Rate of Profit
Rate of Profit
TRENDS IN THE RATE OF PROFIT IN THE UNITED STATES SINCE WORLD WAR II
THEORIES OF THE RATE OF PROFIT
The rate of profit is defined as ratio of profits, the difference between total revenues and total costs, to the capital advanced for production. Theories differ in terms of how both profits and capital are defined. The profit rate is also defined on the aggregate or economy-wide level, the industry level, and the firm level. In most theories with competitive markets, capital will flow to higher-profit firms, and there will be a tendency for the rate of profit to be equalized among firms in the long run.
The rate of profit is a category not generally modeled in standard neoclassical economics. Indeed, in general equilibrium models with competitive markets, the rate of profit will tend toward zero. Instead, neoclassical economists focus on the existence of rent —that is, returns to factors of production such as mineral resources or special talents that are not generally reproducible—rather than profits. In contrast, the rate of profit is the central category in Marxian economics. The rate of profit is also an important category in Keynesian, neo-Keynesian, and post-Keynesian economics. As a result, most of the theoretical work on this subject comes out of these fields, particularly Marxian economics.
This article examines trends since the end of World War II in the rate of profit in the United States and reviews some of the theoretical literature on the rate of profit in the Marxian tradition.
TRENDS IN THE RATE OF PROFIT IN THE UNITED STATES SINCE WORLD WAR II
It is helpful to begin by considering the relation between productivity and earnings. In the case of an economy characterized by competitive input markets and constant returns to scale, it follows from a standard neoclassical aggregate production function that wages and labor productivity should grow at exactly the same rate. (In this case, w = ∂X/∂L = ∊L X/L where w is the wage rate, X is total output, L is total employment, and ∊L is output elasticity of labor, which equals the wage share in this special case.) The wage is thus a fixed percentage of overall labor productivity, and the wage share is also constant (the wage share wL/X= ∊L )
Basic data are from the U.S. Bureau of Economic Analysis National Income and Product Accounts, as well as its series on net capital stock (data are all available on the Web site supported by the U.S. Bureau of Economic Analysis). From 1947 to 1973 real wages in the United States grew almost in tandem with overall labor productivity growth (see Figure 1). While the latter averaged 2.4 percent per year, the former ran at 2.6 percent per year. Labor productivity growth plummeted after 1973. Between 1947 and 1973, it averaged 2.4 percent per year
whereas from 1973 to 2003 it averaged only 1.0 percent per year. The period from 1973 to 1979, in particular, witnessed the slowest growth in labor productivity during the postwar period, 0.5 percent per year, and the growth in real employee compensation per full time equivalent employee (FTEE) actually turned negative during this period. Since 1979, the U.S. economy experienced a modest reversal in labor productivity growth, which averaged 1.2 percent per year from 1979 to 2003, whereas real wage growth was 0.6 percent per year. In particular, the historical connection between labor productivity growth and real wage growth appears to have broken down after 1973.
If productivity rose faster than earnings after 1973, where did the excess go? The answer is increased profitability in the United States. The Bureau of Economic Analysis defines profits as total gross property-type income, including corporate profits, interest, rent, and half of proprietors’ income. The definition excludes the capital consumption allowance (CCA). The net rate of profit is defined as the ratio of total net property income to total private net fixed capital. The net profit rate declined by 7.5 percentage points between 1947 and its nadir, 13.1 percent, in 1982 (see Figure 2). It then climbed by 6.0 percentage points from 1982 to 1997 but fell off by 1.1 percentage points between 1997 and 2001. However, after 2001, it surged upward, reaching 20.5 percent in 2003, fairly close to its postwar high of 22.7 percent in 1948.
Figure 2 also shows trends in the net profit share in national income. It rose by 2.4 percentage points between 1947 and its peak value of 32.0 percent in 1950 and then fell by 7.2 percentage points between 1950 and its low point of 24.8 percent in 1970. It then generally drifted upward, rising by 4.2 percentage points between 1970 and its next high point of 29.1 percent in 1997. It then fell off by 1.7 percentage points between 1997 and 2000 but once again climbed upward to reach 29.4 percent by 2003. The results show a remarkable recovery in both the overall rate of profit and the profit share since the early 1980s in the United States.
A number of studies have documented these trends. Earlier ones such as the 1986 study by Edward Wolff and the 1994 study by Anwar Shaikh and Ahmet Tonak looked into the factors responsible for what seemed to be a secular decline in the profit rate in the United States from the late 1940s to the early 1980s. The rise in profitability since the early 1980s has been discussed by Gérard Duménil and Dominique Lévy (2002) and Wolff (2001). Duménil and Lévy (2002) also provide time trends on the profit rate for Germany, the United Kingdom, and particularly, France. All three countries, as with the United States, showed declines in profitability from 1960 to the early 1980s and a sharp reversal through the late 1990s. Both Lewis Corey in 1934 and Duménil and Lévy in 1993 presented data on movements in the
rate of profit in the United States from the early part of the twentieth century. These authors make the case that the onset of the Great Depression beginning in 1929 coincided with a sharp decline in the rate of profit in the United States.
THEORIES OF THE RATE OF PROFIT
As noted above, movements in the rate of profit have long occupied Marxian economists. Marx himself argued that the rate of profit would tend to decline over the long run. His “law of the tendency of the rate of profit to fall” states that over time, the organic composition of capital (the ratio of capital valued in nominal terms to the wage bill) would rise, thereby causing the general rate of profit to fall (Marx 1894). This law has been subject to criticism on theoretical grounds as discussed, for example, by Paul Samuelson in his 1971 article, though more recent literature has reversed some of these theoretical criticisms, as developed by Duncan Foley in his 1986 work.
Despite the theoretical disagreements, Marx’s theory does provide a useful framework in which to analyze factors that affect movements in the rate of profit, and many papers have done this. Marx’s law can be formalized as follows (where variables in current prices are specified instead of labor values): The ratio of total profits to total worker compensation (the rate of surplus value ) is defined as: e = π/wL, where π is total profits, w is the wage rate, and L is total employment. The economy-wide organic composition of capital s is given by: s = pk K/wL, where pk is the price of capital and K is total capital. The standard capital–labor ratio (the technical composition of capital ) is given by: t = K/L. The relation between the organic and technical composition of capital can be derived as: s = t (pk /w ). The rate of profit r is defined as: r = π/pk K. Here it should be noted that the rate of profit is defined as the ratio of profits to the current dollar value of capital. Finally, it can be shown that the rate of profit r = e/s, the ratio of the rate of surplus value to the organic composition of capital.
Marx believed that the rate of surplus value, or the rate of exploitation as he also termed it, was relatively fixed over time because it reflected the social relations of production, which were relatively stable over time. He also argued that the organic composition would rise over time because of the increasing capital intensity of production and that this would lead to a falling rate of profit in the long term. The problem in this line of reasoning is that while it was true that the capital–labor ratio did tend to rise over time because of the rising capital intensity of production, the price of capital relative to labor also tended to fall over time, offsetting the increase in the capital–labor ratio. Empirically, the organic composition also tends to remain relatively stable over time. Marx did discuss many mitigating factors to his “law” and, indeed, referred to it as a “tendency” rather than in absolute terms.
Two other very important contributions to the theoretical literature come out of the Keynesian tradition. The first, by Michal Kalecki (1971), develops a model in which national income is directly determined by autonomous investment and profits, in turn, are determined as a fixed share of national income. This model led to an extensive literature tracking the profit share in national income. The second, by Piero Sraffa (1972), develops the concept of the maximum rate of profit. He shows analytically that the maximum rate of profit depends exclusively on the technology of production and is independent of the wage (and therefore profit) share.
SEE ALSO Markup Pricing; Profits; Returns to a Fixed Factor
BIBLIOGRAPHY
Corey, Lewis. 1934. The Decline of American Capitalism. New York: Arno Press.
Duménil, Gérard, and Dominique Lévy. 1993. The Economics of the Profit Rate: Competition, Crises, and Historical Tendencies in Capitalism. Aldershot, Hants, U.K.: Edward Elgar.
Duménil, Gérard, and Dominique Lévy. 2002. The Profit Rate: Where and How Much Did It Fall? Did It Recover? (USA 1948-2000). Review of Radical Political Economics 34: 437-461.
Foley, Duncan K. 1986. Understanding Capital: Marx’s Economic Theory. Cambridge, MA: Harvard University Press.
Kalecki, Michal. 1971. Selected Essays on the Dynamics of the Capitalist Economy 1933-1970. Cambridge, U.K.: Cambridge University Press.
Laibman, David. 1996. Technical Change, Accumulation, and the Rate of Profit Revisited. Review of Radical Political Economics 28 (2): 33-53.
Marx, Karl. 1894. Capital. Vol. 3. New York: International Publishers.
Samuelson, Paul A. 1971. Understanding the Marxian Notion of Exploitation. Journal of Economic Literature 9: 399-431.
Shaikh, Anwar M., and E. Ahmet Tonak. 1994. Measuring the Wealth of Nations: The Political Economy of National Accounts. New York: Cambridge University Press.
Sraffa, Piero. 1972. The Production of Commodities by Means of Commodities. Cambridge, U.K.: Cambridge University Press.
U.S. Bureau of Economic Analysis National Income and Product Accounts. http://www.bea.gov/bea/.
Weisskopf, Thomas E. 1979. Marxian Crisis Theory and the Rate of Profit in the Postwar U.S. Economy. Cambridge Journal of Economics 3 (4): 341-378.
Wolff, Edward N. 1979. The Rate of Surplus Value, the Organic Composition, and the General Rate of Profit in the U.S. Economy, 1947-67. American Economic Review 69 (3): 329-341.
Wolff, Edward N. 1986. The Productivity Slowdown and the Fall in the U.S. Rate of Profit, 1947-76. Review of Radical Political Economy 18 (1&2): 87-109.
Wolff, Edward N. 2001. The Recent Rise of Profits in the United States. Review of Radical Political Economics 33 (3): 315-324.
Edward N. Wolff