Classical factor shares

Note:   I want you all to be highly critical of my posts on factor shares – and where you can throw literature at me.  I wrote a bunch of posts in a single day based on one book (and some prior knowledge), I have no appeal to authority here and would love to have your ideas thrown in there 🙂

As I have pointed out in the past factor shares are not an area of special interest for me, even though I’m spending a bit of time looking into the income distribution field.  This field is the child of Ricardo and his functional distribution of income over factors of production, my interest lies more in the field started by Pareto which involves starting from individual household units – these “macro” and “micro” fields inform each other but I had hoped not to go too far down the “rabbit hole” of what is essentially a different discipline.

However, (I’m assuming) the Piketty book is about factor shares, and as a result anyone talking about income distribution needs to at least be able to answer questions on this – hence why I’ve been doing some reading.

As a sidenote, this isn’t completely new stuff for me – given that factor share work is a large part of both macro and international economics, and given that as an employee I have spent a bit of time with GDP and household earning data.  So if I skip over ideas a bit quickly my apologies, these are sort of just reading notes I’ve written for myself that I hope you will also enjoy 🙂

A neat book I found was Theories of Income Distribution.  It was from 1988, and is a collection of essay by various authors.  Most of the essays are on different factor share models.  I’ve found it interesting, as it has shown me where my previous beliefs were appropriate and also given me some new insights [Note:  The next three weeks of posts about factor shares were written in a single day, and from this book.  I hope you can bear with me and where appropriate point out that I’m wrong 😉 ].

Note:  These “schools” are idealised types, not fair reflections of the complex and subtle factors that would have been mentioned by all the different authors.  One way of thinking about it is that this is where the emphasis of a certain set of authors would have been.

The first essay was on “the classical theory of distribution”.  Think Adam Smith, John Stuart Mill, Ricardo, Malthus.

To quickly summarize the idea, we have factors of production (land, labour, and capital) and associated rates of return on these factors (rent, wages, and interest/profits),  With the assumptions of competition and arbitrarge, classical theoriests were interested in what this idealised structure tells us about the economies that we observe and measure.

There were three main points I took from the article – one that I did not realise when I read the classics, and two that I did realise but it was nice to see pointed out and discussed.

  1. The one I didn’t realise was the loose nature of the definition of “subsistence” for subsistence wages.  I knew that subsistence was and could be defined as relative, but my view was that subsistence for the classicals was equivalent to the modern idea of a poverty line.  When I was taught economics “subsistence level” had quite a specific meaning.  However, it appears subsistence was a loose description for the natural wage rate – loose as wages were stated to remain “above subsistence” in a dynamic economy with sufficient growth.  From the description given in the book, there appears to be some view that competition betweeen workers would drive down wages to the subsistence level – but quite what this meant, and how this process functioned, varied between authors (namely it was said to be socially and culturally determined outside the model).  I can see now why there was so much scope for Marx to comment in this space!  I’m also sort of embarrased at how unclear I was on this point given my determination to have these issues modelled directly – in my defence this is a big part of what modern economics does!
  2. Unemployment was about unemployment of fixed capital – not labour.  Given that the focus on classical economists was on the long run, questions of unemployment in labour didn’t seem to make much sense – and their framework didn’t really dig into labour market decisions.  Unemployment in the sense we think about it was in the literature about “general gluts”, which is why the internet is filled with people talking about Say’s law and the Ricardo-Malthus debates.
  3. The marginalists exaggerated the lack of marginalist thinking by the classical economists – essentially the classical economists were nervous about trying to derive things from individual behaviour without some type of biological model of human behaviour.  In some sense the assumptions of neo-classical economics would have seemed to constrain the domain of what they were trying to study.  When marginalism didn’t involve behavioural assumptions that were too strong (the heterogeniety of land and rising costs) it was sometimes implicitly used.
    • The key point here is that, in terms of assumptions, the classicals were more interested in “modelling heterogeniety” than “modelling behavioural responses” directly.  This is actually an interesting methological debate, and one that exists within economics to this day (link to document) – so this isn’t a bad thing for either “side”.
    • Also the claim that classical economists ignored interdependence, and that this is what neo-classical economists added, it not strictly true.  In this construct, the key difference is that neo-classical economists suppressed other features (eg the dynamic nature of the economy) to focus on a framework that gave more behavioural information on interdependence between firms (general equilibrium modelling, factor demands) – another example of the usefulness of many models.

The conclusion to this essay is stunning, namely:

In the economies that are successors to those of the classical theorists, the distribution of earnings is less and less a successful proxy for the distribution of surplus.  The state has superimposed its own programs upon distribution and has done so under complex processes and on a very large scale.  Surely it is the distribution of surplus that counts; but theorists have spent much more time with marginal conditions than with the logic of the new programs.

I will be blogging the other chapters over the coming days.  I think these little summaries of key ideas are useful for me – and I’d like to share them with you … especially as you may add important context 😉