April 28, 2018

Profit: after 200+ years still elusive

Comment on Tom Hickey on ‘Lessons from Nick Hanauer and Dee Hock’


Tom Hickey cites from an article of Nick Hanauer: “It is appealing to believe that the parasite economy will eventually correct itself. Or that a few high-road employers will set an example that will eliminate it. But trust me when I tell you: This is wishful thinking. I know because I am one of those employers. People, like me, when faced with brutal competitive dynamics, will not pay workers a living wage unless all of our competitors do the same. And the only way that will happen is if citizens like you require employers like us to do it. Until then, corporate America will continue to build its record profits on the backs of cheap labor.”#1

The argument is built on the age-old cliche that depicts wages and profits as fierce antagonists. This meme is not only nourished by widespread personal experience, the testimonial of entrepreneurs/trade unionists, the rhetoric of politicians, but has the authority of the founding fathers Smith,#2 Mill, Ricardo,#3, #4 Marx,#5 et al. behind it.

This cliche is nonetheless false and it is scientifically incompetent economists who are to blame that it is still alive and substantially affects economic policy. Right policy depends on true theory: “In order to tell the politicians and practitioners something about causes and best means, the economist needs the true theory or else he has not much more to offer than educated common sense or his personal opinion.” (Stigum)

Economists do NOT have the true theory. As the Palgrave Dictionary puts it: “A satisfactory theory of profits is still elusive.” (Desai) Because the foundational concept of economics is false the whole of economics is false.

There is political economics and theoretical economics. The main differences are: (i) The goal of political economics is to successfully push an agenda, the goal of theoretical economics is to successfully explain how the actual economy works. (ii) In political economics anything goes; in theoretical economics, the scientific standards of material and formal consistency are observed.

Theoretical economics (= science) had been hijacked from the very beginning by political economists (= agenda pushers). Political economics has produced NOTHING of scientific value in the last 200+ years. The worst blunder is profit theory.

The problem with the antagonism meme is that it has common sense on its side, just like Geo-centrism had the the-sun-goes-up common sense on its side. Science goes beyond common sense. What one has to, first of all, understand in economics is profit and cross-over exploitation.#6

In order to see this, the business sector is split into two identical firms and firm 1 is supposed to cut the wage rate W arbitrarily by half. From this follows that the market clearing price P declines if all other variables are unchanged. Firm 2 is affected because total wage income falls and with it consumption expenditures and the market clearing price P.

The reduction of the wage rate W1 increases the profit of firm 1 and produces a loss in firm 2. When we look alone at firm 1 we see what Smith, Mill, Ricardo, Marx et al. have seen before, to wit, wages down ― profit up.

Seen from the perspective of a single firm, the antagonism of wages and profits is absolutely real. This, though, is parochial realism. The complete picture reveals that firm 1 is better off to the disadvantage of firm 2 and the workers of firm 2 are better off to the disadvantage of the workers of firm 1 because at a lower market clearing price they absorb a bigger share of output O with their unaltered income. The situation of the business sector as a whole is unchanged and the same is true for the household sector as a whole. If there is exploitation it happens WITHIN the sectors. A partial wage rate change leads only to a REDISTRIBUTION of profits between the firms and of output between the workers.

For the economy as a whole, the antagonism of wages and profits is an optical illusion. This has obvious consequences for employment theory and the discussion about the minimum wage.#7 To this day, neither right-wing nor left-wing economic policy guidance has sound scientific foundations.

Egmont Kakarot-Handtke

#1 Confronting the Parasite Economy
#2 The profit theory is false since Adam Smith
#3 Ricardo, too, got profit theory wrong. Sad!
#4 Ricardo and the invention of class war
#5 Profit for Marxists
#6 Capitalism, poverty, exploitation, and cross-over exploitation
#7 The minimum wage debate: a showpiece of economists’ hereditary idiocy

Related 'Profit and the Private-Property-Irrelevance Theorem'. For details of the big picture see cross-references Profit.