The Law of Wages.—Even though labor creates the amountABDE, it is not yet perfectly clear that it will be able to get that amount. For aught we now know theentrepreneurmay keep some of it, and for aught we know he may keep some of the quantityBCDwhich is distinctly the product of capital. Let us see whether he can in reality withhold any part ofABDE, which is the product of labor.
Wages under Perfect Competition.—In the static state that we have assumed, competition works without let or hindrance. It does not work thus in the actual world, and we shall in due time take account of the obstacles it encounters; but what we are now studying is the standards to which such competition as there is—and it is in reality very active—istending to make wages conform. We want to know what would happen in case this competition encountered no hindrance at all. This would require that a workman should be able to set employers bidding against each other for his services just as actively as an employer can make laborers bid against each other in selling their services. If this were the case, every unit of labor could get what it produces, no more and no less. Even a single man, offering himself to one employer after another, would virtually carry in his hands a potential product for sale. His coming to any man's mill would mean more goods turned out in a year by the mill; and if one employer would not pay him for them at their market value, another one would. The final unit of social labor can get, under perfectly free competition, the value of whatever things that labor, considered apart from capital, brings into existence. Moreover, each unit of labor by itself alone now produces, as we have seen, the same amount of commodity as the final unit, and can get the price of it. Now that they are all working together each one of them can place itself in the position of the final unit by leaving its present employment and offering its services elsewhere.
Wages regarded as Prices of Fractional Products adjusted by Perfect Competition.—Under the hypothesis of perfect competition, as the term has been used in our discussion, the venders of goods can get their market values. These values are fixed by the final utility law. Free competition means, then, not only that any average laborer who offers himself for hire virtually carries in his hands a potential but definite product for sale, but that he may confidently offer it at the price that is fixed by its final utility. Likeother venders, the laborer can get the true value of his product and he can get no more. In an ideally perfect society organized on the competitive plan a man would be as dependent on his own productive power as he would be if he were alone in a wilderness. His pay would be his product; but that would be indefinitely larger than it could be in a wilderness or in any primitive state. The capital of other men and the organization that they maintain enable a worker to create and get far more than he could if he lived alone, even though, like Crusoe, he were monarch of his whole environment. It would be a losing bargain for the worker to surrender the product of mere labor in a state of civilization in exchange for what both labor and capital create in a state of savagery.
FOOTNOTES[1]Theentrepreneurof A´ of our table must buy the A in order to impart to it that utility which is his own particular contribution. He pays as wages and interest all that he gets for this contribution. The true product of theentrepreneuris not the entire price of the A´, but is the difference between that and the price of the A. The entire amount received for the A´ resolves itself into wages, interest, and cost of A; but as a rule the price of A resolves itself practically into wages and interest only, and when it does so, all that is paid for the A´ ultimately takes these forms. The same is then true of the finished product A´´´. The entire price of it is ultimately resolvable into wages and interest; and in speaking of the product of an entire group we do not need to make any reservation for raw materials.The case in which this statement requires qualification is that in which the material in its rawest state still has value, as is the case with ore and mineral oil contained in the earth but not a true part of land in the economic sense, since they are exhausted in the using. The price of a product into which these elements enter includes something that represents the value which they havein situand before any labor has been expended on them. It is true even in these cases that the value of the product is measured in terms of wages and interest, provided that the exhaustible elements such as ore, oil, etc., are capable of being replenished, or provided that an effective substitute for them is in process of production by means of labor and capital. The natural raw material is then worth what the artificial substitute costs in terms of capital and labor, and the finished product which contains some of the natural material sells for the amount which the finished product costs, which is made altogether by labor and capital applied to valueless elements in nature.
[1]Theentrepreneurof A´ of our table must buy the A in order to impart to it that utility which is his own particular contribution. He pays as wages and interest all that he gets for this contribution. The true product of theentrepreneuris not the entire price of the A´, but is the difference between that and the price of the A. The entire amount received for the A´ resolves itself into wages, interest, and cost of A; but as a rule the price of A resolves itself practically into wages and interest only, and when it does so, all that is paid for the A´ ultimately takes these forms. The same is then true of the finished product A´´´. The entire price of it is ultimately resolvable into wages and interest; and in speaking of the product of an entire group we do not need to make any reservation for raw materials.The case in which this statement requires qualification is that in which the material in its rawest state still has value, as is the case with ore and mineral oil contained in the earth but not a true part of land in the economic sense, since they are exhausted in the using. The price of a product into which these elements enter includes something that represents the value which they havein situand before any labor has been expended on them. It is true even in these cases that the value of the product is measured in terms of wages and interest, provided that the exhaustible elements such as ore, oil, etc., are capable of being replenished, or provided that an effective substitute for them is in process of production by means of labor and capital. The natural raw material is then worth what the artificial substitute costs in terms of capital and labor, and the finished product which contains some of the natural material sells for the amount which the finished product costs, which is made altogether by labor and capital applied to valueless elements in nature.
[1]Theentrepreneurof A´ of our table must buy the A in order to impart to it that utility which is his own particular contribution. He pays as wages and interest all that he gets for this contribution. The true product of theentrepreneuris not the entire price of the A´, but is the difference between that and the price of the A. The entire amount received for the A´ resolves itself into wages, interest, and cost of A; but as a rule the price of A resolves itself practically into wages and interest only, and when it does so, all that is paid for the A´ ultimately takes these forms. The same is then true of the finished product A´´´. The entire price of it is ultimately resolvable into wages and interest; and in speaking of the product of an entire group we do not need to make any reservation for raw materials.
The case in which this statement requires qualification is that in which the material in its rawest state still has value, as is the case with ore and mineral oil contained in the earth but not a true part of land in the economic sense, since they are exhausted in the using. The price of a product into which these elements enter includes something that represents the value which they havein situand before any labor has been expended on them. It is true even in these cases that the value of the product is measured in terms of wages and interest, provided that the exhaustible elements such as ore, oil, etc., are capable of being replenished, or provided that an effective substitute for them is in process of production by means of labor and capital. The natural raw material is then worth what the artificial substitute costs in terms of capital and labor, and the finished product which contains some of the natural material sells for the amount which the finished product costs, which is made altogether by labor and capital applied to valueless elements in nature.
The product of the final unit of labor—an amount which in practice is measured without any tracing of the previous growth of the working force—sets the standard of the rate of wages. We have now to see that the rate of interest has a similar basis; and yet it is worth while to build up, wholly in imagination, a fund of capital, just as we have made up the force of laborers, increment by increment. This will have the incidental effect of illustrating another way in which wages may be determined.
Interest as a Residual Amount.—The areaBCDin our former figure represents the difference between the total product of an industry and the wages paid to laborers. If there is no net profit accruing to theentrepreneur, this area must represent interest. It is what is left for the capitalist on the supposition that he and the laborer together get all that there is. If the goods sell for what they cost, this must be the fact, and the amount represented byBCDhas thus to go to capital, since, by a rule of exclusion, it cannot go to theentrepreneurnor to the laborer. The mill and its contents earn for their operator nothing but simple interest on the money they have cost. Paying the laborers discharges the first claim on the product, and there then remains only enough of the product to pay the remaining claim, that of capital.
The question still remains to be answered, how thecapitalist, if he is a different person from theentrepreneur, or operator of the mill, can make this functionary pay over to him all that he has in his hands after paying the wages of labor.
The Importance of the Residuum.—The above reasoning does not satisfactorily show what influence the capitalist can use to make theentrepreneurpay over to him the entire amount of the residuum. It shows that after paying wages theentrepreneurwill have a certain amount left, but it is not thus far clear how the capitalist can get it from him. The fact that the laborers get only the amount represented byABDEand that the whole amount isACDEdoes, however, at least show that theentrepreneurhas the amountBCDleft in his hands, and that he isableto pay this amount to the capitalist if by any appeal to competition the capitalist is able to make him do it.
Interest not determined Residually.—The fact is that the interest on capital is fixed exactly as are the wages of labor.
We will let another figure represent the entire product of the same amount of labor and the same amount of capital that were represented in the former case. We will assume that there is at the outset a complete force of laborers, and that no men are added to it or taken from it; but we will gradually introduce units of capital instead of units of labor as in the former case. The amount of capital is now represented by the lineA´E´and the product of the first unit of it by the lineA´C´. The product of the successive units declines along the curveC´D´. The final unit of capital then brings into existence the amount of wealth represented byE´D´. As every other unit now produces the same amount, the capital as a whole createsthe quantity represented byA´B´D´E´and every unit of it makes its own separate contribution to that amount. In this we have simply applied to capital and its earnings the principle we formerly applied to labor and its earnings.
General Form of the Law of Final Productivity.—This principle is the law of final productivity, one of those universal principles which govern economic life in all its stages of evolution. Either one of the two agents of industry, used in increasing quantities in connection with a fixed amount of the other agent, is subject to a law of diminishing returns. The final unit of the increasing agent produces less than did the earlier units in the series. This does not mean that at any one time one unit produces less than another, for at any one time all are equally productive. It means that the tenth unit produces less than the ninth didwhen there were only nine in use, and that the ninth unit formerly produced less than the eighth did in that still earlier stage of the processin which there were only eight in use, etc.If the productive wealth of the United States were only five hundred dollars per capita instead of more than twice that amount, interest would be higher than it is, because the productive power of every dollar's worth of capital would be more thanthe productive power of each dollar's worth is now; and, on the other hand, if we continue to pile up fortunes, great and small, till there are in the country two thousand dollars for every man, woman, and child of the population, interest will fall, because the productive power of a dollar's worth will become less than it now is.
How Competition fixes Interest.—We can now see how it is that the capitalist can make theentrepreneurpay over to him the amount left in his hands after paying wages. Every unit of capital that any one offers for hire has a productive power. It can call into existence a certain amount of goods. The offer of it to anyentrepreneuris virtually an offer of a fresh supply of the kinds of goods which he is making for sale. Loaning ten thousand dollars to a woolen manufacturer is really selling him the amount of cloth that ten thousand dollars put into his equipment will bring into existence. Loaning a hundred thousand dollars to the manufacturer of steel, so as to enable him in some way to perfect his equipment, is virtually selling him the number of additional tons of steel, ingots, or rails that he can make by virtue of this accession to his plant.
The Significance of Free Competition.—Now, the tender of capital may be made to anyentrepreneurin a particular industry, and the existence of free competition between theseentrepreneursimplies that a lender of capital can get from one or another of them the whole value of the product that this capital is able to create. A unit of capital in the steel business can producentons of steel in a year, and if one employer will not pay the price ofntons for the loan of it, another will. This, indeed, impliesan absolutely free competition; but that is the condition of the problem we have first to solve. When we know what ideally active competition will do, we can measure the effects of the obstructions that, in practice, competition actually encounters.
Competition for Capital among Different Industries.—The capitalist can invoke the aid of competition outside of the limits of one particular business. He may offer his loan to steel makers, to woolen manufacturers, cotton spinners, silk weavers, shoemakers, etc. Within each one of these industries perfect competition between the different employers will give him the value of the product which, in that business, his capital is able to create. If, however, what in this way he offers to men in one occupation is worth more than what he offers to men in another line,—if capital is worth more to steel makers than it is to cotton spinners,—he will find a market for his capital in the former industry; and this process of seeking out the employment in which capital is the more productive and there bestowing the loans of capital, will go on until every such local excess of productive power is removed and capital can produce as much wealth in one business as it can in another. Everywhere capital will then be both producing and receiving the same amount, and general interest will everywhere be determined by the final productivity principle acting all through the business world.
When Interest as Directly Determined equals Interest as Residually Measured.—The areaBCDof the first figure measures what theentrepreneurhas left after paying wages. This amount and no more he can pay as interest, and he will pay it if he has to. The areaA´B´D´E´of the second figure represents what hemust pay as interest; and we can now see that, if competition is perfectly free, this amount equals the amountBCDof the first figure. If, after paying wages, there is any more left in theentrepreneur'shands than competition compels him to pay out as interest, he is realizing a net profit; he is selling his goods for more than they cost him, and this, as we saw at the outset, is a condition that under perfect competition cannot continue. The natural price of goods is the cost price. If the market price of anything is in excess of cost,entrepreneursreceive a profit, and in order to do more business and make a larger aggregate of such profit they bring new labor and capital into their industry. The increased output lowers prices, and the excess of gain is thus taken from theentrepreneur. IfBCDis smaller thanA´B´D´E´, theentrepreneurincurs a loss and will curtail his business and let some labor and capital go where they can produce more.
Taking this remainder of income from theentrepreneurby means of an addition to the output of goods and a reduction of the price of them does not annihilate the income, but bestows it on other recipients; for the reduction in price which destroys an employer's profit can come only in a way that benefits consumers. It means that enlarged production of which we have just spoken, which scatters more goods throughout the community and insures an addition to the real incomes of both laborers and permanent investors.
Effect of Perfect Mobility of Labor and Capital.—Perfect mobility of labor and capital insures that the residuum in theentrepreneur'shands after wages are paid shall all be made over to the capitalist. Weencounter here again the static law that, with competition working without let or hindrance, theentrepreneuras such can keep nothing for himself; though if he is also a worker he will get wages, and if he is also a capitalist he will get interest. His business will pay wages on all kinds of labor, including that of management, and interest on all capital, including his own. A net gain above all this it will not afford, and whatever theentrepreneurhas left after paying wages he will have to use in paying interest, andvice versa. Laborers and owners of capital have, as it were, to take each others' leavings. Such is the situation in an ideally static condition, though we shall see how it is changed in actual and progressive society.
The areaBCDof the first figure is, under static conditions, exactly equal to the areaA´B´D´E´of the second figure, becauseACDErepresents the whole product,BCDin the first figure represents all that is left of it after wages, measured byABDE, are paid; and we know by evidence both theoretical and practical that the capitalist, whose share is directly expressed byA´B´D´E´of the second figure, can claim and get the whole of this amount.
Wages as a Residuum.—It is clear that the same reasoning applies to wages. In the second figure they are represented as a residuum. The areaB´C´D´represents what theentrepreneurhas left after paying interest, and nobody can get this amount but the wage earner. The reason, however, why the wage earner can get it is that free competition will give him the amountABDEof the first figure, and this, under perfectly static conditions, must equalB´C´D´of the second. Under perfect competition theentrepreneurcannot have any of the amountB´C´D´left in his hands after meeting the claims that the wage earner makes on him. On the other hand, he must have enough left to pay interest, since otherwise he would be incurring a loss, and that could not fail to force him and others who are in the same situation to contract their operations or go out of business. If the output of goods is reduced, either by the retirement of some employers or the curtailment of product by all, the price of what continues to be sold will be raised to the point at which wages and interest can be paid.
Wages and Interest both adjusted at Social Margins of Production.—It is to be noted that wages and interest are fixed at the social margin of production, which means that they equal what labor and capital respectively can produce by adding themselves to the forces already at work in the general field of employment. In making the supposition that, owing to some disturbing fact, a particularentrepreneurhas not enough after paying wages to pay interest, we assume that the rate of interest is fixed, in this way, in the general field and not merely in his establishment.
IfB´C´D´were larger thanABDE, theentrepreneurwould be selling goods for more than cost and realizing a net profit, which he cannot do in a static state; but a pure profit is not only possible but actual in a dynamic state.
In actual business total returns represented byACDEamount to more than the sum represented byABDE(wages) plusA´B´D´E´(interest). There are conditions that in practical life are continually bringing this to pass in different lines of business, though not in all of them at once. The real world is dynamicand therefore the true net profit, or the share of theentrepreneurin the strict sense of the term, is a positive quantity. This income is always determined residually. It is a remainder and nothing else. It is what is left when wages and interest are paid out of the general product. To theentrepreneurcomes the price of the products that an industry creates. Out of this he pays wages and interest, and very often he has something remaining. There is no way of determining this profit except as a remainder. The return from the sale of the product is a positive amount fixed by the final utility principle. Wages and interest are positive amounts, and each of them is fixed by the final productivity principle. The difference between the first amount and the sum of the two others is profit, and it is never determined in any other way than by subtracting outgoes from a gross income. It is the only share in distribution that is so determined.Entrepreneur'sprofits and residual income are synonymous terms. In the static state no such residual income exists, but from a dynamic society it is never absent. Everyentrepreneurmakes some profits or losses, and in society as a whole the profits greatly predominate.
Summary of Facts concerning a Static Adjustment of Wages.—We know then that in any industry wages and interest absorb the whole product, because any deviation from that rule in a particular group is corrected in the way above mentioned. Moreover, general wages and interest, as determined by the law of final productivity, must equal those incomes when they are determined residually. The area of the rectangular portion of one of the foregoing figures must equal the area of the three-sided part of theother. The question arises why allentrepreneursmight not get a uniform profit at once. This would not lure any labor or capital from one group or subgroup to another. If, after paying wages and interest at market rates, theentrepreneursin each industry have anything left, the entire labor and capital are producing more than they get and there is an inducement to managers and capitalists to withdraw from their present employers and becomeentrepreneurson their own account. Such anentrepreneurentering the field, drawing marginal labor and capital away from theentrepreneurswho are already there and combining them in a new establishment, can make them produce more than he will have to pay them and pocket the difference. If such a condition were realized, there would be a gain in starting new enterprises, since luring away marginal agents and combining them in new establishments would always be profitable. When we introduce into the problem dynamic elements we shall see that centralization, which makes shops larger instead of smaller, makes industries more productive, and that what happens when net profits appear is more often the enlarging of one establishment than the creation of new ones.Entrepreneursin the large establishments can afford to resist the effort made by others to lure away any of the labor or capital which they are employing, and they will do this for the sake of retaining their profits. They can do it by bidding against each other, in case any of them are making additions to their mills or shops, and also by bidding against any new employers who may appear. Perfect competition requires that this bidding for labor and capital shall continue up to the profit-annihilating point. Here, as elsewhere inthe purely static part of the discussion, we have to make assumptions that are rigorously theoretical and put out of view in a remorseless way disturbing elements which appear in real life. The static state requires that allentrepreneurswho survive the sharp tests of competition should have equally productive establishments, which means that they should all be able to get the same amount of product from a given amount of labor and capital. The actual fact is that differences of productive power still survive. There are some small establishments which, within the little spheres in which they act, are as productive as large ones; but there are also some which are struggling hopelessly against large rivals in the general market and are destined erelong to give up the contest. In other words, the centralizing and leveling effects of competition are approximated but never completely realized in actual life.
A fact that it is well to note is that the test of final productivity is inaccurately made when unduly large amounts of labor and capital are made the basis of the measurement. Take away, for instance, a quarter of the working force, estimate the reduction of the product which this withdrawal occasions, and attribute this loss entirely to the labor which has been taken away, and you estimate it too highly. With so large a section of the labor withdrawn the capital would work at a disadvantage, and a part of the reduction of the product would be due to this fact. If we should take away all the labor, the capital would be completely paralyzed, and the product would becomenil. It would obviously be inaccurate to say that the whole product is attributable to the labor, on the ground that withdrawing the labor annihilates it all. Withany large part of the labor treated as a single unit, the loss of product occasioned by a withdrawal of such a unit is more than can be accurately imputed to it as its specific product. The smaller the increments or units are made, the less important is this element of inaccuracy, and it becomes a wholly negligible quantity when they become very small. A study of the forms of the productivity curves will show that if we take as the increment of labor used in making the test only a tenth of the whole force, we exaggerate the product imputable to it by a very minute fraction, say by less than a one-hundredth part; and if we take a hundredth of the labor as a final unit, we exaggerate the product that is solely attributable to it by an amount so minute that it is of no consequence in practice or in any theory that tries to be applicable to practice.
A question may be raised as to whether we are correct in saying that theentrepreneur'sprofit is residual, in view of the fact that the entire product of a business is at the mercy of the management, so that a bad manager may reduce it or a good one may increase it. It may be further claimed that that part of the management of a business which consists in making the most far-reaching decisions cannot safely be intrusted to a salaried superintendent or other paid official and must get its returns, if at all, in the form of profits. Even in this case the gains are secured by making the gross return, which is the minuend in the case, large, leaving the two subtrahends, wages and interest, unchanged, and thus creating a remainder or residuum. We shall later see to what extententrepreneursdo in fact create the profits that come to them.
The complete static conception of society requires that noentrepreneurshould be left in the field who cannot continue indefinitely to hold his own against the competition of his rivals, and this requires essential equality of productive power on the part of all of them. It is not necessary, however, that all should operate upon an equal scale of magnitude, for an interesting feature of modern life is the need of many small productive establishments that cater to local demands and to wants which, without being local, call for only a few articles of a kind. Repairs, small orders, and peculiar orders are executed more cheaply in small establishments, and they survive under the very rule of essential equality of productive power which static conditions require. For catering to the general market and producing staple goods the large establishment has a decisive advantage, and this insures the centralization which is the marked feature of recent industrial life.
The Term "Rent" as Historically Used.—The wordrenthas a striking history. The science of political economy first took shape in a country in which direct employers of labor were not, as a rule, the owners of much land. Farmers, merchants, and many manufacturers hired land and furnished only the auxiliary capital which was necessary in order to utilize it. In a practical way the earnings of land were thus separated from those of capital in other forms, since they went to a different class of persons; and in the thought of the people the charges made for the use of mere ground came to constitute a unique kind of income. If, during the last century, the land in England had been a highly mercantile commodity, and if it had been the common practice ofentrepreneursnot to hire it but to buy and own it, as they bought and owned all other industrial instruments, there is little probability that land would have been considered, either in practical thought or in science, as a thing to be as broadly distinguished as it has been from all other capital goods. A business man would have measured his permanent fund of capital in pounds sterling and would have included in the amount whatever he had invested in land. As in America any representation of the capital of a corporation includes the sums invested in every productive way, and this includes the value of all land that the company holds,so in England, under a similar system of conducting business, any statement of the amount of a particular business capital would have included the whole of the productive wealth embarked in the enterprise; and in any statement of the forms of it there would have appeared, besides a list of all tools, buildings, unfinished goods, and the like, a schedule of the prices of land that the company owned and used. In "putting capital into his business" a man might buy land, in "withdrawing his capital" he might sell it; and the land in the interim would be the obvious embodiment of this part of his fund. The fact, then, that land was owned by one class of persons and let to another for hire, and that the lessees were theentrepreneursor users of it, caused practical thought and speech to put land in a class by itself.
The Origin of the Theory of Rent.—Scientific thought powerfully strengthened this tendency. At a very early date a formula was attained for measuring the rent of land, while no satisfactory formula was, then or for a long time afterward, discovered for measuring the amount of interest. Men contented themselves with saying that the rate of interest depends on demand and supply. In the case of the rent of land the same thing might have been said, but here such a statement was not mentally satisfying, and investigators tried to ascertain why demand and supply so act as to fix the income that land yields at a certain definable amount.
The Traditional Formula for Rent.—The formula which has long been accepted as measuring the rent of a piece of land, though it bears the name of Ricardo, grew into shape under the hands of several earlier writers. In its best form of statement this principleasserts that "the rent of a piece of land is the product that can be realized by applying labor and capital to it, minus the product that can be realized by applying the same amount of labor and capital to land of the poorest grade that is in cultivation at all." The quantity of the poorest land must be left indefinite, and all that the given amount of labor and capital can economically utilize must be left at their disposal. It would not do to say that the rent ofan acreof good land equals its product less that ofan acreof the poorest land in cultivation tilled with the same expenditure of labor and capital. If we should select a bit of wheat land in England tilled at a large outlay in the way of work, fertilizers, drains, etc., and try the experiment of putting the same amount of labor and capital on a piece of equal size in the remotest part of Canada, we should find that, so far from securing wheat enough to pay the bills that we should incur in the way of wages and interest, we should not have enough to help us greatly in the defraying of these costs, and the cultivation of this piece of land would be a losing venture. Instead of being no-rent land, yielding merely wages and interest for the labor and capital used in connection with it, it would be minus-rent land, deducting something from the earnings which the agents combined with it might elsewhere secure. In order to utilize such land at all, one must till it in what is termed an extensive rather than an intensive way, putting a small amount rather than a large amount of work and expenditure on it. By tilling ten acres of a remote and sterile farm with as much labor and other outlay as a very good acre of land in England receives, one can perhaps get enough to pay the required wages and interest. In generalno-rent land is commonly utilized in an extensive way and very good land in an intensive way; and in stating the old formula for rent we need to be careful to make it mean that the rent of the good piece is its total product less the product that can be had by taking from the good piece the labor and capital it now absorbs and setting them at work on a piece of the poorest land which is enough larger than the good one to enable us to secure a crop which will be worth just the amount of wages and interest we must pay. The larger size of the poor piece of land is an essential condition.
Real Significance of Rent Formula.—It will be seen that this formula amounts to saying that the rent of land is what the land itself adds to the marginal product of labor and capital. Put a certain amount of labor and capital on a piece of land of good quality, and you get a certain amount of product. Withdraw the land from the combination, and you force the labor and capital to become marginal increments of these agents. They must go elsewhere and get what they can. One alternative that is open to them is that of seeking out land of a grade so poor that it has not been previously utilized and doing what they can to get a product out of it. Whatever they can make such land yield is, in an economic sense, wholly their own product. There is an indefinite quantity of this kind of land to be had, and wherever labor and capital utilize any part of it, they can have all that they produce. Now if we subtract what they there create from what was created when they were working on the good land, we have the rent of that land.
Rent as a Product Imputable to Land.—The difference between what the labor and capital produce atthe margin of cultivation of land and what they can produce on good land, or land that lies within the margin, is clearly attributable to the qualities of the land itself. GivenXunits of labor andYunits of capital, combine with them no land except such as is too poor to have been previously utilized, and you get a certain product. It is the product of the labor and capital using something which is free to any one. Now put a piece of good land into the combination; to theXunits of labor andYunits of capital add a piece of productive land and see what you can create. We do this by taking these units of labor and capital away from the worthless marginal land and setting them to tilling that which is of the better quality. The product is of course larger than they got before, and the difference measures what the land itself adds to the output of the other agents in the combination. The true conception of rent is that of the specific addition which land makes to the product of other agents used in connection with it. There are various ways of measuring this addition, but the method just used will at least show that the presence of the good land is the cause of the excess of product which given amounts of labor and capital secure over what they could create on land of the poorest quality.
Rent as a Differential Product.—In the early statements of the rent law it was not said that the rent of a piece of land is the product specifically attributable to it. If it had been, the chances are large that a much broader and more scientific use of the rent formula would have resulted. The law of rent, as it was actually stated, made it consist of a differential amount. It was what a given amount of labor and capital would produce under one set ofconditions minus what they would produce under another. Since it is the presence or the absence of the productive land which makes the only difference between the two conditions, rent, even as it is thus defined, is really the amount of product specifically attributable to the land. It is what is created when the land is used in excess of what would be created if it were not used and if the coöperating agents did the best they could without it. We may use, as the most general formula for the rent of land, the contribution which land itself makes to the product of social industry.
If we use the same method in measuring the rent of land which we used in measuring the wages of labor and the returns of capital, we shall represent the rent of a given piece of land as the sum of a series of differential amounts. In the accompanying figure the vertical belts bounded by lines rising from the lettersA,B,C, etc., represent the products realized by applying successive increments of labor and capital to a given piece of land; and the horizontal lines running toward the left fromA´,B´,C´, etc., separate the wages and interest from the amounts that are successively added to rent. When one composite unit of labor and capital is working, its product and its pay is measured by the belt between the lineAA´and the lineNN´. A second composite unit produces the amount represented by the area betweenAA´andBB´, and that is the amount which each unit separately considered will produce and get as its pay. This leaves the area between the horizontal line running fromB´and the section of the descending curve as the rent of the land. A third unit of labor and capital produceswhat is represented by the area betweenBB´andCC´, and this becomes the standard of pay for all units, leaving the enlarged area above the horizontal line atC´as rent. In the end there are ten units of labor and capital. Their total earnings are expressed by the area of the rectangle below the horizontal line running fromJ´, and the sum of all the areas above that line is rent.
The Intensive Margin of Cultivation.—The extensive margin of cultivation is the land that is adjacent to an imaginary boundary line separating the grades of land that are good enough to be used from those that are too poor to be used. There is, however, what may be called the intensive margin of cultivation. A given bit of land is said to be cultivated more and more intensively when more and more labor and capital are used on it. Land is subject to what is called the law of diminishing returns.
Law of Diminishing Returns.—The more labor and capital you employ on a given piece of land, the less you will get as a product for each unit of these agents. What the last unit of labor adds to the antecedent output is less than was added by any of the other units, and the same is true of the last unit of capital. As we continue the process of enlarging the working force and adding to theworking appliances, we reach a point at which it is better to cease putting new men with their equipment at work on this piece of land and to set them working on a bit of land so poor that it was not formerly utilized at all. We may assume here that what a man needs, in the way of auxiliary capital, goes with him, whether he joins a force that is working on good land or migrates to a less productive region. He will go if it will pay him to do it. In this way we make a sort of dual unit of labor and capital and apply a series of such units to land.
Ground Capital and Auxiliary Capital Distinguished.—Land itself is a component part of the permanent fund of productive wealth to which we have given the generic namecapital. It differs from other capital goods in that it does not wear out and require renewing. Working appliances, however, as they wear out and are replaced, constitute a permanent fund of auxiliary capital, and we shall apply this term to the abiding stock of such instruments except in connections in which the adjective is not needed, because it is clear that the land, or ground capital, cannot be referred to. In dynamic studies the distinction between land and auxiliary capital becomes very important.
How the Intensive Margin locates the Extensive One.—The labor and the auxiliary capital that betake themselves to new land of the inferior quality represent an overflow from the better land. As long as men can do as well by staying where they are as they can by migrating to new regions, where inferior lands are to be had, they will stay; but when they incur a loss by staying, they move. What a laborer can create by securing the use of an equipmentand adding himself to the force that is at work on some good farm, can be approximately estimated; and if there is somewhere a piece of land not thus far used to which he can remove, and if, by going to work upon it, he can create any more than he created while working on the older farm and taking his products as his pay, he will till that poor piece. But neither he nor any one else will till a piece that is still less productive. If any one were to set himself working on land of still poorer quality, he would lose and not gain by the change, since there he would produce even less than he can when he is the last man set working on the good piece.
To what Extent the Movement of Labor and that of Capital are Interdependent.—The early statements of the law of rent did not usually define the intensive margin of cultivation in connection with labor and capital separately, but spoke of these two agents as employed together upon land in quantities increasing up to a limit beyond which both labor and capital would best be employed elsewhere. The supposition that labor and capital go thus together from one grade of land to another is only approximately accurate. If we consider one man and five hundred dollars' worth of productive wealth as a dual unit of labor and capital, and add such units, one after another, to the forces at work on a tract of good land, we shall reach a point at which it will not be profitable to increase the amount of one of the agents, while it will still be profitable to increase the amount of the other. It will perhaps not pay to use any more capital, but it may still pay to add to the number of workers. On landthat is tilled more and more intensively, labor and capital are not tied together in fixed proportions in such a way that, when there is more of one of them used, there isproportionatelymore of the other. Moreover, when a unit of one of them abandons a piece of land and goes elsewhere, there is no probability that exactly one unit of the other will do the same. There is, indeed, no such thing as a dual unit of labor and capital that can be thought of as moving to and fro among different employments till it finds the point at which, as a dual unit, it can create its largest product. These two agents so locate themselves that a final unit of each one, separately considered, produces as much where it is as it can produce anywhere else.
It is, however, to be noted that the amount of labor that can profitably be employed on a piece of land grows larger the more capital there is employed in connection with it. An acre of land and a thousand dollars' worth of auxiliary funds can enable more men to get good returns than can an acre combined with a fund of five hundred dollars. Conversely, the more men there are working on the area, the more auxiliary capital it pays to use there. If there are five men working on a small field it may be that a thousand dollars may be well invested in aiding them, while with only one man it would not pay to use so large an amount. The capital and the labor, as it were, attract each other. Additional capital attracts further labor, andvice versa, till a condition is reached in which neither of them can so well be used on that particular piece of land as it can elsewhere. Each one has then been used on this area up to its own intensive-marginallimit. So also when one of these agents betakes itself to marginal land, it attracts the other agent thither. When there are ten men on the poorest piece of land in a locality, it is possible to make a considerable amount of capital at that point pay the return generally prevailing, whereas only a small amount would pay it if there were only five men working. With a thousand dollars invested on that land more laborers will be lured thither by the prospect of fair returns than would be lured thither if there were only half as much capital. The general apportionment of both agents tends to be such that a unit of either is as well off on one piece of land as on another, and each is as well off at the extensive margin of cultivation of land as it is on the intensive margin.
Labor and Capital combined in Varying Amounts.—The amount of capital that is combined with a unit of labor is not often the same on good land as it is on poor. The proportions in which labor and capital will be combined on the marginal field will be almost certain to vary from those in which they were combined in the better field from which they came. It may be that they leave industries in which an average man uses an equipment worth a thousand dollars. When they reach the margin of cultivation, capital may be so scarce that the thousand dollars will not stay in the hands of the one man but will divide itself among several.
The General Law of the Extension of the Margin of Cultivation.—Sometimes, when labor moves to new land that is now at the margin, it takes its new equipment with it; but such land is not always tilled by independent settlers. Employing farmersmay set men working on it and pay them all that they produce; and the farmers may furnish the men with capital of their own or borrow capital for them to use. In either case a static condition requires the equalizing of the productivity of labor at the intensive margin with that of labor at the extensive margin; and it requires a similar leveling of the productivity of capital at the two margins. When this leveling has taken place in both cases, the all-around marginal product of labor fixes the rate of wages, and that of capital fixes the rate of interest. What a man creates on the good land and with the adequate capital, or on poor land with proportionate capital,—in any occupation on land of either grade,—determines the pay that he and other men can get. It constitutes in itself the wages of labor. In so far as the overflow of labor and capital into any one limited region of marginal land is concerned, the full statement is this: that the margin of utilization of land will be extended to the point at which a unit of labor,using as much of the marginal land as it is economical to use, and such amount of auxiliary capital as is economical to combine with this unit of labor and the land it occupies, will create a product equal to the wages of the unit of labor as they are determined by the product it created when it was employed on the good land and in connection with the full equipment of auxiliary capital.
The Rent of a Fund of Capital.—We saw that one unit of labor employed in connection with a given amount of capital produces more than does a second; that the second produces more than the third; and that, if we continue to supply units one at a time,the last unit in the series produces the least of all. Wages are fixed by the amount that one unit of labor produces when the working force is complete, and that is what is contributed to the general product by the unit of labor which comes last in the imaginary series by which the force is built up. Owing to the more favorable conditions under which, in their time, the earlier units worked, they were able to produce surpluses above the amount produced by the last one. When they entered the field they were supplied with excessive amounts of capital. The first one had the whole fund coöperating with it, till it had to share it with the second; and after that each had a half of it till they had to share evenly with a third, etc. We have seen that all the surpluses appearing in connection with the earlier units are attributable in reality to capital. The areaBCD(page 139) represents the amount by which the presence of an excess of capital increases the products attributable to the earlier units of labor. It represents the sum of all the differences between the products of the earlier units and the product of that final one which in the end sets the standard of productivity of labor. It might be called the rent of the fund of capital. It is composed of a sum of differences exactly like those which constitute the rent of a piece of land.
The Rent of a Permanent Force of Labor.—In the figure on page 148, the working force was supposed to be fixed in amount, the capital increasing by increments, or as some earlier economists would have said, by "doses" along the lineA´E´. The last unit of capital produces the amountD´E´, and all the capital producesA´B´D´E´, while productsof the earlier units of capital, as they come successively into the field and are used by an excessively large labor force, are represented by the areaB´C´D´. Here this area represents what may be called the rent of the force of labor, since it is a sum of surpluses that, again, are entirely akin to those that constitute the rent of a piece of land.
A Question of Nomenclature.—It may be an open question, as a matter of mere nomenclature, whether these surpluses which are thus traceable to a permanent fund of capital, on the one hand, and to a permanent force of labor, on the other, can with advantage be called rents. In this treatise we do not think it best to employ that nomenclature. What is not uncertain is that these gains are measurable by the same formula that measures the rent of a piece of land. If the essential thing about rent were that it is a material product and consists of a sum of differential quantities, these incomes certainly would be rents. Popular thought, however, attaches another meaning to this term, and we therefore limit ourselves to saying that these differential incomes or surpluses may be determined in amount by the principle of rent. They can be described and measured exactly as the Ricardians described the income of landlords.[1]