THE FALLING RATE OF PROFIT EXPLAINED – WITH NO MATH!
And Why the Green New Deal Can’t Save Capitalism
Saleh Waziruddin is a long-time Niagara Peninsula activist and student of capitalism.
Why does Marx say that under capitalism the rate of profit has a tendency to fall? Why can’t capitalists escape this tendency, or can they? Why can’t they keep making profits at higher and higher rates? Could investing in “green jobs” and the “green economy” keep capitalism from crashing?
Marx said even if workers lived on air and worked 24-hour shifts, capitalists would still face a falling rate of profit.
It is important to make a distinction between (total) profits and rate of profit: the capitalists’ total profit may keep increasing, but the rate of profit per amount invested as capital will decrease. This is important because capitalists are driven by getting a higher rate of return for their investment. It’s all well and good to make $1 million profit, but it makes all the difference to the capitalist if they made that profit from a $1 investment or a $1 billion investment to begin with. There may still be a profit based on the cost of labour, materials, wear-and-tear on machinery, and other costs, but how much investment was needed to extract that profit?
Marx’s Labour Theory of Value
The key to understanding the falling rate of profit according to Marx is to understand the difference between Marx’s labour theory of value and the labour theories of value of those before him, namely Adam Smith and David Ricardo. Unlike previous economists Marx said the value of a commodity isn’t embodied in it by labour for always and for ever, but the value of a commodity changes as society and technology change. The value is not the labour required to produce that particular item or service but the share of society’s total labour required to reproduce that commodity (called socially necessary labour time).
To clarify, a commodity is something produced primarily for exchange as opposed to being used by the producer. It doesn’t have to be a physical product; a commodity can also be a service if it is done for exchange. Under capitalism this exchange is done for a profit accumulated by the capitalist who hires the worker who produces the commodity. Those workers are said to be “productive” as in productive of capital; they produce the wealth the capitalist invests or accumulates. As Marx points out in Theories of Surplus Value (Addenda to Part 1) “A singer who sells her song for her own account is an unproductive labourer. But the same singer commissioned by an entrepreneur to sing in order to make money for him is a productive labourer; for she produces capital.” Her song would be a commodity if produced for sale even if it is not a physical object, e.g. at a live concert. (See Karl Marx Frederick Engels Collected Works, Volume 34, page 136.)
It doesn’t matter if some inept person took 10 hours to make something that could be made in one hour by one person with the current technology in our current society (the way it is organized for production). The value represented by that commodity would be the share of society’s labour represented by one person-hour because that’s how much labour would be required to make another one like it.
Note that although in the example above there is concrete (specific) work being done by one specific person, labour for Marx is social and abstract. The best analogy I have found is pyramid-building: no matter how much or for how long one person tugs at a pyramid’s block, they won’t be able to move it one inch. Working together a team of people can move it and build a pyramid. We can mathematically break this down into person-hours but the labour is the social result of a group of people working and not the contribution of any one person.
To scale-up to the level of a whole society, the wealth of the society has value because it is produced by the working class as a whole; every worker’s activity contributes in some way to the value to society of a commodity. “Corporations are the pyramids of today” as someone once observed.
Anti-Marxist propaganda dating back to the early 1900’s takes advantage of ignorance about Marx’s labour theory of value to purport to show that management creates value too, not just labour! If a team of brick layers takes a certain amount of time to build a wall, but a manager can re-organize them to take less time to build the wall, then the value represented by the difference in time must have been created by the manager, or so argue these anti-Marxists. However, no matter how long it took a particular group of workers to build the wall, the value of the wall is from the generalized (abstract) share of all of society’s labour the wall represents, as a generic wall and not just that particular wall.
If a group of wall builders were more inept or worked slower, or someone was able to get the wall built with less than society’s average necessary labour required, it doesn’t change the value the wall represents. It only means that either the wall will have to be billed at higher than its value (if they are less productive than average), or can be billed below its value (if they are more productive than average), or someone will have to pay the extra cost of being below average productivity, or someone can make an extra profit from being above average productivity. But the particular wall’s value itself is from society’s labour reflected in all walls, because another wall like it could be built for the socially necessary labour required for any wall in general.
Understanding specifically Marx’s labour theory of value is key to understanding why the rate of profit falls. When capitalists compete with each other they can only go so far by cutting wages and getting labour for more hours, as there are only 24 hours in a day and you can’t get (much) lower than free labour. The way they can get ahead of other capitalists is to invest in technology (e.g. machines) that will get more product out of a given amount of labour. This way their labour and material costs are spread across a higher volume of product and they can either undercut their competitors on price, or can make a higher return on their investment which will attract more investors than their competitors who need investments to continue.
At first, when a technology is new, this works out well for the capitalist who gets hold of the technology first. Eventually, the technology spreads throughout society and everyone is using it, getting more commodities from a given amount of labour than before.
Because the value of commodities reflects the share of society’s labour which is required to reproduce that particular commodity, the value of commodities falls because under the new technology it takes less labour to make the particular good or service.
Why Pre-Marxist Labour Theories of Value Miss This Insight: Okishio’s Theorem
If capitalists are going to end up with a lower rate of profit why would they invest in the first place? As you may have guessed, it is because they have no choice: whoever invests first gets an advantage and could destroy some of their competitors through undercutting them on price or attracting all the investment with initial higher rates of return. If a capitalist doesn’t invest in the new technology and their competitor does they might find themselves in the ranks of the working class applying for a job with their erstwhile competitor.
But Marx’s tendency of the rate of profit to fall was (apparently) shaken in 1961 by a Marxist, Nobuo Okishio, whose theorem used math to show capitalists would only invest if it reduced their costs and in some industries this would either increase or maintain the profit rate, and so their profit rate wouldn’t fall. This convinced many Marxists to abandon the theory of the falling rate of profit altogether, saying it’s unnecessary, or something Marx was wrong about even though it shows exactly us why capitalism is doomed no matter how the capitalists try to save it, even with a New Deal or a Green New Deal.
One of the reasons why Okishio came to his conclusion, and many Marxists have believed him, is because he did not understand Marx’s theory of value, specifically that values would change once productivity increases relative to costs. Okishio said investment will occur if it decreases production costs, but not necessarily increase productivity.
At first Okishio’s point will be true: the initial introduction of the new technology will decrease production costs for some capitalists and hold or increase their profit rate, and the same for other capitalists as they adopt the new technology. However, once the technology has become widespread it decreases the social labour required to produce a given mass of commodities, because even the costs of production which are reduced by the new technology represent less of society’s labour, even if the labour involved in the direct production (not production of the raw materials or machines) of the commodity is the same.
But it’s all of the working class’s labour as a class which gives commodities their values, not only the labour of a particular group of workers. So while for at first some parts of the economy may be able to avoid a falling rate in profits, as Okishio says he has proved, eventually, despite the selected investments of those capitalists in cost-cutting technologies, the general rise in productivity in society leads to a general fall in the values of all commodities.
As capitalists invest more and more into technology and machines to get more value out of the labour of their workers, more and more of their total investment is going to other capitalists, who hire other workers to make the machines or technology. This other labour is “dead labour” when it gets to the capitalist using the technology, as it has already been used to produce the technology for a profit for another capitalist, while the “living labour” is used with the new technology to generate value which brings the profit to the capitalist investing in the technology. As capitalists are forced to invest more into technology to avoid being driven out of business by their competitors, more of their capital (investment) goes into “dead” labour than “living” labour,.
More of their profit has to be shared with other capitalists who are paid for the technology they bring, but they only make their profit from the “living” labour which is a smaller and smaller share of their capital. As their profit is coming only from the “living” labour which uses the technology, the values of their commodities must eventually fall as it takes less and less labour to produce, and so their profit rate also falls as they had to invest more into “dead” labour represented by the new technology than the “living” labour they employ to use the technology.
In this way also workers of a particular capitalist are not just working for that capitalist, but they are working for the capitalist class as a whole as more and more capitalists take a share of the profit from the value created by the labour of the workers. As value is from social and not individual labour, it is the workers as a class working for the capitalists as a class which produces the wealth then divided by the capitalists among themselves.
Does the rate of profit fall or not?
Marx wrote about various ways capitalists could fight against the tendency for the rate of profit to fall, but some Marxists have turned this into agnosticism saying the economy is too complex to know whether the rate of profit will fall or not, and that after all this law is only about a tendency (a law for a tendency). But Marxism does not, to borrow a phase from a TV character, tell us “oh, on the one hand this, and on the other hand that.” (Malcolm Tucker in The Thick of It, Season 2, Episode 1, BBC Four)
The value of a theory is in what it tells us about the interaction of, and how to determine the outcome of, the phenomena it describes, and Marx’s labour theory of value tells us that no matter what the capitalists might do the rate of profit must eventually fall. This has been shown empirically, whether in the form of the rate of profit of corporations or of recurring economic crisis. See the following chart of the estimated rate of profit for the world from 1869 to 2010 from the blog of Michael Roberts based on “The historical transience of capital” by Esteban Ezequiel Maito published online here.
[Graph 1: estimated world rate of profit 1869-2010 based on a weighted average from 14 countries: Germany, the USA, the Netherlands, Japan, United Kingdom, Sweden, Argentina, Australia, Brazil, Chile, People’s Republic of China, Republic of Korea, Spain, and Mexico. Graph is from Michael Robert’s blog extracted from Figure 5 on page 13 (PDF) in Esteban Ezequiel Maito’s paper.]
Also the following graph, Figure 3 in the original, from Anwar Shaikh’s “The Falling Rate of Profit and the Economic Crisis in the US” on page 121 of The Imperiled Economy, Book I, (Robert Cherry et al, editors Union for Radical Political Economics, 1987) shows the overall decline in the profit rate for the USA:
[Graph 2: profit rates in the US with and without adjustment for capacity utilization. Graph is Figure 3 in Anwar Sheikh’s article on page 121 of the book The Imperiled Economy, Book I.]
WHAT HAPPENS WHEN THE RATE OF PROFIT STARTS FALLING?
When the rate of profit is increasing capitalists can expect to make a profit from investing their capital. Marx in Capital vol 3 described that when the rate of profit starts to fall, however, the smaller, more vulnerable capitalists can no longer sustain the return on their investment and, in order to avoid being destroyed by more secure competitors, start to engage in speculation and outright swindles. There is little need for them to take large risks if they can make a high return with only a moderate or lower risk, but it is only when they can’t profit from what they had already been doing that they resort to increasingly desperate schemes.
The conventional understanding, even by radicals, has this phenomenon reversed: the source of the problem is misunderstood to be the financial swindling and speculation, and that the “productive” or “real” economy (which produces commodities, which may be goods or services) is fine. But actually Marx points out it is because the profit rate of the “real” economy can’t be sustained that the swindling and speculation is resorted to. Otherwise why wouldn’t these schemes be predominant all the time? Glib explanations such as “financialization” are offered but these are only superficial explanations that don’t look at the deeper phenomena within production itself as Marx did.
Another conventional misunderstanding is that the “real” economy which produces commodities is only a small part of the economy compared to the “speculative” part of the economy. Actually those who engage in highly risky speculation or outright swindling are the smaller, more vulnerable capitalists compared to the larger capitalists who can weather the storm of crashing profit rates better. As Lenin pointed out in Imperialism, the Highest Stage of Capitalism banking capital and “industrial” (manufacturing) capital are inter-connected and not separate.
It is the relatively smaller capitalists who get destroyed in crisis and there is an increasing consolidation of capital by fewer and fewer companies which can survive the drop in the rate of profit.
Attempts to reform capitalism so that it is crisis-free by focusing on the “real” side of the economy, or with massive public investment including into the environmental infrastructure and “green jobs” in a Green New Deal, as important as those are, cannot escape a financial crash from the falling rate of profit. This is because value and wealth are created socially but under capitalism are appropriated privately or individually, and so as values fall from increasing productivity profits will fall over time compared to when investments in technology were made in a race to not be driven out of business by competitors.
What happens when the rate of profit has fallen?
Capitalist rhetoric says government doesn’t create jobs, business does. But when the profit rate has fallen business doesn’t invest, because they can’t get a return on their investment. In fact, as Marx described in Capital Volume 3, it becomes more important to hang on to cash to pay debts which can’t be financed because the economy slows down as companies collapse.
This is why the then Bank of Canada Governor Mark Carney accused companies of hoarding “dead” (i.e. uninvested) money (“Free up ‘dead’ money, Carney exhorts corporate Canada”, Kevin Carmichael, Richard Blackwell, and Greg Keenan, The Globe and Mail, August 22, 2012). Central banks lower interest rates to encourage investors to free up money from savings and invest them in stocks for a higher return than the interest rate. But when the rate of return on investment (profit rate) goes down to even zero, the Bank of Canada has to threaten that it is considering negative interest rates (in other words, charging interest on deposits!) as Governor Stephen Poloz said he would consider in 2015 (“Bank of Canada unveils new measures to deal with economic shocks”, David Parkinson and Barrie McKenna, The Globe and Mail, December 8, 2015). As of 2016 the central banks of the European Union, Switzerland, Sweden, Denmark and Japan already had negative interest rate (“Will Canada join the negative interest club”, Jonathan Ratner, The Financial Post, March 14, 2016).
As a candidate for the Communist Party in federal and provincial elections, I could put this point across simply and be clearly understood by pointing out that “businesses don’t invest when the economy is down,” and during the few years after the financial crash in 2008 there was little evident investment.
Capitalists want the working class to pay for the crisis, but it is at least as plausible (if not more plausible) to demand the capitalists to pay for it. This was demanded by a co-worker of mine at a call centre who, when told in a group meeting with other workers that the global economic crisis means our employer would be freezing our wages, responded by saying “we have been working for the employer for so long, producing all the profits they enjoy, that it is the employer who should make the sacrifice and absorb the cost of our raises.”
How do the capitalists put the rate of profit back together again?
A fall in the rate of profit does not mean the end of capitalism. Once the values of commodities have fallen, those capitalists who survived the fall can invest at the lower values and make profits from investments made at the newer, lower values of commodities.
Capitalism has many falls in the rate of profit followed by investment picking up profitably at the newer level of technology. This doesn’t mean capitalism can go on forever, but it does mean the fall in the rate of profit and economic crisis does not automatically mean the end of capitalism, it must be overthrown by the working class and its allies who use their political power to completely end the system of the private ownership of wealth and its production.
What happens if the rate of profit goes to zero?
There is a Marxist organization in the USA which has an unpublished theory that Marx’s theories are superseded by the advent of robots. None of their publications cite this theory but their members hint at this belief. It is a pity they did not read Marx’s Wage Labour and Capital where in the end he remarks “If the whole class of the wage-labourer were to be annihilated by machinery, how terrible that would be for capital, which, without wage-labour, ceases to be capital!” because the value of commodities would fall to zero, as would profits, requiring no socially necessary labour. (See Marx Engels Collected Works, Volume 9, page 226.)
If automation reached such a high level that all production operated in a kind of perpetual motion, where all maintenance and shut-downs/restarts were themselves done by robots (which may be possible as there are robots which can build or repair other robots, and even Marx noted in Wage Labour and Capital that since 1840 machines have been used to produce other machines), then no human labour would be required for production at all. As commodities can be reproduced without any labour they would have no value. As everyone would be out of work, hopefully enough of us would see the sense in just getting rid of the capitalists and taking over the production for the benefit of our class.
Unless of course the machines take over, in which case we would need to call The Terminator from the future. This, I admit, Marx may not have foreseen. This is an additional reason to overthrow capitalism before it reaches such a hypothetical stage, as if we needed more reasons.
