivity and profits

Hopefully, this theoretical discussion will shed additional light on capitalist cycles and the future of capitalism. Bearing in mind that the cycles are “the long-term rhythm of the profit system,” what happens to profits when capital flows into new industries employing new technologies?

According to the labor theory of value, businesses can profit from new technologies and rising productivity only in the short run. Once a labor-saving technology is fully implemented across an industry, the reduction of labor in that industry will cause profits to fall. That rather strange conclusion follows from the assumption that labor is the sole source of value, and that surplus labor value is the only source of profit. Mason explains:

To increase productivity, we increase the proportion of ‘machine value’ to the living human labour employed. We drive human beings out of the production process and in the short term – at the level of the firm or sector – profits rise. But since labour is the only source of extra value, once an innovation has been rolled out across the whole sector, and a new, lower social average set, there’s less labour and more machine; the part of the operation producing the added value has got smaller; and if unchecked that would place downward pressure on the profit rate of the sector.

If, on the other hand, commodities have a use value as well as a labor value, and profit does not derive solely from exploiting labor, then the explanation for falling profits is less straightforward. In fact, why profits have to fall at all may not be immediately obvious. Consumers who value a particular product may willingly pay just as much for it, whether it’s produced by human labor or by machinery. True, less labor means fewer workers to overwork and underpay; but it also means fewer workers with whom to share the revenues from mechanized production. Productivity gains could translate into corporate profits for a long time.

That means that I have a somewhat more positive view of capitalism, at least during the upswings of long cycles. Capital investments and productivity gains can produce win-win solutions for capital and labor, with both profits and wages rising for many years. That would explain why long-cycle upswings such as the postwar prosperity are periods of relative domestic tranquility and capital-labor accommodation.

Although I do not regard labor-saving technology as inherently unprofitable, as Marxians do, I can see two reasons from a more Keynesian point of view why profits would eventually fall in a mature, more automated industry:

  1. Overproduction: The industry becomes so good at producing goods in high quantity but low cost that it cannot find a big enough market for them.
  2. Under-consumption: The industry reduces its demand for labor to the point that employment and wages fall, leaving too many workers too poor to afford the products being marketed.

Even without Mason’s pure labor theory of value, I can see how mature industries could eventually become victims of their own success in raising productivity and lowering labor costs. Then the rest of Mason’s theory of cycles applies: Profits are threatened, capital tries to compensate by squeezing labor, cooperation breaks down, and eventually social unrest forces the system to adapt. Then in order for capitalism to continue, profits have to be found primarily in new industries.

Profits in a service economy

Today, there is some question of what those new industries would be, since the manufacturing sector is becoming so automated that it can no longer create jobs for the millions of workers entering the global labor force. Last week’s New York Times had a good article by Eduardo Porter, “The Mirage of a Return to Manufacturing Greatness,” questioning Donald Trump’s promise to bring back manufacturing jobs. Porter quotes Joseph Stiglitz, who says, “Global employment in manufacturing is going down because productivity increases are exceeding increases in demand for manufactured products by a significant amount.” Porter draws the logical conclusion that “strategies to restore manufacturing jobs in one country will amount to destroying them in another, in a worldwide zero-sum game.” Putting stiff tariffs on foreign goods, as Donald Trump proposes, is a formula for global conflict, but not global progress.

If there is to be another capitalist upswing in profits and prosperity, it would have to be centered in the service sector of the economy. Mason is pessimistic about turning enough services into paid work to compensate for the decline in manufacturing work.

At a certain level, human life and interaction resist commercialization. An economy in which large numbers of people perform micro-services for each other can exist, but as a form of capitalism it would be highly inefficient and intrinsically low-value. You could pay wages for housework, turn all sexual relationships into paid work, mums with their toddlers in the park could charge each other a penny each time they took turns to push the swings.

As I’ve said before, I expect people with specialized skills to continue to offer their services on the market for the foreseeable future. The more we invest in education and other forms of human capital development, the greater the number of people who will have something valuable to market. But since services by their very nature are labor intensive, there may not be much that financial capital can do to add value and justify a profit. What profits exist in service industries may depend too much on holding down wages, at least until low-wage services are automated too. In this area, the labor theory of surplus value may work very well.

For skilled workers, added value will come primarily from human capital, which will depend on inputs from the community (“It takes a village…”). In order to make those workers dependent on financial capital, capitalists would have to find ways to own the new informational means of production. “Capital has to extend its ownership rights into new areas; it has to own our selfies, our playlists, not just our published academic papers but the research we did to write them. Yet the technology itself gives us the means to resist this, and makes it long-term impossible.” Knowledge is sharable at such low cost that owning it for long is very difficult.

And so we remain poised between an old world of dwindling manufacturing jobs and low-wage service jobs, and a new world of self-capitalized skilled work. There might not be enough such work to keep people as employed as they used to be, but goods and services might be so cheap and abundant that not so much paid work would be necessary anyway. I don’t know whether to call such a system “postcapitalism” or “selfcapitalism” (the spell checker doesn’t like either term), but it certainly will be different.

Continued