Aim and structure of the course
• Economic Science (Economics) or economic theories?
• Understanding theoretical controversies as a way to
better understand seemingly robust disciplines, such
as microeconomics and macroeconomics.
• Theory of value and distribution in Adam Smith, David
Ricardo, Karl Marx.
William Stanley Jevons, the revolutionary:
When at length a true system of Economics comes to be established, it will be
seen that that able but wrong-headed man, David Ricardo, shunted the car of Economic
Science on to a wrong line, a line, however, on which it was further urged towards confusion
by his equally able and wrong-headed admirer John Stuart Mill (From the Preface to the
second edition of the Theory of Political Economy, 1879, First edition 1871).
Adam Smith (1723-1790)
Reference work:
An Inquiry into the Nature and Causes of the Wealth of
Nations, first published in 1776.
• Three fundamental ‘Smithian’ notions: Division of labour,
Surplus or value added, Invisible hand
• The division of labour, that fosters labour productivity, is limited
by the extent of the markets, since “when the market is very
small, no person can have any encouragement to dedicate
himself entirely to one employment” (I, ch.3).
• The surplus is “the value that workmen add to the materials” (I,
ch.6, p.66 and ch.8 p.88) (and not to be limited to the
agriculture sector)
• Invisible hand and privileges of corporations
• “No regulation of commerce can increase the quantity of industry in any
society beyond what its capital can maintain. It can only divert a part of it into
a direction into which it might not otherwise have gone; and it is by no
means certain that that this artificial direction is likely to be more
advantageous to the society than that into which it would have gone of its
own accord” (IV, ch 2, p.453).
• Though every individual “intends only his own gain, and he is in this, as in
many other cases, led by an invisible hand to promote an end which was no
part of his intention. Nor is it always the worse for the society that it was no
part of it. By pursuing his own interest he frequently promotes that of the
society more effectually than when he really intends to promote it” (ibidem,
p.456).
• As to the freedom of trade “Not only the prejudices of the publick, but what is
much more unconquerable, the private interests of many individuals,
irresistibly oppose it” (ibidem, p.471).
• Defending the freedom of trade does not prevent Smith from understanding
the fundamental role that government expenditure and taxation play in
providing “those public works which are unlikely to be provided by the
market because 'the profit could never repay the expense to any individual
or small number of individuals' (IV.ix. P. 688)” .
Natural price and market price (I, vii)
• A provisional definition: the ‘normal’ or ‘natural’ price repays the
cost of production and allows the producer to earn the ordinary
profit.
• The market price …” (p.73).
price
Q 1<D e
P m>P n
natural
price
Q 2>D e
P m< P n
Q1
Effectual
demand
Q2
quantity
The natural price in different states of
society
1) The early and rude state→ the labour theory of value
𝑝𝑏 4
𝐶𝑏 = 𝐿𝑏 = 4ℎ
⟹
= =2
𝐶𝑑 = 𝐿𝑑 = 2ℎ
𝑝𝑑 2
• Stability of the natural price
• Relative, nominal and real price
2) A later state of society → the theory of component parts
• “When the price of any commodity is neither more nor less than
what is sufficient to pay the rent of the land, the wages of the
labour, and the profits of the stock employed in raising,
preparing, and bringing it to market, according to their natural
rates, the commodity is then sold for what may be called its
natural price” (I, ch. 7, p.72).
• Computing natural prices: an economy with two goods only
(corn and iron) and ‘circulating capital’.
The technical conditions of production and the supply and
use table
Use
CORN
IRON
FINAL
DEMAND
GROSS
OUTPUT
0
0
6
6
1
3
1
5
20
20
-
-
1
0
-
-
Supply
CORN
(TONS)
IRON
(TONS)
LABOUR
(HOURS)
LAND
(ACRES)
Costs per unit of output:
the technical coefficients of production
The quantity of commodity i needed to produce one unit of
commodity j:
qij
aij 
Qj
The matrix of the technical coefficients
acc
aci
aic
aii
lc
li
Lc
Li
• Production costs depend not only on technical conditions of
production but also on the wage and profit rates (income
distribution among social classes)
3
𝑝𝑖 = 4𝑤 + 𝑝𝑖 1 + 𝜋
5
10
1
𝑝𝑐 =
𝑤 + 𝑝𝑖 1 + 𝜋
3
6
• The natural rates of wage and profit (and hence natural prices)
emerge as a consequence of a conflictual adjustment process
among single capitalists and between capitalists as a whole
and workers: “The workmen desire to get as much, the masters
to give as little as possible. The former are disposed to combine
in order to raise, the latter in order to lower the wages of labour.
It is not, however, difficult to foresee which of the two parties
must, upon all ordinary occasions, have the advantage in the
dispute, and force the other into a compliance with their terms.
The masters, being fewer in number, can combine much more
easily” (I, viii, p.83).
• In Smith, therefore, according to the masters’ capability to
combine, a uniform profit rate will emerge, to be imposed to the
other classes of society, as a natural component of the cost of
production.
• The real wage rate, on the other hand, i.e. the quantity of wage
goods that workers can afford given w and π, depends on the
prices of the necessities:
3
𝑝𝑖 = 4𝑤 + 𝑝𝑖 1 + 𝜋
5
10
1
𝑝𝑐 =
𝑤 + 𝑝𝑖 1 + 𝜋
3
6
• Distribution can be explained starting from the awareness that it
is the result of a conflict: given w, the higher is π, the higher is
pc and the lower the real wage (w/pc).
• “But though in disputes with their workmen, masters must
generally have the advantage, there is however a certain rate
below which it seems impossible to reduce, for any
considerable time, the ordinary wages even of the lowest
species of labour” (ibidem, p.85).
The theory of component parts and the
determination of natural prices
3
𝑝𝑖 = 4𝑤 + 𝑝𝑖 1 + 𝜋
5
10
1
𝑝𝑐 =
𝑤 + 𝑝𝑖 1 + 𝜋
3
6
Working assumptions
• Money wage: w=5 euros
• Real wage: w/pc
• Subsistence wage: w/pc=1/20 tons of corn
If masters “have the advantage” the real wage will be at
subsistence. Then the monetary price of corn will be pc= 100€
?
And what about the relative natural price and the natural rate of
profit? The role of competition.
Looking for the solution
If pi = 200 (pi /pc=2)
𝝅𝒄
1000  600  100 3
𝝅
π f𝒊 
  0, 428  43%
700
7
If pi = 400 (pi /pc=4)
600  400  100
π g𝒄 
 20%
𝝅
500
2000  1200  100
𝝅
π f 𝒊

1300
7
 0, 538  54%
13
A further attempt: the solution
If pi = 300€ (pi /pc=3)
600 - 300 - 100
πg =
= 50%
400
1500 - 900 - 100
πf =
= 50%
1000
The main limit of this analysis: produced quantities are given
DAVID RICARDO (1772-1823)
Main works:
An Essay on the Influence of a low Price of Corn on the
Profits of Stock (1815) and Principles of Political Economy
and Taxation (1817-1821)
The ‘reason’ for the first (1815) model: the ‘corn laws’ debate
The main assumptions of the model
•A one commodity economy (corn)
•Decreasing returns
•All inputs estimated in corn
•‘Differential rent’
Capital Rate of
Neat
Profit
Rent
Profit
Rent
Profit
Rent
Profit
Rent
Profit
Rent
Profit
Rent
Profit
Rent
Profit
est. in profits Produce on the on the on the on the on the on the on the on the on the on the on the on the on the on the on the
quarters
1°
1°
2°
2°
3°
3°
4°
4°
5°
5°
6°
6°
7°
7°
8°
portion portion portion portion portion portion portion portion portion portion portion portion portion portion portion
of corn
of land of land of land of land of land of land of land of land of land of land of land of land of land of land of land
200 50% 100 100
0
210 43% 90
86
14
90
0
220 36% 80
72
28
76
14
80
0
230 30% 70
60
40
63
27
66
14
240 25% 60
50
50 52.5 37.5 55
25 57.5 12.5 60
0
250 20% 50
40
60
36
12
260 15% 40
30
70 31.5 58.5 33
47 34.5 35.5 36
270 11% 30
22
78
56 25.3 44.7 26.4 33.6 27.5 22.5 27.6 12.4 30
42
23
48
67
44
24
70
46
0
24
48
50
0
24 37.5 12.5 40
0
The inverse relationship between rents and the
rate of profits:
a graphical version of the ‘Table’
The assumptions
•The only form of capital is the corn to be paid in advance to
workers
•The real wage rate is given and equal to 1q of corn
(capital=labour units)
π = 50%
corn
profits
wages
(240)
(250)
1.5q
100
q
w
=1q
200
q
(200)
(210)
(220)
(230)
(260)
work
π = 43%
corn
1,5 q
profits
wages
(240)
(250)
rents
14q
100
86q
q
90q
w=1q
200 q
210
q
(200)
(210)
(220)
(230)
(260)
workers
π = 25%
n
profits
wages
rents
q
50 q
37.5 q
25 q
12.5 q
50 q
52.5 q
55 q
57.5 q
60 q
200 q
210 q
220 q
230 q
240 q
(210)
(220)
(230)
(240)
q
(200)
(250)
(260)
workers
π = 0%
corn
wages
rents
(240)
……..
5q
1q
(200)
(210)
(220)
(230)
(300)
workers
Theory of value and income distribution
•In the ‘Essay’ Ricardo confutes the thesis “that profits on
agriculture no more regulate the profits of commerce, than that the
profits of commerce regulate the profits on agriculture”.
•A theory of value is needed since, as Malthus stated in a famous
letter to Ricardo of August 4°, 1814 “in no case of production is
the produce exactly of the same nature as the capital advanced.
Consequently we can never properly refer to a material rate of
produce … it is the state of capital or the general profits of stock
… which determines the particular profit upon the land; and … not
the particular profits or rate of produce upon the land which
determines the general profits of stock”.
•The fundamental role of the (price of) wage goods and the labour
theory of value allowed Ricardo to prove his thesis about the
crucial role of agriculture (the wage goods sector).
unit cost
If the LTV holds and we choose the numeraire in order
to let the nominal price of commodities coincide
precisely with the quantity of labour ‘bestowed’ in their
production, then the price of corn coincides with the
reciprocal of labour productivity on the less fertile land.
4/5
7/10
2/3
210
200
300
240
600
900
1200
1500
corn
value of output on each
land=240
rents
If w/p = 1q of corn
p = 4/5;
w= ? 4/
π = ?25
5
unit cost
profits
%
wages
4/5
30
40
160
168
300
176
600
48
46
44
42
40
10
20
192
184
900
1200
1500
corn
The role of money wages
unit
cost
When cultivation is extended to less fertile lands, income
distribution changes for two reasons:
1. The increase in the quantity of labour necessary to produce corn;
2. The ensuining increase in money wages
p=w= ?2/
10
3
p=w= 7/10
63
60
200/3
value of output= ?20
Value of output=0210
π =43%
?
50
π=
%
400/3
140
147
300
600
corn
If money wages would remain unaltered
p=7/10; w=2/3
unit cost
value of output on both
lands =210
rents
profits
π =50%
? w/p=20/21
?
wages
7/10
10
200/3
70
400/3
140
corn
Karl Marx (1818-1883)
Main work: Capital, books I and III, published in 1867 and
1894 (posthumous by Engels) respectively.
• Analogies with the classical economists:
• Differences, the scientific use of the LTV to prove
exploitation (of the labour power):
• Subsistence Wage and labour power: an exchange
between ‘equivalents’
• The industrial reserve army
‘Decomposing’ value into its components
1) constant capital (c)
labour units bestowed in the means of production
Indirect labour
or ‘dead labour’
2) variable capital (v)
Labour units bestowed in the wage goods advanced for
the subsistence of the labour power
3) surplus value (s)
Direct labour or
‘living labour’
The (abstract) labour units ‘produced’ by the labour power
net of those necessary to reproduce its own subsistence
Value is equal to labour units ‘socially necessary’ for the
production of a commodity
Some important Marxian notions
The rate of surplus value
si
s' 
vi
The organic composition of
capital
ci
c' i 
vi
The rate of profits
si
vi
si
s'
πi =
=
=
ci + v i ci
c' i + 1
1
vi
Marxian values in a corn-and-iron economy
ASSUMPTIONS
The working day is 12 hours long and the daily subsistence
goods require 4 (total) hours to be produced.
Therefore, the rate of surplus value, uniform throughout the
2
economy, is ???
80cc + 20v c + 40sc = 140c
50cv + 50vv + 100sv = 200v
sc
s'
πc =
=
=
cc + v c c'c + 1
sv
s'
πv =
=
=
cv + vv c'v + 1
2
= 40%
5
2
= 100%
2
Marx’s ‘solution’: the transformation of values into
prices of production (III, ch. 9)
The average rate of
profits
Prices of production
sc + sv
πm =
= 70%
cc + v c + cv + vv
Pc =  80cc + 20v c   1+ π m  = 170
Pv =  50cv + 50v v   1+ π m  = 170
Properties and pitfalls of Marx’s solution