Karl Marx’s thinking on the capitalist, or modern, economy became very influential by the early 1900s. Despite the failure of the centrally planned economies that it inspired, it remains an interesting analysis.
Marx relied on the labour theory of value in his economic analysis. All output ultimately results from labour alone, either in its present active state or in the form of “dead labour” embodied in machines and other capital. A machine, as a form of capital, can produce nothing by itself, and nature s free gift of ore in the ground is worthless until it is mined by labor. Capitalist economies are, by definition, controlled by the owners of capital, and not labour.
The only way that capitalists can earn profits is to expropriate some of a product’s value that should be attributed to labour. The expropriated share of a product’s value is referred to as its surplus value. Under capitalism, but only because it has exchange value.
Initially exchange value of a product tends to increase as the cost of its production decreases due to increases in productivity. Productivity is increased by capital deepening, or increasing the amount of capital per worker. Marx defined two types of capital.
Constant capital, such as machinery, does not change in value over the production process. Variable capital consists of wages played to employ labour. Surplus value, as value over and above the payment to labour, increases largely due to increases in constant capital.
The production function described by Marx takes the form of the identity:
Q + Kc + Kv + S………….. (1)
where Q is the value of output, Kc is the value of constant capital Kv is the value of variable capital, and S is surplus value.
This production function, as developed by Marx, leads to three types of crises that eventual y bring about the self-destruction of capitalism:
(1) a falling rate of profit,
(2) a realisation crisis, and
(3) a disproportionality crisis.
The rate of profit, Pr, in Marx’s theory is defined as:
Pr = S/Ke + Kv ………………. (2)
or the ratio of surplus value to the summed value of both types of capital The rate of profit must fall because surplus value is always reinvested by capitalists in the interest of raising levels of constant capital. This continuous investment of surplus value, or profit, in new constant capital is a fundamental behavioural assumption in Marxist analysis.
The on-going investment in constant capital causes it to increase in relation to variable capital. The ratio Kc/Kv, called the organic composition of capital, always in increasing due to reinvestment of profits and technological improvements.
As Kc increases in Equation 2, Pr must decrease. In order to raise the rate of profit capitalists increase productivity by increasing the organic composition of capital, but obviously their effort is futile because increasing constant capital causes continued decline in the rate of profit. Eventually, the process causes bankruptcy.
The realisation crisis also is based in the inevitable increase in the organic composition of capital. Employment of more constant leads to the technological unemployment of labour. The exchange value of a worker’s only commodity, labour, decreases as a reserve army of unemployed grows. Capitalists cannot realise surplus value from consumer goods, however because the consumer market is increasingly one of unemployed workers.
The capital goods sector also is affected by the realisation crisis because demand for capital goods in the bankrupt consumer goods sector no longer exists. This relationship is called the disproportionality crisis, because it describes how two interrelated sectors cannot grow at different rates.
Marx’s economic growth theory has been criticised on a number of grounds:
(1) One criticism focuses on his use of the labour theory of value, which he did not originate but adopted from Smith and Ricardo Most non-marxist economists think that capital, as well as labour, is a true productive factor. Just as idle machines cannot produce a good without a labour input, labour cannot produce much without tools and other types of capital.
(2) A more important criticism of Marx’s theory is that the inevitable fall in the rate of profit is not so much a true theoretical result as an extension of his assumption that the organic composition remains stable, and therefore the rate of profit. According to P. A. Samuelson, real rates of profit actually have been stable over the long run in the industrial countries.