QUORA: ‘What are the practical proofs that the profits arise from labour which produces surplus value?'

 QUORA: ‘What are the practical proofs that the profits arise from labour which produces surplus value? I recommend only positive answers in favour of labour being a source of value.’

Business profit: Where does it come from? Is it taken from the worker, as Marx and his ilk claim? It’s a question that has plagued Capitalism since it arose out of the Enlightenment. I attempt to answer that question here, with a huge assist from a great economist.

I posted this answer:

You “recommend only positive answers in favour of labour being a source of value?” What if the labor theory of value is wrong?* What if the theory that “profits arise from labor” is wrong?**

Well, there are no practical proofs that profits arise from labor, because there is no such thing as “surplus value.” There is only the value created by work -- physical as well as, and especially, intellectual labor. Wages, in fact, arise out of profits. That is what I intend to show, as briefly as I can.

First, the “labor theory of value” assumes that the value of a product can be mechanically or mathematically determined by adding up the labor input. But that is arbitrary and silly. The objective value of a finished product is actually determined by the value judgement of consumers. If consumers - i.e., the market - values the product more than the sum of the labor input, there is a profit to the business. If not, there is a loss or, at best, break-even. A profit does not indicate “surplus” value. It simply means the business is competently run by the people supplying the intellectual labor input -- the process of thinking, planning, decision-making, market judgements, etc.

But, doesn’t that mean that profits are extracted from labor -- i.e., wages? No, not at all. Which leads to the next fallacy; that profit proves that workers are underpaid, or “exploited.” 

Early exponents of the “labor theory of value,” from Adam Smith to Karl Marx, assume a pre-Capitalist starting point of some ideal economy where the worker directly sells his work output as a finished product. The worker pockets all of the sales revenue from his work. The mistake Smith et al make is to call the worker’s sales revenue wages. It is not. The hypothetical worker is not a wage laborer. He is, in fact, a businessman of the sole proprietor variety. Profit is a financial gain, arising from the difference between the final sale and the amount spent to bring the product to market. Therefore, since the hypothetical worker’s input was only his labor, with no financial input, the net gain from the worker’s sales revenue is 100% profit. Why? Because there are no wages paid out in support of the final product. The sole proprietor does all of the labor himself, both intellectual (thinking, planning, etc.) and physical. The sales revenue minus whatever monetary input our businessman/worker expends is 100% profit, not wages. What wages do his profits arise from? 

To clarify further, let’s concretize things. Say, in a pre-Capitalist economy, a person decides to make tables for a living. He (or she) cuts down trees, refines the trees into raw lumber, cuts and assembles the lumber into tables, finishes them off, and sells them. He has no monetary input, including no wage input. Therefore, his profit margin is 100%. Now suppose he decides to hire someone for wages to cut and refine the trees to produce raw lumber rather than do it himself, so he can devote more time to making tables. Let’s say the cost in wages for this new employee comes to 20% of the final sales. Well, his profit is cut to 80%. The worker’s wage is paid prior to sale, and, assuming a profit is earned, results in a reduction of the original sole proprietor's profit. The new worker’s wage arises out of profit. Now, suppose our table-maker businessman/worker (who is also now a capitalist due to his investment of part of his prior profit in wage labor, an expense he didn’t have before) needs more help to keep up with orders from consumers. He hires another worker for wages to make tables. Let’s say the new employee’s wages amount to another 20% of his sales revenue. His profit margin is thereby reduced to 60%. That’s ok, because the business can make up for the reduced profit margin by selling more tables, thanks to the financial investment in wage labor. 

Notice that profits, not wages, come first. Notice that our original sole proprietor, who had 100% profits, is now making 60%. The wages of his workers arose from his profits, not the other way around. As his business grows, our original pre-Capitalist worker hires more wage labor, reducing his profits further. Though his profits are shrinking, he is “making it up on volume.” Hopefully, he manages his business well enough to sell for more than his wage financial input. His own livelihood, as well as his hired workers, depends on it.

Though all the complexities of a modern advanced Capitalist economy, the reality remains the same. A company may incorporate. It may grow into a public company, in which ownership is dispersed into shares traded on stock exchanges. The shareholders hire management, including the CEO, to do the intellectual work -- the thinking, planning, decision-making, market analysis, and other factors of production -- that keeps the company going. By adding management jobs, the owners’ profits are reduced further. Through it all, managers cannot simply add up labor inputs to determine the price of the final product, then tack on some “surplus” and call it profit. There is no “surplus” value. There is only value as measured by the market of consumer choice. If the product is not valued by consumers more than the cost of producing it, there is no financial reward to the shareholders who invest the money, and ultimately no company. Workers are not being exploited. Labor’s wages arise from profits--no profits, not jobs. As the brilliant George Reisman, to whom I owe my understanding of this issue, observes,

As the economic degree of capitalism rises, not only do profit margins and the rate of profit fall, but wage payments come into being and then rise both absolutely and relative to profits. [my emphasis]

This is demonstrably true. Wages arise because of profits.*** It’s not that labor doesn’t produce value. Of course every individual who contributes time, effort, and labor, both intellectual and physical, contributes to the productive mission of the company. But what labor produces is not necessarily a value, or enough of a value to be worth doing. Value is determined by consumers’ assessment, as determined by the choice on whether to buy, or not buy, the final product. Profits do not represent “surplus” value, either. Any individual wage worker’s input, on its own, is not of much value apart from the overall enterprise, especially the intellectual labor of running the enterprise. His value increases by being part of the enterprise, which only exists because the final product is the result of the sum of all inputs, successfully integrated and coordinated by the decision-makers of the enterprise. 

Marx had it backwards. So did his mentor, Adam Smith. If we take at his word that exploitation is taking place in business, then it is not capital that exploits labor for profit. It is labor that exploits capital for wages. Of course, this is absurd either way. There is no exploitation going on. A job is a mutual agreement between employer and employee, each acting for his own benefit. 

As to the question  ‘What are the practical proofs that the profits arise from labour which produces surplus value? I recommend only positive answers in favour of labour being a source of value,’ there are no practical proofs that profits arise from labour, or that profits are generated from surplus value produced by labor. The premise behind the question fails to understand that profit, not wages, is the original form of labor income.

* [“Labor” in this context means strictly physical work.] 

**[I’m assuming here that by “labor” the question refers to employee wages, or wage labor.]

*** [I want to stress that the above explanations and examples are solely my own, based on my understanding of Reisman’s theory that “PROFIT, not wages, is the original and primary form {of} labor income.” See also Capitalism by George Reisman, 1998, from page 478.]

Related Reading:

Marx and His Exploitation Theory BY GEORGE REISMAN 

Atlas Shrugged—Ayn Rand

To Whom Does the American Worker Owe His Prowess?

Did Unions Create the Middle Class?

The Myth of the Entrepreneurial State by Deirdre McCloskey and Alberto Mingardi, especially Chapter 24, The Enchaining of Human Action Reverts to a Labor Theory of Value.

George Reisman on Ludwig von Mises, Ayn Rand, and Capitalism, interview with Jim Brown for The Objective Standard

On this Labor Day, Celebrate Intellectual Labor

The Moral Injustice of the Assault on the Space Billionaires

QUORA: 'How is becoming a billionaire even possible, chronologically?'

Capitalism by George Reisman

The Capitalist Manifesto by Andrew Bernstein  

What is Capitalism? by Ayn Rand 

[Compare: What is Socialism?--Robert Heilbroner, 1982]