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Marx's explanation of Prices and Profits

A fairly common misconception is that, in general, commodities sell at prices which on average fluctuate at or around their values. But it is easy to see that in the real world many commodities do not sell at prices which fluctuate around value .Particular examples - noted by Marx -were prices fixed under monopoly conditions. Nowadays one would cite tobacco, alcohol and petrol, where most of the price one pays is in fact going to the government by way of tax.

Marx's argument rests on his proposition that market prices fluctuate round the 'price of production', as defined by him. In CAPITAL (vol.III, chapter 9 ), he showed how in different spheres of production, with differing proportions of constant to variable capital, even with an identical rate of surplus value, the amounts of surplus value, the rates of profit, the values of commodities and the 'cost price' of commodities in each sphere of production would vary , one from the other.

But 'prices of production' are arrived at by taking account of - not of the various individual rates of profit - but the average rate of profit of all the capitals combined. The result is that while some capitals produce commodities which are sold at prices above their values, others sell their commodities at prices below their values. As Marx showed:

The prices which arise by drawing the average of the various rates of profit in the different spheres of production and adding this average to the cost-prices of the different spheres of production are the prices of production. They are conditioned on the existence of an average rate of profit, and this, again, rests on the premise that the rates of profit in every sphere of production, considered by itself, have previously been reduced to so many average rates of profit (Kerr edition, p185).

The result of this, as Marx showed, was that in each sphere of production prices deviated from values. If a commodity did happen to sell at a price consistent with its value, that could only be occasionally, not as a general rule. As he explained:

The price of production of a commodity, then, is equal to its cost-price [used-up constant capital, plus variable capital] plus a percentage of profit apportioned according to the average rate of profit, or in other words, equal to its cost-price plus the average profit (p186).

This passage was not Marx's final statement on this subject but only a provisional one. His final statement (vol.III chapter17, Kerr edition, and pp.336-7) modified the provisional one by including commercial capital in the calculation of the average rate of profit. When this is done, the figures work out rather differently.

If the total productive capital is assumed to be 900 and the profit 180, the average rate of profit - on the provisional statement - would be 20%.But if the commercial capital is assumed to be 100 and the average rate of profit is calculated on the final statement, the average rate of profit becomes 18%, instead of 20%.

As Marx commented, the inclusion of commercial capital or merchant's capital has a noticeable effect on profits:

...this average rate of profit is now differently determined. ...It is ... calculated on the total productive + the merchant's capital, so that, if the total capital is 900 productive + 100 merchant's capital, the average rate of profit is 180/1000 =18%. ...In the average rate of profit, the share of the total profit falling to the merchant's capital is included. The actual value, or price of production, of the total commodity-capital is, therefore, k [costs] + p [profit] + m (profits in merchant's capital]. The price of production, or the price at which the industrial capitalist as such sells his commodities, is thus smaller than the actual price of production of commodities. Or, looking upon the matter from the point of view of the total commodity-capital, the prices at which the class of industrial capitalists sell are lower than the values of commodities (p336).

Those who maintain that Marx was unaware of the importance of competition to the capitalist system or that his theory failed to account for competition should be urged to read Marx's demonstration of how it is that, through the pressure to keep up with the average rate of profit, capitalists are under continual pressure to improve the 'efficiency', i.e. profitability, of their enterprises. Those whose prices, including the average rate of profit, are above the values [used up constant capital + variable capital/ wages +surplus value] of their commodities will be seen as efficient and so will attract investment capital. Those whose prices work out below the values of their commodities will find it difficult to attract investors and fresh capital with which to update their machinery and make their operations more "efficient".

The effect of measuring the profitability of individual capitals or comparing the profitability of different spheres of production against the "average rate of profit" is to put unremitting pressure on all capitalist enterprises to keep on working away at improving their own rate of profit, for fear that - out there - competitors will be doing even better than they are, especially at the all-important business of screwing the workers. The one factor which causes their 'price of production' to vary from the value of their commodities is the extent of the difference between their own surplus value and the average rate of profit. But, as Marx showed, when you total up all the various capitals and average out their various rates of surplus value, you can then arrive at an average rate of profit. And it is this which dictates the actual price of production, with the result that, while some commodities can be sold at prices above their values, others must be sold below their values.

Moreover, an examination of Marx's table, with its five spheres of production, shows that their rates of profit vary according to their organic composition. (This table is, of course, very simplified and assumes that the rate of surplus value is 100% in all cases; while this helps to make his argument clear, it is not likely to happen in the real world). So, given an identical, 100%, rate of surplus value, the surplus values and various rates of profit differ according to the proportions of constant to variable capital, i.e. the organic composition of each capital. This meant that in a sphere of production with relatively high labour-costs there is apparently a high rate of profit, whilst in another sphere of production with relatively low labour-costs the rate of profit appears to be correspondingly low. But by showing how the ' price of production' is calculated by using the average rate of profit, Marx showed that the result is that commodities' prices are higher than their values where there is a low percentage of variable capital in relation to constant capital, and vice versa.

The average rate of profit represents only a tendency. This tendency is the outcome of the fact that capital will flow into a sphere of production in which there is a high rate of profit. The resulting competition will bring the selling price down. And the non-flow of capital into a sphere with a low rate of profit will bring the selling price up. So there will be a tendency towards a uniform rate of profit in all spheres.

Engels in a letter (to Schmidt, March 1895, see ON CAPITAL, Lawrence and Wishart, p138) ridiculed the idea that there is a precise actual average rate of profit. First, actual rates of profit vary from year to year and would have to be averaged over a series of years. And in the real world actual rates of profit are affected by numerous other factors. As Engels explained:

At any moment it [the general rate of profit] exists only approximately. If it were for once realized in two undertakings down to the last dot on the i, if both obtained exactly the same rate of profit in a given year, that would be pure accident; in reality the rates of profit vary from business to business and from year to year according to different circumstances, and the general rate of profit exists solely as an average of many businesses and a series of years. But if we are to demand that the rate of profit, say 14.876934..., should be exactly equal in every business and every year, down to the hundredth decimal place, on pain of degradation to a fiction, we should be grossly misunderstanding the nature of the rate of profit and of economic laws in general - none of them has any reality except as approximation, tendency, average, but not in immediate reality.

Indeed, when we consider Marx's proposition that market prices fluctuate round the "price of production" as defined by him, we are up against a great difficulty. In the light of Marx's argued case, and the known tendency towards an equal rate of profit in all spheres of production, all that we can say is that it is a reasonable proposition to explain the behaviour of market prices. But no economic theory can be regarded as proved unless it can be shown to fit the facts, and it is impossible to take the market prices of different commodities and show that they do fluctuate round a "price of production".

It is impossible because the necessary information is not available. Government statistics do not provide such information and companies, even if they had such information (and in fact they do not have it) would have no interest in publishing it.

One factor which was almost entirely absent when Marx wrote is the extent to which governments interfere with the free flow of capital. In Marx's day capital did avoid spheres in which the rate of profit was low. In our time there are governments all over the world pouring millions of pounds into companies which could not hope to attract capital if left to the market.

To sum up: while commodities are produced at values which comprise constant capital - that part of it which is used up in the production process -, variable capital, i.e. labour costs, plus unpaid labour or surplus value, the prices they are sold at deviate from this formula. Some are sold above their value and others below value. The ' price of production ' is based on cost price ( i.e. used up constant capital , plus variable capital) to which is added the average rate of profit, based on the surplus values of all the capitals combined and then averaged out.

Also, as Marx showed, when you include merchants' or commercial capital, you find that this has an effect on the rate of industrial profit:-

So the average rate of profit implies that general deduction from surplus-value which falls to the share of the merchant's capital, a deduction from the profit of the industrial capital.
From the foregoing it follows:-
1. The larger the merchant's capital in proportion to the industrial capital, the smaller is the rate of industrial profit, and vice versa.
2. It was seen in the first part, that the rate of profit is always lower than the rate of the actual surplus-value, that it always expresses the intensity of exploitation too low. In the above case, 720c + 180v + 180s means a rate of surplus-value of 100%, and a rate of profit of only 20%. And if the merchant's capital is included in the calculation, then the difference between the rate of surplus-value and the rate of profit becomes still greater, the latter being only 18% in the present case. In that case, the average rate of profit of the direct exploiter of labour expresses the rate of profit in lower figures than it actually represents
(Kerr edition, p337).

Both these conclusions clearly have a bearing on the capitalist system as we know it. The first point reflects the conflict between the City and financial institutions, on the one hand, and the industrialists, on the other. And Marx's second point - that the rate of exploitation of labour is always vastly understated, disguised by the 'rate of profit' - is of some importance to those of us who know only too well that the capitalist system is not in the interest of the working class.

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Notes on Marx's terminology - some definitions

Re Marx's table: Capital vol III, chapter 9 (Kerr edition p.185):-

C = constant capital, which comprises fixed capital (e.g. machinery) and circulating capital (e.g. raw materials).

V = variable capital (wages).

It is important to notice that the examples of different compositions of capital in Column 1 are not to be read as applying to individual companies but to "different spheres of production" (see page 184). For example, in a given 'sphere of production '(say, the production of a certain type of motor car), there is only one 'cost-price' and one 'price of production'. You do not have one 'cost-price' for the inefficient company and another for the efficient one.

The columns in Marx's table - section one (p.185):-

CAPITALS

RATE OF SURPLUS VALUE

SURPLUS VALUE

RATE OF PROFIT

USED UP
C

VALUE OF COMMODITIES

COST PRICE

I 80c+20v

100%

20

20%

50

90

70

.

II 70c+30v

100%

30

30%

51

111

81

.

III60c+40v

100%

40

40%

51

131

91

.

IV85c+15v

100%

15

15%

40

70

55

.

V95c+5v

100%

5

5%

10

20

15

.

390c+110c

.

110

110%

.

.

.

Total

78c+22v

.

22

22%

.

.

22%

Average

(a) Col. 1 ("Capitals") assumes 5 different "spheres of production" to represent the whole of production. The average composition is 78c + 22v.

(b) Col2 ("Rate of Surplus Value") assumes that the "rate of exploitation" is the same in all spheres, and is 100% - meaning that surplus value is uniformly equal to wages.

(c) Col.3 ("Surplus Value") - so the sv in each of the 5 spheres of production is equal to variable capital (wages).

(d)Col.4 ("Rate of Profit"). In each of the 5 spheres of production (col.1), the total capital (c+v) is taken as 100. So the surplus values in col. 3 are expressed as a % of total capital in each sphere. For example, in sphere 1, 20sv is 20% of 100.

This column 4 shows that if commodities did sell at value, you would have sphere 1 showing 20% rate of profit, while sphere 5 showed only 5% - which is impossible in the real world.

(e) Col.5 ("Used Up c"). This column illustrates the point made on page 184 (Paragraph beginning "With a composition..."). Constant Capital consists of two parts, "fixed capital" (e.g. machinery) and "circulating capital" (e.g. raw materials and fuel). Normally only part of the "fixed capital" is transferred to the commodity in a year, while all the "circulating" part is consumed.
Marx explains on page 184 why these variations in the amount of constant capital consumed do not affect the rate of profit, which is calculated on the whole capital.

(f) Col.6 ("Value of Commodities"). In this column, the variable capital (Col.1), plus the surplus value (Col.3), plus the "used up capital" (Col.5) produce the values of commodities (Col.6). Thus in sphere I, 20 + 20 + 50 =90, and in sphere V, 5 + 5 + 10 = 20.

(g) Col.7 ("Cost Price"). Here it is shown that "Cost Price" is arrived at by adding together the "used up capital (Col.5) and the "variable capital " in Column 1. Thus for sphere 1 , 50 + 20 =70.

The columns in Section 2 of Marx's Table

Capitals

Surplus value

Value of commodities

Cost price of commodities

Price of commodities

Rate of profit

Divergence of price from value

I. 80c+20v

20

90

70

92

22%

+2

II. 70c+30v

30

111

81

103

22%

-8

III. 60c+40c>

40

131

91

113

22%

-18

IV. 85c+15v

15

70

55

77

22%

+7

v. 95c+5v

5

20

15

37

22%

+17

(a) Columns 1,2,3 and 4: these reproduce unchanged Columns 1, 3, 6 and 7 in Section One of the table.

(b) Col.5 ("Price of Commodities") is made up of "Cost Price of Commodities" (Col.4), plus the average surplus value (=22) - see Col.3 in Section One, which gives for each sphere of production the uniform rate of profit on capital of 22%.

(c) Col.7 ("Deviation of Price from Value") shows the difference ( + or - ) between values (Col.3) and "Price of Commodities" (Col.5).

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