Theories of Surplus Value, Part II, Chapter 10 - Part 25

[5.] Average or Cost-Prices and Market-Prices

[a) Introductory Remarks: Individual Value and Market-Value; Market-Value and Market-Price]

Ricardo puts forward a marginal theory of value, i.e. he sees the market value of commodities being determined by the marginal production. This is at variance with Marx who argues that it is the average socially necessary labour that is determinant, or others such as Thomas Corbet who argued that it was the lowest cost production that was determinant.

““The exchangeable value of all commodities, whether they be manufactured, or the produce of the mines, or the produce of land, is always regulated, not by the less quantity of labour that will suffice for their production under circumstances highly favourable, and exclusively enjoyed by those who have peculiar facilities of production; but by the greater quantity of labour necessarily bestowed on their production by those who have no such facilities; by those who continue to produce them under the most unfavourable circumstances; meaning—by the most unfavourable circumstances, the most unfavourable under which the quantity of produce required, renders it necessary to carry on the production” (l.c., pp. 60-61).” (p 203) 

As Marx says, the last sentence is wrong, because it implies that the level of demand is an independently determined fixed amount. In fact, demand will rise or fall according to the price of the commodity. The starting point is not some independent quantity of demand, for a commodity, but the independently determined price of the commodity. This is, of course, the opposite to the starting point for neoclassical theory.

The question is, what is this independently determined price? If we assume that prices equal values, then this price/value is the labour-time required for its production. In other words, if 10,000 metres of linen requires 1,000 hours of labour to produce, and 1 hour equals £1 (in other words one hour of labour is equal to £1 of the money commodity), then 1 metre = £0.10. If there is then demand for 10,000 metres of linen, at a price of £0.10 per metre, supply and demand will be in balance. If demand is higher than 10,000 metres, at this price, the market price will rise to ration the excess demand, but this will then encourage additional supply. If demand is less than 10,000 metres at £0.10 per metre, the market price will fall below £0.10, to clear the market, and the supply will contract.

However, at this point, it becomes obvious that things are not so straightforward. If we take the situation where the demand exceeds the supply, at £0.10 per metre, we then have to enquire as to the nature of the additional production this brings forward. Generally, in industry, a higher level of production brings with it greater efficiency and lower costs. Suppose demand at £0.10 per metre was 12,000 metres. Additional production is introduced, but now, due to economies of scale, this 12,000 metres can be produced for £10,000, so that the price of a metre falls to £0.08 per metre. But, now, at this price, the demand rises to 12,500 metres, bringing an additional production, and further economies, and so on.

Diagram 1. This is the typical demand and supply graph of orthodox economics, which assumes as Ricardo does that there is diminishing factor returns.  There is a shift in the demand curve (demand rises at all prices), and as new supply is introduced, the cost of producing this new supply is higher, so the equilibrium market price rises.

Diagram 2. Here there are constant factor returns.  The demand curve shifts in the same way as in Diagram 1.  Supply expands to meet it (this also illustrates why Ricardo's argument that additional capital investment only occurs if prices and the rate of profit rise, is wrong) but, it is able to do so without any change in the costs of production.  Market prices, therefore remain constant.  Ricardo was wrong about the need for higher prices or a higher rate of profit to drive investment, as Marx demonstrated, because all that is required to encourage capitalists to invest more capital here, is that, in doing so they appropriate to themselves a greater mass of profit. 

Diagram 3. Here the situation that Marx says is typical for industry is illustrated.  The demand curve again shifts in the same way as in Diagram 1 and 2.  Supply rises to meet this additional demand.  But, now, producing at these higher levels of output, capital obtains economies of scale, production takes place more efficiently, and the costs of production per unit fall.  As the costs per unit fall, competition ensures that market prices fall, and as market prices fall, as well as a shift of the demand curve having taken place, there is a shift along this new demand curve, as demand responds to lower market prices.  As demand rises further, and output expands further, yet more economies of scale are obtained, so that the unit costs of production, and market prices fall further, and so on.  A look at any manufactured commodity, such as electronic pocket calculators, illustrates this process.

In other words, although the level of demand is a level of demand at a certain price, and that price is determined by the labour-time required for production, the latter itself is also affected by the scale of production, and the scale of production, in turn, depends upon the level of demand for the output. The same applies in reverse. If demand is lower than supply, at a certain price, then supply will contract. But, at this lower level of production, cost may be higher, so that the price per unit may then rise, causing a further contraction of demand. By contrast, and this is what led Ricardo to his marginalist view, it might well be the case, in agriculture, that, in order to meet the extra demand, other land has to be brought into cultivation, which is less fertile. Rather than the cost of production falling, therefore, as output expands, it rises, causing unit prices to rise.

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