The Average or General Rate of Profit

Every society, other than the most primitive, produces a social surplus. Marx demonstrates that there is an objective basis for this surplus. Society's output divides into three components or funds.

Firstly, a proportion of output in each year is attributable not to what has been produced in that year, but what has been produced in previous years. The tools and weapons used to hunt for animals, to catch fish, or cultivate crops are produced in previous years, and only used in the current year. The same is true with livestock, which has been bred over previous years, and which provides the dairy products and meat consumed in the current year. But, if any society is to at least continue to reproduce itself on the same scale, let alone to expand, it must likewise establish a fund, out of which all of these means of production are replaced, when they wear out. This fund replaces the livestock that has died, or been slaughtered, it repairs or replaces the agricultural implements, the fishing nets, and other tools that have worn out. None of this output enters in any way into the society's consumption fund.  It forms no part of society's revenue.

Nor is it only the wear and tear of this "fixed capital" that must be replaced on a "like for like basis".  The seed consumed by the farmer is not fixed capital, but "circulating constant capital".  It was produced last year, an dis all consumed this year in production, and must likewise be physically replaced out of this year's production, forming no part of revenue.  The same is true of all raw materials, produced in previous years, and consumed in this year's production, such as wood used in furtniture production, iron ore in iron and steel production and so on.

Secondly, there is the consumption fund. At every stage of history, there is a minimum level of subsistence that the producers must consume to reproduce their labour-power. Unless they eat enough, they will die from starvation, or be unable to produce, unless they have sufficient clothing and shelter, they will die from exposure, and so on. Once again, what they consume must first exist to be consumed. It must have been produced. For the very first human societies, that production may have been undertaken by nature. But, the limits of nature's free gifts soon impose themselves unless they are expanded by the addition of labour. Even hunter gatherers have to hunt and gather. The labour undertaken in any period, therefore, must be at least sufficient to replace the means of consumption, produced in previous periods, and consumed in the current one, in order that labour-power itself is reproduced.

The basis of the surplus product, as Marx outlines, is that this quantity of social labour, required to reproduce labour-power, is always less than the amount of labour which can be performed, by that labour-power. That can be summed up in the way that Marx does, that the social working day divides into two parts, necessary labour, and surplus labour, into a necessary product, and surplus product. This surplus product, and surplus labour-time constitutes the third fund, into which society's output is divided. It can be used to accumulate additional means of production, and thereby to increase productivity and output in future years. But, it can also be used to enable a portion of society to consume without producing, and, on the back of it, to raise itself up above the rest of society. It is the material foundation for all class division, and the establishment of a class society.

“The specific economic form, in which unpaid surplus-labour is pumped out of direct producers, determines the relationship of rulers and ruled, as it grows directly out of production itself and, in turn, reacts upon it as a determining element. Upon this, however, is founded the entire formation of the economic community which grows up out of the production relations themselves, thereby simultaneously its specific political form. It is always the direct relationship of the owners of the conditions of production to the direct producers — a relation always naturally corresponding to a definite stage in the development of the methods of labour and thereby its social productivity — which reveals the innermost secret, the hidden basis of the entire social structure and with it the political form of the relation of sovereignty and dependence, in short, the corresponding specific form of the state.”

(Capital III, Chapter 47)

In every society, the size of this surplus product, is determined by the amount of surplus labour that is performed. That depends in the first instance on the amount of necessary labour that must be performed. If the producers must work for ten hours per day, simply to reproduce their consumption fund, that will leave little time during the day, when they can be performing surplus labour. In less developed societies, that is all the more the case, because the ability to perform labour depends upon their being daylight, and so on. The longer the labourers work, or can be made to work, during the day, the greater their total product will tend to be, and so the greater the surplus product will tend to be. But, as Marx points out, even this “absolute surplus value”, is dependent initially on “relative surplus value”, because until society reaches a minimum level of social productivity, not even slave based production can exist. The slave must produce more during the day, than is required for their own reproduction. The higher the level of social productivity, the smaller the portion of the day constituting necessary labour becomes, and so the greater the potential for creating a larger social surplus.

But, it is these objective limits, which, in each society, not only determine the size of the social surplus, but which also determine its proportion to the other two funds, and thereby determine the basis upon which the exploiting classes can appropriate it. In feudal societies, for example, rent arose because clan and tribal chiefs were first provided with tribute, as a result of success in some battle against another tribe. The tributes occurred for other reasons, for example, as part of wedding ceremonies, and so on. Over-time, the tributes became regularised, and ritualised, so that the clan or tribal chief, who became the Lord of the Manor, acquired the right, merely on the basis of their rank and status, to receive such tribute as rent.

But, the objective basis for that rent remained. In order for the peasant producer to be able to continue to produce, they had to continue to meet their and their family's basic requirements to reproduce their labour-power. It was only whatever labour-time was available after that was done, which could be provided gratis to the landlord as rent. So, the first forms of this feudal rent, appear as labour rent, whereby the peasant worked for three days of the week on their own land, and the other three working on the land of the landlord, for free.

This social surplus product, thereby, also sets the limit for what can be sustainably deducted in the form of interest by money lenders, and profit by merchants. But, as Marx describes, prior to industrial capitalism, the effects of both interest-bearing capital, and merchant capital, was to destroy existing modes of production, and to reduce the producers to conditions of slavery. Merchant capital establishes a general rate of profit, on the basis of its operation as a monopoly. These monopolies arise on the basis of merchant guilds and royal charter, for example, with the British and Dutch East India Companies.

Engels describes in detail the formation of merchant companies and corporations, in Germany, which, like the guilds, develop out of the mark associations, which, in turn, grow out of primitive communism. Initially, in the mark association, each peasant had an equal area of land.

“After the mark had become a closed association, and no new hides were allocated any longer, subdivision of the hides occurred through inheritance, etc., with corresponding subdivisions of the common rights in the mark; but the full hide remained the unit, so that there were half, quarter and eighth-hides with half, quarter and eighth-rights in the mark. All later productive associations, particularly the guilds in the cities, whose statutes were nothing but the application of the mark constitution to a craft privilege instead of to a restricted area of land, followed the pattern of the mark association.”

(Capital III, p 900-01)

In other words, these associations operate as closed monopolies, and, in respect of the merchants associations, each merchant obtained an equal profit, and equal rate of profit. The association determined the prices at which commodities would be bought from producers and sold in the market. The association would also control the quality of the commodities to be sold, by organising public inspection, often accompanied by some form of stamp of quality. The Milk Marketing Board, established in the UK, would be a more modern equivalent.

In order to ensure these equal profits, the associations imposed strict control over these buying and selling prices.

“Woe to the man who sold under the price or bought above the price! The boycott that struck him meant at that time inevitable ruin, not counting the direct penalties imposed by the association upon the guilty.”

(Capital III, p 901)

If we take into consideration the time, and nature of the business, which usually includes transporting commodities over considerable distances, requiring long durations, it is quite clearly a risky business. Not only are the merchants subject to robbery by common criminals, but on the high seas they are subject to piracy from state sponsored privateers.

“This original rate of profit was necessarily very high. The business was very risky, not only because of wide-spread piracy; the competing nations also permitted themselves all sorts of acts of violence when the opportunity arose; finally, sales and marketing conditions were based upon licences granted by foreign prices, which were broken or revoked often enough. Hence, the profit had to include a high insurance premium. The turnover was slow, the handling of transactions protracted, and in the best periods — which, admittedly, were seldom of long duration — the business was a monopoly trade with monopoly profit. The very high interest rates prevailing at the time, which always had to be lower on the whole than the percentage of usual commercial profit, also prove that the rate of profit was on the average very high.” (Capital III, p 902)

It was these very high profits that led Martin Luther to set out his objections to the merchants as Marx discussed in Capital.

Although there was an equal rate of profit, for every merchant within each association, different associations, arising in different locations, had different rates of profit, and the process of equalisation of these rates occurred in the opposite direction as a result of competition by each of these associations.

“First, the profit rates of the different markets for one and the same nation. If Alexandria offered more profit for Venetian goods than Cyprus, Constantinople, or Trebizond, the Venetians would start more capital moving towards Alexandria, withdrawing it from trade with other markets. Then, the gradual equalization of profit rates among the different nations, exporting the same or similar goods to the same markets, had to follow, and some of these nations were very often squeezed to the wall and disappeared from the scene. But this process was being continually interrupted by political events, just as all Levantine trade collapsed owing to the Mongolian and Turkish invasions; the great geographic-commercial discoveries after 1492 only accelerated this decline and then made it final.” 

(Capital III, p 902-3)

The improvements in transport and communications that occurred in the 16th and 17th centuries, opened up trade on a much larger scale, into India and North America. The riches that came to merchants allowed them to develop capital, individually on a scale much greater than, previously, even the largest corporations such as that in Venice could achieve. These new companies, like the British and Dutch East India Companies, and the Hudson's Bay Company, had state backing, as well as having sufficient capital of their own to back their merchants with private armies. Before India became a part of the British Empire, it was run by the East India Company, and it was the company's private army, under Robert Clive, that made that possible.

“But in the first place, bigger nations stood behind these companies. In trade with America, the whole of great united Spain took the place of the Catalonians trading with the Levant; alongside it, two countries like England and France; and even Holland and Portugal, the smallest, were still at least as large and strong as Venice, the greatest and strongest trading nation of the preceding period. This gave the travelling merchant, the merchant adventurer of the 16th and 17th centuries, a backing that made the company, which protected its companions with arms, also, more and more superfluous, and its expenses an outright burden. Moreover, the wealth in a single hand grew considerably faster, so that single merchants soon could invest as large sums in an enterprise as formerly an entire company. The trading companies, wherever still existent, were usually converted into armed corporations, which conquered and monopolistically exploited whole newly discovered countries under the protection and the sovereignty of the mother country. But the more colonies were founded in the new areas, largely by the state, the more did company trade recede before that of the individual merchant, and the equalization of the profit rate became therewith more and more a matter of competition exclusively.” 

(Capital III, p 903)

Engels points out, however, that even up to this period, this equalisation of the rate of profit is only an equalisation of merchant's profit, because industrial capital had not been developed on a significant scale.

“Production was still predominantly in the hands of workers owning their own means of production, whose work therefore yielded no surplus-value to any capital. If they had to surrender a part of the product to third parties without compensation, it was in the form of tribute to feudal lords. Merchant capital, therefore, could only make its profit, at least at the beginning, out of the foreign buyers of domestic products, or the domestic buyers of foreign products; only toward the end of this period — for Italy, that is, with the decline of Levantine trade — were foreign competition and the difficulty of marketing able to compel the handicraft producers of export commodities to sell the commodity under its value to the exporting merchant. And thus we find here that commodities are sold at their value, on the average, in the domestic retail trade of individual producers with one another, but, for the reasons given, not in international trade as a rule.” (p 904)

That is quite different from the current situation, Engels says, whereby competition, at an international level, creates equalised prices, but local variations occur, between the prices paid by an importer/wholesaler and the prices charged by retailers in different cities, who buy from that same importer/wholesaler.

“The instrument that gradually brought about this revolution in price formation was industrial capital. Rudiments of the latter had been formed as early as the Middle Ages, in three fields — shipping, mining, and textiles.” (p 904)

Shipping, on the scale of the maritime republics, was impossible without sailors who, by definition, had to be wage labourers, though they may also have been paid partly by a profit share. The mines had been converted from guilds into stock companies, that employed wage workers, and merchants had started the “putting-out” system whereby they provided the material to cottage workers, who processed it, and handed back the finished product to the merchant in return for a wage.

The merchants, who became textile producers, had in front of them, the average rate of profit now obtained by merchant capital, as a guide to the kind of average profit they should expect from advancing this capital for production.

“Now, what could induce the merchant to take on the extra business of a contractor? Only one thing: the prospect of greater profit at the same selling price as the others. And he had this prospect. By taking the little master into his service, he broke through the traditional bonds of production within which the producer sold his finished product and nothing else. The merchant capitalist bought the labour-power, which still owned its production instruments but no longer the raw material. By thus guaranteeing the weaver regular employment, he could depress the weaver's wage to such a degree that a part of the labour-time furnished remained unpaid for. The contractor thus became an appropriator of surplus-value over and above his commercial profit.” (p 904-5)

The weavers usually accepted this changed condition initially only as a consequence of debt, which meant they were unable themselves to buy the required raw materials.

In Capital III, Chapter 10. Marx describes how this process creates an average or general rate of industrial profit. The merchant capitalists sought to obtain an equal rate of profit on the capital they advanced, but this equal rate of profit was one that was imposed by the various forms of feudal monopoly. The petty commodity producers were not concerned to make the same rate of profit, but only to be able to sell their commodities at their value. In other words, they only sought to recoup the cost of the means of production, which they had advanced, along with the value added to them by their labour. This meant that an equalised rate of surplus value existed, but this did not result in an equalised rate of profit.

An equalised rate of surplus value arises, because the commodity producer is concerned not to be spending too much of their day occupied in necessary labour. Some products can only be produced in particular countries or regions, others can simply be produced more easily in some places than others. So, for example, different communities and nations engage in trade to obtain silk and spices from the Orient, and send their own commodities along the Silk Road, in exchange. Within particular countries, similar advantages for production exist. For example, the existence of iron ore close to extensive forests, or coal deposits. Over time, particular areas develop human skills for the production of different types of commodity, for example, pottery manufacture in North Staffordshire.

Each commodity producer will, thereby, focus their production on those types of product, for which they have some advantage in production, so that they spend the minimum amount of time engaged upon it, for the output they produce.

“Such a general rate of surplus-value — viewed as a tendency, like all other economic laws — has been assumed by us for the sake of theoretical simplification. But in reality it is an actual premise of the capitalist mode of production, although it is more or less obstructed by practical frictions causing more or less considerable local differences, such as the settlement laws for farm-labourers in Britain. But in theory it is assumed that the laws of capitalist production operate in their pure form. In reality there exists only approximation; but, this approximation is the greater, the more developed the capitalist mode of production and the less it is adulterated and amalgamated with survivals of former economic conditions.”

(Capital III, Chapter 10) 

The fact that an average rate of surplus value exists, however, does not mean that an average rate of profit exists. In fact, as Marx points out, quite the contrary, this equal rate of surplus value means that different rates of profit must exist, because the rate of profit is a measure of the surplus value, not just against the variable capital, but against the total capital advanced, and different types of production will employ different amounts and values of constant capital, relative to the variable capital. In other words, they will have a different organic composition of capital.

A capital that employs a large mass of material relative to the labour that processes it, or which employs high value material relative to the labour that processes it, will advance a greater quantity of capital in relation to the surplus value produced than will another capital of the same size, which employs only a small amount of material, or lower value material, relative to the labour that processes it. For example,

c 800 + v 200 + s 200. s' = 100%, r' = 20%

c 200 + v 800 + s 800. s' = 100%, r' = 80%.

Given that in every sphere of production, these different organic compositions of capital exist, and that this composition is continually changing, and new spheres of production are continually developing, this condition of different rates of profit, in each sphere, is the starting point, and normal condition. Yet, capital, by its nature, will always seek to obtain the highest rate of profit, and so will always tend to shy away from those areas where the rate of profit is lowest, and flock towards those areas where the rate of profit is highest. It is this process which leads to the development of an average or general rate of industrial profit, not as ever an established fact, but only as a tendency.

The means by which this average is obtained is via competition. In those spheres where the rate of profit is low, capital will accumulate more slowly, or will be withdrawn. As the supply of commodities in this sphere, thereby falls, so the market-price of these commodities will rise, above their exchange-value. The profit (p) obtained is the difference between the cost-price (c + v) and the market-price. As the market price, thereby rises, so the profit rises. Similarly, in those spheres where the rate of profit is high, capital will accumulate more rapidly, and will be attracted from elsewhere. As this increased amount of capital increases the supply of commodities, in that sphere, so their market prices will fall, below their exchange value. As the market price falls, so the profit obtained falls. If all capitals were invested in spheres whereby they could not obtain a higher rate of profit by moving to some other sphere, then there could only be a single average, or general rate of profit, which each was receiving.

On this basis, the price of production of each type of commodity is established. The price of production is then the cost price (c + v) plus the average rate of profit on the advanced capital (p). Its important to make this point that p here is the average rate of profit on the advanced capital C, and not on the laid-out capital, or cost of production (c + v), or k. Marx makes this distinction clear, in Capital III, Chapter 9.

“Take, for example, a capital of 500, of which 100 is fixed capital, and let 10% of this wear out during one turnover of the circulating capital of 400. Let the average profit for the period of turnover be 10%. In that case the cost-price of the product created during this turnover will be 10 c for wear plus 400 (c + v) circulating capital = 410, and its price of production will be 410 cost-price plus (10% profit on 500) 50 = 460.”

This is clearly different than a price of production calculated as k + kp', which would be, 410 + (410 x 10%) = 41, giving a price of production of 451. I have described this in more detail elsewhere. 

The average rate of profit has to be calculated on the advanced capital, rather than on the laid-out capital (c + v), or cost of production (k), because different capitals not only have different organic compositions, but also different rates of turnover. A capital employed in shipbuilding, for example, where the output is not finished for a long time, so that the capital remains tied up for long periods, will make a lower real rate of profit, if the average is calculated on its laid out capital rather than on the advanced capital. In just the same way that capitals with a lower than average organic composition of capital make a higher than average rate of profit, so capitals that turn over more quickly than the average will make a higher than average annual rate of profit, s/C than those that turn over at a slower rate than the average. Conversely, those capitals that have a higher than average rate of turnover of capital will have a lower than average rate of profit, p/k, than those which turn over more slowly than the average. 

These differences between the rates of turnover of capital in different spheres of production are effaced in the rate of profit on the total social capital, precisely because it is the average of the annual rates of profit, made in each sphere, which already takes into account the rate of turnover. But, the same principle applies when comparing different national capitals, or changes in the social capital over time. A country whose capital is employed in spheres of production, where the rate of turnover is higher than the international average, will obtain a higher annual rate of profit, and operate with lower rates of profit, and profit margins than a country whose capital is employed in types of production, where the capital turns over more slowly. Similarly, a country which undergoes a rapid rise in its social productivity, and thereby raises the rate of turnover of its capital, will see its general annual rate of profit rise, even as it may see its rate of profit, p/k, or profit margin decline. 

The latter phenomenon is merely the inevitable consequence of the rise in the rate of turnover so that a given amount of advanced capital, in turning over more times, leads to an increase in the quantity of laid out capital, relative to the advanced capital. It means that a given amount of profit, is spread over a much larger volume of output.

In determining, the general annual rate of profit, Marx sets out in Capital III, Chapter 17, that it also includes the value of the advanced Merchant Capital. This Merchant Capital, which includes the money-dealing, as opposed to money-lending capital, is merely the independent form of the commodity-capital, and money-capital phases of the circuit of industrial capital. If Merchant Capital did not advance this capital, it would have to be advanced by productive-capital, and thereby form the basis upon which its general annual rate of profit was calculated. The reason why Merchant Capital arises, is precisely because it reduces the amount of capital that society must advance for this purpose, and also raises the rate of turnover of the total social capital, which thereby brings about an overall rise in the general annual rate of profit.

However, as Marx and Engels now describe, with the dominance of industrial capital, it is the general annual rate of profit, which it establishes which acts as the regulator, and not the merchant capital, as was the case prior to the development of industrial capital. The Merchant Capital can only share, as capital, in the surplus value created by productive-capital. It can only continue to exist as independent capitals so long as it performs the function as set out above, of reducing the circulation costs of productive-capital, and thereby raising the general annual rate of profit.

If too much capital becomes employed in that function, then the rate of profit obtained by merchant capital will fall below the average, and some will move out, to become engaged in production once more, and vice versa.

“Commercial capital, therefore — stripped of all heterogeneous functions, such as storing, expressing, transporting, distributing, retailing, which may be connected with it, and confined to its true function of buying in order to sell — creates neither value nor surplus-value, but acts as middleman in their realisation and thereby simultaneously in the actual exchange of commodities, i.e., in their transfer from hand to hand, in the social metabolism. Nevertheless, since the circulation phase of industrial capital is just as much a phase of the reproduction process as production is, the capital operating independently in the process of circulation must yield the average annual profit just as well as capital operating in the various branches of production. Should merchant's capital yield a higher percentage of average profit than industrial capital, then a portion of the latter would transform itself into merchant's capital. Should it yield a lower average profit, then the converse would result. A portion of the merchant's capital would then be transformed into industrial capital. No species of capital changes its purpose, or function, with greater ease than merchant's capital.”

(Capital III, Chapter 17)