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+*** START OF THE PROJECT GUTENBERG EBOOK 10612 ***
+
+SUPPLY AND DEMAND
+
+By Hubert D. Henderson M.A.
+
+With an Introduction by J.M. Keynes M.A., C.B.
+
+1922.
+
+
+
+
+
+INTRODUCTION
+
+The Theory of Economics does not furnish a body of settled conclusions
+immediately applicable to policy. It is a method rather than a
+doctrine, an apparatus of the mind, a technique of thinking, which
+helps its possessor to draw correct conclusions. It is not difficult
+in the sense in which mathematical and scientific techniques are
+difficult; but the fact that its modes of expression are much less
+precise than these, renders decidedly difficult the task of conveying
+it correctly to the minds of learners.
+
+Before Adam Smith this apparatus of thought scarcely existed. Between
+his time and this it has been steadily enlarged and improved. Nor is
+there any branch of knowledge in the formation of which Englishmen can
+claim a more predominant part. It is not complete yet, but important
+improvements in its elements are becoming rare. The main task of the
+professional economist now consists, either in obtaining a wide
+knowledge of _relevant_ facts and exercising skill in the application
+of economic principles to them, or in expounding the elements of his
+method in a lucid, accurate and illuminating way, so that, through his
+instruction, the number of those who can think for themselves may be
+increased.
+
+This Series is directed towards the latter aim. It is intended to
+convey to the ordinary reader and to the uninitiated student some
+conception of the general principles of thought which economists now
+apply to economic problems. The writers are not concerned to make
+original contributions to knowledge, or even to attempt a complete
+summary of all the principles of the subject. They have been more
+anxious to avoid obscure forms of expression than difficult ideas; and
+their object has been to expound to intelligent readers, previously
+unfamiliar with the subject, the most significant elements of economic
+method. Most of the omissions of matter often treated in textbooks are
+intentional; for as a subject develops, it is important, especially in
+books meant to be introductory, to discard the marks of the chrysalid
+stage before thought had wings.
+
+Even on matters of principle there is not yet a complete unanimity of
+opinion amongst professors. Generally speaking, the writers of these
+volumes believe themselves to be orthodox members of the Cambridge
+School of Economics. At any rate, most of their ideas about the
+subject, and even their prejudices, are traceable to the contact they
+have enjoyed with the writings and lectures of the two economists who
+have chiefly influenced Cambridge thought for the past fifty years,
+Dr. Marshall and Professor Pigou.
+
+J.M. Keynes.
+
+CONTENTS
+
+CHAPTER I
+
+THE ECONOMIC WORLD
+
+§1. THEORY AND FACT
+
+§2. THE DIVISION OF LABOR
+
+§3. THE EXISTENCE OF ORDER
+
+§4. SOME REFLECTIONS UPON JOINT PRODUCTS
+
+§5. SOME REFLECTIONS UPON CAPITAL
+
+§6. THE FUNDAMENTAL CHARACTER OF MANY ECONOMIC LAWS
+
+
+
+CHAPTER II
+
+THE GENERAL LAWS OF SUPPLY AND DEMAND
+
+§1. PRELIMINARY STATEMENT OF THREE LAWS
+
+§2. DIAGRAMS AND THEIR USES
+
+§3. AMBIGUITIES OF THE EXPRESSIONS, "INCREASE IN DEMAND," ETC.
+
+§4. REACTIONS OF CHANGES IN DEMAND AND SUPPLY ON PRICE
+
+§5. SOME PARADOXICAL REACTIONS OF PRICE CHANGES ON SUPPLY
+
+§6. THE DISTURBANCES OF MONETARY CHANGES
+
+§7. THE TRADE CYCLE
+
+
+
+CHAPTER III
+
+UTILITY AND THE MARGIN OF CONSUMPTION
+
+§1. THE FORCES BEHIND SUPPLY AND DEMAND
+
+§2. THE LAW OF DIMINISHING UTILITY
+
+§3. THE RELATION BETWEEN PRICE AND MARGINAL UTILITY
+
+§4. THE MARGINAL PURCHASER
+
+§5. THE BUSINESS MAN AS PURCHASER
+
+§6. THE DIMINISHING UTILITY OF MONEY
+
+
+
+CHAPTER IV
+
+COST AND THE MARGIN OF PRODUCTION
+
+§1. AN ILLUSTRATION FROM COAL
+
+§2. THE VARIOUS ASPECTS OF MARGINAL COST
+
+§3. THE DANGERS OF IGNORING THE MARGIN
+
+§4. A MISINTERPRETATION
+
+§5. SOME CONSEQUENCES OF A HIGHER PRICE LEVEL
+
+§6. GENERAL RELATION BETWEEN PRICE, UTILITY AND COST
+
+
+
+CHAPTER V
+
+JOINT DEMAND AND SUPPLY
+
+§1. MARGINAL COST UNDER JOINT SUPPLY
+
+§2. MARGINAL UTILITY UNDER JOINT DEMAND
+
+§3. A CONTRAST BETWEEN COTTON AND COTTON-SEED, AND WOOL AND MUTTON
+
+§4. THE IMPORTANCE OF BEING UNIMPORTANT
+
+§5. CAPITAL AND LABOR
+
+§6. CONCLUSIONS AS TO JOINT SUPPLY AND JOINT DEMAND
+
+§7. COMPOSITE SUPPLY AND COMPOSITE DEMAND
+
+§8. ULTIMATE REAL COSTS
+
+
+
+CHAPTER VI
+
+LAND
+
+§1. THE SPECIAL CHARACTERISTICS OF LAND
+
+§2. THE SCARCITY ASPECT
+
+§3. THE DIFFERENTIAL ASPECT
+
+§4. THE MARGIN OF TRANSFERENCE
+
+§5. THE NECESSITY OF RENT
+
+§6. THE QUESTION OF REAL COSTS
+
+§7. RENT AND SELLING PRICE
+
+
+
+CHAPTER VII
+
+RISK-BEARING AND ENTERPRISE
+
+§1. PROFITS AND EARNINGS OF MANAGEMENT
+
+§2. THE PAYMENT FOR RISK-BEARING
+
+§3. MONTE CARLO AND INSURANCE
+
+§4. RISK UNDER LARGE SCALE ORGANIZATION
+
+§5. THE ENTREPRENEUR
+
+§6. RISK-TAKING AND CONTROL
+
+§7. GENERAL ANALYSIS OF PROFITS
+
+
+
+CHAPTER VIII
+
+CAPITAL
+
+§1. A REFERENCE TO MARX
+
+§2. WAITING FOR PRODUCTION
+
+§3. WAITING FOR CONSUMPTION
+
+§4. CAPITAL NOT A STOCK OF CONSUMABLE GOODS
+
+§5. THE ESSENCE OF WAITING
+
+§6. INDIVIDUAL AND SOCIAL SAVING
+
+§7. THE NECESSITY OF INTEREST
+
+§8. THE SUPPLY OF CAPITAL
+
+§9. INVOLUNTARY SAVING
+
+§10. INTEREST AND DISTRIBUTION
+
+
+
+CHAPTER IX
+
+LABOR
+
+§1. A RETROSPECT ON LAISSEZ-FAIRE
+
+§2. IDEAS AND INSTITUTIONS
+
+§3. THE GENERAL WAGE-LEVEL
+
+§4. THE SUPPLY OF LABOR IN GENERAL
+
+§5. THE APPORTIONMENT OF LABOR AMONG PLACES
+
+§6. THE APPORTIONMENT OF LABOR AMONG SOCIAL GRADES
+
+§7. THE APPORTIONMENT OF LABOR AMONG OCCUPATIONS
+
+§8. WOMEN'S WAGES
+
+CHAPTER X
+
+THE REAL COSTS OF PRODUCTION
+
+§1. COMPARATIVE COSTS
+
+§2. THE ALLOCATION OF RESOURCES
+
+§3. UTILITY AND WEALTH
+
+§4. CRITERIA OF POLICY
+
+
+
+SUPPLY AND DEMAND
+
+
+
+CHAPTER I
+
+THE ECONOMIC WORLD
+
+
+§1. _Theory and Fact_. The controversy between the "Theorist" and the
+"Practical Man" is common to all branches of human affairs, but it is
+more than usually prevalent, and perhaps more than usually acrid in
+the economic sphere. It is always a rather foolish controversy, and I
+have no intention of entering into it, but its prevalence makes it
+desirable to emphasize a platitude. Economic theory must be based
+upon actual fact: indeed, it must be essentially an attempt, like all
+theory, to _describe_ the actual facts in proper sequence, and in true
+perspective; and if it does not do this it is an imposture. Moreover,
+the facts which economic theory seeks to describe are primarily
+economic facts, facts, that is to say, which emerge in, and are
+concerned with, the ordinary business world; and it is, therefore,
+mainly upon such facts that the theory must be based. People
+sometimes speak as though they supposed the economist to start from a
+few psychological assumptions (e. g. that a man is actuated mainly by
+his own self-interest) and to build up his theories upon such
+foundations by a process of pure reasoning. When, therefore, some
+advance in the study of psychology throws into apparent disrepute such
+ancient maxims about human nature, these people are disposed to
+conclude that the old economic theory is exploded, since its
+psychological premises have been shown to be untrue. Such an attitude
+involves a complete misunderstanding not merely of economics, but of
+the processes of human thought. It is quite true that the various
+branches of knowledge are interrelated very intimately, and that an
+advance in one will often suggest a development in another. By all
+means let the economist and psychologist avoid a pedantic specialism
+and let each stray into the other's province whenever he thinks
+fit. But the fact remains that they are primarily concerned with
+different things: and that each is most to be trusted when he is upon
+his own ground. When, therefore, the economist indulges in a
+generalization about psychology, even when he gives it as a reason for
+an economic proposition, in nine cases out of ten the economics will
+not depend upon the psychology; the psychology will rather be an
+inference (and very possibly a crude and hasty one) from the economic
+facts of which he is tolerably sure.
+
+But the purpose of economic theory is not merely to describe the facts
+of the economic world; it is to describe them in their proper sequence
+and true perspective. It must begin with those facts which are most
+general and which have the widest possible significance. Those are not
+likely to be the facts which our practical experience forces most
+insistently upon our notice. For it is the particular and not the
+general, the differences between things rather than their
+resemblances, that concern us most in daily life. Nor are we likely to
+find the universal facts which we require in the sphere of public
+controversy. We must rather look for them in the dark recesses of our
+consciousness, where are stored those truths which are so obvious that
+we hardly notice them, which are so indisputable that we seldom
+examine them, which seem so trite that we are apt to miss their full
+significance.
+
+
+§2. _The Division of Labor_. There is one such truth in the economic
+sphere which it is essential to appreciate vividly and fully, with the
+widest sweep of the imagination and the sharpest clarity of
+thought. Man lives by cooperating with his fellow-men. In the modern
+world, that cooperation is of a boundless range and an indescribable
+complexity. Yet it is essentially undesigned and uncontrolled by
+man. The humblest inhabitant of the United States or Great Britain
+depends for the satisfaction of his simplest needs upon the activities
+of innumerable people, in every walk of life and in every corner of
+the globe. The ordinary commodities which appear upon his dinner table
+represent the final product of the labors of a medley of merchants,
+farmers, seamen, engineers, workers of almost every craft. But there
+is no human authority presiding over this great complex of labor,
+organizing the various units, and directing them towards the common
+ends which they subserve. Wheel upon wheel, in a ceaseless succession
+of interdependent processes, the business world revolves: but no one
+has planned and no one guides the intricate mechanism whose smooth
+working is so vital to us all. Man, indeed, can organize and has
+organized much. Within a large factory the efforts of thousands of
+work-people, each engaged on the repetition of a single small process,
+are fitted together so as to form an ordered whole by the conscious
+direction of the management. Sometimes factory is joined with factory,
+with farms, fisheries, mines, with transport and distributing
+agencies, as one gigantic business unit, controlled by a common
+will. These giant businesses are remarkable achievements of man's
+organizing gifts. The individuals who control them wield an immense
+power, which so impresses the public imagination that we dub them
+"kings," "supermen," "Napoleons of industry." But how small a portion
+of man's economic life is dominated by such men! Even as regards the
+affairs of their own businesses, how narrow, after all, are the limits
+of their influence! The prices at which they can buy their materials
+and borrow their capital, the quantities of their products which the
+public will consume, are factors at once vital to their prosperity and
+outside their own control.
+
+A great business, like a nation, may cherish visions of
+self-sufficiency, may stretch its tentacles forward to the consumer
+and backwards to its supplies of raw material; but each fresh
+extension of its activities serves only to multiply its points of
+contact with the outside world. When those points are reached, the
+largest business, like the smallest, is out on the open sea of an
+economic system immeasurably larger and more powerful than
+itself. There it must meet--the better perhaps for its inherent
+strength and accumulated knowledge--the impact of rude forces, which
+it is powerless to control. Beneath the blasts of a trade depression,
+or some other tendency of world-wide scope, the authority of the
+mightiest industrial magnate, and equally of any Government, assumes
+the same essential insignificance as the pride of a man humbled by
+contact with the elemental powers of nature.
+
+
+§3. _The Existence of Order_. The parallel can be pursued further with
+advantage. Just as in the world of natural phenomena, which for long
+seemed to man so wayward and inexplicable, we have come gradually to
+perceive an all-pervading uniformity and order; so there is manifest
+in the economic world, uniformity, order, of a similar if less
+majestic kind. Upon the cooperation of his fellowmen, man depends for
+the very means of life: yet he takes this cooperation for granted,
+with a complacent confidence and often with a naive unconsciousness,
+as he takes the rising of to-morrow's sun. The reliability of this
+unorganized cooperation has powerfully impressed the imagination of
+many observers.
+
+"On entering Paris which I had come to visit," exclaimed Bastiat some
+seventy years ago, "I said to myself--Here are a million of human
+beings who would all die in a short time if provisions of every kind
+ceased to flow towards this great metropolis. Imagination is baffled
+when it tries to appreciate the vast multiplicity of commodities which
+must enter to-morrow through the barriers in order to preserve the
+inhabitants from falling a prey to the convulsions of famine,
+rebellion, and pillage. And yet all sleep at this moment, and their
+peaceful slumbers are not disturbed for a single instant by the
+prospect of such a frightful catastrophe. On the other hand, eighty
+departments have been laboring to-day, without concert, without any
+mutual understanding, for the provisioning of Paris."
+
+The theme may well excite wonder. But wonder should always be watched
+with a wary eye; for he is apt to bring in his train a hanger-on
+called worship, who can do nothing but mischief here. It is a short
+step from a passage like that quoted above to a glorification of the
+existing system of society, to a defence of all manner of indefensible
+things; and a cross-grained attitude towards all projects of
+reform. It is a short step; but it is one which it is quite
+unjustifiable to take. For the evils of our economic system are too
+plain to be ignored; too many people have harsh personal experience of
+the wastefulness of its production, the injustice of its distribution;
+of its sweating, its unemployment and slums. And when the attempt is
+made to plaster over evils, such as these with obsequious rhetoric
+about the majesty of economic law, it is not surprising that the
+spirit of many men should revolt and that they should retort by
+denying the existence of order in the business world, by declaring
+that the spectacle which _they_ see is one of discord, confusion and
+chaos. And then we are engulfed in a controversy as stale, flat and
+unprofitable as that between the "theorist" and the "practical man."
+
+The truth is that the language of praise and obloquy is quite
+inappropriate. In the first place, it may be well to note that the
+order of which I have spoken manifests itself not merely in those
+economic phenomena which are beneficial to man, but hardly less in
+those which work to his hurt. Even in those alternations of good and
+bad trade, which spell so much unemployment and misery, there is
+discernible a rhythmic regularity like that of the process of the
+seasons, or the ebb and flow of the tide. This is not an elegance to
+be admired. Furthermore, in so far as the order comprises adjustments
+and tendencies which are beneficial (as, indeed, is mainly true),
+there is no warrant for assuming that these are either adequate to
+secure a prosperous community or dependent upon the social
+arrangements which happen to exist. Let us, therefore, refrain from
+premature polemics and examine in a spirit of detachment some further
+aspects of the elaborate, but yet unorganized, cooperation of which so
+much has been already said.
+
+
+§4. _Some Reflections upon Joint Products_. A quite inadequate idea of
+the complexity of this coöperation is obtained by dwelling on the
+numbers of people who participate in it, or the immense distances over
+which it extends. The deficiency can be partially supplied by
+referring to some of the more obvious of the many subtle
+interconnections which exist between different commodities and
+different trades.
+
+There are innumerable groups of commodities (which it is customary to
+term "joint products") such that the production of one commodity
+belonging to the group necessarily implies or very greatly facilitates
+the production of the others. Wool and mutton; beef and hides; cotton
+and cotton-seed are a few familiar illustrations. The important
+feature of these "joint products" is the fairly precise relation which
+must exist between the quantities in which the different products are
+supplied. If you plant a certain crop of cotton, it will yield you so
+much cotton lint and so much cotton-seed. You can, of course, if you
+choose, throw away part of the seed, as indeed at one time planters
+used to do; but unless you do this, you cannot vary the proportions of
+the two things which you will have for sale. Similarly, if you keep a
+flock of sheep, or a herd of cattle, you will obtain wool and mutton
+in the one case, or beef and hides in the other, in proportions, which
+indeed you can vary within certain limits by choosing a different
+breed,[1] but which you cannot radically transform. When, however, we
+turn to the uses to which these products are put, no similar relation
+is to be discovered. Cotton lint is used chiefly for making articles
+of clothing; cotton-seed for crushing into oil, on the one hand, and
+cake for cattle fodder on the other. There is no apparent connection
+of any kind between the demands for these different things, and still
+less is there any obvious reason why these demands should bear to one
+another the particular proportions which characterize their respective
+supplies. It is very much the same with wool and mutton; with beef and
+hides; with all "joint products." Why should we consume mutton on the
+one hand and woolen clothing on the other, in a ratio at all
+commensurate with that in which they are yielded by the sheep?
+
+[Footnote 1: These possibilities of small variation are of very great
+importance as will be shown in Chapter V, but they do not affect the
+present argument.]
+
+What, then, might we expect to find if order was nonexistent in the
+economic world? Surely that some things such as wool would be produced
+in quantities many times in excess of the demand for them, quite
+possibly five, ten, or twenty times in excess; while conversely the
+supplies of others such as mutton might fall far short of what was
+required. But in practice we find nothing of the sort. Somehow it
+comes about that an equilibrium is established between the demand for
+and the supply of every commodity; and that this applies to wool and
+mutton, to beef and hides, as surely as to commodities which are
+produced quite independently. It is true that this equilibrium is a
+rough, imperfect one; and it may happen that what is called a "glut"
+of wool may co-exist for a short period with what is called a scarcity
+of mutton. But qualifications of this nature are in the strictest
+sense of the phrase, the exceptions which prove the rule. For the
+departures from equilibrium which gluts and scarcities represent are
+always transient and are usually confined within narrow limits. A
+strong prevailing trend towards an adjustment of demand and supply is
+unmistakably manifest amid all the vagaries of changing circumstance.
+Let me carry the argument a step further for the benefit of any reader
+who is restrained by a repugnance too deep and instinctive to be
+readily overcome, from admitting fairly to his mind that conception of
+order which I am endeavoring to emphasize. He will in all probability
+be one who, cherishing ideals of a better and fairer system of
+society, looks forward to a time when an organized coöperation will be
+substituted for what he regards as the existing chaos. Let us suppose
+that his visions were fulfilled as completely as he could desire; and
+that an immense system of Socialism were in existence, embracing not
+one country only, but the whole world. Suppose all the difficulties of
+human perversity and administrative technique to have been surmounted
+and a wise, disinterested executive to be in supreme control of our
+business life. Let us suppose all this, and ask only the question: How
+would this executive treat the humdrum case of wool and mutton? How
+would it decide the number of sheep it would maintain?
+
+Shall we suppose that it is inspired by the ideal "to each according
+to his need," and that it resolves accordingly that the commodities
+which people require for a decent standard of life shall be supplied
+to them as a matter of course? How, then, would it proceed? It might
+estimate the amount of woolen clothing which a normal family requires,
+allowing for differences in climate, and possibly indulging somewhat
+the caprices of human taste. On this basis, a certain number of sheep
+would be indicated. It might perform a similar calculation for mutton,
+and again a certain number of sheep would be indicated. But it would
+be an extraordinary coincidence if the numbers which resulted from
+these independent calculations were nearly equal to one another, or
+were even of the same order of magnitude; and, if they differed
+widely, what number would our world executive select? Would it decide
+to waste an immense quantity of either wool or mutton; or would it
+decide that it could not, after all, supply the full human needs for
+one or other of the commodities?
+
+Of course, if the executive were sensible it could solve the problem
+satisfactorily enough. It could retain the monetary system we know
+to-day and it could supply the commodities to the consumers, not as a
+matter of right, but by selling them to them _at a price_. This price
+it could then move upwards or downwards, raising, say, the price of
+mutton and reducing that of wool, until it found that the consumption
+of the two things was adjusted in the required ratio. But if it acted
+in this manner, what essentially would it be doing? It would be
+seeking by deliberate contrivance to reproduce, in respect of this
+particular problem, the very conditions which occur to-day without aim
+or effort on the part of anyone at all.
+
+The moral of this illustration must not be misinterpreted. It does
+not show the folly of Socialism or the superiority of
+Laissez-faire. What it does show is the existence in the economic
+world of an order more profound and more permanent than any of our
+social schemes, and equally applicable to them all.
+
+
+§5. _Some Reflections upon Capital_. Another aspect of the great
+cooperation is of even greater significance. It embraces not only a
+multitude of living men, but it links the present together with the
+future and the past. The goods and services which we enjoy to-day we
+owe only in part to the labors of the week, the month, or the year,
+only in part even to the efforts of our contemporaries. The men, long
+since dead and forgotten, who built our railways, or sunk our coal
+mines, or engaged in any of a great variety of tasks, are still
+contributing to the satisfaction of our daily wants. The expression is
+not altogether fanciful; for, had it not been reasonable to expect
+that those labors would be of use to us to-day, many of them in all
+probability would never have been undertaken. It was to meet our
+present wants, and even our future wants, that many men toiled on
+monotonous tasks ten, twenty, thirty years ago. And yet, of course, we
+should deceive ourselves if we supposed that this was the motive of
+these men, that our welfare was the centre of their heart's desire. We
+in our turn dedicate to the future, and often to a distant future, an
+immense portion of our energies. Let any reader who doubts this, study
+the statistics of the occupations of the people, and reflect on how
+long a period must elapse before the labors of this trade or that can
+fulfil their ultimate function. How long would the period be in the
+case of a man making bricks, which will later be employed in the
+erection of a factory, where machinery will be made, to equip an
+electrical generating station designed to supply, over a period of
+many years, light, heat, and power to people living in a remote
+Continent? A longer time, it may be hazarded, than he is accustomed
+to look ahead.
+
+Like the daily cooperation of living men, this cooperation of past,
+present and future is essential to the well-being of mankind, and yet
+it is undesigned and unorganized. As private individuals, men do,
+indeed, deliberately provide for their own future, and for that of
+their kith and kin: as the directors of businesses, they try to
+forecast the trend of demand. But such conscious calculations and
+deliberate acts would avail little if they stood alone. They are
+hardly more than the necessary spokes in the great wheel which
+regulates the relations of past, present and future. The hub of the
+wheel is an elaborate system of borrowing and lending, essentially
+similar to the buying and selling of commodities. The private
+individual in order to provide for his family or for his old age
+"saves" and "invests." But what exactly does this mean? It means that
+he transfers so much purchasing power, which he might have spent on
+his personal pleasures, to some one else in return for the expectation
+of receiving, year by year in the future, he and his heirs after him,
+a certain smaller quantity of purchasing power. The other party to the
+transaction will be, we may suppose, a business man who enters into it
+because he sees the opportunity of a promising industrial development,
+to undertake which he requires more purchasing power than he himself
+possesses. And, because this transaction is entered into, a smaller
+number of us will shortly be engaged in making motorcars, or
+gramaphones, and a larger number of us in making factories and
+machinery, which will later enhance the world's productive power.
+
+Many transactions of the kind take place daily in modern communities,
+and their multiplicity gives rise to a mass of phenomena with which we
+are all tolerably familiar. We recognize a short-loan market, a stock
+exchange, a number of "markets" where lenders and borrowers are
+brought together by the aid of various intermediaries, such as banks,
+bill brokers, and stock jobbers, who correspond to dealers in
+commodities. Between these different specialized markets, we are
+aware of an interconnection so close and strong that we speak more
+generally of a Capital Market, of which the stock exchange, the
+short-loan market and so forth, are the component parts. Now, "market"
+is a word which was originally used to denote a place where tangible
+commodities were bought and sold; and the more closely we examine the
+phenomena of the Capital Market, the more closely do we perceive the
+profound resemblance between the mechanism of borrowing and lending,
+and that of buying and selling. Corresponding to the price of a
+commodity is the rate of interest (in the short-loan market we
+actually call the rate of Discount "the price of money," and speak of
+money being cheap or dear); and between the rate of interest, the
+demand for and the supply of capital there exist relations precisely
+similar to those between price, demand, and supply in commodity
+markets. Above all there is the same strong prevailing trend towards
+an adjustment of demand and supply.
+
+This fundamental resemblance between two such apparently
+incommensurable things as the buying of material commodities and the
+borrowing of capital is highly significant; it is another instance of
+that order in the economic world, of which the reader may now be
+growing weary. But so difficult is it to see clearly and fully
+something which one sees, as it were, every day of one's life, that a
+few more moments of reflection on the special case of capital will be
+time well spent. Let us revert then to our fantasy of a world
+socialist commonwealth; and humbly submit another poser to its supreme
+executive. The question this time will be whether some great
+constructional work, such, let us say, as the recently mooted Severn
+barrage scheme, should or should not be undertaken. Let us suppose
+that the costs and future benefits of the undertaking can be estimated
+accurately; and that the problem reduces itself to one of expending
+now a sum, let us say, of $100,000,000, with the prospects of
+obtaining in the future an income of power, or whatever it may be,
+worth $5,000,000 per annum. I have assumed for the sake of simplicity
+that we shall still be reckoning in terms of money, though possibly
+the executive may have substituted Marxian labor units; but it is
+quite immaterial to the present argument what the measuring rod may
+be. The point to be observed is, that it is impossible to tackle the
+problem at all without the conception of a rate of interest. For
+suppose that you tried to do without it, and said, "We shall take a
+long view. The interests of the future are no less our concern than
+those of the present; we shall not discriminate between them. We shall
+regard as an enterprise worthy to be undertaken whatever promises to
+yield in the course of time a return larger than the outlay." Where
+will this lead you? The particular proposal set out above would
+clearly pass the test; for in twenty years the resultant benefits
+would have added up to a figure equivalent to the initial cost. But
+equally clearly, the cost might have been more than $100,000,000; it
+might have been $250,000,000, $500,000,000, whatever figure you care
+to take, and if you extend the period similarly to fifty or one
+hundred years, sooner or later the gains would top the cost. Now there
+is no limit to the enterprises which would pay their way on this
+basis; and it would be quite impossible to undertake them all. For
+they would swallow up all and more than all your labor and your
+materials, and would leave you with no resources with which to meet
+the recurrent daily wants of men. Clearly, then, in some way or other,
+you must pick and choose, you must reject some enterprises as
+_insufficiently_ worth while. But how would you proceed to choose?
+Without a clear principle, a simple criterion to guide you, you would
+be plunged in utter chaos. You could not say, "Let all proposals
+involving capital expenditure be submitted to a central committee, who
+shall compare them with one another in a sort of competitive
+examination and, after deciding the number of applications they can
+pass on the basis of the volume of resources which they can devote to
+the future, award the places to those which head the list." Such a
+prospect is a nightmare of officialism and delay. You would be driven
+to formulate a simple, intelligible rule or measure, and leave that
+rule to be applied by the unfettered judgment of innumerable men to
+individual problems, as and when they arose. And for such a rule or
+measure, you could not do better than a rate of interest; you would
+have to lay it down that only those projects should be approved which
+promised a return of 6 per cent, or whatever it might be. Even in
+deciding what it should be, the limits of your choice would be
+narrowly confined. If, for instance, you fixed on 1 or 2 per cent,
+you would probably discover that you had not achieved your object,
+that the undertakings for distant returns which passed this test,
+still consumed far more resources than you could spare. You would be
+compelled then to raise the rate until it had cut these enterprises
+down within manageable limits. But, once more, what essentially would
+you be doing? You would be using the instrument of the rate of
+interest to adjust the demand for and supply of capital, though indeed
+the interest might not be paid away as now to private individuals. You
+would be reproducing by the method of deliberate trial and error, the
+adjustments which occur automatically as things are, in the actual
+world. Once again the most perfectly contrived Utopia would be
+compelled to pay to the unorganized coöperation of our epoch the
+sincerest flattery of imitation.
+
+
+§6. _The Fundamental Character of many Economic Laws_. But again
+perhaps a word of warning may be desirable. There is much controversy
+in these days about something called "Capitalism" or "The capitalist
+system." When these words are used with any precision, they usually
+refer to the arrangement so prevalent at present, whereby the
+ownership and sole ultimate control of a business rests with those who
+hold its stocks and shares. There is much to be said upon the merits
+and demerits of this system; something will perhaps be said upon the
+matter in the fifth volume of this series; but I shall not discuss it
+here. Nothing that I have said so far has any real bearing on it
+whatsoever; to suppose that it has, is indeed to miss the whole point
+of this chapter.
+
+The order, which I have sought to reveal, pervading and moving the
+most diverse phenomena of the economic world, would be a far less
+noteworthy and impressive thing were it merely the peculiar product of
+capitalism. Merchant adventurers, companies, and trusts; Guilds,
+Governments and Soviets may come and go. But under them all, and, if
+need be, in spite of them all, the profound adjustments of supply and
+demand will work themselves out and work themselves out again for so
+long as the lot of man is darkened by the curse of Adam.
+
+
+
+CHAPTER II
+
+THE GENERAL LAWS OF SUPPLY AND DEMAND
+
+
+§1. _Preliminary Statement of Three Laws_. The recognition of order in
+any branch of natural phenomena is but the prelude to the formulation
+of a set of laws, the simpler as the order is more universal, which
+describe, and as we say, explain it. Thus the perception of the even,
+elliptical courses of the heavenly bodies led to the statement of the
+law of gravitation and the laws of motion.
+
+In economics, similar laws have long since been enunciated, and have
+proved themselves such valuable instruments for the understanding of
+the daily problems of the workaday world, that they have been woven
+into the texture of our ordinary speech and thought. I have already
+touched upon them in the preceding chapter. But it is now desirable to
+set them out in order, in the most concise and formal manner possible.
+
+LAW I. When, at the price ruling, demand exceeds supply, the price
+   tends to rise. Conversely when supply exceeds demand the price
+   tends to fall.
+
+LAW II. A rise in price tends, sooner or later, to decrease demand and
+   to increase supply. Conversely a fall in price tends, sooner or
+   later, to increase demand and to decrease supply.
+
+LAW III. Price tends to the level at which demand is equal to supply.
+
+These three laws are the cornerstone of economic theory. They are the
+framework into which all analysis of special, detailed problems must
+be fitted. Their scope is very wide. I have purposely refrained from
+introducing into my statement of them any reference to commodities;
+for they extend far beyond commodities. Subject to an important
+qualification, they apply to capital, the price paid for the use of
+capital being what we call the rate of interest. They apply hardly
+less to "services," to the remuneration of labor of every kind and
+grade. People sometimes protest warmly against the idea of treating
+labor "like a commodity." If this indignation expresses no more than
+a belief that in matters concerning conditions of work, and relations
+between employees and the management, the sensibilities of human
+nature should be taken into due account, it is based on elementary
+decency and commonsense. But if, as sometimes appears, it is directed
+against the fact that the remuneration of labor is controlled by the
+laws of supply and demand, it is a mere baying at the moon, with
+singularly little provocation. For these laws are in no way peculiar
+to commodities, and it is no one's fault that they include commodities
+too within their scope.
+
+But let us go back to the laws themselves, and probe them and dissect
+them, and turn them this way and that, so that we may perceive their
+full content, and grasp it firmly in our minds. The third law implies
+a prevailing tendency for demand to be equal to supply. This
+tendency, as was suggested in Chapter I, can be verified by anyone
+from his experience and observation (provided he is a reasonable
+person, and not the tiresome kind who would dispute the law of
+gravitation because he sees that a feather falls to the ground more
+slowly than a stone). But it can also be deduced as a corollary from
+the two preceding laws; and to regard it in this way will help us to
+appreciate its significance. Start, for instance, by supposing that
+demand is in excess of supply. Then the price will tend to rise. After
+the price has risen, the supply will become larger, while the demand
+will fall away. The excess of demand with which we started will thus
+clearly be diminished. But if there remains any portion of this
+excess, the same reactions will continue; the price will rise further,
+and for the same reason; demand will be further checked and supply
+further stimulated. In other words, these forces must persist until
+the entire excess of demand over supply is eliminated. If we start by
+supposing supply to exceed demand, the converse chain of sequences
+will operate. Now these very simple steps of reasoning illuminate the
+nature of the normal equilibrium of demand and supply. They reveal
+that the equilibrium is established and maintained by the agency of
+_changes in price_, and they enable us to lay it down as perhaps the
+most important thing that can be said about the price of anything that
+it will tend to be such as will equate demand and supply. But that is
+not all that they reveal. They reveal also the extreme dependence of
+both demand and supply upon price.
+
+Now this is a fact which it is most important to realize vividly. It
+is apt to be obscured by customary modes of speech. In ordinary times
+the prices of most commodities and services do not change by very
+much, unless indeed over a long period of years; the amounts demanded
+and supplied may therefore seem to maintain a fairly constant level;
+and we may be tempted to speak of Great Britain producing so many
+million tons of coal, or America consuming so many millions of
+motor-cars per annum, almost as though these quantities were
+independent of price considerations. But we should never forget that
+there is no service or commodity produced by man, however essential it
+may seem, the demand for or the supply of which might not be reduced
+to nothing, if the price were sufficiently raised on the one hand, or
+lowered on the other. How easy it is sometimes to forget this simple
+truth may be seen from the mistake so commonly made of supposing,
+because the peoples of Central Europe were left, on the cessation of
+the war, starving and destitute of the means of life and the materials
+of work, that they must necessarily become heavy purchasers of
+imported goods; without pausing to consider whether the prices were
+such as they could afford to pay.
+
+
+§2. _Diagrams and their Uses_. It will help to prevent mistakes like
+this and more generally to make sharp and clear the fundamental
+relations which exist between demand, supply and price, if we exhibit
+them pictorially in the form of a diagram. Such diagrams are of great
+service in many parts of economic theory, not because they can prove
+anything which could not be proved otherwise, but because, being
+really a simpler medium of expression than words, they enable the mind
+to grasp more readily and to retain more vividly the essential facts
+of complex relations.
+
+Figure 1:
+
+     Y
+       |
+       |                                            S'
+       |                                          *
+     D |                                         **
+       |*                                       **
+       | **                                    *
+       |  **                                  *
+       |    *                                *
+       |     **                            **
+       |      **                          *
+       |        **                       *
+       |         **                    **
+       |           **                 *
+       |            **  Q           **
+    _l_|--------------*------------* R
+       |              |***       **
+       |              |   ** P **
+    _m_|--------------------***
+       |              |  *** |***
+    _k_|--------------***----+---** _r_
+       |          _q_*|      |     ***
+       |          *** |      |        ****
+       |       ***    |      |           ****
+       |    ***       |      |               ***
+     S |****          |      |                  ****
+       |              |      |                      ** D'
+       |              |      |
+       |              |      |
+       |              |      |
+       |              |      |
+      0+-------------------------------------------------------- X'
+                      N      M.
+                              Figure 1
+
+In Fig. 1 the curve DD' represents the conditions of demand. It is
+supposed to be drawn in such a way that if any point, Q, be taken on
+the curve, and the perpendicular QN be drawn to meet the base line, or
+axis OX, then ON will represent the amount that will be demanded at a
+price represented by QN (or O_l_). In other words, distances measured
+along OY represent prices, and distances measured along OX represent
+quantities of the commodity, or service, or whatever it may be.
+Clearly, then, the demand curve, DD', must slope downwards from left
+to right, since the lower the price asked, the greater will be the
+amount demanded.  Similarly the curve SS' represents the conditions of
+supply. It is supposed to be so drawn that if any point _q_ be taken
+upon it, and the perpendicular _q_N be drawn to meet OX, then ON will
+represent the amount that will be supplied at a price represented by
+_q_N (or O_k_). Equally clearly this supply curve must slope upwards
+from left to right, since the higher the price obtainable, the greater
+will be the quantity offered. Take the point P where the two curves
+meet, and draw the perpendicular PM to meet OX. Then the third law
+enunciated at the beginning of this chapter corresponds to the
+statement that PM or O_m_ will represent the price at which the
+commodity or service will be exchanged.
+
+It can readily be seen that no other price could be maintained. For
+suppose the price to be less than O_m_, suppose it to be O_k_, then,
+at this price, ON (or _kq_) will be the amount supplied, and _kr_ the
+amount demanded. The demand will thus exceed the supply, and the
+price will tend to rise, i.e. to move upwards towards O_m_. Similarly
+if we suppose the price to be O_l_, which is larger than O_m_, the
+supply (_l_R) will exceed the demand (_l_Q) and the price will fall
+downwards towards O_m_. Thus, again, we have deduced Law III from Laws
+I and II with the form and precision of a proposition in Euclid. Now,
+when once the eye has become familiar with this diagram, it ought to
+be impossible for the mind to lose even momentarily its grip on the
+fact that demand and supply are both dependent upon price. For these
+curves do not represent any particular amounts; they represent a
+series of _relations_ between amount and price; if the price is QN the
+amount demanded is ON, and so forth. The terms demand and supply in
+the sense, in which I have been using them, of the respective amounts
+demanded and supplied are, indeed, strictly meaningless without
+reference to some particular price. The reference may sometimes be
+implicit; but, whenever there is a chance of ambiguity, it should be
+explicitly made.
+
+
+§3. _Ambiguities of the Expressions, "Increase in Demand," etc_. It is
+the more important to be precise upon this point, in that there is a
+further possible confusion which we have now to consider. Demand and
+supply, as we have seen, are dependent upon price; but equally clearly
+they are dependent upon other things as well. Demand depends upon the
+needs, tastes and habits of the people, as well as upon the length of
+their purse; supply depends upon such things as the cost of production
+in the case of commodities. None of these things are constant
+factors, all of them are liable to change, and it may well happen that
+we shall want to consider in some concrete problem the probable
+consequences of such a change. Now the most usual and natural way of
+describing such changes in the medium of words is to use the
+expression "increase" or "decrease in demand," and "increase" or
+"decrease in supply," the same expressions, which we employed before
+to describe the consequences of a change in price. This identity of
+language conceals a fundamental distinction between the phenomena
+described; and to make this distinction plain we cannot do better than
+revert to our diagrammatic presentation of the laws.
+
+Figure 2:
+
+    Y |
+      |
+   _d_|
+      |.
+      | .
+      |  .                                         _s'_
+      |   .                                       .
+    D |    .                                     .
+      |**   .                                   .    * S'
+      | **   ..                                .    *
+      |  **    .                               .   *
+      |   **    .                            ..   *
+      |     *    ..                         .    **
+      |      **    .                       .    **
+      |       **    ..                   ..    **
+      |         *     .                 .     *
+      |          **    .               .     *
+      |           **    ..            .    **
+      |             **    ..        ..    **
+      |              **     ..    ..    **
+      |                **     . ..    **
+      |                 ** p' ..     **
+      |                   **..  .. **
+      |                  ..|**p  **._p_
+      |                ..  | **** | ..
+      |             ...    |**|** |   ..
+      |           ..      *|  |  *|     ..
+      |      .....     *** |  |   |**     .
+   _s_|......       ***    |  |   |  **    ..
+      |          ***       |  |   |    **    ...
+      |     *****          |  |   |      **     ...
+    S |*****               |  |   |        **      ..
+      |                    |  |   |          ***     .._d'_
+      |                    |  |   |            ***
+      |                    |  |   |               **
+      |                    |  |   |                 **D'
+      |                    |  |   |
+      |                    |  |   |
+     0+---------------------------------------------------------
+                          M'  M  _m_
+                            Figure 2
+
+
+
+In Fig. 2 we start as before with our demand curve, and supply curve,
+cutting one another at the point P. We then suppose that some
+alteration takes place in the conditions of demand; there has been a
+growth in the general taste for the commodity or service, and the
+demand, as we say, has increased accordingly. How is this fact to be
+represented in the diagram? Plainly not by taking another point on
+the curve, DD', at a further distance from OY. For this would merely
+indicate the larger amount that would be taken, if the conditions of
+demand had remained unaltered but the sellers had reduced their
+prices. The correct way of representing the change we have supposed is
+to construct a new demand curve (in the figure, the dotted curve
+_dd'_), lying at every point above the old demand curve. For this
+indicates that larger quantities will be purchased at the old prices,
+which is exactly what we want to represent. Similiarly if we wish to
+represent a change in the conditions of supply, such as might result,
+in the case of a commodity, from a tax imposed on its production, we
+must draw a new supply curve, _ss'_, which in the case supposed, must
+lie everywhere above the old supply curve. On the other hand, the
+decrease or increase in demand or supply, _resulting_ from a change in
+price, is represented simply by a shifting of the equilibrium from one
+point to another on the same curve. The striking pictorial contrast
+between a movement from one curve to another, and a movement along the
+same curve should help to make vivid to our minds the fundamental
+distinction between a change in the _conditions_ of demand, arising
+from new tastes, enhanced purchasing power, etc.; and a mere change in
+the amount purchased resulting from an alteration in the price which
+the sellers ask. Words, as this necessarily cumbrous sentence shows,
+are a clumsy instrument for the expression of abstract relations; it
+is not very easy to see which words in a sentence are the significant,
+commanding ones, and which are performing, as it were, ordinary
+routine duties. A diagram is not exposed to similar ambiguities of
+emphasis.
+
+The particular distinction, to which attention has been called, is
+important. The reader who has grasped it clearly will be able to
+perceive many instances of the confusion arising out of its neglect in
+the ordinary discussions of economic questions which take place in the
+press and on the platform. It is not uncommon, for instance, for an
+argument to run something like this: "The effect of a tax on this
+commodity might seem at first sight to be an advance in price. But an
+advance in price will diminish the demand; and a reduced demand will
+send the price down again. It is not certain, therefore, after all,
+that the tax will really raise the price." A glance at the diagram
+will keep us out of such a bog of sophistry and muddle. For if we
+suppose the amount of the tax per unit of the commodity to be
+represented by S_s_, the curve _ss'_ (drawn, as it is, roughly
+parallel to SS') will represent the new conditions of supply after the
+tax has been imposed. The new position of equilibrium will be given by
+the point P', where _ss'_ cuts DD', the demand curve. Now P' lies to
+the left of P the old point of equilibrium; hence, since DD' _must_
+slope downwards from left to right, it is clear that, if, as it is
+fair here to assume, the _conditions_ of demand have remained
+unaltered, the new price P'M', must be greater than the old.
+
+
+§4. _Reactions of Changes in Demand and Supply on Price_. Having now
+made clear the meaning that must be attached to the terms, let us
+consider the question which naturally arises, whether we can lay down
+any general propositions or laws as to the effect upon price, of an
+increase or decrease in demand or supply. Another glance at the
+diagram suggests that we can. An increase in demand is represented in
+Fig. 2 by a movement from DD' to _dd'_, which cuts the supply curve,
+SS', at _p_, to the right of P. Since the supply curve (drawn, as it
+is best to draw it, to represent the amount which will be supplied in
+response to a given price) must always slope upwards from left to
+right, the new price, _pm_, must be greater than the old, PM.
+Conversely a decrease in demand is represented by a movement from
+_dd'_ to DD', and the new price is seen to be less than the old. We
+have already seen that a decrease in supply, which is represented by a
+movement from SS' to _ss'_ results in a higher price; and it is the
+obvious converse that an increase in supply will have the opposite
+effect. It would seem then that we might lay down quite generally that
+an increase in demand or a decrease in supply will raise the price
+while a decrease in demand or an increase in supply will lower it.
+
+But here it is necessary to be cautious. All conclusions as to the
+effects of causes are necessarily based, implicitly, if not
+explicitly, upon the assumption "other things being equal." This
+method of reasoning, which some people appear to find so irritating in
+the economic sphere, and as they say so "theoretical" and "unreal," is
+one which they adopt readily enough in every other department of
+life. No one, for instance, objects to the statement that the sun,
+when it comes out, makes a room warmer, although it may very well
+happen, if a fire is dying at the same time, that the room grows
+colder in point of fact. For in our general statement we assume
+implicitly that "other things" such as fires, are unchanged. But
+assumptions of this kind are legitimate only when there is no reason
+to suppose that the cause, the effects of which are being studied,
+will itself produce a change in the "other things." If (as I have
+often been told; I really do not know if it is true) the rays of the
+sun help to put a fire out, the statement made above would be the
+better for some qualification.
+
+Now we can only say that an increase in demand raises price if we
+assume the conditions of supply (as represented by the supply curve)
+to remain unchanged. But in practice, an increase in demand may cause
+a change in the _conditions_ of supply. An increase, for instance, in
+the demand for a commodity may give rise to a revolution in the
+methods of production, to the introduction of labor-saving machinery
+and so forth, which will eventually result in the commodity being
+produced more cheaply. It will certainly take a considerable time
+before reactions of this kind can exert an appreciable influence; and
+we can, therefore, feel reasonably sure that over a short period an
+increase in demand will raise the price. But we cannot be sure what
+the ultimate effect will be. A similar alteration in the condition of
+demand is less likely to result from an increase or decrease in
+supply; but it may conceivably occur. We must, therefore, be careful
+to qualify any general propositions which we lay down in this
+connection, by explicit reference to a short period of time. We can
+add the following to our body of laws:--
+
+LAW IV. An increase in demand, or a decrease in supply will tend to
+   raise the price for a short period at least. Conversely a decrease
+   in demand, or an increase in supply will tend to lower the price
+   for a short period at least.
+
+
+This law, like the others, applies to commodities, services, capital,
+to anything which can be said, literally, or by analogy, to have a
+price. "A short period" is, however, a vague expression and, since
+precision is the hallmark of an important law, we must accord to this
+one a status inferior to that which the preceding three can rightly
+claim.
+
+
+§5. _Some paradoxical reactions of price changes on supply_. Let us
+turn, though, once more to these earlier laws, and with a heightened
+critical sense let us submit them to the test of the whole gamut of
+our experience, and see if in any of them we can find the smallest
+flaw. The first of them will pass through the ordeal--let each reader
+prove it for himself--unscathed. The second will emerge with a few
+hairs, as it were, singed. It tells us, for instance, that a rise in
+price will tend to augment the supply. Now there are some things the
+supply of which cannot possibly be augmented; these are the capital
+resources of nature, of which land is the most important for our
+present purpose. Land is bought and sold, it commands a price. In a
+certain sense, it may be said to be possible to increase the supply of
+land, in response to a rise in price, by drainage and reclamation
+schemes; and it will certainly happen that a rise in the price which
+land can command for any particular purpose will increase the amount
+which is devoted to that purpose. But, speaking broadly, the supply
+of land available for purposes of every kind is a fixed unvarying
+factor, with an inertia which the cajolery of price-changes is
+powerless to disturb. This is a most important fact, and it gives rise
+to some peculiar features of the price and rent of land, which we
+shall have to consider later as a separate problem. It constitutes a
+limiting case rather than an exception to the general law. But we have
+not yet done with the reactions of price upon supply. In the case of
+capital, the nature of those reactions has been much discussed as a
+highly controversial question. That a rise in the rate of interest
+will cause some people to save more than before, is generally
+admitted; but it is pointed out that the effect upon others may be the
+exact opposite, because it means that they do not need to save so much
+to acquire the same future annual income. It is unwise to say
+dogmatically that the former tendency outweighs the latter; though
+upon the whole it seems highly probable that it does. We cannot,
+therefore, in this case feel confident that a change in price will
+react upon supply in the manner which our law indicates. Similarly it
+is possible to argue that a rise in the general level of real wages
+may reduce the supply of labor, even, or some might say particularly,
+if the term is used to denote not the number of workpeople, but the
+quantity of work done. For there may be a tendency for workpeople,
+when more comfortably off, to work less regularly or less hard. Here
+again we cannot be sure. In none of these cases, however, including
+that of land, is there any reason to doubt that a rise in price will
+diminish _demand_, or conversely that a fall will increase it. Since,
+therefore, in the reasoning by which we deduced the third law, the
+conclusion will hold good, even if the effects of price-changes on
+supply are of the above paradoxical kind, provided that they do not
+continually outweigh the effects upon demand, there is no reason to
+cast doubt on the solidity of Law III, which, indeed, as we suggested
+before, commends itself directly to experience. But Law II seems now,
+perhaps, somewhat the worse for wear.
+
+The damage, however, is not considerable. For in each case the
+uncertainty arises only when we are dealing with one of the factors of
+production, land, labor or capital, _regarded as a whole_. If we are
+dealing with the capital available for a particular industry, a rise
+in the rate of profit in that industry will certainly increase the
+supply of capital available there; for it will tend to attract savings
+that might otherwise have been employed elsewhere. We can even be
+fairly sure that an increase in the general rate of interest
+prevailing in any particular country will increase the total supply of
+capital available for the businesses of that country, since capital
+has in modern times acquired a considerable migratory power. In the
+case of labor, we cannot go so far as this; but here, too, there is no
+doubt that an increase in the remuneration offered in any particular
+occupation will attract an increased labor supply (always supposing,
+of course, that "other things are equal"). No similar difficulty
+arises for land, labor or capital, as regards the effect of
+price-changes on demand; while for ordinary commodities there is no
+such difficulty on the side either of demand or of supply. Hence the
+only qualification which the strictest accuracy would require us in
+this connection to attach to our statement of Law II is the
+postscript:--
+
+
+   "Except that, in the case of land, the aggregate supply is
+   unalterable; while in the case of capital or labor we cannot be
+   sure how price-changes will affect the aggregate supply."
+
+
+Much significance attaches to these exceptions, as later will appear.
+
+
+§6. _The Disturbances of Monetary Changes_. But let us still keep a
+critical eye on Law II, and submit it to another flashlight from our
+practical experience. The recent world war made us all acutely aware
+of a remarkable rise in the price of almost everything, which yet did
+not seem to diminish appreciably the demand. The explanation of this
+paradox is not difficult to find. There was an immense increase in the
+volume of nominal purchasing power, due to a complex set of causes, of
+which "currency inflation" may be taken as the symbol. Now perhaps we
+are entitled to assume the absence of such currency changes as part of
+the "other things being equal" which is always understood as
+implied. But it is rash to take this particular assumption for
+granted, more especially in these days. Already people are too apt to
+speak as though the trade depression (which as these pages are written
+holds us in its grip) cannot pass away until pre-war prices are
+restored, ignoring altogether the great and probably permanent
+increase in nominal purchasing power which the war has left behind
+it. It would be safer, therefore, to add explicitly to Law II the
+reservation, "Assuming that there is no change in the general volume
+of purchasing power."
+
+Monetary and allied questions will form the subject of the second
+volume of this series. It must not be supposed that our general laws
+have no bearing on them. On the contrary, Law I, which all this time
+has remained serene and undisturbed by the occasional discomfitures of
+Law II, is the gateway through which all questions of currency,
+banking and the foreign exchanges should be approached. It is well to
+note, as an inexorable corollary of Law I, that prices can rise _only_
+if demand exceeds supply, and fall _only_ if supply exceeds demand;
+and hence that it is only through the agency of changes in the demand
+for and supply of commodities and services that an inflation or
+deflation of the currency can influence the price level. Further,
+since a condition of things in which supply generally exceeds demand
+spells what we know and fear as a trade depression, it may be well to
+note at once that falling prices and unemployment are inseparable
+bedfellows. For we are far too apt to shut our eyes to these
+unpleasant truths. But we cannot pursue them further here; and in the
+remainder of this volume we shall not be concerned (except, perhaps,
+incidentally) with questions affecting the general level of prices or
+of purchasing power; but rather with the relation which the price of
+one commodity bears to that of another, with the rate of interest
+(which being a rate per cent is not essentially dependent on the price
+level), with "real" wages (as distinct from money wages) and the like.
+
+
+§7. _The Trade Cycle_. But our reference to trade depressions suggests
+a final comment on Law II. One small qualification was embodied in our
+original statement of it, namely the words "sooner or later." A rise
+in price may not check the demand immediately (even if the printing
+presses are standing idle in the Treasuries); it may actually
+stimulate it for a time. For people may fear that the price will rise
+further still, and hasten to buy what they _must_ buy before very
+long. Sellers may share the same opinion, and be reluctant on their
+side to part. When prices are falling the roles are reversed, and we
+are likely to see the sellers tumbling over one another in a frantic
+eagerness to sell, the buyers wary and aloof. Sooner or later, indeed,
+these tendencies must dissolve and disappear; but they may persist for
+a longer period than might seem probable at first. For the raw
+material of one trade is, as we say, the finished product of
+another. The demand for one thing gives rise to a demand for other
+things, for the labor with which to make them, and so on in an
+expanding circle. A sympathy, subtle and intense, unites the business
+world, and a wave of depression or animation arising in any quarter
+may spread itself far and wide, heightened by the gusts of human hope
+and fear, and continue long before its influence is spent.
+
+Here we are upon the threshold of one of the most striking and
+formidable of economic facts, the regular alternation of periods of
+good and bad trade, each very widespread, if not world-wide, in its
+range, each comprising certain regular phases of acceleration and
+decay, and each infallibly yielding sooner or later to the other. The
+details of these phenomena are highly complex, some of them obscure;
+an immense literature has already been devoted to the subject, yet its
+systematic study is hardly more than begun. The account given in the
+preceding paragraph is incomplete and meagre. It is inserted here in
+the hope that it will impress the reader with a sense both of the fact
+of these alternations and of the deeply rooted nature of the causes
+from which they spring. They take a heavy toll of human happiness and
+wealth; and there is no object that more urgently calls for concerted
+human effort than that of mitigating them, and of alleviating the
+misery which they bring in their train. Still better, of eradicating
+them if that is possible; but let none suppose that it can be lightly
+done. Meanwhile, let us always remember that they form the atmosphere
+and medium in which the enduring tendencies of the business world must
+work themselves out. It is often convenient to speak of "normal
+conditions" in this trade or that; but hardly ever can it be truly
+said of a particular moment that conditions are normal. The normal is
+rather a mean level about which oscillations to and fro, round and
+about, are constantly taking place, but which itself is reached only
+by accident, if at all. Whenever we say that some new factor should in
+the long run lower the price of this or that commodity or service, the
+picture which these words should convey to our mind is one of the
+price rising less on times of boom, and falling more in times of
+depression than is the case with other things. And if ever our faith
+in some honored economic law is shaken by the apparent ease with
+which, perhaps, in times of active trade, sellers are able to advance
+their prices to whatever figure (so it almost seems) they choose to
+name, let us rally our sense of economic rhythm, and reserve our
+judgment until the trade cycle has run its course.
+
+
+
+CHAPTER III
+
+UTILITY AND THE MARGIN OF CONSUMPTION
+
+
+§1. _The Forces behind Supply and Demand_. The laws enunciated in the
+preceding chapter constitute the framework and skeleton of all
+economic analysis; but they do not carry us very far. It is only
+through the agency of these laws that any influence can affect the
+price of anything: but what influences may so affect it is a question
+which we have still to consider.
+
+Let us begin with ordinary commodities and ask ourselves, in the light
+of experience and common sense, upon what factors their price seems
+mainly to depend? Two factors spring to mind at once; their cost of
+production and their usefulness. As regards the former, the case seems
+clear enough. We may indeed sometimes grumble that the price of this
+or that commodity is unconscionably high in comparison with its cost;
+but this only goes to show that we conceive a relation between price
+and cost as the normal, governing rule. If one commodity cost only a
+half as much to produce as another, we should think that something had
+gone very wrong indeed, if the former commodity were sold for the
+higher price. But, when we turn to the usefulness of commodities, the
+case is not so clear. Usefulness has some connection with price, so
+much is certain; for an entirely useless thing, fit only for the
+dust-bin (and known to be such, it may be well to add) will fetch no
+price at all, however costly it may be to produce. But it is not easy
+to express the connection in quantitative terms. It seems reasonable
+enough to say that the prices of commodities are roughly proportionate
+to their costs of production. But directly we contemplate saying a
+similar thing of their usefulness, we are pulled up short. As we look
+round the world, and enumerate the commodities which by common consent
+are the most useful, salt, water, bread, and so forth, the striking
+paradox presents itself that these are among the cheapest of all
+commodities; far cheaper than champagne, motor-cars or ball-dresses,
+which we could very well get on without. As things are, of course, a
+ball-dress, or a motor-car costs more to produce than a loaf of bread
+or a packet of salt; and the common-sense explanation of the paradox
+seems, therefore, to be that the cost of production is a more weighty
+influence than the usefulness, or utility, as we will henceforth call
+it (so as to include the satisfaction we derive from not strictly
+useful things). We are thus tempted to conclude that, provided a
+commodity possesses some utility, its price will be determined by the
+cost of production, the degree of utility being unimportant. This was
+exactly how the position was gummed up for many years in systematic
+treatises upon Political Economy; and it was not until fully half a
+century after the _Wealth of Nations_ that a discovery was made which
+threw a fresh light on the whole matter.
+
+First of all, let it be clearly observed how very unsatisfactory is
+the above account. In Chapter II where we were treading surely, with a
+sense of solid ground beneath us, we drew no such invidious
+distinction between supply and demand. They seemed then to possess an
+equal status. But cost of production is the chief factor which, in the
+case of commodities, ultimately determines the conditions of
+supply. Utility, similarly, is the chief factor which ultimately
+determines the conditions of demand. Must not then the symmetrical
+relations between demand and supply be reflected in a corresponding
+symmetry between the utility and the costs which underlie them? Demand
+springs obviously from utility; the only motive for buying anything is
+that it will serve some real or fancied use. Can we then accord to
+demand so dignified and to utility so subordinate a place? There is
+here an inconsistency which we must somehow reconcile. It will not
+serve as a solution to distinguish between different periods of time,
+and to say, as economists used to say not very long ago, that price is
+governed over a short period by demand and supply, but in the long run
+by the cost of production. This still leaves our sense of symmetry
+unsatisfied. Moreover, the conception of cost of production, when we
+consider it as ruling over a long period, frequently seems to lose any
+precision, as an independent factor, which it may otherwise
+possess. Motor-cars, we have agreed, are more costly to produce than
+loaves of bread; but, as we know well, the cost of producing
+motor-cars varies enormously, accordingly as they are produced on a
+small or a large scale. By the methods of mass production they can be
+turned out at a relatively low cost per car. But this requires that
+they should be purchased in large numbers and this in turn throws us
+back to the demand for motor-cars, and plainly enough, to people's
+judgment as to their utility. In some cases, the opposite phenomenon
+occurs. In the case of British coal, for instance, the average cost of
+production would be much lower than it is if the output were reduced
+to a fraction of its present volume, and if only the richer seams of
+the more fertile mines were worked. Once again, therefore it is
+difficult to measure the cost of production until we know the
+magnitude of the demand, which in a manner, which we have still to
+elucidate, clearly depends upon the utility.
+
+If we take the problem of joint products, the conception of cost of
+production fails us still more conspicuously. For what is the cost of
+producing wool, or the cost of producing mutton? We can speak of the
+cost of rearing sheep: but it is hardly possible to allot this cost,
+except quite arbitrarily, between the two products. How, then, can we
+explain the separate prices of these things by reference to cost
+alone? Instances of joint production are becoming so common in the
+modern world, or at least, with the growing attention to the
+utilization of by-products, are assuming so much more heightened a
+significance, that an explanation of price, which does not apply to
+them, is a very feeble one indeed.
+
+
+§2. _The Law of Diminishing Utility_. Let us turn back, then, to the
+factor of utility, and see if we cannot put on a more satisfactory
+basis the relation between utility and price. The clue to the puzzle
+is to be found in a brief reflection on the implications of the second
+general law propounded in Chapter II. A rise in price, it was there
+stated, will sooner or later diminish the demand. This was asserted as
+a matter of fact, observed from and confirmed by experience. But what
+does it signify? To what causes is this familiar fact to be
+attributed? The first stage of the answer is very ample. The many
+individuals, whose purchases make up the demand for the commodity,
+will buy smaller quantities now that the price is higher. Possibly
+some of them may cease to buy it altogether; but as a rule it would be
+reasonable to suppose that most people continue to buy a certain
+amount though a smaller amount than hitherto. Let us turn our
+attention, then, to the individual purchaser, and ask ourselves why he
+(or let us say she) acts in the manner indicated. The obvious answer
+is that the more she already has of anything, the less urgently does
+she require a little more of it. If she buys 6 pounds of sugar every
+week when the price is 7 cents a pound, but only 5 pounds when the
+price is 8 cents, she shows by her action that she does not consider
+that the additional utility she will derive from buying 6 pounds a
+week rather then 5 pounds is worth as much as 8 cents. But she shows
+at the same time that she thinks it worth 7 cents. For, when the price
+is 7 cents, no one compels her to buy that sixth pound. She could
+stop, if she chose, at five; and it may serve to make the point quite
+plain if we suppose her actually to hesitate before she buys the
+sixth. She has hitherto, let us say, been buying 5 pounds a week at 8
+cents. To-day she enters the shop and finds the price is down to 7
+cents. She asks for her customary 5 pounds; then she pauses, and a
+minute later turns her order into six. What are the alternatives which
+she has been weighing one against the other in that momentary pause?
+Not the utility of the whole 6 pounds of sugar against the total price
+of 42 cents. For she has already ordered the first 5 pounds; and the
+decision to buy the sixth is taken independently and subsequently. She
+has been sizing up the _increment_ of utility which a sixth pound
+would yield, and she decides that this is worth the expenditure of a
+further 7 cents. Again, when the price was 8 cents she need not have
+bought as many as 5 pounds. She could have stopped at 4 had she
+chosen, and the fact that she did buy 5 pounds shows that the
+increment of utility derived from buying a fifth pound, when she might
+be said already to have 4, was worth at least 8 cents in her judgment.
+
+This trite illustration enables us to lay down two important laws
+relating to utility. To state them shortly, it is convenient to employ
+one or two technical terms, which, unlike every term employed
+hitherto, are not very commonly used in their present sense in
+everyday life. Their adoption is desirable not merely for the sake of
+convenience, but because they help to stamp clearly on the mind a most
+illuminating conception, that of the "margin," which supplies the clue
+to many complicated problems. The last pound of sugar which the
+housewife purchased, the fifth pound when the price was 8 cents, or
+the sixth pound when the price was 7 cents, we call the "marginal"
+pound of sugar. And the increment of utility which she derives from
+buying this marginal pound we call the "marginal utility" of sugar to
+her. We are thus able to state the fact that the more a person has of
+anything the less urgently does he require a little more of it, in the
+following formal terms:--
+
+LAW V. The marginal utility of a commodity to anyone diminishes with
+   every increase in the amount he has.
+
+The total utility will, of course, increase with an increase in the
+amount, but at a diminishing rate. This law is usually called The Law
+of Diminishing Utility.
+
+
+§3. _Relation between Price and Marginal Utility_ But this is not
+all. We are now in a position to perceive the true relation between
+utility and price. The relation is one which exists not between price
+and total utility, but between price and marginal utility. If we know
+only that a housewife will buy weekly 5 pounds of sugar at 8 cents per
+pound, but 6 pounds at 7 cents, we know nothing of the total utility
+of sugar to her. We do not know how much she might be prepared to pay
+rather than go without 3 pounds, 2 pounds, or any sugar at all. But we
+do know that, when she buys 6 pounds, the marginal utility of sugar is
+in her judgment worth something which does not differ greatly from the
+price. We can, therefore, say in general terms that the price of a
+commodity measures approximately its marginal utility to the
+purchaser.
+
+This statement is perfectly consistent with the paradox noted above
+that the most useful commodities such as bread, salt and water are
+very cheap. For when we say that these commodities are supremely
+useful, we mean only that their total utility is very great; that,
+rather than do without them altogether, we would offer for them a
+large proportion of our means. But we would not value very highly a
+small addition to the bread, water or salt that we habitually consume;
+nor would most of us feel it as a very serious deprivation if our
+consumption of these things were curtailed by a small percentage. In
+other words, their _marginal_ utilities are small, and it is only the
+_marginal_ utility that has any relation to price.
+
+
+§4. _The Marginal Purchaser_. A possible objection to the preceding
+argument deserves to be considered. Some readers may find the picture
+I have drawn of the hesitating housewife entirely unconvincing. They
+may declare that her mind does not work at all in the manner I have
+indicated. She will have formed certain habits in regard to her weekly
+purchases of sugar, which are connected very vaguely, if at all, with
+any conscious processes of thought. She will buy so many pounds of
+sugar weekly without troubling her head over the specific utility of
+the last pound she buys. When the price falls she may, indeed, buy
+more; but it will not be because she separates out and considers by
+itself the extra utility of an additional pound. She may buy more,
+because she has formed the habit of spending so much money on sugar;
+and now that the price has fallen, the same amount of money will
+enable her to buy more pounds. Or, perhaps, she may be moved by
+instinctive and irresistible attraction to buy more of a thing when it
+is cheaper, similar to that which inspires so many people to face with
+ardor the horrors of a bargain sale. In any case the fine calculations
+I have imagined convey a fantastic picture of her state of mind. And
+how much more fantastic, the critic may continue, of the state of mind
+in which things of a different kind are bought by less careful
+people. When, for instance, one of us happy-go-lucky males (more
+liberally supplied, perhaps, than the housewife with the necessary
+cash), decides to buy a motor bicycle, or to replenish his stock of
+collars or ties, does the above analysis bear any resemblance to the
+actual facts? In the case of the motor bicycle, the purchaser may,
+indeed, weigh the price fairly carefully against the pleasure and
+benefit, though contrariwise he may be a rich enough gentleman hardly
+to bother about this. But, one motor bicycle is as much as he is at
+all likely to buy, and what becomes, then, of the distinction between
+total and marginal utility? In the case of the ties and collars, the
+vagueness of many of us about the price will be extreme. We probably
+have been uneasily conscious for some time of an inconvenient shortage
+of these troublesome articles and eventually will go off (or perhaps
+will be sent off with ignominy) to the nearest suitable shop to make
+good the deficiency. How can we speak here with a straight face of the
+relation between marginal utility and price?
+
+These are very pertinent criticisms; but they do not make nearly as
+much nonsense of the notion of marginal utility as may seem at
+first. The last point, indeed, serves rather to give it a fresh aspect
+of much significance. Those of us who do not bother about the price we
+pay for our ties and collars owe a debt of gratitude, of which we are
+insufficiently conscious, to the more careful people who do; as well
+as to the custom which prevails in shops in Western countries (as
+distinct from the bazaars of the East) of charging as a rule a uniform
+price to all customers. If _we_ were the only people who bought these
+things, an enterprising salesman would be able to charge us very much
+what he chose. He could put up his price, and we would hardly be aware
+of it. And, as by lowering his price he could not tempt us to buy any
+more, price reductions would be few and far between. But fortunately
+there are always some people who do know what the price is, even when
+they are buying collars and ties; and who will adjust the amount they
+buy in accordance with the price. It is these worthy people who make
+the laws of demand work out as we well know they do. It is they who
+will curtail their consumption if the price has fallen and it is they
+who constitute the seller's problem, and help to keep down prices for
+the rest of us. The rest of us--it is well to be quite blunt about
+it--simply do not count in this connection. We have no cause then to
+plume ourselves that we have disproved the truth of economic laws when
+we declare that we seldom weigh the utility of anything against its
+price. All that this shows is that our actions are too insignificant
+to be described by economic laws since they exert no appreciable
+influence on the price of anything. And this in turn shows the extreme
+importance of grasping clearly the conception of the margin. Just as
+it is the marginal purchase, so it is the marginal purchaser who
+matters. It is the man who, before he buys a motor bicycle, weighs the
+matter up very carefully indeed and only just decides to buy it, whose
+demand affects the price of motor bicycles. It is the utility which
+_he_ derives that constitutes the marginal utility, which is roughly
+measured by the price.
+
+As to the housewife, I am not prepared to concede that my picture is
+in essentials very fanciful. She may be a creature of habits and
+instincts like the rest of us, but most habits and instincts affecting
+household expenditure are based ultimately on _some_ calculation, if
+not one's own, and reason has a way of paying, as it were, periodic
+visits of inspection, and pulling our habits and instincts into line,
+if they have gone far astray. I am not satisfied that the housewife
+does not envisage the utility of a sixth pound of sugar as something
+distinct from the utility of the other five; she may buy it, for
+example, with the definite object of giving the children some sugar on
+their bread, and she may have a very clear idea as to the price which
+sugar must not exceed before she will do any such thing. Possibly I
+may exaggerate. I have the profound respect of the incorrigibly
+wasteful male for the care and skill she displays in laying out her
+money to the best advantage.
+
+
+§5. _The Business Man as Purchaser_. But if the reader still finds the
+picture unconvincing, let us shift the scene from domestic economy to
+commerce, and substitute for the careful housewife an enterprising
+business man. Now, as anyone who has a business man for his father
+will have often heard him say, the vagueness and caprice which
+characterize our personal expenditure would be quite intolerable in
+business affairs. There you must weigh and measure with the utmost
+possible precision. You must be for ever watching the several channels
+of your expenditure, careful to see that in none does the stream rise
+higher than the level at which further expenditure ceases to be
+profitable. You will not even engage typists or install a telephone in
+your office without weighing up fairly carefully the number of typists
+or the number of switches that it is worth your while to have. And in
+deciding whether to employ say, five typists, or six, you will not
+vaguely lump the services of the whole six typists together, and
+consider whether as a whole they are worth to you the wages you must
+give them. You will, in the most direct and literal manner, weigh up
+the _additional_ benefit you would derive from a sixth typist, and if
+that does not seem to you equivalent to her wage, you will not engage
+her, however essential it may be to you to have one or two typists in
+your office. If on the other hand, the utility of having a sixth
+typist seems to you worth much more than her pay, the chances are that
+you will be well advised to consider the employment of a seventh. And
+so, where you stop employing further typists, the utility to you of
+the last one, of the "marginal typist" as it were, is unlikely to
+differ greatly from her pay.
+
+Now this is not a fancy picture of some remote abstraction called an
+"economic man." Allowing for the over-emphasis which is necessary to
+drive home the central point, it is a bald account of the aims and
+methods of the actual man of business. To ascertain the margin of
+profitable expenditure in each direction, to go thus and no further,
+is the very essence of the business spirit, as the business man
+himself conceives it. When he condemns the extravagance of Government
+departments, it is their lack of just this marginal sense that he
+chiefly has in mind. "The lore of nicely calculated less or more" may
+be rejected by High Heaven and Whitehall, but no one can afford to
+despise it in the business world.
+
+The transition from household to business expenditure involves an
+extended use of the word utility, which is worth noting. Commodities
+like bread, sugar, or privately owned motor-cars are sometimes called
+"consumers' goods" in contrast to "producers' goods," which comprise
+things such as raw materials, machinery, the services of typists and
+so forth, which are bought by business men for business purposes. The
+line of division between the two classes is not a sharp one, and we
+need not trouble with fine-spun questions as to whether a particular
+commodity should in certain circumstances be included under the one
+head or the other. But, broadly speaking, things of the former type
+yield a direct utility; they contribute directly to the satisfaction
+of our pleasures or our wants. Things of the latter type yield rather
+an indirect utility. Their utility to the business man who buys them
+lies in the assistance they give him in making something else from
+which he will derive a profit. The utility of these things is
+therefore said to be _derived_ from that of the consumers' goods or
+services to which they ultimately contribute. This conception of
+derived utility leads to certain complications which we shall have to
+notice later.
+
+
+§6. _The Diminishing Utility of Money_. But one important point must
+be emphasized in this chapter. The utility which a business man
+derives from the things which he buys for business purposes is the
+extra receipts which he obtains thereby. Derived utility, in other
+words, is expressed in terms of money, and the idea of its relation to
+price presents no difficulty. But the utility of things which are
+bought for personal consumption means the _satisfaction_ which they
+yield, and this is clearly not a thing which is commensurable with
+money. When, therefore, it is said that the prices measure their
+respective marginal utilities, what exactly is meant? What was it that
+the argument of §3 went to show? That the utility of the marginal
+pound of sugar would seem to the housewife just worth the price that
+she must pay for it; in other words, that it would be roughly equal to
+the utility she could obtain by spending the money in other ways. The
+respective marginal utilities which _she_ obtains from the different
+things she buys will thus be proportionate to their prices. But if she
+were to receive a legacy which gave her a much larger income to spend,
+she might buy larger quantities of practically every commodity; and,
+though she would obtain a greater total utility thereby, the marginal
+utility she would obtain in each direction would be smaller, in
+accordance with the law of diminishing utility. The prices might not
+have changed; the respective marginal utilities to her of the
+different things would again be proportionate to their prices, but
+they would constitute a smaller satisfaction than before.
+
+Thus we can only say that the prices of commodities will be
+proportionate to their real marginal utilities, when we are
+considering the different purchases of one and the same
+individual. The amounts of money which different people are prepared
+to pay for different consumers' goods are no reliable indication of
+the real utilities, the amounts of human satisfaction which they
+yield. Here we must take account not only of varying needs and
+capacities for enjoyment, but of the very unequal manner in which
+purchasing power is distributed among the people. The cigars which a
+rich man may buy will yield him an immeasurably smaller satisfaction
+than that which a poor family could obtain by spending the same amount
+of money on boots, or clothes or milk. When, therefore, we compare
+commodities which are bought by essentially different consuming
+publics, their respective prices may bear no close relation to their
+_real_ utility, whether marginal or otherwise. Thus the law of
+diminishing utility applies to money or purchasing power, as well as
+to particular commodities. The more money a man has the less is the
+marginal utility which it yields him; and, where the marginal utility
+of money to a man is small, so also will be the real marginal utility
+he derives in each direction of his expenditure. The extreme
+inequality of the distribution of wealth gives immense importance to
+this consideration. Its practical implications will be discussed in
+Chapter V. Meanwhile, we may express the conclusions of the present
+chapter by the statement that the price of a commodity tends to equal
+its marginal utility, _as measured in terms of money_, i.e. relatively
+to the marginal utility of money to its purchaser.
+
+
+
+CHAPTER IV
+
+COST AND THE MARGIN OF PRODUCTION
+
+§1. _An Illustration from Coal_. We have already had occasion to note
+the symmetry which characterizes the relations of demand and supply to
+price. This symmetry was apparent throughout the argument of Chapter
+II, and it was a striking feature of the diagrams which we employed to
+illustrate the argument. We shall do well to cultivate a lively sense
+of this symmetry, for it will frequently save us from ignoring factors
+which have a vital bearing on the problems we are considering. We
+should never leave an important feature of demand without turning to
+see whether it has a counterpart on the supply side, though indeed we
+may not always find one. In the last chapter we examined the relation
+between utility and price, and found that the true relation was
+between the price and what we termed the marginal utility.
+Corresponding to utility on the demand side is cost of
+production on the supply side. The question should thus at once
+suggest itself--"Can we speak appropriately of the marginal cost of
+production, and will this serve to make clear the relation between
+cost and price?" To answer these questions, let us take one of the
+instances in which we found that price could not be explained
+satisfactorily by the bare phrase "cost of production."
+
+An important feature of the coal industry, which recent events have
+brought into sharp prominence, is the great diversity of conditions
+between different coalfields and different collieries. We speak of
+rich seams and poor seams, of fertile and unfertile mines, and we are
+aware that the costs of raising coal to the surface differ very widely
+in accordance with these diverse natural conditions. Nor must we
+confine our attention to the cost price at the pit-head. If we wish to
+speak of cost of production as a factor determining price, we must use
+the term in a broad sense to include the transport and other charges
+necessary to bring the coal to market.
+
+In this respect also one coalfield differs greatly from another. Some
+are well situated close to a large market, or within easy reach of the
+seaboard; others must incur very heavy transport charges to bring
+their coal to any considerable centre of consumption. These varying
+conditions lead, as we well know, to great variations in the financial
+prosperity of different colliery concerns. In Great Britain, under the
+abnormal conditions which prevailed during the war, and subsequently,
+these variations were so huge as to constitute a most formidable
+embarrassment and to contribute, more perhaps than any other single
+factor, to the unrest and instability by which the industry has been
+afflicted. But they are always with us, if usually upon a more modest
+scale.
+
+What, then, is the normal relation between price and cost in the case
+of coal? Should we direct our attention to the average costs over the
+whole industry, or the costs incurred by the richer and better
+situated mines, or, lastly, that of the poorer and worse situated?
+Now, as things are, it is clear enough that no concern will continue
+indefinitely producing at a loss. It may do so for a time, rather than
+close down altogether, hoping to recoup itself later when the market
+has taken a more favorable turn. But, in the long run, taking good
+years with bad, it must expect to obtain receipts sufficient not only
+to cover its necessary expenditure, but to provide also a reasonable
+profit on the capital employed. Of course, once the capital has been
+sunk and embodied in plant and buildings, which are of little use for
+any other purpose, a business may continue for many years, with a rate
+of profit far below what it had anticipated. But plant and buildings
+gradually wear out, and need to be replaced; the course of technical
+improvement calls continually for fresh capital outlay, which a
+business in a bad way is reluctant to undertake. The tendency,
+therefore, when profits rule low over a considerable period, is for
+the plant to fall gradually into disrepair and obsolescence, and
+finally for the business to disappear. We can thus include an
+ordinary rate of profit under the head of cost of production, and say
+with substantial accuracy that for no business can this cost for long
+exceed the price if the business is to continue to exist. If then the
+relatively poor and badly situated mines are to be worked, the price
+of coal, taking good years together with bad, must cover the costs at
+which these mines can produce. If the price rules lower than this,
+sooner or later they will close down, and we will be left with a
+smaller number of mines, among which great variations of conditions
+will still prevail. Once more, the price must cover the cost incurred
+by the least profitable of these remaining mines, unless their number
+is still further to be diminished. Thus we can conceive of a "margin
+of production" which will shift backwards to more profitable or
+forwards to include less profitable mines, according as the demand for
+coal contracts or expands. But, wherever this margin may be, there is
+no escaping the conclusion that it is the cost of production of the
+"marginal mines," of those that is to say which it is only just worth
+while to work, to which the price of coal will approximate.
+
+It follows that there is no real connection between price and cost of
+production throughout the industry as a whole. It follows incidentally
+that those concerns which can market their coal at an appreciably
+lower cost than the marginal concerns, are likely to reap more than an
+ordinary rate of profit, though royalties may absorb part of the
+excess.
+
+
+§2. _The Various Aspects of Marginal Cost_. This relation cuts much
+deeper than the particular system under which the mines are at present
+owned and worked. If, for instance, we supposed that the various
+mines were amalgamated together in a few giant concerns, each of which
+comprised some of the richer and some of the poorer mines, the
+preceding argument would need to be recast in form, but its substance
+would be unaffected. For though a great coal trust could in a sense
+_afford_ to sell at a price lower than the marginal cost, setting its
+losses on the poorer against its gains on the better pits, is it
+likely it would do so? Why should it dissipate its profits in this
+way? It is clearly more reasonable to suppose that it would close down
+the poorer pits (unless it could advance the price of coal), and
+thereby maintain its profits at a higher figure. If, indeed, the
+mines were nationalized the deliberate policy might be pursued of
+selling coal at a price which left the industry no more than
+self-supporting as a whole. Some coal might thus be sold at less than
+its cost price, and the selling price would conform roughly to the
+_average_ cost. But such a policy, though in special circumstances it
+might be justified, would represent a very dangerous principle, which
+could not be applied widely without the most serious results. Nothing
+could be more fatal to any enterprise, whether it be in the hands of
+an individual, a joint-stock company, a State department, or a Guild,
+than that the management should content themselves with results which
+in the lump seem satisfactory, and regard losses here or there with an
+indifferent eye. That way lies stagnation, waste, progressive
+inefficiency and ultimate disaster. To inquire searchingly into every
+nook and cranny of the business, to construct, as it were, for each
+part a separate balance-sheet of profit and loss, to expand in those
+directions where further development promises good results, and to
+curtail activity where loss is already evident, is the very essence of
+good management. Here, it will be observed, we are using language very
+similar to that in which we described the principles which govern a
+business man's expenditure. The resemblance is inevitable and
+significant, for we are dealing here with what is essentially another
+aspect of the same thing. The object is to secure that nowhere does
+expenditure fail to yield a commensurate return. This we express, when
+we consider a business in its aspect as a consumer, by saying that its
+consumption of anything will not be carried beyond the point at which
+the marginal utility exceeds the price it will have to pay. When we
+consider it as a producer, we say that its production of anything will
+not be carried beyond the point at which the marginal cost exceeds the
+price it will obtain.
+
+
+§3. _The Dangers of Ignoring the Margin_. This at least is the general
+rule. A business may decide deliberately to sell part of its output
+below cost, because, for instance, this will serve as an
+advertisement, bring it connections, and enable it to obtain a larger
+profit at a later date, or immediately on other portions of its
+sales. In so acting, it recognizes that the price obtained for a thing
+may be an inadequate measure of the real return it yields. In the same
+way, though for different reasons, a nationalized coal industry might
+conceivably be justified in selling some coal below cost price,
+because, let us say, it held that the price which the immediate
+purchasers were willing to pay was an inadequate measure of the
+utility of coal to the community as a whole. But in all such cases it
+is essential to be very clear as to what exactly you are doing; so
+that you may be at least moderately clear as to whether the policy is
+well advised. It may be sound enough to lose on the swings and make
+good this loss on the roundabouts, but only if your loss on the swings
+_helps_ you to a larger profit on the roundabouts. If you would get
+the same return on the roundabouts in any case, it would be better to
+cut the swings out altogether. So, if you are directing the policy of
+a nationalized coal industry, and decide to make a loss on a portion
+of your sales, you will need to know that the indirect benefit which
+the community will derive from this particular part of your coal
+output is worth the loss which you incur. You will certainly come to
+grief, if you pursue a vague ideal of lumping all results together,
+and regarding a profit somewhere as a sufficient excuse or a positive
+reason for making a loss elsewhere.
+
+It is quite true that in big undertakings, where there are large
+standing charges, and where the organization possesses some of the
+characteristics of an integral whole, it is not easy to measure
+accurately the specific costs which should be assigned to any
+particular portion of the output. But this difficulty is one of the
+most serious weaknesses of large undertakings; precise detailed
+measurement is the great prophylactic of business efficiency, and,
+where it is lacking the bacilli of waste will enter in and
+multiply. So clearly is this recognized, that the development of large
+scale business has led to the evolution of new methods of accountancy,
+designed to make detailed mensuration possible. We have most of us
+heard of them vaguely under such names as "comparative costings," but
+too few of us appreciate their full significance. It is hardly too
+much to say that the issue as to whether the size of the typical
+business unit will continue to become larger and larger, or whether it
+has already overshot the point of maximum efficiency will turn largely
+upon the capacity of accountancy to supply large and complex
+undertakings with more accurate instruments of detailed financial
+measurement.
+
+
+§4. _A Misinterpretation_. The price, then, of a commodity tends
+roughly to equal its marginal cost of production; and this marginal
+cost (in perfect symmetry with what we observed as regards marginal
+utility), may be conceived as applying either to the marginal producer
+or to the marginal output of any producer. In the former aspect it is
+open to a misinterpretation, against which it will be well to guard.
+Some advocates of socialism have argued, as one of the counts in their
+indictment of the present industrial system, that the price of a
+commodity is determined by the cost at which the least efficient
+concern in the industry can produce. They say, in effect, "Under the
+present competitive regime, you have to pay for everything you buy a
+price which far exceeds the necessary cost to a concern which is
+managed with ordinary ability. For, as economic theory has shown, it
+is the cost of the _marginal_ concern, i.e. the concern managed by the
+most incompetent, and half-witted fellow in the trade; it is the cost
+incurred by him, together with a profit on his capital, that the price
+has got to cover. The producer of no more than average capacity is
+therefore making out of you a surplus profit, which would be quite
+unnecessary in any well-arranged society." Such an argument is a gross
+caricature of the marginal conception. The half-witted incompetent
+will, as we know well enough, speedily disappear under the stress of
+competition, and his place will be taken by more efficient men. There
+is an essential difference between him and the "marginal coal mine" of
+which we spoke above. For the probabilities are that of the coal
+resources, whose existence is clearly known, the more fertile and
+better situated parts will already be in process of exploitation; and
+there is not likely, therefore, to be a supply of substantially better
+seams which can be substituted for the worst of those in actual use.
+There _is_ likely, on the other hand, to be available a supply of
+decent business capacity which can be substituted for the most
+inefficient of existing business men. The marginal concern, in other
+words, must be conceived as that working under the least advantageous
+conditions in respect of the assistance it derives from the strictly
+limited resources of nature, but under average conditions as regards
+managerial capacity and human qualities in general. Thus in
+agriculture we can speak of a marginal farm, which we should conceive
+as the least fertile and worst situated farm which it is just worth
+while to cultivate (of which more will be said when we come to the
+phenomenon of rent), but we must assume it to be cultivated by a
+farmer of average ability.
+
+
+§5. _Some Consequences of a Higher Price Level_. The foregoing
+controversy will be of service to us, if it makes clear the manner and
+the spirit in which the marginal conception should be handled. It
+should be regarded not as a rigid formula which we can apply to
+diverse problems without considering the special features they
+present, but rather as a signpost which will enable us to find our
+way, a compass by which we may steer between the shoals of triviality
+and sophistry to the crux of any problem with which we have to deal.
+Let us illustrate its practical uses by an example which is of great
+interest and far-reaching practical importance at the present day. As
+has been already observed, the war has left behind it in all countries
+a great and almost certainly permanent increase in nominal purchasing
+power. Since the armistice prices have moved upwards and downwards
+with unprecedented violence; and it would be very rash to prophesy the
+precise level at which they will ultimately settle (using that word
+with considerable relativity). But, for reasons for which the reader
+is referred to Volume II in this series, it is safe enough to say that
+the general level of post-war will greatly exceed that of pre-war
+prices. Now this will apply not only to consumers' goods like milk and
+clothes, or to raw materials like pig-iron and cotton, but in very
+much the same degree to things like factories and machinery. Things of
+this last type are sometimes called "capital goods," because it is in
+them that a large part of the capital of a business is embodied. Now
+the fact that it will cost much more than it did before the war to
+construct fresh capital goods, has a significance which very few
+people appreciate. An existing factory cost, let us say, $500,000 to
+build and equip with machinery before the war. To construct a similar
+factory to-day would cost, let us assume (it is probably a moderate
+assumption) $1,000,000. Suppose 10 per cent to be the gross profit
+that is necessary to attract capital to the particular industry. Then
+it will not pay to construct this new factory unless the trade
+prospects point to the probability of a profit of about $100,000 per
+annum. But if the old factory is equally well managed, it too should
+be able to earn this $100,000, which upon the capital actually sunk
+would represent a rate of 20 per cent. The particular figures given
+are, of course, purely illustrative; the conclusion to which they
+point is that, if new enterprises are to be undertaken, pre-war
+enterprises are likely to yield a rate of profit, on their fixed
+capital at least, increased in rough proportion to the price-level. Of
+course, in years when trade is bad, the factory which dates from
+pre-war times will not earn a profit of this kind, it may very likely
+make an actual loss. At those times it is very certain that few new
+factories will be erected. But it is difficult to reconcile a
+condition of trade activity, in which the constructional industries
+are busily employed, with a rate of profit to pre-war businesses on
+the fixed part of their capital of a lesser order of magnitude than
+has been indicated. It makes no difference, it should be observed,
+whether we suppose the new enterprises to take the form of starting of
+new concerns or extending old ones; in neither case will they be
+undertaken, unless there is reason to expect an adequate return on the
+capital which they require at post-war constructional prices. High
+profits (taking always good years together with bad) on capital sunk
+before the war in buildings and machinery are thus a likely
+consequence of an increase in the price-level.
+
+This fact is, indeed, the counterpart or complement of another
+phenomenon with which we are more familiar. While prices are actually
+rising, profits, as we have come to recognize, necessarily rule high,
+because every trader or manufacturer is constantly in the position of
+selling at a higher price-level, stock which he purchased, or goods
+made from materials which he purchased at a lower level. He thus
+acquires an abnormal profit on his circulating capital, which is
+essentially similar to the profit on fixed capital, which we have just
+examined. The difference is that the former profit is crowded into the
+years when prices are actually on the increase, and thus is very
+noticeable indeed; while the latter profit continues to accrue in
+smaller instalments after prices have settled down, as it were, at the
+higher level, and is not exhausted until the buildings and machinery
+have become obsolete. But the two profits are essentially similar,
+and in the long run should be commensurate. In the one case, stock can
+be sold for a large profit, because it cannot be replaced except at a
+higher price; in the other case, plant and buildings yield a higher
+income because _they_ cannot be replaced except at a higher
+price. Indeed, if the owners choose, the plant and building can, like
+the stock, be sold at their appreciated value, as has been widely done
+by the owners of cotton mills in Great Britain since the armistice.
+
+There is nothing in these considerations that should surprise us, or
+even shock our moral sense. For what they have indicated is an
+increase of money profits in rough proportion to the price-level, so
+that the aggregate profits will represent about as much real income as
+before.[1] The conclusion therefore amounts to no more than this, that
+you cannot alter fundamentally the distribution of wealth between
+labor and capital by merely inflating the currency, or otherwise
+juggling with the price-level. And this is only what we should expect,
+if there are any laws of distribution of sufficient importance and
+permanence to justify the many volumes which have been devoted to
+them.
+
+[Footnote 1: Assuming that the rate of interest has remained
+unaltered. In fact it has greatly increased since pre-war days, and
+this points to a still further increase of money profits, and an
+increase in the real income which they represent. See Chapter VIII,
+§10]
+
+But this somewhat tame conclusion does not make it any less important
+to grasp clearly the significance of the appreciation in the value of
+capital goods. A failure to realize it lies at the root of our
+bewildered muddling of many crucial problems of the day. In the matter
+of housing, for instance, we know we cannot build houses at less than
+two or three times their prewar cost, and yet we cannot endure to see
+the owners of pre-war houses obtaining a commensurate increase of
+rent. And so, in Great Britain, we pass Rent Restriction Acts, and
+Housing Acts, and then, in a fit of economy we suspend the latter, and
+let the former stand, while the housing shortage becomes steadily more
+acute. When we hand the railways back from State control to private
+hands, our horror at the idea of the companies receiving larger money
+profits than they did before the war leads us to lay down principles
+for the fixing of fares and freight charges, which take no account of
+post-war construction costs; and then, in alarm lest we may have
+thereby made it unprofitable for the companies to spend a single penny
+of fresh capital upon further development, we seek to provide for
+capital expenditure by cumbrous and dubious expedients. Doubtless we
+shall muddle through somehow with such policies: and, public opinion
+being what it is, they may perhaps have been about the best policies
+that were practicable. But the problems would have been easier to
+handle, if the public generally were a little less disposed to think
+in terms of averages, and a little more in terms of margins, if we all
+of us instinctively realized that the cost that really matters is the
+cost at which additional production is profitable under the conditions
+ruling at the time, or in the immediate future.
+
+
+§6. _General Relation between Price, Utility and Cost_. Let us
+conclude this chapter by summing up the conclusions which have emerged
+as to the relations of utility and cost to price.
+
+The price of a commodity is determined by the conditions of both
+supply and demand; and neither can logically be said to be the
+superior influence, though it may sometimes be convenient to
+concentrate our attention on one or other of them. The chief factor on
+which the conditions of demand depend is the utility (as measured in
+terms of money). The chief factor on which the conditions of supply
+depend is the cost of production (again as measured in terms of
+money). The prevailing trend towards an equilibrium of demand and
+supply can thus be expressed as follows:--
+
+LAW VI. A commodity tends to be produced on a scale at which its
+   marginal cost of production is equal to its marginal utility, as
+   measured in terms of money, and both are equal to its price.
+
+
+
+CHAPTER V
+
+JOINT DEMAND AND SUPPLY
+
+
+§1. _Marginal Cost under Joint Supply_. Several references have been
+made above to joint products, a relation which it will be convenient
+now to describe as that of Joint Supply. Our sense of symmetry should
+make us look for a parallel relation on the side of demand; and it is
+not far to seek. There is a "joint demand" for carriages and horses,
+for golf clubs and golf balls, for pens and ink, for the many groups
+of things which we use together in ordinary life. But the most
+important instances of Joint Demand are to be found when we pass from
+consumers' to producers' goods. There, indeed, Joint Demand is the
+universal rule. Iron ore, coal and the services of many grades of
+operatives are all jointly demanded for the production of steel; wool,
+textile machinery and again the services of many operatives are
+jointly demanded for the production of woollen goods (to mention in
+each case only a few things out of a very extensive list). Now we have
+already noted that, when commodities are jointly supplied, there is an
+obvious difficulty in allocating to each of them its proper share of
+the joint cost of production. There is a similar difficulty in
+estimating the utility of a commodity which is demanded jointly with
+others. Thus, the utility of wool is derived from that of the woollen
+goods which it helps to make. But the utility of the factories, the
+machinery and the operatives employed in the woollen and worsted
+industries is derived from precisely the same source. How much, then,
+of the utility of woollen goods should be attributed to the wool and
+how much to the textile machinery? Can we make any sense of the notion
+of utility as applying to one of these things, taken by itself? And,
+if not, how can we explain the price of a thing like wool in terms of
+utility and cost, since we cannot disentangle its cost from that of
+mutton, nor its utility from that of a great variety of other things?
+
+Here the conception of the margin enables us to grapple with a problem
+which would otherwise be insoluble. For, while it is impossible to
+separate out the total utility and cost of wool, it is not impossible
+to disentangle its marginal utility and its marginal cost. The
+proportion in which wool and mutton are supplied cannot be radically
+transformed; but it can be varied within certain limits, by rearing,
+for instance, a different breed of sheep. Variations of this kind have
+been an important feature of the economic history of Australasia,
+where sheep farming is the leading industry. Before the days of cold
+storage, Australia and New Zealand could not export their mutton to
+European markets, though they could export their wool. Wool was
+accordingly much the most valuable product; the mutton was sold in the
+home markets, where, the supply being very plentiful, the price was
+very low. In the circumstances, the Australasian farmers naturally
+concentrated on breeding a variety of sheep whose wool-yielding were
+superior to their mutton-yielding qualities. The development of the
+arts of refrigeration led in the eighties to an important change. It
+became possible to obtain relatively high prices for frozen mutton in
+overseas markets. There was, therefore, a marked tendency, especially
+in New Zealand, to substitute, for the merino, the crossbred sheep
+which yields a larger quantity of mutton and a smaller quantity of
+wool of poorer quality. Now if we calculate the cost of maintaining
+the number of merino sheep which will yield a given quantity of wool,
+and calculate the cost of maintaining the larger number of crossbred
+sheep which will be required to yield the _same_ quantity of wool
+(allowing for differences of quality) the extra cost which would be
+incurred in the latter case must be attributed entirely to the extra
+mutton that would be obtained. This extra cost we can regard as
+constituting the marginal cost of mutton. So long as this marginal
+cost falls short of the price of mutton, it will be profitable to
+extend further the substitution of crossbred for merino sheep. The
+process of substitution will in fact be continued until we reach the
+point at which the marginal cost is about equal to the price.
+Similarly by starting with the numbers of merino and crossbred
+sheep which would yield the same quantity of mutton, we can calculate
+the marginal cost of wool; and again the tendency will be for this
+marginal cost to be equal to the price.[1]
+
+[Footnote 1: It may be found difficult to grasp this point when stated
+in general terms. The following arithmetical example may make it
+plainer:--
+
+Suppose a merino sheep yields 9 units of mutton and 10 units of wool.
+
+Suppose a crossbred sheep yields 10 units of mutton and 8 units of
+wool.
+
+Suppose, further, that a merino sheep and a crossbred sheep each cost
+the same sum, say, for convenience, £10, to rear and maintain; and
+that there are no special costs assignable to the wool and the mutton
+respectively, as, of course, in fact there are.
+
+Then 10 merino sheep, yielding 90 units of mutton + 100 units of wool,
+cost £100; while 9 crossbred sheep, yielding 90 units of mutton + 72
+units of wool, cost £90.
+
+Hence you could obtain an extra 28 units of wool for an extra cost of
+£10, by maintaining 10 merino sheep rather than 9 crossbred sheep. The
+marginal cost of wool is thus £ 10/28 per unit.
+
+Similarly 8 merino sheep, yielding 72 units of mutton + 80 units of
+wool, cost £80; while 10 crossbred sheep, yielding 100 units of mutton
++ 80 units of wool, cost £100.
+
+Hence you could obtain an extra 28 units of mutton for an extra cost
+of £20, by maintaining 10 crossbred sheep in place of 8 merinos. The
+marginal cost of mutton is thus £ 20/28 per unit.
+
+So long as the price obtainable for wool exceeds £ 10/28, and that
+obtainable for mutton does not exceed £ 20/28 per unit, it will pay to
+substitute merino for crossbred; and conversely. If the price of wool
+exceeds £ 10/28 and the price of mutton also exceeds £ 20/28, it will
+be profitable to expand the supply of both breeds, until as the result
+of the increased supply, one of the above conditions ceases to
+obtain. Conversely, if the prices of both products are less than the
+figures indicated, sheep farming of both kinds will be restricted.
+The resultant of the processes of expansion or restriction, and
+substitution, will be that, unless one of the breeds is eliminated,
+the prices of mutton and wool will equal their respective marginal
+costs. These marginal costs may, of course, alter as the process of
+substitution extends. For the relative cost of maintaining merinos and
+crossbreds will not be the same for every farmer. Here again it is the
+costs at the "margin of substitution" that matter.]
+
+
+§2. _Marginal Utility under Joint Demand_. On the side of demand there
+exist as a rule similar possibilities of variation. _Some_ machinery,
+_some_ labor, _some_ materials of various kinds, are all indispensable
+in the production of any manufactured commodity. But the proportions
+in which these factors are combined together can be varied, and are
+frequently varied in practice as the result of the ceaseless pursuit
+of economy by business men. To produce pig-iron, you need both coal
+and iron ore; but, if coal becomes more costly, it is possible to
+economize its use. Machinery and labor must be used together, in some
+cases in proportions which are absolutely fixed. But there is in
+nearly every industry a debated question as to whether the
+introduction of some further labor-saving machine would be worth
+while, or some improved machine which would represent the substitution
+of more capital plus less labor for less capital plus more labor. A
+farmer can cultivate his land, to use a common expression, more
+intensively or less intensively; in other words, he can apply larger
+or smaller quantities of capital and labor (the proportion between
+which he can also vary) to the same amount of land. The problem is
+essentially the same as that of the substitution of the crossbred for
+the merino. We can take the various possible combinations of the
+factors of production, and contrast two cases in which different
+quantities of one factor are employed, together with equal quantities
+of the others. The extra product which will be yielded in the case in
+which the larger quantity of the varying factor is employed can then
+be regarded as the marginal product (or marginal utility) of the extra
+quantity of that factor; and we can say that the employment of this
+factor will be pushed forward to the point where this marginal product
+will be roughly equal to the price that must be paid for it. We can
+thus lay down the most important proposition that the relation between
+marginal utility and price holds good generally of the ultimate agents
+of production; that the rent of land, the wages of labor, and, we can
+even add, the profits of capital tend to equal their (derived)
+marginal utilities, or, as it is sometimes expressed, their marginal
+net products.
+
+Whenever, therefore, the proportions in which two or more things are
+produced or used together can be varied, the relations of joint supply
+and joint demand are perfectly consistent with a specific marginal
+cost and marginal utility for each commodity.
+
+
+§3. _A contrast between Cotton and Cotton-seed, and Wool and
+Mutton_. But it sometimes happens that such variations cannot be
+made. Thus, it has not been found possible (so far as I am aware) to
+alter the proportions in which cotton lint and cotton-seed are yielded
+by the cotton plant. Roughly speaking, you get about 2 pounds of
+cotton-seed for every 1 pound of cotton lint (or raw cotton), and
+though this proportion may vary somewhat from plantation to
+plantation, it is upon the knees of the gods, and not upon the will of
+the planter that the variation depends. We cannot, therefore, speak
+with accuracy of the separate marginal costs of raw cotton and
+cotton-seed. It is true that some plantations are so far distant from
+any seed-crushing mill that it is not worth while to sell the seed as
+a commercial product; and it might seem, therefore, as though we might
+regard the entire costs of cotton growing on _such_ plantations as
+constituting the marginal costs of raw cotton. But planters, so
+situated, derive a considerable value from their cotton-seed by using
+it as fodder for their live stock or as a manure. You can, of course,
+argue that proper allowance is automatically made for this factor, as
+a deduction from the costs of raw cotton, when you add up the expenses
+of the plantation. In the same way you can deduct the price which a
+planter who sells his cotton-seed obtains for it, from the total costs
+of the plantation, and call the remainder the costs of the raw
+cotton. But this is really to reason in a circle. For in either case
+the magnitude of the deduction depends on the marginal utility of the
+cotton-seed. And the notion of the cost of anything becomes blurred
+and blunted if we so use it that it must be deduced from the utility
+of something else, which is not an agent in the production of the
+thing in question.
+
+This point is not merely an academic one. It means that we cannot
+explain the _relative_ prices of cotton lint and cotton-seed in terms
+of cost at all, whether marginal or otherwise. The influence of cost
+will be confined to the _sum_ of the prices of the two things. Upon
+this sum it will exert precisely the same influence as it exerts upon
+price in general, by affecting the total quantities of the two things
+that will be supplied. But upon the distribution of this sum between
+lint and seed, cost will exert no influence whatever, because it
+cannot affect the proportions in which they are supplied. It may
+assist some readers if I state the matter in more concrete terms. Cost
+of production will be one of the factors which will result in the
+production of an annual cotton crop in the United States of, let us
+say, 10 million tons of seed cotton. This crop will yield roughly
+6-2/3 million tons of cotton-seed, and 3-1/3 million tons (or rather
+more than 13 million bales) of lint. The combined price received by
+the planter of (let us say) 14.4 cents for 1 pound of lint plus 2
+pounds of seed should correspond roughly to the marginal joint costs
+of production. But the factor of cost has no influence at all in
+determining that this combined price is made up of a price of 12 cents
+per pound for lint, and only 1.2 cents per pound (or $24 per ton) for
+cotton-seed. To account for this we must rely entirely upon demand. We
+can say, shortly, that the respective prices must be such as will
+enable the demand to carry off 6-2/3 million tons of seed, and 3-1/3
+million tons of raw cotton. Or we can go further and say that the
+marginal utility of a pound of raw cotton, when 3-1/3 million tons are
+supplied, is ten times as great as that of a pound of seed when 6-2/3
+million tons are supplied.
+
+If accordingly the demand for cotton-seed were to expand considerably
+owing, say, to the discovery of some new use for the oil, which is its
+most valuable constituent; the effect would be first a rise in the
+price of cotton-seed, and, subsequently, by stimulating cotton
+growing, a more plentiful supply and a lower price for raw cotton. And
+so far at least as the increased supply is concerned, this must
+necessarily be the effect, "other things being equal"; though, to be
+sure, it might be outweighed and obscured by other influences such as
+the boll-weevil. But it is _not_ the case that an increased demand for
+mutton must necessarily increase the supply or lower the price of
+wool; and it is most unlikely to do so in any similar degree. For,
+here, the separate marginal costs of the two things exert their
+influence. An increased demand for mutton will stimulate sheep
+farming, but it will also stimulate the substitution of crossbred for
+merino breeds; and the resultant of these two opposite tendencies upon
+the supply of wool is logically indeterminate. As a matter of history
+we know that the development of cold storage in the eighties (which we
+may regard for the present purpose as equivalent to an increased
+demand for Australian mutton) caused considerable perturbation in the
+woollen and worsted industries of Yorkshire. They were faced with a
+dwindling supply and a soaring price of merino wool; and the
+adaptability with which they met the situation, and won prestige for
+the crossbred tops, and yarns and fabrics, to which they largely
+turned is a matter of just pride in the trade to-day. The fact,
+however, that this alteration in the supply of wool was a matter not
+only of quantity but of quality, while it takes nothing from the
+substance of the preceding argument, makes it difficult to draw a
+clear moral, bearing on the present issue, from this incursion into
+history.
+
+
+§4. _The Importance of being Unimportant_. The above contrast between
+cases in which variation is possible, and those in which it is not
+possible, is reproduced with a heightened significance when we turn
+back to joint demand. The cases are perhaps less common in which it is
+_impossible_ to alter the proportions in which different commodities
+are jointly demanded, but there are many cases in which it is not
+nearly worth while to do so (and this amounts to very much the same
+thing). Cases of this sort are especially likely to occur when we are
+dealing with a commodity which accounts for only a tiny fraction of
+the costs of the industry which is its chief consumer. Sewing cotton,
+for example, is jointly demanded, with many other things, by the
+tailoring and other clothing trades; but the money which these trades
+spend on sewing cotton is so small a part of their total expenditure,
+that no ordinary variation in its price is likely to make it worth
+while to study the ways and means of using it in smaller
+quantities. When sewing cotton is bought by the domestic consumer,
+considerations which are fundamentally the same, though somewhat
+different in form, point to a similar conclusion. It is thus very
+difficult to assign to sewing cotton a specific marginal utility. This
+difficulty is of great importance in connection with the possibilities
+of monopolistic exploitation. For it means that the demand blade of
+the scissors upon which we rely to cut off excrescences of price is
+blunted, and if accordingly the producers constitute a strong enough
+combination to control the supply blade, they will possess an unusual
+power of advancing their selling prices as they choose. I am far from
+suggesting that Messrs. J. & P. Coats are to be condemned as an
+extortionate monopoly. On the contrary, during 1919, when the profits
+in highly competitive industries like the main branches of the cotton
+and woollen trades, soared exuberantly, the record of this concern
+seems to me one of distinct moderation. But the present point is that
+they possess an exceptional _power_ to fix the price of sewing cotton
+as they choose, and that this is attributable in no small degree to
+the fact that sewing cotton constitutes an essential but relatively
+trifling item in the expenses of the processes in which it is
+employed.
+
+Perhaps the point will be made clearer if we turn from the selling
+prices of commercial products, in regard to which there is a strong
+and not ineffective public sentiment against "profiteering," to the
+remuneration of different classes of labor. With an instinctive
+disposition towards megalomania, it is often claimed in Great Britain
+that the miners, being a very numerous and well-organized body of
+workpeople, were in a stronger strategic position than most workpeople
+for exacting the remuneration they desire. It is quite true that a
+stoppage of work in the coal industry causes us a high degree of
+inconvenience, and temporary concessions may thereby be obtained which
+might otherwise have been refused. But this is a dubious advantage,
+and we grossly exaggerate its real importance. The truth is that the
+strategic position of the miners in regard to wages questions is by no
+means strong. For their wages constitute a very large percentage of
+the cost of coal; and the price of coal in its turn is a most
+important element in the costs of many of the industries which are its
+principal consumers. Great Britain, moreover, is far from possessing
+a monopoly of coal. If, accordingly, the wages of the miners are
+temporarily pushed up to a high point, the result will certainly be a
+diminished demand for British coal, which will lead before long to
+their fighting a losing battle to maintain the concessions they have
+won. Contrast their position with that of the steel smelters, whose
+wages (high though the wage rates are) constitute a very small
+percentage of the costs of steel production, and we must agree I think
+that we have in this distinction the main reason why the steel
+smelters, though they hardly ever go on strike, have as a rule been
+able to do so much better for themselves than the miners.
+
+When a commodity or service is such that an appreciable alteration in
+its price has only a slight effect upon the quantity demanded, the
+demand is said to be _inelastic_. Conversely, when a small change in
+price greatly alters the quantity demanded, we call the demand
+_elastic_. In the former case, it is worth nothing, a larger aggregate
+sum of money will be spent upon the thing when its price is high than
+when it is low, while the opposite is true in the latter case. This
+distinction is of considerable importance in connection with many
+problems (e.g. of taxation); and the terms, elastic demand and
+inelastic demand, are worth remembering. We may thus express the
+above conclusions by saying that the demand for sewing-cotton is
+highly inelastic, and that the demand for coal miners is more elastic
+than that for steel smelters.
+
+
+§5. _Capital and Labor_. Cases in which it is impracticable to make
+any variation in the proportions in which different things are used
+together are, however, the exception rather than the rule. Where
+variation is possible, we are confronted with an uncertainty as to the
+way in which an increased supply of one thing will react on the demand
+for another, similar to our uncertainty as to whether an increased
+demand for mutton would augment or diminish the supply of wool. It is,
+for instance, of the highest importance to give a clear answer, if we
+can, to the question whether an increased supply of capital will
+increase the demand for labor. The chief effect of an increased
+supply of capital is to facilitate the extended use of expensive
+machines: to some extent these machines will increase the demand for
+labor; to some extent they will be substituted for it. Which of these
+two tendencies will outweigh the other we cannot be absolutely
+sure. But fortunately we can be far more nearly sure than was possible
+in the analogous case of wool and mutton. An increase in the supply of
+capital increases the demand for the commodities, from which the
+demand for labor is derived, in both the senses discussed in Chapter
+II. First it makes them cheaper to buy, and thus increases the
+quantity that will be bought. It is this that is parallel to the
+effect of an increased demand for mutton in making it more profitable
+to breed sheep. But it also serves to increase the purchasing power
+with which to buy commodities, because it increases the aggregate real
+wealth of the community, and it thus serves to raise the whole demand
+curve. This last consideration is so important as to make it
+overwhelmingly probable, apart from the evidence of history, that an
+increase in the supply of capital (and the same may be said of an
+increase in the supply of the other agents of production) will on
+balance increase the demand for labor. The evidence of history points
+to the same conclusion. The history of the last hundred years displays
+an unprecedented accumulation of capital, and an unprecedented
+extension of machinery, associated with an unprecedented improvement
+in the standard of living throughout the whole community. This is
+powerful testimony in favor of the view that an increase in the supply
+of capital and the use of machinery will usually enhance on balance
+the demand for labor. Moreover, though this is not conclusive, there
+is little room for doubt that an obstructive attitude towards the
+extension of machinery in a particular country, or a particular
+district, is misguided. For its effect must be to make production
+more costly there than it is elsewhere, and to lead, slowly perhaps,
+but very surely, to the transference of the industry to other regions.
+
+
+§6. _Conclusions as to Joint Supply and Joint Demand_. Here, however,
+we are beginning to digress. Let us sum up in a general form our
+conclusions as to the way in which changes in the supply or demand of
+a commodity react upon the demand or supply of the other things with
+which it is jointly demanded or supplied. Everything turns, as we have
+seen, on the possibility of variation in the proportions in which the
+things are used or produced together; and this, it is also clear, is a
+matter of degree. Our conclusions, therefore, had best take the
+following form:--
+
+LAW VII. When two or more things are jointly demanded, in proportions
+   which cannot easily be varied, the tendency will be for an increase
+   (or decrease) in the supply of one of them to increase (or
+   decrease) the demand for the others. These results will be more
+   certain, and more marked, the more difficult it is to vary the
+   proportions in which the things are used.
+
+   Similarly, when two or more things are jointly supplied, in
+   proportions which cannot easily be varied, the tendency will be for
+   an increase (or decrease) in the demand for one of them to increase
+   (or decrease) the supply of the others. These results again will be
+   more certain and more marked, the more difficult it is to vary the
+   proportions in which the things are supplied.
+
+
+§7. _Composite Supply and Composite Demand_. Joint Demand and Joint
+Supply do not complete the list of relations between the demand and
+supply of different things. Between tea and coffee, or beef and mutton
+there is a relation of a different kind. These things are in large
+measure what we call "substitutes" for one another. An increased
+supply, and a lower price of mutton, will probably induce us to
+consume less beef. This relation it is convenient to describe as
+Composite Supply. Beef and mutton make up a composite supply of meat;
+tea and coffee a composite supply of a certain type of beverage. For
+any group of things, between which the relation of Composite Supply
+exists, we can say, with complete generality, that an increased supply
+of one of them will tend to diminish the demand for the
+others. Parallel to the relation of Composite Supply is that of
+Composite Demand. There are frequently several alternative uses in
+which a commodity or service can be employed; and these alternative
+uses make up a composite demand for the thing in question. Thus
+railways, gasworks, private households and a great variety of
+industries contribute to a Composite Demand for coal. It is worth
+noting that there is frequently an association in practice between
+Joint Demand and Composite Supply on the one hand; and between Joint
+Supply and Composite Demand on the other. Wool and mutton, for
+instance, we have described as an instance of Joint Supply; but, in so
+far as the proportions of wool and mutton can be varied, we can regard
+these things as constituting a Composite Demand for sheep. And this
+conception may help us to retain a clearer and more orderly picture of
+the problems we have discussed above. We can regard the fact that wool
+and mutton are produced together as their Joint Supply aspect, and the
+fact that these proportions can be varied as their Composite Demand
+aspect; and the question as to whether an increased demand for mutton
+will increase the supply of wool turns upon whether the former aspect
+is more important than the latter. Similarly labor and machinery,
+employed together for the same purpose, form an instance of Joint
+Demand; but in so far as they can be substituted for one another, they
+constitute a Composite Supply of alternative agents of production.
+
+These four relations of Joint Demand, Joint Supply, Composite Demand
+and Composite Supply are well worth remembering and distinguishing
+from one another. They are of immense importance in every branch of
+economic affairs. There are hardly any economic problems upon which we
+are fitted to express an opinion, unless we have a lively sense of the
+far-reaching ramifications of cause and consequence, of the subtle and
+often unexpected interconnections between different industries and
+different markets. To gape at these complexities in a confused stupor
+is as foolish as it is to ignore them. But confusion and stupor are
+only too likely to represent our final state of mind, if we attempt to
+deal with these complications, one by one as they occur to us, in a
+piecemeal and haphazard fashion. We need a clear method, a systematic
+plan by which we may search them out, and fit them into place. The
+four relations which we have enumerated supply us with such a plan and
+method. For they represent something more than a series of pompous
+names for familiar notions. They constitute a classification of the
+various ways in which the demand and supply of one thing can affect
+the demand and supply of others; a classification which is exhaustive
+when we add the relation of derived demand, and an analogous relation
+on the supply side which we must now notice.
+
+
+§8. _Ultimate Real Costs_. Just as the utility of "producers' goods"
+is derived from that of the "consumers' goods" which they help to
+make; so the cost of any commodity is derived from the cost of the
+things which help to make it. Moreover, just as we recognize that the
+utility of "consumers' goods" lies at the back of all demand, and
+constitutes the ultimate end of all production; so we cannot but feel,
+however obscurely, that behind the phenomena of money costs, there
+must lie certain ultimate costs, of which all money costs are but the
+measure. But when we try to explain what the nature of these real
+costs may be, we are plunged in difficulty. Wages, it may indeed seem
+at first sight, present no trouble. There is the effort and the
+fatigue, the unpleasantness of human labor, to represent real
+costs. But can we suppose that these things are measured with any
+approach to accuracy by the wages which are paid in actual fact? Is it
+true, even as a broad general rule, that the services which are most
+arduous and most disagreeable command the highest price? And wages are
+not the only ingredient of money costs. There are profits: to what
+real costs do profits correspond? More difficult still, to what does
+rent correspond? These plainly are not questions upon which he who
+runs may read. It will be necessary to devote the next four chapters
+to their elucidation.
+
+
+
+CHAPTER VI
+
+LAND
+
+
+§1. _The Special Characteristics of Land_. In the great process of
+co-operation by which the wants of mankind are supplied, Nature is an
+indispensable participant. She renders her assistance in an infinite
+variety of ways, of which the properties of the soil which man
+cultivates form only one; but the sunshine and rain which enable the
+farmer to grow his crops; the coal and iron ore beneath the surface of
+the earth, can be regarded for our present purpose as forming part of
+the land with which they are associated. We can thus concentrate upon
+land as the representative of the free gifts of nature, which are of
+economic significance. Land in modern communities is for the most part
+privately owned. It can be bought and sold for a price, and acquired
+by inheritance. Moreover, it is a common practice, particularly in the
+United Kingdom, for an owner who does not wish himself to cultivate or
+otherwise use the land, not to sell it to the man who does, but to
+lease it to him for a term of years for an annual payment which we
+term rent. It is therefore natural and convenient to envisage the
+problems, which we shall consider in this chapter, as problems
+concerning the price and rent of land. But, once again, the laws and
+principles which we shall state and illustrate in terms of the current
+systems of ownership and tenure, possess a much deeper significance
+than this terminology might suggest.
+
+The fact that land is a free gift of Nature distinguishes it in
+various ways from commodities which are produced by man. The
+peculiarities which are most important from the economic standpoint
+are (1) that the supply of land is, broadly speaking, fixed and
+unalterable, and (2) that its quality and value vary, from piece to
+piece, with a variation which is immense in its range, but fairly
+continuous in its gradation. These are thus two aspects from which
+the phenomena of price and rent can be regarded; aspects which it is
+usual to call, (1) the scarcity aspect, (2) the differential aspect.
+
+
+§2. _The Scarcity Aspect_. The fact that the supply of land is fixed
+has the following significance. If the demand for land increases, the
+price will tend to rise. This is also true, for a short period at
+least, of an ordinary commodity. But, in the latter case, there would
+ensue an increase in supply which would serve to check the rise in
+price, and possibly, if production on a larger scale led to improved
+methods of production, bring the price down eventually below its
+original level. In the case of land, no such reaction is
+possible. There is nothing, therefore, to restrain the price (and the
+rent) of land from rising indefinitely, and without limit, if the
+demand for it should continue to increase. Conversely, if the demand
+for land falls off, there is nothing to check the consequent fall in
+price and rent. In the case of ordinary commodities, the supply would
+be diminished, because most things are either consumed by being used,
+or wear out in the course of time, and a regular annual production is
+therefore necessary to sustain their supply at the existing level. But
+land remains, whether it is used or not; and its supply is, broadly
+speaking, just as incapable of being diminished, as it is of being
+increased. Changes in the demand for land in either direction are thus
+likely to affect its price in a much greater degree than that in which
+the price of an ordinary commodity will be affected by a corresponding
+change in its demand.
+
+For most purposes, however, it is of more interest to compare land
+with other agents of production, especially with capital and labor,
+rather than with ordinary commodities. Now, as we have already noted,
+there is some doubt as to the manner in which the supply of capital or
+labor is likely to be affected by alterations in demand price. But the
+supply of capital and the supply of labor, even if we suppose them to
+be as entirely unresponsive to price changes as is the supply of land,
+are at any rate not fixed. Not only _may_ they vary for many reasons,
+but they are in fact likely to vary in direct proportion to the
+population. An increase in population implies an increase in the
+supply of labor; and it is likely to be accompanied by an increase in
+the supply of capital; in other words, the supply of these agents will
+expand, as the demand for them expands. But the supply of land will
+remain what it was. This fact is enormously important in connection
+with the broad problem of population, which will form the theme of
+Volume VI.
+
+But it is important also in other connections. It has been the
+dominating factor in many absorbing controversies upon high policy
+regarding the ownership of land, or the taxation of land values, upon
+which we can touch but lightly here. It has seemed to many writers a
+reasonable proposition to lay down, that the ordinary course of the
+progress of society, the increase of population and industry, must
+mean, as a broad general rule, a constant increase in the demand for
+land. And, if that be granted, it seems to follow that the price and
+rent of land will tend constantly to increase. John Stuart Mill,
+accordingly, in the middle of the last century, asserted that "the
+ordinary progress of a society, which increases in wealth, is at all
+times tending to augment the incomes of landlords; to give them both a
+greater amount and a greater proportion of the wealth of the
+community, independently of any trouble or outlay, incurred by
+themselves,"[1] and upon the strength of this assertion, he justified
+the policy of imposing a special tax upon what we have come to call
+the "unearned increment" of land. But how far does actual experience
+bear his assertion out? In Great Britain we have seen in the last
+half-century an undoubted increase in urban rents; but over long
+periods at least, there was a marked fall in both the prices and rents
+of agricultural land, despite the fact that the country was
+"increasing in wealth" as rapidly as ever before. This was due, of
+course, in the main to the increased supplies of wheat and other
+foodstuffs coming from the New World: and if, accordingly, we choose
+to lump together not only our own urban and agricultural land, but the
+land of other countries as well, and to speak vaguely of the demand
+for land as a whole, it might seem as though we could argue that
+Mill's generalization still holds good. But even this is by no means
+certain and in any case such a generalization is of very little
+service: what the illustration should rather suggest to us, is the
+danger of speaking of land vaguely as a whole, and the importance of
+turning our attention to the variations in value between different
+kinds and different pieces.
+
+[Footnote 1: _Principles of Political Economy_, by John Stuart Mill.]
+
+
+§3. _The Differential Aspect_. Most ordinary commodities are not
+produced on a single, uniform pattern. As a rule there are many
+variations of grade and quality, and consequently of price. But these
+variations are usually designed to meet the differences of taste among
+the purchasers, and we do not expect to find that any variety of an
+ordinary commodity will be produced, which is so poor in quality as to
+be entirely valueless. But since it is nature which has produced the
+land, without any assistance or guidance from man, there are many
+pieces of land which are so unfertile, or are otherwise so unsuitable
+for productive purposes, as to be quite valueless from the economic
+standpoint. Even in a densely populated country like Great Britain,
+there are considerable tracts of land which it is unprofitable to
+employ for any economic purpose whatsoever, and which possess no
+further value than what the mere pride of ownership may give
+them. This fact makes it possible to apply the conception of the
+margin to the case of land with particularly illuminating results.
+
+In the first place, however, it should be observed that the value of
+any piece of land does not depend solely on the intrinsic fertility of
+the soil. The fact that land is an immobile thing makes its
+_situation_ a factor of great importance. In the case of urban land,
+situation is, of course, the only thing that counts. The value of a
+site in Bond Street or the City is entirely unaffected by its capacity
+or incapacity for potato-growing purposes. But even for agricultural
+land, situation is a most important matter. A farm, which is so remote
+that considerable transport charges must be incurred to bring its
+produce to market, will be less sought after, and less valuable, than
+one which is much better situated though somewhat less fertile. In
+what follows, therefore, we must speak of the "quality" of a piece of
+land in a broad sense to include advantages of situation, as well as
+of fertility. Let us now, imagine the different pieces of land in
+Great Britain to be arranged in order of quality, so that we have a
+long series, with land of the best quality at one end, and of the
+poorest quality at the other. At the latter end, we will have such
+land as is found near the top of Snowden or Ben Nevis, which it
+clearly does not pay to cultivate at all. Somewhere, then, between
+these two extremes, we shall come to a point where the land is just,
+but only just, worth cultivating, or where, to revert to a form of
+words we previously employed, it is a matter of _doubt_, whether the
+land is really worth using for a productive purpose. Such land we can
+regard as the "marginal land"; and since the variety of nature is at
+once infinite and fairly minutely graduated we shall probably find
+that on one side of this margin there is much land which is only
+slightly superior, and on the other, much which is only slightly
+inferior, to the marginal land itself. What, then, is likely to be the
+value and the rent of this marginal land, this land which is just on
+the "margin of cultivation"? Some readers may find the answer
+startling. The rent of the marginal land will be nil, because it will
+not pay to cultivate it, if any appreciable rent is charged. A piece
+of land for which it is worth a tenant's while to pay an appreciable
+rent, will not be the marginal land, because there will be land just
+slightly inferior to it which it will also pay to cultivate if a
+somewhat lower rent is charged. And so we can pass to poorer and
+poorer qualities of land, with an ever diminishing rent, until at the
+margin of cultivation the derived utility of the land is negligible
+and the rent vanishes.
+
+This certainly is a somewhat abstract conception; but it is by no
+means so remote from reality as may at first sight appear. The reader
+may protest that in the course of an extensive and varied acquaintance
+with landowners, he has not yet run across this peculiar marginal
+type, who lets his land for no rent at all. But there, if his
+experience is really extensive, I think he is mistaken. It so happens
+that the ordinary agricultural landowner leases out his land, not by
+itself, but together with a variety of other things such as farm
+buildings, which it costs him a considerable sum of money to
+provide. He will not as a rule be willing to go to this expense,
+unless he sees his way to obtain for the farm an annual payment, which
+represents at least a fair return on this capital outlay, as big a
+return as he could have got, for instance, by investing the same
+amount of money in some gilt-edged security. This annual payment
+will, it is true, be called rent; but the significance of this is that
+what we term rent in ordinary life is usually a complex thing, made up
+of two essentially distinct elements, viz. the normal return on the
+capital goods supplied together with the land, and what we may call
+the "net rent," or the "pure rent" attributable to the land
+itself. Now will any reader make so bold as to say that there is no
+land under cultivation, in respect of which this net rent is either
+nil or negligible? The landowners will not agree with him. It is not
+a question, it should be observed, as to whether the rent obtained
+represents more than a fair return on the purchase price paid for the
+land; that is quite another matter. The question is whether the rent
+obtained exceeds a fair return on the capital sum spent on the
+buildings, etc.; with which every farm must be equipped to let at
+all. In fact there are not a few farms where there is no such excess,
+and where accordingly there is no "net rent" or "pure rent" which can
+be attributed to the land.
+
+The question whether it would be profitable to cultivate any piece of
+land, turns upon whether the receipts which would be obtained by
+selling the produce would exceed the costs of cultivation: and under
+these costs of cultivation we must include, of course, the
+remuneration of the farmer's services. Farmers, like other people,
+have to live; and they would not take on the troublesome job of
+farming, unless there seemed a prospect of making a living out of
+it. The remuneration of the farmer takes, of course, the form not of a
+salary, but of profits: and these profits vary very much from year to
+year, and from place to place, and from man to man. But they are
+essentially payment for work done, and an ordinary profit must be
+regarded therefore as part of the necessary costs of farming. Thus it
+will not be worth while to cultivate a piece of land, and the land
+will in fact lie unused, upon which a careful farmer might obtain a
+profit in the ordinary sense, of no more than $50 or $100 a year. The
+marginal land will be land which yields a decent profit to a decent
+farmer, as well as a gross rent to the landowner, sufficient to
+compensate him for his capital outlay, but nothing further.
+
+What, then, will be the rent of a fertile and well-situated farm,
+about which there is no doubt that it is well worth cultivating? Part
+of the gross rent which the landowner receives must again be regarded
+as merely a return for the capital expended in equipping the farm for
+use; but in this case, there will be a residue left over, which
+constitutes the net rent of the land. The net rent will measure the
+derived utility of the land to its occupier, and will in general
+represent (very roughly, of course, in practice) the differential
+advantage of cultivating the land in question rather than land on the
+"margin of cultivation." This differential advantage may take either,
+or both, of the forms, of a larger produce per acre, or a lower cost
+of production and marketing. But, in any case, the extra profit,
+which, if no rent were charged, a decent farmer could obtain by
+cultivating the farm in question, rather than a marginal farm, will be
+roughly equal to the net rent which his landlord can exact from him,
+if his landlord so chooses. The landlord may, of course, not choose to
+exact a rent as high as this; and as a matter of fact, in a country
+like Great Britain landlords often content themselves with less. The
+traditions associated with the ownership of agricultural land, and
+with the relations between landlord and tenant serve to soften the
+edge of economic law, and to subject the rents which are actually
+fixed to the control in no small measure of the general sense of what
+is fair or customary. In such cases the landlord makes the farmer a
+present, for the time being, of part of the economic rent. On the
+other hand, as Irish agrarian history well illustrates, the landlord
+may sometimes expropriate under the name of rent, permanent
+improvements which are due to the labors or the expenditure of the
+tenant. This is, of course, particularly likely to happen, whenever it
+is the custom to leave to the tenant the obligation of providing the
+capital equipment of the farm, which in Great Britain is, for the most
+part, the recognized duty of the owner. Again, in the case of urban
+land in the South of England, expropriations of this kind are an
+essential and well-understood feature of the leasehold system. The
+owner grants a lease for a long period of time, usually ninety-nine
+years, for a ground rent, which is notoriously below the true economic
+rent of the land, subject to the condition that the leaseholder must
+erect upon the land and keep in good repair certain buildings, which
+on expiry of the lease will become the property of the ground
+owner. Here the nominal ground rent is only part of the total rent
+which is really paid; the ultimate transference of the buildings
+representing often the more important part. There is, in fact, a great
+variety of systems of land tenure, some of which are highly complex,
+the respective merits of which vary greatly, and which constitute a
+most important problem for statesmen and legislators. Considerations
+of this kind in no way diminish the importance of the general analysis
+of rent, which we are pursuing in the present chapter. Rather they
+make it the more important, because we cannot properly weigh the
+merits of any system of land tenure, until we have grasped clearly the
+principles governing the rent of land in the purest form. But
+certainly we must never forget that the rent we are discussing may
+differ very greatly from, though it will vitally influence, the money
+payments which are called rent in actual life. It is the pure economic
+rent, the rent which represents the _full_ annual payment which it
+would be worth paying to obtain the use of the land alone, which will
+measure, as we have said, the differential advantage of the land in
+question over land on the margin of cultivation.
+
+A clear grasp of this relation helps us to perceive that an increase
+in the prosperity of the community may sometimes influence rents in an
+unexpected way. It all depends on the causes which have given rise to
+the increased prosperity. An advance, for instance, in agricultural
+science will facilitate a more abundant supply of foodstuffs; but it
+will not necessarily increase the aggregate rents of agricultural
+land. For if it takes the form, say, of the discovery of some new
+artificial manure, it will very likely facilitate production on the
+less fertile soils far more than it will on the more fertile soils
+where artificial manures are not so necessary. It will thus tend to
+diminish the differential advantages of working on the more fertile
+farms, and their rents will accordingly fall, possibly by much more in
+the aggregate than any increase in the rents of the farms near the
+margin of cultivation. The point may, perhaps, be better understood if
+we pass from agricultural to urban land, and ask what would be the
+effect on site values of a great improvement in the facilities of
+internal transport. Push the case to an extreme, and suppose passenger
+transport to become so cheap and so quick that there ceases to be any
+advantage in living in a town so as to be near your place of work.
+Urban landlords would no longer be able to obtain the high rents they
+now receive for the sites of houses in or near a town. For most people
+would prefer to move out into the country where sites can be obtained
+at little more than an agricultural rent. The country covers so large
+an area relatively to the towns that the supply of rural sites would
+be still very plentiful as compared with the demand. Their rents would
+not, therefore, rise by very much, although the rents of the housing
+sites in towns would fall heavily. Of course, there are other factors
+to be taken into account before we could pronounce upon the effect on
+aggregate rents. Central sites for shops might, for instance, fetch a
+higher rental than before. The purpose of this discussion is not to
+generalize but to show the danger of generalizing about rents in the
+aggregate, or land as a whole.
+
+
+§4. _The Margin of Transference_. The last illustration may serve,
+however, to remind us of an obvious fact which we must now take into
+account. The same piece of land may be used for a variety of purposes.
+It may have been used for growing corn, and later it may be devoted to
+the building of houses, or, as at Slough, to a repair depot for motor
+vehicles. It need hardly be said that the land will, as a general
+rule, be put to the use in which its value is greatest; or to speak
+more strictly, in which the biggest rent, or the biggest selling price
+can be obtained. But the notion of the differential advantages which a
+piece of land possesses over the marginal land becomes decidedly more
+complicated when we take account of this variety of uses. Let us turn
+our attention, for instance, to the sites used for shop and office
+purposes, and consider what we can regard as the marginal site in this
+connection. Clearly it will not be the marginal land of which we
+spoke above, which it only just paid to cultivate, and which yielded
+no rent at all. For this will probably be agricultural land in an
+out-of-the-way district, where no one would dream of setting up an
+office or a shop. Any site upon which a sane man would contemplate
+setting up a shop will certainly possess value for other purposes,
+such as house-building. Hence the marginal site for shopkeeping
+purposes will not be like our marginal farm, a site which yields no
+rent.
+
+As regards many pieces of land, there is no doubt as to the purposes
+for which they can most profitably be used. This piece will command a
+much higher rent as a shop site than in any other capacity; for that
+piece house-building is the obvious employment; for another,
+agriculture. But in quite a number of instances there is considerable
+uncertainty. It is not clear whether upon this site it will be better
+to erect a house or a shop, or if the latter, what kind of a shop. It
+is not clear whether it will pay to use that farm land for a building
+scheme; and, within the domain of agriculture, which of course
+comprises an immense variety of really different industries, it is
+often a very moot point indeed whether a certain field should be left
+under grass, or brought under the plow. Cases of this sort are not
+phantoms of the imagination; they emerge on every side as concrete
+problems with which some one or other is dealing every day, and it is
+these cases which constitute the marginal land for the purposes of a
+particular occupation. The marginal sites for shops are the sites for
+which it is only just worth while to pay rents sufficient to entice
+them away from houses. And the rent for a site in Bond Street, or
+elsewhere, which is so much more suitable for shop purposes that no
+alternative use would be worth considering, will exceed the rent paid
+for one of these marginal sites by, roughly speaking, the extra
+advantage it possesses for shop purposes. Or will fall short of it, it
+may be well to add, to the extent of its comparative disadvantage. For
+there may be many such marginal sites, some of which will fetch low
+rents, and others very high rents indeed; the same site being often of
+great potential utility for a large variety of occupations. Between
+any two occupations there will thus usually be a _margin of
+transference_, which we must conceive not as a point, but as an
+irregular line, upon or near to which there will be many pieces of
+land, differing greatly in the rents which they fetch. These
+variations of rent will correspond to the differences between the
+advantages or derived utilities which the sites possess for _both_ the
+occupations in question. The position of such margins of transference
+will of course alter as industrial conditions change, and, when they
+alter, the rents of sites which are not near any margin of
+transference will be affected also. Thus an increased demand for the
+products of any particular industry will make it profitable for that
+industry to offer higher rents, and thus draw land away from other
+occupations. This will have the effect of raising, though possibly to
+a very slight extent, the rents of sites which still remain in other
+uses; for there will be fewer of them available; and their derived
+utilities will consequently be increased.
+
+But here, as everywhere, it is upon the margin that our attention
+should be focussed, because it is round about the margin (wherever it
+is found) that the changes are taking place which really matter for
+society. When Mr. Mallaby-Deeley buys an estate in Covent Garden from
+the Duke of Bedford, the transaction hardly deserves the degree of
+public interest it excites. Nothing has happened which is of material
+consequence to anyone except the two gentlemen concerned; the various
+sites are still used for the various purposes for which they were used
+before; nothing has occurred that really matters. But when houses are
+pulled down for the erection of a cinema, or when a field is diverted
+from tillage to pasture, something has happened which affects for good
+or ill the interests of the whole community. Conversion from tillage
+to pasture represents, indeed, a tendency which has been very marked
+in Great Britain during the last generation, and has aroused
+misgivings in many public-spirited observers. Possibly for a variety
+of reasons, these misgivings may be justified; certainly the problem
+is well worthy of attention. But when in this way the issue is raised
+of tillage versus pasture, it is essential, if we are to discuss it
+rationally, that we should envisage it clearly as applying only to a
+limited portion of agricultural land, to the portion which lies
+somewhere near the margin of transference, as things are now, between
+the two forms of agriculture. It might be socially desirable to bring
+under the plow a field which the farmer finds it only _slightly_ more
+profitable to lease under grass; but this would be highly improbable
+in the case of a field where the balance of argument to the farmer in
+favor of pasture is overwhelming. The position of the margin of
+transference between different uses may, in other words, be somewhat
+out of place from the social point of view, and it may be desirable by
+appeals and propaganda, even conceivably by the devices of State
+subsidy and compulsion, to push it forwards or backwards in greater or
+less degree. But it will be necessarily a matter of degree, and
+nothing could be more foolish than to speak as though there was, or
+could be, some ideal method of cultivation equally applicable to all
+lands, without regard to their climatic and other conditions. Needless
+to say, none of the agricultural experts who sometimes deplore the
+decline of arable farming are guilty of such foolishness. But the
+sense of the diversity of nature which is very vivid to them may
+sometimes be lacking in people who live in towns, and a firm grasp of
+the marginal notion may serve best to keep the latter from forgetting
+it.
+
+
+§5. _The Necessity of Rent_. Behind all such detailed applications
+there lies a more general consideration which deserves attention. The
+way in which the land of a country is used, the way in which it is
+apportioned between the countless alternative employments that are
+possible, is a most important matter, more important perhaps than any
+questions as to the size of the incomes which particular landowners
+receive by virtue of their rights of ownership. How is this
+apportionment effected as things are now? The answer is clear: mainly
+by the agency of either rent or price. The business which finds it
+worth while to offer the highest rent or the highest price for any
+piece of land will, as a rule, be able to command its use. And, with
+this as the governing principle, an apportionment is secured between
+shops, offices, factories, agriculture, between the immense variety of
+different employments covered by each of these broad headings; not a
+rigid unvarying apportionment, but one which constantly changes as
+economic circumstances change, and as the margin of transference
+between different occupations moves hither and thither. This
+apportionment takes place at present as the result of the independent
+decisions and bargains of many private individuals, who are thinking
+mainly of their own interests, and not of those of the community. But
+this state of affairs might be altered. The land might be nationalized
+and allocated to its various uses by the co-ordinated labors of a
+great State department, or some other agency of the collective
+will. However improbable such a change, it is perfectly conceivable.
+But what is not conceivable is that any State department should handle
+the job with a success even approaching that of the present system,
+unless it continued to use, as its main instrument, the criterion of
+either rent or price. That a piece of land would yield a higher rent
+in one occupation than in any other is not conclusive evidence that it
+is best to devote it to the former purpose, but it is very good
+evidence, and it should be allowed to prevail unless it is
+demonstrably outweighed, as it possibly might often be, by
+considerations of a different kind. That it would not be well for the
+community to employ land in the city of London for corn-growing
+purposes, however desirable might be a revival of home agriculture, is
+so obvious that it may seem to have no bearing on the present issue.
+But it is only an extreme indication of the absurd and wasteful use of
+our natural resources, which would grow up slowly but surely, if we
+dispensed with ideas of rent and price as sordid irrelevancies, and
+allocated our land on the basis of a balancing of the loftiest
+arguments of a vague and sentimental character. If you are prepared
+for the distribution of land to become stereotyped, for each piece to
+continue indefinitely in its present use, then indeed you might
+dispense with rent, as primitive societies very largely do. That would
+mean stagnation and, for an industrial country, decay. But if changes
+are ever to be contemplated, a simple quantitative measure is the only
+safeguard against utter chaos. Thus rent, like interest, will be found
+indispensable as a measure under any efficient system of society, even
+if it might not always represent the payment of sums of money to
+private individuals. And that is why the principles governing rent
+possess, as I indicated at the outset of this chapter, an importance
+more fundamental than our present system of ownership and tenure.
+
+
+§6. _The Question of Real Costs_. But we must not forget the
+preliminary question that started us upon our analysis of the agents
+of production. The rent which a manufacturer or farmer has to pay for
+his land he naturally includes in his cost of production. But does
+this money cost to the individual correspond to, and measure, any real
+cost to the community as a whole? Here let us note in the first place
+that if only we could disregard the variety of uses to which land is
+put, if we could suppose that all industry was agriculture, and that
+agriculture was a single industry with a single product, we could
+argue that rent does not enter into marginal costs at all. For we
+could regard the marginal producer as the one working on a marginal
+farm, whereas we have seen there is no pure rent. The rent which other
+producers have to pay would thus represent merely the destination of
+the surplus profits which arise wherever actual costs fall short of
+marginal costs. This way of looking at the matter has proved
+attractive to some thinkers, not in the least because of a desire to
+palliate the effects of landlordism, but because it fits in so well
+with our general sense of rent as a "surplus," and a surplus as
+something distinct from a necessary price. But it is clearly
+illegitimate in an economic theory which professes "to describe the
+facts." The marginal land for many purposes fetches, as we have seen,
+a considerable rent; and this rent is certainly part of the marginal
+costs and of the necessary price of the products of the particular
+industry. The answer to our question is, however, not now very
+difficult to see. Land, greatly as it differs in many respects from
+the other agents of production, resembles them in the very important
+respect that, being used for one purpose, it is not available for
+other purposes, and that the productive powers of the community in
+other directions are thereby diminished. This is the real cost to the
+community, which attaches to the products of any industry, in virtue
+of the land which it occupies; not any human labors or sacrifices
+required to produce the land itself, but the curtailment of the
+natural resources available for productive use elsewhere. This is the
+real cost of which rent is the money measure, and generally speaking
+an accurate measure at the margin of transference between one
+occupation and another. A somewhat fanciful use of the term cost, this
+may seem perhaps, one not quite in accordance with our instinctive
+sense of what real costs should be. But possibly the real costs
+represented by wages and profits may turn out to be not so very
+different, and we had best leave the matter there, until we have
+examined the nature of these other costs.
+
+
+§7. _Rent and Selling Price_. In this chapter we have spoken mainly of
+the rent rather than the price of land: the relation between the two
+things is fairly obvious and well understood, but it will be well not
+to close the chapter without a brief account of it. The price of any
+piece of land is affected by all the considerations on which its rent
+depends, but it is also affected by another factor which has no
+influence whatever upon rent. This factor is the rate of
+interest. The higher the rate of interest, the higher the return which
+a man could obtain by buying gilt-edged securities, the lower will be
+the price that he will pay for a piece of land which yields a given
+rent. We can express the relation more precisely by the formula Price
+= (Rent * 100)/(Rate of Interest), though we must be careful, in
+applying this formula in practice to allow for the possible deviations
+between the nominal and the true rent, and similar complications. The
+price, it must be observed, is derived in this way from the rent, not
+the rent from the price.[1] Rent is thus logically the simpler, price
+the more complex thing. It is well, therefore, to analyze in the
+first instance the principles of rent, if we live in a country where
+the practice of leasing land for annual rent is less common than it is
+in Great Britain, even if, for whatever reason, it is the price of
+land with which we are concerned in practice. The problem of price
+contains two distinct elements which it is not easy to handle when
+mixed up together. For the rate of interest represents in itself an
+important branch of economics, which will require a separate chapter
+to itself.
+
+[Footnote 1: In this the rent of land differs fundamentally from that
+of other things, such as houses. For the price of a house is largely
+influenced by the costs of construction of new houses, and should
+correspond closely to them in the long run. The same relation between
+rent, price and rate of interest will hold good; but the rents will be
+affected by changes in the rate of interest, owing to the reactions of
+such changes on the supply of houses.]
+
+
+
+CHAPTER VII
+
+RISK-BEARING AND ENTERPRISE
+
+
+§1. _Profits and Earnings of Management_. The profits of a business,
+as they are ordinarily reckoned, whether for the purposes of income
+tax or of a balance sheet, comprise several elements which are
+fundamentally distinct. The relative importance of these various
+elements varies greatly from one type of business to another. The
+profits of a private business include, for instance, the remuneration
+of the work of management, which in the case of a Joint Stock Company
+is mostly paid for by salaries or directors' fees. It is to their
+profit that farmers, small shopkeepers, and the partners of a private
+firm look not merely for a return upon their capital, but for the
+reward of their own labors. "Earnings of Management," as they are
+usually termed (though in truth they often cover other and humbler
+forms of labor) are thus frequently one of the ingredients of profits.
+
+
+§2. _The Payment for Risk-bearing_. There is another element of great
+importance about which our ordinary ideas are apt to be so vague that
+it will be well to devote a chapter to its examination. This is the
+element of payment for risk, or rather the reward of risk-bearing.
+Risk is inherent in all business, as it is inherent in all life. The
+vagaries of nature and the vagaries of man are alike responsible. The
+farmer may find his harvest ruined by a drought or by a deluge; the
+coal or the gold, for the extraction of which you have perhaps set up
+an extensive mining plant, may come to an end which is unexpectedly
+abrupt. You may put your money into roller-skating rinks and find that
+cinemas have become the rage with the fickle public; sometimes "the
+market" may decline for causes which remain obscure but with
+consequences which are disagreeably plain. But while risk is always
+present in some degree, the degree varies enormously from one industry
+to another. Now, it is obvious enough that in an exceptionally risky
+industry, where there is a considerable possibility that the capital
+invested will yield no return at all, the profits of those concerns
+which succeed are likely to exceed the rate of interest on gilt-edged
+securities. But what is likely to be the magnitude of this excess? Is
+risk-taking rewarded if there is any such excess, however small? Or
+will it suffice that the gains and losses should average out to a fair
+rate of interest over the whole industry? To enable us to think
+closely let us suppose for a moment that we can measure accurately
+what the chances are.
+
+Suppose, then, that there were a precisely equal chance of success on
+the one hand and failure on the other in any enterprise, failure
+involving a complete loss of all the capital invested. Suppose,
+further, 6 per cent to be at the time a fair return on a perfectly
+secure investment. What would be the return which must be expected
+from the risky enterprise, in the event of its succeeding, before it
+will be undertaken? The reader may be tempted to answer, 12 per cent.
+But 12 per cent would not suffice. An equal chance of 12 per cent or
+nothing, as compared with a certainty of 6 per cent, does not mean
+that the risk in the former case is paid for to the tune of 6 per
+cent. It means that it is not paid for at all. In each case what a
+mathematician would call the _expectation_ is a return of 6 per
+cent. The odds are evenly balanced; in the long run, over a large
+number of cases, if the law of averages works as we assume it does,
+you would get just as much from the one type of investment as the
+other. Now, risky enterprises will not, as a rule, be undertaken on
+terms like these; investors and business men will not take risks with
+the odds precisely equal; they must have them, or believe that they
+have them, in their favor.
+
+
+§3. _Monte Carlo and Insurance_. To assert this is not to ignore the
+strength of the appeal which the gambling instinct makes to many, if
+not to most of us. The taste for gambling is, indeed, so deep and
+widespread that it would be foolish to leave it out of account in this
+connection. It is clear enough that at places like Monte Carlo people
+are prepared to have the odds unmistakably against them, apparently
+for the sheer pleasure and exhilaration of taking risks. Moreover,
+though for most people play at Monte Carlo represents a mere holiday
+indulgence, it would be unsafe to assume that what appeals to them
+there will not also appeal to them in their business affairs. But what
+exactly is the secret of the charm of Monte Carlo? It is the great
+attractive force of a small chance of a large gain, as compared with
+the deterrent force of a large chance of a small loss. People will
+readily pay $5 for one chance in a hundred of making no more, perhaps,
+than $400 or $450. And it is very likely that this holds good in the
+world of business. If, for example, we were to suppose that the
+promoters of a new enterprise were confronted with one chance in fifty
+of a profit of 50 per cent per annum on their capital, as against
+forty-nine chances of a profit of 5 per cent, this might well prove a
+more attractive prospect than a certain return of 6 per cent, although
+the strict _expectation_ of profit would be smaller in the former
+case. But the risks of business enterprise are not often of this
+type. They conform more usually to the opposite type of a large chance
+of a relatively small gain, balanced by a small chance of serious loss
+or entire failure. Now for almost everyone the possibility of a great
+loss will count as a deterrent (just as the possibility of a great
+gain may count as an attraction) for much more than its strict
+actuarial value.
+
+The truth of this proposition is demonstrated by the existence of
+institutions more impressive than Monte Carlo--the Insurance
+Companies, which play so large a part in the economic life of modern
+times. Every year, and upon an ever-growing scale, both private
+individuals and business concerns pay sums of money, which reach in
+the aggregate a colossal sum, as premiums to insure themselves against
+loss by Fire, Shipwreck, Burglary, Death, Death Duties, against every
+risk which Insurance Companies will cover. Now Insurance Companies
+are not, as we say, in business for their health. They find their
+business profitable, and pay good dividends to their shareholders.
+Moreover, they incur a considerable expenditure on offices, on
+clerical staff, on agents, and the like. All these payments must be
+defrayed out of the premiums they receive; so that it is plain that
+the premiums greatly exceed the _expectation_ of the risks insured.
+The odds are heavily in favor of the Insurance Company--of that the
+stupidest person can have no shadow of doubt. Yet we continue to
+insure, as private individuals and as business men, and so far from
+being ashamed of our proceedings as a weak and nerveless folly, which
+somehow we are unable to resist, we blazon them forth in the strong
+accents of conscious pride. We preach insurance to our neighbors as
+the core of self-regarding duty, and, if ever we feel a twinge of
+uneasiness, it is lest we, too, may have omitted in some particular to
+practice what we preach.
+
+The significance of this is unmistakable. Be our psychology what it
+may, however deep and irrepressible our taste for derring-do, however
+inadequate the scope which the dull routine of modern life affords for
+our adventurous impulses, we are most of us anxious to avoid the risk
+of great financial loss. We are very glad to find someone to take it
+off our shoulders if we can; so glad that we are prepared to pay him
+for the service, to pay him a sum which covers not only the actuarial
+equivalent of the risk, but something substantial over and above. In
+this we are entirely rational. Our conduct is justified by the law of
+the diminishing utility of money, which was noted at the end of
+Chapter III. It would be plainly foolish, for instance, to substitute
+for the certainty of an income of $2500 per annum an even chance of
+$5000 or nothing, since the utility to us of $5000 is not twice as
+great as that of $2500.
+
+The majority of business risks are not of a kind against which it is
+possible to insure. Insurance companies confine themselves to risks
+which are mainly a matter of what we call objective rather than
+subjective chance, i.e. risks in respect of which knowledge of
+detailed facts peculiar to the individual case is of minor
+importance. But such knowledge is of paramount importance in the case
+of ordinary business risks. If, for example, a new enterprise is to be
+undertaken, the special knowledge and experience which its promoters
+possess is a vital factor in determining their estimate of the risk
+involved. An outsider with no special knowledge would necessarily
+require to estimate the risk far more highly if we were to form a
+rational opinion on the basis of _his_ knowledge. So great, indeed,
+would be the risk to him, that we can lay it down as a sound maxim
+that people are extremely rash who invest their money in risky
+undertakings about which they know very little. This subjective aspect
+of business risk has a significance to which it will be necessary to
+revert.
+
+But, though most business risks are not and cannot be a matter for
+premiums and policies, the principle, which the practice of insurance
+illustrates, applies none the less. In the light of their knowledge
+and experience, the promoters of a new undertaking must weigh up the
+chances of failure and success, though they will not do so by the
+precise methods of an actuary. They will require that any chances of
+serious loss should be balanced by such chances of exceptional gain,
+as would raise the _expectation_ of profit well above the normal
+return on secure investments. The more risky the project seems the
+greater, generally speaking, must be the _expectation_ of profit
+required to induce people to undertake it.
+
+If we suppose business men to calculate reasonably, it follows that
+the average profits in any industry over a long period of years,
+reckoning in the losses of the concerns which disappear altogether,
+are likely to be higher, the more risky is the industry. Such a result
+will not, of course, occur in every case. Even when the calculations
+are reasonable, they may be entirely falsified by the event. Moreover,
+business men may not calculate reasonably on the information which
+they have. But, unless we suppose their judgment to be subject to a
+prevailing bias in one direction, i.e. to be unduly optimistic as a
+general rule, _we_ should expect, and in any case _they_ must expect,
+profits above the ordinary in a risky industry.
+
+This conclusion is sufficiently important. Far too many people, though
+they admit it when it is expressly stated and dismiss it even as a
+tiresome commonplace, are apt to neglect it when the occasion for
+applying it arises. For example, the great importance to any industry
+of good management is generally recognized, and the consequent
+desirability of paying adequate salaries to the managerial staff. The
+importance of securing a supply of capital is very widely recognized,
+and the practical necessity of paying a fair rate of interest is thus,
+however grudgingly, conceded. But the "residuary profits," as they
+are called, which accrue at present to the owners of a business, are
+denounced in some quarters in a sweeping fashion, which seems to
+ignore altogether the all-pervading element of risk. People speak as
+though you might appropriately limit profits in every industry to some
+uniform percentage on the capital employed, without making it clear
+whether you would even be allowed to make up in good years for the
+losses incurred in bad. The effect of introducing any such crude
+device into our present industrial system could only be to paralyze
+enterprises of an unusually risky kind, which, so far from being
+pushed to an excess at present, are more probably curtailed unduly
+from the standpoint of what is socially desirable. Like the fixing of
+a low maximum price for a commodity it would cause the supply to
+wither up and disappear.
+
+
+§4. _Risk under Large-scale Organization_. While this is true of the
+present economic system, the question is worth considering whether it
+represents a fundamental necessity, whether, for instance, under our
+world socialist commonwealth the factor of risk-bearing need play so
+important a part as it does in the actual business world. This
+question cannot be answered with a conclusive simplicity; opposing
+considerations present themselves, between which it is not easy to
+strike a balance. On the one hand, in accordance with the law of
+averages gains and losses tend to cancel out over a large series of
+transactions, _when reasonable calculations have been made_. Thus
+Insurance Companies, while they take heavy risks off the shoulders of
+policy-holders, incur relatively trifling risks themselves; they can
+predict the aggregate sums which they will be called upon to pay
+within a small margin of error. In the same way it might seem that
+every enlargement of the scale of business would make for an automatic
+insurance and a consequent economy of risk; and thus that if all
+businesses were comprised in a single financial unit, gains and losses
+would cancel out over so wide a range that the degree of risk
+remaining would be almost negligible.
+
+This might indeed happen, if business risks were mainly of that
+objective kind in which the insurance companies specialize; for then
+we could assume that the chances of success or failure would be
+estimated reasonably. But, in fact, most business risks, not being of
+this kind, must be estimated by processes of human judgment, which are
+very fallible. And here we must take account of the law of averages in
+another aspect, with a different bearing on the argument. When an
+industry comprises a large number of separate concerns, and the
+decisions accordingly are taken by many men, acting independently of
+one another, the errors of calculation will tend to some extent to
+cancel one another out. The undue optimism of one man will be balanced
+by the undue pessimism of another; and, if there is no prevailing bias
+in either direction, the errors of judgment will not affect the
+results for the industry as a whole. But where the effective decisions
+are taken by very few men, the chances are far greater of a
+preponderating balance of error in one direction. The risks dependent
+on the factor of human judgment tend therefore to increase.
+
+This truth can be illustrated by a phenomenon which is fairly
+familiar. It is recognized by intelligent persons that the risks of
+speculation in a particular commodity market or stock market increase
+more than proportionately to the scale of operations. A man who sets
+out as a "bull" upon a small scale can buy without sending up the
+price against him in the process, and, if he decides later that his
+judgment is mistaken, he can at any time cut his losses and sell out
+without much difficulty. But a "bull" on a very large scale cannot
+complete his purchases except at a price which has been raised in
+consequence of his own action, and he cannot count on being able to
+"unload" at or near the market price, should he decide to do so. If,
+accordingly, he miscalculates, he cannot save himself from serious
+loss as a smaller man might do by a prompt discovery of his error. His
+difficulties spring from the fundamental fact that the effects of his
+calculations are too great to be offset by those of the different, and
+often opposite, calculations of other men.
+
+Upon the issue whether a growth in the size of the business unit is
+likely to diminish risk, the law of averages thus cuts both ways. The
+risks arising from the element of pure chance are more likely, those
+arising from miscalculation are less likely, to cancel out. Upon
+these grounds alone, it would be unsafe to conclude that there would
+be on balance an economy of risk under any system of national or world
+socialism.
+
+
+§5. _The Entrepreneur_. There remains, however, an aspect of the
+problem which is perhaps more important than those discussed above. It
+is probable that risks would be estimated and undertaken more wisely
+or less wisely under a different system of society or of industrial
+organization? Upon this issue, methods of precise analysis are out of
+place, but we may have something to learn from the emphatic testimony
+of tradition. It has become an axiom of business men that, while
+Governments can manage with more or less competence a safe and routine
+business like a Postal Service, their success would be unlikely to
+prove conspicuous in undertakings where the element of risk is
+great. There, it is said, we owe everything in the past to the
+enterprise of individual men (for even joint-stock companies have not
+been notable as pioneers) adventuring their own fortunes in accordance
+with their own unfettered judgment. This contention, however much we
+may desire to qualify it, has unquestionably a large measure of truth,
+and the explanation is not difficult to discover. For the wise taking
+of risks in industrial development of an experimental character,
+peculiar conditions and special qualities are required. First, it is
+necessary to envisage distinctly the promising though risky
+opportunity, and this calls not infrequently for imagination of a none
+too common order. Then it must be studied with insight and expert
+knowledge and weighed by processes which are as much intuitive as
+intellectual. The reasons for or against taking a particular business
+risk are seldom such as can adequately be expressed in terms of
+arithmetic, or even by clear arguments the soundness of which is
+proportioned to their logical cogency. The mysterious faculty of
+judgment enters in; and from mental processes which defy analysis
+there emerge ultimately conviction and the will to act. But it is
+precisely here that Government Departments are apt to fail. It is here
+that the individual, who need consult no one but himself, has a pull
+over any form of organization, where decisions are reached by the
+method of debate and agreement among a heterogeneous committee. Hence
+it is that we have come to regard exceptional risk-taking as the
+peculiar province of individual enterprise. It is probable that these
+deficiencies of corporate organization are tending to diminish, and it
+is an interesting question how far it may be found possible to
+eliminate them in the future.
+
+Meanwhile the above considerations have an important bearing on the
+rewards which can often be obtained from risky enterprises. The number
+of individuals who are in a position to envisage a business
+opportunity, and to assess with some confidence the chances of success
+and failure is very limited. Not only must they possess special
+knowledge, ability, imagination, confidence in their own judgment, and
+the capacity to act on it; they must also have at their disposal
+considerable financial resources. To combine all these advantages
+represents a union of circumstances which is distinctly rare. The
+fortunate few, who do combine them, are thus generally able to extract
+in the form of profits a high price for their services, a price which
+covers not only the strict reward of risk-bearing, and the necessary
+remuneration of their own service, but a handsome payment for the
+special qualities and advantages which have been indicated. Profits,
+moreover, may vary between one industry and another, not only in
+accordance with the real risk which is entailed, but with the degree
+to which the supply of special knowledge, etc., is scarce or abundant.
+
+This consideration goes a long way to explain the large fortunes which
+enterprising business men are often able to amass. It also throws some
+much-needed light upon the functions which such men discharge. They
+perform to a large extent the work of management; they supply capital
+on what may be a considerable scale; but it is the taking of business
+risk which is perhaps their most characteristic function. It is the
+union of these functions which distinguishes them as an essentially
+different type from the salaried manager who has invested his savings
+in rubber or in oil. In other languages there is a specific name for
+the man who combines all these three functions; in French he is called
+an "entrepreneur," in German an "Unternehmer." It is much to be
+regretted that in English we have no clear corresponding word. The
+word "capitalist" is not uncommonly employed to do duty in this
+connection, but this is a source of much confusion. For the word is
+also used, and more appropriately, to include all investors, whether
+or not they are active business men.
+
+
+§6. _Risk-taking and Control_. But there is an allied confusion of
+more importance. We commonly suppose it to be a leading feature of our
+present "capitalist system" that the control of industry rests in the
+hands of those who supply the capital. Nor, as a general statement, is
+this untrue. But it conceals the essential point. Strictly speaking,
+it is risk-taking with which control is associated. The mere lending
+of money carries with it no title to control. Governments and
+municipalities concede no such title to the subscribers to their
+loans; nor does a company to its debenture holders. The shareholders'
+ultimate control is based upon the fact that they bear the financial
+risks of the concern. Nor is this a matter of mere legal form. It is
+not uncommon for ordinary shares to carry with them a greater voting
+power than the preference shares of a corresponding value. The
+principle which such arrangements endeavor to express is clear:
+control should rest with him who bears the risk. It is with this
+principle rather than with a mulish insistence on the rights of
+property, that advocates of "workers' control" and the like have got
+to reckon. It is upon this ground that (as they may quite conceivably
+do) they must make good their case.
+
+
+§7. _General Analysis of Profits_. Let us conclude this chapter by
+clearing the ground for the next. Earnings of management, payments for
+risk-taking and for the special knowledge and advantages associated
+with it, are ingredients of the gross profits of a business. The chief
+element that remains is that of interest on capital. Frequently,
+indeed, it is not the only one. As we saw in the last chapter, a
+farmer may not be required by his landlord to pay the full economic
+rent for his farm; and he may therefore make profits above the normal
+level, above the ordinary return for his own services, his own capital
+expenditure, and the risks to which he is necessarily exposed. In such
+a case the farmer is really the recipient, as we have already
+suggested, of part of the economic rent of the land; and an element of
+rent accordingly enters into his gross profits. But profits may
+include a surplus element which may arise in a great variety of other
+ways. A business may possess some decided advantage which is not open
+to competitors; and it may reap high profits accordingly. You can,
+for instance, if you choose, regard the high money profits, which, as
+was suggested in Chapter IV, are likely to accrue in future to the
+owners of pre-war factories, as a surplus profit of this kind. But
+while, as this illustration indicates, the phenomenon of surplus
+profits becomes of very great importance when we seek to study the
+distribution of wealth, it need not detain us here. For the surplus
+element arises only in so far as the costs of a business are lower
+than the marginal costs; and it is the marginal costs, which, with
+good reason, we are now endeavoring to analyze. The marginal costs
+must include a normal profit, i.e. a profit which will cover earnings
+of management, the reward of risk and enterprise, interest on capital,
+but nothing further. It remains, then, only to consider this last
+element of interest.
+
+
+
+CHAPTER VIII
+
+CAPITAL
+
+
+§1. _A Reference to Marx_. Interest is the price paid simply for the
+use of capital. But what is capital, and in what does its use consist?
+What claim has it to be regarded as an independent factor of
+production? Our very familiarity with the term, our habit of employing
+it with the rich looseness of every-day life is an obstacle to the
+clearness of thought, which is again essential. We recognize, most of
+us, clearly enough that capital, although we reckon it in terms of
+money, consists, like income, of real things; factories, machinery,
+materials and the like. It is quite obvious that these things are of
+use, are, indeed, indispensable for production; what more natural than
+that capital should command a price? It almost seems as though we
+might pass, without further ado, to a detailed discussion of the
+forces which determine the amount of this price.
+
+But this account does not bring out the essential point as brief
+reference to a very famous controversy will show. Some ingenious
+writers in the last century, the most notable of whom was Karl Marx,
+set out to prove that, in our modern society, workpeople are
+"exploited," robbed of the "whole produce of their labor," to the full
+extent of the return which accrues to capital. The argument was
+exceedingly complex in detail; but it boils down to this: The
+factories and machinery which are admittedly essential to production
+were themselves produced in exactly the same way as consumable
+goods. They were produced by labor, working with the assistance of
+nature, and, again, if you choose, of capital in the form of further
+factories, machinery, etc. But these further capital goods can in
+their turn be regarded as the product of labor, nature and capital;
+and so we can proceed until it seems as though the element of capital
+must disappear in the last analysis, as though labor and nature were
+the sole ultimate agents of production, and the reward of capital
+represented no more than the exercise of the exploiter's power. In one
+form or another this argument still dominates the minds of a large
+proportion of the so-called "rebels" against the existing social
+order.
+
+If we are to meet this argument, if, which is perhaps more important,
+we are to understand the true nature of capital, we cannot rest
+content with saying that it consists of factories and machinery, and
+that these are essential to the worker. Just as it was well to get
+behind the money terms, in which we often think of capital, to the
+real goods; so we have now to get behind the real goods to something
+else. What this something else is, the first chapter may have already
+done something to reveal.
+
+
+§2. _Waiting for Production_. Between production and consumption there
+is an interval of time. All productive processes take time to
+accomplish. The farmer must plow the soil and sow the seed months
+before he can reap the harvest which will reward him for his
+efforts. Meanwhile, he must live, and in order that he may live he
+must consume. If he employs laborers he must pay them wages, that they
+too may consume and live. For both purposes he requires purchasing
+power, which represents of course command over real things; and if he
+has not sufficient purchasing power of his own, he must borrow from
+someone else who has. In either case it is not enough that the farmer
+and his laborers should work; no less essential is it that someone
+should _wait_. The farmer must wait till he has sold his crops, both
+for the reward of his own labor and for the repayment of the wages he
+advances in the meantime to his laborers. Or, if he cannot afford to
+wait, and borrows in anticipation of the harvest, then the lender must
+wait, until the farmer, having sold his crop, is able to repay
+him. Thus the period of time involved in all production gives rise to
+a demand for _waiting_, which someone or other must supply, if the
+production is to take place. It is this waiting which is the essential
+reality underlying the phenomena of capital and interest. It is really
+this which constitutes an independent factor of production, distinct
+from labor and nature, and equally necessary.
+
+
+§3. _Waiting for Consumption_. But let us carry the argument a step
+further. After the farmer has sold his crops, there are many stages
+through which they must pass, at each of which more waiting is
+required, before they reach the ultimate consumer. But then the
+waiting is at an end.
+
+This, however, is by no means the case with a great number of
+commodities. Let us take the case of a speculative builder. While he
+is building a house he, like the farmer, must wait (or find someone to
+wait on his behalf), for his own reward, and for the repayment of his
+expenditure on wages and materials. But, after the house is built, if
+he lets it to a tenant for an annual rent, his waiting is far from
+over. Not until many years have passed will the rent payments add up
+to a sum which equals or exceeds his outlay. He may, of course, sell
+the house, and thus bring his waiting to an end. But then the
+purchaser must wait, no matter whether or not he is the occupier. For
+no one would consider the use of a house for a day, a month, or a year
+as an adequate return for the price it cost to buy. The occupier-owner
+pays for the prospect of its use for a long and perhaps indefinite
+number of years ahead, and he must wait to enjoy the benefits for
+which he pays now in full. Waiting is as inherent in the consumption
+of durable things as it is in all production.
+
+Now most industries are consumers of durable things of a very
+expensive kind. Here we come back to the factories and machinery which
+ordinarily spring to our mind at the mention of the word capital. Not
+merely does the construction of these things involve waiting; their
+consumption involves waiting on a vastly larger scale. Just as with a
+house, many years must elapse before their derived utility can even
+approximate to their purchase price. It is mainly to supply the
+waiting involved in the consumption of such durable goods, that a
+typical joint-stock company issues shares for public subscription. The
+waiting required to cover the period of time, which its own productive
+process requires, is largely supplied by means of bank overdrafts or
+other forms of short-period borrowing. More strictly, fixed capital
+represents the waiting involved in the consumption of durable things;
+circulating capital the waiting involved in current production.
+
+This distinction loses its sharpness when we consider not the affairs
+of a particular business, but the industrial system as a whole. Then
+the period of time involved in the consumption of durable instruments
+falls into place as part of the time required for the production of
+the ultimate consumers' goods. We can even, perhaps, conceive of an
+"average period of production" for industry and commerce as a whole;
+and this conception is not without its uses. For it serves to bring
+out the fact that the period of consumption, and the period of
+production in the narrower sense, are only two aspects of the same
+fundamental thing, the interval of time which elapses between work and
+the utility, which is its ultimate purpose. It serves, moreover, to
+make clear that anything which lengthens this interval of time
+increases the demand for waiting, or in other words, the demand for
+capital; and, conversely, that anything which shortens this interval
+diminishes the demand for capital.
+
+
+§4. _Capital not a Stock of Consumable Goods_. But the distinction
+between the two forms of waiting, though not fundamental, is none the
+less worth noting. It enables us to keep our theory in conformity
+with fact, to look at the phenomenon of capital the right way up; and
+it is easy, if we are not careful, to slip into the habit of looking
+at it upside down. People sometimes speak as though the commodities
+which constitute our capital, instead of being mainly, as our plain
+sense tells us that they are, factories, machinery and other durable
+instruments, were rather a _store_ or _stock_ of immediately
+consumable goods. The argument takes the following form. It is
+consumers' goods, things like food and clothes, which the farmer, the
+builder and their workpeople consume while they are working. To enable
+them to work, therefore, it is vital that such things should not in
+the past have been consumed as soon as they were made; part of them
+must have been saved, and carried forward for future use.
+Furthermore, the longer the time that the work on which people are now
+engaged takes to yield its product, the larger must be this store of
+consumers' goods. For these products, when they are completed, will
+serve (taking society as a whole) to replace the store which in the
+meantime is being used up, so that the longer this replacement takes,
+the larger must be the initial store. Conversely, the larger the
+store of consumers' goods available, the more distant is the future
+for which we can afford to work. It is thus the store or stock of
+consumers' goods which represents our real capital; for it is the
+magnitude of this store which determines how far we can devote our
+energies to purposes which are remote in time.
+
+Now this is pure mysticism. Regarded literally, it is in direct
+conflict with the facts. The processes of industry are fairly regular
+and continuous. At any moment, large quantities of consumers' goods of
+almost every kind are on the point of completion; at the same moment
+equally large quantities are consumed. The things which we buy were
+finished, very likely, only recently; or, if in fact they have lain
+idle for some time in stock, there is nothing essential or at all
+helpful in that fact. It represents rather a defect--a maladjustment
+which should be rectified. Even many kinds of agricultural produce do
+not need to be carried forward from one year to another, for they are
+produced in many parts of the world, where the seasons come at
+different periods of the year. It is conceivable, therefore, that we
+might consume all non-durable things the moment they were ready, and
+the degree to which we approximate to this ideal is a mark of the
+efficiency of our economic system. A large store of consumable goods
+is thus _not_ a fundamental necessity of a prosperous society.
+
+What _is_ necessary is plainly the power to produce these things in
+large quantities as they are required. And this power is furnished by
+the durable instruments of production, which we thus rightly regard as
+the true representatives of modern capital. If it is argued that this
+power to produce consumable goods may be regarded as being _in effect_
+a store of consumable goods, it must be sternly replied that this is
+the language of symbolism, not of science, and that symbolism is
+highly dangerous in this connection. The false conception of capital
+as essentially a store of consumers' goods has led and still leads to
+many serious fallacies. It was this that gave rise to the notorious
+doctrine of the Wages Fund; the notion that the sum which can at any
+time be paid in wages is equal to the quantity of capital, _alias_
+consumable goods, which happens to exist. To this day it blocks, with
+an undergrowth of obscurantist controversies, the way to a
+straightforward account of the problem of trade cycles.
+
+
+§5. _The Essence of Waiting_. But it is with positive conclusions that
+we must here concern ourselves. What is the essence of this waiting,
+as we have called it? What are its results from the point of view of
+the community? The individual, who saves and lends, waits in the
+obvious sense that he postpones consumption. He foregoes his right to
+purchase now a quantity of consumers' goods in consideration of the
+prospect of purchasing a larger quantity of such things in the
+future. From the standpoint of the whole community, there is a similar
+postponement of consumption, though it need not commence so soon. The
+store of consumable goods is what it is: the quantity of goods in
+_process_ of manufacture, which will shortly be coming forward, is
+also what it is. For some time, therefore, a sudden access of saving
+cannot affect the quantity of goods available for consumption; and if,
+in fact, they should be consumed less rapidly, that will represent an
+unfortunate defect, not an essential condition of a smoothly working
+system. The _necessary_ consequence comes later. The increased saving
+will cause labor, materials, land, agents of production generally, to
+be devoted to distant purposes. Men will be set to work producing
+durable goods, largely durable instruments of production like ships or
+railways or factories or plant. If the increased saving is
+considerable, the labor, materials, etc., required for these purposes
+will be withdrawn even under our present system, as under a smoothly
+working system they clearly must be, from the production of other and
+more immediately consumable things. Hence, some time later, the
+supplies of consumable things will be diminished, while at a later
+period still they will be more than correspondingly increased as the
+result of the assistance of the new durable instruments. That is the
+essence of saving from the social standpoint. An early future is
+sacrificed to a more remote future. The aggregate consumable income of
+the present is unaffected; the aggregate consumable income of the near
+future is actually diminished; it is not until at least some years
+later that the aggregate consumable income is increased.
+
+
+§6. _Individual and Social Saving_. This conclusion is important: but
+there is an obvious misinterpretation against which it will be well to
+guard. It is customary for social moralists to preach thrift and
+saving as a public duty, and to impart to their appeals a special note
+of urgency in times like the present, when, as the result of the havoc
+of the war, destitution is widespread over Europe. Now obviously these
+advisers do not mean to recommend something which will impoverish the
+world next year and the year after and the benefit of which will
+accrue only in a distant future: it is the immediate urgency of the
+world's needs which is rather the substance of their case. Nor would
+it be right to conclude that these wise men are the victims of a
+delusion, and advocate a course, the consequence of which they do not
+understand. The explanation of the paradox is simple. The more the
+community as a whole saves now, the less in the near future will be
+the aggregate consumable income of the whole community: but not of the
+_remainder_ of the community, exclusive of the savers. It is the saver
+who must wait, whose consumption must be postponed to perhaps a
+distant future; but _at no time_ does his saving result in a smaller
+income of consumable goods for other people. The aggregate consumable
+income of the near future will be diminished, but it may be better
+distributed, and it may consist of things of a different _kind_. For
+consumers' goods, we must remember, comprise champagne and motor cars
+as well as food and clothes; and, if a rich man saves, it may be
+purely articles of luxury, the production of which will shortly be
+diminished. Moreover, if his saving has the effect of transferring
+purchasing power to impoverished people, like those in Central Europe,
+it will not be devoted to a distant future; it will very likely be
+devoted to quite immediate ends. In other words, it may not result in
+any "creation of capital"; it may not represent any saving on the part
+of the community as a whole. A relatively rich man waits, and a
+relatively poor man _anticipates_ his income to a corresponding
+extent; and it is precisely this that is so urgently desirable in a
+time of widespread poverty and chaos.
+
+This is no matter of hair-splitting, and making plain things
+obscure. While it is always better for the _rest_ of us that an
+individual, who can afford to save, should save rather than spend
+(though it might be better for us still if we could have his money to
+spend ourselves) and while this is the more important the greater is
+the poverty which generally prevails; yet, as a community we cannot
+save so much, we _ought_ not to save so much, when we are impoverished
+as when we are prosperous. It is vital to appreciate this truth,
+because, as we shall see, by no means all the saving of the world is
+done by individuals. There are many forms of "collective saving,"
+which take place in actual fact; still more which we are often urged
+to undertake. And it is of practical importance to realize that the
+very considerations, which call most urgently for individual thrift,
+forbid a great indulgence in such projects. A time of national poverty
+is not a time when it is suitable for the State to embark on large
+schemes of capital development: we require our resources for more
+immediate ends. Faced with such problems, our practical sense may no
+doubt suffice to keep us straight; but it is apt to do so at the
+expense of a complete inversion of the real issues. If, for instance,
+we call for Governmental retrenchment on what we deem extravagant
+policies of housing and education, we usually speak as though they
+represented the profligacy of a spendthrift as contrasted with the
+saving that is indispensable. The truth is rather that these policies
+represent a saving, an investment for future purposes, which may
+conceivably be greater (this must not be taken as representing my
+personal opinion) than the community can properly afford. This is
+another instance of what I mean by looking at the problem of capital
+the right way up.
+
+
+§7. _The Necessity of Interest_. It is only now that we are in a
+position to appreciate the true functions of a rate of interest, and
+the nature of its claims to be regarded as a "real cost." Interest, it
+is sometimes said, is necessary to provide for the future. It is far
+more certain that interest is necessary to provide for the present. It
+is a matter of legitimate doubt how far it is necessary to _pay_
+interest to secure a supply of capital; there is no doubt at all that
+it is necessary to _charge_ interest to limit the demand for it. As we
+saw in Chapter I, a world socialist commonwealth would require to
+retain a rate of interest, if only as a matter of bookkeeping, in
+order to choose between the various capital undertakings that were
+technically possible. And this is the primary function which the fate
+of interest fulfils in our present-day society. It separates the sheep
+from the goats. It serves as a screen, by means of which capital
+projects are sifted, and through which only those are allowed to pass
+which will benefit the future in a high degree. For this essential
+purpose it is hard to imagine how a better instrument could be
+devised.
+
+
+§8. _The Supply of Capital_. Let us dwell for a moment on this image
+of a screen, or sieve. One condition of a good sieve is that its
+meshes should all be of the same size. This condition the rate of
+interest almost perfectly fulfils. But it is also important that the
+meshes should be of the _right_ size. Whether this is true of the
+actual rate of interest is a far more doubtful matter. It is, indeed,
+plain that it is not altogether devoid of merit in this respect. In
+times of general world poverty, like those which follow upon a great
+war, it is desirable, as has been argued, that more of our productive
+resources should be devoted to immediately useful purposes, and a
+smaller portion dedicated to a distant future. This readjustment the
+rate of interest helps to bring about. For it rises to a higher
+level, and there is accordingly a strong inducement to all
+manufacturers and traders to economize their use of capital, and thus
+to set free productive resources for more urgent needs. But, while the
+meshes of the sieve, as it were, contract in times when it is
+desirable that they should contract, we have no reason for supposing
+that they will contract in just the degree that is desired, neither
+more nor less; or, indeed, that at any time they approximate to the
+right size. We in the twentieth century owe much of the material
+wealth that we enjoy to the fact that over the last century men saved
+as largely as they did. But our natural gratitude should not restrain
+us from doubting whether they were really well advised to do so. If we
+ask the question _how_ they managed to do so, our doubts are
+deepened. For first place among the explanations must be assigned to
+the inequality in the then distribution of wealth. It was because many
+men in England were rich enough to save that our railways were built,
+and the resources of new Continents were opened up. But England, a
+century or even half a century ago, was not really a rich
+community. And if the national income in those days had been
+distributed more evenly among the people, can we doubt that they would
+have spent a far larger proportion of it on immediate needs; can we
+doubt that they would have been right to do so? We may rather doubt,
+in view of the reactions of poverty on physical and mental efficiency,
+on social harmony, even possibly on population, whether we to-day
+would have been really injured as much as might appear. How, then, can
+we suppose that the sum of the amounts which it suits individuals to
+save will bear any close relation to the resources which the community
+can properly devote to future ends? Are we to regard an unjust
+distribution of wealth as a mysterious dispensation of Providence for
+securing perfect harmony between the future and the present? The
+point need not be labored further. There are no grounds for assuming
+that we save, as a community, even roughly what we ought to save. If
+we wish to believe we do, we must turn for support from economics to
+theology.
+
+It is important to be clear upon this issue in order to distinguish it
+from another, with which it sometimes seems to be confused. This is
+the question, briefly outlined in Chapter II, of the effect of changes
+in the rate of interest on the supply of capital. As was there
+indicated, there are good reasons for supposing that a fall in the
+rate of interest would induce some people to save more, and
+conversely. But the balance of probability is in favor of the
+conclusion that the _net_ effect of changes in the rate of interest,
+though perhaps slight, is usually of the more ordinary kind. The
+decisive argument in this connection is the fact, upon which we have
+just touched, that savings are supplied largely by people who are
+relatively rich, and who become richer when the rate of interest
+rises. For at this point it is necessary to be careful. It is easy to
+slide from the above conclusion into an argument of the following
+kind. A higher rate of interest leads to more saving; it is thus
+necessary to _evoke_ more saving; it is thus required as an
+_incentive_ to induce people to incur the _sacrifice_ of waiting; this
+sacrifice represents the "real cost" for which interest is paid.
+
+This terminology of incentive, inducement and sacrifice is of very
+dubious validity. A rich man, who is made richer by a rise in the rate
+of interest, will probably save more, but it will be rather because he
+has become richer than because he is tempted by the higher rate: and
+the less we talk about his sacrifice the better. Nor is it clear that
+the attraction of a high rate of interest is an operative factor on
+the mind of a man to whom saving means a real sacrifice of immediate
+comfort or enjoyment. Certainly it is only one among many factors, and
+seldom an important one. A really poor man will think not so much of
+the annual income which will accrue from his savings, as of the
+capital sum upon which he or his family can fall back if a rainy day
+should come. And for this purpose he might save as much as he saves
+now, even if there were no interest to be obtained thereby. He might
+even be prepared to lend what he had saved, at least to banks (a
+deposit with a bank is in effect a loan), for the mere advantage of
+safe custody. The people who save rather for the sake of the capital
+sum that can be realized than for that of the annual interest are very
+numerous, and probably include many men in receipt of quite
+considerable earned incomes. Moreover, those who consider mainly the
+future annual income which their savings will yield them, are usually
+more concerned with its absolute amount than with the ratio it bears
+to the amount they must save in order to acquire it. For this reason,
+as has been often recognized, they may save less when the rate of
+interest rises, since a smaller quantity of savings will insure to
+them the future annual income they desire to obtain. There is no need
+to be dogmatic upon any of these points. The psychology of saving is
+both complex and obscure. Our conclusion must be the negative one that
+we have insufficient evidence to warrant the assertion that the
+particular rate of interest which happens to prevail is a measure of
+the sacrifice involved in saving, even in the case of what we might
+regard as the "marginal saving." And, if we cannot assert this, we
+must be careful not to assume it as the basis of other arguments, or
+as part of a general analysis of price or exchange value.
+
+It is of some interest to observe that the difficulties which our
+world socialist commonwealth would encounter if it attempted to
+dispense with the rate of interest, would not necessarily include that
+of obtaining a supply of capital. It might, indeed, not find it easy
+to determine the proportions in which it should allocate its
+productive resources between immediate and distant ends. Our present
+system cannot be said to have evolved satisfactory principles for the
+solution of this question; and the socialist commonwealth would have
+to work out its own solution. But when it directed that labor and
+materials should be devoted to purposes of long-period utility, there
+would be an automatic collective saving, of which no one would be
+conscious as an individual sacrifice. Even at the present time, our
+capital is not supplied entirely by the savings of individuals, but to
+an extent, which though quite incalculable is yet certainly
+considerable, by involuntary saving of an essentially similar type to
+the above.
+
+
+§9. _Involuntary Saving_. When a municipality embarks on a municipal
+tramways scheme or any other industrial enterprise, and pays off by
+means of a sinking-fund the capital which it borrows in the first
+instance, the proceeding amounts, as the defenders of municipal
+trading have rightly claimed, to a compulsory and unconscious saving
+on the part of the citizens. Their consumption has been postponed
+willy-nilly as the result of the increased rates or the high charges
+which they have had to pay; and, when the subscribers to the original
+loan have been paid off, the capital of the community is enhanced to
+the extent of that loan. Central governments might similarly increase
+the supply of capital by devoting annual revenue to capital purposes;
+though their actual record, as it happens, is mainly of a different
+kind. But what is chiefly a possibility in the case of Governments has
+actually been carried out on an enormous scale by other institutions.
+The development of the joint-stock company system has introduced a new
+factor into the problem of the supply of capital, which is of immense
+though but dimly perceived importance. The directors of a company are
+technically no more than the servants of the shareholders. It is the
+profit of the shareholders that it is the directors' duty to promote
+with a single mind, and the whole capital of the concern, including
+its reserves both open and concealed, is the shareholders' exclusive
+property. But realities have a way of differing from forms, and just
+as in political affairs it is common to regard the State as a very
+different thing to the people who compose it, as a sublime entity with
+a separate existence of its own, so directors are apt to distinguish
+between the company and the shareholders. It is the company to which
+they owe allegiance. To pay away in dividends to shareholders money
+which they could employ in extending the business or strengthening the
+position of the company appears to some directors a necessity hardly
+less unpleasant than an increased wages bill, or an Excess Profits
+Duty. Concessions must indeed be made to the shareholders' rapacity:
+but when something has been done in this direction, dust can easily be
+thrown in their not very observant eyes. Reserves, which within
+limits are a necessity of sound finance, can be accumulated beyond
+those limits, and, when the further limits of an extreme but just
+arguable conservatism have been passed, there remain the innumerable
+devices, known to every resourceful Board, of hidden reserves, the
+secret of which is unmenaced by the meager information of a
+balance-sheet. In all this the shareholder, as the directors
+occasionally assure themselves, has no real grievance, for he will
+gain in the long run, from the appreciation in the capital value of
+his shares, all and perhaps more than all that he foregoes in the
+meantime in the way of dividends.
+
+In the long run the shareholder is not injured; but in the meantime he
+is in effect compelled, without any consciousness of the proceeding,
+to save and to reinvest in the company a portion of the dividends,
+which he might otherwise have spent. The reserves which are
+accumulated are not allowed to lie idle: they are employed either in
+what are really capital extensions of the business, or in the purchase
+of outside securities, and in either case they represent an increase
+in the total supply of capital. The principal which these proceedings
+represent is capable of indefinite extension.
+
+But however possible it might be to secure a supply of capital without
+the inducement of a rate of interest, that rate is indispensable for
+dealing with the demand. It is no good saying, "Three per cent seems
+a fair rate of interest; let us try and limit it to that." Given the
+amount of savings which are supplied, the rate of interest must be
+allowed to reach whatever figure is necessary to confine the demand to
+that amount. Given the quantity of resources which you have available
+for future needs, the meshes of the sieve must be made as narrow as is
+necessary to confine the projects that pass through within those
+limits. And so, indeed, it becomes necessary for any particular
+business to pay for its capital interest at the market rate, not so
+much to secure the saving of it as to secure its allocation from the
+common pool.
+
+
+§10. _Interest and Distribution_. It is unavoidable that this interest
+should accrue to whoever it is that supplies the capital. If the
+capital were supplied, as it might conceivably be, collectively by the
+community, the interest would accrue to the community, and all would
+be well. But as things are, the capital is supplied mainly by the
+savings of individuals, and largely by individuals confined to a
+relatively narrow class. The profits of Capital have thus a vital
+influence on the very serious matter of the distribution of wealth
+between social classes. Now, as experience shows, there is no element
+in profits which is capable of such radical change in so short a space
+of time, as is the rate of interest. Even before the war it had become
+hard for people in Great Britain to realize that 3 per cent Consols
+had stood at 114 as late as 1896. "How blest," wrote two cynical
+satirists of society in the same period:
+
+"How blest the prudent man, the maiden pure,
+Whose income is both ample and secure,
+Arising from Consolidated Three
+Per cent Annuities, paid quarterly."[1]
+
+It is impossible to read those lines now without a sense of irony,
+different from that which they were intended to convey.
+
+Not only is the rate of interest now double what it was a generation
+ago; we have no good reason to suppose that the present high level
+will quickly be reduced. The havoc of the war, of which the
+widespread poverty of Europe and the huge debts of Governments are but
+two different aspects, makes it almost inevitable that the rate should
+rule high in the present decade. This cannot but exercise a profound
+influence, of a most disquieting character on the general level of
+profits, and to a lesser extent (for here we must allow for the
+effects of high taxation) on the distribution of real wealth between
+social classes. Here we are on the threshold of tremendous issues. We
+almost feel the earth quake beneath our feet. We hear the muffled roar
+of far-reaching social controversy:
+
+"And 'mid this tumult Kubla heard from far
+Ancestral voices prophesying war."
+
+[Footnote 1: _Narcissus_, by Samuel Butler and Henry Festing Jones.]
+
+
+
+CHAPTER IX
+
+LABOR
+
+
+§1. _A Retrospect on Laissez-faire_. When, a century and a half ago,
+the foundations were being laid in the Western world of systematic
+economic theory, the public attention was much occupied with a
+subject, which indeed has not ceased to hold it: that of the failings
+of Governments. The general interest in that topic was shared by the
+pioneers of economic thought, of whom, in Great Britain, Adam Smith
+was the most notable. It was indeed their practical concern with the
+concrete economic issues of the day which very naturally gave the
+impetus to their scientific quest. It was hardly less natural that
+they should have expressed their opinions on these concrete issues
+with considerable emphasis.
+
+Now the keynote of their practical conclusions was that Governments
+were doing immense mischief by meddling with a great many matters,
+which they would have done better to leave alone. In this they were in
+general agreement with one another; incidentally--let there be no
+mistake about it--they were right. But, as invariably happens in
+public controversy, their opinions became crystallized in a compact
+formula, or cry, with unduly sweeping implications. This was the cry
+of "_laissez-faire_." Let Governments preserve law and order; and
+leave the economic sphere alone. The economists picked no quarrel with
+this formula; it served well enough for workaday purposes to indicate
+the lines of policy which they rightly thought essential in their day.
+
+The history of this cry is the history of every cry which has won a
+wide acceptance from mankind. It did good work for perhaps half a
+century; but then many crimes were committed in its name. The
+instrument which had been forged to clear away a noxious tariff jungle
+and the monstrous laws of Settlement, was turned against Lord
+Shaftesbury and the Factory Acts. Not only was inaction recommended
+to Governments as the highest wisdom; other institutions, like trade
+unions, were warned off the economic grass. An ideal of perfect
+competition became an idol to which much human flesh and blood were
+sacrificed.
+
+But, what is more to our present purpose, the idea took root of an
+intimate association between the laws of economics and the policy of
+_laissez-faire_. People who opposed some long-overdue measure of State
+regulation believed themselves to be justified by the eternal verities
+of economic law, and this claim even the advocates of the measure
+seldom ventured to dispute. They took refuge rather in a conception of
+economic law as a dangerous monster, whose claws must be clipped in
+the interests of the higher good. This notion that all interference
+with so-called "free competition," is a violation (though very likely
+fully justified) of economic laws has sunk deep into our common
+thought. So that to this day, whenever we see at work the hand of a
+State department, a trust or a trade union, we are apt to say "Demand
+and supply are here in abeyance," and possibly we add "A good thing
+too." Since in the matter of wages, the hand of the trade union is
+very generally evident, it is impossible to discuss the subject-matter
+of this chapter, until we have rid our minds of this quite baseless
+prepossession. To sweep away this cobweb, I urge the reader to recall
+here the general tenor of the analysis of the preceding
+chapters. Whether we were dealing with the price of an ordinary
+commodity, with joint products, land or capital, we came across
+relationships which seemed altogether more fundamental than our
+present industrial system; nor, we may incidentally observe, were we
+ever required to suppose that the present system was one of "perfect
+competition." These relationships were almost invariably such that
+even a world socialist commonwealth would find it necessary to
+maintain them. It was not suggested, and most certainly it must not be
+thought, that a world socialist commonwealth, or even a more modest
+remodeling of the social order would not effect great changes,
+possibly for good, and possibly for ill. The same economic laws might
+be made to bear very different fruits, but they themselves would
+remain unchanged. What is true in all these other fields--this should
+be our predisposition--is not likely to be quite untrue in the field
+of labor.
+
+
+§2. _Ideas and Institutions_. Another point is worth noting here. We
+are sometimes advised to distinguish sharply between "What should be"
+and "What is"; often two very different things. The advice is
+pertinent and useful, particularly in the sphere of sociology. But
+our incorrigible habit of confusing the two things together is not
+without justification, or at least excuse. For, in fact, they
+gravitate towards one another with a force which is just as strong as
+the capacity of man for understanding and controlling his
+environment. When we have a system which is clearly bad, _and_ when we
+see our way to make it better, we generally make the change however
+tardily. Our sense of "What should be" thus reacts upon "What is."
+Meanwhile, until we can make the system better, our appreciation of
+"What is" affects our sense of "What should be." And the more so, as
+we are sensible. For "What should be" is pre-eminently an affair of
+relativity. A man may hold very strongly that equal pay to every
+individual is desirable, as he puts it, as an ideal. But this will not
+prevent him, in a world in which managers are paid far more than
+manual workers, from maintaining hotly (at any rate, if he is
+sensible) that to pay the manager of a particular concern a manual
+worker's wage would be monstrously unfair. He would also argue that it
+would be highly inexpedient. Equity and expediency are, in fact,
+intricately intertwined in our sense of "What should be"; and our
+sense of "What should be" in the particular is governed by our
+knowledge of "What is" in the general.
+
+These may seem unnecessary commonplaces. But they have a vital bearing
+on the _modus operandi_ of economic laws. These laws do not work _in
+vacuo_. They work through the medium of the acts of men. The acts of
+men are greatly influenced by their institutions, and by their ideas
+of right and wrong. Both institutions and ideas may serve to smooth
+rather than obstruct the path of economic laws; because the laws may
+represent either "what should be" in the general, or "what is" in the
+general, and therefore "what should be" in the particular. This may
+hold true even of a trade union or a sense of "fair wages." The
+business of economic theory is not to justify a regime of
+_laissez-faire_, still less to show the folly of bringing morals into
+business. Its value is rather that it may help us, by improving our
+understanding, to shape our institutions, and to adopt our moral
+sentiments so as to promote the public welfare. With these general
+notions in our minds, let us turn to see how stands the case with
+Labor.
+
+
+§3. _The General Wage Level_. The term Labor may be used in a broad or
+in a narrow sense. It may be confined to weekly wage-earners: it may
+be extended to include all those who work, as the phrase goes, "with
+either hand or brain." It is with all classes of Labor, in the
+broadest sense of the term, that we must here concern ourselves. It
+will be convenient, however, in the first instance to ignore the
+differences between them, and to consider the forces which determine
+what we may regard as the general wage-level.
+
+The general laws of supply and demand hold good. The wages of labor
+tend to a level at which the demand is equal to the supply. For, if
+the demand exceeds the supply, if, in other words, labor is scarce,
+wages tend to rise, sooner or later in any case, and the more promptly
+in proportion as the workpeople are organized. Conversely, if the
+supply exceeds the demand, if in other Words there is general
+unemployment, wages tend to fall, and the strongest trade unions
+cannot resist the tendency, though they may delay it. Moreover, the
+higher the wages that must be paid, the smaller, other things being
+equal, is the demand for labor. For, even if we leave foreign
+competition out of account, and consider, as it were, labor throughout
+the world as a whole, the demand for labor is by no means
+inelastic. It is derived along with the demand for the other agents of
+production in the manner described in Chapter V. As was there shown,
+the greater the supply of the other agents of production, the greater
+is likely to be the demand for labor; but these other agents can be
+substituted for labor in a great variety of ways, and an increase in
+wages (unless accompanied by increased efficiency) will make it
+profitable for employers to effect such a substitution, where it was
+not profitable before. Thus, higher wages for the same labor
+efficiency must stimulate the tendency for capital to act as a
+substitute for labor at the expense necessarily (since the aggregate
+supply of capital will not be increased thereby) of its tendency to
+serve as a complement; and this must mean a decrease in the volume of
+employment. Hence the power of labor to secure a general advance of
+wages by concerted or simultaneous trade union action, applied if you
+will, not merely to every industry, but to every country, is
+necessarily very limited. Beyond a certain point, such a policy must
+result in general unemployment; and, if pushed sufficiently far, in
+unemployment so extensive that it would continue even in periods of
+active trade. Such a policy could neither be maintained in practice
+nor would it be a wise policy from the workers' point of view.
+
+In other words, given on the one hand the conditions of the demand for
+labor (i.e. the supply of capital, natural resources, business
+ability, risk-bearing and knowledge of technical processes, etc.,
+which happens to exist), and given on the other hand the supply of
+labor (i.e. both the numbers of workpeople and their efficiency), the
+wage-level in the long run is fairly rigidly determined. The
+introduction of the phrase "in the long run" in this connection is apt
+to provoke comment which may be pertinent, but may be misconceived.
+The worker, it is pointed out, is deeply concerned with "the short
+run" in which he has to live. It is very true; and it is this that
+supplies one of the many justifications of trade unionism. To secure
+for the workers advances of wages, which economic conditions justify,
+sooner than would otherwise have been obtained, is certainly no
+trivial or contemptible function. But it is none the less an illusion
+to suppose that the general wage-level can be appreciably and
+permanently raised by trade union action, except in so far as it
+increases the efficiency of the workers or incidentally stimulates the
+efficiency of the employers.
+
+
+§4. _The Supply of Labor in General_. The efficiency of labor may be
+regarded as affecting either the demand for labor on the one hand or
+the supply of it on the other, according as we look at the matter from
+the worker's or the employer's standpoint. The employer is concerned
+with the labor costs per unit of his output, the worker is concerned
+with the wages he receives. An increase in the efficiency of labor
+may, and usually will, mean both a decrease in labor costs to the
+employer and an increase in the earnings of the worker. It is thus
+wholly to the good. But the effects of an increase in the supply of
+labor in the sense of a growth in the numbers of the population are
+far more dubious. Unaccompanied by an increase in the _demand_ for
+labor, it _must_ result in a diminished remuneration for the
+individual worker. To some extent indeed the demand for labor would
+almost certainly be increased. The supply of Capital may expand,
+perhaps proportionately, perhaps more than proportionately to the
+increase in population. But one factor of production, as we have seen,
+is not capable of such expansion. This is the factor of Land, or
+Natural Resources. It is the limitation of this factor which gives
+rise to what we have most of us heard of as The Law of Diminishing
+Returns. It is this that is the essence of the problem of Population,
+portrayed in somber hues more than a hundred years ago by Malthus.
+
+This problem will form the subject of the sixth volume of the present
+series. In the meantime it may be suggested that we are easily
+credulous if we suppose that the problem has been finally disposed of
+by the peculiar progress of an abnormal century. But that experience
+has at least destroyed the view that there _need be_, or even is in
+fact in Western countries, a relation between real wages and the
+numbers of the people so close and direct that an improved standard of
+living must be temporary only, doomed to destroy itself by the
+increased population it engenders. One may perhaps go further and say
+that it is doubtful even in what direction changes in remuneration
+will influence the aggregate supply of labor. When we pass to "what
+should be," it is plain that there is nothing whatever to be said for
+the sort of relation indicated above. The view once widely held that
+the principle of population must inevitably keep the mass of people
+close to the verge of the bare means of subsistence was no statement
+of a desirable ideal. It was a nightmare; a nightmare none the less
+though it may haunt us yet. It is far from fanciful to suggest that it
+is because this relation is so obviously _not_ "what should be" that
+it may be ceasing to hold true in fact. But it would be very fanciful
+indeed to maintain that as yet "what should be" is represented by the
+actual population. Thus, just as with capital, so with labor, there is
+no reason to suppose that the aggregate supply is determined by any
+fundamental economic law, or corresponds in practice to what is
+socially desirable.
+
+
+§5. _The Apportionment of Labor among Places_. Again, as with capital,
+it is when we turn to the _apportionment_ of labor between different
+employments that both economic law and social ideal make their
+appearance. It will be well, however, to consider briefly in the
+first instance the different question of its apportionment between
+places. This was hardly necessary in the case of capital, because the
+possibilities of foreign investment are very numerous and easy: the
+mobility of capital is thus sufficiently strong (once again it is only
+_marginal_ adjustment that is necessary) to establish over at least a
+large part of the world something near to a uniform rate of
+interest. But this is not the case with labor. People do indeed move
+from place to place within a country, and from one country to another,
+in response to economic opportunities. That even the latter movement
+may be a considerable thing, the present population of the United
+States is a striking testimony. But obviously the mobility is very
+incomplete. Here, then, we have what we might _loosely_ call an
+economic law that labor tends to "flow" (as it is sometimes unhappily
+phrased) to those places where it can command the highest reward; we
+have this tendency in evidence, but it is far too weak to enable us to
+lay down what would deserve more strictly the title of an economic
+law, that in the long run the reward of the same kind of labor is
+roughly equal in all places. Perhaps we can say this for many
+districts in a single country; but for few countries is this true as
+between all their districts. As between countries, it is not remotely
+true.
+
+Here, however, the imperfection of economic law is balanced by an
+extreme uncertainty as to the ideal. Perfect mobility of labor may be
+_economically_ desirable in a very narrow sense of the term; but it
+opens out a vista of racial, national and cultural problems, into
+which it will be better for us not to enter here. We must take for
+granted the population of a country, like that of the world, as a
+given fact.
+
+When we do this, the question of its remuneration is on all fours with
+the more general question discussed above. That the remuneration of
+the labor of a country is mainly governed by the relations between
+demand and supply is an inexorable fact. In view of the international
+mobility of capital, the main distinctive factor in the demand for the
+labor of a particular country is the supply of natural resources,
+which it knows how to use. Where the natural resources are great
+relatively to the population, there wages will rule high; where the
+converse is true, wages will rule low. This result of economic
+analysis is abundantly confirmed by experience. The relatively high
+wages in the new world, the low standard of living in the densely
+populated East; the economic history of Ireland are so many
+object-lessons of its truth.
+
+
+§6. _The Apportionment of Labor among Social Grades_. The question of
+the apportionment of the labor of a country among different
+employments falls under two heads. Some differences of occupation are
+associated particularly in Great Britain with differences of what we
+know as class. The movement of labor between different social grades
+is clearly a very different thing from its movement between different
+occupations in the same grade. The grades themselves are not easy to
+define: not a little ingenuity has been expended on the attempt, and
+perhaps the best brief classification that has been put forward is one
+which divides labor into the following four grades:--
+
+(1) Automatic manual labor.
+(2) Responsible manual labor.
+(3) Automatic brain workers.
+(4) Responsible brain workers.
+
+But the matter is one perhaps for the satirist of manners rather than
+the economist. It suffices for our purpose that the distinctions,
+however vague, are very real.
+
+It is obvious the mobility of labor between the occupations of a
+platelayer and a barrister is not very great. It may seem perhaps to
+be even smaller than it is. For here it is important to bear in mind a
+general consideration which is equally applicable to horizontal
+movements within any social grade. There may be a considerable
+movement of labor between different employments without any individual
+worker having to change his occupation. The personnel of any industry
+is constantly changing. At one end, men die, retire, or are pensioned
+off; at the other end, young recruits are taken on. By a diversion of
+the new recruits from one employment to another, a radical change can
+be made in the occupational census in a comparatively short space of
+time. It is in this manner that such movement as takes place is
+largely effected at the present time. Within the ranks of the
+professional classes, a man does not commonly leave the profession to
+which he has been trained. But his _choice_ of profession is
+determined by him or his parents not solely on pecuniary grounds but
+usually with an anxious scanning of the general prospects, which
+include pecuniary advantages together with many other things. The same
+thing is true in no small measure of manual wage-earners. This general
+consideration must be borne in mind throughout the remainder of this
+chapter.
+
+But even the sons of platelayers do not commonly practise at the
+bar. The obstacles in the way are various and subtle. Many of them are
+ideas, inherited from a bygone epoch, about keeping other people "in
+their proper stations," which the whole drift of circumstance, and the
+spirit of the age are rapidly wearing down. In the new world such
+obstacles are rare. But an obstacle of a more tangible and formidable
+kind arises from the fact that the liberal professions and many
+business careers require a long and expensive education and training,
+which the platelayer is quite unable to afford to give his son.
+
+Now this expense of training is highly relevant not only to "what is,"
+but to "what should be." It includes, it should be observed, a
+negative as well as a positive element; a long period of waiting
+before income begins, as well as the actual outlay on educational and
+other charges. When the burden both of the waiting and the positive
+costs must be borne either by the individual or the family, there are
+few people who would seriously dispute that this goes to justify, on
+grounds of fairness as well as of expediency, a higher level of annual
+remuneration later on; though many people would doubtless argue that
+the amenities and dignities of the professions should be taken into
+account on the other side. But the same consideration makes it a
+matter of legitimate doubt whether it would be desirable, even as an
+ideal, that the community should provide so completely the costs of
+training and of maintenance in the waiting period, as to make it no
+longer "fair" that the individual should be remunerated more highly
+than workers in less expensive occupations. For this would mean that
+more labor would be absorbed in the former employments than in
+principle would be socially desirable, for reasons which the argument
+of the next chapter will make plain. But the most desirable number of
+doctors, barristers, teachers, etc., is not a thing which can be
+settled on purely economic grounds, and it is unprofitable to carry
+further this particular line of thought. Few people would advocate, as
+an ultimate ideal, that the remuneration of the professional grades of
+labor should exceed that of lower grades by _more_ than the extra
+expense of training and waiting they involve. That the excess is
+usually greater than this at the present time seems very probable:
+though it is a matter on which it is very hard to generalize. But it
+would certainly be far greater than it is if the principle of
+_laissez-faire_ ruled supreme in these affairs. Fortunately it does
+not, and has never done so. Even before the days of free elementary
+education, the endowment of education was not unknown. The ancient
+public schools and universities, which have come down to us from the
+Middle Ages, are a standing witness to what in this field a far poorer
+community thought fit to do. Their systems of scholarships and
+exhibitions, no less than their courts and towers, deserve our
+notice. For these were designed to form what we now call "a ladder" by
+which talent could climb from the humblest origins to the callings
+which then seemed the summit either of spiritual or of worldly
+ambition.
+
+This reference to "talent" makes it well to consider here a factor
+which necessarily complicates, though it does not substantially
+affect, the whole argument of the present chapter. There are
+differences of natural ability, which no education or training can
+obliterate, which it should rather be their business to excite. These
+differences are associated to a great extent with differences of
+occupation; they _should be_ so associated far more closely than in
+fact they are. They are also associated with differences of
+remuneration even within the same occupation; "what should be" here is
+a question which we may excuse ourselves from discussing. The
+principle which, however vague, is sufficient for our present purpose
+is that the same _natural ability_ should command the same reward in
+all occupations, subject to differences which should not exceed the
+differences of educational cost and initial waiting they involve. We
+cannot assert, as an economic law, that this is generally true in
+fact. If ever it becomes true, it will be due not to
+"_laissez-faire_," or "free competition," but to social arrangements,
+which express a sense of what is right.
+
+
+§7. _The Apportionment of Labor among Occupations_. When we pass to
+the apportionment of labor among different occupations in the same
+social grade, the same principle as to "what should be" applies in a
+simpler form. Equal natural ability should command an equal reward in
+all occupations; assuming that differences in cost of training can be
+ignored. The reward must, of course, be interpreted not in terms of
+money only but of "real wages," with allowance for the varying
+amenities of different tasks. Now it was here that the extreme
+advocates of _laissez-faire_ made one of their cardinal mistakes. They
+assumed that this ideal would be best secured by "perfect
+competition." The employer would choose the worker who would come for
+the lowest wage; the worker would choose the employer who would pay
+him the highest wage; and so, by a process similar to the higgling of
+a commodity market, the desirable uniform wage-level would become
+established. But in fact the conditions of the labor market differ
+greatly from those of a commodity market. People are ignorant, do not
+look ahead, cannot afford to risk the loss of a job, however wretched,
+which they happen to have got. For reasons such as these, a
+considerable departure from _laissez-faire_ is necessary in order to
+realize the theoretical results of _laissez-faire_. To prevent the
+putting of boys in large numbers into "blind alley" occupations, you
+must supplement the foresight of parents with Juvenile Employment
+Exchanges and After-Care Committees. To secure a proper uniformity of
+wages within the same occupation, you must have trade unions. To
+secure a proper uniformity between different occupations, you must
+have again trade unions, or, failing them, Trade Boards.
+
+That the actions of trade unions are very largely of this type is a
+fact insufficiently appreciated by the middle-class public. The
+elaborate system of piece-rate lists which has been evolved in the
+Lancashire cotton industry is primarily designed to secure the same
+wage for workers of equal efficiency in all mills, irrespective of the
+degree to which the machinery is antiquated or up to date. This result
+is wholly to the good: not only does it secure "fairness" for the
+worker, it stimulates the employer wonderfully to efficiency. The same
+result could never be secured so effectively by the free play of
+competition. But this tendency, which is easily the predominant
+element in the trade union regulations of the cotton trade, is at
+least an important element in the policy of "The Common Rule" of all
+trade unions, though it may often be mixed up with the more
+questionable tendency to eliminate differences of pay for differences
+of natural ability, and the unquestionably bad tendency to discourage
+output. As between different occupations, the insistence of a trade
+union that wages must be leveled up towards the wages obtaining in
+similar trades acts again as a far more powerful force than
+competition.
+
+But the actions of trade unions are by no means wholly of this
+type. They often serve rather to secure still higher wages for workers
+who, comparatively speaking, are already highly paid. It makes little
+difference whether this effect is secured directly by wage demands, or
+indirectly by restricting the right of the entry to the trade. In
+either case the consequences are the same, and there should be no
+ambiguity as to their nature. They are certainly bad for the
+community, certainly bad for the _other_ workers of the grade, almost
+certainly bad for the workers of the grade regarded as a whole. The
+higher wages must raise the money costs of production, and result,
+sooner or later, in fewer workpeople being employed in that
+occupation; larger numbers must accordingly seek employment elsewhere;
+and this cannot but depress the wage rates of less strongly organized
+trades. Thus the effect is twofold: a larger proportion of workpeople
+will be employed in badly paid occupations; and the wages there will
+be lessened.
+
+The power of a strong trade union to secure wage advances of this type
+is considerable, but it must not be exaggerated. Trade unions employ
+as a matter of course devices which, in the case of trusts, we regard
+as the extremest weapons of monopoly. To say, "If you buy from anyone
+except us, you must not buy at a lower price than ours," which
+Messrs. J. & P. Coats are represented as having done, is analogous to
+insisting that if non-unionists are employed, it shall be at the trade
+union rate, as every trade union very properly insists. To say, "You
+must buy _only_ from us," the method of the boycott, as it is called,
+is analogous to the very common refusal to work with non-unionists at
+all. But in one important respect the tactical position of a trade
+union is weaker than that of an ordinary combination. It has usually
+got a buyers' combination up against it, in the shape of an
+association of employers. The latter will be governed in their
+attitude towards the workpeople's demands, not only by immediate
+expediency, but also by their own sense of "what should be"; and they
+will usually resist demands for wages greatly in excess of those
+obtaining in comparable trades. In this way, the tendency for workers
+of the same efficiency to receive the same real wages in all
+employments is far stronger than might at first sight appear.
+
+If we had to rely for this result upon trade unions alone, it would be
+highly problematical. For here a psychological curiosity emerges,
+which, familiar and intelligible as it is, is none the less a
+curiosity. So far from still higher wages for well-paid workpeople
+being regarded in the world of manual labor as detrimental to the
+interests of other workpeople, it has become almost a point of honor
+to believe the contrary. A wage dispute in a particular trade is
+conceived as an engagement in a far-flung battle between Capital and
+Labor, in which success at any part of the line will facilitate the
+victory of the whole army. This conception contains a measure of
+truth, as regards immediate and purely temporary effects; though, even
+here, it is made to seem unduly plausible by the recurrence of trade
+cycles, which cause wages at any time to move in the same direction
+all along the line. But, if the foregoing analysis has been
+appreciated, the essential falsity of this notion should be evident.
+It is an illusion, which should receive no endorsement, either tacit
+or express, in any work on economics. The general wage level of a
+country cannot be regarded (except temporarily, and within narrow
+limits) as a function of the efficiency of labor organization; it
+depends on the far deeper economic facts set out in §3 above.
+
+Let us now try to summarize the conclusions of this section. There
+_is_ a tendency towards a uniformity of real wages for workers of the
+same grade and of the same efficiency. This tendency is not due to
+competition alone. It is helped by many acts of a collective kind,
+arising from a sense of "what should be"; it is obstructed by other
+acts of a like kind, where the sense of "what should be" is based on
+imperfect understanding. The more people act in accordance with "what
+should be," and the better their understanding, the more will this
+tendency approximate to an accurate economic law.
+
+
+§8. _Women's Wages_. The wages of women represent a problem of great
+public interest, upon which the principles laid down in this chapter
+have a most important bearing, and which in its turn serves to
+illustrate these principles further. It has been suggested that male
+and female labor can be regarded as a strong case of Joint Supply, and
+the suggestion is not merely facetious. The essential point, that the
+proportions of available male and female labor are fairly constant
+(not that they may not alter with time and circumstances, but that
+they are essentially independent of the conditions of demand) holds
+true not only of a country as a whole, but hardly less of a particular
+district. If men and women are to be regarded as separate grades, they
+are grades between which immobility is complete. Now men and women
+differ in many ways which affect both the demand for and the supply of
+their services. On the one hand, far fewer women wish to enter
+business employments of any kind, as women have plenty of work that
+must be done at home. On the other hand, though women can do many
+kinds of work as well as or better than men, it so happens that for
+much the greater number of services, which are in large demand in the
+business world, men are the more efficient. Incidentally, it happens
+that many occupations which women _might_ do as well as men are closed
+to them by exclusive regulations. The resultant of these forces is
+that men and women are for the most part employed in different
+occupations, and the scale of payment in women's occupations is far
+lower than that in men's. Of this last fact singularly small
+complaint is made.
+
+It is otherwise, however, when we come to occupations where men are
+either wholly or partially employed, where women are at least
+approximately as efficient as men, and where the barriers to their
+entry are at least formally removed. There a ferocious controversy
+rages over what is known as the principle of "equal pay for equal
+work." It is easy to understand why the male trade unionists in, let
+us say, the engineering trades, should support this claim. It is also,
+indeed, _intelligible_ why the enthusiasts for Women's Rights should
+urge it; but it is much more doubtful whether they are wise. Possibly
+they are wise enough in their generation, since it might not serve
+them on this matter to get across the men. But it is clearly not
+prudential considerations of this kind by which they are mainly
+actuated. They make the demand, with extreme intensity of feeling, as
+a demand for fundamental justice. They are also very obviously
+inspired with the belief (similar to the illusion which is a point of
+honor with the male trade unionist) that high wages for women in
+well-paid occupations will help to raise the wages of sweated women
+workers in other trades.
+
+Now, here again, any lack of candor would be inexcusable. The effect
+of this policy on the wages in women's trades is certainly to reduce
+them. The policy serves, as powerfully as any trade union custom, to
+restrict the entry of women into the men's employments, and often
+spells virtual exclusion. For the "equal efficiency" may be
+approximate only, and there may be advantages in male labor from the
+employer's standpoint which are none the less important, because they
+are not easy to define. Moreover, from the employer's standpoint, the
+efficacy of female labor will be largely a matter for _experiment_,
+and "equal pay" will give him no inducement to experiment at all. The
+diminished number of women in these occupations (as compared with what
+might have been) increases the number who must fall back on the purely
+women's trades; and it _must_ serve to reduce the wages there, where
+organization is by no means strong. I am far from asserting that this
+consideration is conclusive against the principle of "equal pay for
+equal work" (though I think it conclusive against a rigid
+interpretation of it); for other matters, such as the standpoint of
+the male trade unionist must be taken into account. But the reactions
+on the wages in women's trades permit of no ambiguity.
+
+In occupations of another type, the issue takes a somewhat different
+form. In the teaching profession, "equal pay" would not exclude the
+women; it would be far more likely to exclude the men. For, though the
+advocates of the principle would declare that their intention is that
+the salaries of women should be leveled up to those of men, it is more
+probable that the ultimate outcome would be a leveling down.
+Educational authorities have the ratepayer and the taxpayer to
+consider; and, apart from this, they have their own interpretation of
+"what should be." To pay a woman less than a man for the same work may
+seem glaringly unfair; but it is not very clear why a woman, who is an
+elementary school teacher, should be paid much more than, say, a
+hospital nurse, merely because in the former case a number of men
+happen also to be employed. In fact, there is a clashing of equities
+in this connection; and there is little doubt which of them the
+educational authorities would prefer. A leveling down of the men's
+salaries would make it all but impossible to attract men of the
+desired type into the profession, and would thus lead to the virtual
+extinction of the male elementary school teacher. This might seem in a
+narrow sense to be economically desirable. Why should not men take
+their services to the tasks for which they can command a higher
+reward, and which women cannot do as well? But whether this would be
+desirable in the true interests of education is a far more doubtful
+matter. And this is the real problem of "equal pay for equal work" for
+male and female school teachers. The reader will notice that I have
+refrained from alluding to the controversy as to whether men should
+receive more on the grounds that they have wives and families to
+maintain. That, although a most absorbing issue, is not the real issue
+in practice at the present time. The real issue is a clashing between
+a sense of "what should be" on obvious general grounds and a sense of
+"what should be" in the particular, derived from the very patent and
+general "what is" that men receive as a rule far higher pay than
+women.
+
+
+
+CHAPTER X
+
+THE REAL COSTS OF PRODUCTION
+
+
+§1. _Comparative Costs_. Beneath the great diversity of the
+considerations which are applicable to the different agents of
+production, certain general conclusions emerge from the analysis of
+the last four chapters. In no case did we find that the aggregate
+supply of the agent was determined by clear and certain economic laws,
+possessing any fundamental significance. The supply of natural
+resources is a fixed thing, quite independent of the efforts or the
+desires of man. However the supply of capital and the supply of labor
+may react under present conditions towards economic stimuli, these
+reactions possess no quality of inevitability and bear no clear
+relation to "what should be." The supply of risk-bearing responds
+perhaps more decidedly to the prospects of increased reward; but it is
+so intimately associated with special knowledge and the qualities of
+business enterprise, as to leave some uncertainty attaching even to
+this conclusion. When, on the other hand, we turn to the
+apportionment of these factors among different uses, we find relations
+which are both clear and fundamental. Laws emerge which state at once
+not only "what is" or at least "what tends to be," but also "what
+should be"; and it is the fact that they taste "what should be" that
+gives them their fundamental character.
+
+These conclusions enable us to give a general answer to the question
+which was raised at the end of Chapter V: What are the ultimate real
+costs to which the money cost of production correspond? The attempt
+has often been made to relate money costs to such things as the effort
+of working and the sacrifice of waiting. The existence of such costs
+is beyond dispute. Much saving does mean a sacrifice of immediate
+enjoyment to the man who saves. Most labor is irksome and disagreeable
+in itself, and involves strain and wear and tear; while all labor
+means a deprivation of the utility of leisure. Workpeople, moreover,
+do not grow on gooseberry bushes, but must be fed and clothed from the
+cradle; and their rearing and maintenance represents a real cost which
+someone must incur.
+
+But the existence (or the importance) of such costs is one thing,
+their relation to money costs is another. In Chapter VIII we saw how
+difficult it was to establish any clear relation between the rate of
+interest and the sacrifice of saving. The costs of labor present
+similar difficulties. The relative irksomeness of two occupations may
+affect the relative wages which will rule in the two cases; so,
+certainly, will the differences in the cost of education and training
+which they require. But these are matters which concern the
+_apportionment_ of labor between different employments. There is no
+good reason to suppose that the general wage-level would be reduced,
+merely because work as a whole became less irksome, or involved a
+smaller physical or mental strain. The supply of people is not
+determined by the same kind of influences as is the supply of a
+commodity. Parents do not produce children for the sake of the wages
+which the children will receive when they go out to work; or, if this
+happens, we rightly regard it as a horrible anomaly. In so far as
+parents are affected by economic conditions it is by their own
+economic conditions; the question is rather one of how many children
+they can afford to have, than of a balancing of the cost to them
+against the incomes which their children may subsequently acquire. But
+other considerations enter in; and, in fact, it is doubtful how the
+aggregate supply of labor will react to changes in prosperity.
+Finally, the supply of land involves neither effort nor sacrifice;
+and, among our money costs, we have to account for the item
+of the rent of land. To dispose of this difficulty by arguing that
+rent does not enter into marginal costs (in any sense which is not
+equally true of wages and profits) is to lose contact with
+reality. Thus the attempt to explain money costs in terms of the costs
+of producing the ultimate agents of production leads us into a
+quagmire of unreality and dubious hypothesis. For a systematic theory,
+which will rest on firm foundations, we must interpret money costs in
+very different terms.
+
+The real costs which the price of a commodity measures are not
+absolute, but comparative. Marginal money costs reduce themselves in
+the last analysis to the payments which must be made to secure the use
+of the requisite agents of productions. These payments _tend_ to equal
+the payments which the same agents could have commanded in alternative
+employments. The payments which they could have commanded in
+alternative employments, tend in their turn to equal the derived
+marginal utilities of their services in those employments. It is thus
+the loss of _Utility_ which arises from the fact that these agents of
+production are not available for alternative employments that is
+measured by the money costs of a commodity at the margin of
+production.
+
+This conception of ultimate costs encounters an instinctive
+repugnance, arising from a mistaken sense of logical symmetry, which
+it will be well to examine. Cost, it is objected, so interpreted
+loses its character as an independent entity. It is merely something
+derived from utility. Now in the earlier chapters of this volume, we
+found reason to be impressed with the general symmetry which pervades
+the relations of demand and supply. Moreover, when we considered the
+case of ordinary commodities we found that at the back of demand and
+giving rise to it was utility; at the back of supply, and limiting it,
+was cost. The general symmetry between demand and supply thus seemed
+almost to imply a fundamental symmetry between utility and cost. If,
+then, cost in the last analysis is derived from utility, does not this
+make nonsense of the symmetry between demand and supply, or, if we
+cling to this last symmetry as a demonstrable truth, must we not
+refuse to admit that cost can be derived from utility?
+
+This is one of those false dilemmas which supply the wiseacres of the
+world with a plausible case for distrusting the logical faculty. If we
+have good reason for believing that both of two apparently
+inconsistent things are true, the explanation is seldom that one of
+them is really false; it is more usually that they are not really
+inconsistent. So it is here. The symmetry between demand and supply is
+very great, and we should always look to see if it holds good, but it
+is by no means perfect, and it is in the last analysis that it most
+notably fails. It is most important to distinguish clearly between the
+utility and the cost of a commodity as two separate and independent
+things. In Chapter V, it will be remembered, we did not permit
+ourselves to derive the costs of producing cotton lint from the
+utility of cotton-seed. The refusal to do so was essential to clear
+thought; it led to some very useful practical corollaries. But to
+derive the cost of a commodity from the utility of something which is
+produced _with_ it, as part of the same productive process; and to
+derive the cost from the utilities which the agents, which help to
+produce it, possess for other purposes, are two entirely different
+things. In works on International Trade, the reader will discover that
+the comparative nature of real costs is so unmistakable that a
+Doctrine of Comparative Costs is expounded with much formality at the
+outset. This doctrine is apt to prove somewhat puzzling, when we have
+to deal with it as an apparent exception to the general tenor of
+economic theory. Its difficulties disappear when we realize clearly
+that the real cost of _anything_ is the curtailment of the supply of
+other useful things, which the production of that particular thing
+entails.
+
+
+§2. _The Allocation of Resources_. However strange the above
+conception may seem, there should be no doubt that this cost is very
+"real." Here the irregularities and maladjustments of the economic
+world, the recurrence of trade depressions and the like, do much to
+obscure a clear vision of the essential realities. At a time when
+there is much unemployment, and much machinery standing idle, it is so
+clear to common sense that we _could_ produce more of some particular
+thing without diminishing the supply of other things, that any
+apparent statement to the contrary may perhaps seem the height of
+academic pedantry. But let me ask the reader to consider with an open
+mind a familiar parallel. During the recent war there was inevitably
+much waste and muddle in the utilization of the military resources of
+the Allies. Some regiments would be kept inactive for long periods,
+not for purposes of rest or training, but owing to some defect of
+organization. In the manufacture of munitions, an insufficient
+appreciation of the principles of joint demand led to the piling up of
+excessive stores of certain materials, which were useless until
+commensurate supplies of the complementary factors could be
+obtained. It is unnecessary to multiply examples. The waste of both
+man-power and material was immense. But the allocation of these
+resources between, for instance, the various theaters of war was none
+the less a very real problem, which gave rise to much engrossing
+controversy. It was an axiom that the more resources you employed in
+Mesopotamia or in Palestine, the less resources remained available for
+France. No one thought of maintaining that, as long as there was any
+waste of these resources, so long as there remained any men to be
+"combed out" of unessential industries, you could pour troops and
+munitions into Salonika without stopping to consider the needs of
+other theaters of war. Such a notion would have been clearly imbecile,
+for the sufficient reason that the sending of armies to Salonika would
+do nothing in itself to secure (however much it might incidentally
+stimulate) the more efficient use of the resources which remained.
+
+Now this is precisely analogous to the problem of the allocation of
+our resources for the purpose of peace. Notwithstanding all the
+wastes and maladjustments of the economic system, the use of resources
+to produce one commodity _does_ in general curtail the production of
+others. The mere launching of a new business enterprise does no more
+than the sending of an army to Salonika, to eliminate waste in the
+remainder of the economic organism. Unemployment, broadly speaking, is
+a function not of the magnitude of the normal demand for labor (which
+affects rather the wage-level), but of fluctuations in the demand for
+labor; fluctuations from one day to another as at the docks, from one
+season to another as in the building trades, above all from one period
+of years to another as in the cycles of general trade boom and
+depression. Nothing will diminish unemployment which does not serve to
+diminish these fluctuations. A new business will not, as a rule, have
+any such effect. If it is launched during a trade depression (a most
+unusual proceeding), it may temporarily absorb unemployed labor and
+idle materials. But when the next boom comes, it will be using, though
+presumably to greater advantage, labor and materials which, but for
+it, would have been employed for other purposes. Meanwhile the causes
+making for unemployment will be unaffected. Miscalculations will
+still be made, the building trades will still become slack in the
+winter, the casual methods of engaging dock laborers will still
+continue, trade cycles will still recur, while beneath them, and
+concealed by them, some industries will expand and others will decay.
+Thus, like the armies at Salonika, the new business would in effect
+divert resources from elsewhere.
+
+This truth needs to be firmly grasped in mind. It is this that makes
+it in general unsound policy to subsidize industries, either directly
+or indirectly, by means of a protective tariff. It is this, indeed,
+that supplies the answer to half the economic fallacies that are
+always current.
+
+The allocation of resources so as to yield the maximum effect was
+rightly recognized as one of the most vital and difficult of our
+war-time problems. To cope with it, the Allied peoples devised one
+instrument after another, and finally evolved the Supreme Allied
+Council. The analogous problem in the economic world of peace time is
+no less important and far more difficult; but there is nothing to
+correspond to the Supreme Allied Council. There we rely upon a
+co-operation which, as was stressed in Chapter I, is unco-ordinated.
+That co-operation has been evolved by the mutual competition
+of innumerable business concerns, controlled by men largely
+animated by the motive of pecuniary profit. But it has not
+been evolved wholly by such means: and how far that competition or
+that motive of profit is essential to its efficiency are questions
+with which this volume has not been in any way concerned. The economic
+laws, the relations between utility, and price and cost, with which it
+has been occupied, are an entirely different matter; and these _are_
+essential to the efficiency of any system of society. For if the
+marginal utility of a commodity is equal to its marginal cost, and if
+this marginal cost is composed of payments to the various agents of
+production at least as great as they could have obtained if they had
+been used otherwise, this amounts to saying that the agents of
+production are so utilized as to yield the maximum utility; and this
+is the same thing as saying that they are so utilized as to produce
+the maximum wealth.
+
+
+§3. _Utility and Wealth_. Upon this last point it is important to be
+quite clear. An increase in wealth seems a solid, tangible reality;
+something, which, however much we may scorn it in our more precious
+moods, we recognize, for a rather poor community, to be an important
+object of endeavor. But an increase in utility seems a vague,
+impalpable notion, hardly deserving the same practical concern. None
+the less the two things are identical. We greatly deceive ourselves if
+we suppose wealth to be an objective reality. It is true that, when
+we get behind the money in which it is measured, we come upon
+commodities, like food and clothes and houses and factories, which
+seem comfortably solid and objective things; but we also come upon
+many services, like those of gardeners and doctors and hospital
+nurses, which we are bound to reckon as part of our wealth, although
+they are not embodied in any tangible commodities. Moreover, although
+material commodities are objective realities in themselves, and in
+many of their properties, they are _not_ objective realities in their
+property as wealth. A pair of boots is an objective fact; so is the
+number of pairs in existence at any time, so is their size, their
+weight, the quantity of leather or of paper which they happen to
+contain. But the wealth which those boots represent is not an
+objective fact. It depends upon the opinion which men and women
+entertain as to their utility; and these opinions take us into the
+subjective regions of human psychology. Let us suppose, for instance,
+that we calculated, on the basis of present prices, that the boots in
+existence at the present time represented 1/1000 part of our total
+wealth. Suppose, then, that a miracle were to happen; that the skies
+opened and rained boots upon us, of every size and shape and pattern,
+until we had 1000 times as many boots as we had before. Could we say
+that our total real wealth had been doubled? Clearly we could not. To
+obtain boots for nothing, and to wear a new pair every week, would
+make us somewhat better off, but not twice as well off as we were
+previously. In other words, the real wealth of a thousand times as
+many boots as we have now, is not a thousand times as great as the
+wealth of the present number of boots. We are, indeed, practically
+restating the Law of Diminishing Utility; and this perhaps is enough
+to show that wealth is fundamentally the same thing as utility.
+
+Another point, however, is worth noting. Our real wealth would be
+somewhat increased in the case supposed; but if we were to turn to the
+money measure of wealth, the opposite result would be far more likely,
+For the price of boots would most likely fall to nothing, and the
+total value of boots, in the commercial sense, would accordingly be
+nothing also. This shows that money values may be a most imperfect
+measure of aggregate wealth; for what money values represent is the
+product of the quantity of the commodity and its _marginal_ utility,
+while aggregate wealth is _total_ utility, which is a very different
+thing. This, it may be observed, makes all attempts to compare the
+wealth of different countries or different times, and no less to
+construct Index Numbers of Prices, imperfect of necessity, and
+arbitrary in their foundations.
+
+
+§4. _Criteria of Policy_. The point has now been reached at which we
+must take into account the very important fact which was mentioned at
+the close of Chapter III. The maximum utility which the laws of
+supply and demand tend to bring about is a maximum _total_ utility
+indeed, but one still measured in terms of money. An unequal
+distribution of wealth destroys any necessary correspondence between
+that and the maximum _real_ utility. This consideration, however, does
+not affect the general validity of the conclusion that the laws of
+supply and demand represent what is socially desirable now or under
+any system. For what is at fault here is the distribution of wealth;
+and it is that which should be changed, in so far as it is possible to
+do so. Now it is important to realize that whenever it is possible to
+supply a commodity to poor people below cost price, it is possible to
+alter the distribution of wealth, for that in effect is what is
+done. Purchasing power, which may be taken from richer people by
+taxation, or which may be obtained from "collective" profits on other
+trading, is in effect transferred to the poor people in question,
+though the transference is coupled with the condition that the
+purchasing power must be expended in a particular way. It is _in
+general_ desirable that the transference should be made without this
+condition being attached. To this general statement, exceptions indeed
+exist so numerous and important as possibly to justify a great
+extension of social expenditure of this type. Education should
+certainly be provided free of charge, there are strong arguments for
+subsidizing housing; the provision of milk to expectant mothers, the
+feeding of school children, such instances can be multiplied into a
+very extensive list. But it is important to observe that in each case
+the justification of the policy rests in the presumption that the
+service supplied is one which it is particularly important that the
+beneficiaries should have, _as compared with_ the other things upon
+which they might have preferred to expend the equivalent purchasing
+power, had it been transferred to them without conditions. Where there
+is no such presumption, as surely there is none in the case of the
+great bulk of commodities, the relation between price and marginal
+cost should be rigidly maintained; it is the distribution of
+purchasing power which we should rather seek to alter. How far is it
+possible to alter that?
+
+I suppose that it is inevitable that many readers will have concluded
+that the preceding chapters must be taken to mean that the
+distribution of wealth is not susceptible of any appreciable change. I
+would remind those readers of an important distinction upon which
+impatient people have sometimes based a complaint against
+economists. The economist, it is said, analyses with great pomp and
+ceremony the laws governing the distribution of wealth among the
+agents of production, but says practically nothing about the
+distribution between individuals and classes, which is the only thing
+of any real interest to practical people. Now the economist
+concentrates on the agents of production for the very good reason that
+it is only with respect to them that any clear and certain laws as to
+distribution can be laid down. Into the distribution between
+individuals and classes there enter other and variable factors,
+governed by no fundamental economic law; and _here_, the conclusion
+should at once suggest itself, is the field for action designed to
+alter the distribution of wealth. What is possible or desirable in
+this field, it is again not the purpose of this volume to discuss. It
+is an obvious, even if not a very helpful conclusion that an increase
+in the habit of saving among weekly wage-earners might, without
+appreciably affecting the distribution between Capital and Labor,
+greatly modify the resulting distribution between social classes. But
+questions as to how far it might be possible or justifiable to achieve
+a similar result by the use of the weapon of taxation, by changes in
+inheritance laws, or by the public ownership of industry take us into
+a far more uncertain and controversial sphere. The difficulties and
+objections which present themselves are familiar and formidable; but
+they are of quite a different order from the economic laws which we
+have been examining. The laws themselves do not entitle us to make any
+dogmatic pronouncement upon these large issues of social policy.
+
+But this is not to deprive these laws of practical importance. They
+represent essential criteria of sound policy in the sphere of social
+reorganization no less than in ordinary business. In our days a
+curious obsession has led many people to disparage these criteria, as
+though they were the sordid prejudices of a stupid tradesman. Because
+it has been found a matter of obvious practical convenience to
+maintain the roads out of taxation or of rates, and to dispense with
+charges for their use, it is suggested that the same principle should
+be applied to the railways. Or, more commonly, because it has been
+found convenient to make the same charge for the carrying of letters
+between Land's End and John o' Groats as between Hampstead and
+Highgate, it is suggested that _this_ principle should be applied to
+railway rates and fares. It may be well, therefore, to point out that
+the justification of uniform postal charges rests upon the facts: (1)
+that the costs of collection, sorting, etc., are so large a part of
+the costs of carrying a letter, that the real cost between John o'
+Groats and Land's End does not differ from that between Hampstead and
+Highgate by as much as might at first sight appear, (2) that the
+charges in any case are very small; so that (3) the avoidance of the
+small degree of taxes and bounties which the present system implies is
+not worth the book-keeping expenses which differential charges would
+involve. It should be obvious that these considerations apply to the
+railways with a greatly diminished force. They might possibly justify
+what is known as the "zone" system of charges, i.e. uniform rates
+within certain narrow areas. But the notion of uniform rates
+throughout Great Britain conjures up a vision of trains taking coal
+from South Wales to Scotland, and others taking coal from Scotland to
+South Wales, in accordance with the slightest preferences of the
+consumers, and without regard to the extra real cost involved, on a
+scale to which the "wastes of competition" afford no parallel. It
+would in fact achieve the essential folly of "sending coals to
+Newcastle." These considerations, however, are not what interest the
+advocates of the postal principle. They seem to recommend the
+obliteration or the confusion of the relations between price and cost
+as a superior ideal. It is important to be clear what exactly this
+ideal involves.
+
+It involves, in the first place, as the whole argument of this volume
+has gone to show, a less economical employment of our productive
+resources; they would be diverted to ends of less utility, and so
+produce less real wealth. But this is not the worst. There is plenty
+of waste and maladjustment in our economic system at the present
+time. The desirable relation of price to marginal cost is but
+imperfectly attained. The further departures from this relation, which
+would follow from any likely applications of the postal principle,
+might not matter in themselves so very much. What is far more serious
+is that the criteria of efficiency would become blunted, and the clear
+aims of management would be confused in fog. It is essential that
+every manager should be on the alert to eliminate waste and to improve
+efficiency, that he should be always trying to secure the best
+results; but how can he do this if he has no simple means of
+_measuring_ what results are good and what are bad? The measure which
+he has at present is that of price, cost and the resultant profit, and
+it would be fatal to take that away, unless an equally simple and more
+accurate measure could be substituted for it.
+
+This is not a question, it should be observed, of motive or
+incentive. Very likely we much exaggerate the importance of the profit
+motive. It may be true that men would work, perhaps that they already
+work in fact, as zealously for a fixed salary, as for personal
+gain. But aim and motive are two somewhat different things, and the
+_aim_ of profit, is, and will remain, essential to the efficient
+conduct of business. In a game the players are not animated by the
+motive of scoring runs or points, but they aim at them; and the zest
+disappears very speedily from the game, if that aim ceases to be of
+interest. Moreover, while a scoring system is always a somewhat
+arbitrary thing, measuring imperfectly the true merits of the play, if
+it measures them with the roughest accuracy, we prefer the issue of
+our games to be decided so, rather than by the decisions of an
+impartial judge, who can take into account the finest points of
+skill. So it is in the world of business. The scoring-board of profits
+may be an imperfect one; let us, by all means, where we can, alter the
+rules of the game so as to make it better. But let us not imagine that
+it displays a finer insight or a superior intellect to speak as though
+the scoring-board could be dispensed with, and the test of profit and
+loss treated as irrelevant. Quantitative measurement is essential to
+efficiency. Let us be careful to remember all that this implies.
+
+
+INDEX
+
+
+Ability
+Accountancy
+Allocation of resources
+Ambiguities
+Australasia
+
+Bastiat, Frederic
+Beef and hides
+Borrowing and lending, system of
+Business efficiency
+Business man as a purchaser
+Business risk
+
+Capital;
+  as representing a period of waiting;
+  distribution;
+  distribution and rate of interest;
+  effect on labor of an increased supply;
+  not a stock of consumable goods;
+  reaction of price charges on;
+  reflections upon;
+  supply;
+  supply as affected by charges in interest rate
+Capital goods
+Capital market
+Capitalism
+Capitalist
+Chance
+Coal industry, cost of production and price;
+  miners' wages
+Coats, J. & P.
+Collective saving
+Commodities;
+  labor as a commodity
+Competition
+Composite demand
+Composite supply
+Consumable goods
+Consumers' goods and producers' goods
+Consumption, margin of;
+  waiting for
+Control and risk-taking
+Controversy
+Coöperation;
+  unorganized
+Cost, general relation of price, utility and cost;
+  price relation to;
+  rent as factor in real costs;
+  ultimate;
+  utility and
+Cotton and cotton-seed;
+  contrast to wool and mutton
+Cotton industry
+Criteria of policy
+Currency inflation
+Cycles
+
+Demand, ambiguity of expression "increase in demand,";
+  derived;
+  elastic and inelastic;
+  _see also_ Composite demand; Joint demand; Supply and demand
+Derived demand
+Derived utility
+Diagrams, use of
+Diminishing utility;
+  money and
+Directors
+Distribution of wealth;
+  interest rate and
+Dividends
+Division of labor
+
+Economic laws;
+  fundamental character
+Economic theory;
+  fact and
+Economic world, orderly nature
+Education
+Efficiency
+Elastic demand
+Employers' associations
+Enterprise
+Entrepreneur
+"Equal pay for equal work,"
+Expectation
+
+Fact and theory
+Farmers
+Fortunes
+
+Gambling
+Government, enterprises;
+  failings
+
+Hides and beef
+Houses
+Housewife as purchaser
+Housing
+
+Ideas and institutions
+Incompetents
+Increase in demand, ambiguity
+Index numbers
+Inelastic demand
+Inflation
+Institutions and ideas
+Insurance companies;
+  significance
+Interest;
+  necessity of
+Interest rate;
+  changes and their effect on supply of capital;
+  distribution and;
+  price of land and
+Intuition
+
+Joint demand;
+  importance of the unimportant;
+  marginal utility under;
+  summary of considerations
+Joint products;
+  cost of production
+Joint-stock company
+Joint supply, marginal cost under;
+  summary of considerations
+
+Keynes, J. M.
+
+Labor;
+  apportionment among occupations;
+  apportionment among places;
+  apportionment among social grades;
+  as a commodity;
+  cost, difficulty of estimating;
+  division;
+  effect of increased supply of capital;
+  four grades;
+  mobility;
+  product of;
+  reaction of price changes on;
+  supply in general
+_Laissez-faire_;
+  retrospect on
+Land, characteristics;
+  differential aspect;
+  margin of transference;
+  marginal;
+  price and rent, relation;
+  question of real costs;
+  scarcity aspect;
+  supply;
+  tenure;
+  urban;
+  _see also_ Rent
+Landlords
+Large scale business
+Laws, fundamental
+
+Malthus, T.R.
+Management
+Margin, danger of ignoring
+Margin of consumption
+Margin of production
+Margin of transference
+Marginal cost, aspects;
+  misinterpretation;
+  under joint supply
+Marginal land
+Marginal purchaser
+Marginal utility;
+  price relation to;
+  under joint demand
+Market
+Marshall, Alfred
+Marx, Karl
+Mill, J. S.
+Miners
+Monetary changes, disturbances of
+Money, diminishing utility
+Monte Carlo
+Mutton. _See_ Wool and Mutton
+
+Natural ability
+Normal conditions
+
+Occupations;
+  apportionment of labor among
+Order, economic
+
+Pasture versus tillage
+Pigou, A. C.
+Policy, criteria
+Population
+Postal charges
+Poverty;
+  national
+Price, consequences of higher;
+  general relation with utility and cost;
+  law of tendency;
+  marginal utility and;
+  post-war;
+  reaction of changes in demand and supply;
+  relation of demand and supply to;
+  utility and
+Producers' goods
+Production, power of;
+  real costs;
+  waiting for
+Professions
+Profiteering
+Profits;
+  elements;
+  general analysis;
+  in risky industries
+Protective tariff
+Psychology and economics
+Purchasers, business man;
+  housewife;
+  marginal
+Purchasing power
+
+Railway rates
+Railways
+Rate of interest. _See_ Interest rate
+Rent;
+  complex character;
+  marginal land;
+  necessity;
+  rate of interest and
+Reserves
+Residuary profits
+Resources, allocation
+Risk, reward for;
+  under large-scale organization
+
+Satisfaction
+Saving;
+  individual;
+  involuntary;
+  psychology;
+  social
+School teachers
+Service
+Serving cotton
+Shareholders
+Sinking-fund
+Situation
+Smith, Adam
+Social grades, labor movement among
+Socialism
+Speculation
+Steel smelters
+Subsidies, industrial
+Substitutes
+Supply, reactions of price changes on;
+  _see also_ Composite supply; Joint supply
+Supply and demand, changes in, and their reaction on price;
+  forces behind;
+  general laws;
+  relation of price to;
+  wages and
+Supreme Allied Council
+
+Teachers
+Theory, economic
+Thrift
+Tillage versus pasture
+Trade cycles
+Trade depression
+Trade unions;
+  actions;
+  wage level and
+
+Ultimate real costs
+Unearned increment
+Unemployment;
+  trade union policy and
+Utility;
+  cost and;
+  derived;
+  general relation of price, utility and cost;
+  law of diminishing utility;
+  law of diminishing utility as applied to money;
+  marginal;
+  price relation to;
+  wealth and
+
+Wages, general wage level;
+  trade unions and;
+  women's
+Wages Fund
+Waiting, essence of;
+  for consumption;
+  for production
+Waste, economic
+Wealth, distribution;
+  utility and
+"What should be" and "What is,"
+Women's wages
+Wool and mutton;
+  contrast to cotton and cotton-seed
+Workers' control
+
+
+
+
+
+End of Project Gutenberg's Supply and Demand, by Hubert D. Henderson
+
+*** END OF THE PROJECT GUTENBERG EBOOK 10612 ***
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+The Project Gutenberg EBook of Supply and Demand, by Hubert D. Henderson
+
+This eBook is for the use of anyone anywhere at no cost and with
+almost no restrictions whatsoever.  You may copy it, give it away or
+re-use it under the terms of the Project Gutenberg License included
+with this eBook or online at www.gutenberg.org
+
+
+Title: Supply and Demand
+
+Author: Hubert D. Henderson
+
+Release Date: January 6, 2004 [EBook #10612]
+
+Language: English
+
+Character set encoding: ISO-8859-1
+
+*** START OF THIS PROJECT GUTENBERG EBOOK SUPPLY AND DEMAND ***
+
+
+
+
+Produced by Josh Cogliati and PG Distributed Proofreaders
+
+
+
+
+SUPPLY AND DEMAND
+
+By Hubert D. Henderson M.A.
+
+With an Introduction by J.M. Keynes M.A., C.B.
+
+1922.
+
+
+
+
+
+INTRODUCTION
+
+The Theory of Economics does not furnish a body of settled conclusions
+immediately applicable to policy. It is a method rather than a
+doctrine, an apparatus of the mind, a technique of thinking, which
+helps its possessor to draw correct conclusions. It is not difficult
+in the sense in which mathematical and scientific techniques are
+difficult; but the fact that its modes of expression are much less
+precise than these, renders decidedly difficult the task of conveying
+it correctly to the minds of learners.
+
+Before Adam Smith this apparatus of thought scarcely existed. Between
+his time and this it has been steadily enlarged and improved. Nor is
+there any branch of knowledge in the formation of which Englishmen can
+claim a more predominant part. It is not complete yet, but important
+improvements in its elements are becoming rare. The main task of the
+professional economist now consists, either in obtaining a wide
+knowledge of _relevant_ facts and exercising skill in the application
+of economic principles to them, or in expounding the elements of his
+method in a lucid, accurate and illuminating way, so that, through his
+instruction, the number of those who can think for themselves may be
+increased.
+
+This Series is directed towards the latter aim. It is intended to
+convey to the ordinary reader and to the uninitiated student some
+conception of the general principles of thought which economists now
+apply to economic problems. The writers are not concerned to make
+original contributions to knowledge, or even to attempt a complete
+summary of all the principles of the subject. They have been more
+anxious to avoid obscure forms of expression than difficult ideas; and
+their object has been to expound to intelligent readers, previously
+unfamiliar with the subject, the most significant elements of economic
+method. Most of the omissions of matter often treated in textbooks are
+intentional; for as a subject develops, it is important, especially in
+books meant to be introductory, to discard the marks of the chrysalid
+stage before thought had wings.
+
+Even on matters of principle there is not yet a complete unanimity of
+opinion amongst professors. Generally speaking, the writers of these
+volumes believe themselves to be orthodox members of the Cambridge
+School of Economics. At any rate, most of their ideas about the
+subject, and even their prejudices, are traceable to the contact they
+have enjoyed with the writings and lectures of the two economists who
+have chiefly influenced Cambridge thought for the past fifty years,
+Dr. Marshall and Professor Pigou.
+
+J.M. Keynes.
+
+CONTENTS
+
+CHAPTER I
+
+THE ECONOMIC WORLD
+
+§1. THEORY AND FACT
+
+§2. THE DIVISION OF LABOR
+
+§3. THE EXISTENCE OF ORDER
+
+§4. SOME REFLECTIONS UPON JOINT PRODUCTS
+
+§5. SOME REFLECTIONS UPON CAPITAL
+
+§6. THE FUNDAMENTAL CHARACTER OF MANY ECONOMIC LAWS
+
+
+
+CHAPTER II
+
+THE GENERAL LAWS OF SUPPLY AND DEMAND
+
+§1. PRELIMINARY STATEMENT OF THREE LAWS
+
+§2. DIAGRAMS AND THEIR USES
+
+§3. AMBIGUITIES OF THE EXPRESSIONS, "INCREASE IN DEMAND," ETC.
+
+§4. REACTIONS OF CHANGES IN DEMAND AND SUPPLY ON PRICE
+
+§5. SOME PARADOXICAL REACTIONS OF PRICE CHANGES ON SUPPLY
+
+§6. THE DISTURBANCES OF MONETARY CHANGES
+
+§7. THE TRADE CYCLE
+
+
+
+CHAPTER III
+
+UTILITY AND THE MARGIN OF CONSUMPTION
+
+§1. THE FORCES BEHIND SUPPLY AND DEMAND
+
+§2. THE LAW OF DIMINISHING UTILITY
+
+§3. THE RELATION BETWEEN PRICE AND MARGINAL UTILITY
+
+§4. THE MARGINAL PURCHASER
+
+§5. THE BUSINESS MAN AS PURCHASER
+
+§6. THE DIMINISHING UTILITY OF MONEY
+
+
+
+CHAPTER IV
+
+COST AND THE MARGIN OF PRODUCTION
+
+§1. AN ILLUSTRATION FROM COAL
+
+§2. THE VARIOUS ASPECTS OF MARGINAL COST
+
+§3. THE DANGERS OF IGNORING THE MARGIN
+
+§4. A MISINTERPRETATION
+
+§5. SOME CONSEQUENCES OF A HIGHER PRICE LEVEL
+
+§6. GENERAL RELATION BETWEEN PRICE, UTILITY AND COST
+
+
+
+CHAPTER V
+
+JOINT DEMAND AND SUPPLY
+
+§1. MARGINAL COST UNDER JOINT SUPPLY
+
+§2. MARGINAL UTILITY UNDER JOINT DEMAND
+
+§3. A CONTRAST BETWEEN COTTON AND COTTON-SEED, AND WOOL AND MUTTON
+
+§4. THE IMPORTANCE OF BEING UNIMPORTANT
+
+§5. CAPITAL AND LABOR
+
+§6. CONCLUSIONS AS TO JOINT SUPPLY AND JOINT DEMAND
+
+§7. COMPOSITE SUPPLY AND COMPOSITE DEMAND
+
+§8. ULTIMATE REAL COSTS
+
+
+
+CHAPTER VI
+
+LAND
+
+§1. THE SPECIAL CHARACTERISTICS OF LAND
+
+§2. THE SCARCITY ASPECT
+
+§3. THE DIFFERENTIAL ASPECT
+
+§4. THE MARGIN OF TRANSFERENCE
+
+§5. THE NECESSITY OF RENT
+
+§6. THE QUESTION OF REAL COSTS
+
+§7. RENT AND SELLING PRICE
+
+
+
+CHAPTER VII
+
+RISK-BEARING AND ENTERPRISE
+
+§1. PROFITS AND EARNINGS OF MANAGEMENT
+
+§2. THE PAYMENT FOR RISK-BEARING
+
+§3. MONTE CARLO AND INSURANCE
+
+§4. RISK UNDER LARGE SCALE ORGANIZATION
+
+§5. THE ENTREPRENEUR
+
+§6. RISK-TAKING AND CONTROL
+
+§7. GENERAL ANALYSIS OF PROFITS
+
+
+
+CHAPTER VIII
+
+CAPITAL
+
+§1. A REFERENCE TO MARX
+
+§2. WAITING FOR PRODUCTION
+
+§3. WAITING FOR CONSUMPTION
+
+§4. CAPITAL NOT A STOCK OF CONSUMABLE GOODS
+
+§5. THE ESSENCE OF WAITING
+
+§6. INDIVIDUAL AND SOCIAL SAVING
+
+§7. THE NECESSITY OF INTEREST
+
+§8. THE SUPPLY OF CAPITAL
+
+§9. INVOLUNTARY SAVING
+
+§10. INTEREST AND DISTRIBUTION
+
+
+
+CHAPTER IX
+
+LABOR
+
+§1. A RETROSPECT ON LAISSEZ-FAIRE
+
+§2. IDEAS AND INSTITUTIONS
+
+§3. THE GENERAL WAGE-LEVEL
+
+§4. THE SUPPLY OF LABOR IN GENERAL
+
+§5. THE APPORTIONMENT OF LABOR AMONG PLACES
+
+§6. THE APPORTIONMENT OF LABOR AMONG SOCIAL GRADES
+
+§7. THE APPORTIONMENT OF LABOR AMONG OCCUPATIONS
+
+§8. WOMEN'S WAGES
+
+CHAPTER X
+
+THE REAL COSTS OF PRODUCTION
+
+§1. COMPARATIVE COSTS
+
+§2. THE ALLOCATION OF RESOURCES
+
+§3. UTILITY AND WEALTH
+
+§4. CRITERIA OF POLICY
+
+
+
+SUPPLY AND DEMAND
+
+
+
+CHAPTER I
+
+THE ECONOMIC WORLD
+
+
+§1. _Theory and Fact_. The controversy between the "Theorist" and the
+"Practical Man" is common to all branches of human affairs, but it is
+more than usually prevalent, and perhaps more than usually acrid in
+the economic sphere. It is always a rather foolish controversy, and I
+have no intention of entering into it, but its prevalence makes it
+desirable to emphasize a platitude. Economic theory must be based
+upon actual fact: indeed, it must be essentially an attempt, like all
+theory, to _describe_ the actual facts in proper sequence, and in true
+perspective; and if it does not do this it is an imposture. Moreover,
+the facts which economic theory seeks to describe are primarily
+economic facts, facts, that is to say, which emerge in, and are
+concerned with, the ordinary business world; and it is, therefore,
+mainly upon such facts that the theory must be based. People
+sometimes speak as though they supposed the economist to start from a
+few psychological assumptions (e. g. that a man is actuated mainly by
+his own self-interest) and to build up his theories upon such
+foundations by a process of pure reasoning. When, therefore, some
+advance in the study of psychology throws into apparent disrepute such
+ancient maxims about human nature, these people are disposed to
+conclude that the old economic theory is exploded, since its
+psychological premises have been shown to be untrue. Such an attitude
+involves a complete misunderstanding not merely of economics, but of
+the processes of human thought. It is quite true that the various
+branches of knowledge are interrelated very intimately, and that an
+advance in one will often suggest a development in another. By all
+means let the economist and psychologist avoid a pedantic specialism
+and let each stray into the other's province whenever he thinks
+fit. But the fact remains that they are primarily concerned with
+different things: and that each is most to be trusted when he is upon
+his own ground. When, therefore, the economist indulges in a
+generalization about psychology, even when he gives it as a reason for
+an economic proposition, in nine cases out of ten the economics will
+not depend upon the psychology; the psychology will rather be an
+inference (and very possibly a crude and hasty one) from the economic
+facts of which he is tolerably sure.
+
+But the purpose of economic theory is not merely to describe the facts
+of the economic world; it is to describe them in their proper sequence
+and true perspective. It must begin with those facts which are most
+general and which have the widest possible significance. Those are not
+likely to be the facts which our practical experience forces most
+insistently upon our notice. For it is the particular and not the
+general, the differences between things rather than their
+resemblances, that concern us most in daily life. Nor are we likely to
+find the universal facts which we require in the sphere of public
+controversy. We must rather look for them in the dark recesses of our
+consciousness, where are stored those truths which are so obvious that
+we hardly notice them, which are so indisputable that we seldom
+examine them, which seem so trite that we are apt to miss their full
+significance.
+
+
+§2. _The Division of Labor_. There is one such truth in the economic
+sphere which it is essential to appreciate vividly and fully, with the
+widest sweep of the imagination and the sharpest clarity of
+thought. Man lives by cooperating with his fellow-men. In the modern
+world, that cooperation is of a boundless range and an indescribable
+complexity. Yet it is essentially undesigned and uncontrolled by
+man. The humblest inhabitant of the United States or Great Britain
+depends for the satisfaction of his simplest needs upon the activities
+of innumerable people, in every walk of life and in every corner of
+the globe. The ordinary commodities which appear upon his dinner table
+represent the final product of the labors of a medley of merchants,
+farmers, seamen, engineers, workers of almost every craft. But there
+is no human authority presiding over this great complex of labor,
+organizing the various units, and directing them towards the common
+ends which they subserve. Wheel upon wheel, in a ceaseless succession
+of interdependent processes, the business world revolves: but no one
+has planned and no one guides the intricate mechanism whose smooth
+working is so vital to us all. Man, indeed, can organize and has
+organized much. Within a large factory the efforts of thousands of
+work-people, each engaged on the repetition of a single small process,
+are fitted together so as to form an ordered whole by the conscious
+direction of the management. Sometimes factory is joined with factory,
+with farms, fisheries, mines, with transport and distributing
+agencies, as one gigantic business unit, controlled by a common
+will. These giant businesses are remarkable achievements of man's
+organizing gifts. The individuals who control them wield an immense
+power, which so impresses the public imagination that we dub them
+"kings," "supermen," "Napoleons of industry." But how small a portion
+of man's economic life is dominated by such men! Even as regards the
+affairs of their own businesses, how narrow, after all, are the limits
+of their influence! The prices at which they can buy their materials
+and borrow their capital, the quantities of their products which the
+public will consume, are factors at once vital to their prosperity and
+outside their own control.
+
+A great business, like a nation, may cherish visions of
+self-sufficiency, may stretch its tentacles forward to the consumer
+and backwards to its supplies of raw material; but each fresh
+extension of its activities serves only to multiply its points of
+contact with the outside world. When those points are reached, the
+largest business, like the smallest, is out on the open sea of an
+economic system immeasurably larger and more powerful than
+itself. There it must meet--the better perhaps for its inherent
+strength and accumulated knowledge--the impact of rude forces, which
+it is powerless to control. Beneath the blasts of a trade depression,
+or some other tendency of world-wide scope, the authority of the
+mightiest industrial magnate, and equally of any Government, assumes
+the same essential insignificance as the pride of a man humbled by
+contact with the elemental powers of nature.
+
+
+§3. _The Existence of Order_. The parallel can be pursued further with
+advantage. Just as in the world of natural phenomena, which for long
+seemed to man so wayward and inexplicable, we have come gradually to
+perceive an all-pervading uniformity and order; so there is manifest
+in the economic world, uniformity, order, of a similar if less
+majestic kind. Upon the cooperation of his fellowmen, man depends for
+the very means of life: yet he takes this cooperation for granted,
+with a complacent confidence and often with a naive unconsciousness,
+as he takes the rising of to-morrow's sun. The reliability of this
+unorganized cooperation has powerfully impressed the imagination of
+many observers.
+
+"On entering Paris which I had come to visit," exclaimed Bastiat some
+seventy years ago, "I said to myself--Here are a million of human
+beings who would all die in a short time if provisions of every kind
+ceased to flow towards this great metropolis. Imagination is baffled
+when it tries to appreciate the vast multiplicity of commodities which
+must enter to-morrow through the barriers in order to preserve the
+inhabitants from falling a prey to the convulsions of famine,
+rebellion, and pillage. And yet all sleep at this moment, and their
+peaceful slumbers are not disturbed for a single instant by the
+prospect of such a frightful catastrophe. On the other hand, eighty
+departments have been laboring to-day, without concert, without any
+mutual understanding, for the provisioning of Paris."
+
+The theme may well excite wonder. But wonder should always be watched
+with a wary eye; for he is apt to bring in his train a hanger-on
+called worship, who can do nothing but mischief here. It is a short
+step from a passage like that quoted above to a glorification of the
+existing system of society, to a defence of all manner of indefensible
+things; and a cross-grained attitude towards all projects of
+reform. It is a short step; but it is one which it is quite
+unjustifiable to take. For the evils of our economic system are too
+plain to be ignored; too many people have harsh personal experience of
+the wastefulness of its production, the injustice of its distribution;
+of its sweating, its unemployment and slums. And when the attempt is
+made to plaster over evils, such as these with obsequious rhetoric
+about the majesty of economic law, it is not surprising that the
+spirit of many men should revolt and that they should retort by
+denying the existence of order in the business world, by declaring
+that the spectacle which _they_ see is one of discord, confusion and
+chaos. And then we are engulfed in a controversy as stale, flat and
+unprofitable as that between the "theorist" and the "practical man."
+
+The truth is that the language of praise and obloquy is quite
+inappropriate. In the first place, it may be well to note that the
+order of which I have spoken manifests itself not merely in those
+economic phenomena which are beneficial to man, but hardly less in
+those which work to his hurt. Even in those alternations of good and
+bad trade, which spell so much unemployment and misery, there is
+discernible a rhythmic regularity like that of the process of the
+seasons, or the ebb and flow of the tide. This is not an elegance to
+be admired. Furthermore, in so far as the order comprises adjustments
+and tendencies which are beneficial (as, indeed, is mainly true),
+there is no warrant for assuming that these are either adequate to
+secure a prosperous community or dependent upon the social
+arrangements which happen to exist. Let us, therefore, refrain from
+premature polemics and examine in a spirit of detachment some further
+aspects of the elaborate, but yet unorganized, cooperation of which so
+much has been already said.
+
+
+§4. _Some Reflections upon Joint Products_. A quite inadequate idea of
+the complexity of this coöperation is obtained by dwelling on the
+numbers of people who participate in it, or the immense distances over
+which it extends. The deficiency can be partially supplied by
+referring to some of the more obvious of the many subtle
+interconnections which exist between different commodities and
+different trades.
+
+There are innumerable groups of commodities (which it is customary to
+term "joint products") such that the production of one commodity
+belonging to the group necessarily implies or very greatly facilitates
+the production of the others. Wool and mutton; beef and hides; cotton
+and cotton-seed are a few familiar illustrations. The important
+feature of these "joint products" is the fairly precise relation which
+must exist between the quantities in which the different products are
+supplied. If you plant a certain crop of cotton, it will yield you so
+much cotton lint and so much cotton-seed. You can, of course, if you
+choose, throw away part of the seed, as indeed at one time planters
+used to do; but unless you do this, you cannot vary the proportions of
+the two things which you will have for sale. Similarly, if you keep a
+flock of sheep, or a herd of cattle, you will obtain wool and mutton
+in the one case, or beef and hides in the other, in proportions, which
+indeed you can vary within certain limits by choosing a different
+breed,[1] but which you cannot radically transform. When, however, we
+turn to the uses to which these products are put, no similar relation
+is to be discovered. Cotton lint is used chiefly for making articles
+of clothing; cotton-seed for crushing into oil, on the one hand, and
+cake for cattle fodder on the other. There is no apparent connection
+of any kind between the demands for these different things, and still
+less is there any obvious reason why these demands should bear to one
+another the particular proportions which characterize their respective
+supplies. It is very much the same with wool and mutton; with beef and
+hides; with all "joint products." Why should we consume mutton on the
+one hand and woolen clothing on the other, in a ratio at all
+commensurate with that in which they are yielded by the sheep?
+
+[Footnote 1: These possibilities of small variation are of very great
+importance as will be shown in Chapter V, but they do not affect the
+present argument.]
+
+What, then, might we expect to find if order was nonexistent in the
+economic world? Surely that some things such as wool would be produced
+in quantities many times in excess of the demand for them, quite
+possibly five, ten, or twenty times in excess; while conversely the
+supplies of others such as mutton might fall far short of what was
+required. But in practice we find nothing of the sort. Somehow it
+comes about that an equilibrium is established between the demand for
+and the supply of every commodity; and that this applies to wool and
+mutton, to beef and hides, as surely as to commodities which are
+produced quite independently. It is true that this equilibrium is a
+rough, imperfect one; and it may happen that what is called a "glut"
+of wool may co-exist for a short period with what is called a scarcity
+of mutton. But qualifications of this nature are in the strictest
+sense of the phrase, the exceptions which prove the rule. For the
+departures from equilibrium which gluts and scarcities represent are
+always transient and are usually confined within narrow limits. A
+strong prevailing trend towards an adjustment of demand and supply is
+unmistakably manifest amid all the vagaries of changing circumstance.
+Let me carry the argument a step further for the benefit of any reader
+who is restrained by a repugnance too deep and instinctive to be
+readily overcome, from admitting fairly to his mind that conception of
+order which I am endeavoring to emphasize. He will in all probability
+be one who, cherishing ideals of a better and fairer system of
+society, looks forward to a time when an organized coöperation will be
+substituted for what he regards as the existing chaos. Let us suppose
+that his visions were fulfilled as completely as he could desire; and
+that an immense system of Socialism were in existence, embracing not
+one country only, but the whole world. Suppose all the difficulties of
+human perversity and administrative technique to have been surmounted
+and a wise, disinterested executive to be in supreme control of our
+business life. Let us suppose all this, and ask only the question: How
+would this executive treat the humdrum case of wool and mutton? How
+would it decide the number of sheep it would maintain?
+
+Shall we suppose that it is inspired by the ideal "to each according
+to his need," and that it resolves accordingly that the commodities
+which people require for a decent standard of life shall be supplied
+to them as a matter of course? How, then, would it proceed? It might
+estimate the amount of woolen clothing which a normal family requires,
+allowing for differences in climate, and possibly indulging somewhat
+the caprices of human taste. On this basis, a certain number of sheep
+would be indicated. It might perform a similar calculation for mutton,
+and again a certain number of sheep would be indicated. But it would
+be an extraordinary coincidence if the numbers which resulted from
+these independent calculations were nearly equal to one another, or
+were even of the same order of magnitude; and, if they differed
+widely, what number would our world executive select? Would it decide
+to waste an immense quantity of either wool or mutton; or would it
+decide that it could not, after all, supply the full human needs for
+one or other of the commodities?
+
+Of course, if the executive were sensible it could solve the problem
+satisfactorily enough. It could retain the monetary system we know
+to-day and it could supply the commodities to the consumers, not as a
+matter of right, but by selling them to them _at a price_. This price
+it could then move upwards or downwards, raising, say, the price of
+mutton and reducing that of wool, until it found that the consumption
+of the two things was adjusted in the required ratio. But if it acted
+in this manner, what essentially would it be doing? It would be
+seeking by deliberate contrivance to reproduce, in respect of this
+particular problem, the very conditions which occur to-day without aim
+or effort on the part of anyone at all.
+
+The moral of this illustration must not be misinterpreted. It does
+not show the folly of Socialism or the superiority of
+Laissez-faire. What it does show is the existence in the economic
+world of an order more profound and more permanent than any of our
+social schemes, and equally applicable to them all.
+
+
+§5. _Some Reflections upon Capital_. Another aspect of the great
+cooperation is of even greater significance. It embraces not only a
+multitude of living men, but it links the present together with the
+future and the past. The goods and services which we enjoy to-day we
+owe only in part to the labors of the week, the month, or the year,
+only in part even to the efforts of our contemporaries. The men, long
+since dead and forgotten, who built our railways, or sunk our coal
+mines, or engaged in any of a great variety of tasks, are still
+contributing to the satisfaction of our daily wants. The expression is
+not altogether fanciful; for, had it not been reasonable to expect
+that those labors would be of use to us to-day, many of them in all
+probability would never have been undertaken. It was to meet our
+present wants, and even our future wants, that many men toiled on
+monotonous tasks ten, twenty, thirty years ago. And yet, of course, we
+should deceive ourselves if we supposed that this was the motive of
+these men, that our welfare was the centre of their heart's desire. We
+in our turn dedicate to the future, and often to a distant future, an
+immense portion of our energies. Let any reader who doubts this, study
+the statistics of the occupations of the people, and reflect on how
+long a period must elapse before the labors of this trade or that can
+fulfil their ultimate function. How long would the period be in the
+case of a man making bricks, which will later be employed in the
+erection of a factory, where machinery will be made, to equip an
+electrical generating station designed to supply, over a period of
+many years, light, heat, and power to people living in a remote
+Continent? A longer time, it may be hazarded, than he is accustomed
+to look ahead.
+
+Like the daily cooperation of living men, this cooperation of past,
+present and future is essential to the well-being of mankind, and yet
+it is undesigned and unorganized. As private individuals, men do,
+indeed, deliberately provide for their own future, and for that of
+their kith and kin: as the directors of businesses, they try to
+forecast the trend of demand. But such conscious calculations and
+deliberate acts would avail little if they stood alone. They are
+hardly more than the necessary spokes in the great wheel which
+regulates the relations of past, present and future. The hub of the
+wheel is an elaborate system of borrowing and lending, essentially
+similar to the buying and selling of commodities. The private
+individual in order to provide for his family or for his old age
+"saves" and "invests." But what exactly does this mean? It means that
+he transfers so much purchasing power, which he might have spent on
+his personal pleasures, to some one else in return for the expectation
+of receiving, year by year in the future, he and his heirs after him,
+a certain smaller quantity of purchasing power. The other party to the
+transaction will be, we may suppose, a business man who enters into it
+because he sees the opportunity of a promising industrial development,
+to undertake which he requires more purchasing power than he himself
+possesses. And, because this transaction is entered into, a smaller
+number of us will shortly be engaged in making motorcars, or
+gramaphones, and a larger number of us in making factories and
+machinery, which will later enhance the world's productive power.
+
+Many transactions of the kind take place daily in modern communities,
+and their multiplicity gives rise to a mass of phenomena with which we
+are all tolerably familiar. We recognize a short-loan market, a stock
+exchange, a number of "markets" where lenders and borrowers are
+brought together by the aid of various intermediaries, such as banks,
+bill brokers, and stock jobbers, who correspond to dealers in
+commodities. Between these different specialized markets, we are
+aware of an interconnection so close and strong that we speak more
+generally of a Capital Market, of which the stock exchange, the
+short-loan market and so forth, are the component parts. Now, "market"
+is a word which was originally used to denote a place where tangible
+commodities were bought and sold; and the more closely we examine the
+phenomena of the Capital Market, the more closely do we perceive the
+profound resemblance between the mechanism of borrowing and lending,
+and that of buying and selling. Corresponding to the price of a
+commodity is the rate of interest (in the short-loan market we
+actually call the rate of Discount "the price of money," and speak of
+money being cheap or dear); and between the rate of interest, the
+demand for and the supply of capital there exist relations precisely
+similar to those between price, demand, and supply in commodity
+markets. Above all there is the same strong prevailing trend towards
+an adjustment of demand and supply.
+
+This fundamental resemblance between two such apparently
+incommensurable things as the buying of material commodities and the
+borrowing of capital is highly significant; it is another instance of
+that order in the economic world, of which the reader may now be
+growing weary. But so difficult is it to see clearly and fully
+something which one sees, as it were, every day of one's life, that a
+few more moments of reflection on the special case of capital will be
+time well spent. Let us revert then to our fantasy of a world
+socialist commonwealth; and humbly submit another poser to its supreme
+executive. The question this time will be whether some great
+constructional work, such, let us say, as the recently mooted Severn
+barrage scheme, should or should not be undertaken. Let us suppose
+that the costs and future benefits of the undertaking can be estimated
+accurately; and that the problem reduces itself to one of expending
+now a sum, let us say, of $100,000,000, with the prospects of
+obtaining in the future an income of power, or whatever it may be,
+worth $5,000,000 per annum. I have assumed for the sake of simplicity
+that we shall still be reckoning in terms of money, though possibly
+the executive may have substituted Marxian labor units; but it is
+quite immaterial to the present argument what the measuring rod may
+be. The point to be observed is, that it is impossible to tackle the
+problem at all without the conception of a rate of interest. For
+suppose that you tried to do without it, and said, "We shall take a
+long view. The interests of the future are no less our concern than
+those of the present; we shall not discriminate between them. We shall
+regard as an enterprise worthy to be undertaken whatever promises to
+yield in the course of time a return larger than the outlay." Where
+will this lead you? The particular proposal set out above would
+clearly pass the test; for in twenty years the resultant benefits
+would have added up to a figure equivalent to the initial cost. But
+equally clearly, the cost might have been more than $100,000,000; it
+might have been $250,000,000, $500,000,000, whatever figure you care
+to take, and if you extend the period similarly to fifty or one
+hundred years, sooner or later the gains would top the cost. Now there
+is no limit to the enterprises which would pay their way on this
+basis; and it would be quite impossible to undertake them all. For
+they would swallow up all and more than all your labor and your
+materials, and would leave you with no resources with which to meet
+the recurrent daily wants of men. Clearly, then, in some way or other,
+you must pick and choose, you must reject some enterprises as
+_insufficiently_ worth while. But how would you proceed to choose?
+Without a clear principle, a simple criterion to guide you, you would
+be plunged in utter chaos. You could not say, "Let all proposals
+involving capital expenditure be submitted to a central committee, who
+shall compare them with one another in a sort of competitive
+examination and, after deciding the number of applications they can
+pass on the basis of the volume of resources which they can devote to
+the future, award the places to those which head the list." Such a
+prospect is a nightmare of officialism and delay. You would be driven
+to formulate a simple, intelligible rule or measure, and leave that
+rule to be applied by the unfettered judgment of innumerable men to
+individual problems, as and when they arose. And for such a rule or
+measure, you could not do better than a rate of interest; you would
+have to lay it down that only those projects should be approved which
+promised a return of 6 per cent, or whatever it might be. Even in
+deciding what it should be, the limits of your choice would be
+narrowly confined. If, for instance, you fixed on 1 or 2 per cent,
+you would probably discover that you had not achieved your object,
+that the undertakings for distant returns which passed this test,
+still consumed far more resources than you could spare. You would be
+compelled then to raise the rate until it had cut these enterprises
+down within manageable limits. But, once more, what essentially would
+you be doing? You would be using the instrument of the rate of
+interest to adjust the demand for and supply of capital, though indeed
+the interest might not be paid away as now to private individuals. You
+would be reproducing by the method of deliberate trial and error, the
+adjustments which occur automatically as things are, in the actual
+world. Once again the most perfectly contrived Utopia would be
+compelled to pay to the unorganized coöperation of our epoch the
+sincerest flattery of imitation.
+
+
+§6. _The Fundamental Character of many Economic Laws_. But again
+perhaps a word of warning may be desirable. There is much controversy
+in these days about something called "Capitalism" or "The capitalist
+system." When these words are used with any precision, they usually
+refer to the arrangement so prevalent at present, whereby the
+ownership and sole ultimate control of a business rests with those who
+hold its stocks and shares. There is much to be said upon the merits
+and demerits of this system; something will perhaps be said upon the
+matter in the fifth volume of this series; but I shall not discuss it
+here. Nothing that I have said so far has any real bearing on it
+whatsoever; to suppose that it has, is indeed to miss the whole point
+of this chapter.
+
+The order, which I have sought to reveal, pervading and moving the
+most diverse phenomena of the economic world, would be a far less
+noteworthy and impressive thing were it merely the peculiar product of
+capitalism. Merchant adventurers, companies, and trusts; Guilds,
+Governments and Soviets may come and go. But under them all, and, if
+need be, in spite of them all, the profound adjustments of supply and
+demand will work themselves out and work themselves out again for so
+long as the lot of man is darkened by the curse of Adam.
+
+
+
+CHAPTER II
+
+THE GENERAL LAWS OF SUPPLY AND DEMAND
+
+
+§1. _Preliminary Statement of Three Laws_. The recognition of order in
+any branch of natural phenomena is but the prelude to the formulation
+of a set of laws, the simpler as the order is more universal, which
+describe, and as we say, explain it. Thus the perception of the even,
+elliptical courses of the heavenly bodies led to the statement of the
+law of gravitation and the laws of motion.
+
+In economics, similar laws have long since been enunciated, and have
+proved themselves such valuable instruments for the understanding of
+the daily problems of the workaday world, that they have been woven
+into the texture of our ordinary speech and thought. I have already
+touched upon them in the preceding chapter. But it is now desirable to
+set them out in order, in the most concise and formal manner possible.
+
+LAW I. When, at the price ruling, demand exceeds supply, the price
+   tends to rise. Conversely when supply exceeds demand the price
+   tends to fall.
+
+LAW II. A rise in price tends, sooner or later, to decrease demand and
+   to increase supply. Conversely a fall in price tends, sooner or
+   later, to increase demand and to decrease supply.
+
+LAW III. Price tends to the level at which demand is equal to supply.
+
+These three laws are the cornerstone of economic theory. They are the
+framework into which all analysis of special, detailed problems must
+be fitted. Their scope is very wide. I have purposely refrained from
+introducing into my statement of them any reference to commodities;
+for they extend far beyond commodities. Subject to an important
+qualification, they apply to capital, the price paid for the use of
+capital being what we call the rate of interest. They apply hardly
+less to "services," to the remuneration of labor of every kind and
+grade. People sometimes protest warmly against the idea of treating
+labor "like a commodity." If this indignation expresses no more than
+a belief that in matters concerning conditions of work, and relations
+between employees and the management, the sensibilities of human
+nature should be taken into due account, it is based on elementary
+decency and commonsense. But if, as sometimes appears, it is directed
+against the fact that the remuneration of labor is controlled by the
+laws of supply and demand, it is a mere baying at the moon, with
+singularly little provocation. For these laws are in no way peculiar
+to commodities, and it is no one's fault that they include commodities
+too within their scope.
+
+But let us go back to the laws themselves, and probe them and dissect
+them, and turn them this way and that, so that we may perceive their
+full content, and grasp it firmly in our minds. The third law implies
+a prevailing tendency for demand to be equal to supply. This
+tendency, as was suggested in Chapter I, can be verified by anyone
+from his experience and observation (provided he is a reasonable
+person, and not the tiresome kind who would dispute the law of
+gravitation because he sees that a feather falls to the ground more
+slowly than a stone). But it can also be deduced as a corollary from
+the two preceding laws; and to regard it in this way will help us to
+appreciate its significance. Start, for instance, by supposing that
+demand is in excess of supply. Then the price will tend to rise. After
+the price has risen, the supply will become larger, while the demand
+will fall away. The excess of demand with which we started will thus
+clearly be diminished. But if there remains any portion of this
+excess, the same reactions will continue; the price will rise further,
+and for the same reason; demand will be further checked and supply
+further stimulated. In other words, these forces must persist until
+the entire excess of demand over supply is eliminated. If we start by
+supposing supply to exceed demand, the converse chain of sequences
+will operate. Now these very simple steps of reasoning illuminate the
+nature of the normal equilibrium of demand and supply. They reveal
+that the equilibrium is established and maintained by the agency of
+_changes in price_, and they enable us to lay it down as perhaps the
+most important thing that can be said about the price of anything that
+it will tend to be such as will equate demand and supply. But that is
+not all that they reveal. They reveal also the extreme dependence of
+both demand and supply upon price.
+
+Now this is a fact which it is most important to realize vividly. It
+is apt to be obscured by customary modes of speech. In ordinary times
+the prices of most commodities and services do not change by very
+much, unless indeed over a long period of years; the amounts demanded
+and supplied may therefore seem to maintain a fairly constant level;
+and we may be tempted to speak of Great Britain producing so many
+million tons of coal, or America consuming so many millions of
+motor-cars per annum, almost as though these quantities were
+independent of price considerations. But we should never forget that
+there is no service or commodity produced by man, however essential it
+may seem, the demand for or the supply of which might not be reduced
+to nothing, if the price were sufficiently raised on the one hand, or
+lowered on the other. How easy it is sometimes to forget this simple
+truth may be seen from the mistake so commonly made of supposing,
+because the peoples of Central Europe were left, on the cessation of
+the war, starving and destitute of the means of life and the materials
+of work, that they must necessarily become heavy purchasers of
+imported goods; without pausing to consider whether the prices were
+such as they could afford to pay.
+
+
+§2. _Diagrams and their Uses_. It will help to prevent mistakes like
+this and more generally to make sharp and clear the fundamental
+relations which exist between demand, supply and price, if we exhibit
+them pictorially in the form of a diagram. Such diagrams are of great
+service in many parts of economic theory, not because they can prove
+anything which could not be proved otherwise, but because, being
+really a simpler medium of expression than words, they enable the mind
+to grasp more readily and to retain more vividly the essential facts
+of complex relations.
+
+Figure 1:
+
+     Y
+       |
+       |                                            S'
+       |                                          *
+     D |                                         **
+       |*                                       **
+       | **                                    *
+       |  **                                  *
+       |    *                                *
+       |     **                            **
+       |      **                          *
+       |        **                       *
+       |         **                    **
+       |           **                 *
+       |            **  Q           **
+    _l_|--------------*------------* R
+       |              |***       **
+       |              |   ** P **
+    _m_|--------------------***
+       |              |  *** |***
+    _k_|--------------***----+---** _r_
+       |          _q_*|      |     ***
+       |          *** |      |        ****
+       |       ***    |      |           ****
+       |    ***       |      |               ***
+     S |****          |      |                  ****
+       |              |      |                      ** D'
+       |              |      |
+       |              |      |
+       |              |      |
+       |              |      |
+      0+-------------------------------------------------------- X'
+                      N      M.
+                              Figure 1
+
+In Fig. 1 the curve DD' represents the conditions of demand. It is
+supposed to be drawn in such a way that if any point, Q, be taken on
+the curve, and the perpendicular QN be drawn to meet the base line, or
+axis OX, then ON will represent the amount that will be demanded at a
+price represented by QN (or O_l_). In other words, distances measured
+along OY represent prices, and distances measured along OX represent
+quantities of the commodity, or service, or whatever it may be.
+Clearly, then, the demand curve, DD', must slope downwards from left
+to right, since the lower the price asked, the greater will be the
+amount demanded.  Similarly the curve SS' represents the conditions of
+supply. It is supposed to be so drawn that if any point _q_ be taken
+upon it, and the perpendicular _q_N be drawn to meet OX, then ON will
+represent the amount that will be supplied at a price represented by
+_q_N (or O_k_). Equally clearly this supply curve must slope upwards
+from left to right, since the higher the price obtainable, the greater
+will be the quantity offered. Take the point P where the two curves
+meet, and draw the perpendicular PM to meet OX. Then the third law
+enunciated at the beginning of this chapter corresponds to the
+statement that PM or O_m_ will represent the price at which the
+commodity or service will be exchanged.
+
+It can readily be seen that no other price could be maintained. For
+suppose the price to be less than O_m_, suppose it to be O_k_, then,
+at this price, ON (or _kq_) will be the amount supplied, and _kr_ the
+amount demanded. The demand will thus exceed the supply, and the
+price will tend to rise, i.e. to move upwards towards O_m_. Similarly
+if we suppose the price to be O_l_, which is larger than O_m_, the
+supply (_l_R) will exceed the demand (_l_Q) and the price will fall
+downwards towards O_m_. Thus, again, we have deduced Law III from Laws
+I and II with the form and precision of a proposition in Euclid. Now,
+when once the eye has become familiar with this diagram, it ought to
+be impossible for the mind to lose even momentarily its grip on the
+fact that demand and supply are both dependent upon price. For these
+curves do not represent any particular amounts; they represent a
+series of _relations_ between amount and price; if the price is QN the
+amount demanded is ON, and so forth. The terms demand and supply in
+the sense, in which I have been using them, of the respective amounts
+demanded and supplied are, indeed, strictly meaningless without
+reference to some particular price. The reference may sometimes be
+implicit; but, whenever there is a chance of ambiguity, it should be
+explicitly made.
+
+
+§3. _Ambiguities of the Expressions, "Increase in Demand," etc_. It is
+the more important to be precise upon this point, in that there is a
+further possible confusion which we have now to consider. Demand and
+supply, as we have seen, are dependent upon price; but equally clearly
+they are dependent upon other things as well. Demand depends upon the
+needs, tastes and habits of the people, as well as upon the length of
+their purse; supply depends upon such things as the cost of production
+in the case of commodities. None of these things are constant
+factors, all of them are liable to change, and it may well happen that
+we shall want to consider in some concrete problem the probable
+consequences of such a change. Now the most usual and natural way of
+describing such changes in the medium of words is to use the
+expression "increase" or "decrease in demand," and "increase" or
+"decrease in supply," the same expressions, which we employed before
+to describe the consequences of a change in price. This identity of
+language conceals a fundamental distinction between the phenomena
+described; and to make this distinction plain we cannot do better than
+revert to our diagrammatic presentation of the laws.
+
+Figure 2:
+
+    Y |
+      |
+   _d_|
+      |.
+      | .
+      |  .                                         _s'_
+      |   .                                       .
+    D |    .                                     .
+      |**   .                                   .    * S'
+      | **   ..                                .    *
+      |  **    .                               .   *
+      |   **    .                            ..   *
+      |     *    ..                         .    **
+      |      **    .                       .    **
+      |       **    ..                   ..    **
+      |         *     .                 .     *
+      |          **    .               .     *
+      |           **    ..            .    **
+      |             **    ..        ..    **
+      |              **     ..    ..    **
+      |                **     . ..    **
+      |                 ** p' ..     **
+      |                   **..  .. **
+      |                  ..|**p  **._p_
+      |                ..  | **** | ..
+      |             ...    |**|** |   ..
+      |           ..      *|  |  *|     ..
+      |      .....     *** |  |   |**     .
+   _s_|......       ***    |  |   |  **    ..
+      |          ***       |  |   |    **    ...
+      |     *****          |  |   |      **     ...
+    S |*****               |  |   |        **      ..
+      |                    |  |   |          ***     .._d'_
+      |                    |  |   |            ***
+      |                    |  |   |               **
+      |                    |  |   |                 **D'
+      |                    |  |   |
+      |                    |  |   |
+     0+---------------------------------------------------------
+                          M'  M  _m_
+                            Figure 2
+
+
+
+In Fig. 2 we start as before with our demand curve, and supply curve,
+cutting one another at the point P. We then suppose that some
+alteration takes place in the conditions of demand; there has been a
+growth in the general taste for the commodity or service, and the
+demand, as we say, has increased accordingly. How is this fact to be
+represented in the diagram? Plainly not by taking another point on
+the curve, DD', at a further distance from OY. For this would merely
+indicate the larger amount that would be taken, if the conditions of
+demand had remained unaltered but the sellers had reduced their
+prices. The correct way of representing the change we have supposed is
+to construct a new demand curve (in the figure, the dotted curve
+_dd'_), lying at every point above the old demand curve. For this
+indicates that larger quantities will be purchased at the old prices,
+which is exactly what we want to represent. Similiarly if we wish to
+represent a change in the conditions of supply, such as might result,
+in the case of a commodity, from a tax imposed on its production, we
+must draw a new supply curve, _ss'_, which in the case supposed, must
+lie everywhere above the old supply curve. On the other hand, the
+decrease or increase in demand or supply, _resulting_ from a change in
+price, is represented simply by a shifting of the equilibrium from one
+point to another on the same curve. The striking pictorial contrast
+between a movement from one curve to another, and a movement along the
+same curve should help to make vivid to our minds the fundamental
+distinction between a change in the _conditions_ of demand, arising
+from new tastes, enhanced purchasing power, etc.; and a mere change in
+the amount purchased resulting from an alteration in the price which
+the sellers ask. Words, as this necessarily cumbrous sentence shows,
+are a clumsy instrument for the expression of abstract relations; it
+is not very easy to see which words in a sentence are the significant,
+commanding ones, and which are performing, as it were, ordinary
+routine duties. A diagram is not exposed to similar ambiguities of
+emphasis.
+
+The particular distinction, to which attention has been called, is
+important. The reader who has grasped it clearly will be able to
+perceive many instances of the confusion arising out of its neglect in
+the ordinary discussions of economic questions which take place in the
+press and on the platform. It is not uncommon, for instance, for an
+argument to run something like this: "The effect of a tax on this
+commodity might seem at first sight to be an advance in price. But an
+advance in price will diminish the demand; and a reduced demand will
+send the price down again. It is not certain, therefore, after all,
+that the tax will really raise the price." A glance at the diagram
+will keep us out of such a bog of sophistry and muddle. For if we
+suppose the amount of the tax per unit of the commodity to be
+represented by S_s_, the curve _ss'_ (drawn, as it is, roughly
+parallel to SS') will represent the new conditions of supply after the
+tax has been imposed. The new position of equilibrium will be given by
+the point P', where _ss'_ cuts DD', the demand curve. Now P' lies to
+the left of P the old point of equilibrium; hence, since DD' _must_
+slope downwards from left to right, it is clear that, if, as it is
+fair here to assume, the _conditions_ of demand have remained
+unaltered, the new price P'M', must be greater than the old.
+
+
+§4. _Reactions of Changes in Demand and Supply on Price_. Having now
+made clear the meaning that must be attached to the terms, let us
+consider the question which naturally arises, whether we can lay down
+any general propositions or laws as to the effect upon price, of an
+increase or decrease in demand or supply. Another glance at the
+diagram suggests that we can. An increase in demand is represented in
+Fig. 2 by a movement from DD' to _dd'_, which cuts the supply curve,
+SS', at _p_, to the right of P. Since the supply curve (drawn, as it
+is best to draw it, to represent the amount which will be supplied in
+response to a given price) must always slope upwards from left to
+right, the new price, _pm_, must be greater than the old, PM.
+Conversely a decrease in demand is represented by a movement from
+_dd'_ to DD', and the new price is seen to be less than the old. We
+have already seen that a decrease in supply, which is represented by a
+movement from SS' to _ss'_ results in a higher price; and it is the
+obvious converse that an increase in supply will have the opposite
+effect. It would seem then that we might lay down quite generally that
+an increase in demand or a decrease in supply will raise the price
+while a decrease in demand or an increase in supply will lower it.
+
+But here it is necessary to be cautious. All conclusions as to the
+effects of causes are necessarily based, implicitly, if not
+explicitly, upon the assumption "other things being equal." This
+method of reasoning, which some people appear to find so irritating in
+the economic sphere, and as they say so "theoretical" and "unreal," is
+one which they adopt readily enough in every other department of
+life. No one, for instance, objects to the statement that the sun,
+when it comes out, makes a room warmer, although it may very well
+happen, if a fire is dying at the same time, that the room grows
+colder in point of fact. For in our general statement we assume
+implicitly that "other things" such as fires, are unchanged. But
+assumptions of this kind are legitimate only when there is no reason
+to suppose that the cause, the effects of which are being studied,
+will itself produce a change in the "other things." If (as I have
+often been told; I really do not know if it is true) the rays of the
+sun help to put a fire out, the statement made above would be the
+better for some qualification.
+
+Now we can only say that an increase in demand raises price if we
+assume the conditions of supply (as represented by the supply curve)
+to remain unchanged. But in practice, an increase in demand may cause
+a change in the _conditions_ of supply. An increase, for instance, in
+the demand for a commodity may give rise to a revolution in the
+methods of production, to the introduction of labor-saving machinery
+and so forth, which will eventually result in the commodity being
+produced more cheaply. It will certainly take a considerable time
+before reactions of this kind can exert an appreciable influence; and
+we can, therefore, feel reasonably sure that over a short period an
+increase in demand will raise the price. But we cannot be sure what
+the ultimate effect will be. A similar alteration in the condition of
+demand is less likely to result from an increase or decrease in
+supply; but it may conceivably occur. We must, therefore, be careful
+to qualify any general propositions which we lay down in this
+connection, by explicit reference to a short period of time. We can
+add the following to our body of laws:--
+
+LAW IV. An increase in demand, or a decrease in supply will tend to
+   raise the price for a short period at least. Conversely a decrease
+   in demand, or an increase in supply will tend to lower the price
+   for a short period at least.
+
+
+This law, like the others, applies to commodities, services, capital,
+to anything which can be said, literally, or by analogy, to have a
+price. "A short period" is, however, a vague expression and, since
+precision is the hallmark of an important law, we must accord to this
+one a status inferior to that which the preceding three can rightly
+claim.
+
+
+§5. _Some paradoxical reactions of price changes on supply_. Let us
+turn, though, once more to these earlier laws, and with a heightened
+critical sense let us submit them to the test of the whole gamut of
+our experience, and see if in any of them we can find the smallest
+flaw. The first of them will pass through the ordeal--let each reader
+prove it for himself--unscathed. The second will emerge with a few
+hairs, as it were, singed. It tells us, for instance, that a rise in
+price will tend to augment the supply. Now there are some things the
+supply of which cannot possibly be augmented; these are the capital
+resources of nature, of which land is the most important for our
+present purpose. Land is bought and sold, it commands a price. In a
+certain sense, it may be said to be possible to increase the supply of
+land, in response to a rise in price, by drainage and reclamation
+schemes; and it will certainly happen that a rise in the price which
+land can command for any particular purpose will increase the amount
+which is devoted to that purpose. But, speaking broadly, the supply
+of land available for purposes of every kind is a fixed unvarying
+factor, with an inertia which the cajolery of price-changes is
+powerless to disturb. This is a most important fact, and it gives rise
+to some peculiar features of the price and rent of land, which we
+shall have to consider later as a separate problem. It constitutes a
+limiting case rather than an exception to the general law. But we have
+not yet done with the reactions of price upon supply. In the case of
+capital, the nature of those reactions has been much discussed as a
+highly controversial question. That a rise in the rate of interest
+will cause some people to save more than before, is generally
+admitted; but it is pointed out that the effect upon others may be the
+exact opposite, because it means that they do not need to save so much
+to acquire the same future annual income. It is unwise to say
+dogmatically that the former tendency outweighs the latter; though
+upon the whole it seems highly probable that it does. We cannot,
+therefore, in this case feel confident that a change in price will
+react upon supply in the manner which our law indicates. Similarly it
+is possible to argue that a rise in the general level of real wages
+may reduce the supply of labor, even, or some might say particularly,
+if the term is used to denote not the number of workpeople, but the
+quantity of work done. For there may be a tendency for workpeople,
+when more comfortably off, to work less regularly or less hard. Here
+again we cannot be sure. In none of these cases, however, including
+that of land, is there any reason to doubt that a rise in price will
+diminish _demand_, or conversely that a fall will increase it. Since,
+therefore, in the reasoning by which we deduced the third law, the
+conclusion will hold good, even if the effects of price-changes on
+supply are of the above paradoxical kind, provided that they do not
+continually outweigh the effects upon demand, there is no reason to
+cast doubt on the solidity of Law III, which, indeed, as we suggested
+before, commends itself directly to experience. But Law II seems now,
+perhaps, somewhat the worse for wear.
+
+The damage, however, is not considerable. For in each case the
+uncertainty arises only when we are dealing with one of the factors of
+production, land, labor or capital, _regarded as a whole_. If we are
+dealing with the capital available for a particular industry, a rise
+in the rate of profit in that industry will certainly increase the
+supply of capital available there; for it will tend to attract savings
+that might otherwise have been employed elsewhere. We can even be
+fairly sure that an increase in the general rate of interest
+prevailing in any particular country will increase the total supply of
+capital available for the businesses of that country, since capital
+has in modern times acquired a considerable migratory power. In the
+case of labor, we cannot go so far as this; but here, too, there is no
+doubt that an increase in the remuneration offered in any particular
+occupation will attract an increased labor supply (always supposing,
+of course, that "other things are equal"). No similar difficulty
+arises for land, labor or capital, as regards the effect of
+price-changes on demand; while for ordinary commodities there is no
+such difficulty on the side either of demand or of supply. Hence the
+only qualification which the strictest accuracy would require us in
+this connection to attach to our statement of Law II is the
+postscript:--
+
+
+   "Except that, in the case of land, the aggregate supply is
+   unalterable; while in the case of capital or labor we cannot be
+   sure how price-changes will affect the aggregate supply."
+
+
+Much significance attaches to these exceptions, as later will appear.
+
+
+§6. _The Disturbances of Monetary Changes_. But let us still keep a
+critical eye on Law II, and submit it to another flashlight from our
+practical experience. The recent world war made us all acutely aware
+of a remarkable rise in the price of almost everything, which yet did
+not seem to diminish appreciably the demand. The explanation of this
+paradox is not difficult to find. There was an immense increase in the
+volume of nominal purchasing power, due to a complex set of causes, of
+which "currency inflation" may be taken as the symbol. Now perhaps we
+are entitled to assume the absence of such currency changes as part of
+the "other things being equal" which is always understood as
+implied. But it is rash to take this particular assumption for
+granted, more especially in these days. Already people are too apt to
+speak as though the trade depression (which as these pages are written
+holds us in its grip) cannot pass away until pre-war prices are
+restored, ignoring altogether the great and probably permanent
+increase in nominal purchasing power which the war has left behind
+it. It would be safer, therefore, to add explicitly to Law II the
+reservation, "Assuming that there is no change in the general volume
+of purchasing power."
+
+Monetary and allied questions will form the subject of the second
+volume of this series. It must not be supposed that our general laws
+have no bearing on them. On the contrary, Law I, which all this time
+has remained serene and undisturbed by the occasional discomfitures of
+Law II, is the gateway through which all questions of currency,
+banking and the foreign exchanges should be approached. It is well to
+note, as an inexorable corollary of Law I, that prices can rise _only_
+if demand exceeds supply, and fall _only_ if supply exceeds demand;
+and hence that it is only through the agency of changes in the demand
+for and supply of commodities and services that an inflation or
+deflation of the currency can influence the price level. Further,
+since a condition of things in which supply generally exceeds demand
+spells what we know and fear as a trade depression, it may be well to
+note at once that falling prices and unemployment are inseparable
+bedfellows. For we are far too apt to shut our eyes to these
+unpleasant truths. But we cannot pursue them further here; and in the
+remainder of this volume we shall not be concerned (except, perhaps,
+incidentally) with questions affecting the general level of prices or
+of purchasing power; but rather with the relation which the price of
+one commodity bears to that of another, with the rate of interest
+(which being a rate per cent is not essentially dependent on the price
+level), with "real" wages (as distinct from money wages) and the like.
+
+
+§7. _The Trade Cycle_. But our reference to trade depressions suggests
+a final comment on Law II. One small qualification was embodied in our
+original statement of it, namely the words "sooner or later." A rise
+in price may not check the demand immediately (even if the printing
+presses are standing idle in the Treasuries); it may actually
+stimulate it for a time. For people may fear that the price will rise
+further still, and hasten to buy what they _must_ buy before very
+long. Sellers may share the same opinion, and be reluctant on their
+side to part. When prices are falling the roles are reversed, and we
+are likely to see the sellers tumbling over one another in a frantic
+eagerness to sell, the buyers wary and aloof. Sooner or later, indeed,
+these tendencies must dissolve and disappear; but they may persist for
+a longer period than might seem probable at first. For the raw
+material of one trade is, as we say, the finished product of
+another. The demand for one thing gives rise to a demand for other
+things, for the labor with which to make them, and so on in an
+expanding circle. A sympathy, subtle and intense, unites the business
+world, and a wave of depression or animation arising in any quarter
+may spread itself far and wide, heightened by the gusts of human hope
+and fear, and continue long before its influence is spent.
+
+Here we are upon the threshold of one of the most striking and
+formidable of economic facts, the regular alternation of periods of
+good and bad trade, each very widespread, if not world-wide, in its
+range, each comprising certain regular phases of acceleration and
+decay, and each infallibly yielding sooner or later to the other. The
+details of these phenomena are highly complex, some of them obscure;
+an immense literature has already been devoted to the subject, yet its
+systematic study is hardly more than begun. The account given in the
+preceding paragraph is incomplete and meagre. It is inserted here in
+the hope that it will impress the reader with a sense both of the fact
+of these alternations and of the deeply rooted nature of the causes
+from which they spring. They take a heavy toll of human happiness and
+wealth; and there is no object that more urgently calls for concerted
+human effort than that of mitigating them, and of alleviating the
+misery which they bring in their train. Still better, of eradicating
+them if that is possible; but let none suppose that it can be lightly
+done. Meanwhile, let us always remember that they form the atmosphere
+and medium in which the enduring tendencies of the business world must
+work themselves out. It is often convenient to speak of "normal
+conditions" in this trade or that; but hardly ever can it be truly
+said of a particular moment that conditions are normal. The normal is
+rather a mean level about which oscillations to and fro, round and
+about, are constantly taking place, but which itself is reached only
+by accident, if at all. Whenever we say that some new factor should in
+the long run lower the price of this or that commodity or service, the
+picture which these words should convey to our mind is one of the
+price rising less on times of boom, and falling more in times of
+depression than is the case with other things. And if ever our faith
+in some honored economic law is shaken by the apparent ease with
+which, perhaps, in times of active trade, sellers are able to advance
+their prices to whatever figure (so it almost seems) they choose to
+name, let us rally our sense of economic rhythm, and reserve our
+judgment until the trade cycle has run its course.
+
+
+
+CHAPTER III
+
+UTILITY AND THE MARGIN OF CONSUMPTION
+
+
+§1. _The Forces behind Supply and Demand_. The laws enunciated in the
+preceding chapter constitute the framework and skeleton of all
+economic analysis; but they do not carry us very far. It is only
+through the agency of these laws that any influence can affect the
+price of anything: but what influences may so affect it is a question
+which we have still to consider.
+
+Let us begin with ordinary commodities and ask ourselves, in the light
+of experience and common sense, upon what factors their price seems
+mainly to depend? Two factors spring to mind at once; their cost of
+production and their usefulness. As regards the former, the case seems
+clear enough. We may indeed sometimes grumble that the price of this
+or that commodity is unconscionably high in comparison with its cost;
+but this only goes to show that we conceive a relation between price
+and cost as the normal, governing rule. If one commodity cost only a
+half as much to produce as another, we should think that something had
+gone very wrong indeed, if the former commodity were sold for the
+higher price. But, when we turn to the usefulness of commodities, the
+case is not so clear. Usefulness has some connection with price, so
+much is certain; for an entirely useless thing, fit only for the
+dust-bin (and known to be such, it may be well to add) will fetch no
+price at all, however costly it may be to produce. But it is not easy
+to express the connection in quantitative terms. It seems reasonable
+enough to say that the prices of commodities are roughly proportionate
+to their costs of production. But directly we contemplate saying a
+similar thing of their usefulness, we are pulled up short. As we look
+round the world, and enumerate the commodities which by common consent
+are the most useful, salt, water, bread, and so forth, the striking
+paradox presents itself that these are among the cheapest of all
+commodities; far cheaper than champagne, motor-cars or ball-dresses,
+which we could very well get on without. As things are, of course, a
+ball-dress, or a motor-car costs more to produce than a loaf of bread
+or a packet of salt; and the common-sense explanation of the paradox
+seems, therefore, to be that the cost of production is a more weighty
+influence than the usefulness, or utility, as we will henceforth call
+it (so as to include the satisfaction we derive from not strictly
+useful things). We are thus tempted to conclude that, provided a
+commodity possesses some utility, its price will be determined by the
+cost of production, the degree of utility being unimportant. This was
+exactly how the position was gummed up for many years in systematic
+treatises upon Political Economy; and it was not until fully half a
+century after the _Wealth of Nations_ that a discovery was made which
+threw a fresh light on the whole matter.
+
+First of all, let it be clearly observed how very unsatisfactory is
+the above account. In Chapter II where we were treading surely, with a
+sense of solid ground beneath us, we drew no such invidious
+distinction between supply and demand. They seemed then to possess an
+equal status. But cost of production is the chief factor which, in the
+case of commodities, ultimately determines the conditions of
+supply. Utility, similarly, is the chief factor which ultimately
+determines the conditions of demand. Must not then the symmetrical
+relations between demand and supply be reflected in a corresponding
+symmetry between the utility and the costs which underlie them? Demand
+springs obviously from utility; the only motive for buying anything is
+that it will serve some real or fancied use. Can we then accord to
+demand so dignified and to utility so subordinate a place? There is
+here an inconsistency which we must somehow reconcile. It will not
+serve as a solution to distinguish between different periods of time,
+and to say, as economists used to say not very long ago, that price is
+governed over a short period by demand and supply, but in the long run
+by the cost of production. This still leaves our sense of symmetry
+unsatisfied. Moreover, the conception of cost of production, when we
+consider it as ruling over a long period, frequently seems to lose any
+precision, as an independent factor, which it may otherwise
+possess. Motor-cars, we have agreed, are more costly to produce than
+loaves of bread; but, as we know well, the cost of producing
+motor-cars varies enormously, accordingly as they are produced on a
+small or a large scale. By the methods of mass production they can be
+turned out at a relatively low cost per car. But this requires that
+they should be purchased in large numbers and this in turn throws us
+back to the demand for motor-cars, and plainly enough, to people's
+judgment as to their utility. In some cases, the opposite phenomenon
+occurs. In the case of British coal, for instance, the average cost of
+production would be much lower than it is if the output were reduced
+to a fraction of its present volume, and if only the richer seams of
+the more fertile mines were worked. Once again, therefore it is
+difficult to measure the cost of production until we know the
+magnitude of the demand, which in a manner, which we have still to
+elucidate, clearly depends upon the utility.
+
+If we take the problem of joint products, the conception of cost of
+production fails us still more conspicuously. For what is the cost of
+producing wool, or the cost of producing mutton? We can speak of the
+cost of rearing sheep: but it is hardly possible to allot this cost,
+except quite arbitrarily, between the two products. How, then, can we
+explain the separate prices of these things by reference to cost
+alone? Instances of joint production are becoming so common in the
+modern world, or at least, with the growing attention to the
+utilization of by-products, are assuming so much more heightened a
+significance, that an explanation of price, which does not apply to
+them, is a very feeble one indeed.
+
+
+§2. _The Law of Diminishing Utility_. Let us turn back, then, to the
+factor of utility, and see if we cannot put on a more satisfactory
+basis the relation between utility and price. The clue to the puzzle
+is to be found in a brief reflection on the implications of the second
+general law propounded in Chapter II. A rise in price, it was there
+stated, will sooner or later diminish the demand. This was asserted as
+a matter of fact, observed from and confirmed by experience. But what
+does it signify? To what causes is this familiar fact to be
+attributed? The first stage of the answer is very ample. The many
+individuals, whose purchases make up the demand for the commodity,
+will buy smaller quantities now that the price is higher. Possibly
+some of them may cease to buy it altogether; but as a rule it would be
+reasonable to suppose that most people continue to buy a certain
+amount though a smaller amount than hitherto. Let us turn our
+attention, then, to the individual purchaser, and ask ourselves why he
+(or let us say she) acts in the manner indicated. The obvious answer
+is that the more she already has of anything, the less urgently does
+she require a little more of it. If she buys 6 pounds of sugar every
+week when the price is 7 cents a pound, but only 5 pounds when the
+price is 8 cents, she shows by her action that she does not consider
+that the additional utility she will derive from buying 6 pounds a
+week rather then 5 pounds is worth as much as 8 cents. But she shows
+at the same time that she thinks it worth 7 cents. For, when the price
+is 7 cents, no one compels her to buy that sixth pound. She could
+stop, if she chose, at five; and it may serve to make the point quite
+plain if we suppose her actually to hesitate before she buys the
+sixth. She has hitherto, let us say, been buying 5 pounds a week at 8
+cents. To-day she enters the shop and finds the price is down to 7
+cents. She asks for her customary 5 pounds; then she pauses, and a
+minute later turns her order into six. What are the alternatives which
+she has been weighing one against the other in that momentary pause?
+Not the utility of the whole 6 pounds of sugar against the total price
+of 42 cents. For she has already ordered the first 5 pounds; and the
+decision to buy the sixth is taken independently and subsequently. She
+has been sizing up the _increment_ of utility which a sixth pound
+would yield, and she decides that this is worth the expenditure of a
+further 7 cents. Again, when the price was 8 cents she need not have
+bought as many as 5 pounds. She could have stopped at 4 had she
+chosen, and the fact that she did buy 5 pounds shows that the
+increment of utility derived from buying a fifth pound, when she might
+be said already to have 4, was worth at least 8 cents in her judgment.
+
+This trite illustration enables us to lay down two important laws
+relating to utility. To state them shortly, it is convenient to employ
+one or two technical terms, which, unlike every term employed
+hitherto, are not very commonly used in their present sense in
+everyday life. Their adoption is desirable not merely for the sake of
+convenience, but because they help to stamp clearly on the mind a most
+illuminating conception, that of the "margin," which supplies the clue
+to many complicated problems. The last pound of sugar which the
+housewife purchased, the fifth pound when the price was 8 cents, or
+the sixth pound when the price was 7 cents, we call the "marginal"
+pound of sugar. And the increment of utility which she derives from
+buying this marginal pound we call the "marginal utility" of sugar to
+her. We are thus able to state the fact that the more a person has of
+anything the less urgently does he require a little more of it, in the
+following formal terms:--
+
+LAW V. The marginal utility of a commodity to anyone diminishes with
+   every increase in the amount he has.
+
+The total utility will, of course, increase with an increase in the
+amount, but at a diminishing rate. This law is usually called The Law
+of Diminishing Utility.
+
+
+§3. _Relation between Price and Marginal Utility_ But this is not
+all. We are now in a position to perceive the true relation between
+utility and price. The relation is one which exists not between price
+and total utility, but between price and marginal utility. If we know
+only that a housewife will buy weekly 5 pounds of sugar at 8 cents per
+pound, but 6 pounds at 7 cents, we know nothing of the total utility
+of sugar to her. We do not know how much she might be prepared to pay
+rather than go without 3 pounds, 2 pounds, or any sugar at all. But we
+do know that, when she buys 6 pounds, the marginal utility of sugar is
+in her judgment worth something which does not differ greatly from the
+price. We can, therefore, say in general terms that the price of a
+commodity measures approximately its marginal utility to the
+purchaser.
+
+This statement is perfectly consistent with the paradox noted above
+that the most useful commodities such as bread, salt and water are
+very cheap. For when we say that these commodities are supremely
+useful, we mean only that their total utility is very great; that,
+rather than do without them altogether, we would offer for them a
+large proportion of our means. But we would not value very highly a
+small addition to the bread, water or salt that we habitually consume;
+nor would most of us feel it as a very serious deprivation if our
+consumption of these things were curtailed by a small percentage. In
+other words, their _marginal_ utilities are small, and it is only the
+_marginal_ utility that has any relation to price.
+
+
+§4. _The Marginal Purchaser_. A possible objection to the preceding
+argument deserves to be considered. Some readers may find the picture
+I have drawn of the hesitating housewife entirely unconvincing. They
+may declare that her mind does not work at all in the manner I have
+indicated. She will have formed certain habits in regard to her weekly
+purchases of sugar, which are connected very vaguely, if at all, with
+any conscious processes of thought. She will buy so many pounds of
+sugar weekly without troubling her head over the specific utility of
+the last pound she buys. When the price falls she may, indeed, buy
+more; but it will not be because she separates out and considers by
+itself the extra utility of an additional pound. She may buy more,
+because she has formed the habit of spending so much money on sugar;
+and now that the price has fallen, the same amount of money will
+enable her to buy more pounds. Or, perhaps, she may be moved by
+instinctive and irresistible attraction to buy more of a thing when it
+is cheaper, similar to that which inspires so many people to face with
+ardor the horrors of a bargain sale. In any case the fine calculations
+I have imagined convey a fantastic picture of her state of mind. And
+how much more fantastic, the critic may continue, of the state of mind
+in which things of a different kind are bought by less careful
+people. When, for instance, one of us happy-go-lucky males (more
+liberally supplied, perhaps, than the housewife with the necessary
+cash), decides to buy a motor bicycle, or to replenish his stock of
+collars or ties, does the above analysis bear any resemblance to the
+actual facts? In the case of the motor bicycle, the purchaser may,
+indeed, weigh the price fairly carefully against the pleasure and
+benefit, though contrariwise he may be a rich enough gentleman hardly
+to bother about this. But, one motor bicycle is as much as he is at
+all likely to buy, and what becomes, then, of the distinction between
+total and marginal utility? In the case of the ties and collars, the
+vagueness of many of us about the price will be extreme. We probably
+have been uneasily conscious for some time of an inconvenient shortage
+of these troublesome articles and eventually will go off (or perhaps
+will be sent off with ignominy) to the nearest suitable shop to make
+good the deficiency. How can we speak here with a straight face of the
+relation between marginal utility and price?
+
+These are very pertinent criticisms; but they do not make nearly as
+much nonsense of the notion of marginal utility as may seem at
+first. The last point, indeed, serves rather to give it a fresh aspect
+of much significance. Those of us who do not bother about the price we
+pay for our ties and collars owe a debt of gratitude, of which we are
+insufficiently conscious, to the more careful people who do; as well
+as to the custom which prevails in shops in Western countries (as
+distinct from the bazaars of the East) of charging as a rule a uniform
+price to all customers. If _we_ were the only people who bought these
+things, an enterprising salesman would be able to charge us very much
+what he chose. He could put up his price, and we would hardly be aware
+of it. And, as by lowering his price he could not tempt us to buy any
+more, price reductions would be few and far between. But fortunately
+there are always some people who do know what the price is, even when
+they are buying collars and ties; and who will adjust the amount they
+buy in accordance with the price. It is these worthy people who make
+the laws of demand work out as we well know they do. It is they who
+will curtail their consumption if the price has fallen and it is they
+who constitute the seller's problem, and help to keep down prices for
+the rest of us. The rest of us--it is well to be quite blunt about
+it--simply do not count in this connection. We have no cause then to
+plume ourselves that we have disproved the truth of economic laws when
+we declare that we seldom weigh the utility of anything against its
+price. All that this shows is that our actions are too insignificant
+to be described by economic laws since they exert no appreciable
+influence on the price of anything. And this in turn shows the extreme
+importance of grasping clearly the conception of the margin. Just as
+it is the marginal purchase, so it is the marginal purchaser who
+matters. It is the man who, before he buys a motor bicycle, weighs the
+matter up very carefully indeed and only just decides to buy it, whose
+demand affects the price of motor bicycles. It is the utility which
+_he_ derives that constitutes the marginal utility, which is roughly
+measured by the price.
+
+As to the housewife, I am not prepared to concede that my picture is
+in essentials very fanciful. She may be a creature of habits and
+instincts like the rest of us, but most habits and instincts affecting
+household expenditure are based ultimately on _some_ calculation, if
+not one's own, and reason has a way of paying, as it were, periodic
+visits of inspection, and pulling our habits and instincts into line,
+if they have gone far astray. I am not satisfied that the housewife
+does not envisage the utility of a sixth pound of sugar as something
+distinct from the utility of the other five; she may buy it, for
+example, with the definite object of giving the children some sugar on
+their bread, and she may have a very clear idea as to the price which
+sugar must not exceed before she will do any such thing. Possibly I
+may exaggerate. I have the profound respect of the incorrigibly
+wasteful male for the care and skill she displays in laying out her
+money to the best advantage.
+
+
+§5. _The Business Man as Purchaser_. But if the reader still finds the
+picture unconvincing, let us shift the scene from domestic economy to
+commerce, and substitute for the careful housewife an enterprising
+business man. Now, as anyone who has a business man for his father
+will have often heard him say, the vagueness and caprice which
+characterize our personal expenditure would be quite intolerable in
+business affairs. There you must weigh and measure with the utmost
+possible precision. You must be for ever watching the several channels
+of your expenditure, careful to see that in none does the stream rise
+higher than the level at which further expenditure ceases to be
+profitable. You will not even engage typists or install a telephone in
+your office without weighing up fairly carefully the number of typists
+or the number of switches that it is worth your while to have. And in
+deciding whether to employ say, five typists, or six, you will not
+vaguely lump the services of the whole six typists together, and
+consider whether as a whole they are worth to you the wages you must
+give them. You will, in the most direct and literal manner, weigh up
+the _additional_ benefit you would derive from a sixth typist, and if
+that does not seem to you equivalent to her wage, you will not engage
+her, however essential it may be to you to have one or two typists in
+your office. If on the other hand, the utility of having a sixth
+typist seems to you worth much more than her pay, the chances are that
+you will be well advised to consider the employment of a seventh. And
+so, where you stop employing further typists, the utility to you of
+the last one, of the "marginal typist" as it were, is unlikely to
+differ greatly from her pay.
+
+Now this is not a fancy picture of some remote abstraction called an
+"economic man." Allowing for the over-emphasis which is necessary to
+drive home the central point, it is a bald account of the aims and
+methods of the actual man of business. To ascertain the margin of
+profitable expenditure in each direction, to go thus and no further,
+is the very essence of the business spirit, as the business man
+himself conceives it. When he condemns the extravagance of Government
+departments, it is their lack of just this marginal sense that he
+chiefly has in mind. "The lore of nicely calculated less or more" may
+be rejected by High Heaven and Whitehall, but no one can afford to
+despise it in the business world.
+
+The transition from household to business expenditure involves an
+extended use of the word utility, which is worth noting. Commodities
+like bread, sugar, or privately owned motor-cars are sometimes called
+"consumers' goods" in contrast to "producers' goods," which comprise
+things such as raw materials, machinery, the services of typists and
+so forth, which are bought by business men for business purposes. The
+line of division between the two classes is not a sharp one, and we
+need not trouble with fine-spun questions as to whether a particular
+commodity should in certain circumstances be included under the one
+head or the other. But, broadly speaking, things of the former type
+yield a direct utility; they contribute directly to the satisfaction
+of our pleasures or our wants. Things of the latter type yield rather
+an indirect utility. Their utility to the business man who buys them
+lies in the assistance they give him in making something else from
+which he will derive a profit. The utility of these things is
+therefore said to be _derived_ from that of the consumers' goods or
+services to which they ultimately contribute. This conception of
+derived utility leads to certain complications which we shall have to
+notice later.
+
+
+§6. _The Diminishing Utility of Money_. But one important point must
+be emphasized in this chapter. The utility which a business man
+derives from the things which he buys for business purposes is the
+extra receipts which he obtains thereby. Derived utility, in other
+words, is expressed in terms of money, and the idea of its relation to
+price presents no difficulty. But the utility of things which are
+bought for personal consumption means the _satisfaction_ which they
+yield, and this is clearly not a thing which is commensurable with
+money. When, therefore, it is said that the prices measure their
+respective marginal utilities, what exactly is meant? What was it that
+the argument of §3 went to show? That the utility of the marginal
+pound of sugar would seem to the housewife just worth the price that
+she must pay for it; in other words, that it would be roughly equal to
+the utility she could obtain by spending the money in other ways. The
+respective marginal utilities which _she_ obtains from the different
+things she buys will thus be proportionate to their prices. But if she
+were to receive a legacy which gave her a much larger income to spend,
+she might buy larger quantities of practically every commodity; and,
+though she would obtain a greater total utility thereby, the marginal
+utility she would obtain in each direction would be smaller, in
+accordance with the law of diminishing utility. The prices might not
+have changed; the respective marginal utilities to her of the
+different things would again be proportionate to their prices, but
+they would constitute a smaller satisfaction than before.
+
+Thus we can only say that the prices of commodities will be
+proportionate to their real marginal utilities, when we are
+considering the different purchases of one and the same
+individual. The amounts of money which different people are prepared
+to pay for different consumers' goods are no reliable indication of
+the real utilities, the amounts of human satisfaction which they
+yield. Here we must take account not only of varying needs and
+capacities for enjoyment, but of the very unequal manner in which
+purchasing power is distributed among the people. The cigars which a
+rich man may buy will yield him an immeasurably smaller satisfaction
+than that which a poor family could obtain by spending the same amount
+of money on boots, or clothes or milk. When, therefore, we compare
+commodities which are bought by essentially different consuming
+publics, their respective prices may bear no close relation to their
+_real_ utility, whether marginal or otherwise. Thus the law of
+diminishing utility applies to money or purchasing power, as well as
+to particular commodities. The more money a man has the less is the
+marginal utility which it yields him; and, where the marginal utility
+of money to a man is small, so also will be the real marginal utility
+he derives in each direction of his expenditure. The extreme
+inequality of the distribution of wealth gives immense importance to
+this consideration. Its practical implications will be discussed in
+Chapter V. Meanwhile, we may express the conclusions of the present
+chapter by the statement that the price of a commodity tends to equal
+its marginal utility, _as measured in terms of money_, i.e. relatively
+to the marginal utility of money to its purchaser.
+
+
+
+CHAPTER IV
+
+COST AND THE MARGIN OF PRODUCTION
+
+§1. _An Illustration from Coal_. We have already had occasion to note
+the symmetry which characterizes the relations of demand and supply to
+price. This symmetry was apparent throughout the argument of Chapter
+II, and it was a striking feature of the diagrams which we employed to
+illustrate the argument. We shall do well to cultivate a lively sense
+of this symmetry, for it will frequently save us from ignoring factors
+which have a vital bearing on the problems we are considering. We
+should never leave an important feature of demand without turning to
+see whether it has a counterpart on the supply side, though indeed we
+may not always find one. In the last chapter we examined the relation
+between utility and price, and found that the true relation was
+between the price and what we termed the marginal utility.
+Corresponding to utility on the demand side is cost of
+production on the supply side. The question should thus at once
+suggest itself--"Can we speak appropriately of the marginal cost of
+production, and will this serve to make clear the relation between
+cost and price?" To answer these questions, let us take one of the
+instances in which we found that price could not be explained
+satisfactorily by the bare phrase "cost of production."
+
+An important feature of the coal industry, which recent events have
+brought into sharp prominence, is the great diversity of conditions
+between different coalfields and different collieries. We speak of
+rich seams and poor seams, of fertile and unfertile mines, and we are
+aware that the costs of raising coal to the surface differ very widely
+in accordance with these diverse natural conditions. Nor must we
+confine our attention to the cost price at the pit-head. If we wish to
+speak of cost of production as a factor determining price, we must use
+the term in a broad sense to include the transport and other charges
+necessary to bring the coal to market.
+
+In this respect also one coalfield differs greatly from another. Some
+are well situated close to a large market, or within easy reach of the
+seaboard; others must incur very heavy transport charges to bring
+their coal to any considerable centre of consumption. These varying
+conditions lead, as we well know, to great variations in the financial
+prosperity of different colliery concerns. In Great Britain, under the
+abnormal conditions which prevailed during the war, and subsequently,
+these variations were so huge as to constitute a most formidable
+embarrassment and to contribute, more perhaps than any other single
+factor, to the unrest and instability by which the industry has been
+afflicted. But they are always with us, if usually upon a more modest
+scale.
+
+What, then, is the normal relation between price and cost in the case
+of coal? Should we direct our attention to the average costs over the
+whole industry, or the costs incurred by the richer and better
+situated mines, or, lastly, that of the poorer and worse situated?
+Now, as things are, it is clear enough that no concern will continue
+indefinitely producing at a loss. It may do so for a time, rather than
+close down altogether, hoping to recoup itself later when the market
+has taken a more favorable turn. But, in the long run, taking good
+years with bad, it must expect to obtain receipts sufficient not only
+to cover its necessary expenditure, but to provide also a reasonable
+profit on the capital employed. Of course, once the capital has been
+sunk and embodied in plant and buildings, which are of little use for
+any other purpose, a business may continue for many years, with a rate
+of profit far below what it had anticipated. But plant and buildings
+gradually wear out, and need to be replaced; the course of technical
+improvement calls continually for fresh capital outlay, which a
+business in a bad way is reluctant to undertake. The tendency,
+therefore, when profits rule low over a considerable period, is for
+the plant to fall gradually into disrepair and obsolescence, and
+finally for the business to disappear. We can thus include an
+ordinary rate of profit under the head of cost of production, and say
+with substantial accuracy that for no business can this cost for long
+exceed the price if the business is to continue to exist. If then the
+relatively poor and badly situated mines are to be worked, the price
+of coal, taking good years together with bad, must cover the costs at
+which these mines can produce. If the price rules lower than this,
+sooner or later they will close down, and we will be left with a
+smaller number of mines, among which great variations of conditions
+will still prevail. Once more, the price must cover the cost incurred
+by the least profitable of these remaining mines, unless their number
+is still further to be diminished. Thus we can conceive of a "margin
+of production" which will shift backwards to more profitable or
+forwards to include less profitable mines, according as the demand for
+coal contracts or expands. But, wherever this margin may be, there is
+no escaping the conclusion that it is the cost of production of the
+"marginal mines," of those that is to say which it is only just worth
+while to work, to which the price of coal will approximate.
+
+It follows that there is no real connection between price and cost of
+production throughout the industry as a whole. It follows incidentally
+that those concerns which can market their coal at an appreciably
+lower cost than the marginal concerns, are likely to reap more than an
+ordinary rate of profit, though royalties may absorb part of the
+excess.
+
+
+§2. _The Various Aspects of Marginal Cost_. This relation cuts much
+deeper than the particular system under which the mines are at present
+owned and worked. If, for instance, we supposed that the various
+mines were amalgamated together in a few giant concerns, each of which
+comprised some of the richer and some of the poorer mines, the
+preceding argument would need to be recast in form, but its substance
+would be unaffected. For though a great coal trust could in a sense
+_afford_ to sell at a price lower than the marginal cost, setting its
+losses on the poorer against its gains on the better pits, is it
+likely it would do so? Why should it dissipate its profits in this
+way? It is clearly more reasonable to suppose that it would close down
+the poorer pits (unless it could advance the price of coal), and
+thereby maintain its profits at a higher figure. If, indeed, the
+mines were nationalized the deliberate policy might be pursued of
+selling coal at a price which left the industry no more than
+self-supporting as a whole. Some coal might thus be sold at less than
+its cost price, and the selling price would conform roughly to the
+_average_ cost. But such a policy, though in special circumstances it
+might be justified, would represent a very dangerous principle, which
+could not be applied widely without the most serious results. Nothing
+could be more fatal to any enterprise, whether it be in the hands of
+an individual, a joint-stock company, a State department, or a Guild,
+than that the management should content themselves with results which
+in the lump seem satisfactory, and regard losses here or there with an
+indifferent eye. That way lies stagnation, waste, progressive
+inefficiency and ultimate disaster. To inquire searchingly into every
+nook and cranny of the business, to construct, as it were, for each
+part a separate balance-sheet of profit and loss, to expand in those
+directions where further development promises good results, and to
+curtail activity where loss is already evident, is the very essence of
+good management. Here, it will be observed, we are using language very
+similar to that in which we described the principles which govern a
+business man's expenditure. The resemblance is inevitable and
+significant, for we are dealing here with what is essentially another
+aspect of the same thing. The object is to secure that nowhere does
+expenditure fail to yield a commensurate return. This we express, when
+we consider a business in its aspect as a consumer, by saying that its
+consumption of anything will not be carried beyond the point at which
+the marginal utility exceeds the price it will have to pay. When we
+consider it as a producer, we say that its production of anything will
+not be carried beyond the point at which the marginal cost exceeds the
+price it will obtain.
+
+
+§3. _The Dangers of Ignoring the Margin_. This at least is the general
+rule. A business may decide deliberately to sell part of its output
+below cost, because, for instance, this will serve as an
+advertisement, bring it connections, and enable it to obtain a larger
+profit at a later date, or immediately on other portions of its
+sales. In so acting, it recognizes that the price obtained for a thing
+may be an inadequate measure of the real return it yields. In the same
+way, though for different reasons, a nationalized coal industry might
+conceivably be justified in selling some coal below cost price,
+because, let us say, it held that the price which the immediate
+purchasers were willing to pay was an inadequate measure of the
+utility of coal to the community as a whole. But in all such cases it
+is essential to be very clear as to what exactly you are doing; so
+that you may be at least moderately clear as to whether the policy is
+well advised. It may be sound enough to lose on the swings and make
+good this loss on the roundabouts, but only if your loss on the swings
+_helps_ you to a larger profit on the roundabouts. If you would get
+the same return on the roundabouts in any case, it would be better to
+cut the swings out altogether. So, if you are directing the policy of
+a nationalized coal industry, and decide to make a loss on a portion
+of your sales, you will need to know that the indirect benefit which
+the community will derive from this particular part of your coal
+output is worth the loss which you incur. You will certainly come to
+grief, if you pursue a vague ideal of lumping all results together,
+and regarding a profit somewhere as a sufficient excuse or a positive
+reason for making a loss elsewhere.
+
+It is quite true that in big undertakings, where there are large
+standing charges, and where the organization possesses some of the
+characteristics of an integral whole, it is not easy to measure
+accurately the specific costs which should be assigned to any
+particular portion of the output. But this difficulty is one of the
+most serious weaknesses of large undertakings; precise detailed
+measurement is the great prophylactic of business efficiency, and,
+where it is lacking the bacilli of waste will enter in and
+multiply. So clearly is this recognized, that the development of large
+scale business has led to the evolution of new methods of accountancy,
+designed to make detailed mensuration possible. We have most of us
+heard of them vaguely under such names as "comparative costings," but
+too few of us appreciate their full significance. It is hardly too
+much to say that the issue as to whether the size of the typical
+business unit will continue to become larger and larger, or whether it
+has already overshot the point of maximum efficiency will turn largely
+upon the capacity of accountancy to supply large and complex
+undertakings with more accurate instruments of detailed financial
+measurement.
+
+
+§4. _A Misinterpretation_. The price, then, of a commodity tends
+roughly to equal its marginal cost of production; and this marginal
+cost (in perfect symmetry with what we observed as regards marginal
+utility), may be conceived as applying either to the marginal producer
+or to the marginal output of any producer. In the former aspect it is
+open to a misinterpretation, against which it will be well to guard.
+Some advocates of socialism have argued, as one of the counts in their
+indictment of the present industrial system, that the price of a
+commodity is determined by the cost at which the least efficient
+concern in the industry can produce. They say, in effect, "Under the
+present competitive regime, you have to pay for everything you buy a
+price which far exceeds the necessary cost to a concern which is
+managed with ordinary ability. For, as economic theory has shown, it
+is the cost of the _marginal_ concern, i.e. the concern managed by the
+most incompetent, and half-witted fellow in the trade; it is the cost
+incurred by him, together with a profit on his capital, that the price
+has got to cover. The producer of no more than average capacity is
+therefore making out of you a surplus profit, which would be quite
+unnecessary in any well-arranged society." Such an argument is a gross
+caricature of the marginal conception. The half-witted incompetent
+will, as we know well enough, speedily disappear under the stress of
+competition, and his place will be taken by more efficient men. There
+is an essential difference between him and the "marginal coal mine" of
+which we spoke above. For the probabilities are that of the coal
+resources, whose existence is clearly known, the more fertile and
+better situated parts will already be in process of exploitation; and
+there is not likely, therefore, to be a supply of substantially better
+seams which can be substituted for the worst of those in actual use.
+There _is_ likely, on the other hand, to be available a supply of
+decent business capacity which can be substituted for the most
+inefficient of existing business men. The marginal concern, in other
+words, must be conceived as that working under the least advantageous
+conditions in respect of the assistance it derives from the strictly
+limited resources of nature, but under average conditions as regards
+managerial capacity and human qualities in general. Thus in
+agriculture we can speak of a marginal farm, which we should conceive
+as the least fertile and worst situated farm which it is just worth
+while to cultivate (of which more will be said when we come to the
+phenomenon of rent), but we must assume it to be cultivated by a
+farmer of average ability.
+
+
+§5. _Some Consequences of a Higher Price Level_. The foregoing
+controversy will be of service to us, if it makes clear the manner and
+the spirit in which the marginal conception should be handled. It
+should be regarded not as a rigid formula which we can apply to
+diverse problems without considering the special features they
+present, but rather as a signpost which will enable us to find our
+way, a compass by which we may steer between the shoals of triviality
+and sophistry to the crux of any problem with which we have to deal.
+Let us illustrate its practical uses by an example which is of great
+interest and far-reaching practical importance at the present day. As
+has been already observed, the war has left behind it in all countries
+a great and almost certainly permanent increase in nominal purchasing
+power. Since the armistice prices have moved upwards and downwards
+with unprecedented violence; and it would be very rash to prophesy the
+precise level at which they will ultimately settle (using that word
+with considerable relativity). But, for reasons for which the reader
+is referred to Volume II in this series, it is safe enough to say that
+the general level of post-war will greatly exceed that of pre-war
+prices. Now this will apply not only to consumers' goods like milk and
+clothes, or to raw materials like pig-iron and cotton, but in very
+much the same degree to things like factories and machinery. Things of
+this last type are sometimes called "capital goods," because it is in
+them that a large part of the capital of a business is embodied. Now
+the fact that it will cost much more than it did before the war to
+construct fresh capital goods, has a significance which very few
+people appreciate. An existing factory cost, let us say, $500,000 to
+build and equip with machinery before the war. To construct a similar
+factory to-day would cost, let us assume (it is probably a moderate
+assumption) $1,000,000. Suppose 10 per cent to be the gross profit
+that is necessary to attract capital to the particular industry. Then
+it will not pay to construct this new factory unless the trade
+prospects point to the probability of a profit of about $100,000 per
+annum. But if the old factory is equally well managed, it too should
+be able to earn this $100,000, which upon the capital actually sunk
+would represent a rate of 20 per cent. The particular figures given
+are, of course, purely illustrative; the conclusion to which they
+point is that, if new enterprises are to be undertaken, pre-war
+enterprises are likely to yield a rate of profit, on their fixed
+capital at least, increased in rough proportion to the price-level. Of
+course, in years when trade is bad, the factory which dates from
+pre-war times will not earn a profit of this kind, it may very likely
+make an actual loss. At those times it is very certain that few new
+factories will be erected. But it is difficult to reconcile a
+condition of trade activity, in which the constructional industries
+are busily employed, with a rate of profit to pre-war businesses on
+the fixed part of their capital of a lesser order of magnitude than
+has been indicated. It makes no difference, it should be observed,
+whether we suppose the new enterprises to take the form of starting of
+new concerns or extending old ones; in neither case will they be
+undertaken, unless there is reason to expect an adequate return on the
+capital which they require at post-war constructional prices. High
+profits (taking always good years together with bad) on capital sunk
+before the war in buildings and machinery are thus a likely
+consequence of an increase in the price-level.
+
+This fact is, indeed, the counterpart or complement of another
+phenomenon with which we are more familiar. While prices are actually
+rising, profits, as we have come to recognize, necessarily rule high,
+because every trader or manufacturer is constantly in the position of
+selling at a higher price-level, stock which he purchased, or goods
+made from materials which he purchased at a lower level. He thus
+acquires an abnormal profit on his circulating capital, which is
+essentially similar to the profit on fixed capital, which we have just
+examined. The difference is that the former profit is crowded into the
+years when prices are actually on the increase, and thus is very
+noticeable indeed; while the latter profit continues to accrue in
+smaller instalments after prices have settled down, as it were, at the
+higher level, and is not exhausted until the buildings and machinery
+have become obsolete. But the two profits are essentially similar,
+and in the long run should be commensurate. In the one case, stock can
+be sold for a large profit, because it cannot be replaced except at a
+higher price; in the other case, plant and buildings yield a higher
+income because _they_ cannot be replaced except at a higher
+price. Indeed, if the owners choose, the plant and building can, like
+the stock, be sold at their appreciated value, as has been widely done
+by the owners of cotton mills in Great Britain since the armistice.
+
+There is nothing in these considerations that should surprise us, or
+even shock our moral sense. For what they have indicated is an
+increase of money profits in rough proportion to the price-level, so
+that the aggregate profits will represent about as much real income as
+before.[1] The conclusion therefore amounts to no more than this, that
+you cannot alter fundamentally the distribution of wealth between
+labor and capital by merely inflating the currency, or otherwise
+juggling with the price-level. And this is only what we should expect,
+if there are any laws of distribution of sufficient importance and
+permanence to justify the many volumes which have been devoted to
+them.
+
+[Footnote 1: Assuming that the rate of interest has remained
+unaltered. In fact it has greatly increased since pre-war days, and
+this points to a still further increase of money profits, and an
+increase in the real income which they represent. See Chapter VIII,
+§10]
+
+But this somewhat tame conclusion does not make it any less important
+to grasp clearly the significance of the appreciation in the value of
+capital goods. A failure to realize it lies at the root of our
+bewildered muddling of many crucial problems of the day. In the matter
+of housing, for instance, we know we cannot build houses at less than
+two or three times their prewar cost, and yet we cannot endure to see
+the owners of pre-war houses obtaining a commensurate increase of
+rent. And so, in Great Britain, we pass Rent Restriction Acts, and
+Housing Acts, and then, in a fit of economy we suspend the latter, and
+let the former stand, while the housing shortage becomes steadily more
+acute. When we hand the railways back from State control to private
+hands, our horror at the idea of the companies receiving larger money
+profits than they did before the war leads us to lay down principles
+for the fixing of fares and freight charges, which take no account of
+post-war construction costs; and then, in alarm lest we may have
+thereby made it unprofitable for the companies to spend a single penny
+of fresh capital upon further development, we seek to provide for
+capital expenditure by cumbrous and dubious expedients. Doubtless we
+shall muddle through somehow with such policies: and, public opinion
+being what it is, they may perhaps have been about the best policies
+that were practicable. But the problems would have been easier to
+handle, if the public generally were a little less disposed to think
+in terms of averages, and a little more in terms of margins, if we all
+of us instinctively realized that the cost that really matters is the
+cost at which additional production is profitable under the conditions
+ruling at the time, or in the immediate future.
+
+
+§6. _General Relation between Price, Utility and Cost_. Let us
+conclude this chapter by summing up the conclusions which have emerged
+as to the relations of utility and cost to price.
+
+The price of a commodity is determined by the conditions of both
+supply and demand; and neither can logically be said to be the
+superior influence, though it may sometimes be convenient to
+concentrate our attention on one or other of them. The chief factor on
+which the conditions of demand depend is the utility (as measured in
+terms of money). The chief factor on which the conditions of supply
+depend is the cost of production (again as measured in terms of
+money). The prevailing trend towards an equilibrium of demand and
+supply can thus be expressed as follows:--
+
+LAW VI. A commodity tends to be produced on a scale at which its
+   marginal cost of production is equal to its marginal utility, as
+   measured in terms of money, and both are equal to its price.
+
+
+
+CHAPTER V
+
+JOINT DEMAND AND SUPPLY
+
+
+§1. _Marginal Cost under Joint Supply_. Several references have been
+made above to joint products, a relation which it will be convenient
+now to describe as that of Joint Supply. Our sense of symmetry should
+make us look for a parallel relation on the side of demand; and it is
+not far to seek. There is a "joint demand" for carriages and horses,
+for golf clubs and golf balls, for pens and ink, for the many groups
+of things which we use together in ordinary life. But the most
+important instances of Joint Demand are to be found when we pass from
+consumers' to producers' goods. There, indeed, Joint Demand is the
+universal rule. Iron ore, coal and the services of many grades of
+operatives are all jointly demanded for the production of steel; wool,
+textile machinery and again the services of many operatives are
+jointly demanded for the production of woollen goods (to mention in
+each case only a few things out of a very extensive list). Now we have
+already noted that, when commodities are jointly supplied, there is an
+obvious difficulty in allocating to each of them its proper share of
+the joint cost of production. There is a similar difficulty in
+estimating the utility of a commodity which is demanded jointly with
+others. Thus, the utility of wool is derived from that of the woollen
+goods which it helps to make. But the utility of the factories, the
+machinery and the operatives employed in the woollen and worsted
+industries is derived from precisely the same source. How much, then,
+of the utility of woollen goods should be attributed to the wool and
+how much to the textile machinery? Can we make any sense of the notion
+of utility as applying to one of these things, taken by itself? And,
+if not, how can we explain the price of a thing like wool in terms of
+utility and cost, since we cannot disentangle its cost from that of
+mutton, nor its utility from that of a great variety of other things?
+
+Here the conception of the margin enables us to grapple with a problem
+which would otherwise be insoluble. For, while it is impossible to
+separate out the total utility and cost of wool, it is not impossible
+to disentangle its marginal utility and its marginal cost. The
+proportion in which wool and mutton are supplied cannot be radically
+transformed; but it can be varied within certain limits, by rearing,
+for instance, a different breed of sheep. Variations of this kind have
+been an important feature of the economic history of Australasia,
+where sheep farming is the leading industry. Before the days of cold
+storage, Australia and New Zealand could not export their mutton to
+European markets, though they could export their wool. Wool was
+accordingly much the most valuable product; the mutton was sold in the
+home markets, where, the supply being very plentiful, the price was
+very low. In the circumstances, the Australasian farmers naturally
+concentrated on breeding a variety of sheep whose wool-yielding were
+superior to their mutton-yielding qualities. The development of the
+arts of refrigeration led in the eighties to an important change. It
+became possible to obtain relatively high prices for frozen mutton in
+overseas markets. There was, therefore, a marked tendency, especially
+in New Zealand, to substitute, for the merino, the crossbred sheep
+which yields a larger quantity of mutton and a smaller quantity of
+wool of poorer quality. Now if we calculate the cost of maintaining
+the number of merino sheep which will yield a given quantity of wool,
+and calculate the cost of maintaining the larger number of crossbred
+sheep which will be required to yield the _same_ quantity of wool
+(allowing for differences of quality) the extra cost which would be
+incurred in the latter case must be attributed entirely to the extra
+mutton that would be obtained. This extra cost we can regard as
+constituting the marginal cost of mutton. So long as this marginal
+cost falls short of the price of mutton, it will be profitable to
+extend further the substitution of crossbred for merino sheep. The
+process of substitution will in fact be continued until we reach the
+point at which the marginal cost is about equal to the price.
+Similarly by starting with the numbers of merino and crossbred
+sheep which would yield the same quantity of mutton, we can calculate
+the marginal cost of wool; and again the tendency will be for this
+marginal cost to be equal to the price.[1]
+
+[Footnote 1: It may be found difficult to grasp this point when stated
+in general terms. The following arithmetical example may make it
+plainer:--
+
+Suppose a merino sheep yields 9 units of mutton and 10 units of wool.
+
+Suppose a crossbred sheep yields 10 units of mutton and 8 units of
+wool.
+
+Suppose, further, that a merino sheep and a crossbred sheep each cost
+the same sum, say, for convenience, £10, to rear and maintain; and
+that there are no special costs assignable to the wool and the mutton
+respectively, as, of course, in fact there are.
+
+Then 10 merino sheep, yielding 90 units of mutton + 100 units of wool,
+cost £100; while 9 crossbred sheep, yielding 90 units of mutton + 72
+units of wool, cost £90.
+
+Hence you could obtain an extra 28 units of wool for an extra cost of
+£10, by maintaining 10 merino sheep rather than 9 crossbred sheep. The
+marginal cost of wool is thus £ 10/28 per unit.
+
+Similarly 8 merino sheep, yielding 72 units of mutton + 80 units of
+wool, cost £80; while 10 crossbred sheep, yielding 100 units of mutton
++ 80 units of wool, cost £100.
+
+Hence you could obtain an extra 28 units of mutton for an extra cost
+of £20, by maintaining 10 crossbred sheep in place of 8 merinos. The
+marginal cost of mutton is thus £ 20/28 per unit.
+
+So long as the price obtainable for wool exceeds £ 10/28, and that
+obtainable for mutton does not exceed £ 20/28 per unit, it will pay to
+substitute merino for crossbred; and conversely. If the price of wool
+exceeds £ 10/28 and the price of mutton also exceeds £ 20/28, it will
+be profitable to expand the supply of both breeds, until as the result
+of the increased supply, one of the above conditions ceases to
+obtain. Conversely, if the prices of both products are less than the
+figures indicated, sheep farming of both kinds will be restricted.
+The resultant of the processes of expansion or restriction, and
+substitution, will be that, unless one of the breeds is eliminated,
+the prices of mutton and wool will equal their respective marginal
+costs. These marginal costs may, of course, alter as the process of
+substitution extends. For the relative cost of maintaining merinos and
+crossbreds will not be the same for every farmer. Here again it is the
+costs at the "margin of substitution" that matter.]
+
+
+§2. _Marginal Utility under Joint Demand_. On the side of demand there
+exist as a rule similar possibilities of variation. _Some_ machinery,
+_some_ labor, _some_ materials of various kinds, are all indispensable
+in the production of any manufactured commodity. But the proportions
+in which these factors are combined together can be varied, and are
+frequently varied in practice as the result of the ceaseless pursuit
+of economy by business men. To produce pig-iron, you need both coal
+and iron ore; but, if coal becomes more costly, it is possible to
+economize its use. Machinery and labor must be used together, in some
+cases in proportions which are absolutely fixed. But there is in
+nearly every industry a debated question as to whether the
+introduction of some further labor-saving machine would be worth
+while, or some improved machine which would represent the substitution
+of more capital plus less labor for less capital plus more labor. A
+farmer can cultivate his land, to use a common expression, more
+intensively or less intensively; in other words, he can apply larger
+or smaller quantities of capital and labor (the proportion between
+which he can also vary) to the same amount of land. The problem is
+essentially the same as that of the substitution of the crossbred for
+the merino. We can take the various possible combinations of the
+factors of production, and contrast two cases in which different
+quantities of one factor are employed, together with equal quantities
+of the others. The extra product which will be yielded in the case in
+which the larger quantity of the varying factor is employed can then
+be regarded as the marginal product (or marginal utility) of the extra
+quantity of that factor; and we can say that the employment of this
+factor will be pushed forward to the point where this marginal product
+will be roughly equal to the price that must be paid for it. We can
+thus lay down the most important proposition that the relation between
+marginal utility and price holds good generally of the ultimate agents
+of production; that the rent of land, the wages of labor, and, we can
+even add, the profits of capital tend to equal their (derived)
+marginal utilities, or, as it is sometimes expressed, their marginal
+net products.
+
+Whenever, therefore, the proportions in which two or more things are
+produced or used together can be varied, the relations of joint supply
+and joint demand are perfectly consistent with a specific marginal
+cost and marginal utility for each commodity.
+
+
+§3. _A contrast between Cotton and Cotton-seed, and Wool and
+Mutton_. But it sometimes happens that such variations cannot be
+made. Thus, it has not been found possible (so far as I am aware) to
+alter the proportions in which cotton lint and cotton-seed are yielded
+by the cotton plant. Roughly speaking, you get about 2 pounds of
+cotton-seed for every 1 pound of cotton lint (or raw cotton), and
+though this proportion may vary somewhat from plantation to
+plantation, it is upon the knees of the gods, and not upon the will of
+the planter that the variation depends. We cannot, therefore, speak
+with accuracy of the separate marginal costs of raw cotton and
+cotton-seed. It is true that some plantations are so far distant from
+any seed-crushing mill that it is not worth while to sell the seed as
+a commercial product; and it might seem, therefore, as though we might
+regard the entire costs of cotton growing on _such_ plantations as
+constituting the marginal costs of raw cotton. But planters, so
+situated, derive a considerable value from their cotton-seed by using
+it as fodder for their live stock or as a manure. You can, of course,
+argue that proper allowance is automatically made for this factor, as
+a deduction from the costs of raw cotton, when you add up the expenses
+of the plantation. In the same way you can deduct the price which a
+planter who sells his cotton-seed obtains for it, from the total costs
+of the plantation, and call the remainder the costs of the raw
+cotton. But this is really to reason in a circle. For in either case
+the magnitude of the deduction depends on the marginal utility of the
+cotton-seed. And the notion of the cost of anything becomes blurred
+and blunted if we so use it that it must be deduced from the utility
+of something else, which is not an agent in the production of the
+thing in question.
+
+This point is not merely an academic one. It means that we cannot
+explain the _relative_ prices of cotton lint and cotton-seed in terms
+of cost at all, whether marginal or otherwise. The influence of cost
+will be confined to the _sum_ of the prices of the two things. Upon
+this sum it will exert precisely the same influence as it exerts upon
+price in general, by affecting the total quantities of the two things
+that will be supplied. But upon the distribution of this sum between
+lint and seed, cost will exert no influence whatever, because it
+cannot affect the proportions in which they are supplied. It may
+assist some readers if I state the matter in more concrete terms. Cost
+of production will be one of the factors which will result in the
+production of an annual cotton crop in the United States of, let us
+say, 10 million tons of seed cotton. This crop will yield roughly
+6-2/3 million tons of cotton-seed, and 3-1/3 million tons (or rather
+more than 13 million bales) of lint. The combined price received by
+the planter of (let us say) 14.4 cents for 1 pound of lint plus 2
+pounds of seed should correspond roughly to the marginal joint costs
+of production. But the factor of cost has no influence at all in
+determining that this combined price is made up of a price of 12 cents
+per pound for lint, and only 1.2 cents per pound (or $24 per ton) for
+cotton-seed. To account for this we must rely entirely upon demand. We
+can say, shortly, that the respective prices must be such as will
+enable the demand to carry off 6-2/3 million tons of seed, and 3-1/3
+million tons of raw cotton. Or we can go further and say that the
+marginal utility of a pound of raw cotton, when 3-1/3 million tons are
+supplied, is ten times as great as that of a pound of seed when 6-2/3
+million tons are supplied.
+
+If accordingly the demand for cotton-seed were to expand considerably
+owing, say, to the discovery of some new use for the oil, which is its
+most valuable constituent; the effect would be first a rise in the
+price of cotton-seed, and, subsequently, by stimulating cotton
+growing, a more plentiful supply and a lower price for raw cotton. And
+so far at least as the increased supply is concerned, this must
+necessarily be the effect, "other things being equal"; though, to be
+sure, it might be outweighed and obscured by other influences such as
+the boll-weevil. But it is _not_ the case that an increased demand for
+mutton must necessarily increase the supply or lower the price of
+wool; and it is most unlikely to do so in any similar degree. For,
+here, the separate marginal costs of the two things exert their
+influence. An increased demand for mutton will stimulate sheep
+farming, but it will also stimulate the substitution of crossbred for
+merino breeds; and the resultant of these two opposite tendencies upon
+the supply of wool is logically indeterminate. As a matter of history
+we know that the development of cold storage in the eighties (which we
+may regard for the present purpose as equivalent to an increased
+demand for Australian mutton) caused considerable perturbation in the
+woollen and worsted industries of Yorkshire. They were faced with a
+dwindling supply and a soaring price of merino wool; and the
+adaptability with which they met the situation, and won prestige for
+the crossbred tops, and yarns and fabrics, to which they largely
+turned is a matter of just pride in the trade to-day. The fact,
+however, that this alteration in the supply of wool was a matter not
+only of quantity but of quality, while it takes nothing from the
+substance of the preceding argument, makes it difficult to draw a
+clear moral, bearing on the present issue, from this incursion into
+history.
+
+
+§4. _The Importance of being Unimportant_. The above contrast between
+cases in which variation is possible, and those in which it is not
+possible, is reproduced with a heightened significance when we turn
+back to joint demand. The cases are perhaps less common in which it is
+_impossible_ to alter the proportions in which different commodities
+are jointly demanded, but there are many cases in which it is not
+nearly worth while to do so (and this amounts to very much the same
+thing). Cases of this sort are especially likely to occur when we are
+dealing with a commodity which accounts for only a tiny fraction of
+the costs of the industry which is its chief consumer. Sewing cotton,
+for example, is jointly demanded, with many other things, by the
+tailoring and other clothing trades; but the money which these trades
+spend on sewing cotton is so small a part of their total expenditure,
+that no ordinary variation in its price is likely to make it worth
+while to study the ways and means of using it in smaller
+quantities. When sewing cotton is bought by the domestic consumer,
+considerations which are fundamentally the same, though somewhat
+different in form, point to a similar conclusion. It is thus very
+difficult to assign to sewing cotton a specific marginal utility. This
+difficulty is of great importance in connection with the possibilities
+of monopolistic exploitation. For it means that the demand blade of
+the scissors upon which we rely to cut off excrescences of price is
+blunted, and if accordingly the producers constitute a strong enough
+combination to control the supply blade, they will possess an unusual
+power of advancing their selling prices as they choose. I am far from
+suggesting that Messrs. J. & P. Coats are to be condemned as an
+extortionate monopoly. On the contrary, during 1919, when the profits
+in highly competitive industries like the main branches of the cotton
+and woollen trades, soared exuberantly, the record of this concern
+seems to me one of distinct moderation. But the present point is that
+they possess an exceptional _power_ to fix the price of sewing cotton
+as they choose, and that this is attributable in no small degree to
+the fact that sewing cotton constitutes an essential but relatively
+trifling item in the expenses of the processes in which it is
+employed.
+
+Perhaps the point will be made clearer if we turn from the selling
+prices of commercial products, in regard to which there is a strong
+and not ineffective public sentiment against "profiteering," to the
+remuneration of different classes of labor. With an instinctive
+disposition towards megalomania, it is often claimed in Great Britain
+that the miners, being a very numerous and well-organized body of
+workpeople, were in a stronger strategic position than most workpeople
+for exacting the remuneration they desire. It is quite true that a
+stoppage of work in the coal industry causes us a high degree of
+inconvenience, and temporary concessions may thereby be obtained which
+might otherwise have been refused. But this is a dubious advantage,
+and we grossly exaggerate its real importance. The truth is that the
+strategic position of the miners in regard to wages questions is by no
+means strong. For their wages constitute a very large percentage of
+the cost of coal; and the price of coal in its turn is a most
+important element in the costs of many of the industries which are its
+principal consumers. Great Britain, moreover, is far from possessing
+a monopoly of coal. If, accordingly, the wages of the miners are
+temporarily pushed up to a high point, the result will certainly be a
+diminished demand for British coal, which will lead before long to
+their fighting a losing battle to maintain the concessions they have
+won. Contrast their position with that of the steel smelters, whose
+wages (high though the wage rates are) constitute a very small
+percentage of the costs of steel production, and we must agree I think
+that we have in this distinction the main reason why the steel
+smelters, though they hardly ever go on strike, have as a rule been
+able to do so much better for themselves than the miners.
+
+When a commodity or service is such that an appreciable alteration in
+its price has only a slight effect upon the quantity demanded, the
+demand is said to be _inelastic_. Conversely, when a small change in
+price greatly alters the quantity demanded, we call the demand
+_elastic_. In the former case, it is worth nothing, a larger aggregate
+sum of money will be spent upon the thing when its price is high than
+when it is low, while the opposite is true in the latter case. This
+distinction is of considerable importance in connection with many
+problems (e.g. of taxation); and the terms, elastic demand and
+inelastic demand, are worth remembering. We may thus express the
+above conclusions by saying that the demand for sewing-cotton is
+highly inelastic, and that the demand for coal miners is more elastic
+than that for steel smelters.
+
+
+§5. _Capital and Labor_. Cases in which it is impracticable to make
+any variation in the proportions in which different things are used
+together are, however, the exception rather than the rule. Where
+variation is possible, we are confronted with an uncertainty as to the
+way in which an increased supply of one thing will react on the demand
+for another, similar to our uncertainty as to whether an increased
+demand for mutton would augment or diminish the supply of wool. It is,
+for instance, of the highest importance to give a clear answer, if we
+can, to the question whether an increased supply of capital will
+increase the demand for labor. The chief effect of an increased
+supply of capital is to facilitate the extended use of expensive
+machines: to some extent these machines will increase the demand for
+labor; to some extent they will be substituted for it. Which of these
+two tendencies will outweigh the other we cannot be absolutely
+sure. But fortunately we can be far more nearly sure than was possible
+in the analogous case of wool and mutton. An increase in the supply of
+capital increases the demand for the commodities, from which the
+demand for labor is derived, in both the senses discussed in Chapter
+II. First it makes them cheaper to buy, and thus increases the
+quantity that will be bought. It is this that is parallel to the
+effect of an increased demand for mutton in making it more profitable
+to breed sheep. But it also serves to increase the purchasing power
+with which to buy commodities, because it increases the aggregate real
+wealth of the community, and it thus serves to raise the whole demand
+curve. This last consideration is so important as to make it
+overwhelmingly probable, apart from the evidence of history, that an
+increase in the supply of capital (and the same may be said of an
+increase in the supply of the other agents of production) will on
+balance increase the demand for labor. The evidence of history points
+to the same conclusion. The history of the last hundred years displays
+an unprecedented accumulation of capital, and an unprecedented
+extension of machinery, associated with an unprecedented improvement
+in the standard of living throughout the whole community. This is
+powerful testimony in favor of the view that an increase in the supply
+of capital and the use of machinery will usually enhance on balance
+the demand for labor. Moreover, though this is not conclusive, there
+is little room for doubt that an obstructive attitude towards the
+extension of machinery in a particular country, or a particular
+district, is misguided. For its effect must be to make production
+more costly there than it is elsewhere, and to lead, slowly perhaps,
+but very surely, to the transference of the industry to other regions.
+
+
+§6. _Conclusions as to Joint Supply and Joint Demand_. Here, however,
+we are beginning to digress. Let us sum up in a general form our
+conclusions as to the way in which changes in the supply or demand of
+a commodity react upon the demand or supply of the other things with
+which it is jointly demanded or supplied. Everything turns, as we have
+seen, on the possibility of variation in the proportions in which the
+things are used or produced together; and this, it is also clear, is a
+matter of degree. Our conclusions, therefore, had best take the
+following form:--
+
+LAW VII. When two or more things are jointly demanded, in proportions
+   which cannot easily be varied, the tendency will be for an increase
+   (or decrease) in the supply of one of them to increase (or
+   decrease) the demand for the others. These results will be more
+   certain, and more marked, the more difficult it is to vary the
+   proportions in which the things are used.
+
+   Similarly, when two or more things are jointly supplied, in
+   proportions which cannot easily be varied, the tendency will be for
+   an increase (or decrease) in the demand for one of them to increase
+   (or decrease) the supply of the others. These results again will be
+   more certain and more marked, the more difficult it is to vary the
+   proportions in which the things are supplied.
+
+
+§7. _Composite Supply and Composite Demand_. Joint Demand and Joint
+Supply do not complete the list of relations between the demand and
+supply of different things. Between tea and coffee, or beef and mutton
+there is a relation of a different kind. These things are in large
+measure what we call "substitutes" for one another. An increased
+supply, and a lower price of mutton, will probably induce us to
+consume less beef. This relation it is convenient to describe as
+Composite Supply. Beef and mutton make up a composite supply of meat;
+tea and coffee a composite supply of a certain type of beverage. For
+any group of things, between which the relation of Composite Supply
+exists, we can say, with complete generality, that an increased supply
+of one of them will tend to diminish the demand for the
+others. Parallel to the relation of Composite Supply is that of
+Composite Demand. There are frequently several alternative uses in
+which a commodity or service can be employed; and these alternative
+uses make up a composite demand for the thing in question. Thus
+railways, gasworks, private households and a great variety of
+industries contribute to a Composite Demand for coal. It is worth
+noting that there is frequently an association in practice between
+Joint Demand and Composite Supply on the one hand; and between Joint
+Supply and Composite Demand on the other. Wool and mutton, for
+instance, we have described as an instance of Joint Supply; but, in so
+far as the proportions of wool and mutton can be varied, we can regard
+these things as constituting a Composite Demand for sheep. And this
+conception may help us to retain a clearer and more orderly picture of
+the problems we have discussed above. We can regard the fact that wool
+and mutton are produced together as their Joint Supply aspect, and the
+fact that these proportions can be varied as their Composite Demand
+aspect; and the question as to whether an increased demand for mutton
+will increase the supply of wool turns upon whether the former aspect
+is more important than the latter. Similarly labor and machinery,
+employed together for the same purpose, form an instance of Joint
+Demand; but in so far as they can be substituted for one another, they
+constitute a Composite Supply of alternative agents of production.
+
+These four relations of Joint Demand, Joint Supply, Composite Demand
+and Composite Supply are well worth remembering and distinguishing
+from one another. They are of immense importance in every branch of
+economic affairs. There are hardly any economic problems upon which we
+are fitted to express an opinion, unless we have a lively sense of the
+far-reaching ramifications of cause and consequence, of the subtle and
+often unexpected interconnections between different industries and
+different markets. To gape at these complexities in a confused stupor
+is as foolish as it is to ignore them. But confusion and stupor are
+only too likely to represent our final state of mind, if we attempt to
+deal with these complications, one by one as they occur to us, in a
+piecemeal and haphazard fashion. We need a clear method, a systematic
+plan by which we may search them out, and fit them into place. The
+four relations which we have enumerated supply us with such a plan and
+method. For they represent something more than a series of pompous
+names for familiar notions. They constitute a classification of the
+various ways in which the demand and supply of one thing can affect
+the demand and supply of others; a classification which is exhaustive
+when we add the relation of derived demand, and an analogous relation
+on the supply side which we must now notice.
+
+
+§8. _Ultimate Real Costs_. Just as the utility of "producers' goods"
+is derived from that of the "consumers' goods" which they help to
+make; so the cost of any commodity is derived from the cost of the
+things which help to make it. Moreover, just as we recognize that the
+utility of "consumers' goods" lies at the back of all demand, and
+constitutes the ultimate end of all production; so we cannot but feel,
+however obscurely, that behind the phenomena of money costs, there
+must lie certain ultimate costs, of which all money costs are but the
+measure. But when we try to explain what the nature of these real
+costs may be, we are plunged in difficulty. Wages, it may indeed seem
+at first sight, present no trouble. There is the effort and the
+fatigue, the unpleasantness of human labor, to represent real
+costs. But can we suppose that these things are measured with any
+approach to accuracy by the wages which are paid in actual fact? Is it
+true, even as a broad general rule, that the services which are most
+arduous and most disagreeable command the highest price? And wages are
+not the only ingredient of money costs. There are profits: to what
+real costs do profits correspond? More difficult still, to what does
+rent correspond? These plainly are not questions upon which he who
+runs may read. It will be necessary to devote the next four chapters
+to their elucidation.
+
+
+
+CHAPTER VI
+
+LAND
+
+
+§1. _The Special Characteristics of Land_. In the great process of
+co-operation by which the wants of mankind are supplied, Nature is an
+indispensable participant. She renders her assistance in an infinite
+variety of ways, of which the properties of the soil which man
+cultivates form only one; but the sunshine and rain which enable the
+farmer to grow his crops; the coal and iron ore beneath the surface of
+the earth, can be regarded for our present purpose as forming part of
+the land with which they are associated. We can thus concentrate upon
+land as the representative of the free gifts of nature, which are of
+economic significance. Land in modern communities is for the most part
+privately owned. It can be bought and sold for a price, and acquired
+by inheritance. Moreover, it is a common practice, particularly in the
+United Kingdom, for an owner who does not wish himself to cultivate or
+otherwise use the land, not to sell it to the man who does, but to
+lease it to him for a term of years for an annual payment which we
+term rent. It is therefore natural and convenient to envisage the
+problems, which we shall consider in this chapter, as problems
+concerning the price and rent of land. But, once again, the laws and
+principles which we shall state and illustrate in terms of the current
+systems of ownership and tenure, possess a much deeper significance
+than this terminology might suggest.
+
+The fact that land is a free gift of Nature distinguishes it in
+various ways from commodities which are produced by man. The
+peculiarities which are most important from the economic standpoint
+are (1) that the supply of land is, broadly speaking, fixed and
+unalterable, and (2) that its quality and value vary, from piece to
+piece, with a variation which is immense in its range, but fairly
+continuous in its gradation. These are thus two aspects from which
+the phenomena of price and rent can be regarded; aspects which it is
+usual to call, (1) the scarcity aspect, (2) the differential aspect.
+
+
+§2. _The Scarcity Aspect_. The fact that the supply of land is fixed
+has the following significance. If the demand for land increases, the
+price will tend to rise. This is also true, for a short period at
+least, of an ordinary commodity. But, in the latter case, there would
+ensue an increase in supply which would serve to check the rise in
+price, and possibly, if production on a larger scale led to improved
+methods of production, bring the price down eventually below its
+original level. In the case of land, no such reaction is
+possible. There is nothing, therefore, to restrain the price (and the
+rent) of land from rising indefinitely, and without limit, if the
+demand for it should continue to increase. Conversely, if the demand
+for land falls off, there is nothing to check the consequent fall in
+price and rent. In the case of ordinary commodities, the supply would
+be diminished, because most things are either consumed by being used,
+or wear out in the course of time, and a regular annual production is
+therefore necessary to sustain their supply at the existing level. But
+land remains, whether it is used or not; and its supply is, broadly
+speaking, just as incapable of being diminished, as it is of being
+increased. Changes in the demand for land in either direction are thus
+likely to affect its price in a much greater degree than that in which
+the price of an ordinary commodity will be affected by a corresponding
+change in its demand.
+
+For most purposes, however, it is of more interest to compare land
+with other agents of production, especially with capital and labor,
+rather than with ordinary commodities. Now, as we have already noted,
+there is some doubt as to the manner in which the supply of capital or
+labor is likely to be affected by alterations in demand price. But the
+supply of capital and the supply of labor, even if we suppose them to
+be as entirely unresponsive to price changes as is the supply of land,
+are at any rate not fixed. Not only _may_ they vary for many reasons,
+but they are in fact likely to vary in direct proportion to the
+population. An increase in population implies an increase in the
+supply of labor; and it is likely to be accompanied by an increase in
+the supply of capital; in other words, the supply of these agents will
+expand, as the demand for them expands. But the supply of land will
+remain what it was. This fact is enormously important in connection
+with the broad problem of population, which will form the theme of
+Volume VI.
+
+But it is important also in other connections. It has been the
+dominating factor in many absorbing controversies upon high policy
+regarding the ownership of land, or the taxation of land values, upon
+which we can touch but lightly here. It has seemed to many writers a
+reasonable proposition to lay down, that the ordinary course of the
+progress of society, the increase of population and industry, must
+mean, as a broad general rule, a constant increase in the demand for
+land. And, if that be granted, it seems to follow that the price and
+rent of land will tend constantly to increase. John Stuart Mill,
+accordingly, in the middle of the last century, asserted that "the
+ordinary progress of a society, which increases in wealth, is at all
+times tending to augment the incomes of landlords; to give them both a
+greater amount and a greater proportion of the wealth of the
+community, independently of any trouble or outlay, incurred by
+themselves,"[1] and upon the strength of this assertion, he justified
+the policy of imposing a special tax upon what we have come to call
+the "unearned increment" of land. But how far does actual experience
+bear his assertion out? In Great Britain we have seen in the last
+half-century an undoubted increase in urban rents; but over long
+periods at least, there was a marked fall in both the prices and rents
+of agricultural land, despite the fact that the country was
+"increasing in wealth" as rapidly as ever before. This was due, of
+course, in the main to the increased supplies of wheat and other
+foodstuffs coming from the New World: and if, accordingly, we choose
+to lump together not only our own urban and agricultural land, but the
+land of other countries as well, and to speak vaguely of the demand
+for land as a whole, it might seem as though we could argue that
+Mill's generalization still holds good. But even this is by no means
+certain and in any case such a generalization is of very little
+service: what the illustration should rather suggest to us, is the
+danger of speaking of land vaguely as a whole, and the importance of
+turning our attention to the variations in value between different
+kinds and different pieces.
+
+[Footnote 1: _Principles of Political Economy_, by John Stuart Mill.]
+
+
+§3. _The Differential Aspect_. Most ordinary commodities are not
+produced on a single, uniform pattern. As a rule there are many
+variations of grade and quality, and consequently of price. But these
+variations are usually designed to meet the differences of taste among
+the purchasers, and we do not expect to find that any variety of an
+ordinary commodity will be produced, which is so poor in quality as to
+be entirely valueless. But since it is nature which has produced the
+land, without any assistance or guidance from man, there are many
+pieces of land which are so unfertile, or are otherwise so unsuitable
+for productive purposes, as to be quite valueless from the economic
+standpoint. Even in a densely populated country like Great Britain,
+there are considerable tracts of land which it is unprofitable to
+employ for any economic purpose whatsoever, and which possess no
+further value than what the mere pride of ownership may give
+them. This fact makes it possible to apply the conception of the
+margin to the case of land with particularly illuminating results.
+
+In the first place, however, it should be observed that the value of
+any piece of land does not depend solely on the intrinsic fertility of
+the soil. The fact that land is an immobile thing makes its
+_situation_ a factor of great importance. In the case of urban land,
+situation is, of course, the only thing that counts. The value of a
+site in Bond Street or the City is entirely unaffected by its capacity
+or incapacity for potato-growing purposes. But even for agricultural
+land, situation is a most important matter. A farm, which is so remote
+that considerable transport charges must be incurred to bring its
+produce to market, will be less sought after, and less valuable, than
+one which is much better situated though somewhat less fertile. In
+what follows, therefore, we must speak of the "quality" of a piece of
+land in a broad sense to include advantages of situation, as well as
+of fertility. Let us now, imagine the different pieces of land in
+Great Britain to be arranged in order of quality, so that we have a
+long series, with land of the best quality at one end, and of the
+poorest quality at the other. At the latter end, we will have such
+land as is found near the top of Snowden or Ben Nevis, which it
+clearly does not pay to cultivate at all. Somewhere, then, between
+these two extremes, we shall come to a point where the land is just,
+but only just, worth cultivating, or where, to revert to a form of
+words we previously employed, it is a matter of _doubt_, whether the
+land is really worth using for a productive purpose. Such land we can
+regard as the "marginal land"; and since the variety of nature is at
+once infinite and fairly minutely graduated we shall probably find
+that on one side of this margin there is much land which is only
+slightly superior, and on the other, much which is only slightly
+inferior, to the marginal land itself. What, then, is likely to be the
+value and the rent of this marginal land, this land which is just on
+the "margin of cultivation"? Some readers may find the answer
+startling. The rent of the marginal land will be nil, because it will
+not pay to cultivate it, if any appreciable rent is charged. A piece
+of land for which it is worth a tenant's while to pay an appreciable
+rent, will not be the marginal land, because there will be land just
+slightly inferior to it which it will also pay to cultivate if a
+somewhat lower rent is charged. And so we can pass to poorer and
+poorer qualities of land, with an ever diminishing rent, until at the
+margin of cultivation the derived utility of the land is negligible
+and the rent vanishes.
+
+This certainly is a somewhat abstract conception; but it is by no
+means so remote from reality as may at first sight appear. The reader
+may protest that in the course of an extensive and varied acquaintance
+with landowners, he has not yet run across this peculiar marginal
+type, who lets his land for no rent at all. But there, if his
+experience is really extensive, I think he is mistaken. It so happens
+that the ordinary agricultural landowner leases out his land, not by
+itself, but together with a variety of other things such as farm
+buildings, which it costs him a considerable sum of money to
+provide. He will not as a rule be willing to go to this expense,
+unless he sees his way to obtain for the farm an annual payment, which
+represents at least a fair return on this capital outlay, as big a
+return as he could have got, for instance, by investing the same
+amount of money in some gilt-edged security. This annual payment
+will, it is true, be called rent; but the significance of this is that
+what we term rent in ordinary life is usually a complex thing, made up
+of two essentially distinct elements, viz. the normal return on the
+capital goods supplied together with the land, and what we may call
+the "net rent," or the "pure rent" attributable to the land
+itself. Now will any reader make so bold as to say that there is no
+land under cultivation, in respect of which this net rent is either
+nil or negligible? The landowners will not agree with him. It is not
+a question, it should be observed, as to whether the rent obtained
+represents more than a fair return on the purchase price paid for the
+land; that is quite another matter. The question is whether the rent
+obtained exceeds a fair return on the capital sum spent on the
+buildings, etc.; with which every farm must be equipped to let at
+all. In fact there are not a few farms where there is no such excess,
+and where accordingly there is no "net rent" or "pure rent" which can
+be attributed to the land.
+
+The question whether it would be profitable to cultivate any piece of
+land, turns upon whether the receipts which would be obtained by
+selling the produce would exceed the costs of cultivation: and under
+these costs of cultivation we must include, of course, the
+remuneration of the farmer's services. Farmers, like other people,
+have to live; and they would not take on the troublesome job of
+farming, unless there seemed a prospect of making a living out of
+it. The remuneration of the farmer takes, of course, the form not of a
+salary, but of profits: and these profits vary very much from year to
+year, and from place to place, and from man to man. But they are
+essentially payment for work done, and an ordinary profit must be
+regarded therefore as part of the necessary costs of farming. Thus it
+will not be worth while to cultivate a piece of land, and the land
+will in fact lie unused, upon which a careful farmer might obtain a
+profit in the ordinary sense, of no more than $50 or $100 a year. The
+marginal land will be land which yields a decent profit to a decent
+farmer, as well as a gross rent to the landowner, sufficient to
+compensate him for his capital outlay, but nothing further.
+
+What, then, will be the rent of a fertile and well-situated farm,
+about which there is no doubt that it is well worth cultivating? Part
+of the gross rent which the landowner receives must again be regarded
+as merely a return for the capital expended in equipping the farm for
+use; but in this case, there will be a residue left over, which
+constitutes the net rent of the land. The net rent will measure the
+derived utility of the land to its occupier, and will in general
+represent (very roughly, of course, in practice) the differential
+advantage of cultivating the land in question rather than land on the
+"margin of cultivation." This differential advantage may take either,
+or both, of the forms, of a larger produce per acre, or a lower cost
+of production and marketing. But, in any case, the extra profit,
+which, if no rent were charged, a decent farmer could obtain by
+cultivating the farm in question, rather than a marginal farm, will be
+roughly equal to the net rent which his landlord can exact from him,
+if his landlord so chooses. The landlord may, of course, not choose to
+exact a rent as high as this; and as a matter of fact, in a country
+like Great Britain landlords often content themselves with less. The
+traditions associated with the ownership of agricultural land, and
+with the relations between landlord and tenant serve to soften the
+edge of economic law, and to subject the rents which are actually
+fixed to the control in no small measure of the general sense of what
+is fair or customary. In such cases the landlord makes the farmer a
+present, for the time being, of part of the economic rent. On the
+other hand, as Irish agrarian history well illustrates, the landlord
+may sometimes expropriate under the name of rent, permanent
+improvements which are due to the labors or the expenditure of the
+tenant. This is, of course, particularly likely to happen, whenever it
+is the custom to leave to the tenant the obligation of providing the
+capital equipment of the farm, which in Great Britain is, for the most
+part, the recognized duty of the owner. Again, in the case of urban
+land in the South of England, expropriations of this kind are an
+essential and well-understood feature of the leasehold system. The
+owner grants a lease for a long period of time, usually ninety-nine
+years, for a ground rent, which is notoriously below the true economic
+rent of the land, subject to the condition that the leaseholder must
+erect upon the land and keep in good repair certain buildings, which
+on expiry of the lease will become the property of the ground
+owner. Here the nominal ground rent is only part of the total rent
+which is really paid; the ultimate transference of the buildings
+representing often the more important part. There is, in fact, a great
+variety of systems of land tenure, some of which are highly complex,
+the respective merits of which vary greatly, and which constitute a
+most important problem for statesmen and legislators. Considerations
+of this kind in no way diminish the importance of the general analysis
+of rent, which we are pursuing in the present chapter. Rather they
+make it the more important, because we cannot properly weigh the
+merits of any system of land tenure, until we have grasped clearly the
+principles governing the rent of land in the purest form. But
+certainly we must never forget that the rent we are discussing may
+differ very greatly from, though it will vitally influence, the money
+payments which are called rent in actual life. It is the pure economic
+rent, the rent which represents the _full_ annual payment which it
+would be worth paying to obtain the use of the land alone, which will
+measure, as we have said, the differential advantage of the land in
+question over land on the margin of cultivation.
+
+A clear grasp of this relation helps us to perceive that an increase
+in the prosperity of the community may sometimes influence rents in an
+unexpected way. It all depends on the causes which have given rise to
+the increased prosperity. An advance, for instance, in agricultural
+science will facilitate a more abundant supply of foodstuffs; but it
+will not necessarily increase the aggregate rents of agricultural
+land. For if it takes the form, say, of the discovery of some new
+artificial manure, it will very likely facilitate production on the
+less fertile soils far more than it will on the more fertile soils
+where artificial manures are not so necessary. It will thus tend to
+diminish the differential advantages of working on the more fertile
+farms, and their rents will accordingly fall, possibly by much more in
+the aggregate than any increase in the rents of the farms near the
+margin of cultivation. The point may, perhaps, be better understood if
+we pass from agricultural to urban land, and ask what would be the
+effect on site values of a great improvement in the facilities of
+internal transport. Push the case to an extreme, and suppose passenger
+transport to become so cheap and so quick that there ceases to be any
+advantage in living in a town so as to be near your place of work.
+Urban landlords would no longer be able to obtain the high rents they
+now receive for the sites of houses in or near a town. For most people
+would prefer to move out into the country where sites can be obtained
+at little more than an agricultural rent. The country covers so large
+an area relatively to the towns that the supply of rural sites would
+be still very plentiful as compared with the demand. Their rents would
+not, therefore, rise by very much, although the rents of the housing
+sites in towns would fall heavily. Of course, there are other factors
+to be taken into account before we could pronounce upon the effect on
+aggregate rents. Central sites for shops might, for instance, fetch a
+higher rental than before. The purpose of this discussion is not to
+generalize but to show the danger of generalizing about rents in the
+aggregate, or land as a whole.
+
+
+§4. _The Margin of Transference_. The last illustration may serve,
+however, to remind us of an obvious fact which we must now take into
+account. The same piece of land may be used for a variety of purposes.
+It may have been used for growing corn, and later it may be devoted to
+the building of houses, or, as at Slough, to a repair depot for motor
+vehicles. It need hardly be said that the land will, as a general
+rule, be put to the use in which its value is greatest; or to speak
+more strictly, in which the biggest rent, or the biggest selling price
+can be obtained. But the notion of the differential advantages which a
+piece of land possesses over the marginal land becomes decidedly more
+complicated when we take account of this variety of uses. Let us turn
+our attention, for instance, to the sites used for shop and office
+purposes, and consider what we can regard as the marginal site in this
+connection. Clearly it will not be the marginal land of which we
+spoke above, which it only just paid to cultivate, and which yielded
+no rent at all. For this will probably be agricultural land in an
+out-of-the-way district, where no one would dream of setting up an
+office or a shop. Any site upon which a sane man would contemplate
+setting up a shop will certainly possess value for other purposes,
+such as house-building. Hence the marginal site for shopkeeping
+purposes will not be like our marginal farm, a site which yields no
+rent.
+
+As regards many pieces of land, there is no doubt as to the purposes
+for which they can most profitably be used. This piece will command a
+much higher rent as a shop site than in any other capacity; for that
+piece house-building is the obvious employment; for another,
+agriculture. But in quite a number of instances there is considerable
+uncertainty. It is not clear whether upon this site it will be better
+to erect a house or a shop, or if the latter, what kind of a shop. It
+is not clear whether it will pay to use that farm land for a building
+scheme; and, within the domain of agriculture, which of course
+comprises an immense variety of really different industries, it is
+often a very moot point indeed whether a certain field should be left
+under grass, or brought under the plow. Cases of this sort are not
+phantoms of the imagination; they emerge on every side as concrete
+problems with which some one or other is dealing every day, and it is
+these cases which constitute the marginal land for the purposes of a
+particular occupation. The marginal sites for shops are the sites for
+which it is only just worth while to pay rents sufficient to entice
+them away from houses. And the rent for a site in Bond Street, or
+elsewhere, which is so much more suitable for shop purposes that no
+alternative use would be worth considering, will exceed the rent paid
+for one of these marginal sites by, roughly speaking, the extra
+advantage it possesses for shop purposes. Or will fall short of it, it
+may be well to add, to the extent of its comparative disadvantage. For
+there may be many such marginal sites, some of which will fetch low
+rents, and others very high rents indeed; the same site being often of
+great potential utility for a large variety of occupations. Between
+any two occupations there will thus usually be a _margin of
+transference_, which we must conceive not as a point, but as an
+irregular line, upon or near to which there will be many pieces of
+land, differing greatly in the rents which they fetch. These
+variations of rent will correspond to the differences between the
+advantages or derived utilities which the sites possess for _both_ the
+occupations in question. The position of such margins of transference
+will of course alter as industrial conditions change, and, when they
+alter, the rents of sites which are not near any margin of
+transference will be affected also. Thus an increased demand for the
+products of any particular industry will make it profitable for that
+industry to offer higher rents, and thus draw land away from other
+occupations. This will have the effect of raising, though possibly to
+a very slight extent, the rents of sites which still remain in other
+uses; for there will be fewer of them available; and their derived
+utilities will consequently be increased.
+
+But here, as everywhere, it is upon the margin that our attention
+should be focussed, because it is round about the margin (wherever it
+is found) that the changes are taking place which really matter for
+society. When Mr. Mallaby-Deeley buys an estate in Covent Garden from
+the Duke of Bedford, the transaction hardly deserves the degree of
+public interest it excites. Nothing has happened which is of material
+consequence to anyone except the two gentlemen concerned; the various
+sites are still used for the various purposes for which they were used
+before; nothing has occurred that really matters. But when houses are
+pulled down for the erection of a cinema, or when a field is diverted
+from tillage to pasture, something has happened which affects for good
+or ill the interests of the whole community. Conversion from tillage
+to pasture represents, indeed, a tendency which has been very marked
+in Great Britain during the last generation, and has aroused
+misgivings in many public-spirited observers. Possibly for a variety
+of reasons, these misgivings may be justified; certainly the problem
+is well worthy of attention. But when in this way the issue is raised
+of tillage versus pasture, it is essential, if we are to discuss it
+rationally, that we should envisage it clearly as applying only to a
+limited portion of agricultural land, to the portion which lies
+somewhere near the margin of transference, as things are now, between
+the two forms of agriculture. It might be socially desirable to bring
+under the plow a field which the farmer finds it only _slightly_ more
+profitable to lease under grass; but this would be highly improbable
+in the case of a field where the balance of argument to the farmer in
+favor of pasture is overwhelming. The position of the margin of
+transference between different uses may, in other words, be somewhat
+out of place from the social point of view, and it may be desirable by
+appeals and propaganda, even conceivably by the devices of State
+subsidy and compulsion, to push it forwards or backwards in greater or
+less degree. But it will be necessarily a matter of degree, and
+nothing could be more foolish than to speak as though there was, or
+could be, some ideal method of cultivation equally applicable to all
+lands, without regard to their climatic and other conditions. Needless
+to say, none of the agricultural experts who sometimes deplore the
+decline of arable farming are guilty of such foolishness. But the
+sense of the diversity of nature which is very vivid to them may
+sometimes be lacking in people who live in towns, and a firm grasp of
+the marginal notion may serve best to keep the latter from forgetting
+it.
+
+
+§5. _The Necessity of Rent_. Behind all such detailed applications
+there lies a more general consideration which deserves attention. The
+way in which the land of a country is used, the way in which it is
+apportioned between the countless alternative employments that are
+possible, is a most important matter, more important perhaps than any
+questions as to the size of the incomes which particular landowners
+receive by virtue of their rights of ownership. How is this
+apportionment effected as things are now? The answer is clear: mainly
+by the agency of either rent or price. The business which finds it
+worth while to offer the highest rent or the highest price for any
+piece of land will, as a rule, be able to command its use. And, with
+this as the governing principle, an apportionment is secured between
+shops, offices, factories, agriculture, between the immense variety of
+different employments covered by each of these broad headings; not a
+rigid unvarying apportionment, but one which constantly changes as
+economic circumstances change, and as the margin of transference
+between different occupations moves hither and thither. This
+apportionment takes place at present as the result of the independent
+decisions and bargains of many private individuals, who are thinking
+mainly of their own interests, and not of those of the community. But
+this state of affairs might be altered. The land might be nationalized
+and allocated to its various uses by the co-ordinated labors of a
+great State department, or some other agency of the collective
+will. However improbable such a change, it is perfectly conceivable.
+But what is not conceivable is that any State department should handle
+the job with a success even approaching that of the present system,
+unless it continued to use, as its main instrument, the criterion of
+either rent or price. That a piece of land would yield a higher rent
+in one occupation than in any other is not conclusive evidence that it
+is best to devote it to the former purpose, but it is very good
+evidence, and it should be allowed to prevail unless it is
+demonstrably outweighed, as it possibly might often be, by
+considerations of a different kind. That it would not be well for the
+community to employ land in the city of London for corn-growing
+purposes, however desirable might be a revival of home agriculture, is
+so obvious that it may seem to have no bearing on the present issue.
+But it is only an extreme indication of the absurd and wasteful use of
+our natural resources, which would grow up slowly but surely, if we
+dispensed with ideas of rent and price as sordid irrelevancies, and
+allocated our land on the basis of a balancing of the loftiest
+arguments of a vague and sentimental character. If you are prepared
+for the distribution of land to become stereotyped, for each piece to
+continue indefinitely in its present use, then indeed you might
+dispense with rent, as primitive societies very largely do. That would
+mean stagnation and, for an industrial country, decay. But if changes
+are ever to be contemplated, a simple quantitative measure is the only
+safeguard against utter chaos. Thus rent, like interest, will be found
+indispensable as a measure under any efficient system of society, even
+if it might not always represent the payment of sums of money to
+private individuals. And that is why the principles governing rent
+possess, as I indicated at the outset of this chapter, an importance
+more fundamental than our present system of ownership and tenure.
+
+
+§6. _The Question of Real Costs_. But we must not forget the
+preliminary question that started us upon our analysis of the agents
+of production. The rent which a manufacturer or farmer has to pay for
+his land he naturally includes in his cost of production. But does
+this money cost to the individual correspond to, and measure, any real
+cost to the community as a whole? Here let us note in the first place
+that if only we could disregard the variety of uses to which land is
+put, if we could suppose that all industry was agriculture, and that
+agriculture was a single industry with a single product, we could
+argue that rent does not enter into marginal costs at all. For we
+could regard the marginal producer as the one working on a marginal
+farm, whereas we have seen there is no pure rent. The rent which other
+producers have to pay would thus represent merely the destination of
+the surplus profits which arise wherever actual costs fall short of
+marginal costs. This way of looking at the matter has proved
+attractive to some thinkers, not in the least because of a desire to
+palliate the effects of landlordism, but because it fits in so well
+with our general sense of rent as a "surplus," and a surplus as
+something distinct from a necessary price. But it is clearly
+illegitimate in an economic theory which professes "to describe the
+facts." The marginal land for many purposes fetches, as we have seen,
+a considerable rent; and this rent is certainly part of the marginal
+costs and of the necessary price of the products of the particular
+industry. The answer to our question is, however, not now very
+difficult to see. Land, greatly as it differs in many respects from
+the other agents of production, resembles them in the very important
+respect that, being used for one purpose, it is not available for
+other purposes, and that the productive powers of the community in
+other directions are thereby diminished. This is the real cost to the
+community, which attaches to the products of any industry, in virtue
+of the land which it occupies; not any human labors or sacrifices
+required to produce the land itself, but the curtailment of the
+natural resources available for productive use elsewhere. This is the
+real cost of which rent is the money measure, and generally speaking
+an accurate measure at the margin of transference between one
+occupation and another. A somewhat fanciful use of the term cost, this
+may seem perhaps, one not quite in accordance with our instinctive
+sense of what real costs should be. But possibly the real costs
+represented by wages and profits may turn out to be not so very
+different, and we had best leave the matter there, until we have
+examined the nature of these other costs.
+
+
+§7. _Rent and Selling Price_. In this chapter we have spoken mainly of
+the rent rather than the price of land: the relation between the two
+things is fairly obvious and well understood, but it will be well not
+to close the chapter without a brief account of it. The price of any
+piece of land is affected by all the considerations on which its rent
+depends, but it is also affected by another factor which has no
+influence whatever upon rent. This factor is the rate of
+interest. The higher the rate of interest, the higher the return which
+a man could obtain by buying gilt-edged securities, the lower will be
+the price that he will pay for a piece of land which yields a given
+rent. We can express the relation more precisely by the formula Price
+= (Rent * 100)/(Rate of Interest), though we must be careful, in
+applying this formula in practice to allow for the possible deviations
+between the nominal and the true rent, and similar complications. The
+price, it must be observed, is derived in this way from the rent, not
+the rent from the price.[1] Rent is thus logically the simpler, price
+the more complex thing. It is well, therefore, to analyze in the
+first instance the principles of rent, if we live in a country where
+the practice of leasing land for annual rent is less common than it is
+in Great Britain, even if, for whatever reason, it is the price of
+land with which we are concerned in practice. The problem of price
+contains two distinct elements which it is not easy to handle when
+mixed up together. For the rate of interest represents in itself an
+important branch of economics, which will require a separate chapter
+to itself.
+
+[Footnote 1: In this the rent of land differs fundamentally from that
+of other things, such as houses. For the price of a house is largely
+influenced by the costs of construction of new houses, and should
+correspond closely to them in the long run. The same relation between
+rent, price and rate of interest will hold good; but the rents will be
+affected by changes in the rate of interest, owing to the reactions of
+such changes on the supply of houses.]
+
+
+
+CHAPTER VII
+
+RISK-BEARING AND ENTERPRISE
+
+
+§1. _Profits and Earnings of Management_. The profits of a business,
+as they are ordinarily reckoned, whether for the purposes of income
+tax or of a balance sheet, comprise several elements which are
+fundamentally distinct. The relative importance of these various
+elements varies greatly from one type of business to another. The
+profits of a private business include, for instance, the remuneration
+of the work of management, which in the case of a Joint Stock Company
+is mostly paid for by salaries or directors' fees. It is to their
+profit that farmers, small shopkeepers, and the partners of a private
+firm look not merely for a return upon their capital, but for the
+reward of their own labors. "Earnings of Management," as they are
+usually termed (though in truth they often cover other and humbler
+forms of labor) are thus frequently one of the ingredients of profits.
+
+
+§2. _The Payment for Risk-bearing_. There is another element of great
+importance about which our ordinary ideas are apt to be so vague that
+it will be well to devote a chapter to its examination. This is the
+element of payment for risk, or rather the reward of risk-bearing.
+Risk is inherent in all business, as it is inherent in all life. The
+vagaries of nature and the vagaries of man are alike responsible. The
+farmer may find his harvest ruined by a drought or by a deluge; the
+coal or the gold, for the extraction of which you have perhaps set up
+an extensive mining plant, may come to an end which is unexpectedly
+abrupt. You may put your money into roller-skating rinks and find that
+cinemas have become the rage with the fickle public; sometimes "the
+market" may decline for causes which remain obscure but with
+consequences which are disagreeably plain. But while risk is always
+present in some degree, the degree varies enormously from one industry
+to another. Now, it is obvious enough that in an exceptionally risky
+industry, where there is a considerable possibility that the capital
+invested will yield no return at all, the profits of those concerns
+which succeed are likely to exceed the rate of interest on gilt-edged
+securities. But what is likely to be the magnitude of this excess? Is
+risk-taking rewarded if there is any such excess, however small? Or
+will it suffice that the gains and losses should average out to a fair
+rate of interest over the whole industry? To enable us to think
+closely let us suppose for a moment that we can measure accurately
+what the chances are.
+
+Suppose, then, that there were a precisely equal chance of success on
+the one hand and failure on the other in any enterprise, failure
+involving a complete loss of all the capital invested. Suppose,
+further, 6 per cent to be at the time a fair return on a perfectly
+secure investment. What would be the return which must be expected
+from the risky enterprise, in the event of its succeeding, before it
+will be undertaken? The reader may be tempted to answer, 12 per cent.
+But 12 per cent would not suffice. An equal chance of 12 per cent or
+nothing, as compared with a certainty of 6 per cent, does not mean
+that the risk in the former case is paid for to the tune of 6 per
+cent. It means that it is not paid for at all. In each case what a
+mathematician would call the _expectation_ is a return of 6 per
+cent. The odds are evenly balanced; in the long run, over a large
+number of cases, if the law of averages works as we assume it does,
+you would get just as much from the one type of investment as the
+other. Now, risky enterprises will not, as a rule, be undertaken on
+terms like these; investors and business men will not take risks with
+the odds precisely equal; they must have them, or believe that they
+have them, in their favor.
+
+
+§3. _Monte Carlo and Insurance_. To assert this is not to ignore the
+strength of the appeal which the gambling instinct makes to many, if
+not to most of us. The taste for gambling is, indeed, so deep and
+widespread that it would be foolish to leave it out of account in this
+connection. It is clear enough that at places like Monte Carlo people
+are prepared to have the odds unmistakably against them, apparently
+for the sheer pleasure and exhilaration of taking risks. Moreover,
+though for most people play at Monte Carlo represents a mere holiday
+indulgence, it would be unsafe to assume that what appeals to them
+there will not also appeal to them in their business affairs. But what
+exactly is the secret of the charm of Monte Carlo? It is the great
+attractive force of a small chance of a large gain, as compared with
+the deterrent force of a large chance of a small loss. People will
+readily pay $5 for one chance in a hundred of making no more, perhaps,
+than $400 or $450. And it is very likely that this holds good in the
+world of business. If, for example, we were to suppose that the
+promoters of a new enterprise were confronted with one chance in fifty
+of a profit of 50 per cent per annum on their capital, as against
+forty-nine chances of a profit of 5 per cent, this might well prove a
+more attractive prospect than a certain return of 6 per cent, although
+the strict _expectation_ of profit would be smaller in the former
+case. But the risks of business enterprise are not often of this
+type. They conform more usually to the opposite type of a large chance
+of a relatively small gain, balanced by a small chance of serious loss
+or entire failure. Now for almost everyone the possibility of a great
+loss will count as a deterrent (just as the possibility of a great
+gain may count as an attraction) for much more than its strict
+actuarial value.
+
+The truth of this proposition is demonstrated by the existence of
+institutions more impressive than Monte Carlo--the Insurance
+Companies, which play so large a part in the economic life of modern
+times. Every year, and upon an ever-growing scale, both private
+individuals and business concerns pay sums of money, which reach in
+the aggregate a colossal sum, as premiums to insure themselves against
+loss by Fire, Shipwreck, Burglary, Death, Death Duties, against every
+risk which Insurance Companies will cover. Now Insurance Companies
+are not, as we say, in business for their health. They find their
+business profitable, and pay good dividends to their shareholders.
+Moreover, they incur a considerable expenditure on offices, on
+clerical staff, on agents, and the like. All these payments must be
+defrayed out of the premiums they receive; so that it is plain that
+the premiums greatly exceed the _expectation_ of the risks insured.
+The odds are heavily in favor of the Insurance Company--of that the
+stupidest person can have no shadow of doubt. Yet we continue to
+insure, as private individuals and as business men, and so far from
+being ashamed of our proceedings as a weak and nerveless folly, which
+somehow we are unable to resist, we blazon them forth in the strong
+accents of conscious pride. We preach insurance to our neighbors as
+the core of self-regarding duty, and, if ever we feel a twinge of
+uneasiness, it is lest we, too, may have omitted in some particular to
+practice what we preach.
+
+The significance of this is unmistakable. Be our psychology what it
+may, however deep and irrepressible our taste for derring-do, however
+inadequate the scope which the dull routine of modern life affords for
+our adventurous impulses, we are most of us anxious to avoid the risk
+of great financial loss. We are very glad to find someone to take it
+off our shoulders if we can; so glad that we are prepared to pay him
+for the service, to pay him a sum which covers not only the actuarial
+equivalent of the risk, but something substantial over and above. In
+this we are entirely rational. Our conduct is justified by the law of
+the diminishing utility of money, which was noted at the end of
+Chapter III. It would be plainly foolish, for instance, to substitute
+for the certainty of an income of $2500 per annum an even chance of
+$5000 or nothing, since the utility to us of $5000 is not twice as
+great as that of $2500.
+
+The majority of business risks are not of a kind against which it is
+possible to insure. Insurance companies confine themselves to risks
+which are mainly a matter of what we call objective rather than
+subjective chance, i.e. risks in respect of which knowledge of
+detailed facts peculiar to the individual case is of minor
+importance. But such knowledge is of paramount importance in the case
+of ordinary business risks. If, for example, a new enterprise is to be
+undertaken, the special knowledge and experience which its promoters
+possess is a vital factor in determining their estimate of the risk
+involved. An outsider with no special knowledge would necessarily
+require to estimate the risk far more highly if we were to form a
+rational opinion on the basis of _his_ knowledge. So great, indeed,
+would be the risk to him, that we can lay it down as a sound maxim
+that people are extremely rash who invest their money in risky
+undertakings about which they know very little. This subjective aspect
+of business risk has a significance to which it will be necessary to
+revert.
+
+But, though most business risks are not and cannot be a matter for
+premiums and policies, the principle, which the practice of insurance
+illustrates, applies none the less. In the light of their knowledge
+and experience, the promoters of a new undertaking must weigh up the
+chances of failure and success, though they will not do so by the
+precise methods of an actuary. They will require that any chances of
+serious loss should be balanced by such chances of exceptional gain,
+as would raise the _expectation_ of profit well above the normal
+return on secure investments. The more risky the project seems the
+greater, generally speaking, must be the _expectation_ of profit
+required to induce people to undertake it.
+
+If we suppose business men to calculate reasonably, it follows that
+the average profits in any industry over a long period of years,
+reckoning in the losses of the concerns which disappear altogether,
+are likely to be higher, the more risky is the industry. Such a result
+will not, of course, occur in every case. Even when the calculations
+are reasonable, they may be entirely falsified by the event. Moreover,
+business men may not calculate reasonably on the information which
+they have. But, unless we suppose their judgment to be subject to a
+prevailing bias in one direction, i.e. to be unduly optimistic as a
+general rule, _we_ should expect, and in any case _they_ must expect,
+profits above the ordinary in a risky industry.
+
+This conclusion is sufficiently important. Far too many people, though
+they admit it when it is expressly stated and dismiss it even as a
+tiresome commonplace, are apt to neglect it when the occasion for
+applying it arises. For example, the great importance to any industry
+of good management is generally recognized, and the consequent
+desirability of paying adequate salaries to the managerial staff. The
+importance of securing a supply of capital is very widely recognized,
+and the practical necessity of paying a fair rate of interest is thus,
+however grudgingly, conceded. But the "residuary profits," as they
+are called, which accrue at present to the owners of a business, are
+denounced in some quarters in a sweeping fashion, which seems to
+ignore altogether the all-pervading element of risk. People speak as
+though you might appropriately limit profits in every industry to some
+uniform percentage on the capital employed, without making it clear
+whether you would even be allowed to make up in good years for the
+losses incurred in bad. The effect of introducing any such crude
+device into our present industrial system could only be to paralyze
+enterprises of an unusually risky kind, which, so far from being
+pushed to an excess at present, are more probably curtailed unduly
+from the standpoint of what is socially desirable. Like the fixing of
+a low maximum price for a commodity it would cause the supply to
+wither up and disappear.
+
+
+§4. _Risk under Large-scale Organization_. While this is true of the
+present economic system, the question is worth considering whether it
+represents a fundamental necessity, whether, for instance, under our
+world socialist commonwealth the factor of risk-bearing need play so
+important a part as it does in the actual business world. This
+question cannot be answered with a conclusive simplicity; opposing
+considerations present themselves, between which it is not easy to
+strike a balance. On the one hand, in accordance with the law of
+averages gains and losses tend to cancel out over a large series of
+transactions, _when reasonable calculations have been made_. Thus
+Insurance Companies, while they take heavy risks off the shoulders of
+policy-holders, incur relatively trifling risks themselves; they can
+predict the aggregate sums which they will be called upon to pay
+within a small margin of error. In the same way it might seem that
+every enlargement of the scale of business would make for an automatic
+insurance and a consequent economy of risk; and thus that if all
+businesses were comprised in a single financial unit, gains and losses
+would cancel out over so wide a range that the degree of risk
+remaining would be almost negligible.
+
+This might indeed happen, if business risks were mainly of that
+objective kind in which the insurance companies specialize; for then
+we could assume that the chances of success or failure would be
+estimated reasonably. But, in fact, most business risks, not being of
+this kind, must be estimated by processes of human judgment, which are
+very fallible. And here we must take account of the law of averages in
+another aspect, with a different bearing on the argument. When an
+industry comprises a large number of separate concerns, and the
+decisions accordingly are taken by many men, acting independently of
+one another, the errors of calculation will tend to some extent to
+cancel one another out. The undue optimism of one man will be balanced
+by the undue pessimism of another; and, if there is no prevailing bias
+in either direction, the errors of judgment will not affect the
+results for the industry as a whole. But where the effective decisions
+are taken by very few men, the chances are far greater of a
+preponderating balance of error in one direction. The risks dependent
+on the factor of human judgment tend therefore to increase.
+
+This truth can be illustrated by a phenomenon which is fairly
+familiar. It is recognized by intelligent persons that the risks of
+speculation in a particular commodity market or stock market increase
+more than proportionately to the scale of operations. A man who sets
+out as a "bull" upon a small scale can buy without sending up the
+price against him in the process, and, if he decides later that his
+judgment is mistaken, he can at any time cut his losses and sell out
+without much difficulty. But a "bull" on a very large scale cannot
+complete his purchases except at a price which has been raised in
+consequence of his own action, and he cannot count on being able to
+"unload" at or near the market price, should he decide to do so. If,
+accordingly, he miscalculates, he cannot save himself from serious
+loss as a smaller man might do by a prompt discovery of his error. His
+difficulties spring from the fundamental fact that the effects of his
+calculations are too great to be offset by those of the different, and
+often opposite, calculations of other men.
+
+Upon the issue whether a growth in the size of the business unit is
+likely to diminish risk, the law of averages thus cuts both ways. The
+risks arising from the element of pure chance are more likely, those
+arising from miscalculation are less likely, to cancel out. Upon
+these grounds alone, it would be unsafe to conclude that there would
+be on balance an economy of risk under any system of national or world
+socialism.
+
+
+§5. _The Entrepreneur_. There remains, however, an aspect of the
+problem which is perhaps more important than those discussed above. It
+is probable that risks would be estimated and undertaken more wisely
+or less wisely under a different system of society or of industrial
+organization? Upon this issue, methods of precise analysis are out of
+place, but we may have something to learn from the emphatic testimony
+of tradition. It has become an axiom of business men that, while
+Governments can manage with more or less competence a safe and routine
+business like a Postal Service, their success would be unlikely to
+prove conspicuous in undertakings where the element of risk is
+great. There, it is said, we owe everything in the past to the
+enterprise of individual men (for even joint-stock companies have not
+been notable as pioneers) adventuring their own fortunes in accordance
+with their own unfettered judgment. This contention, however much we
+may desire to qualify it, has unquestionably a large measure of truth,
+and the explanation is not difficult to discover. For the wise taking
+of risks in industrial development of an experimental character,
+peculiar conditions and special qualities are required. First, it is
+necessary to envisage distinctly the promising though risky
+opportunity, and this calls not infrequently for imagination of a none
+too common order. Then it must be studied with insight and expert
+knowledge and weighed by processes which are as much intuitive as
+intellectual. The reasons for or against taking a particular business
+risk are seldom such as can adequately be expressed in terms of
+arithmetic, or even by clear arguments the soundness of which is
+proportioned to their logical cogency. The mysterious faculty of
+judgment enters in; and from mental processes which defy analysis
+there emerge ultimately conviction and the will to act. But it is
+precisely here that Government Departments are apt to fail. It is here
+that the individual, who need consult no one but himself, has a pull
+over any form of organization, where decisions are reached by the
+method of debate and agreement among a heterogeneous committee. Hence
+it is that we have come to regard exceptional risk-taking as the
+peculiar province of individual enterprise. It is probable that these
+deficiencies of corporate organization are tending to diminish, and it
+is an interesting question how far it may be found possible to
+eliminate them in the future.
+
+Meanwhile the above considerations have an important bearing on the
+rewards which can often be obtained from risky enterprises. The number
+of individuals who are in a position to envisage a business
+opportunity, and to assess with some confidence the chances of success
+and failure is very limited. Not only must they possess special
+knowledge, ability, imagination, confidence in their own judgment, and
+the capacity to act on it; they must also have at their disposal
+considerable financial resources. To combine all these advantages
+represents a union of circumstances which is distinctly rare. The
+fortunate few, who do combine them, are thus generally able to extract
+in the form of profits a high price for their services, a price which
+covers not only the strict reward of risk-bearing, and the necessary
+remuneration of their own service, but a handsome payment for the
+special qualities and advantages which have been indicated. Profits,
+moreover, may vary between one industry and another, not only in
+accordance with the real risk which is entailed, but with the degree
+to which the supply of special knowledge, etc., is scarce or abundant.
+
+This consideration goes a long way to explain the large fortunes which
+enterprising business men are often able to amass. It also throws some
+much-needed light upon the functions which such men discharge. They
+perform to a large extent the work of management; they supply capital
+on what may be a considerable scale; but it is the taking of business
+risk which is perhaps their most characteristic function. It is the
+union of these functions which distinguishes them as an essentially
+different type from the salaried manager who has invested his savings
+in rubber or in oil. In other languages there is a specific name for
+the man who combines all these three functions; in French he is called
+an "entrepreneur," in German an "Unternehmer." It is much to be
+regretted that in English we have no clear corresponding word. The
+word "capitalist" is not uncommonly employed to do duty in this
+connection, but this is a source of much confusion. For the word is
+also used, and more appropriately, to include all investors, whether
+or not they are active business men.
+
+
+§6. _Risk-taking and Control_. But there is an allied confusion of
+more importance. We commonly suppose it to be a leading feature of our
+present "capitalist system" that the control of industry rests in the
+hands of those who supply the capital. Nor, as a general statement, is
+this untrue. But it conceals the essential point. Strictly speaking,
+it is risk-taking with which control is associated. The mere lending
+of money carries with it no title to control. Governments and
+municipalities concede no such title to the subscribers to their
+loans; nor does a company to its debenture holders. The shareholders'
+ultimate control is based upon the fact that they bear the financial
+risks of the concern. Nor is this a matter of mere legal form. It is
+not uncommon for ordinary shares to carry with them a greater voting
+power than the preference shares of a corresponding value. The
+principle which such arrangements endeavor to express is clear:
+control should rest with him who bears the risk. It is with this
+principle rather than with a mulish insistence on the rights of
+property, that advocates of "workers' control" and the like have got
+to reckon. It is upon this ground that (as they may quite conceivably
+do) they must make good their case.
+
+
+§7. _General Analysis of Profits_. Let us conclude this chapter by
+clearing the ground for the next. Earnings of management, payments for
+risk-taking and for the special knowledge and advantages associated
+with it, are ingredients of the gross profits of a business. The chief
+element that remains is that of interest on capital. Frequently,
+indeed, it is not the only one. As we saw in the last chapter, a
+farmer may not be required by his landlord to pay the full economic
+rent for his farm; and he may therefore make profits above the normal
+level, above the ordinary return for his own services, his own capital
+expenditure, and the risks to which he is necessarily exposed. In such
+a case the farmer is really the recipient, as we have already
+suggested, of part of the economic rent of the land; and an element of
+rent accordingly enters into his gross profits. But profits may
+include a surplus element which may arise in a great variety of other
+ways. A business may possess some decided advantage which is not open
+to competitors; and it may reap high profits accordingly. You can,
+for instance, if you choose, regard the high money profits, which, as
+was suggested in Chapter IV, are likely to accrue in future to the
+owners of pre-war factories, as a surplus profit of this kind. But
+while, as this illustration indicates, the phenomenon of surplus
+profits becomes of very great importance when we seek to study the
+distribution of wealth, it need not detain us here. For the surplus
+element arises only in so far as the costs of a business are lower
+than the marginal costs; and it is the marginal costs, which, with
+good reason, we are now endeavoring to analyze. The marginal costs
+must include a normal profit, i.e. a profit which will cover earnings
+of management, the reward of risk and enterprise, interest on capital,
+but nothing further. It remains, then, only to consider this last
+element of interest.
+
+
+
+CHAPTER VIII
+
+CAPITAL
+
+
+§1. _A Reference to Marx_. Interest is the price paid simply for the
+use of capital. But what is capital, and in what does its use consist?
+What claim has it to be regarded as an independent factor of
+production? Our very familiarity with the term, our habit of employing
+it with the rich looseness of every-day life is an obstacle to the
+clearness of thought, which is again essential. We recognize, most of
+us, clearly enough that capital, although we reckon it in terms of
+money, consists, like income, of real things; factories, machinery,
+materials and the like. It is quite obvious that these things are of
+use, are, indeed, indispensable for production; what more natural than
+that capital should command a price? It almost seems as though we
+might pass, without further ado, to a detailed discussion of the
+forces which determine the amount of this price.
+
+But this account does not bring out the essential point as brief
+reference to a very famous controversy will show. Some ingenious
+writers in the last century, the most notable of whom was Karl Marx,
+set out to prove that, in our modern society, workpeople are
+"exploited," robbed of the "whole produce of their labor," to the full
+extent of the return which accrues to capital. The argument was
+exceedingly complex in detail; but it boils down to this: The
+factories and machinery which are admittedly essential to production
+were themselves produced in exactly the same way as consumable
+goods. They were produced by labor, working with the assistance of
+nature, and, again, if you choose, of capital in the form of further
+factories, machinery, etc. But these further capital goods can in
+their turn be regarded as the product of labor, nature and capital;
+and so we can proceed until it seems as though the element of capital
+must disappear in the last analysis, as though labor and nature were
+the sole ultimate agents of production, and the reward of capital
+represented no more than the exercise of the exploiter's power. In one
+form or another this argument still dominates the minds of a large
+proportion of the so-called "rebels" against the existing social
+order.
+
+If we are to meet this argument, if, which is perhaps more important,
+we are to understand the true nature of capital, we cannot rest
+content with saying that it consists of factories and machinery, and
+that these are essential to the worker. Just as it was well to get
+behind the money terms, in which we often think of capital, to the
+real goods; so we have now to get behind the real goods to something
+else. What this something else is, the first chapter may have already
+done something to reveal.
+
+
+§2. _Waiting for Production_. Between production and consumption there
+is an interval of time. All productive processes take time to
+accomplish. The farmer must plow the soil and sow the seed months
+before he can reap the harvest which will reward him for his
+efforts. Meanwhile, he must live, and in order that he may live he
+must consume. If he employs laborers he must pay them wages, that they
+too may consume and live. For both purposes he requires purchasing
+power, which represents of course command over real things; and if he
+has not sufficient purchasing power of his own, he must borrow from
+someone else who has. In either case it is not enough that the farmer
+and his laborers should work; no less essential is it that someone
+should _wait_. The farmer must wait till he has sold his crops, both
+for the reward of his own labor and for the repayment of the wages he
+advances in the meantime to his laborers. Or, if he cannot afford to
+wait, and borrows in anticipation of the harvest, then the lender must
+wait, until the farmer, having sold his crop, is able to repay
+him. Thus the period of time involved in all production gives rise to
+a demand for _waiting_, which someone or other must supply, if the
+production is to take place. It is this waiting which is the essential
+reality underlying the phenomena of capital and interest. It is really
+this which constitutes an independent factor of production, distinct
+from labor and nature, and equally necessary.
+
+
+§3. _Waiting for Consumption_. But let us carry the argument a step
+further. After the farmer has sold his crops, there are many stages
+through which they must pass, at each of which more waiting is
+required, before they reach the ultimate consumer. But then the
+waiting is at an end.
+
+This, however, is by no means the case with a great number of
+commodities. Let us take the case of a speculative builder. While he
+is building a house he, like the farmer, must wait (or find someone to
+wait on his behalf), for his own reward, and for the repayment of his
+expenditure on wages and materials. But, after the house is built, if
+he lets it to a tenant for an annual rent, his waiting is far from
+over. Not until many years have passed will the rent payments add up
+to a sum which equals or exceeds his outlay. He may, of course, sell
+the house, and thus bring his waiting to an end. But then the
+purchaser must wait, no matter whether or not he is the occupier. For
+no one would consider the use of a house for a day, a month, or a year
+as an adequate return for the price it cost to buy. The occupier-owner
+pays for the prospect of its use for a long and perhaps indefinite
+number of years ahead, and he must wait to enjoy the benefits for
+which he pays now in full. Waiting is as inherent in the consumption
+of durable things as it is in all production.
+
+Now most industries are consumers of durable things of a very
+expensive kind. Here we come back to the factories and machinery which
+ordinarily spring to our mind at the mention of the word capital. Not
+merely does the construction of these things involve waiting; their
+consumption involves waiting on a vastly larger scale. Just as with a
+house, many years must elapse before their derived utility can even
+approximate to their purchase price. It is mainly to supply the
+waiting involved in the consumption of such durable goods, that a
+typical joint-stock company issues shares for public subscription. The
+waiting required to cover the period of time, which its own productive
+process requires, is largely supplied by means of bank overdrafts or
+other forms of short-period borrowing. More strictly, fixed capital
+represents the waiting involved in the consumption of durable things;
+circulating capital the waiting involved in current production.
+
+This distinction loses its sharpness when we consider not the affairs
+of a particular business, but the industrial system as a whole. Then
+the period of time involved in the consumption of durable instruments
+falls into place as part of the time required for the production of
+the ultimate consumers' goods. We can even, perhaps, conceive of an
+"average period of production" for industry and commerce as a whole;
+and this conception is not without its uses. For it serves to bring
+out the fact that the period of consumption, and the period of
+production in the narrower sense, are only two aspects of the same
+fundamental thing, the interval of time which elapses between work and
+the utility, which is its ultimate purpose. It serves, moreover, to
+make clear that anything which lengthens this interval of time
+increases the demand for waiting, or in other words, the demand for
+capital; and, conversely, that anything which shortens this interval
+diminishes the demand for capital.
+
+
+§4. _Capital not a Stock of Consumable Goods_. But the distinction
+between the two forms of waiting, though not fundamental, is none the
+less worth noting. It enables us to keep our theory in conformity
+with fact, to look at the phenomenon of capital the right way up; and
+it is easy, if we are not careful, to slip into the habit of looking
+at it upside down. People sometimes speak as though the commodities
+which constitute our capital, instead of being mainly, as our plain
+sense tells us that they are, factories, machinery and other durable
+instruments, were rather a _store_ or _stock_ of immediately
+consumable goods. The argument takes the following form. It is
+consumers' goods, things like food and clothes, which the farmer, the
+builder and their workpeople consume while they are working. To enable
+them to work, therefore, it is vital that such things should not in
+the past have been consumed as soon as they were made; part of them
+must have been saved, and carried forward for future use.
+Furthermore, the longer the time that the work on which people are now
+engaged takes to yield its product, the larger must be this store of
+consumers' goods. For these products, when they are completed, will
+serve (taking society as a whole) to replace the store which in the
+meantime is being used up, so that the longer this replacement takes,
+the larger must be the initial store. Conversely, the larger the
+store of consumers' goods available, the more distant is the future
+for which we can afford to work. It is thus the store or stock of
+consumers' goods which represents our real capital; for it is the
+magnitude of this store which determines how far we can devote our
+energies to purposes which are remote in time.
+
+Now this is pure mysticism. Regarded literally, it is in direct
+conflict with the facts. The processes of industry are fairly regular
+and continuous. At any moment, large quantities of consumers' goods of
+almost every kind are on the point of completion; at the same moment
+equally large quantities are consumed. The things which we buy were
+finished, very likely, only recently; or, if in fact they have lain
+idle for some time in stock, there is nothing essential or at all
+helpful in that fact. It represents rather a defect--a maladjustment
+which should be rectified. Even many kinds of agricultural produce do
+not need to be carried forward from one year to another, for they are
+produced in many parts of the world, where the seasons come at
+different periods of the year. It is conceivable, therefore, that we
+might consume all non-durable things the moment they were ready, and
+the degree to which we approximate to this ideal is a mark of the
+efficiency of our economic system. A large store of consumable goods
+is thus _not_ a fundamental necessity of a prosperous society.
+
+What _is_ necessary is plainly the power to produce these things in
+large quantities as they are required. And this power is furnished by
+the durable instruments of production, which we thus rightly regard as
+the true representatives of modern capital. If it is argued that this
+power to produce consumable goods may be regarded as being _in effect_
+a store of consumable goods, it must be sternly replied that this is
+the language of symbolism, not of science, and that symbolism is
+highly dangerous in this connection. The false conception of capital
+as essentially a store of consumers' goods has led and still leads to
+many serious fallacies. It was this that gave rise to the notorious
+doctrine of the Wages Fund; the notion that the sum which can at any
+time be paid in wages is equal to the quantity of capital, _alias_
+consumable goods, which happens to exist. To this day it blocks, with
+an undergrowth of obscurantist controversies, the way to a
+straightforward account of the problem of trade cycles.
+
+
+§5. _The Essence of Waiting_. But it is with positive conclusions that
+we must here concern ourselves. What is the essence of this waiting,
+as we have called it? What are its results from the point of view of
+the community? The individual, who saves and lends, waits in the
+obvious sense that he postpones consumption. He foregoes his right to
+purchase now a quantity of consumers' goods in consideration of the
+prospect of purchasing a larger quantity of such things in the
+future. From the standpoint of the whole community, there is a similar
+postponement of consumption, though it need not commence so soon. The
+store of consumable goods is what it is: the quantity of goods in
+_process_ of manufacture, which will shortly be coming forward, is
+also what it is. For some time, therefore, a sudden access of saving
+cannot affect the quantity of goods available for consumption; and if,
+in fact, they should be consumed less rapidly, that will represent an
+unfortunate defect, not an essential condition of a smoothly working
+system. The _necessary_ consequence comes later. The increased saving
+will cause labor, materials, land, agents of production generally, to
+be devoted to distant purposes. Men will be set to work producing
+durable goods, largely durable instruments of production like ships or
+railways or factories or plant. If the increased saving is
+considerable, the labor, materials, etc., required for these purposes
+will be withdrawn even under our present system, as under a smoothly
+working system they clearly must be, from the production of other and
+more immediately consumable things. Hence, some time later, the
+supplies of consumable things will be diminished, while at a later
+period still they will be more than correspondingly increased as the
+result of the assistance of the new durable instruments. That is the
+essence of saving from the social standpoint. An early future is
+sacrificed to a more remote future. The aggregate consumable income of
+the present is unaffected; the aggregate consumable income of the near
+future is actually diminished; it is not until at least some years
+later that the aggregate consumable income is increased.
+
+
+§6. _Individual and Social Saving_. This conclusion is important: but
+there is an obvious misinterpretation against which it will be well to
+guard. It is customary for social moralists to preach thrift and
+saving as a public duty, and to impart to their appeals a special note
+of urgency in times like the present, when, as the result of the havoc
+of the war, destitution is widespread over Europe. Now obviously these
+advisers do not mean to recommend something which will impoverish the
+world next year and the year after and the benefit of which will
+accrue only in a distant future: it is the immediate urgency of the
+world's needs which is rather the substance of their case. Nor would
+it be right to conclude that these wise men are the victims of a
+delusion, and advocate a course, the consequence of which they do not
+understand. The explanation of the paradox is simple. The more the
+community as a whole saves now, the less in the near future will be
+the aggregate consumable income of the whole community: but not of the
+_remainder_ of the community, exclusive of the savers. It is the saver
+who must wait, whose consumption must be postponed to perhaps a
+distant future; but _at no time_ does his saving result in a smaller
+income of consumable goods for other people. The aggregate consumable
+income of the near future will be diminished, but it may be better
+distributed, and it may consist of things of a different _kind_. For
+consumers' goods, we must remember, comprise champagne and motor cars
+as well as food and clothes; and, if a rich man saves, it may be
+purely articles of luxury, the production of which will shortly be
+diminished. Moreover, if his saving has the effect of transferring
+purchasing power to impoverished people, like those in Central Europe,
+it will not be devoted to a distant future; it will very likely be
+devoted to quite immediate ends. In other words, it may not result in
+any "creation of capital"; it may not represent any saving on the part
+of the community as a whole. A relatively rich man waits, and a
+relatively poor man _anticipates_ his income to a corresponding
+extent; and it is precisely this that is so urgently desirable in a
+time of widespread poverty and chaos.
+
+This is no matter of hair-splitting, and making plain things
+obscure. While it is always better for the _rest_ of us that an
+individual, who can afford to save, should save rather than spend
+(though it might be better for us still if we could have his money to
+spend ourselves) and while this is the more important the greater is
+the poverty which generally prevails; yet, as a community we cannot
+save so much, we _ought_ not to save so much, when we are impoverished
+as when we are prosperous. It is vital to appreciate this truth,
+because, as we shall see, by no means all the saving of the world is
+done by individuals. There are many forms of "collective saving,"
+which take place in actual fact; still more which we are often urged
+to undertake. And it is of practical importance to realize that the
+very considerations, which call most urgently for individual thrift,
+forbid a great indulgence in such projects. A time of national poverty
+is not a time when it is suitable for the State to embark on large
+schemes of capital development: we require our resources for more
+immediate ends. Faced with such problems, our practical sense may no
+doubt suffice to keep us straight; but it is apt to do so at the
+expense of a complete inversion of the real issues. If, for instance,
+we call for Governmental retrenchment on what we deem extravagant
+policies of housing and education, we usually speak as though they
+represented the profligacy of a spendthrift as contrasted with the
+saving that is indispensable. The truth is rather that these policies
+represent a saving, an investment for future purposes, which may
+conceivably be greater (this must not be taken as representing my
+personal opinion) than the community can properly afford. This is
+another instance of what I mean by looking at the problem of capital
+the right way up.
+
+
+§7. _The Necessity of Interest_. It is only now that we are in a
+position to appreciate the true functions of a rate of interest, and
+the nature of its claims to be regarded as a "real cost." Interest, it
+is sometimes said, is necessary to provide for the future. It is far
+more certain that interest is necessary to provide for the present. It
+is a matter of legitimate doubt how far it is necessary to _pay_
+interest to secure a supply of capital; there is no doubt at all that
+it is necessary to _charge_ interest to limit the demand for it. As we
+saw in Chapter I, a world socialist commonwealth would require to
+retain a rate of interest, if only as a matter of bookkeeping, in
+order to choose between the various capital undertakings that were
+technically possible. And this is the primary function which the fate
+of interest fulfils in our present-day society. It separates the sheep
+from the goats. It serves as a screen, by means of which capital
+projects are sifted, and through which only those are allowed to pass
+which will benefit the future in a high degree. For this essential
+purpose it is hard to imagine how a better instrument could be
+devised.
+
+
+§8. _The Supply of Capital_. Let us dwell for a moment on this image
+of a screen, or sieve. One condition of a good sieve is that its
+meshes should all be of the same size. This condition the rate of
+interest almost perfectly fulfils. But it is also important that the
+meshes should be of the _right_ size. Whether this is true of the
+actual rate of interest is a far more doubtful matter. It is, indeed,
+plain that it is not altogether devoid of merit in this respect. In
+times of general world poverty, like those which follow upon a great
+war, it is desirable, as has been argued, that more of our productive
+resources should be devoted to immediately useful purposes, and a
+smaller portion dedicated to a distant future. This readjustment the
+rate of interest helps to bring about. For it rises to a higher
+level, and there is accordingly a strong inducement to all
+manufacturers and traders to economize their use of capital, and thus
+to set free productive resources for more urgent needs. But, while the
+meshes of the sieve, as it were, contract in times when it is
+desirable that they should contract, we have no reason for supposing
+that they will contract in just the degree that is desired, neither
+more nor less; or, indeed, that at any time they approximate to the
+right size. We in the twentieth century owe much of the material
+wealth that we enjoy to the fact that over the last century men saved
+as largely as they did. But our natural gratitude should not restrain
+us from doubting whether they were really well advised to do so. If we
+ask the question _how_ they managed to do so, our doubts are
+deepened. For first place among the explanations must be assigned to
+the inequality in the then distribution of wealth. It was because many
+men in England were rich enough to save that our railways were built,
+and the resources of new Continents were opened up. But England, a
+century or even half a century ago, was not really a rich
+community. And if the national income in those days had been
+distributed more evenly among the people, can we doubt that they would
+have spent a far larger proportion of it on immediate needs; can we
+doubt that they would have been right to do so? We may rather doubt,
+in view of the reactions of poverty on physical and mental efficiency,
+on social harmony, even possibly on population, whether we to-day
+would have been really injured as much as might appear. How, then, can
+we suppose that the sum of the amounts which it suits individuals to
+save will bear any close relation to the resources which the community
+can properly devote to future ends? Are we to regard an unjust
+distribution of wealth as a mysterious dispensation of Providence for
+securing perfect harmony between the future and the present? The
+point need not be labored further. There are no grounds for assuming
+that we save, as a community, even roughly what we ought to save. If
+we wish to believe we do, we must turn for support from economics to
+theology.
+
+It is important to be clear upon this issue in order to distinguish it
+from another, with which it sometimes seems to be confused. This is
+the question, briefly outlined in Chapter II, of the effect of changes
+in the rate of interest on the supply of capital. As was there
+indicated, there are good reasons for supposing that a fall in the
+rate of interest would induce some people to save more, and
+conversely. But the balance of probability is in favor of the
+conclusion that the _net_ effect of changes in the rate of interest,
+though perhaps slight, is usually of the more ordinary kind. The
+decisive argument in this connection is the fact, upon which we have
+just touched, that savings are supplied largely by people who are
+relatively rich, and who become richer when the rate of interest
+rises. For at this point it is necessary to be careful. It is easy to
+slide from the above conclusion into an argument of the following
+kind. A higher rate of interest leads to more saving; it is thus
+necessary to _evoke_ more saving; it is thus required as an
+_incentive_ to induce people to incur the _sacrifice_ of waiting; this
+sacrifice represents the "real cost" for which interest is paid.
+
+This terminology of incentive, inducement and sacrifice is of very
+dubious validity. A rich man, who is made richer by a rise in the rate
+of interest, will probably save more, but it will be rather because he
+has become richer than because he is tempted by the higher rate: and
+the less we talk about his sacrifice the better. Nor is it clear that
+the attraction of a high rate of interest is an operative factor on
+the mind of a man to whom saving means a real sacrifice of immediate
+comfort or enjoyment. Certainly it is only one among many factors, and
+seldom an important one. A really poor man will think not so much of
+the annual income which will accrue from his savings, as of the
+capital sum upon which he or his family can fall back if a rainy day
+should come. And for this purpose he might save as much as he saves
+now, even if there were no interest to be obtained thereby. He might
+even be prepared to lend what he had saved, at least to banks (a
+deposit with a bank is in effect a loan), for the mere advantage of
+safe custody. The people who save rather for the sake of the capital
+sum that can be realized than for that of the annual interest are very
+numerous, and probably include many men in receipt of quite
+considerable earned incomes. Moreover, those who consider mainly the
+future annual income which their savings will yield them, are usually
+more concerned with its absolute amount than with the ratio it bears
+to the amount they must save in order to acquire it. For this reason,
+as has been often recognized, they may save less when the rate of
+interest rises, since a smaller quantity of savings will insure to
+them the future annual income they desire to obtain. There is no need
+to be dogmatic upon any of these points. The psychology of saving is
+both complex and obscure. Our conclusion must be the negative one that
+we have insufficient evidence to warrant the assertion that the
+particular rate of interest which happens to prevail is a measure of
+the sacrifice involved in saving, even in the case of what we might
+regard as the "marginal saving." And, if we cannot assert this, we
+must be careful not to assume it as the basis of other arguments, or
+as part of a general analysis of price or exchange value.
+
+It is of some interest to observe that the difficulties which our
+world socialist commonwealth would encounter if it attempted to
+dispense with the rate of interest, would not necessarily include that
+of obtaining a supply of capital. It might, indeed, not find it easy
+to determine the proportions in which it should allocate its
+productive resources between immediate and distant ends. Our present
+system cannot be said to have evolved satisfactory principles for the
+solution of this question; and the socialist commonwealth would have
+to work out its own solution. But when it directed that labor and
+materials should be devoted to purposes of long-period utility, there
+would be an automatic collective saving, of which no one would be
+conscious as an individual sacrifice. Even at the present time, our
+capital is not supplied entirely by the savings of individuals, but to
+an extent, which though quite incalculable is yet certainly
+considerable, by involuntary saving of an essentially similar type to
+the above.
+
+
+§9. _Involuntary Saving_. When a municipality embarks on a municipal
+tramways scheme or any other industrial enterprise, and pays off by
+means of a sinking-fund the capital which it borrows in the first
+instance, the proceeding amounts, as the defenders of municipal
+trading have rightly claimed, to a compulsory and unconscious saving
+on the part of the citizens. Their consumption has been postponed
+willy-nilly as the result of the increased rates or the high charges
+which they have had to pay; and, when the subscribers to the original
+loan have been paid off, the capital of the community is enhanced to
+the extent of that loan. Central governments might similarly increase
+the supply of capital by devoting annual revenue to capital purposes;
+though their actual record, as it happens, is mainly of a different
+kind. But what is chiefly a possibility in the case of Governments has
+actually been carried out on an enormous scale by other institutions.
+The development of the joint-stock company system has introduced a new
+factor into the problem of the supply of capital, which is of immense
+though but dimly perceived importance. The directors of a company are
+technically no more than the servants of the shareholders. It is the
+profit of the shareholders that it is the directors' duty to promote
+with a single mind, and the whole capital of the concern, including
+its reserves both open and concealed, is the shareholders' exclusive
+property. But realities have a way of differing from forms, and just
+as in political affairs it is common to regard the State as a very
+different thing to the people who compose it, as a sublime entity with
+a separate existence of its own, so directors are apt to distinguish
+between the company and the shareholders. It is the company to which
+they owe allegiance. To pay away in dividends to shareholders money
+which they could employ in extending the business or strengthening the
+position of the company appears to some directors a necessity hardly
+less unpleasant than an increased wages bill, or an Excess Profits
+Duty. Concessions must indeed be made to the shareholders' rapacity:
+but when something has been done in this direction, dust can easily be
+thrown in their not very observant eyes. Reserves, which within
+limits are a necessity of sound finance, can be accumulated beyond
+those limits, and, when the further limits of an extreme but just
+arguable conservatism have been passed, there remain the innumerable
+devices, known to every resourceful Board, of hidden reserves, the
+secret of which is unmenaced by the meager information of a
+balance-sheet. In all this the shareholder, as the directors
+occasionally assure themselves, has no real grievance, for he will
+gain in the long run, from the appreciation in the capital value of
+his shares, all and perhaps more than all that he foregoes in the
+meantime in the way of dividends.
+
+In the long run the shareholder is not injured; but in the meantime he
+is in effect compelled, without any consciousness of the proceeding,
+to save and to reinvest in the company a portion of the dividends,
+which he might otherwise have spent. The reserves which are
+accumulated are not allowed to lie idle: they are employed either in
+what are really capital extensions of the business, or in the purchase
+of outside securities, and in either case they represent an increase
+in the total supply of capital. The principal which these proceedings
+represent is capable of indefinite extension.
+
+But however possible it might be to secure a supply of capital without
+the inducement of a rate of interest, that rate is indispensable for
+dealing with the demand. It is no good saying, "Three per cent seems
+a fair rate of interest; let us try and limit it to that." Given the
+amount of savings which are supplied, the rate of interest must be
+allowed to reach whatever figure is necessary to confine the demand to
+that amount. Given the quantity of resources which you have available
+for future needs, the meshes of the sieve must be made as narrow as is
+necessary to confine the projects that pass through within those
+limits. And so, indeed, it becomes necessary for any particular
+business to pay for its capital interest at the market rate, not so
+much to secure the saving of it as to secure its allocation from the
+common pool.
+
+
+§10. _Interest and Distribution_. It is unavoidable that this interest
+should accrue to whoever it is that supplies the capital. If the
+capital were supplied, as it might conceivably be, collectively by the
+community, the interest would accrue to the community, and all would
+be well. But as things are, the capital is supplied mainly by the
+savings of individuals, and largely by individuals confined to a
+relatively narrow class. The profits of Capital have thus a vital
+influence on the very serious matter of the distribution of wealth
+between social classes. Now, as experience shows, there is no element
+in profits which is capable of such radical change in so short a space
+of time, as is the rate of interest. Even before the war it had become
+hard for people in Great Britain to realize that 3 per cent Consols
+had stood at 114 as late as 1896. "How blest," wrote two cynical
+satirists of society in the same period:
+
+"How blest the prudent man, the maiden pure,
+Whose income is both ample and secure,
+Arising from Consolidated Three
+Per cent Annuities, paid quarterly."[1]
+
+It is impossible to read those lines now without a sense of irony,
+different from that which they were intended to convey.
+
+Not only is the rate of interest now double what it was a generation
+ago; we have no good reason to suppose that the present high level
+will quickly be reduced. The havoc of the war, of which the
+widespread poverty of Europe and the huge debts of Governments are but
+two different aspects, makes it almost inevitable that the rate should
+rule high in the present decade. This cannot but exercise a profound
+influence, of a most disquieting character on the general level of
+profits, and to a lesser extent (for here we must allow for the
+effects of high taxation) on the distribution of real wealth between
+social classes. Here we are on the threshold of tremendous issues. We
+almost feel the earth quake beneath our feet. We hear the muffled roar
+of far-reaching social controversy:
+
+"And 'mid this tumult Kubla heard from far
+Ancestral voices prophesying war."
+
+[Footnote 1: _Narcissus_, by Samuel Butler and Henry Festing Jones.]
+
+
+
+CHAPTER IX
+
+LABOR
+
+
+§1. _A Retrospect on Laissez-faire_. When, a century and a half ago,
+the foundations were being laid in the Western world of systematic
+economic theory, the public attention was much occupied with a
+subject, which indeed has not ceased to hold it: that of the failings
+of Governments. The general interest in that topic was shared by the
+pioneers of economic thought, of whom, in Great Britain, Adam Smith
+was the most notable. It was indeed their practical concern with the
+concrete economic issues of the day which very naturally gave the
+impetus to their scientific quest. It was hardly less natural that
+they should have expressed their opinions on these concrete issues
+with considerable emphasis.
+
+Now the keynote of their practical conclusions was that Governments
+were doing immense mischief by meddling with a great many matters,
+which they would have done better to leave alone. In this they were in
+general agreement with one another; incidentally--let there be no
+mistake about it--they were right. But, as invariably happens in
+public controversy, their opinions became crystallized in a compact
+formula, or cry, with unduly sweeping implications. This was the cry
+of "_laissez-faire_." Let Governments preserve law and order; and
+leave the economic sphere alone. The economists picked no quarrel with
+this formula; it served well enough for workaday purposes to indicate
+the lines of policy which they rightly thought essential in their day.
+
+The history of this cry is the history of every cry which has won a
+wide acceptance from mankind. It did good work for perhaps half a
+century; but then many crimes were committed in its name. The
+instrument which had been forged to clear away a noxious tariff jungle
+and the monstrous laws of Settlement, was turned against Lord
+Shaftesbury and the Factory Acts. Not only was inaction recommended
+to Governments as the highest wisdom; other institutions, like trade
+unions, were warned off the economic grass. An ideal of perfect
+competition became an idol to which much human flesh and blood were
+sacrificed.
+
+But, what is more to our present purpose, the idea took root of an
+intimate association between the laws of economics and the policy of
+_laissez-faire_. People who opposed some long-overdue measure of State
+regulation believed themselves to be justified by the eternal verities
+of economic law, and this claim even the advocates of the measure
+seldom ventured to dispute. They took refuge rather in a conception of
+economic law as a dangerous monster, whose claws must be clipped in
+the interests of the higher good. This notion that all interference
+with so-called "free competition," is a violation (though very likely
+fully justified) of economic laws has sunk deep into our common
+thought. So that to this day, whenever we see at work the hand of a
+State department, a trust or a trade union, we are apt to say "Demand
+and supply are here in abeyance," and possibly we add "A good thing
+too." Since in the matter of wages, the hand of the trade union is
+very generally evident, it is impossible to discuss the subject-matter
+of this chapter, until we have rid our minds of this quite baseless
+prepossession. To sweep away this cobweb, I urge the reader to recall
+here the general tenor of the analysis of the preceding
+chapters. Whether we were dealing with the price of an ordinary
+commodity, with joint products, land or capital, we came across
+relationships which seemed altogether more fundamental than our
+present industrial system; nor, we may incidentally observe, were we
+ever required to suppose that the present system was one of "perfect
+competition." These relationships were almost invariably such that
+even a world socialist commonwealth would find it necessary to
+maintain them. It was not suggested, and most certainly it must not be
+thought, that a world socialist commonwealth, or even a more modest
+remodeling of the social order would not effect great changes,
+possibly for good, and possibly for ill. The same economic laws might
+be made to bear very different fruits, but they themselves would
+remain unchanged. What is true in all these other fields--this should
+be our predisposition--is not likely to be quite untrue in the field
+of labor.
+
+
+§2. _Ideas and Institutions_. Another point is worth noting here. We
+are sometimes advised to distinguish sharply between "What should be"
+and "What is"; often two very different things. The advice is
+pertinent and useful, particularly in the sphere of sociology. But
+our incorrigible habit of confusing the two things together is not
+without justification, or at least excuse. For, in fact, they
+gravitate towards one another with a force which is just as strong as
+the capacity of man for understanding and controlling his
+environment. When we have a system which is clearly bad, _and_ when we
+see our way to make it better, we generally make the change however
+tardily. Our sense of "What should be" thus reacts upon "What is."
+Meanwhile, until we can make the system better, our appreciation of
+"What is" affects our sense of "What should be." And the more so, as
+we are sensible. For "What should be" is pre-eminently an affair of
+relativity. A man may hold very strongly that equal pay to every
+individual is desirable, as he puts it, as an ideal. But this will not
+prevent him, in a world in which managers are paid far more than
+manual workers, from maintaining hotly (at any rate, if he is
+sensible) that to pay the manager of a particular concern a manual
+worker's wage would be monstrously unfair. He would also argue that it
+would be highly inexpedient. Equity and expediency are, in fact,
+intricately intertwined in our sense of "What should be"; and our
+sense of "What should be" in the particular is governed by our
+knowledge of "What is" in the general.
+
+These may seem unnecessary commonplaces. But they have a vital bearing
+on the _modus operandi_ of economic laws. These laws do not work _in
+vacuo_. They work through the medium of the acts of men. The acts of
+men are greatly influenced by their institutions, and by their ideas
+of right and wrong. Both institutions and ideas may serve to smooth
+rather than obstruct the path of economic laws; because the laws may
+represent either "what should be" in the general, or "what is" in the
+general, and therefore "what should be" in the particular. This may
+hold true even of a trade union or a sense of "fair wages." The
+business of economic theory is not to justify a regime of
+_laissez-faire_, still less to show the folly of bringing morals into
+business. Its value is rather that it may help us, by improving our
+understanding, to shape our institutions, and to adopt our moral
+sentiments so as to promote the public welfare. With these general
+notions in our minds, let us turn to see how stands the case with
+Labor.
+
+
+§3. _The General Wage Level_. The term Labor may be used in a broad or
+in a narrow sense. It may be confined to weekly wage-earners: it may
+be extended to include all those who work, as the phrase goes, "with
+either hand or brain." It is with all classes of Labor, in the
+broadest sense of the term, that we must here concern ourselves. It
+will be convenient, however, in the first instance to ignore the
+differences between them, and to consider the forces which determine
+what we may regard as the general wage-level.
+
+The general laws of supply and demand hold good. The wages of labor
+tend to a level at which the demand is equal to the supply. For, if
+the demand exceeds the supply, if, in other words, labor is scarce,
+wages tend to rise, sooner or later in any case, and the more promptly
+in proportion as the workpeople are organized. Conversely, if the
+supply exceeds the demand, if in other Words there is general
+unemployment, wages tend to fall, and the strongest trade unions
+cannot resist the tendency, though they may delay it. Moreover, the
+higher the wages that must be paid, the smaller, other things being
+equal, is the demand for labor. For, even if we leave foreign
+competition out of account, and consider, as it were, labor throughout
+the world as a whole, the demand for labor is by no means
+inelastic. It is derived along with the demand for the other agents of
+production in the manner described in Chapter V. As was there shown,
+the greater the supply of the other agents of production, the greater
+is likely to be the demand for labor; but these other agents can be
+substituted for labor in a great variety of ways, and an increase in
+wages (unless accompanied by increased efficiency) will make it
+profitable for employers to effect such a substitution, where it was
+not profitable before. Thus, higher wages for the same labor
+efficiency must stimulate the tendency for capital to act as a
+substitute for labor at the expense necessarily (since the aggregate
+supply of capital will not be increased thereby) of its tendency to
+serve as a complement; and this must mean a decrease in the volume of
+employment. Hence the power of labor to secure a general advance of
+wages by concerted or simultaneous trade union action, applied if you
+will, not merely to every industry, but to every country, is
+necessarily very limited. Beyond a certain point, such a policy must
+result in general unemployment; and, if pushed sufficiently far, in
+unemployment so extensive that it would continue even in periods of
+active trade. Such a policy could neither be maintained in practice
+nor would it be a wise policy from the workers' point of view.
+
+In other words, given on the one hand the conditions of the demand for
+labor (i.e. the supply of capital, natural resources, business
+ability, risk-bearing and knowledge of technical processes, etc.,
+which happens to exist), and given on the other hand the supply of
+labor (i.e. both the numbers of workpeople and their efficiency), the
+wage-level in the long run is fairly rigidly determined. The
+introduction of the phrase "in the long run" in this connection is apt
+to provoke comment which may be pertinent, but may be misconceived.
+The worker, it is pointed out, is deeply concerned with "the short
+run" in which he has to live. It is very true; and it is this that
+supplies one of the many justifications of trade unionism. To secure
+for the workers advances of wages, which economic conditions justify,
+sooner than would otherwise have been obtained, is certainly no
+trivial or contemptible function. But it is none the less an illusion
+to suppose that the general wage-level can be appreciably and
+permanently raised by trade union action, except in so far as it
+increases the efficiency of the workers or incidentally stimulates the
+efficiency of the employers.
+
+
+§4. _The Supply of Labor in General_. The efficiency of labor may be
+regarded as affecting either the demand for labor on the one hand or
+the supply of it on the other, according as we look at the matter from
+the worker's or the employer's standpoint. The employer is concerned
+with the labor costs per unit of his output, the worker is concerned
+with the wages he receives. An increase in the efficiency of labor
+may, and usually will, mean both a decrease in labor costs to the
+employer and an increase in the earnings of the worker. It is thus
+wholly to the good. But the effects of an increase in the supply of
+labor in the sense of a growth in the numbers of the population are
+far more dubious. Unaccompanied by an increase in the _demand_ for
+labor, it _must_ result in a diminished remuneration for the
+individual worker. To some extent indeed the demand for labor would
+almost certainly be increased. The supply of Capital may expand,
+perhaps proportionately, perhaps more than proportionately to the
+increase in population. But one factor of production, as we have seen,
+is not capable of such expansion. This is the factor of Land, or
+Natural Resources. It is the limitation of this factor which gives
+rise to what we have most of us heard of as The Law of Diminishing
+Returns. It is this that is the essence of the problem of Population,
+portrayed in somber hues more than a hundred years ago by Malthus.
+
+This problem will form the subject of the sixth volume of the present
+series. In the meantime it may be suggested that we are easily
+credulous if we suppose that the problem has been finally disposed of
+by the peculiar progress of an abnormal century. But that experience
+has at least destroyed the view that there _need be_, or even is in
+fact in Western countries, a relation between real wages and the
+numbers of the people so close and direct that an improved standard of
+living must be temporary only, doomed to destroy itself by the
+increased population it engenders. One may perhaps go further and say
+that it is doubtful even in what direction changes in remuneration
+will influence the aggregate supply of labor. When we pass to "what
+should be," it is plain that there is nothing whatever to be said for
+the sort of relation indicated above. The view once widely held that
+the principle of population must inevitably keep the mass of people
+close to the verge of the bare means of subsistence was no statement
+of a desirable ideal. It was a nightmare; a nightmare none the less
+though it may haunt us yet. It is far from fanciful to suggest that it
+is because this relation is so obviously _not_ "what should be" that
+it may be ceasing to hold true in fact. But it would be very fanciful
+indeed to maintain that as yet "what should be" is represented by the
+actual population. Thus, just as with capital, so with labor, there is
+no reason to suppose that the aggregate supply is determined by any
+fundamental economic law, or corresponds in practice to what is
+socially desirable.
+
+
+§5. _The Apportionment of Labor among Places_. Again, as with capital,
+it is when we turn to the _apportionment_ of labor between different
+employments that both economic law and social ideal make their
+appearance. It will be well, however, to consider briefly in the
+first instance the different question of its apportionment between
+places. This was hardly necessary in the case of capital, because the
+possibilities of foreign investment are very numerous and easy: the
+mobility of capital is thus sufficiently strong (once again it is only
+_marginal_ adjustment that is necessary) to establish over at least a
+large part of the world something near to a uniform rate of
+interest. But this is not the case with labor. People do indeed move
+from place to place within a country, and from one country to another,
+in response to economic opportunities. That even the latter movement
+may be a considerable thing, the present population of the United
+States is a striking testimony. But obviously the mobility is very
+incomplete. Here, then, we have what we might _loosely_ call an
+economic law that labor tends to "flow" (as it is sometimes unhappily
+phrased) to those places where it can command the highest reward; we
+have this tendency in evidence, but it is far too weak to enable us to
+lay down what would deserve more strictly the title of an economic
+law, that in the long run the reward of the same kind of labor is
+roughly equal in all places. Perhaps we can say this for many
+districts in a single country; but for few countries is this true as
+between all their districts. As between countries, it is not remotely
+true.
+
+Here, however, the imperfection of economic law is balanced by an
+extreme uncertainty as to the ideal. Perfect mobility of labor may be
+_economically_ desirable in a very narrow sense of the term; but it
+opens out a vista of racial, national and cultural problems, into
+which it will be better for us not to enter here. We must take for
+granted the population of a country, like that of the world, as a
+given fact.
+
+When we do this, the question of its remuneration is on all fours with
+the more general question discussed above. That the remuneration of
+the labor of a country is mainly governed by the relations between
+demand and supply is an inexorable fact. In view of the international
+mobility of capital, the main distinctive factor in the demand for the
+labor of a particular country is the supply of natural resources,
+which it knows how to use. Where the natural resources are great
+relatively to the population, there wages will rule high; where the
+converse is true, wages will rule low. This result of economic
+analysis is abundantly confirmed by experience. The relatively high
+wages in the new world, the low standard of living in the densely
+populated East; the economic history of Ireland are so many
+object-lessons of its truth.
+
+
+§6. _The Apportionment of Labor among Social Grades_. The question of
+the apportionment of the labor of a country among different
+employments falls under two heads. Some differences of occupation are
+associated particularly in Great Britain with differences of what we
+know as class. The movement of labor between different social grades
+is clearly a very different thing from its movement between different
+occupations in the same grade. The grades themselves are not easy to
+define: not a little ingenuity has been expended on the attempt, and
+perhaps the best brief classification that has been put forward is one
+which divides labor into the following four grades:--
+
+(1) Automatic manual labor.
+(2) Responsible manual labor.
+(3) Automatic brain workers.
+(4) Responsible brain workers.
+
+But the matter is one perhaps for the satirist of manners rather than
+the economist. It suffices for our purpose that the distinctions,
+however vague, are very real.
+
+It is obvious the mobility of labor between the occupations of a
+platelayer and a barrister is not very great. It may seem perhaps to
+be even smaller than it is. For here it is important to bear in mind a
+general consideration which is equally applicable to horizontal
+movements within any social grade. There may be a considerable
+movement of labor between different employments without any individual
+worker having to change his occupation. The personnel of any industry
+is constantly changing. At one end, men die, retire, or are pensioned
+off; at the other end, young recruits are taken on. By a diversion of
+the new recruits from one employment to another, a radical change can
+be made in the occupational census in a comparatively short space of
+time. It is in this manner that such movement as takes place is
+largely effected at the present time. Within the ranks of the
+professional classes, a man does not commonly leave the profession to
+which he has been trained. But his _choice_ of profession is
+determined by him or his parents not solely on pecuniary grounds but
+usually with an anxious scanning of the general prospects, which
+include pecuniary advantages together with many other things. The same
+thing is true in no small measure of manual wage-earners. This general
+consideration must be borne in mind throughout the remainder of this
+chapter.
+
+But even the sons of platelayers do not commonly practise at the
+bar. The obstacles in the way are various and subtle. Many of them are
+ideas, inherited from a bygone epoch, about keeping other people "in
+their proper stations," which the whole drift of circumstance, and the
+spirit of the age are rapidly wearing down. In the new world such
+obstacles are rare. But an obstacle of a more tangible and formidable
+kind arises from the fact that the liberal professions and many
+business careers require a long and expensive education and training,
+which the platelayer is quite unable to afford to give his son.
+
+Now this expense of training is highly relevant not only to "what is,"
+but to "what should be." It includes, it should be observed, a
+negative as well as a positive element; a long period of waiting
+before income begins, as well as the actual outlay on educational and
+other charges. When the burden both of the waiting and the positive
+costs must be borne either by the individual or the family, there are
+few people who would seriously dispute that this goes to justify, on
+grounds of fairness as well as of expediency, a higher level of annual
+remuneration later on; though many people would doubtless argue that
+the amenities and dignities of the professions should be taken into
+account on the other side. But the same consideration makes it a
+matter of legitimate doubt whether it would be desirable, even as an
+ideal, that the community should provide so completely the costs of
+training and of maintenance in the waiting period, as to make it no
+longer "fair" that the individual should be remunerated more highly
+than workers in less expensive occupations. For this would mean that
+more labor would be absorbed in the former employments than in
+principle would be socially desirable, for reasons which the argument
+of the next chapter will make plain. But the most desirable number of
+doctors, barristers, teachers, etc., is not a thing which can be
+settled on purely economic grounds, and it is unprofitable to carry
+further this particular line of thought. Few people would advocate, as
+an ultimate ideal, that the remuneration of the professional grades of
+labor should exceed that of lower grades by _more_ than the extra
+expense of training and waiting they involve. That the excess is
+usually greater than this at the present time seems very probable:
+though it is a matter on which it is very hard to generalize. But it
+would certainly be far greater than it is if the principle of
+_laissez-faire_ ruled supreme in these affairs. Fortunately it does
+not, and has never done so. Even before the days of free elementary
+education, the endowment of education was not unknown. The ancient
+public schools and universities, which have come down to us from the
+Middle Ages, are a standing witness to what in this field a far poorer
+community thought fit to do. Their systems of scholarships and
+exhibitions, no less than their courts and towers, deserve our
+notice. For these were designed to form what we now call "a ladder" by
+which talent could climb from the humblest origins to the callings
+which then seemed the summit either of spiritual or of worldly
+ambition.
+
+This reference to "talent" makes it well to consider here a factor
+which necessarily complicates, though it does not substantially
+affect, the whole argument of the present chapter. There are
+differences of natural ability, which no education or training can
+obliterate, which it should rather be their business to excite. These
+differences are associated to a great extent with differences of
+occupation; they _should be_ so associated far more closely than in
+fact they are. They are also associated with differences of
+remuneration even within the same occupation; "what should be" here is
+a question which we may excuse ourselves from discussing. The
+principle which, however vague, is sufficient for our present purpose
+is that the same _natural ability_ should command the same reward in
+all occupations, subject to differences which should not exceed the
+differences of educational cost and initial waiting they involve. We
+cannot assert, as an economic law, that this is generally true in
+fact. If ever it becomes true, it will be due not to
+"_laissez-faire_," or "free competition," but to social arrangements,
+which express a sense of what is right.
+
+
+§7. _The Apportionment of Labor among Occupations_. When we pass to
+the apportionment of labor among different occupations in the same
+social grade, the same principle as to "what should be" applies in a
+simpler form. Equal natural ability should command an equal reward in
+all occupations; assuming that differences in cost of training can be
+ignored. The reward must, of course, be interpreted not in terms of
+money only but of "real wages," with allowance for the varying
+amenities of different tasks. Now it was here that the extreme
+advocates of _laissez-faire_ made one of their cardinal mistakes. They
+assumed that this ideal would be best secured by "perfect
+competition." The employer would choose the worker who would come for
+the lowest wage; the worker would choose the employer who would pay
+him the highest wage; and so, by a process similar to the higgling of
+a commodity market, the desirable uniform wage-level would become
+established. But in fact the conditions of the labor market differ
+greatly from those of a commodity market. People are ignorant, do not
+look ahead, cannot afford to risk the loss of a job, however wretched,
+which they happen to have got. For reasons such as these, a
+considerable departure from _laissez-faire_ is necessary in order to
+realize the theoretical results of _laissez-faire_. To prevent the
+putting of boys in large numbers into "blind alley" occupations, you
+must supplement the foresight of parents with Juvenile Employment
+Exchanges and After-Care Committees. To secure a proper uniformity of
+wages within the same occupation, you must have trade unions. To
+secure a proper uniformity between different occupations, you must
+have again trade unions, or, failing them, Trade Boards.
+
+That the actions of trade unions are very largely of this type is a
+fact insufficiently appreciated by the middle-class public. The
+elaborate system of piece-rate lists which has been evolved in the
+Lancashire cotton industry is primarily designed to secure the same
+wage for workers of equal efficiency in all mills, irrespective of the
+degree to which the machinery is antiquated or up to date. This result
+is wholly to the good: not only does it secure "fairness" for the
+worker, it stimulates the employer wonderfully to efficiency. The same
+result could never be secured so effectively by the free play of
+competition. But this tendency, which is easily the predominant
+element in the trade union regulations of the cotton trade, is at
+least an important element in the policy of "The Common Rule" of all
+trade unions, though it may often be mixed up with the more
+questionable tendency to eliminate differences of pay for differences
+of natural ability, and the unquestionably bad tendency to discourage
+output. As between different occupations, the insistence of a trade
+union that wages must be leveled up towards the wages obtaining in
+similar trades acts again as a far more powerful force than
+competition.
+
+But the actions of trade unions are by no means wholly of this
+type. They often serve rather to secure still higher wages for workers
+who, comparatively speaking, are already highly paid. It makes little
+difference whether this effect is secured directly by wage demands, or
+indirectly by restricting the right of the entry to the trade. In
+either case the consequences are the same, and there should be no
+ambiguity as to their nature. They are certainly bad for the
+community, certainly bad for the _other_ workers of the grade, almost
+certainly bad for the workers of the grade regarded as a whole. The
+higher wages must raise the money costs of production, and result,
+sooner or later, in fewer workpeople being employed in that
+occupation; larger numbers must accordingly seek employment elsewhere;
+and this cannot but depress the wage rates of less strongly organized
+trades. Thus the effect is twofold: a larger proportion of workpeople
+will be employed in badly paid occupations; and the wages there will
+be lessened.
+
+The power of a strong trade union to secure wage advances of this type
+is considerable, but it must not be exaggerated. Trade unions employ
+as a matter of course devices which, in the case of trusts, we regard
+as the extremest weapons of monopoly. To say, "If you buy from anyone
+except us, you must not buy at a lower price than ours," which
+Messrs. J. & P. Coats are represented as having done, is analogous to
+insisting that if non-unionists are employed, it shall be at the trade
+union rate, as every trade union very properly insists. To say, "You
+must buy _only_ from us," the method of the boycott, as it is called,
+is analogous to the very common refusal to work with non-unionists at
+all. But in one important respect the tactical position of a trade
+union is weaker than that of an ordinary combination. It has usually
+got a buyers' combination up against it, in the shape of an
+association of employers. The latter will be governed in their
+attitude towards the workpeople's demands, not only by immediate
+expediency, but also by their own sense of "what should be"; and they
+will usually resist demands for wages greatly in excess of those
+obtaining in comparable trades. In this way, the tendency for workers
+of the same efficiency to receive the same real wages in all
+employments is far stronger than might at first sight appear.
+
+If we had to rely for this result upon trade unions alone, it would be
+highly problematical. For here a psychological curiosity emerges,
+which, familiar and intelligible as it is, is none the less a
+curiosity. So far from still higher wages for well-paid workpeople
+being regarded in the world of manual labor as detrimental to the
+interests of other workpeople, it has become almost a point of honor
+to believe the contrary. A wage dispute in a particular trade is
+conceived as an engagement in a far-flung battle between Capital and
+Labor, in which success at any part of the line will facilitate the
+victory of the whole army. This conception contains a measure of
+truth, as regards immediate and purely temporary effects; though, even
+here, it is made to seem unduly plausible by the recurrence of trade
+cycles, which cause wages at any time to move in the same direction
+all along the line. But, if the foregoing analysis has been
+appreciated, the essential falsity of this notion should be evident.
+It is an illusion, which should receive no endorsement, either tacit
+or express, in any work on economics. The general wage level of a
+country cannot be regarded (except temporarily, and within narrow
+limits) as a function of the efficiency of labor organization; it
+depends on the far deeper economic facts set out in §3 above.
+
+Let us now try to summarize the conclusions of this section. There
+_is_ a tendency towards a uniformity of real wages for workers of the
+same grade and of the same efficiency. This tendency is not due to
+competition alone. It is helped by many acts of a collective kind,
+arising from a sense of "what should be"; it is obstructed by other
+acts of a like kind, where the sense of "what should be" is based on
+imperfect understanding. The more people act in accordance with "what
+should be," and the better their understanding, the more will this
+tendency approximate to an accurate economic law.
+
+
+§8. _Women's Wages_. The wages of women represent a problem of great
+public interest, upon which the principles laid down in this chapter
+have a most important bearing, and which in its turn serves to
+illustrate these principles further. It has been suggested that male
+and female labor can be regarded as a strong case of Joint Supply, and
+the suggestion is not merely facetious. The essential point, that the
+proportions of available male and female labor are fairly constant
+(not that they may not alter with time and circumstances, but that
+they are essentially independent of the conditions of demand) holds
+true not only of a country as a whole, but hardly less of a particular
+district. If men and women are to be regarded as separate grades, they
+are grades between which immobility is complete. Now men and women
+differ in many ways which affect both the demand for and the supply of
+their services. On the one hand, far fewer women wish to enter
+business employments of any kind, as women have plenty of work that
+must be done at home. On the other hand, though women can do many
+kinds of work as well as or better than men, it so happens that for
+much the greater number of services, which are in large demand in the
+business world, men are the more efficient. Incidentally, it happens
+that many occupations which women _might_ do as well as men are closed
+to them by exclusive regulations. The resultant of these forces is
+that men and women are for the most part employed in different
+occupations, and the scale of payment in women's occupations is far
+lower than that in men's. Of this last fact singularly small
+complaint is made.
+
+It is otherwise, however, when we come to occupations where men are
+either wholly or partially employed, where women are at least
+approximately as efficient as men, and where the barriers to their
+entry are at least formally removed. There a ferocious controversy
+rages over what is known as the principle of "equal pay for equal
+work." It is easy to understand why the male trade unionists in, let
+us say, the engineering trades, should support this claim. It is also,
+indeed, _intelligible_ why the enthusiasts for Women's Rights should
+urge it; but it is much more doubtful whether they are wise. Possibly
+they are wise enough in their generation, since it might not serve
+them on this matter to get across the men. But it is clearly not
+prudential considerations of this kind by which they are mainly
+actuated. They make the demand, with extreme intensity of feeling, as
+a demand for fundamental justice. They are also very obviously
+inspired with the belief (similar to the illusion which is a point of
+honor with the male trade unionist) that high wages for women in
+well-paid occupations will help to raise the wages of sweated women
+workers in other trades.
+
+Now, here again, any lack of candor would be inexcusable. The effect
+of this policy on the wages in women's trades is certainly to reduce
+them. The policy serves, as powerfully as any trade union custom, to
+restrict the entry of women into the men's employments, and often
+spells virtual exclusion. For the "equal efficiency" may be
+approximate only, and there may be advantages in male labor from the
+employer's standpoint which are none the less important, because they
+are not easy to define. Moreover, from the employer's standpoint, the
+efficacy of female labor will be largely a matter for _experiment_,
+and "equal pay" will give him no inducement to experiment at all. The
+diminished number of women in these occupations (as compared with what
+might have been) increases the number who must fall back on the purely
+women's trades; and it _must_ serve to reduce the wages there, where
+organization is by no means strong. I am far from asserting that this
+consideration is conclusive against the principle of "equal pay for
+equal work" (though I think it conclusive against a rigid
+interpretation of it); for other matters, such as the standpoint of
+the male trade unionist must be taken into account. But the reactions
+on the wages in women's trades permit of no ambiguity.
+
+In occupations of another type, the issue takes a somewhat different
+form. In the teaching profession, "equal pay" would not exclude the
+women; it would be far more likely to exclude the men. For, though the
+advocates of the principle would declare that their intention is that
+the salaries of women should be leveled up to those of men, it is more
+probable that the ultimate outcome would be a leveling down.
+Educational authorities have the ratepayer and the taxpayer to
+consider; and, apart from this, they have their own interpretation of
+"what should be." To pay a woman less than a man for the same work may
+seem glaringly unfair; but it is not very clear why a woman, who is an
+elementary school teacher, should be paid much more than, say, a
+hospital nurse, merely because in the former case a number of men
+happen also to be employed. In fact, there is a clashing of equities
+in this connection; and there is little doubt which of them the
+educational authorities would prefer. A leveling down of the men's
+salaries would make it all but impossible to attract men of the
+desired type into the profession, and would thus lead to the virtual
+extinction of the male elementary school teacher. This might seem in a
+narrow sense to be economically desirable. Why should not men take
+their services to the tasks for which they can command a higher
+reward, and which women cannot do as well? But whether this would be
+desirable in the true interests of education is a far more doubtful
+matter. And this is the real problem of "equal pay for equal work" for
+male and female school teachers. The reader will notice that I have
+refrained from alluding to the controversy as to whether men should
+receive more on the grounds that they have wives and families to
+maintain. That, although a most absorbing issue, is not the real issue
+in practice at the present time. The real issue is a clashing between
+a sense of "what should be" on obvious general grounds and a sense of
+"what should be" in the particular, derived from the very patent and
+general "what is" that men receive as a rule far higher pay than
+women.
+
+
+
+CHAPTER X
+
+THE REAL COSTS OF PRODUCTION
+
+
+§1. _Comparative Costs_. Beneath the great diversity of the
+considerations which are applicable to the different agents of
+production, certain general conclusions emerge from the analysis of
+the last four chapters. In no case did we find that the aggregate
+supply of the agent was determined by clear and certain economic laws,
+possessing any fundamental significance. The supply of natural
+resources is a fixed thing, quite independent of the efforts or the
+desires of man. However the supply of capital and the supply of labor
+may react under present conditions towards economic stimuli, these
+reactions possess no quality of inevitability and bear no clear
+relation to "what should be." The supply of risk-bearing responds
+perhaps more decidedly to the prospects of increased reward; but it is
+so intimately associated with special knowledge and the qualities of
+business enterprise, as to leave some uncertainty attaching even to
+this conclusion. When, on the other hand, we turn to the
+apportionment of these factors among different uses, we find relations
+which are both clear and fundamental. Laws emerge which state at once
+not only "what is" or at least "what tends to be," but also "what
+should be"; and it is the fact that they taste "what should be" that
+gives them their fundamental character.
+
+These conclusions enable us to give a general answer to the question
+which was raised at the end of Chapter V: What are the ultimate real
+costs to which the money cost of production correspond? The attempt
+has often been made to relate money costs to such things as the effort
+of working and the sacrifice of waiting. The existence of such costs
+is beyond dispute. Much saving does mean a sacrifice of immediate
+enjoyment to the man who saves. Most labor is irksome and disagreeable
+in itself, and involves strain and wear and tear; while all labor
+means a deprivation of the utility of leisure. Workpeople, moreover,
+do not grow on gooseberry bushes, but must be fed and clothed from the
+cradle; and their rearing and maintenance represents a real cost which
+someone must incur.
+
+But the existence (or the importance) of such costs is one thing,
+their relation to money costs is another. In Chapter VIII we saw how
+difficult it was to establish any clear relation between the rate of
+interest and the sacrifice of saving. The costs of labor present
+similar difficulties. The relative irksomeness of two occupations may
+affect the relative wages which will rule in the two cases; so,
+certainly, will the differences in the cost of education and training
+which they require. But these are matters which concern the
+_apportionment_ of labor between different employments. There is no
+good reason to suppose that the general wage-level would be reduced,
+merely because work as a whole became less irksome, or involved a
+smaller physical or mental strain. The supply of people is not
+determined by the same kind of influences as is the supply of a
+commodity. Parents do not produce children for the sake of the wages
+which the children will receive when they go out to work; or, if this
+happens, we rightly regard it as a horrible anomaly. In so far as
+parents are affected by economic conditions it is by their own
+economic conditions; the question is rather one of how many children
+they can afford to have, than of a balancing of the cost to them
+against the incomes which their children may subsequently acquire. But
+other considerations enter in; and, in fact, it is doubtful how the
+aggregate supply of labor will react to changes in prosperity.
+Finally, the supply of land involves neither effort nor sacrifice;
+and, among our money costs, we have to account for the item
+of the rent of land. To dispose of this difficulty by arguing that
+rent does not enter into marginal costs (in any sense which is not
+equally true of wages and profits) is to lose contact with
+reality. Thus the attempt to explain money costs in terms of the costs
+of producing the ultimate agents of production leads us into a
+quagmire of unreality and dubious hypothesis. For a systematic theory,
+which will rest on firm foundations, we must interpret money costs in
+very different terms.
+
+The real costs which the price of a commodity measures are not
+absolute, but comparative. Marginal money costs reduce themselves in
+the last analysis to the payments which must be made to secure the use
+of the requisite agents of productions. These payments _tend_ to equal
+the payments which the same agents could have commanded in alternative
+employments. The payments which they could have commanded in
+alternative employments, tend in their turn to equal the derived
+marginal utilities of their services in those employments. It is thus
+the loss of _Utility_ which arises from the fact that these agents of
+production are not available for alternative employments that is
+measured by the money costs of a commodity at the margin of
+production.
+
+This conception of ultimate costs encounters an instinctive
+repugnance, arising from a mistaken sense of logical symmetry, which
+it will be well to examine. Cost, it is objected, so interpreted
+loses its character as an independent entity. It is merely something
+derived from utility. Now in the earlier chapters of this volume, we
+found reason to be impressed with the general symmetry which pervades
+the relations of demand and supply. Moreover, when we considered the
+case of ordinary commodities we found that at the back of demand and
+giving rise to it was utility; at the back of supply, and limiting it,
+was cost. The general symmetry between demand and supply thus seemed
+almost to imply a fundamental symmetry between utility and cost. If,
+then, cost in the last analysis is derived from utility, does not this
+make nonsense of the symmetry between demand and supply, or, if we
+cling to this last symmetry as a demonstrable truth, must we not
+refuse to admit that cost can be derived from utility?
+
+This is one of those false dilemmas which supply the wiseacres of the
+world with a plausible case for distrusting the logical faculty. If we
+have good reason for believing that both of two apparently
+inconsistent things are true, the explanation is seldom that one of
+them is really false; it is more usually that they are not really
+inconsistent. So it is here. The symmetry between demand and supply is
+very great, and we should always look to see if it holds good, but it
+is by no means perfect, and it is in the last analysis that it most
+notably fails. It is most important to distinguish clearly between the
+utility and the cost of a commodity as two separate and independent
+things. In Chapter V, it will be remembered, we did not permit
+ourselves to derive the costs of producing cotton lint from the
+utility of cotton-seed. The refusal to do so was essential to clear
+thought; it led to some very useful practical corollaries. But to
+derive the cost of a commodity from the utility of something which is
+produced _with_ it, as part of the same productive process; and to
+derive the cost from the utilities which the agents, which help to
+produce it, possess for other purposes, are two entirely different
+things. In works on International Trade, the reader will discover that
+the comparative nature of real costs is so unmistakable that a
+Doctrine of Comparative Costs is expounded with much formality at the
+outset. This doctrine is apt to prove somewhat puzzling, when we have
+to deal with it as an apparent exception to the general tenor of
+economic theory. Its difficulties disappear when we realize clearly
+that the real cost of _anything_ is the curtailment of the supply of
+other useful things, which the production of that particular thing
+entails.
+
+
+§2. _The Allocation of Resources_. However strange the above
+conception may seem, there should be no doubt that this cost is very
+"real." Here the irregularities and maladjustments of the economic
+world, the recurrence of trade depressions and the like, do much to
+obscure a clear vision of the essential realities. At a time when
+there is much unemployment, and much machinery standing idle, it is so
+clear to common sense that we _could_ produce more of some particular
+thing without diminishing the supply of other things, that any
+apparent statement to the contrary may perhaps seem the height of
+academic pedantry. But let me ask the reader to consider with an open
+mind a familiar parallel. During the recent war there was inevitably
+much waste and muddle in the utilization of the military resources of
+the Allies. Some regiments would be kept inactive for long periods,
+not for purposes of rest or training, but owing to some defect of
+organization. In the manufacture of munitions, an insufficient
+appreciation of the principles of joint demand led to the piling up of
+excessive stores of certain materials, which were useless until
+commensurate supplies of the complementary factors could be
+obtained. It is unnecessary to multiply examples. The waste of both
+man-power and material was immense. But the allocation of these
+resources between, for instance, the various theaters of war was none
+the less a very real problem, which gave rise to much engrossing
+controversy. It was an axiom that the more resources you employed in
+Mesopotamia or in Palestine, the less resources remained available for
+France. No one thought of maintaining that, as long as there was any
+waste of these resources, so long as there remained any men to be
+"combed out" of unessential industries, you could pour troops and
+munitions into Salonika without stopping to consider the needs of
+other theaters of war. Such a notion would have been clearly imbecile,
+for the sufficient reason that the sending of armies to Salonika would
+do nothing in itself to secure (however much it might incidentally
+stimulate) the more efficient use of the resources which remained.
+
+Now this is precisely analogous to the problem of the allocation of
+our resources for the purpose of peace. Notwithstanding all the
+wastes and maladjustments of the economic system, the use of resources
+to produce one commodity _does_ in general curtail the production of
+others. The mere launching of a new business enterprise does no more
+than the sending of an army to Salonika, to eliminate waste in the
+remainder of the economic organism. Unemployment, broadly speaking, is
+a function not of the magnitude of the normal demand for labor (which
+affects rather the wage-level), but of fluctuations in the demand for
+labor; fluctuations from one day to another as at the docks, from one
+season to another as in the building trades, above all from one period
+of years to another as in the cycles of general trade boom and
+depression. Nothing will diminish unemployment which does not serve to
+diminish these fluctuations. A new business will not, as a rule, have
+any such effect. If it is launched during a trade depression (a most
+unusual proceeding), it may temporarily absorb unemployed labor and
+idle materials. But when the next boom comes, it will be using, though
+presumably to greater advantage, labor and materials which, but for
+it, would have been employed for other purposes. Meanwhile the causes
+making for unemployment will be unaffected. Miscalculations will
+still be made, the building trades will still become slack in the
+winter, the casual methods of engaging dock laborers will still
+continue, trade cycles will still recur, while beneath them, and
+concealed by them, some industries will expand and others will decay.
+Thus, like the armies at Salonika, the new business would in effect
+divert resources from elsewhere.
+
+This truth needs to be firmly grasped in mind. It is this that makes
+it in general unsound policy to subsidize industries, either directly
+or indirectly, by means of a protective tariff. It is this, indeed,
+that supplies the answer to half the economic fallacies that are
+always current.
+
+The allocation of resources so as to yield the maximum effect was
+rightly recognized as one of the most vital and difficult of our
+war-time problems. To cope with it, the Allied peoples devised one
+instrument after another, and finally evolved the Supreme Allied
+Council. The analogous problem in the economic world of peace time is
+no less important and far more difficult; but there is nothing to
+correspond to the Supreme Allied Council. There we rely upon a
+co-operation which, as was stressed in Chapter I, is unco-ordinated.
+That co-operation has been evolved by the mutual competition
+of innumerable business concerns, controlled by men largely
+animated by the motive of pecuniary profit. But it has not
+been evolved wholly by such means: and how far that competition or
+that motive of profit is essential to its efficiency are questions
+with which this volume has not been in any way concerned. The economic
+laws, the relations between utility, and price and cost, with which it
+has been occupied, are an entirely different matter; and these _are_
+essential to the efficiency of any system of society. For if the
+marginal utility of a commodity is equal to its marginal cost, and if
+this marginal cost is composed of payments to the various agents of
+production at least as great as they could have obtained if they had
+been used otherwise, this amounts to saying that the agents of
+production are so utilized as to yield the maximum utility; and this
+is the same thing as saying that they are so utilized as to produce
+the maximum wealth.
+
+
+§3. _Utility and Wealth_. Upon this last point it is important to be
+quite clear. An increase in wealth seems a solid, tangible reality;
+something, which, however much we may scorn it in our more precious
+moods, we recognize, for a rather poor community, to be an important
+object of endeavor. But an increase in utility seems a vague,
+impalpable notion, hardly deserving the same practical concern. None
+the less the two things are identical. We greatly deceive ourselves if
+we suppose wealth to be an objective reality. It is true that, when
+we get behind the money in which it is measured, we come upon
+commodities, like food and clothes and houses and factories, which
+seem comfortably solid and objective things; but we also come upon
+many services, like those of gardeners and doctors and hospital
+nurses, which we are bound to reckon as part of our wealth, although
+they are not embodied in any tangible commodities. Moreover, although
+material commodities are objective realities in themselves, and in
+many of their properties, they are _not_ objective realities in their
+property as wealth. A pair of boots is an objective fact; so is the
+number of pairs in existence at any time, so is their size, their
+weight, the quantity of leather or of paper which they happen to
+contain. But the wealth which those boots represent is not an
+objective fact. It depends upon the opinion which men and women
+entertain as to their utility; and these opinions take us into the
+subjective regions of human psychology. Let us suppose, for instance,
+that we calculated, on the basis of present prices, that the boots in
+existence at the present time represented 1/1000 part of our total
+wealth. Suppose, then, that a miracle were to happen; that the skies
+opened and rained boots upon us, of every size and shape and pattern,
+until we had 1000 times as many boots as we had before. Could we say
+that our total real wealth had been doubled? Clearly we could not. To
+obtain boots for nothing, and to wear a new pair every week, would
+make us somewhat better off, but not twice as well off as we were
+previously. In other words, the real wealth of a thousand times as
+many boots as we have now, is not a thousand times as great as the
+wealth of the present number of boots. We are, indeed, practically
+restating the Law of Diminishing Utility; and this perhaps is enough
+to show that wealth is fundamentally the same thing as utility.
+
+Another point, however, is worth noting. Our real wealth would be
+somewhat increased in the case supposed; but if we were to turn to the
+money measure of wealth, the opposite result would be far more likely,
+For the price of boots would most likely fall to nothing, and the
+total value of boots, in the commercial sense, would accordingly be
+nothing also. This shows that money values may be a most imperfect
+measure of aggregate wealth; for what money values represent is the
+product of the quantity of the commodity and its _marginal_ utility,
+while aggregate wealth is _total_ utility, which is a very different
+thing. This, it may be observed, makes all attempts to compare the
+wealth of different countries or different times, and no less to
+construct Index Numbers of Prices, imperfect of necessity, and
+arbitrary in their foundations.
+
+
+§4. _Criteria of Policy_. The point has now been reached at which we
+must take into account the very important fact which was mentioned at
+the close of Chapter III. The maximum utility which the laws of
+supply and demand tend to bring about is a maximum _total_ utility
+indeed, but one still measured in terms of money. An unequal
+distribution of wealth destroys any necessary correspondence between
+that and the maximum _real_ utility. This consideration, however, does
+not affect the general validity of the conclusion that the laws of
+supply and demand represent what is socially desirable now or under
+any system. For what is at fault here is the distribution of wealth;
+and it is that which should be changed, in so far as it is possible to
+do so. Now it is important to realize that whenever it is possible to
+supply a commodity to poor people below cost price, it is possible to
+alter the distribution of wealth, for that in effect is what is
+done. Purchasing power, which may be taken from richer people by
+taxation, or which may be obtained from "collective" profits on other
+trading, is in effect transferred to the poor people in question,
+though the transference is coupled with the condition that the
+purchasing power must be expended in a particular way. It is _in
+general_ desirable that the transference should be made without this
+condition being attached. To this general statement, exceptions indeed
+exist so numerous and important as possibly to justify a great
+extension of social expenditure of this type. Education should
+certainly be provided free of charge, there are strong arguments for
+subsidizing housing; the provision of milk to expectant mothers, the
+feeding of school children, such instances can be multiplied into a
+very extensive list. But it is important to observe that in each case
+the justification of the policy rests in the presumption that the
+service supplied is one which it is particularly important that the
+beneficiaries should have, _as compared with_ the other things upon
+which they might have preferred to expend the equivalent purchasing
+power, had it been transferred to them without conditions. Where there
+is no such presumption, as surely there is none in the case of the
+great bulk of commodities, the relation between price and marginal
+cost should be rigidly maintained; it is the distribution of
+purchasing power which we should rather seek to alter. How far is it
+possible to alter that?
+
+I suppose that it is inevitable that many readers will have concluded
+that the preceding chapters must be taken to mean that the
+distribution of wealth is not susceptible of any appreciable change. I
+would remind those readers of an important distinction upon which
+impatient people have sometimes based a complaint against
+economists. The economist, it is said, analyses with great pomp and
+ceremony the laws governing the distribution of wealth among the
+agents of production, but says practically nothing about the
+distribution between individuals and classes, which is the only thing
+of any real interest to practical people. Now the economist
+concentrates on the agents of production for the very good reason that
+it is only with respect to them that any clear and certain laws as to
+distribution can be laid down. Into the distribution between
+individuals and classes there enter other and variable factors,
+governed by no fundamental economic law; and _here_, the conclusion
+should at once suggest itself, is the field for action designed to
+alter the distribution of wealth. What is possible or desirable in
+this field, it is again not the purpose of this volume to discuss. It
+is an obvious, even if not a very helpful conclusion that an increase
+in the habit of saving among weekly wage-earners might, without
+appreciably affecting the distribution between Capital and Labor,
+greatly modify the resulting distribution between social classes. But
+questions as to how far it might be possible or justifiable to achieve
+a similar result by the use of the weapon of taxation, by changes in
+inheritance laws, or by the public ownership of industry take us into
+a far more uncertain and controversial sphere. The difficulties and
+objections which present themselves are familiar and formidable; but
+they are of quite a different order from the economic laws which we
+have been examining. The laws themselves do not entitle us to make any
+dogmatic pronouncement upon these large issues of social policy.
+
+But this is not to deprive these laws of practical importance. They
+represent essential criteria of sound policy in the sphere of social
+reorganization no less than in ordinary business. In our days a
+curious obsession has led many people to disparage these criteria, as
+though they were the sordid prejudices of a stupid tradesman. Because
+it has been found a matter of obvious practical convenience to
+maintain the roads out of taxation or of rates, and to dispense with
+charges for their use, it is suggested that the same principle should
+be applied to the railways. Or, more commonly, because it has been
+found convenient to make the same charge for the carrying of letters
+between Land's End and John o' Groats as between Hampstead and
+Highgate, it is suggested that _this_ principle should be applied to
+railway rates and fares. It may be well, therefore, to point out that
+the justification of uniform postal charges rests upon the facts: (1)
+that the costs of collection, sorting, etc., are so large a part of
+the costs of carrying a letter, that the real cost between John o'
+Groats and Land's End does not differ from that between Hampstead and
+Highgate by as much as might at first sight appear, (2) that the
+charges in any case are very small; so that (3) the avoidance of the
+small degree of taxes and bounties which the present system implies is
+not worth the book-keeping expenses which differential charges would
+involve. It should be obvious that these considerations apply to the
+railways with a greatly diminished force. They might possibly justify
+what is known as the "zone" system of charges, i.e. uniform rates
+within certain narrow areas. But the notion of uniform rates
+throughout Great Britain conjures up a vision of trains taking coal
+from South Wales to Scotland, and others taking coal from Scotland to
+South Wales, in accordance with the slightest preferences of the
+consumers, and without regard to the extra real cost involved, on a
+scale to which the "wastes of competition" afford no parallel. It
+would in fact achieve the essential folly of "sending coals to
+Newcastle." These considerations, however, are not what interest the
+advocates of the postal principle. They seem to recommend the
+obliteration or the confusion of the relations between price and cost
+as a superior ideal. It is important to be clear what exactly this
+ideal involves.
+
+It involves, in the first place, as the whole argument of this volume
+has gone to show, a less economical employment of our productive
+resources; they would be diverted to ends of less utility, and so
+produce less real wealth. But this is not the worst. There is plenty
+of waste and maladjustment in our economic system at the present
+time. The desirable relation of price to marginal cost is but
+imperfectly attained. The further departures from this relation, which
+would follow from any likely applications of the postal principle,
+might not matter in themselves so very much. What is far more serious
+is that the criteria of efficiency would become blunted, and the clear
+aims of management would be confused in fog. It is essential that
+every manager should be on the alert to eliminate waste and to improve
+efficiency, that he should be always trying to secure the best
+results; but how can he do this if he has no simple means of
+_measuring_ what results are good and what are bad? The measure which
+he has at present is that of price, cost and the resultant profit, and
+it would be fatal to take that away, unless an equally simple and more
+accurate measure could be substituted for it.
+
+This is not a question, it should be observed, of motive or
+incentive. Very likely we much exaggerate the importance of the profit
+motive. It may be true that men would work, perhaps that they already
+work in fact, as zealously for a fixed salary, as for personal
+gain. But aim and motive are two somewhat different things, and the
+_aim_ of profit, is, and will remain, essential to the efficient
+conduct of business. In a game the players are not animated by the
+motive of scoring runs or points, but they aim at them; and the zest
+disappears very speedily from the game, if that aim ceases to be of
+interest. Moreover, while a scoring system is always a somewhat
+arbitrary thing, measuring imperfectly the true merits of the play, if
+it measures them with the roughest accuracy, we prefer the issue of
+our games to be decided so, rather than by the decisions of an
+impartial judge, who can take into account the finest points of
+skill. So it is in the world of business. The scoring-board of profits
+may be an imperfect one; let us, by all means, where we can, alter the
+rules of the game so as to make it better. But let us not imagine that
+it displays a finer insight or a superior intellect to speak as though
+the scoring-board could be dispensed with, and the test of profit and
+loss treated as irrelevant. Quantitative measurement is essential to
+efficiency. Let us be careful to remember all that this implies.
+
+
+INDEX
+
+
+Ability
+Accountancy
+Allocation of resources
+Ambiguities
+Australasia
+
+Bastiat, Frederic
+Beef and hides
+Borrowing and lending, system of
+Business efficiency
+Business man as a purchaser
+Business risk
+
+Capital;
+  as representing a period of waiting;
+  distribution;
+  distribution and rate of interest;
+  effect on labor of an increased supply;
+  not a stock of consumable goods;
+  reaction of price charges on;
+  reflections upon;
+  supply;
+  supply as affected by charges in interest rate
+Capital goods
+Capital market
+Capitalism
+Capitalist
+Chance
+Coal industry, cost of production and price;
+  miners' wages
+Coats, J. & P.
+Collective saving
+Commodities;
+  labor as a commodity
+Competition
+Composite demand
+Composite supply
+Consumable goods
+Consumers' goods and producers' goods
+Consumption, margin of;
+  waiting for
+Control and risk-taking
+Controversy
+Coöperation;
+  unorganized
+Cost, general relation of price, utility and cost;
+  price relation to;
+  rent as factor in real costs;
+  ultimate;
+  utility and
+Cotton and cotton-seed;
+  contrast to wool and mutton
+Cotton industry
+Criteria of policy
+Currency inflation
+Cycles
+
+Demand, ambiguity of expression "increase in demand,";
+  derived;
+  elastic and inelastic;
+  _see also_ Composite demand; Joint demand; Supply and demand
+Derived demand
+Derived utility
+Diagrams, use of
+Diminishing utility;
+  money and
+Directors
+Distribution of wealth;
+  interest rate and
+Dividends
+Division of labor
+
+Economic laws;
+  fundamental character
+Economic theory;
+  fact and
+Economic world, orderly nature
+Education
+Efficiency
+Elastic demand
+Employers' associations
+Enterprise
+Entrepreneur
+"Equal pay for equal work,"
+Expectation
+
+Fact and theory
+Farmers
+Fortunes
+
+Gambling
+Government, enterprises;
+  failings
+
+Hides and beef
+Houses
+Housewife as purchaser
+Housing
+
+Ideas and institutions
+Incompetents
+Increase in demand, ambiguity
+Index numbers
+Inelastic demand
+Inflation
+Institutions and ideas
+Insurance companies;
+  significance
+Interest;
+  necessity of
+Interest rate;
+  changes and their effect on supply of capital;
+  distribution and;
+  price of land and
+Intuition
+
+Joint demand;
+  importance of the unimportant;
+  marginal utility under;
+  summary of considerations
+Joint products;
+  cost of production
+Joint-stock company
+Joint supply, marginal cost under;
+  summary of considerations
+
+Keynes, J. M.
+
+Labor;
+  apportionment among occupations;
+  apportionment among places;
+  apportionment among social grades;
+  as a commodity;
+  cost, difficulty of estimating;
+  division;
+  effect of increased supply of capital;
+  four grades;
+  mobility;
+  product of;
+  reaction of price changes on;
+  supply in general
+_Laissez-faire_;
+  retrospect on
+Land, characteristics;
+  differential aspect;
+  margin of transference;
+  marginal;
+  price and rent, relation;
+  question of real costs;
+  scarcity aspect;
+  supply;
+  tenure;
+  urban;
+  _see also_ Rent
+Landlords
+Large scale business
+Laws, fundamental
+
+Malthus, T.R.
+Management
+Margin, danger of ignoring
+Margin of consumption
+Margin of production
+Margin of transference
+Marginal cost, aspects;
+  misinterpretation;
+  under joint supply
+Marginal land
+Marginal purchaser
+Marginal utility;
+  price relation to;
+  under joint demand
+Market
+Marshall, Alfred
+Marx, Karl
+Mill, J. S.
+Miners
+Monetary changes, disturbances of
+Money, diminishing utility
+Monte Carlo
+Mutton. _See_ Wool and Mutton
+
+Natural ability
+Normal conditions
+
+Occupations;
+  apportionment of labor among
+Order, economic
+
+Pasture versus tillage
+Pigou, A. C.
+Policy, criteria
+Population
+Postal charges
+Poverty;
+  national
+Price, consequences of higher;
+  general relation with utility and cost;
+  law of tendency;
+  marginal utility and;
+  post-war;
+  reaction of changes in demand and supply;
+  relation of demand and supply to;
+  utility and
+Producers' goods
+Production, power of;
+  real costs;
+  waiting for
+Professions
+Profiteering
+Profits;
+  elements;
+  general analysis;
+  in risky industries
+Protective tariff
+Psychology and economics
+Purchasers, business man;
+  housewife;
+  marginal
+Purchasing power
+
+Railway rates
+Railways
+Rate of interest. _See_ Interest rate
+Rent;
+  complex character;
+  marginal land;
+  necessity;
+  rate of interest and
+Reserves
+Residuary profits
+Resources, allocation
+Risk, reward for;
+  under large-scale organization
+
+Satisfaction
+Saving;
+  individual;
+  involuntary;
+  psychology;
+  social
+School teachers
+Service
+Serving cotton
+Shareholders
+Sinking-fund
+Situation
+Smith, Adam
+Social grades, labor movement among
+Socialism
+Speculation
+Steel smelters
+Subsidies, industrial
+Substitutes
+Supply, reactions of price changes on;
+  _see also_ Composite supply; Joint supply
+Supply and demand, changes in, and their reaction on price;
+  forces behind;
+  general laws;
+  relation of price to;
+  wages and
+Supreme Allied Council
+
+Teachers
+Theory, economic
+Thrift
+Tillage versus pasture
+Trade cycles
+Trade depression
+Trade unions;
+  actions;
+  wage level and
+
+Ultimate real costs
+Unearned increment
+Unemployment;
+  trade union policy and
+Utility;
+  cost and;
+  derived;
+  general relation of price, utility and cost;
+  law of diminishing utility;
+  law of diminishing utility as applied to money;
+  marginal;
+  price relation to;
+  wealth and
+
+Wages, general wage level;
+  trade unions and;
+  women's
+Wages Fund
+Waiting, essence of;
+  for consumption;
+  for production
+Waste, economic
+Wealth, distribution;
+  utility and
+"What should be" and "What is,"
+Women's wages
+Wool and mutton;
+  contrast to cotton and cotton-seed
+Workers' control
+
+
+
+
+
+End of Project Gutenberg's Supply and Demand, by Hubert D. Henderson
+
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+<!DOCTYPE HTML PUBLIC "-//W3C//DTD HTML 4.01 Transitional//EN">
+<html>
+<head>
+  <title>Supply and Demand</title>
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+<pre>
+
+The Project Gutenberg EBook of Supply and Demand, by Hubert D. Henderson
+
+This eBook is for the use of anyone anywhere at no cost and with
+almost no restrictions whatsoever.  You may copy it, give it away or
+re-use it under the terms of the Project Gutenberg License included
+with this eBook or online at www.gutenberg.org
+
+
+Title: Supply and Demand
+
+Author: Hubert D. Henderson
+
+Release Date: January 6, 2004 [EBook #10612]
+
+Language: English
+
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+</pre>
+
+<a name="iii"> </a>
+<h1>Supply and Demand</h1>
+<p>
+by Hubert D. Henderson M.A.
+</p>
+<p>
+with an Introduction by J.M. Keynes M.A., C.B.
+</p>
+<a name="iv"> </a>
+<p>1922.
+</p>
+<a name="v"> </a>
+<p><a href="#contents">Skip to Contents</a><br>
+<a href="#Index">Skip to Index</a></p>
+<h2>Introduction</h2>
+<p>
+The Theory of Economics does not furnish a body
+of settled conclusions immediately applicable to policy.
+It is a method rather than a doctrine, an apparatus of
+the mind, a technique of thinking, which helps its
+possessor to draw correct conclusions. It is not difficult
+in the sense in which mathematical and scientific
+techniques are difficult; but the fact that its modes of
+expression are much less precise than these, renders
+decidedly difficult the task of conveying it correctly to
+the minds of learners.
+</p>
+<p>
+Before Adam Smith this apparatus of thought
+scarcely existed. Between his time and this it has been
+steadily enlarged and improved. Nor is there any
+branch of knowledge in the formation of which Englishmen
+can claim a more predominant part. It is not
+complete yet, but important improvements in its
+elements are becoming rare. The main task of the
+professional economist now consists, either in obtaining
+a wide knowledge of <i>relevant</i> facts and exercising
+skill
+in the application of economic principles to them, or in
+expounding the elements of his method in a lucid,
+accurate and illuminating way, so that, through his
+instruction, the number of those who can think for
+themselves may be increased.
+</p>
+<p>
+This Series is directed towards the latter aim. It
+is intended to convey to the ordinary reader and to the
+uninitiated student some conception of the general
+<a name="vi"> </a>principles of thought which economists now apply to
+economic problems. The writers are not concerned to
+make original contributions to knowledge, or even to
+attempt a complete summary of all the principles of the
+subject. They have been more anxious to avoid obscure
+forms of expression than difficult ideas; and their
+object has been to expound to intelligent readers,
+previously unfamiliar with the subject, the most significant
+elements of economic method. Most of the
+omissions of matter often treated in textbooks are
+intentional; for as a subject develops, it is important,
+especially in books meant to be introductory, to discard
+the marks of the chrysalid stage before thought had
+wings.
+</p>
+<p>
+Even on matters of principle there is not yet a
+complete unanimity of opinion amongst professors.
+Generally speaking, the writers of these volumes believe
+themselves to be orthodox members of the Cambridge
+School of Economics. At any rate, most of
+their ideas about the subject, and even their prejudices,
+are traceable to the contact they have enjoyed with the
+writings and lectures of the two economists who have
+chiefly influenced Cambridge thought for the past fifty
+years, Dr. Marshall and Professor Pigou.
+</p>
+<p>
+J.M. Keynes.
+</p>
+<a name="vii"> </a>
+<h2><a name="contents">Contents</a></h2>
+<h3 class="chap_head"><a href="#Chapter_I">Chapter I</a></h3>
+<h3 class="chap_name">The Economic World</h3>
+<p>
+&sect;1. Theory And Fact <a href="#1">1</a>
+</p>
+<p>
+&sect;2. The Division Of Labor <a href="#3">3</a>
+</p>
+<p>
+&sect;3. The Existence Of Order <a href="#5">5</a>
+</p>
+<p>
+&sect;4. Some Reflections Upon Joint Products <a href="#7">7</a>
+</p>
+<p>
+&sect;5. Some Reflections Upon Capital <a href="#11">11</a>
+</p>
+<p>
+&sect;6. The Fundamental Character Of Many Economic
+Laws <a href="#17">17</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_II">Chapter II</a></h3>
+<h3 class="chap_name">The General Laws of Supply and Demand</h3>
+<p>
+&sect;1. Preliminary Statement Of Three Laws <a href="#18">18</a>
+</p>
+<p>
+&sect;2. Diagrams And Their Uses <a href="#21">21</a>
+</p>
+<p>
+&sect;3. Ambiguities Of The Expressions, "Increase In
+Demand," Etc. <a href="#24">24</a>
+</p>
+<p>
+&sect;4. Reactions Of Changes In Demand And Supply On
+Price <a href="#27">27</a>
+</p>
+<p>
+&sect;5. Some Paradoxical Reactions Of Price Changes On
+Supply <a href="#30">30</a>
+</p>
+<p>
+&sect;6. The Disturbances Of Monetary Changes <a href="#33">33</a>
+</p>
+<p>
+&sect;7. The Trade Cycle <a href="#34">34</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_III">Chapter III</a></h3>
+<h3 class="chap_name">Utility and the Margin of Consumption</h3>
+<p>
+&sect;1. The Forces Behind Supply And Demand <a href="#37">37</a>
+</p>
+<p>
+&sect;2. The Law Of Diminishing Utility <a href="#40">40</a>
+</p>
+<a name="Viii"> </a>
+<p>&sect;3. The Relation Between Price And Marginal
+Utility <a href="#43">43</a>
+</p>
+<p>
+&sect;4. The Marginal Purchaser <a href="#44">44</a>
+</p>
+<p>
+&sect;5. The Business Man As Purchaser <a href="#47">47</a>
+</p>
+<p>
+&sect;6. The Diminishing Utility Of Money <a href="#49">49</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_IV">Chapter IV</a></h3>
+<h3 class="chap_name">Cost and the Margin of Production</h3>
+<p>
+&sect;1. An Illustration From Coal <a href="#52">52</a>
+</p>
+<p>
+&sect;2. The Various Aspects Of Marginal Cost <a href="#55">55</a>
+</p>
+<p>
+&sect;3. The Dangers Of Ignoring The Margin <a href="#57">57</a>
+</p>
+<p>
+&sect;4. A Misinterpretation <a href="#59">59</a>
+</p>
+<p>
+&sect;5. Some Consequences Of A Higher Price Level <a href="#60">60</a>
+</p>
+<p>
+&sect;6. General Relation Between Price, Utility And
+Cost <a href="#65">65</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_V">Chapter V</a></h3>
+<h3 class="chap_name">Joint Demand and Supply</h3>
+<p>
+&sect;1. Marginal Cost Under Joint Supply <a href="#66">66</a>
+</p>
+<p>
+&sect;2. Marginal Utility Under Joint Demand <a href="#69">69</a>
+</p>
+<p>
+&sect;3. A Contrast Between Cotton And Cotton-Seed, And
+Wool And Mutton <a href="#71">71</a>
+</p>
+<p>
+&sect;4. The Importance Of Being Unimportant <a href="#74">74</a>
+</p>
+<p>
+&sect;5. Capital And Labor <a href="#76">76</a>
+</p>
+<p>
+&sect;6. Conclusions As To Joint Supply And Joint Demand <a href="#79">79</a>
+</p>
+<p>
+&sect;7. Composite Supply And Composite Demand <a href="#79">79</a>
+</p>
+<p>
+&sect;8. Ultimate Real Costs <a href="#82">82</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_VI">Chapter VI</a></h3>
+<h3 class="chap_name">Land</h3>
+<p>
+&sect;1. The Special Characteristics Of Land <a href="#83">83</a>
+</p>
+<p>
+&sect;2. The Scarcity Aspect <a href="#84">84</a>
+</p>
+<a name="Ix"> </a>
+<p>&sect;3. The Differential Aspect <a href="#87">87</a>
+</p>
+<p>
+&sect;4. The Margin Of Transference <a href="#94">94</a>
+</p>
+<p>
+&sect;5. The Necessity Of Rent <a href="#98">98</a>
+</p>
+<p>
+&sect;6. The Question Of Real Costs <a href="#100">100</a>
+</p>
+<p>
+&sect;7. Rent And Selling Price <a href="#102">102</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_VII">Chapter VII</a></h3>
+<h3 class="chap_name">Risk-Bearing and Enterprise</h3>
+<p>
+&sect;1. Profits And Earnings Of Management <a href="#104">104</a>
+</p>
+<p>
+&sect;2. The Payment For Risk-Bearing <a href="#104">104</a>
+</p>
+<p>
+&sect;3. Monte Carlo And Insurance <a href="#105">105</a>
+</p>
+<p>
+&sect;4. Risk Under Large Scale Organization <a href="#111">111</a>
+</p>
+<p>
+&sect;5. The Entrepreneur <a href="#113">113</a>
+</p>
+<p>
+&sect;6. Risk-Taking And Control <a href="#116">116</a>
+</p>
+<p>
+&sect;7. General Analysis Of Profits <a href="#117">117</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_VIII">Chapter VIII</a></h3>
+<h3 class="chap_name">Capital</h3>
+<p>
+&sect;1. A Reference To Marx <a href="#119">119</a>
+</p>
+<p>
+&sect;2. Waiting For Production <a href="#120">120</a>
+</p>
+<p>
+&sect;3. Waiting For Consumption <a href="#121">121</a>
+</p>
+<p>
+&sect;4. Capital Not A Stock Of Consumable Goods <a href="#123">123</a>
+</p>
+<p>
+&sect;5. The Essence Of Waiting <a href="#126">126</a>
+</p>
+<p>
+&sect;6. Individual And Social Saving <a href="#127">127</a>
+</p>
+<p>
+&sect;7. The Necessity Of Interest <a href="#129">129</a>
+</p>
+<p>
+&sect;8. The Supply Of Capital <a href="#130">130</a>
+</p>
+<p>
+&sect;9. Involuntary Saving <a href="#134">134</a>
+</p>
+<p>
+&sect;10. Interest And Distribution <a href="#137">137</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_IX">Chapter IX</a></h3>
+<h3 class="chap_name">Labor</h3>
+<p>
+&sect;1. A Retrospect On Laissez-Faire <a href="#139">139</a>
+</p>
+<p>
+&sect;2. Ideas And Institutions <a href="#141">141</a>
+</p>
+<a name="X"> </a>
+<p>&sect;3. The General Wage-Level <a href="#143">143</a>
+</p>
+<p>
+&sect;4. The Supply Of Labor In General <a href="#145">145</a>
+</p>
+<p>
+&sect;5. The Apportionment Of Labor Among Places <a href="#147">147</a>
+</p>
+<p>
+&sect;6. The Apportionment Of Labor Among Social Grades <a href="#149">149</a>
+</p>
+<p>
+&sect;7. The Apportionment Of Labor Among Occupations <a href="#153">153</a>
+</p>
+<p>
+&sect;8. Women's Wages <a href="#157">157</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_X">Chapter X</a></h3>
+<h3 class="chap_name">The Real Costs Of Production</h3>
+<p>
+&sect;1. Comparative Costs <a href="#162">162</a>
+</p>
+<p>
+&sect;2. The Allocation Of Resources <a href="#166">166</a>
+</p>
+<p>
+&sect;3. Utility And Wealth <a href="#170">170</a>
+</p>
+<p>
+&sect;4. Criteria Of Policy <a href="#172">172</a>
+</p>
+<a name="1"> </a>
+<h1>Supply and Demand<br>
+</h1>
+<h3 class="chap_head"><a name="Chapter_I"></a>Chapter I</h3>
+<h3 class="chap_name">The Economic World</h3>
+<p>
+&sect;1. <i>Theory and Fact</i>. The controversy between the
+"Theorist" and the "Practical Man" is common to
+all branches of human affairs, but it is more than usually
+prevalent, and perhaps more than usually acrid in the
+economic sphere. It is always a rather foolish controversy,
+and I have no intention of entering into it, but
+its prevalence makes it desirable to emphasize a platitude.
+Economic theory must be based upon actual
+fact: indeed, it must be essentially an attempt, like all
+theory, to <i>describe</i> the actual facts in proper sequence,
+and in true perspective; and if it does not do this it is
+an imposture. Moreover, the facts which economic
+theory seeks to describe are primarily economic facts,
+facts, that is to say, which emerge in, and are concerned
+with, the ordinary business world; and it is, therefore,
+mainly upon such facts that the theory must be based.
+People sometimes speak as though they supposed the
+economist to start from a few psychological assumptions
+(e. g. that a man is actuated mainly by his own self-interest)
+and to build up his theories upon such foundations
+by a process of pure reasoning. When, therefore,
+some advance in the study of psychology throws into
+<a name="2"> </a>apparent disrepute such ancient maxims about human
+nature, these people are disposed to conclude that the
+old economic theory is exploded, since its psychological
+premises have been shown to be untrue. Such an
+attitude involves a complete misunderstanding not
+merely of economics, but of the processes of human
+thought. It is quite true that the various branches of
+knowledge are interrelated very intimately, and that
+an advance in one will often suggest a development in
+another. By all means let the economist and psychologist
+avoid a pedantic specialism and let each stray
+into the other's province whenever he thinks fit. But
+the fact remains that they are primarily concerned
+with different things: and that each is most to be
+trusted when he is upon his own ground. When,
+therefore, the economist indulges in a generalization
+about psychology, even when he gives it as a reason for
+an economic proposition, in nine cases out of ten the
+economics will not depend upon the psychology; the
+psychology will rather be an inference (and very
+possibly a crude and hasty one) from the economic
+facts of which he is tolerably sure.
+</p>
+<p>
+But the purpose of economic theory is not merely to
+describe the facts of the economic world; it is to describe
+them in their proper sequence and true perspective.
+It must begin with those facts which are
+most general and which have the widest possible
+significance. Those are not likely to be the facts
+which our practical experience forces most insistently
+upon our notice. For it is the particular and not the
+general, the differences between things rather than their
+resemblances, that concern us most in daily life. Nor
+<a name="3"> </a>are we likely to find the universal facts which we
+require in the sphere of public controversy. We must
+rather look for them in the dark recesses of our consciousness,
+where are stored those truths which are so
+obvious that we hardly notice them, which are so indisputable
+that we seldom examine them, which seem so
+trite that we are apt to miss their full significance.
+</p>
+<p>
+&sect;2. <i>The Division of Labor</i>. There is one such truth
+in the economic sphere which it is essential to appreciate
+vividly and fully, with the widest sweep of the imagination
+and the sharpest clarity of thought. Man lives by
+cooperating with his fellow-men. In the modern
+world, that cooperation is of a boundless range and an
+indescribable complexity. Yet it is essentially undesigned
+and uncontrolled by man. The humblest
+inhabitant of the United States or Great Britain depends
+for the satisfaction of his simplest needs upon
+the activities of innumerable people, in every walk of
+life and in every corner of the globe. The ordinary
+commodities which appear upon his dinner table
+represent the final product of the labors of a medley of
+merchants, farmers, seamen, engineers, workers of
+almost every craft. But there is no human authority
+presiding over this great complex of labor, organizing
+the various units, and directing them towards the
+common ends which they subserve. Wheel upon
+wheel, in a ceaseless succession of interdependent
+processes, the business world revolves: but no one has
+planned and no one guides the intricate mechanism
+whose smooth working is so vital to us all. Man, indeed,
+can organize and has organized much. Within
+<a name="4"> </a>a large factory the efforts of thousands of
+work-people,
+each engaged on the repetition of a single small process,
+are fitted together so as to form an ordered whole by
+the conscious direction of the management. Sometimes
+factory is joined with factory, with farms, fisheries,
+mines, with transport and distributing agencies,
+as one gigantic business unit, controlled by a common
+will. These giant businesses are remarkable achievements
+of man's organizing gifts. The individuals who
+control them wield an immense power, which so impresses
+the public imagination that we dub them
+"kings," "supermen," "Napoleons of industry." But
+how small a portion of man's economic life is dominated
+by such men! Even as regards the affairs of their own
+businesses, how narrow, after all, are the limits of their
+influence! The prices at which they can buy their
+materials and borrow their capital, the quantities of
+their products which the public will consume, are
+factors at once vital to their prosperity and outside
+their own control.
+</p>
+<p>
+A great business, like a nation, may cherish visions of
+self-sufficiency, may stretch its tentacles forward to the
+consumer and backwards to its supplies of raw material;
+but each fresh extension of its activities serves only
+to multiply its points of contact with the outside world.
+When those points are reached, the largest business,
+like the smallest, is out on the open sea of an economic
+system immeasurably larger and more powerful than
+itself. There it must meet&mdash;the better perhaps for its
+inherent strength and accumulated knowledge&mdash;the
+impact of rude forces, which it is powerless to control.
+Beneath the blasts of a trade depression, or some other
+<a name="5"> </a>tendency of world-wide scope, the authority of the
+mightiest industrial magnate, and equally of any
+Government, assumes the same essential insignificance
+as the pride of a man humbled by contact with the
+elemental powers of nature.
+</p>
+<p>
+&sect;3. <i>The Existence of Order</i>. The parallel can be
+pursued further with advantage. Just as in the world
+of natural phenomena, which for long seemed to man so
+wayward and inexplicable, we have come gradually
+to perceive an all-pervading uniformity and order; so
+there is manifest in the economic world, uniformity,
+order, of a similar if less majestic kind. Upon the
+cooperation of his fellowmen, man depends for the very
+means of life: yet he takes this cooperation for granted,
+with a complacent confidence and often with a naive
+unconsciousness, as he takes the rising of to-morrow's
+sun. The reliability of this unorganized cooperation
+has powerfully impressed the imagination of many
+observers.
+</p>
+<p>
+"On entering Paris which I had come to visit,"
+exclaimed Bastiat some seventy years ago, "I said to
+myself&mdash;Here are a million of human beings who would
+all die in a short time if provisions of every kind ceased
+to flow towards this great metropolis. Imagination is
+baffled when it tries to appreciate the vast multiplicity
+of commodities which must enter to-morrow through
+the barriers in order to preserve the inhabitants from
+falling a prey to the convulsions of famine, rebellion,
+and pillage. And yet all sleep at this moment, and their
+peaceful slumbers are not disturbed for a single instant
+by the prospect of such a frightful catastrophe. On
+<a name="6"> </a>the other hand, eighty departments have been laboring
+to-day, without concert, without any mutual understanding,
+for the provisioning of Paris."
+</p>
+<p>
+The theme may well excite wonder. But wonder
+should always be watched with a wary eye; for he is
+apt to bring in his train a hanger-on called worship,
+who can do nothing but mischief here. It is a short step
+from a passage like that quoted above to a glorification
+of the existing system of society, to a defence of all
+manner of indefensible things; and a cross-grained
+attitude towards all projects of reform. It is a short
+step; but it is one which it is quite unjustifiable to take.
+For the evils of our economic system are too plain to be
+ignored; too many people have harsh personal experience
+of the wastefulness of its production, the injustice
+of its distribution; of its sweating, its unemployment
+and slums. And when the attempt is made to plaster
+over evils, such as these with obsequious rhetoric about
+the majesty of economic law, it is not surprising that the
+spirit of many men should revolt and that they should
+retort by denying the existence of order in the business
+world, by declaring that the spectacle which <i>they</i> see is
+one of discord, confusion and chaos. And then we are
+engulfed in a controversy as stale, flat and unprofitable
+as that between the "theorist" and the "practical
+man."
+</p>
+<p>
+The truth is that the language of praise and obloquy
+is quite inappropriate. In the first place, it may be well
+to note that the order of which I have spoken manifests
+itself not merely in those economic phenomena which
+are beneficial to man, but hardly less in those which
+work to his hurt. Even in those alternations of good
+<a name="7"> </a>and bad trade, which spell so much unemployment and
+misery, there is discernible a rhythmic regularity like
+that of the process of the seasons, or the ebb and flow
+of the tide. This is not an elegance to be admired. Furthermore,
+in so far as the order comprises adjustments
+and tendencies which are beneficial (as, indeed, is
+mainly true), there is no warrant for assuming that these
+are either adequate to secure a prosperous community
+or dependent upon the social arrangements which happen
+to exist. Let us, therefore, refrain from premature
+polemics and examine in a spirit of detachment some
+further aspects of the elaborate, but yet unorganized,
+cooperation of which so much has been already said.
+</p>
+<p>
+&sect;4. <i>Some Reflections upon Joint Products</i>. A quite
+inadequate idea of the complexity of this co&ouml;peration
+is obtained by dwelling on the numbers of people who
+participate in it, or the immense distances over which it
+extends. The deficiency can be partially supplied by
+referring to some of the more obvious of the many
+subtle interconnections which exist between different
+commodities and different trades.
+</p>
+<p>
+There are innumerable groups of commodities (which
+it is customary to term "joint products") such that the
+production of one commodity belonging to the group
+necessarily implies or very greatly facilitates the production
+of the others. Wool and mutton; beef and
+hides; cotton and cotton-seed are a few familiar illustrations.
+The important feature of these "joint products"
+is the fairly precise relation which must exist
+between the quantities in which the different products
+are supplied. If you plant a certain crop of cotton, it
+<a name="8"> </a>will yield you so much cotton lint and so much
+cotton-seed.
+You can, of course, if you choose, throw away
+part of the seed, as indeed at one time planters used to
+do; but unless you do this, you cannot vary the proportions
+of the two things which you will have for sale.
+Similarly, if you keep a flock of sheep, or a herd of cattle,
+you will obtain wool and mutton in the one case, or beef
+and hides in the other, in proportions, which indeed you
+can vary within certain limits by choosing a different
+breed,[<a href="#8f1">1</a>] but which you cannot radically transform.
+When, however, we turn to the uses to which these
+products are put, no similar relation is to be discovered.
+Cotton lint is used chiefly for making articles of clothing;
+cotton-seed for crushing into oil, on the one hand,
+and cake for cattle fodder on the other. There is no
+apparent connection of any kind between the demands
+for these different things, and still less is there any
+obvious reason why these demands should bear to one
+another the particular proportions which characterize
+their respective supplies. It is very much the same with
+wool and mutton; with beef and hides; with all "joint
+products." Why should we consume mutton on the
+one hand and woolen clothing on the other, in a ratio
+at all commensurate with that in which they are
+yielded by the sheep?
+</p>
+<p class="footnote">
+<a name="8f1">[1]</a> These possibilities of small variation are of
+very great
+importance
+as will be shown in Chapter V, but they do not affect the
+present argument.
+</p>
+<p>
+What, then, might we expect to find if order was nonexistent
+in the economic world? Surely that some
+things such as wool would be produced in quantities
+many times in excess of the demand for them, quite
+<a name="9"> </a>possibly five, ten, or twenty times in excess; while
+conversely the supplies of others such as mutton might
+fall far short of what was required. But in practice we
+find nothing of the sort. Somehow it comes about
+that an equilibrium is established between the demand
+for and the supply of every commodity; and that this
+applies to wool and mutton, to beef and hides, as surely
+as to commodities which are produced quite independently.
+It is true that this equilibrium is a rough,
+imperfect one; and it may happen that what is called a
+"glut" of wool may co-exist for a short period with
+what is called a scarcity of mutton. But qualifications
+of this nature are in the strictest sense of the phrase, the
+exceptions which prove the rule. For the departures
+from equilibrium which gluts and scarcities represent
+are always transient and are usually confined within
+narrow limits. A strong prevailing trend towards an
+adjustment of demand and supply is unmistakably
+manifest amid all the vagaries of changing circumstance.
+Let me carry the argument a step further for the
+benefit of any reader who is restrained by a repugnance
+too deep and instinctive to be readily overcome, from
+admitting fairly to his mind that conception of order
+which I am endeavoring to emphasize. He will in all
+probability be one who, cherishing ideals of a better and
+fairer system of society, looks forward to a time when an
+organized co&ouml;peration will be substituted for what he
+regards as the existing chaos. Let us suppose that his
+visions were fulfilled as completely as he could desire;
+and that an immense system of Socialism were in existence,
+embracing not one country only, but the whole
+world. Suppose all the difficulties of human perversity
+<a name="10"> </a>and administrative technique to have been surmounted
+and a wise, disinterested executive to be in supreme
+control of our business life. Let us suppose all this, and
+ask only the question: How would this executive treat
+the humdrum case of wool and mutton? How would
+it decide the number of sheep it would maintain?
+</p>
+<p>
+Shall we suppose that it is inspired by the ideal "to
+each according to his need," and that it resolves accordingly
+that the commodities which people require for a
+decent standard of life shall be supplied to them as a
+matter of course? How, then, would it proceed? It
+might estimate the amount of woolen clothing which a
+normal family requires, allowing for differences in
+climate, and possibly indulging somewhat the caprices
+of human taste. On this basis, a certain number of
+sheep would be indicated. It might perform a similar
+calculation for mutton, and again a certain number of
+sheep would be indicated. But it would be an extraordinary
+coincidence if the numbers which resulted
+from these independent calculations were nearly equal
+to one another, or were even of the same order of magnitude;
+and, if they differed widely, what number would
+our world executive select? Would it decide to waste
+an immense quantity of either wool or mutton; or
+would it decide that it could not, after all, supply
+the full human needs for one or other of the commodities?
+</p>
+<p>
+Of course, if the executive were sensible it could solve
+the problem satisfactorily enough. It could retain the
+monetary system we know to-day and it could supply
+the commodities to the consumers, not as a matter of
+right, but by selling them to them <i>at a price</i>. This price
+<a name="11"> </a>it could then move upwards or downwards, raising,
+say,
+the price of mutton and reducing that of wool, until it
+found that the consumption of the two things was
+adjusted in the required ratio. But if it acted in this
+manner, what essentially would it be doing? It would
+be seeking by deliberate contrivance to reproduce, in
+respect of this particular problem, the very conditions
+which occur to-day without aim or effort on the part of
+anyone at all.
+</p>
+<p>
+The moral of this illustration must not be misinterpreted.
+It does not show the folly of Socialism or the
+superiority of Laissez-faire. What it does show is the
+existence in the economic world of an order more
+profound and more permanent than any of our social
+schemes, and equally applicable to them all.
+</p>
+<p>
+&sect;5. <i>Some Reflections upon Capital</i>. Another aspect
+of the great cooperation is of even greater significance.
+It embraces not only a multitude of living men, but it
+links the present together with the future and the past.
+The goods and services which we enjoy to-day we owe
+only in part to the labors of the week, the month, or
+the year, only in part even to the efforts of our contemporaries.
+The men, long since dead and forgotten, who
+built our railways, or sunk our coal mines, or engaged
+in any of a great variety of tasks, are still contributing
+to the satisfaction of our daily wants. The expression
+is not altogether fanciful; for, had it not been reasonable
+to expect that those labors would be of use to us to-day,
+many of them in all probability would never have been
+undertaken. It was to meet our present wants, and
+even our future wants, that many men toiled on monotonous
+<a name="12"> </a>tasks ten, twenty, thirty years ago. And yet,
+of course, we should deceive ourselves if we supposed
+that this was the motive of these men, that our welfare
+was the centre of their heart's desire. We in our turn
+dedicate to the future, and often to a distant future,
+an immense portion of our energies. Let any reader
+who doubts this, study the statistics of the occupations
+of the people, and reflect on how long a period must
+elapse before the labors of this trade or that can fulfil
+their ultimate function. How long would the period be
+in the case of a man making bricks, which will later be
+employed in the erection of a factory, where machinery
+will be made, to equip an electrical generating station
+designed to supply, over a period of many years, light,
+heat, and power to people living in a remote Continent?
+A longer time, it may be hazarded, than he is accustomed
+to look ahead.
+</p>
+<p>
+Like the daily cooperation of living men, this cooperation
+of past, present and future is essential to the
+well-being of mankind, and yet it is undesigned and
+unorganized. As private individuals, men do, indeed,
+deliberately provide for their own future, and for that
+of their kith and kin: as the directors of businesses,
+they try to forecast the trend of demand. But such
+conscious calculations and deliberate acts would avail
+little if they stood alone. They are hardly more than
+the necessary spokes in the great wheel which regulates
+the relations of past, present and future. The hub of the
+wheel is an elaborate system of borrowing and lending,
+essentially similar to the buying and selling of commodities.
+The private individual in order to provide
+for his family or for his old age "saves" and "invests."
+<a name="13"> </a>But what exactly does this mean? It means that he
+transfers so much purchasing power, which he might
+have spent on his personal pleasures, to some one else
+in return for the expectation of receiving, year by year
+in the future, he and his heirs after him, a certain smaller
+quantity of purchasing power. The other party to
+the transaction will be, we may suppose, a business
+man who enters into it because he sees the opportunity
+of a promising industrial development, to undertake
+which he requires more purchasing power than he himself
+possesses. And, because this transaction is entered
+into, a smaller number of us will shortly be engaged in making
+motorcars, or gramaphones, and a larger number
+of us in making factories and machinery, which will
+later enhance the world's productive power.
+</p>
+<p>
+Many transactions of the kind take place daily in
+modern communities, and their multiplicity gives rise
+to a mass of phenomena with which we are all tolerably
+familiar. We recognize a short-loan market, a stock
+exchange, a number of "markets" where lenders and
+borrowers are brought together by the aid of various
+intermediaries, such as banks, bill brokers, and stock
+jobbers, who correspond to dealers in commodities.
+Between these different specialized markets, we are
+aware of an interconnection so close and strong that we
+speak more generally of a Capital Market, of which the
+stock exchange, the short-loan market and so forth, are
+the component parts. Now, "market" is a word which
+was originally used to denote a place where tangible
+commodities were bought and sold; and the more
+closely we examine the phenomena of the Capital
+Market, the more closely do we perceive the profound
+<a name="14"> </a>resemblance between the mechanism of borrowing and
+lending, and that of buying and selling. Corresponding
+to the price of a commodity is the rate of interest (in
+the short-loan market we actually call the rate of Discount
+"the price of money," and speak of money being
+cheap or dear); and between the rate of interest, the
+demand for and the supply of capital there exist relations
+precisely similar to those between price, demand,
+and supply in commodity markets. Above all there is
+the same strong prevailing trend towards an adjustment
+of demand and supply.
+</p>
+<p>
+This fundamental resemblance between two such
+apparently incommensurable things as the buying of
+material commodities and the borrowing of capital is
+highly significant; it is another instance of that order
+in the economic world, of which the reader may now
+be growing weary. But so difficult is it to see clearly
+and fully something which one sees, as it were, every
+day of one's life, that a few more moments of reflection
+on the special case of capital will be time well spent.
+Let us revert then to our fantasy of a world socialist
+commonwealth; and humbly submit another poser
+to its supreme executive. The question this time will be
+whether some great constructional work, such, let us
+say, as the recently mooted Severn barrage scheme,
+should or should not be undertaken. Let us suppose
+that the costs and future benefits of the undertaking
+can be estimated accurately; and that the problem
+reduces itself to one of expending now a sum, let us say,
+of $100,000,000, with the prospects of obtaining in the
+future an income of power, or whatever it may be, worth
+$5,000,000 per annum. I have assumed for the sake of
+<a name="15"> </a>simplicity that we shall still be reckoning in terms
+of
+money, though possibly the executive may have
+substituted Marxian labor units; but it is quite immaterial
+to the present argument what the measuring
+rod may be. The point to be observed is, that it is
+impossible to tackle the problem at all without the
+conception of a rate of interest. For suppose that you
+tried to do without it, and said, "We shall take a long
+view. The interests of the future are no less our concern
+than those of the present; we shall not discriminate
+between them. We shall regard as an enterprise worthy
+to be undertaken whatever promises to yield in the
+course of time a return larger than the outlay." Where
+will this lead you? The particular proposal set out
+above would clearly pass the test; for in twenty years
+the resultant benefits would have added up to a figure
+equivalent to the initial cost. But equally clearly,
+the cost might have been more than $100,000,000; it
+might have been $250,000,000, $500,000,000, whatever
+figure you care to take, and if you extend the period
+similarly to fifty or one hundred years, sooner or later
+the gains would top the cost. Now there is no limit to
+the enterprises which would pay their way on this
+basis; and it would be quite impossible to undertake
+them all. For they would swallow up all and more than
+all your labor and your materials, and would leave
+you with no resources with which to meet the recurrent
+daily wants of men. Clearly, then, in some way or
+other, you must pick and choose, you must reject some
+enterprises as <i>insufficiently</i> worth while. But how
+would you proceed to choose? Without a clear principle,
+a simple criterion to guide you, you would be
+<a name="16"> </a>plunged in utter chaos. You could not say, "Let all
+proposals involving capital expenditure be submitted
+to a central committee, who shall compare them with
+one another in a sort of competitive examination and,
+after deciding the number of applications they can pass
+on the basis of the volume of resources which they can
+devote to the future, award the places to those which
+head the list." Such a prospect is a nightmare of
+officialism and delay. You would be driven to formulate
+a simple, intelligible rule or measure, and leave
+that rule to be applied by the unfettered judgment of
+innumerable men to individual problems, as and when
+they arose. And for such a rule or measure, you could
+not do better than a rate of interest; you would have to
+lay it down that only those projects should be approved
+which promised a return of 6 per cent, or whatever
+it might be. Even in deciding what it should be,
+the limits of your choice would be narrowly confined.
+If, for instance, you fixed on 1 or 2 per cent, you would
+probably discover that you had not achieved your
+object, that the undertakings for distant returns which
+passed this test, still consumed far more resources than
+you could spare. You would be compelled then to raise
+the rate until it had cut these enterprises down within
+manageable limits. But, once more, what essentially
+would you be doing? You would be using the instrument
+of the rate of interest to adjust the demand for
+and supply of capital, though indeed the interest might
+not be paid away as now to private individuals. You
+would be reproducing by the method of deliberate trial
+and error, the adjustments which occur automatically
+as things are, in the actual world. Once again the most
+<a name="17"> </a>perfectly contrived Utopia would be compelled to pay
+to the unorganized co&ouml;peration of our epoch the sincerest
+flattery of imitation.
+</p>
+<p>
+&sect;6. <i>The Fundamental Character of many Economic
+Laws.</i> But again perhaps a word of warning may be
+desirable. There is much controversy in these days
+about something called "Capitalism" or "The capitalist
+system." When these words are used with any precision,
+they usually refer to the arrangement so prevalent
+at present, whereby the ownership and sole
+ultimate control of a business rests with those who hold
+its stocks and shares. There is much to be said upon
+the merits and demerits of this system; something will
+perhaps be said upon the matter in the fifth volume of
+this series; but I shall not discuss it here. Nothing
+that I have said so far has any real bearing on it whatsoever;
+to suppose that it has, is indeed to miss the
+whole point of this chapter.
+</p>
+<p>
+The order, which I have sought to reveal, pervading
+and moving the most diverse phenomena of the
+economic world, would be a far less noteworthy and
+impressive thing were it merely the peculiar product of
+capitalism. Merchant adventurers, companies, and
+trusts; Guilds, Governments and Soviets may come and
+go. But under them all, and, if need be, in spite of them
+all, the profound adjustments of supply and demand will
+work themselves out and work themselves out again
+for so long as the lot of man is darkened by the curse
+of Adam.
+</p>
+<a name="18"> </a>
+<h3 class="chap_head"><a name="Chapter_II"></a>Chapter II</h3>
+<h3 class="chap_name">The General Laws of Supply and Demand</h3>
+<p>
+&sect;1. <i>Preliminary Statement of Three Laws</i>. The recognition
+of order in any branch of natural phenomena is
+but the prelude to the formulation of a set of laws,
+the simpler as the order is more universal, which describe,
+and as we say, explain it. Thus the perception
+of the even, elliptical courses of the heavenly bodies led
+to the statement of the law of gravitation and the laws
+of motion.
+</p>
+<p>
+In economics, similar laws have long since been
+enunciated, and have proved themselves such valuable
+instruments for the understanding of the daily problems
+of the workaday world, that they have been woven
+into the texture of our ordinary speech and thought.
+I have already touched upon them in the preceding
+chapter. But it is now desirable to set them out in
+order, in the most concise and formal manner possible.
+</p>
+<div class="law">
+I. When, at the price ruling, demand exceeds
+supply, the price tends to rise. Conversely
+when supply exceeds demand the price tends
+to fall.
+</div>
+<div class="law">
+II. A rise in price tends, sooner or later, to
+decrease demand and to increase supply.
+Conversely a fall in price tends, sooner or
+<a name="19"> </a>later, to increase
+demand and to decrease
+supply.
+</div>
+<div class="law">
+III. Price tends to the level at which demand is
+equal to supply.
+</div>
+These three laws are the cornerstone of economic
+theory. They are the framework into which all analysis
+of special, detailed problems must be fitted. Their
+scope is very wide. I have purposely refrained from
+introducing into my statement of them any reference
+to commodities; for they extend far beyond commodities.
+Subject to an important qualification, they
+apply to capital, the price paid for the use of capital
+being what we call the rate of interest. They apply
+hardly less to "services," to the remuneration of labor
+of every kind and grade. People sometimes protest
+warmly against the idea of treating labor "like a commodity."
+If this indignation expresses no more than a
+belief that in matters concerning conditions of work,
+and relations between employees and the management,
+the sensibilities of human nature should be taken into
+due account, it is based on elementary decency and
+commonsense. But if, as sometimes appears, it is
+directed against the fact that the remuneration of
+labor is controlled by the laws of supply and demand,
+it is a mere baying at the moon, with singularly little
+provocation. For these laws are in no way peculiar to
+commodities, and it is no one's fault that they include
+commodities too within their scope.
+<p>But let us go back to the laws themselves, and probe
+them and dissect them, and turn them this way and
+that, so that we may perceive their full content, and
+<a name="20"> </a>grasp it firmly in our minds. The third law implies
+a
+prevailing tendency for demand to be equal to supply.
+This tendency, as was suggested in Chapter I, can be
+verified by anyone from his experience and observation
+(provided he is a reasonable person, and not the tiresome
+kind who would dispute the law of gravitation
+because he sees that a feather falls to the ground more
+slowly than a stone). But it can also be deduced as a
+corollary from the two preceding laws; and to regard it
+in this way will help us to appreciate its significance.
+Start, for instance, by supposing that demand is in
+excess of supply. Then the price will tend to rise. After
+the price has risen, the supply will become larger, while
+the demand will fall away. The excess of demand
+with which we started will thus clearly be diminished.
+But if there remains any portion of this excess, the
+same reactions will continue; the price will rise further,
+and for the same reason; demand will be further
+checked and supply further stimulated. In other words,
+these forces must persist until the entire excess of
+demand over supply is eliminated. If we start by
+supposing supply to exceed demand, the converse chain
+of sequences will operate. Now these very simple steps
+of reasoning illuminate the nature of the normal equilibrium
+of demand and supply. They reveal that the
+equilibrium is established and maintained by the
+agency of <i>changes in price</i>, and they enable us to lay it
+down as perhaps the most important thing that can be
+said about the price of anything that it will tend to be
+such as will equate demand and supply. But that is not
+all that they reveal. They reveal also the extreme
+dependence of both demand and supply upon price.
+<a name="21"> </a>Now this is a fact which it is most important to
+realize
+vividly. It is apt to be obscured by customary modes
+of speech. In ordinary times the prices of most commodities
+and services do not change by very much,
+unless indeed over a long period of years; the amounts
+demanded and supplied may therefore seem to maintain
+a fairly constant level; and we may be tempted to
+speak of Great Britain producing so many million tons
+of coal, or America consuming so many millions of
+motor-cars per annum, almost as though these quantities
+were independent of price considerations. But
+we should never forget that there is no service or commodity
+produced by man, however essential it may
+seem, the demand for or the supply of which might not
+be reduced to nothing, if the price were sufficiently
+raised on the one hand, or lowered on the other. How
+easy it is sometimes to forget this simple truth may be
+seen from the mistake so commonly made of supposing,
+because the peoples of Central Europe were left, on the
+cessation of the war, starving and destitute of the
+means of life and the materials of work, that they must
+necessarily become heavy purchasers of imported
+goods; without pausing to consider whether the prices
+were such as they could afford to pay.
+</p>
+<p>
+&sect;2. <i>Diagrams and their Uses</i>. It will help to prevent
+mistakes like this and more generally to make sharp and
+clear the fundamental relations which exist between
+demand, supply and price, if we exhibit them pictorially
+in the form of a diagram. Such diagrams are of great
+service in many parts of economic theory, not because
+they can prove anything which could not be proved
+<a name="22"> </a>otherwise, but because, being really a simpler
+medium
+of expression than words, they enable the mind to
+grasp more readily and to retain more vividly the essential
+facts of complex relations.
+</p>
+<object type="image/svg" data="files/fig1.svg">
+<img alt="figure 1" height="311" width="354" src="files/fig1.png"></object>
+<p>Figure 1</p>
+<p>
+In Fig. 1 the curve DD' represents the conditions of
+demand. It is supposed to be drawn in such a way that
+if any point, Q, be taken on the curve, and the perpendicular QN be
+drawn to meet the base line, or axis OX,
+then ON will represent the amount that will be demanded
+at a price represented by QN (or O<i>l</i>). In other
+words, distances measured along OY represent prices,
+and distances measured along OX represent quantities
+of the commodity, or service, or whatever it may be.
+Clearly, then, the demand curve, DD', must slope
+downwards from left to right, since the lower the
+price asked, the greater will be the amount demanded.
+Similarly the curve SS' represents the conditions of
+<a name="23"> </a>supply. It is supposed to be so drawn that if any
+point <i>q</i> be taken upon it, and the perpendicular <i>q</i>N
+be drawn to meet OX, then ON will represent the
+amount that will be supplied at a price represented by
+<i>q</i>N (or O<i>k</i>). Equally clearly this supply curve must
+slope upwards from left to right, since the higher the
+price obtainable, the greater will be the quantity
+offered. Take the point P where the two curves meet,
+and draw the perpendicular PM to meet OX. Then
+the third law enunciated at the beginning of this
+chapter corresponds to the statement that PM or O<i>m</i>
+will represent the price at which the commodity or
+service will be exchanged.
+</p>
+<p>
+It can readily be seen that no other price could be
+maintained. For suppose the price to be less than O<i>m</i>,
+suppose it to be O<i>k</i>, then, at this price, ON (or <i>kq</i>)
+will
+be the amount supplied, and <i>kr</i> the amount demanded.
+The demand will thus exceed the supply, and the
+price will tend to rise, i.e. to move upwards towards
+O<i>m</i>. Similarly if we suppose the price to be O<i>l</i>, which
+is larger than O<i>m</i>, the supply (<i>l</i>R) will exceed the
+demand (<i>l</i>Q) and the price will fall downwards towards
+O<i>m</i>. Thus, again, we have deduced Law III from
+Laws I and II with the form and precision of a
+proposition in Euclid. Now, when once the eye has
+become familiar with this diagram, it ought to be
+impossible for the mind to lose even momentarily its
+grip on the fact that demand and supply are both
+dependent upon price. For these curves do not represent
+any particular amounts; they represent a series of
+<i>relations</i> between amount and price; if the price is
+QN the amount demanded is ON, and so forth. The
+<a name="24"> </a>terms demand and supply in the sense, in which I
+have been using them, of the respective amounts demanded
+and supplied are, indeed, strictly meaningless
+without reference to some particular price. The
+reference may sometimes be implicit; but, whenever
+there is a chance of ambiguity, it should be explicitly
+made.
+</p>
+<p>
+&sect;3. <i>Ambiguities of the Expressions, "Increase in Demand,"
+etc.</i> It is the more important to be precise
+upon this point, in that there is a further possible
+confusion which we have now to consider. Demand
+and supply, as we have seen, are dependent upon
+price; but equally clearly they are dependent upon
+other things as well. Demand depends upon the needs,
+tastes and habits of the people, as well as upon the
+length of their purse; supply depends upon such things
+as the cost of production in the case of commodities.
+None of these things are constant factors, all of them
+are liable to change, and it may well happen that we
+shall want to consider in some concrete problem the
+probable consequences of such a change. Now the
+most usual and natural way of describing such changes
+in the medium of words is to use the expression "increase"
+or "decrease in demand," and "increase"
+or "decrease in supply," the same expressions, which
+we employed before to describe the consequences of a
+change in price. This identity of language conceals
+a fundamental distinction between the phenomena
+described; and to make this distinction plain we cannot
+do better than revert to our diagrammatic presentation
+of the laws.
+</p>
+<a name="25"> </a>
+<object type="image/svg" data="files/fig2.svg"><img alt="figure 2"
+ height="329" width="342" src="files/fig2.png"></object>
+<p>Figure 2</p>
+<p>
+In Fig. 2 we start as before with our demand curve,
+and supply curve, cutting one another at the point P.
+We then suppose that some alteration takes place in
+the conditions of demand; there has been a growth
+in the general taste for the commodity or service, and
+the demand, as we say, has increased accordingly.
+How is this fact to be represented in the diagram?
+Plainly not by taking another point on the curve, DD',
+at a further distance from OY. For this would merely
+indicate the larger amount that would be taken, if the
+conditions of demand had remained unaltered but the
+sellers had reduced their prices. The correct way of
+representing the change we have supposed is to construct
+a new demand curve (in the figure, the dotted
+<a name="26"> </a>curve <i>dd'</i>), lying at every point above the
+old demand
+curve. For this indicates that larger quantities will
+be purchased at the old prices, which is exactly what
+we want to represent. Similiarly if we wish to represent
+a change in the conditions of supply, such as might
+result, in the case of a commodity, from a tax imposed
+on its production, we must draw a new supply curve,
+<i>ss'</i>, which in the case supposed, must lie everywhere
+above the old supply curve. On the other hand, the
+decrease or increase in demand or supply, <i>resulting</i>
+from a change in price, is represented simply by a
+shifting of the equilibrium from one point to another on
+the same curve. The striking pictorial contrast between
+a movement from one curve to another, and a
+movement along the same curve should help to make
+vivid to our minds the fundamental distinction between
+a change in the <i>conditions</i> of demand, arising from new
+tastes, enhanced purchasing power, etc.; and a mere
+change in the amount purchased resulting from an
+alteration in the price which the sellers ask. Words,
+as this necessarily cumbrous sentence shows, are a
+clumsy instrument for the expression of abstract
+relations; it is not very easy to see which words in a
+sentence are the significant, commanding ones, and
+which are performing, as it were, ordinary routine
+duties. A diagram is not exposed to similar ambiguities
+of emphasis.
+</p>
+<p>
+The particular distinction, to which attention has
+been called, is important. The reader who has grasped
+it clearly will be able to perceive many instances of the
+confusion arising out of its neglect in the ordinary
+discussions of economic questions which take place
+<a name="27"> </a>in the press and on the platform. It is not
+uncommon,
+for instance, for an argument to run something like
+this: "The effect of a tax on this commodity might
+seem at first sight to be an advance in price. But an
+advance in price will diminish the demand; and a
+reduced demand will send the price down again. It
+is not certain, therefore, after all, that the tax will
+really raise the price." A glance at the diagram will
+keep us out of such a bog of sophistry and muddle.
+For if we suppose the amount of the tax per unit of the
+commodity to be represented by S<i>s</i>, the curve <i>ss'</i>
+(drawn, as it is, roughly parallel to SS') will represent
+the new conditions of supply after the tax has been
+imposed. The new position of equilibrium will be
+given by the point P', where <i>ss'</i> cuts DD', the demand
+curve. Now P' lies to the left of P the old point of
+equilibrium; hence, since DD' <i>must</i> slope downwards
+from left to right, it is clear that, if, as it is fair here to
+assume, the <i>conditions</i> of demand have remained unaltered,
+the new price P'M', must be greater than the old.
+</p>
+<p>
+&sect;4. <i>Reactions of Changes in Demand and Supply on
+Price.</i> Having now made clear the meaning that must
+be attached to the terms, let us consider the question
+which naturally arises, whether we can lay down any
+general propositions or laws as to the effect upon
+price, of an increase or decrease in demand or supply.
+Another glance at the diagram suggests that we can.
+An increase in demand is represented in Fig. 2 by a
+movement from DD' to <i>dd'</i>, which cuts the supply
+curve, SS', at <i>p</i>, to the right of P. Since the supply
+curve (drawn, as it is best to draw it, to represent the
+<a name="28"> </a>amount which will be supplied in response to a given
+price) must always slope upwards from left to right,
+the new price, <i>pm</i>, must be greater than the old, PM.
+Conversely a decrease in demand is represented by a
+movement from <i>dd'</i> to DD', and the new price is
+seen to be less than the old. We have already seen
+that a decrease in supply, which is represented by a
+movement from SS' to <i>ss'</i> results in a higher price;
+and it is the obvious converse that an increase in
+supply will have the opposite effect. It would seem
+then that we might lay down quite generally that an
+increase in demand or a decrease in supply will raise the
+price while a decrease in demand or an increase in
+supply will lower it.
+</p>
+<p>
+But here it is necessary to be cautious. All conclusions
+as to the effects of causes are necessarily based,
+implicitly, if not explicitly, upon the assumption
+"other things being equal." This method of reasoning,
+which some people appear to find so irritating in the
+economic sphere, and as they say so "theoretical"
+and "unreal," is one which they adopt readily enough
+in every other department of life. No one, for instance,
+objects to the statement that the sun, when it comes
+out, makes a room warmer, although it may very
+well happen, if a fire is dying at the same time, that
+the room grows colder in point of fact. For in our
+general statement we assume implicitly that "other
+things" such as fires, are unchanged. But assumptions
+of this kind are legitimate only when there is no reason
+to suppose that the cause, the effects of which are
+being studied, will itself produce a change in the "other
+things." If (as I have often been told; I really do not
+<a name="29"> </a>know if it is true) the rays of the sun help to put
+a
+fire out, the statement made above would be the better
+for some qualification.
+</p>
+<p>
+Now we can only say that an increase in demand
+raises price if we assume the conditions of supply (as
+represented by the supply curve) to remain unchanged.
+But in practice, an increase in demand may cause a
+change in the <i>conditions</i> of supply. An increase, for
+instance, in the demand for a commodity may give rise
+to a revolution in the methods of production, to the
+introduction of labor-saving machinery and so forth,
+which will eventually result in the commodity being
+produced more cheaply. It will certainly take a considerable
+time before reactions of this kind can exert
+an appreciable influence; and we can, therefore, feel
+reasonably sure that over a short period an increase in
+demand will raise the price. But we cannot be sure
+what the ultimate effect will be. A similar alteration in
+the condition of demand is less likely to result from an
+increase or decrease in supply; but it may conceivably
+occur. We must, therefore, be careful to qualify any
+general propositions which we lay down in this connection,
+by explicit reference to a short period of time.
+We can add the following to our body of laws:&mdash;
+</p>
+<div class="law">
+IV. An increase in demand, or a decrease in supply
+will tend to raise the price for a short period at
+least. Conversely a decrease in demand, or an
+increase in supply will tend to lower the price
+for a short period at least.
+</div>
+<p>
+This law, like the others, applies to commodities,
+services, capital, to anything which can be said, literally,
+<a name="30"> </a>or by analogy, to have a price. "A short period"
+is, however, a vague expression and, since precision is
+the hallmark of an important law, we must accord to
+this one a status inferior to that which the preceding
+three can rightly claim.
+</p>
+<p>&sect;5. <i>Some paradoxical reactions of price changes on
+supply.</i> Let us turn, though, once more to these
+earlier laws, and with a heightened critical sense let us
+submit them to the test of the whole gamut of our
+experience, and see if in any of them we can find the
+smallest flaw. The first of them will pass through
+the ordeal&mdash;let each reader prove it for himself&mdash;unscathed.
+The second will emerge with a few hairs,
+as it were, singed. It tells us, for instance, that a rise
+in price will tend to augment the supply. Now there
+are some things the supply of which cannot possibly
+be augmented; these are the capital resources of nature,
+of which land is the most important for our present
+purpose. Land is bought and sold, it commands a
+price. In a certain sense, it may be said to be possible
+to increase the supply of land, in response to a rise in
+price, by drainage and reclamation schemes; and it
+will certainly happen that a rise in the price which
+land can command for any particular purpose will
+increase the amount which is devoted to that purpose.
+But, speaking broadly, the supply of land available
+for purposes of every kind is a fixed unvarying factor,
+with an inertia which the cajolery of price-changes is
+powerless to disturb. This is a most important fact,
+and it gives rise to some peculiar features of the price
+and rent of land, which we shall have to consider later
+<a name="31"> </a>as a separate problem. It constitutes a limiting
+case
+rather than an exception to the general law. But we
+have not yet done with the reactions of price upon
+supply. In the case of capital, the nature of those reactions
+has been much discussed as a highly controversial
+question. That a rise in the rate of interest will
+cause some people to save more than before, is generally
+admitted; but it is pointed out that the effect upon
+others may be the exact opposite, because it means that
+they do not need to save so much to acquire the same
+future annual income. It is unwise to say dogmatically
+that the former tendency outweighs the latter; though
+upon the whole it seems highly probable that it does.
+We cannot, therefore, in this case feel confident that a
+change in price will react upon supply in the manner
+which our law indicates. Similarly it is possible to
+argue that a rise in the general level of real wages may
+reduce the supply of labor, even, or some might say
+particularly, if the term is used to denote not the
+number of workpeople, but the quantity of work done.
+For there may be a tendency for workpeople, when
+more comfortably off, to work less regularly or less
+hard. Here again we cannot be sure. In none of
+these cases, however, including that of land, is there
+any reason to doubt that a rise in price will diminish
+<i>demand</i>, or conversely that a fall will increase it. Since,
+therefore, in the reasoning by which we deduced the
+third law, the conclusion will hold good, even if the
+effects of price-changes on supply are of the above
+paradoxical kind, provided that they do not continually
+outweigh the effects upon demand, there is no
+reason to cast doubt on the solidity of Law III, which,
+<a name="32"> </a>indeed, as we suggested before, commends itself
+directly
+to experience. But Law II seems now, perhaps, somewhat
+the worse for wear.
+</p>
+<p>
+The damage, however, is not considerable. For in
+each case the uncertainty arises only when we are
+dealing with one of the factors of production, land,
+labor or capital, <i>regarded as a whole</i>. If we are dealing
+with the capital available for a particular industry, a
+rise in the rate of profit in that industry will certainly
+increase the supply of capital available there; for it will
+tend to attract savings that might otherwise have been
+employed elsewhere. We can even be fairly sure that
+an increase in the general rate of interest prevailing in
+any particular country will increase the total supply
+of capital available for the businesses of that country,
+since capital has in modern times acquired a considerable
+migratory power. In the case of labor, we cannot
+go so far as this; but here, too, there is no doubt that an
+increase in the remuneration offered in any particular
+occupation will attract an increased labor supply
+(always supposing, of course, that "other things are
+equal"). No similar difficulty arises for land, labor
+or capital, as regards the effect of price-changes on
+demand; while for ordinary commodities there is no
+such difficulty on the side either of demand or of
+supply. Hence the only qualification which the
+strictest accuracy would require us in this connection
+to attach to our statement of Law II is the
+postscript:&mdash;
+</p>
+<p>
+<!-- poem -->"Except that, in the case of land, the aggregate supply
+is
+unalterable; while in the case of capital or labor we cannot be
+sure how price-changes will affect the aggregate supply."
+<!-- poem --></p>
+<a name="33"> </a>
+<p>Much significance attaches to these exceptions, as
+later will appear.
+</p>
+<p>
+&sect;6. <i>The Disturbances of Monetary Changes</i>. But let
+us still keep a critical eye on Law II, and submit it
+to another flashlight from our practical experience.
+The recent world war made us all acutely aware of a
+remarkable rise in the price of almost everything,
+which yet did not seem to diminish appreciably the
+demand. The explanation of this paradox is not
+difficult to find. There was an immense increase in the
+volume of nominal purchasing power, due to a complex
+set of causes, of which "currency inflation" may be
+taken as the symbol. Now perhaps we are entitled to
+assume the absence of such currency changes as part of
+the "other things being equal" which is always understood
+as implied. But it is rash to take this particular
+assumption for granted, more especially in these days.
+Already people are too apt to speak as though the
+trade depression (which as these pages are written
+holds us in its grip) cannot pass away until pre-war
+prices are restored, ignoring altogether the great and
+probably permanent increase in nominal purchasing
+power which the war has left behind it. It would be
+safer, therefore, to add explicitly to Law II the reservation,
+"Assuming that there is no change in the general
+volume of purchasing power."
+</p>
+<p>
+Monetary and allied questions will form the subject
+of the second volume of this series. It must not be
+supposed that our general laws have no bearing on
+them. On the contrary, Law I, which all this time has
+remained serene and undisturbed by the occasional discomfitures
+<a name="34"> </a>of Law II, is the gateway through which all
+questions of currency, banking and the foreign exchanges
+should be approached. It is well to note, as an
+inexorable corollary of Law I, that prices can rise <i>only</i>
+if demand exceeds supply, and fall <i>only</i> if supply exceeds
+demand; and hence that it is only through the
+agency of changes in the demand for and supply of
+commodities and services that an inflation or deflation
+of the currency can influence the price level. Further,
+since a condition of things in which supply generally
+exceeds demand spells what we know and fear as a trade
+depression, it may be well to note at once that falling
+prices and unemployment are inseparable bedfellows.
+For we are far too apt to shut our eyes to these unpleasant
+truths. But we cannot pursue them further
+here; and in the remainder of this volume we shall
+not be concerned (except, perhaps, incidentally) with
+questions affecting the general level of prices or of purchasing
+power; but rather with the relation which the
+price of one commodity bears to that of another, with
+the rate of interest (which being a rate per cent is not
+essentially dependent on the price level), with "real"
+wages (as distinct from money wages) and the like.
+</p>
+<p>
+&sect;7. <i>The Trade Cycle</i>. But our reference to trade
+depressions suggests a final comment on Law II. One
+small qualification was embodied in our original statement
+of it, namely the words "sooner or later." A rise
+in price may not check the demand immediately (even
+if the printing presses are standing idle in the Treasuries);
+it may actually stimulate it for a time. For
+people may fear that the price will rise further still, and
+<a name="35"> </a>hasten to buy what they <i>must</i> buy before very
+long.
+Sellers may share the same opinion, and be reluctant on
+their side to part. When prices are falling the roles are
+reversed, and we are likely to see the sellers tumbling
+over one another in a frantic eagerness to sell, the
+buyers wary and aloof. Sooner or later, indeed, these
+tendencies must dissolve and disappear; but they may
+persist for a longer period than might seem probable
+at first. For the raw material of one trade is, as we say,
+the finished product of another. The demand for one
+thing gives rise to a demand for other things, for the
+labor with which to make them, and so on in an expanding
+circle. A sympathy, subtle and intense,
+unites the business world, and a wave of depression or
+animation arising in any quarter may spread itself far
+and wide, heightened by the gusts of human hope and
+fear, and continue long before its influence is spent.
+</p>
+<p>
+Here we are upon the threshold of one of the most
+striking and formidable of economic facts, the regular
+alternation of periods of good and bad trade, each very
+widespread, if not world-wide, in its range, each comprising
+certain regular phases of acceleration and decay,
+and each infallibly yielding sooner or later to the other.
+The details of these phenomena are highly complex,
+some of them obscure; an immense literature has
+already been devoted to the subject, yet its systematic
+study is hardly more than begun. The account given
+in the preceding paragraph is incomplete and meagre.
+It is inserted here in the hope that it will impress the
+reader with a sense both of the fact of these alternations
+and of the deeply rooted nature of the causes from which
+they spring. They take a heavy toll of human happiness
+<a name="36"> </a>and wealth; and there is no object that more
+urgently calls for concerted human effort than that of
+mitigating them, and of alleviating the misery which
+they bring in their train. Still better, of eradicating
+them if that is possible; but let none suppose that it can
+be lightly done. Meanwhile, let us always remember
+that they form the atmosphere and medium in which
+the enduring tendencies of the business world must
+work themselves out. It is often convenient to speak of
+"normal conditions" in this trade or that; but hardly
+ever can it be truly said of a particular moment that
+conditions are normal. The normal is rather a mean
+level about which oscillations to and fro, round and
+about, are constantly taking place, but which itself is
+reached only by accident, if at all. Whenever we say
+that some new factor should in the long run lower
+the price of this or that commodity or service, the
+picture which these words should convey to our mind
+is one of the price rising less on times of boom, and
+falling more in times of depression than is the case
+with other things. And if ever our faith in some
+honored economic law is shaken by the apparent ease
+with which, perhaps, in times of active trade, sellers are
+able to advance their prices to whatever figure (so it
+almost seems) they choose to name, let us rally our
+sense of economic rhythm, and reserve our judgment
+until the trade cycle has run its course.
+</p>
+<a name="37"> </a>
+<h3 class="chap_head"><a name="Chapter_III"></a>Chapter III</h3>
+<h3 class="chap_name">Utility and the Margin of Consumption</h3>
+<p>
+&sect;1. <i>The Forces behind Supply and Demand</i>. The
+laws enunciated in the preceding chapter constitute
+the framework and skeleton of all economic analysis;
+but they do not carry us very far. It is only through
+the agency of these laws that any influence can affect
+the price of anything: but what influences may so
+affect it is a question which we have still to consider.
+</p>
+<p>
+Let us begin with ordinary commodities and ask ourselves,
+in the light of experience and common sense,
+upon what factors their price seems mainly to depend?
+Two factors spring to mind at once; their cost of production
+and their usefulness. As regards the former, the
+case seems clear enough. We may indeed sometimes
+grumble that the price of this or that commodity is
+unconscionably high in comparison with its cost; but
+this only goes to show that we conceive a relation between
+price and cost as the normal, governing rule. If
+one commodity cost only a half as much to produce as
+another, we should think that something had gone very wrong indeed, if
+the former commodity were sold for
+the higher price. But, when we turn to the usefulness
+of commodities, the case is not so clear. Usefulness has
+some connection with price, so much is certain; for an
+entirely useless thing, fit only for the dust-bin (and
+<a name="38"> </a>known to be such, it may be well to add) will fetch
+no
+price at all, however costly it may be to produce. But
+it is not easy to express the connection in quantitative
+terms. It seems reasonable enough to say that the
+prices of commodities are roughly proportionate to
+their costs of production. But directly we contemplate
+saying a similar thing of their usefulness, we are pulled
+up short. As we look round the world, and enumerate
+the commodities which by common consent are the
+most useful, salt, water, bread, and so forth, the striking
+paradox presents itself that these are among the
+cheapest of all commodities; far cheaper than champagne,
+motor-cars or ball-dresses, which we could very
+well get on without. As things are, of course, a ball-dress,
+or a motor-car costs more to produce than a loaf
+of bread or a packet of salt; and the common-sense
+explanation of the paradox seems, therefore, to be that
+the cost of production is a more weighty influence
+than the usefulness, or utility, as we will henceforth call
+it (so as to include the satisfaction we derive from not
+strictly useful things). We are thus tempted to conclude
+that, provided a commodity possesses some utility,
+its price will be determined by the cost of production,
+the degree of utility being unimportant. This was exactly
+how the position was gummed up for many years
+in systematic treatises upon Political Economy; and
+it was not until fully half a century after the <i>Wealth
+of Nations</i> that a discovery was made which threw a
+fresh light on the whole matter.
+</p>
+<p>
+First of all, let it be clearly observed how very
+unsatisfactory is the above account. In Chapter II
+where we were treading surely, with a sense of solid
+<a name="39"> </a>ground beneath us, we drew no such invidious
+distinction
+between supply and demand. They seemed
+then to possess an equal status. But cost of production
+is the chief factor which, in the case of commodities,
+ultimately determines the conditions of supply. Utility,
+similarly, is the chief factor which ultimately determines
+the conditions of demand. Must not then the
+symmetrical relations between demand and supply be
+reflected in a corresponding symmetry between the
+utility and the costs which underlie them? Demand
+springs obviously from utility; the only motive for
+buying anything is that it will serve some real or fancied
+use. Can we then accord to demand so dignified and
+to utility so subordinate a place? There is here an
+inconsistency which we must somehow reconcile. It
+will not serve as a solution to distinguish between
+different periods of time, and to say, as economists used
+to say not very long ago, that price is governed over a
+short period by demand and supply, but in the long run
+by the cost of production. This still leaves our sense of
+symmetry unsatisfied. Moreover, the conception of
+cost of production, when we consider it as ruling over
+a long period, frequently seems to lose any precision,
+as an independent factor, which it may otherwise
+possess. Motor-cars, we have agreed, are more costly
+to produce than loaves of bread; but, as we know well,
+the cost of producing motor-cars varies enormously,
+accordingly as they are produced on a small or a large
+scale. By the methods of mass production they can be
+turned out at a relatively low cost per car. But this
+requires that they should be purchased in large numbers
+and this in turn throws us back to the demand for
+<a name="40"> </a>motor-cars, and plainly enough, to people's judgment
+as to their utility. In some cases, the opposite phenomenon
+occurs. In the case of British coal, for instance,
+the average cost of production would be much
+lower than it is if the output were reduced to a fraction
+of its present volume, and if only the richer seams of the
+more fertile mines were worked. Once again, therefore
+it is difficult to measure the cost of production until we
+know the magnitude of the demand, which in a manner,
+which we have still to elucidate, clearly depends upon
+the utility.
+</p>
+<p>
+If we take the problem of joint products, the conception
+of cost of production fails us still more conspicuously.
+For what is the cost of producing wool,
+or the cost of producing mutton? We can speak of
+the cost of rearing sheep: but it is hardly possible
+to allot this cost, except quite arbitrarily, between
+the two products. How, then, can we explain the
+separate prices of these things by reference to cost
+alone? Instances of joint production are becoming so
+common in the modern world, or at least, with the
+growing attention to the utilization of by-products, are
+assuming so much more heightened a significance, that
+an explanation of price, which does not apply to them,
+is a very feeble one indeed.
+</p>
+<p>
+&sect;2. <i>The Law of Diminishing Utility</i>. Let us turn
+back, then, to the factor of utility, and see if we cannot
+put on a more satisfactory basis the relation between
+utility and price. The clue to the puzzle is to be found
+in a brief reflection on the implications of the second
+general law propounded in Chapter II. A rise in price,
+<a name="41"> </a>it was there stated, will sooner or later diminish
+the
+demand. This was asserted as a matter of fact, observed
+from and confirmed by experience. But what
+does it signify? To what causes is this familiar fact
+to be attributed? The first stage of the answer is very
+ample. The many individuals, whose purchases make
+up the demand for the commodity, will buy smaller
+quantities now that the price is higher. Possibly some
+of them may cease to buy it altogether; but as a rule
+it would be reasonable to suppose that most people continue
+to buy a certain amount though a smaller amount
+than hitherto. Let us turn our attention, then, to the
+individual purchaser, and ask ourselves why he (or let
+us say she) acts in the manner indicated. The obvious
+answer is that the more she already has of anything,
+the less urgently does she require a little more of it.
+If she buys 6 pounds of sugar every week when the price
+is 7 cents a pound, but only 5 pounds when the price is 8
+cents, she shows by her action that she does not consider
+that the additional utility she will derive from buying 6
+pounds a week rather then 5 pounds is worth as much as
+8 cents. But she shows at the same time that she thinks
+it worth 7 cents. For, when the price is 7 cents, no one
+compels her to buy that sixth pound. She could stop, if
+she chose, at five; and it may serve to make the point
+quite plain if we suppose her actually to hesitate before
+she buys the sixth. She has hitherto, let us say, been
+buying 5 pounds a week at 8 cents. To-day she enters
+the shop and finds the price is down to 7 cents. She
+asks for her customary 5 pounds; then she pauses, and a
+minute later turns her order into six. What are the alternatives
+which she has been weighing one against the
+<a name="42"> </a>other in that momentary pause? Not the utility of
+the
+whole 6 pounds of sugar against the total price of 42
+cents. For she has already ordered the first 5 pounds;
+and the decision to buy the sixth is taken independently
+and subsequently. She has been sizing up the <i>increment</i>
+of utility which a sixth pound would yield, and she decides
+that this is worth the expenditure of a further 7
+cents. Again, when the price was 8 cents she need not
+have bought as many as 5 pounds. She could have
+stopped at 4 had she chosen, and the fact that she did
+buy 5 pounds shows that the increment of utility derived
+from buying a fifth pound, when she might be said
+already to have 4, was worth at least 8 cents in her
+judgment.
+</p>
+<p>
+This trite illustration enables us to lay down two
+important laws relating to utility. To state them
+shortly, it is convenient to employ one or two technical
+terms, which, unlike every term employed hitherto,
+are not very commonly used in their present sense in
+everyday life. Their adoption is desirable not merely
+for the sake of convenience, but because they help
+to stamp clearly on the mind a most illuminating
+conception, that of the "margin," which supplies
+the clue to many complicated problems. The last
+pound of sugar which the housewife purchased, the
+fifth pound when the price was 8 cents, or the sixth
+pound when the price was 7 cents, we call the "marginal"
+pound of sugar. And the increment of utility
+which she derives from buying this marginal pound
+we call the "marginal utility" of sugar to her. We
+are thus able to state the fact that the more a
+person has of anything the less urgently does he
+<a name="43"> </a>require a little more of it, in the following formal
+terms:&mdash;
+</p>
+<div class="law">
+V. The marginal utility of a commodity to anyone
+diminishes with every increase in the amount
+he has.
+</div>
+<p>
+The total utility will, of course, increase with an increase
+in the amount, but at a diminishing rate. This
+law is usually called The Law of Diminishing Utility.
+</p>
+<p>
+&sect;3. <i>Relation between Price and Marginal Utility</i>
+But this is not all. We are now in a position to perceive
+the true relation between utility and price. The
+relation is one which exists not between price and total
+utility, but between price and marginal utility. If we
+know only that a housewife will buy weekly 5 pounds of
+sugar at 8 cents per pound, but 6 pounds at 7 cents, we
+know nothing of the total utility of sugar to her. We do
+not know how much she might be prepared to pay
+rather than go without 3 pounds, 2 pounds, or any sugar
+at all. But we do know that, when she buys 6 pounds,
+the marginal utility of sugar is in her judgment worth
+something which does not differ greatly from the price.
+We can, therefore, say in general terms that the price of
+a commodity measures approximately its marginal
+utility to the purchaser.
+</p>
+<p>
+This statement is perfectly consistent with the
+paradox noted above that the most useful commodities
+such as bread, salt and water are very cheap. For
+when we say that these commodities are supremely
+useful, we mean only that their total utility is very
+great; that, rather than do without them altogether,
+we would offer for them a large proportion of our means.
+<a name="44"> </a>But we would not value very highly a small addition
+to the bread, water or salt that we habitually consume;
+nor would most of us feel it as a very serious deprivation
+if our consumption of these things were curtailed
+by a small percentage. In other words, their <i>marginal</i>
+utilities are small, and it is only the <i>marginal</i> utility
+that has any relation to price.
+</p>
+<p>
+&sect;4. <i>The Marginal Purchaser</i>. A possible objection
+to the preceding argument deserves to be considered.
+Some readers may find the picture I have drawn of
+the hesitating housewife entirely unconvincing. They
+may declare that her mind does not work at all in
+the manner I have indicated. She will have formed
+certain habits in regard to her weekly purchases of
+sugar, which are connected very vaguely, if at all, with
+any conscious processes of thought. She will buy so
+many pounds of sugar weekly without troubling her
+head over the specific utility of the last pound she buys.
+When the price falls she may, indeed, buy more; but
+it will not be because she separates out and considers
+by itself the extra utility of an additional pound. She
+may buy more, because she has formed the habit of
+spending so much money on sugar; and now that the
+price has fallen, the same amount of money will enable
+her to buy more pounds. Or, perhaps, she may be
+moved by instinctive and irresistible attraction to buy
+more of a thing when it is cheaper, similar to that which
+inspires so many people to face with ardor the horrors
+of a bargain sale. In any case the fine calculations I
+have imagined convey a fantastic picture of her state of
+mind. And how much more fantastic, the critic may
+<a name="45"> </a>continue, of the state of mind in which things of a
+different kind are bought by less careful people. When,
+for instance, one of us happy-go-lucky males (more
+liberally supplied, perhaps, than the housewife with the
+necessary cash), decides to buy a motor bicycle, or to
+replenish his stock of collars or ties, does the above
+analysis bear any resemblance to the actual facts? In
+the case of the motor bicycle, the purchaser may, indeed,
+weigh the price fairly carefully against the pleasure
+and benefit, though contrariwise he may be a rich
+enough gentleman hardly to bother about this. But,
+one motor bicycle is as much as he is at all likely to buy,
+and what becomes, then, of the distinction between
+total and marginal utility? In the case of the ties and
+collars, the vagueness of many of us about the price will
+be extreme. We probably have been uneasily conscious
+for some time of an inconvenient shortage of these
+troublesome articles and eventually will go off (or
+perhaps will be sent off with ignominy) to the nearest
+suitable shop to make good the deficiency. How can
+we speak here with a straight face of the relation between
+marginal utility and price?
+</p>
+<p>
+These are very pertinent criticisms; but they do
+not make nearly as much nonsense of the notion of
+marginal utility as may seem at first. The last point,
+indeed, serves rather to give it a fresh aspect of much
+significance. Those of us who do not bother about the
+price we pay for our ties and collars owe a debt of gratitude,
+of which we are insufficiently conscious, to the
+more careful people who do; as well as to the custom
+which prevails in shops in Western countries (as distinct
+from the bazaars of the East) of charging as a
+<a name="46"> </a>rule a uniform price to all customers. If <i>we</i>
+were the
+only people who bought these things, an enterprising
+salesman would be able to charge us very much what
+he chose. He could put up his price, and we would
+hardly be aware of it. And, as by lowering his price he
+could not tempt us to buy any more, price reductions
+would be few and far between. But fortunately there
+are always some people who do know what the price
+is, even when they are buying collars and ties; and who
+will adjust the amount they buy in accordance with the
+price. It is these worthy people who make the laws
+of demand work out as we well know they do. It is
+they who will curtail their consumption if the price has
+fallen and it is they who constitute the seller's problem,
+and help to keep down prices for the rest of us. The
+rest of us&mdash;it is well to be quite blunt about it&mdash;simply
+do not count in this connection. We have no cause
+then to plume ourselves that we have disproved the
+truth of economic laws when we declare that we seldom
+weigh the utility of anything against its price. All
+that this shows is that our actions are too insignificant
+to be described by economic laws since they exert no
+appreciable influence on the price of anything. And
+this in turn shows the extreme importance of grasping
+clearly the conception of the margin. Just as it is
+the marginal purchase, so it is the marginal purchaser
+who matters. It is the man who, before he buys a
+motor bicycle, weighs the matter up very carefully
+indeed and only just decides to buy it, whose demand
+affects the price of motor bicycles. It is the utility
+which <i>he</i> derives that constitutes the marginal utility,
+which is roughly measured by the price.
+</p>
+<a name="47"> </a>
+<p>As to the housewife, I am not prepared to concede
+that my picture is in essentials very fanciful. She may
+be a creature of habits and instincts like the rest of
+us, but most habits and instincts affecting household
+expenditure are based ultimately on <i>some</i> calculation,
+if not one's own, and reason has a way of paying, as
+it were, periodic visits of inspection, and pulling our
+habits and instincts into line, if they have gone far
+astray. I am not satisfied that the housewife does not
+envisage the utility of a sixth pound of sugar as something
+distinct from the utility of the other five; she
+may buy it, for example, with the definite object of
+giving the children some sugar on their bread, and she
+may have a very clear idea as to the price which sugar
+must not exceed before she will do any such thing.
+Possibly I may exaggerate. I have the profound
+respect of the incorrigibly wasteful male for the care
+and skill she displays in laying out her money to the
+best advantage.
+</p>
+<p>
+&sect;5. <i>The Business Man as Purchaser.</i> But if the reader
+still finds the picture unconvincing, let us shift the
+scene from domestic economy to commerce, and substitute
+for the careful housewife an enterprising business
+man. Now, as anyone who has a business man for his
+father will have often heard him say, the vagueness and
+caprice which characterize our personal expenditure
+would be quite intolerable in business affairs. There
+you must weigh and measure with the utmost possible
+precision. You must be for ever watching the several
+channels of your expenditure, careful to see that in
+none does the stream rise higher than the level at which
+<a name="48"> </a>further expenditure ceases to be profitable. You
+will
+not even engage typists or install a telephone in your
+office without weighing up fairly carefully the number
+of typists or the number of switches that it is worth
+your while to have. And in deciding whether to employ
+say, five typists, or six, you will not vaguely lump the
+services of the whole six typists together, and consider
+whether as a whole they are worth to you the wages
+you must give them. You will, in the most direct and
+literal manner, weigh up the <i>additional</i> benefit you
+would derive from a sixth typist, and if that does not
+seem to you equivalent to her wage, you will not engage
+her, however essential it may be to you to have one or
+two typists in your office. If on the other hand, the
+utility of having a sixth typist seems to you worth
+much more than her pay, the chances are that you will
+be well advised to consider the employment of a seventh.
+And so, where you stop employing further typists,
+the utility to you of the last one, of the "marginal
+typist" as it were, is unlikely to differ greatly from her
+pay.
+</p>
+<p>
+Now this is not a fancy picture of some remote
+abstraction called an "economic man." Allowing for
+the over-emphasis which is necessary to drive home the
+central point, it is a bald account of the aims and
+methods of the actual man of business. To ascertain
+the margin of profitable expenditure in each direction,
+to go thus and no further, is the very essence of the
+business spirit, as the business man himself conceives
+it. When he condemns the extravagance of Government
+departments, it is their lack of just this marginal
+sense that he chiefly has in mind. "The lore of nicely
+<a name="49"> </a>calculated less or more" may be rejected by High
+Heaven and Whitehall, but no one can afford to despise
+it in the business world.
+</p>
+<p>
+The transition from household to business expenditure
+involves an extended use of the word utility, which
+is worth noting. Commodities like bread, sugar, or
+privately owned motor-cars are sometimes called
+"consumers' goods" in contrast to "producers' goods,"
+which comprise things such as raw materials, machinery,
+the services of typists and so forth, which are
+bought by business men for business purposes. The
+line of division between the two classes is not a sharp
+one, and we need not trouble with fine-spun questions
+as to whether a particular commodity should in certain
+circumstances be included under the one head or the
+other. But, broadly speaking, things of the former
+type yield a direct utility; they contribute directly to
+the satisfaction of our pleasures or our wants. Things
+of the latter type yield rather an indirect utility. Their
+utility to the business man who buys them lies in the
+assistance they give him in making something else from
+which he will derive a profit. The utility of these
+things is therefore said to be <i>derived</i> from that of the
+consumers' goods or services to which they ultimately
+contribute. This conception of derived utility leads to
+certain complications which we shall have to notice
+later.
+</p>
+<p>
+&sect;6. <i>The Diminishing Utility of Money</i>. But one
+important point must be emphasized in this chapter.
+The utility which a business man derives from the
+things which he buys for business purposes is the extra
+<a name="50"> </a>receipts which he obtains thereby. Derived utility,
+in other words, is expressed in terms of money, and the
+idea of its relation to price presents no difficulty. But
+the utility of things which are bought for personal
+consumption means the <i>satisfaction</i> which they yield,
+and this is clearly not a thing which is commensurable
+with money. When, therefore, it is said that the prices
+measure their respective marginal utilities, what exactly
+is meant? What was it that the argument of &sect;3 went
+to show? That the utility of the marginal pound of
+sugar would seem to the housewife just worth the price
+that she must pay for it; in other words, that it would
+be roughly equal to the utility she could obtain by
+spending the money in other ways. The respective
+marginal utilities which <i>she</i> obtains from the different
+things she buys will thus be proportionate to their
+prices. But if she were to receive a legacy which gave
+her a much larger income to spend, she might buy
+larger quantities of practically every commodity; and,
+though she would obtain a greater total utility thereby,
+the marginal utility she would obtain in each direction
+would be smaller, in accordance with the law of diminishing
+utility. The prices might not have changed;
+the respective marginal utilities to her of the different
+things would again be proportionate to their prices,
+but they would constitute a smaller satisfaction than
+before.
+</p>
+<p>
+Thus we can only say that the prices of commodities
+will be proportionate to their real marginal utilities,
+when we are considering the different purchases of
+one and the same individual. The amounts of money
+which different people are prepared to pay for different
+<a name="51"> </a>consumers' goods are no reliable indication
+of the real utilities, the amounts of human satisfaction
+which they yield. Here we must take account not
+only of varying needs and capacities for enjoyment,
+but of the very unequal manner in which purchasing
+power is distributed among the people. The cigars
+which a rich man may buy will yield him an immeasurably
+smaller satisfaction than that which a poor family
+could obtain by spending the same amount of money
+on boots, or clothes or milk. When, therefore, we
+compare commodities which are bought by essentially
+different consuming publics, their respective prices may
+bear no close relation to their <i>real</i> utility, whether
+marginal or otherwise. Thus the law of diminishing
+utility applies to money or purchasing power, as well
+as to particular commodities. The more money a
+man has the less is the marginal utility which it yields
+him; and, where the marginal utility of money to a
+man is small, so also will be the real marginal utility
+he derives in each direction of his expenditure. The
+extreme inequality of the distribution of wealth gives
+immense importance to this consideration. Its practical
+implications will be discussed in Chapter V. Meanwhile,
+we may express the conclusions of the present
+chapter by the statement that the price of a commodity
+tends to equal its marginal utility, <i>as measured in terms
+of money</i>, i.e. relatively to the marginal utility of money
+to its purchaser.
+</p>
+<a name="52"> </a>
+<h3 class="chap_head"><a name="Chapter_IV"></a>Chapter IV</h3>
+<h3 class="chap_name">Cost and the Margin of Production</h3>
+<p>
+&sect;1. <i>An Illustration from Coal</i>. We have already
+had occasion to note the symmetry which characterizes
+the relations of demand and supply to price. This
+symmetry was apparent throughout the argument
+of Chapter II, and it was a striking feature of the
+diagrams which we employed to illustrate the argument.
+We shall do well to cultivate a lively sense of this
+symmetry, for it will frequently save us from ignoring
+factors which have a vital bearing on the problems
+we are considering. We should never leave an important
+feature of demand without turning to see whether
+it has a counterpart on the supply side, though indeed
+we may not always find one. In the last chapter we
+examined the relation between utility and price, and
+found that the true relation was between the price and
+what we termed the marginal utility. Corresponding
+to utility on the demand side is cost of production
+on the supply side. The question should thus at once
+suggest itself&mdash;"Can we speak appropriately of the
+marginal cost of production, and will this serve to
+make clear the relation between cost and price?" To
+answer these questions, let us take one of the instances
+in which we found that price could not be
+explained satisfactorily by the bare phrase "cost of
+production."
+</p>
+<a name="53"> </a>
+<p>An important feature of the coal industry, which
+recent events have brought into sharp prominence,
+is the great diversity of conditions between different
+coalfields and different collieries. We speak of rich
+seams and poor seams, of fertile and unfertile mines,
+and we are aware that the costs of raising coal to the
+surface differ very widely in accordance with these
+diverse natural conditions. Nor must we confine our
+attention to the cost price at the pit-head. If we wish
+to speak of cost of production as a factor determining
+price, we must use the term in a broad sense to include
+the transport and other charges necessary to bring
+the coal to market.
+</p>
+<p>
+In this respect also one coalfield differs greatly from
+another. Some are well situated close to a large market,
+or within easy reach of the seaboard; others must
+incur very heavy transport charges to bring their coal
+to any considerable centre of consumption. These
+varying conditions lead, as we well know, to great
+variations in the financial prosperity of different colliery
+concerns. In Great Britain, under the abnormal
+conditions which prevailed during the war, and subsequently,
+these variations were so huge as to constitute
+a most formidable embarrassment and to contribute,
+more perhaps than any other single factor, to the
+unrest and instability by which the industry has been
+afflicted. But they are always with us, if usually upon
+a more modest scale.
+</p>
+<p>
+What, then, is the normal relation between price and
+cost in the case of coal? Should we direct our attention
+to the average costs over the whole industry, or the
+costs incurred by the richer and better situated mines,
+<a name="54"> </a>or, lastly, that of the poorer and worse situated?
+Now, as things are, it is clear enough that no concern
+will continue indefinitely producing at a loss. It may
+do so for a time, rather than close down altogether,
+hoping to recoup itself later when the market has
+taken a more favorable turn. But, in the long run,
+taking good years with bad, it must expect to obtain
+receipts sufficient not only to cover its necessary
+expenditure, but to provide also a reasonable profit
+on the capital employed. Of course, once the capital
+has been sunk and embodied in plant and buildings,
+which are of little use for any other purpose, a business
+may continue for many years, with a rate of profit
+far below what it had anticipated. But plant and
+buildings gradually wear out, and need to be replaced;
+the course of technical improvement calls continually
+for fresh capital outlay, which a business in a bad way
+is reluctant to undertake. The tendency, therefore,
+when profits rule low over a considerable period, is
+for the plant to fall gradually into disrepair and
+obsolescence, and finally for the business to disappear.
+We can thus include an ordinary rate of profit under the
+head of cost of production, and say with substantial
+accuracy that for no business can this cost for long
+exceed the price if the business is to continue to exist.
+If then the relatively poor and badly situated mines
+are to be worked, the price of coal, taking good years
+together with bad, must cover the costs at which these
+mines can produce. If the price rules lower than this,
+sooner or later they will close down, and we will be left
+with a smaller number of mines, among which great
+variations of conditions will still prevail. Once more,
+<a name="55"> </a>the price must cover the cost incurred by the least
+profitable of these remaining mines, unless their number
+is still further to be diminished. Thus we can conceive
+of a "margin of production" which will shift backwards
+to more profitable or forwards to include less profitable
+mines, according as the demand for coal contracts
+or expands. But, wherever this margin may be, there
+is no escaping the conclusion that it is the cost of
+production of the "marginal mines," of those that is
+to say which it is only just worth while to work, to
+which the price of coal will approximate.
+</p>
+<p>
+It follows that there is no real connection between
+price and cost of production throughout the industry
+as a whole. It follows incidentally that those concerns
+which can market their coal at an appreciably lower
+cost than the marginal concerns, are likely to reap
+more than an ordinary rate of profit, though royalties
+may absorb part of the excess.
+</p>
+<p>
+&sect;2. <i>The Various Aspects of Marginal Cost</i>. This
+relation cuts much deeper than the particular system
+under which the mines are at present owned and worked.
+If, for instance, we supposed that the various mines
+were amalgamated together in a few giant concerns,
+each of which comprised some of the richer and some
+of the poorer mines, the preceding argument would
+need to be recast in form, but its substance would be
+unaffected. For though a great coal trust could in a
+sense <i>afford</i> to sell at a price lower than the marginal
+cost, setting its losses on the poorer against its gains
+on the better pits, is it likely it would do so? Why
+should it dissipate its profits in this way? It is clearly
+<a name="56"> </a>more reasonable to suppose that it would close down
+the poorer pits (unless it could advance the price of
+coal), and thereby maintain its profits at a higher figure.
+If, indeed, the mines were nationalized the deliberate
+policy might be pursued of selling coal at a price which
+left the industry no more than self-supporting as a
+whole. Some coal might thus be sold at less than its
+cost price, and the selling price would conform roughly
+to the <i>average</i> cost. But such a policy, though in special
+circumstances it might be justified, would represent a
+very dangerous principle, which could not be applied
+widely without the most serious results. Nothing
+could be more fatal to any enterprise, whether it be
+in the hands of an individual, a joint-stock company,
+a State department, or a Guild, than that the management
+should content themselves with results which
+in the lump seem satisfactory, and regard losses
+here or there with an indifferent eye. That way lies
+stagnation, waste, progressive inefficiency and ultimate
+disaster. To inquire searchingly into every nook and
+cranny of the business, to construct, as it were, for
+each part a separate balance-sheet of profit and loss,
+to expand in those directions where further development
+promises good results, and to curtail activity
+where loss is already evident, is the very essence of good
+management. Here, it will be observed, we are using
+language very similar to that in which we described
+the principles which govern a business man's expenditure.
+The resemblance is inevitable and significant, for
+we are dealing here with what is essentially another
+aspect of the same thing. The object is to secure that
+nowhere does expenditure fail to yield a commensurate
+<a name="57"> </a>return. This we express, when we consider a business
+in
+its aspect as a consumer, by saying that its consumption
+of anything will not be carried beyond the point at
+which the marginal utility exceeds the price it will
+have to pay. When we consider it as a producer, we
+say that its production of anything will not be carried
+beyond the point at which the marginal cost exceeds
+the price it will obtain.
+</p>
+<p>
+&sect;3. <i>The Dangers of Ignoring the Margin</i>. This at least
+is the general rule. A business may decide deliberately
+to sell part of its output below cost, because, for instance,
+this will serve as an advertisement, bring it connections,
+and enable it to obtain a larger profit at a later
+date, or immediately on other portions of its sales. In
+so acting, it recognizes that the price obtained for a
+thing may be an inadequate measure of the real return
+it yields. In the same way, though for different reasons,
+a nationalized coal industry might conceivably be
+justified in selling some coal below cost price, because,
+let us say, it held that the price which the
+immediate purchasers were willing to pay was an
+inadequate measure of the utility of coal to the community
+as a whole. But in all such cases it is essential
+to be very clear as to what exactly you are doing; so
+that you may be at least moderately clear as to whether
+the policy is well advised. It may be sound enough to
+lose on the swings and make good this loss on the
+roundabouts, but only if your loss on the swings <i>helps</i>
+you to a larger profit on the roundabouts. If you
+would get the same return on the roundabouts in any
+case, it would be better to cut the swings out altogether.
+<a name="58"> </a>So, if you are directing the policy of a
+nationalized coal
+industry, and decide to make a loss on a portion of
+your sales, you will need to know that the indirect
+benefit which the community will derive from this
+particular part of your coal output is worth the loss
+which you incur. You will certainly come to grief, if
+you pursue a vague ideal of lumping all results together,
+and regarding a profit somewhere as a sufficient excuse
+or a positive reason for making a loss elsewhere.
+</p>
+<p>
+It is quite true that in big undertakings, where there
+are large standing charges, and where the organization
+possesses some of the characteristics of an integral
+whole, it is not easy to measure accurately the specific
+costs which should be assigned to any particular
+portion of the output. But this difficulty is one of the
+most serious weaknesses of large undertakings; precise
+detailed measurement is the great prophylactic of
+business efficiency, and, where it is lacking the bacilli
+of waste will enter in and multiply. So clearly is this
+recognized, that the development of large scale business
+has led to the evolution of new methods of accountancy,
+designed to make detailed mensuration possible. We
+have most of us heard of them vaguely under such
+names as "comparative costings," but too few of us
+appreciate their full significance. It is hardly too
+much to say that the issue as to whether the size of the
+typical business unit will continue to become larger and
+larger, or whether it has already overshot the point of
+maximum efficiency will turn largely upon the capacity
+of accountancy to supply large and complex undertakings
+with more accurate instruments of detailed
+financial measurement.
+</p>
+<a name="59"> </a>
+<p>&sect;4. <i>A Misinterpretation</i>. The price, then, of a
+commodity
+tends roughly to equal its marginal cost of
+production; and this marginal cost (in perfect symmetry
+with what we observed as regards marginal
+utility), may be conceived as applying either to the
+marginal producer or to the marginal output of any
+producer. In the former aspect it is open to a misinterpretation,
+against which it will be well to guard.
+Some advocates of socialism have argued, as one of the
+counts in their indictment of the present industrial
+system, that the price of a commodity is determined by
+the cost at which the least efficient concern in the
+industry can produce. They say, in effect, "Under
+the present competitive regime, you have to pay for
+everything you buy a price which far exceeds the
+necessary cost to a concern which is managed with
+ordinary ability. For, as economic theory has shown,
+it is the cost of the <i>marginal</i> concern, i.e. the concern
+managed by the most incompetent, and half-witted
+fellow in the trade; it is the cost incurred by him,
+together with a profit on his capital, that the price has
+got to cover. The producer of no more than average
+capacity is therefore making out of you a surplus profit,
+which would be quite unnecessary in any well-arranged
+society." Such an argument is a gross caricature of
+the marginal conception. The half-witted incompetent
+will, as we know well enough, speedily disappear under
+the stress of competition, and his place will be taken
+by more efficient men. There is an essential difference
+between him and the "marginal coal mine" of which
+we spoke above. For the probabilities are that of the
+coal resources, whose existence is clearly known, the
+<a name="60"> </a>more fertile and better situated parts will already
+be in
+process of exploitation; and there is not likely, therefore,
+to be a supply of substantially better seams which
+can be substituted for the worst of those in actual use.
+There <i>is</i> likely, on the other hand, to be available a
+supply of decent business capacity which can be substituted
+for the most inefficient of existing business men.
+The marginal concern, in other words, must be conceived
+as that working under the least advantageous
+conditions in respect of the assistance it derives from
+the strictly limited resources of nature, but under
+average conditions as regards managerial capacity and
+human qualities in general. Thus in agriculture we can
+speak of a marginal farm, which we should conceive as
+the least fertile and worst situated farm which it is just
+worth while to cultivate (of which more will be said
+when we come to the phenomenon of rent), but we
+must assume it to be cultivated by a farmer of average
+ability.
+</p>
+<p>
+&sect;5. <i>Some Consequences of a Higher Price Level</i>. The
+foregoing controversy will be of service to us, if it
+makes clear the manner and the spirit in which the
+marginal conception should be handled. It should be
+regarded not as a rigid formula which we can apply
+to diverse problems without considering the special
+features they present, but rather as a signpost which
+will enable us to find our way, a compass by which we
+may steer between the shoals of triviality and sophistry
+to the crux of any problem with which we have to deal.
+Let us illustrate its practical uses by an example which
+is of great interest and far-reaching practical importance
+<a name="61"> </a>at the present day. As has been already observed,
+the
+war has left behind it in all countries a great and almost
+certainly permanent increase in nominal purchasing
+power. Since the armistice prices have moved upwards
+and downwards with unprecedented violence; and it
+would be very rash to prophesy the precise level at
+which they will ultimately settle (using that word with
+considerable relativity). But, for reasons for which the
+reader is referred to Volume II in this series, it is safe
+enough to say that the general level of post-war will
+greatly exceed that of pre-war prices. Now this will
+apply not only to consumers' goods like milk and
+clothes, or to raw materials like pig-iron and cotton,
+but in very much the same degree to things like
+factories and machinery. Things of this last type are
+sometimes called "capital goods," because it is in them
+that a large part of the capital of a business is embodied.
+Now the fact that it will cost much more than it did
+before the war to construct fresh capital goods, has a
+significance which very few people appreciate. An
+existing factory cost, let us say, $500,000 to build and
+equip with machinery before the war. To construct a
+similar factory to-day would cost, let us assume (it
+is probably a moderate assumption) $1,000,000. Suppose
+10 per cent to be the gross profit that is necessary
+to attract capital to the particular industry. Then it
+will not pay to construct this new factory unless the
+trade prospects point to the probability of a profit of
+about $100,000 per annum. But if the old factory is
+equally well managed, it too should be able to earn this
+$100,000, which upon the capital actually sunk would
+represent a rate of 20 per cent. The particular figures
+<a name="62"> </a>given are, of course, purely illustrative; the
+conclusion
+to which they point is that, if new enterprises
+are to be undertaken, pre-war enterprises are likely to
+yield a rate of profit, on their fixed capital at least,
+increased in rough proportion to the price-level. Of
+course, in years when trade is bad, the factory which
+dates from pre-war times will not earn a profit of this
+kind, it may very likely make an actual loss. At those
+times it is very certain that few new factories will be
+erected. But it is difficult to reconcile a condition of
+trade activity, in which the constructional industries
+are busily employed, with a rate of profit to pre-war
+businesses on the fixed part of their capital of a lesser
+order of magnitude than has been indicated. It makes
+no difference, it should be observed, whether we suppose
+the new enterprises to take the form of starting of
+new concerns or extending old ones; in neither case
+will they be undertaken, unless there is reason to
+expect an adequate return on the capital which they
+require at post-war constructional prices. High profits
+(taking always good years together with bad) on capital
+sunk before the war in buildings and machinery are
+thus a likely consequence of an increase in the price-level.
+</p>
+<p>
+This fact is, indeed, the counterpart or complement
+of another phenomenon with which we are more
+familiar. While prices are actually rising, profits, as we
+have come to recognize, necessarily rule high, because
+every trader or manufacturer is constantly in the
+position of selling at a higher price-level, stock which
+he purchased, or goods made from materials which he
+purchased at a lower level. He thus acquires an abnormal
+<a name="63"> </a>profit on his circulating capital, which is
+essentially similar to the profit on fixed capital, which
+we have just examined. The difference is that the
+former profit is crowded into the years when prices are
+actually on the increase, and thus is very noticeable
+indeed; while the latter profit continues to accrue in
+smaller instalments after prices have settled down, as
+it were, at the higher level, and is not exhausted until
+the buildings and machinery have become obsolete.
+But the two profits are essentially similar, and in the
+long run should be commensurate. In the one case,
+stock can be sold for a large profit, because it cannot
+be replaced except at a higher price; in the other case,
+plant and buildings yield a higher income because <i>they</i>
+cannot be replaced except at a higher price. Indeed,
+if the owners choose, the plant and building can, like
+the stock, be sold at their appreciated value, as has been
+widely done by the owners of cotton mills in Great
+Britain since the armistice.
+</p>
+<p>
+There is nothing in these considerations that should
+surprise us, or even shock our moral sense. For what
+they have indicated is an increase of money profits in
+rough proportion to the price-level, so that the aggregate
+profits will represent about as much real income as
+before.[<a href="#63f1">1</a>] The conclusion therefore amounts to no
+more
+than this, that you cannot alter fundamentally the
+distribution of wealth between labor and capital by
+merely inflating the currency, or otherwise juggling
+<a name="64"> </a>with the price-level. And this is only what we
+should
+expect, if there are any laws of distribution of sufficient
+importance and permanence to justify the many volumes
+which have been devoted to them.
+</p>
+<p class="footnote">
+<a name="63f1">[1]</a> Assuming that the rate of interest has remained
+unaltered.
+In fact it has greatly increased since pre-war days, and this points
+to a still further increase of money profits, and an increase in the
+real income which they represent. See Chapter VIII, p. <a href="#138">138</a>.
+</p>
+<p>
+But this somewhat tame conclusion does not make
+it any less important to grasp clearly the significance
+of the appreciation in the value of capital goods. A
+failure to realize it lies at the root of our bewildered
+muddling of many crucial problems of the day. In
+the matter of housing, for instance, we know we cannot
+build houses at less than two or three times their prewar
+cost, and yet we cannot endure to see the owners
+of pre-war houses obtaining a commensurate increase
+of rent. And so, in Great Britain, we pass Rent Restriction
+Acts, and Housing Acts, and then, in a fit of
+economy we suspend the latter, and let the former
+stand, while the housing shortage becomes steadily more
+acute. When we hand the railways back from State
+control to private hands, our horror at the idea of the
+companies receiving larger money profits than they did
+before the war leads us to lay down principles for the
+fixing of fares and freight charges, which take no
+account of post-war construction costs; and then, in
+alarm lest we may have thereby made it unprofitable
+for the companies to spend a single penny of fresh
+capital upon further development, we seek to provide
+for capital expenditure by cumbrous and dubious
+expedients. Doubtless we shall muddle through somehow
+with such policies: and, public opinion being what
+it is, they may perhaps have been about the best
+policies that were practicable. But the problems would
+have been easier to handle, if the public generally were
+<a name="65"> </a>a little less disposed to think in terms of
+averages, and
+a little more in terms of margins, if we all of us instinctively
+realized that the cost that really matters is the
+cost at which additional production is profitable under
+the conditions ruling at the time, or in the immediate
+future.
+</p>
+<p>
+&sect;6. <i>General Relation between Price, Utility and Cost</i>.
+Let us conclude this chapter by summing up the conclusions
+which have emerged as to the relations of
+utility and cost to price.
+</p>
+<p>
+The price of a commodity is determined by the conditions
+of both supply and demand; and neither can
+logically be said to be the superior influence, though
+it may sometimes be convenient to concentrate our
+attention on one or other of them. The chief factor on
+which the conditions of demand depend is the utility
+(as measured in terms of money). The chief factor
+on which the conditions of supply depend is the cost
+of production (again as measured in terms of money).
+The prevailing trend towards an equilibrium of demand
+and supply can thus be expressed as follows:&mdash;
+</p>
+<div class="law">
+VI. A commodity tends to be produced on a scale
+at which its marginal cost of production is
+equal to its marginal utility, as measured in
+terms of money, and both are equal to its
+price.
+</div>
+<a name="66"> </a>
+<a name="Chapter_V"></a>
+<h3 class="chap_head">Chapter V</h3>
+<h3 class="chap_name">Joint Demand and Supply</h3>
+<p>
+&sect;1. <i>Marginal Cost under Joint Supply</i>. Several references
+have been made above to joint products, a relation
+which it will be convenient now to describe as that
+of Joint Supply. Our sense of symmetry should make
+us look for a parallel relation on the side of demand; and
+it is not far to seek. There is a "joint demand" for
+carriages and horses, for golf clubs and golf balls, for
+pens and ink, for the many groups of things which we
+use together in ordinary life. But the most important
+instances of Joint Demand are to be found when we pass
+from consumers' to producers' goods. There, indeed,
+Joint Demand is the universal rule. Iron ore, coal and
+the services of many grades of operatives are all jointly
+demanded for the production of steel; wool, textile
+machinery and again the services of many operatives
+are jointly demanded for the production of woollen
+goods (to mention in each case only a few things out
+of a very extensive list). Now we have already noted
+that, when commodities are jointly supplied, there is
+an obvious difficulty in allocating to each of them its
+proper share of the joint cost of production. There is
+a similar difficulty in estimating the utility of a commodity
+which is demanded jointly with others. Thus,
+the utility of wool is derived from that of the woollen
+goods which it helps to make. But the utility of the
+factories, the machinery and the operatives employed in
+the woollen and worsted industries is derived from precisely
+<a name="67"> </a>the same source. How much, then, of the utility of
+woollen goods should be attributed to the wool and how
+much to the textile machinery? Can we make any sense
+of the notion of utility as applying to one of these things,
+taken by itself? And, if not, how can we explain the
+price of a thing like wool in terms of utility and cost,
+since we cannot disentangle its cost from that of mutton,
+nor its utility from that of a great variety of other things?
+</p>
+<p>
+Here the conception of the margin enables us to
+grapple with a problem which would otherwise be
+insoluble. For, while it is impossible to separate out
+the total utility and cost of wool, it is not impossible
+to disentangle its marginal utility and its marginal cost.
+The proportion in which wool and mutton are supplied
+cannot be radically transformed; but it can be varied
+within certain limits, by rearing, for instance, a different
+breed of sheep. Variations of this kind have been an
+important feature of the economic history of Australasia,
+where sheep farming is the leading industry. Before
+the days of cold storage, Australia and New Zealand
+could not export their mutton to European markets,
+though they could export their wool. Wool was accordingly
+much the most valuable product; the mutton was
+sold in the home markets, where, the supply being very
+plentiful, the price was very low. In the circumstances,
+the Australasian farmers naturally concentrated on
+breeding a variety of sheep whose wool-yielding were
+superior to their mutton-yielding qualities. The
+development of the arts of refrigeration led in the
+eighties to an important change. It became possible to
+obtain relatively high prices for frozen mutton in overseas
+markets. There was, therefore, a marked tendency,
+<a name="68"> </a>especially in New Zealand, to substitute, for the
+merino,
+the crossbred sheep which yields a larger quantity of
+mutton and a smaller quantity of wool of poorer quality.
+Now if we calculate the cost of maintaining the number
+of merino sheep which will yield a given quantity of
+wool, and calculate the cost of maintaining the larger
+number of crossbred sheep which will be required to
+yield the <i>same</i> quantity of wool (allowing for differences
+of quality) the extra cost which would be incurred in the
+latter case must be attributed entirely to the extra
+mutton that would be obtained. This extra cost we can
+regard as constituting the marginal cost of mutton.
+So long as this marginal cost falls short of the price
+of mutton, it will be profitable to extend further the
+substitution of crossbred for merino sheep. The process
+of substitution will in fact be continued until we reach
+the point at which the marginal cost is about equal to
+the price. Similarly by starting with the numbers of
+merino and crossbred sheep which would yield the same
+quantity of mutton, we can calculate the marginal cost
+of wool; and again the tendency will be for this marginal
+cost to be equal to the price.[<a href="#68f1">1</a>]
+</p>
+<div class="footnote">
+<p><a name="68f1">[1]</a> It may be found difficult to grasp this point
+when stated
+in
+general terms. The following arithmetical example may make it
+plainer:&mdash;
+</p>
+<p>
+Suppose a merino sheep yields 9 units of mutton and 10 units of
+wool.
+</p>
+<p>
+Suppose a crossbred sheep yields 10 units of mutton and 8 units
+of wool.
+</p>
+<p>
+Suppose, further, that a merino sheep and a crossbred sheep
+each cost the same sum, say, for convenience, &pound;10, to rear and
+maintain; and that there are no special costs assignable to the
+wool and the mutton respectively, as, of course, in fact there are.
+</p>
+<p>
+Then 10 merino sheep, yielding 90 units of mutton + 100 units<a
+ name="69"> </a>of wool, cost &pound;100; while 9 crossbred sheep,
+yielding 90 units of
+mutton + 72 units of wool, cost &pound;90.
+</p>
+<p>
+Hence you could obtain an extra 28 units of wool for an extra
+cost of &pound;10, by maintaining 10 merino sheep rather than 9
+crossbred
+sheep. The marginal cost of wool is thus &pound; 10/28 per unit.
+</p>
+<p>
+Similarly 8 merino sheep, yielding 72 units of mutton + 80 units
+of wool, cost &pound;80; while 10 crossbred sheep, yielding 100 units
+of
+mutton + 80 units of wool, cost &pound;100.
+</p>
+<p>
+Hence you could obtain an extra 28 units of mutton for an extra
+cost of &pound;20, by maintaining 10 crossbred sheep in place of 8
+merinos.
+The marginal cost of mutton is thus &pound; 20/28 per unit.
+</p>
+<p>
+So long as the price obtainable for wool exceeds &pound; 10/28, and
+that
+obtainable for mutton does not exceed &pound; 20/28 per unit, it will
+pay to
+substitute merino for crossbred; and conversely. If the price of
+wool exceeds &pound; 10/28 and the price of mutton also exceeds &pound;
+20/28, it will
+be profitable to expand the supply of both breeds, until as the
+result of the increased supply, one of the above conditions ceases
+to obtain. Conversely, if the prices of both products are less than
+the figures indicated, sheep farming of both kinds will be restricted.
+The resultant of the processes of expansion or restriction,
+and substitution, will be that, unless one of the breeds is
+eliminated, the prices of mutton and wool will equal their respective
+marginal costs. These marginal costs may, of course, alter
+as the process of substitution extends. For the relative cost of
+maintaining merinos and crossbreds will not be the same for
+every farmer. Here again it is the costs at the "margin of
+substitution"
+that matter.
+</p>
+</div>
+<p>
+&sect;2. <i>Marginal Utility under Joint Demand</i>. On the side
+of demand there exist as a rule similar possibilities of
+variation. <i>Some</i> machinery, <i>some</i> labor, <i>some</i>
+materials
+of various kinds, are all indispensable in the production
+of any manufactured commodity. But the proportions
+in which these factors are combined together can
+be varied, and are frequently varied in practice as the
+result of the ceaseless pursuit of economy by business
+men. To produce pig-iron, you need both coal and
+iron ore; but, if coal becomes more costly, it is possible
+to economize its use. Machinery and labor must be
+<a name="70"> </a>used together, in some cases in proportions which
+are
+absolutely fixed. But there is in nearly every industry
+a debated question as to whether the introduction of
+some further labor-saving machine would be worth
+while, or some improved machine which would represent
+the substitution of more capital plus less labor for less
+capital plus more labor. A farmer can cultivate his
+land, to use a common expression, more intensively or
+less intensively; in other words, he can apply larger
+or smaller quantities of capital and labor (the proportion
+between which he can also vary) to the same
+amount of land. The problem is essentially the same as
+that of the substitution of the crossbred for the merino.
+We can take the various possible combinations of the
+factors of production, and contrast two cases in which
+different quantities of one factor are employed, together
+with equal quantities of the others. The extra product
+which will be yielded in the case in which the larger
+quantity of the varying factor is employed can then be
+regarded as the marginal product (or marginal utility)
+of the extra quantity of that factor; and we can say
+that the employment of this factor will be pushed
+forward to the point where this marginal product
+will be roughly equal to the price that must be paid
+for it. We can thus lay down the most important
+proposition that the relation between marginal utility
+and price holds good generally of the ultimate agents
+of production; that the rent of land, the wages of
+labor, and, we can even add, the profits of capital tend
+to equal their (derived) marginal utilities, or, as it is
+sometimes expressed, their marginal net products.
+</p>
+<p>
+Whenever, therefore, the proportions in which two or
+<a name="71"> </a>more things are produced or used together can be
+varied, the relations of joint supply and joint demand
+are perfectly consistent with a specific marginal cost
+and marginal utility for each commodity.
+</p>
+<p>
+&sect;3. <i>A contrast between Cotton and Cotton-seed, and
+Wool and Mutton</i>. But it sometimes happens that such
+variations cannot be made. Thus, it has not been
+found possible (so far as I am aware) to alter the
+proportions in which cotton lint and cotton-seed are
+yielded by the cotton plant. Roughly speaking, you
+get about 2 pounds of cotton-seed for every 1 pound of
+cotton lint (or raw cotton), and though this proportion
+may vary somewhat from plantation to plantation, it is
+upon the knees of the gods, and not upon the will of the
+planter that the variation depends. We cannot, therefore,
+speak with accuracy of the separate marginal costs
+of raw cotton and cotton-seed. It is true that some
+plantations are so far distant from any seed-crushing
+mill that it is not worth while to sell the seed as a
+commercial product; and it might seem, therefore,
+as though we might regard the entire costs of cotton
+growing on <i>such</i> plantations as constituting the marginal
+costs of raw cotton. But planters, so situated,
+derive a considerable value from their cotton-seed by
+using it as fodder for their live stock or as a manure.
+You can, of course, argue that proper allowance is
+automatically made for this factor, as a deduction from
+the costs of raw cotton, when you add up the expenses
+of the plantation. In the same way you can deduct the
+price which a planter who sells his cotton-seed obtains
+for it, from the total costs of the plantation, and call the
+<a name="72"> </a>remainder the costs of the raw cotton. But this is
+really to reason in a circle. For in either case the
+magnitude of the deduction depends on the marginal
+utility of the cotton-seed. And the notion of the cost
+of anything becomes blurred and blunted if we so use
+it that it must be deduced from the utility of something
+else, which is not an agent in the production of the
+thing in question.
+</p>
+<p>
+This point is not merely an academic one. It means
+that we cannot explain the <i>relative</i> prices of cotton
+lint and cotton-seed in terms of cost at all, whether
+marginal or otherwise. The influence of cost will be
+confined to the <i>sum</i> of the prices of the two things.
+Upon this sum it will exert precisely the same influence
+as it exerts upon price in general, by affecting the total
+quantities of the two things that will be supplied. But
+upon the distribution of this sum between lint and
+seed, cost will exert no influence whatever, because it
+cannot affect the proportions in which they are supplied.
+It may assist some readers if I state the matter in more
+concrete terms. Cost of production will be one of the
+factors which will result in the production of an annual
+cotton crop in the United States of, let us say, 10 million
+tons of seed cotton. This crop will yield roughly 6-2/3
+million tons of cotton-seed, and 3-1/3 million tons (or
+rather more than 13 million bales) of lint. The combined
+price received by the planter of (let us say) 14.4
+cents for 1 pound of lint plus 2 pounds of seed should
+correspond roughly to the marginal joint costs of production.
+But the factor of cost has no influence at all
+in determining that this combined price is made up of
+a price of 12 cents per pound for lint, and only 1.2 cents
+<a name="73"> </a>per pound (or $24 per ton) for cotton-seed. To
+account
+for this we must rely entirely upon demand. We can
+say, shortly, that the respective prices must be such as
+will enable the demand to carry off 6-2/3 million tons
+of seed, and 3-1/3 million tons of raw cotton. Or we
+can go further and say that the marginal utility of a
+pound of raw cotton, when 3-1/3 million tons are supplied,
+is ten times as great as that of a pound of seed
+when 6-2/3 million tons are supplied.
+</p>
+<p>
+If accordingly the demand for cotton-seed were to
+expand considerably owing, say, to the discovery of
+some new use for the oil, which is its most valuable constituent;
+the effect would be first a rise in the price of
+cotton-seed, and, subsequently, by stimulating cotton
+growing, a more plentiful supply and a lower price for
+raw cotton. And so far at least as the increased supply
+is concerned, this must necessarily be the effect, "other
+things being equal"; though, to be sure, it might be
+outweighed and obscured by other influences such as the
+boll-weevil. But it is <i>not</i> the case that an increased
+demand for mutton must necessarily increase the supply
+or lower the price of wool; and it is most unlikely
+to do so in any similar degree. For, here, the separate
+marginal costs of the two things exert their influence.
+An increased demand for mutton will stimulate sheep
+farming, but it will also stimulate the substitution of
+crossbred for merino breeds; and the resultant of these
+two opposite tendencies upon the supply of wool is
+logically indeterminate. As a matter of history we know
+that the development of cold storage in the eighties
+(which we may regard for the present purpose as equivalent
+to an increased demand for Australian mutton)
+<a name="74"> </a>caused considerable perturbation in the woollen and
+worsted industries of Yorkshire. They were faced with
+a dwindling supply and a soaring price of merino wool;
+and the adaptability with which they met the situation,
+and won prestige for the crossbred tops, and yarns and
+fabrics, to which they largely turned is a matter of
+just pride in the trade to-day. The fact, however, that
+this alteration in the supply of wool was a matter not
+only of quantity but of quality, while it takes nothing
+from the substance of the preceding argument, makes
+it difficult to draw a clear moral, bearing on the present
+issue, from this incursion into history.
+</p>
+<p>
+&sect;4. <i>The Importance of being Unimportant</i>. The above
+contrast between cases in which variation is possible,
+and those in which it is not possible, is reproduced with
+a heightened significance when we turn back to joint
+demand. The cases are perhaps less common in which
+it is <i>impossible</i> to alter the proportions in which different
+commodities are jointly demanded, but there are many
+cases in which it is not nearly worth while to do so
+(and this amounts to very much the same thing).
+Cases of this sort are especially likely to occur when we
+are dealing with a commodity which accounts for only
+a tiny fraction of the costs of the industry which is its
+chief consumer. Sewing cotton, for example, is jointly
+demanded, with many other things, by the tailoring
+and other clothing trades; but the money which these
+trades spend on sewing cotton is so small a part of
+their total expenditure, that no ordinary variation in
+its price is likely to make it worth while to study the
+ways and means of using it in smaller quantities. When
+<a name="75"> </a>sewing cotton is bought by the domestic consumer,
+considerations which are fundamentally the same,
+though somewhat different in form, point to a similar
+conclusion. It is thus very difficult to assign to sewing
+cotton a specific marginal utility. This difficulty is of
+great importance in connection with the possibilities
+of monopolistic exploitation. For it means that the
+demand blade of the scissors upon which we rely to cut
+off excrescences of price is blunted, and if accordingly
+the producers constitute a strong enough combination
+to control the supply blade, they will possess an unusual
+power of advancing their selling prices as they choose.
+I am far from suggesting that Messrs. J. &amp; P. Coats
+are to be condemned as an extortionate monopoly.
+On the contrary, during 1919, when the profits in highly
+competitive industries like the main branches of the
+cotton and woollen trades, soared exuberantly, the
+record of this concern seems to me one of distinct
+moderation. But the present point is that they possess
+an exceptional <i>power</i> to fix the price of sewing cotton
+as they choose, and that this is attributable in no small
+degree to the fact that sewing cotton constitutes an
+essential but relatively trifling item in the expenses of
+the processes in which it is employed.
+</p>
+<p>
+Perhaps the point will be made clearer if we turn
+from the selling prices of commercial products, in regard
+to which there is a strong and not ineffective public
+sentiment against "profiteering," to the remuneration
+of different classes of labor. With an instinctive disposition
+towards megalomania, it is often claimed in
+Great Britain that the miners, being a very numerous
+and well-organized body of workpeople, were in a
+<a name="76"> </a>stronger strategic position than most workpeople
+for exacting the remuneration they desire. It is
+quite true that a stoppage of work in the coal industry
+causes us a high degree of inconvenience,
+and temporary concessions may thereby be obtained
+which might otherwise have been refused. But this
+is a dubious advantage, and we grossly exaggerate
+its real importance. The truth is that the strategic
+position of the miners in regard to wages questions is
+by no means strong. For their wages constitute a very
+large percentage of the cost of coal; and the price of coal
+in its turn is a most important element in the costs of
+many of the industries which are its principal consumers.
+Great Britain, moreover, is far from possessing
+a monopoly of coal. If, accordingly, the wages of the
+miners are temporarily pushed up to a high point, the
+result will certainly be a diminished demand for British
+coal, which will lead before long to their fighting a losing
+battle to maintain the concessions they have won.
+Contrast their position with that of the steel smelters,
+whose wages (high though the wage rates are) constitute
+a very small percentage of the costs of steel production,
+and we must agree I think that we have in this distinction
+the main reason why the steel smelters, though
+they hardly ever go on strike, have as a rule been
+able to do so much better for themselves than the
+miners.
+</p>
+<p>
+When a commodity or service is such that an appreciable
+alteration in its price has only a slight effect upon
+the quantity demanded, the demand is said to be
+<i>inelastic</i>. Conversely, when a small change in price
+greatly alters the quantity demanded, we call the
+<a name="77"> </a>demand <i>elastic</i>. In the former case, it is
+worth nothing,
+a larger aggregate sum of money will be spent upon the
+thing when its price is high than when it is low, while
+the opposite is true in the latter case. This distinction
+is of considerable importance in connection with many
+problems (e.g. of taxation); and the terms, elastic
+demand and inelastic demand, are worth remembering.
+We may thus express the above conclusions by saying
+that the demand for sewing-cotton is highly inelastic,
+and that the demand for coal miners is more elastic than
+that for steel smelters.
+</p>
+<p>
+&sect;5. <i>Capital and Labor</i>. Cases in which it is impracticable
+to make any variation in the proportions in
+which different things are used together are, however,
+the exception rather than the rule. Where variation
+is possible, we are confronted with an uncertainty as to
+the way in which an increased supply of one thing will
+react on the demand for another, similar to our uncertainty
+as to whether an increased demand for mutton
+would augment or diminish the supply of wool. It is,
+for instance, of the highest importance to give a clear
+answer, if we can, to the question whether an increased
+supply of capital will increase the demand for labor.
+The chief effect of an increased supply of capital is to
+facilitate the extended use of expensive machines: to
+some extent these machines will increase the demand
+for labor; to some extent they will be substituted for
+it. Which of these two tendencies will outweigh the
+other we cannot be absolutely sure. But fortunately
+we can be far more nearly sure than was possible in the
+analogous case of wool and mutton. An increase in the
+<a name="78"> </a>supply of capital increases the demand for the
+commodities,
+from which the demand for labor is derived,
+in both the senses discussed in Chapter II. First it
+makes them cheaper to buy, and thus increases the
+quantity that will be bought. It is this that is parallel
+to the effect of an increased demand for mutton in
+making it more profitable to breed sheep. But it also
+serves to increase the purchasing power with which to
+buy commodities, because it increases the aggregate
+real wealth of the community, and it thus serves to
+raise the whole demand curve. This last consideration
+is so important as to make it overwhelmingly probable,
+apart from the evidence of history, that an increase in
+the supply of capital (and the same may be said of an
+increase in the supply of the other agents of production)
+will on balance increase the demand for labor. The
+evidence of history points to the same conclusion. The
+history of the last hundred years displays an unprecedented
+accumulation of capital, and an unprecedented
+extension of machinery, associated with an unprecedented
+improvement in the standard of living throughout
+the whole community. This is powerful testimony
+in favor of the view that an increase in the supply of
+capital and the use of machinery will usually enhance on
+balance the demand for labor. Moreover, though this
+is not conclusive, there is little room for doubt that an
+obstructive attitude towards the extension of machinery
+in a particular country, or a particular district, is misguided.
+For its effect must be to make production
+more costly there than it is elsewhere, and to lead,
+slowly perhaps, but very surely, to the transference of
+the industry to other regions.
+</p>
+<a name="79"> </a>
+<p>&sect;6. <i>Conclusions as to Joint Supply and Joint Demand</i>.
+Here, however, we are beginning to digress. Let us
+sum up in a general form our conclusions as to the way
+in which changes in the supply or demand of a commodity
+react upon the demand or supply of the other things
+with which it is jointly demanded or supplied. Everything
+turns, as we have seen, on the possibility of
+variation in the proportions in which the things are
+used or produced together; and this, it is also clear,
+is a matter of degree. Our conclusions, therefore, had
+best take the following form:&mdash;
+</p>
+<div class="law">
+VII. When two or more things are jointly demanded,
+in proportions which cannot easily be varied, the
+tendency will be for an increase (or decrease) in the supply of
+one of them to increase (or decrease) the demand for the others.
+These results will be more certain, and more marked, the more
+difficult it is to vary the proportions in which the things are used.
+<br>
+<br>
+Similarly, when two or more things are jointly
+supplied, in proportions which cannot easily be varied, the
+tendency will be for an increase (or decrease) in the demand
+for one of them to increase (or decrease) the supply of
+the others. These results again will be more certain and more
+marked, the more difficult it is to vary the proportions in
+which the things are supplied.
+</div>
+<p>
+&sect;7. <i>Composite Supply and Composite Demand</i>. Joint
+Demand and Joint Supply do not complete the list of
+<a name="80"> </a>relations between the demand and supply of different
+things. Between tea and coffee, or beef and mutton
+there is a relation of a different kind. These things are
+in large measure what we call "substitutes" for one
+another. An increased supply, and a lower price of
+mutton, will probably induce us to consume less beef.
+This relation it is convenient to describe as Composite
+Supply. Beef and mutton make up a composite supply
+of meat; tea and coffee a composite supply of a certain
+type of beverage. For any group of things, between
+which the relation of Composite Supply exists, we can
+say, with complete generality, that an increased supply
+of one of them will tend to diminish the demand for
+the others. Parallel to the relation of Composite
+Supply is that of Composite Demand. There are frequently
+several alternative uses in which a commodity
+or service can be employed; and these alternative uses
+make up a composite demand for the thing in question.
+Thus railways, gasworks, private households and a
+great variety of industries contribute to a Composite
+Demand for coal. It is worth noting that there is frequently
+an association in practice between Joint Demand
+and Composite Supply on the one hand; and between
+Joint Supply and Composite Demand on the
+other. Wool and mutton, for instance, we have described
+as an instance of Joint Supply; but, in so far as
+the proportions of wool and mutton can be varied, we
+can regard these things as constituting a Composite
+Demand for sheep. And this conception may help us
+to retain a clearer and more orderly picture of the problems
+we have discussed above. We can regard the fact
+that wool and mutton are produced together as their
+<a name="81"> </a>Joint Supply aspect, and the fact that these
+proportions
+can be varied as their Composite Demand aspect; and
+the question as to whether an increased demand for
+mutton will increase the supply of wool turns upon
+whether the former aspect is more important than
+the latter. Similarly labor and machinery, employed
+together for the same purpose, form an instance of
+Joint Demand; but in so far as they can be substituted
+for one another, they constitute a Composite Supply of
+alternative agents of production.
+</p>
+<p>
+These four relations of Joint Demand, Joint Supply,
+Composite Demand and Composite Supply are well
+worth remembering and distinguishing from one
+another. They are of immense importance in every
+branch of economic affairs. There are hardly any
+economic problems upon which we are fitted to express
+an opinion, unless we have a lively sense of the far-reaching
+ramifications of cause and consequence, of the
+subtle and often unexpected interconnections between
+different industries and different markets. To gape at
+these complexities in a confused stupor is as foolish as
+it is to ignore them. But confusion and stupor are only
+too likely to represent our final state of mind, if we
+attempt to deal with these complications, one by one
+as they occur to us, in a piecemeal and haphazard
+fashion. We need a clear method, a systematic plan
+by which we may search them out, and fit them into
+place. The four relations which we have enumerated
+supply us with such a plan and method. For they
+represent something more than a series of pompous
+names for familiar notions. They constitute a classification
+of the various ways in which the demand and
+<a name="82"> </a>supply of one thing can affect the demand and supply
+of
+others; a classification which is exhaustive when we
+add the relation of derived demand, and an analogous
+relation on the supply side which we must now notice.
+</p>
+<p>
+&sect;8. <i>Ultimate Real Costs</i>. Just as the utility of
+"producers'
+goods" is derived from that of the "consumers'
+goods" which they help to make; so the
+cost of any commodity is derived from the cost of the
+things which help to make it. Moreover, just as we
+recognize that the utility of "consumers' goods" lies
+at the back of all demand, and constitutes the ultimate
+end of all production; so we cannot but feel, however
+obscurely, that behind the phenomena of money costs,
+there must lie certain ultimate costs, of which all money
+costs are but the measure. But when we try to explain
+what the nature of these real costs may be, we are
+plunged in difficulty. Wages, it may indeed seem at
+first sight, present no trouble. There is the effort
+and the fatigue, the unpleasantness of human labor, to
+represent real costs. But can we suppose that these
+things are measured with any approach to accuracy by
+the wages which are paid in actual fact? Is it true,
+even as a broad general rule, that the services which are
+most arduous and most disagreeable command the
+highest price? And wages are not the only ingredient
+of money costs. There are profits: to what real costs
+do profits correspond? More difficult still, to what
+does rent correspond? These plainly are not questions
+upon which he who runs may read. It will be necessary
+to devote the next four chapters to their elucidation.
+</p>
+<a name="83"> </a>
+<h3 class="chap_head"><a name="Chapter_VI"></a>Chapter VI</h3>
+<h3 class="chap_name">Land</h3>
+<p>
+&sect;1. <i>The Special Characteristics of Land</i>. In the great
+process of co-operation by which the wants of mankind
+are supplied, Nature is an indispensable participant.
+She renders her assistance in an infinite variety
+of ways, of which the properties of the soil which
+man cultivates form only one; but the sunshine and
+rain which enable the farmer to grow his crops; the
+coal and iron ore beneath the surface of the earth, can
+be regarded for our present purpose as forming part of
+the land with which they are associated. We can
+thus concentrate upon land as the representative
+of the free gifts of nature, which are of economic
+significance. Land in modern communities is for the
+most part privately owned. It can be bought and sold
+for a price, and acquired by inheritance. Moreover, it
+is a common practice, particularly in the United
+Kingdom, for an owner who does not wish himself to
+cultivate or otherwise use the land, not to sell it to the
+man who does, but to lease it to him for a term of years
+for an annual payment which we term rent. It is therefore
+natural and convenient to envisage the problems,
+which we shall consider in this chapter, as problems
+concerning the price and rent of land. But, once again,
+the laws and principles which we shall state and
+illustrate in terms of the current systems of ownership
+<a name="84"> </a>and tenure, possess a much deeper significance than
+this terminology might suggest.
+</p>
+<p>
+The fact that land is a free gift of Nature distinguishes
+it in various ways from commodities which
+are produced by man. The peculiarities which are most
+important from the economic standpoint are (1) that
+the supply of land is, broadly speaking, fixed and
+unalterable, and (2) that its quality and value vary,
+from piece to piece, with a variation which is immense
+in its range, but fairly continuous in its gradation.
+These are thus two aspects from which the phenomena
+of price and rent can be regarded; aspects which it is
+usual to call, (1) the scarcity aspect, (2) the differential
+aspect.
+</p>
+<p>
+&sect;2. <i>The Scarcity Aspect</i>. The fact that the supply of
+land is fixed has the following significance. If the
+demand for land increases, the price will tend to rise.
+This is also true, for a short period at least, of an
+ordinary commodity. But, in the latter case, there
+would ensue an increase in supply which would serve to
+check the rise in price, and possibly, if production on a
+larger scale led to improved methods of production,
+bring the price down eventually below its original level.
+In the case of land, no such reaction is possible. There
+is nothing, therefore, to restrain the price (and the rent)
+of land from rising indefinitely, and without limit,
+if the demand for it should continue to increase. Conversely,
+if the demand for land falls off, there is nothing
+to check the consequent fall in price and rent. In the
+case of ordinary commodities, the supply would be
+diminished, because most things are either consumed
+<a name="85"> </a>by being used, or wear out in the course of time,
+and
+a regular annual production is therefore necessary to
+sustain their supply at the existing level. But land
+remains, whether it is used or not; and its supply is,
+broadly speaking, just as incapable of being diminished,
+as it is of being increased. Changes in the demand for
+land in either direction are thus likely to affect its price
+in a much greater degree than that in which the price of
+an ordinary commodity will be affected by a corresponding
+change in its demand.
+</p>
+<p>
+For most purposes, however, it is of more interest
+to compare land with other agents of production,
+especially with capital and labor, rather than with
+ordinary commodities. Now, as we have already
+noted, there is some doubt as to the manner in which
+the supply of capital or labor is likely to be affected
+by alterations in demand price. But the supply of
+capital and the supply of labor, even if we suppose
+them to be as entirely unresponsive to price changes as
+is the supply of land, are at any rate not fixed. Not
+only <i>may</i> they vary for many reasons, but they are in
+fact likely to vary in direct proportion to the population.
+An increase in population implies an increase in the
+supply of labor; and it is likely to be accompanied
+by an increase in the supply of capital; in other words,
+the supply of these agents will expand, as the demand
+for them expands. But the supply of land will remain
+what it was. This fact is enormously important in
+connection with the broad problem of population, which
+will form the theme of Volume VI.
+</p>
+<p>
+But it is important also in other connections. It has
+been the dominating factor in many absorbing controversies
+<a name="86"> </a>upon high policy regarding the ownership of
+land, or the taxation of land values, upon which we
+can touch but lightly here. It has seemed to many
+writers a reasonable proposition to lay down, that the
+ordinary course of the progress of society, the increase
+of population and industry, must mean, as a broad
+general rule, a constant increase in the demand for land.
+And, if that be granted, it seems to follow that the
+price and rent of land will tend constantly to increase.
+John Stuart Mill, accordingly, in the middle of the last
+century, asserted that "the ordinary progress of a
+society, which increases in wealth, is at all times tending
+to augment the incomes of landlords; to give them
+both a greater amount and a greater proportion of the
+wealth of the community, independently of any trouble
+or outlay, incurred by themselves,"[<a href="#86f1">1</a>] and upon the
+strength of this assertion, he justified the policy
+of imposing a special tax upon what we have come
+to call the "unearned increment" of land. But how
+far does actual experience bear his assertion out?
+In Great Britain we have seen in the last half-century
+an undoubted increase in urban rents; but over long
+periods at least, there was a marked fall in both the
+prices and rents of agricultural land, despite the
+fact that the country was "increasing in wealth"
+as rapidly as ever before. This was due, of course, in
+the main to the increased supplies of wheat and other
+foodstuffs coming from the New World: and if, accordingly,
+we choose to lump together not only our own
+urban and agricultural land, but the land of other
+countries as well, and to speak vaguely of the demand
+<a name="87"> </a>for land as a whole, it might seem as though we
+could
+argue that Mill's generalization still holds good. But
+even this is by no means certain and in any case such
+a generalization is of very little service: what the
+illustration should rather suggest to us, is the danger
+of speaking of land vaguely as a whole, and the importance
+of turning our attention to the variations in value
+between different kinds and different pieces.
+</p>
+<p class="footnote">
+<a name="86f1">[1]</a><i>Principles of Political Economy</i>, by John
+Stuart
+Mill.
+</p>
+<p>
+&sect;3. <i>The Differential Aspect</i>. Most ordinary commodities
+are not produced on a single, uniform pattern. As a
+rule there are many variations of grade and quality,
+and consequently of price. But these variations are
+usually designed to meet the differences of taste among
+the purchasers, and we do not expect to find that any
+variety of an ordinary commodity will be produced,
+which is so poor in quality as to be entirely valueless.
+But since it is nature which has produced the land,
+without any assistance or guidance from man, there are
+many pieces of land which are so unfertile, or are otherwise
+so unsuitable for productive purposes, as to be
+quite valueless from the economic standpoint. Even
+in a densely populated country like Great Britain, there
+are considerable tracts of land which it is unprofitable
+to employ for any economic purpose whatsoever, and
+which possess no further value than what the mere
+pride of ownership may give them. This fact makes it
+possible to apply the conception of the margin to the
+case of land with particularly illuminating results.
+</p>
+<p>
+In the first place, however, it should be observed
+that the value of any piece of land does not depend
+solely on the intrinsic fertility of the soil. The fact that
+<a name="88"> </a>land is an immobile thing makes its <i>situation</i>
+a factor of
+great importance. In the case of urban land, situation
+is, of course, the only thing that counts. The value of
+a site in Bond Street or the City is entirely unaffected
+by its capacity or incapacity for potato-growing
+purposes. But even for agricultural land, situation is a
+most important matter. A farm, which is so remote
+that considerable transport charges must be incurred
+to bring its produce to market, will be less sought after,
+and less valuable, than one which is much better
+situated though somewhat less fertile. In what follows,
+therefore, we must speak of the "quality" of a piece
+of land in a broad sense to include advantages of
+situation, as well as of fertility. Let us now, imagine
+the different pieces of land in Great Britain to be
+arranged in order of quality, so that we have a long
+series, with land of the best quality at one end, and of
+the poorest quality at the other. At the latter end, we
+will have such land as is found near the top of Snowden
+or Ben Nevis, which it clearly does not pay to cultivate
+at all. Somewhere, then, between these two extremes,
+we shall come to a point where the land is just, but only
+just, worth cultivating, or where, to revert to a form
+of words we previously employed, it is a matter of <i>doubt</i>,
+whether the land is really worth using for a productive
+purpose. Such land we can regard as the "marginal
+land"; and since the variety of nature is at once
+infinite and fairly minutely graduated we shall probably
+find that on one side of this margin there is much land
+which is only slightly superior, and on the other, much
+which is only slightly inferior, to the marginal land
+itself. What, then, is likely to be the value and the
+<a name="89"> </a>rent of this marginal land, this land which is just
+on the
+"margin of cultivation"? Some readers may find the
+answer startling. The rent of the marginal land will
+be nil, because it will not pay to cultivate it, if any
+appreciable rent is charged. A piece of land for which
+it is worth a tenant's while to pay an appreciable rent,
+will not be the marginal land, because there will be land
+just slightly inferior to it which it will also pay to
+cultivate if a somewhat lower rent is charged. And so
+we can pass to poorer and poorer qualities of land,
+with an ever diminishing rent, until at the margin of
+cultivation the derived utility of the land is negligible
+and the rent vanishes.
+</p>
+<p>
+This certainly is a somewhat abstract conception;
+but it is by no means so remote from reality as may at
+first sight appear. The reader may protest that in the
+course of an extensive and varied acquaintance with
+landowners, he has not yet run across this peculiar
+marginal type, who lets his land for no rent at all. But
+there, if his experience is really extensive, I think he
+is mistaken. It so happens that the ordinary agricultural
+landowner leases out his land, not by itself, but
+together with a variety of other things such as farm
+buildings, which it costs him a considerable sum of
+money to provide. He will not as a rule be willing to
+go to this expense, unless he sees his way to obtain for
+the farm an annual payment, which represents at least
+a fair return on this capital outlay, as big a return as
+he could have got, for instance, by investing the
+same amount of money in some gilt-edged security.
+This annual payment will, it is true, be called rent;
+but the significance of this is that what we term rent
+<a name="90"> </a>in ordinary life is usually a complex thing, made up
+of
+two essentially distinct elements, viz. the normal return
+on the capital goods supplied together with the land,
+and what we may call the "net rent," or the "pure
+rent" attributable to the land itself. Now will any
+reader make so bold as to say that there is no land under
+cultivation, in respect of which this net rent is either nil
+or negligible? The landowners will not agree with him.
+It is not a question, it should be observed, as to whether
+the rent obtained represents more than a fair return on
+the purchase price paid for the land; that is quite another
+matter. The question is whether the rent obtained
+exceeds a fair return on the capital sum spent on the
+buildings, etc.; with which every farm must be equipped
+to let at all. In fact there are not a few farms where
+there is no such excess, and where accordingly there
+is no "net rent" or "pure rent" which can be attributed
+to the land.
+</p>
+<p>
+The question whether it would be profitable to cultivate
+any piece of land, turns upon whether the receipts
+which would be obtained by selling the produce
+would exceed the costs of cultivation: and under these
+costs of cultivation we must include, of course, the
+remuneration of the farmer's services. Farmers, like
+other people, have to live; and they would not take
+on the troublesome job of farming, unless there seemed
+a prospect of making a living out of it. The remuneration
+of the farmer takes, of course, the form not
+of a salary, but of profits: and these profits vary very
+much from year to year, and from place to place, and
+from man to man. But they are essentially payment
+for work done, and an ordinary profit must be regarded
+<a name="91"> </a>therefore as part of the necessary costs of farming.
+Thus it will not be worth while to cultivate a piece
+of land, and the land will in fact lie unused, upon
+which a careful farmer might obtain a profit in the
+ordinary sense, of no more than $50 or $100 a year.
+The marginal land will be land which yields a decent
+profit to a decent farmer, as well as a gross rent to the
+landowner, sufficient to compensate him for his capital
+outlay, but nothing further.
+</p>
+<p>
+What, then, will be the rent of a fertile and well-situated
+farm, about which there is no doubt that it is
+well worth cultivating? Part of the gross rent which
+the landowner receives must again be regarded as
+merely a return for the capital expended in equipping
+the farm for use; but in this case, there will be a residue
+left over, which constitutes the net rent of the land.
+The net rent will measure the derived utility of the
+land to its occupier, and will in general represent
+(very roughly, of course, in practice) the differential
+advantage of cultivating the land in question rather
+than land on the "margin of cultivation." This differential
+advantage may take either, or both, of the forms,
+of a larger produce per acre, or a lower cost of production
+and marketing. But, in any case, the extra profit,
+which, if no rent were charged, a decent farmer could
+obtain by cultivating the farm in question, rather than
+a marginal farm, will be roughly equal to the net rent
+which his landlord can exact from him, if his landlord
+so chooses. The landlord may, of course, not choose
+to exact a rent as high as this; and as a matter of fact,
+in a country like Great Britain landlords often content
+themselves with less. The traditions associated
+<a name="92"> </a>with the ownership of agricultural land, and with
+the
+relations between landlord and tenant serve to soften
+the edge of economic law, and to subject the rents
+which are actually fixed to the control in no small
+measure of the general sense of what is fair or customary.
+In such cases the landlord makes the farmer
+a present, for the time being, of part of the economic
+rent. On the other hand, as Irish agrarian history
+well illustrates, the landlord may sometimes expropriate
+under the name of rent, permanent improvements
+which are due to the labors or the expenditure of the
+tenant. This is, of course, particularly likely to happen,
+whenever it is the custom to leave to the tenant the
+obligation of providing the capital equipment of the
+farm, which in Great Britain is, for the most part, the
+recognized duty of the owner. Again, in the case of
+urban land in the South of England, expropriations
+of this kind are an essential and well-understood feature
+of the leasehold system. The owner grants a
+lease for a long period of time, usually ninety-nine
+years, for a ground rent, which is notoriously below
+the true economic rent of the land, subject to the
+condition that the leaseholder must erect upon the
+land and keep in good repair certain buildings, which
+on expiry of the lease will become the property of the
+ground owner. Here the nominal ground rent is only
+part of the total rent which is really paid; the ultimate
+transference of the buildings representing often the
+more important part. There is, in fact, a great variety
+of systems of land tenure, some of which are highly
+complex, the respective merits of which vary greatly,
+and which constitute a most important problem for
+<a name="93"> </a>statesmen and legislators. Considerations of this
+kind
+in no way diminish the importance of the general
+analysis of rent, which we are pursuing in the present
+chapter. Rather they make it the more important,
+because we cannot properly weigh the merits of any
+system of land tenure, until we have grasped clearly
+the principles governing the rent of land in the purest
+form. But certainly we must never forget that the rent
+we are discussing may differ very greatly from, though
+it will vitally influence, the money payments which
+are called rent in actual life. It is the pure economic
+rent, the rent which represents the <i>full</i> annual payment
+which it would be worth paying to obtain the use
+of the land alone, which will measure, as we have said,
+the differential advantage of the land in question
+over land on the margin of cultivation.
+</p>
+<p>
+A clear grasp of this relation helps us to perceive
+that an increase in the prosperity of the community may
+sometimes influence rents in an unexpected way. It
+all depends on the causes which have given rise to
+the increased prosperity. An advance, for instance,
+in agricultural science will facilitate a more abundant
+supply of foodstuffs; but it will not necessarily increase
+the aggregate rents of agricultural land. For if
+it takes the form, say, of the discovery of some new
+artificial manure, it will very likely facilitate production
+on the less fertile soils far more than it will on the more
+fertile soils where artificial manures are not so necessary.
+It will thus tend to diminish the differential
+advantages of working on the more fertile farms, and
+their rents will accordingly fall, possibly by much more
+in the aggregate than any increase in the rents of the
+<a name="94"> </a>farms near the margin of cultivation. The point may,
+perhaps, be better understood if we pass from agricultural
+to urban land, and ask what would be the effect
+on site values of a great improvement in the facilities
+of internal transport. Push the case to an extreme, and
+suppose passenger transport to become so cheap and
+so quick that there ceases to be any advantage in
+living in a town so as to be near your place of work.
+Urban landlords would no longer be able to obtain the
+high rents they now receive for the sites of houses
+in or near a town. For most people would prefer to
+move out into the country where sites can be obtained
+at little more than an agricultural rent. The country
+covers so large an area relatively to the towns that
+the supply of rural sites would be still very plentiful as
+compared with the demand. Their rents would not,
+therefore, rise by very much, although the rents of the
+housing sites in towns would fall heavily. Of course,
+there are other factors to be taken into account before
+we could pronounce upon the effect on aggregate rents.
+Central sites for shops might, for instance, fetch a
+higher rental than before. The purpose of this discussion
+is not to generalize but to show the danger of generalizing
+about rents in the aggregate, or land as a whole.
+</p>
+<p>
+&sect;4. <i>The Margin of Transference</i>. The last illustration
+may serve, however, to remind us of an obvious fact
+which we must now take into account. The same
+piece of land may be used for a variety of purposes.
+It may have been used for growing corn, and later it
+may be devoted to the building of houses, or, as at
+Slough, to a repair depot for motor vehicles. It need
+<a name="95"> </a>hardly be said that the land will, as a general
+rule,
+be put to the use in which its value is greatest; or to
+speak more strictly, in which the biggest rent, or the
+biggest selling price can be obtained. But the notion
+of the differential advantages which a piece of land
+possesses over the marginal land becomes decidedly
+more complicated when we take account of this variety
+of uses. Let us turn our attention, for instance, to the
+sites used for shop and office purposes, and consider
+what we can regard as the marginal site in this connection.
+Clearly it will not be the marginal land of which
+we spoke above, which it only just paid to cultivate,
+and which yielded no rent at all. For this will probably
+be agricultural land in an out-of-the-way district,
+where no one would dream of setting up an office
+or a shop. Any site upon which a sane man would contemplate
+setting up a shop will certainly possess value
+for other purposes, such as house-building. Hence the
+marginal site for shopkeeping purposes will not be like
+our marginal farm, a site which yields no rent.
+</p>
+<p>
+As regards many pieces of land, there is no doubt
+as to the purposes for which they can most profitably
+be used. This piece will command a much higher rent
+as a shop site than in any other capacity; for that piece
+house-building is the obvious employment; for another,
+agriculture. But in quite a number of instances there
+is considerable uncertainty. It is not clear whether
+upon this site it will be better to erect a house or a shop,
+or if the latter, what kind of a shop. It is not clear
+whether it will pay to use that farm land for a building
+scheme; and, within the domain of agriculture, which
+of course comprises an immense variety of really different
+<a name="96"> </a>*ferent industries, it is often a very moot point
+indeed
+whether a certain field should be left under grass, or
+brought under the plow. Cases of this sort are not phantoms
+of the imagination; they emerge on every side as
+concrete problems with which some one or other is dealing
+every day, and it is these cases which constitute the
+marginal land for the purposes of a particular occupation.
+The marginal sites for shops are the sites for which
+it is only just worth while to pay rents sufficient to entice
+them away from houses. And the rent for a site in Bond
+Street, or elsewhere, which is so much more suitable for
+shop purposes that no alternative use would be worth
+considering, will exceed the rent paid for one of these
+marginal sites by, roughly speaking, the extra advantage
+it possesses for shop purposes. Or will fall short of
+it, it may be well to add, to the extent of its comparative
+disadvantage. For there may be many such marginal
+sites, some of which will fetch low rents, and others
+very high rents indeed; the same site being often of
+great potential utility for a large variety of occupations.
+Between any two occupations there will thus
+usually be a <i>margin of transference</i>, which we must conceive
+not as a point, but as an irregular line, upon or
+near to which there will be many pieces of land, differing
+greatly in the rents which they fetch. These variations
+of rent will correspond to the differences between
+the advantages or derived utilities which the sites
+possess for <i>both</i> the occupations in question. The
+position of such margins of transference will of course
+alter as industrial conditions change, and, when they
+alter, the rents of sites which are not near any margin
+of transference will be affected also. Thus an increased
+<a name="97"> </a>demand for the products of any particular industry
+will make it profitable for that industry to offer higher
+rents, and thus draw land away from other occupations.
+This will have the effect of raising, though
+possibly to a very slight extent, the rents of sites which
+still remain in other uses; for there will be fewer of
+them available; and their derived utilities will consequently
+be increased.
+</p>
+<p>
+But here, as everywhere, it is upon the margin that
+our attention should be focussed, because it is round
+about the margin (wherever it is found) that the
+changes are taking place which really matter for society.
+When Mr. Mallaby-Deeley buys an estate in Covent
+Garden from the Duke of Bedford, the transaction
+hardly deserves the degree of public interest it excites.
+Nothing has happened which is of material consequence
+to anyone except the two gentlemen concerned; the
+various sites are still used for the various purposes for
+which they were used before; nothing has occurred
+that really matters. But when houses are pulled down
+for the erection of a cinema, or when a field is diverted
+from tillage to pasture, something has happened which
+affects for good or ill the interests of the whole community.
+Conversion from tillage to pasture represents,
+indeed, a tendency which has been very marked in
+Great Britain during the last generation, and has
+aroused misgivings in many public-spirited observers.
+Possibly for a variety of reasons, these misgivings may
+be justified; certainly the problem is well worthy of
+attention. But when in this way the issue is raised of
+tillage versus pasture, it is essential, if we are to discuss
+it rationally, that we should envisage it clearly
+<a name="98"> </a>as applying only to a limited portion of
+agricultural
+land, to the portion which lies somewhere near the
+margin of transference, as things are now, between
+the two forms of agriculture. It might be socially
+desirable to bring under the plow a field which the
+farmer finds it only <i>slightly</i> more profitable to lease
+under grass; but this would be highly improbable
+in the case of a field where the balance of argument
+to the farmer in favor of pasture is overwhelming.
+The position of the margin of transference between
+different uses may, in other words, be somewhat out of
+place from the social point of view, and it may be
+desirable by appeals and propaganda, even conceivably
+by the devices of State subsidy and compulsion,
+to push it forwards or backwards in greater or less
+degree. But it will be necessarily a matter of degree,
+and nothing could be more foolish than to speak as
+though there was, or could be, some ideal method of
+cultivation equally applicable to all lands, without
+regard to their climatic and other conditions. Needless
+to say, none of the agricultural experts who sometimes
+deplore the decline of arable farming are guilty of such
+foolishness. But the sense of the diversity of nature
+which is very vivid to them may sometimes be lacking in
+people who live in towns, and a firm grasp of the marginal
+notion may serve best to keep the latter from
+forgetting it.
+</p>
+<p>
+&sect;5. <i>The Necessity of Rent</i>. Behind all such detailed
+applications there lies a more general consideration
+which deserves attention. The way in which the land
+of a country is used, the way in which it is apportioned
+<a name="99"> </a>between the countless alternative employments that
+are
+possible, is a most important matter, more important
+perhaps than any questions as to the size of the incomes
+which particular landowners receive by virtue of their
+rights of ownership. How is this apportionment
+effected as things are now? The answer is clear: mainly
+by the agency of either rent or price. The business
+which finds it worth while to offer the highest rent or the
+highest price for any piece of land will, as a rule, be
+able to command its use. And, with this as the governing
+principle, an apportionment is secured between
+shops, offices, factories, agriculture, between the immense
+variety of different employments covered by
+each of these broad headings; not a rigid unvarying
+apportionment, but one which constantly changes as
+economic circumstances change, and as the margin of
+transference between different occupations moves hither
+and thither. This apportionment takes place at present
+as the result of the independent decisions and bargains
+of many private individuals, who are thinking mainly of
+their own interests, and not of those of the community.
+But this state of affairs might be altered. The land
+might be nationalized and allocated to its various uses
+by the co-ordinated labors of a great State department,
+or some other agency of the collective will. However
+improbable such a change, it is perfectly conceivable.
+But what is not conceivable is that any State department
+should handle the job with a success even approaching
+that of the present system, unless it continued
+to use, as its main instrument, the criterion of
+either rent or price. That a piece of land would yield a
+higher rent in one occupation than in any other is not
+<a name="100"> </a>conclusive evidence that it is best to devote it to
+the
+former purpose, but it is very good evidence, and it
+should be allowed to prevail unless it is demonstrably
+outweighed, as it possibly might often be, by considerations
+of a different kind. That it would not be well for
+the community to employ land in the city of London for
+corn-growing purposes, however desirable might be a
+revival of home agriculture, is so obvious that it
+may seem to have no bearing on the present issue.
+But it is only an extreme indication of the absurd
+and wasteful use of our natural resources, which would
+grow up slowly but surely, if we dispensed with ideas of
+rent and price as sordid irrelevancies, and allocated
+our land on the basis of a balancing of the loftiest
+arguments of a vague and sentimental character. If
+you are prepared for the distribution of land to become
+stereotyped, for each piece to continue indefinitely
+in its present use, then indeed you might dispense with
+rent, as primitive societies very largely do. That would
+mean stagnation and, for an industrial country, decay.
+But if changes are ever to be contemplated, a simple
+quantitative measure is the only safeguard against utter
+chaos. Thus rent, like interest, will be found indispensable
+as a measure under any efficient system of society,
+even if it might not always represent the payment of
+sums of money to private individuals. And that is why
+the principles governing rent possess, as I indicated at
+the outset of this chapter, an importance more fundamental
+than our present system of ownership and tenure.
+</p>
+<p>
+&sect;6. <i>The Question of Real Costs</i>. But we must not
+forget the preliminary question that started us upon
+<a name="101"> </a>our analysis of the agents of production. The rent
+which a manufacturer or farmer has to pay for his land
+he naturally includes in his cost of production. But
+does this money cost to the individual correspond
+to, and measure, any real cost to the community as a
+whole? Here let us note in the first place that if only
+we could disregard the variety of uses to which land is
+put, if we could suppose that all industry was agriculture,
+and that agriculture was a single industry with a
+single product, we could argue that rent does not enter
+into marginal costs at all. For we could regard the
+marginal producer as the one working on a marginal
+farm, whereas we have seen there is no pure rent. The
+rent which other producers have to pay would thus
+represent merely the destination of the surplus profits
+which arise wherever actual costs fall short of marginal
+costs. This way of looking at the matter has proved
+attractive to some thinkers, not in the least because of a
+desire to palliate the effects of landlordism, but because
+it fits in so well with our general sense of rent as a
+"surplus," and a surplus as something distinct from a
+necessary price. But it is clearly illegitimate in an
+economic theory which professes "to describe the
+facts." The marginal land for many purposes fetches,
+as we have seen, a considerable rent; and this rent is
+certainly part of the marginal costs and of the necessary
+price of the products of the particular industry. The
+answer to our question is, however, not now very difficult
+to see. Land, greatly as it differs in many respects
+from the other agents of production, resembles them in
+the very important respect that, being used for one
+purpose, it is not available for other purposes, and that
+<a name="102"> </a>the productive powers of the community in other
+directions
+are thereby diminished. This is the real cost to
+the community, which attaches to the products of any
+industry, in virtue of the land which it occupies;
+not any human labors or sacrifices required to produce
+the land itself, but the curtailment of the natural
+resources available for productive use elsewhere. This
+is the real cost of which rent is the money measure,
+and generally speaking an accurate measure at the
+margin of transference between one occupation and
+another. A somewhat fanciful use of the term cost,
+this may seem perhaps, one not quite in accordance
+with our instinctive sense of what real costs should be.
+But possibly the real costs represented by wages and
+profits may turn out to be not so very different, and
+we had best leave the matter there, until we have
+examined the nature of these other costs.
+</p>
+<p>
+&sect;7. <i>Rent and Selling Price</i>. In this chapter we have
+spoken mainly of the rent rather than the price of land:
+the relation between the two things is fairly obvious
+and well understood, but it will be well not to close
+the chapter without a brief account of it. The price of
+any piece of land is affected by all the considerations on
+which its rent depends, but it is also affected by another
+factor which has no influence whatever upon rent.
+This factor is the rate of interest. The higher the rate
+of interest, the higher the return which a man could
+obtain by buying gilt-edged securities, the lower will
+be the price that he will pay for a piece of land which
+yields a given rent. We can express the relation more
+precisely by the formula Price = (Rent &times; 100)/(Rate of Interest),
+though
+<a name="103"> </a>we must be careful, in applying this formula in
+practice
+to allow for the possible deviations between the nominal
+and the true rent, and similar complications. The
+price, it must be observed, is derived in this way from
+the rent, not the rent from the price.[<a href="#103f1">1</a>] Rent is
+thus
+logically the simpler, price the more complex thing.
+It is well, therefore, to analyze in the first instance the
+principles of rent, if we live in a country where the
+practice of leasing land for annual rent is less common
+than it is in Great Britain, even if, for whatever reason,
+it is the price of land with which we are concerned in
+practice. The problem of price contains two distinct
+elements which it is not easy to handle when mixed up
+together. For the rate of interest represents in itself
+an important branch of economics, which will require
+a separate chapter to itself.
+</p>
+<p class="footnote">
+<a name="103f1">[1]</a> In this the rent of land differs fundamentally
+from that
+of
+other things, such as houses. For the price of a house is largely
+influenced by the costs of construction of new houses, and should
+correspond closely to them in the long run. The same relation
+between rent, price and rate of interest will hold good; but the
+rents will be affected by changes in the rate of interest, owing to
+the reactions of such changes on the supply of houses.
+</p>
+<a name="104"> </a>
+<h3 class="chap_head"><a name="Chapter_VII"></a>Chapter VII</h3>
+<h3 class="chap_name">Risk-Bearing and Enterprise</h3>
+<p>
+&sect;1. <i>Profits and Earnings of Management</i>. The profits
+of a business, as they are ordinarily reckoned, whether
+for the purposes of income tax or of a balance sheet,
+comprise several elements which are fundamentally
+distinct. The relative importance of these various
+elements varies greatly from one type of business to
+another. The profits of a private business include, for
+instance, the remuneration of the work of management,
+which in the case of a Joint Stock Company is mostly
+paid for by salaries or directors' fees. It is to their profit
+that farmers, small shopkeepers, and the partners of
+a private firm look not merely for a return upon their
+capital, but for the reward of their own labors. "Earnings
+of Management," as they are usually termed
+(though in truth they often cover other and humbler
+forms of labor) are thus frequently one of the ingredients
+of profits.
+</p>
+<p>
+&sect;2. <i>The Payment for Risk-bearing.</i> There is another
+element of great importance about which our ordinary
+ideas are apt to be so vague that it will be well to devote
+a chapter to its examination. This is the element of
+payment for risk, or rather the reward of risk-bearing.
+Risk is inherent in all business, as it is inherent in all
+life. The vagaries of nature and the vagaries of man
+<a name="105"> </a>are alike responsible. The farmer may find his
+harvest
+ruined by a drought or by a deluge; the coal or the gold,
+for the extraction of which you have perhaps set up
+an extensive mining plant, may come to an end which
+is unexpectedly abrupt. You may put your money
+into roller-skating rinks and find that cinemas have
+become the rage with the fickle public; sometimes
+"the market" may decline for causes which remain
+obscure but with consequences which are disagreeably
+plain. But while risk is always present in some degree,
+the degree varies enormously from one industry to
+another. Now, it is obvious enough that in an exceptionally
+risky industry, where there is a considerable
+possibility that the capital invested will yield no return
+at all, the profits of those concerns which succeed
+are likely to exceed the rate of interest on gilt-edged
+securities. But what is likely to be the magnitude of
+this excess? Is risk-taking rewarded if there is any such
+excess, however small? Or will it suffice that the gains
+and losses should average out to a fair rate of interest
+over the whole industry? To enable us to think closely
+let us suppose for a moment that we can measure
+accurately what the chances are.
+</p>
+<p>
+Suppose, then, that there were a precisely equal
+chance of success on the one hand and failure on the
+other in any enterprise, failure involving a complete
+loss of all the capital invested. Suppose, further,
+6 per cent to be at the time a fair return on a perfectly
+secure investment. What would be the return which
+must be expected from the risky enterprise, in the
+event of its succeeding, before it will be undertaken?
+The reader may be tempted to answer, 12 per cent.
+<a name="106"> </a>But 12 per cent would not suffice. An equal chance
+of 12 per cent or nothing, as compared with a certainty
+of 6 per cent, does not mean that the risk in the former
+case is paid for to the tune of 6 per cent. It means
+that it is not paid for at all. In each case what a
+mathematician would call the <i>expectation</i> is a return
+of 6 per cent. The odds are evenly balanced; in the
+long run, over a large number of cases, if the law of
+averages works as we assume it does, you would get
+just as much from the one type of investment as the
+other. Now, risky enterprises will not, as a rule, be
+undertaken on terms like these; investors and business
+men will not take risks with the odds precisely equal;
+they must have them, or believe that they have them,
+in their favor.
+</p>
+<p>
+&sect;3. <i>Monte Carlo and Insurance</i>. To assert this is not
+to ignore the strength of the appeal which the gambling
+instinct makes to many, if not to most of us. The
+taste for gambling is, indeed, so deep and widespread
+that it would be foolish to leave it out of account in this
+connection. It is clear enough that at places like Monte
+Carlo people are prepared to have the odds unmistakably
+against them, apparently for the sheer pleasure
+and exhilaration of taking risks. Moreover, though for
+most people play at Monte Carlo represents a mere
+holiday indulgence, it would be unsafe to assume that
+what appeals to them there will not also appeal to them
+in their business affairs. But what exactly is the secret
+of the charm of Monte Carlo? It is the great attractive
+force of a small chance of a large gain, as compared
+with the deterrent force of a large chance of a small loss.
+<a name="107"> </a>People will readily pay $5 for one chance in a
+hundred
+of making no more, perhaps, than $400 or $450. And it
+is very likely that this holds good in the world of business.
+If, for example, we were to suppose that the promoters
+of a new enterprise were confronted with one
+chance in fifty of a profit of 50 per cent per annum on
+their capital, as against forty-nine chances of a profit of
+5 per cent, this might well prove a more attractive prospect
+than a certain return of 6 per cent, although the
+strict <i>expectation</i> of profit would be smaller in the former
+case. But the risks of business enterprise are not
+often of this type. They conform more usually to
+the opposite type of a large chance of a relatively
+small gain, balanced by a small chance of serious
+loss or entire failure. Now for almost everyone the
+possibility of a great loss will count as a deterrent
+(just as the possibility of a great gain may count as
+an attraction) for much more than its strict actuarial
+value.
+</p>
+<p>
+The truth of this proposition is demonstrated by the
+existence of institutions more impressive than Monte
+Carlo&mdash;the Insurance Companies, which play so large
+a part in the economic life of modern times. Every
+year, and upon an ever-growing scale, both private
+individuals and business concerns pay sums of money,
+which reach in the aggregate a colossal sum, as premiums
+to insure themselves against loss by Fire,
+Shipwreck, Burglary, Death, Death Duties, against
+every risk which Insurance Companies will cover.
+Now Insurance Companies are not, as we say, in
+business for their health. They find their business
+profitable, and pay good dividends to their shareholders.
+<a name="108"> </a>Moreover, they incur a considerable expenditure on
+offices, on clerical staff, on agents, and the like. All
+these payments must be defrayed out of the premiums
+they receive; so that it is plain that the premiums
+greatly exceed the <i>expectation</i> of the risks insured.
+The odds are heavily in favor of the Insurance Company&mdash;of
+that the stupidest person can have no shadow
+of doubt. Yet we continue to insure, as private individuals
+and as business men, and so far from being
+ashamed of our proceedings as a weak and nerveless
+folly, which somehow we are unable to resist, we blazon
+them forth in the strong accents of conscious pride.
+We preach insurance to our neighbors as the core of
+self-regarding duty, and, if ever we feel a twinge of
+uneasiness, it is lest we, too, may have omitted in some
+particular to practice what we preach.
+</p>
+<p>
+The significance of this is unmistakable. Be our
+psychology what it may, however deep and irrepressible
+our taste for derring-do, however inadequate
+the scope which the dull routine of modern life affords
+for our adventurous impulses, we are most of us anxious
+to avoid the risk of great financial loss. We are very
+glad to find someone to take it off our shoulders if we
+can; so glad that we are prepared to pay him for the
+service, to pay him a sum which covers not only the
+actuarial equivalent of the risk, but something substantial
+over and above. In this we are entirely rational.
+Our conduct is justified by the law of the diminishing
+utility of money, which was noted at the end of
+Chapter III. It would be plainly foolish, for instance,
+to substitute for the certainty of an income of $2500
+per annum an even chance of $5000 or nothing, since
+<a name="109"> </a>the utility to us of $5000 is not twice as great as
+that
+of $2500.
+</p>
+<p>
+The majority of business risks are not of a kind
+against which it is possible to insure. Insurance companies
+confine themselves to risks which are mainly a
+matter of what we call objective rather than subjective
+chance, i.e. risks in respect of which knowledge of detailed
+facts peculiar to the individual case is of minor
+importance. But such knowledge is of paramount importance
+in the case of ordinary business risks. If, for
+example, a new enterprise is to be undertaken, the special
+knowledge and experience which its promoters
+possess is a vital factor in determining their estimate of
+the risk involved. An outsider with no special knowledge
+would necessarily require to estimate the risk far
+more highly if we were to form a rational opinion on the
+basis of <i>his</i> knowledge. So great, indeed, would be the
+risk to him, that we can lay it down as a sound maxim
+that people are extremely rash who invest their money
+in risky undertakings about which they know very
+little. This subjective aspect of business risk has a
+significance to which it will be necessary to revert.
+</p>
+<p>
+But, though most business risks are not and cannot
+be a matter for premiums and policies, the principle,
+which the practice of insurance illustrates, applies none
+the less. In the light of their knowledge and experience,
+the promoters of a new undertaking must weigh up
+the chances of failure and success, though they will not
+do so by the precise methods of an actuary. They will
+require that any chances of serious loss should be
+balanced by such chances of exceptional gain, as would
+raise the <i>expectation</i> of profit well above the normal
+<a name="110"> </a>return on secure investments. The more risky the
+project seems the greater, generally speaking, must
+be the <i>expectation</i> of profit required to induce people
+to undertake it.
+</p>
+<p>
+If we suppose business men to calculate reasonably,
+it follows that the average profits in any industry over
+a long period of years, reckoning in the losses of the
+concerns which disappear altogether, are likely to be
+higher, the more risky is the industry. Such a result
+will not, of course, occur in every case. Even when the
+calculations are reasonable, they may be entirely falsified
+by the event. Moreover, business men may not
+calculate reasonably on the information which they
+have. But, unless we suppose their judgment to be subject
+to a prevailing bias in one direction, i.e. to be unduly
+optimistic as a general rule, <i>we</i> should expect, and
+in any case <i>they</i> must expect, profits above the ordinary
+in a risky industry.
+</p>
+<p>
+This conclusion is sufficiently important. Far too
+many people, though they admit it when it is expressly
+stated and dismiss it even as a tiresome commonplace,
+are apt to neglect it when the occasion for applying
+it arises. For example, the great importance to any
+industry of good management is generally recognized,
+and the consequent desirability of paying adequate
+salaries to the managerial staff. The importance
+of securing a supply of capital is very widely recognized,
+and the practical necessity of paying a fair rate
+of interest is thus, however grudgingly, conceded.
+But the "residuary profits," as they are called, which
+accrue at present to the owners of a business, are denounced
+in some quarters in a sweeping fashion,
+<a name="111"> </a>which seems to ignore altogether the all-pervading
+element of risk. People speak as though you might
+appropriately limit profits in every industry to some
+uniform percentage on the capital employed, without
+making it clear whether you would even be allowed
+to make up in good years for the losses incurred in
+bad. The effect of introducing any such crude device
+into our present industrial system could only be to
+paralyze enterprises of an unusually risky kind, which,
+so far from being pushed to an excess at present,
+are more probably curtailed unduly from the standpoint
+of what is socially desirable. Like the fixing of a
+low maximum price for a commodity it would cause the
+supply to wither up and disappear.
+</p>
+<p>
+&sect;4. <i>Risk under Large-scale Organization</i>. While this
+is true of the present economic system, the question
+is worth considering whether it represents a fundamental
+necessity, whether, for instance, under our world
+socialist commonwealth the factor of risk-bearing need
+play so important a part as it does in the actual business
+world. This question cannot be answered with a
+conclusive simplicity; opposing considerations present
+themselves, between which it is not easy to strike a
+balance. On the one hand, in accordance with the law
+of averages gains and losses tend to cancel out over a
+large series of transactions, <i>when reasonable calculations
+have been made</i>. Thus Insurance Companies, while
+they take heavy risks off the shoulders of policy-holders,
+incur relatively trifling risks themselves; they can
+predict the aggregate sums which they will be called
+upon to pay within a small margin of error. In the
+<a name="112"> </a>same way it might seem that every enlargement of
+the
+scale of business would make for an automatic insurance
+and a consequent economy of risk; and thus that if all
+businesses were comprised in a single financial unit,
+gains and losses would cancel out over so wide a range
+that the degree of risk remaining would be almost
+negligible.
+</p>
+<p>
+This might indeed happen, if business risks were
+mainly of that objective kind in which the insurance
+companies specialize; for then we could assume that the
+chances of success or failure would be estimated reasonably.
+But, in fact, most business risks, not being of this
+kind, must be estimated by processes of human judgment,
+which are very fallible. And here we must take
+account of the law of averages in another aspect,
+with a different bearing on the argument. When an
+industry comprises a large number of separate concerns,
+and the decisions accordingly are taken by many men,
+acting independently of one another, the errors of
+calculation will tend to some extent to cancel one
+another out. The undue optimism of one man will be
+balanced by the undue pessimism of another; and, if
+there is no prevailing bias in either direction, the errors
+of judgment will not affect the results for the industry as
+a whole. But where the effective decisions are taken
+by very few men, the chances are far greater of a preponderating
+balance of error in one direction. The
+risks dependent on the factor of human judgment tend
+therefore to increase.
+</p>
+<p>
+This truth can be illustrated by a phenomenon which
+is fairly familiar. It is recognized by intelligent persons
+that the risks of speculation in a particular commodity
+<a name="113"> </a>market or stock market increase more than
+proportionately
+to the scale of operations. A man who sets
+out as a "bull" upon a small scale can buy without
+sending up the price against him in the process, and, if
+he decides later that his judgment is mistaken, he can
+at any time cut his losses and sell out without much
+difficulty. But a "bull" on a very large scale cannot
+complete his purchases except at a price which has been
+raised in consequence of his own action, and he cannot
+count on being able to "unload" at or near the market
+price, should he decide to do so. If, accordingly, he
+miscalculates, he cannot save himself from serious loss
+as a smaller man might do by a prompt discovery of
+his error. His difficulties spring from the fundamental
+fact that the effects of his calculations are too great to
+be offset by those of the different, and often opposite,
+calculations of other men.
+</p>
+<p>
+Upon the issue whether a growth in the size of the
+business unit is likely to diminish risk, the law of
+averages thus cuts both ways. The risks arising from
+the element of pure chance are more likely, those arising
+from miscalculation are less likely, to cancel out.
+Upon these grounds alone, it would be unsafe to conclude
+that there would be on balance an economy of risk
+under any system of national or world socialism.
+</p>
+<p>
+&sect;5. <i>The Entrepreneur</i>. There remains, however, an aspect
+of the problem which is perhaps more important
+than those discussed above. It is probable that risks
+would be estimated and undertaken more wisely or
+less wisely under a different system of society or of
+industrial organization? Upon this issue, methods of
+<a name="114"> </a>precise analysis are out of place, but we may have
+something to learn from the emphatic testimony of
+tradition. It has become an axiom of business men
+that, while Governments can manage with more or
+less competence a safe and routine business like a
+Postal Service, their success would be unlikely to prove
+conspicuous in undertakings where the element of
+risk is great. There, it is said, we owe everything in
+the past to the enterprise of individual men (for even
+joint-stock companies have not been notable as pioneers)
+adventuring their own fortunes in accordance
+with their own unfettered judgment. This contention,
+however much we may desire to qualify it, has unquestionably
+a large measure of truth, and the explanation
+is not difficult to discover. For the wise taking
+of risks in industrial development of an experimental
+character, peculiar conditions and special qualities
+are required. First, it is necessary to envisage distinctly
+the promising though risky opportunity, and this
+calls not infrequently for imagination of a none too
+common order. Then it must be studied with insight
+and expert knowledge and weighed by processes which
+are as much intuitive as intellectual. The reasons for or
+against taking a particular business risk are seldom such
+as can adequately be expressed in terms of arithmetic,
+or even by clear arguments the soundness of which is
+proportioned to their logical cogency. The mysterious
+faculty of judgment enters in; and from mental processes
+which defy analysis there emerge ultimately conviction
+and the will to act. But it is precisely here
+that Government Departments are apt to fail. It is
+here that the individual, who need consult no one but
+<a name="115"> </a>himself, has a pull over any form of organization,
+where decisions are reached by the method of debate
+and agreement among a heterogeneous committee.
+Hence it is that we have come to regard exceptional
+risk-taking as the peculiar province of individual
+enterprise. It is probable that these deficiencies of
+corporate organization are tending to diminish, and it
+is an interesting question how far it may be found
+possible to eliminate them in the future.
+</p>
+<p>
+Meanwhile the above considerations have an important
+bearing on the rewards which can often be obtained
+from risky enterprises. The number of individuals
+who are in a position to envisage a business
+opportunity, and to assess with some confidence the
+chances of success and failure is very limited. Not only
+must they possess special knowledge, ability, imagination,
+confidence in their own judgment, and the capacity
+to act on it; they must also have at their disposal
+considerable financial resources. To combine all these
+advantages represents a union of circumstances which
+is distinctly rare. The fortunate few, who do combine
+them, are thus generally able to extract in the form of
+profits a high price for their services, a price which
+covers not only the strict reward of risk-bearing, and the
+necessary remuneration of their own service, but a
+handsome payment for the special qualities and advantages
+which have been indicated. Profits, moreover,
+may vary between one industry and another, not only
+in accordance with the real risk which is entailed, but
+with the degree to which the supply of special knowledge,
+etc., is scarce or abundant.
+</p>
+<p>
+This consideration goes a long way to explain the
+<a name="116"> </a>large fortunes which enterprising business men are
+often able to amass. It also throws some much-needed
+light upon the functions which such men discharge.
+They perform to a large extent the work of management;
+they supply capital on what may be a considerable
+scale; but it is the taking of business risk which is
+perhaps their most characteristic function. It is the
+union of these functions which distinguishes them as
+an essentially different type from the salaried manager
+who has invested his savings in rubber or in oil. In
+other languages there is a specific name for the man
+who combines all these three functions; in French he
+is called an "entrepreneur," in German an "Unternehmer."
+It is much to be regretted that in English
+we have no clear corresponding word. The word
+"capitalist" is not uncommonly employed to do duty
+in this connection, but this is a source of much confusion.
+For the word is also used, and more appropriately,
+to include all investors, whether or not they
+are active business men.
+</p>
+<p>
+&sect;6. <i>Risk-taking and Control</i>. But there is an allied
+confusion of more importance. We commonly suppose
+it to be a leading feature of our present "capitalist
+system" that the control of industry rests in the hands
+of those who supply the capital. Nor, as a general
+statement, is this untrue. But it conceals the essential
+point. Strictly speaking, it is risk-taking with
+which control is associated. The mere lending of
+money carries with it no title to control. Governments
+and municipalities concede no such title to the subscribers
+to their loans; nor does a company to its debenture
+<a name="117"> </a>holders. The shareholders' ultimate control
+is based upon the fact that they bear the financial
+risks of the concern. Nor is this a matter of mere
+legal form. It is not uncommon for ordinary shares to
+carry with them a greater voting power than the preference
+shares of a corresponding value. The principle
+which such arrangements endeavor to express is clear:
+control should rest with him who bears the risk. It
+is with this principle rather than with a mulish insistence
+on the rights of property, that advocates of
+"workers' control" and the like have got to reckon.
+It is upon this ground that (as they may quite conceivably
+do) they must make good their case.
+</p>
+<p>
+&sect;7. <i>General Analysis of Profits.</i> Let us conclude this
+chapter by clearing the ground for the next. Earnings
+of management, payments for risk-taking and for the
+special knowledge and advantages associated with it,
+are ingredients of the gross profits of a business. The
+chief element that remains is that of interest on capital.
+Frequently, indeed, it is not the only one. As we saw in
+the last chapter, a farmer may not be required by his
+landlord to pay the full economic rent for his farm;
+and he may therefore make profits above the normal
+level, above the ordinary return for his own services,
+his own capital expenditure, and the risks to which
+he is necessarily exposed. In such a case the farmer is
+really the recipient, as we have already suggested, of
+part of the economic rent of the land; and an element
+of rent accordingly enters into his gross profits. But
+profits may include a surplus element which may arise
+in a great variety of other ways. A business may
+<a name="118"> </a>possess some decided advantage which is not open to
+competitors; and it may reap high profits accordingly.
+You can, for instance, if you choose, regard the high
+money profits, which, as was suggested in Chapter IV,
+are likely to accrue in future to the owners of pre-war
+factories, as a surplus profit of this kind. But while, as
+this illustration indicates, the phenomenon of surplus
+profits becomes of very great importance when we
+seek to study the distribution of wealth, it need not
+detain us here. For the surplus element arises only
+in so far as the costs of a business are lower than the
+marginal costs; and it is the marginal costs, which,
+with good reason, we are now endeavoring to analyze.
+The marginal costs must include a normal profit, i.e. a
+profit which will cover earnings of management, the
+reward of risk and enterprise, interest on capital, but
+nothing further. It remains, then, only to consider
+this last element of interest.
+</p>
+<a name="119"> </a>
+<h3 class="chap_head"><a name="Chapter_VIII"></a>Chapter VIII</h3>
+<h3 class="chap_name">Capital</h3>
+<p>
+&sect;1. <i>A Reference to Marx.</i>. Interest is the price paid
+simply for the use of capital. But what is capital, and
+in what does its use consist? What claim has it to be
+regarded as an independent factor of production? Our
+very familiarity with the term, our habit of employing
+it with the rich looseness of every-day life is an obstacle
+to the clearness of thought, which is again
+essential. We recognize, most of us, clearly enough
+that capital, although we reckon it in terms of money,
+consists, like income, of real things; factories, machinery,
+materials and the like. It is quite obvious that these
+things are of use, are, indeed, indispensable for production;
+what more natural than that capital should
+command a price? It almost seems as though we might
+pass, without further ado, to a detailed discussion of
+the forces which determine the amount of this price.
+</p>
+<p>
+But this account does not bring out the essential
+point as brief reference to a very famous controversy
+will show. Some ingenious writers in the last century,
+the most notable of whom was Karl Marx, set out to
+prove that, in our modern society, workpeople are
+"exploited," robbed of the "whole produce of their
+labor," to the full extent of the return which accrues
+to capital. The argument was exceedingly complex
+in detail; but it boils down to this: The factories and
+<a name="120"> </a>machinery which are admittedly essential to
+production
+were themselves produced in exactly the same way
+as consumable goods. They were produced by labor,
+working with the assistance of nature, and, again, if
+you choose, of capital in the form of further factories,
+machinery, etc. But these further capital goods can
+in their turn be regarded as the product of labor,
+nature and capital; and so we can proceed until it
+seems as though the element of capital must disappear
+in the last analysis, as though labor and nature were
+the sole ultimate agents of production, and the reward
+of capital represented no more than the exercise of the
+exploiter's power. In one form or another this argument
+still dominates the minds of a large proportion of
+the so-called "rebels" against the existing social order.
+</p>
+<p>
+If we are to meet this argument, if, which is perhaps
+more important, we are to understand the true nature
+of capital, we cannot rest content with saying that it
+consists of factories and machinery, and that these are
+essential to the worker. Just as it was well to get
+behind the money terms, in which we often think of
+capital, to the real goods; so we have now to get behind
+the real goods to something else. What this something
+else is, the first chapter may have already done something
+to reveal.
+</p>
+<p>
+&sect;2. <i>Waiting for Production.</i> Between production
+and consumption there is an interval of time. All
+productive processes take time to accomplish. The
+farmer must plow the soil and sow the seed months
+before he can reap the harvest which will reward him
+for his efforts. Meanwhile, he must live, and in order
+<a name="121"> </a>that he may live he must consume. If he employs
+laborers he must pay them wages, that they too may
+consume and live. For both purposes he requires
+purchasing power, which represents of course command
+over real things; and if he has not sufficient purchasing
+power of his own, he must borrow from someone
+else who has. In either case it is not enough that the
+farmer and his laborers should work; no less essential
+is it that someone should <i>wait</i>. The farmer must
+wait till he has sold his crops, both for the reward of
+his own labor and for the repayment of the wages he
+advances in the meantime to his laborers. Or, if he
+cannot afford to wait, and borrows in anticipation of
+the harvest, then the lender must wait, until the farmer,
+having sold his crop, is able to repay him. Thus the
+period of time involved in all production gives rise to
+a demand for <i>waiting</i>, which someone or other must
+supply, if the production is to take place. It is this
+waiting which is the essential reality underlying the
+phenomena of capital and interest. It is really this
+which constitutes an independent factor of production,
+distinct from labor and nature, and equally necessary.
+</p>
+<p>
+&sect;3. <i>Waiting for Consumption.</i> But let us carry the
+argument a step further. After the farmer has sold
+his crops, there are many stages through which they
+must pass, at each of which more waiting is required,
+before they reach the ultimate consumer. But then the
+waiting is at an end.
+</p>
+<p>
+This, however, is by no means the case with a great
+number of commodities. Let us take the case of a
+speculative builder. While he is building a house he,
+<a name="122"> </a>like the farmer, must wait (or find someone to wait
+on his behalf), for his own reward, and for the repayment
+of his expenditure on wages and materials. But, after
+the house is built, if he lets it to a tenant for an annual
+rent, his waiting is far from over. Not until many years
+have passed will the rent payments add up to a sum
+which equals or exceeds his outlay. He may, of course,
+sell the house, and thus bring his waiting to an end.
+But then the purchaser must wait, no matter whether
+or not he is the occupier. For no one would consider
+the use of a house for a day, a month, or a year as an
+adequate return for the price it cost to buy. The
+occupier-owner pays for the prospect of its use for a long
+and perhaps indefinite number of years ahead, and he
+must wait to enjoy the benefits for which he pays
+now in full. Waiting is as inherent in the consumption
+of durable things as it is in all production.
+</p>
+<p>
+Now most industries are consumers of durable things
+of a very expensive kind. Here we come back to the
+factories and machinery which ordinarily spring to our
+mind at the mention of the word capital. Not merely
+does the construction of these things involve waiting;
+their consumption involves waiting on a vastly larger
+scale. Just as with a house, many years must elapse
+before their derived utility can even approximate to
+their purchase price. It is mainly to supply the waiting
+involved in the consumption of such durable goods,
+that a typical joint-stock company issues shares for
+public subscription. The waiting required to cover the
+period of time, which its own productive process requires,
+is largely supplied by means of bank overdrafts
+or other forms of short-period borrowing. More
+<a name="123"> </a>strictly, fixed capital represents the waiting
+involved in
+the consumption of durable things; circulating capital
+the waiting involved in current production.
+</p>
+<p>
+This distinction loses its sharpness when we consider
+not the affairs of a particular business, but the industrial
+system as a whole. Then the period of time involved
+in the consumption of durable instruments falls into
+place as part of the time required for the production
+of the ultimate consumers' goods. We can even, perhaps,
+conceive of an "average period of production" for
+industry and commerce as a whole; and this conception
+is not without its uses. For it serves to bring out the
+fact that the period of consumption, and the period of
+production in the narrower sense, are only two aspects
+of the same fundamental thing, the interval of time
+which elapses between work and the utility, which is
+its ultimate purpose. It serves, moreover, to make clear
+that anything which lengthens this interval of time
+increases the demand for waiting, or in other words,
+the demand for capital; and, conversely, that anything
+which shortens this interval diminishes the demand
+for capital.
+</p>
+<p>
+&sect;4. <i>Capital not a Stock of Consumable Goods.</i> But
+the distinction between the two forms of waiting,
+though not fundamental, is none the less worth noting.
+It enables us to keep our theory in conformity with
+fact, to look at the phenomenon of capital the right
+way up; and it is easy, if we are not careful, to slip
+into the habit of looking at it upside down. People
+sometimes speak as though the commodities which
+constitute our capital, instead of being mainly, as our
+<a name="124"> </a>plain sense tells us that they are, factories,
+machinery
+and other durable instruments, were rather a <i>store</i> or
+<i>stock</i> of immediately consumable goods. The argument
+takes the following form. It is consumers' goods,
+things like food and clothes, which the farmer, the
+builder and their workpeople consume while they are
+working. To enable them to work, therefore, it is vital
+that such things should not in the past have been consumed
+as soon as they were made; part of them must
+have been saved, and carried forward for future use.
+Furthermore, the longer the time that the work on
+which people are now engaged takes to yield its product,
+the larger must be this store of consumers' goods. For
+these products, when they are completed, will serve
+(taking society as a whole) to replace the store which in
+the meantime is being used up, so that the longer this
+replacement takes, the larger must be the initial store.
+Conversely, the larger the store of consumers' goods
+available, the more distant is the future for which we
+can afford to work. It is thus the store or stock of
+consumers' goods which represents our real capital;
+for it is the magnitude of this store which determines
+how far we can devote our energies to purposes which
+are remote in time.
+</p>
+<p>
+Now this is pure mysticism. Regarded literally,
+it is in direct conflict with the facts. The processes
+of industry are fairly regular and continuous. At any
+moment, large quantities of consumers' goods of almost
+every kind are on the point of completion; at the same
+moment equally large quantities are consumed. The
+things which we buy were finished, very likely, only
+recently; or, if in fact they have lain idle for some
+<a name="125"> </a>time in stock, there is nothing essential or at all
+helpful
+in that fact. It represents rather a defect&mdash;a maladjustment
+which should be rectified. Even many kinds
+of agricultural produce do not need to be carried forward
+from one year to another, for they are produced in
+many parts of the world, where the seasons come at
+different periods of the year. It is conceivable, therefore,
+that we might consume all non-durable things
+the moment they were ready, and the degree to which
+we approximate to this ideal is a mark of the efficiency
+of our economic system. A large store of consumable
+goods is thus <i>not</i> a fundamental necessity of a prosperous
+society.
+</p>
+<p>
+What <i>is</i> necessary is plainly the power to produce
+these things in large quantities as they are required.
+And this power is furnished by the durable instruments
+of production, which we thus rightly regard as the true
+representatives of modern capital. If it is argued that
+this power to produce consumable goods may be regarded
+as being <i>in effect</i> a store of consumable goods, it
+must be sternly replied that this is the language of
+symbolism, not of science, and that symbolism is highly
+dangerous in this connection. The false conception of
+capital as essentially a store of consumers' goods has
+led and still leads to many serious fallacies. It was
+this that gave rise to the notorious doctrine of the
+Wages Fund; the notion that the sum which can at any
+time be paid in wages is equal to the quantity of capital,
+<i>alias</i> consumable goods, which happens to exist. To
+this day it blocks, with an undergrowth of obscurantist
+controversies, the way to a straightforward account
+of the problem of trade cycles.
+</p>
+<a name="126"> </a>
+<p>&sect;5. <i>The Essence of Waiting.</i> But it is with positive
+conclusions that we must here concern ourselves.
+What is the essence of this waiting, as we have called
+it? What are its results from the point of view of the
+community? The individual, who saves and lends,
+waits in the obvious sense that he postpones consumption.
+He foregoes his right to purchase now a quantity
+of consumers' goods in consideration of the prospect
+of purchasing a larger quantity of such things in the
+future. From the standpoint of the whole community,
+there is a similar postponement of consumption, though
+it need not commence so soon. The store of consumable
+goods is what it is: the quantity of goods in <i>process</i>
+of manufacture, which will shortly be coming forward,
+is also what it is. For some time, therefore, a sudden
+access of saving cannot affect the quantity of goods
+available for consumption; and if, in fact, they should
+be consumed less rapidly, that will represent an unfortunate
+defect, not an essential condition of a smoothly
+working system. The <i>necessary</i> consequence comes
+later. The increased saving will cause labor, materials,
+land, agents of production generally, to be devoted
+to distant purposes. Men will be set to work producing
+durable goods, largely durable instruments of production
+like ships or railways or factories or plant. If the
+increased saving is considerable, the labor, materials,
+etc., required for these purposes will be withdrawn
+even under our present system, as under a smoothly
+working system they clearly must be, from the production
+of other and more immediately consumable
+things. Hence, some time later, the supplies of consumable
+things will be diminished, while at a later
+<a name="127"> </a>period still they will be more than correspondingly
+increased as the result of the assistance of the new
+durable instruments. That is the essence of saving
+from the social standpoint. An early future is sacrificed
+to a more remote future. The aggregate consumable
+income of the present is unaffected; the aggregate consumable
+income of the near future is actually diminished;
+it is not until at least some years later that the
+aggregate consumable income is increased.
+</p>
+<p>
+&sect;6. <i>Individual and Social Saving.</i> This conclusion
+is important: but there is an obvious misinterpretation
+against which it will be well to guard. It is
+customary for social moralists to preach thrift and
+saving as a public duty, and to impart to their appeals
+a special note of urgency in times like the present,
+when, as the result of the havoc of the war, destitution
+is widespread over Europe. Now obviously these advisers
+do not mean to recommend something which
+will impoverish the world next year and the year after
+and the benefit of which will accrue only in a distant
+future: it is the immediate urgency of the world's
+needs which is rather the substance of their case. Nor
+would it be right to conclude that these wise men are
+the victims of a delusion, and advocate a course, the
+consequence of which they do not understand. The
+explanation of the paradox is simple. The more the
+community as a whole saves now, the less in the near
+future will be the aggregate consumable income of the
+whole community: but not of the <i>remainder</i> of the
+community, exclusive of the savers. It is the saver
+who must wait, whose consumption must be postponed
+<a name="128"> </a>to perhaps a distant future; but <i>at no time</i>
+does
+his saving result in a smaller income of consumable
+goods for other people. The aggregate consumable
+income of the near future will be diminished, but it
+may be better distributed, and it may consist of things
+of a different <i>kind</i>. For consumers' goods, we must
+remember, comprise champagne and motor cars as
+well as food and clothes; and, if a rich man saves, it
+may be purely articles of luxury, the production of
+which will shortly be diminished. Moreover, if his
+saving has the effect of transferring purchasing power
+to impoverished people, like those in Central Europe,
+it will not be devoted to a distant future; it will very
+likely be devoted to quite immediate ends. In other
+words, it may not result in any "creation of capital";
+it may not represent any saving on the part of the
+community as a whole. A relatively rich man waits,
+and a relatively poor man <i>anticipates</i> his income to a
+corresponding extent; and it is precisely this that is so
+urgently desirable in a time of widespread poverty and
+chaos.
+</p>
+<p>
+This is no matter of hair-splitting, and making
+plain things obscure. While it is always better for the
+<i>rest</i> of us that an individual, who can afford to save,
+should save rather than spend (though it might be
+better for us still if we could have his money to spend
+ourselves) and while this is the more important the
+greater is the poverty which generally prevails; yet,
+as a community we cannot save so much, we <i>ought</i>
+not to save so much, when we are impoverished as
+when we are prosperous. It is vital to appreciate this
+truth, because, as we shall see, by no means all the
+<a name="129"> </a>saving of the world is done by individuals. There
+are
+many forms of "collective saving," which take place
+in actual fact; still more which we are often urged to
+undertake. And it is of practical importance to realize
+that the very considerations, which call most urgently
+for individual thrift, forbid a great indulgence in such
+projects. A time of national poverty is not a time
+when it is suitable for the State to embark on large
+schemes of capital development: we require our resources
+for more immediate ends. Faced with such
+problems, our practical sense may no doubt suffice to
+keep us straight; but it is apt to do so at the expense
+of a complete inversion of the real issues. If, for instance,
+we call for Governmental retrenchment on
+what we deem extravagant policies of housing and
+education, we usually speak as though they represented
+the profligacy of a spendthrift as contrasted with
+the saving that is indispensable. The truth is rather
+that these policies represent a saving, an investment for
+future purposes, which may conceivably be greater
+(this must not be taken as representing my personal
+opinion) than the community can properly afford.
+This is another instance of what I mean by looking
+at the problem of capital the right way up.
+</p>
+<p>
+&sect;7. <i>The Necessity of Interest.</i> It is only now that
+we are in a position to appreciate the true functions
+of a rate of interest, and the nature of its claims to be
+regarded as a "real cost." Interest, it is sometimes
+said, is necessary to provide for the future. It is far
+more certain that interest is necessary to provide for
+the present. It is a matter of legitimate doubt how far
+<a name="130"> </a>it is necessary to <i>pay</i> interest to secure a
+supply of
+capital; there is no doubt at all that it is necessary to
+<i>charge</i> interest to limit the demand for it. As we saw in
+Chapter I, a world socialist commonwealth would
+require to retain a rate of interest, if only as a matter
+of bookkeeping, in order to choose between the various
+capital undertakings that were technically possible.
+And this is the primary function which the fate of
+interest fulfils in our present-day society. It separates
+the sheep from the goats. It serves as a screen, by
+means of which capital projects are sifted, and through
+which only those are allowed to pass which will benefit
+the future in a high degree. For this essential purpose
+it is hard to imagine how a better instrument could be
+devised.
+</p>
+<p>
+&sect;8. <i>The Supply of Capital.</i> Let us dwell for a moment
+on this image of a screen, or sieve. One condition of a
+good sieve is that its meshes should all be of the same
+size. This condition the rate of interest almost perfectly
+fulfils. But it is also important that the meshes should
+be of the <i>right</i> size. Whether this is true of the actual
+rate of interest is a far more doubtful matter. It is,
+indeed, plain that it is not altogether devoid of merit in
+this respect. In times of general world poverty, like
+those which follow upon a great war, it is desirable, as
+has been argued, that more of our productive resources
+should be devoted to immediately useful purposes, and
+a smaller portion dedicated to a distant future. This
+readjustment the rate of interest helps to bring about.
+For it rises to a higher level, and there is accordingly
+a strong inducement to all manufacturers and traders
+<a name="131"> </a>to economize their use of capital, and thus to set
+free
+productive resources for more urgent needs. But,
+while the meshes of the sieve, as it were, contract in
+times when it is desirable that they should contract,
+we have no reason for supposing that they will contract
+in just the degree that is desired, neither more nor less;
+or, indeed, that at any time they approximate to the
+right size. We in the twentieth century owe much
+of the material wealth that we enjoy to the fact that
+over the last century men saved as largely as they
+did. But our natural gratitude should not restrain
+us from doubting whether they were really well advised
+to do so. If we ask the question <i>how</i> they managed to
+do so, our doubts are deepened. For first place among
+the explanations must be assigned to the inequality
+in the then distribution of wealth. It was because
+many men in England were rich enough to save that our
+railways were built, and the resources of new Continents
+were opened up. But England, a century or even half a
+century ago, was not really a rich community. And if
+the national income in those days had been distributed
+more evenly among the people, can we doubt that they
+would have spent a far larger proportion of it on
+immediate needs; can we doubt that they would have
+been right to do so? We may rather doubt, in view
+of the reactions of poverty on physical and mental
+efficiency, on social harmony, even possibly on population,
+whether we to-day would have been really injured
+as much as might appear. How, then, can we suppose
+that the sum of the amounts which it suits individuals
+to save will bear any close relation to the resources
+which the community can properly devote to future
+<a name="132"> </a>ends? Are we to regard an unjust distribution of
+wealth
+as a mysterious dispensation of Providence for securing
+perfect harmony between the future and the present?
+The point need not be labored further. There are no
+grounds for assuming that we save, as a community,
+even roughly what we ought to save. If we wish to
+believe we do, we must turn for support from economics
+to theology.
+</p>
+<p>
+It is important to be clear upon this issue in order to
+distinguish it from another, with which it sometimes
+seems to be confused. This is the question, briefly
+outlined in Chapter II, of the effect of changes in the
+rate of interest on the supply of capital. As was there
+indicated, there are good reasons for supposing that a
+fall in the rate of interest would induce some people
+to save more, and conversely. But the balance of probability
+is in favor of the conclusion that the <i>net</i> effect
+of changes in the rate of interest, though perhaps slight,
+is usually of the more ordinary kind. The decisive argument
+in this connection is the fact, upon which we have
+just touched, that savings are supplied largely by people
+who are relatively rich, and who become richer when the
+rate of interest rises. For at this point it is necessary to
+be careful. It is easy to slide from the above conclusion
+into an argument of the following kind. A higher
+rate of interest leads to more saving; it is thus necessary
+to <i>evoke</i> more saving; it is thus required as an <i>incentive</i>
+to induce people to incur the <i>sacrifice</i> of waiting; this
+sacrifice represents the "real cost" for which interest
+is paid.
+</p>
+<p>
+This terminology of incentive, inducement and
+sacrifice is of very dubious validity. A rich man, who
+<a name="133"> </a>is made richer by a rise in the rate of interest,
+will
+probably save more, but it will be rather because he
+has become richer than because he is tempted by
+the higher rate: and the less we talk about his sacrifice
+the better. Nor is it clear that the attraction of a high
+rate of interest is an operative factor on the mind of a
+man to whom saving means a real sacrifice of immediate
+comfort or enjoyment. Certainly it is only one among
+many factors, and seldom an important one. A really
+poor man will think not so much of the annual income
+which will accrue from his savings, as of the capital
+sum upon which he or his family can fall back if a
+rainy day should come. And for this purpose he might
+save as much as he saves now, even if there were no
+interest to be obtained thereby. He might even be
+prepared to lend what he had saved, at least to banks
+(a deposit with a bank is in effect a loan), for the mere
+advantage of safe custody. The people who save rather
+for the sake of the capital sum that can be realized than
+for that of the annual interest are very numerous, and
+probably include many men in receipt of quite considerable
+earned incomes. Moreover, those who consider
+mainly the future annual income which their savings
+will yield them, are usually more concerned with its
+absolute amount than with the ratio it bears to the
+amount they must save in order to acquire it. For this
+reason, as has been often recognized, they may save
+less when the rate of interest rises, since a smaller
+quantity of savings will insure to them the future annual
+income they desire to obtain. There is no need to
+be dogmatic upon any of these points. The psychology
+of saving is both complex and obscure. Our conclusion
+<a name="134"> </a>must be the negative one that we have insufficient
+evidence to warrant the assertion that the particular
+rate of interest which happens to prevail is a measure of
+the sacrifice involved in saving, even in the case of what
+we might regard as the "marginal saving." And, if
+we cannot assert this, we must be careful not to assume
+it as the basis of other arguments, or as part of a general
+analysis of price or exchange value.
+</p>
+<p>
+It is of some interest to observe that the difficulties
+which our world socialist commonwealth would encounter
+if it attempted to dispense with the rate of
+interest, would not necessarily include that of obtaining
+a supply of capital. It might, indeed, not find it easy
+to determine the proportions in which it should allocate
+its productive resources between immediate and distant
+ends. Our present system cannot be said to have evolved
+satisfactory principles for the solution of this question;
+and the socialist commonwealth would have to work
+out its own solution. But when it directed that labor
+and materials should be devoted to purposes of long-period
+utility, there would be an automatic collective
+saving, of which no one would be conscious as an
+individual sacrifice. Even at the present time, our
+capital is not supplied entirely by the savings of individuals,
+but to an extent, which though quite incalculable
+is yet certainly considerable, by involuntary saving
+of an essentially similar type to the above.
+</p>
+<p>
+&sect;9. <i>Involuntary Saving.</i> When a municipality embarks
+on a municipal tramways scheme or any other industrial
+enterprise, and pays off by means of a sinking-fund
+the capital which it borrows in the first instance, the
+<a name="135"> </a>proceeding amounts, as the defenders of municipal
+trading have rightly claimed, to a compulsory and
+unconscious saving on the part of the citizens. Their
+consumption has been postponed willy-nilly as the
+result of the increased rates or the high charges which
+they have had to pay; and, when the subscribers to
+the original loan have been paid off, the capital of the
+community is enhanced to the extent of that loan.
+Central governments might similarly increase the supply
+of capital by devoting annual revenue to capital purposes;
+though their actual record, as it happens, is
+mainly of a different kind. But what is chiefly a possibility
+in the case of Governments has actually been
+carried out on an enormous scale by other institutions.
+The development of the joint-stock company system has
+introduced a new factor into the problem of the supply
+of capital, which is of immense though but dimly
+perceived importance. The directors of a company
+are technically no more than the servants of the shareholders.
+It is the profit of the shareholders that it
+is the directors' duty to promote with a single mind,
+and the whole capital of the concern, including its
+reserves both open and concealed, is the shareholders'
+exclusive property. But realities have a way of differing
+from forms, and just as in political affairs it is common
+to regard the State as a very different thing to the
+people who compose it, as a sublime entity with a separate
+existence of its own, so directors are apt to distinguish
+between the company and the shareholders. It is
+the company to which they owe allegiance. To pay
+away in dividends to shareholders money which they
+could employ in extending the business or strengthening
+<a name="136"> </a>the position of the company appears to some
+directors
+a necessity hardly less unpleasant than an increased
+wages bill, or an Excess Profits Duty. Concessions must
+indeed be made to the shareholders' rapacity: but
+when something has been done in this direction, dust
+can easily be thrown in their not very observant eyes.
+Reserves, which within limits are a necessity of sound
+finance, can be accumulated beyond those limits, and,
+when the further limits of an extreme but just arguable
+conservatism have been passed, there remain the
+innumerable devices, known to every resourceful
+Board, of hidden reserves, the secret of which is unmenaced
+by the meager information of a balance-sheet.
+In all this the shareholder, as the directors occasionally
+assure themselves, has no real grievance, for he will
+gain in the long run, from the appreciation in the capital
+value of his shares, all and perhaps more than all that
+he foregoes in the meantime in the way of dividends.
+</p>
+<p>
+In the long run the shareholder is not injured; but
+in the meantime he is in effect compelled, without
+any consciousness of the proceeding, to save and to
+reinvest in the company a portion of the dividends,
+which he might otherwise have spent. The reserves
+which are accumulated are not allowed to lie idle:
+they are employed either in what are really capital
+extensions of the business, or in the purchase of outside
+securities, and in either case they represent an increase
+in the total supply of capital. The principal which
+these proceedings represent is capable of indefinite
+extension.
+</p>
+<p>
+But however possible it might be to secure a supply
+of capital without the inducement of a rate of interest,
+<a name="137"> </a>that rate is indispensable for dealing with the
+demand.
+It is no good saying, "Three per cent seems a fair rate
+of interest; let us try and limit it to that." Given
+the amount of savings which are supplied, the rate of
+interest must be allowed to reach whatever figure
+is necessary to confine the demand to that amount.
+Given the quantity of resources which you have available
+for future needs, the meshes of the sieve must be
+made as narrow as is necessary to confine the projects
+that pass through within those limits. And so, indeed,
+it becomes necessary for any particular business to pay
+for its capital interest at the market rate, not so much
+to secure the saving of it as to secure its allocation from
+the common pool.
+</p>
+<p>
+&sect;10. <i>Interest and Distribution.</i> It is unavoidable that
+this interest should accrue to whoever it is that supplies
+the capital. If the capital were supplied, as it
+might conceivably be, collectively by the community,
+the interest would accrue to the community, and all
+would be well. But as things are, the capital is supplied
+mainly by the savings of individuals, and largely by
+individuals confined to a relatively narrow class. The
+profits of Capital have thus a vital influence on the
+very serious matter of the distribution of wealth between
+social classes. Now, as experience shows, there
+is no element in profits which is capable of such radical
+change in so short a space of time, as is the rate of
+interest. Even before the war it had become hard for
+people in Great Britain to realize that 3 per cent Consols
+had stood at 114 as late as 1896. "How blest," wrote
+two cynical satirists of society in the same period:
+</p>
+<a name="138"> </a>
+<p><!-- poem -->"How blest the prudent man, the maiden pure,<br>
+Whose income is both ample and secure,<br>
+Arising from Consolidated Three<br>
+Per cent Annuities, paid quarterly."[<a href="#138f1">1</a>]<br>
+<!-- poem --></p>
+<p>
+It is impossible to read those lines now without a
+sense of irony, different from that which they were
+intended to convey.
+</p>
+<p>
+Not only is the rate of interest now double what it
+was a generation ago; we have no good reason to suppose
+that the present high level will quickly be reduced.
+The havoc of the war, of which the widespread poverty
+of Europe and the huge debts of Governments are but
+two different aspects, makes it almost inevitable that
+the rate should rule high in the present decade. This
+cannot but exercise a profound influence, of a most
+disquieting character on the general level of profits,
+and to a lesser extent (for here we must allow for the
+effects of high taxation) on the distribution of real wealth
+between social classes. Here we are on the threshold
+of tremendous issues. We almost feel the earth quake
+beneath our feet. We hear the muffled roar of far-reaching
+social controversy:
+</p>
+<p>
+<!-- poem -->"And 'mid this tumult Kubla heard from far<br>
+Ancestral voices prophesying war."<br>
+<!-- poem --></p>
+<p class="footnote">
+<a name="138f1">[1]</a> <i>Narcissus</i>, by Samuel Butler and Henry
+Festing
+Jones.
+</p>
+<a name="139"> </a>
+<h3 class="chap_head"><a name="Chapter_IX"></a>Chapter IX</h3>
+<h3 class="chap_name">Labor</h3>
+<p>
+&sect;1. <i>A Retrospect on Laissez-faire.</i> When, a century
+and a half ago, the foundations were being laid in the
+Western world of systematic economic theory, the
+public attention was much occupied with a subject,
+which indeed has not ceased to hold it: that of the
+failings of Governments. The general interest in that
+topic was shared by the pioneers of economic thought,
+of whom, in Great Britain, Adam Smith was the most
+notable. It was indeed their practical concern with the
+concrete economic issues of the day which very naturally
+gave the impetus to their scientific quest. It was
+hardly less natural that they should have expressed
+their opinions on these concrete issues with considerable
+emphasis.
+</p>
+<p>
+Now the keynote of their practical conclusions was
+that Governments were doing immense mischief by
+meddling with a great many matters, which they would
+have done better to leave alone. In this they were in
+general agreement with one another; incidentally&mdash;let
+there be no mistake about it&mdash;they were right. But,
+as invariably happens in public controversy, their
+opinions became crystallized in a compact formula, or
+cry, with unduly sweeping implications. This was the
+cry of "<i>laissez-faire</i>." Let Governments preserve law
+and order; and leave the economic sphere alone. The
+<a name="140"> </a>economists picked no quarrel with this formula; it
+served well enough for workaday purposes to indicate
+the lines of policy which they rightly thought essential
+in their day.
+</p>
+<p>
+The history of this cry is the history of every cry
+which has won a wide acceptance from mankind. It did
+good work for perhaps half a century; but then many
+crimes were committed in its name. The instrument
+which had been forged to clear away a noxious tariff
+jungle and the monstrous laws of Settlement, was
+turned against Lord Shaftesbury and the Factory Acts.
+Not only was inaction recommended to Governments
+as the highest wisdom; other institutions, like trade
+unions, were warned off the economic grass. An ideal
+of perfect competition became an idol to which much
+human flesh and blood were sacrificed.
+</p>
+<p>
+But, what is more to our present purpose, the idea
+took root of an intimate association between the laws
+of economics and the policy of <i>laissez-faire</i>. People
+who opposed some long-overdue measure of State
+regulation believed themselves to be justified by the
+eternal verities of economic law, and this claim even
+the advocates of the measure seldom ventured to
+dispute. They took refuge rather in a conception of
+economic law as a dangerous monster, whose claws
+must be clipped in the interests of the higher good.
+This notion that all interference with so-called "free
+competition," is a violation (though very likely fully
+justified) of economic laws has sunk deep into our
+common thought. So that to this day, whenever we
+see at work the hand of a State department, a trust or
+a trade union, we are apt to say "Demand and supply
+<a name="141"> </a>are here in abeyance," and possibly we add "A good
+thing too." Since in the matter of wages, the hand of
+the trade union is very generally evident, it is impossible
+to discuss the subject-matter of this chapter, until we
+have rid our minds of this quite baseless prepossession.
+To sweep away this cobweb, I urge the reader to
+recall here the general tenor of the analysis of the
+preceding chapters. Whether we were dealing with the
+price of an ordinary commodity, with joint products,
+land or capital, we came across relationships which
+seemed altogether more fundamental than our present
+industrial system; nor, we may incidentally observe,
+were we ever required to suppose that the present
+system was one of "perfect competition." These
+relationships were almost invariably such that even a
+world socialist commonwealth would find it necessary
+to maintain them. It was not suggested, and most
+certainly it must not be thought, that a world socialist
+commonwealth, or even a more modest remodeling of
+the social order would not effect great changes, possibly
+for good, and possibly for ill. The same economic laws
+might be made to bear very different fruits, but they
+themselves would remain unchanged. What is true in
+all these other fields&mdash;this should be our predisposition&mdash;is
+not likely to be quite untrue in the field of
+labor.
+</p>
+<p>
+&sect;2. <i>Ideas and Institutions</i>. Another point is worth
+noting here. We are sometimes advised to distinguish
+sharply between "What should be" and "What is";
+often two very different things. The advice is pertinent
+and useful, particularly in the sphere of sociology.
+<a name="142"> </a>But our incorrigible habit of confusing the two
+things
+together is not without justification, or at least excuse.
+For, in fact, they gravitate towards one another with a
+force which is just as strong as the capacity of man for
+understanding and controlling his environment. When
+we have a system which is clearly bad, <i>and</i> when we see
+our way to make it better, we generally make the change
+however tardily. Our sense of "What should be" thus
+reacts upon "What is." Meanwhile, until we can make
+the system better, our appreciation of "What is"
+affects our sense of "What should be." And the more
+so, as we are sensible. For "What should be" is
+pre-eminently an affair of relativity. A man may
+hold very strongly that equal pay to every individual
+is desirable, as he puts it, as an ideal. But this will not
+prevent him, in a world in which managers are paid far
+more than manual workers, from maintaining hotly
+(at any rate, if he is sensible) that to pay the manager of
+a particular concern a manual worker's wage would
+be monstrously unfair. He would also argue that it
+would be highly inexpedient. Equity and expediency
+are, in fact, intricately intertwined in our sense of
+"What should be"; and our sense of "What should
+be" in the particular is governed by our knowledge of
+"What is" in the general.
+</p>
+<p>
+These may seem unnecessary commonplaces. But
+they have a vital bearing on the <i>modus operandi</i> of economic
+laws. These laws do not work <i>in vacuo</i>. They
+work through the medium of the acts of men. The acts
+of men are greatly influenced by their institutions, and
+by their ideas of right and wrong. Both institutions and
+ideas may serve to smooth rather than obstruct the
+<a name="143"> </a>path of economic laws; because the laws may
+represent
+either "what should be" in the general, or "what is" in
+the general, and therefore "what should be" in the
+particular. This may hold true even of a trade union
+or a sense of "fair wages." The business of economic
+theory is not to justify a regime of <i>laissez-faire</i>, still less
+to show the folly of bringing morals into business. Its
+value is rather that it may help us, by improving our
+understanding, to shape our institutions, and to adopt
+our moral sentiments so as to promote the public welfare.
+With these general notions in our minds, let us
+turn to see how stands the case with Labor.
+</p>
+<p>
+&sect;3. <i>The General Wage Level</i>. The term Labor may be
+used in a broad or in a narrow sense. It may be confined
+to weekly wage-earners: it may be extended to include
+all those who work, as the phrase goes, "with either
+hand or brain." It is with all classes of Labor, in the
+broadest sense of the term, that we must here concern
+ourselves. It will be convenient, however, in the first
+instance to ignore the differences between them, and to
+consider the forces which determine what we may
+regard as the general wage-level.
+</p>
+<p>
+The general laws of supply and demand hold good.
+The wages of labor tend to a level at which the demand
+is equal to the supply. For, if the demand exceeds the
+supply, if, in other words, labor is scarce, wages tend to
+rise, sooner or later in any case, and the more promptly
+in proportion as the workpeople are organized. Conversely,
+if the supply exceeds the demand, if in other
+Words there is general unemployment, wages tend to fall,
+and the strongest trade unions cannot resist the tendency,
+<a name="144"> </a>though they may delay it. Moreover, the higher
+the wages that must be paid, the smaller, other things
+being equal, is the demand for labor. For, even if
+we leave foreign competition out of account, and consider,
+as it were, labor throughout the world as a whole,
+the demand for labor is by no means inelastic. It is
+derived along with the demand for the other agents of
+production in the manner described in Chapter V.
+As was there shown, the greater the supply of the other
+agents of production, the greater is likely to be the
+demand for labor; but these other agents can be substituted
+for labor in a great variety of ways, and an
+increase in wages (unless accompanied by increased
+efficiency) will make it profitable for employers to effect
+such a substitution, where it was not profitable before.
+Thus, higher wages for the same labor efficiency must
+stimulate the tendency for capital to act as a substitute
+for labor at the expense necessarily (since the aggregate
+supply of capital will not be increased thereby) of its
+tendency to serve as a complement; and this must mean
+a decrease in the volume of employment. Hence the
+power of labor to secure a general advance of wages
+by concerted or simultaneous trade union action, applied
+if you will, not merely to every industry, but to
+every country, is necessarily very limited. Beyond
+a certain point, such a policy must result in general
+unemployment; and, if pushed sufficiently far, in unemployment
+so extensive that it would continue even
+in periods of active trade. Such a policy could neither
+be maintained in practice nor would it be a wise policy
+from the workers' point of view.
+</p>
+<p>
+In other words, given on the one hand the conditions
+<a name="145"> </a>of the demand for labor (i.e. the supply of
+capital,
+natural resources, business ability, risk-bearing and
+knowledge of technical processes, etc., which happens
+to exist), and given on the other hand the supply of
+labor (i.e. both the numbers of workpeople and their
+efficiency), the wage-level in the long run is fairly rigidly
+determined. The introduction of the phrase "in the
+long run" in this connection is apt to provoke comment
+which may be pertinent, but may be misconceived.
+The worker, it is pointed out, is deeply concerned
+with "the short run" in which he has to live. It
+is very true; and it is this that supplies one of the many
+justifications of trade unionism. To secure for the
+workers advances of wages, which economic conditions
+justify, sooner than would otherwise have been obtained,
+is certainly no trivial or contemptible function. But
+it is none the less an illusion to suppose that the general
+wage-level can be appreciably and permanently raised
+by trade union action, except in so far as it increases
+the efficiency of the workers or incidentally stimulates
+the efficiency of the employers.
+</p>
+<p>
+&sect;4. <i>The Supply of Labor in General</i>. The efficiency
+of labor may be regarded as affecting either the demand
+for labor on the one hand or the supply of it on the
+other, according as we look at the matter from the
+worker's or the employer's standpoint. The employer
+is concerned with the labor costs per unit of his output,
+the worker is concerned with the wages he receives.
+An increase in the efficiency of labor may, and usually
+will, mean both a decrease in labor costs to the employer
+and an increase in the earnings of the worker. It is
+<a name="146"> </a>thus wholly to the good. But the effects of an
+increase
+in the supply of labor in the sense of a growth in the
+numbers of the population are far more dubious. Unaccompanied
+by an increase in the <i>demand</i> for labor,
+it <i>must</i> result in a diminished remuneration for the individual
+worker. To some extent indeed the demand
+for labor would almost certainly be increased. The
+supply of Capital may expand, perhaps proportionately,
+perhaps more than proportionately to the increase
+in population. But one factor of production, as
+we have seen, is not capable of such expansion. This
+is the factor of Land, or Natural Resources. It is the
+limitation of this factor which gives rise to what we
+have most of us heard of as The Law of Diminishing
+Returns. It is this that is the essence of the problem
+of Population, portrayed in somber hues more than a
+hundred years ago by Malthus.
+</p>
+<p>
+This problem will form the subject of the sixth volume
+of the present series. In the meantime it may be
+suggested that we are easily credulous if we suppose
+that the problem has been finally disposed of by the
+peculiar progress of an abnormal century. But that
+experience has at least destroyed the view that there
+<i>need be</i>, or even is in fact in Western countries, a relation
+between real wages and the numbers of the people so
+close and direct that an improved standard of living
+must be temporary only, doomed to destroy itself by the
+increased population it engenders. One may perhaps
+go further and say that it is doubtful even in what direction
+changes in remuneration will influence the
+aggregate supply of labor. When we pass to "what
+should be," it is plain that there is nothing whatever
+<a name="147"> </a>to be said for the sort of relation indicated
+above. The
+view once widely held that the principle of population
+must inevitably keep the mass of people close to the
+verge of the bare means of subsistence was no statement
+of a desirable ideal. It was a nightmare; a nightmare
+none the less though it may haunt us yet. It is far from
+fanciful to suggest that it is because this relation is so
+obviously <i>not</i> "what should be" that it may be ceasing
+to hold true in fact. But it would be very fanciful
+indeed to maintain that as yet "what should be" is
+represented by the actual population. Thus, just as
+with capital, so with labor, there is no reason to suppose
+that the aggregate supply is determined by any
+fundamental economic law, or corresponds in practice
+to what is socially desirable.
+</p>
+<p>
+&sect;5. <i>The Apportionment of Labor among Places.</i> Again,
+as with capital, it is when we turn to the <i>apportionment</i>
+of labor between different employments that both
+economic law and social ideal make their appearance.
+It will be well, however, to consider briefly in the first
+instance the different question of its apportionment
+between places. This was hardly necessary in the case
+of capital, because the possibilities of foreign investment
+are very numerous and easy: the mobility of
+capital is thus sufficiently strong (once again it is only
+<i>marginal</i> adjustment that is necessary) to establish
+over at least a large part of the world something near to
+a uniform rate of interest. But this is not the case with
+labor. People do indeed move from place to place
+within a country, and from one country to another, in
+response to economic opportunities. That even the
+<a name="148"> </a>latter movement may be a considerable thing, the
+present population of the United States is a striking
+testimony. But obviously the mobility is very incomplete.
+Here, then, we have what we might <i>loosely</i>
+call an economic law that labor tends to "flow" (as
+it is sometimes unhappily phrased) to those places
+where it can command the highest reward; we have this
+tendency in evidence, but it is far too weak to enable us
+to lay down what would deserve more strictly the title
+of an economic law, that in the long run the reward of
+the same kind of labor is roughly equal in all places.
+Perhaps we can say this for many districts in a single
+country; but for few countries is this true as between
+all their districts. As between countries, it is not remotely
+true.
+</p>
+<p>
+Here, however, the imperfection of economic law is
+balanced by an extreme uncertainty as to the ideal.
+Perfect mobility of labor may be <i>economically</i> desirable
+in a very narrow sense of the term; but it opens out a
+vista of racial, national and cultural problems, into
+which it will be better for us not to enter here. We
+must take for granted the population of a country,
+like that of the world, as a given fact.
+</p>
+<p>
+When we do this, the question of its remuneration
+is on all fours with the more general question discussed
+above. That the remuneration of the labor of a country
+is mainly governed by the relations between demand
+and supply is an inexorable fact. In view of the international
+mobility of capital, the main distinctive factor in
+the demand for the labor of a particular country is the
+supply of natural resources, which it knows how to use.
+Where the natural resources are great relatively to the
+<a name="149"> </a>population, there wages will rule high; where the
+converse
+is true, wages will rule low. This result of economic
+analysis is abundantly confirmed by experience.
+The relatively high wages in the new world, the low
+standard of living in the densely populated East; the
+economic history of Ireland are so many object-lessons
+of its truth.
+</p>
+<p>
+&sect;6. <i>The Apportionment of Labor among Social Grades.</i>
+The question of the apportionment of the labor of a
+country among different employments falls under two
+heads. Some differences of occupation are associated
+particularly in Great Britain with differences of what
+we know as class. The movement of labor between
+different social grades is clearly a very different thing
+from its movement between different occupations in the
+same grade. The grades themselves are not easy to
+define: not a little ingenuity has been expended on the
+attempt, and perhaps the best brief classification that
+has been put forward is one which divides labor into the
+following four grades:&mdash;
+</p>
+<ol>
+<!-- poem --><li>Automatic manual labor.</li>
+  <li>Responsible manual labor.</li>
+  <li>Automatic brain workers.</li>
+  <li>Responsible brain workers.</li>
+<!-- poem -->
+</ol>
+<p>
+But the matter is one perhaps for the satirist of manners
+rather than the economist. It suffices for our purpose
+that the distinctions, however vague, are very real.
+</p>
+<p>
+It is obvious the mobility of labor between the occupations
+of a platelayer and a barrister is not very
+great. It may seem perhaps to be even smaller than it
+<a name="150"> </a>is. For here it is important to bear in mind a
+general
+consideration which is equally applicable to horizontal
+movements within any social grade. There may be a
+considerable movement of labor between different employments
+without any individual worker having to
+change his occupation. The personnel of any industry
+is constantly changing. At one end, men die, retire, or
+are pensioned off; at the other end, young recruits are
+taken on. By a diversion of the new recruits from one
+employment to another, a radical change can be made
+in the occupational census in a comparatively short
+space of time. It is in this manner that such movement
+as takes place is largely effected at the present
+time. Within the ranks of the professional classes, a
+man does not commonly leave the profession to which
+he has been trained. But his <i>choice</i> of profession is determined
+by him or his parents not solely on pecuniary
+grounds but usually with an anxious scanning of the
+general prospects, which include pecuniary advantages
+together with many other things. The same thing is
+true in no small measure of manual wage-earners. This
+general consideration must be borne in mind throughout
+the remainder of this chapter.
+</p>
+<p>
+But even the sons of platelayers do not commonly
+practise at the bar. The obstacles in the way are various
+and subtle. Many of them are ideas, inherited
+from a bygone epoch, about keeping other people "in
+their proper stations," which the whole drift of circumstance,
+and the spirit of the age are rapidly wearing
+down. In the new world such obstacles are rare. But
+an obstacle of a more tangible and formidable kind
+arises from the fact that the liberal professions and
+<a name="151"> </a>many business careers require a long and expensive
+education and training, which the platelayer is quite
+unable to afford to give his son.
+</p>
+<p>
+Now this expense of training is highly relevant not
+only to "what is," but to "what should be." It includes,
+it should be observed, a negative as well as a
+positive element; a long period of waiting before income
+begins, as well as the actual outlay on educational and
+other charges. When the burden both of the waiting
+and the positive costs must be borne either by the individual
+or the family, there are few people who would
+seriously dispute that this goes to justify, on grounds
+of fairness as well as of expediency, a higher level of annual
+remuneration later on; though many people would
+doubtless argue that the amenities and dignities of the
+professions should be taken into account on the other
+side. But the same consideration makes it a matter of
+legitimate doubt whether it would be desirable, even as
+an ideal, that the community should provide so completely
+the costs of training and of maintenance in the
+waiting period, as to make it no longer "fair" that the
+individual should be remunerated more highly than
+workers in less expensive occupations. For this would
+mean that more labor would be absorbed in the former
+employments than in principle would be socially desirable,
+for reasons which the argument of the next chapter
+will make plain. But the most desirable number of
+doctors, barristers, teachers, etc., is not a thing which
+can be settled on purely economic grounds, and it is
+unprofitable to carry further this particular line of
+thought. Few people would advocate, as an ultimate
+ideal, that the remuneration of the professional grades
+<a name="152"> </a>of labor should exceed that of lower grades by <i>more</i>
+than
+the extra expense of training and waiting they involve.
+That the excess is usually greater than this at the
+present time seems very probable: though it is a matter
+on which it is very hard to generalize. But it would
+certainly be far greater than it is if the principle of
+<i>laissez-faire</i> ruled supreme in these affairs. Fortunately
+it does not, and has never done so. Even before
+the days of free elementary education, the endowment
+of education was not unknown. The ancient public
+schools and universities, which have come down to us
+from the Middle Ages, are a standing witness to what
+in this field a far poorer community thought fit to do.
+Their systems of scholarships and exhibitions, no less
+than their courts and towers, deserve our notice. For
+these were designed to form what we now call "a ladder"
+by which talent could climb from the humblest
+origins to the callings which then seemed the summit
+either of spiritual or of worldly ambition.
+</p>
+<p>
+This reference to "talent" makes it well to consider
+here a factor which necessarily complicates, though it
+does not substantially affect, the whole argument of
+the present chapter. There are differences of natural
+ability, which no education or training can obliterate,
+which it should rather be their business to excite.
+These differences are associated to a great extent with
+differences of occupation; they <i>should be</i> so associated
+far more closely than in fact they are. They are also
+associated with differences of remuneration even within
+the same occupation; "what should be" here is a question
+which we may excuse ourselves from discussing.
+The principle which, however vague, is sufficient for
+<a name="153"> </a>our present purpose is that the same <i>natural
+ability</i>
+should command the same reward in all occupations,
+subject to differences which should not exceed the differences
+of educational cost and initial waiting they
+involve. We cannot assert, as an economic law, that
+this is generally true in fact. If ever it becomes true,
+it will be due not to "<i>laissez-faire</i>," or "free competition,"
+but to social arrangements, which express a
+sense of what is right.
+</p>
+<p>
+&sect;7. <i>The Apportionment of Labor among Occupations.</i>
+When we pass to the apportionment of labor among
+different occupations in the same social grade, the same
+principle as to "what should be" applies in a simpler
+form. Equal natural ability should command an equal
+reward in all occupations; assuming that differences
+in cost of training can be ignored. The reward must,
+of course, be interpreted not in terms of money only
+but of "real wages," with allowance for the varying
+amenities of different tasks. Now it was here that the
+extreme advocates of <i>laissez-faire</i> made one of their
+cardinal mistakes. They assumed that this ideal would
+be best secured by "perfect competition." The employer
+would choose the worker who would come for
+the lowest wage; the worker would choose the employer
+who would pay him the highest wage; and so, by a process
+similar to the higgling of a commodity market, the
+desirable uniform wage-level would become established.
+But in fact the conditions of the labor market differ
+greatly from those of a commodity market. People
+are ignorant, do not look ahead, cannot afford to risk
+the loss of a job, however wretched, which they happen
+<a name="154"> </a>to have got. For reasons such as these, a
+considerable
+departure from <i>laissez-faire</i> is necessary in order to
+realize the theoretical results of <i>laissez-faire</i>. To prevent
+the putting of boys in large numbers into "blind
+alley" occupations, you must supplement the foresight
+of parents with Juvenile Employment Exchanges and
+After-Care Committees. To secure a proper uniformity
+of wages within the same occupation, you must have
+trade unions. To secure a proper uniformity between
+different occupations, you must have again trade unions,
+or, failing them, Trade Boards.
+</p>
+<p>
+That the actions of trade unions are very largely of
+this type is a fact insufficiently appreciated by the
+middle-class public. The elaborate system of piece-rate
+lists which has been evolved in the Lancashire cotton
+industry is primarily designed to secure the same wage
+for workers of equal efficiency in all mills, irrespective
+of the degree to which the machinery is antiquated or
+up to date. This result is wholly to the good: not only
+does it secure "fairness" for the worker, it stimulates
+the employer wonderfully to efficiency. The same result
+could never be secured so effectively by the free
+play of competition. But this tendency, which is easily
+the predominant element in the trade union regulations
+of the cotton trade, is at least an important element
+in the policy of "The Common Rule" of all trade
+unions, though it may often be mixed up with the more
+questionable tendency to eliminate differences of pay
+for differences of natural ability, and the unquestionably
+bad tendency to discourage output. As between different
+occupations, the insistence of a trade union that
+wages must be leveled up towards the wages obtaining
+<a name="155"> </a>in similar trades acts again as a far more powerful
+force
+than competition.
+</p>
+<p>
+But the actions of trade unions are by no means
+wholly of this type. They often serve rather to secure
+still higher wages for workers who, comparatively
+speaking, are already highly paid. It makes little
+difference whether this effect is secured directly by
+wage demands, or indirectly by restricting the right
+of the entry to the trade. In either case the consequences
+are the same, and there should be no ambiguity
+as to their nature. They are certainly bad for the community,
+certainly bad for the <i>other</i> workers of the
+grade, almost certainly bad for the workers of the
+grade regarded as a whole. The higher wages must
+raise the money costs of production, and result, sooner
+or later, in fewer workpeople being employed in that
+occupation; larger numbers must accordingly seek
+employment elsewhere; and this cannot but depress
+the wage rates of less strongly organized trades. Thus
+the effect is twofold: a larger proportion of workpeople
+will be employed in badly paid occupations; and the
+wages there will be lessened.
+</p>
+<p>
+The power of a strong trade union to secure wage
+advances of this type is considerable, but it must not
+be exaggerated. Trade unions employ as a matter
+of course devices which, in the case of trusts, we regard
+as the extremest weapons of monopoly. To say, "If
+you buy from anyone except us, you must not buy at
+a lower price than ours," which Messrs. J. &amp; P. Coats
+are represented as having done, is analogous to insisting
+that if non-unionists are employed, it shall be at the
+trade union rate, as every trade union very properly
+<a name="156"> </a>insists. To say, "You must buy <i>only</i> from
+us," the
+method of the boycott, as it is called, is analogous to
+the very common refusal to work with non-unionists
+at all. But in one important respect the tactical position
+of a trade union is weaker than that of an ordinary
+combination. It has usually got a buyers' combination
+up against it, in the shape of an association of employers.
+The latter will be governed in their attitude towards
+the workpeople's demands, not only by immediate
+expediency, but also by their own sense of "what should
+be"; and they will usually resist demands for wages
+greatly in excess of those obtaining in comparable
+trades. In this way, the tendency for workers of the
+same efficiency to receive the same real wages in all
+employments is far stronger than might at first sight
+appear.
+</p>
+<p>
+If we had to rely for this result upon trade unions
+alone, it would be highly problematical. For here a
+psychological curiosity emerges, which, familiar and
+intelligible as it is, is none the less a curiosity. So
+far from still higher wages for well-paid workpeople
+being regarded in the world of manual labor as detrimental
+to the interests of other workpeople, it has become
+almost a point of honor to believe the contrary.
+A wage dispute in a particular trade is conceived as
+an engagement in a far-flung battle between Capital
+and Labor, in which success at any part of the line
+will facilitate the victory of the whole army. This
+conception contains a measure of truth, as regards
+immediate and purely temporary effects; though,
+even here, it is made to seem unduly plausible by the
+recurrence of trade cycles, which cause wages at any
+<a name="157"> </a>time to move in the same direction all along the
+line.
+But, if the foregoing analysis has been appreciated,
+the essential falsity of this notion should be evident.
+It is an illusion, which should receive no endorsement,
+either tacit or express, in any work on economics.
+The general wage level of a country cannot be regarded
+(except temporarily, and within narrow limits) as a
+function of the efficiency of labor organization; it
+depends on the far deeper economic facts set out in
+&sect;3 above.
+</p>
+<p>
+Let us now try to summarize the conclusions of this
+section. There <i>is</i> a tendency towards a uniformity
+of real wages for workers of the same grade and of the
+same efficiency. This tendency is not due to competition
+alone. It is helped by many acts of a collective
+kind, arising from a sense of "what should be"; it is
+obstructed by other acts of a like kind, where the sense
+of "what should be" is based on imperfect understanding.
+The more people act in accordance with
+"what should be," and the better their understanding,
+the more will this tendency approximate to an accurate
+economic law.
+</p>
+<p>
+&sect;8. <i>Women's Wages.</i> The wages of women represent
+a problem of great public interest, upon which the
+principles laid down in this chapter have a most important
+bearing, and which in its turn serves to illustrate
+these principles further. It has been suggested that
+male and female labor can be regarded as a strong case
+of Joint Supply, and the suggestion is not merely facetious.
+The essential point, that the proportions of
+available male and female labor are fairly constant (not
+<a name="158"> </a>that they may not alter with time and
+circumstances,
+but that they are essentially independent of the conditions
+of demand) holds true not only of a country as a
+whole, but hardly less of a particular district. If men
+and women are to be regarded as separate grades, they
+are grades between which immobility is complete.
+Now men and women differ in many ways which affect
+both the demand for and the supply of their services.
+On the one hand, far fewer women wish to enter business
+employments of any kind, as women have plenty of
+work that must be done at home. On the other hand,
+though women can do many kinds of work as well as
+or better than men, it so happens that for much the
+greater number of services, which are in large demand
+in the business world, men are the more efficient.
+Incidentally, it happens that many occupations which
+women <i>might</i> do as well as men are closed to them by
+exclusive regulations. The resultant of these forces
+is that men and women are for the most part employed
+in different occupations, and the scale of payment
+in women's occupations is far lower than that in men's.
+Of this last fact singularly small complaint is made.
+</p>
+<p>
+It is otherwise, however, when we come to occupations
+where men are either wholly or partially employed,
+where women are at least approximately as efficient
+as men, and where the barriers to their entry are at
+least formally removed. There a ferocious controversy
+rages over what is known as the principle of "equal
+pay for equal work." It is easy to understand why
+the male trade unionists in, let us say, the engineering
+trades, should support this claim. It is also, indeed,
+<i>intelligible</i> why the enthusiasts for Women's Rights
+<a name="159"> </a>should urge it; but it is much more doubtful
+whether
+they are wise. Possibly they are wise enough in their
+generation, since it might not serve them on this matter
+to get across the men. But it is clearly not prudential
+considerations of this kind by which they are mainly
+actuated. They make the demand, with extreme
+intensity of feeling, as a demand for fundamental
+justice. They are also very obviously inspired with the
+belief (similar to the illusion which is a point of honor
+with the male trade unionist) that high wages for
+women in well-paid occupations will help to raise the
+wages of sweated women workers in other trades.
+</p>
+<p>
+Now, here again, any lack of candor would be inexcusable.
+The effect of this policy on the wages in
+women's trades is certainly to reduce them. The policy
+serves, as powerfully as any trade union custom,
+to restrict the entry of women into the men's employments,
+and often spells virtual exclusion. For the
+"equal efficiency" may be approximate only, and there
+may be advantages in male labor from the employer's
+standpoint which are none the less important, because
+they are not easy to define. Moreover, from the employer's
+standpoint, the efficacy of female labor will
+be largely a matter for <i>experiment</i>, and "equal pay"
+will give him no inducement to experiment at all.
+The diminished number of women in these occupations
+(as compared with what might have been) increases
+the number who must fall back on the purely women's
+trades; and it <i>must</i> serve to reduce the wages there,
+where organization is by no means strong. I am far
+from asserting that this consideration is conclusive
+against the principle of "equal pay for equal work"
+<a name="160"> </a>(though I think it conclusive against a rigid
+interpretation
+of it); for other matters, such as the standpoint of
+the male trade unionist must be taken into account.
+But the reactions on the wages in women's trades permit
+of no ambiguity.
+</p>
+<p>
+In occupations of another type, the issue takes a
+somewhat different form. In the teaching profession,
+"equal pay" would not exclude the women; it would
+be far more likely to exclude the men. For, though the
+advocates of the principle would declare that their
+intention is that the salaries of women should be leveled
+up to those of men, it is more probable that the ultimate
+outcome would be a leveling down. Educational
+authorities have the ratepayer and the taxpayer to
+consider; and, apart from this, they have their own
+interpretation of "what should be." To pay a woman
+less than a man for the same work may seem glaringly
+unfair; but it is not very clear why a woman, who is
+an elementary school teacher, should be paid much
+more than, say, a hospital nurse, merely because in the
+former case a number of men happen also to be employed.
+In fact, there is a clashing of equities in this
+connection; and there is little doubt which of them
+the educational authorities would prefer. A leveling
+down of the men's salaries would make it all but impossible
+to attract men of the desired type into the
+profession, and would thus lead to the virtual extinction
+of the male elementary school teacher. This might
+seem in a narrow sense to be economically desirable.
+Why should not men take their services to the tasks
+for which they can command a higher reward, and which
+women cannot do as well? But whether this would
+<a name="161"> </a>be desirable in the true interests of education is
+a far
+more doubtful matter. And this is the real problem
+of "equal pay for equal work" for male and female
+school teachers. The reader will notice that I have
+refrained from alluding to the controversy as to whether
+men should receive more on the grounds that they have
+wives and families to maintain. That, although a most
+absorbing issue, is not the real issue in practice at the
+present time. The real issue is a clashing between a
+sense of "what should be" on obvious general grounds
+and a sense of "what should be " in the particular, derived
+from the very patent and general "what is" that
+men receive as a rule far higher pay than women.
+</p>
+<a name="162"> </a>
+<h3 class="chap_head"><a name="Chapter_X"></a>Chapter X</h3>
+<h3 class="chap_name">The Real Costs of Production</h3>
+<p>
+&sect;1. <i>Comparative Costs</i>. Beneath the great diversity
+of the considerations which are applicable to the different
+agents of production, certain general conclusions
+emerge from the analysis of the last four chapters.
+In no case did we find that the aggregate supply of the
+agent was determined by clear and certain economic
+laws, possessing any fundamental significance. The
+supply of natural resources is a fixed thing, quite independent
+of the efforts or the desires of man. However
+the supply of capital and the supply of labor
+may react under present conditions towards economic
+stimuli, these reactions possess no quality of inevitability
+and bear no clear relation to "what should be."
+The supply of risk-bearing responds perhaps more
+decidedly to the prospects of increased reward; but
+it is so intimately associated with special knowledge
+and the qualities of business enterprise, as to leave
+some uncertainty attaching even to this conclusion.
+When, on the other hand, we turn to the apportionment
+of these factors among different uses, we find
+relations which are both clear and fundamental. Laws
+emerge which state at once not only "what is" or at
+least "what tends to be," but also "what should be";
+and it is the fact that they taste "what should be"
+that gives them their fundamental character.
+</p>
+<a name="163"> </a>
+<p>These conclusions enable us to give a general answer
+to the question which was raised at the end of Chapter
+V: What are the ultimate real costs to which the
+money cost of production correspond? The attempt
+has often been made to relate money costs to such
+things as the effort of working and the sacrifice of waiting.
+The existence of such costs is beyond dispute.
+Much saving does mean a sacrifice of immediate enjoyment
+to the man who saves. Most labor is irksome and
+disagreeable in itself, and involves strain and wear and
+tear; while all labor means a deprivation of the utility
+of leisure. Workpeople, moreover, do not grow on
+gooseberry bushes, but must be fed and clothed from
+the cradle; and their rearing and maintenance represents
+a real cost which someone must incur.
+</p>
+<p>
+But the existence (or the importance) of such costs
+is one thing, their relation to money costs is another.
+In Chapter VIII we saw how difficult it was to establish
+any clear relation between the rate of interest and the
+sacrifice of saving. The costs of labor present similar
+difficulties. The relative irksomeness of two occupations
+may affect the relative wages which will rule in the
+two cases; so, certainly, will the differences in the cost
+of education and training which they require. But
+these are matters which concern the <i>apportionment</i>
+of labor between different employments. There is
+no good reason to suppose that the general wage-level
+would be reduced, merely because work as a whole
+became less irksome, or involved a smaller physical or
+mental strain. The supply of people is not determined
+by the same kind of influences as is the supply of a
+commodity. Parents do not produce children for the
+<a name="164"> </a>sake of the wages which the children will receive
+when
+they go out to work; or, if this happens, we rightly
+regard it as a horrible anomaly. In so far as parents
+are affected by economic conditions it is by their own
+economic conditions; the question is rather one of
+how many children they can afford to have, than of a
+balancing of the cost to them against the incomes
+which their children may subsequently acquire. But
+other considerations enter in; and, in fact, it is doubtful
+how the aggregate supply of labor will react to changes
+in prosperity. Finally, the supply of land involves
+neither effort nor sacrifice; and, among our money
+costs, we have to account for the item of the rent of land.
+To dispose of this difficulty by arguing that rent does
+not enter into marginal costs (in any sense which is not
+equally true of wages and profits) is to lose contact
+with reality. Thus the attempt to explain money
+costs in terms of the costs of producing the ultimate
+agents of production leads us into a quagmire of unreality
+and dubious hypothesis. For a systematic theory,
+which will rest on firm foundations, we must interpret
+money costs in very different terms.
+</p>
+<p>
+The real costs which the price of a commodity measures
+are not absolute, but comparative. Marginal
+money costs reduce themselves in the last analysis
+to the payments which must be made to secure the use
+of the requisite agents of productions. These payments
+<i>tend</i> to equal the payments which the same agents
+could have commanded in alternative employments.
+The payments which they could have commanded in
+alternative employments, tend in their turn to equal
+the derived marginal utilities of their services in those
+<a name="165"> </a>employments. It is thus the loss of <i>Utility</i>
+which
+arises from the fact that these agents of production
+are not available for alternative employments that is
+measured by the money costs of a commodity at the
+margin of production.
+</p>
+<p>
+This conception of ultimate costs encounters an
+instinctive repugnance, arising from a mistaken sense
+of logical symmetry, which it will be well to examine.
+Cost, it is objected, so interpreted loses its character
+as an independent entity. It is merely something derived
+from utility. Now in the earlier chapters of
+this volume, we found reason to be impressed with
+the general symmetry which pervades the relations
+of demand and supply. Moreover, when we considered
+the case of ordinary commodities we found that at
+the back of demand and giving rise to it was utility;
+at the back of supply, and limiting it, was cost. The
+general symmetry between demand and supply thus
+seemed almost to imply a fundamental symmetry
+between utility and cost. If, then, cost in the last
+analysis is derived from utility, does not this make
+nonsense of the symmetry between demand and supply,
+or, if we cling to this last symmetry as a demonstrable
+truth, must we not refuse to admit that cost can be
+derived from utility?
+</p>
+<p>
+This is one of those false dilemmas which supply the
+wiseacres of the world with a plausible case for distrusting
+the logical faculty. If we have good reason for
+believing that both of two apparently inconsistent
+things are true, the explanation is seldom that one of
+them is really false; it is more usually that they are
+not really inconsistent. So it is here. The symmetry
+<a name="166"> </a>between demand and supply is very great, and we
+should always look to see if it holds good, but it is by no
+means perfect, and it is in the last analysis that it most
+notably fails. It is most important to distinguish
+clearly between the utility and the cost of a commodity
+as two separate and independent things. In
+Chapter V, it will be remembered, we did not permit
+ourselves to derive the costs of producing cotton lint
+from the utility of cotton-seed. The refusal to do so was
+essential to clear thought; it led to some very useful
+practical corollaries. But to derive the cost of a commodity
+from the utility of something which is produced
+<i>with</i> it, as part of the same productive process; and to
+derive the cost from the utilities which the agents,
+which help to produce it, possess for other purposes, are
+two entirely different things. In works on International
+Trade, the reader will discover that the comparative
+nature of real costs is so unmistakable that a Doctrine
+of Comparative Costs is expounded with much formality
+at the outset. This doctrine is apt to prove somewhat
+puzzling, when we have to deal with it as an apparent
+exception to the general tenor of economic theory.
+Its difficulties disappear when we realize clearly that
+the real cost of <i>anything</i> is the curtailment of the supply
+of other useful things, which the production of that
+particular thing entails.
+</p>
+<p>
+&sect;2. <i>The Allocation of Resources.</i> However strange the
+above conception may seem, there should be no doubt
+that this cost is very "real." Here the irregularities and
+maladjustments of the economic world, the recurrence
+of trade depressions and the like, do much to obscure
+<a name="167"> </a>a clear vision of the essential realities. At a
+time when
+there is much unemployment, and much machinery
+standing idle, it is so clear to common sense that we
+<i>could</i> produce more of some particular thing without
+diminishing the supply of other things, that any apparent
+statement to the contrary may perhaps seem
+the height of academic pedantry. But let me ask the
+reader to consider with an open mind a familiar parallel.
+During the recent war there was inevitably much waste
+and muddle in the utilization of the military resources
+of the Allies. Some regiments would be kept inactive
+for long periods, not for purposes of rest or training,
+but owing to some defect of organization. In the
+manufacture of munitions, an insufficient appreciation
+of the principles of joint demand led to the piling up of
+excessive stores of certain materials, which were useless
+until commensurate supplies of the complementary
+factors could be obtained. It is unnecessary to multiply
+examples. The waste of both man-power and material
+was immense. But the allocation of these resources
+between, for instance, the various theaters of war was
+none the less a very real problem, which gave rise to
+much engrossing controversy. It was an axiom that
+the more resources you employed in Mesopotamia or in
+Palestine, the less resources remained available for
+France. No one thought of maintaining that, as long
+as there was any waste of these resources, so long as
+there remained any men to be "combed out" of unessential
+industries, you could pour troops and munitions
+into Salonika without stopping to consider the
+needs of other theaters of war. Such a notion would
+have been clearly imbecile, for the sufficient reason
+<a name="168"> </a>that the sending of armies to Salonika would do
+nothing
+in itself to secure (however much it might incidentally
+stimulate) the more efficient use of the resources which
+remained.
+</p>
+<p>
+Now this is precisely analogous to the problem of
+the allocation of our resources for the purpose of peace.
+Notwithstanding all the wastes and maladjustments
+of the economic system, the use of resources to produce
+one commodity <i>does</i> in general curtail the production
+of others. The mere launching of a new business enterprise
+does no more than the sending of an army to
+Salonika, to eliminate waste in the remainder of the
+economic organism. Unemployment, broadly speaking,
+is a function not of the magnitude of the normal demand
+for labor (which affects rather the wage-level), but of
+fluctuations in the demand for labor; fluctuations
+from one day to another as at the docks, from one
+season to another as in the building trades, above all
+from one period of years to another as in the cycles of
+general trade boom and depression. Nothing will
+diminish unemployment which does not serve to
+diminish these fluctuations. A new business will not,
+as a rule, have any such effect. If it is launched during
+a trade depression (a most unusual proceeding),
+it may temporarily absorb unemployed labor and idle
+materials. But when the next boom comes, it will
+be using, though presumably to greater advantage,
+labor and materials which, but for it, would have
+been employed for other purposes. Meanwhile the
+causes making for unemployment will be unaffected.
+Miscalculations will still be made, the building trades
+will still become slack in the winter, the casual methods
+<a name="169"> </a>of engaging dock laborers will still continue,
+trade cycles
+will still recur, while beneath them, and concealed by
+them, some industries will expand and others will decay.
+Thus, like the armies at Salonika, the new business
+would in effect divert resources from elsewhere.
+</p>
+<p>
+This truth needs to be firmly grasped in mind. It
+is this that makes it in general unsound policy to subsidize
+industries, either directly or indirectly, by means
+of a protective tariff. It is this, indeed, that supplies
+the answer to half the economic fallacies that are always
+current.
+</p>
+<p>
+The allocation of resources so as to yield the maximum
+effect was rightly recognized as one of the most
+vital and difficult of our war-time problems. To cope
+with it, the Allied peoples devised one instrument after
+another, and finally evolved the Supreme Allied Council.
+The analogous problem in the economic world of
+peace time is no less important and far more difficult;
+but there is nothing to correspond to the Supreme Allied
+Council. There we rely upon a co-operation which,
+as was stressed in Chapter I, is unco-ordinated. That
+co-operation has been evolved by the mutual competition
+of innumerable business concerns, controlled by
+men largely animated by the motive of pecuniary profit.
+But it has not been evolved wholly by such means:
+and how far that competition or that motive of profit
+is essential to its efficiency are questions with which
+this volume has not been in any way concerned. The
+economic laws, the relations between utility, and price
+and cost, with which it has been occupied, are an entirely
+different matter; and these <i>are</i> essential to the
+efficiency of any system of society. For if the marginal
+<a name="170"> </a>utility of a commodity is equal to its marginal
+cost, and
+if this marginal cost is composed of payments to the
+various agents of production at least as great as they
+could have obtained if they had been used otherwise,
+this amounts to saying that the agents of production
+are so utilized as to yield the maximum utility; and
+this is the same thing as saying that they are so utilized
+as to produce the maximum wealth.
+</p>
+<p>
+&sect;3. <i>Utility and Wealth.</i> Upon this last point it is
+important to be quite clear. An increase in wealth
+seems a solid, tangible reality; something, which,
+however much we may scorn it in our more precious
+moods, we recognize, for a rather poor community,
+to be an important object of endeavor. But an increase
+in utility seems a vague, impalpable notion,
+hardly deserving the same practical concern. None the
+less the two things are identical. We greatly deceive
+ourselves if we suppose wealth to be an objective reality.
+It is true that, when we get behind the money in which
+it is measured, we come upon commodities, like food
+and clothes and houses and factories, which seem
+comfortably solid and objective things; but we also
+come upon many services, like those of gardeners and
+doctors and hospital nurses, which we are bound to
+reckon as part of our wealth, although they are not
+embodied in any tangible commodities. Moreover,
+although material commodities are objective realities
+in themselves, and in many of their properties, they are
+<i>not</i> objective realities in their property as wealth. A
+pair of boots is an objective fact; so is the number of
+pairs in existence at any time, so is their size, their
+<a name="171"> </a>weight, the quantity of leather or of paper which
+they
+happen to contain. But the wealth which those boots
+represent is not an objective fact. It depends upon the
+opinion which men and women entertain as to their
+utility; and these opinions take us into the subjective
+regions of human psychology. Let us suppose,
+for instance, that we calculated, on the basis of present
+prices, that the boots in existence at the present time
+represented 1/1000 part of our total wealth. Suppose,
+then, that a miracle were to happen; that the skies
+opened and rained boots upon us, of every size and
+shape and pattern, until we had 1000 times as many
+boots as we had before. Could we say that our total
+real wealth had been doubled? Clearly we could
+not. To obtain boots for nothing, and to wear a new
+pair every week, would make us somewhat better off,
+but not twice as well off as we were previously. In
+other words, the real wealth of a thousand times as
+many boots as we have now, is not a thousand times as
+great as the wealth of the present number of boots. We
+are, indeed, practically restating the Law of Diminishing
+Utility; and this perhaps is enough to show that
+wealth is fundamentally the same thing as utility.
+</p>
+<p>
+Another point, however, is worth noting. Our real
+wealth would be somewhat increased in the case supposed;
+but if we were to turn to the money measure
+of wealth, the opposite result would be far more likely,
+For the price of boots would most likely fall to nothing,
+and the total value of boots, in the commercial sense,
+would accordingly be nothing also. This shows that
+money values may be a most imperfect measure of
+aggregate wealth; for what money values represent is
+<a name="172"> </a>the product of the quantity of the commodity and
+its
+<i>marginal</i> utility, while aggregate wealth is <i>total</i>
+utility,
+which is a very different thing. This, it may be observed,
+makes all attempts to compare the wealth of different
+countries or different times, and no less to construct
+Index Numbers of Prices, imperfect of necessity,
+and arbitrary in their foundations.
+</p>
+<p>
+&sect;4. <i>Criteria of Policy.</i> The point has now been reached
+at which we must take into account the very important
+fact which was mentioned at the close of Chapter III.
+The maximum utility which the laws of supply and
+demand tend to bring about is a maximum <i>total</i> utility
+indeed, but one still measured in terms of money. An
+unequal distribution of wealth destroys any necessary
+correspondence between that and the maximum <i>real</i>
+utility. This consideration, however, does not affect
+the general validity of the conclusion that the laws of
+supply and demand represent what is socially desirable
+now or under any system. For what is at fault here is
+the distribution of wealth; and it is that which should
+be changed, in so far as it is possible to do so. Now it is
+important to realize that whenever it is possible to
+supply a commodity to poor people below cost price,
+it is possible to alter the distribution of wealth, for that
+in effect is what is done. Purchasing power, which may
+be taken from richer people by taxation, or which may
+be obtained from "collective" profits on other trading,
+is in effect transferred to the poor people in question,
+though the transference is coupled with the condition
+that the purchasing power must be expended in a
+particular way. It is <i>in general</i> desirable that the
+<a name="173"> </a>transference should be made without this condition
+being attached. To this general statement, exceptions
+indeed exist so numerous and important as possibly to
+justify a great extension of social expenditure of this
+type. Education should certainly be provided free of
+charge, there are strong arguments for subsidizing
+housing; the provision of milk to expectant mothers,
+the feeding of school children, such instances can be
+multiplied into a very extensive list. But it is important
+to observe that in each case the justification of the
+policy rests in the presumption that the service supplied
+is one which it is particularly important that the beneficiaries
+should have, <i>as compared with</i> the other things
+upon which they might have preferred to expend the
+equivalent purchasing power, had it been transferred
+to them without conditions. Where there is no such
+presumption, as surely there is none in the case of the
+great bulk of commodities, the relation between price
+and marginal cost should be rigidly maintained; it
+is the distribution of purchasing power which we should
+rather seek to alter. How far is it possible to alter that?
+</p>
+<p>
+I suppose that it is inevitable that many readers will
+have concluded that the preceding chapters must be
+taken to mean that the distribution of wealth is not
+susceptible of any appreciable change. I would remind
+those readers of an important distinction upon which
+impatient people have sometimes based a complaint
+against economists. The economist, it is said, analyses
+with great pomp and ceremony the laws governing the
+distribution of wealth among the agents of production,
+but says practically nothing about the distribution
+between individuals and classes, which is the only thing
+<a name="174"> </a>of any real interest to practical people. Now the
+economist
+concentrates on the agents of production for
+the very good reason that it is only with respect to them
+that any clear and certain laws as to distribution can
+be laid down. Into the distribution between individuals
+and classes there enter other and variable
+factors, governed by no fundamental economic law;
+and <i>here</i>, the conclusion should at once suggest itself,
+is the field for action designed to alter the distribution
+of wealth. What is possible or desirable in this field,
+it is again not the purpose of this volume to discuss.
+It is an obvious, even if not a very helpful conclusion
+that an increase in the habit of saving among weekly
+wage-earners might, without appreciably affecting the
+distribution between Capital and Labor, greatly modify
+the resulting distribution between social classes.
+But questions as to how far it might be possible or
+justifiable to achieve a similar result by the use of the
+weapon of taxation, by changes in inheritance laws, or
+by the public ownership of industry take us into a far
+more uncertain and controversial sphere. The difficulties
+and objections which present themselves are
+familiar and formidable; but they are of quite a different
+order from the economic laws which we have
+been examining. The laws themselves do not entitle us
+to make any dogmatic pronouncement upon these large
+issues of social policy.
+</p>
+<p>
+But this is not to deprive these laws of practical
+importance. They represent essential criteria of sound
+policy in the sphere of social reorganization no less than
+in ordinary business. In our days a curious obsession
+has led many people to disparage these criteria, as
+<a name="175"> </a>though they were the sordid prejudices of a stupid
+tradesman. Because it has been found a matter of
+obvious practical convenience to maintain the roads
+out of taxation or of rates, and to dispense with charges
+for their use, it is suggested that the same principle
+should be applied to the railways. Or, more commonly,
+because it has been found convenient to make the same
+charge for the carrying of letters between Land's End
+and John o' Groats as between Hampstead and Highgate,
+it is suggested that <i>this</i> principle should be applied
+to railway rates and fares. It may be well, therefore, to
+point out that the justification of uniform postal charges
+rests upon the facts: (1) that the costs of collection,
+sorting, etc., are so large a part of the costs of carrying
+a letter, that the real cost between John o' Groats
+and Land's End does not differ from that between
+Hampstead and Highgate by as much as might at
+first sight appear, (2) that the charges in any case are
+very small; so that (3) the avoidance of the small degree
+of taxes and bounties which the present system
+implies is not worth the book-keeping expenses which
+differential charges would involve. It should be obvious
+that these considerations apply to the railways
+with a greatly diminished force. They might possibly
+justify what is known as the "zone" system of charges,
+i.e. uniform rates within certain narrow areas. But the
+notion of uniform rates throughout Great Britain
+conjures up a vision of trains taking coal from South
+Wales to Scotland, and others taking coal from Scotland
+to South Wales, in accordance with the slightest
+preferences of the consumers, and without regard to the
+extra real cost involved, on a scale to which the "wastes
+<a name="176"> </a>of competition" afford no parallel. It would in
+fact
+achieve the essential folly of "sending coals to Newcastle."
+These considerations, however, are not what
+interest the advocates of the postal principle. They seem
+to recommend the obliteration or the confusion of the relations
+between price and cost as a superior ideal. It is
+important to be clear what exactly this ideal involves.
+</p>
+<p>
+It involves, in the first place, as the whole argument
+of this volume has gone to show, a less economical
+employment of our productive resources; they would
+be diverted to ends of less utility, and so produce less
+real wealth. But this is not the worst. There is plenty
+of waste and maladjustment in our economic system at
+the present time. The desirable relation of price to
+marginal cost is but imperfectly attained. The further
+departures from this relation, which would follow from
+any likely applications of the postal principle, might not
+matter in themselves so very much. What is far more
+serious is that the criteria of efficiency would become
+blunted, and the clear aims of management would be
+confused in fog. It is essential that every manager
+should be on the alert to eliminate waste and to improve
+efficiency, that he should be always trying to secure
+the best results; but how can he do this if he has no
+simple means of <i>measuring</i> what results are good and
+what are bad? The measure which he has at present
+is that of price, cost and the resultant profit, and it
+would be fatal to take that away, unless an equally
+simple and more accurate measure could be substituted
+for it.
+</p>
+<p>
+This is not a question, it should be observed, of
+motive or incentive. Very likely we much exaggerate
+<a name="177"> </a>the importance of the profit motive. It may be true
+that men would work, perhaps that they already work
+in fact, as zealously for a fixed salary, as for personal
+gain. But aim and motive are two somewhat different
+things, and the <i>aim</i> of profit, is, and will remain, essential
+to the efficient conduct of business. In a game the
+players are not animated by the motive of scoring runs
+or points, but they aim at them; and the zest disappears
+very speedily from the game, if that aim ceases
+to be of interest. Moreover, while a scoring system is
+always a somewhat arbitrary thing, measuring imperfectly
+the true merits of the play, if it measures
+them with the roughest accuracy, we prefer the issue
+of our games to be decided so, rather than by the decisions
+of an impartial judge, who can take into account
+the finest points of skill. So it is in the world
+of business. The scoring-board of profits may be an
+imperfect one; let us, by all means, where we can, alter
+the rules of the game so as to make it better. But
+let us not imagine that it displays a finer insight or a
+superior intellect to speak as though the scoring-board
+could be dispensed with, and the test of profit and loss
+treated as irrelevant. Quantitative measurement is
+essential to efficiency. Let us be careful to remember
+all that this implies.
+</p>
+<a name="178"> </a>
+<h3><a name="Index">Index</a></h3>
+<div class="letter">
+<div class="entry">Ability, <a href="#152">152</a></div>
+<div class="entry">Accountancy, <a href="#58">58</a></div>
+<div class="entry">Allocation of resources, <a href="#166">166</a></div>
+<div class="entry">Ambiguities, <a href="#24">24</a></div>
+<div class="entry">Australasia, <a href="#66">66</a></div>
+</div>
+<div class="letter">
+<div class="entry">Bastiat, Frederic, <a href="#5">5</a></div>
+<div class="entry">Beef and hides, <a href="#7">7</a></div>
+<div class="entry">Borrowing and lending, system of, <a href="#12">12</a></div>
+<div class="entry">Business efficiency, <a href="#58">58</a></div>
+<div class="entry">Business man as a purchaser, <a href="#47">47</a></div>
+<div class="entry">Business risk, <a href="#104">104</a></div>
+</div>
+<div class="letter">
+<div class="entry">Capital, <a href="#119">119</a>;<br>
+as representing a period of waiting, <a href="#123">123</a>;<br>
+distribution, <a href="#131">131</a>;<br>
+distribution and rate of interest, <a href="#137">137</a>;<br>
+effect on labor of an increased supply, <a href="#77">77</a>;<br>
+not a stock of consumable goods, <a href="#123">123</a>;<br>
+reaction of price charges on, <a href="#31">31</a>;<br>
+reflections upon, <a href="#11">11</a>;<br>
+supply, <a href="#130">130</a>;<br>
+supply as affected by charges in interest rate, <a href="#132">132</a></div>
+<div class="entry">Capital goods, <a href="#61">61</a></div>
+<div class="entry">Capital market, <a href="#13">13</a></div>
+<div class="entry">Capitalism, <a href="#17">17</a></div>
+<div class="entry">Capitalist, <a href="#116">116</a></div>
+<div class="entry">Chance, <a href="#105">105</a></div>
+<div class="entry">Coal industry, cost of production and price, <a
+ href="#52">52</a>;<br>
+miners' wages, <a href="#75">75</a></div>
+<div class="entry">Coats, J. &amp; P., <a href="#75">75</a>, <a
+ href="#155">155</a></div>
+<div class="entry">Collective saving, <a href="#129">129</a></div>
+<div class="entry">Commodities, <a href="#7">7</a>, <a href="#19">19</a>;<br>
+labor as a commodity, <a href="#19">19</a></div>
+<div class="entry">Competition, <a href="#140">140</a></div>
+<div class="entry">Composite demand, <a href="#80">80</a></div>
+<div class="entry">Composite supply, <a href="#80">80</a></div>
+<div class="entry">Consumable goods, <a href="#123">123</a></div>
+<div class="entry">Consumers' goods and producers' goods, <a href="#49">49</a></div>
+<div class="entry">Consumption, margin of, <a href="#37">37</a>;<br>
+waiting for, <a href="#121">121</a></div>
+<div class="entry">Control and risk-taking, <a href="#116">116</a></div>
+<div class="entry">Controversy, <a href="#1">1</a>, <a href="#6">6</a></div>
+<div class="entry">Co&ouml;peration, <a href="#3">3</a>;<br>
+unorganized, <a href="#5">5</a>,<a href="#7">7</a></div>
+<div class="entry">Cost, general relation of price, utility and cost, <a
+ href="#65">65</a>;<br>
+price relation to, <a href="#37">37</a>, <a href="#39">39</a>, <a
+ href="#52">52</a>;<br>
+rent as factor in real costs, <a href="#100">100</a>;<br>
+ultimate, <a href="#82">82</a>, <a href="#162">162</a>;<br>
+utility and, <a href="#165">165</a></div>
+<div class="entry">Cotton and cotton-seed, <a href="#7">7</a>;<br>
+contrast to wool and mutton, <a href="#71">71</a></div>
+<div class="entry">Cotton industry, <a href="#154">154</a></div>
+<div class="entry">Criteria of policy, <a href="#172">172</a></div>
+<div class="entry">Currency inflation, <a href="#33">33</a></div>
+<div class="entry">Cycles, <a href="#34">34</a>, <a href="#125">125</a></div>
+</div>
+<div class="letter">
+<div class="entry">Demand, ambiguity of expression "increase in
+demand," <a href="#24">24</a>;<br>
+derived, <a href="#82">82</a>;<br>
+elastic and inelastic, <a href="#76">76</a>;<br>
+<i>see also</i> Composite demand; Joint demand; Supply and demand</div>
+<div class="entry">Derived demand, <a href="#82">82</a></div>
+<div class="entry">Derived utility, <a href="#49">49</a></div>
+<div class="entry">Diagrams, use of, <a href="#21">21</a></div>
+<div class="entry">Diminishing utility, <a href="#40">40</a>;<br>
+money and, <a href="#49">49</a></div>
+<div class="entry">Directors, <a href="#135">135</a></div>
+<div class="entry">Distribution of wealth, <a href="#131">131</a>, <a
+ href="#172">172</a>;<br>
+interest rate and, <a href="#137">137</a></div>
+<div class="entry">Dividends, <a href="#135">135</a></div>
+<div class="entry">Division of labor, <a href="#3">3</a></div>
+</div>
+<div class="letter">
+<div class="entry">Economic laws, <a href="#140">140</a>, <a
+ href="#142">142</a>;<br>
+fundamental character, <a href="#17">17</a>
+<a name="179"> </a></div>
+<div class="entry">Economic theory, <a href="#v">v</a>, <a href="#143">143</a>;<br>
+fact and, <a href="#1">1</a></div>
+<div class="entry">Economic world, orderly nature, <a href="#1">1</a></div>
+<div class="entry">Education, <a href="#150">150</a>, <a href="#160">160</a></div>
+<div class="entry">Efficiency, <a href="#58">58</a>, <a href="#177">177</a></div>
+<div class="entry">Elastic demand, <a href="#76">76</a></div>
+<div class="entry">Employers' associations, <a href="#156">156</a></div>
+<div class="entry">Enterprise, <a href="#104">104</a>, <a href="#109">109</a></div>
+<div class="entry">Entrepreneur, <a href="#113">113</a></div>
+<div class="entry">"Equal pay for equal work," <a href="#158">158</a></div>
+<div class="entry">Expectation, <a href="#106">106</a></div>
+</div>
+<div class="letter">
+<div class="entry">Fact and theory, <a href="#1">1</a></div>
+<div class="entry">Farmers, <a href="#90">90</a></div>
+<div class="entry">Fortunes, <a href="#116">116</a></div>
+</div>
+<div class="letter">
+<div class="entry">Gambling, <a href="#106">106</a></div>
+<div class="entry">Government, enterprises, <a href="#114">114</a>;<br>
+failings, <a href="#139">139</a></div>
+</div>
+<div class="letter">
+<div class="entry">Hides and beef, <a href="#7">7</a></div>
+<div class="entry">Houses, <a href="#103">103</a></div>
+<div class="entry">Housewife as purchaser, <a href="#41">41</a>, <a
+ href="#43">43</a>, <a href="#44">44</a>, <a href="#47">47</a></div>
+<div class="entry">Housing, <a href="#64">64</a>, <a href="#129">129</a></div>
+</div>
+<div class="letter">
+<div class="entry">Ideas and institutions, <a href="#141">141</a></div>
+<div class="entry">Incompetents, <a href="#59">59</a></div>
+<div class="entry">Increase in demand, ambiguity, <a href="#24">24</a></div>
+<div class="entry">Index numbers, <a href="#172">172</a></div>
+<div class="entry">Inelastic demand, <a href="#76">76</a></div>
+<div class="entry">Inflation, <a href="#63">63</a></div>
+<div class="entry">Institutions and ideas, <a href="#141">141</a></div>
+<div class="entry">Insurance companies, <a href="#107">107</a>, <a
+ href="#111">111</a>;<br>
+significance, <a href="#108">108</a></div>
+<div class="entry">Interest, <a href="#119">119</a>;<br>
+necessity of, <a href="#129">129</a></div>
+<div class="entry">Interest rate, <a href="#14">14</a>;<br>
+changes and their effect on supply of capital, <a href="#132">132</a>;<br>
+distribution and, <a href="#137">137</a>;<br>
+price of land and, <a href="#102">102</a></div>
+<div class="entry">Intuition, <a href="#114">114</a></div>
+</div>
+<div class="letter">
+<div class="entry">Joint demand, <a href="#66">66</a>;<br>
+importance of the unimportant, <a href="#74">74</a>;<br>
+marginal utility under, <a href="#69">69</a>;<br>
+summary of considerations, <a href="#79">79</a></div>
+<div class="entry">Joint products, <a href="#7">7</a>;<br>
+cost of production, <a href="#40">40</a></div>
+<div class="entry">Joint-stock company, <a href="#135">135</a></div>
+<div class="entry">Joint supply, marginal cost under, <a href="#66">66</a>;<br>
+summary of considerations, <a href="#79">79</a></div>
+</div>
+<div class="letter">
+<div class="entry">Keynes, J. M., <a href="#vi">vi</a></div>
+</div>
+<div class="letter">
+<div class="entry">Labor, <a href="#139">139</a>;<br>
+apportionment among occupations, <a href="#153">153</a>;<br>
+apportionment among places, <a href="#147">147</a>;<br>
+apportionment among social grades, <a href="#149">149</a>;<br>
+as a commodity, <a href="#19">19</a>;<br>
+cost, difficulty of estimating, <a href="#163">163</a>;<br>
+division, <a href="#3">3</a>;<br>
+effect of increased supply of capital, <a href="#77">77</a>;<br>
+four grades, <a href="#149">149</a>;<br>
+mobility, <a href="#148">148</a>;<br>
+product of, <a href="#119">119</a>;<br>
+reaction of price changes on, <a href="#31">31</a>;<br>
+supply in general, <a href="#145">145</a></div>
+<div class="entry"><i>Laissez-faire</i>, <a href="#11">11</a>;<br>
+retrospect on, <a href="#139">139</a></div>
+<div class="entry">Land, characteristics, <a href="#83">83</a>;<br>
+differential aspect, <a href="#87">87</a>;<br>
+margin of transference, <a href="#94">94</a>, <a href="#96">96</a>;<br>
+marginal, <a href="#88">88</a>;<br>
+price and rent,relation, <a href="#102">102</a>;<br>
+question of real costs, <a href="#100">100</a>;<br>
+scarcity aspect, <a href="#84">84</a>;<br>
+supply, <a href="#30">30</a>;<br>
+tenure, <a href="#92">92</a>;<br>
+urban, <a href="#94">94</a>;<br>
+<i>see also</i> Rent</div>
+<div class="entry">Landlords, <a href="#91">91</a>, <a href="#92">92</a></div>
+<div class="entry">Large scale business, <a href="#58">58</a></div>
+<div class="entry">Laws, fundamental, <a href="#18">18</a>, <a
+ href="#29">29</a></div>
+</div>
+<div class="letter">
+<div class="entry">Malthus, T.R., <a href="#146">146</a></div>
+<div class="entry">Management, <a href="#104">104</a></div>
+<div class="entry">Margin, danger of ignoring, <a href="#57">57</a></div>
+<div class="entry">Margin of consumption, <a href="#37">37</a></div>
+<div class="entry">Margin of production, <a href="#52">52</a></div>
+<div class="entry">Margin of transference, <a href="#94">94</a>, <a
+ href="#96">96</a></div>
+<div class="entry">Marginal cost, aspects, <a href="#55">55</a>;<br>
+misinterpretation, <a href="#59">59</a>;<br>
+under joint supply, <a href="#66">66</a></div>
+<div class="entry">Marginal land, <a href="#88">88</a></div>
+<div class="entry">Marginal purchaser <a href="#44">44</a>
+<a name="180"> </a></div>
+<div class="entry">Marginal utility, <a href="#42">42</a>;<br>
+price relation to, <a href="#43">43</a>;<br>
+under joint demand, <a href="#69">69</a></div>
+<div class="entry">Market, <a href="#13">13</a></div>
+<div class="entry">Marshall, Alfred, <a href="#vi">vi</a></div>
+<div class="entry">Marx, Karl, <a href="#119">119</a></div>
+<div class="entry">Mill, J. S., <a href="#86">86</a></div>
+<div class="entry">Miners, <a href="#75">75</a></div>
+<div class="entry">Monetary changes, disturbances of, <a href="#33">33</a></div>
+<div class="entry">Money, diminishing utility, <a href="#49">49</a></div>
+<div class="entry">Monte Carlo, <a href="#106">106</a></div>
+<div class="entry">Mutton. <i>See</i> Wool and Mutton</div>
+</div>
+<div class="letter">
+<div class="entry">Natural ability, <a href="#152">152</a></div>
+<div class="entry">Normal conditions, <a href="#36">36</a></div>
+</div>
+<div class="letter">
+<div class="entry">Occupations, <a href="#150">150</a>;<br>
+apportionment of labor among, <a href="#153">153</a></div>
+<div class="entry">Order, economic, <a href="#5">5</a></div>
+</div>
+<div class="letter">
+<div class="entry">Pasture versus tillage, <a href="#97">97</a></div>
+<div class="entry">Pigou, A. C., <a href="#vi">vi</a></div>
+<div class="entry">Policy, criteria, <a href="#172">172</a></div>
+<div class="entry">Population, <a href="#85">85</a>, <a href="#146">146</a></div>
+<div class="entry">Postal charges, <a href="#175">175</a></div>
+<div class="entry">Poverty, <a href="#131">131</a>;<br>
+national, <a href="#128">128</a>, <a href="#129">129</a></div>
+<div class="entry">Price, consequences of higher, <a href="#60">60</a>;<br>
+general relation with utility and cost, <a href="#65">65</a>;<br>
+law of tendency, <a href="#19">19</a>;<br>
+marginal utility and, <a href="#43">43</a>;<br>
+post-war, <a href="#61">61</a>;<br>
+reaction of changes in demand and supply, <a href="#27">27</a>;<br>
+relation of demand and supply to, <a href="#20">20</a>;<br>
+utility and, <a href="#40">40</a></div>
+<div class="entry">Producers' goods, <a href="#49">49</a></div>
+<div class="entry">Production, power of, <a href="#125">125</a>;<br>
+real costs, <a href="#162">162</a>;<br>
+waiting for, <a href="#120">120</a></div>
+<div class="entry">Professions, <a href="#150">150</a></div>
+<div class="entry">Profiteering, <a href="#75">75</a></div>
+<div class="entry">Profits, <a href="#61">61</a>, <a href="#177">177</a>;<br>
+elements, <a href="#104">104</a>;<br>
+general analysis, <a href="#117">117</a>;<br>
+in risky industries, <a href="#110">110</a>, <a href="#115">115</a></div>
+<div class="entry">Protective tariff, <a href="#169">169</a></div>
+<div class="entry">Psychology and economics, <a href="#1">1</a></div>
+<div class="entry">Purchasers, business man, <a href="#47">47</a>;<br>
+housewife, <a href="#41">41</a>, <a href="#43">43</a>, <a href="#44">44</a>,
+<a href="#47">47</a>;<br>
+marginal, <a href="#44">44</a></div>
+<div class="entry">Purchasing power, <a href="#33">33</a>, <a
+ href="#61">61</a>, <a href="#172">172</a></div>
+</div>
+<div class="letter">
+<div class="entry">Railway rates, <a href="#175">175</a></div>
+<div class="entry">Railways, <a href="#64">64</a></div>
+<div class="entry">Rate of interest. <i>See</i> Interest rate</div>
+<div class="entry">Rent, <a href="#82">82</a>, <a href="#83">83</a>;<br>
+complex character, <a href="#90">90</a>;<br>
+marginal land, <a href="#89">89</a>;<br>
+necessity, <a href="#98">98</a>;<br>
+rate of interest and, <a href="#102">102</a></div>
+<div class="entry">Reserves, <a href="#136">136</a></div>
+<div class="entry">Residuary profits, <a href="#110">110</a></div>
+<div class="entry">Resources, allocation, <a href="#166">166</a></div>
+<div class="entry">Risk, reward for, <a href="#104">104</a>;<br>
+under large-scale organization, <a href="#111">111</a></div>
+</div>
+<div class="letter">
+<div class="entry">Satisfaction, <a href="#50">50</a></div>
+<div class="entry">Saving, <a href="#127">127</a>, <a href="#174">174</a>;<br>
+individual, <a href="#127">127</a>;<br>
+involuntary, <a href="#134">134</a>;<br>
+psychology,<a href="#133">133</a>;<br>
+social, <a href="#128">128</a></div>
+<div class="entry">School teachers, <a href="#160">160</a></div>
+<div class="entry">Service, <a href="#19">19</a></div>
+<div class="entry">Serving cotton, <a href="#74">74</a></div>
+<div class="entry">Shareholders, <a href="#135">135</a></div>
+<div class="entry">Sinking-fund, <a href="#134">134</a></div>
+<div class="entry">Situation, <a href="#88">88</a></div>
+<div class="entry">Smith, Adam, <a href="#v">v</a>, <a href="#139">139</a></div>
+<div class="entry">Social grades, labor movement among, <a href="#149">149</a></div>
+<div class="entry">Socialism, <a href="#9">9</a>,<a href="#11">11</a>,<a
+ href="#14">14</a>,<a href="#59">59</a>,<a href="#134">134</a>,<a
+ href="#141">141</a></div>
+<div class="entry">Speculation, <a href="#112">112</a>-<a href="#113">113</a></div>
+<div class="entry">Steel smelters, <a href="#76">76</a></div>
+<div class="entry">Subsidies, industrial, <a href="#169">169</a></div>
+<div class="entry">Substitutes, <a href="#80">80</a></div>
+<div class="entry">Supply, reactions of price changes on, <a href="#30">30</a>;<br>
+<i>see also</i> Composite supply; Joint supply</div>
+<div class="entry">Supply and demand, changes in, and their reaction on
+price, <a href="#27">27</a>;<br>
+forces behind, <a href="#37">37</a>;<br>
+general laws,<a href="#18">18</a>, <a href="#29">29</a>;<br>
+relation of price to, <a href="#20">20</a>;<br>
+wages and, <a href="#143">143</a></div>
+<div class="entry">Supreme Allied Council, <a href="#169">169</a></div>
+</div>
+<a name="181"> </a>
+<div class="letter">
+<div class="entry">Teachers, <a href="#160">160</a></div>
+<div class="entry">Theory, economic, <a href="#v">v</a>, <a href="#1">1</a></div>
+<div class="entry">Thrift, <a href="#127">127</a></div>
+<div class="entry">Tillage versus pasture, <a href="#97">97</a></div>
+<div class="entry">Trade cycles, <a href="#34">34</a>, <a href="#125">125</a></div>
+<div class="entry">Trade depression, <a href="#33">33</a></div>
+<div class="entry">Trade unions, <a href="#144">144</a>;<br>
+actions, <a href="#154">154</a>;<br>
+wage level and, <a href="#156">156</a></div>
+</div>
+<div class="letter">
+<div class="entry">Ultimate real costs, <a href="#82">82</a>, <a
+ href="#162">162</a></div>
+<div class="entry">Unearned increment, <a href="#86">86</a></div>
+<div class="entry">Unemployment, <a href="#168">168</a>;<br>
+trade union policy and, <a href="#144">144</a></div>
+<div class="entry">Utility, <a href="#37">37</a>;<br>
+cost and, <a href="#165">165</a>;<br>
+derived, <a href="#49">49</a>;<br>
+general relation of price, utility and cost, <a href="#65">65</a>;<br>
+law of diminishing utility, <a href="#40">40</a>;<br>
+law of diminishing utility as applied to money, <a href="#49">49</a>;<br>
+marginal, <a href="#42">42</a>;<br>
+price relation to, <a href="#38">38</a>,<a href="#40">40</a>;<br>
+wealth and, <a href="#170">170</a></div>
+</div>
+<div class="letter">
+<div class="entry">Wages, general wage level, <a href="#143">143</a>;<br>
+trade unions and, <a href="#155">155</a>, <a href="#156">156</a>;<br>
+women's, <a href="#157">157</a></div>
+<div class="entry">Wages Fund, <a href="#125">125</a></div>
+<div class="entry">Waiting, essence of, <a href="#126">126</a>;<br>
+for consumption, <a href="#121">121</a>;<br>
+for production, <a href="#120">120</a></div>
+<div class="entry">Waste, economic, <a href="#167">167</a>, <a
+ href="#168">168</a>, <a href="#176">176</a></div>
+<div class="entry">Wealth, distribution, <a href="#131">131</a>, <a
+ href="#137">137</a>,<a href="#172">172</a>;<br>
+utility and, <a href="#170">170</a></div>
+<div class="entry">"What should be" and "What is," <a href="#141">141</a></div>
+<div class="entry">Women's wages, <a href="#157">157</a></div>
+<div class="entry">Wool and mutton, <a href="#7">7</a>, <a href="#66">66</a>;<br>
+contrast to cotton and cotton-seed, <a href="#71">71</a></div>
+<div class="entry">Workers' control, <a href="#117">117</a></div>
+</div>
+
+
+
+
+
+
+
+<pre>
+
+
+
+
+
+End of Project Gutenberg's Supply and Demand, by Hubert D. Henderson
+
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diff --git a/10612.txt b/10612.txt
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+The Project Gutenberg EBook of Supply and Demand, by Hubert D. Henderson
+
+This eBook is for the use of anyone anywhere at no cost and with
+almost no restrictions whatsoever.  You may copy it, give it away or
+re-use it under the terms of the Project Gutenberg License included
+with this eBook or online at www.gutenberg.org
+
+
+Title: Supply and Demand
+
+Author: Hubert D. Henderson
+
+Release Date: January 6, 2004 [EBook #10612]
+
+Language: English
+
+Character set encoding: ASCII
+
+*** START OF THIS PROJECT GUTENBERG EBOOK SUPPLY AND DEMAND ***
+
+
+
+
+Produced by Josh Cogliati and PG Distributed Proofreaders
+
+
+
+
+SUPPLY AND DEMAND
+
+By Hubert D. Henderson M.A.
+
+With an Introduction by J.M. Keynes M.A., C.B.
+
+1922.
+
+
+
+
+
+INTRODUCTION
+
+The Theory of Economics does not furnish a body of settled conclusions
+immediately applicable to policy. It is a method rather than a
+doctrine, an apparatus of the mind, a technique of thinking, which
+helps its possessor to draw correct conclusions. It is not difficult
+in the sense in which mathematical and scientific techniques are
+difficult; but the fact that its modes of expression are much less
+precise than these, renders decidedly difficult the task of conveying
+it correctly to the minds of learners.
+
+Before Adam Smith this apparatus of thought scarcely existed. Between
+his time and this it has been steadily enlarged and improved. Nor is
+there any branch of knowledge in the formation of which Englishmen can
+claim a more predominant part. It is not complete yet, but important
+improvements in its elements are becoming rare. The main task of the
+professional economist now consists, either in obtaining a wide
+knowledge of _relevant_ facts and exercising skill in the application
+of economic principles to them, or in expounding the elements of his
+method in a lucid, accurate and illuminating way, so that, through his
+instruction, the number of those who can think for themselves may be
+increased.
+
+This Series is directed towards the latter aim. It is intended to
+convey to the ordinary reader and to the uninitiated student some
+conception of the general principles of thought which economists now
+apply to economic problems. The writers are not concerned to make
+original contributions to knowledge, or even to attempt a complete
+summary of all the principles of the subject. They have been more
+anxious to avoid obscure forms of expression than difficult ideas; and
+their object has been to expound to intelligent readers, previously
+unfamiliar with the subject, the most significant elements of economic
+method. Most of the omissions of matter often treated in textbooks are
+intentional; for as a subject develops, it is important, especially in
+books meant to be introductory, to discard the marks of the chrysalid
+stage before thought had wings.
+
+Even on matters of principle there is not yet a complete unanimity of
+opinion amongst professors. Generally speaking, the writers of these
+volumes believe themselves to be orthodox members of the Cambridge
+School of Economics. At any rate, most of their ideas about the
+subject, and even their prejudices, are traceable to the contact they
+have enjoyed with the writings and lectures of the two economists who
+have chiefly influenced Cambridge thought for the past fifty years,
+Dr. Marshall and Professor Pigou.
+
+J.M. Keynes.
+
+CONTENTS
+
+CHAPTER I
+
+THE ECONOMIC WORLD
+
+Sec.1. THEORY AND FACT
+
+Sec.2. THE DIVISION OF LABOR
+
+Sec.3. THE EXISTENCE OF ORDER
+
+Sec.4. SOME REFLECTIONS UPON JOINT PRODUCTS
+
+Sec.5. SOME REFLECTIONS UPON CAPITAL
+
+Sec.6. THE FUNDAMENTAL CHARACTER OF MANY ECONOMIC LAWS
+
+
+
+CHAPTER II
+
+THE GENERAL LAWS OF SUPPLY AND DEMAND
+
+Sec.1. PRELIMINARY STATEMENT OF THREE LAWS
+
+Sec.2. DIAGRAMS AND THEIR USES
+
+Sec.3. AMBIGUITIES OF THE EXPRESSIONS, "INCREASE IN DEMAND," ETC.
+
+Sec.4. REACTIONS OF CHANGES IN DEMAND AND SUPPLY ON PRICE
+
+Sec.5. SOME PARADOXICAL REACTIONS OF PRICE CHANGES ON SUPPLY
+
+Sec.6. THE DISTURBANCES OF MONETARY CHANGES
+
+Sec.7. THE TRADE CYCLE
+
+
+
+CHAPTER III
+
+UTILITY AND THE MARGIN OF CONSUMPTION
+
+Sec.1. THE FORCES BEHIND SUPPLY AND DEMAND
+
+Sec.2. THE LAW OF DIMINISHING UTILITY
+
+Sec.3. THE RELATION BETWEEN PRICE AND MARGINAL UTILITY
+
+Sec.4. THE MARGINAL PURCHASER
+
+Sec.5. THE BUSINESS MAN AS PURCHASER
+
+Sec.6. THE DIMINISHING UTILITY OF MONEY
+
+
+
+CHAPTER IV
+
+COST AND THE MARGIN OF PRODUCTION
+
+Sec.1. AN ILLUSTRATION FROM COAL
+
+Sec.2. THE VARIOUS ASPECTS OF MARGINAL COST
+
+Sec.3. THE DANGERS OF IGNORING THE MARGIN
+
+Sec.4. A MISINTERPRETATION
+
+Sec.5. SOME CONSEQUENCES OF A HIGHER PRICE LEVEL
+
+Sec.6. GENERAL RELATION BETWEEN PRICE, UTILITY AND COST
+
+
+
+CHAPTER V
+
+JOINT DEMAND AND SUPPLY
+
+Sec.1. MARGINAL COST UNDER JOINT SUPPLY
+
+Sec.2. MARGINAL UTILITY UNDER JOINT DEMAND
+
+Sec.3. A CONTRAST BETWEEN COTTON AND COTTON-SEED, AND WOOL AND MUTTON
+
+Sec.4. THE IMPORTANCE OF BEING UNIMPORTANT
+
+Sec.5. CAPITAL AND LABOR
+
+Sec.6. CONCLUSIONS AS TO JOINT SUPPLY AND JOINT DEMAND
+
+Sec.7. COMPOSITE SUPPLY AND COMPOSITE DEMAND
+
+Sec.8. ULTIMATE REAL COSTS
+
+
+
+CHAPTER VI
+
+LAND
+
+Sec.1. THE SPECIAL CHARACTERISTICS OF LAND
+
+Sec.2. THE SCARCITY ASPECT
+
+Sec.3. THE DIFFERENTIAL ASPECT
+
+Sec.4. THE MARGIN OF TRANSFERENCE
+
+Sec.5. THE NECESSITY OF RENT
+
+Sec.6. THE QUESTION OF REAL COSTS
+
+Sec.7. RENT AND SELLING PRICE
+
+
+
+CHAPTER VII
+
+RISK-BEARING AND ENTERPRISE
+
+Sec.1. PROFITS AND EARNINGS OF MANAGEMENT
+
+Sec.2. THE PAYMENT FOR RISK-BEARING
+
+Sec.3. MONTE CARLO AND INSURANCE
+
+Sec.4. RISK UNDER LARGE SCALE ORGANIZATION
+
+Sec.5. THE ENTREPRENEUR
+
+Sec.6. RISK-TAKING AND CONTROL
+
+Sec.7. GENERAL ANALYSIS OF PROFITS
+
+
+
+CHAPTER VIII
+
+CAPITAL
+
+Sec.1. A REFERENCE TO MARX
+
+Sec.2. WAITING FOR PRODUCTION
+
+Sec.3. WAITING FOR CONSUMPTION
+
+Sec.4. CAPITAL NOT A STOCK OF CONSUMABLE GOODS
+
+Sec.5. THE ESSENCE OF WAITING
+
+Sec.6. INDIVIDUAL AND SOCIAL SAVING
+
+Sec.7. THE NECESSITY OF INTEREST
+
+Sec.8. THE SUPPLY OF CAPITAL
+
+Sec.9. INVOLUNTARY SAVING
+
+Sec.10. INTEREST AND DISTRIBUTION
+
+
+
+CHAPTER IX
+
+LABOR
+
+Sec.1. A RETROSPECT ON LAISSEZ-FAIRE
+
+Sec.2. IDEAS AND INSTITUTIONS
+
+Sec.3. THE GENERAL WAGE-LEVEL
+
+Sec.4. THE SUPPLY OF LABOR IN GENERAL
+
+Sec.5. THE APPORTIONMENT OF LABOR AMONG PLACES
+
+Sec.6. THE APPORTIONMENT OF LABOR AMONG SOCIAL GRADES
+
+Sec.7. THE APPORTIONMENT OF LABOR AMONG OCCUPATIONS
+
+Sec.8. WOMEN'S WAGES
+
+CHAPTER X
+
+THE REAL COSTS OF PRODUCTION
+
+Sec.1. COMPARATIVE COSTS
+
+Sec.2. THE ALLOCATION OF RESOURCES
+
+Sec.3. UTILITY AND WEALTH
+
+Sec.4. CRITERIA OF POLICY
+
+
+
+SUPPLY AND DEMAND
+
+
+
+CHAPTER I
+
+THE ECONOMIC WORLD
+
+
+Sec.1. _Theory and Fact_. The controversy between the "Theorist" and the
+"Practical Man" is common to all branches of human affairs, but it is
+more than usually prevalent, and perhaps more than usually acrid in
+the economic sphere. It is always a rather foolish controversy, and I
+have no intention of entering into it, but its prevalence makes it
+desirable to emphasize a platitude. Economic theory must be based
+upon actual fact: indeed, it must be essentially an attempt, like all
+theory, to _describe_ the actual facts in proper sequence, and in true
+perspective; and if it does not do this it is an imposture. Moreover,
+the facts which economic theory seeks to describe are primarily
+economic facts, facts, that is to say, which emerge in, and are
+concerned with, the ordinary business world; and it is, therefore,
+mainly upon such facts that the theory must be based. People
+sometimes speak as though they supposed the economist to start from a
+few psychological assumptions (e. g. that a man is actuated mainly by
+his own self-interest) and to build up his theories upon such
+foundations by a process of pure reasoning. When, therefore, some
+advance in the study of psychology throws into apparent disrepute such
+ancient maxims about human nature, these people are disposed to
+conclude that the old economic theory is exploded, since its
+psychological premises have been shown to be untrue. Such an attitude
+involves a complete misunderstanding not merely of economics, but of
+the processes of human thought. It is quite true that the various
+branches of knowledge are interrelated very intimately, and that an
+advance in one will often suggest a development in another. By all
+means let the economist and psychologist avoid a pedantic specialism
+and let each stray into the other's province whenever he thinks
+fit. But the fact remains that they are primarily concerned with
+different things: and that each is most to be trusted when he is upon
+his own ground. When, therefore, the economist indulges in a
+generalization about psychology, even when he gives it as a reason for
+an economic proposition, in nine cases out of ten the economics will
+not depend upon the psychology; the psychology will rather be an
+inference (and very possibly a crude and hasty one) from the economic
+facts of which he is tolerably sure.
+
+But the purpose of economic theory is not merely to describe the facts
+of the economic world; it is to describe them in their proper sequence
+and true perspective. It must begin with those facts which are most
+general and which have the widest possible significance. Those are not
+likely to be the facts which our practical experience forces most
+insistently upon our notice. For it is the particular and not the
+general, the differences between things rather than their
+resemblances, that concern us most in daily life. Nor are we likely to
+find the universal facts which we require in the sphere of public
+controversy. We must rather look for them in the dark recesses of our
+consciousness, where are stored those truths which are so obvious that
+we hardly notice them, which are so indisputable that we seldom
+examine them, which seem so trite that we are apt to miss their full
+significance.
+
+
+Sec.2. _The Division of Labor_. There is one such truth in the economic
+sphere which it is essential to appreciate vividly and fully, with the
+widest sweep of the imagination and the sharpest clarity of
+thought. Man lives by cooperating with his fellow-men. In the modern
+world, that cooperation is of a boundless range and an indescribable
+complexity. Yet it is essentially undesigned and uncontrolled by
+man. The humblest inhabitant of the United States or Great Britain
+depends for the satisfaction of his simplest needs upon the activities
+of innumerable people, in every walk of life and in every corner of
+the globe. The ordinary commodities which appear upon his dinner table
+represent the final product of the labors of a medley of merchants,
+farmers, seamen, engineers, workers of almost every craft. But there
+is no human authority presiding over this great complex of labor,
+organizing the various units, and directing them towards the common
+ends which they subserve. Wheel upon wheel, in a ceaseless succession
+of interdependent processes, the business world revolves: but no one
+has planned and no one guides the intricate mechanism whose smooth
+working is so vital to us all. Man, indeed, can organize and has
+organized much. Within a large factory the efforts of thousands of
+work-people, each engaged on the repetition of a single small process,
+are fitted together so as to form an ordered whole by the conscious
+direction of the management. Sometimes factory is joined with factory,
+with farms, fisheries, mines, with transport and distributing
+agencies, as one gigantic business unit, controlled by a common
+will. These giant businesses are remarkable achievements of man's
+organizing gifts. The individuals who control them wield an immense
+power, which so impresses the public imagination that we dub them
+"kings," "supermen," "Napoleons of industry." But how small a portion
+of man's economic life is dominated by such men! Even as regards the
+affairs of their own businesses, how narrow, after all, are the limits
+of their influence! The prices at which they can buy their materials
+and borrow their capital, the quantities of their products which the
+public will consume, are factors at once vital to their prosperity and
+outside their own control.
+
+A great business, like a nation, may cherish visions of
+self-sufficiency, may stretch its tentacles forward to the consumer
+and backwards to its supplies of raw material; but each fresh
+extension of its activities serves only to multiply its points of
+contact with the outside world. When those points are reached, the
+largest business, like the smallest, is out on the open sea of an
+economic system immeasurably larger and more powerful than
+itself. There it must meet--the better perhaps for its inherent
+strength and accumulated knowledge--the impact of rude forces, which
+it is powerless to control. Beneath the blasts of a trade depression,
+or some other tendency of world-wide scope, the authority of the
+mightiest industrial magnate, and equally of any Government, assumes
+the same essential insignificance as the pride of a man humbled by
+contact with the elemental powers of nature.
+
+
+Sec.3. _The Existence of Order_. The parallel can be pursued further with
+advantage. Just as in the world of natural phenomena, which for long
+seemed to man so wayward and inexplicable, we have come gradually to
+perceive an all-pervading uniformity and order; so there is manifest
+in the economic world, uniformity, order, of a similar if less
+majestic kind. Upon the cooperation of his fellowmen, man depends for
+the very means of life: yet he takes this cooperation for granted,
+with a complacent confidence and often with a naive unconsciousness,
+as he takes the rising of to-morrow's sun. The reliability of this
+unorganized cooperation has powerfully impressed the imagination of
+many observers.
+
+"On entering Paris which I had come to visit," exclaimed Bastiat some
+seventy years ago, "I said to myself--Here are a million of human
+beings who would all die in a short time if provisions of every kind
+ceased to flow towards this great metropolis. Imagination is baffled
+when it tries to appreciate the vast multiplicity of commodities which
+must enter to-morrow through the barriers in order to preserve the
+inhabitants from falling a prey to the convulsions of famine,
+rebellion, and pillage. And yet all sleep at this moment, and their
+peaceful slumbers are not disturbed for a single instant by the
+prospect of such a frightful catastrophe. On the other hand, eighty
+departments have been laboring to-day, without concert, without any
+mutual understanding, for the provisioning of Paris."
+
+The theme may well excite wonder. But wonder should always be watched
+with a wary eye; for he is apt to bring in his train a hanger-on
+called worship, who can do nothing but mischief here. It is a short
+step from a passage like that quoted above to a glorification of the
+existing system of society, to a defence of all manner of indefensible
+things; and a cross-grained attitude towards all projects of
+reform. It is a short step; but it is one which it is quite
+unjustifiable to take. For the evils of our economic system are too
+plain to be ignored; too many people have harsh personal experience of
+the wastefulness of its production, the injustice of its distribution;
+of its sweating, its unemployment and slums. And when the attempt is
+made to plaster over evils, such as these with obsequious rhetoric
+about the majesty of economic law, it is not surprising that the
+spirit of many men should revolt and that they should retort by
+denying the existence of order in the business world, by declaring
+that the spectacle which _they_ see is one of discord, confusion and
+chaos. And then we are engulfed in a controversy as stale, flat and
+unprofitable as that between the "theorist" and the "practical man."
+
+The truth is that the language of praise and obloquy is quite
+inappropriate. In the first place, it may be well to note that the
+order of which I have spoken manifests itself not merely in those
+economic phenomena which are beneficial to man, but hardly less in
+those which work to his hurt. Even in those alternations of good and
+bad trade, which spell so much unemployment and misery, there is
+discernible a rhythmic regularity like that of the process of the
+seasons, or the ebb and flow of the tide. This is not an elegance to
+be admired. Furthermore, in so far as the order comprises adjustments
+and tendencies which are beneficial (as, indeed, is mainly true),
+there is no warrant for assuming that these are either adequate to
+secure a prosperous community or dependent upon the social
+arrangements which happen to exist. Let us, therefore, refrain from
+premature polemics and examine in a spirit of detachment some further
+aspects of the elaborate, but yet unorganized, cooperation of which so
+much has been already said.
+
+
+Sec.4. _Some Reflections upon Joint Products_. A quite inadequate idea of
+the complexity of this cooeperation is obtained by dwelling on the
+numbers of people who participate in it, or the immense distances over
+which it extends. The deficiency can be partially supplied by
+referring to some of the more obvious of the many subtle
+interconnections which exist between different commodities and
+different trades.
+
+There are innumerable groups of commodities (which it is customary to
+term "joint products") such that the production of one commodity
+belonging to the group necessarily implies or very greatly facilitates
+the production of the others. Wool and mutton; beef and hides; cotton
+and cotton-seed are a few familiar illustrations. The important
+feature of these "joint products" is the fairly precise relation which
+must exist between the quantities in which the different products are
+supplied. If you plant a certain crop of cotton, it will yield you so
+much cotton lint and so much cotton-seed. You can, of course, if you
+choose, throw away part of the seed, as indeed at one time planters
+used to do; but unless you do this, you cannot vary the proportions of
+the two things which you will have for sale. Similarly, if you keep a
+flock of sheep, or a herd of cattle, you will obtain wool and mutton
+in the one case, or beef and hides in the other, in proportions, which
+indeed you can vary within certain limits by choosing a different
+breed,[1] but which you cannot radically transform. When, however, we
+turn to the uses to which these products are put, no similar relation
+is to be discovered. Cotton lint is used chiefly for making articles
+of clothing; cotton-seed for crushing into oil, on the one hand, and
+cake for cattle fodder on the other. There is no apparent connection
+of any kind between the demands for these different things, and still
+less is there any obvious reason why these demands should bear to one
+another the particular proportions which characterize their respective
+supplies. It is very much the same with wool and mutton; with beef and
+hides; with all "joint products." Why should we consume mutton on the
+one hand and woolen clothing on the other, in a ratio at all
+commensurate with that in which they are yielded by the sheep?
+
+[Footnote 1: These possibilities of small variation are of very great
+importance as will be shown in Chapter V, but they do not affect the
+present argument.]
+
+What, then, might we expect to find if order was nonexistent in the
+economic world? Surely that some things such as wool would be produced
+in quantities many times in excess of the demand for them, quite
+possibly five, ten, or twenty times in excess; while conversely the
+supplies of others such as mutton might fall far short of what was
+required. But in practice we find nothing of the sort. Somehow it
+comes about that an equilibrium is established between the demand for
+and the supply of every commodity; and that this applies to wool and
+mutton, to beef and hides, as surely as to commodities which are
+produced quite independently. It is true that this equilibrium is a
+rough, imperfect one; and it may happen that what is called a "glut"
+of wool may co-exist for a short period with what is called a scarcity
+of mutton. But qualifications of this nature are in the strictest
+sense of the phrase, the exceptions which prove the rule. For the
+departures from equilibrium which gluts and scarcities represent are
+always transient and are usually confined within narrow limits. A
+strong prevailing trend towards an adjustment of demand and supply is
+unmistakably manifest amid all the vagaries of changing circumstance.
+Let me carry the argument a step further for the benefit of any reader
+who is restrained by a repugnance too deep and instinctive to be
+readily overcome, from admitting fairly to his mind that conception of
+order which I am endeavoring to emphasize. He will in all probability
+be one who, cherishing ideals of a better and fairer system of
+society, looks forward to a time when an organized cooeperation will be
+substituted for what he regards as the existing chaos. Let us suppose
+that his visions were fulfilled as completely as he could desire; and
+that an immense system of Socialism were in existence, embracing not
+one country only, but the whole world. Suppose all the difficulties of
+human perversity and administrative technique to have been surmounted
+and a wise, disinterested executive to be in supreme control of our
+business life. Let us suppose all this, and ask only the question: How
+would this executive treat the humdrum case of wool and mutton? How
+would it decide the number of sheep it would maintain?
+
+Shall we suppose that it is inspired by the ideal "to each according
+to his need," and that it resolves accordingly that the commodities
+which people require for a decent standard of life shall be supplied
+to them as a matter of course? How, then, would it proceed? It might
+estimate the amount of woolen clothing which a normal family requires,
+allowing for differences in climate, and possibly indulging somewhat
+the caprices of human taste. On this basis, a certain number of sheep
+would be indicated. It might perform a similar calculation for mutton,
+and again a certain number of sheep would be indicated. But it would
+be an extraordinary coincidence if the numbers which resulted from
+these independent calculations were nearly equal to one another, or
+were even of the same order of magnitude; and, if they differed
+widely, what number would our world executive select? Would it decide
+to waste an immense quantity of either wool or mutton; or would it
+decide that it could not, after all, supply the full human needs for
+one or other of the commodities?
+
+Of course, if the executive were sensible it could solve the problem
+satisfactorily enough. It could retain the monetary system we know
+to-day and it could supply the commodities to the consumers, not as a
+matter of right, but by selling them to them _at a price_. This price
+it could then move upwards or downwards, raising, say, the price of
+mutton and reducing that of wool, until it found that the consumption
+of the two things was adjusted in the required ratio. But if it acted
+in this manner, what essentially would it be doing? It would be
+seeking by deliberate contrivance to reproduce, in respect of this
+particular problem, the very conditions which occur to-day without aim
+or effort on the part of anyone at all.
+
+The moral of this illustration must not be misinterpreted. It does
+not show the folly of Socialism or the superiority of
+Laissez-faire. What it does show is the existence in the economic
+world of an order more profound and more permanent than any of our
+social schemes, and equally applicable to them all.
+
+
+Sec.5. _Some Reflections upon Capital_. Another aspect of the great
+cooperation is of even greater significance. It embraces not only a
+multitude of living men, but it links the present together with the
+future and the past. The goods and services which we enjoy to-day we
+owe only in part to the labors of the week, the month, or the year,
+only in part even to the efforts of our contemporaries. The men, long
+since dead and forgotten, who built our railways, or sunk our coal
+mines, or engaged in any of a great variety of tasks, are still
+contributing to the satisfaction of our daily wants. The expression is
+not altogether fanciful; for, had it not been reasonable to expect
+that those labors would be of use to us to-day, many of them in all
+probability would never have been undertaken. It was to meet our
+present wants, and even our future wants, that many men toiled on
+monotonous tasks ten, twenty, thirty years ago. And yet, of course, we
+should deceive ourselves if we supposed that this was the motive of
+these men, that our welfare was the centre of their heart's desire. We
+in our turn dedicate to the future, and often to a distant future, an
+immense portion of our energies. Let any reader who doubts this, study
+the statistics of the occupations of the people, and reflect on how
+long a period must elapse before the labors of this trade or that can
+fulfil their ultimate function. How long would the period be in the
+case of a man making bricks, which will later be employed in the
+erection of a factory, where machinery will be made, to equip an
+electrical generating station designed to supply, over a period of
+many years, light, heat, and power to people living in a remote
+Continent? A longer time, it may be hazarded, than he is accustomed
+to look ahead.
+
+Like the daily cooperation of living men, this cooperation of past,
+present and future is essential to the well-being of mankind, and yet
+it is undesigned and unorganized. As private individuals, men do,
+indeed, deliberately provide for their own future, and for that of
+their kith and kin: as the directors of businesses, they try to
+forecast the trend of demand. But such conscious calculations and
+deliberate acts would avail little if they stood alone. They are
+hardly more than the necessary spokes in the great wheel which
+regulates the relations of past, present and future. The hub of the
+wheel is an elaborate system of borrowing and lending, essentially
+similar to the buying and selling of commodities. The private
+individual in order to provide for his family or for his old age
+"saves" and "invests." But what exactly does this mean? It means that
+he transfers so much purchasing power, which he might have spent on
+his personal pleasures, to some one else in return for the expectation
+of receiving, year by year in the future, he and his heirs after him,
+a certain smaller quantity of purchasing power. The other party to the
+transaction will be, we may suppose, a business man who enters into it
+because he sees the opportunity of a promising industrial development,
+to undertake which he requires more purchasing power than he himself
+possesses. And, because this transaction is entered into, a smaller
+number of us will shortly be engaged in making motorcars, or
+gramaphones, and a larger number of us in making factories and
+machinery, which will later enhance the world's productive power.
+
+Many transactions of the kind take place daily in modern communities,
+and their multiplicity gives rise to a mass of phenomena with which we
+are all tolerably familiar. We recognize a short-loan market, a stock
+exchange, a number of "markets" where lenders and borrowers are
+brought together by the aid of various intermediaries, such as banks,
+bill brokers, and stock jobbers, who correspond to dealers in
+commodities. Between these different specialized markets, we are
+aware of an interconnection so close and strong that we speak more
+generally of a Capital Market, of which the stock exchange, the
+short-loan market and so forth, are the component parts. Now, "market"
+is a word which was originally used to denote a place where tangible
+commodities were bought and sold; and the more closely we examine the
+phenomena of the Capital Market, the more closely do we perceive the
+profound resemblance between the mechanism of borrowing and lending,
+and that of buying and selling. Corresponding to the price of a
+commodity is the rate of interest (in the short-loan market we
+actually call the rate of Discount "the price of money," and speak of
+money being cheap or dear); and between the rate of interest, the
+demand for and the supply of capital there exist relations precisely
+similar to those between price, demand, and supply in commodity
+markets. Above all there is the same strong prevailing trend towards
+an adjustment of demand and supply.
+
+This fundamental resemblance between two such apparently
+incommensurable things as the buying of material commodities and the
+borrowing of capital is highly significant; it is another instance of
+that order in the economic world, of which the reader may now be
+growing weary. But so difficult is it to see clearly and fully
+something which one sees, as it were, every day of one's life, that a
+few more moments of reflection on the special case of capital will be
+time well spent. Let us revert then to our fantasy of a world
+socialist commonwealth; and humbly submit another poser to its supreme
+executive. The question this time will be whether some great
+constructional work, such, let us say, as the recently mooted Severn
+barrage scheme, should or should not be undertaken. Let us suppose
+that the costs and future benefits of the undertaking can be estimated
+accurately; and that the problem reduces itself to one of expending
+now a sum, let us say, of $100,000,000, with the prospects of
+obtaining in the future an income of power, or whatever it may be,
+worth $5,000,000 per annum. I have assumed for the sake of simplicity
+that we shall still be reckoning in terms of money, though possibly
+the executive may have substituted Marxian labor units; but it is
+quite immaterial to the present argument what the measuring rod may
+be. The point to be observed is, that it is impossible to tackle the
+problem at all without the conception of a rate of interest. For
+suppose that you tried to do without it, and said, "We shall take a
+long view. The interests of the future are no less our concern than
+those of the present; we shall not discriminate between them. We shall
+regard as an enterprise worthy to be undertaken whatever promises to
+yield in the course of time a return larger than the outlay." Where
+will this lead you? The particular proposal set out above would
+clearly pass the test; for in twenty years the resultant benefits
+would have added up to a figure equivalent to the initial cost. But
+equally clearly, the cost might have been more than $100,000,000; it
+might have been $250,000,000, $500,000,000, whatever figure you care
+to take, and if you extend the period similarly to fifty or one
+hundred years, sooner or later the gains would top the cost. Now there
+is no limit to the enterprises which would pay their way on this
+basis; and it would be quite impossible to undertake them all. For
+they would swallow up all and more than all your labor and your
+materials, and would leave you with no resources with which to meet
+the recurrent daily wants of men. Clearly, then, in some way or other,
+you must pick and choose, you must reject some enterprises as
+_insufficiently_ worth while. But how would you proceed to choose?
+Without a clear principle, a simple criterion to guide you, you would
+be plunged in utter chaos. You could not say, "Let all proposals
+involving capital expenditure be submitted to a central committee, who
+shall compare them with one another in a sort of competitive
+examination and, after deciding the number of applications they can
+pass on the basis of the volume of resources which they can devote to
+the future, award the places to those which head the list." Such a
+prospect is a nightmare of officialism and delay. You would be driven
+to formulate a simple, intelligible rule or measure, and leave that
+rule to be applied by the unfettered judgment of innumerable men to
+individual problems, as and when they arose. And for such a rule or
+measure, you could not do better than a rate of interest; you would
+have to lay it down that only those projects should be approved which
+promised a return of 6 per cent, or whatever it might be. Even in
+deciding what it should be, the limits of your choice would be
+narrowly confined. If, for instance, you fixed on 1 or 2 per cent,
+you would probably discover that you had not achieved your object,
+that the undertakings for distant returns which passed this test,
+still consumed far more resources than you could spare. You would be
+compelled then to raise the rate until it had cut these enterprises
+down within manageable limits. But, once more, what essentially would
+you be doing? You would be using the instrument of the rate of
+interest to adjust the demand for and supply of capital, though indeed
+the interest might not be paid away as now to private individuals. You
+would be reproducing by the method of deliberate trial and error, the
+adjustments which occur automatically as things are, in the actual
+world. Once again the most perfectly contrived Utopia would be
+compelled to pay to the unorganized cooeperation of our epoch the
+sincerest flattery of imitation.
+
+
+Sec.6. _The Fundamental Character of many Economic Laws_. But again
+perhaps a word of warning may be desirable. There is much controversy
+in these days about something called "Capitalism" or "The capitalist
+system." When these words are used with any precision, they usually
+refer to the arrangement so prevalent at present, whereby the
+ownership and sole ultimate control of a business rests with those who
+hold its stocks and shares. There is much to be said upon the merits
+and demerits of this system; something will perhaps be said upon the
+matter in the fifth volume of this series; but I shall not discuss it
+here. Nothing that I have said so far has any real bearing on it
+whatsoever; to suppose that it has, is indeed to miss the whole point
+of this chapter.
+
+The order, which I have sought to reveal, pervading and moving the
+most diverse phenomena of the economic world, would be a far less
+noteworthy and impressive thing were it merely the peculiar product of
+capitalism. Merchant adventurers, companies, and trusts; Guilds,
+Governments and Soviets may come and go. But under them all, and, if
+need be, in spite of them all, the profound adjustments of supply and
+demand will work themselves out and work themselves out again for so
+long as the lot of man is darkened by the curse of Adam.
+
+
+
+CHAPTER II
+
+THE GENERAL LAWS OF SUPPLY AND DEMAND
+
+
+Sec.1. _Preliminary Statement of Three Laws_. The recognition of order in
+any branch of natural phenomena is but the prelude to the formulation
+of a set of laws, the simpler as the order is more universal, which
+describe, and as we say, explain it. Thus the perception of the even,
+elliptical courses of the heavenly bodies led to the statement of the
+law of gravitation and the laws of motion.
+
+In economics, similar laws have long since been enunciated, and have
+proved themselves such valuable instruments for the understanding of
+the daily problems of the workaday world, that they have been woven
+into the texture of our ordinary speech and thought. I have already
+touched upon them in the preceding chapter. But it is now desirable to
+set them out in order, in the most concise and formal manner possible.
+
+LAW I. When, at the price ruling, demand exceeds supply, the price
+   tends to rise. Conversely when supply exceeds demand the price
+   tends to fall.
+
+LAW II. A rise in price tends, sooner or later, to decrease demand and
+   to increase supply. Conversely a fall in price tends, sooner or
+   later, to increase demand and to decrease supply.
+
+LAW III. Price tends to the level at which demand is equal to supply.
+
+These three laws are the cornerstone of economic theory. They are the
+framework into which all analysis of special, detailed problems must
+be fitted. Their scope is very wide. I have purposely refrained from
+introducing into my statement of them any reference to commodities;
+for they extend far beyond commodities. Subject to an important
+qualification, they apply to capital, the price paid for the use of
+capital being what we call the rate of interest. They apply hardly
+less to "services," to the remuneration of labor of every kind and
+grade. People sometimes protest warmly against the idea of treating
+labor "like a commodity." If this indignation expresses no more than
+a belief that in matters concerning conditions of work, and relations
+between employees and the management, the sensibilities of human
+nature should be taken into due account, it is based on elementary
+decency and commonsense. But if, as sometimes appears, it is directed
+against the fact that the remuneration of labor is controlled by the
+laws of supply and demand, it is a mere baying at the moon, with
+singularly little provocation. For these laws are in no way peculiar
+to commodities, and it is no one's fault that they include commodities
+too within their scope.
+
+But let us go back to the laws themselves, and probe them and dissect
+them, and turn them this way and that, so that we may perceive their
+full content, and grasp it firmly in our minds. The third law implies
+a prevailing tendency for demand to be equal to supply. This
+tendency, as was suggested in Chapter I, can be verified by anyone
+from his experience and observation (provided he is a reasonable
+person, and not the tiresome kind who would dispute the law of
+gravitation because he sees that a feather falls to the ground more
+slowly than a stone). But it can also be deduced as a corollary from
+the two preceding laws; and to regard it in this way will help us to
+appreciate its significance. Start, for instance, by supposing that
+demand is in excess of supply. Then the price will tend to rise. After
+the price has risen, the supply will become larger, while the demand
+will fall away. The excess of demand with which we started will thus
+clearly be diminished. But if there remains any portion of this
+excess, the same reactions will continue; the price will rise further,
+and for the same reason; demand will be further checked and supply
+further stimulated. In other words, these forces must persist until
+the entire excess of demand over supply is eliminated. If we start by
+supposing supply to exceed demand, the converse chain of sequences
+will operate. Now these very simple steps of reasoning illuminate the
+nature of the normal equilibrium of demand and supply. They reveal
+that the equilibrium is established and maintained by the agency of
+_changes in price_, and they enable us to lay it down as perhaps the
+most important thing that can be said about the price of anything that
+it will tend to be such as will equate demand and supply. But that is
+not all that they reveal. They reveal also the extreme dependence of
+both demand and supply upon price.
+
+Now this is a fact which it is most important to realize vividly. It
+is apt to be obscured by customary modes of speech. In ordinary times
+the prices of most commodities and services do not change by very
+much, unless indeed over a long period of years; the amounts demanded
+and supplied may therefore seem to maintain a fairly constant level;
+and we may be tempted to speak of Great Britain producing so many
+million tons of coal, or America consuming so many millions of
+motor-cars per annum, almost as though these quantities were
+independent of price considerations. But we should never forget that
+there is no service or commodity produced by man, however essential it
+may seem, the demand for or the supply of which might not be reduced
+to nothing, if the price were sufficiently raised on the one hand, or
+lowered on the other. How easy it is sometimes to forget this simple
+truth may be seen from the mistake so commonly made of supposing,
+because the peoples of Central Europe were left, on the cessation of
+the war, starving and destitute of the means of life and the materials
+of work, that they must necessarily become heavy purchasers of
+imported goods; without pausing to consider whether the prices were
+such as they could afford to pay.
+
+
+Sec.2. _Diagrams and their Uses_. It will help to prevent mistakes like
+this and more generally to make sharp and clear the fundamental
+relations which exist between demand, supply and price, if we exhibit
+them pictorially in the form of a diagram. Such diagrams are of great
+service in many parts of economic theory, not because they can prove
+anything which could not be proved otherwise, but because, being
+really a simpler medium of expression than words, they enable the mind
+to grasp more readily and to retain more vividly the essential facts
+of complex relations.
+
+Figure 1:
+
+     Y
+       |
+       |                                            S'
+       |                                          *
+     D |                                         **
+       |*                                       **
+       | **                                    *
+       |  **                                  *
+       |    *                                *
+       |     **                            **
+       |      **                          *
+       |        **                       *
+       |         **                    **
+       |           **                 *
+       |            **  Q           **
+    _l_|--------------*------------* R
+       |              |***       **
+       |              |   ** P **
+    _m_|--------------------***
+       |              |  *** |***
+    _k_|--------------***----+---** _r_
+       |          _q_*|      |     ***
+       |          *** |      |        ****
+       |       ***    |      |           ****
+       |    ***       |      |               ***
+     S |****          |      |                  ****
+       |              |      |                      ** D'
+       |              |      |
+       |              |      |
+       |              |      |
+       |              |      |
+      0+-------------------------------------------------------- X'
+                      N      M.
+                              Figure 1
+
+In Fig. 1 the curve DD' represents the conditions of demand. It is
+supposed to be drawn in such a way that if any point, Q, be taken on
+the curve, and the perpendicular QN be drawn to meet the base line, or
+axis OX, then ON will represent the amount that will be demanded at a
+price represented by QN (or O_l_). In other words, distances measured
+along OY represent prices, and distances measured along OX represent
+quantities of the commodity, or service, or whatever it may be.
+Clearly, then, the demand curve, DD', must slope downwards from left
+to right, since the lower the price asked, the greater will be the
+amount demanded.  Similarly the curve SS' represents the conditions of
+supply. It is supposed to be so drawn that if any point _q_ be taken
+upon it, and the perpendicular _q_N be drawn to meet OX, then ON will
+represent the amount that will be supplied at a price represented by
+_q_N (or O_k_). Equally clearly this supply curve must slope upwards
+from left to right, since the higher the price obtainable, the greater
+will be the quantity offered. Take the point P where the two curves
+meet, and draw the perpendicular PM to meet OX. Then the third law
+enunciated at the beginning of this chapter corresponds to the
+statement that PM or O_m_ will represent the price at which the
+commodity or service will be exchanged.
+
+It can readily be seen that no other price could be maintained. For
+suppose the price to be less than O_m_, suppose it to be O_k_, then,
+at this price, ON (or _kq_) will be the amount supplied, and _kr_ the
+amount demanded. The demand will thus exceed the supply, and the
+price will tend to rise, i.e. to move upwards towards O_m_. Similarly
+if we suppose the price to be O_l_, which is larger than O_m_, the
+supply (_l_R) will exceed the demand (_l_Q) and the price will fall
+downwards towards O_m_. Thus, again, we have deduced Law III from Laws
+I and II with the form and precision of a proposition in Euclid. Now,
+when once the eye has become familiar with this diagram, it ought to
+be impossible for the mind to lose even momentarily its grip on the
+fact that demand and supply are both dependent upon price. For these
+curves do not represent any particular amounts; they represent a
+series of _relations_ between amount and price; if the price is QN the
+amount demanded is ON, and so forth. The terms demand and supply in
+the sense, in which I have been using them, of the respective amounts
+demanded and supplied are, indeed, strictly meaningless without
+reference to some particular price. The reference may sometimes be
+implicit; but, whenever there is a chance of ambiguity, it should be
+explicitly made.
+
+
+Sec.3. _Ambiguities of the Expressions, "Increase in Demand," etc_. It is
+the more important to be precise upon this point, in that there is a
+further possible confusion which we have now to consider. Demand and
+supply, as we have seen, are dependent upon price; but equally clearly
+they are dependent upon other things as well. Demand depends upon the
+needs, tastes and habits of the people, as well as upon the length of
+their purse; supply depends upon such things as the cost of production
+in the case of commodities. None of these things are constant
+factors, all of them are liable to change, and it may well happen that
+we shall want to consider in some concrete problem the probable
+consequences of such a change. Now the most usual and natural way of
+describing such changes in the medium of words is to use the
+expression "increase" or "decrease in demand," and "increase" or
+"decrease in supply," the same expressions, which we employed before
+to describe the consequences of a change in price. This identity of
+language conceals a fundamental distinction between the phenomena
+described; and to make this distinction plain we cannot do better than
+revert to our diagrammatic presentation of the laws.
+
+Figure 2:
+
+    Y |
+      |
+   _d_|
+      |.
+      | .
+      |  .                                         _s'_
+      |   .                                       .
+    D |    .                                     .
+      |**   .                                   .    * S'
+      | **   ..                                .    *
+      |  **    .                               .   *
+      |   **    .                            ..   *
+      |     *    ..                         .    **
+      |      **    .                       .    **
+      |       **    ..                   ..    **
+      |         *     .                 .     *
+      |          **    .               .     *
+      |           **    ..            .    **
+      |             **    ..        ..    **
+      |              **     ..    ..    **
+      |                **     . ..    **
+      |                 ** p' ..     **
+      |                   **..  .. **
+      |                  ..|**p  **._p_
+      |                ..  | **** | ..
+      |             ...    |**|** |   ..
+      |           ..      *|  |  *|     ..
+      |      .....     *** |  |   |**     .
+   _s_|......       ***    |  |   |  **    ..
+      |          ***       |  |   |    **    ...
+      |     *****          |  |   |      **     ...
+    S |*****               |  |   |        **      ..
+      |                    |  |   |          ***     .._d'_
+      |                    |  |   |            ***
+      |                    |  |   |               **
+      |                    |  |   |                 **D'
+      |                    |  |   |
+      |                    |  |   |
+     0+---------------------------------------------------------
+                          M'  M  _m_
+                            Figure 2
+
+
+
+In Fig. 2 we start as before with our demand curve, and supply curve,
+cutting one another at the point P. We then suppose that some
+alteration takes place in the conditions of demand; there has been a
+growth in the general taste for the commodity or service, and the
+demand, as we say, has increased accordingly. How is this fact to be
+represented in the diagram? Plainly not by taking another point on
+the curve, DD', at a further distance from OY. For this would merely
+indicate the larger amount that would be taken, if the conditions of
+demand had remained unaltered but the sellers had reduced their
+prices. The correct way of representing the change we have supposed is
+to construct a new demand curve (in the figure, the dotted curve
+_dd'_), lying at every point above the old demand curve. For this
+indicates that larger quantities will be purchased at the old prices,
+which is exactly what we want to represent. Similiarly if we wish to
+represent a change in the conditions of supply, such as might result,
+in the case of a commodity, from a tax imposed on its production, we
+must draw a new supply curve, _ss'_, which in the case supposed, must
+lie everywhere above the old supply curve. On the other hand, the
+decrease or increase in demand or supply, _resulting_ from a change in
+price, is represented simply by a shifting of the equilibrium from one
+point to another on the same curve. The striking pictorial contrast
+between a movement from one curve to another, and a movement along the
+same curve should help to make vivid to our minds the fundamental
+distinction between a change in the _conditions_ of demand, arising
+from new tastes, enhanced purchasing power, etc.; and a mere change in
+the amount purchased resulting from an alteration in the price which
+the sellers ask. Words, as this necessarily cumbrous sentence shows,
+are a clumsy instrument for the expression of abstract relations; it
+is not very easy to see which words in a sentence are the significant,
+commanding ones, and which are performing, as it were, ordinary
+routine duties. A diagram is not exposed to similar ambiguities of
+emphasis.
+
+The particular distinction, to which attention has been called, is
+important. The reader who has grasped it clearly will be able to
+perceive many instances of the confusion arising out of its neglect in
+the ordinary discussions of economic questions which take place in the
+press and on the platform. It is not uncommon, for instance, for an
+argument to run something like this: "The effect of a tax on this
+commodity might seem at first sight to be an advance in price. But an
+advance in price will diminish the demand; and a reduced demand will
+send the price down again. It is not certain, therefore, after all,
+that the tax will really raise the price." A glance at the diagram
+will keep us out of such a bog of sophistry and muddle. For if we
+suppose the amount of the tax per unit of the commodity to be
+represented by S_s_, the curve _ss'_ (drawn, as it is, roughly
+parallel to SS') will represent the new conditions of supply after the
+tax has been imposed. The new position of equilibrium will be given by
+the point P', where _ss'_ cuts DD', the demand curve. Now P' lies to
+the left of P the old point of equilibrium; hence, since DD' _must_
+slope downwards from left to right, it is clear that, if, as it is
+fair here to assume, the _conditions_ of demand have remained
+unaltered, the new price P'M', must be greater than the old.
+
+
+Sec.4. _Reactions of Changes in Demand and Supply on Price_. Having now
+made clear the meaning that must be attached to the terms, let us
+consider the question which naturally arises, whether we can lay down
+any general propositions or laws as to the effect upon price, of an
+increase or decrease in demand or supply. Another glance at the
+diagram suggests that we can. An increase in demand is represented in
+Fig. 2 by a movement from DD' to _dd'_, which cuts the supply curve,
+SS', at _p_, to the right of P. Since the supply curve (drawn, as it
+is best to draw it, to represent the amount which will be supplied in
+response to a given price) must always slope upwards from left to
+right, the new price, _pm_, must be greater than the old, PM.
+Conversely a decrease in demand is represented by a movement from
+_dd'_ to DD', and the new price is seen to be less than the old. We
+have already seen that a decrease in supply, which is represented by a
+movement from SS' to _ss'_ results in a higher price; and it is the
+obvious converse that an increase in supply will have the opposite
+effect. It would seem then that we might lay down quite generally that
+an increase in demand or a decrease in supply will raise the price
+while a decrease in demand or an increase in supply will lower it.
+
+But here it is necessary to be cautious. All conclusions as to the
+effects of causes are necessarily based, implicitly, if not
+explicitly, upon the assumption "other things being equal." This
+method of reasoning, which some people appear to find so irritating in
+the economic sphere, and as they say so "theoretical" and "unreal," is
+one which they adopt readily enough in every other department of
+life. No one, for instance, objects to the statement that the sun,
+when it comes out, makes a room warmer, although it may very well
+happen, if a fire is dying at the same time, that the room grows
+colder in point of fact. For in our general statement we assume
+implicitly that "other things" such as fires, are unchanged. But
+assumptions of this kind are legitimate only when there is no reason
+to suppose that the cause, the effects of which are being studied,
+will itself produce a change in the "other things." If (as I have
+often been told; I really do not know if it is true) the rays of the
+sun help to put a fire out, the statement made above would be the
+better for some qualification.
+
+Now we can only say that an increase in demand raises price if we
+assume the conditions of supply (as represented by the supply curve)
+to remain unchanged. But in practice, an increase in demand may cause
+a change in the _conditions_ of supply. An increase, for instance, in
+the demand for a commodity may give rise to a revolution in the
+methods of production, to the introduction of labor-saving machinery
+and so forth, which will eventually result in the commodity being
+produced more cheaply. It will certainly take a considerable time
+before reactions of this kind can exert an appreciable influence; and
+we can, therefore, feel reasonably sure that over a short period an
+increase in demand will raise the price. But we cannot be sure what
+the ultimate effect will be. A similar alteration in the condition of
+demand is less likely to result from an increase or decrease in
+supply; but it may conceivably occur. We must, therefore, be careful
+to qualify any general propositions which we lay down in this
+connection, by explicit reference to a short period of time. We can
+add the following to our body of laws:--
+
+LAW IV. An increase in demand, or a decrease in supply will tend to
+   raise the price for a short period at least. Conversely a decrease
+   in demand, or an increase in supply will tend to lower the price
+   for a short period at least.
+
+
+This law, like the others, applies to commodities, services, capital,
+to anything which can be said, literally, or by analogy, to have a
+price. "A short period" is, however, a vague expression and, since
+precision is the hallmark of an important law, we must accord to this
+one a status inferior to that which the preceding three can rightly
+claim.
+
+
+Sec.5. _Some paradoxical reactions of price changes on supply_. Let us
+turn, though, once more to these earlier laws, and with a heightened
+critical sense let us submit them to the test of the whole gamut of
+our experience, and see if in any of them we can find the smallest
+flaw. The first of them will pass through the ordeal--let each reader
+prove it for himself--unscathed. The second will emerge with a few
+hairs, as it were, singed. It tells us, for instance, that a rise in
+price will tend to augment the supply. Now there are some things the
+supply of which cannot possibly be augmented; these are the capital
+resources of nature, of which land is the most important for our
+present purpose. Land is bought and sold, it commands a price. In a
+certain sense, it may be said to be possible to increase the supply of
+land, in response to a rise in price, by drainage and reclamation
+schemes; and it will certainly happen that a rise in the price which
+land can command for any particular purpose will increase the amount
+which is devoted to that purpose. But, speaking broadly, the supply
+of land available for purposes of every kind is a fixed unvarying
+factor, with an inertia which the cajolery of price-changes is
+powerless to disturb. This is a most important fact, and it gives rise
+to some peculiar features of the price and rent of land, which we
+shall have to consider later as a separate problem. It constitutes a
+limiting case rather than an exception to the general law. But we have
+not yet done with the reactions of price upon supply. In the case of
+capital, the nature of those reactions has been much discussed as a
+highly controversial question. That a rise in the rate of interest
+will cause some people to save more than before, is generally
+admitted; but it is pointed out that the effect upon others may be the
+exact opposite, because it means that they do not need to save so much
+to acquire the same future annual income. It is unwise to say
+dogmatically that the former tendency outweighs the latter; though
+upon the whole it seems highly probable that it does. We cannot,
+therefore, in this case feel confident that a change in price will
+react upon supply in the manner which our law indicates. Similarly it
+is possible to argue that a rise in the general level of real wages
+may reduce the supply of labor, even, or some might say particularly,
+if the term is used to denote not the number of workpeople, but the
+quantity of work done. For there may be a tendency for workpeople,
+when more comfortably off, to work less regularly or less hard. Here
+again we cannot be sure. In none of these cases, however, including
+that of land, is there any reason to doubt that a rise in price will
+diminish _demand_, or conversely that a fall will increase it. Since,
+therefore, in the reasoning by which we deduced the third law, the
+conclusion will hold good, even if the effects of price-changes on
+supply are of the above paradoxical kind, provided that they do not
+continually outweigh the effects upon demand, there is no reason to
+cast doubt on the solidity of Law III, which, indeed, as we suggested
+before, commends itself directly to experience. But Law II seems now,
+perhaps, somewhat the worse for wear.
+
+The damage, however, is not considerable. For in each case the
+uncertainty arises only when we are dealing with one of the factors of
+production, land, labor or capital, _regarded as a whole_. If we are
+dealing with the capital available for a particular industry, a rise
+in the rate of profit in that industry will certainly increase the
+supply of capital available there; for it will tend to attract savings
+that might otherwise have been employed elsewhere. We can even be
+fairly sure that an increase in the general rate of interest
+prevailing in any particular country will increase the total supply of
+capital available for the businesses of that country, since capital
+has in modern times acquired a considerable migratory power. In the
+case of labor, we cannot go so far as this; but here, too, there is no
+doubt that an increase in the remuneration offered in any particular
+occupation will attract an increased labor supply (always supposing,
+of course, that "other things are equal"). No similar difficulty
+arises for land, labor or capital, as regards the effect of
+price-changes on demand; while for ordinary commodities there is no
+such difficulty on the side either of demand or of supply. Hence the
+only qualification which the strictest accuracy would require us in
+this connection to attach to our statement of Law II is the
+postscript:--
+
+
+   "Except that, in the case of land, the aggregate supply is
+   unalterable; while in the case of capital or labor we cannot be
+   sure how price-changes will affect the aggregate supply."
+
+
+Much significance attaches to these exceptions, as later will appear.
+
+
+Sec.6. _The Disturbances of Monetary Changes_. But let us still keep a
+critical eye on Law II, and submit it to another flashlight from our
+practical experience. The recent world war made us all acutely aware
+of a remarkable rise in the price of almost everything, which yet did
+not seem to diminish appreciably the demand. The explanation of this
+paradox is not difficult to find. There was an immense increase in the
+volume of nominal purchasing power, due to a complex set of causes, of
+which "currency inflation" may be taken as the symbol. Now perhaps we
+are entitled to assume the absence of such currency changes as part of
+the "other things being equal" which is always understood as
+implied. But it is rash to take this particular assumption for
+granted, more especially in these days. Already people are too apt to
+speak as though the trade depression (which as these pages are written
+holds us in its grip) cannot pass away until pre-war prices are
+restored, ignoring altogether the great and probably permanent
+increase in nominal purchasing power which the war has left behind
+it. It would be safer, therefore, to add explicitly to Law II the
+reservation, "Assuming that there is no change in the general volume
+of purchasing power."
+
+Monetary and allied questions will form the subject of the second
+volume of this series. It must not be supposed that our general laws
+have no bearing on them. On the contrary, Law I, which all this time
+has remained serene and undisturbed by the occasional discomfitures of
+Law II, is the gateway through which all questions of currency,
+banking and the foreign exchanges should be approached. It is well to
+note, as an inexorable corollary of Law I, that prices can rise _only_
+if demand exceeds supply, and fall _only_ if supply exceeds demand;
+and hence that it is only through the agency of changes in the demand
+for and supply of commodities and services that an inflation or
+deflation of the currency can influence the price level. Further,
+since a condition of things in which supply generally exceeds demand
+spells what we know and fear as a trade depression, it may be well to
+note at once that falling prices and unemployment are inseparable
+bedfellows. For we are far too apt to shut our eyes to these
+unpleasant truths. But we cannot pursue them further here; and in the
+remainder of this volume we shall not be concerned (except, perhaps,
+incidentally) with questions affecting the general level of prices or
+of purchasing power; but rather with the relation which the price of
+one commodity bears to that of another, with the rate of interest
+(which being a rate per cent is not essentially dependent on the price
+level), with "real" wages (as distinct from money wages) and the like.
+
+
+Sec.7. _The Trade Cycle_. But our reference to trade depressions suggests
+a final comment on Law II. One small qualification was embodied in our
+original statement of it, namely the words "sooner or later." A rise
+in price may not check the demand immediately (even if the printing
+presses are standing idle in the Treasuries); it may actually
+stimulate it for a time. For people may fear that the price will rise
+further still, and hasten to buy what they _must_ buy before very
+long. Sellers may share the same opinion, and be reluctant on their
+side to part. When prices are falling the roles are reversed, and we
+are likely to see the sellers tumbling over one another in a frantic
+eagerness to sell, the buyers wary and aloof. Sooner or later, indeed,
+these tendencies must dissolve and disappear; but they may persist for
+a longer period than might seem probable at first. For the raw
+material of one trade is, as we say, the finished product of
+another. The demand for one thing gives rise to a demand for other
+things, for the labor with which to make them, and so on in an
+expanding circle. A sympathy, subtle and intense, unites the business
+world, and a wave of depression or animation arising in any quarter
+may spread itself far and wide, heightened by the gusts of human hope
+and fear, and continue long before its influence is spent.
+
+Here we are upon the threshold of one of the most striking and
+formidable of economic facts, the regular alternation of periods of
+good and bad trade, each very widespread, if not world-wide, in its
+range, each comprising certain regular phases of acceleration and
+decay, and each infallibly yielding sooner or later to the other. The
+details of these phenomena are highly complex, some of them obscure;
+an immense literature has already been devoted to the subject, yet its
+systematic study is hardly more than begun. The account given in the
+preceding paragraph is incomplete and meagre. It is inserted here in
+the hope that it will impress the reader with a sense both of the fact
+of these alternations and of the deeply rooted nature of the causes
+from which they spring. They take a heavy toll of human happiness and
+wealth; and there is no object that more urgently calls for concerted
+human effort than that of mitigating them, and of alleviating the
+misery which they bring in their train. Still better, of eradicating
+them if that is possible; but let none suppose that it can be lightly
+done. Meanwhile, let us always remember that they form the atmosphere
+and medium in which the enduring tendencies of the business world must
+work themselves out. It is often convenient to speak of "normal
+conditions" in this trade or that; but hardly ever can it be truly
+said of a particular moment that conditions are normal. The normal is
+rather a mean level about which oscillations to and fro, round and
+about, are constantly taking place, but which itself is reached only
+by accident, if at all. Whenever we say that some new factor should in
+the long run lower the price of this or that commodity or service, the
+picture which these words should convey to our mind is one of the
+price rising less on times of boom, and falling more in times of
+depression than is the case with other things. And if ever our faith
+in some honored economic law is shaken by the apparent ease with
+which, perhaps, in times of active trade, sellers are able to advance
+their prices to whatever figure (so it almost seems) they choose to
+name, let us rally our sense of economic rhythm, and reserve our
+judgment until the trade cycle has run its course.
+
+
+
+CHAPTER III
+
+UTILITY AND THE MARGIN OF CONSUMPTION
+
+
+Sec.1. _The Forces behind Supply and Demand_. The laws enunciated in the
+preceding chapter constitute the framework and skeleton of all
+economic analysis; but they do not carry us very far. It is only
+through the agency of these laws that any influence can affect the
+price of anything: but what influences may so affect it is a question
+which we have still to consider.
+
+Let us begin with ordinary commodities and ask ourselves, in the light
+of experience and common sense, upon what factors their price seems
+mainly to depend? Two factors spring to mind at once; their cost of
+production and their usefulness. As regards the former, the case seems
+clear enough. We may indeed sometimes grumble that the price of this
+or that commodity is unconscionably high in comparison with its cost;
+but this only goes to show that we conceive a relation between price
+and cost as the normal, governing rule. If one commodity cost only a
+half as much to produce as another, we should think that something had
+gone very wrong indeed, if the former commodity were sold for the
+higher price. But, when we turn to the usefulness of commodities, the
+case is not so clear. Usefulness has some connection with price, so
+much is certain; for an entirely useless thing, fit only for the
+dust-bin (and known to be such, it may be well to add) will fetch no
+price at all, however costly it may be to produce. But it is not easy
+to express the connection in quantitative terms. It seems reasonable
+enough to say that the prices of commodities are roughly proportionate
+to their costs of production. But directly we contemplate saying a
+similar thing of their usefulness, we are pulled up short. As we look
+round the world, and enumerate the commodities which by common consent
+are the most useful, salt, water, bread, and so forth, the striking
+paradox presents itself that these are among the cheapest of all
+commodities; far cheaper than champagne, motor-cars or ball-dresses,
+which we could very well get on without. As things are, of course, a
+ball-dress, or a motor-car costs more to produce than a loaf of bread
+or a packet of salt; and the common-sense explanation of the paradox
+seems, therefore, to be that the cost of production is a more weighty
+influence than the usefulness, or utility, as we will henceforth call
+it (so as to include the satisfaction we derive from not strictly
+useful things). We are thus tempted to conclude that, provided a
+commodity possesses some utility, its price will be determined by the
+cost of production, the degree of utility being unimportant. This was
+exactly how the position was gummed up for many years in systematic
+treatises upon Political Economy; and it was not until fully half a
+century after the _Wealth of Nations_ that a discovery was made which
+threw a fresh light on the whole matter.
+
+First of all, let it be clearly observed how very unsatisfactory is
+the above account. In Chapter II where we were treading surely, with a
+sense of solid ground beneath us, we drew no such invidious
+distinction between supply and demand. They seemed then to possess an
+equal status. But cost of production is the chief factor which, in the
+case of commodities, ultimately determines the conditions of
+supply. Utility, similarly, is the chief factor which ultimately
+determines the conditions of demand. Must not then the symmetrical
+relations between demand and supply be reflected in a corresponding
+symmetry between the utility and the costs which underlie them? Demand
+springs obviously from utility; the only motive for buying anything is
+that it will serve some real or fancied use. Can we then accord to
+demand so dignified and to utility so subordinate a place? There is
+here an inconsistency which we must somehow reconcile. It will not
+serve as a solution to distinguish between different periods of time,
+and to say, as economists used to say not very long ago, that price is
+governed over a short period by demand and supply, but in the long run
+by the cost of production. This still leaves our sense of symmetry
+unsatisfied. Moreover, the conception of cost of production, when we
+consider it as ruling over a long period, frequently seems to lose any
+precision, as an independent factor, which it may otherwise
+possess. Motor-cars, we have agreed, are more costly to produce than
+loaves of bread; but, as we know well, the cost of producing
+motor-cars varies enormously, accordingly as they are produced on a
+small or a large scale. By the methods of mass production they can be
+turned out at a relatively low cost per car. But this requires that
+they should be purchased in large numbers and this in turn throws us
+back to the demand for motor-cars, and plainly enough, to people's
+judgment as to their utility. In some cases, the opposite phenomenon
+occurs. In the case of British coal, for instance, the average cost of
+production would be much lower than it is if the output were reduced
+to a fraction of its present volume, and if only the richer seams of
+the more fertile mines were worked. Once again, therefore it is
+difficult to measure the cost of production until we know the
+magnitude of the demand, which in a manner, which we have still to
+elucidate, clearly depends upon the utility.
+
+If we take the problem of joint products, the conception of cost of
+production fails us still more conspicuously. For what is the cost of
+producing wool, or the cost of producing mutton? We can speak of the
+cost of rearing sheep: but it is hardly possible to allot this cost,
+except quite arbitrarily, between the two products. How, then, can we
+explain the separate prices of these things by reference to cost
+alone? Instances of joint production are becoming so common in the
+modern world, or at least, with the growing attention to the
+utilization of by-products, are assuming so much more heightened a
+significance, that an explanation of price, which does not apply to
+them, is a very feeble one indeed.
+
+
+Sec.2. _The Law of Diminishing Utility_. Let us turn back, then, to the
+factor of utility, and see if we cannot put on a more satisfactory
+basis the relation between utility and price. The clue to the puzzle
+is to be found in a brief reflection on the implications of the second
+general law propounded in Chapter II. A rise in price, it was there
+stated, will sooner or later diminish the demand. This was asserted as
+a matter of fact, observed from and confirmed by experience. But what
+does it signify? To what causes is this familiar fact to be
+attributed? The first stage of the answer is very ample. The many
+individuals, whose purchases make up the demand for the commodity,
+will buy smaller quantities now that the price is higher. Possibly
+some of them may cease to buy it altogether; but as a rule it would be
+reasonable to suppose that most people continue to buy a certain
+amount though a smaller amount than hitherto. Let us turn our
+attention, then, to the individual purchaser, and ask ourselves why he
+(or let us say she) acts in the manner indicated. The obvious answer
+is that the more she already has of anything, the less urgently does
+she require a little more of it. If she buys 6 pounds of sugar every
+week when the price is 7 cents a pound, but only 5 pounds when the
+price is 8 cents, she shows by her action that she does not consider
+that the additional utility she will derive from buying 6 pounds a
+week rather then 5 pounds is worth as much as 8 cents. But she shows
+at the same time that she thinks it worth 7 cents. For, when the price
+is 7 cents, no one compels her to buy that sixth pound. She could
+stop, if she chose, at five; and it may serve to make the point quite
+plain if we suppose her actually to hesitate before she buys the
+sixth. She has hitherto, let us say, been buying 5 pounds a week at 8
+cents. To-day she enters the shop and finds the price is down to 7
+cents. She asks for her customary 5 pounds; then she pauses, and a
+minute later turns her order into six. What are the alternatives which
+she has been weighing one against the other in that momentary pause?
+Not the utility of the whole 6 pounds of sugar against the total price
+of 42 cents. For she has already ordered the first 5 pounds; and the
+decision to buy the sixth is taken independently and subsequently. She
+has been sizing up the _increment_ of utility which a sixth pound
+would yield, and she decides that this is worth the expenditure of a
+further 7 cents. Again, when the price was 8 cents she need not have
+bought as many as 5 pounds. She could have stopped at 4 had she
+chosen, and the fact that she did buy 5 pounds shows that the
+increment of utility derived from buying a fifth pound, when she might
+be said already to have 4, was worth at least 8 cents in her judgment.
+
+This trite illustration enables us to lay down two important laws
+relating to utility. To state them shortly, it is convenient to employ
+one or two technical terms, which, unlike every term employed
+hitherto, are not very commonly used in their present sense in
+everyday life. Their adoption is desirable not merely for the sake of
+convenience, but because they help to stamp clearly on the mind a most
+illuminating conception, that of the "margin," which supplies the clue
+to many complicated problems. The last pound of sugar which the
+housewife purchased, the fifth pound when the price was 8 cents, or
+the sixth pound when the price was 7 cents, we call the "marginal"
+pound of sugar. And the increment of utility which she derives from
+buying this marginal pound we call the "marginal utility" of sugar to
+her. We are thus able to state the fact that the more a person has of
+anything the less urgently does he require a little more of it, in the
+following formal terms:--
+
+LAW V. The marginal utility of a commodity to anyone diminishes with
+   every increase in the amount he has.
+
+The total utility will, of course, increase with an increase in the
+amount, but at a diminishing rate. This law is usually called The Law
+of Diminishing Utility.
+
+
+Sec.3. _Relation between Price and Marginal Utility_ But this is not
+all. We are now in a position to perceive the true relation between
+utility and price. The relation is one which exists not between price
+and total utility, but between price and marginal utility. If we know
+only that a housewife will buy weekly 5 pounds of sugar at 8 cents per
+pound, but 6 pounds at 7 cents, we know nothing of the total utility
+of sugar to her. We do not know how much she might be prepared to pay
+rather than go without 3 pounds, 2 pounds, or any sugar at all. But we
+do know that, when she buys 6 pounds, the marginal utility of sugar is
+in her judgment worth something which does not differ greatly from the
+price. We can, therefore, say in general terms that the price of a
+commodity measures approximately its marginal utility to the
+purchaser.
+
+This statement is perfectly consistent with the paradox noted above
+that the most useful commodities such as bread, salt and water are
+very cheap. For when we say that these commodities are supremely
+useful, we mean only that their total utility is very great; that,
+rather than do without them altogether, we would offer for them a
+large proportion of our means. But we would not value very highly a
+small addition to the bread, water or salt that we habitually consume;
+nor would most of us feel it as a very serious deprivation if our
+consumption of these things were curtailed by a small percentage. In
+other words, their _marginal_ utilities are small, and it is only the
+_marginal_ utility that has any relation to price.
+
+
+Sec.4. _The Marginal Purchaser_. A possible objection to the preceding
+argument deserves to be considered. Some readers may find the picture
+I have drawn of the hesitating housewife entirely unconvincing. They
+may declare that her mind does not work at all in the manner I have
+indicated. She will have formed certain habits in regard to her weekly
+purchases of sugar, which are connected very vaguely, if at all, with
+any conscious processes of thought. She will buy so many pounds of
+sugar weekly without troubling her head over the specific utility of
+the last pound she buys. When the price falls she may, indeed, buy
+more; but it will not be because she separates out and considers by
+itself the extra utility of an additional pound. She may buy more,
+because she has formed the habit of spending so much money on sugar;
+and now that the price has fallen, the same amount of money will
+enable her to buy more pounds. Or, perhaps, she may be moved by
+instinctive and irresistible attraction to buy more of a thing when it
+is cheaper, similar to that which inspires so many people to face with
+ardor the horrors of a bargain sale. In any case the fine calculations
+I have imagined convey a fantastic picture of her state of mind. And
+how much more fantastic, the critic may continue, of the state of mind
+in which things of a different kind are bought by less careful
+people. When, for instance, one of us happy-go-lucky males (more
+liberally supplied, perhaps, than the housewife with the necessary
+cash), decides to buy a motor bicycle, or to replenish his stock of
+collars or ties, does the above analysis bear any resemblance to the
+actual facts? In the case of the motor bicycle, the purchaser may,
+indeed, weigh the price fairly carefully against the pleasure and
+benefit, though contrariwise he may be a rich enough gentleman hardly
+to bother about this. But, one motor bicycle is as much as he is at
+all likely to buy, and what becomes, then, of the distinction between
+total and marginal utility? In the case of the ties and collars, the
+vagueness of many of us about the price will be extreme. We probably
+have been uneasily conscious for some time of an inconvenient shortage
+of these troublesome articles and eventually will go off (or perhaps
+will be sent off with ignominy) to the nearest suitable shop to make
+good the deficiency. How can we speak here with a straight face of the
+relation between marginal utility and price?
+
+These are very pertinent criticisms; but they do not make nearly as
+much nonsense of the notion of marginal utility as may seem at
+first. The last point, indeed, serves rather to give it a fresh aspect
+of much significance. Those of us who do not bother about the price we
+pay for our ties and collars owe a debt of gratitude, of which we are
+insufficiently conscious, to the more careful people who do; as well
+as to the custom which prevails in shops in Western countries (as
+distinct from the bazaars of the East) of charging as a rule a uniform
+price to all customers. If _we_ were the only people who bought these
+things, an enterprising salesman would be able to charge us very much
+what he chose. He could put up his price, and we would hardly be aware
+of it. And, as by lowering his price he could not tempt us to buy any
+more, price reductions would be few and far between. But fortunately
+there are always some people who do know what the price is, even when
+they are buying collars and ties; and who will adjust the amount they
+buy in accordance with the price. It is these worthy people who make
+the laws of demand work out as we well know they do. It is they who
+will curtail their consumption if the price has fallen and it is they
+who constitute the seller's problem, and help to keep down prices for
+the rest of us. The rest of us--it is well to be quite blunt about
+it--simply do not count in this connection. We have no cause then to
+plume ourselves that we have disproved the truth of economic laws when
+we declare that we seldom weigh the utility of anything against its
+price. All that this shows is that our actions are too insignificant
+to be described by economic laws since they exert no appreciable
+influence on the price of anything. And this in turn shows the extreme
+importance of grasping clearly the conception of the margin. Just as
+it is the marginal purchase, so it is the marginal purchaser who
+matters. It is the man who, before he buys a motor bicycle, weighs the
+matter up very carefully indeed and only just decides to buy it, whose
+demand affects the price of motor bicycles. It is the utility which
+_he_ derives that constitutes the marginal utility, which is roughly
+measured by the price.
+
+As to the housewife, I am not prepared to concede that my picture is
+in essentials very fanciful. She may be a creature of habits and
+instincts like the rest of us, but most habits and instincts affecting
+household expenditure are based ultimately on _some_ calculation, if
+not one's own, and reason has a way of paying, as it were, periodic
+visits of inspection, and pulling our habits and instincts into line,
+if they have gone far astray. I am not satisfied that the housewife
+does not envisage the utility of a sixth pound of sugar as something
+distinct from the utility of the other five; she may buy it, for
+example, with the definite object of giving the children some sugar on
+their bread, and she may have a very clear idea as to the price which
+sugar must not exceed before she will do any such thing. Possibly I
+may exaggerate. I have the profound respect of the incorrigibly
+wasteful male for the care and skill she displays in laying out her
+money to the best advantage.
+
+
+Sec.5. _The Business Man as Purchaser_. But if the reader still finds the
+picture unconvincing, let us shift the scene from domestic economy to
+commerce, and substitute for the careful housewife an enterprising
+business man. Now, as anyone who has a business man for his father
+will have often heard him say, the vagueness and caprice which
+characterize our personal expenditure would be quite intolerable in
+business affairs. There you must weigh and measure with the utmost
+possible precision. You must be for ever watching the several channels
+of your expenditure, careful to see that in none does the stream rise
+higher than the level at which further expenditure ceases to be
+profitable. You will not even engage typists or install a telephone in
+your office without weighing up fairly carefully the number of typists
+or the number of switches that it is worth your while to have. And in
+deciding whether to employ say, five typists, or six, you will not
+vaguely lump the services of the whole six typists together, and
+consider whether as a whole they are worth to you the wages you must
+give them. You will, in the most direct and literal manner, weigh up
+the _additional_ benefit you would derive from a sixth typist, and if
+that does not seem to you equivalent to her wage, you will not engage
+her, however essential it may be to you to have one or two typists in
+your office. If on the other hand, the utility of having a sixth
+typist seems to you worth much more than her pay, the chances are that
+you will be well advised to consider the employment of a seventh. And
+so, where you stop employing further typists, the utility to you of
+the last one, of the "marginal typist" as it were, is unlikely to
+differ greatly from her pay.
+
+Now this is not a fancy picture of some remote abstraction called an
+"economic man." Allowing for the over-emphasis which is necessary to
+drive home the central point, it is a bald account of the aims and
+methods of the actual man of business. To ascertain the margin of
+profitable expenditure in each direction, to go thus and no further,
+is the very essence of the business spirit, as the business man
+himself conceives it. When he condemns the extravagance of Government
+departments, it is their lack of just this marginal sense that he
+chiefly has in mind. "The lore of nicely calculated less or more" may
+be rejected by High Heaven and Whitehall, but no one can afford to
+despise it in the business world.
+
+The transition from household to business expenditure involves an
+extended use of the word utility, which is worth noting. Commodities
+like bread, sugar, or privately owned motor-cars are sometimes called
+"consumers' goods" in contrast to "producers' goods," which comprise
+things such as raw materials, machinery, the services of typists and
+so forth, which are bought by business men for business purposes. The
+line of division between the two classes is not a sharp one, and we
+need not trouble with fine-spun questions as to whether a particular
+commodity should in certain circumstances be included under the one
+head or the other. But, broadly speaking, things of the former type
+yield a direct utility; they contribute directly to the satisfaction
+of our pleasures or our wants. Things of the latter type yield rather
+an indirect utility. Their utility to the business man who buys them
+lies in the assistance they give him in making something else from
+which he will derive a profit. The utility of these things is
+therefore said to be _derived_ from that of the consumers' goods or
+services to which they ultimately contribute. This conception of
+derived utility leads to certain complications which we shall have to
+notice later.
+
+
+Sec.6. _The Diminishing Utility of Money_. But one important point must
+be emphasized in this chapter. The utility which a business man
+derives from the things which he buys for business purposes is the
+extra receipts which he obtains thereby. Derived utility, in other
+words, is expressed in terms of money, and the idea of its relation to
+price presents no difficulty. But the utility of things which are
+bought for personal consumption means the _satisfaction_ which they
+yield, and this is clearly not a thing which is commensurable with
+money. When, therefore, it is said that the prices measure their
+respective marginal utilities, what exactly is meant? What was it that
+the argument of Sec.3 went to show? That the utility of the marginal
+pound of sugar would seem to the housewife just worth the price that
+she must pay for it; in other words, that it would be roughly equal to
+the utility she could obtain by spending the money in other ways. The
+respective marginal utilities which _she_ obtains from the different
+things she buys will thus be proportionate to their prices. But if she
+were to receive a legacy which gave her a much larger income to spend,
+she might buy larger quantities of practically every commodity; and,
+though she would obtain a greater total utility thereby, the marginal
+utility she would obtain in each direction would be smaller, in
+accordance with the law of diminishing utility. The prices might not
+have changed; the respective marginal utilities to her of the
+different things would again be proportionate to their prices, but
+they would constitute a smaller satisfaction than before.
+
+Thus we can only say that the prices of commodities will be
+proportionate to their real marginal utilities, when we are
+considering the different purchases of one and the same
+individual. The amounts of money which different people are prepared
+to pay for different consumers' goods are no reliable indication of
+the real utilities, the amounts of human satisfaction which they
+yield. Here we must take account not only of varying needs and
+capacities for enjoyment, but of the very unequal manner in which
+purchasing power is distributed among the people. The cigars which a
+rich man may buy will yield him an immeasurably smaller satisfaction
+than that which a poor family could obtain by spending the same amount
+of money on boots, or clothes or milk. When, therefore, we compare
+commodities which are bought by essentially different consuming
+publics, their respective prices may bear no close relation to their
+_real_ utility, whether marginal or otherwise. Thus the law of
+diminishing utility applies to money or purchasing power, as well as
+to particular commodities. The more money a man has the less is the
+marginal utility which it yields him; and, where the marginal utility
+of money to a man is small, so also will be the real marginal utility
+he derives in each direction of his expenditure. The extreme
+inequality of the distribution of wealth gives immense importance to
+this consideration. Its practical implications will be discussed in
+Chapter V. Meanwhile, we may express the conclusions of the present
+chapter by the statement that the price of a commodity tends to equal
+its marginal utility, _as measured in terms of money_, i.e. relatively
+to the marginal utility of money to its purchaser.
+
+
+
+CHAPTER IV
+
+COST AND THE MARGIN OF PRODUCTION
+
+Sec.1. _An Illustration from Coal_. We have already had occasion to note
+the symmetry which characterizes the relations of demand and supply to
+price. This symmetry was apparent throughout the argument of Chapter
+II, and it was a striking feature of the diagrams which we employed to
+illustrate the argument. We shall do well to cultivate a lively sense
+of this symmetry, for it will frequently save us from ignoring factors
+which have a vital bearing on the problems we are considering. We
+should never leave an important feature of demand without turning to
+see whether it has a counterpart on the supply side, though indeed we
+may not always find one. In the last chapter we examined the relation
+between utility and price, and found that the true relation was
+between the price and what we termed the marginal utility.
+Corresponding to utility on the demand side is cost of
+production on the supply side. The question should thus at once
+suggest itself--"Can we speak appropriately of the marginal cost of
+production, and will this serve to make clear the relation between
+cost and price?" To answer these questions, let us take one of the
+instances in which we found that price could not be explained
+satisfactorily by the bare phrase "cost of production."
+
+An important feature of the coal industry, which recent events have
+brought into sharp prominence, is the great diversity of conditions
+between different coalfields and different collieries. We speak of
+rich seams and poor seams, of fertile and unfertile mines, and we are
+aware that the costs of raising coal to the surface differ very widely
+in accordance with these diverse natural conditions. Nor must we
+confine our attention to the cost price at the pit-head. If we wish to
+speak of cost of production as a factor determining price, we must use
+the term in a broad sense to include the transport and other charges
+necessary to bring the coal to market.
+
+In this respect also one coalfield differs greatly from another. Some
+are well situated close to a large market, or within easy reach of the
+seaboard; others must incur very heavy transport charges to bring
+their coal to any considerable centre of consumption. These varying
+conditions lead, as we well know, to great variations in the financial
+prosperity of different colliery concerns. In Great Britain, under the
+abnormal conditions which prevailed during the war, and subsequently,
+these variations were so huge as to constitute a most formidable
+embarrassment and to contribute, more perhaps than any other single
+factor, to the unrest and instability by which the industry has been
+afflicted. But they are always with us, if usually upon a more modest
+scale.
+
+What, then, is the normal relation between price and cost in the case
+of coal? Should we direct our attention to the average costs over the
+whole industry, or the costs incurred by the richer and better
+situated mines, or, lastly, that of the poorer and worse situated?
+Now, as things are, it is clear enough that no concern will continue
+indefinitely producing at a loss. It may do so for a time, rather than
+close down altogether, hoping to recoup itself later when the market
+has taken a more favorable turn. But, in the long run, taking good
+years with bad, it must expect to obtain receipts sufficient not only
+to cover its necessary expenditure, but to provide also a reasonable
+profit on the capital employed. Of course, once the capital has been
+sunk and embodied in plant and buildings, which are of little use for
+any other purpose, a business may continue for many years, with a rate
+of profit far below what it had anticipated. But plant and buildings
+gradually wear out, and need to be replaced; the course of technical
+improvement calls continually for fresh capital outlay, which a
+business in a bad way is reluctant to undertake. The tendency,
+therefore, when profits rule low over a considerable period, is for
+the plant to fall gradually into disrepair and obsolescence, and
+finally for the business to disappear. We can thus include an
+ordinary rate of profit under the head of cost of production, and say
+with substantial accuracy that for no business can this cost for long
+exceed the price if the business is to continue to exist. If then the
+relatively poor and badly situated mines are to be worked, the price
+of coal, taking good years together with bad, must cover the costs at
+which these mines can produce. If the price rules lower than this,
+sooner or later they will close down, and we will be left with a
+smaller number of mines, among which great variations of conditions
+will still prevail. Once more, the price must cover the cost incurred
+by the least profitable of these remaining mines, unless their number
+is still further to be diminished. Thus we can conceive of a "margin
+of production" which will shift backwards to more profitable or
+forwards to include less profitable mines, according as the demand for
+coal contracts or expands. But, wherever this margin may be, there is
+no escaping the conclusion that it is the cost of production of the
+"marginal mines," of those that is to say which it is only just worth
+while to work, to which the price of coal will approximate.
+
+It follows that there is no real connection between price and cost of
+production throughout the industry as a whole. It follows incidentally
+that those concerns which can market their coal at an appreciably
+lower cost than the marginal concerns, are likely to reap more than an
+ordinary rate of profit, though royalties may absorb part of the
+excess.
+
+
+Sec.2. _The Various Aspects of Marginal Cost_. This relation cuts much
+deeper than the particular system under which the mines are at present
+owned and worked. If, for instance, we supposed that the various
+mines were amalgamated together in a few giant concerns, each of which
+comprised some of the richer and some of the poorer mines, the
+preceding argument would need to be recast in form, but its substance
+would be unaffected. For though a great coal trust could in a sense
+_afford_ to sell at a price lower than the marginal cost, setting its
+losses on the poorer against its gains on the better pits, is it
+likely it would do so? Why should it dissipate its profits in this
+way? It is clearly more reasonable to suppose that it would close down
+the poorer pits (unless it could advance the price of coal), and
+thereby maintain its profits at a higher figure. If, indeed, the
+mines were nationalized the deliberate policy might be pursued of
+selling coal at a price which left the industry no more than
+self-supporting as a whole. Some coal might thus be sold at less than
+its cost price, and the selling price would conform roughly to the
+_average_ cost. But such a policy, though in special circumstances it
+might be justified, would represent a very dangerous principle, which
+could not be applied widely without the most serious results. Nothing
+could be more fatal to any enterprise, whether it be in the hands of
+an individual, a joint-stock company, a State department, or a Guild,
+than that the management should content themselves with results which
+in the lump seem satisfactory, and regard losses here or there with an
+indifferent eye. That way lies stagnation, waste, progressive
+inefficiency and ultimate disaster. To inquire searchingly into every
+nook and cranny of the business, to construct, as it were, for each
+part a separate balance-sheet of profit and loss, to expand in those
+directions where further development promises good results, and to
+curtail activity where loss is already evident, is the very essence of
+good management. Here, it will be observed, we are using language very
+similar to that in which we described the principles which govern a
+business man's expenditure. The resemblance is inevitable and
+significant, for we are dealing here with what is essentially another
+aspect of the same thing. The object is to secure that nowhere does
+expenditure fail to yield a commensurate return. This we express, when
+we consider a business in its aspect as a consumer, by saying that its
+consumption of anything will not be carried beyond the point at which
+the marginal utility exceeds the price it will have to pay. When we
+consider it as a producer, we say that its production of anything will
+not be carried beyond the point at which the marginal cost exceeds the
+price it will obtain.
+
+
+Sec.3. _The Dangers of Ignoring the Margin_. This at least is the general
+rule. A business may decide deliberately to sell part of its output
+below cost, because, for instance, this will serve as an
+advertisement, bring it connections, and enable it to obtain a larger
+profit at a later date, or immediately on other portions of its
+sales. In so acting, it recognizes that the price obtained for a thing
+may be an inadequate measure of the real return it yields. In the same
+way, though for different reasons, a nationalized coal industry might
+conceivably be justified in selling some coal below cost price,
+because, let us say, it held that the price which the immediate
+purchasers were willing to pay was an inadequate measure of the
+utility of coal to the community as a whole. But in all such cases it
+is essential to be very clear as to what exactly you are doing; so
+that you may be at least moderately clear as to whether the policy is
+well advised. It may be sound enough to lose on the swings and make
+good this loss on the roundabouts, but only if your loss on the swings
+_helps_ you to a larger profit on the roundabouts. If you would get
+the same return on the roundabouts in any case, it would be better to
+cut the swings out altogether. So, if you are directing the policy of
+a nationalized coal industry, and decide to make a loss on a portion
+of your sales, you will need to know that the indirect benefit which
+the community will derive from this particular part of your coal
+output is worth the loss which you incur. You will certainly come to
+grief, if you pursue a vague ideal of lumping all results together,
+and regarding a profit somewhere as a sufficient excuse or a positive
+reason for making a loss elsewhere.
+
+It is quite true that in big undertakings, where there are large
+standing charges, and where the organization possesses some of the
+characteristics of an integral whole, it is not easy to measure
+accurately the specific costs which should be assigned to any
+particular portion of the output. But this difficulty is one of the
+most serious weaknesses of large undertakings; precise detailed
+measurement is the great prophylactic of business efficiency, and,
+where it is lacking the bacilli of waste will enter in and
+multiply. So clearly is this recognized, that the development of large
+scale business has led to the evolution of new methods of accountancy,
+designed to make detailed mensuration possible. We have most of us
+heard of them vaguely under such names as "comparative costings," but
+too few of us appreciate their full significance. It is hardly too
+much to say that the issue as to whether the size of the typical
+business unit will continue to become larger and larger, or whether it
+has already overshot the point of maximum efficiency will turn largely
+upon the capacity of accountancy to supply large and complex
+undertakings with more accurate instruments of detailed financial
+measurement.
+
+
+Sec.4. _A Misinterpretation_. The price, then, of a commodity tends
+roughly to equal its marginal cost of production; and this marginal
+cost (in perfect symmetry with what we observed as regards marginal
+utility), may be conceived as applying either to the marginal producer
+or to the marginal output of any producer. In the former aspect it is
+open to a misinterpretation, against which it will be well to guard.
+Some advocates of socialism have argued, as one of the counts in their
+indictment of the present industrial system, that the price of a
+commodity is determined by the cost at which the least efficient
+concern in the industry can produce. They say, in effect, "Under the
+present competitive regime, you have to pay for everything you buy a
+price which far exceeds the necessary cost to a concern which is
+managed with ordinary ability. For, as economic theory has shown, it
+is the cost of the _marginal_ concern, i.e. the concern managed by the
+most incompetent, and half-witted fellow in the trade; it is the cost
+incurred by him, together with a profit on his capital, that the price
+has got to cover. The producer of no more than average capacity is
+therefore making out of you a surplus profit, which would be quite
+unnecessary in any well-arranged society." Such an argument is a gross
+caricature of the marginal conception. The half-witted incompetent
+will, as we know well enough, speedily disappear under the stress of
+competition, and his place will be taken by more efficient men. There
+is an essential difference between him and the "marginal coal mine" of
+which we spoke above. For the probabilities are that of the coal
+resources, whose existence is clearly known, the more fertile and
+better situated parts will already be in process of exploitation; and
+there is not likely, therefore, to be a supply of substantially better
+seams which can be substituted for the worst of those in actual use.
+There _is_ likely, on the other hand, to be available a supply of
+decent business capacity which can be substituted for the most
+inefficient of existing business men. The marginal concern, in other
+words, must be conceived as that working under the least advantageous
+conditions in respect of the assistance it derives from the strictly
+limited resources of nature, but under average conditions as regards
+managerial capacity and human qualities in general. Thus in
+agriculture we can speak of a marginal farm, which we should conceive
+as the least fertile and worst situated farm which it is just worth
+while to cultivate (of which more will be said when we come to the
+phenomenon of rent), but we must assume it to be cultivated by a
+farmer of average ability.
+
+
+Sec.5. _Some Consequences of a Higher Price Level_. The foregoing
+controversy will be of service to us, if it makes clear the manner and
+the spirit in which the marginal conception should be handled. It
+should be regarded not as a rigid formula which we can apply to
+diverse problems without considering the special features they
+present, but rather as a signpost which will enable us to find our
+way, a compass by which we may steer between the shoals of triviality
+and sophistry to the crux of any problem with which we have to deal.
+Let us illustrate its practical uses by an example which is of great
+interest and far-reaching practical importance at the present day. As
+has been already observed, the war has left behind it in all countries
+a great and almost certainly permanent increase in nominal purchasing
+power. Since the armistice prices have moved upwards and downwards
+with unprecedented violence; and it would be very rash to prophesy the
+precise level at which they will ultimately settle (using that word
+with considerable relativity). But, for reasons for which the reader
+is referred to Volume II in this series, it is safe enough to say that
+the general level of post-war will greatly exceed that of pre-war
+prices. Now this will apply not only to consumers' goods like milk and
+clothes, or to raw materials like pig-iron and cotton, but in very
+much the same degree to things like factories and machinery. Things of
+this last type are sometimes called "capital goods," because it is in
+them that a large part of the capital of a business is embodied. Now
+the fact that it will cost much more than it did before the war to
+construct fresh capital goods, has a significance which very few
+people appreciate. An existing factory cost, let us say, $500,000 to
+build and equip with machinery before the war. To construct a similar
+factory to-day would cost, let us assume (it is probably a moderate
+assumption) $1,000,000. Suppose 10 per cent to be the gross profit
+that is necessary to attract capital to the particular industry. Then
+it will not pay to construct this new factory unless the trade
+prospects point to the probability of a profit of about $100,000 per
+annum. But if the old factory is equally well managed, it too should
+be able to earn this $100,000, which upon the capital actually sunk
+would represent a rate of 20 per cent. The particular figures given
+are, of course, purely illustrative; the conclusion to which they
+point is that, if new enterprises are to be undertaken, pre-war
+enterprises are likely to yield a rate of profit, on their fixed
+capital at least, increased in rough proportion to the price-level. Of
+course, in years when trade is bad, the factory which dates from
+pre-war times will not earn a profit of this kind, it may very likely
+make an actual loss. At those times it is very certain that few new
+factories will be erected. But it is difficult to reconcile a
+condition of trade activity, in which the constructional industries
+are busily employed, with a rate of profit to pre-war businesses on
+the fixed part of their capital of a lesser order of magnitude than
+has been indicated. It makes no difference, it should be observed,
+whether we suppose the new enterprises to take the form of starting of
+new concerns or extending old ones; in neither case will they be
+undertaken, unless there is reason to expect an adequate return on the
+capital which they require at post-war constructional prices. High
+profits (taking always good years together with bad) on capital sunk
+before the war in buildings and machinery are thus a likely
+consequence of an increase in the price-level.
+
+This fact is, indeed, the counterpart or complement of another
+phenomenon with which we are more familiar. While prices are actually
+rising, profits, as we have come to recognize, necessarily rule high,
+because every trader or manufacturer is constantly in the position of
+selling at a higher price-level, stock which he purchased, or goods
+made from materials which he purchased at a lower level. He thus
+acquires an abnormal profit on his circulating capital, which is
+essentially similar to the profit on fixed capital, which we have just
+examined. The difference is that the former profit is crowded into the
+years when prices are actually on the increase, and thus is very
+noticeable indeed; while the latter profit continues to accrue in
+smaller instalments after prices have settled down, as it were, at the
+higher level, and is not exhausted until the buildings and machinery
+have become obsolete. But the two profits are essentially similar,
+and in the long run should be commensurate. In the one case, stock can
+be sold for a large profit, because it cannot be replaced except at a
+higher price; in the other case, plant and buildings yield a higher
+income because _they_ cannot be replaced except at a higher
+price. Indeed, if the owners choose, the plant and building can, like
+the stock, be sold at their appreciated value, as has been widely done
+by the owners of cotton mills in Great Britain since the armistice.
+
+There is nothing in these considerations that should surprise us, or
+even shock our moral sense. For what they have indicated is an
+increase of money profits in rough proportion to the price-level, so
+that the aggregate profits will represent about as much real income as
+before.[1] The conclusion therefore amounts to no more than this, that
+you cannot alter fundamentally the distribution of wealth between
+labor and capital by merely inflating the currency, or otherwise
+juggling with the price-level. And this is only what we should expect,
+if there are any laws of distribution of sufficient importance and
+permanence to justify the many volumes which have been devoted to
+them.
+
+[Footnote 1: Assuming that the rate of interest has remained
+unaltered. In fact it has greatly increased since pre-war days, and
+this points to a still further increase of money profits, and an
+increase in the real income which they represent. See Chapter VIII,
+Sec.10]
+
+But this somewhat tame conclusion does not make it any less important
+to grasp clearly the significance of the appreciation in the value of
+capital goods. A failure to realize it lies at the root of our
+bewildered muddling of many crucial problems of the day. In the matter
+of housing, for instance, we know we cannot build houses at less than
+two or three times their prewar cost, and yet we cannot endure to see
+the owners of pre-war houses obtaining a commensurate increase of
+rent. And so, in Great Britain, we pass Rent Restriction Acts, and
+Housing Acts, and then, in a fit of economy we suspend the latter, and
+let the former stand, while the housing shortage becomes steadily more
+acute. When we hand the railways back from State control to private
+hands, our horror at the idea of the companies receiving larger money
+profits than they did before the war leads us to lay down principles
+for the fixing of fares and freight charges, which take no account of
+post-war construction costs; and then, in alarm lest we may have
+thereby made it unprofitable for the companies to spend a single penny
+of fresh capital upon further development, we seek to provide for
+capital expenditure by cumbrous and dubious expedients. Doubtless we
+shall muddle through somehow with such policies: and, public opinion
+being what it is, they may perhaps have been about the best policies
+that were practicable. But the problems would have been easier to
+handle, if the public generally were a little less disposed to think
+in terms of averages, and a little more in terms of margins, if we all
+of us instinctively realized that the cost that really matters is the
+cost at which additional production is profitable under the conditions
+ruling at the time, or in the immediate future.
+
+
+Sec.6. _General Relation between Price, Utility and Cost_. Let us
+conclude this chapter by summing up the conclusions which have emerged
+as to the relations of utility and cost to price.
+
+The price of a commodity is determined by the conditions of both
+supply and demand; and neither can logically be said to be the
+superior influence, though it may sometimes be convenient to
+concentrate our attention on one or other of them. The chief factor on
+which the conditions of demand depend is the utility (as measured in
+terms of money). The chief factor on which the conditions of supply
+depend is the cost of production (again as measured in terms of
+money). The prevailing trend towards an equilibrium of demand and
+supply can thus be expressed as follows:--
+
+LAW VI. A commodity tends to be produced on a scale at which its
+   marginal cost of production is equal to its marginal utility, as
+   measured in terms of money, and both are equal to its price.
+
+
+
+CHAPTER V
+
+JOINT DEMAND AND SUPPLY
+
+
+Sec.1. _Marginal Cost under Joint Supply_. Several references have been
+made above to joint products, a relation which it will be convenient
+now to describe as that of Joint Supply. Our sense of symmetry should
+make us look for a parallel relation on the side of demand; and it is
+not far to seek. There is a "joint demand" for carriages and horses,
+for golf clubs and golf balls, for pens and ink, for the many groups
+of things which we use together in ordinary life. But the most
+important instances of Joint Demand are to be found when we pass from
+consumers' to producers' goods. There, indeed, Joint Demand is the
+universal rule. Iron ore, coal and the services of many grades of
+operatives are all jointly demanded for the production of steel; wool,
+textile machinery and again the services of many operatives are
+jointly demanded for the production of woollen goods (to mention in
+each case only a few things out of a very extensive list). Now we have
+already noted that, when commodities are jointly supplied, there is an
+obvious difficulty in allocating to each of them its proper share of
+the joint cost of production. There is a similar difficulty in
+estimating the utility of a commodity which is demanded jointly with
+others. Thus, the utility of wool is derived from that of the woollen
+goods which it helps to make. But the utility of the factories, the
+machinery and the operatives employed in the woollen and worsted
+industries is derived from precisely the same source. How much, then,
+of the utility of woollen goods should be attributed to the wool and
+how much to the textile machinery? Can we make any sense of the notion
+of utility as applying to one of these things, taken by itself? And,
+if not, how can we explain the price of a thing like wool in terms of
+utility and cost, since we cannot disentangle its cost from that of
+mutton, nor its utility from that of a great variety of other things?
+
+Here the conception of the margin enables us to grapple with a problem
+which would otherwise be insoluble. For, while it is impossible to
+separate out the total utility and cost of wool, it is not impossible
+to disentangle its marginal utility and its marginal cost. The
+proportion in which wool and mutton are supplied cannot be radically
+transformed; but it can be varied within certain limits, by rearing,
+for instance, a different breed of sheep. Variations of this kind have
+been an important feature of the economic history of Australasia,
+where sheep farming is the leading industry. Before the days of cold
+storage, Australia and New Zealand could not export their mutton to
+European markets, though they could export their wool. Wool was
+accordingly much the most valuable product; the mutton was sold in the
+home markets, where, the supply being very plentiful, the price was
+very low. In the circumstances, the Australasian farmers naturally
+concentrated on breeding a variety of sheep whose wool-yielding were
+superior to their mutton-yielding qualities. The development of the
+arts of refrigeration led in the eighties to an important change. It
+became possible to obtain relatively high prices for frozen mutton in
+overseas markets. There was, therefore, a marked tendency, especially
+in New Zealand, to substitute, for the merino, the crossbred sheep
+which yields a larger quantity of mutton and a smaller quantity of
+wool of poorer quality. Now if we calculate the cost of maintaining
+the number of merino sheep which will yield a given quantity of wool,
+and calculate the cost of maintaining the larger number of crossbred
+sheep which will be required to yield the _same_ quantity of wool
+(allowing for differences of quality) the extra cost which would be
+incurred in the latter case must be attributed entirely to the extra
+mutton that would be obtained. This extra cost we can regard as
+constituting the marginal cost of mutton. So long as this marginal
+cost falls short of the price of mutton, it will be profitable to
+extend further the substitution of crossbred for merino sheep. The
+process of substitution will in fact be continued until we reach the
+point at which the marginal cost is about equal to the price.
+Similarly by starting with the numbers of merino and crossbred
+sheep which would yield the same quantity of mutton, we can calculate
+the marginal cost of wool; and again the tendency will be for this
+marginal cost to be equal to the price.[1]
+
+[Footnote 1: It may be found difficult to grasp this point when stated
+in general terms. The following arithmetical example may make it
+plainer:--
+
+Suppose a merino sheep yields 9 units of mutton and 10 units of wool.
+
+Suppose a crossbred sheep yields 10 units of mutton and 8 units of
+wool.
+
+Suppose, further, that a merino sheep and a crossbred sheep each cost
+the same sum, say, for convenience, L10, to rear and maintain; and
+that there are no special costs assignable to the wool and the mutton
+respectively, as, of course, in fact there are.
+
+Then 10 merino sheep, yielding 90 units of mutton + 100 units of wool,
+cost L100; while 9 crossbred sheep, yielding 90 units of mutton + 72
+units of wool, cost L90.
+
+Hence you could obtain an extra 28 units of wool for an extra cost of
+L10, by maintaining 10 merino sheep rather than 9 crossbred sheep. The
+marginal cost of wool is thus L 10/28 per unit.
+
+Similarly 8 merino sheep, yielding 72 units of mutton + 80 units of
+wool, cost L80; while 10 crossbred sheep, yielding 100 units of mutton
++ 80 units of wool, cost L100.
+
+Hence you could obtain an extra 28 units of mutton for an extra cost
+of L20, by maintaining 10 crossbred sheep in place of 8 merinos. The
+marginal cost of mutton is thus L 20/28 per unit.
+
+So long as the price obtainable for wool exceeds L 10/28, and that
+obtainable for mutton does not exceed L 20/28 per unit, it will pay to
+substitute merino for crossbred; and conversely. If the price of wool
+exceeds L 10/28 and the price of mutton also exceeds L 20/28, it will
+be profitable to expand the supply of both breeds, until as the result
+of the increased supply, one of the above conditions ceases to
+obtain. Conversely, if the prices of both products are less than the
+figures indicated, sheep farming of both kinds will be restricted.
+The resultant of the processes of expansion or restriction, and
+substitution, will be that, unless one of the breeds is eliminated,
+the prices of mutton and wool will equal their respective marginal
+costs. These marginal costs may, of course, alter as the process of
+substitution extends. For the relative cost of maintaining merinos and
+crossbreds will not be the same for every farmer. Here again it is the
+costs at the "margin of substitution" that matter.]
+
+
+Sec.2. _Marginal Utility under Joint Demand_. On the side of demand there
+exist as a rule similar possibilities of variation. _Some_ machinery,
+_some_ labor, _some_ materials of various kinds, are all indispensable
+in the production of any manufactured commodity. But the proportions
+in which these factors are combined together can be varied, and are
+frequently varied in practice as the result of the ceaseless pursuit
+of economy by business men. To produce pig-iron, you need both coal
+and iron ore; but, if coal becomes more costly, it is possible to
+economize its use. Machinery and labor must be used together, in some
+cases in proportions which are absolutely fixed. But there is in
+nearly every industry a debated question as to whether the
+introduction of some further labor-saving machine would be worth
+while, or some improved machine which would represent the substitution
+of more capital plus less labor for less capital plus more labor. A
+farmer can cultivate his land, to use a common expression, more
+intensively or less intensively; in other words, he can apply larger
+or smaller quantities of capital and labor (the proportion between
+which he can also vary) to the same amount of land. The problem is
+essentially the same as that of the substitution of the crossbred for
+the merino. We can take the various possible combinations of the
+factors of production, and contrast two cases in which different
+quantities of one factor are employed, together with equal quantities
+of the others. The extra product which will be yielded in the case in
+which the larger quantity of the varying factor is employed can then
+be regarded as the marginal product (or marginal utility) of the extra
+quantity of that factor; and we can say that the employment of this
+factor will be pushed forward to the point where this marginal product
+will be roughly equal to the price that must be paid for it. We can
+thus lay down the most important proposition that the relation between
+marginal utility and price holds good generally of the ultimate agents
+of production; that the rent of land, the wages of labor, and, we can
+even add, the profits of capital tend to equal their (derived)
+marginal utilities, or, as it is sometimes expressed, their marginal
+net products.
+
+Whenever, therefore, the proportions in which two or more things are
+produced or used together can be varied, the relations of joint supply
+and joint demand are perfectly consistent with a specific marginal
+cost and marginal utility for each commodity.
+
+
+Sec.3. _A contrast between Cotton and Cotton-seed, and Wool and
+Mutton_. But it sometimes happens that such variations cannot be
+made. Thus, it has not been found possible (so far as I am aware) to
+alter the proportions in which cotton lint and cotton-seed are yielded
+by the cotton plant. Roughly speaking, you get about 2 pounds of
+cotton-seed for every 1 pound of cotton lint (or raw cotton), and
+though this proportion may vary somewhat from plantation to
+plantation, it is upon the knees of the gods, and not upon the will of
+the planter that the variation depends. We cannot, therefore, speak
+with accuracy of the separate marginal costs of raw cotton and
+cotton-seed. It is true that some plantations are so far distant from
+any seed-crushing mill that it is not worth while to sell the seed as
+a commercial product; and it might seem, therefore, as though we might
+regard the entire costs of cotton growing on _such_ plantations as
+constituting the marginal costs of raw cotton. But planters, so
+situated, derive a considerable value from their cotton-seed by using
+it as fodder for their live stock or as a manure. You can, of course,
+argue that proper allowance is automatically made for this factor, as
+a deduction from the costs of raw cotton, when you add up the expenses
+of the plantation. In the same way you can deduct the price which a
+planter who sells his cotton-seed obtains for it, from the total costs
+of the plantation, and call the remainder the costs of the raw
+cotton. But this is really to reason in a circle. For in either case
+the magnitude of the deduction depends on the marginal utility of the
+cotton-seed. And the notion of the cost of anything becomes blurred
+and blunted if we so use it that it must be deduced from the utility
+of something else, which is not an agent in the production of the
+thing in question.
+
+This point is not merely an academic one. It means that we cannot
+explain the _relative_ prices of cotton lint and cotton-seed in terms
+of cost at all, whether marginal or otherwise. The influence of cost
+will be confined to the _sum_ of the prices of the two things. Upon
+this sum it will exert precisely the same influence as it exerts upon
+price in general, by affecting the total quantities of the two things
+that will be supplied. But upon the distribution of this sum between
+lint and seed, cost will exert no influence whatever, because it
+cannot affect the proportions in which they are supplied. It may
+assist some readers if I state the matter in more concrete terms. Cost
+of production will be one of the factors which will result in the
+production of an annual cotton crop in the United States of, let us
+say, 10 million tons of seed cotton. This crop will yield roughly
+6-2/3 million tons of cotton-seed, and 3-1/3 million tons (or rather
+more than 13 million bales) of lint. The combined price received by
+the planter of (let us say) 14.4 cents for 1 pound of lint plus 2
+pounds of seed should correspond roughly to the marginal joint costs
+of production. But the factor of cost has no influence at all in
+determining that this combined price is made up of a price of 12 cents
+per pound for lint, and only 1.2 cents per pound (or $24 per ton) for
+cotton-seed. To account for this we must rely entirely upon demand. We
+can say, shortly, that the respective prices must be such as will
+enable the demand to carry off 6-2/3 million tons of seed, and 3-1/3
+million tons of raw cotton. Or we can go further and say that the
+marginal utility of a pound of raw cotton, when 3-1/3 million tons are
+supplied, is ten times as great as that of a pound of seed when 6-2/3
+million tons are supplied.
+
+If accordingly the demand for cotton-seed were to expand considerably
+owing, say, to the discovery of some new use for the oil, which is its
+most valuable constituent; the effect would be first a rise in the
+price of cotton-seed, and, subsequently, by stimulating cotton
+growing, a more plentiful supply and a lower price for raw cotton. And
+so far at least as the increased supply is concerned, this must
+necessarily be the effect, "other things being equal"; though, to be
+sure, it might be outweighed and obscured by other influences such as
+the boll-weevil. But it is _not_ the case that an increased demand for
+mutton must necessarily increase the supply or lower the price of
+wool; and it is most unlikely to do so in any similar degree. For,
+here, the separate marginal costs of the two things exert their
+influence. An increased demand for mutton will stimulate sheep
+farming, but it will also stimulate the substitution of crossbred for
+merino breeds; and the resultant of these two opposite tendencies upon
+the supply of wool is logically indeterminate. As a matter of history
+we know that the development of cold storage in the eighties (which we
+may regard for the present purpose as equivalent to an increased
+demand for Australian mutton) caused considerable perturbation in the
+woollen and worsted industries of Yorkshire. They were faced with a
+dwindling supply and a soaring price of merino wool; and the
+adaptability with which they met the situation, and won prestige for
+the crossbred tops, and yarns and fabrics, to which they largely
+turned is a matter of just pride in the trade to-day. The fact,
+however, that this alteration in the supply of wool was a matter not
+only of quantity but of quality, while it takes nothing from the
+substance of the preceding argument, makes it difficult to draw a
+clear moral, bearing on the present issue, from this incursion into
+history.
+
+
+Sec.4. _The Importance of being Unimportant_. The above contrast between
+cases in which variation is possible, and those in which it is not
+possible, is reproduced with a heightened significance when we turn
+back to joint demand. The cases are perhaps less common in which it is
+_impossible_ to alter the proportions in which different commodities
+are jointly demanded, but there are many cases in which it is not
+nearly worth while to do so (and this amounts to very much the same
+thing). Cases of this sort are especially likely to occur when we are
+dealing with a commodity which accounts for only a tiny fraction of
+the costs of the industry which is its chief consumer. Sewing cotton,
+for example, is jointly demanded, with many other things, by the
+tailoring and other clothing trades; but the money which these trades
+spend on sewing cotton is so small a part of their total expenditure,
+that no ordinary variation in its price is likely to make it worth
+while to study the ways and means of using it in smaller
+quantities. When sewing cotton is bought by the domestic consumer,
+considerations which are fundamentally the same, though somewhat
+different in form, point to a similar conclusion. It is thus very
+difficult to assign to sewing cotton a specific marginal utility. This
+difficulty is of great importance in connection with the possibilities
+of monopolistic exploitation. For it means that the demand blade of
+the scissors upon which we rely to cut off excrescences of price is
+blunted, and if accordingly the producers constitute a strong enough
+combination to control the supply blade, they will possess an unusual
+power of advancing their selling prices as they choose. I am far from
+suggesting that Messrs. J. & P. Coats are to be condemned as an
+extortionate monopoly. On the contrary, during 1919, when the profits
+in highly competitive industries like the main branches of the cotton
+and woollen trades, soared exuberantly, the record of this concern
+seems to me one of distinct moderation. But the present point is that
+they possess an exceptional _power_ to fix the price of sewing cotton
+as they choose, and that this is attributable in no small degree to
+the fact that sewing cotton constitutes an essential but relatively
+trifling item in the expenses of the processes in which it is
+employed.
+
+Perhaps the point will be made clearer if we turn from the selling
+prices of commercial products, in regard to which there is a strong
+and not ineffective public sentiment against "profiteering," to the
+remuneration of different classes of labor. With an instinctive
+disposition towards megalomania, it is often claimed in Great Britain
+that the miners, being a very numerous and well-organized body of
+workpeople, were in a stronger strategic position than most workpeople
+for exacting the remuneration they desire. It is quite true that a
+stoppage of work in the coal industry causes us a high degree of
+inconvenience, and temporary concessions may thereby be obtained which
+might otherwise have been refused. But this is a dubious advantage,
+and we grossly exaggerate its real importance. The truth is that the
+strategic position of the miners in regard to wages questions is by no
+means strong. For their wages constitute a very large percentage of
+the cost of coal; and the price of coal in its turn is a most
+important element in the costs of many of the industries which are its
+principal consumers. Great Britain, moreover, is far from possessing
+a monopoly of coal. If, accordingly, the wages of the miners are
+temporarily pushed up to a high point, the result will certainly be a
+diminished demand for British coal, which will lead before long to
+their fighting a losing battle to maintain the concessions they have
+won. Contrast their position with that of the steel smelters, whose
+wages (high though the wage rates are) constitute a very small
+percentage of the costs of steel production, and we must agree I think
+that we have in this distinction the main reason why the steel
+smelters, though they hardly ever go on strike, have as a rule been
+able to do so much better for themselves than the miners.
+
+When a commodity or service is such that an appreciable alteration in
+its price has only a slight effect upon the quantity demanded, the
+demand is said to be _inelastic_. Conversely, when a small change in
+price greatly alters the quantity demanded, we call the demand
+_elastic_. In the former case, it is worth nothing, a larger aggregate
+sum of money will be spent upon the thing when its price is high than
+when it is low, while the opposite is true in the latter case. This
+distinction is of considerable importance in connection with many
+problems (e.g. of taxation); and the terms, elastic demand and
+inelastic demand, are worth remembering. We may thus express the
+above conclusions by saying that the demand for sewing-cotton is
+highly inelastic, and that the demand for coal miners is more elastic
+than that for steel smelters.
+
+
+Sec.5. _Capital and Labor_. Cases in which it is impracticable to make
+any variation in the proportions in which different things are used
+together are, however, the exception rather than the rule. Where
+variation is possible, we are confronted with an uncertainty as to the
+way in which an increased supply of one thing will react on the demand
+for another, similar to our uncertainty as to whether an increased
+demand for mutton would augment or diminish the supply of wool. It is,
+for instance, of the highest importance to give a clear answer, if we
+can, to the question whether an increased supply of capital will
+increase the demand for labor. The chief effect of an increased
+supply of capital is to facilitate the extended use of expensive
+machines: to some extent these machines will increase the demand for
+labor; to some extent they will be substituted for it. Which of these
+two tendencies will outweigh the other we cannot be absolutely
+sure. But fortunately we can be far more nearly sure than was possible
+in the analogous case of wool and mutton. An increase in the supply of
+capital increases the demand for the commodities, from which the
+demand for labor is derived, in both the senses discussed in Chapter
+II. First it makes them cheaper to buy, and thus increases the
+quantity that will be bought. It is this that is parallel to the
+effect of an increased demand for mutton in making it more profitable
+to breed sheep. But it also serves to increase the purchasing power
+with which to buy commodities, because it increases the aggregate real
+wealth of the community, and it thus serves to raise the whole demand
+curve. This last consideration is so important as to make it
+overwhelmingly probable, apart from the evidence of history, that an
+increase in the supply of capital (and the same may be said of an
+increase in the supply of the other agents of production) will on
+balance increase the demand for labor. The evidence of history points
+to the same conclusion. The history of the last hundred years displays
+an unprecedented accumulation of capital, and an unprecedented
+extension of machinery, associated with an unprecedented improvement
+in the standard of living throughout the whole community. This is
+powerful testimony in favor of the view that an increase in the supply
+of capital and the use of machinery will usually enhance on balance
+the demand for labor. Moreover, though this is not conclusive, there
+is little room for doubt that an obstructive attitude towards the
+extension of machinery in a particular country, or a particular
+district, is misguided. For its effect must be to make production
+more costly there than it is elsewhere, and to lead, slowly perhaps,
+but very surely, to the transference of the industry to other regions.
+
+
+Sec.6. _Conclusions as to Joint Supply and Joint Demand_. Here, however,
+we are beginning to digress. Let us sum up in a general form our
+conclusions as to the way in which changes in the supply or demand of
+a commodity react upon the demand or supply of the other things with
+which it is jointly demanded or supplied. Everything turns, as we have
+seen, on the possibility of variation in the proportions in which the
+things are used or produced together; and this, it is also clear, is a
+matter of degree. Our conclusions, therefore, had best take the
+following form:--
+
+LAW VII. When two or more things are jointly demanded, in proportions
+   which cannot easily be varied, the tendency will be for an increase
+   (or decrease) in the supply of one of them to increase (or
+   decrease) the demand for the others. These results will be more
+   certain, and more marked, the more difficult it is to vary the
+   proportions in which the things are used.
+
+   Similarly, when two or more things are jointly supplied, in
+   proportions which cannot easily be varied, the tendency will be for
+   an increase (or decrease) in the demand for one of them to increase
+   (or decrease) the supply of the others. These results again will be
+   more certain and more marked, the more difficult it is to vary the
+   proportions in which the things are supplied.
+
+
+Sec.7. _Composite Supply and Composite Demand_. Joint Demand and Joint
+Supply do not complete the list of relations between the demand and
+supply of different things. Between tea and coffee, or beef and mutton
+there is a relation of a different kind. These things are in large
+measure what we call "substitutes" for one another. An increased
+supply, and a lower price of mutton, will probably induce us to
+consume less beef. This relation it is convenient to describe as
+Composite Supply. Beef and mutton make up a composite supply of meat;
+tea and coffee a composite supply of a certain type of beverage. For
+any group of things, between which the relation of Composite Supply
+exists, we can say, with complete generality, that an increased supply
+of one of them will tend to diminish the demand for the
+others. Parallel to the relation of Composite Supply is that of
+Composite Demand. There are frequently several alternative uses in
+which a commodity or service can be employed; and these alternative
+uses make up a composite demand for the thing in question. Thus
+railways, gasworks, private households and a great variety of
+industries contribute to a Composite Demand for coal. It is worth
+noting that there is frequently an association in practice between
+Joint Demand and Composite Supply on the one hand; and between Joint
+Supply and Composite Demand on the other. Wool and mutton, for
+instance, we have described as an instance of Joint Supply; but, in so
+far as the proportions of wool and mutton can be varied, we can regard
+these things as constituting a Composite Demand for sheep. And this
+conception may help us to retain a clearer and more orderly picture of
+the problems we have discussed above. We can regard the fact that wool
+and mutton are produced together as their Joint Supply aspect, and the
+fact that these proportions can be varied as their Composite Demand
+aspect; and the question as to whether an increased demand for mutton
+will increase the supply of wool turns upon whether the former aspect
+is more important than the latter. Similarly labor and machinery,
+employed together for the same purpose, form an instance of Joint
+Demand; but in so far as they can be substituted for one another, they
+constitute a Composite Supply of alternative agents of production.
+
+These four relations of Joint Demand, Joint Supply, Composite Demand
+and Composite Supply are well worth remembering and distinguishing
+from one another. They are of immense importance in every branch of
+economic affairs. There are hardly any economic problems upon which we
+are fitted to express an opinion, unless we have a lively sense of the
+far-reaching ramifications of cause and consequence, of the subtle and
+often unexpected interconnections between different industries and
+different markets. To gape at these complexities in a confused stupor
+is as foolish as it is to ignore them. But confusion and stupor are
+only too likely to represent our final state of mind, if we attempt to
+deal with these complications, one by one as they occur to us, in a
+piecemeal and haphazard fashion. We need a clear method, a systematic
+plan by which we may search them out, and fit them into place. The
+four relations which we have enumerated supply us with such a plan and
+method. For they represent something more than a series of pompous
+names for familiar notions. They constitute a classification of the
+various ways in which the demand and supply of one thing can affect
+the demand and supply of others; a classification which is exhaustive
+when we add the relation of derived demand, and an analogous relation
+on the supply side which we must now notice.
+
+
+Sec.8. _Ultimate Real Costs_. Just as the utility of "producers' goods"
+is derived from that of the "consumers' goods" which they help to
+make; so the cost of any commodity is derived from the cost of the
+things which help to make it. Moreover, just as we recognize that the
+utility of "consumers' goods" lies at the back of all demand, and
+constitutes the ultimate end of all production; so we cannot but feel,
+however obscurely, that behind the phenomena of money costs, there
+must lie certain ultimate costs, of which all money costs are but the
+measure. But when we try to explain what the nature of these real
+costs may be, we are plunged in difficulty. Wages, it may indeed seem
+at first sight, present no trouble. There is the effort and the
+fatigue, the unpleasantness of human labor, to represent real
+costs. But can we suppose that these things are measured with any
+approach to accuracy by the wages which are paid in actual fact? Is it
+true, even as a broad general rule, that the services which are most
+arduous and most disagreeable command the highest price? And wages are
+not the only ingredient of money costs. There are profits: to what
+real costs do profits correspond? More difficult still, to what does
+rent correspond? These plainly are not questions upon which he who
+runs may read. It will be necessary to devote the next four chapters
+to their elucidation.
+
+
+
+CHAPTER VI
+
+LAND
+
+
+Sec.1. _The Special Characteristics of Land_. In the great process of
+co-operation by which the wants of mankind are supplied, Nature is an
+indispensable participant. She renders her assistance in an infinite
+variety of ways, of which the properties of the soil which man
+cultivates form only one; but the sunshine and rain which enable the
+farmer to grow his crops; the coal and iron ore beneath the surface of
+the earth, can be regarded for our present purpose as forming part of
+the land with which they are associated. We can thus concentrate upon
+land as the representative of the free gifts of nature, which are of
+economic significance. Land in modern communities is for the most part
+privately owned. It can be bought and sold for a price, and acquired
+by inheritance. Moreover, it is a common practice, particularly in the
+United Kingdom, for an owner who does not wish himself to cultivate or
+otherwise use the land, not to sell it to the man who does, but to
+lease it to him for a term of years for an annual payment which we
+term rent. It is therefore natural and convenient to envisage the
+problems, which we shall consider in this chapter, as problems
+concerning the price and rent of land. But, once again, the laws and
+principles which we shall state and illustrate in terms of the current
+systems of ownership and tenure, possess a much deeper significance
+than this terminology might suggest.
+
+The fact that land is a free gift of Nature distinguishes it in
+various ways from commodities which are produced by man. The
+peculiarities which are most important from the economic standpoint
+are (1) that the supply of land is, broadly speaking, fixed and
+unalterable, and (2) that its quality and value vary, from piece to
+piece, with a variation which is immense in its range, but fairly
+continuous in its gradation. These are thus two aspects from which
+the phenomena of price and rent can be regarded; aspects which it is
+usual to call, (1) the scarcity aspect, (2) the differential aspect.
+
+
+Sec.2. _The Scarcity Aspect_. The fact that the supply of land is fixed
+has the following significance. If the demand for land increases, the
+price will tend to rise. This is also true, for a short period at
+least, of an ordinary commodity. But, in the latter case, there would
+ensue an increase in supply which would serve to check the rise in
+price, and possibly, if production on a larger scale led to improved
+methods of production, bring the price down eventually below its
+original level. In the case of land, no such reaction is
+possible. There is nothing, therefore, to restrain the price (and the
+rent) of land from rising indefinitely, and without limit, if the
+demand for it should continue to increase. Conversely, if the demand
+for land falls off, there is nothing to check the consequent fall in
+price and rent. In the case of ordinary commodities, the supply would
+be diminished, because most things are either consumed by being used,
+or wear out in the course of time, and a regular annual production is
+therefore necessary to sustain their supply at the existing level. But
+land remains, whether it is used or not; and its supply is, broadly
+speaking, just as incapable of being diminished, as it is of being
+increased. Changes in the demand for land in either direction are thus
+likely to affect its price in a much greater degree than that in which
+the price of an ordinary commodity will be affected by a corresponding
+change in its demand.
+
+For most purposes, however, it is of more interest to compare land
+with other agents of production, especially with capital and labor,
+rather than with ordinary commodities. Now, as we have already noted,
+there is some doubt as to the manner in which the supply of capital or
+labor is likely to be affected by alterations in demand price. But the
+supply of capital and the supply of labor, even if we suppose them to
+be as entirely unresponsive to price changes as is the supply of land,
+are at any rate not fixed. Not only _may_ they vary for many reasons,
+but they are in fact likely to vary in direct proportion to the
+population. An increase in population implies an increase in the
+supply of labor; and it is likely to be accompanied by an increase in
+the supply of capital; in other words, the supply of these agents will
+expand, as the demand for them expands. But the supply of land will
+remain what it was. This fact is enormously important in connection
+with the broad problem of population, which will form the theme of
+Volume VI.
+
+But it is important also in other connections. It has been the
+dominating factor in many absorbing controversies upon high policy
+regarding the ownership of land, or the taxation of land values, upon
+which we can touch but lightly here. It has seemed to many writers a
+reasonable proposition to lay down, that the ordinary course of the
+progress of society, the increase of population and industry, must
+mean, as a broad general rule, a constant increase in the demand for
+land. And, if that be granted, it seems to follow that the price and
+rent of land will tend constantly to increase. John Stuart Mill,
+accordingly, in the middle of the last century, asserted that "the
+ordinary progress of a society, which increases in wealth, is at all
+times tending to augment the incomes of landlords; to give them both a
+greater amount and a greater proportion of the wealth of the
+community, independently of any trouble or outlay, incurred by
+themselves,"[1] and upon the strength of this assertion, he justified
+the policy of imposing a special tax upon what we have come to call
+the "unearned increment" of land. But how far does actual experience
+bear his assertion out? In Great Britain we have seen in the last
+half-century an undoubted increase in urban rents; but over long
+periods at least, there was a marked fall in both the prices and rents
+of agricultural land, despite the fact that the country was
+"increasing in wealth" as rapidly as ever before. This was due, of
+course, in the main to the increased supplies of wheat and other
+foodstuffs coming from the New World: and if, accordingly, we choose
+to lump together not only our own urban and agricultural land, but the
+land of other countries as well, and to speak vaguely of the demand
+for land as a whole, it might seem as though we could argue that
+Mill's generalization still holds good. But even this is by no means
+certain and in any case such a generalization is of very little
+service: what the illustration should rather suggest to us, is the
+danger of speaking of land vaguely as a whole, and the importance of
+turning our attention to the variations in value between different
+kinds and different pieces.
+
+[Footnote 1: _Principles of Political Economy_, by John Stuart Mill.]
+
+
+Sec.3. _The Differential Aspect_. Most ordinary commodities are not
+produced on a single, uniform pattern. As a rule there are many
+variations of grade and quality, and consequently of price. But these
+variations are usually designed to meet the differences of taste among
+the purchasers, and we do not expect to find that any variety of an
+ordinary commodity will be produced, which is so poor in quality as to
+be entirely valueless. But since it is nature which has produced the
+land, without any assistance or guidance from man, there are many
+pieces of land which are so unfertile, or are otherwise so unsuitable
+for productive purposes, as to be quite valueless from the economic
+standpoint. Even in a densely populated country like Great Britain,
+there are considerable tracts of land which it is unprofitable to
+employ for any economic purpose whatsoever, and which possess no
+further value than what the mere pride of ownership may give
+them. This fact makes it possible to apply the conception of the
+margin to the case of land with particularly illuminating results.
+
+In the first place, however, it should be observed that the value of
+any piece of land does not depend solely on the intrinsic fertility of
+the soil. The fact that land is an immobile thing makes its
+_situation_ a factor of great importance. In the case of urban land,
+situation is, of course, the only thing that counts. The value of a
+site in Bond Street or the City is entirely unaffected by its capacity
+or incapacity for potato-growing purposes. But even for agricultural
+land, situation is a most important matter. A farm, which is so remote
+that considerable transport charges must be incurred to bring its
+produce to market, will be less sought after, and less valuable, than
+one which is much better situated though somewhat less fertile. In
+what follows, therefore, we must speak of the "quality" of a piece of
+land in a broad sense to include advantages of situation, as well as
+of fertility. Let us now, imagine the different pieces of land in
+Great Britain to be arranged in order of quality, so that we have a
+long series, with land of the best quality at one end, and of the
+poorest quality at the other. At the latter end, we will have such
+land as is found near the top of Snowden or Ben Nevis, which it
+clearly does not pay to cultivate at all. Somewhere, then, between
+these two extremes, we shall come to a point where the land is just,
+but only just, worth cultivating, or where, to revert to a form of
+words we previously employed, it is a matter of _doubt_, whether the
+land is really worth using for a productive purpose. Such land we can
+regard as the "marginal land"; and since the variety of nature is at
+once infinite and fairly minutely graduated we shall probably find
+that on one side of this margin there is much land which is only
+slightly superior, and on the other, much which is only slightly
+inferior, to the marginal land itself. What, then, is likely to be the
+value and the rent of this marginal land, this land which is just on
+the "margin of cultivation"? Some readers may find the answer
+startling. The rent of the marginal land will be nil, because it will
+not pay to cultivate it, if any appreciable rent is charged. A piece
+of land for which it is worth a tenant's while to pay an appreciable
+rent, will not be the marginal land, because there will be land just
+slightly inferior to it which it will also pay to cultivate if a
+somewhat lower rent is charged. And so we can pass to poorer and
+poorer qualities of land, with an ever diminishing rent, until at the
+margin of cultivation the derived utility of the land is negligible
+and the rent vanishes.
+
+This certainly is a somewhat abstract conception; but it is by no
+means so remote from reality as may at first sight appear. The reader
+may protest that in the course of an extensive and varied acquaintance
+with landowners, he has not yet run across this peculiar marginal
+type, who lets his land for no rent at all. But there, if his
+experience is really extensive, I think he is mistaken. It so happens
+that the ordinary agricultural landowner leases out his land, not by
+itself, but together with a variety of other things such as farm
+buildings, which it costs him a considerable sum of money to
+provide. He will not as a rule be willing to go to this expense,
+unless he sees his way to obtain for the farm an annual payment, which
+represents at least a fair return on this capital outlay, as big a
+return as he could have got, for instance, by investing the same
+amount of money in some gilt-edged security. This annual payment
+will, it is true, be called rent; but the significance of this is that
+what we term rent in ordinary life is usually a complex thing, made up
+of two essentially distinct elements, viz. the normal return on the
+capital goods supplied together with the land, and what we may call
+the "net rent," or the "pure rent" attributable to the land
+itself. Now will any reader make so bold as to say that there is no
+land under cultivation, in respect of which this net rent is either
+nil or negligible? The landowners will not agree with him. It is not
+a question, it should be observed, as to whether the rent obtained
+represents more than a fair return on the purchase price paid for the
+land; that is quite another matter. The question is whether the rent
+obtained exceeds a fair return on the capital sum spent on the
+buildings, etc.; with which every farm must be equipped to let at
+all. In fact there are not a few farms where there is no such excess,
+and where accordingly there is no "net rent" or "pure rent" which can
+be attributed to the land.
+
+The question whether it would be profitable to cultivate any piece of
+land, turns upon whether the receipts which would be obtained by
+selling the produce would exceed the costs of cultivation: and under
+these costs of cultivation we must include, of course, the
+remuneration of the farmer's services. Farmers, like other people,
+have to live; and they would not take on the troublesome job of
+farming, unless there seemed a prospect of making a living out of
+it. The remuneration of the farmer takes, of course, the form not of a
+salary, but of profits: and these profits vary very much from year to
+year, and from place to place, and from man to man. But they are
+essentially payment for work done, and an ordinary profit must be
+regarded therefore as part of the necessary costs of farming. Thus it
+will not be worth while to cultivate a piece of land, and the land
+will in fact lie unused, upon which a careful farmer might obtain a
+profit in the ordinary sense, of no more than $50 or $100 a year. The
+marginal land will be land which yields a decent profit to a decent
+farmer, as well as a gross rent to the landowner, sufficient to
+compensate him for his capital outlay, but nothing further.
+
+What, then, will be the rent of a fertile and well-situated farm,
+about which there is no doubt that it is well worth cultivating? Part
+of the gross rent which the landowner receives must again be regarded
+as merely a return for the capital expended in equipping the farm for
+use; but in this case, there will be a residue left over, which
+constitutes the net rent of the land. The net rent will measure the
+derived utility of the land to its occupier, and will in general
+represent (very roughly, of course, in practice) the differential
+advantage of cultivating the land in question rather than land on the
+"margin of cultivation." This differential advantage may take either,
+or both, of the forms, of a larger produce per acre, or a lower cost
+of production and marketing. But, in any case, the extra profit,
+which, if no rent were charged, a decent farmer could obtain by
+cultivating the farm in question, rather than a marginal farm, will be
+roughly equal to the net rent which his landlord can exact from him,
+if his landlord so chooses. The landlord may, of course, not choose to
+exact a rent as high as this; and as a matter of fact, in a country
+like Great Britain landlords often content themselves with less. The
+traditions associated with the ownership of agricultural land, and
+with the relations between landlord and tenant serve to soften the
+edge of economic law, and to subject the rents which are actually
+fixed to the control in no small measure of the general sense of what
+is fair or customary. In such cases the landlord makes the farmer a
+present, for the time being, of part of the economic rent. On the
+other hand, as Irish agrarian history well illustrates, the landlord
+may sometimes expropriate under the name of rent, permanent
+improvements which are due to the labors or the expenditure of the
+tenant. This is, of course, particularly likely to happen, whenever it
+is the custom to leave to the tenant the obligation of providing the
+capital equipment of the farm, which in Great Britain is, for the most
+part, the recognized duty of the owner. Again, in the case of urban
+land in the South of England, expropriations of this kind are an
+essential and well-understood feature of the leasehold system. The
+owner grants a lease for a long period of time, usually ninety-nine
+years, for a ground rent, which is notoriously below the true economic
+rent of the land, subject to the condition that the leaseholder must
+erect upon the land and keep in good repair certain buildings, which
+on expiry of the lease will become the property of the ground
+owner. Here the nominal ground rent is only part of the total rent
+which is really paid; the ultimate transference of the buildings
+representing often the more important part. There is, in fact, a great
+variety of systems of land tenure, some of which are highly complex,
+the respective merits of which vary greatly, and which constitute a
+most important problem for statesmen and legislators. Considerations
+of this kind in no way diminish the importance of the general analysis
+of rent, which we are pursuing in the present chapter. Rather they
+make it the more important, because we cannot properly weigh the
+merits of any system of land tenure, until we have grasped clearly the
+principles governing the rent of land in the purest form. But
+certainly we must never forget that the rent we are discussing may
+differ very greatly from, though it will vitally influence, the money
+payments which are called rent in actual life. It is the pure economic
+rent, the rent which represents the _full_ annual payment which it
+would be worth paying to obtain the use of the land alone, which will
+measure, as we have said, the differential advantage of the land in
+question over land on the margin of cultivation.
+
+A clear grasp of this relation helps us to perceive that an increase
+in the prosperity of the community may sometimes influence rents in an
+unexpected way. It all depends on the causes which have given rise to
+the increased prosperity. An advance, for instance, in agricultural
+science will facilitate a more abundant supply of foodstuffs; but it
+will not necessarily increase the aggregate rents of agricultural
+land. For if it takes the form, say, of the discovery of some new
+artificial manure, it will very likely facilitate production on the
+less fertile soils far more than it will on the more fertile soils
+where artificial manures are not so necessary. It will thus tend to
+diminish the differential advantages of working on the more fertile
+farms, and their rents will accordingly fall, possibly by much more in
+the aggregate than any increase in the rents of the farms near the
+margin of cultivation. The point may, perhaps, be better understood if
+we pass from agricultural to urban land, and ask what would be the
+effect on site values of a great improvement in the facilities of
+internal transport. Push the case to an extreme, and suppose passenger
+transport to become so cheap and so quick that there ceases to be any
+advantage in living in a town so as to be near your place of work.
+Urban landlords would no longer be able to obtain the high rents they
+now receive for the sites of houses in or near a town. For most people
+would prefer to move out into the country where sites can be obtained
+at little more than an agricultural rent. The country covers so large
+an area relatively to the towns that the supply of rural sites would
+be still very plentiful as compared with the demand. Their rents would
+not, therefore, rise by very much, although the rents of the housing
+sites in towns would fall heavily. Of course, there are other factors
+to be taken into account before we could pronounce upon the effect on
+aggregate rents. Central sites for shops might, for instance, fetch a
+higher rental than before. The purpose of this discussion is not to
+generalize but to show the danger of generalizing about rents in the
+aggregate, or land as a whole.
+
+
+Sec.4. _The Margin of Transference_. The last illustration may serve,
+however, to remind us of an obvious fact which we must now take into
+account. The same piece of land may be used for a variety of purposes.
+It may have been used for growing corn, and later it may be devoted to
+the building of houses, or, as at Slough, to a repair depot for motor
+vehicles. It need hardly be said that the land will, as a general
+rule, be put to the use in which its value is greatest; or to speak
+more strictly, in which the biggest rent, or the biggest selling price
+can be obtained. But the notion of the differential advantages which a
+piece of land possesses over the marginal land becomes decidedly more
+complicated when we take account of this variety of uses. Let us turn
+our attention, for instance, to the sites used for shop and office
+purposes, and consider what we can regard as the marginal site in this
+connection. Clearly it will not be the marginal land of which we
+spoke above, which it only just paid to cultivate, and which yielded
+no rent at all. For this will probably be agricultural land in an
+out-of-the-way district, where no one would dream of setting up an
+office or a shop. Any site upon which a sane man would contemplate
+setting up a shop will certainly possess value for other purposes,
+such as house-building. Hence the marginal site for shopkeeping
+purposes will not be like our marginal farm, a site which yields no
+rent.
+
+As regards many pieces of land, there is no doubt as to the purposes
+for which they can most profitably be used. This piece will command a
+much higher rent as a shop site than in any other capacity; for that
+piece house-building is the obvious employment; for another,
+agriculture. But in quite a number of instances there is considerable
+uncertainty. It is not clear whether upon this site it will be better
+to erect a house or a shop, or if the latter, what kind of a shop. It
+is not clear whether it will pay to use that farm land for a building
+scheme; and, within the domain of agriculture, which of course
+comprises an immense variety of really different industries, it is
+often a very moot point indeed whether a certain field should be left
+under grass, or brought under the plow. Cases of this sort are not
+phantoms of the imagination; they emerge on every side as concrete
+problems with which some one or other is dealing every day, and it is
+these cases which constitute the marginal land for the purposes of a
+particular occupation. The marginal sites for shops are the sites for
+which it is only just worth while to pay rents sufficient to entice
+them away from houses. And the rent for a site in Bond Street, or
+elsewhere, which is so much more suitable for shop purposes that no
+alternative use would be worth considering, will exceed the rent paid
+for one of these marginal sites by, roughly speaking, the extra
+advantage it possesses for shop purposes. Or will fall short of it, it
+may be well to add, to the extent of its comparative disadvantage. For
+there may be many such marginal sites, some of which will fetch low
+rents, and others very high rents indeed; the same site being often of
+great potential utility for a large variety of occupations. Between
+any two occupations there will thus usually be a _margin of
+transference_, which we must conceive not as a point, but as an
+irregular line, upon or near to which there will be many pieces of
+land, differing greatly in the rents which they fetch. These
+variations of rent will correspond to the differences between the
+advantages or derived utilities which the sites possess for _both_ the
+occupations in question. The position of such margins of transference
+will of course alter as industrial conditions change, and, when they
+alter, the rents of sites which are not near any margin of
+transference will be affected also. Thus an increased demand for the
+products of any particular industry will make it profitable for that
+industry to offer higher rents, and thus draw land away from other
+occupations. This will have the effect of raising, though possibly to
+a very slight extent, the rents of sites which still remain in other
+uses; for there will be fewer of them available; and their derived
+utilities will consequently be increased.
+
+But here, as everywhere, it is upon the margin that our attention
+should be focussed, because it is round about the margin (wherever it
+is found) that the changes are taking place which really matter for
+society. When Mr. Mallaby-Deeley buys an estate in Covent Garden from
+the Duke of Bedford, the transaction hardly deserves the degree of
+public interest it excites. Nothing has happened which is of material
+consequence to anyone except the two gentlemen concerned; the various
+sites are still used for the various purposes for which they were used
+before; nothing has occurred that really matters. But when houses are
+pulled down for the erection of a cinema, or when a field is diverted
+from tillage to pasture, something has happened which affects for good
+or ill the interests of the whole community. Conversion from tillage
+to pasture represents, indeed, a tendency which has been very marked
+in Great Britain during the last generation, and has aroused
+misgivings in many public-spirited observers. Possibly for a variety
+of reasons, these misgivings may be justified; certainly the problem
+is well worthy of attention. But when in this way the issue is raised
+of tillage versus pasture, it is essential, if we are to discuss it
+rationally, that we should envisage it clearly as applying only to a
+limited portion of agricultural land, to the portion which lies
+somewhere near the margin of transference, as things are now, between
+the two forms of agriculture. It might be socially desirable to bring
+under the plow a field which the farmer finds it only _slightly_ more
+profitable to lease under grass; but this would be highly improbable
+in the case of a field where the balance of argument to the farmer in
+favor of pasture is overwhelming. The position of the margin of
+transference between different uses may, in other words, be somewhat
+out of place from the social point of view, and it may be desirable by
+appeals and propaganda, even conceivably by the devices of State
+subsidy and compulsion, to push it forwards or backwards in greater or
+less degree. But it will be necessarily a matter of degree, and
+nothing could be more foolish than to speak as though there was, or
+could be, some ideal method of cultivation equally applicable to all
+lands, without regard to their climatic and other conditions. Needless
+to say, none of the agricultural experts who sometimes deplore the
+decline of arable farming are guilty of such foolishness. But the
+sense of the diversity of nature which is very vivid to them may
+sometimes be lacking in people who live in towns, and a firm grasp of
+the marginal notion may serve best to keep the latter from forgetting
+it.
+
+
+Sec.5. _The Necessity of Rent_. Behind all such detailed applications
+there lies a more general consideration which deserves attention. The
+way in which the land of a country is used, the way in which it is
+apportioned between the countless alternative employments that are
+possible, is a most important matter, more important perhaps than any
+questions as to the size of the incomes which particular landowners
+receive by virtue of their rights of ownership. How is this
+apportionment effected as things are now? The answer is clear: mainly
+by the agency of either rent or price. The business which finds it
+worth while to offer the highest rent or the highest price for any
+piece of land will, as a rule, be able to command its use. And, with
+this as the governing principle, an apportionment is secured between
+shops, offices, factories, agriculture, between the immense variety of
+different employments covered by each of these broad headings; not a
+rigid unvarying apportionment, but one which constantly changes as
+economic circumstances change, and as the margin of transference
+between different occupations moves hither and thither. This
+apportionment takes place at present as the result of the independent
+decisions and bargains of many private individuals, who are thinking
+mainly of their own interests, and not of those of the community. But
+this state of affairs might be altered. The land might be nationalized
+and allocated to its various uses by the co-ordinated labors of a
+great State department, or some other agency of the collective
+will. However improbable such a change, it is perfectly conceivable.
+But what is not conceivable is that any State department should handle
+the job with a success even approaching that of the present system,
+unless it continued to use, as its main instrument, the criterion of
+either rent or price. That a piece of land would yield a higher rent
+in one occupation than in any other is not conclusive evidence that it
+is best to devote it to the former purpose, but it is very good
+evidence, and it should be allowed to prevail unless it is
+demonstrably outweighed, as it possibly might often be, by
+considerations of a different kind. That it would not be well for the
+community to employ land in the city of London for corn-growing
+purposes, however desirable might be a revival of home agriculture, is
+so obvious that it may seem to have no bearing on the present issue.
+But it is only an extreme indication of the absurd and wasteful use of
+our natural resources, which would grow up slowly but surely, if we
+dispensed with ideas of rent and price as sordid irrelevancies, and
+allocated our land on the basis of a balancing of the loftiest
+arguments of a vague and sentimental character. If you are prepared
+for the distribution of land to become stereotyped, for each piece to
+continue indefinitely in its present use, then indeed you might
+dispense with rent, as primitive societies very largely do. That would
+mean stagnation and, for an industrial country, decay. But if changes
+are ever to be contemplated, a simple quantitative measure is the only
+safeguard against utter chaos. Thus rent, like interest, will be found
+indispensable as a measure under any efficient system of society, even
+if it might not always represent the payment of sums of money to
+private individuals. And that is why the principles governing rent
+possess, as I indicated at the outset of this chapter, an importance
+more fundamental than our present system of ownership and tenure.
+
+
+Sec.6. _The Question of Real Costs_. But we must not forget the
+preliminary question that started us upon our analysis of the agents
+of production. The rent which a manufacturer or farmer has to pay for
+his land he naturally includes in his cost of production. But does
+this money cost to the individual correspond to, and measure, any real
+cost to the community as a whole? Here let us note in the first place
+that if only we could disregard the variety of uses to which land is
+put, if we could suppose that all industry was agriculture, and that
+agriculture was a single industry with a single product, we could
+argue that rent does not enter into marginal costs at all. For we
+could regard the marginal producer as the one working on a marginal
+farm, whereas we have seen there is no pure rent. The rent which other
+producers have to pay would thus represent merely the destination of
+the surplus profits which arise wherever actual costs fall short of
+marginal costs. This way of looking at the matter has proved
+attractive to some thinkers, not in the least because of a desire to
+palliate the effects of landlordism, but because it fits in so well
+with our general sense of rent as a "surplus," and a surplus as
+something distinct from a necessary price. But it is clearly
+illegitimate in an economic theory which professes "to describe the
+facts." The marginal land for many purposes fetches, as we have seen,
+a considerable rent; and this rent is certainly part of the marginal
+costs and of the necessary price of the products of the particular
+industry. The answer to our question is, however, not now very
+difficult to see. Land, greatly as it differs in many respects from
+the other agents of production, resembles them in the very important
+respect that, being used for one purpose, it is not available for
+other purposes, and that the productive powers of the community in
+other directions are thereby diminished. This is the real cost to the
+community, which attaches to the products of any industry, in virtue
+of the land which it occupies; not any human labors or sacrifices
+required to produce the land itself, but the curtailment of the
+natural resources available for productive use elsewhere. This is the
+real cost of which rent is the money measure, and generally speaking
+an accurate measure at the margin of transference between one
+occupation and another. A somewhat fanciful use of the term cost, this
+may seem perhaps, one not quite in accordance with our instinctive
+sense of what real costs should be. But possibly the real costs
+represented by wages and profits may turn out to be not so very
+different, and we had best leave the matter there, until we have
+examined the nature of these other costs.
+
+
+Sec.7. _Rent and Selling Price_. In this chapter we have spoken mainly of
+the rent rather than the price of land: the relation between the two
+things is fairly obvious and well understood, but it will be well not
+to close the chapter without a brief account of it. The price of any
+piece of land is affected by all the considerations on which its rent
+depends, but it is also affected by another factor which has no
+influence whatever upon rent. This factor is the rate of
+interest. The higher the rate of interest, the higher the return which
+a man could obtain by buying gilt-edged securities, the lower will be
+the price that he will pay for a piece of land which yields a given
+rent. We can express the relation more precisely by the formula Price
+= (Rent * 100)/(Rate of Interest), though we must be careful, in
+applying this formula in practice to allow for the possible deviations
+between the nominal and the true rent, and similar complications. The
+price, it must be observed, is derived in this way from the rent, not
+the rent from the price.[1] Rent is thus logically the simpler, price
+the more complex thing. It is well, therefore, to analyze in the
+first instance the principles of rent, if we live in a country where
+the practice of leasing land for annual rent is less common than it is
+in Great Britain, even if, for whatever reason, it is the price of
+land with which we are concerned in practice. The problem of price
+contains two distinct elements which it is not easy to handle when
+mixed up together. For the rate of interest represents in itself an
+important branch of economics, which will require a separate chapter
+to itself.
+
+[Footnote 1: In this the rent of land differs fundamentally from that
+of other things, such as houses. For the price of a house is largely
+influenced by the costs of construction of new houses, and should
+correspond closely to them in the long run. The same relation between
+rent, price and rate of interest will hold good; but the rents will be
+affected by changes in the rate of interest, owing to the reactions of
+such changes on the supply of houses.]
+
+
+
+CHAPTER VII
+
+RISK-BEARING AND ENTERPRISE
+
+
+Sec.1. _Profits and Earnings of Management_. The profits of a business,
+as they are ordinarily reckoned, whether for the purposes of income
+tax or of a balance sheet, comprise several elements which are
+fundamentally distinct. The relative importance of these various
+elements varies greatly from one type of business to another. The
+profits of a private business include, for instance, the remuneration
+of the work of management, which in the case of a Joint Stock Company
+is mostly paid for by salaries or directors' fees. It is to their
+profit that farmers, small shopkeepers, and the partners of a private
+firm look not merely for a return upon their capital, but for the
+reward of their own labors. "Earnings of Management," as they are
+usually termed (though in truth they often cover other and humbler
+forms of labor) are thus frequently one of the ingredients of profits.
+
+
+Sec.2. _The Payment for Risk-bearing_. There is another element of great
+importance about which our ordinary ideas are apt to be so vague that
+it will be well to devote a chapter to its examination. This is the
+element of payment for risk, or rather the reward of risk-bearing.
+Risk is inherent in all business, as it is inherent in all life. The
+vagaries of nature and the vagaries of man are alike responsible. The
+farmer may find his harvest ruined by a drought or by a deluge; the
+coal or the gold, for the extraction of which you have perhaps set up
+an extensive mining plant, may come to an end which is unexpectedly
+abrupt. You may put your money into roller-skating rinks and find that
+cinemas have become the rage with the fickle public; sometimes "the
+market" may decline for causes which remain obscure but with
+consequences which are disagreeably plain. But while risk is always
+present in some degree, the degree varies enormously from one industry
+to another. Now, it is obvious enough that in an exceptionally risky
+industry, where there is a considerable possibility that the capital
+invested will yield no return at all, the profits of those concerns
+which succeed are likely to exceed the rate of interest on gilt-edged
+securities. But what is likely to be the magnitude of this excess? Is
+risk-taking rewarded if there is any such excess, however small? Or
+will it suffice that the gains and losses should average out to a fair
+rate of interest over the whole industry? To enable us to think
+closely let us suppose for a moment that we can measure accurately
+what the chances are.
+
+Suppose, then, that there were a precisely equal chance of success on
+the one hand and failure on the other in any enterprise, failure
+involving a complete loss of all the capital invested. Suppose,
+further, 6 per cent to be at the time a fair return on a perfectly
+secure investment. What would be the return which must be expected
+from the risky enterprise, in the event of its succeeding, before it
+will be undertaken? The reader may be tempted to answer, 12 per cent.
+But 12 per cent would not suffice. An equal chance of 12 per cent or
+nothing, as compared with a certainty of 6 per cent, does not mean
+that the risk in the former case is paid for to the tune of 6 per
+cent. It means that it is not paid for at all. In each case what a
+mathematician would call the _expectation_ is a return of 6 per
+cent. The odds are evenly balanced; in the long run, over a large
+number of cases, if the law of averages works as we assume it does,
+you would get just as much from the one type of investment as the
+other. Now, risky enterprises will not, as a rule, be undertaken on
+terms like these; investors and business men will not take risks with
+the odds precisely equal; they must have them, or believe that they
+have them, in their favor.
+
+
+Sec.3. _Monte Carlo and Insurance_. To assert this is not to ignore the
+strength of the appeal which the gambling instinct makes to many, if
+not to most of us. The taste for gambling is, indeed, so deep and
+widespread that it would be foolish to leave it out of account in this
+connection. It is clear enough that at places like Monte Carlo people
+are prepared to have the odds unmistakably against them, apparently
+for the sheer pleasure and exhilaration of taking risks. Moreover,
+though for most people play at Monte Carlo represents a mere holiday
+indulgence, it would be unsafe to assume that what appeals to them
+there will not also appeal to them in their business affairs. But what
+exactly is the secret of the charm of Monte Carlo? It is the great
+attractive force of a small chance of a large gain, as compared with
+the deterrent force of a large chance of a small loss. People will
+readily pay $5 for one chance in a hundred of making no more, perhaps,
+than $400 or $450. And it is very likely that this holds good in the
+world of business. If, for example, we were to suppose that the
+promoters of a new enterprise were confronted with one chance in fifty
+of a profit of 50 per cent per annum on their capital, as against
+forty-nine chances of a profit of 5 per cent, this might well prove a
+more attractive prospect than a certain return of 6 per cent, although
+the strict _expectation_ of profit would be smaller in the former
+case. But the risks of business enterprise are not often of this
+type. They conform more usually to the opposite type of a large chance
+of a relatively small gain, balanced by a small chance of serious loss
+or entire failure. Now for almost everyone the possibility of a great
+loss will count as a deterrent (just as the possibility of a great
+gain may count as an attraction) for much more than its strict
+actuarial value.
+
+The truth of this proposition is demonstrated by the existence of
+institutions more impressive than Monte Carlo--the Insurance
+Companies, which play so large a part in the economic life of modern
+times. Every year, and upon an ever-growing scale, both private
+individuals and business concerns pay sums of money, which reach in
+the aggregate a colossal sum, as premiums to insure themselves against
+loss by Fire, Shipwreck, Burglary, Death, Death Duties, against every
+risk which Insurance Companies will cover. Now Insurance Companies
+are not, as we say, in business for their health. They find their
+business profitable, and pay good dividends to their shareholders.
+Moreover, they incur a considerable expenditure on offices, on
+clerical staff, on agents, and the like. All these payments must be
+defrayed out of the premiums they receive; so that it is plain that
+the premiums greatly exceed the _expectation_ of the risks insured.
+The odds are heavily in favor of the Insurance Company--of that the
+stupidest person can have no shadow of doubt. Yet we continue to
+insure, as private individuals and as business men, and so far from
+being ashamed of our proceedings as a weak and nerveless folly, which
+somehow we are unable to resist, we blazon them forth in the strong
+accents of conscious pride. We preach insurance to our neighbors as
+the core of self-regarding duty, and, if ever we feel a twinge of
+uneasiness, it is lest we, too, may have omitted in some particular to
+practice what we preach.
+
+The significance of this is unmistakable. Be our psychology what it
+may, however deep and irrepressible our taste for derring-do, however
+inadequate the scope which the dull routine of modern life affords for
+our adventurous impulses, we are most of us anxious to avoid the risk
+of great financial loss. We are very glad to find someone to take it
+off our shoulders if we can; so glad that we are prepared to pay him
+for the service, to pay him a sum which covers not only the actuarial
+equivalent of the risk, but something substantial over and above. In
+this we are entirely rational. Our conduct is justified by the law of
+the diminishing utility of money, which was noted at the end of
+Chapter III. It would be plainly foolish, for instance, to substitute
+for the certainty of an income of $2500 per annum an even chance of
+$5000 or nothing, since the utility to us of $5000 is not twice as
+great as that of $2500.
+
+The majority of business risks are not of a kind against which it is
+possible to insure. Insurance companies confine themselves to risks
+which are mainly a matter of what we call objective rather than
+subjective chance, i.e. risks in respect of which knowledge of
+detailed facts peculiar to the individual case is of minor
+importance. But such knowledge is of paramount importance in the case
+of ordinary business risks. If, for example, a new enterprise is to be
+undertaken, the special knowledge and experience which its promoters
+possess is a vital factor in determining their estimate of the risk
+involved. An outsider with no special knowledge would necessarily
+require to estimate the risk far more highly if we were to form a
+rational opinion on the basis of _his_ knowledge. So great, indeed,
+would be the risk to him, that we can lay it down as a sound maxim
+that people are extremely rash who invest their money in risky
+undertakings about which they know very little. This subjective aspect
+of business risk has a significance to which it will be necessary to
+revert.
+
+But, though most business risks are not and cannot be a matter for
+premiums and policies, the principle, which the practice of insurance
+illustrates, applies none the less. In the light of their knowledge
+and experience, the promoters of a new undertaking must weigh up the
+chances of failure and success, though they will not do so by the
+precise methods of an actuary. They will require that any chances of
+serious loss should be balanced by such chances of exceptional gain,
+as would raise the _expectation_ of profit well above the normal
+return on secure investments. The more risky the project seems the
+greater, generally speaking, must be the _expectation_ of profit
+required to induce people to undertake it.
+
+If we suppose business men to calculate reasonably, it follows that
+the average profits in any industry over a long period of years,
+reckoning in the losses of the concerns which disappear altogether,
+are likely to be higher, the more risky is the industry. Such a result
+will not, of course, occur in every case. Even when the calculations
+are reasonable, they may be entirely falsified by the event. Moreover,
+business men may not calculate reasonably on the information which
+they have. But, unless we suppose their judgment to be subject to a
+prevailing bias in one direction, i.e. to be unduly optimistic as a
+general rule, _we_ should expect, and in any case _they_ must expect,
+profits above the ordinary in a risky industry.
+
+This conclusion is sufficiently important. Far too many people, though
+they admit it when it is expressly stated and dismiss it even as a
+tiresome commonplace, are apt to neglect it when the occasion for
+applying it arises. For example, the great importance to any industry
+of good management is generally recognized, and the consequent
+desirability of paying adequate salaries to the managerial staff. The
+importance of securing a supply of capital is very widely recognized,
+and the practical necessity of paying a fair rate of interest is thus,
+however grudgingly, conceded. But the "residuary profits," as they
+are called, which accrue at present to the owners of a business, are
+denounced in some quarters in a sweeping fashion, which seems to
+ignore altogether the all-pervading element of risk. People speak as
+though you might appropriately limit profits in every industry to some
+uniform percentage on the capital employed, without making it clear
+whether you would even be allowed to make up in good years for the
+losses incurred in bad. The effect of introducing any such crude
+device into our present industrial system could only be to paralyze
+enterprises of an unusually risky kind, which, so far from being
+pushed to an excess at present, are more probably curtailed unduly
+from the standpoint of what is socially desirable. Like the fixing of
+a low maximum price for a commodity it would cause the supply to
+wither up and disappear.
+
+
+Sec.4. _Risk under Large-scale Organization_. While this is true of the
+present economic system, the question is worth considering whether it
+represents a fundamental necessity, whether, for instance, under our
+world socialist commonwealth the factor of risk-bearing need play so
+important a part as it does in the actual business world. This
+question cannot be answered with a conclusive simplicity; opposing
+considerations present themselves, between which it is not easy to
+strike a balance. On the one hand, in accordance with the law of
+averages gains and losses tend to cancel out over a large series of
+transactions, _when reasonable calculations have been made_. Thus
+Insurance Companies, while they take heavy risks off the shoulders of
+policy-holders, incur relatively trifling risks themselves; they can
+predict the aggregate sums which they will be called upon to pay
+within a small margin of error. In the same way it might seem that
+every enlargement of the scale of business would make for an automatic
+insurance and a consequent economy of risk; and thus that if all
+businesses were comprised in a single financial unit, gains and losses
+would cancel out over so wide a range that the degree of risk
+remaining would be almost negligible.
+
+This might indeed happen, if business risks were mainly of that
+objective kind in which the insurance companies specialize; for then
+we could assume that the chances of success or failure would be
+estimated reasonably. But, in fact, most business risks, not being of
+this kind, must be estimated by processes of human judgment, which are
+very fallible. And here we must take account of the law of averages in
+another aspect, with a different bearing on the argument. When an
+industry comprises a large number of separate concerns, and the
+decisions accordingly are taken by many men, acting independently of
+one another, the errors of calculation will tend to some extent to
+cancel one another out. The undue optimism of one man will be balanced
+by the undue pessimism of another; and, if there is no prevailing bias
+in either direction, the errors of judgment will not affect the
+results for the industry as a whole. But where the effective decisions
+are taken by very few men, the chances are far greater of a
+preponderating balance of error in one direction. The risks dependent
+on the factor of human judgment tend therefore to increase.
+
+This truth can be illustrated by a phenomenon which is fairly
+familiar. It is recognized by intelligent persons that the risks of
+speculation in a particular commodity market or stock market increase
+more than proportionately to the scale of operations. A man who sets
+out as a "bull" upon a small scale can buy without sending up the
+price against him in the process, and, if he decides later that his
+judgment is mistaken, he can at any time cut his losses and sell out
+without much difficulty. But a "bull" on a very large scale cannot
+complete his purchases except at a price which has been raised in
+consequence of his own action, and he cannot count on being able to
+"unload" at or near the market price, should he decide to do so. If,
+accordingly, he miscalculates, he cannot save himself from serious
+loss as a smaller man might do by a prompt discovery of his error. His
+difficulties spring from the fundamental fact that the effects of his
+calculations are too great to be offset by those of the different, and
+often opposite, calculations of other men.
+
+Upon the issue whether a growth in the size of the business unit is
+likely to diminish risk, the law of averages thus cuts both ways. The
+risks arising from the element of pure chance are more likely, those
+arising from miscalculation are less likely, to cancel out. Upon
+these grounds alone, it would be unsafe to conclude that there would
+be on balance an economy of risk under any system of national or world
+socialism.
+
+
+Sec.5. _The Entrepreneur_. There remains, however, an aspect of the
+problem which is perhaps more important than those discussed above. It
+is probable that risks would be estimated and undertaken more wisely
+or less wisely under a different system of society or of industrial
+organization? Upon this issue, methods of precise analysis are out of
+place, but we may have something to learn from the emphatic testimony
+of tradition. It has become an axiom of business men that, while
+Governments can manage with more or less competence a safe and routine
+business like a Postal Service, their success would be unlikely to
+prove conspicuous in undertakings where the element of risk is
+great. There, it is said, we owe everything in the past to the
+enterprise of individual men (for even joint-stock companies have not
+been notable as pioneers) adventuring their own fortunes in accordance
+with their own unfettered judgment. This contention, however much we
+may desire to qualify it, has unquestionably a large measure of truth,
+and the explanation is not difficult to discover. For the wise taking
+of risks in industrial development of an experimental character,
+peculiar conditions and special qualities are required. First, it is
+necessary to envisage distinctly the promising though risky
+opportunity, and this calls not infrequently for imagination of a none
+too common order. Then it must be studied with insight and expert
+knowledge and weighed by processes which are as much intuitive as
+intellectual. The reasons for or against taking a particular business
+risk are seldom such as can adequately be expressed in terms of
+arithmetic, or even by clear arguments the soundness of which is
+proportioned to their logical cogency. The mysterious faculty of
+judgment enters in; and from mental processes which defy analysis
+there emerge ultimately conviction and the will to act. But it is
+precisely here that Government Departments are apt to fail. It is here
+that the individual, who need consult no one but himself, has a pull
+over any form of organization, where decisions are reached by the
+method of debate and agreement among a heterogeneous committee. Hence
+it is that we have come to regard exceptional risk-taking as the
+peculiar province of individual enterprise. It is probable that these
+deficiencies of corporate organization are tending to diminish, and it
+is an interesting question how far it may be found possible to
+eliminate them in the future.
+
+Meanwhile the above considerations have an important bearing on the
+rewards which can often be obtained from risky enterprises. The number
+of individuals who are in a position to envisage a business
+opportunity, and to assess with some confidence the chances of success
+and failure is very limited. Not only must they possess special
+knowledge, ability, imagination, confidence in their own judgment, and
+the capacity to act on it; they must also have at their disposal
+considerable financial resources. To combine all these advantages
+represents a union of circumstances which is distinctly rare. The
+fortunate few, who do combine them, are thus generally able to extract
+in the form of profits a high price for their services, a price which
+covers not only the strict reward of risk-bearing, and the necessary
+remuneration of their own service, but a handsome payment for the
+special qualities and advantages which have been indicated. Profits,
+moreover, may vary between one industry and another, not only in
+accordance with the real risk which is entailed, but with the degree
+to which the supply of special knowledge, etc., is scarce or abundant.
+
+This consideration goes a long way to explain the large fortunes which
+enterprising business men are often able to amass. It also throws some
+much-needed light upon the functions which such men discharge. They
+perform to a large extent the work of management; they supply capital
+on what may be a considerable scale; but it is the taking of business
+risk which is perhaps their most characteristic function. It is the
+union of these functions which distinguishes them as an essentially
+different type from the salaried manager who has invested his savings
+in rubber or in oil. In other languages there is a specific name for
+the man who combines all these three functions; in French he is called
+an "entrepreneur," in German an "Unternehmer." It is much to be
+regretted that in English we have no clear corresponding word. The
+word "capitalist" is not uncommonly employed to do duty in this
+connection, but this is a source of much confusion. For the word is
+also used, and more appropriately, to include all investors, whether
+or not they are active business men.
+
+
+Sec.6. _Risk-taking and Control_. But there is an allied confusion of
+more importance. We commonly suppose it to be a leading feature of our
+present "capitalist system" that the control of industry rests in the
+hands of those who supply the capital. Nor, as a general statement, is
+this untrue. But it conceals the essential point. Strictly speaking,
+it is risk-taking with which control is associated. The mere lending
+of money carries with it no title to control. Governments and
+municipalities concede no such title to the subscribers to their
+loans; nor does a company to its debenture holders. The shareholders'
+ultimate control is based upon the fact that they bear the financial
+risks of the concern. Nor is this a matter of mere legal form. It is
+not uncommon for ordinary shares to carry with them a greater voting
+power than the preference shares of a corresponding value. The
+principle which such arrangements endeavor to express is clear:
+control should rest with him who bears the risk. It is with this
+principle rather than with a mulish insistence on the rights of
+property, that advocates of "workers' control" and the like have got
+to reckon. It is upon this ground that (as they may quite conceivably
+do) they must make good their case.
+
+
+Sec.7. _General Analysis of Profits_. Let us conclude this chapter by
+clearing the ground for the next. Earnings of management, payments for
+risk-taking and for the special knowledge and advantages associated
+with it, are ingredients of the gross profits of a business. The chief
+element that remains is that of interest on capital. Frequently,
+indeed, it is not the only one. As we saw in the last chapter, a
+farmer may not be required by his landlord to pay the full economic
+rent for his farm; and he may therefore make profits above the normal
+level, above the ordinary return for his own services, his own capital
+expenditure, and the risks to which he is necessarily exposed. In such
+a case the farmer is really the recipient, as we have already
+suggested, of part of the economic rent of the land; and an element of
+rent accordingly enters into his gross profits. But profits may
+include a surplus element which may arise in a great variety of other
+ways. A business may possess some decided advantage which is not open
+to competitors; and it may reap high profits accordingly. You can,
+for instance, if you choose, regard the high money profits, which, as
+was suggested in Chapter IV, are likely to accrue in future to the
+owners of pre-war factories, as a surplus profit of this kind. But
+while, as this illustration indicates, the phenomenon of surplus
+profits becomes of very great importance when we seek to study the
+distribution of wealth, it need not detain us here. For the surplus
+element arises only in so far as the costs of a business are lower
+than the marginal costs; and it is the marginal costs, which, with
+good reason, we are now endeavoring to analyze. The marginal costs
+must include a normal profit, i.e. a profit which will cover earnings
+of management, the reward of risk and enterprise, interest on capital,
+but nothing further. It remains, then, only to consider this last
+element of interest.
+
+
+
+CHAPTER VIII
+
+CAPITAL
+
+
+Sec.1. _A Reference to Marx_. Interest is the price paid simply for the
+use of capital. But what is capital, and in what does its use consist?
+What claim has it to be regarded as an independent factor of
+production? Our very familiarity with the term, our habit of employing
+it with the rich looseness of every-day life is an obstacle to the
+clearness of thought, which is again essential. We recognize, most of
+us, clearly enough that capital, although we reckon it in terms of
+money, consists, like income, of real things; factories, machinery,
+materials and the like. It is quite obvious that these things are of
+use, are, indeed, indispensable for production; what more natural than
+that capital should command a price? It almost seems as though we
+might pass, without further ado, to a detailed discussion of the
+forces which determine the amount of this price.
+
+But this account does not bring out the essential point as brief
+reference to a very famous controversy will show. Some ingenious
+writers in the last century, the most notable of whom was Karl Marx,
+set out to prove that, in our modern society, workpeople are
+"exploited," robbed of the "whole produce of their labor," to the full
+extent of the return which accrues to capital. The argument was
+exceedingly complex in detail; but it boils down to this: The
+factories and machinery which are admittedly essential to production
+were themselves produced in exactly the same way as consumable
+goods. They were produced by labor, working with the assistance of
+nature, and, again, if you choose, of capital in the form of further
+factories, machinery, etc. But these further capital goods can in
+their turn be regarded as the product of labor, nature and capital;
+and so we can proceed until it seems as though the element of capital
+must disappear in the last analysis, as though labor and nature were
+the sole ultimate agents of production, and the reward of capital
+represented no more than the exercise of the exploiter's power. In one
+form or another this argument still dominates the minds of a large
+proportion of the so-called "rebels" against the existing social
+order.
+
+If we are to meet this argument, if, which is perhaps more important,
+we are to understand the true nature of capital, we cannot rest
+content with saying that it consists of factories and machinery, and
+that these are essential to the worker. Just as it was well to get
+behind the money terms, in which we often think of capital, to the
+real goods; so we have now to get behind the real goods to something
+else. What this something else is, the first chapter may have already
+done something to reveal.
+
+
+Sec.2. _Waiting for Production_. Between production and consumption there
+is an interval of time. All productive processes take time to
+accomplish. The farmer must plow the soil and sow the seed months
+before he can reap the harvest which will reward him for his
+efforts. Meanwhile, he must live, and in order that he may live he
+must consume. If he employs laborers he must pay them wages, that they
+too may consume and live. For both purposes he requires purchasing
+power, which represents of course command over real things; and if he
+has not sufficient purchasing power of his own, he must borrow from
+someone else who has. In either case it is not enough that the farmer
+and his laborers should work; no less essential is it that someone
+should _wait_. The farmer must wait till he has sold his crops, both
+for the reward of his own labor and for the repayment of the wages he
+advances in the meantime to his laborers. Or, if he cannot afford to
+wait, and borrows in anticipation of the harvest, then the lender must
+wait, until the farmer, having sold his crop, is able to repay
+him. Thus the period of time involved in all production gives rise to
+a demand for _waiting_, which someone or other must supply, if the
+production is to take place. It is this waiting which is the essential
+reality underlying the phenomena of capital and interest. It is really
+this which constitutes an independent factor of production, distinct
+from labor and nature, and equally necessary.
+
+
+Sec.3. _Waiting for Consumption_. But let us carry the argument a step
+further. After the farmer has sold his crops, there are many stages
+through which they must pass, at each of which more waiting is
+required, before they reach the ultimate consumer. But then the
+waiting is at an end.
+
+This, however, is by no means the case with a great number of
+commodities. Let us take the case of a speculative builder. While he
+is building a house he, like the farmer, must wait (or find someone to
+wait on his behalf), for his own reward, and for the repayment of his
+expenditure on wages and materials. But, after the house is built, if
+he lets it to a tenant for an annual rent, his waiting is far from
+over. Not until many years have passed will the rent payments add up
+to a sum which equals or exceeds his outlay. He may, of course, sell
+the house, and thus bring his waiting to an end. But then the
+purchaser must wait, no matter whether or not he is the occupier. For
+no one would consider the use of a house for a day, a month, or a year
+as an adequate return for the price it cost to buy. The occupier-owner
+pays for the prospect of its use for a long and perhaps indefinite
+number of years ahead, and he must wait to enjoy the benefits for
+which he pays now in full. Waiting is as inherent in the consumption
+of durable things as it is in all production.
+
+Now most industries are consumers of durable things of a very
+expensive kind. Here we come back to the factories and machinery which
+ordinarily spring to our mind at the mention of the word capital. Not
+merely does the construction of these things involve waiting; their
+consumption involves waiting on a vastly larger scale. Just as with a
+house, many years must elapse before their derived utility can even
+approximate to their purchase price. It is mainly to supply the
+waiting involved in the consumption of such durable goods, that a
+typical joint-stock company issues shares for public subscription. The
+waiting required to cover the period of time, which its own productive
+process requires, is largely supplied by means of bank overdrafts or
+other forms of short-period borrowing. More strictly, fixed capital
+represents the waiting involved in the consumption of durable things;
+circulating capital the waiting involved in current production.
+
+This distinction loses its sharpness when we consider not the affairs
+of a particular business, but the industrial system as a whole. Then
+the period of time involved in the consumption of durable instruments
+falls into place as part of the time required for the production of
+the ultimate consumers' goods. We can even, perhaps, conceive of an
+"average period of production" for industry and commerce as a whole;
+and this conception is not without its uses. For it serves to bring
+out the fact that the period of consumption, and the period of
+production in the narrower sense, are only two aspects of the same
+fundamental thing, the interval of time which elapses between work and
+the utility, which is its ultimate purpose. It serves, moreover, to
+make clear that anything which lengthens this interval of time
+increases the demand for waiting, or in other words, the demand for
+capital; and, conversely, that anything which shortens this interval
+diminishes the demand for capital.
+
+
+Sec.4. _Capital not a Stock of Consumable Goods_. But the distinction
+between the two forms of waiting, though not fundamental, is none the
+less worth noting. It enables us to keep our theory in conformity
+with fact, to look at the phenomenon of capital the right way up; and
+it is easy, if we are not careful, to slip into the habit of looking
+at it upside down. People sometimes speak as though the commodities
+which constitute our capital, instead of being mainly, as our plain
+sense tells us that they are, factories, machinery and other durable
+instruments, were rather a _store_ or _stock_ of immediately
+consumable goods. The argument takes the following form. It is
+consumers' goods, things like food and clothes, which the farmer, the
+builder and their workpeople consume while they are working. To enable
+them to work, therefore, it is vital that such things should not in
+the past have been consumed as soon as they were made; part of them
+must have been saved, and carried forward for future use.
+Furthermore, the longer the time that the work on which people are now
+engaged takes to yield its product, the larger must be this store of
+consumers' goods. For these products, when they are completed, will
+serve (taking society as a whole) to replace the store which in the
+meantime is being used up, so that the longer this replacement takes,
+the larger must be the initial store. Conversely, the larger the
+store of consumers' goods available, the more distant is the future
+for which we can afford to work. It is thus the store or stock of
+consumers' goods which represents our real capital; for it is the
+magnitude of this store which determines how far we can devote our
+energies to purposes which are remote in time.
+
+Now this is pure mysticism. Regarded literally, it is in direct
+conflict with the facts. The processes of industry are fairly regular
+and continuous. At any moment, large quantities of consumers' goods of
+almost every kind are on the point of completion; at the same moment
+equally large quantities are consumed. The things which we buy were
+finished, very likely, only recently; or, if in fact they have lain
+idle for some time in stock, there is nothing essential or at all
+helpful in that fact. It represents rather a defect--a maladjustment
+which should be rectified. Even many kinds of agricultural produce do
+not need to be carried forward from one year to another, for they are
+produced in many parts of the world, where the seasons come at
+different periods of the year. It is conceivable, therefore, that we
+might consume all non-durable things the moment they were ready, and
+the degree to which we approximate to this ideal is a mark of the
+efficiency of our economic system. A large store of consumable goods
+is thus _not_ a fundamental necessity of a prosperous society.
+
+What _is_ necessary is plainly the power to produce these things in
+large quantities as they are required. And this power is furnished by
+the durable instruments of production, which we thus rightly regard as
+the true representatives of modern capital. If it is argued that this
+power to produce consumable goods may be regarded as being _in effect_
+a store of consumable goods, it must be sternly replied that this is
+the language of symbolism, not of science, and that symbolism is
+highly dangerous in this connection. The false conception of capital
+as essentially a store of consumers' goods has led and still leads to
+many serious fallacies. It was this that gave rise to the notorious
+doctrine of the Wages Fund; the notion that the sum which can at any
+time be paid in wages is equal to the quantity of capital, _alias_
+consumable goods, which happens to exist. To this day it blocks, with
+an undergrowth of obscurantist controversies, the way to a
+straightforward account of the problem of trade cycles.
+
+
+Sec.5. _The Essence of Waiting_. But it is with positive conclusions that
+we must here concern ourselves. What is the essence of this waiting,
+as we have called it? What are its results from the point of view of
+the community? The individual, who saves and lends, waits in the
+obvious sense that he postpones consumption. He foregoes his right to
+purchase now a quantity of consumers' goods in consideration of the
+prospect of purchasing a larger quantity of such things in the
+future. From the standpoint of the whole community, there is a similar
+postponement of consumption, though it need not commence so soon. The
+store of consumable goods is what it is: the quantity of goods in
+_process_ of manufacture, which will shortly be coming forward, is
+also what it is. For some time, therefore, a sudden access of saving
+cannot affect the quantity of goods available for consumption; and if,
+in fact, they should be consumed less rapidly, that will represent an
+unfortunate defect, not an essential condition of a smoothly working
+system. The _necessary_ consequence comes later. The increased saving
+will cause labor, materials, land, agents of production generally, to
+be devoted to distant purposes. Men will be set to work producing
+durable goods, largely durable instruments of production like ships or
+railways or factories or plant. If the increased saving is
+considerable, the labor, materials, etc., required for these purposes
+will be withdrawn even under our present system, as under a smoothly
+working system they clearly must be, from the production of other and
+more immediately consumable things. Hence, some time later, the
+supplies of consumable things will be diminished, while at a later
+period still they will be more than correspondingly increased as the
+result of the assistance of the new durable instruments. That is the
+essence of saving from the social standpoint. An early future is
+sacrificed to a more remote future. The aggregate consumable income of
+the present is unaffected; the aggregate consumable income of the near
+future is actually diminished; it is not until at least some years
+later that the aggregate consumable income is increased.
+
+
+Sec.6. _Individual and Social Saving_. This conclusion is important: but
+there is an obvious misinterpretation against which it will be well to
+guard. It is customary for social moralists to preach thrift and
+saving as a public duty, and to impart to their appeals a special note
+of urgency in times like the present, when, as the result of the havoc
+of the war, destitution is widespread over Europe. Now obviously these
+advisers do not mean to recommend something which will impoverish the
+world next year and the year after and the benefit of which will
+accrue only in a distant future: it is the immediate urgency of the
+world's needs which is rather the substance of their case. Nor would
+it be right to conclude that these wise men are the victims of a
+delusion, and advocate a course, the consequence of which they do not
+understand. The explanation of the paradox is simple. The more the
+community as a whole saves now, the less in the near future will be
+the aggregate consumable income of the whole community: but not of the
+_remainder_ of the community, exclusive of the savers. It is the saver
+who must wait, whose consumption must be postponed to perhaps a
+distant future; but _at no time_ does his saving result in a smaller
+income of consumable goods for other people. The aggregate consumable
+income of the near future will be diminished, but it may be better
+distributed, and it may consist of things of a different _kind_. For
+consumers' goods, we must remember, comprise champagne and motor cars
+as well as food and clothes; and, if a rich man saves, it may be
+purely articles of luxury, the production of which will shortly be
+diminished. Moreover, if his saving has the effect of transferring
+purchasing power to impoverished people, like those in Central Europe,
+it will not be devoted to a distant future; it will very likely be
+devoted to quite immediate ends. In other words, it may not result in
+any "creation of capital"; it may not represent any saving on the part
+of the community as a whole. A relatively rich man waits, and a
+relatively poor man _anticipates_ his income to a corresponding
+extent; and it is precisely this that is so urgently desirable in a
+time of widespread poverty and chaos.
+
+This is no matter of hair-splitting, and making plain things
+obscure. While it is always better for the _rest_ of us that an
+individual, who can afford to save, should save rather than spend
+(though it might be better for us still if we could have his money to
+spend ourselves) and while this is the more important the greater is
+the poverty which generally prevails; yet, as a community we cannot
+save so much, we _ought_ not to save so much, when we are impoverished
+as when we are prosperous. It is vital to appreciate this truth,
+because, as we shall see, by no means all the saving of the world is
+done by individuals. There are many forms of "collective saving,"
+which take place in actual fact; still more which we are often urged
+to undertake. And it is of practical importance to realize that the
+very considerations, which call most urgently for individual thrift,
+forbid a great indulgence in such projects. A time of national poverty
+is not a time when it is suitable for the State to embark on large
+schemes of capital development: we require our resources for more
+immediate ends. Faced with such problems, our practical sense may no
+doubt suffice to keep us straight; but it is apt to do so at the
+expense of a complete inversion of the real issues. If, for instance,
+we call for Governmental retrenchment on what we deem extravagant
+policies of housing and education, we usually speak as though they
+represented the profligacy of a spendthrift as contrasted with the
+saving that is indispensable. The truth is rather that these policies
+represent a saving, an investment for future purposes, which may
+conceivably be greater (this must not be taken as representing my
+personal opinion) than the community can properly afford. This is
+another instance of what I mean by looking at the problem of capital
+the right way up.
+
+
+Sec.7. _The Necessity of Interest_. It is only now that we are in a
+position to appreciate the true functions of a rate of interest, and
+the nature of its claims to be regarded as a "real cost." Interest, it
+is sometimes said, is necessary to provide for the future. It is far
+more certain that interest is necessary to provide for the present. It
+is a matter of legitimate doubt how far it is necessary to _pay_
+interest to secure a supply of capital; there is no doubt at all that
+it is necessary to _charge_ interest to limit the demand for it. As we
+saw in Chapter I, a world socialist commonwealth would require to
+retain a rate of interest, if only as a matter of bookkeeping, in
+order to choose between the various capital undertakings that were
+technically possible. And this is the primary function which the fate
+of interest fulfils in our present-day society. It separates the sheep
+from the goats. It serves as a screen, by means of which capital
+projects are sifted, and through which only those are allowed to pass
+which will benefit the future in a high degree. For this essential
+purpose it is hard to imagine how a better instrument could be
+devised.
+
+
+Sec.8. _The Supply of Capital_. Let us dwell for a moment on this image
+of a screen, or sieve. One condition of a good sieve is that its
+meshes should all be of the same size. This condition the rate of
+interest almost perfectly fulfils. But it is also important that the
+meshes should be of the _right_ size. Whether this is true of the
+actual rate of interest is a far more doubtful matter. It is, indeed,
+plain that it is not altogether devoid of merit in this respect. In
+times of general world poverty, like those which follow upon a great
+war, it is desirable, as has been argued, that more of our productive
+resources should be devoted to immediately useful purposes, and a
+smaller portion dedicated to a distant future. This readjustment the
+rate of interest helps to bring about. For it rises to a higher
+level, and there is accordingly a strong inducement to all
+manufacturers and traders to economize their use of capital, and thus
+to set free productive resources for more urgent needs. But, while the
+meshes of the sieve, as it were, contract in times when it is
+desirable that they should contract, we have no reason for supposing
+that they will contract in just the degree that is desired, neither
+more nor less; or, indeed, that at any time they approximate to the
+right size. We in the twentieth century owe much of the material
+wealth that we enjoy to the fact that over the last century men saved
+as largely as they did. But our natural gratitude should not restrain
+us from doubting whether they were really well advised to do so. If we
+ask the question _how_ they managed to do so, our doubts are
+deepened. For first place among the explanations must be assigned to
+the inequality in the then distribution of wealth. It was because many
+men in England were rich enough to save that our railways were built,
+and the resources of new Continents were opened up. But England, a
+century or even half a century ago, was not really a rich
+community. And if the national income in those days had been
+distributed more evenly among the people, can we doubt that they would
+have spent a far larger proportion of it on immediate needs; can we
+doubt that they would have been right to do so? We may rather doubt,
+in view of the reactions of poverty on physical and mental efficiency,
+on social harmony, even possibly on population, whether we to-day
+would have been really injured as much as might appear. How, then, can
+we suppose that the sum of the amounts which it suits individuals to
+save will bear any close relation to the resources which the community
+can properly devote to future ends? Are we to regard an unjust
+distribution of wealth as a mysterious dispensation of Providence for
+securing perfect harmony between the future and the present? The
+point need not be labored further. There are no grounds for assuming
+that we save, as a community, even roughly what we ought to save. If
+we wish to believe we do, we must turn for support from economics to
+theology.
+
+It is important to be clear upon this issue in order to distinguish it
+from another, with which it sometimes seems to be confused. This is
+the question, briefly outlined in Chapter II, of the effect of changes
+in the rate of interest on the supply of capital. As was there
+indicated, there are good reasons for supposing that a fall in the
+rate of interest would induce some people to save more, and
+conversely. But the balance of probability is in favor of the
+conclusion that the _net_ effect of changes in the rate of interest,
+though perhaps slight, is usually of the more ordinary kind. The
+decisive argument in this connection is the fact, upon which we have
+just touched, that savings are supplied largely by people who are
+relatively rich, and who become richer when the rate of interest
+rises. For at this point it is necessary to be careful. It is easy to
+slide from the above conclusion into an argument of the following
+kind. A higher rate of interest leads to more saving; it is thus
+necessary to _evoke_ more saving; it is thus required as an
+_incentive_ to induce people to incur the _sacrifice_ of waiting; this
+sacrifice represents the "real cost" for which interest is paid.
+
+This terminology of incentive, inducement and sacrifice is of very
+dubious validity. A rich man, who is made richer by a rise in the rate
+of interest, will probably save more, but it will be rather because he
+has become richer than because he is tempted by the higher rate: and
+the less we talk about his sacrifice the better. Nor is it clear that
+the attraction of a high rate of interest is an operative factor on
+the mind of a man to whom saving means a real sacrifice of immediate
+comfort or enjoyment. Certainly it is only one among many factors, and
+seldom an important one. A really poor man will think not so much of
+the annual income which will accrue from his savings, as of the
+capital sum upon which he or his family can fall back if a rainy day
+should come. And for this purpose he might save as much as he saves
+now, even if there were no interest to be obtained thereby. He might
+even be prepared to lend what he had saved, at least to banks (a
+deposit with a bank is in effect a loan), for the mere advantage of
+safe custody. The people who save rather for the sake of the capital
+sum that can be realized than for that of the annual interest are very
+numerous, and probably include many men in receipt of quite
+considerable earned incomes. Moreover, those who consider mainly the
+future annual income which their savings will yield them, are usually
+more concerned with its absolute amount than with the ratio it bears
+to the amount they must save in order to acquire it. For this reason,
+as has been often recognized, they may save less when the rate of
+interest rises, since a smaller quantity of savings will insure to
+them the future annual income they desire to obtain. There is no need
+to be dogmatic upon any of these points. The psychology of saving is
+both complex and obscure. Our conclusion must be the negative one that
+we have insufficient evidence to warrant the assertion that the
+particular rate of interest which happens to prevail is a measure of
+the sacrifice involved in saving, even in the case of what we might
+regard as the "marginal saving." And, if we cannot assert this, we
+must be careful not to assume it as the basis of other arguments, or
+as part of a general analysis of price or exchange value.
+
+It is of some interest to observe that the difficulties which our
+world socialist commonwealth would encounter if it attempted to
+dispense with the rate of interest, would not necessarily include that
+of obtaining a supply of capital. It might, indeed, not find it easy
+to determine the proportions in which it should allocate its
+productive resources between immediate and distant ends. Our present
+system cannot be said to have evolved satisfactory principles for the
+solution of this question; and the socialist commonwealth would have
+to work out its own solution. But when it directed that labor and
+materials should be devoted to purposes of long-period utility, there
+would be an automatic collective saving, of which no one would be
+conscious as an individual sacrifice. Even at the present time, our
+capital is not supplied entirely by the savings of individuals, but to
+an extent, which though quite incalculable is yet certainly
+considerable, by involuntary saving of an essentially similar type to
+the above.
+
+
+Sec.9. _Involuntary Saving_. When a municipality embarks on a municipal
+tramways scheme or any other industrial enterprise, and pays off by
+means of a sinking-fund the capital which it borrows in the first
+instance, the proceeding amounts, as the defenders of municipal
+trading have rightly claimed, to a compulsory and unconscious saving
+on the part of the citizens. Their consumption has been postponed
+willy-nilly as the result of the increased rates or the high charges
+which they have had to pay; and, when the subscribers to the original
+loan have been paid off, the capital of the community is enhanced to
+the extent of that loan. Central governments might similarly increase
+the supply of capital by devoting annual revenue to capital purposes;
+though their actual record, as it happens, is mainly of a different
+kind. But what is chiefly a possibility in the case of Governments has
+actually been carried out on an enormous scale by other institutions.
+The development of the joint-stock company system has introduced a new
+factor into the problem of the supply of capital, which is of immense
+though but dimly perceived importance. The directors of a company are
+technically no more than the servants of the shareholders. It is the
+profit of the shareholders that it is the directors' duty to promote
+with a single mind, and the whole capital of the concern, including
+its reserves both open and concealed, is the shareholders' exclusive
+property. But realities have a way of differing from forms, and just
+as in political affairs it is common to regard the State as a very
+different thing to the people who compose it, as a sublime entity with
+a separate existence of its own, so directors are apt to distinguish
+between the company and the shareholders. It is the company to which
+they owe allegiance. To pay away in dividends to shareholders money
+which they could employ in extending the business or strengthening the
+position of the company appears to some directors a necessity hardly
+less unpleasant than an increased wages bill, or an Excess Profits
+Duty. Concessions must indeed be made to the shareholders' rapacity:
+but when something has been done in this direction, dust can easily be
+thrown in their not very observant eyes. Reserves, which within
+limits are a necessity of sound finance, can be accumulated beyond
+those limits, and, when the further limits of an extreme but just
+arguable conservatism have been passed, there remain the innumerable
+devices, known to every resourceful Board, of hidden reserves, the
+secret of which is unmenaced by the meager information of a
+balance-sheet. In all this the shareholder, as the directors
+occasionally assure themselves, has no real grievance, for he will
+gain in the long run, from the appreciation in the capital value of
+his shares, all and perhaps more than all that he foregoes in the
+meantime in the way of dividends.
+
+In the long run the shareholder is not injured; but in the meantime he
+is in effect compelled, without any consciousness of the proceeding,
+to save and to reinvest in the company a portion of the dividends,
+which he might otherwise have spent. The reserves which are
+accumulated are not allowed to lie idle: they are employed either in
+what are really capital extensions of the business, or in the purchase
+of outside securities, and in either case they represent an increase
+in the total supply of capital. The principal which these proceedings
+represent is capable of indefinite extension.
+
+But however possible it might be to secure a supply of capital without
+the inducement of a rate of interest, that rate is indispensable for
+dealing with the demand. It is no good saying, "Three per cent seems
+a fair rate of interest; let us try and limit it to that." Given the
+amount of savings which are supplied, the rate of interest must be
+allowed to reach whatever figure is necessary to confine the demand to
+that amount. Given the quantity of resources which you have available
+for future needs, the meshes of the sieve must be made as narrow as is
+necessary to confine the projects that pass through within those
+limits. And so, indeed, it becomes necessary for any particular
+business to pay for its capital interest at the market rate, not so
+much to secure the saving of it as to secure its allocation from the
+common pool.
+
+
+Sec.10. _Interest and Distribution_. It is unavoidable that this interest
+should accrue to whoever it is that supplies the capital. If the
+capital were supplied, as it might conceivably be, collectively by the
+community, the interest would accrue to the community, and all would
+be well. But as things are, the capital is supplied mainly by the
+savings of individuals, and largely by individuals confined to a
+relatively narrow class. The profits of Capital have thus a vital
+influence on the very serious matter of the distribution of wealth
+between social classes. Now, as experience shows, there is no element
+in profits which is capable of such radical change in so short a space
+of time, as is the rate of interest. Even before the war it had become
+hard for people in Great Britain to realize that 3 per cent Consols
+had stood at 114 as late as 1896. "How blest," wrote two cynical
+satirists of society in the same period:
+
+"How blest the prudent man, the maiden pure,
+Whose income is both ample and secure,
+Arising from Consolidated Three
+Per cent Annuities, paid quarterly."[1]
+
+It is impossible to read those lines now without a sense of irony,
+different from that which they were intended to convey.
+
+Not only is the rate of interest now double what it was a generation
+ago; we have no good reason to suppose that the present high level
+will quickly be reduced. The havoc of the war, of which the
+widespread poverty of Europe and the huge debts of Governments are but
+two different aspects, makes it almost inevitable that the rate should
+rule high in the present decade. This cannot but exercise a profound
+influence, of a most disquieting character on the general level of
+profits, and to a lesser extent (for here we must allow for the
+effects of high taxation) on the distribution of real wealth between
+social classes. Here we are on the threshold of tremendous issues. We
+almost feel the earth quake beneath our feet. We hear the muffled roar
+of far-reaching social controversy:
+
+"And 'mid this tumult Kubla heard from far
+Ancestral voices prophesying war."
+
+[Footnote 1: _Narcissus_, by Samuel Butler and Henry Festing Jones.]
+
+
+
+CHAPTER IX
+
+LABOR
+
+
+Sec.1. _A Retrospect on Laissez-faire_. When, a century and a half ago,
+the foundations were being laid in the Western world of systematic
+economic theory, the public attention was much occupied with a
+subject, which indeed has not ceased to hold it: that of the failings
+of Governments. The general interest in that topic was shared by the
+pioneers of economic thought, of whom, in Great Britain, Adam Smith
+was the most notable. It was indeed their practical concern with the
+concrete economic issues of the day which very naturally gave the
+impetus to their scientific quest. It was hardly less natural that
+they should have expressed their opinions on these concrete issues
+with considerable emphasis.
+
+Now the keynote of their practical conclusions was that Governments
+were doing immense mischief by meddling with a great many matters,
+which they would have done better to leave alone. In this they were in
+general agreement with one another; incidentally--let there be no
+mistake about it--they were right. But, as invariably happens in
+public controversy, their opinions became crystallized in a compact
+formula, or cry, with unduly sweeping implications. This was the cry
+of "_laissez-faire_." Let Governments preserve law and order; and
+leave the economic sphere alone. The economists picked no quarrel with
+this formula; it served well enough for workaday purposes to indicate
+the lines of policy which they rightly thought essential in their day.
+
+The history of this cry is the history of every cry which has won a
+wide acceptance from mankind. It did good work for perhaps half a
+century; but then many crimes were committed in its name. The
+instrument which had been forged to clear away a noxious tariff jungle
+and the monstrous laws of Settlement, was turned against Lord
+Shaftesbury and the Factory Acts. Not only was inaction recommended
+to Governments as the highest wisdom; other institutions, like trade
+unions, were warned off the economic grass. An ideal of perfect
+competition became an idol to which much human flesh and blood were
+sacrificed.
+
+But, what is more to our present purpose, the idea took root of an
+intimate association between the laws of economics and the policy of
+_laissez-faire_. People who opposed some long-overdue measure of State
+regulation believed themselves to be justified by the eternal verities
+of economic law, and this claim even the advocates of the measure
+seldom ventured to dispute. They took refuge rather in a conception of
+economic law as a dangerous monster, whose claws must be clipped in
+the interests of the higher good. This notion that all interference
+with so-called "free competition," is a violation (though very likely
+fully justified) of economic laws has sunk deep into our common
+thought. So that to this day, whenever we see at work the hand of a
+State department, a trust or a trade union, we are apt to say "Demand
+and supply are here in abeyance," and possibly we add "A good thing
+too." Since in the matter of wages, the hand of the trade union is
+very generally evident, it is impossible to discuss the subject-matter
+of this chapter, until we have rid our minds of this quite baseless
+prepossession. To sweep away this cobweb, I urge the reader to recall
+here the general tenor of the analysis of the preceding
+chapters. Whether we were dealing with the price of an ordinary
+commodity, with joint products, land or capital, we came across
+relationships which seemed altogether more fundamental than our
+present industrial system; nor, we may incidentally observe, were we
+ever required to suppose that the present system was one of "perfect
+competition." These relationships were almost invariably such that
+even a world socialist commonwealth would find it necessary to
+maintain them. It was not suggested, and most certainly it must not be
+thought, that a world socialist commonwealth, or even a more modest
+remodeling of the social order would not effect great changes,
+possibly for good, and possibly for ill. The same economic laws might
+be made to bear very different fruits, but they themselves would
+remain unchanged. What is true in all these other fields--this should
+be our predisposition--is not likely to be quite untrue in the field
+of labor.
+
+
+Sec.2. _Ideas and Institutions_. Another point is worth noting here. We
+are sometimes advised to distinguish sharply between "What should be"
+and "What is"; often two very different things. The advice is
+pertinent and useful, particularly in the sphere of sociology. But
+our incorrigible habit of confusing the two things together is not
+without justification, or at least excuse. For, in fact, they
+gravitate towards one another with a force which is just as strong as
+the capacity of man for understanding and controlling his
+environment. When we have a system which is clearly bad, _and_ when we
+see our way to make it better, we generally make the change however
+tardily. Our sense of "What should be" thus reacts upon "What is."
+Meanwhile, until we can make the system better, our appreciation of
+"What is" affects our sense of "What should be." And the more so, as
+we are sensible. For "What should be" is pre-eminently an affair of
+relativity. A man may hold very strongly that equal pay to every
+individual is desirable, as he puts it, as an ideal. But this will not
+prevent him, in a world in which managers are paid far more than
+manual workers, from maintaining hotly (at any rate, if he is
+sensible) that to pay the manager of a particular concern a manual
+worker's wage would be monstrously unfair. He would also argue that it
+would be highly inexpedient. Equity and expediency are, in fact,
+intricately intertwined in our sense of "What should be"; and our
+sense of "What should be" in the particular is governed by our
+knowledge of "What is" in the general.
+
+These may seem unnecessary commonplaces. But they have a vital bearing
+on the _modus operandi_ of economic laws. These laws do not work _in
+vacuo_. They work through the medium of the acts of men. The acts of
+men are greatly influenced by their institutions, and by their ideas
+of right and wrong. Both institutions and ideas may serve to smooth
+rather than obstruct the path of economic laws; because the laws may
+represent either "what should be" in the general, or "what is" in the
+general, and therefore "what should be" in the particular. This may
+hold true even of a trade union or a sense of "fair wages." The
+business of economic theory is not to justify a regime of
+_laissez-faire_, still less to show the folly of bringing morals into
+business. Its value is rather that it may help us, by improving our
+understanding, to shape our institutions, and to adopt our moral
+sentiments so as to promote the public welfare. With these general
+notions in our minds, let us turn to see how stands the case with
+Labor.
+
+
+Sec.3. _The General Wage Level_. The term Labor may be used in a broad or
+in a narrow sense. It may be confined to weekly wage-earners: it may
+be extended to include all those who work, as the phrase goes, "with
+either hand or brain." It is with all classes of Labor, in the
+broadest sense of the term, that we must here concern ourselves. It
+will be convenient, however, in the first instance to ignore the
+differences between them, and to consider the forces which determine
+what we may regard as the general wage-level.
+
+The general laws of supply and demand hold good. The wages of labor
+tend to a level at which the demand is equal to the supply. For, if
+the demand exceeds the supply, if, in other words, labor is scarce,
+wages tend to rise, sooner or later in any case, and the more promptly
+in proportion as the workpeople are organized. Conversely, if the
+supply exceeds the demand, if in other Words there is general
+unemployment, wages tend to fall, and the strongest trade unions
+cannot resist the tendency, though they may delay it. Moreover, the
+higher the wages that must be paid, the smaller, other things being
+equal, is the demand for labor. For, even if we leave foreign
+competition out of account, and consider, as it were, labor throughout
+the world as a whole, the demand for labor is by no means
+inelastic. It is derived along with the demand for the other agents of
+production in the manner described in Chapter V. As was there shown,
+the greater the supply of the other agents of production, the greater
+is likely to be the demand for labor; but these other agents can be
+substituted for labor in a great variety of ways, and an increase in
+wages (unless accompanied by increased efficiency) will make it
+profitable for employers to effect such a substitution, where it was
+not profitable before. Thus, higher wages for the same labor
+efficiency must stimulate the tendency for capital to act as a
+substitute for labor at the expense necessarily (since the aggregate
+supply of capital will not be increased thereby) of its tendency to
+serve as a complement; and this must mean a decrease in the volume of
+employment. Hence the power of labor to secure a general advance of
+wages by concerted or simultaneous trade union action, applied if you
+will, not merely to every industry, but to every country, is
+necessarily very limited. Beyond a certain point, such a policy must
+result in general unemployment; and, if pushed sufficiently far, in
+unemployment so extensive that it would continue even in periods of
+active trade. Such a policy could neither be maintained in practice
+nor would it be a wise policy from the workers' point of view.
+
+In other words, given on the one hand the conditions of the demand for
+labor (i.e. the supply of capital, natural resources, business
+ability, risk-bearing and knowledge of technical processes, etc.,
+which happens to exist), and given on the other hand the supply of
+labor (i.e. both the numbers of workpeople and their efficiency), the
+wage-level in the long run is fairly rigidly determined. The
+introduction of the phrase "in the long run" in this connection is apt
+to provoke comment which may be pertinent, but may be misconceived.
+The worker, it is pointed out, is deeply concerned with "the short
+run" in which he has to live. It is very true; and it is this that
+supplies one of the many justifications of trade unionism. To secure
+for the workers advances of wages, which economic conditions justify,
+sooner than would otherwise have been obtained, is certainly no
+trivial or contemptible function. But it is none the less an illusion
+to suppose that the general wage-level can be appreciably and
+permanently raised by trade union action, except in so far as it
+increases the efficiency of the workers or incidentally stimulates the
+efficiency of the employers.
+
+
+Sec.4. _The Supply of Labor in General_. The efficiency of labor may be
+regarded as affecting either the demand for labor on the one hand or
+the supply of it on the other, according as we look at the matter from
+the worker's or the employer's standpoint. The employer is concerned
+with the labor costs per unit of his output, the worker is concerned
+with the wages he receives. An increase in the efficiency of labor
+may, and usually will, mean both a decrease in labor costs to the
+employer and an increase in the earnings of the worker. It is thus
+wholly to the good. But the effects of an increase in the supply of
+labor in the sense of a growth in the numbers of the population are
+far more dubious. Unaccompanied by an increase in the _demand_ for
+labor, it _must_ result in a diminished remuneration for the
+individual worker. To some extent indeed the demand for labor would
+almost certainly be increased. The supply of Capital may expand,
+perhaps proportionately, perhaps more than proportionately to the
+increase in population. But one factor of production, as we have seen,
+is not capable of such expansion. This is the factor of Land, or
+Natural Resources. It is the limitation of this factor which gives
+rise to what we have most of us heard of as The Law of Diminishing
+Returns. It is this that is the essence of the problem of Population,
+portrayed in somber hues more than a hundred years ago by Malthus.
+
+This problem will form the subject of the sixth volume of the present
+series. In the meantime it may be suggested that we are easily
+credulous if we suppose that the problem has been finally disposed of
+by the peculiar progress of an abnormal century. But that experience
+has at least destroyed the view that there _need be_, or even is in
+fact in Western countries, a relation between real wages and the
+numbers of the people so close and direct that an improved standard of
+living must be temporary only, doomed to destroy itself by the
+increased population it engenders. One may perhaps go further and say
+that it is doubtful even in what direction changes in remuneration
+will influence the aggregate supply of labor. When we pass to "what
+should be," it is plain that there is nothing whatever to be said for
+the sort of relation indicated above. The view once widely held that
+the principle of population must inevitably keep the mass of people
+close to the verge of the bare means of subsistence was no statement
+of a desirable ideal. It was a nightmare; a nightmare none the less
+though it may haunt us yet. It is far from fanciful to suggest that it
+is because this relation is so obviously _not_ "what should be" that
+it may be ceasing to hold true in fact. But it would be very fanciful
+indeed to maintain that as yet "what should be" is represented by the
+actual population. Thus, just as with capital, so with labor, there is
+no reason to suppose that the aggregate supply is determined by any
+fundamental economic law, or corresponds in practice to what is
+socially desirable.
+
+
+Sec.5. _The Apportionment of Labor among Places_. Again, as with capital,
+it is when we turn to the _apportionment_ of labor between different
+employments that both economic law and social ideal make their
+appearance. It will be well, however, to consider briefly in the
+first instance the different question of its apportionment between
+places. This was hardly necessary in the case of capital, because the
+possibilities of foreign investment are very numerous and easy: the
+mobility of capital is thus sufficiently strong (once again it is only
+_marginal_ adjustment that is necessary) to establish over at least a
+large part of the world something near to a uniform rate of
+interest. But this is not the case with labor. People do indeed move
+from place to place within a country, and from one country to another,
+in response to economic opportunities. That even the latter movement
+may be a considerable thing, the present population of the United
+States is a striking testimony. But obviously the mobility is very
+incomplete. Here, then, we have what we might _loosely_ call an
+economic law that labor tends to "flow" (as it is sometimes unhappily
+phrased) to those places where it can command the highest reward; we
+have this tendency in evidence, but it is far too weak to enable us to
+lay down what would deserve more strictly the title of an economic
+law, that in the long run the reward of the same kind of labor is
+roughly equal in all places. Perhaps we can say this for many
+districts in a single country; but for few countries is this true as
+between all their districts. As between countries, it is not remotely
+true.
+
+Here, however, the imperfection of economic law is balanced by an
+extreme uncertainty as to the ideal. Perfect mobility of labor may be
+_economically_ desirable in a very narrow sense of the term; but it
+opens out a vista of racial, national and cultural problems, into
+which it will be better for us not to enter here. We must take for
+granted the population of a country, like that of the world, as a
+given fact.
+
+When we do this, the question of its remuneration is on all fours with
+the more general question discussed above. That the remuneration of
+the labor of a country is mainly governed by the relations between
+demand and supply is an inexorable fact. In view of the international
+mobility of capital, the main distinctive factor in the demand for the
+labor of a particular country is the supply of natural resources,
+which it knows how to use. Where the natural resources are great
+relatively to the population, there wages will rule high; where the
+converse is true, wages will rule low. This result of economic
+analysis is abundantly confirmed by experience. The relatively high
+wages in the new world, the low standard of living in the densely
+populated East; the economic history of Ireland are so many
+object-lessons of its truth.
+
+
+Sec.6. _The Apportionment of Labor among Social Grades_. The question of
+the apportionment of the labor of a country among different
+employments falls under two heads. Some differences of occupation are
+associated particularly in Great Britain with differences of what we
+know as class. The movement of labor between different social grades
+is clearly a very different thing from its movement between different
+occupations in the same grade. The grades themselves are not easy to
+define: not a little ingenuity has been expended on the attempt, and
+perhaps the best brief classification that has been put forward is one
+which divides labor into the following four grades:--
+
+(1) Automatic manual labor.
+(2) Responsible manual labor.
+(3) Automatic brain workers.
+(4) Responsible brain workers.
+
+But the matter is one perhaps for the satirist of manners rather than
+the economist. It suffices for our purpose that the distinctions,
+however vague, are very real.
+
+It is obvious the mobility of labor between the occupations of a
+platelayer and a barrister is not very great. It may seem perhaps to
+be even smaller than it is. For here it is important to bear in mind a
+general consideration which is equally applicable to horizontal
+movements within any social grade. There may be a considerable
+movement of labor between different employments without any individual
+worker having to change his occupation. The personnel of any industry
+is constantly changing. At one end, men die, retire, or are pensioned
+off; at the other end, young recruits are taken on. By a diversion of
+the new recruits from one employment to another, a radical change can
+be made in the occupational census in a comparatively short space of
+time. It is in this manner that such movement as takes place is
+largely effected at the present time. Within the ranks of the
+professional classes, a man does not commonly leave the profession to
+which he has been trained. But his _choice_ of profession is
+determined by him or his parents not solely on pecuniary grounds but
+usually with an anxious scanning of the general prospects, which
+include pecuniary advantages together with many other things. The same
+thing is true in no small measure of manual wage-earners. This general
+consideration must be borne in mind throughout the remainder of this
+chapter.
+
+But even the sons of platelayers do not commonly practise at the
+bar. The obstacles in the way are various and subtle. Many of them are
+ideas, inherited from a bygone epoch, about keeping other people "in
+their proper stations," which the whole drift of circumstance, and the
+spirit of the age are rapidly wearing down. In the new world such
+obstacles are rare. But an obstacle of a more tangible and formidable
+kind arises from the fact that the liberal professions and many
+business careers require a long and expensive education and training,
+which the platelayer is quite unable to afford to give his son.
+
+Now this expense of training is highly relevant not only to "what is,"
+but to "what should be." It includes, it should be observed, a
+negative as well as a positive element; a long period of waiting
+before income begins, as well as the actual outlay on educational and
+other charges. When the burden both of the waiting and the positive
+costs must be borne either by the individual or the family, there are
+few people who would seriously dispute that this goes to justify, on
+grounds of fairness as well as of expediency, a higher level of annual
+remuneration later on; though many people would doubtless argue that
+the amenities and dignities of the professions should be taken into
+account on the other side. But the same consideration makes it a
+matter of legitimate doubt whether it would be desirable, even as an
+ideal, that the community should provide so completely the costs of
+training and of maintenance in the waiting period, as to make it no
+longer "fair" that the individual should be remunerated more highly
+than workers in less expensive occupations. For this would mean that
+more labor would be absorbed in the former employments than in
+principle would be socially desirable, for reasons which the argument
+of the next chapter will make plain. But the most desirable number of
+doctors, barristers, teachers, etc., is not a thing which can be
+settled on purely economic grounds, and it is unprofitable to carry
+further this particular line of thought. Few people would advocate, as
+an ultimate ideal, that the remuneration of the professional grades of
+labor should exceed that of lower grades by _more_ than the extra
+expense of training and waiting they involve. That the excess is
+usually greater than this at the present time seems very probable:
+though it is a matter on which it is very hard to generalize. But it
+would certainly be far greater than it is if the principle of
+_laissez-faire_ ruled supreme in these affairs. Fortunately it does
+not, and has never done so. Even before the days of free elementary
+education, the endowment of education was not unknown. The ancient
+public schools and universities, which have come down to us from the
+Middle Ages, are a standing witness to what in this field a far poorer
+community thought fit to do. Their systems of scholarships and
+exhibitions, no less than their courts and towers, deserve our
+notice. For these were designed to form what we now call "a ladder" by
+which talent could climb from the humblest origins to the callings
+which then seemed the summit either of spiritual or of worldly
+ambition.
+
+This reference to "talent" makes it well to consider here a factor
+which necessarily complicates, though it does not substantially
+affect, the whole argument of the present chapter. There are
+differences of natural ability, which no education or training can
+obliterate, which it should rather be their business to excite. These
+differences are associated to a great extent with differences of
+occupation; they _should be_ so associated far more closely than in
+fact they are. They are also associated with differences of
+remuneration even within the same occupation; "what should be" here is
+a question which we may excuse ourselves from discussing. The
+principle which, however vague, is sufficient for our present purpose
+is that the same _natural ability_ should command the same reward in
+all occupations, subject to differences which should not exceed the
+differences of educational cost and initial waiting they involve. We
+cannot assert, as an economic law, that this is generally true in
+fact. If ever it becomes true, it will be due not to
+"_laissez-faire_," or "free competition," but to social arrangements,
+which express a sense of what is right.
+
+
+Sec.7. _The Apportionment of Labor among Occupations_. When we pass to
+the apportionment of labor among different occupations in the same
+social grade, the same principle as to "what should be" applies in a
+simpler form. Equal natural ability should command an equal reward in
+all occupations; assuming that differences in cost of training can be
+ignored. The reward must, of course, be interpreted not in terms of
+money only but of "real wages," with allowance for the varying
+amenities of different tasks. Now it was here that the extreme
+advocates of _laissez-faire_ made one of their cardinal mistakes. They
+assumed that this ideal would be best secured by "perfect
+competition." The employer would choose the worker who would come for
+the lowest wage; the worker would choose the employer who would pay
+him the highest wage; and so, by a process similar to the higgling of
+a commodity market, the desirable uniform wage-level would become
+established. But in fact the conditions of the labor market differ
+greatly from those of a commodity market. People are ignorant, do not
+look ahead, cannot afford to risk the loss of a job, however wretched,
+which they happen to have got. For reasons such as these, a
+considerable departure from _laissez-faire_ is necessary in order to
+realize the theoretical results of _laissez-faire_. To prevent the
+putting of boys in large numbers into "blind alley" occupations, you
+must supplement the foresight of parents with Juvenile Employment
+Exchanges and After-Care Committees. To secure a proper uniformity of
+wages within the same occupation, you must have trade unions. To
+secure a proper uniformity between different occupations, you must
+have again trade unions, or, failing them, Trade Boards.
+
+That the actions of trade unions are very largely of this type is a
+fact insufficiently appreciated by the middle-class public. The
+elaborate system of piece-rate lists which has been evolved in the
+Lancashire cotton industry is primarily designed to secure the same
+wage for workers of equal efficiency in all mills, irrespective of the
+degree to which the machinery is antiquated or up to date. This result
+is wholly to the good: not only does it secure "fairness" for the
+worker, it stimulates the employer wonderfully to efficiency. The same
+result could never be secured so effectively by the free play of
+competition. But this tendency, which is easily the predominant
+element in the trade union regulations of the cotton trade, is at
+least an important element in the policy of "The Common Rule" of all
+trade unions, though it may often be mixed up with the more
+questionable tendency to eliminate differences of pay for differences
+of natural ability, and the unquestionably bad tendency to discourage
+output. As between different occupations, the insistence of a trade
+union that wages must be leveled up towards the wages obtaining in
+similar trades acts again as a far more powerful force than
+competition.
+
+But the actions of trade unions are by no means wholly of this
+type. They often serve rather to secure still higher wages for workers
+who, comparatively speaking, are already highly paid. It makes little
+difference whether this effect is secured directly by wage demands, or
+indirectly by restricting the right of the entry to the trade. In
+either case the consequences are the same, and there should be no
+ambiguity as to their nature. They are certainly bad for the
+community, certainly bad for the _other_ workers of the grade, almost
+certainly bad for the workers of the grade regarded as a whole. The
+higher wages must raise the money costs of production, and result,
+sooner or later, in fewer workpeople being employed in that
+occupation; larger numbers must accordingly seek employment elsewhere;
+and this cannot but depress the wage rates of less strongly organized
+trades. Thus the effect is twofold: a larger proportion of workpeople
+will be employed in badly paid occupations; and the wages there will
+be lessened.
+
+The power of a strong trade union to secure wage advances of this type
+is considerable, but it must not be exaggerated. Trade unions employ
+as a matter of course devices which, in the case of trusts, we regard
+as the extremest weapons of monopoly. To say, "If you buy from anyone
+except us, you must not buy at a lower price than ours," which
+Messrs. J. & P. Coats are represented as having done, is analogous to
+insisting that if non-unionists are employed, it shall be at the trade
+union rate, as every trade union very properly insists. To say, "You
+must buy _only_ from us," the method of the boycott, as it is called,
+is analogous to the very common refusal to work with non-unionists at
+all. But in one important respect the tactical position of a trade
+union is weaker than that of an ordinary combination. It has usually
+got a buyers' combination up against it, in the shape of an
+association of employers. The latter will be governed in their
+attitude towards the workpeople's demands, not only by immediate
+expediency, but also by their own sense of "what should be"; and they
+will usually resist demands for wages greatly in excess of those
+obtaining in comparable trades. In this way, the tendency for workers
+of the same efficiency to receive the same real wages in all
+employments is far stronger than might at first sight appear.
+
+If we had to rely for this result upon trade unions alone, it would be
+highly problematical. For here a psychological curiosity emerges,
+which, familiar and intelligible as it is, is none the less a
+curiosity. So far from still higher wages for well-paid workpeople
+being regarded in the world of manual labor as detrimental to the
+interests of other workpeople, it has become almost a point of honor
+to believe the contrary. A wage dispute in a particular trade is
+conceived as an engagement in a far-flung battle between Capital and
+Labor, in which success at any part of the line will facilitate the
+victory of the whole army. This conception contains a measure of
+truth, as regards immediate and purely temporary effects; though, even
+here, it is made to seem unduly plausible by the recurrence of trade
+cycles, which cause wages at any time to move in the same direction
+all along the line. But, if the foregoing analysis has been
+appreciated, the essential falsity of this notion should be evident.
+It is an illusion, which should receive no endorsement, either tacit
+or express, in any work on economics. The general wage level of a
+country cannot be regarded (except temporarily, and within narrow
+limits) as a function of the efficiency of labor organization; it
+depends on the far deeper economic facts set out in Sec.3 above.
+
+Let us now try to summarize the conclusions of this section. There
+_is_ a tendency towards a uniformity of real wages for workers of the
+same grade and of the same efficiency. This tendency is not due to
+competition alone. It is helped by many acts of a collective kind,
+arising from a sense of "what should be"; it is obstructed by other
+acts of a like kind, where the sense of "what should be" is based on
+imperfect understanding. The more people act in accordance with "what
+should be," and the better their understanding, the more will this
+tendency approximate to an accurate economic law.
+
+
+Sec.8. _Women's Wages_. The wages of women represent a problem of great
+public interest, upon which the principles laid down in this chapter
+have a most important bearing, and which in its turn serves to
+illustrate these principles further. It has been suggested that male
+and female labor can be regarded as a strong case of Joint Supply, and
+the suggestion is not merely facetious. The essential point, that the
+proportions of available male and female labor are fairly constant
+(not that they may not alter with time and circumstances, but that
+they are essentially independent of the conditions of demand) holds
+true not only of a country as a whole, but hardly less of a particular
+district. If men and women are to be regarded as separate grades, they
+are grades between which immobility is complete. Now men and women
+differ in many ways which affect both the demand for and the supply of
+their services. On the one hand, far fewer women wish to enter
+business employments of any kind, as women have plenty of work that
+must be done at home. On the other hand, though women can do many
+kinds of work as well as or better than men, it so happens that for
+much the greater number of services, which are in large demand in the
+business world, men are the more efficient. Incidentally, it happens
+that many occupations which women _might_ do as well as men are closed
+to them by exclusive regulations. The resultant of these forces is
+that men and women are for the most part employed in different
+occupations, and the scale of payment in women's occupations is far
+lower than that in men's. Of this last fact singularly small
+complaint is made.
+
+It is otherwise, however, when we come to occupations where men are
+either wholly or partially employed, where women are at least
+approximately as efficient as men, and where the barriers to their
+entry are at least formally removed. There a ferocious controversy
+rages over what is known as the principle of "equal pay for equal
+work." It is easy to understand why the male trade unionists in, let
+us say, the engineering trades, should support this claim. It is also,
+indeed, _intelligible_ why the enthusiasts for Women's Rights should
+urge it; but it is much more doubtful whether they are wise. Possibly
+they are wise enough in their generation, since it might not serve
+them on this matter to get across the men. But it is clearly not
+prudential considerations of this kind by which they are mainly
+actuated. They make the demand, with extreme intensity of feeling, as
+a demand for fundamental justice. They are also very obviously
+inspired with the belief (similar to the illusion which is a point of
+honor with the male trade unionist) that high wages for women in
+well-paid occupations will help to raise the wages of sweated women
+workers in other trades.
+
+Now, here again, any lack of candor would be inexcusable. The effect
+of this policy on the wages in women's trades is certainly to reduce
+them. The policy serves, as powerfully as any trade union custom, to
+restrict the entry of women into the men's employments, and often
+spells virtual exclusion. For the "equal efficiency" may be
+approximate only, and there may be advantages in male labor from the
+employer's standpoint which are none the less important, because they
+are not easy to define. Moreover, from the employer's standpoint, the
+efficacy of female labor will be largely a matter for _experiment_,
+and "equal pay" will give him no inducement to experiment at all. The
+diminished number of women in these occupations (as compared with what
+might have been) increases the number who must fall back on the purely
+women's trades; and it _must_ serve to reduce the wages there, where
+organization is by no means strong. I am far from asserting that this
+consideration is conclusive against the principle of "equal pay for
+equal work" (though I think it conclusive against a rigid
+interpretation of it); for other matters, such as the standpoint of
+the male trade unionist must be taken into account. But the reactions
+on the wages in women's trades permit of no ambiguity.
+
+In occupations of another type, the issue takes a somewhat different
+form. In the teaching profession, "equal pay" would not exclude the
+women; it would be far more likely to exclude the men. For, though the
+advocates of the principle would declare that their intention is that
+the salaries of women should be leveled up to those of men, it is more
+probable that the ultimate outcome would be a leveling down.
+Educational authorities have the ratepayer and the taxpayer to
+consider; and, apart from this, they have their own interpretation of
+"what should be." To pay a woman less than a man for the same work may
+seem glaringly unfair; but it is not very clear why a woman, who is an
+elementary school teacher, should be paid much more than, say, a
+hospital nurse, merely because in the former case a number of men
+happen also to be employed. In fact, there is a clashing of equities
+in this connection; and there is little doubt which of them the
+educational authorities would prefer. A leveling down of the men's
+salaries would make it all but impossible to attract men of the
+desired type into the profession, and would thus lead to the virtual
+extinction of the male elementary school teacher. This might seem in a
+narrow sense to be economically desirable. Why should not men take
+their services to the tasks for which they can command a higher
+reward, and which women cannot do as well? But whether this would be
+desirable in the true interests of education is a far more doubtful
+matter. And this is the real problem of "equal pay for equal work" for
+male and female school teachers. The reader will notice that I have
+refrained from alluding to the controversy as to whether men should
+receive more on the grounds that they have wives and families to
+maintain. That, although a most absorbing issue, is not the real issue
+in practice at the present time. The real issue is a clashing between
+a sense of "what should be" on obvious general grounds and a sense of
+"what should be" in the particular, derived from the very patent and
+general "what is" that men receive as a rule far higher pay than
+women.
+
+
+
+CHAPTER X
+
+THE REAL COSTS OF PRODUCTION
+
+
+Sec.1. _Comparative Costs_. Beneath the great diversity of the
+considerations which are applicable to the different agents of
+production, certain general conclusions emerge from the analysis of
+the last four chapters. In no case did we find that the aggregate
+supply of the agent was determined by clear and certain economic laws,
+possessing any fundamental significance. The supply of natural
+resources is a fixed thing, quite independent of the efforts or the
+desires of man. However the supply of capital and the supply of labor
+may react under present conditions towards economic stimuli, these
+reactions possess no quality of inevitability and bear no clear
+relation to "what should be." The supply of risk-bearing responds
+perhaps more decidedly to the prospects of increased reward; but it is
+so intimately associated with special knowledge and the qualities of
+business enterprise, as to leave some uncertainty attaching even to
+this conclusion. When, on the other hand, we turn to the
+apportionment of these factors among different uses, we find relations
+which are both clear and fundamental. Laws emerge which state at once
+not only "what is" or at least "what tends to be," but also "what
+should be"; and it is the fact that they taste "what should be" that
+gives them their fundamental character.
+
+These conclusions enable us to give a general answer to the question
+which was raised at the end of Chapter V: What are the ultimate real
+costs to which the money cost of production correspond? The attempt
+has often been made to relate money costs to such things as the effort
+of working and the sacrifice of waiting. The existence of such costs
+is beyond dispute. Much saving does mean a sacrifice of immediate
+enjoyment to the man who saves. Most labor is irksome and disagreeable
+in itself, and involves strain and wear and tear; while all labor
+means a deprivation of the utility of leisure. Workpeople, moreover,
+do not grow on gooseberry bushes, but must be fed and clothed from the
+cradle; and their rearing and maintenance represents a real cost which
+someone must incur.
+
+But the existence (or the importance) of such costs is one thing,
+their relation to money costs is another. In Chapter VIII we saw how
+difficult it was to establish any clear relation between the rate of
+interest and the sacrifice of saving. The costs of labor present
+similar difficulties. The relative irksomeness of two occupations may
+affect the relative wages which will rule in the two cases; so,
+certainly, will the differences in the cost of education and training
+which they require. But these are matters which concern the
+_apportionment_ of labor between different employments. There is no
+good reason to suppose that the general wage-level would be reduced,
+merely because work as a whole became less irksome, or involved a
+smaller physical or mental strain. The supply of people is not
+determined by the same kind of influences as is the supply of a
+commodity. Parents do not produce children for the sake of the wages
+which the children will receive when they go out to work; or, if this
+happens, we rightly regard it as a horrible anomaly. In so far as
+parents are affected by economic conditions it is by their own
+economic conditions; the question is rather one of how many children
+they can afford to have, than of a balancing of the cost to them
+against the incomes which their children may subsequently acquire. But
+other considerations enter in; and, in fact, it is doubtful how the
+aggregate supply of labor will react to changes in prosperity.
+Finally, the supply of land involves neither effort nor sacrifice;
+and, among our money costs, we have to account for the item
+of the rent of land. To dispose of this difficulty by arguing that
+rent does not enter into marginal costs (in any sense which is not
+equally true of wages and profits) is to lose contact with
+reality. Thus the attempt to explain money costs in terms of the costs
+of producing the ultimate agents of production leads us into a
+quagmire of unreality and dubious hypothesis. For a systematic theory,
+which will rest on firm foundations, we must interpret money costs in
+very different terms.
+
+The real costs which the price of a commodity measures are not
+absolute, but comparative. Marginal money costs reduce themselves in
+the last analysis to the payments which must be made to secure the use
+of the requisite agents of productions. These payments _tend_ to equal
+the payments which the same agents could have commanded in alternative
+employments. The payments which they could have commanded in
+alternative employments, tend in their turn to equal the derived
+marginal utilities of their services in those employments. It is thus
+the loss of _Utility_ which arises from the fact that these agents of
+production are not available for alternative employments that is
+measured by the money costs of a commodity at the margin of
+production.
+
+This conception of ultimate costs encounters an instinctive
+repugnance, arising from a mistaken sense of logical symmetry, which
+it will be well to examine. Cost, it is objected, so interpreted
+loses its character as an independent entity. It is merely something
+derived from utility. Now in the earlier chapters of this volume, we
+found reason to be impressed with the general symmetry which pervades
+the relations of demand and supply. Moreover, when we considered the
+case of ordinary commodities we found that at the back of demand and
+giving rise to it was utility; at the back of supply, and limiting it,
+was cost. The general symmetry between demand and supply thus seemed
+almost to imply a fundamental symmetry between utility and cost. If,
+then, cost in the last analysis is derived from utility, does not this
+make nonsense of the symmetry between demand and supply, or, if we
+cling to this last symmetry as a demonstrable truth, must we not
+refuse to admit that cost can be derived from utility?
+
+This is one of those false dilemmas which supply the wiseacres of the
+world with a plausible case for distrusting the logical faculty. If we
+have good reason for believing that both of two apparently
+inconsistent things are true, the explanation is seldom that one of
+them is really false; it is more usually that they are not really
+inconsistent. So it is here. The symmetry between demand and supply is
+very great, and we should always look to see if it holds good, but it
+is by no means perfect, and it is in the last analysis that it most
+notably fails. It is most important to distinguish clearly between the
+utility and the cost of a commodity as two separate and independent
+things. In Chapter V, it will be remembered, we did not permit
+ourselves to derive the costs of producing cotton lint from the
+utility of cotton-seed. The refusal to do so was essential to clear
+thought; it led to some very useful practical corollaries. But to
+derive the cost of a commodity from the utility of something which is
+produced _with_ it, as part of the same productive process; and to
+derive the cost from the utilities which the agents, which help to
+produce it, possess for other purposes, are two entirely different
+things. In works on International Trade, the reader will discover that
+the comparative nature of real costs is so unmistakable that a
+Doctrine of Comparative Costs is expounded with much formality at the
+outset. This doctrine is apt to prove somewhat puzzling, when we have
+to deal with it as an apparent exception to the general tenor of
+economic theory. Its difficulties disappear when we realize clearly
+that the real cost of _anything_ is the curtailment of the supply of
+other useful things, which the production of that particular thing
+entails.
+
+
+Sec.2. _The Allocation of Resources_. However strange the above
+conception may seem, there should be no doubt that this cost is very
+"real." Here the irregularities and maladjustments of the economic
+world, the recurrence of trade depressions and the like, do much to
+obscure a clear vision of the essential realities. At a time when
+there is much unemployment, and much machinery standing idle, it is so
+clear to common sense that we _could_ produce more of some particular
+thing without diminishing the supply of other things, that any
+apparent statement to the contrary may perhaps seem the height of
+academic pedantry. But let me ask the reader to consider with an open
+mind a familiar parallel. During the recent war there was inevitably
+much waste and muddle in the utilization of the military resources of
+the Allies. Some regiments would be kept inactive for long periods,
+not for purposes of rest or training, but owing to some defect of
+organization. In the manufacture of munitions, an insufficient
+appreciation of the principles of joint demand led to the piling up of
+excessive stores of certain materials, which were useless until
+commensurate supplies of the complementary factors could be
+obtained. It is unnecessary to multiply examples. The waste of both
+man-power and material was immense. But the allocation of these
+resources between, for instance, the various theaters of war was none
+the less a very real problem, which gave rise to much engrossing
+controversy. It was an axiom that the more resources you employed in
+Mesopotamia or in Palestine, the less resources remained available for
+France. No one thought of maintaining that, as long as there was any
+waste of these resources, so long as there remained any men to be
+"combed out" of unessential industries, you could pour troops and
+munitions into Salonika without stopping to consider the needs of
+other theaters of war. Such a notion would have been clearly imbecile,
+for the sufficient reason that the sending of armies to Salonika would
+do nothing in itself to secure (however much it might incidentally
+stimulate) the more efficient use of the resources which remained.
+
+Now this is precisely analogous to the problem of the allocation of
+our resources for the purpose of peace. Notwithstanding all the
+wastes and maladjustments of the economic system, the use of resources
+to produce one commodity _does_ in general curtail the production of
+others. The mere launching of a new business enterprise does no more
+than the sending of an army to Salonika, to eliminate waste in the
+remainder of the economic organism. Unemployment, broadly speaking, is
+a function not of the magnitude of the normal demand for labor (which
+affects rather the wage-level), but of fluctuations in the demand for
+labor; fluctuations from one day to another as at the docks, from one
+season to another as in the building trades, above all from one period
+of years to another as in the cycles of general trade boom and
+depression. Nothing will diminish unemployment which does not serve to
+diminish these fluctuations. A new business will not, as a rule, have
+any such effect. If it is launched during a trade depression (a most
+unusual proceeding), it may temporarily absorb unemployed labor and
+idle materials. But when the next boom comes, it will be using, though
+presumably to greater advantage, labor and materials which, but for
+it, would have been employed for other purposes. Meanwhile the causes
+making for unemployment will be unaffected. Miscalculations will
+still be made, the building trades will still become slack in the
+winter, the casual methods of engaging dock laborers will still
+continue, trade cycles will still recur, while beneath them, and
+concealed by them, some industries will expand and others will decay.
+Thus, like the armies at Salonika, the new business would in effect
+divert resources from elsewhere.
+
+This truth needs to be firmly grasped in mind. It is this that makes
+it in general unsound policy to subsidize industries, either directly
+or indirectly, by means of a protective tariff. It is this, indeed,
+that supplies the answer to half the economic fallacies that are
+always current.
+
+The allocation of resources so as to yield the maximum effect was
+rightly recognized as one of the most vital and difficult of our
+war-time problems. To cope with it, the Allied peoples devised one
+instrument after another, and finally evolved the Supreme Allied
+Council. The analogous problem in the economic world of peace time is
+no less important and far more difficult; but there is nothing to
+correspond to the Supreme Allied Council. There we rely upon a
+co-operation which, as was stressed in Chapter I, is unco-ordinated.
+That co-operation has been evolved by the mutual competition
+of innumerable business concerns, controlled by men largely
+animated by the motive of pecuniary profit. But it has not
+been evolved wholly by such means: and how far that competition or
+that motive of profit is essential to its efficiency are questions
+with which this volume has not been in any way concerned. The economic
+laws, the relations between utility, and price and cost, with which it
+has been occupied, are an entirely different matter; and these _are_
+essential to the efficiency of any system of society. For if the
+marginal utility of a commodity is equal to its marginal cost, and if
+this marginal cost is composed of payments to the various agents of
+production at least as great as they could have obtained if they had
+been used otherwise, this amounts to saying that the agents of
+production are so utilized as to yield the maximum utility; and this
+is the same thing as saying that they are so utilized as to produce
+the maximum wealth.
+
+
+Sec.3. _Utility and Wealth_. Upon this last point it is important to be
+quite clear. An increase in wealth seems a solid, tangible reality;
+something, which, however much we may scorn it in our more precious
+moods, we recognize, for a rather poor community, to be an important
+object of endeavor. But an increase in utility seems a vague,
+impalpable notion, hardly deserving the same practical concern. None
+the less the two things are identical. We greatly deceive ourselves if
+we suppose wealth to be an objective reality. It is true that, when
+we get behind the money in which it is measured, we come upon
+commodities, like food and clothes and houses and factories, which
+seem comfortably solid and objective things; but we also come upon
+many services, like those of gardeners and doctors and hospital
+nurses, which we are bound to reckon as part of our wealth, although
+they are not embodied in any tangible commodities. Moreover, although
+material commodities are objective realities in themselves, and in
+many of their properties, they are _not_ objective realities in their
+property as wealth. A pair of boots is an objective fact; so is the
+number of pairs in existence at any time, so is their size, their
+weight, the quantity of leather or of paper which they happen to
+contain. But the wealth which those boots represent is not an
+objective fact. It depends upon the opinion which men and women
+entertain as to their utility; and these opinions take us into the
+subjective regions of human psychology. Let us suppose, for instance,
+that we calculated, on the basis of present prices, that the boots in
+existence at the present time represented 1/1000 part of our total
+wealth. Suppose, then, that a miracle were to happen; that the skies
+opened and rained boots upon us, of every size and shape and pattern,
+until we had 1000 times as many boots as we had before. Could we say
+that our total real wealth had been doubled? Clearly we could not. To
+obtain boots for nothing, and to wear a new pair every week, would
+make us somewhat better off, but not twice as well off as we were
+previously. In other words, the real wealth of a thousand times as
+many boots as we have now, is not a thousand times as great as the
+wealth of the present number of boots. We are, indeed, practically
+restating the Law of Diminishing Utility; and this perhaps is enough
+to show that wealth is fundamentally the same thing as utility.
+
+Another point, however, is worth noting. Our real wealth would be
+somewhat increased in the case supposed; but if we were to turn to the
+money measure of wealth, the opposite result would be far more likely,
+For the price of boots would most likely fall to nothing, and the
+total value of boots, in the commercial sense, would accordingly be
+nothing also. This shows that money values may be a most imperfect
+measure of aggregate wealth; for what money values represent is the
+product of the quantity of the commodity and its _marginal_ utility,
+while aggregate wealth is _total_ utility, which is a very different
+thing. This, it may be observed, makes all attempts to compare the
+wealth of different countries or different times, and no less to
+construct Index Numbers of Prices, imperfect of necessity, and
+arbitrary in their foundations.
+
+
+Sec.4. _Criteria of Policy_. The point has now been reached at which we
+must take into account the very important fact which was mentioned at
+the close of Chapter III. The maximum utility which the laws of
+supply and demand tend to bring about is a maximum _total_ utility
+indeed, but one still measured in terms of money. An unequal
+distribution of wealth destroys any necessary correspondence between
+that and the maximum _real_ utility. This consideration, however, does
+not affect the general validity of the conclusion that the laws of
+supply and demand represent what is socially desirable now or under
+any system. For what is at fault here is the distribution of wealth;
+and it is that which should be changed, in so far as it is possible to
+do so. Now it is important to realize that whenever it is possible to
+supply a commodity to poor people below cost price, it is possible to
+alter the distribution of wealth, for that in effect is what is
+done. Purchasing power, which may be taken from richer people by
+taxation, or which may be obtained from "collective" profits on other
+trading, is in effect transferred to the poor people in question,
+though the transference is coupled with the condition that the
+purchasing power must be expended in a particular way. It is _in
+general_ desirable that the transference should be made without this
+condition being attached. To this general statement, exceptions indeed
+exist so numerous and important as possibly to justify a great
+extension of social expenditure of this type. Education should
+certainly be provided free of charge, there are strong arguments for
+subsidizing housing; the provision of milk to expectant mothers, the
+feeding of school children, such instances can be multiplied into a
+very extensive list. But it is important to observe that in each case
+the justification of the policy rests in the presumption that the
+service supplied is one which it is particularly important that the
+beneficiaries should have, _as compared with_ the other things upon
+which they might have preferred to expend the equivalent purchasing
+power, had it been transferred to them without conditions. Where there
+is no such presumption, as surely there is none in the case of the
+great bulk of commodities, the relation between price and marginal
+cost should be rigidly maintained; it is the distribution of
+purchasing power which we should rather seek to alter. How far is it
+possible to alter that?
+
+I suppose that it is inevitable that many readers will have concluded
+that the preceding chapters must be taken to mean that the
+distribution of wealth is not susceptible of any appreciable change. I
+would remind those readers of an important distinction upon which
+impatient people have sometimes based a complaint against
+economists. The economist, it is said, analyses with great pomp and
+ceremony the laws governing the distribution of wealth among the
+agents of production, but says practically nothing about the
+distribution between individuals and classes, which is the only thing
+of any real interest to practical people. Now the economist
+concentrates on the agents of production for the very good reason that
+it is only with respect to them that any clear and certain laws as to
+distribution can be laid down. Into the distribution between
+individuals and classes there enter other and variable factors,
+governed by no fundamental economic law; and _here_, the conclusion
+should at once suggest itself, is the field for action designed to
+alter the distribution of wealth. What is possible or desirable in
+this field, it is again not the purpose of this volume to discuss. It
+is an obvious, even if not a very helpful conclusion that an increase
+in the habit of saving among weekly wage-earners might, without
+appreciably affecting the distribution between Capital and Labor,
+greatly modify the resulting distribution between social classes. But
+questions as to how far it might be possible or justifiable to achieve
+a similar result by the use of the weapon of taxation, by changes in
+inheritance laws, or by the public ownership of industry take us into
+a far more uncertain and controversial sphere. The difficulties and
+objections which present themselves are familiar and formidable; but
+they are of quite a different order from the economic laws which we
+have been examining. The laws themselves do not entitle us to make any
+dogmatic pronouncement upon these large issues of social policy.
+
+But this is not to deprive these laws of practical importance. They
+represent essential criteria of sound policy in the sphere of social
+reorganization no less than in ordinary business. In our days a
+curious obsession has led many people to disparage these criteria, as
+though they were the sordid prejudices of a stupid tradesman. Because
+it has been found a matter of obvious practical convenience to
+maintain the roads out of taxation or of rates, and to dispense with
+charges for their use, it is suggested that the same principle should
+be applied to the railways. Or, more commonly, because it has been
+found convenient to make the same charge for the carrying of letters
+between Land's End and John o' Groats as between Hampstead and
+Highgate, it is suggested that _this_ principle should be applied to
+railway rates and fares. It may be well, therefore, to point out that
+the justification of uniform postal charges rests upon the facts: (1)
+that the costs of collection, sorting, etc., are so large a part of
+the costs of carrying a letter, that the real cost between John o'
+Groats and Land's End does not differ from that between Hampstead and
+Highgate by as much as might at first sight appear, (2) that the
+charges in any case are very small; so that (3) the avoidance of the
+small degree of taxes and bounties which the present system implies is
+not worth the book-keeping expenses which differential charges would
+involve. It should be obvious that these considerations apply to the
+railways with a greatly diminished force. They might possibly justify
+what is known as the "zone" system of charges, i.e. uniform rates
+within certain narrow areas. But the notion of uniform rates
+throughout Great Britain conjures up a vision of trains taking coal
+from South Wales to Scotland, and others taking coal from Scotland to
+South Wales, in accordance with the slightest preferences of the
+consumers, and without regard to the extra real cost involved, on a
+scale to which the "wastes of competition" afford no parallel. It
+would in fact achieve the essential folly of "sending coals to
+Newcastle." These considerations, however, are not what interest the
+advocates of the postal principle. They seem to recommend the
+obliteration or the confusion of the relations between price and cost
+as a superior ideal. It is important to be clear what exactly this
+ideal involves.
+
+It involves, in the first place, as the whole argument of this volume
+has gone to show, a less economical employment of our productive
+resources; they would be diverted to ends of less utility, and so
+produce less real wealth. But this is not the worst. There is plenty
+of waste and maladjustment in our economic system at the present
+time. The desirable relation of price to marginal cost is but
+imperfectly attained. The further departures from this relation, which
+would follow from any likely applications of the postal principle,
+might not matter in themselves so very much. What is far more serious
+is that the criteria of efficiency would become blunted, and the clear
+aims of management would be confused in fog. It is essential that
+every manager should be on the alert to eliminate waste and to improve
+efficiency, that he should be always trying to secure the best
+results; but how can he do this if he has no simple means of
+_measuring_ what results are good and what are bad? The measure which
+he has at present is that of price, cost and the resultant profit, and
+it would be fatal to take that away, unless an equally simple and more
+accurate measure could be substituted for it.
+
+This is not a question, it should be observed, of motive or
+incentive. Very likely we much exaggerate the importance of the profit
+motive. It may be true that men would work, perhaps that they already
+work in fact, as zealously for a fixed salary, as for personal
+gain. But aim and motive are two somewhat different things, and the
+_aim_ of profit, is, and will remain, essential to the efficient
+conduct of business. In a game the players are not animated by the
+motive of scoring runs or points, but they aim at them; and the zest
+disappears very speedily from the game, if that aim ceases to be of
+interest. Moreover, while a scoring system is always a somewhat
+arbitrary thing, measuring imperfectly the true merits of the play, if
+it measures them with the roughest accuracy, we prefer the issue of
+our games to be decided so, rather than by the decisions of an
+impartial judge, who can take into account the finest points of
+skill. So it is in the world of business. The scoring-board of profits
+may be an imperfect one; let us, by all means, where we can, alter the
+rules of the game so as to make it better. But let us not imagine that
+it displays a finer insight or a superior intellect to speak as though
+the scoring-board could be dispensed with, and the test of profit and
+loss treated as irrelevant. Quantitative measurement is essential to
+efficiency. Let us be careful to remember all that this implies.
+
+
+INDEX
+
+
+Ability
+Accountancy
+Allocation of resources
+Ambiguities
+Australasia
+
+Bastiat, Frederic
+Beef and hides
+Borrowing and lending, system of
+Business efficiency
+Business man as a purchaser
+Business risk
+
+Capital;
+  as representing a period of waiting;
+  distribution;
+  distribution and rate of interest;
+  effect on labor of an increased supply;
+  not a stock of consumable goods;
+  reaction of price charges on;
+  reflections upon;
+  supply;
+  supply as affected by charges in interest rate
+Capital goods
+Capital market
+Capitalism
+Capitalist
+Chance
+Coal industry, cost of production and price;
+  miners' wages
+Coats, J. & P.
+Collective saving
+Commodities;
+  labor as a commodity
+Competition
+Composite demand
+Composite supply
+Consumable goods
+Consumers' goods and producers' goods
+Consumption, margin of;
+  waiting for
+Control and risk-taking
+Controversy
+Cooeperation;
+  unorganized
+Cost, general relation of price, utility and cost;
+  price relation to;
+  rent as factor in real costs;
+  ultimate;
+  utility and
+Cotton and cotton-seed;
+  contrast to wool and mutton
+Cotton industry
+Criteria of policy
+Currency inflation
+Cycles
+
+Demand, ambiguity of expression "increase in demand,";
+  derived;
+  elastic and inelastic;
+  _see also_ Composite demand; Joint demand; Supply and demand
+Derived demand
+Derived utility
+Diagrams, use of
+Diminishing utility;
+  money and
+Directors
+Distribution of wealth;
+  interest rate and
+Dividends
+Division of labor
+
+Economic laws;
+  fundamental character
+Economic theory;
+  fact and
+Economic world, orderly nature
+Education
+Efficiency
+Elastic demand
+Employers' associations
+Enterprise
+Entrepreneur
+"Equal pay for equal work,"
+Expectation
+
+Fact and theory
+Farmers
+Fortunes
+
+Gambling
+Government, enterprises;
+  failings
+
+Hides and beef
+Houses
+Housewife as purchaser
+Housing
+
+Ideas and institutions
+Incompetents
+Increase in demand, ambiguity
+Index numbers
+Inelastic demand
+Inflation
+Institutions and ideas
+Insurance companies;
+  significance
+Interest;
+  necessity of
+Interest rate;
+  changes and their effect on supply of capital;
+  distribution and;
+  price of land and
+Intuition
+
+Joint demand;
+  importance of the unimportant;
+  marginal utility under;
+  summary of considerations
+Joint products;
+  cost of production
+Joint-stock company
+Joint supply, marginal cost under;
+  summary of considerations
+
+Keynes, J. M.
+
+Labor;
+  apportionment among occupations;
+  apportionment among places;
+  apportionment among social grades;
+  as a commodity;
+  cost, difficulty of estimating;
+  division;
+  effect of increased supply of capital;
+  four grades;
+  mobility;
+  product of;
+  reaction of price changes on;
+  supply in general
+_Laissez-faire_;
+  retrospect on
+Land, characteristics;
+  differential aspect;
+  margin of transference;
+  marginal;
+  price and rent, relation;
+  question of real costs;
+  scarcity aspect;
+  supply;
+  tenure;
+  urban;
+  _see also_ Rent
+Landlords
+Large scale business
+Laws, fundamental
+
+Malthus, T.R.
+Management
+Margin, danger of ignoring
+Margin of consumption
+Margin of production
+Margin of transference
+Marginal cost, aspects;
+  misinterpretation;
+  under joint supply
+Marginal land
+Marginal purchaser
+Marginal utility;
+  price relation to;
+  under joint demand
+Market
+Marshall, Alfred
+Marx, Karl
+Mill, J. S.
+Miners
+Monetary changes, disturbances of
+Money, diminishing utility
+Monte Carlo
+Mutton. _See_ Wool and Mutton
+
+Natural ability
+Normal conditions
+
+Occupations;
+  apportionment of labor among
+Order, economic
+
+Pasture versus tillage
+Pigou, A. C.
+Policy, criteria
+Population
+Postal charges
+Poverty;
+  national
+Price, consequences of higher;
+  general relation with utility and cost;
+  law of tendency;
+  marginal utility and;
+  post-war;
+  reaction of changes in demand and supply;
+  relation of demand and supply to;
+  utility and
+Producers' goods
+Production, power of;
+  real costs;
+  waiting for
+Professions
+Profiteering
+Profits;
+  elements;
+  general analysis;
+  in risky industries
+Protective tariff
+Psychology and economics
+Purchasers, business man;
+  housewife;
+  marginal
+Purchasing power
+
+Railway rates
+Railways
+Rate of interest. _See_ Interest rate
+Rent;
+  complex character;
+  marginal land;
+  necessity;
+  rate of interest and
+Reserves
+Residuary profits
+Resources, allocation
+Risk, reward for;
+  under large-scale organization
+
+Satisfaction
+Saving;
+  individual;
+  involuntary;
+  psychology;
+  social
+School teachers
+Service
+Serving cotton
+Shareholders
+Sinking-fund
+Situation
+Smith, Adam
+Social grades, labor movement among
+Socialism
+Speculation
+Steel smelters
+Subsidies, industrial
+Substitutes
+Supply, reactions of price changes on;
+  _see also_ Composite supply; Joint supply
+Supply and demand, changes in, and their reaction on price;
+  forces behind;
+  general laws;
+  relation of price to;
+  wages and
+Supreme Allied Council
+
+Teachers
+Theory, economic
+Thrift
+Tillage versus pasture
+Trade cycles
+Trade depression
+Trade unions;
+  actions;
+  wage level and
+
+Ultimate real costs
+Unearned increment
+Unemployment;
+  trade union policy and
+Utility;
+  cost and;
+  derived;
+  general relation of price, utility and cost;
+  law of diminishing utility;
+  law of diminishing utility as applied to money;
+  marginal;
+  price relation to;
+  wealth and
+
+Wages, general wage level;
+  trade unions and;
+  women's
+Wages Fund
+Waiting, essence of;
+  for consumption;
+  for production
+Waste, economic
+Wealth, distribution;
+  utility and
+"What should be" and "What is,"
+Women's wages
+Wool and mutton;
+  contrast to cotton and cotton-seed
+Workers' control
+
+
+
+
+
+End of Project Gutenberg's Supply and Demand, by Hubert D. Henderson
+
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+eBook #10612 (https://www.gutenberg.org/ebooks/10612)
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+The Project Gutenberg EBook of Supply and Demand, by Hubert D. Henderson
+
+This eBook is for the use of anyone anywhere at no cost and with
+almost no restrictions whatsoever.  You may copy it, give it away or
+re-use it under the terms of the Project Gutenberg License included
+with this eBook or online at www.gutenberg.org
+
+
+Title: Supply and Demand
+
+Author: Hubert D. Henderson
+
+Release Date: January 6, 2004 [EBook #10612]
+
+Language: English
+
+Character set encoding: ISO-8859-1
+
+*** START OF THIS PROJECT GUTENBERG EBOOK SUPPLY AND DEMAND ***
+
+
+
+
+Produced by Josh Cogliati and PG Distributed Proofreaders
+
+
+
+
+SUPPLY AND DEMAND
+
+By Hubert D. Henderson M.A.
+
+With an Introduction by J.M. Keynes M.A., C.B.
+
+1922.
+
+
+
+
+
+INTRODUCTION
+
+The Theory of Economics does not furnish a body of settled conclusions
+immediately applicable to policy. It is a method rather than a
+doctrine, an apparatus of the mind, a technique of thinking, which
+helps its possessor to draw correct conclusions. It is not difficult
+in the sense in which mathematical and scientific techniques are
+difficult; but the fact that its modes of expression are much less
+precise than these, renders decidedly difficult the task of conveying
+it correctly to the minds of learners.
+
+Before Adam Smith this apparatus of thought scarcely existed. Between
+his time and this it has been steadily enlarged and improved. Nor is
+there any branch of knowledge in the formation of which Englishmen can
+claim a more predominant part. It is not complete yet, but important
+improvements in its elements are becoming rare. The main task of the
+professional economist now consists, either in obtaining a wide
+knowledge of _relevant_ facts and exercising skill in the application
+of economic principles to them, or in expounding the elements of his
+method in a lucid, accurate and illuminating way, so that, through his
+instruction, the number of those who can think for themselves may be
+increased.
+
+This Series is directed towards the latter aim. It is intended to
+convey to the ordinary reader and to the uninitiated student some
+conception of the general principles of thought which economists now
+apply to economic problems. The writers are not concerned to make
+original contributions to knowledge, or even to attempt a complete
+summary of all the principles of the subject. They have been more
+anxious to avoid obscure forms of expression than difficult ideas; and
+their object has been to expound to intelligent readers, previously
+unfamiliar with the subject, the most significant elements of economic
+method. Most of the omissions of matter often treated in textbooks are
+intentional; for as a subject develops, it is important, especially in
+books meant to be introductory, to discard the marks of the chrysalid
+stage before thought had wings.
+
+Even on matters of principle there is not yet a complete unanimity of
+opinion amongst professors. Generally speaking, the writers of these
+volumes believe themselves to be orthodox members of the Cambridge
+School of Economics. At any rate, most of their ideas about the
+subject, and even their prejudices, are traceable to the contact they
+have enjoyed with the writings and lectures of the two economists who
+have chiefly influenced Cambridge thought for the past fifty years,
+Dr. Marshall and Professor Pigou.
+
+J.M. Keynes.
+
+CONTENTS
+
+CHAPTER I
+
+THE ECONOMIC WORLD
+
+§1. THEORY AND FACT
+
+§2. THE DIVISION OF LABOR
+
+§3. THE EXISTENCE OF ORDER
+
+§4. SOME REFLECTIONS UPON JOINT PRODUCTS
+
+§5. SOME REFLECTIONS UPON CAPITAL
+
+§6. THE FUNDAMENTAL CHARACTER OF MANY ECONOMIC LAWS
+
+
+
+CHAPTER II
+
+THE GENERAL LAWS OF SUPPLY AND DEMAND
+
+§1. PRELIMINARY STATEMENT OF THREE LAWS
+
+§2. DIAGRAMS AND THEIR USES
+
+§3. AMBIGUITIES OF THE EXPRESSIONS, "INCREASE IN DEMAND," ETC.
+
+§4. REACTIONS OF CHANGES IN DEMAND AND SUPPLY ON PRICE
+
+§5. SOME PARADOXICAL REACTIONS OF PRICE CHANGES ON SUPPLY
+
+§6. THE DISTURBANCES OF MONETARY CHANGES
+
+§7. THE TRADE CYCLE
+
+
+
+CHAPTER III
+
+UTILITY AND THE MARGIN OF CONSUMPTION
+
+§1. THE FORCES BEHIND SUPPLY AND DEMAND
+
+§2. THE LAW OF DIMINISHING UTILITY
+
+§3. THE RELATION BETWEEN PRICE AND MARGINAL UTILITY
+
+§4. THE MARGINAL PURCHASER
+
+§5. THE BUSINESS MAN AS PURCHASER
+
+§6. THE DIMINISHING UTILITY OF MONEY
+
+
+
+CHAPTER IV
+
+COST AND THE MARGIN OF PRODUCTION
+
+§1. AN ILLUSTRATION FROM COAL
+
+§2. THE VARIOUS ASPECTS OF MARGINAL COST
+
+§3. THE DANGERS OF IGNORING THE MARGIN
+
+§4. A MISINTERPRETATION
+
+§5. SOME CONSEQUENCES OF A HIGHER PRICE LEVEL
+
+§6. GENERAL RELATION BETWEEN PRICE, UTILITY AND COST
+
+
+
+CHAPTER V
+
+JOINT DEMAND AND SUPPLY
+
+§1. MARGINAL COST UNDER JOINT SUPPLY
+
+§2. MARGINAL UTILITY UNDER JOINT DEMAND
+
+§3. A CONTRAST BETWEEN COTTON AND COTTON-SEED, AND WOOL AND MUTTON
+
+§4. THE IMPORTANCE OF BEING UNIMPORTANT
+
+§5. CAPITAL AND LABOR
+
+§6. CONCLUSIONS AS TO JOINT SUPPLY AND JOINT DEMAND
+
+§7. COMPOSITE SUPPLY AND COMPOSITE DEMAND
+
+§8. ULTIMATE REAL COSTS
+
+
+
+CHAPTER VI
+
+LAND
+
+§1. THE SPECIAL CHARACTERISTICS OF LAND
+
+§2. THE SCARCITY ASPECT
+
+§3. THE DIFFERENTIAL ASPECT
+
+§4. THE MARGIN OF TRANSFERENCE
+
+§5. THE NECESSITY OF RENT
+
+§6. THE QUESTION OF REAL COSTS
+
+§7. RENT AND SELLING PRICE
+
+
+
+CHAPTER VII
+
+RISK-BEARING AND ENTERPRISE
+
+§1. PROFITS AND EARNINGS OF MANAGEMENT
+
+§2. THE PAYMENT FOR RISK-BEARING
+
+§3. MONTE CARLO AND INSURANCE
+
+§4. RISK UNDER LARGE SCALE ORGANIZATION
+
+§5. THE ENTREPRENEUR
+
+§6. RISK-TAKING AND CONTROL
+
+§7. GENERAL ANALYSIS OF PROFITS
+
+
+
+CHAPTER VIII
+
+CAPITAL
+
+§1. A REFERENCE TO MARX
+
+§2. WAITING FOR PRODUCTION
+
+§3. WAITING FOR CONSUMPTION
+
+§4. CAPITAL NOT A STOCK OF CONSUMABLE GOODS
+
+§5. THE ESSENCE OF WAITING
+
+§6. INDIVIDUAL AND SOCIAL SAVING
+
+§7. THE NECESSITY OF INTEREST
+
+§8. THE SUPPLY OF CAPITAL
+
+§9. INVOLUNTARY SAVING
+
+§10. INTEREST AND DISTRIBUTION
+
+
+
+CHAPTER IX
+
+LABOR
+
+§1. A RETROSPECT ON LAISSEZ-FAIRE
+
+§2. IDEAS AND INSTITUTIONS
+
+§3. THE GENERAL WAGE-LEVEL
+
+§4. THE SUPPLY OF LABOR IN GENERAL
+
+§5. THE APPORTIONMENT OF LABOR AMONG PLACES
+
+§6. THE APPORTIONMENT OF LABOR AMONG SOCIAL GRADES
+
+§7. THE APPORTIONMENT OF LABOR AMONG OCCUPATIONS
+
+§8. WOMEN'S WAGES
+
+CHAPTER X
+
+THE REAL COSTS OF PRODUCTION
+
+§1. COMPARATIVE COSTS
+
+§2. THE ALLOCATION OF RESOURCES
+
+§3. UTILITY AND WEALTH
+
+§4. CRITERIA OF POLICY
+
+
+
+SUPPLY AND DEMAND
+
+
+
+CHAPTER I
+
+THE ECONOMIC WORLD
+
+
+§1. _Theory and Fact_. The controversy between the "Theorist" and the
+"Practical Man" is common to all branches of human affairs, but it is
+more than usually prevalent, and perhaps more than usually acrid in
+the economic sphere. It is always a rather foolish controversy, and I
+have no intention of entering into it, but its prevalence makes it
+desirable to emphasize a platitude. Economic theory must be based
+upon actual fact: indeed, it must be essentially an attempt, like all
+theory, to _describe_ the actual facts in proper sequence, and in true
+perspective; and if it does not do this it is an imposture. Moreover,
+the facts which economic theory seeks to describe are primarily
+economic facts, facts, that is to say, which emerge in, and are
+concerned with, the ordinary business world; and it is, therefore,
+mainly upon such facts that the theory must be based. People
+sometimes speak as though they supposed the economist to start from a
+few psychological assumptions (e. g. that a man is actuated mainly by
+his own self-interest) and to build up his theories upon such
+foundations by a process of pure reasoning. When, therefore, some
+advance in the study of psychology throws into apparent disrepute such
+ancient maxims about human nature, these people are disposed to
+conclude that the old economic theory is exploded, since its
+psychological premises have been shown to be untrue. Such an attitude
+involves a complete misunderstanding not merely of economics, but of
+the processes of human thought. It is quite true that the various
+branches of knowledge are interrelated very intimately, and that an
+advance in one will often suggest a development in another. By all
+means let the economist and psychologist avoid a pedantic specialism
+and let each stray into the other's province whenever he thinks
+fit. But the fact remains that they are primarily concerned with
+different things: and that each is most to be trusted when he is upon
+his own ground. When, therefore, the economist indulges in a
+generalization about psychology, even when he gives it as a reason for
+an economic proposition, in nine cases out of ten the economics will
+not depend upon the psychology; the psychology will rather be an
+inference (and very possibly a crude and hasty one) from the economic
+facts of which he is tolerably sure.
+
+But the purpose of economic theory is not merely to describe the facts
+of the economic world; it is to describe them in their proper sequence
+and true perspective. It must begin with those facts which are most
+general and which have the widest possible significance. Those are not
+likely to be the facts which our practical experience forces most
+insistently upon our notice. For it is the particular and not the
+general, the differences between things rather than their
+resemblances, that concern us most in daily life. Nor are we likely to
+find the universal facts which we require in the sphere of public
+controversy. We must rather look for them in the dark recesses of our
+consciousness, where are stored those truths which are so obvious that
+we hardly notice them, which are so indisputable that we seldom
+examine them, which seem so trite that we are apt to miss their full
+significance.
+
+
+§2. _The Division of Labor_. There is one such truth in the economic
+sphere which it is essential to appreciate vividly and fully, with the
+widest sweep of the imagination and the sharpest clarity of
+thought. Man lives by cooperating with his fellow-men. In the modern
+world, that cooperation is of a boundless range and an indescribable
+complexity. Yet it is essentially undesigned and uncontrolled by
+man. The humblest inhabitant of the United States or Great Britain
+depends for the satisfaction of his simplest needs upon the activities
+of innumerable people, in every walk of life and in every corner of
+the globe. The ordinary commodities which appear upon his dinner table
+represent the final product of the labors of a medley of merchants,
+farmers, seamen, engineers, workers of almost every craft. But there
+is no human authority presiding over this great complex of labor,
+organizing the various units, and directing them towards the common
+ends which they subserve. Wheel upon wheel, in a ceaseless succession
+of interdependent processes, the business world revolves: but no one
+has planned and no one guides the intricate mechanism whose smooth
+working is so vital to us all. Man, indeed, can organize and has
+organized much. Within a large factory the efforts of thousands of
+work-people, each engaged on the repetition of a single small process,
+are fitted together so as to form an ordered whole by the conscious
+direction of the management. Sometimes factory is joined with factory,
+with farms, fisheries, mines, with transport and distributing
+agencies, as one gigantic business unit, controlled by a common
+will. These giant businesses are remarkable achievements of man's
+organizing gifts. The individuals who control them wield an immense
+power, which so impresses the public imagination that we dub them
+"kings," "supermen," "Napoleons of industry." But how small a portion
+of man's economic life is dominated by such men! Even as regards the
+affairs of their own businesses, how narrow, after all, are the limits
+of their influence! The prices at which they can buy their materials
+and borrow their capital, the quantities of their products which the
+public will consume, are factors at once vital to their prosperity and
+outside their own control.
+
+A great business, like a nation, may cherish visions of
+self-sufficiency, may stretch its tentacles forward to the consumer
+and backwards to its supplies of raw material; but each fresh
+extension of its activities serves only to multiply its points of
+contact with the outside world. When those points are reached, the
+largest business, like the smallest, is out on the open sea of an
+economic system immeasurably larger and more powerful than
+itself. There it must meet--the better perhaps for its inherent
+strength and accumulated knowledge--the impact of rude forces, which
+it is powerless to control. Beneath the blasts of a trade depression,
+or some other tendency of world-wide scope, the authority of the
+mightiest industrial magnate, and equally of any Government, assumes
+the same essential insignificance as the pride of a man humbled by
+contact with the elemental powers of nature.
+
+
+§3. _The Existence of Order_. The parallel can be pursued further with
+advantage. Just as in the world of natural phenomena, which for long
+seemed to man so wayward and inexplicable, we have come gradually to
+perceive an all-pervading uniformity and order; so there is manifest
+in the economic world, uniformity, order, of a similar if less
+majestic kind. Upon the cooperation of his fellowmen, man depends for
+the very means of life: yet he takes this cooperation for granted,
+with a complacent confidence and often with a naive unconsciousness,
+as he takes the rising of to-morrow's sun. The reliability of this
+unorganized cooperation has powerfully impressed the imagination of
+many observers.
+
+"On entering Paris which I had come to visit," exclaimed Bastiat some
+seventy years ago, "I said to myself--Here are a million of human
+beings who would all die in a short time if provisions of every kind
+ceased to flow towards this great metropolis. Imagination is baffled
+when it tries to appreciate the vast multiplicity of commodities which
+must enter to-morrow through the barriers in order to preserve the
+inhabitants from falling a prey to the convulsions of famine,
+rebellion, and pillage. And yet all sleep at this moment, and their
+peaceful slumbers are not disturbed for a single instant by the
+prospect of such a frightful catastrophe. On the other hand, eighty
+departments have been laboring to-day, without concert, without any
+mutual understanding, for the provisioning of Paris."
+
+The theme may well excite wonder. But wonder should always be watched
+with a wary eye; for he is apt to bring in his train a hanger-on
+called worship, who can do nothing but mischief here. It is a short
+step from a passage like that quoted above to a glorification of the
+existing system of society, to a defence of all manner of indefensible
+things; and a cross-grained attitude towards all projects of
+reform. It is a short step; but it is one which it is quite
+unjustifiable to take. For the evils of our economic system are too
+plain to be ignored; too many people have harsh personal experience of
+the wastefulness of its production, the injustice of its distribution;
+of its sweating, its unemployment and slums. And when the attempt is
+made to plaster over evils, such as these with obsequious rhetoric
+about the majesty of economic law, it is not surprising that the
+spirit of many men should revolt and that they should retort by
+denying the existence of order in the business world, by declaring
+that the spectacle which _they_ see is one of discord, confusion and
+chaos. And then we are engulfed in a controversy as stale, flat and
+unprofitable as that between the "theorist" and the "practical man."
+
+The truth is that the language of praise and obloquy is quite
+inappropriate. In the first place, it may be well to note that the
+order of which I have spoken manifests itself not merely in those
+economic phenomena which are beneficial to man, but hardly less in
+those which work to his hurt. Even in those alternations of good and
+bad trade, which spell so much unemployment and misery, there is
+discernible a rhythmic regularity like that of the process of the
+seasons, or the ebb and flow of the tide. This is not an elegance to
+be admired. Furthermore, in so far as the order comprises adjustments
+and tendencies which are beneficial (as, indeed, is mainly true),
+there is no warrant for assuming that these are either adequate to
+secure a prosperous community or dependent upon the social
+arrangements which happen to exist. Let us, therefore, refrain from
+premature polemics and examine in a spirit of detachment some further
+aspects of the elaborate, but yet unorganized, cooperation of which so
+much has been already said.
+
+
+§4. _Some Reflections upon Joint Products_. A quite inadequate idea of
+the complexity of this coöperation is obtained by dwelling on the
+numbers of people who participate in it, or the immense distances over
+which it extends. The deficiency can be partially supplied by
+referring to some of the more obvious of the many subtle
+interconnections which exist between different commodities and
+different trades.
+
+There are innumerable groups of commodities (which it is customary to
+term "joint products") such that the production of one commodity
+belonging to the group necessarily implies or very greatly facilitates
+the production of the others. Wool and mutton; beef and hides; cotton
+and cotton-seed are a few familiar illustrations. The important
+feature of these "joint products" is the fairly precise relation which
+must exist between the quantities in which the different products are
+supplied. If you plant a certain crop of cotton, it will yield you so
+much cotton lint and so much cotton-seed. You can, of course, if you
+choose, throw away part of the seed, as indeed at one time planters
+used to do; but unless you do this, you cannot vary the proportions of
+the two things which you will have for sale. Similarly, if you keep a
+flock of sheep, or a herd of cattle, you will obtain wool and mutton
+in the one case, or beef and hides in the other, in proportions, which
+indeed you can vary within certain limits by choosing a different
+breed,[1] but which you cannot radically transform. When, however, we
+turn to the uses to which these products are put, no similar relation
+is to be discovered. Cotton lint is used chiefly for making articles
+of clothing; cotton-seed for crushing into oil, on the one hand, and
+cake for cattle fodder on the other. There is no apparent connection
+of any kind between the demands for these different things, and still
+less is there any obvious reason why these demands should bear to one
+another the particular proportions which characterize their respective
+supplies. It is very much the same with wool and mutton; with beef and
+hides; with all "joint products." Why should we consume mutton on the
+one hand and woolen clothing on the other, in a ratio at all
+commensurate with that in which they are yielded by the sheep?
+
+[Footnote 1: These possibilities of small variation are of very great
+importance as will be shown in Chapter V, but they do not affect the
+present argument.]
+
+What, then, might we expect to find if order was nonexistent in the
+economic world? Surely that some things such as wool would be produced
+in quantities many times in excess of the demand for them, quite
+possibly five, ten, or twenty times in excess; while conversely the
+supplies of others such as mutton might fall far short of what was
+required. But in practice we find nothing of the sort. Somehow it
+comes about that an equilibrium is established between the demand for
+and the supply of every commodity; and that this applies to wool and
+mutton, to beef and hides, as surely as to commodities which are
+produced quite independently. It is true that this equilibrium is a
+rough, imperfect one; and it may happen that what is called a "glut"
+of wool may co-exist for a short period with what is called a scarcity
+of mutton. But qualifications of this nature are in the strictest
+sense of the phrase, the exceptions which prove the rule. For the
+departures from equilibrium which gluts and scarcities represent are
+always transient and are usually confined within narrow limits. A
+strong prevailing trend towards an adjustment of demand and supply is
+unmistakably manifest amid all the vagaries of changing circumstance.
+Let me carry the argument a step further for the benefit of any reader
+who is restrained by a repugnance too deep and instinctive to be
+readily overcome, from admitting fairly to his mind that conception of
+order which I am endeavoring to emphasize. He will in all probability
+be one who, cherishing ideals of a better and fairer system of
+society, looks forward to a time when an organized coöperation will be
+substituted for what he regards as the existing chaos. Let us suppose
+that his visions were fulfilled as completely as he could desire; and
+that an immense system of Socialism were in existence, embracing not
+one country only, but the whole world. Suppose all the difficulties of
+human perversity and administrative technique to have been surmounted
+and a wise, disinterested executive to be in supreme control of our
+business life. Let us suppose all this, and ask only the question: How
+would this executive treat the humdrum case of wool and mutton? How
+would it decide the number of sheep it would maintain?
+
+Shall we suppose that it is inspired by the ideal "to each according
+to his need," and that it resolves accordingly that the commodities
+which people require for a decent standard of life shall be supplied
+to them as a matter of course? How, then, would it proceed? It might
+estimate the amount of woolen clothing which a normal family requires,
+allowing for differences in climate, and possibly indulging somewhat
+the caprices of human taste. On this basis, a certain number of sheep
+would be indicated. It might perform a similar calculation for mutton,
+and again a certain number of sheep would be indicated. But it would
+be an extraordinary coincidence if the numbers which resulted from
+these independent calculations were nearly equal to one another, or
+were even of the same order of magnitude; and, if they differed
+widely, what number would our world executive select? Would it decide
+to waste an immense quantity of either wool or mutton; or would it
+decide that it could not, after all, supply the full human needs for
+one or other of the commodities?
+
+Of course, if the executive were sensible it could solve the problem
+satisfactorily enough. It could retain the monetary system we know
+to-day and it could supply the commodities to the consumers, not as a
+matter of right, but by selling them to them _at a price_. This price
+it could then move upwards or downwards, raising, say, the price of
+mutton and reducing that of wool, until it found that the consumption
+of the two things was adjusted in the required ratio. But if it acted
+in this manner, what essentially would it be doing? It would be
+seeking by deliberate contrivance to reproduce, in respect of this
+particular problem, the very conditions which occur to-day without aim
+or effort on the part of anyone at all.
+
+The moral of this illustration must not be misinterpreted. It does
+not show the folly of Socialism or the superiority of
+Laissez-faire. What it does show is the existence in the economic
+world of an order more profound and more permanent than any of our
+social schemes, and equally applicable to them all.
+
+
+§5. _Some Reflections upon Capital_. Another aspect of the great
+cooperation is of even greater significance. It embraces not only a
+multitude of living men, but it links the present together with the
+future and the past. The goods and services which we enjoy to-day we
+owe only in part to the labors of the week, the month, or the year,
+only in part even to the efforts of our contemporaries. The men, long
+since dead and forgotten, who built our railways, or sunk our coal
+mines, or engaged in any of a great variety of tasks, are still
+contributing to the satisfaction of our daily wants. The expression is
+not altogether fanciful; for, had it not been reasonable to expect
+that those labors would be of use to us to-day, many of them in all
+probability would never have been undertaken. It was to meet our
+present wants, and even our future wants, that many men toiled on
+monotonous tasks ten, twenty, thirty years ago. And yet, of course, we
+should deceive ourselves if we supposed that this was the motive of
+these men, that our welfare was the centre of their heart's desire. We
+in our turn dedicate to the future, and often to a distant future, an
+immense portion of our energies. Let any reader who doubts this, study
+the statistics of the occupations of the people, and reflect on how
+long a period must elapse before the labors of this trade or that can
+fulfil their ultimate function. How long would the period be in the
+case of a man making bricks, which will later be employed in the
+erection of a factory, where machinery will be made, to equip an
+electrical generating station designed to supply, over a period of
+many years, light, heat, and power to people living in a remote
+Continent? A longer time, it may be hazarded, than he is accustomed
+to look ahead.
+
+Like the daily cooperation of living men, this cooperation of past,
+present and future is essential to the well-being of mankind, and yet
+it is undesigned and unorganized. As private individuals, men do,
+indeed, deliberately provide for their own future, and for that of
+their kith and kin: as the directors of businesses, they try to
+forecast the trend of demand. But such conscious calculations and
+deliberate acts would avail little if they stood alone. They are
+hardly more than the necessary spokes in the great wheel which
+regulates the relations of past, present and future. The hub of the
+wheel is an elaborate system of borrowing and lending, essentially
+similar to the buying and selling of commodities. The private
+individual in order to provide for his family or for his old age
+"saves" and "invests." But what exactly does this mean? It means that
+he transfers so much purchasing power, which he might have spent on
+his personal pleasures, to some one else in return for the expectation
+of receiving, year by year in the future, he and his heirs after him,
+a certain smaller quantity of purchasing power. The other party to the
+transaction will be, we may suppose, a business man who enters into it
+because he sees the opportunity of a promising industrial development,
+to undertake which he requires more purchasing power than he himself
+possesses. And, because this transaction is entered into, a smaller
+number of us will shortly be engaged in making motorcars, or
+gramaphones, and a larger number of us in making factories and
+machinery, which will later enhance the world's productive power.
+
+Many transactions of the kind take place daily in modern communities,
+and their multiplicity gives rise to a mass of phenomena with which we
+are all tolerably familiar. We recognize a short-loan market, a stock
+exchange, a number of "markets" where lenders and borrowers are
+brought together by the aid of various intermediaries, such as banks,
+bill brokers, and stock jobbers, who correspond to dealers in
+commodities. Between these different specialized markets, we are
+aware of an interconnection so close and strong that we speak more
+generally of a Capital Market, of which the stock exchange, the
+short-loan market and so forth, are the component parts. Now, "market"
+is a word which was originally used to denote a place where tangible
+commodities were bought and sold; and the more closely we examine the
+phenomena of the Capital Market, the more closely do we perceive the
+profound resemblance between the mechanism of borrowing and lending,
+and that of buying and selling. Corresponding to the price of a
+commodity is the rate of interest (in the short-loan market we
+actually call the rate of Discount "the price of money," and speak of
+money being cheap or dear); and between the rate of interest, the
+demand for and the supply of capital there exist relations precisely
+similar to those between price, demand, and supply in commodity
+markets. Above all there is the same strong prevailing trend towards
+an adjustment of demand and supply.
+
+This fundamental resemblance between two such apparently
+incommensurable things as the buying of material commodities and the
+borrowing of capital is highly significant; it is another instance of
+that order in the economic world, of which the reader may now be
+growing weary. But so difficult is it to see clearly and fully
+something which one sees, as it were, every day of one's life, that a
+few more moments of reflection on the special case of capital will be
+time well spent. Let us revert then to our fantasy of a world
+socialist commonwealth; and humbly submit another poser to its supreme
+executive. The question this time will be whether some great
+constructional work, such, let us say, as the recently mooted Severn
+barrage scheme, should or should not be undertaken. Let us suppose
+that the costs and future benefits of the undertaking can be estimated
+accurately; and that the problem reduces itself to one of expending
+now a sum, let us say, of $100,000,000, with the prospects of
+obtaining in the future an income of power, or whatever it may be,
+worth $5,000,000 per annum. I have assumed for the sake of simplicity
+that we shall still be reckoning in terms of money, though possibly
+the executive may have substituted Marxian labor units; but it is
+quite immaterial to the present argument what the measuring rod may
+be. The point to be observed is, that it is impossible to tackle the
+problem at all without the conception of a rate of interest. For
+suppose that you tried to do without it, and said, "We shall take a
+long view. The interests of the future are no less our concern than
+those of the present; we shall not discriminate between them. We shall
+regard as an enterprise worthy to be undertaken whatever promises to
+yield in the course of time a return larger than the outlay." Where
+will this lead you? The particular proposal set out above would
+clearly pass the test; for in twenty years the resultant benefits
+would have added up to a figure equivalent to the initial cost. But
+equally clearly, the cost might have been more than $100,000,000; it
+might have been $250,000,000, $500,000,000, whatever figure you care
+to take, and if you extend the period similarly to fifty or one
+hundred years, sooner or later the gains would top the cost. Now there
+is no limit to the enterprises which would pay their way on this
+basis; and it would be quite impossible to undertake them all. For
+they would swallow up all and more than all your labor and your
+materials, and would leave you with no resources with which to meet
+the recurrent daily wants of men. Clearly, then, in some way or other,
+you must pick and choose, you must reject some enterprises as
+_insufficiently_ worth while. But how would you proceed to choose?
+Without a clear principle, a simple criterion to guide you, you would
+be plunged in utter chaos. You could not say, "Let all proposals
+involving capital expenditure be submitted to a central committee, who
+shall compare them with one another in a sort of competitive
+examination and, after deciding the number of applications they can
+pass on the basis of the volume of resources which they can devote to
+the future, award the places to those which head the list." Such a
+prospect is a nightmare of officialism and delay. You would be driven
+to formulate a simple, intelligible rule or measure, and leave that
+rule to be applied by the unfettered judgment of innumerable men to
+individual problems, as and when they arose. And for such a rule or
+measure, you could not do better than a rate of interest; you would
+have to lay it down that only those projects should be approved which
+promised a return of 6 per cent, or whatever it might be. Even in
+deciding what it should be, the limits of your choice would be
+narrowly confined. If, for instance, you fixed on 1 or 2 per cent,
+you would probably discover that you had not achieved your object,
+that the undertakings for distant returns which passed this test,
+still consumed far more resources than you could spare. You would be
+compelled then to raise the rate until it had cut these enterprises
+down within manageable limits. But, once more, what essentially would
+you be doing? You would be using the instrument of the rate of
+interest to adjust the demand for and supply of capital, though indeed
+the interest might not be paid away as now to private individuals. You
+would be reproducing by the method of deliberate trial and error, the
+adjustments which occur automatically as things are, in the actual
+world. Once again the most perfectly contrived Utopia would be
+compelled to pay to the unorganized coöperation of our epoch the
+sincerest flattery of imitation.
+
+
+§6. _The Fundamental Character of many Economic Laws_. But again
+perhaps a word of warning may be desirable. There is much controversy
+in these days about something called "Capitalism" or "The capitalist
+system." When these words are used with any precision, they usually
+refer to the arrangement so prevalent at present, whereby the
+ownership and sole ultimate control of a business rests with those who
+hold its stocks and shares. There is much to be said upon the merits
+and demerits of this system; something will perhaps be said upon the
+matter in the fifth volume of this series; but I shall not discuss it
+here. Nothing that I have said so far has any real bearing on it
+whatsoever; to suppose that it has, is indeed to miss the whole point
+of this chapter.
+
+The order, which I have sought to reveal, pervading and moving the
+most diverse phenomena of the economic world, would be a far less
+noteworthy and impressive thing were it merely the peculiar product of
+capitalism. Merchant adventurers, companies, and trusts; Guilds,
+Governments and Soviets may come and go. But under them all, and, if
+need be, in spite of them all, the profound adjustments of supply and
+demand will work themselves out and work themselves out again for so
+long as the lot of man is darkened by the curse of Adam.
+
+
+
+CHAPTER II
+
+THE GENERAL LAWS OF SUPPLY AND DEMAND
+
+
+§1. _Preliminary Statement of Three Laws_. The recognition of order in
+any branch of natural phenomena is but the prelude to the formulation
+of a set of laws, the simpler as the order is more universal, which
+describe, and as we say, explain it. Thus the perception of the even,
+elliptical courses of the heavenly bodies led to the statement of the
+law of gravitation and the laws of motion.
+
+In economics, similar laws have long since been enunciated, and have
+proved themselves such valuable instruments for the understanding of
+the daily problems of the workaday world, that they have been woven
+into the texture of our ordinary speech and thought. I have already
+touched upon them in the preceding chapter. But it is now desirable to
+set them out in order, in the most concise and formal manner possible.
+
+LAW I. When, at the price ruling, demand exceeds supply, the price
+   tends to rise. Conversely when supply exceeds demand the price
+   tends to fall.
+
+LAW II. A rise in price tends, sooner or later, to decrease demand and
+   to increase supply. Conversely a fall in price tends, sooner or
+   later, to increase demand and to decrease supply.
+
+LAW III. Price tends to the level at which demand is equal to supply.
+
+These three laws are the cornerstone of economic theory. They are the
+framework into which all analysis of special, detailed problems must
+be fitted. Their scope is very wide. I have purposely refrained from
+introducing into my statement of them any reference to commodities;
+for they extend far beyond commodities. Subject to an important
+qualification, they apply to capital, the price paid for the use of
+capital being what we call the rate of interest. They apply hardly
+less to "services," to the remuneration of labor of every kind and
+grade. People sometimes protest warmly against the idea of treating
+labor "like a commodity." If this indignation expresses no more than
+a belief that in matters concerning conditions of work, and relations
+between employees and the management, the sensibilities of human
+nature should be taken into due account, it is based on elementary
+decency and commonsense. But if, as sometimes appears, it is directed
+against the fact that the remuneration of labor is controlled by the
+laws of supply and demand, it is a mere baying at the moon, with
+singularly little provocation. For these laws are in no way peculiar
+to commodities, and it is no one's fault that they include commodities
+too within their scope.
+
+But let us go back to the laws themselves, and probe them and dissect
+them, and turn them this way and that, so that we may perceive their
+full content, and grasp it firmly in our minds. The third law implies
+a prevailing tendency for demand to be equal to supply. This
+tendency, as was suggested in Chapter I, can be verified by anyone
+from his experience and observation (provided he is a reasonable
+person, and not the tiresome kind who would dispute the law of
+gravitation because he sees that a feather falls to the ground more
+slowly than a stone). But it can also be deduced as a corollary from
+the two preceding laws; and to regard it in this way will help us to
+appreciate its significance. Start, for instance, by supposing that
+demand is in excess of supply. Then the price will tend to rise. After
+the price has risen, the supply will become larger, while the demand
+will fall away. The excess of demand with which we started will thus
+clearly be diminished. But if there remains any portion of this
+excess, the same reactions will continue; the price will rise further,
+and for the same reason; demand will be further checked and supply
+further stimulated. In other words, these forces must persist until
+the entire excess of demand over supply is eliminated. If we start by
+supposing supply to exceed demand, the converse chain of sequences
+will operate. Now these very simple steps of reasoning illuminate the
+nature of the normal equilibrium of demand and supply. They reveal
+that the equilibrium is established and maintained by the agency of
+_changes in price_, and they enable us to lay it down as perhaps the
+most important thing that can be said about the price of anything that
+it will tend to be such as will equate demand and supply. But that is
+not all that they reveal. They reveal also the extreme dependence of
+both demand and supply upon price.
+
+Now this is a fact which it is most important to realize vividly. It
+is apt to be obscured by customary modes of speech. In ordinary times
+the prices of most commodities and services do not change by very
+much, unless indeed over a long period of years; the amounts demanded
+and supplied may therefore seem to maintain a fairly constant level;
+and we may be tempted to speak of Great Britain producing so many
+million tons of coal, or America consuming so many millions of
+motor-cars per annum, almost as though these quantities were
+independent of price considerations. But we should never forget that
+there is no service or commodity produced by man, however essential it
+may seem, the demand for or the supply of which might not be reduced
+to nothing, if the price were sufficiently raised on the one hand, or
+lowered on the other. How easy it is sometimes to forget this simple
+truth may be seen from the mistake so commonly made of supposing,
+because the peoples of Central Europe were left, on the cessation of
+the war, starving and destitute of the means of life and the materials
+of work, that they must necessarily become heavy purchasers of
+imported goods; without pausing to consider whether the prices were
+such as they could afford to pay.
+
+
+§2. _Diagrams and their Uses_. It will help to prevent mistakes like
+this and more generally to make sharp and clear the fundamental
+relations which exist between demand, supply and price, if we exhibit
+them pictorially in the form of a diagram. Such diagrams are of great
+service in many parts of economic theory, not because they can prove
+anything which could not be proved otherwise, but because, being
+really a simpler medium of expression than words, they enable the mind
+to grasp more readily and to retain more vividly the essential facts
+of complex relations.
+
+Figure 1:
+
+     Y
+       |
+       |                                            S'
+       |                                          *
+     D |                                         **
+       |*                                       **
+       | **                                    *
+       |  **                                  *
+       |    *                                *
+       |     **                            **
+       |      **                          *
+       |        **                       *
+       |         **                    **
+       |           **                 *
+       |            **  Q           **
+    _l_|--------------*------------* R
+       |              |***       **
+       |              |   ** P **
+    _m_|--------------------***
+       |              |  *** |***
+    _k_|--------------***----+---** _r_
+       |          _q_*|      |     ***
+       |          *** |      |        ****
+       |       ***    |      |           ****
+       |    ***       |      |               ***
+     S |****          |      |                  ****
+       |              |      |                      ** D'
+       |              |      |
+       |              |      |
+       |              |      |
+       |              |      |
+      0+-------------------------------------------------------- X'
+                      N      M.
+                              Figure 1
+
+In Fig. 1 the curve DD' represents the conditions of demand. It is
+supposed to be drawn in such a way that if any point, Q, be taken on
+the curve, and the perpendicular QN be drawn to meet the base line, or
+axis OX, then ON will represent the amount that will be demanded at a
+price represented by QN (or O_l_). In other words, distances measured
+along OY represent prices, and distances measured along OX represent
+quantities of the commodity, or service, or whatever it may be.
+Clearly, then, the demand curve, DD', must slope downwards from left
+to right, since the lower the price asked, the greater will be the
+amount demanded.  Similarly the curve SS' represents the conditions of
+supply. It is supposed to be so drawn that if any point _q_ be taken
+upon it, and the perpendicular _q_N be drawn to meet OX, then ON will
+represent the amount that will be supplied at a price represented by
+_q_N (or O_k_). Equally clearly this supply curve must slope upwards
+from left to right, since the higher the price obtainable, the greater
+will be the quantity offered. Take the point P where the two curves
+meet, and draw the perpendicular PM to meet OX. Then the third law
+enunciated at the beginning of this chapter corresponds to the
+statement that PM or O_m_ will represent the price at which the
+commodity or service will be exchanged.
+
+It can readily be seen that no other price could be maintained. For
+suppose the price to be less than O_m_, suppose it to be O_k_, then,
+at this price, ON (or _kq_) will be the amount supplied, and _kr_ the
+amount demanded. The demand will thus exceed the supply, and the
+price will tend to rise, i.e. to move upwards towards O_m_. Similarly
+if we suppose the price to be O_l_, which is larger than O_m_, the
+supply (_l_R) will exceed the demand (_l_Q) and the price will fall
+downwards towards O_m_. Thus, again, we have deduced Law III from Laws
+I and II with the form and precision of a proposition in Euclid. Now,
+when once the eye has become familiar with this diagram, it ought to
+be impossible for the mind to lose even momentarily its grip on the
+fact that demand and supply are both dependent upon price. For these
+curves do not represent any particular amounts; they represent a
+series of _relations_ between amount and price; if the price is QN the
+amount demanded is ON, and so forth. The terms demand and supply in
+the sense, in which I have been using them, of the respective amounts
+demanded and supplied are, indeed, strictly meaningless without
+reference to some particular price. The reference may sometimes be
+implicit; but, whenever there is a chance of ambiguity, it should be
+explicitly made.
+
+
+§3. _Ambiguities of the Expressions, "Increase in Demand," etc_. It is
+the more important to be precise upon this point, in that there is a
+further possible confusion which we have now to consider. Demand and
+supply, as we have seen, are dependent upon price; but equally clearly
+they are dependent upon other things as well. Demand depends upon the
+needs, tastes and habits of the people, as well as upon the length of
+their purse; supply depends upon such things as the cost of production
+in the case of commodities. None of these things are constant
+factors, all of them are liable to change, and it may well happen that
+we shall want to consider in some concrete problem the probable
+consequences of such a change. Now the most usual and natural way of
+describing such changes in the medium of words is to use the
+expression "increase" or "decrease in demand," and "increase" or
+"decrease in supply," the same expressions, which we employed before
+to describe the consequences of a change in price. This identity of
+language conceals a fundamental distinction between the phenomena
+described; and to make this distinction plain we cannot do better than
+revert to our diagrammatic presentation of the laws.
+
+Figure 2:
+
+    Y |
+      |
+   _d_|
+      |.
+      | .
+      |  .                                         _s'_
+      |   .                                       .
+    D |    .                                     .
+      |**   .                                   .    * S'
+      | **   ..                                .    *
+      |  **    .                               .   *
+      |   **    .                            ..   *
+      |     *    ..                         .    **
+      |      **    .                       .    **
+      |       **    ..                   ..    **
+      |         *     .                 .     *
+      |          **    .               .     *
+      |           **    ..            .    **
+      |             **    ..        ..    **
+      |              **     ..    ..    **
+      |                **     . ..    **
+      |                 ** p' ..     **
+      |                   **..  .. **
+      |                  ..|**p  **._p_
+      |                ..  | **** | ..
+      |             ...    |**|** |   ..
+      |           ..      *|  |  *|     ..
+      |      .....     *** |  |   |**     .
+   _s_|......       ***    |  |   |  **    ..
+      |          ***       |  |   |    **    ...
+      |     *****          |  |   |      **     ...
+    S |*****               |  |   |        **      ..
+      |                    |  |   |          ***     .._d'_
+      |                    |  |   |            ***
+      |                    |  |   |               **
+      |                    |  |   |                 **D'
+      |                    |  |   |
+      |                    |  |   |
+     0+---------------------------------------------------------
+                          M'  M  _m_
+                            Figure 2
+
+
+
+In Fig. 2 we start as before with our demand curve, and supply curve,
+cutting one another at the point P. We then suppose that some
+alteration takes place in the conditions of demand; there has been a
+growth in the general taste for the commodity or service, and the
+demand, as we say, has increased accordingly. How is this fact to be
+represented in the diagram? Plainly not by taking another point on
+the curve, DD', at a further distance from OY. For this would merely
+indicate the larger amount that would be taken, if the conditions of
+demand had remained unaltered but the sellers had reduced their
+prices. The correct way of representing the change we have supposed is
+to construct a new demand curve (in the figure, the dotted curve
+_dd'_), lying at every point above the old demand curve. For this
+indicates that larger quantities will be purchased at the old prices,
+which is exactly what we want to represent. Similiarly if we wish to
+represent a change in the conditions of supply, such as might result,
+in the case of a commodity, from a tax imposed on its production, we
+must draw a new supply curve, _ss'_, which in the case supposed, must
+lie everywhere above the old supply curve. On the other hand, the
+decrease or increase in demand or supply, _resulting_ from a change in
+price, is represented simply by a shifting of the equilibrium from one
+point to another on the same curve. The striking pictorial contrast
+between a movement from one curve to another, and a movement along the
+same curve should help to make vivid to our minds the fundamental
+distinction between a change in the _conditions_ of demand, arising
+from new tastes, enhanced purchasing power, etc.; and a mere change in
+the amount purchased resulting from an alteration in the price which
+the sellers ask. Words, as this necessarily cumbrous sentence shows,
+are a clumsy instrument for the expression of abstract relations; it
+is not very easy to see which words in a sentence are the significant,
+commanding ones, and which are performing, as it were, ordinary
+routine duties. A diagram is not exposed to similar ambiguities of
+emphasis.
+
+The particular distinction, to which attention has been called, is
+important. The reader who has grasped it clearly will be able to
+perceive many instances of the confusion arising out of its neglect in
+the ordinary discussions of economic questions which take place in the
+press and on the platform. It is not uncommon, for instance, for an
+argument to run something like this: "The effect of a tax on this
+commodity might seem at first sight to be an advance in price. But an
+advance in price will diminish the demand; and a reduced demand will
+send the price down again. It is not certain, therefore, after all,
+that the tax will really raise the price." A glance at the diagram
+will keep us out of such a bog of sophistry and muddle. For if we
+suppose the amount of the tax per unit of the commodity to be
+represented by S_s_, the curve _ss'_ (drawn, as it is, roughly
+parallel to SS') will represent the new conditions of supply after the
+tax has been imposed. The new position of equilibrium will be given by
+the point P', where _ss'_ cuts DD', the demand curve. Now P' lies to
+the left of P the old point of equilibrium; hence, since DD' _must_
+slope downwards from left to right, it is clear that, if, as it is
+fair here to assume, the _conditions_ of demand have remained
+unaltered, the new price P'M', must be greater than the old.
+
+
+§4. _Reactions of Changes in Demand and Supply on Price_. Having now
+made clear the meaning that must be attached to the terms, let us
+consider the question which naturally arises, whether we can lay down
+any general propositions or laws as to the effect upon price, of an
+increase or decrease in demand or supply. Another glance at the
+diagram suggests that we can. An increase in demand is represented in
+Fig. 2 by a movement from DD' to _dd'_, which cuts the supply curve,
+SS', at _p_, to the right of P. Since the supply curve (drawn, as it
+is best to draw it, to represent the amount which will be supplied in
+response to a given price) must always slope upwards from left to
+right, the new price, _pm_, must be greater than the old, PM.
+Conversely a decrease in demand is represented by a movement from
+_dd'_ to DD', and the new price is seen to be less than the old. We
+have already seen that a decrease in supply, which is represented by a
+movement from SS' to _ss'_ results in a higher price; and it is the
+obvious converse that an increase in supply will have the opposite
+effect. It would seem then that we might lay down quite generally that
+an increase in demand or a decrease in supply will raise the price
+while a decrease in demand or an increase in supply will lower it.
+
+But here it is necessary to be cautious. All conclusions as to the
+effects of causes are necessarily based, implicitly, if not
+explicitly, upon the assumption "other things being equal." This
+method of reasoning, which some people appear to find so irritating in
+the economic sphere, and as they say so "theoretical" and "unreal," is
+one which they adopt readily enough in every other department of
+life. No one, for instance, objects to the statement that the sun,
+when it comes out, makes a room warmer, although it may very well
+happen, if a fire is dying at the same time, that the room grows
+colder in point of fact. For in our general statement we assume
+implicitly that "other things" such as fires, are unchanged. But
+assumptions of this kind are legitimate only when there is no reason
+to suppose that the cause, the effects of which are being studied,
+will itself produce a change in the "other things." If (as I have
+often been told; I really do not know if it is true) the rays of the
+sun help to put a fire out, the statement made above would be the
+better for some qualification.
+
+Now we can only say that an increase in demand raises price if we
+assume the conditions of supply (as represented by the supply curve)
+to remain unchanged. But in practice, an increase in demand may cause
+a change in the _conditions_ of supply. An increase, for instance, in
+the demand for a commodity may give rise to a revolution in the
+methods of production, to the introduction of labor-saving machinery
+and so forth, which will eventually result in the commodity being
+produced more cheaply. It will certainly take a considerable time
+before reactions of this kind can exert an appreciable influence; and
+we can, therefore, feel reasonably sure that over a short period an
+increase in demand will raise the price. But we cannot be sure what
+the ultimate effect will be. A similar alteration in the condition of
+demand is less likely to result from an increase or decrease in
+supply; but it may conceivably occur. We must, therefore, be careful
+to qualify any general propositions which we lay down in this
+connection, by explicit reference to a short period of time. We can
+add the following to our body of laws:--
+
+LAW IV. An increase in demand, or a decrease in supply will tend to
+   raise the price for a short period at least. Conversely a decrease
+   in demand, or an increase in supply will tend to lower the price
+   for a short period at least.
+
+
+This law, like the others, applies to commodities, services, capital,
+to anything which can be said, literally, or by analogy, to have a
+price. "A short period" is, however, a vague expression and, since
+precision is the hallmark of an important law, we must accord to this
+one a status inferior to that which the preceding three can rightly
+claim.
+
+
+§5. _Some paradoxical reactions of price changes on supply_. Let us
+turn, though, once more to these earlier laws, and with a heightened
+critical sense let us submit them to the test of the whole gamut of
+our experience, and see if in any of them we can find the smallest
+flaw. The first of them will pass through the ordeal--let each reader
+prove it for himself--unscathed. The second will emerge with a few
+hairs, as it were, singed. It tells us, for instance, that a rise in
+price will tend to augment the supply. Now there are some things the
+supply of which cannot possibly be augmented; these are the capital
+resources of nature, of which land is the most important for our
+present purpose. Land is bought and sold, it commands a price. In a
+certain sense, it may be said to be possible to increase the supply of
+land, in response to a rise in price, by drainage and reclamation
+schemes; and it will certainly happen that a rise in the price which
+land can command for any particular purpose will increase the amount
+which is devoted to that purpose. But, speaking broadly, the supply
+of land available for purposes of every kind is a fixed unvarying
+factor, with an inertia which the cajolery of price-changes is
+powerless to disturb. This is a most important fact, and it gives rise
+to some peculiar features of the price and rent of land, which we
+shall have to consider later as a separate problem. It constitutes a
+limiting case rather than an exception to the general law. But we have
+not yet done with the reactions of price upon supply. In the case of
+capital, the nature of those reactions has been much discussed as a
+highly controversial question. That a rise in the rate of interest
+will cause some people to save more than before, is generally
+admitted; but it is pointed out that the effect upon others may be the
+exact opposite, because it means that they do not need to save so much
+to acquire the same future annual income. It is unwise to say
+dogmatically that the former tendency outweighs the latter; though
+upon the whole it seems highly probable that it does. We cannot,
+therefore, in this case feel confident that a change in price will
+react upon supply in the manner which our law indicates. Similarly it
+is possible to argue that a rise in the general level of real wages
+may reduce the supply of labor, even, or some might say particularly,
+if the term is used to denote not the number of workpeople, but the
+quantity of work done. For there may be a tendency for workpeople,
+when more comfortably off, to work less regularly or less hard. Here
+again we cannot be sure. In none of these cases, however, including
+that of land, is there any reason to doubt that a rise in price will
+diminish _demand_, or conversely that a fall will increase it. Since,
+therefore, in the reasoning by which we deduced the third law, the
+conclusion will hold good, even if the effects of price-changes on
+supply are of the above paradoxical kind, provided that they do not
+continually outweigh the effects upon demand, there is no reason to
+cast doubt on the solidity of Law III, which, indeed, as we suggested
+before, commends itself directly to experience. But Law II seems now,
+perhaps, somewhat the worse for wear.
+
+The damage, however, is not considerable. For in each case the
+uncertainty arises only when we are dealing with one of the factors of
+production, land, labor or capital, _regarded as a whole_. If we are
+dealing with the capital available for a particular industry, a rise
+in the rate of profit in that industry will certainly increase the
+supply of capital available there; for it will tend to attract savings
+that might otherwise have been employed elsewhere. We can even be
+fairly sure that an increase in the general rate of interest
+prevailing in any particular country will increase the total supply of
+capital available for the businesses of that country, since capital
+has in modern times acquired a considerable migratory power. In the
+case of labor, we cannot go so far as this; but here, too, there is no
+doubt that an increase in the remuneration offered in any particular
+occupation will attract an increased labor supply (always supposing,
+of course, that "other things are equal"). No similar difficulty
+arises for land, labor or capital, as regards the effect of
+price-changes on demand; while for ordinary commodities there is no
+such difficulty on the side either of demand or of supply. Hence the
+only qualification which the strictest accuracy would require us in
+this connection to attach to our statement of Law II is the
+postscript:--
+
+
+   "Except that, in the case of land, the aggregate supply is
+   unalterable; while in the case of capital or labor we cannot be
+   sure how price-changes will affect the aggregate supply."
+
+
+Much significance attaches to these exceptions, as later will appear.
+
+
+§6. _The Disturbances of Monetary Changes_. But let us still keep a
+critical eye on Law II, and submit it to another flashlight from our
+practical experience. The recent world war made us all acutely aware
+of a remarkable rise in the price of almost everything, which yet did
+not seem to diminish appreciably the demand. The explanation of this
+paradox is not difficult to find. There was an immense increase in the
+volume of nominal purchasing power, due to a complex set of causes, of
+which "currency inflation" may be taken as the symbol. Now perhaps we
+are entitled to assume the absence of such currency changes as part of
+the "other things being equal" which is always understood as
+implied. But it is rash to take this particular assumption for
+granted, more especially in these days. Already people are too apt to
+speak as though the trade depression (which as these pages are written
+holds us in its grip) cannot pass away until pre-war prices are
+restored, ignoring altogether the great and probably permanent
+increase in nominal purchasing power which the war has left behind
+it. It would be safer, therefore, to add explicitly to Law II the
+reservation, "Assuming that there is no change in the general volume
+of purchasing power."
+
+Monetary and allied questions will form the subject of the second
+volume of this series. It must not be supposed that our general laws
+have no bearing on them. On the contrary, Law I, which all this time
+has remained serene and undisturbed by the occasional discomfitures of
+Law II, is the gateway through which all questions of currency,
+banking and the foreign exchanges should be approached. It is well to
+note, as an inexorable corollary of Law I, that prices can rise _only_
+if demand exceeds supply, and fall _only_ if supply exceeds demand;
+and hence that it is only through the agency of changes in the demand
+for and supply of commodities and services that an inflation or
+deflation of the currency can influence the price level. Further,
+since a condition of things in which supply generally exceeds demand
+spells what we know and fear as a trade depression, it may be well to
+note at once that falling prices and unemployment are inseparable
+bedfellows. For we are far too apt to shut our eyes to these
+unpleasant truths. But we cannot pursue them further here; and in the
+remainder of this volume we shall not be concerned (except, perhaps,
+incidentally) with questions affecting the general level of prices or
+of purchasing power; but rather with the relation which the price of
+one commodity bears to that of another, with the rate of interest
+(which being a rate per cent is not essentially dependent on the price
+level), with "real" wages (as distinct from money wages) and the like.
+
+
+§7. _The Trade Cycle_. But our reference to trade depressions suggests
+a final comment on Law II. One small qualification was embodied in our
+original statement of it, namely the words "sooner or later." A rise
+in price may not check the demand immediately (even if the printing
+presses are standing idle in the Treasuries); it may actually
+stimulate it for a time. For people may fear that the price will rise
+further still, and hasten to buy what they _must_ buy before very
+long. Sellers may share the same opinion, and be reluctant on their
+side to part. When prices are falling the roles are reversed, and we
+are likely to see the sellers tumbling over one another in a frantic
+eagerness to sell, the buyers wary and aloof. Sooner or later, indeed,
+these tendencies must dissolve and disappear; but they may persist for
+a longer period than might seem probable at first. For the raw
+material of one trade is, as we say, the finished product of
+another. The demand for one thing gives rise to a demand for other
+things, for the labor with which to make them, and so on in an
+expanding circle. A sympathy, subtle and intense, unites the business
+world, and a wave of depression or animation arising in any quarter
+may spread itself far and wide, heightened by the gusts of human hope
+and fear, and continue long before its influence is spent.
+
+Here we are upon the threshold of one of the most striking and
+formidable of economic facts, the regular alternation of periods of
+good and bad trade, each very widespread, if not world-wide, in its
+range, each comprising certain regular phases of acceleration and
+decay, and each infallibly yielding sooner or later to the other. The
+details of these phenomena are highly complex, some of them obscure;
+an immense literature has already been devoted to the subject, yet its
+systematic study is hardly more than begun. The account given in the
+preceding paragraph is incomplete and meagre. It is inserted here in
+the hope that it will impress the reader with a sense both of the fact
+of these alternations and of the deeply rooted nature of the causes
+from which they spring. They take a heavy toll of human happiness and
+wealth; and there is no object that more urgently calls for concerted
+human effort than that of mitigating them, and of alleviating the
+misery which they bring in their train. Still better, of eradicating
+them if that is possible; but let none suppose that it can be lightly
+done. Meanwhile, let us always remember that they form the atmosphere
+and medium in which the enduring tendencies of the business world must
+work themselves out. It is often convenient to speak of "normal
+conditions" in this trade or that; but hardly ever can it be truly
+said of a particular moment that conditions are normal. The normal is
+rather a mean level about which oscillations to and fro, round and
+about, are constantly taking place, but which itself is reached only
+by accident, if at all. Whenever we say that some new factor should in
+the long run lower the price of this or that commodity or service, the
+picture which these words should convey to our mind is one of the
+price rising less on times of boom, and falling more in times of
+depression than is the case with other things. And if ever our faith
+in some honored economic law is shaken by the apparent ease with
+which, perhaps, in times of active trade, sellers are able to advance
+their prices to whatever figure (so it almost seems) they choose to
+name, let us rally our sense of economic rhythm, and reserve our
+judgment until the trade cycle has run its course.
+
+
+
+CHAPTER III
+
+UTILITY AND THE MARGIN OF CONSUMPTION
+
+
+§1. _The Forces behind Supply and Demand_. The laws enunciated in the
+preceding chapter constitute the framework and skeleton of all
+economic analysis; but they do not carry us very far. It is only
+through the agency of these laws that any influence can affect the
+price of anything: but what influences may so affect it is a question
+which we have still to consider.
+
+Let us begin with ordinary commodities and ask ourselves, in the light
+of experience and common sense, upon what factors their price seems
+mainly to depend? Two factors spring to mind at once; their cost of
+production and their usefulness. As regards the former, the case seems
+clear enough. We may indeed sometimes grumble that the price of this
+or that commodity is unconscionably high in comparison with its cost;
+but this only goes to show that we conceive a relation between price
+and cost as the normal, governing rule. If one commodity cost only a
+half as much to produce as another, we should think that something had
+gone very wrong indeed, if the former commodity were sold for the
+higher price. But, when we turn to the usefulness of commodities, the
+case is not so clear. Usefulness has some connection with price, so
+much is certain; for an entirely useless thing, fit only for the
+dust-bin (and known to be such, it may be well to add) will fetch no
+price at all, however costly it may be to produce. But it is not easy
+to express the connection in quantitative terms. It seems reasonable
+enough to say that the prices of commodities are roughly proportionate
+to their costs of production. But directly we contemplate saying a
+similar thing of their usefulness, we are pulled up short. As we look
+round the world, and enumerate the commodities which by common consent
+are the most useful, salt, water, bread, and so forth, the striking
+paradox presents itself that these are among the cheapest of all
+commodities; far cheaper than champagne, motor-cars or ball-dresses,
+which we could very well get on without. As things are, of course, a
+ball-dress, or a motor-car costs more to produce than a loaf of bread
+or a packet of salt; and the common-sense explanation of the paradox
+seems, therefore, to be that the cost of production is a more weighty
+influence than the usefulness, or utility, as we will henceforth call
+it (so as to include the satisfaction we derive from not strictly
+useful things). We are thus tempted to conclude that, provided a
+commodity possesses some utility, its price will be determined by the
+cost of production, the degree of utility being unimportant. This was
+exactly how the position was gummed up for many years in systematic
+treatises upon Political Economy; and it was not until fully half a
+century after the _Wealth of Nations_ that a discovery was made which
+threw a fresh light on the whole matter.
+
+First of all, let it be clearly observed how very unsatisfactory is
+the above account. In Chapter II where we were treading surely, with a
+sense of solid ground beneath us, we drew no such invidious
+distinction between supply and demand. They seemed then to possess an
+equal status. But cost of production is the chief factor which, in the
+case of commodities, ultimately determines the conditions of
+supply. Utility, similarly, is the chief factor which ultimately
+determines the conditions of demand. Must not then the symmetrical
+relations between demand and supply be reflected in a corresponding
+symmetry between the utility and the costs which underlie them? Demand
+springs obviously from utility; the only motive for buying anything is
+that it will serve some real or fancied use. Can we then accord to
+demand so dignified and to utility so subordinate a place? There is
+here an inconsistency which we must somehow reconcile. It will not
+serve as a solution to distinguish between different periods of time,
+and to say, as economists used to say not very long ago, that price is
+governed over a short period by demand and supply, but in the long run
+by the cost of production. This still leaves our sense of symmetry
+unsatisfied. Moreover, the conception of cost of production, when we
+consider it as ruling over a long period, frequently seems to lose any
+precision, as an independent factor, which it may otherwise
+possess. Motor-cars, we have agreed, are more costly to produce than
+loaves of bread; but, as we know well, the cost of producing
+motor-cars varies enormously, accordingly as they are produced on a
+small or a large scale. By the methods of mass production they can be
+turned out at a relatively low cost per car. But this requires that
+they should be purchased in large numbers and this in turn throws us
+back to the demand for motor-cars, and plainly enough, to people's
+judgment as to their utility. In some cases, the opposite phenomenon
+occurs. In the case of British coal, for instance, the average cost of
+production would be much lower than it is if the output were reduced
+to a fraction of its present volume, and if only the richer seams of
+the more fertile mines were worked. Once again, therefore it is
+difficult to measure the cost of production until we know the
+magnitude of the demand, which in a manner, which we have still to
+elucidate, clearly depends upon the utility.
+
+If we take the problem of joint products, the conception of cost of
+production fails us still more conspicuously. For what is the cost of
+producing wool, or the cost of producing mutton? We can speak of the
+cost of rearing sheep: but it is hardly possible to allot this cost,
+except quite arbitrarily, between the two products. How, then, can we
+explain the separate prices of these things by reference to cost
+alone? Instances of joint production are becoming so common in the
+modern world, or at least, with the growing attention to the
+utilization of by-products, are assuming so much more heightened a
+significance, that an explanation of price, which does not apply to
+them, is a very feeble one indeed.
+
+
+§2. _The Law of Diminishing Utility_. Let us turn back, then, to the
+factor of utility, and see if we cannot put on a more satisfactory
+basis the relation between utility and price. The clue to the puzzle
+is to be found in a brief reflection on the implications of the second
+general law propounded in Chapter II. A rise in price, it was there
+stated, will sooner or later diminish the demand. This was asserted as
+a matter of fact, observed from and confirmed by experience. But what
+does it signify? To what causes is this familiar fact to be
+attributed? The first stage of the answer is very ample. The many
+individuals, whose purchases make up the demand for the commodity,
+will buy smaller quantities now that the price is higher. Possibly
+some of them may cease to buy it altogether; but as a rule it would be
+reasonable to suppose that most people continue to buy a certain
+amount though a smaller amount than hitherto. Let us turn our
+attention, then, to the individual purchaser, and ask ourselves why he
+(or let us say she) acts in the manner indicated. The obvious answer
+is that the more she already has of anything, the less urgently does
+she require a little more of it. If she buys 6 pounds of sugar every
+week when the price is 7 cents a pound, but only 5 pounds when the
+price is 8 cents, she shows by her action that she does not consider
+that the additional utility she will derive from buying 6 pounds a
+week rather then 5 pounds is worth as much as 8 cents. But she shows
+at the same time that she thinks it worth 7 cents. For, when the price
+is 7 cents, no one compels her to buy that sixth pound. She could
+stop, if she chose, at five; and it may serve to make the point quite
+plain if we suppose her actually to hesitate before she buys the
+sixth. She has hitherto, let us say, been buying 5 pounds a week at 8
+cents. To-day she enters the shop and finds the price is down to 7
+cents. She asks for her customary 5 pounds; then she pauses, and a
+minute later turns her order into six. What are the alternatives which
+she has been weighing one against the other in that momentary pause?
+Not the utility of the whole 6 pounds of sugar against the total price
+of 42 cents. For she has already ordered the first 5 pounds; and the
+decision to buy the sixth is taken independently and subsequently. She
+has been sizing up the _increment_ of utility which a sixth pound
+would yield, and she decides that this is worth the expenditure of a
+further 7 cents. Again, when the price was 8 cents she need not have
+bought as many as 5 pounds. She could have stopped at 4 had she
+chosen, and the fact that she did buy 5 pounds shows that the
+increment of utility derived from buying a fifth pound, when she might
+be said already to have 4, was worth at least 8 cents in her judgment.
+
+This trite illustration enables us to lay down two important laws
+relating to utility. To state them shortly, it is convenient to employ
+one or two technical terms, which, unlike every term employed
+hitherto, are not very commonly used in their present sense in
+everyday life. Their adoption is desirable not merely for the sake of
+convenience, but because they help to stamp clearly on the mind a most
+illuminating conception, that of the "margin," which supplies the clue
+to many complicated problems. The last pound of sugar which the
+housewife purchased, the fifth pound when the price was 8 cents, or
+the sixth pound when the price was 7 cents, we call the "marginal"
+pound of sugar. And the increment of utility which she derives from
+buying this marginal pound we call the "marginal utility" of sugar to
+her. We are thus able to state the fact that the more a person has of
+anything the less urgently does he require a little more of it, in the
+following formal terms:--
+
+LAW V. The marginal utility of a commodity to anyone diminishes with
+   every increase in the amount he has.
+
+The total utility will, of course, increase with an increase in the
+amount, but at a diminishing rate. This law is usually called The Law
+of Diminishing Utility.
+
+
+§3. _Relation between Price and Marginal Utility_ But this is not
+all. We are now in a position to perceive the true relation between
+utility and price. The relation is one which exists not between price
+and total utility, but between price and marginal utility. If we know
+only that a housewife will buy weekly 5 pounds of sugar at 8 cents per
+pound, but 6 pounds at 7 cents, we know nothing of the total utility
+of sugar to her. We do not know how much she might be prepared to pay
+rather than go without 3 pounds, 2 pounds, or any sugar at all. But we
+do know that, when she buys 6 pounds, the marginal utility of sugar is
+in her judgment worth something which does not differ greatly from the
+price. We can, therefore, say in general terms that the price of a
+commodity measures approximately its marginal utility to the
+purchaser.
+
+This statement is perfectly consistent with the paradox noted above
+that the most useful commodities such as bread, salt and water are
+very cheap. For when we say that these commodities are supremely
+useful, we mean only that their total utility is very great; that,
+rather than do without them altogether, we would offer for them a
+large proportion of our means. But we would not value very highly a
+small addition to the bread, water or salt that we habitually consume;
+nor would most of us feel it as a very serious deprivation if our
+consumption of these things were curtailed by a small percentage. In
+other words, their _marginal_ utilities are small, and it is only the
+_marginal_ utility that has any relation to price.
+
+
+§4. _The Marginal Purchaser_. A possible objection to the preceding
+argument deserves to be considered. Some readers may find the picture
+I have drawn of the hesitating housewife entirely unconvincing. They
+may declare that her mind does not work at all in the manner I have
+indicated. She will have formed certain habits in regard to her weekly
+purchases of sugar, which are connected very vaguely, if at all, with
+any conscious processes of thought. She will buy so many pounds of
+sugar weekly without troubling her head over the specific utility of
+the last pound she buys. When the price falls she may, indeed, buy
+more; but it will not be because she separates out and considers by
+itself the extra utility of an additional pound. She may buy more,
+because she has formed the habit of spending so much money on sugar;
+and now that the price has fallen, the same amount of money will
+enable her to buy more pounds. Or, perhaps, she may be moved by
+instinctive and irresistible attraction to buy more of a thing when it
+is cheaper, similar to that which inspires so many people to face with
+ardor the horrors of a bargain sale. In any case the fine calculations
+I have imagined convey a fantastic picture of her state of mind. And
+how much more fantastic, the critic may continue, of the state of mind
+in which things of a different kind are bought by less careful
+people. When, for instance, one of us happy-go-lucky males (more
+liberally supplied, perhaps, than the housewife with the necessary
+cash), decides to buy a motor bicycle, or to replenish his stock of
+collars or ties, does the above analysis bear any resemblance to the
+actual facts? In the case of the motor bicycle, the purchaser may,
+indeed, weigh the price fairly carefully against the pleasure and
+benefit, though contrariwise he may be a rich enough gentleman hardly
+to bother about this. But, one motor bicycle is as much as he is at
+all likely to buy, and what becomes, then, of the distinction between
+total and marginal utility? In the case of the ties and collars, the
+vagueness of many of us about the price will be extreme. We probably
+have been uneasily conscious for some time of an inconvenient shortage
+of these troublesome articles and eventually will go off (or perhaps
+will be sent off with ignominy) to the nearest suitable shop to make
+good the deficiency. How can we speak here with a straight face of the
+relation between marginal utility and price?
+
+These are very pertinent criticisms; but they do not make nearly as
+much nonsense of the notion of marginal utility as may seem at
+first. The last point, indeed, serves rather to give it a fresh aspect
+of much significance. Those of us who do not bother about the price we
+pay for our ties and collars owe a debt of gratitude, of which we are
+insufficiently conscious, to the more careful people who do; as well
+as to the custom which prevails in shops in Western countries (as
+distinct from the bazaars of the East) of charging as a rule a uniform
+price to all customers. If _we_ were the only people who bought these
+things, an enterprising salesman would be able to charge us very much
+what he chose. He could put up his price, and we would hardly be aware
+of it. And, as by lowering his price he could not tempt us to buy any
+more, price reductions would be few and far between. But fortunately
+there are always some people who do know what the price is, even when
+they are buying collars and ties; and who will adjust the amount they
+buy in accordance with the price. It is these worthy people who make
+the laws of demand work out as we well know they do. It is they who
+will curtail their consumption if the price has fallen and it is they
+who constitute the seller's problem, and help to keep down prices for
+the rest of us. The rest of us--it is well to be quite blunt about
+it--simply do not count in this connection. We have no cause then to
+plume ourselves that we have disproved the truth of economic laws when
+we declare that we seldom weigh the utility of anything against its
+price. All that this shows is that our actions are too insignificant
+to be described by economic laws since they exert no appreciable
+influence on the price of anything. And this in turn shows the extreme
+importance of grasping clearly the conception of the margin. Just as
+it is the marginal purchase, so it is the marginal purchaser who
+matters. It is the man who, before he buys a motor bicycle, weighs the
+matter up very carefully indeed and only just decides to buy it, whose
+demand affects the price of motor bicycles. It is the utility which
+_he_ derives that constitutes the marginal utility, which is roughly
+measured by the price.
+
+As to the housewife, I am not prepared to concede that my picture is
+in essentials very fanciful. She may be a creature of habits and
+instincts like the rest of us, but most habits and instincts affecting
+household expenditure are based ultimately on _some_ calculation, if
+not one's own, and reason has a way of paying, as it were, periodic
+visits of inspection, and pulling our habits and instincts into line,
+if they have gone far astray. I am not satisfied that the housewife
+does not envisage the utility of a sixth pound of sugar as something
+distinct from the utility of the other five; she may buy it, for
+example, with the definite object of giving the children some sugar on
+their bread, and she may have a very clear idea as to the price which
+sugar must not exceed before she will do any such thing. Possibly I
+may exaggerate. I have the profound respect of the incorrigibly
+wasteful male for the care and skill she displays in laying out her
+money to the best advantage.
+
+
+§5. _The Business Man as Purchaser_. But if the reader still finds the
+picture unconvincing, let us shift the scene from domestic economy to
+commerce, and substitute for the careful housewife an enterprising
+business man. Now, as anyone who has a business man for his father
+will have often heard him say, the vagueness and caprice which
+characterize our personal expenditure would be quite intolerable in
+business affairs. There you must weigh and measure with the utmost
+possible precision. You must be for ever watching the several channels
+of your expenditure, careful to see that in none does the stream rise
+higher than the level at which further expenditure ceases to be
+profitable. You will not even engage typists or install a telephone in
+your office without weighing up fairly carefully the number of typists
+or the number of switches that it is worth your while to have. And in
+deciding whether to employ say, five typists, or six, you will not
+vaguely lump the services of the whole six typists together, and
+consider whether as a whole they are worth to you the wages you must
+give them. You will, in the most direct and literal manner, weigh up
+the _additional_ benefit you would derive from a sixth typist, and if
+that does not seem to you equivalent to her wage, you will not engage
+her, however essential it may be to you to have one or two typists in
+your office. If on the other hand, the utility of having a sixth
+typist seems to you worth much more than her pay, the chances are that
+you will be well advised to consider the employment of a seventh. And
+so, where you stop employing further typists, the utility to you of
+the last one, of the "marginal typist" as it were, is unlikely to
+differ greatly from her pay.
+
+Now this is not a fancy picture of some remote abstraction called an
+"economic man." Allowing for the over-emphasis which is necessary to
+drive home the central point, it is a bald account of the aims and
+methods of the actual man of business. To ascertain the margin of
+profitable expenditure in each direction, to go thus and no further,
+is the very essence of the business spirit, as the business man
+himself conceives it. When he condemns the extravagance of Government
+departments, it is their lack of just this marginal sense that he
+chiefly has in mind. "The lore of nicely calculated less or more" may
+be rejected by High Heaven and Whitehall, but no one can afford to
+despise it in the business world.
+
+The transition from household to business expenditure involves an
+extended use of the word utility, which is worth noting. Commodities
+like bread, sugar, or privately owned motor-cars are sometimes called
+"consumers' goods" in contrast to "producers' goods," which comprise
+things such as raw materials, machinery, the services of typists and
+so forth, which are bought by business men for business purposes. The
+line of division between the two classes is not a sharp one, and we
+need not trouble with fine-spun questions as to whether a particular
+commodity should in certain circumstances be included under the one
+head or the other. But, broadly speaking, things of the former type
+yield a direct utility; they contribute directly to the satisfaction
+of our pleasures or our wants. Things of the latter type yield rather
+an indirect utility. Their utility to the business man who buys them
+lies in the assistance they give him in making something else from
+which he will derive a profit. The utility of these things is
+therefore said to be _derived_ from that of the consumers' goods or
+services to which they ultimately contribute. This conception of
+derived utility leads to certain complications which we shall have to
+notice later.
+
+
+§6. _The Diminishing Utility of Money_. But one important point must
+be emphasized in this chapter. The utility which a business man
+derives from the things which he buys for business purposes is the
+extra receipts which he obtains thereby. Derived utility, in other
+words, is expressed in terms of money, and the idea of its relation to
+price presents no difficulty. But the utility of things which are
+bought for personal consumption means the _satisfaction_ which they
+yield, and this is clearly not a thing which is commensurable with
+money. When, therefore, it is said that the prices measure their
+respective marginal utilities, what exactly is meant? What was it that
+the argument of §3 went to show? That the utility of the marginal
+pound of sugar would seem to the housewife just worth the price that
+she must pay for it; in other words, that it would be roughly equal to
+the utility she could obtain by spending the money in other ways. The
+respective marginal utilities which _she_ obtains from the different
+things she buys will thus be proportionate to their prices. But if she
+were to receive a legacy which gave her a much larger income to spend,
+she might buy larger quantities of practically every commodity; and,
+though she would obtain a greater total utility thereby, the marginal
+utility she would obtain in each direction would be smaller, in
+accordance with the law of diminishing utility. The prices might not
+have changed; the respective marginal utilities to her of the
+different things would again be proportionate to their prices, but
+they would constitute a smaller satisfaction than before.
+
+Thus we can only say that the prices of commodities will be
+proportionate to their real marginal utilities, when we are
+considering the different purchases of one and the same
+individual. The amounts of money which different people are prepared
+to pay for different consumers' goods are no reliable indication of
+the real utilities, the amounts of human satisfaction which they
+yield. Here we must take account not only of varying needs and
+capacities for enjoyment, but of the very unequal manner in which
+purchasing power is distributed among the people. The cigars which a
+rich man may buy will yield him an immeasurably smaller satisfaction
+than that which a poor family could obtain by spending the same amount
+of money on boots, or clothes or milk. When, therefore, we compare
+commodities which are bought by essentially different consuming
+publics, their respective prices may bear no close relation to their
+_real_ utility, whether marginal or otherwise. Thus the law of
+diminishing utility applies to money or purchasing power, as well as
+to particular commodities. The more money a man has the less is the
+marginal utility which it yields him; and, where the marginal utility
+of money to a man is small, so also will be the real marginal utility
+he derives in each direction of his expenditure. The extreme
+inequality of the distribution of wealth gives immense importance to
+this consideration. Its practical implications will be discussed in
+Chapter V. Meanwhile, we may express the conclusions of the present
+chapter by the statement that the price of a commodity tends to equal
+its marginal utility, _as measured in terms of money_, i.e. relatively
+to the marginal utility of money to its purchaser.
+
+
+
+CHAPTER IV
+
+COST AND THE MARGIN OF PRODUCTION
+
+§1. _An Illustration from Coal_. We have already had occasion to note
+the symmetry which characterizes the relations of demand and supply to
+price. This symmetry was apparent throughout the argument of Chapter
+II, and it was a striking feature of the diagrams which we employed to
+illustrate the argument. We shall do well to cultivate a lively sense
+of this symmetry, for it will frequently save us from ignoring factors
+which have a vital bearing on the problems we are considering. We
+should never leave an important feature of demand without turning to
+see whether it has a counterpart on the supply side, though indeed we
+may not always find one. In the last chapter we examined the relation
+between utility and price, and found that the true relation was
+between the price and what we termed the marginal utility.
+Corresponding to utility on the demand side is cost of
+production on the supply side. The question should thus at once
+suggest itself--"Can we speak appropriately of the marginal cost of
+production, and will this serve to make clear the relation between
+cost and price?" To answer these questions, let us take one of the
+instances in which we found that price could not be explained
+satisfactorily by the bare phrase "cost of production."
+
+An important feature of the coal industry, which recent events have
+brought into sharp prominence, is the great diversity of conditions
+between different coalfields and different collieries. We speak of
+rich seams and poor seams, of fertile and unfertile mines, and we are
+aware that the costs of raising coal to the surface differ very widely
+in accordance with these diverse natural conditions. Nor must we
+confine our attention to the cost price at the pit-head. If we wish to
+speak of cost of production as a factor determining price, we must use
+the term in a broad sense to include the transport and other charges
+necessary to bring the coal to market.
+
+In this respect also one coalfield differs greatly from another. Some
+are well situated close to a large market, or within easy reach of the
+seaboard; others must incur very heavy transport charges to bring
+their coal to any considerable centre of consumption. These varying
+conditions lead, as we well know, to great variations in the financial
+prosperity of different colliery concerns. In Great Britain, under the
+abnormal conditions which prevailed during the war, and subsequently,
+these variations were so huge as to constitute a most formidable
+embarrassment and to contribute, more perhaps than any other single
+factor, to the unrest and instability by which the industry has been
+afflicted. But they are always with us, if usually upon a more modest
+scale.
+
+What, then, is the normal relation between price and cost in the case
+of coal? Should we direct our attention to the average costs over the
+whole industry, or the costs incurred by the richer and better
+situated mines, or, lastly, that of the poorer and worse situated?
+Now, as things are, it is clear enough that no concern will continue
+indefinitely producing at a loss. It may do so for a time, rather than
+close down altogether, hoping to recoup itself later when the market
+has taken a more favorable turn. But, in the long run, taking good
+years with bad, it must expect to obtain receipts sufficient not only
+to cover its necessary expenditure, but to provide also a reasonable
+profit on the capital employed. Of course, once the capital has been
+sunk and embodied in plant and buildings, which are of little use for
+any other purpose, a business may continue for many years, with a rate
+of profit far below what it had anticipated. But plant and buildings
+gradually wear out, and need to be replaced; the course of technical
+improvement calls continually for fresh capital outlay, which a
+business in a bad way is reluctant to undertake. The tendency,
+therefore, when profits rule low over a considerable period, is for
+the plant to fall gradually into disrepair and obsolescence, and
+finally for the business to disappear. We can thus include an
+ordinary rate of profit under the head of cost of production, and say
+with substantial accuracy that for no business can this cost for long
+exceed the price if the business is to continue to exist. If then the
+relatively poor and badly situated mines are to be worked, the price
+of coal, taking good years together with bad, must cover the costs at
+which these mines can produce. If the price rules lower than this,
+sooner or later they will close down, and we will be left with a
+smaller number of mines, among which great variations of conditions
+will still prevail. Once more, the price must cover the cost incurred
+by the least profitable of these remaining mines, unless their number
+is still further to be diminished. Thus we can conceive of a "margin
+of production" which will shift backwards to more profitable or
+forwards to include less profitable mines, according as the demand for
+coal contracts or expands. But, wherever this margin may be, there is
+no escaping the conclusion that it is the cost of production of the
+"marginal mines," of those that is to say which it is only just worth
+while to work, to which the price of coal will approximate.
+
+It follows that there is no real connection between price and cost of
+production throughout the industry as a whole. It follows incidentally
+that those concerns which can market their coal at an appreciably
+lower cost than the marginal concerns, are likely to reap more than an
+ordinary rate of profit, though royalties may absorb part of the
+excess.
+
+
+§2. _The Various Aspects of Marginal Cost_. This relation cuts much
+deeper than the particular system under which the mines are at present
+owned and worked. If, for instance, we supposed that the various
+mines were amalgamated together in a few giant concerns, each of which
+comprised some of the richer and some of the poorer mines, the
+preceding argument would need to be recast in form, but its substance
+would be unaffected. For though a great coal trust could in a sense
+_afford_ to sell at a price lower than the marginal cost, setting its
+losses on the poorer against its gains on the better pits, is it
+likely it would do so? Why should it dissipate its profits in this
+way? It is clearly more reasonable to suppose that it would close down
+the poorer pits (unless it could advance the price of coal), and
+thereby maintain its profits at a higher figure. If, indeed, the
+mines were nationalized the deliberate policy might be pursued of
+selling coal at a price which left the industry no more than
+self-supporting as a whole. Some coal might thus be sold at less than
+its cost price, and the selling price would conform roughly to the
+_average_ cost. But such a policy, though in special circumstances it
+might be justified, would represent a very dangerous principle, which
+could not be applied widely without the most serious results. Nothing
+could be more fatal to any enterprise, whether it be in the hands of
+an individual, a joint-stock company, a State department, or a Guild,
+than that the management should content themselves with results which
+in the lump seem satisfactory, and regard losses here or there with an
+indifferent eye. That way lies stagnation, waste, progressive
+inefficiency and ultimate disaster. To inquire searchingly into every
+nook and cranny of the business, to construct, as it were, for each
+part a separate balance-sheet of profit and loss, to expand in those
+directions where further development promises good results, and to
+curtail activity where loss is already evident, is the very essence of
+good management. Here, it will be observed, we are using language very
+similar to that in which we described the principles which govern a
+business man's expenditure. The resemblance is inevitable and
+significant, for we are dealing here with what is essentially another
+aspect of the same thing. The object is to secure that nowhere does
+expenditure fail to yield a commensurate return. This we express, when
+we consider a business in its aspect as a consumer, by saying that its
+consumption of anything will not be carried beyond the point at which
+the marginal utility exceeds the price it will have to pay. When we
+consider it as a producer, we say that its production of anything will
+not be carried beyond the point at which the marginal cost exceeds the
+price it will obtain.
+
+
+§3. _The Dangers of Ignoring the Margin_. This at least is the general
+rule. A business may decide deliberately to sell part of its output
+below cost, because, for instance, this will serve as an
+advertisement, bring it connections, and enable it to obtain a larger
+profit at a later date, or immediately on other portions of its
+sales. In so acting, it recognizes that the price obtained for a thing
+may be an inadequate measure of the real return it yields. In the same
+way, though for different reasons, a nationalized coal industry might
+conceivably be justified in selling some coal below cost price,
+because, let us say, it held that the price which the immediate
+purchasers were willing to pay was an inadequate measure of the
+utility of coal to the community as a whole. But in all such cases it
+is essential to be very clear as to what exactly you are doing; so
+that you may be at least moderately clear as to whether the policy is
+well advised. It may be sound enough to lose on the swings and make
+good this loss on the roundabouts, but only if your loss on the swings
+_helps_ you to a larger profit on the roundabouts. If you would get
+the same return on the roundabouts in any case, it would be better to
+cut the swings out altogether. So, if you are directing the policy of
+a nationalized coal industry, and decide to make a loss on a portion
+of your sales, you will need to know that the indirect benefit which
+the community will derive from this particular part of your coal
+output is worth the loss which you incur. You will certainly come to
+grief, if you pursue a vague ideal of lumping all results together,
+and regarding a profit somewhere as a sufficient excuse or a positive
+reason for making a loss elsewhere.
+
+It is quite true that in big undertakings, where there are large
+standing charges, and where the organization possesses some of the
+characteristics of an integral whole, it is not easy to measure
+accurately the specific costs which should be assigned to any
+particular portion of the output. But this difficulty is one of the
+most serious weaknesses of large undertakings; precise detailed
+measurement is the great prophylactic of business efficiency, and,
+where it is lacking the bacilli of waste will enter in and
+multiply. So clearly is this recognized, that the development of large
+scale business has led to the evolution of new methods of accountancy,
+designed to make detailed mensuration possible. We have most of us
+heard of them vaguely under such names as "comparative costings," but
+too few of us appreciate their full significance. It is hardly too
+much to say that the issue as to whether the size of the typical
+business unit will continue to become larger and larger, or whether it
+has already overshot the point of maximum efficiency will turn largely
+upon the capacity of accountancy to supply large and complex
+undertakings with more accurate instruments of detailed financial
+measurement.
+
+
+§4. _A Misinterpretation_. The price, then, of a commodity tends
+roughly to equal its marginal cost of production; and this marginal
+cost (in perfect symmetry with what we observed as regards marginal
+utility), may be conceived as applying either to the marginal producer
+or to the marginal output of any producer. In the former aspect it is
+open to a misinterpretation, against which it will be well to guard.
+Some advocates of socialism have argued, as one of the counts in their
+indictment of the present industrial system, that the price of a
+commodity is determined by the cost at which the least efficient
+concern in the industry can produce. They say, in effect, "Under the
+present competitive regime, you have to pay for everything you buy a
+price which far exceeds the necessary cost to a concern which is
+managed with ordinary ability. For, as economic theory has shown, it
+is the cost of the _marginal_ concern, i.e. the concern managed by the
+most incompetent, and half-witted fellow in the trade; it is the cost
+incurred by him, together with a profit on his capital, that the price
+has got to cover. The producer of no more than average capacity is
+therefore making out of you a surplus profit, which would be quite
+unnecessary in any well-arranged society." Such an argument is a gross
+caricature of the marginal conception. The half-witted incompetent
+will, as we know well enough, speedily disappear under the stress of
+competition, and his place will be taken by more efficient men. There
+is an essential difference between him and the "marginal coal mine" of
+which we spoke above. For the probabilities are that of the coal
+resources, whose existence is clearly known, the more fertile and
+better situated parts will already be in process of exploitation; and
+there is not likely, therefore, to be a supply of substantially better
+seams which can be substituted for the worst of those in actual use.
+There _is_ likely, on the other hand, to be available a supply of
+decent business capacity which can be substituted for the most
+inefficient of existing business men. The marginal concern, in other
+words, must be conceived as that working under the least advantageous
+conditions in respect of the assistance it derives from the strictly
+limited resources of nature, but under average conditions as regards
+managerial capacity and human qualities in general. Thus in
+agriculture we can speak of a marginal farm, which we should conceive
+as the least fertile and worst situated farm which it is just worth
+while to cultivate (of which more will be said when we come to the
+phenomenon of rent), but we must assume it to be cultivated by a
+farmer of average ability.
+
+
+§5. _Some Consequences of a Higher Price Level_. The foregoing
+controversy will be of service to us, if it makes clear the manner and
+the spirit in which the marginal conception should be handled. It
+should be regarded not as a rigid formula which we can apply to
+diverse problems without considering the special features they
+present, but rather as a signpost which will enable us to find our
+way, a compass by which we may steer between the shoals of triviality
+and sophistry to the crux of any problem with which we have to deal.
+Let us illustrate its practical uses by an example which is of great
+interest and far-reaching practical importance at the present day. As
+has been already observed, the war has left behind it in all countries
+a great and almost certainly permanent increase in nominal purchasing
+power. Since the armistice prices have moved upwards and downwards
+with unprecedented violence; and it would be very rash to prophesy the
+precise level at which they will ultimately settle (using that word
+with considerable relativity). But, for reasons for which the reader
+is referred to Volume II in this series, it is safe enough to say that
+the general level of post-war will greatly exceed that of pre-war
+prices. Now this will apply not only to consumers' goods like milk and
+clothes, or to raw materials like pig-iron and cotton, but in very
+much the same degree to things like factories and machinery. Things of
+this last type are sometimes called "capital goods," because it is in
+them that a large part of the capital of a business is embodied. Now
+the fact that it will cost much more than it did before the war to
+construct fresh capital goods, has a significance which very few
+people appreciate. An existing factory cost, let us say, $500,000 to
+build and equip with machinery before the war. To construct a similar
+factory to-day would cost, let us assume (it is probably a moderate
+assumption) $1,000,000. Suppose 10 per cent to be the gross profit
+that is necessary to attract capital to the particular industry. Then
+it will not pay to construct this new factory unless the trade
+prospects point to the probability of a profit of about $100,000 per
+annum. But if the old factory is equally well managed, it too should
+be able to earn this $100,000, which upon the capital actually sunk
+would represent a rate of 20 per cent. The particular figures given
+are, of course, purely illustrative; the conclusion to which they
+point is that, if new enterprises are to be undertaken, pre-war
+enterprises are likely to yield a rate of profit, on their fixed
+capital at least, increased in rough proportion to the price-level. Of
+course, in years when trade is bad, the factory which dates from
+pre-war times will not earn a profit of this kind, it may very likely
+make an actual loss. At those times it is very certain that few new
+factories will be erected. But it is difficult to reconcile a
+condition of trade activity, in which the constructional industries
+are busily employed, with a rate of profit to pre-war businesses on
+the fixed part of their capital of a lesser order of magnitude than
+has been indicated. It makes no difference, it should be observed,
+whether we suppose the new enterprises to take the form of starting of
+new concerns or extending old ones; in neither case will they be
+undertaken, unless there is reason to expect an adequate return on the
+capital which they require at post-war constructional prices. High
+profits (taking always good years together with bad) on capital sunk
+before the war in buildings and machinery are thus a likely
+consequence of an increase in the price-level.
+
+This fact is, indeed, the counterpart or complement of another
+phenomenon with which we are more familiar. While prices are actually
+rising, profits, as we have come to recognize, necessarily rule high,
+because every trader or manufacturer is constantly in the position of
+selling at a higher price-level, stock which he purchased, or goods
+made from materials which he purchased at a lower level. He thus
+acquires an abnormal profit on his circulating capital, which is
+essentially similar to the profit on fixed capital, which we have just
+examined. The difference is that the former profit is crowded into the
+years when prices are actually on the increase, and thus is very
+noticeable indeed; while the latter profit continues to accrue in
+smaller instalments after prices have settled down, as it were, at the
+higher level, and is not exhausted until the buildings and machinery
+have become obsolete. But the two profits are essentially similar,
+and in the long run should be commensurate. In the one case, stock can
+be sold for a large profit, because it cannot be replaced except at a
+higher price; in the other case, plant and buildings yield a higher
+income because _they_ cannot be replaced except at a higher
+price. Indeed, if the owners choose, the plant and building can, like
+the stock, be sold at their appreciated value, as has been widely done
+by the owners of cotton mills in Great Britain since the armistice.
+
+There is nothing in these considerations that should surprise us, or
+even shock our moral sense. For what they have indicated is an
+increase of money profits in rough proportion to the price-level, so
+that the aggregate profits will represent about as much real income as
+before.[1] The conclusion therefore amounts to no more than this, that
+you cannot alter fundamentally the distribution of wealth between
+labor and capital by merely inflating the currency, or otherwise
+juggling with the price-level. And this is only what we should expect,
+if there are any laws of distribution of sufficient importance and
+permanence to justify the many volumes which have been devoted to
+them.
+
+[Footnote 1: Assuming that the rate of interest has remained
+unaltered. In fact it has greatly increased since pre-war days, and
+this points to a still further increase of money profits, and an
+increase in the real income which they represent. See Chapter VIII,
+§10]
+
+But this somewhat tame conclusion does not make it any less important
+to grasp clearly the significance of the appreciation in the value of
+capital goods. A failure to realize it lies at the root of our
+bewildered muddling of many crucial problems of the day. In the matter
+of housing, for instance, we know we cannot build houses at less than
+two or three times their prewar cost, and yet we cannot endure to see
+the owners of pre-war houses obtaining a commensurate increase of
+rent. And so, in Great Britain, we pass Rent Restriction Acts, and
+Housing Acts, and then, in a fit of economy we suspend the latter, and
+let the former stand, while the housing shortage becomes steadily more
+acute. When we hand the railways back from State control to private
+hands, our horror at the idea of the companies receiving larger money
+profits than they did before the war leads us to lay down principles
+for the fixing of fares and freight charges, which take no account of
+post-war construction costs; and then, in alarm lest we may have
+thereby made it unprofitable for the companies to spend a single penny
+of fresh capital upon further development, we seek to provide for
+capital expenditure by cumbrous and dubious expedients. Doubtless we
+shall muddle through somehow with such policies: and, public opinion
+being what it is, they may perhaps have been about the best policies
+that were practicable. But the problems would have been easier to
+handle, if the public generally were a little less disposed to think
+in terms of averages, and a little more in terms of margins, if we all
+of us instinctively realized that the cost that really matters is the
+cost at which additional production is profitable under the conditions
+ruling at the time, or in the immediate future.
+
+
+§6. _General Relation between Price, Utility and Cost_. Let us
+conclude this chapter by summing up the conclusions which have emerged
+as to the relations of utility and cost to price.
+
+The price of a commodity is determined by the conditions of both
+supply and demand; and neither can logically be said to be the
+superior influence, though it may sometimes be convenient to
+concentrate our attention on one or other of them. The chief factor on
+which the conditions of demand depend is the utility (as measured in
+terms of money). The chief factor on which the conditions of supply
+depend is the cost of production (again as measured in terms of
+money). The prevailing trend towards an equilibrium of demand and
+supply can thus be expressed as follows:--
+
+LAW VI. A commodity tends to be produced on a scale at which its
+   marginal cost of production is equal to its marginal utility, as
+   measured in terms of money, and both are equal to its price.
+
+
+
+CHAPTER V
+
+JOINT DEMAND AND SUPPLY
+
+
+§1. _Marginal Cost under Joint Supply_. Several references have been
+made above to joint products, a relation which it will be convenient
+now to describe as that of Joint Supply. Our sense of symmetry should
+make us look for a parallel relation on the side of demand; and it is
+not far to seek. There is a "joint demand" for carriages and horses,
+for golf clubs and golf balls, for pens and ink, for the many groups
+of things which we use together in ordinary life. But the most
+important instances of Joint Demand are to be found when we pass from
+consumers' to producers' goods. There, indeed, Joint Demand is the
+universal rule. Iron ore, coal and the services of many grades of
+operatives are all jointly demanded for the production of steel; wool,
+textile machinery and again the services of many operatives are
+jointly demanded for the production of woollen goods (to mention in
+each case only a few things out of a very extensive list). Now we have
+already noted that, when commodities are jointly supplied, there is an
+obvious difficulty in allocating to each of them its proper share of
+the joint cost of production. There is a similar difficulty in
+estimating the utility of a commodity which is demanded jointly with
+others. Thus, the utility of wool is derived from that of the woollen
+goods which it helps to make. But the utility of the factories, the
+machinery and the operatives employed in the woollen and worsted
+industries is derived from precisely the same source. How much, then,
+of the utility of woollen goods should be attributed to the wool and
+how much to the textile machinery? Can we make any sense of the notion
+of utility as applying to one of these things, taken by itself? And,
+if not, how can we explain the price of a thing like wool in terms of
+utility and cost, since we cannot disentangle its cost from that of
+mutton, nor its utility from that of a great variety of other things?
+
+Here the conception of the margin enables us to grapple with a problem
+which would otherwise be insoluble. For, while it is impossible to
+separate out the total utility and cost of wool, it is not impossible
+to disentangle its marginal utility and its marginal cost. The
+proportion in which wool and mutton are supplied cannot be radically
+transformed; but it can be varied within certain limits, by rearing,
+for instance, a different breed of sheep. Variations of this kind have
+been an important feature of the economic history of Australasia,
+where sheep farming is the leading industry. Before the days of cold
+storage, Australia and New Zealand could not export their mutton to
+European markets, though they could export their wool. Wool was
+accordingly much the most valuable product; the mutton was sold in the
+home markets, where, the supply being very plentiful, the price was
+very low. In the circumstances, the Australasian farmers naturally
+concentrated on breeding a variety of sheep whose wool-yielding were
+superior to their mutton-yielding qualities. The development of the
+arts of refrigeration led in the eighties to an important change. It
+became possible to obtain relatively high prices for frozen mutton in
+overseas markets. There was, therefore, a marked tendency, especially
+in New Zealand, to substitute, for the merino, the crossbred sheep
+which yields a larger quantity of mutton and a smaller quantity of
+wool of poorer quality. Now if we calculate the cost of maintaining
+the number of merino sheep which will yield a given quantity of wool,
+and calculate the cost of maintaining the larger number of crossbred
+sheep which will be required to yield the _same_ quantity of wool
+(allowing for differences of quality) the extra cost which would be
+incurred in the latter case must be attributed entirely to the extra
+mutton that would be obtained. This extra cost we can regard as
+constituting the marginal cost of mutton. So long as this marginal
+cost falls short of the price of mutton, it will be profitable to
+extend further the substitution of crossbred for merino sheep. The
+process of substitution will in fact be continued until we reach the
+point at which the marginal cost is about equal to the price.
+Similarly by starting with the numbers of merino and crossbred
+sheep which would yield the same quantity of mutton, we can calculate
+the marginal cost of wool; and again the tendency will be for this
+marginal cost to be equal to the price.[1]
+
+[Footnote 1: It may be found difficult to grasp this point when stated
+in general terms. The following arithmetical example may make it
+plainer:--
+
+Suppose a merino sheep yields 9 units of mutton and 10 units of wool.
+
+Suppose a crossbred sheep yields 10 units of mutton and 8 units of
+wool.
+
+Suppose, further, that a merino sheep and a crossbred sheep each cost
+the same sum, say, for convenience, £10, to rear and maintain; and
+that there are no special costs assignable to the wool and the mutton
+respectively, as, of course, in fact there are.
+
+Then 10 merino sheep, yielding 90 units of mutton + 100 units of wool,
+cost £100; while 9 crossbred sheep, yielding 90 units of mutton + 72
+units of wool, cost £90.
+
+Hence you could obtain an extra 28 units of wool for an extra cost of
+£10, by maintaining 10 merino sheep rather than 9 crossbred sheep. The
+marginal cost of wool is thus £ 10/28 per unit.
+
+Similarly 8 merino sheep, yielding 72 units of mutton + 80 units of
+wool, cost £80; while 10 crossbred sheep, yielding 100 units of mutton
++ 80 units of wool, cost £100.
+
+Hence you could obtain an extra 28 units of mutton for an extra cost
+of £20, by maintaining 10 crossbred sheep in place of 8 merinos. The
+marginal cost of mutton is thus £ 20/28 per unit.
+
+So long as the price obtainable for wool exceeds £ 10/28, and that
+obtainable for mutton does not exceed £ 20/28 per unit, it will pay to
+substitute merino for crossbred; and conversely. If the price of wool
+exceeds £ 10/28 and the price of mutton also exceeds £ 20/28, it will
+be profitable to expand the supply of both breeds, until as the result
+of the increased supply, one of the above conditions ceases to
+obtain. Conversely, if the prices of both products are less than the
+figures indicated, sheep farming of both kinds will be restricted.
+The resultant of the processes of expansion or restriction, and
+substitution, will be that, unless one of the breeds is eliminated,
+the prices of mutton and wool will equal their respective marginal
+costs. These marginal costs may, of course, alter as the process of
+substitution extends. For the relative cost of maintaining merinos and
+crossbreds will not be the same for every farmer. Here again it is the
+costs at the "margin of substitution" that matter.]
+
+
+§2. _Marginal Utility under Joint Demand_. On the side of demand there
+exist as a rule similar possibilities of variation. _Some_ machinery,
+_some_ labor, _some_ materials of various kinds, are all indispensable
+in the production of any manufactured commodity. But the proportions
+in which these factors are combined together can be varied, and are
+frequently varied in practice as the result of the ceaseless pursuit
+of economy by business men. To produce pig-iron, you need both coal
+and iron ore; but, if coal becomes more costly, it is possible to
+economize its use. Machinery and labor must be used together, in some
+cases in proportions which are absolutely fixed. But there is in
+nearly every industry a debated question as to whether the
+introduction of some further labor-saving machine would be worth
+while, or some improved machine which would represent the substitution
+of more capital plus less labor for less capital plus more labor. A
+farmer can cultivate his land, to use a common expression, more
+intensively or less intensively; in other words, he can apply larger
+or smaller quantities of capital and labor (the proportion between
+which he can also vary) to the same amount of land. The problem is
+essentially the same as that of the substitution of the crossbred for
+the merino. We can take the various possible combinations of the
+factors of production, and contrast two cases in which different
+quantities of one factor are employed, together with equal quantities
+of the others. The extra product which will be yielded in the case in
+which the larger quantity of the varying factor is employed can then
+be regarded as the marginal product (or marginal utility) of the extra
+quantity of that factor; and we can say that the employment of this
+factor will be pushed forward to the point where this marginal product
+will be roughly equal to the price that must be paid for it. We can
+thus lay down the most important proposition that the relation between
+marginal utility and price holds good generally of the ultimate agents
+of production; that the rent of land, the wages of labor, and, we can
+even add, the profits of capital tend to equal their (derived)
+marginal utilities, or, as it is sometimes expressed, their marginal
+net products.
+
+Whenever, therefore, the proportions in which two or more things are
+produced or used together can be varied, the relations of joint supply
+and joint demand are perfectly consistent with a specific marginal
+cost and marginal utility for each commodity.
+
+
+§3. _A contrast between Cotton and Cotton-seed, and Wool and
+Mutton_. But it sometimes happens that such variations cannot be
+made. Thus, it has not been found possible (so far as I am aware) to
+alter the proportions in which cotton lint and cotton-seed are yielded
+by the cotton plant. Roughly speaking, you get about 2 pounds of
+cotton-seed for every 1 pound of cotton lint (or raw cotton), and
+though this proportion may vary somewhat from plantation to
+plantation, it is upon the knees of the gods, and not upon the will of
+the planter that the variation depends. We cannot, therefore, speak
+with accuracy of the separate marginal costs of raw cotton and
+cotton-seed. It is true that some plantations are so far distant from
+any seed-crushing mill that it is not worth while to sell the seed as
+a commercial product; and it might seem, therefore, as though we might
+regard the entire costs of cotton growing on _such_ plantations as
+constituting the marginal costs of raw cotton. But planters, so
+situated, derive a considerable value from their cotton-seed by using
+it as fodder for their live stock or as a manure. You can, of course,
+argue that proper allowance is automatically made for this factor, as
+a deduction from the costs of raw cotton, when you add up the expenses
+of the plantation. In the same way you can deduct the price which a
+planter who sells his cotton-seed obtains for it, from the total costs
+of the plantation, and call the remainder the costs of the raw
+cotton. But this is really to reason in a circle. For in either case
+the magnitude of the deduction depends on the marginal utility of the
+cotton-seed. And the notion of the cost of anything becomes blurred
+and blunted if we so use it that it must be deduced from the utility
+of something else, which is not an agent in the production of the
+thing in question.
+
+This point is not merely an academic one. It means that we cannot
+explain the _relative_ prices of cotton lint and cotton-seed in terms
+of cost at all, whether marginal or otherwise. The influence of cost
+will be confined to the _sum_ of the prices of the two things. Upon
+this sum it will exert precisely the same influence as it exerts upon
+price in general, by affecting the total quantities of the two things
+that will be supplied. But upon the distribution of this sum between
+lint and seed, cost will exert no influence whatever, because it
+cannot affect the proportions in which they are supplied. It may
+assist some readers if I state the matter in more concrete terms. Cost
+of production will be one of the factors which will result in the
+production of an annual cotton crop in the United States of, let us
+say, 10 million tons of seed cotton. This crop will yield roughly
+6-2/3 million tons of cotton-seed, and 3-1/3 million tons (or rather
+more than 13 million bales) of lint. The combined price received by
+the planter of (let us say) 14.4 cents for 1 pound of lint plus 2
+pounds of seed should correspond roughly to the marginal joint costs
+of production. But the factor of cost has no influence at all in
+determining that this combined price is made up of a price of 12 cents
+per pound for lint, and only 1.2 cents per pound (or $24 per ton) for
+cotton-seed. To account for this we must rely entirely upon demand. We
+can say, shortly, that the respective prices must be such as will
+enable the demand to carry off 6-2/3 million tons of seed, and 3-1/3
+million tons of raw cotton. Or we can go further and say that the
+marginal utility of a pound of raw cotton, when 3-1/3 million tons are
+supplied, is ten times as great as that of a pound of seed when 6-2/3
+million tons are supplied.
+
+If accordingly the demand for cotton-seed were to expand considerably
+owing, say, to the discovery of some new use for the oil, which is its
+most valuable constituent; the effect would be first a rise in the
+price of cotton-seed, and, subsequently, by stimulating cotton
+growing, a more plentiful supply and a lower price for raw cotton. And
+so far at least as the increased supply is concerned, this must
+necessarily be the effect, "other things being equal"; though, to be
+sure, it might be outweighed and obscured by other influences such as
+the boll-weevil. But it is _not_ the case that an increased demand for
+mutton must necessarily increase the supply or lower the price of
+wool; and it is most unlikely to do so in any similar degree. For,
+here, the separate marginal costs of the two things exert their
+influence. An increased demand for mutton will stimulate sheep
+farming, but it will also stimulate the substitution of crossbred for
+merino breeds; and the resultant of these two opposite tendencies upon
+the supply of wool is logically indeterminate. As a matter of history
+we know that the development of cold storage in the eighties (which we
+may regard for the present purpose as equivalent to an increased
+demand for Australian mutton) caused considerable perturbation in the
+woollen and worsted industries of Yorkshire. They were faced with a
+dwindling supply and a soaring price of merino wool; and the
+adaptability with which they met the situation, and won prestige for
+the crossbred tops, and yarns and fabrics, to which they largely
+turned is a matter of just pride in the trade to-day. The fact,
+however, that this alteration in the supply of wool was a matter not
+only of quantity but of quality, while it takes nothing from the
+substance of the preceding argument, makes it difficult to draw a
+clear moral, bearing on the present issue, from this incursion into
+history.
+
+
+§4. _The Importance of being Unimportant_. The above contrast between
+cases in which variation is possible, and those in which it is not
+possible, is reproduced with a heightened significance when we turn
+back to joint demand. The cases are perhaps less common in which it is
+_impossible_ to alter the proportions in which different commodities
+are jointly demanded, but there are many cases in which it is not
+nearly worth while to do so (and this amounts to very much the same
+thing). Cases of this sort are especially likely to occur when we are
+dealing with a commodity which accounts for only a tiny fraction of
+the costs of the industry which is its chief consumer. Sewing cotton,
+for example, is jointly demanded, with many other things, by the
+tailoring and other clothing trades; but the money which these trades
+spend on sewing cotton is so small a part of their total expenditure,
+that no ordinary variation in its price is likely to make it worth
+while to study the ways and means of using it in smaller
+quantities. When sewing cotton is bought by the domestic consumer,
+considerations which are fundamentally the same, though somewhat
+different in form, point to a similar conclusion. It is thus very
+difficult to assign to sewing cotton a specific marginal utility. This
+difficulty is of great importance in connection with the possibilities
+of monopolistic exploitation. For it means that the demand blade of
+the scissors upon which we rely to cut off excrescences of price is
+blunted, and if accordingly the producers constitute a strong enough
+combination to control the supply blade, they will possess an unusual
+power of advancing their selling prices as they choose. I am far from
+suggesting that Messrs. J. & P. Coats are to be condemned as an
+extortionate monopoly. On the contrary, during 1919, when the profits
+in highly competitive industries like the main branches of the cotton
+and woollen trades, soared exuberantly, the record of this concern
+seems to me one of distinct moderation. But the present point is that
+they possess an exceptional _power_ to fix the price of sewing cotton
+as they choose, and that this is attributable in no small degree to
+the fact that sewing cotton constitutes an essential but relatively
+trifling item in the expenses of the processes in which it is
+employed.
+
+Perhaps the point will be made clearer if we turn from the selling
+prices of commercial products, in regard to which there is a strong
+and not ineffective public sentiment against "profiteering," to the
+remuneration of different classes of labor. With an instinctive
+disposition towards megalomania, it is often claimed in Great Britain
+that the miners, being a very numerous and well-organized body of
+workpeople, were in a stronger strategic position than most workpeople
+for exacting the remuneration they desire. It is quite true that a
+stoppage of work in the coal industry causes us a high degree of
+inconvenience, and temporary concessions may thereby be obtained which
+might otherwise have been refused. But this is a dubious advantage,
+and we grossly exaggerate its real importance. The truth is that the
+strategic position of the miners in regard to wages questions is by no
+means strong. For their wages constitute a very large percentage of
+the cost of coal; and the price of coal in its turn is a most
+important element in the costs of many of the industries which are its
+principal consumers. Great Britain, moreover, is far from possessing
+a monopoly of coal. If, accordingly, the wages of the miners are
+temporarily pushed up to a high point, the result will certainly be a
+diminished demand for British coal, which will lead before long to
+their fighting a losing battle to maintain the concessions they have
+won. Contrast their position with that of the steel smelters, whose
+wages (high though the wage rates are) constitute a very small
+percentage of the costs of steel production, and we must agree I think
+that we have in this distinction the main reason why the steel
+smelters, though they hardly ever go on strike, have as a rule been
+able to do so much better for themselves than the miners.
+
+When a commodity or service is such that an appreciable alteration in
+its price has only a slight effect upon the quantity demanded, the
+demand is said to be _inelastic_. Conversely, when a small change in
+price greatly alters the quantity demanded, we call the demand
+_elastic_. In the former case, it is worth nothing, a larger aggregate
+sum of money will be spent upon the thing when its price is high than
+when it is low, while the opposite is true in the latter case. This
+distinction is of considerable importance in connection with many
+problems (e.g. of taxation); and the terms, elastic demand and
+inelastic demand, are worth remembering. We may thus express the
+above conclusions by saying that the demand for sewing-cotton is
+highly inelastic, and that the demand for coal miners is more elastic
+than that for steel smelters.
+
+
+§5. _Capital and Labor_. Cases in which it is impracticable to make
+any variation in the proportions in which different things are used
+together are, however, the exception rather than the rule. Where
+variation is possible, we are confronted with an uncertainty as to the
+way in which an increased supply of one thing will react on the demand
+for another, similar to our uncertainty as to whether an increased
+demand for mutton would augment or diminish the supply of wool. It is,
+for instance, of the highest importance to give a clear answer, if we
+can, to the question whether an increased supply of capital will
+increase the demand for labor. The chief effect of an increased
+supply of capital is to facilitate the extended use of expensive
+machines: to some extent these machines will increase the demand for
+labor; to some extent they will be substituted for it. Which of these
+two tendencies will outweigh the other we cannot be absolutely
+sure. But fortunately we can be far more nearly sure than was possible
+in the analogous case of wool and mutton. An increase in the supply of
+capital increases the demand for the commodities, from which the
+demand for labor is derived, in both the senses discussed in Chapter
+II. First it makes them cheaper to buy, and thus increases the
+quantity that will be bought. It is this that is parallel to the
+effect of an increased demand for mutton in making it more profitable
+to breed sheep. But it also serves to increase the purchasing power
+with which to buy commodities, because it increases the aggregate real
+wealth of the community, and it thus serves to raise the whole demand
+curve. This last consideration is so important as to make it
+overwhelmingly probable, apart from the evidence of history, that an
+increase in the supply of capital (and the same may be said of an
+increase in the supply of the other agents of production) will on
+balance increase the demand for labor. The evidence of history points
+to the same conclusion. The history of the last hundred years displays
+an unprecedented accumulation of capital, and an unprecedented
+extension of machinery, associated with an unprecedented improvement
+in the standard of living throughout the whole community. This is
+powerful testimony in favor of the view that an increase in the supply
+of capital and the use of machinery will usually enhance on balance
+the demand for labor. Moreover, though this is not conclusive, there
+is little room for doubt that an obstructive attitude towards the
+extension of machinery in a particular country, or a particular
+district, is misguided. For its effect must be to make production
+more costly there than it is elsewhere, and to lead, slowly perhaps,
+but very surely, to the transference of the industry to other regions.
+
+
+§6. _Conclusions as to Joint Supply and Joint Demand_. Here, however,
+we are beginning to digress. Let us sum up in a general form our
+conclusions as to the way in which changes in the supply or demand of
+a commodity react upon the demand or supply of the other things with
+which it is jointly demanded or supplied. Everything turns, as we have
+seen, on the possibility of variation in the proportions in which the
+things are used or produced together; and this, it is also clear, is a
+matter of degree. Our conclusions, therefore, had best take the
+following form:--
+
+LAW VII. When two or more things are jointly demanded, in proportions
+   which cannot easily be varied, the tendency will be for an increase
+   (or decrease) in the supply of one of them to increase (or
+   decrease) the demand for the others. These results will be more
+   certain, and more marked, the more difficult it is to vary the
+   proportions in which the things are used.
+
+   Similarly, when two or more things are jointly supplied, in
+   proportions which cannot easily be varied, the tendency will be for
+   an increase (or decrease) in the demand for one of them to increase
+   (or decrease) the supply of the others. These results again will be
+   more certain and more marked, the more difficult it is to vary the
+   proportions in which the things are supplied.
+
+
+§7. _Composite Supply and Composite Demand_. Joint Demand and Joint
+Supply do not complete the list of relations between the demand and
+supply of different things. Between tea and coffee, or beef and mutton
+there is a relation of a different kind. These things are in large
+measure what we call "substitutes" for one another. An increased
+supply, and a lower price of mutton, will probably induce us to
+consume less beef. This relation it is convenient to describe as
+Composite Supply. Beef and mutton make up a composite supply of meat;
+tea and coffee a composite supply of a certain type of beverage. For
+any group of things, between which the relation of Composite Supply
+exists, we can say, with complete generality, that an increased supply
+of one of them will tend to diminish the demand for the
+others. Parallel to the relation of Composite Supply is that of
+Composite Demand. There are frequently several alternative uses in
+which a commodity or service can be employed; and these alternative
+uses make up a composite demand for the thing in question. Thus
+railways, gasworks, private households and a great variety of
+industries contribute to a Composite Demand for coal. It is worth
+noting that there is frequently an association in practice between
+Joint Demand and Composite Supply on the one hand; and between Joint
+Supply and Composite Demand on the other. Wool and mutton, for
+instance, we have described as an instance of Joint Supply; but, in so
+far as the proportions of wool and mutton can be varied, we can regard
+these things as constituting a Composite Demand for sheep. And this
+conception may help us to retain a clearer and more orderly picture of
+the problems we have discussed above. We can regard the fact that wool
+and mutton are produced together as their Joint Supply aspect, and the
+fact that these proportions can be varied as their Composite Demand
+aspect; and the question as to whether an increased demand for mutton
+will increase the supply of wool turns upon whether the former aspect
+is more important than the latter. Similarly labor and machinery,
+employed together for the same purpose, form an instance of Joint
+Demand; but in so far as they can be substituted for one another, they
+constitute a Composite Supply of alternative agents of production.
+
+These four relations of Joint Demand, Joint Supply, Composite Demand
+and Composite Supply are well worth remembering and distinguishing
+from one another. They are of immense importance in every branch of
+economic affairs. There are hardly any economic problems upon which we
+are fitted to express an opinion, unless we have a lively sense of the
+far-reaching ramifications of cause and consequence, of the subtle and
+often unexpected interconnections between different industries and
+different markets. To gape at these complexities in a confused stupor
+is as foolish as it is to ignore them. But confusion and stupor are
+only too likely to represent our final state of mind, if we attempt to
+deal with these complications, one by one as they occur to us, in a
+piecemeal and haphazard fashion. We need a clear method, a systematic
+plan by which we may search them out, and fit them into place. The
+four relations which we have enumerated supply us with such a plan and
+method. For they represent something more than a series of pompous
+names for familiar notions. They constitute a classification of the
+various ways in which the demand and supply of one thing can affect
+the demand and supply of others; a classification which is exhaustive
+when we add the relation of derived demand, and an analogous relation
+on the supply side which we must now notice.
+
+
+§8. _Ultimate Real Costs_. Just as the utility of "producers' goods"
+is derived from that of the "consumers' goods" which they help to
+make; so the cost of any commodity is derived from the cost of the
+things which help to make it. Moreover, just as we recognize that the
+utility of "consumers' goods" lies at the back of all demand, and
+constitutes the ultimate end of all production; so we cannot but feel,
+however obscurely, that behind the phenomena of money costs, there
+must lie certain ultimate costs, of which all money costs are but the
+measure. But when we try to explain what the nature of these real
+costs may be, we are plunged in difficulty. Wages, it may indeed seem
+at first sight, present no trouble. There is the effort and the
+fatigue, the unpleasantness of human labor, to represent real
+costs. But can we suppose that these things are measured with any
+approach to accuracy by the wages which are paid in actual fact? Is it
+true, even as a broad general rule, that the services which are most
+arduous and most disagreeable command the highest price? And wages are
+not the only ingredient of money costs. There are profits: to what
+real costs do profits correspond? More difficult still, to what does
+rent correspond? These plainly are not questions upon which he who
+runs may read. It will be necessary to devote the next four chapters
+to their elucidation.
+
+
+
+CHAPTER VI
+
+LAND
+
+
+§1. _The Special Characteristics of Land_. In the great process of
+co-operation by which the wants of mankind are supplied, Nature is an
+indispensable participant. She renders her assistance in an infinite
+variety of ways, of which the properties of the soil which man
+cultivates form only one; but the sunshine and rain which enable the
+farmer to grow his crops; the coal and iron ore beneath the surface of
+the earth, can be regarded for our present purpose as forming part of
+the land with which they are associated. We can thus concentrate upon
+land as the representative of the free gifts of nature, which are of
+economic significance. Land in modern communities is for the most part
+privately owned. It can be bought and sold for a price, and acquired
+by inheritance. Moreover, it is a common practice, particularly in the
+United Kingdom, for an owner who does not wish himself to cultivate or
+otherwise use the land, not to sell it to the man who does, but to
+lease it to him for a term of years for an annual payment which we
+term rent. It is therefore natural and convenient to envisage the
+problems, which we shall consider in this chapter, as problems
+concerning the price and rent of land. But, once again, the laws and
+principles which we shall state and illustrate in terms of the current
+systems of ownership and tenure, possess a much deeper significance
+than this terminology might suggest.
+
+The fact that land is a free gift of Nature distinguishes it in
+various ways from commodities which are produced by man. The
+peculiarities which are most important from the economic standpoint
+are (1) that the supply of land is, broadly speaking, fixed and
+unalterable, and (2) that its quality and value vary, from piece to
+piece, with a variation which is immense in its range, but fairly
+continuous in its gradation. These are thus two aspects from which
+the phenomena of price and rent can be regarded; aspects which it is
+usual to call, (1) the scarcity aspect, (2) the differential aspect.
+
+
+§2. _The Scarcity Aspect_. The fact that the supply of land is fixed
+has the following significance. If the demand for land increases, the
+price will tend to rise. This is also true, for a short period at
+least, of an ordinary commodity. But, in the latter case, there would
+ensue an increase in supply which would serve to check the rise in
+price, and possibly, if production on a larger scale led to improved
+methods of production, bring the price down eventually below its
+original level. In the case of land, no such reaction is
+possible. There is nothing, therefore, to restrain the price (and the
+rent) of land from rising indefinitely, and without limit, if the
+demand for it should continue to increase. Conversely, if the demand
+for land falls off, there is nothing to check the consequent fall in
+price and rent. In the case of ordinary commodities, the supply would
+be diminished, because most things are either consumed by being used,
+or wear out in the course of time, and a regular annual production is
+therefore necessary to sustain their supply at the existing level. But
+land remains, whether it is used or not; and its supply is, broadly
+speaking, just as incapable of being diminished, as it is of being
+increased. Changes in the demand for land in either direction are thus
+likely to affect its price in a much greater degree than that in which
+the price of an ordinary commodity will be affected by a corresponding
+change in its demand.
+
+For most purposes, however, it is of more interest to compare land
+with other agents of production, especially with capital and labor,
+rather than with ordinary commodities. Now, as we have already noted,
+there is some doubt as to the manner in which the supply of capital or
+labor is likely to be affected by alterations in demand price. But the
+supply of capital and the supply of labor, even if we suppose them to
+be as entirely unresponsive to price changes as is the supply of land,
+are at any rate not fixed. Not only _may_ they vary for many reasons,
+but they are in fact likely to vary in direct proportion to the
+population. An increase in population implies an increase in the
+supply of labor; and it is likely to be accompanied by an increase in
+the supply of capital; in other words, the supply of these agents will
+expand, as the demand for them expands. But the supply of land will
+remain what it was. This fact is enormously important in connection
+with the broad problem of population, which will form the theme of
+Volume VI.
+
+But it is important also in other connections. It has been the
+dominating factor in many absorbing controversies upon high policy
+regarding the ownership of land, or the taxation of land values, upon
+which we can touch but lightly here. It has seemed to many writers a
+reasonable proposition to lay down, that the ordinary course of the
+progress of society, the increase of population and industry, must
+mean, as a broad general rule, a constant increase in the demand for
+land. And, if that be granted, it seems to follow that the price and
+rent of land will tend constantly to increase. John Stuart Mill,
+accordingly, in the middle of the last century, asserted that "the
+ordinary progress of a society, which increases in wealth, is at all
+times tending to augment the incomes of landlords; to give them both a
+greater amount and a greater proportion of the wealth of the
+community, independently of any trouble or outlay, incurred by
+themselves,"[1] and upon the strength of this assertion, he justified
+the policy of imposing a special tax upon what we have come to call
+the "unearned increment" of land. But how far does actual experience
+bear his assertion out? In Great Britain we have seen in the last
+half-century an undoubted increase in urban rents; but over long
+periods at least, there was a marked fall in both the prices and rents
+of agricultural land, despite the fact that the country was
+"increasing in wealth" as rapidly as ever before. This was due, of
+course, in the main to the increased supplies of wheat and other
+foodstuffs coming from the New World: and if, accordingly, we choose
+to lump together not only our own urban and agricultural land, but the
+land of other countries as well, and to speak vaguely of the demand
+for land as a whole, it might seem as though we could argue that
+Mill's generalization still holds good. But even this is by no means
+certain and in any case such a generalization is of very little
+service: what the illustration should rather suggest to us, is the
+danger of speaking of land vaguely as a whole, and the importance of
+turning our attention to the variations in value between different
+kinds and different pieces.
+
+[Footnote 1: _Principles of Political Economy_, by John Stuart Mill.]
+
+
+§3. _The Differential Aspect_. Most ordinary commodities are not
+produced on a single, uniform pattern. As a rule there are many
+variations of grade and quality, and consequently of price. But these
+variations are usually designed to meet the differences of taste among
+the purchasers, and we do not expect to find that any variety of an
+ordinary commodity will be produced, which is so poor in quality as to
+be entirely valueless. But since it is nature which has produced the
+land, without any assistance or guidance from man, there are many
+pieces of land which are so unfertile, or are otherwise so unsuitable
+for productive purposes, as to be quite valueless from the economic
+standpoint. Even in a densely populated country like Great Britain,
+there are considerable tracts of land which it is unprofitable to
+employ for any economic purpose whatsoever, and which possess no
+further value than what the mere pride of ownership may give
+them. This fact makes it possible to apply the conception of the
+margin to the case of land with particularly illuminating results.
+
+In the first place, however, it should be observed that the value of
+any piece of land does not depend solely on the intrinsic fertility of
+the soil. The fact that land is an immobile thing makes its
+_situation_ a factor of great importance. In the case of urban land,
+situation is, of course, the only thing that counts. The value of a
+site in Bond Street or the City is entirely unaffected by its capacity
+or incapacity for potato-growing purposes. But even for agricultural
+land, situation is a most important matter. A farm, which is so remote
+that considerable transport charges must be incurred to bring its
+produce to market, will be less sought after, and less valuable, than
+one which is much better situated though somewhat less fertile. In
+what follows, therefore, we must speak of the "quality" of a piece of
+land in a broad sense to include advantages of situation, as well as
+of fertility. Let us now, imagine the different pieces of land in
+Great Britain to be arranged in order of quality, so that we have a
+long series, with land of the best quality at one end, and of the
+poorest quality at the other. At the latter end, we will have such
+land as is found near the top of Snowden or Ben Nevis, which it
+clearly does not pay to cultivate at all. Somewhere, then, between
+these two extremes, we shall come to a point where the land is just,
+but only just, worth cultivating, or where, to revert to a form of
+words we previously employed, it is a matter of _doubt_, whether the
+land is really worth using for a productive purpose. Such land we can
+regard as the "marginal land"; and since the variety of nature is at
+once infinite and fairly minutely graduated we shall probably find
+that on one side of this margin there is much land which is only
+slightly superior, and on the other, much which is only slightly
+inferior, to the marginal land itself. What, then, is likely to be the
+value and the rent of this marginal land, this land which is just on
+the "margin of cultivation"? Some readers may find the answer
+startling. The rent of the marginal land will be nil, because it will
+not pay to cultivate it, if any appreciable rent is charged. A piece
+of land for which it is worth a tenant's while to pay an appreciable
+rent, will not be the marginal land, because there will be land just
+slightly inferior to it which it will also pay to cultivate if a
+somewhat lower rent is charged. And so we can pass to poorer and
+poorer qualities of land, with an ever diminishing rent, until at the
+margin of cultivation the derived utility of the land is negligible
+and the rent vanishes.
+
+This certainly is a somewhat abstract conception; but it is by no
+means so remote from reality as may at first sight appear. The reader
+may protest that in the course of an extensive and varied acquaintance
+with landowners, he has not yet run across this peculiar marginal
+type, who lets his land for no rent at all. But there, if his
+experience is really extensive, I think he is mistaken. It so happens
+that the ordinary agricultural landowner leases out his land, not by
+itself, but together with a variety of other things such as farm
+buildings, which it costs him a considerable sum of money to
+provide. He will not as a rule be willing to go to this expense,
+unless he sees his way to obtain for the farm an annual payment, which
+represents at least a fair return on this capital outlay, as big a
+return as he could have got, for instance, by investing the same
+amount of money in some gilt-edged security. This annual payment
+will, it is true, be called rent; but the significance of this is that
+what we term rent in ordinary life is usually a complex thing, made up
+of two essentially distinct elements, viz. the normal return on the
+capital goods supplied together with the land, and what we may call
+the "net rent," or the "pure rent" attributable to the land
+itself. Now will any reader make so bold as to say that there is no
+land under cultivation, in respect of which this net rent is either
+nil or negligible? The landowners will not agree with him. It is not
+a question, it should be observed, as to whether the rent obtained
+represents more than a fair return on the purchase price paid for the
+land; that is quite another matter. The question is whether the rent
+obtained exceeds a fair return on the capital sum spent on the
+buildings, etc.; with which every farm must be equipped to let at
+all. In fact there are not a few farms where there is no such excess,
+and where accordingly there is no "net rent" or "pure rent" which can
+be attributed to the land.
+
+The question whether it would be profitable to cultivate any piece of
+land, turns upon whether the receipts which would be obtained by
+selling the produce would exceed the costs of cultivation: and under
+these costs of cultivation we must include, of course, the
+remuneration of the farmer's services. Farmers, like other people,
+have to live; and they would not take on the troublesome job of
+farming, unless there seemed a prospect of making a living out of
+it. The remuneration of the farmer takes, of course, the form not of a
+salary, but of profits: and these profits vary very much from year to
+year, and from place to place, and from man to man. But they are
+essentially payment for work done, and an ordinary profit must be
+regarded therefore as part of the necessary costs of farming. Thus it
+will not be worth while to cultivate a piece of land, and the land
+will in fact lie unused, upon which a careful farmer might obtain a
+profit in the ordinary sense, of no more than $50 or $100 a year. The
+marginal land will be land which yields a decent profit to a decent
+farmer, as well as a gross rent to the landowner, sufficient to
+compensate him for his capital outlay, but nothing further.
+
+What, then, will be the rent of a fertile and well-situated farm,
+about which there is no doubt that it is well worth cultivating? Part
+of the gross rent which the landowner receives must again be regarded
+as merely a return for the capital expended in equipping the farm for
+use; but in this case, there will be a residue left over, which
+constitutes the net rent of the land. The net rent will measure the
+derived utility of the land to its occupier, and will in general
+represent (very roughly, of course, in practice) the differential
+advantage of cultivating the land in question rather than land on the
+"margin of cultivation." This differential advantage may take either,
+or both, of the forms, of a larger produce per acre, or a lower cost
+of production and marketing. But, in any case, the extra profit,
+which, if no rent were charged, a decent farmer could obtain by
+cultivating the farm in question, rather than a marginal farm, will be
+roughly equal to the net rent which his landlord can exact from him,
+if his landlord so chooses. The landlord may, of course, not choose to
+exact a rent as high as this; and as a matter of fact, in a country
+like Great Britain landlords often content themselves with less. The
+traditions associated with the ownership of agricultural land, and
+with the relations between landlord and tenant serve to soften the
+edge of economic law, and to subject the rents which are actually
+fixed to the control in no small measure of the general sense of what
+is fair or customary. In such cases the landlord makes the farmer a
+present, for the time being, of part of the economic rent. On the
+other hand, as Irish agrarian history well illustrates, the landlord
+may sometimes expropriate under the name of rent, permanent
+improvements which are due to the labors or the expenditure of the
+tenant. This is, of course, particularly likely to happen, whenever it
+is the custom to leave to the tenant the obligation of providing the
+capital equipment of the farm, which in Great Britain is, for the most
+part, the recognized duty of the owner. Again, in the case of urban
+land in the South of England, expropriations of this kind are an
+essential and well-understood feature of the leasehold system. The
+owner grants a lease for a long period of time, usually ninety-nine
+years, for a ground rent, which is notoriously below the true economic
+rent of the land, subject to the condition that the leaseholder must
+erect upon the land and keep in good repair certain buildings, which
+on expiry of the lease will become the property of the ground
+owner. Here the nominal ground rent is only part of the total rent
+which is really paid; the ultimate transference of the buildings
+representing often the more important part. There is, in fact, a great
+variety of systems of land tenure, some of which are highly complex,
+the respective merits of which vary greatly, and which constitute a
+most important problem for statesmen and legislators. Considerations
+of this kind in no way diminish the importance of the general analysis
+of rent, which we are pursuing in the present chapter. Rather they
+make it the more important, because we cannot properly weigh the
+merits of any system of land tenure, until we have grasped clearly the
+principles governing the rent of land in the purest form. But
+certainly we must never forget that the rent we are discussing may
+differ very greatly from, though it will vitally influence, the money
+payments which are called rent in actual life. It is the pure economic
+rent, the rent which represents the _full_ annual payment which it
+would be worth paying to obtain the use of the land alone, which will
+measure, as we have said, the differential advantage of the land in
+question over land on the margin of cultivation.
+
+A clear grasp of this relation helps us to perceive that an increase
+in the prosperity of the community may sometimes influence rents in an
+unexpected way. It all depends on the causes which have given rise to
+the increased prosperity. An advance, for instance, in agricultural
+science will facilitate a more abundant supply of foodstuffs; but it
+will not necessarily increase the aggregate rents of agricultural
+land. For if it takes the form, say, of the discovery of some new
+artificial manure, it will very likely facilitate production on the
+less fertile soils far more than it will on the more fertile soils
+where artificial manures are not so necessary. It will thus tend to
+diminish the differential advantages of working on the more fertile
+farms, and their rents will accordingly fall, possibly by much more in
+the aggregate than any increase in the rents of the farms near the
+margin of cultivation. The point may, perhaps, be better understood if
+we pass from agricultural to urban land, and ask what would be the
+effect on site values of a great improvement in the facilities of
+internal transport. Push the case to an extreme, and suppose passenger
+transport to become so cheap and so quick that there ceases to be any
+advantage in living in a town so as to be near your place of work.
+Urban landlords would no longer be able to obtain the high rents they
+now receive for the sites of houses in or near a town. For most people
+would prefer to move out into the country where sites can be obtained
+at little more than an agricultural rent. The country covers so large
+an area relatively to the towns that the supply of rural sites would
+be still very plentiful as compared with the demand. Their rents would
+not, therefore, rise by very much, although the rents of the housing
+sites in towns would fall heavily. Of course, there are other factors
+to be taken into account before we could pronounce upon the effect on
+aggregate rents. Central sites for shops might, for instance, fetch a
+higher rental than before. The purpose of this discussion is not to
+generalize but to show the danger of generalizing about rents in the
+aggregate, or land as a whole.
+
+
+§4. _The Margin of Transference_. The last illustration may serve,
+however, to remind us of an obvious fact which we must now take into
+account. The same piece of land may be used for a variety of purposes.
+It may have been used for growing corn, and later it may be devoted to
+the building of houses, or, as at Slough, to a repair depot for motor
+vehicles. It need hardly be said that the land will, as a general
+rule, be put to the use in which its value is greatest; or to speak
+more strictly, in which the biggest rent, or the biggest selling price
+can be obtained. But the notion of the differential advantages which a
+piece of land possesses over the marginal land becomes decidedly more
+complicated when we take account of this variety of uses. Let us turn
+our attention, for instance, to the sites used for shop and office
+purposes, and consider what we can regard as the marginal site in this
+connection. Clearly it will not be the marginal land of which we
+spoke above, which it only just paid to cultivate, and which yielded
+no rent at all. For this will probably be agricultural land in an
+out-of-the-way district, where no one would dream of setting up an
+office or a shop. Any site upon which a sane man would contemplate
+setting up a shop will certainly possess value for other purposes,
+such as house-building. Hence the marginal site for shopkeeping
+purposes will not be like our marginal farm, a site which yields no
+rent.
+
+As regards many pieces of land, there is no doubt as to the purposes
+for which they can most profitably be used. This piece will command a
+much higher rent as a shop site than in any other capacity; for that
+piece house-building is the obvious employment; for another,
+agriculture. But in quite a number of instances there is considerable
+uncertainty. It is not clear whether upon this site it will be better
+to erect a house or a shop, or if the latter, what kind of a shop. It
+is not clear whether it will pay to use that farm land for a building
+scheme; and, within the domain of agriculture, which of course
+comprises an immense variety of really different industries, it is
+often a very moot point indeed whether a certain field should be left
+under grass, or brought under the plow. Cases of this sort are not
+phantoms of the imagination; they emerge on every side as concrete
+problems with which some one or other is dealing every day, and it is
+these cases which constitute the marginal land for the purposes of a
+particular occupation. The marginal sites for shops are the sites for
+which it is only just worth while to pay rents sufficient to entice
+them away from houses. And the rent for a site in Bond Street, or
+elsewhere, which is so much more suitable for shop purposes that no
+alternative use would be worth considering, will exceed the rent paid
+for one of these marginal sites by, roughly speaking, the extra
+advantage it possesses for shop purposes. Or will fall short of it, it
+may be well to add, to the extent of its comparative disadvantage. For
+there may be many such marginal sites, some of which will fetch low
+rents, and others very high rents indeed; the same site being often of
+great potential utility for a large variety of occupations. Between
+any two occupations there will thus usually be a _margin of
+transference_, which we must conceive not as a point, but as an
+irregular line, upon or near to which there will be many pieces of
+land, differing greatly in the rents which they fetch. These
+variations of rent will correspond to the differences between the
+advantages or derived utilities which the sites possess for _both_ the
+occupations in question. The position of such margins of transference
+will of course alter as industrial conditions change, and, when they
+alter, the rents of sites which are not near any margin of
+transference will be affected also. Thus an increased demand for the
+products of any particular industry will make it profitable for that
+industry to offer higher rents, and thus draw land away from other
+occupations. This will have the effect of raising, though possibly to
+a very slight extent, the rents of sites which still remain in other
+uses; for there will be fewer of them available; and their derived
+utilities will consequently be increased.
+
+But here, as everywhere, it is upon the margin that our attention
+should be focussed, because it is round about the margin (wherever it
+is found) that the changes are taking place which really matter for
+society. When Mr. Mallaby-Deeley buys an estate in Covent Garden from
+the Duke of Bedford, the transaction hardly deserves the degree of
+public interest it excites. Nothing has happened which is of material
+consequence to anyone except the two gentlemen concerned; the various
+sites are still used for the various purposes for which they were used
+before; nothing has occurred that really matters. But when houses are
+pulled down for the erection of a cinema, or when a field is diverted
+from tillage to pasture, something has happened which affects for good
+or ill the interests of the whole community. Conversion from tillage
+to pasture represents, indeed, a tendency which has been very marked
+in Great Britain during the last generation, and has aroused
+misgivings in many public-spirited observers. Possibly for a variety
+of reasons, these misgivings may be justified; certainly the problem
+is well worthy of attention. But when in this way the issue is raised
+of tillage versus pasture, it is essential, if we are to discuss it
+rationally, that we should envisage it clearly as applying only to a
+limited portion of agricultural land, to the portion which lies
+somewhere near the margin of transference, as things are now, between
+the two forms of agriculture. It might be socially desirable to bring
+under the plow a field which the farmer finds it only _slightly_ more
+profitable to lease under grass; but this would be highly improbable
+in the case of a field where the balance of argument to the farmer in
+favor of pasture is overwhelming. The position of the margin of
+transference between different uses may, in other words, be somewhat
+out of place from the social point of view, and it may be desirable by
+appeals and propaganda, even conceivably by the devices of State
+subsidy and compulsion, to push it forwards or backwards in greater or
+less degree. But it will be necessarily a matter of degree, and
+nothing could be more foolish than to speak as though there was, or
+could be, some ideal method of cultivation equally applicable to all
+lands, without regard to their climatic and other conditions. Needless
+to say, none of the agricultural experts who sometimes deplore the
+decline of arable farming are guilty of such foolishness. But the
+sense of the diversity of nature which is very vivid to them may
+sometimes be lacking in people who live in towns, and a firm grasp of
+the marginal notion may serve best to keep the latter from forgetting
+it.
+
+
+§5. _The Necessity of Rent_. Behind all such detailed applications
+there lies a more general consideration which deserves attention. The
+way in which the land of a country is used, the way in which it is
+apportioned between the countless alternative employments that are
+possible, is a most important matter, more important perhaps than any
+questions as to the size of the incomes which particular landowners
+receive by virtue of their rights of ownership. How is this
+apportionment effected as things are now? The answer is clear: mainly
+by the agency of either rent or price. The business which finds it
+worth while to offer the highest rent or the highest price for any
+piece of land will, as a rule, be able to command its use. And, with
+this as the governing principle, an apportionment is secured between
+shops, offices, factories, agriculture, between the immense variety of
+different employments covered by each of these broad headings; not a
+rigid unvarying apportionment, but one which constantly changes as
+economic circumstances change, and as the margin of transference
+between different occupations moves hither and thither. This
+apportionment takes place at present as the result of the independent
+decisions and bargains of many private individuals, who are thinking
+mainly of their own interests, and not of those of the community. But
+this state of affairs might be altered. The land might be nationalized
+and allocated to its various uses by the co-ordinated labors of a
+great State department, or some other agency of the collective
+will. However improbable such a change, it is perfectly conceivable.
+But what is not conceivable is that any State department should handle
+the job with a success even approaching that of the present system,
+unless it continued to use, as its main instrument, the criterion of
+either rent or price. That a piece of land would yield a higher rent
+in one occupation than in any other is not conclusive evidence that it
+is best to devote it to the former purpose, but it is very good
+evidence, and it should be allowed to prevail unless it is
+demonstrably outweighed, as it possibly might often be, by
+considerations of a different kind. That it would not be well for the
+community to employ land in the city of London for corn-growing
+purposes, however desirable might be a revival of home agriculture, is
+so obvious that it may seem to have no bearing on the present issue.
+But it is only an extreme indication of the absurd and wasteful use of
+our natural resources, which would grow up slowly but surely, if we
+dispensed with ideas of rent and price as sordid irrelevancies, and
+allocated our land on the basis of a balancing of the loftiest
+arguments of a vague and sentimental character. If you are prepared
+for the distribution of land to become stereotyped, for each piece to
+continue indefinitely in its present use, then indeed you might
+dispense with rent, as primitive societies very largely do. That would
+mean stagnation and, for an industrial country, decay. But if changes
+are ever to be contemplated, a simple quantitative measure is the only
+safeguard against utter chaos. Thus rent, like interest, will be found
+indispensable as a measure under any efficient system of society, even
+if it might not always represent the payment of sums of money to
+private individuals. And that is why the principles governing rent
+possess, as I indicated at the outset of this chapter, an importance
+more fundamental than our present system of ownership and tenure.
+
+
+§6. _The Question of Real Costs_. But we must not forget the
+preliminary question that started us upon our analysis of the agents
+of production. The rent which a manufacturer or farmer has to pay for
+his land he naturally includes in his cost of production. But does
+this money cost to the individual correspond to, and measure, any real
+cost to the community as a whole? Here let us note in the first place
+that if only we could disregard the variety of uses to which land is
+put, if we could suppose that all industry was agriculture, and that
+agriculture was a single industry with a single product, we could
+argue that rent does not enter into marginal costs at all. For we
+could regard the marginal producer as the one working on a marginal
+farm, whereas we have seen there is no pure rent. The rent which other
+producers have to pay would thus represent merely the destination of
+the surplus profits which arise wherever actual costs fall short of
+marginal costs. This way of looking at the matter has proved
+attractive to some thinkers, not in the least because of a desire to
+palliate the effects of landlordism, but because it fits in so well
+with our general sense of rent as a "surplus," and a surplus as
+something distinct from a necessary price. But it is clearly
+illegitimate in an economic theory which professes "to describe the
+facts." The marginal land for many purposes fetches, as we have seen,
+a considerable rent; and this rent is certainly part of the marginal
+costs and of the necessary price of the products of the particular
+industry. The answer to our question is, however, not now very
+difficult to see. Land, greatly as it differs in many respects from
+the other agents of production, resembles them in the very important
+respect that, being used for one purpose, it is not available for
+other purposes, and that the productive powers of the community in
+other directions are thereby diminished. This is the real cost to the
+community, which attaches to the products of any industry, in virtue
+of the land which it occupies; not any human labors or sacrifices
+required to produce the land itself, but the curtailment of the
+natural resources available for productive use elsewhere. This is the
+real cost of which rent is the money measure, and generally speaking
+an accurate measure at the margin of transference between one
+occupation and another. A somewhat fanciful use of the term cost, this
+may seem perhaps, one not quite in accordance with our instinctive
+sense of what real costs should be. But possibly the real costs
+represented by wages and profits may turn out to be not so very
+different, and we had best leave the matter there, until we have
+examined the nature of these other costs.
+
+
+§7. _Rent and Selling Price_. In this chapter we have spoken mainly of
+the rent rather than the price of land: the relation between the two
+things is fairly obvious and well understood, but it will be well not
+to close the chapter without a brief account of it. The price of any
+piece of land is affected by all the considerations on which its rent
+depends, but it is also affected by another factor which has no
+influence whatever upon rent. This factor is the rate of
+interest. The higher the rate of interest, the higher the return which
+a man could obtain by buying gilt-edged securities, the lower will be
+the price that he will pay for a piece of land which yields a given
+rent. We can express the relation more precisely by the formula Price
+= (Rent * 100)/(Rate of Interest), though we must be careful, in
+applying this formula in practice to allow for the possible deviations
+between the nominal and the true rent, and similar complications. The
+price, it must be observed, is derived in this way from the rent, not
+the rent from the price.[1] Rent is thus logically the simpler, price
+the more complex thing. It is well, therefore, to analyze in the
+first instance the principles of rent, if we live in a country where
+the practice of leasing land for annual rent is less common than it is
+in Great Britain, even if, for whatever reason, it is the price of
+land with which we are concerned in practice. The problem of price
+contains two distinct elements which it is not easy to handle when
+mixed up together. For the rate of interest represents in itself an
+important branch of economics, which will require a separate chapter
+to itself.
+
+[Footnote 1: In this the rent of land differs fundamentally from that
+of other things, such as houses. For the price of a house is largely
+influenced by the costs of construction of new houses, and should
+correspond closely to them in the long run. The same relation between
+rent, price and rate of interest will hold good; but the rents will be
+affected by changes in the rate of interest, owing to the reactions of
+such changes on the supply of houses.]
+
+
+
+CHAPTER VII
+
+RISK-BEARING AND ENTERPRISE
+
+
+§1. _Profits and Earnings of Management_. The profits of a business,
+as they are ordinarily reckoned, whether for the purposes of income
+tax or of a balance sheet, comprise several elements which are
+fundamentally distinct. The relative importance of these various
+elements varies greatly from one type of business to another. The
+profits of a private business include, for instance, the remuneration
+of the work of management, which in the case of a Joint Stock Company
+is mostly paid for by salaries or directors' fees. It is to their
+profit that farmers, small shopkeepers, and the partners of a private
+firm look not merely for a return upon their capital, but for the
+reward of their own labors. "Earnings of Management," as they are
+usually termed (though in truth they often cover other and humbler
+forms of labor) are thus frequently one of the ingredients of profits.
+
+
+§2. _The Payment for Risk-bearing_. There is another element of great
+importance about which our ordinary ideas are apt to be so vague that
+it will be well to devote a chapter to its examination. This is the
+element of payment for risk, or rather the reward of risk-bearing.
+Risk is inherent in all business, as it is inherent in all life. The
+vagaries of nature and the vagaries of man are alike responsible. The
+farmer may find his harvest ruined by a drought or by a deluge; the
+coal or the gold, for the extraction of which you have perhaps set up
+an extensive mining plant, may come to an end which is unexpectedly
+abrupt. You may put your money into roller-skating rinks and find that
+cinemas have become the rage with the fickle public; sometimes "the
+market" may decline for causes which remain obscure but with
+consequences which are disagreeably plain. But while risk is always
+present in some degree, the degree varies enormously from one industry
+to another. Now, it is obvious enough that in an exceptionally risky
+industry, where there is a considerable possibility that the capital
+invested will yield no return at all, the profits of those concerns
+which succeed are likely to exceed the rate of interest on gilt-edged
+securities. But what is likely to be the magnitude of this excess? Is
+risk-taking rewarded if there is any such excess, however small? Or
+will it suffice that the gains and losses should average out to a fair
+rate of interest over the whole industry? To enable us to think
+closely let us suppose for a moment that we can measure accurately
+what the chances are.
+
+Suppose, then, that there were a precisely equal chance of success on
+the one hand and failure on the other in any enterprise, failure
+involving a complete loss of all the capital invested. Suppose,
+further, 6 per cent to be at the time a fair return on a perfectly
+secure investment. What would be the return which must be expected
+from the risky enterprise, in the event of its succeeding, before it
+will be undertaken? The reader may be tempted to answer, 12 per cent.
+But 12 per cent would not suffice. An equal chance of 12 per cent or
+nothing, as compared with a certainty of 6 per cent, does not mean
+that the risk in the former case is paid for to the tune of 6 per
+cent. It means that it is not paid for at all. In each case what a
+mathematician would call the _expectation_ is a return of 6 per
+cent. The odds are evenly balanced; in the long run, over a large
+number of cases, if the law of averages works as we assume it does,
+you would get just as much from the one type of investment as the
+other. Now, risky enterprises will not, as a rule, be undertaken on
+terms like these; investors and business men will not take risks with
+the odds precisely equal; they must have them, or believe that they
+have them, in their favor.
+
+
+§3. _Monte Carlo and Insurance_. To assert this is not to ignore the
+strength of the appeal which the gambling instinct makes to many, if
+not to most of us. The taste for gambling is, indeed, so deep and
+widespread that it would be foolish to leave it out of account in this
+connection. It is clear enough that at places like Monte Carlo people
+are prepared to have the odds unmistakably against them, apparently
+for the sheer pleasure and exhilaration of taking risks. Moreover,
+though for most people play at Monte Carlo represents a mere holiday
+indulgence, it would be unsafe to assume that what appeals to them
+there will not also appeal to them in their business affairs. But what
+exactly is the secret of the charm of Monte Carlo? It is the great
+attractive force of a small chance of a large gain, as compared with
+the deterrent force of a large chance of a small loss. People will
+readily pay $5 for one chance in a hundred of making no more, perhaps,
+than $400 or $450. And it is very likely that this holds good in the
+world of business. If, for example, we were to suppose that the
+promoters of a new enterprise were confronted with one chance in fifty
+of a profit of 50 per cent per annum on their capital, as against
+forty-nine chances of a profit of 5 per cent, this might well prove a
+more attractive prospect than a certain return of 6 per cent, although
+the strict _expectation_ of profit would be smaller in the former
+case. But the risks of business enterprise are not often of this
+type. They conform more usually to the opposite type of a large chance
+of a relatively small gain, balanced by a small chance of serious loss
+or entire failure. Now for almost everyone the possibility of a great
+loss will count as a deterrent (just as the possibility of a great
+gain may count as an attraction) for much more than its strict
+actuarial value.
+
+The truth of this proposition is demonstrated by the existence of
+institutions more impressive than Monte Carlo--the Insurance
+Companies, which play so large a part in the economic life of modern
+times. Every year, and upon an ever-growing scale, both private
+individuals and business concerns pay sums of money, which reach in
+the aggregate a colossal sum, as premiums to insure themselves against
+loss by Fire, Shipwreck, Burglary, Death, Death Duties, against every
+risk which Insurance Companies will cover. Now Insurance Companies
+are not, as we say, in business for their health. They find their
+business profitable, and pay good dividends to their shareholders.
+Moreover, they incur a considerable expenditure on offices, on
+clerical staff, on agents, and the like. All these payments must be
+defrayed out of the premiums they receive; so that it is plain that
+the premiums greatly exceed the _expectation_ of the risks insured.
+The odds are heavily in favor of the Insurance Company--of that the
+stupidest person can have no shadow of doubt. Yet we continue to
+insure, as private individuals and as business men, and so far from
+being ashamed of our proceedings as a weak and nerveless folly, which
+somehow we are unable to resist, we blazon them forth in the strong
+accents of conscious pride. We preach insurance to our neighbors as
+the core of self-regarding duty, and, if ever we feel a twinge of
+uneasiness, it is lest we, too, may have omitted in some particular to
+practice what we preach.
+
+The significance of this is unmistakable. Be our psychology what it
+may, however deep and irrepressible our taste for derring-do, however
+inadequate the scope which the dull routine of modern life affords for
+our adventurous impulses, we are most of us anxious to avoid the risk
+of great financial loss. We are very glad to find someone to take it
+off our shoulders if we can; so glad that we are prepared to pay him
+for the service, to pay him a sum which covers not only the actuarial
+equivalent of the risk, but something substantial over and above. In
+this we are entirely rational. Our conduct is justified by the law of
+the diminishing utility of money, which was noted at the end of
+Chapter III. It would be plainly foolish, for instance, to substitute
+for the certainty of an income of $2500 per annum an even chance of
+$5000 or nothing, since the utility to us of $5000 is not twice as
+great as that of $2500.
+
+The majority of business risks are not of a kind against which it is
+possible to insure. Insurance companies confine themselves to risks
+which are mainly a matter of what we call objective rather than
+subjective chance, i.e. risks in respect of which knowledge of
+detailed facts peculiar to the individual case is of minor
+importance. But such knowledge is of paramount importance in the case
+of ordinary business risks. If, for example, a new enterprise is to be
+undertaken, the special knowledge and experience which its promoters
+possess is a vital factor in determining their estimate of the risk
+involved. An outsider with no special knowledge would necessarily
+require to estimate the risk far more highly if we were to form a
+rational opinion on the basis of _his_ knowledge. So great, indeed,
+would be the risk to him, that we can lay it down as a sound maxim
+that people are extremely rash who invest their money in risky
+undertakings about which they know very little. This subjective aspect
+of business risk has a significance to which it will be necessary to
+revert.
+
+But, though most business risks are not and cannot be a matter for
+premiums and policies, the principle, which the practice of insurance
+illustrates, applies none the less. In the light of their knowledge
+and experience, the promoters of a new undertaking must weigh up the
+chances of failure and success, though they will not do so by the
+precise methods of an actuary. They will require that any chances of
+serious loss should be balanced by such chances of exceptional gain,
+as would raise the _expectation_ of profit well above the normal
+return on secure investments. The more risky the project seems the
+greater, generally speaking, must be the _expectation_ of profit
+required to induce people to undertake it.
+
+If we suppose business men to calculate reasonably, it follows that
+the average profits in any industry over a long period of years,
+reckoning in the losses of the concerns which disappear altogether,
+are likely to be higher, the more risky is the industry. Such a result
+will not, of course, occur in every case. Even when the calculations
+are reasonable, they may be entirely falsified by the event. Moreover,
+business men may not calculate reasonably on the information which
+they have. But, unless we suppose their judgment to be subject to a
+prevailing bias in one direction, i.e. to be unduly optimistic as a
+general rule, _we_ should expect, and in any case _they_ must expect,
+profits above the ordinary in a risky industry.
+
+This conclusion is sufficiently important. Far too many people, though
+they admit it when it is expressly stated and dismiss it even as a
+tiresome commonplace, are apt to neglect it when the occasion for
+applying it arises. For example, the great importance to any industry
+of good management is generally recognized, and the consequent
+desirability of paying adequate salaries to the managerial staff. The
+importance of securing a supply of capital is very widely recognized,
+and the practical necessity of paying a fair rate of interest is thus,
+however grudgingly, conceded. But the "residuary profits," as they
+are called, which accrue at present to the owners of a business, are
+denounced in some quarters in a sweeping fashion, which seems to
+ignore altogether the all-pervading element of risk. People speak as
+though you might appropriately limit profits in every industry to some
+uniform percentage on the capital employed, without making it clear
+whether you would even be allowed to make up in good years for the
+losses incurred in bad. The effect of introducing any such crude
+device into our present industrial system could only be to paralyze
+enterprises of an unusually risky kind, which, so far from being
+pushed to an excess at present, are more probably curtailed unduly
+from the standpoint of what is socially desirable. Like the fixing of
+a low maximum price for a commodity it would cause the supply to
+wither up and disappear.
+
+
+§4. _Risk under Large-scale Organization_. While this is true of the
+present economic system, the question is worth considering whether it
+represents a fundamental necessity, whether, for instance, under our
+world socialist commonwealth the factor of risk-bearing need play so
+important a part as it does in the actual business world. This
+question cannot be answered with a conclusive simplicity; opposing
+considerations present themselves, between which it is not easy to
+strike a balance. On the one hand, in accordance with the law of
+averages gains and losses tend to cancel out over a large series of
+transactions, _when reasonable calculations have been made_. Thus
+Insurance Companies, while they take heavy risks off the shoulders of
+policy-holders, incur relatively trifling risks themselves; they can
+predict the aggregate sums which they will be called upon to pay
+within a small margin of error. In the same way it might seem that
+every enlargement of the scale of business would make for an automatic
+insurance and a consequent economy of risk; and thus that if all
+businesses were comprised in a single financial unit, gains and losses
+would cancel out over so wide a range that the degree of risk
+remaining would be almost negligible.
+
+This might indeed happen, if business risks were mainly of that
+objective kind in which the insurance companies specialize; for then
+we could assume that the chances of success or failure would be
+estimated reasonably. But, in fact, most business risks, not being of
+this kind, must be estimated by processes of human judgment, which are
+very fallible. And here we must take account of the law of averages in
+another aspect, with a different bearing on the argument. When an
+industry comprises a large number of separate concerns, and the
+decisions accordingly are taken by many men, acting independently of
+one another, the errors of calculation will tend to some extent to
+cancel one another out. The undue optimism of one man will be balanced
+by the undue pessimism of another; and, if there is no prevailing bias
+in either direction, the errors of judgment will not affect the
+results for the industry as a whole. But where the effective decisions
+are taken by very few men, the chances are far greater of a
+preponderating balance of error in one direction. The risks dependent
+on the factor of human judgment tend therefore to increase.
+
+This truth can be illustrated by a phenomenon which is fairly
+familiar. It is recognized by intelligent persons that the risks of
+speculation in a particular commodity market or stock market increase
+more than proportionately to the scale of operations. A man who sets
+out as a "bull" upon a small scale can buy without sending up the
+price against him in the process, and, if he decides later that his
+judgment is mistaken, he can at any time cut his losses and sell out
+without much difficulty. But a "bull" on a very large scale cannot
+complete his purchases except at a price which has been raised in
+consequence of his own action, and he cannot count on being able to
+"unload" at or near the market price, should he decide to do so. If,
+accordingly, he miscalculates, he cannot save himself from serious
+loss as a smaller man might do by a prompt discovery of his error. His
+difficulties spring from the fundamental fact that the effects of his
+calculations are too great to be offset by those of the different, and
+often opposite, calculations of other men.
+
+Upon the issue whether a growth in the size of the business unit is
+likely to diminish risk, the law of averages thus cuts both ways. The
+risks arising from the element of pure chance are more likely, those
+arising from miscalculation are less likely, to cancel out. Upon
+these grounds alone, it would be unsafe to conclude that there would
+be on balance an economy of risk under any system of national or world
+socialism.
+
+
+§5. _The Entrepreneur_. There remains, however, an aspect of the
+problem which is perhaps more important than those discussed above. It
+is probable that risks would be estimated and undertaken more wisely
+or less wisely under a different system of society or of industrial
+organization? Upon this issue, methods of precise analysis are out of
+place, but we may have something to learn from the emphatic testimony
+of tradition. It has become an axiom of business men that, while
+Governments can manage with more or less competence a safe and routine
+business like a Postal Service, their success would be unlikely to
+prove conspicuous in undertakings where the element of risk is
+great. There, it is said, we owe everything in the past to the
+enterprise of individual men (for even joint-stock companies have not
+been notable as pioneers) adventuring their own fortunes in accordance
+with their own unfettered judgment. This contention, however much we
+may desire to qualify it, has unquestionably a large measure of truth,
+and the explanation is not difficult to discover. For the wise taking
+of risks in industrial development of an experimental character,
+peculiar conditions and special qualities are required. First, it is
+necessary to envisage distinctly the promising though risky
+opportunity, and this calls not infrequently for imagination of a none
+too common order. Then it must be studied with insight and expert
+knowledge and weighed by processes which are as much intuitive as
+intellectual. The reasons for or against taking a particular business
+risk are seldom such as can adequately be expressed in terms of
+arithmetic, or even by clear arguments the soundness of which is
+proportioned to their logical cogency. The mysterious faculty of
+judgment enters in; and from mental processes which defy analysis
+there emerge ultimately conviction and the will to act. But it is
+precisely here that Government Departments are apt to fail. It is here
+that the individual, who need consult no one but himself, has a pull
+over any form of organization, where decisions are reached by the
+method of debate and agreement among a heterogeneous committee. Hence
+it is that we have come to regard exceptional risk-taking as the
+peculiar province of individual enterprise. It is probable that these
+deficiencies of corporate organization are tending to diminish, and it
+is an interesting question how far it may be found possible to
+eliminate them in the future.
+
+Meanwhile the above considerations have an important bearing on the
+rewards which can often be obtained from risky enterprises. The number
+of individuals who are in a position to envisage a business
+opportunity, and to assess with some confidence the chances of success
+and failure is very limited. Not only must they possess special
+knowledge, ability, imagination, confidence in their own judgment, and
+the capacity to act on it; they must also have at their disposal
+considerable financial resources. To combine all these advantages
+represents a union of circumstances which is distinctly rare. The
+fortunate few, who do combine them, are thus generally able to extract
+in the form of profits a high price for their services, a price which
+covers not only the strict reward of risk-bearing, and the necessary
+remuneration of their own service, but a handsome payment for the
+special qualities and advantages which have been indicated. Profits,
+moreover, may vary between one industry and another, not only in
+accordance with the real risk which is entailed, but with the degree
+to which the supply of special knowledge, etc., is scarce or abundant.
+
+This consideration goes a long way to explain the large fortunes which
+enterprising business men are often able to amass. It also throws some
+much-needed light upon the functions which such men discharge. They
+perform to a large extent the work of management; they supply capital
+on what may be a considerable scale; but it is the taking of business
+risk which is perhaps their most characteristic function. It is the
+union of these functions which distinguishes them as an essentially
+different type from the salaried manager who has invested his savings
+in rubber or in oil. In other languages there is a specific name for
+the man who combines all these three functions; in French he is called
+an "entrepreneur," in German an "Unternehmer." It is much to be
+regretted that in English we have no clear corresponding word. The
+word "capitalist" is not uncommonly employed to do duty in this
+connection, but this is a source of much confusion. For the word is
+also used, and more appropriately, to include all investors, whether
+or not they are active business men.
+
+
+§6. _Risk-taking and Control_. But there is an allied confusion of
+more importance. We commonly suppose it to be a leading feature of our
+present "capitalist system" that the control of industry rests in the
+hands of those who supply the capital. Nor, as a general statement, is
+this untrue. But it conceals the essential point. Strictly speaking,
+it is risk-taking with which control is associated. The mere lending
+of money carries with it no title to control. Governments and
+municipalities concede no such title to the subscribers to their
+loans; nor does a company to its debenture holders. The shareholders'
+ultimate control is based upon the fact that they bear the financial
+risks of the concern. Nor is this a matter of mere legal form. It is
+not uncommon for ordinary shares to carry with them a greater voting
+power than the preference shares of a corresponding value. The
+principle which such arrangements endeavor to express is clear:
+control should rest with him who bears the risk. It is with this
+principle rather than with a mulish insistence on the rights of
+property, that advocates of "workers' control" and the like have got
+to reckon. It is upon this ground that (as they may quite conceivably
+do) they must make good their case.
+
+
+§7. _General Analysis of Profits_. Let us conclude this chapter by
+clearing the ground for the next. Earnings of management, payments for
+risk-taking and for the special knowledge and advantages associated
+with it, are ingredients of the gross profits of a business. The chief
+element that remains is that of interest on capital. Frequently,
+indeed, it is not the only one. As we saw in the last chapter, a
+farmer may not be required by his landlord to pay the full economic
+rent for his farm; and he may therefore make profits above the normal
+level, above the ordinary return for his own services, his own capital
+expenditure, and the risks to which he is necessarily exposed. In such
+a case the farmer is really the recipient, as we have already
+suggested, of part of the economic rent of the land; and an element of
+rent accordingly enters into his gross profits. But profits may
+include a surplus element which may arise in a great variety of other
+ways. A business may possess some decided advantage which is not open
+to competitors; and it may reap high profits accordingly. You can,
+for instance, if you choose, regard the high money profits, which, as
+was suggested in Chapter IV, are likely to accrue in future to the
+owners of pre-war factories, as a surplus profit of this kind. But
+while, as this illustration indicates, the phenomenon of surplus
+profits becomes of very great importance when we seek to study the
+distribution of wealth, it need not detain us here. For the surplus
+element arises only in so far as the costs of a business are lower
+than the marginal costs; and it is the marginal costs, which, with
+good reason, we are now endeavoring to analyze. The marginal costs
+must include a normal profit, i.e. a profit which will cover earnings
+of management, the reward of risk and enterprise, interest on capital,
+but nothing further. It remains, then, only to consider this last
+element of interest.
+
+
+
+CHAPTER VIII
+
+CAPITAL
+
+
+§1. _A Reference to Marx_. Interest is the price paid simply for the
+use of capital. But what is capital, and in what does its use consist?
+What claim has it to be regarded as an independent factor of
+production? Our very familiarity with the term, our habit of employing
+it with the rich looseness of every-day life is an obstacle to the
+clearness of thought, which is again essential. We recognize, most of
+us, clearly enough that capital, although we reckon it in terms of
+money, consists, like income, of real things; factories, machinery,
+materials and the like. It is quite obvious that these things are of
+use, are, indeed, indispensable for production; what more natural than
+that capital should command a price? It almost seems as though we
+might pass, without further ado, to a detailed discussion of the
+forces which determine the amount of this price.
+
+But this account does not bring out the essential point as brief
+reference to a very famous controversy will show. Some ingenious
+writers in the last century, the most notable of whom was Karl Marx,
+set out to prove that, in our modern society, workpeople are
+"exploited," robbed of the "whole produce of their labor," to the full
+extent of the return which accrues to capital. The argument was
+exceedingly complex in detail; but it boils down to this: The
+factories and machinery which are admittedly essential to production
+were themselves produced in exactly the same way as consumable
+goods. They were produced by labor, working with the assistance of
+nature, and, again, if you choose, of capital in the form of further
+factories, machinery, etc. But these further capital goods can in
+their turn be regarded as the product of labor, nature and capital;
+and so we can proceed until it seems as though the element of capital
+must disappear in the last analysis, as though labor and nature were
+the sole ultimate agents of production, and the reward of capital
+represented no more than the exercise of the exploiter's power. In one
+form or another this argument still dominates the minds of a large
+proportion of the so-called "rebels" against the existing social
+order.
+
+If we are to meet this argument, if, which is perhaps more important,
+we are to understand the true nature of capital, we cannot rest
+content with saying that it consists of factories and machinery, and
+that these are essential to the worker. Just as it was well to get
+behind the money terms, in which we often think of capital, to the
+real goods; so we have now to get behind the real goods to something
+else. What this something else is, the first chapter may have already
+done something to reveal.
+
+
+§2. _Waiting for Production_. Between production and consumption there
+is an interval of time. All productive processes take time to
+accomplish. The farmer must plow the soil and sow the seed months
+before he can reap the harvest which will reward him for his
+efforts. Meanwhile, he must live, and in order that he may live he
+must consume. If he employs laborers he must pay them wages, that they
+too may consume and live. For both purposes he requires purchasing
+power, which represents of course command over real things; and if he
+has not sufficient purchasing power of his own, he must borrow from
+someone else who has. In either case it is not enough that the farmer
+and his laborers should work; no less essential is it that someone
+should _wait_. The farmer must wait till he has sold his crops, both
+for the reward of his own labor and for the repayment of the wages he
+advances in the meantime to his laborers. Or, if he cannot afford to
+wait, and borrows in anticipation of the harvest, then the lender must
+wait, until the farmer, having sold his crop, is able to repay
+him. Thus the period of time involved in all production gives rise to
+a demand for _waiting_, which someone or other must supply, if the
+production is to take place. It is this waiting which is the essential
+reality underlying the phenomena of capital and interest. It is really
+this which constitutes an independent factor of production, distinct
+from labor and nature, and equally necessary.
+
+
+§3. _Waiting for Consumption_. But let us carry the argument a step
+further. After the farmer has sold his crops, there are many stages
+through which they must pass, at each of which more waiting is
+required, before they reach the ultimate consumer. But then the
+waiting is at an end.
+
+This, however, is by no means the case with a great number of
+commodities. Let us take the case of a speculative builder. While he
+is building a house he, like the farmer, must wait (or find someone to
+wait on his behalf), for his own reward, and for the repayment of his
+expenditure on wages and materials. But, after the house is built, if
+he lets it to a tenant for an annual rent, his waiting is far from
+over. Not until many years have passed will the rent payments add up
+to a sum which equals or exceeds his outlay. He may, of course, sell
+the house, and thus bring his waiting to an end. But then the
+purchaser must wait, no matter whether or not he is the occupier. For
+no one would consider the use of a house for a day, a month, or a year
+as an adequate return for the price it cost to buy. The occupier-owner
+pays for the prospect of its use for a long and perhaps indefinite
+number of years ahead, and he must wait to enjoy the benefits for
+which he pays now in full. Waiting is as inherent in the consumption
+of durable things as it is in all production.
+
+Now most industries are consumers of durable things of a very
+expensive kind. Here we come back to the factories and machinery which
+ordinarily spring to our mind at the mention of the word capital. Not
+merely does the construction of these things involve waiting; their
+consumption involves waiting on a vastly larger scale. Just as with a
+house, many years must elapse before their derived utility can even
+approximate to their purchase price. It is mainly to supply the
+waiting involved in the consumption of such durable goods, that a
+typical joint-stock company issues shares for public subscription. The
+waiting required to cover the period of time, which its own productive
+process requires, is largely supplied by means of bank overdrafts or
+other forms of short-period borrowing. More strictly, fixed capital
+represents the waiting involved in the consumption of durable things;
+circulating capital the waiting involved in current production.
+
+This distinction loses its sharpness when we consider not the affairs
+of a particular business, but the industrial system as a whole. Then
+the period of time involved in the consumption of durable instruments
+falls into place as part of the time required for the production of
+the ultimate consumers' goods. We can even, perhaps, conceive of an
+"average period of production" for industry and commerce as a whole;
+and this conception is not without its uses. For it serves to bring
+out the fact that the period of consumption, and the period of
+production in the narrower sense, are only two aspects of the same
+fundamental thing, the interval of time which elapses between work and
+the utility, which is its ultimate purpose. It serves, moreover, to
+make clear that anything which lengthens this interval of time
+increases the demand for waiting, or in other words, the demand for
+capital; and, conversely, that anything which shortens this interval
+diminishes the demand for capital.
+
+
+§4. _Capital not a Stock of Consumable Goods_. But the distinction
+between the two forms of waiting, though not fundamental, is none the
+less worth noting. It enables us to keep our theory in conformity
+with fact, to look at the phenomenon of capital the right way up; and
+it is easy, if we are not careful, to slip into the habit of looking
+at it upside down. People sometimes speak as though the commodities
+which constitute our capital, instead of being mainly, as our plain
+sense tells us that they are, factories, machinery and other durable
+instruments, were rather a _store_ or _stock_ of immediately
+consumable goods. The argument takes the following form. It is
+consumers' goods, things like food and clothes, which the farmer, the
+builder and their workpeople consume while they are working. To enable
+them to work, therefore, it is vital that such things should not in
+the past have been consumed as soon as they were made; part of them
+must have been saved, and carried forward for future use.
+Furthermore, the longer the time that the work on which people are now
+engaged takes to yield its product, the larger must be this store of
+consumers' goods. For these products, when they are completed, will
+serve (taking society as a whole) to replace the store which in the
+meantime is being used up, so that the longer this replacement takes,
+the larger must be the initial store. Conversely, the larger the
+store of consumers' goods available, the more distant is the future
+for which we can afford to work. It is thus the store or stock of
+consumers' goods which represents our real capital; for it is the
+magnitude of this store which determines how far we can devote our
+energies to purposes which are remote in time.
+
+Now this is pure mysticism. Regarded literally, it is in direct
+conflict with the facts. The processes of industry are fairly regular
+and continuous. At any moment, large quantities of consumers' goods of
+almost every kind are on the point of completion; at the same moment
+equally large quantities are consumed. The things which we buy were
+finished, very likely, only recently; or, if in fact they have lain
+idle for some time in stock, there is nothing essential or at all
+helpful in that fact. It represents rather a defect--a maladjustment
+which should be rectified. Even many kinds of agricultural produce do
+not need to be carried forward from one year to another, for they are
+produced in many parts of the world, where the seasons come at
+different periods of the year. It is conceivable, therefore, that we
+might consume all non-durable things the moment they were ready, and
+the degree to which we approximate to this ideal is a mark of the
+efficiency of our economic system. A large store of consumable goods
+is thus _not_ a fundamental necessity of a prosperous society.
+
+What _is_ necessary is plainly the power to produce these things in
+large quantities as they are required. And this power is furnished by
+the durable instruments of production, which we thus rightly regard as
+the true representatives of modern capital. If it is argued that this
+power to produce consumable goods may be regarded as being _in effect_
+a store of consumable goods, it must be sternly replied that this is
+the language of symbolism, not of science, and that symbolism is
+highly dangerous in this connection. The false conception of capital
+as essentially a store of consumers' goods has led and still leads to
+many serious fallacies. It was this that gave rise to the notorious
+doctrine of the Wages Fund; the notion that the sum which can at any
+time be paid in wages is equal to the quantity of capital, _alias_
+consumable goods, which happens to exist. To this day it blocks, with
+an undergrowth of obscurantist controversies, the way to a
+straightforward account of the problem of trade cycles.
+
+
+§5. _The Essence of Waiting_. But it is with positive conclusions that
+we must here concern ourselves. What is the essence of this waiting,
+as we have called it? What are its results from the point of view of
+the community? The individual, who saves and lends, waits in the
+obvious sense that he postpones consumption. He foregoes his right to
+purchase now a quantity of consumers' goods in consideration of the
+prospect of purchasing a larger quantity of such things in the
+future. From the standpoint of the whole community, there is a similar
+postponement of consumption, though it need not commence so soon. The
+store of consumable goods is what it is: the quantity of goods in
+_process_ of manufacture, which will shortly be coming forward, is
+also what it is. For some time, therefore, a sudden access of saving
+cannot affect the quantity of goods available for consumption; and if,
+in fact, they should be consumed less rapidly, that will represent an
+unfortunate defect, not an essential condition of a smoothly working
+system. The _necessary_ consequence comes later. The increased saving
+will cause labor, materials, land, agents of production generally, to
+be devoted to distant purposes. Men will be set to work producing
+durable goods, largely durable instruments of production like ships or
+railways or factories or plant. If the increased saving is
+considerable, the labor, materials, etc., required for these purposes
+will be withdrawn even under our present system, as under a smoothly
+working system they clearly must be, from the production of other and
+more immediately consumable things. Hence, some time later, the
+supplies of consumable things will be diminished, while at a later
+period still they will be more than correspondingly increased as the
+result of the assistance of the new durable instruments. That is the
+essence of saving from the social standpoint. An early future is
+sacrificed to a more remote future. The aggregate consumable income of
+the present is unaffected; the aggregate consumable income of the near
+future is actually diminished; it is not until at least some years
+later that the aggregate consumable income is increased.
+
+
+§6. _Individual and Social Saving_. This conclusion is important: but
+there is an obvious misinterpretation against which it will be well to
+guard. It is customary for social moralists to preach thrift and
+saving as a public duty, and to impart to their appeals a special note
+of urgency in times like the present, when, as the result of the havoc
+of the war, destitution is widespread over Europe. Now obviously these
+advisers do not mean to recommend something which will impoverish the
+world next year and the year after and the benefit of which will
+accrue only in a distant future: it is the immediate urgency of the
+world's needs which is rather the substance of their case. Nor would
+it be right to conclude that these wise men are the victims of a
+delusion, and advocate a course, the consequence of which they do not
+understand. The explanation of the paradox is simple. The more the
+community as a whole saves now, the less in the near future will be
+the aggregate consumable income of the whole community: but not of the
+_remainder_ of the community, exclusive of the savers. It is the saver
+who must wait, whose consumption must be postponed to perhaps a
+distant future; but _at no time_ does his saving result in a smaller
+income of consumable goods for other people. The aggregate consumable
+income of the near future will be diminished, but it may be better
+distributed, and it may consist of things of a different _kind_. For
+consumers' goods, we must remember, comprise champagne and motor cars
+as well as food and clothes; and, if a rich man saves, it may be
+purely articles of luxury, the production of which will shortly be
+diminished. Moreover, if his saving has the effect of transferring
+purchasing power to impoverished people, like those in Central Europe,
+it will not be devoted to a distant future; it will very likely be
+devoted to quite immediate ends. In other words, it may not result in
+any "creation of capital"; it may not represent any saving on the part
+of the community as a whole. A relatively rich man waits, and a
+relatively poor man _anticipates_ his income to a corresponding
+extent; and it is precisely this that is so urgently desirable in a
+time of widespread poverty and chaos.
+
+This is no matter of hair-splitting, and making plain things
+obscure. While it is always better for the _rest_ of us that an
+individual, who can afford to save, should save rather than spend
+(though it might be better for us still if we could have his money to
+spend ourselves) and while this is the more important the greater is
+the poverty which generally prevails; yet, as a community we cannot
+save so much, we _ought_ not to save so much, when we are impoverished
+as when we are prosperous. It is vital to appreciate this truth,
+because, as we shall see, by no means all the saving of the world is
+done by individuals. There are many forms of "collective saving,"
+which take place in actual fact; still more which we are often urged
+to undertake. And it is of practical importance to realize that the
+very considerations, which call most urgently for individual thrift,
+forbid a great indulgence in such projects. A time of national poverty
+is not a time when it is suitable for the State to embark on large
+schemes of capital development: we require our resources for more
+immediate ends. Faced with such problems, our practical sense may no
+doubt suffice to keep us straight; but it is apt to do so at the
+expense of a complete inversion of the real issues. If, for instance,
+we call for Governmental retrenchment on what we deem extravagant
+policies of housing and education, we usually speak as though they
+represented the profligacy of a spendthrift as contrasted with the
+saving that is indispensable. The truth is rather that these policies
+represent a saving, an investment for future purposes, which may
+conceivably be greater (this must not be taken as representing my
+personal opinion) than the community can properly afford. This is
+another instance of what I mean by looking at the problem of capital
+the right way up.
+
+
+§7. _The Necessity of Interest_. It is only now that we are in a
+position to appreciate the true functions of a rate of interest, and
+the nature of its claims to be regarded as a "real cost." Interest, it
+is sometimes said, is necessary to provide for the future. It is far
+more certain that interest is necessary to provide for the present. It
+is a matter of legitimate doubt how far it is necessary to _pay_
+interest to secure a supply of capital; there is no doubt at all that
+it is necessary to _charge_ interest to limit the demand for it. As we
+saw in Chapter I, a world socialist commonwealth would require to
+retain a rate of interest, if only as a matter of bookkeeping, in
+order to choose between the various capital undertakings that were
+technically possible. And this is the primary function which the fate
+of interest fulfils in our present-day society. It separates the sheep
+from the goats. It serves as a screen, by means of which capital
+projects are sifted, and through which only those are allowed to pass
+which will benefit the future in a high degree. For this essential
+purpose it is hard to imagine how a better instrument could be
+devised.
+
+
+§8. _The Supply of Capital_. Let us dwell for a moment on this image
+of a screen, or sieve. One condition of a good sieve is that its
+meshes should all be of the same size. This condition the rate of
+interest almost perfectly fulfils. But it is also important that the
+meshes should be of the _right_ size. Whether this is true of the
+actual rate of interest is a far more doubtful matter. It is, indeed,
+plain that it is not altogether devoid of merit in this respect. In
+times of general world poverty, like those which follow upon a great
+war, it is desirable, as has been argued, that more of our productive
+resources should be devoted to immediately useful purposes, and a
+smaller portion dedicated to a distant future. This readjustment the
+rate of interest helps to bring about. For it rises to a higher
+level, and there is accordingly a strong inducement to all
+manufacturers and traders to economize their use of capital, and thus
+to set free productive resources for more urgent needs. But, while the
+meshes of the sieve, as it were, contract in times when it is
+desirable that they should contract, we have no reason for supposing
+that they will contract in just the degree that is desired, neither
+more nor less; or, indeed, that at any time they approximate to the
+right size. We in the twentieth century owe much of the material
+wealth that we enjoy to the fact that over the last century men saved
+as largely as they did. But our natural gratitude should not restrain
+us from doubting whether they were really well advised to do so. If we
+ask the question _how_ they managed to do so, our doubts are
+deepened. For first place among the explanations must be assigned to
+the inequality in the then distribution of wealth. It was because many
+men in England were rich enough to save that our railways were built,
+and the resources of new Continents were opened up. But England, a
+century or even half a century ago, was not really a rich
+community. And if the national income in those days had been
+distributed more evenly among the people, can we doubt that they would
+have spent a far larger proportion of it on immediate needs; can we
+doubt that they would have been right to do so? We may rather doubt,
+in view of the reactions of poverty on physical and mental efficiency,
+on social harmony, even possibly on population, whether we to-day
+would have been really injured as much as might appear. How, then, can
+we suppose that the sum of the amounts which it suits individuals to
+save will bear any close relation to the resources which the community
+can properly devote to future ends? Are we to regard an unjust
+distribution of wealth as a mysterious dispensation of Providence for
+securing perfect harmony between the future and the present? The
+point need not be labored further. There are no grounds for assuming
+that we save, as a community, even roughly what we ought to save. If
+we wish to believe we do, we must turn for support from economics to
+theology.
+
+It is important to be clear upon this issue in order to distinguish it
+from another, with which it sometimes seems to be confused. This is
+the question, briefly outlined in Chapter II, of the effect of changes
+in the rate of interest on the supply of capital. As was there
+indicated, there are good reasons for supposing that a fall in the
+rate of interest would induce some people to save more, and
+conversely. But the balance of probability is in favor of the
+conclusion that the _net_ effect of changes in the rate of interest,
+though perhaps slight, is usually of the more ordinary kind. The
+decisive argument in this connection is the fact, upon which we have
+just touched, that savings are supplied largely by people who are
+relatively rich, and who become richer when the rate of interest
+rises. For at this point it is necessary to be careful. It is easy to
+slide from the above conclusion into an argument of the following
+kind. A higher rate of interest leads to more saving; it is thus
+necessary to _evoke_ more saving; it is thus required as an
+_incentive_ to induce people to incur the _sacrifice_ of waiting; this
+sacrifice represents the "real cost" for which interest is paid.
+
+This terminology of incentive, inducement and sacrifice is of very
+dubious validity. A rich man, who is made richer by a rise in the rate
+of interest, will probably save more, but it will be rather because he
+has become richer than because he is tempted by the higher rate: and
+the less we talk about his sacrifice the better. Nor is it clear that
+the attraction of a high rate of interest is an operative factor on
+the mind of a man to whom saving means a real sacrifice of immediate
+comfort or enjoyment. Certainly it is only one among many factors, and
+seldom an important one. A really poor man will think not so much of
+the annual income which will accrue from his savings, as of the
+capital sum upon which he or his family can fall back if a rainy day
+should come. And for this purpose he might save as much as he saves
+now, even if there were no interest to be obtained thereby. He might
+even be prepared to lend what he had saved, at least to banks (a
+deposit with a bank is in effect a loan), for the mere advantage of
+safe custody. The people who save rather for the sake of the capital
+sum that can be realized than for that of the annual interest are very
+numerous, and probably include many men in receipt of quite
+considerable earned incomes. Moreover, those who consider mainly the
+future annual income which their savings will yield them, are usually
+more concerned with its absolute amount than with the ratio it bears
+to the amount they must save in order to acquire it. For this reason,
+as has been often recognized, they may save less when the rate of
+interest rises, since a smaller quantity of savings will insure to
+them the future annual income they desire to obtain. There is no need
+to be dogmatic upon any of these points. The psychology of saving is
+both complex and obscure. Our conclusion must be the negative one that
+we have insufficient evidence to warrant the assertion that the
+particular rate of interest which happens to prevail is a measure of
+the sacrifice involved in saving, even in the case of what we might
+regard as the "marginal saving." And, if we cannot assert this, we
+must be careful not to assume it as the basis of other arguments, or
+as part of a general analysis of price or exchange value.
+
+It is of some interest to observe that the difficulties which our
+world socialist commonwealth would encounter if it attempted to
+dispense with the rate of interest, would not necessarily include that
+of obtaining a supply of capital. It might, indeed, not find it easy
+to determine the proportions in which it should allocate its
+productive resources between immediate and distant ends. Our present
+system cannot be said to have evolved satisfactory principles for the
+solution of this question; and the socialist commonwealth would have
+to work out its own solution. But when it directed that labor and
+materials should be devoted to purposes of long-period utility, there
+would be an automatic collective saving, of which no one would be
+conscious as an individual sacrifice. Even at the present time, our
+capital is not supplied entirely by the savings of individuals, but to
+an extent, which though quite incalculable is yet certainly
+considerable, by involuntary saving of an essentially similar type to
+the above.
+
+
+§9. _Involuntary Saving_. When a municipality embarks on a municipal
+tramways scheme or any other industrial enterprise, and pays off by
+means of a sinking-fund the capital which it borrows in the first
+instance, the proceeding amounts, as the defenders of municipal
+trading have rightly claimed, to a compulsory and unconscious saving
+on the part of the citizens. Their consumption has been postponed
+willy-nilly as the result of the increased rates or the high charges
+which they have had to pay; and, when the subscribers to the original
+loan have been paid off, the capital of the community is enhanced to
+the extent of that loan. Central governments might similarly increase
+the supply of capital by devoting annual revenue to capital purposes;
+though their actual record, as it happens, is mainly of a different
+kind. But what is chiefly a possibility in the case of Governments has
+actually been carried out on an enormous scale by other institutions.
+The development of the joint-stock company system has introduced a new
+factor into the problem of the supply of capital, which is of immense
+though but dimly perceived importance. The directors of a company are
+technically no more than the servants of the shareholders. It is the
+profit of the shareholders that it is the directors' duty to promote
+with a single mind, and the whole capital of the concern, including
+its reserves both open and concealed, is the shareholders' exclusive
+property. But realities have a way of differing from forms, and just
+as in political affairs it is common to regard the State as a very
+different thing to the people who compose it, as a sublime entity with
+a separate existence of its own, so directors are apt to distinguish
+between the company and the shareholders. It is the company to which
+they owe allegiance. To pay away in dividends to shareholders money
+which they could employ in extending the business or strengthening the
+position of the company appears to some directors a necessity hardly
+less unpleasant than an increased wages bill, or an Excess Profits
+Duty. Concessions must indeed be made to the shareholders' rapacity:
+but when something has been done in this direction, dust can easily be
+thrown in their not very observant eyes. Reserves, which within
+limits are a necessity of sound finance, can be accumulated beyond
+those limits, and, when the further limits of an extreme but just
+arguable conservatism have been passed, there remain the innumerable
+devices, known to every resourceful Board, of hidden reserves, the
+secret of which is unmenaced by the meager information of a
+balance-sheet. In all this the shareholder, as the directors
+occasionally assure themselves, has no real grievance, for he will
+gain in the long run, from the appreciation in the capital value of
+his shares, all and perhaps more than all that he foregoes in the
+meantime in the way of dividends.
+
+In the long run the shareholder is not injured; but in the meantime he
+is in effect compelled, without any consciousness of the proceeding,
+to save and to reinvest in the company a portion of the dividends,
+which he might otherwise have spent. The reserves which are
+accumulated are not allowed to lie idle: they are employed either in
+what are really capital extensions of the business, or in the purchase
+of outside securities, and in either case they represent an increase
+in the total supply of capital. The principal which these proceedings
+represent is capable of indefinite extension.
+
+But however possible it might be to secure a supply of capital without
+the inducement of a rate of interest, that rate is indispensable for
+dealing with the demand. It is no good saying, "Three per cent seems
+a fair rate of interest; let us try and limit it to that." Given the
+amount of savings which are supplied, the rate of interest must be
+allowed to reach whatever figure is necessary to confine the demand to
+that amount. Given the quantity of resources which you have available
+for future needs, the meshes of the sieve must be made as narrow as is
+necessary to confine the projects that pass through within those
+limits. And so, indeed, it becomes necessary for any particular
+business to pay for its capital interest at the market rate, not so
+much to secure the saving of it as to secure its allocation from the
+common pool.
+
+
+§10. _Interest and Distribution_. It is unavoidable that this interest
+should accrue to whoever it is that supplies the capital. If the
+capital were supplied, as it might conceivably be, collectively by the
+community, the interest would accrue to the community, and all would
+be well. But as things are, the capital is supplied mainly by the
+savings of individuals, and largely by individuals confined to a
+relatively narrow class. The profits of Capital have thus a vital
+influence on the very serious matter of the distribution of wealth
+between social classes. Now, as experience shows, there is no element
+in profits which is capable of such radical change in so short a space
+of time, as is the rate of interest. Even before the war it had become
+hard for people in Great Britain to realize that 3 per cent Consols
+had stood at 114 as late as 1896. "How blest," wrote two cynical
+satirists of society in the same period:
+
+"How blest the prudent man, the maiden pure,
+Whose income is both ample and secure,
+Arising from Consolidated Three
+Per cent Annuities, paid quarterly."[1]
+
+It is impossible to read those lines now without a sense of irony,
+different from that which they were intended to convey.
+
+Not only is the rate of interest now double what it was a generation
+ago; we have no good reason to suppose that the present high level
+will quickly be reduced. The havoc of the war, of which the
+widespread poverty of Europe and the huge debts of Governments are but
+two different aspects, makes it almost inevitable that the rate should
+rule high in the present decade. This cannot but exercise a profound
+influence, of a most disquieting character on the general level of
+profits, and to a lesser extent (for here we must allow for the
+effects of high taxation) on the distribution of real wealth between
+social classes. Here we are on the threshold of tremendous issues. We
+almost feel the earth quake beneath our feet. We hear the muffled roar
+of far-reaching social controversy:
+
+"And 'mid this tumult Kubla heard from far
+Ancestral voices prophesying war."
+
+[Footnote 1: _Narcissus_, by Samuel Butler and Henry Festing Jones.]
+
+
+
+CHAPTER IX
+
+LABOR
+
+
+§1. _A Retrospect on Laissez-faire_. When, a century and a half ago,
+the foundations were being laid in the Western world of systematic
+economic theory, the public attention was much occupied with a
+subject, which indeed has not ceased to hold it: that of the failings
+of Governments. The general interest in that topic was shared by the
+pioneers of economic thought, of whom, in Great Britain, Adam Smith
+was the most notable. It was indeed their practical concern with the
+concrete economic issues of the day which very naturally gave the
+impetus to their scientific quest. It was hardly less natural that
+they should have expressed their opinions on these concrete issues
+with considerable emphasis.
+
+Now the keynote of their practical conclusions was that Governments
+were doing immense mischief by meddling with a great many matters,
+which they would have done better to leave alone. In this they were in
+general agreement with one another; incidentally--let there be no
+mistake about it--they were right. But, as invariably happens in
+public controversy, their opinions became crystallized in a compact
+formula, or cry, with unduly sweeping implications. This was the cry
+of "_laissez-faire_." Let Governments preserve law and order; and
+leave the economic sphere alone. The economists picked no quarrel with
+this formula; it served well enough for workaday purposes to indicate
+the lines of policy which they rightly thought essential in their day.
+
+The history of this cry is the history of every cry which has won a
+wide acceptance from mankind. It did good work for perhaps half a
+century; but then many crimes were committed in its name. The
+instrument which had been forged to clear away a noxious tariff jungle
+and the monstrous laws of Settlement, was turned against Lord
+Shaftesbury and the Factory Acts. Not only was inaction recommended
+to Governments as the highest wisdom; other institutions, like trade
+unions, were warned off the economic grass. An ideal of perfect
+competition became an idol to which much human flesh and blood were
+sacrificed.
+
+But, what is more to our present purpose, the idea took root of an
+intimate association between the laws of economics and the policy of
+_laissez-faire_. People who opposed some long-overdue measure of State
+regulation believed themselves to be justified by the eternal verities
+of economic law, and this claim even the advocates of the measure
+seldom ventured to dispute. They took refuge rather in a conception of
+economic law as a dangerous monster, whose claws must be clipped in
+the interests of the higher good. This notion that all interference
+with so-called "free competition," is a violation (though very likely
+fully justified) of economic laws has sunk deep into our common
+thought. So that to this day, whenever we see at work the hand of a
+State department, a trust or a trade union, we are apt to say "Demand
+and supply are here in abeyance," and possibly we add "A good thing
+too." Since in the matter of wages, the hand of the trade union is
+very generally evident, it is impossible to discuss the subject-matter
+of this chapter, until we have rid our minds of this quite baseless
+prepossession. To sweep away this cobweb, I urge the reader to recall
+here the general tenor of the analysis of the preceding
+chapters. Whether we were dealing with the price of an ordinary
+commodity, with joint products, land or capital, we came across
+relationships which seemed altogether more fundamental than our
+present industrial system; nor, we may incidentally observe, were we
+ever required to suppose that the present system was one of "perfect
+competition." These relationships were almost invariably such that
+even a world socialist commonwealth would find it necessary to
+maintain them. It was not suggested, and most certainly it must not be
+thought, that a world socialist commonwealth, or even a more modest
+remodeling of the social order would not effect great changes,
+possibly for good, and possibly for ill. The same economic laws might
+be made to bear very different fruits, but they themselves would
+remain unchanged. What is true in all these other fields--this should
+be our predisposition--is not likely to be quite untrue in the field
+of labor.
+
+
+§2. _Ideas and Institutions_. Another point is worth noting here. We
+are sometimes advised to distinguish sharply between "What should be"
+and "What is"; often two very different things. The advice is
+pertinent and useful, particularly in the sphere of sociology. But
+our incorrigible habit of confusing the two things together is not
+without justification, or at least excuse. For, in fact, they
+gravitate towards one another with a force which is just as strong as
+the capacity of man for understanding and controlling his
+environment. When we have a system which is clearly bad, _and_ when we
+see our way to make it better, we generally make the change however
+tardily. Our sense of "What should be" thus reacts upon "What is."
+Meanwhile, until we can make the system better, our appreciation of
+"What is" affects our sense of "What should be." And the more so, as
+we are sensible. For "What should be" is pre-eminently an affair of
+relativity. A man may hold very strongly that equal pay to every
+individual is desirable, as he puts it, as an ideal. But this will not
+prevent him, in a world in which managers are paid far more than
+manual workers, from maintaining hotly (at any rate, if he is
+sensible) that to pay the manager of a particular concern a manual
+worker's wage would be monstrously unfair. He would also argue that it
+would be highly inexpedient. Equity and expediency are, in fact,
+intricately intertwined in our sense of "What should be"; and our
+sense of "What should be" in the particular is governed by our
+knowledge of "What is" in the general.
+
+These may seem unnecessary commonplaces. But they have a vital bearing
+on the _modus operandi_ of economic laws. These laws do not work _in
+vacuo_. They work through the medium of the acts of men. The acts of
+men are greatly influenced by their institutions, and by their ideas
+of right and wrong. Both institutions and ideas may serve to smooth
+rather than obstruct the path of economic laws; because the laws may
+represent either "what should be" in the general, or "what is" in the
+general, and therefore "what should be" in the particular. This may
+hold true even of a trade union or a sense of "fair wages." The
+business of economic theory is not to justify a regime of
+_laissez-faire_, still less to show the folly of bringing morals into
+business. Its value is rather that it may help us, by improving our
+understanding, to shape our institutions, and to adopt our moral
+sentiments so as to promote the public welfare. With these general
+notions in our minds, let us turn to see how stands the case with
+Labor.
+
+
+§3. _The General Wage Level_. The term Labor may be used in a broad or
+in a narrow sense. It may be confined to weekly wage-earners: it may
+be extended to include all those who work, as the phrase goes, "with
+either hand or brain." It is with all classes of Labor, in the
+broadest sense of the term, that we must here concern ourselves. It
+will be convenient, however, in the first instance to ignore the
+differences between them, and to consider the forces which determine
+what we may regard as the general wage-level.
+
+The general laws of supply and demand hold good. The wages of labor
+tend to a level at which the demand is equal to the supply. For, if
+the demand exceeds the supply, if, in other words, labor is scarce,
+wages tend to rise, sooner or later in any case, and the more promptly
+in proportion as the workpeople are organized. Conversely, if the
+supply exceeds the demand, if in other Words there is general
+unemployment, wages tend to fall, and the strongest trade unions
+cannot resist the tendency, though they may delay it. Moreover, the
+higher the wages that must be paid, the smaller, other things being
+equal, is the demand for labor. For, even if we leave foreign
+competition out of account, and consider, as it were, labor throughout
+the world as a whole, the demand for labor is by no means
+inelastic. It is derived along with the demand for the other agents of
+production in the manner described in Chapter V. As was there shown,
+the greater the supply of the other agents of production, the greater
+is likely to be the demand for labor; but these other agents can be
+substituted for labor in a great variety of ways, and an increase in
+wages (unless accompanied by increased efficiency) will make it
+profitable for employers to effect such a substitution, where it was
+not profitable before. Thus, higher wages for the same labor
+efficiency must stimulate the tendency for capital to act as a
+substitute for labor at the expense necessarily (since the aggregate
+supply of capital will not be increased thereby) of its tendency to
+serve as a complement; and this must mean a decrease in the volume of
+employment. Hence the power of labor to secure a general advance of
+wages by concerted or simultaneous trade union action, applied if you
+will, not merely to every industry, but to every country, is
+necessarily very limited. Beyond a certain point, such a policy must
+result in general unemployment; and, if pushed sufficiently far, in
+unemployment so extensive that it would continue even in periods of
+active trade. Such a policy could neither be maintained in practice
+nor would it be a wise policy from the workers' point of view.
+
+In other words, given on the one hand the conditions of the demand for
+labor (i.e. the supply of capital, natural resources, business
+ability, risk-bearing and knowledge of technical processes, etc.,
+which happens to exist), and given on the other hand the supply of
+labor (i.e. both the numbers of workpeople and their efficiency), the
+wage-level in the long run is fairly rigidly determined. The
+introduction of the phrase "in the long run" in this connection is apt
+to provoke comment which may be pertinent, but may be misconceived.
+The worker, it is pointed out, is deeply concerned with "the short
+run" in which he has to live. It is very true; and it is this that
+supplies one of the many justifications of trade unionism. To secure
+for the workers advances of wages, which economic conditions justify,
+sooner than would otherwise have been obtained, is certainly no
+trivial or contemptible function. But it is none the less an illusion
+to suppose that the general wage-level can be appreciably and
+permanently raised by trade union action, except in so far as it
+increases the efficiency of the workers or incidentally stimulates the
+efficiency of the employers.
+
+
+§4. _The Supply of Labor in General_. The efficiency of labor may be
+regarded as affecting either the demand for labor on the one hand or
+the supply of it on the other, according as we look at the matter from
+the worker's or the employer's standpoint. The employer is concerned
+with the labor costs per unit of his output, the worker is concerned
+with the wages he receives. An increase in the efficiency of labor
+may, and usually will, mean both a decrease in labor costs to the
+employer and an increase in the earnings of the worker. It is thus
+wholly to the good. But the effects of an increase in the supply of
+labor in the sense of a growth in the numbers of the population are
+far more dubious. Unaccompanied by an increase in the _demand_ for
+labor, it _must_ result in a diminished remuneration for the
+individual worker. To some extent indeed the demand for labor would
+almost certainly be increased. The supply of Capital may expand,
+perhaps proportionately, perhaps more than proportionately to the
+increase in population. But one factor of production, as we have seen,
+is not capable of such expansion. This is the factor of Land, or
+Natural Resources. It is the limitation of this factor which gives
+rise to what we have most of us heard of as The Law of Diminishing
+Returns. It is this that is the essence of the problem of Population,
+portrayed in somber hues more than a hundred years ago by Malthus.
+
+This problem will form the subject of the sixth volume of the present
+series. In the meantime it may be suggested that we are easily
+credulous if we suppose that the problem has been finally disposed of
+by the peculiar progress of an abnormal century. But that experience
+has at least destroyed the view that there _need be_, or even is in
+fact in Western countries, a relation between real wages and the
+numbers of the people so close and direct that an improved standard of
+living must be temporary only, doomed to destroy itself by the
+increased population it engenders. One may perhaps go further and say
+that it is doubtful even in what direction changes in remuneration
+will influence the aggregate supply of labor. When we pass to "what
+should be," it is plain that there is nothing whatever to be said for
+the sort of relation indicated above. The view once widely held that
+the principle of population must inevitably keep the mass of people
+close to the verge of the bare means of subsistence was no statement
+of a desirable ideal. It was a nightmare; a nightmare none the less
+though it may haunt us yet. It is far from fanciful to suggest that it
+is because this relation is so obviously _not_ "what should be" that
+it may be ceasing to hold true in fact. But it would be very fanciful
+indeed to maintain that as yet "what should be" is represented by the
+actual population. Thus, just as with capital, so with labor, there is
+no reason to suppose that the aggregate supply is determined by any
+fundamental economic law, or corresponds in practice to what is
+socially desirable.
+
+
+§5. _The Apportionment of Labor among Places_. Again, as with capital,
+it is when we turn to the _apportionment_ of labor between different
+employments that both economic law and social ideal make their
+appearance. It will be well, however, to consider briefly in the
+first instance the different question of its apportionment between
+places. This was hardly necessary in the case of capital, because the
+possibilities of foreign investment are very numerous and easy: the
+mobility of capital is thus sufficiently strong (once again it is only
+_marginal_ adjustment that is necessary) to establish over at least a
+large part of the world something near to a uniform rate of
+interest. But this is not the case with labor. People do indeed move
+from place to place within a country, and from one country to another,
+in response to economic opportunities. That even the latter movement
+may be a considerable thing, the present population of the United
+States is a striking testimony. But obviously the mobility is very
+incomplete. Here, then, we have what we might _loosely_ call an
+economic law that labor tends to "flow" (as it is sometimes unhappily
+phrased) to those places where it can command the highest reward; we
+have this tendency in evidence, but it is far too weak to enable us to
+lay down what would deserve more strictly the title of an economic
+law, that in the long run the reward of the same kind of labor is
+roughly equal in all places. Perhaps we can say this for many
+districts in a single country; but for few countries is this true as
+between all their districts. As between countries, it is not remotely
+true.
+
+Here, however, the imperfection of economic law is balanced by an
+extreme uncertainty as to the ideal. Perfect mobility of labor may be
+_economically_ desirable in a very narrow sense of the term; but it
+opens out a vista of racial, national and cultural problems, into
+which it will be better for us not to enter here. We must take for
+granted the population of a country, like that of the world, as a
+given fact.
+
+When we do this, the question of its remuneration is on all fours with
+the more general question discussed above. That the remuneration of
+the labor of a country is mainly governed by the relations between
+demand and supply is an inexorable fact. In view of the international
+mobility of capital, the main distinctive factor in the demand for the
+labor of a particular country is the supply of natural resources,
+which it knows how to use. Where the natural resources are great
+relatively to the population, there wages will rule high; where the
+converse is true, wages will rule low. This result of economic
+analysis is abundantly confirmed by experience. The relatively high
+wages in the new world, the low standard of living in the densely
+populated East; the economic history of Ireland are so many
+object-lessons of its truth.
+
+
+§6. _The Apportionment of Labor among Social Grades_. The question of
+the apportionment of the labor of a country among different
+employments falls under two heads. Some differences of occupation are
+associated particularly in Great Britain with differences of what we
+know as class. The movement of labor between different social grades
+is clearly a very different thing from its movement between different
+occupations in the same grade. The grades themselves are not easy to
+define: not a little ingenuity has been expended on the attempt, and
+perhaps the best brief classification that has been put forward is one
+which divides labor into the following four grades:--
+
+(1) Automatic manual labor.
+(2) Responsible manual labor.
+(3) Automatic brain workers.
+(4) Responsible brain workers.
+
+But the matter is one perhaps for the satirist of manners rather than
+the economist. It suffices for our purpose that the distinctions,
+however vague, are very real.
+
+It is obvious the mobility of labor between the occupations of a
+platelayer and a barrister is not very great. It may seem perhaps to
+be even smaller than it is. For here it is important to bear in mind a
+general consideration which is equally applicable to horizontal
+movements within any social grade. There may be a considerable
+movement of labor between different employments without any individual
+worker having to change his occupation. The personnel of any industry
+is constantly changing. At one end, men die, retire, or are pensioned
+off; at the other end, young recruits are taken on. By a diversion of
+the new recruits from one employment to another, a radical change can
+be made in the occupational census in a comparatively short space of
+time. It is in this manner that such movement as takes place is
+largely effected at the present time. Within the ranks of the
+professional classes, a man does not commonly leave the profession to
+which he has been trained. But his _choice_ of profession is
+determined by him or his parents not solely on pecuniary grounds but
+usually with an anxious scanning of the general prospects, which
+include pecuniary advantages together with many other things. The same
+thing is true in no small measure of manual wage-earners. This general
+consideration must be borne in mind throughout the remainder of this
+chapter.
+
+But even the sons of platelayers do not commonly practise at the
+bar. The obstacles in the way are various and subtle. Many of them are
+ideas, inherited from a bygone epoch, about keeping other people "in
+their proper stations," which the whole drift of circumstance, and the
+spirit of the age are rapidly wearing down. In the new world such
+obstacles are rare. But an obstacle of a more tangible and formidable
+kind arises from the fact that the liberal professions and many
+business careers require a long and expensive education and training,
+which the platelayer is quite unable to afford to give his son.
+
+Now this expense of training is highly relevant not only to "what is,"
+but to "what should be." It includes, it should be observed, a
+negative as well as a positive element; a long period of waiting
+before income begins, as well as the actual outlay on educational and
+other charges. When the burden both of the waiting and the positive
+costs must be borne either by the individual or the family, there are
+few people who would seriously dispute that this goes to justify, on
+grounds of fairness as well as of expediency, a higher level of annual
+remuneration later on; though many people would doubtless argue that
+the amenities and dignities of the professions should be taken into
+account on the other side. But the same consideration makes it a
+matter of legitimate doubt whether it would be desirable, even as an
+ideal, that the community should provide so completely the costs of
+training and of maintenance in the waiting period, as to make it no
+longer "fair" that the individual should be remunerated more highly
+than workers in less expensive occupations. For this would mean that
+more labor would be absorbed in the former employments than in
+principle would be socially desirable, for reasons which the argument
+of the next chapter will make plain. But the most desirable number of
+doctors, barristers, teachers, etc., is not a thing which can be
+settled on purely economic grounds, and it is unprofitable to carry
+further this particular line of thought. Few people would advocate, as
+an ultimate ideal, that the remuneration of the professional grades of
+labor should exceed that of lower grades by _more_ than the extra
+expense of training and waiting they involve. That the excess is
+usually greater than this at the present time seems very probable:
+though it is a matter on which it is very hard to generalize. But it
+would certainly be far greater than it is if the principle of
+_laissez-faire_ ruled supreme in these affairs. Fortunately it does
+not, and has never done so. Even before the days of free elementary
+education, the endowment of education was not unknown. The ancient
+public schools and universities, which have come down to us from the
+Middle Ages, are a standing witness to what in this field a far poorer
+community thought fit to do. Their systems of scholarships and
+exhibitions, no less than their courts and towers, deserve our
+notice. For these were designed to form what we now call "a ladder" by
+which talent could climb from the humblest origins to the callings
+which then seemed the summit either of spiritual or of worldly
+ambition.
+
+This reference to "talent" makes it well to consider here a factor
+which necessarily complicates, though it does not substantially
+affect, the whole argument of the present chapter. There are
+differences of natural ability, which no education or training can
+obliterate, which it should rather be their business to excite. These
+differences are associated to a great extent with differences of
+occupation; they _should be_ so associated far more closely than in
+fact they are. They are also associated with differences of
+remuneration even within the same occupation; "what should be" here is
+a question which we may excuse ourselves from discussing. The
+principle which, however vague, is sufficient for our present purpose
+is that the same _natural ability_ should command the same reward in
+all occupations, subject to differences which should not exceed the
+differences of educational cost and initial waiting they involve. We
+cannot assert, as an economic law, that this is generally true in
+fact. If ever it becomes true, it will be due not to
+"_laissez-faire_," or "free competition," but to social arrangements,
+which express a sense of what is right.
+
+
+§7. _The Apportionment of Labor among Occupations_. When we pass to
+the apportionment of labor among different occupations in the same
+social grade, the same principle as to "what should be" applies in a
+simpler form. Equal natural ability should command an equal reward in
+all occupations; assuming that differences in cost of training can be
+ignored. The reward must, of course, be interpreted not in terms of
+money only but of "real wages," with allowance for the varying
+amenities of different tasks. Now it was here that the extreme
+advocates of _laissez-faire_ made one of their cardinal mistakes. They
+assumed that this ideal would be best secured by "perfect
+competition." The employer would choose the worker who would come for
+the lowest wage; the worker would choose the employer who would pay
+him the highest wage; and so, by a process similar to the higgling of
+a commodity market, the desirable uniform wage-level would become
+established. But in fact the conditions of the labor market differ
+greatly from those of a commodity market. People are ignorant, do not
+look ahead, cannot afford to risk the loss of a job, however wretched,
+which they happen to have got. For reasons such as these, a
+considerable departure from _laissez-faire_ is necessary in order to
+realize the theoretical results of _laissez-faire_. To prevent the
+putting of boys in large numbers into "blind alley" occupations, you
+must supplement the foresight of parents with Juvenile Employment
+Exchanges and After-Care Committees. To secure a proper uniformity of
+wages within the same occupation, you must have trade unions. To
+secure a proper uniformity between different occupations, you must
+have again trade unions, or, failing them, Trade Boards.
+
+That the actions of trade unions are very largely of this type is a
+fact insufficiently appreciated by the middle-class public. The
+elaborate system of piece-rate lists which has been evolved in the
+Lancashire cotton industry is primarily designed to secure the same
+wage for workers of equal efficiency in all mills, irrespective of the
+degree to which the machinery is antiquated or up to date. This result
+is wholly to the good: not only does it secure "fairness" for the
+worker, it stimulates the employer wonderfully to efficiency. The same
+result could never be secured so effectively by the free play of
+competition. But this tendency, which is easily the predominant
+element in the trade union regulations of the cotton trade, is at
+least an important element in the policy of "The Common Rule" of all
+trade unions, though it may often be mixed up with the more
+questionable tendency to eliminate differences of pay for differences
+of natural ability, and the unquestionably bad tendency to discourage
+output. As between different occupations, the insistence of a trade
+union that wages must be leveled up towards the wages obtaining in
+similar trades acts again as a far more powerful force than
+competition.
+
+But the actions of trade unions are by no means wholly of this
+type. They often serve rather to secure still higher wages for workers
+who, comparatively speaking, are already highly paid. It makes little
+difference whether this effect is secured directly by wage demands, or
+indirectly by restricting the right of the entry to the trade. In
+either case the consequences are the same, and there should be no
+ambiguity as to their nature. They are certainly bad for the
+community, certainly bad for the _other_ workers of the grade, almost
+certainly bad for the workers of the grade regarded as a whole. The
+higher wages must raise the money costs of production, and result,
+sooner or later, in fewer workpeople being employed in that
+occupation; larger numbers must accordingly seek employment elsewhere;
+and this cannot but depress the wage rates of less strongly organized
+trades. Thus the effect is twofold: a larger proportion of workpeople
+will be employed in badly paid occupations; and the wages there will
+be lessened.
+
+The power of a strong trade union to secure wage advances of this type
+is considerable, but it must not be exaggerated. Trade unions employ
+as a matter of course devices which, in the case of trusts, we regard
+as the extremest weapons of monopoly. To say, "If you buy from anyone
+except us, you must not buy at a lower price than ours," which
+Messrs. J. & P. Coats are represented as having done, is analogous to
+insisting that if non-unionists are employed, it shall be at the trade
+union rate, as every trade union very properly insists. To say, "You
+must buy _only_ from us," the method of the boycott, as it is called,
+is analogous to the very common refusal to work with non-unionists at
+all. But in one important respect the tactical position of a trade
+union is weaker than that of an ordinary combination. It has usually
+got a buyers' combination up against it, in the shape of an
+association of employers. The latter will be governed in their
+attitude towards the workpeople's demands, not only by immediate
+expediency, but also by their own sense of "what should be"; and they
+will usually resist demands for wages greatly in excess of those
+obtaining in comparable trades. In this way, the tendency for workers
+of the same efficiency to receive the same real wages in all
+employments is far stronger than might at first sight appear.
+
+If we had to rely for this result upon trade unions alone, it would be
+highly problematical. For here a psychological curiosity emerges,
+which, familiar and intelligible as it is, is none the less a
+curiosity. So far from still higher wages for well-paid workpeople
+being regarded in the world of manual labor as detrimental to the
+interests of other workpeople, it has become almost a point of honor
+to believe the contrary. A wage dispute in a particular trade is
+conceived as an engagement in a far-flung battle between Capital and
+Labor, in which success at any part of the line will facilitate the
+victory of the whole army. This conception contains a measure of
+truth, as regards immediate and purely temporary effects; though, even
+here, it is made to seem unduly plausible by the recurrence of trade
+cycles, which cause wages at any time to move in the same direction
+all along the line. But, if the foregoing analysis has been
+appreciated, the essential falsity of this notion should be evident.
+It is an illusion, which should receive no endorsement, either tacit
+or express, in any work on economics. The general wage level of a
+country cannot be regarded (except temporarily, and within narrow
+limits) as a function of the efficiency of labor organization; it
+depends on the far deeper economic facts set out in §3 above.
+
+Let us now try to summarize the conclusions of this section. There
+_is_ a tendency towards a uniformity of real wages for workers of the
+same grade and of the same efficiency. This tendency is not due to
+competition alone. It is helped by many acts of a collective kind,
+arising from a sense of "what should be"; it is obstructed by other
+acts of a like kind, where the sense of "what should be" is based on
+imperfect understanding. The more people act in accordance with "what
+should be," and the better their understanding, the more will this
+tendency approximate to an accurate economic law.
+
+
+§8. _Women's Wages_. The wages of women represent a problem of great
+public interest, upon which the principles laid down in this chapter
+have a most important bearing, and which in its turn serves to
+illustrate these principles further. It has been suggested that male
+and female labor can be regarded as a strong case of Joint Supply, and
+the suggestion is not merely facetious. The essential point, that the
+proportions of available male and female labor are fairly constant
+(not that they may not alter with time and circumstances, but that
+they are essentially independent of the conditions of demand) holds
+true not only of a country as a whole, but hardly less of a particular
+district. If men and women are to be regarded as separate grades, they
+are grades between which immobility is complete. Now men and women
+differ in many ways which affect both the demand for and the supply of
+their services. On the one hand, far fewer women wish to enter
+business employments of any kind, as women have plenty of work that
+must be done at home. On the other hand, though women can do many
+kinds of work as well as or better than men, it so happens that for
+much the greater number of services, which are in large demand in the
+business world, men are the more efficient. Incidentally, it happens
+that many occupations which women _might_ do as well as men are closed
+to them by exclusive regulations. The resultant of these forces is
+that men and women are for the most part employed in different
+occupations, and the scale of payment in women's occupations is far
+lower than that in men's. Of this last fact singularly small
+complaint is made.
+
+It is otherwise, however, when we come to occupations where men are
+either wholly or partially employed, where women are at least
+approximately as efficient as men, and where the barriers to their
+entry are at least formally removed. There a ferocious controversy
+rages over what is known as the principle of "equal pay for equal
+work." It is easy to understand why the male trade unionists in, let
+us say, the engineering trades, should support this claim. It is also,
+indeed, _intelligible_ why the enthusiasts for Women's Rights should
+urge it; but it is much more doubtful whether they are wise. Possibly
+they are wise enough in their generation, since it might not serve
+them on this matter to get across the men. But it is clearly not
+prudential considerations of this kind by which they are mainly
+actuated. They make the demand, with extreme intensity of feeling, as
+a demand for fundamental justice. They are also very obviously
+inspired with the belief (similar to the illusion which is a point of
+honor with the male trade unionist) that high wages for women in
+well-paid occupations will help to raise the wages of sweated women
+workers in other trades.
+
+Now, here again, any lack of candor would be inexcusable. The effect
+of this policy on the wages in women's trades is certainly to reduce
+them. The policy serves, as powerfully as any trade union custom, to
+restrict the entry of women into the men's employments, and often
+spells virtual exclusion. For the "equal efficiency" may be
+approximate only, and there may be advantages in male labor from the
+employer's standpoint which are none the less important, because they
+are not easy to define. Moreover, from the employer's standpoint, the
+efficacy of female labor will be largely a matter for _experiment_,
+and "equal pay" will give him no inducement to experiment at all. The
+diminished number of women in these occupations (as compared with what
+might have been) increases the number who must fall back on the purely
+women's trades; and it _must_ serve to reduce the wages there, where
+organization is by no means strong. I am far from asserting that this
+consideration is conclusive against the principle of "equal pay for
+equal work" (though I think it conclusive against a rigid
+interpretation of it); for other matters, such as the standpoint of
+the male trade unionist must be taken into account. But the reactions
+on the wages in women's trades permit of no ambiguity.
+
+In occupations of another type, the issue takes a somewhat different
+form. In the teaching profession, "equal pay" would not exclude the
+women; it would be far more likely to exclude the men. For, though the
+advocates of the principle would declare that their intention is that
+the salaries of women should be leveled up to those of men, it is more
+probable that the ultimate outcome would be a leveling down.
+Educational authorities have the ratepayer and the taxpayer to
+consider; and, apart from this, they have their own interpretation of
+"what should be." To pay a woman less than a man for the same work may
+seem glaringly unfair; but it is not very clear why a woman, who is an
+elementary school teacher, should be paid much more than, say, a
+hospital nurse, merely because in the former case a number of men
+happen also to be employed. In fact, there is a clashing of equities
+in this connection; and there is little doubt which of them the
+educational authorities would prefer. A leveling down of the men's
+salaries would make it all but impossible to attract men of the
+desired type into the profession, and would thus lead to the virtual
+extinction of the male elementary school teacher. This might seem in a
+narrow sense to be economically desirable. Why should not men take
+their services to the tasks for which they can command a higher
+reward, and which women cannot do as well? But whether this would be
+desirable in the true interests of education is a far more doubtful
+matter. And this is the real problem of "equal pay for equal work" for
+male and female school teachers. The reader will notice that I have
+refrained from alluding to the controversy as to whether men should
+receive more on the grounds that they have wives and families to
+maintain. That, although a most absorbing issue, is not the real issue
+in practice at the present time. The real issue is a clashing between
+a sense of "what should be" on obvious general grounds and a sense of
+"what should be" in the particular, derived from the very patent and
+general "what is" that men receive as a rule far higher pay than
+women.
+
+
+
+CHAPTER X
+
+THE REAL COSTS OF PRODUCTION
+
+
+§1. _Comparative Costs_. Beneath the great diversity of the
+considerations which are applicable to the different agents of
+production, certain general conclusions emerge from the analysis of
+the last four chapters. In no case did we find that the aggregate
+supply of the agent was determined by clear and certain economic laws,
+possessing any fundamental significance. The supply of natural
+resources is a fixed thing, quite independent of the efforts or the
+desires of man. However the supply of capital and the supply of labor
+may react under present conditions towards economic stimuli, these
+reactions possess no quality of inevitability and bear no clear
+relation to "what should be." The supply of risk-bearing responds
+perhaps more decidedly to the prospects of increased reward; but it is
+so intimately associated with special knowledge and the qualities of
+business enterprise, as to leave some uncertainty attaching even to
+this conclusion. When, on the other hand, we turn to the
+apportionment of these factors among different uses, we find relations
+which are both clear and fundamental. Laws emerge which state at once
+not only "what is" or at least "what tends to be," but also "what
+should be"; and it is the fact that they taste "what should be" that
+gives them their fundamental character.
+
+These conclusions enable us to give a general answer to the question
+which was raised at the end of Chapter V: What are the ultimate real
+costs to which the money cost of production correspond? The attempt
+has often been made to relate money costs to such things as the effort
+of working and the sacrifice of waiting. The existence of such costs
+is beyond dispute. Much saving does mean a sacrifice of immediate
+enjoyment to the man who saves. Most labor is irksome and disagreeable
+in itself, and involves strain and wear and tear; while all labor
+means a deprivation of the utility of leisure. Workpeople, moreover,
+do not grow on gooseberry bushes, but must be fed and clothed from the
+cradle; and their rearing and maintenance represents a real cost which
+someone must incur.
+
+But the existence (or the importance) of such costs is one thing,
+their relation to money costs is another. In Chapter VIII we saw how
+difficult it was to establish any clear relation between the rate of
+interest and the sacrifice of saving. The costs of labor present
+similar difficulties. The relative irksomeness of two occupations may
+affect the relative wages which will rule in the two cases; so,
+certainly, will the differences in the cost of education and training
+which they require. But these are matters which concern the
+_apportionment_ of labor between different employments. There is no
+good reason to suppose that the general wage-level would be reduced,
+merely because work as a whole became less irksome, or involved a
+smaller physical or mental strain. The supply of people is not
+determined by the same kind of influences as is the supply of a
+commodity. Parents do not produce children for the sake of the wages
+which the children will receive when they go out to work; or, if this
+happens, we rightly regard it as a horrible anomaly. In so far as
+parents are affected by economic conditions it is by their own
+economic conditions; the question is rather one of how many children
+they can afford to have, than of a balancing of the cost to them
+against the incomes which their children may subsequently acquire. But
+other considerations enter in; and, in fact, it is doubtful how the
+aggregate supply of labor will react to changes in prosperity.
+Finally, the supply of land involves neither effort nor sacrifice;
+and, among our money costs, we have to account for the item
+of the rent of land. To dispose of this difficulty by arguing that
+rent does not enter into marginal costs (in any sense which is not
+equally true of wages and profits) is to lose contact with
+reality. Thus the attempt to explain money costs in terms of the costs
+of producing the ultimate agents of production leads us into a
+quagmire of unreality and dubious hypothesis. For a systematic theory,
+which will rest on firm foundations, we must interpret money costs in
+very different terms.
+
+The real costs which the price of a commodity measures are not
+absolute, but comparative. Marginal money costs reduce themselves in
+the last analysis to the payments which must be made to secure the use
+of the requisite agents of productions. These payments _tend_ to equal
+the payments which the same agents could have commanded in alternative
+employments. The payments which they could have commanded in
+alternative employments, tend in their turn to equal the derived
+marginal utilities of their services in those employments. It is thus
+the loss of _Utility_ which arises from the fact that these agents of
+production are not available for alternative employments that is
+measured by the money costs of a commodity at the margin of
+production.
+
+This conception of ultimate costs encounters an instinctive
+repugnance, arising from a mistaken sense of logical symmetry, which
+it will be well to examine. Cost, it is objected, so interpreted
+loses its character as an independent entity. It is merely something
+derived from utility. Now in the earlier chapters of this volume, we
+found reason to be impressed with the general symmetry which pervades
+the relations of demand and supply. Moreover, when we considered the
+case of ordinary commodities we found that at the back of demand and
+giving rise to it was utility; at the back of supply, and limiting it,
+was cost. The general symmetry between demand and supply thus seemed
+almost to imply a fundamental symmetry between utility and cost. If,
+then, cost in the last analysis is derived from utility, does not this
+make nonsense of the symmetry between demand and supply, or, if we
+cling to this last symmetry as a demonstrable truth, must we not
+refuse to admit that cost can be derived from utility?
+
+This is one of those false dilemmas which supply the wiseacres of the
+world with a plausible case for distrusting the logical faculty. If we
+have good reason for believing that both of two apparently
+inconsistent things are true, the explanation is seldom that one of
+them is really false; it is more usually that they are not really
+inconsistent. So it is here. The symmetry between demand and supply is
+very great, and we should always look to see if it holds good, but it
+is by no means perfect, and it is in the last analysis that it most
+notably fails. It is most important to distinguish clearly between the
+utility and the cost of a commodity as two separate and independent
+things. In Chapter V, it will be remembered, we did not permit
+ourselves to derive the costs of producing cotton lint from the
+utility of cotton-seed. The refusal to do so was essential to clear
+thought; it led to some very useful practical corollaries. But to
+derive the cost of a commodity from the utility of something which is
+produced _with_ it, as part of the same productive process; and to
+derive the cost from the utilities which the agents, which help to
+produce it, possess for other purposes, are two entirely different
+things. In works on International Trade, the reader will discover that
+the comparative nature of real costs is so unmistakable that a
+Doctrine of Comparative Costs is expounded with much formality at the
+outset. This doctrine is apt to prove somewhat puzzling, when we have
+to deal with it as an apparent exception to the general tenor of
+economic theory. Its difficulties disappear when we realize clearly
+that the real cost of _anything_ is the curtailment of the supply of
+other useful things, which the production of that particular thing
+entails.
+
+
+§2. _The Allocation of Resources_. However strange the above
+conception may seem, there should be no doubt that this cost is very
+"real." Here the irregularities and maladjustments of the economic
+world, the recurrence of trade depressions and the like, do much to
+obscure a clear vision of the essential realities. At a time when
+there is much unemployment, and much machinery standing idle, it is so
+clear to common sense that we _could_ produce more of some particular
+thing without diminishing the supply of other things, that any
+apparent statement to the contrary may perhaps seem the height of
+academic pedantry. But let me ask the reader to consider with an open
+mind a familiar parallel. During the recent war there was inevitably
+much waste and muddle in the utilization of the military resources of
+the Allies. Some regiments would be kept inactive for long periods,
+not for purposes of rest or training, but owing to some defect of
+organization. In the manufacture of munitions, an insufficient
+appreciation of the principles of joint demand led to the piling up of
+excessive stores of certain materials, which were useless until
+commensurate supplies of the complementary factors could be
+obtained. It is unnecessary to multiply examples. The waste of both
+man-power and material was immense. But the allocation of these
+resources between, for instance, the various theaters of war was none
+the less a very real problem, which gave rise to much engrossing
+controversy. It was an axiom that the more resources you employed in
+Mesopotamia or in Palestine, the less resources remained available for
+France. No one thought of maintaining that, as long as there was any
+waste of these resources, so long as there remained any men to be
+"combed out" of unessential industries, you could pour troops and
+munitions into Salonika without stopping to consider the needs of
+other theaters of war. Such a notion would have been clearly imbecile,
+for the sufficient reason that the sending of armies to Salonika would
+do nothing in itself to secure (however much it might incidentally
+stimulate) the more efficient use of the resources which remained.
+
+Now this is precisely analogous to the problem of the allocation of
+our resources for the purpose of peace. Notwithstanding all the
+wastes and maladjustments of the economic system, the use of resources
+to produce one commodity _does_ in general curtail the production of
+others. The mere launching of a new business enterprise does no more
+than the sending of an army to Salonika, to eliminate waste in the
+remainder of the economic organism. Unemployment, broadly speaking, is
+a function not of the magnitude of the normal demand for labor (which
+affects rather the wage-level), but of fluctuations in the demand for
+labor; fluctuations from one day to another as at the docks, from one
+season to another as in the building trades, above all from one period
+of years to another as in the cycles of general trade boom and
+depression. Nothing will diminish unemployment which does not serve to
+diminish these fluctuations. A new business will not, as a rule, have
+any such effect. If it is launched during a trade depression (a most
+unusual proceeding), it may temporarily absorb unemployed labor and
+idle materials. But when the next boom comes, it will be using, though
+presumably to greater advantage, labor and materials which, but for
+it, would have been employed for other purposes. Meanwhile the causes
+making for unemployment will be unaffected. Miscalculations will
+still be made, the building trades will still become slack in the
+winter, the casual methods of engaging dock laborers will still
+continue, trade cycles will still recur, while beneath them, and
+concealed by them, some industries will expand and others will decay.
+Thus, like the armies at Salonika, the new business would in effect
+divert resources from elsewhere.
+
+This truth needs to be firmly grasped in mind. It is this that makes
+it in general unsound policy to subsidize industries, either directly
+or indirectly, by means of a protective tariff. It is this, indeed,
+that supplies the answer to half the economic fallacies that are
+always current.
+
+The allocation of resources so as to yield the maximum effect was
+rightly recognized as one of the most vital and difficult of our
+war-time problems. To cope with it, the Allied peoples devised one
+instrument after another, and finally evolved the Supreme Allied
+Council. The analogous problem in the economic world of peace time is
+no less important and far more difficult; but there is nothing to
+correspond to the Supreme Allied Council. There we rely upon a
+co-operation which, as was stressed in Chapter I, is unco-ordinated.
+That co-operation has been evolved by the mutual competition
+of innumerable business concerns, controlled by men largely
+animated by the motive of pecuniary profit. But it has not
+been evolved wholly by such means: and how far that competition or
+that motive of profit is essential to its efficiency are questions
+with which this volume has not been in any way concerned. The economic
+laws, the relations between utility, and price and cost, with which it
+has been occupied, are an entirely different matter; and these _are_
+essential to the efficiency of any system of society. For if the
+marginal utility of a commodity is equal to its marginal cost, and if
+this marginal cost is composed of payments to the various agents of
+production at least as great as they could have obtained if they had
+been used otherwise, this amounts to saying that the agents of
+production are so utilized as to yield the maximum utility; and this
+is the same thing as saying that they are so utilized as to produce
+the maximum wealth.
+
+
+§3. _Utility and Wealth_. Upon this last point it is important to be
+quite clear. An increase in wealth seems a solid, tangible reality;
+something, which, however much we may scorn it in our more precious
+moods, we recognize, for a rather poor community, to be an important
+object of endeavor. But an increase in utility seems a vague,
+impalpable notion, hardly deserving the same practical concern. None
+the less the two things are identical. We greatly deceive ourselves if
+we suppose wealth to be an objective reality. It is true that, when
+we get behind the money in which it is measured, we come upon
+commodities, like food and clothes and houses and factories, which
+seem comfortably solid and objective things; but we also come upon
+many services, like those of gardeners and doctors and hospital
+nurses, which we are bound to reckon as part of our wealth, although
+they are not embodied in any tangible commodities. Moreover, although
+material commodities are objective realities in themselves, and in
+many of their properties, they are _not_ objective realities in their
+property as wealth. A pair of boots is an objective fact; so is the
+number of pairs in existence at any time, so is their size, their
+weight, the quantity of leather or of paper which they happen to
+contain. But the wealth which those boots represent is not an
+objective fact. It depends upon the opinion which men and women
+entertain as to their utility; and these opinions take us into the
+subjective regions of human psychology. Let us suppose, for instance,
+that we calculated, on the basis of present prices, that the boots in
+existence at the present time represented 1/1000 part of our total
+wealth. Suppose, then, that a miracle were to happen; that the skies
+opened and rained boots upon us, of every size and shape and pattern,
+until we had 1000 times as many boots as we had before. Could we say
+that our total real wealth had been doubled? Clearly we could not. To
+obtain boots for nothing, and to wear a new pair every week, would
+make us somewhat better off, but not twice as well off as we were
+previously. In other words, the real wealth of a thousand times as
+many boots as we have now, is not a thousand times as great as the
+wealth of the present number of boots. We are, indeed, practically
+restating the Law of Diminishing Utility; and this perhaps is enough
+to show that wealth is fundamentally the same thing as utility.
+
+Another point, however, is worth noting. Our real wealth would be
+somewhat increased in the case supposed; but if we were to turn to the
+money measure of wealth, the opposite result would be far more likely,
+For the price of boots would most likely fall to nothing, and the
+total value of boots, in the commercial sense, would accordingly be
+nothing also. This shows that money values may be a most imperfect
+measure of aggregate wealth; for what money values represent is the
+product of the quantity of the commodity and its _marginal_ utility,
+while aggregate wealth is _total_ utility, which is a very different
+thing. This, it may be observed, makes all attempts to compare the
+wealth of different countries or different times, and no less to
+construct Index Numbers of Prices, imperfect of necessity, and
+arbitrary in their foundations.
+
+
+§4. _Criteria of Policy_. The point has now been reached at which we
+must take into account the very important fact which was mentioned at
+the close of Chapter III. The maximum utility which the laws of
+supply and demand tend to bring about is a maximum _total_ utility
+indeed, but one still measured in terms of money. An unequal
+distribution of wealth destroys any necessary correspondence between
+that and the maximum _real_ utility. This consideration, however, does
+not affect the general validity of the conclusion that the laws of
+supply and demand represent what is socially desirable now or under
+any system. For what is at fault here is the distribution of wealth;
+and it is that which should be changed, in so far as it is possible to
+do so. Now it is important to realize that whenever it is possible to
+supply a commodity to poor people below cost price, it is possible to
+alter the distribution of wealth, for that in effect is what is
+done. Purchasing power, which may be taken from richer people by
+taxation, or which may be obtained from "collective" profits on other
+trading, is in effect transferred to the poor people in question,
+though the transference is coupled with the condition that the
+purchasing power must be expended in a particular way. It is _in
+general_ desirable that the transference should be made without this
+condition being attached. To this general statement, exceptions indeed
+exist so numerous and important as possibly to justify a great
+extension of social expenditure of this type. Education should
+certainly be provided free of charge, there are strong arguments for
+subsidizing housing; the provision of milk to expectant mothers, the
+feeding of school children, such instances can be multiplied into a
+very extensive list. But it is important to observe that in each case
+the justification of the policy rests in the presumption that the
+service supplied is one which it is particularly important that the
+beneficiaries should have, _as compared with_ the other things upon
+which they might have preferred to expend the equivalent purchasing
+power, had it been transferred to them without conditions. Where there
+is no such presumption, as surely there is none in the case of the
+great bulk of commodities, the relation between price and marginal
+cost should be rigidly maintained; it is the distribution of
+purchasing power which we should rather seek to alter. How far is it
+possible to alter that?
+
+I suppose that it is inevitable that many readers will have concluded
+that the preceding chapters must be taken to mean that the
+distribution of wealth is not susceptible of any appreciable change. I
+would remind those readers of an important distinction upon which
+impatient people have sometimes based a complaint against
+economists. The economist, it is said, analyses with great pomp and
+ceremony the laws governing the distribution of wealth among the
+agents of production, but says practically nothing about the
+distribution between individuals and classes, which is the only thing
+of any real interest to practical people. Now the economist
+concentrates on the agents of production for the very good reason that
+it is only with respect to them that any clear and certain laws as to
+distribution can be laid down. Into the distribution between
+individuals and classes there enter other and variable factors,
+governed by no fundamental economic law; and _here_, the conclusion
+should at once suggest itself, is the field for action designed to
+alter the distribution of wealth. What is possible or desirable in
+this field, it is again not the purpose of this volume to discuss. It
+is an obvious, even if not a very helpful conclusion that an increase
+in the habit of saving among weekly wage-earners might, without
+appreciably affecting the distribution between Capital and Labor,
+greatly modify the resulting distribution between social classes. But
+questions as to how far it might be possible or justifiable to achieve
+a similar result by the use of the weapon of taxation, by changes in
+inheritance laws, or by the public ownership of industry take us into
+a far more uncertain and controversial sphere. The difficulties and
+objections which present themselves are familiar and formidable; but
+they are of quite a different order from the economic laws which we
+have been examining. The laws themselves do not entitle us to make any
+dogmatic pronouncement upon these large issues of social policy.
+
+But this is not to deprive these laws of practical importance. They
+represent essential criteria of sound policy in the sphere of social
+reorganization no less than in ordinary business. In our days a
+curious obsession has led many people to disparage these criteria, as
+though they were the sordid prejudices of a stupid tradesman. Because
+it has been found a matter of obvious practical convenience to
+maintain the roads out of taxation or of rates, and to dispense with
+charges for their use, it is suggested that the same principle should
+be applied to the railways. Or, more commonly, because it has been
+found convenient to make the same charge for the carrying of letters
+between Land's End and John o' Groats as between Hampstead and
+Highgate, it is suggested that _this_ principle should be applied to
+railway rates and fares. It may be well, therefore, to point out that
+the justification of uniform postal charges rests upon the facts: (1)
+that the costs of collection, sorting, etc., are so large a part of
+the costs of carrying a letter, that the real cost between John o'
+Groats and Land's End does not differ from that between Hampstead and
+Highgate by as much as might at first sight appear, (2) that the
+charges in any case are very small; so that (3) the avoidance of the
+small degree of taxes and bounties which the present system implies is
+not worth the book-keeping expenses which differential charges would
+involve. It should be obvious that these considerations apply to the
+railways with a greatly diminished force. They might possibly justify
+what is known as the "zone" system of charges, i.e. uniform rates
+within certain narrow areas. But the notion of uniform rates
+throughout Great Britain conjures up a vision of trains taking coal
+from South Wales to Scotland, and others taking coal from Scotland to
+South Wales, in accordance with the slightest preferences of the
+consumers, and without regard to the extra real cost involved, on a
+scale to which the "wastes of competition" afford no parallel. It
+would in fact achieve the essential folly of "sending coals to
+Newcastle." These considerations, however, are not what interest the
+advocates of the postal principle. They seem to recommend the
+obliteration or the confusion of the relations between price and cost
+as a superior ideal. It is important to be clear what exactly this
+ideal involves.
+
+It involves, in the first place, as the whole argument of this volume
+has gone to show, a less economical employment of our productive
+resources; they would be diverted to ends of less utility, and so
+produce less real wealth. But this is not the worst. There is plenty
+of waste and maladjustment in our economic system at the present
+time. The desirable relation of price to marginal cost is but
+imperfectly attained. The further departures from this relation, which
+would follow from any likely applications of the postal principle,
+might not matter in themselves so very much. What is far more serious
+is that the criteria of efficiency would become blunted, and the clear
+aims of management would be confused in fog. It is essential that
+every manager should be on the alert to eliminate waste and to improve
+efficiency, that he should be always trying to secure the best
+results; but how can he do this if he has no simple means of
+_measuring_ what results are good and what are bad? The measure which
+he has at present is that of price, cost and the resultant profit, and
+it would be fatal to take that away, unless an equally simple and more
+accurate measure could be substituted for it.
+
+This is not a question, it should be observed, of motive or
+incentive. Very likely we much exaggerate the importance of the profit
+motive. It may be true that men would work, perhaps that they already
+work in fact, as zealously for a fixed salary, as for personal
+gain. But aim and motive are two somewhat different things, and the
+_aim_ of profit, is, and will remain, essential to the efficient
+conduct of business. In a game the players are not animated by the
+motive of scoring runs or points, but they aim at them; and the zest
+disappears very speedily from the game, if that aim ceases to be of
+interest. Moreover, while a scoring system is always a somewhat
+arbitrary thing, measuring imperfectly the true merits of the play, if
+it measures them with the roughest accuracy, we prefer the issue of
+our games to be decided so, rather than by the decisions of an
+impartial judge, who can take into account the finest points of
+skill. So it is in the world of business. The scoring-board of profits
+may be an imperfect one; let us, by all means, where we can, alter the
+rules of the game so as to make it better. But let us not imagine that
+it displays a finer insight or a superior intellect to speak as though
+the scoring-board could be dispensed with, and the test of profit and
+loss treated as irrelevant. Quantitative measurement is essential to
+efficiency. Let us be careful to remember all that this implies.
+
+
+INDEX
+
+
+Ability
+Accountancy
+Allocation of resources
+Ambiguities
+Australasia
+
+Bastiat, Frederic
+Beef and hides
+Borrowing and lending, system of
+Business efficiency
+Business man as a purchaser
+Business risk
+
+Capital;
+  as representing a period of waiting;
+  distribution;
+  distribution and rate of interest;
+  effect on labor of an increased supply;
+  not a stock of consumable goods;
+  reaction of price charges on;
+  reflections upon;
+  supply;
+  supply as affected by charges in interest rate
+Capital goods
+Capital market
+Capitalism
+Capitalist
+Chance
+Coal industry, cost of production and price;
+  miners' wages
+Coats, J. & P.
+Collective saving
+Commodities;
+  labor as a commodity
+Competition
+Composite demand
+Composite supply
+Consumable goods
+Consumers' goods and producers' goods
+Consumption, margin of;
+  waiting for
+Control and risk-taking
+Controversy
+Coöperation;
+  unorganized
+Cost, general relation of price, utility and cost;
+  price relation to;
+  rent as factor in real costs;
+  ultimate;
+  utility and
+Cotton and cotton-seed;
+  contrast to wool and mutton
+Cotton industry
+Criteria of policy
+Currency inflation
+Cycles
+
+Demand, ambiguity of expression "increase in demand,";
+  derived;
+  elastic and inelastic;
+  _see also_ Composite demand; Joint demand; Supply and demand
+Derived demand
+Derived utility
+Diagrams, use of
+Diminishing utility;
+  money and
+Directors
+Distribution of wealth;
+  interest rate and
+Dividends
+Division of labor
+
+Economic laws;
+  fundamental character
+Economic theory;
+  fact and
+Economic world, orderly nature
+Education
+Efficiency
+Elastic demand
+Employers' associations
+Enterprise
+Entrepreneur
+"Equal pay for equal work,"
+Expectation
+
+Fact and theory
+Farmers
+Fortunes
+
+Gambling
+Government, enterprises;
+  failings
+
+Hides and beef
+Houses
+Housewife as purchaser
+Housing
+
+Ideas and institutions
+Incompetents
+Increase in demand, ambiguity
+Index numbers
+Inelastic demand
+Inflation
+Institutions and ideas
+Insurance companies;
+  significance
+Interest;
+  necessity of
+Interest rate;
+  changes and their effect on supply of capital;
+  distribution and;
+  price of land and
+Intuition
+
+Joint demand;
+  importance of the unimportant;
+  marginal utility under;
+  summary of considerations
+Joint products;
+  cost of production
+Joint-stock company
+Joint supply, marginal cost under;
+  summary of considerations
+
+Keynes, J. M.
+
+Labor;
+  apportionment among occupations;
+  apportionment among places;
+  apportionment among social grades;
+  as a commodity;
+  cost, difficulty of estimating;
+  division;
+  effect of increased supply of capital;
+  four grades;
+  mobility;
+  product of;
+  reaction of price changes on;
+  supply in general
+_Laissez-faire_;
+  retrospect on
+Land, characteristics;
+  differential aspect;
+  margin of transference;
+  marginal;
+  price and rent, relation;
+  question of real costs;
+  scarcity aspect;
+  supply;
+  tenure;
+  urban;
+  _see also_ Rent
+Landlords
+Large scale business
+Laws, fundamental
+
+Malthus, T.R.
+Management
+Margin, danger of ignoring
+Margin of consumption
+Margin of production
+Margin of transference
+Marginal cost, aspects;
+  misinterpretation;
+  under joint supply
+Marginal land
+Marginal purchaser
+Marginal utility;
+  price relation to;
+  under joint demand
+Market
+Marshall, Alfred
+Marx, Karl
+Mill, J. S.
+Miners
+Monetary changes, disturbances of
+Money, diminishing utility
+Monte Carlo
+Mutton. _See_ Wool and Mutton
+
+Natural ability
+Normal conditions
+
+Occupations;
+  apportionment of labor among
+Order, economic
+
+Pasture versus tillage
+Pigou, A. C.
+Policy, criteria
+Population
+Postal charges
+Poverty;
+  national
+Price, consequences of higher;
+  general relation with utility and cost;
+  law of tendency;
+  marginal utility and;
+  post-war;
+  reaction of changes in demand and supply;
+  relation of demand and supply to;
+  utility and
+Producers' goods
+Production, power of;
+  real costs;
+  waiting for
+Professions
+Profiteering
+Profits;
+  elements;
+  general analysis;
+  in risky industries
+Protective tariff
+Psychology and economics
+Purchasers, business man;
+  housewife;
+  marginal
+Purchasing power
+
+Railway rates
+Railways
+Rate of interest. _See_ Interest rate
+Rent;
+  complex character;
+  marginal land;
+  necessity;
+  rate of interest and
+Reserves
+Residuary profits
+Resources, allocation
+Risk, reward for;
+  under large-scale organization
+
+Satisfaction
+Saving;
+  individual;
+  involuntary;
+  psychology;
+  social
+School teachers
+Service
+Serving cotton
+Shareholders
+Sinking-fund
+Situation
+Smith, Adam
+Social grades, labor movement among
+Socialism
+Speculation
+Steel smelters
+Subsidies, industrial
+Substitutes
+Supply, reactions of price changes on;
+  _see also_ Composite supply; Joint supply
+Supply and demand, changes in, and their reaction on price;
+  forces behind;
+  general laws;
+  relation of price to;
+  wages and
+Supreme Allied Council
+
+Teachers
+Theory, economic
+Thrift
+Tillage versus pasture
+Trade cycles
+Trade depression
+Trade unions;
+  actions;
+  wage level and
+
+Ultimate real costs
+Unearned increment
+Unemployment;
+  trade union policy and
+Utility;
+  cost and;
+  derived;
+  general relation of price, utility and cost;
+  law of diminishing utility;
+  law of diminishing utility as applied to money;
+  marginal;
+  price relation to;
+  wealth and
+
+Wages, general wage level;
+  trade unions and;
+  women's
+Wages Fund
+Waiting, essence of;
+  for consumption;
+  for production
+Waste, economic
+Wealth, distribution;
+  utility and
+"What should be" and "What is,"
+Women's wages
+Wool and mutton;
+  contrast to cotton and cotton-seed
+Workers' control
+
+
+
+
+
+End of Project Gutenberg's Supply and Demand, by Hubert D. Henderson
+
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+<!DOCTYPE HTML PUBLIC "-//W3C//DTD HTML 4.01 Transitional//EN">
+<html>
+<head>
+  <title>Supply and Demand</title>
+  <meta content="text/html;charset=iso-8859-1" http-equiv="content-type">
+  <style type="text/css">
+	.law {margin-left: 2.5em;text-indent: -2.5em;margin-bottom: 1.33em;
+	font-weight: bold;}
+	.entry {margin-left: 2.5em; text-indent: -2.5em;}
+	.letter {margin-bottom: 1.33em;}
+	.footnote {margin-left: 2.5em;}
+  </style>
+</head>
+<body>
+
+
+<pre>
+
+The Project Gutenberg EBook of Supply and Demand, by Hubert D. Henderson
+
+This eBook is for the use of anyone anywhere at no cost and with
+almost no restrictions whatsoever.  You may copy it, give it away or
+re-use it under the terms of the Project Gutenberg License included
+with this eBook or online at www.gutenberg.org
+
+
+Title: Supply and Demand
+
+Author: Hubert D. Henderson
+
+Release Date: January 6, 2004 [EBook #10612]
+
+Language: English
+
+Character set encoding: ISO-8859-1
+
+*** START OF THIS PROJECT GUTENBERG EBOOK SUPPLY AND DEMAND ***
+
+
+
+
+Produced by Josh Cogliati and PG Distributed Proofreaders
+
+
+
+
+
+</pre>
+
+<a name="iii"> </a>
+<h1>Supply and Demand</h1>
+<p>
+by Hubert D. Henderson M.A.
+</p>
+<p>
+with an Introduction by J.M. Keynes M.A., C.B.
+</p>
+<a name="iv"> </a>
+<p>1922.
+</p>
+<a name="v"> </a>
+<p><a href="#contents">Skip to Contents</a><br>
+<a href="#Index">Skip to Index</a></p>
+<h2>Introduction</h2>
+<p>
+The Theory of Economics does not furnish a body
+of settled conclusions immediately applicable to policy.
+It is a method rather than a doctrine, an apparatus of
+the mind, a technique of thinking, which helps its
+possessor to draw correct conclusions. It is not difficult
+in the sense in which mathematical and scientific
+techniques are difficult; but the fact that its modes of
+expression are much less precise than these, renders
+decidedly difficult the task of conveying it correctly to
+the minds of learners.
+</p>
+<p>
+Before Adam Smith this apparatus of thought
+scarcely existed. Between his time and this it has been
+steadily enlarged and improved. Nor is there any
+branch of knowledge in the formation of which Englishmen
+can claim a more predominant part. It is not
+complete yet, but important improvements in its
+elements are becoming rare. The main task of the
+professional economist now consists, either in obtaining
+a wide knowledge of <i>relevant</i> facts and exercising
+skill
+in the application of economic principles to them, or in
+expounding the elements of his method in a lucid,
+accurate and illuminating way, so that, through his
+instruction, the number of those who can think for
+themselves may be increased.
+</p>
+<p>
+This Series is directed towards the latter aim. It
+is intended to convey to the ordinary reader and to the
+uninitiated student some conception of the general
+<a name="vi"> </a>principles of thought which economists now apply to
+economic problems. The writers are not concerned to
+make original contributions to knowledge, or even to
+attempt a complete summary of all the principles of the
+subject. They have been more anxious to avoid obscure
+forms of expression than difficult ideas; and their
+object has been to expound to intelligent readers,
+previously unfamiliar with the subject, the most significant
+elements of economic method. Most of the
+omissions of matter often treated in textbooks are
+intentional; for as a subject develops, it is important,
+especially in books meant to be introductory, to discard
+the marks of the chrysalid stage before thought had
+wings.
+</p>
+<p>
+Even on matters of principle there is not yet a
+complete unanimity of opinion amongst professors.
+Generally speaking, the writers of these volumes believe
+themselves to be orthodox members of the Cambridge
+School of Economics. At any rate, most of
+their ideas about the subject, and even their prejudices,
+are traceable to the contact they have enjoyed with the
+writings and lectures of the two economists who have
+chiefly influenced Cambridge thought for the past fifty
+years, Dr. Marshall and Professor Pigou.
+</p>
+<p>
+J.M. Keynes.
+</p>
+<a name="vii"> </a>
+<h2><a name="contents">Contents</a></h2>
+<h3 class="chap_head"><a href="#Chapter_I">Chapter I</a></h3>
+<h3 class="chap_name">The Economic World</h3>
+<p>
+&sect;1. Theory And Fact <a href="#1">1</a>
+</p>
+<p>
+&sect;2. The Division Of Labor <a href="#3">3</a>
+</p>
+<p>
+&sect;3. The Existence Of Order <a href="#5">5</a>
+</p>
+<p>
+&sect;4. Some Reflections Upon Joint Products <a href="#7">7</a>
+</p>
+<p>
+&sect;5. Some Reflections Upon Capital <a href="#11">11</a>
+</p>
+<p>
+&sect;6. The Fundamental Character Of Many Economic
+Laws <a href="#17">17</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_II">Chapter II</a></h3>
+<h3 class="chap_name">The General Laws of Supply and Demand</h3>
+<p>
+&sect;1. Preliminary Statement Of Three Laws <a href="#18">18</a>
+</p>
+<p>
+&sect;2. Diagrams And Their Uses <a href="#21">21</a>
+</p>
+<p>
+&sect;3. Ambiguities Of The Expressions, "Increase In
+Demand," Etc. <a href="#24">24</a>
+</p>
+<p>
+&sect;4. Reactions Of Changes In Demand And Supply On
+Price <a href="#27">27</a>
+</p>
+<p>
+&sect;5. Some Paradoxical Reactions Of Price Changes On
+Supply <a href="#30">30</a>
+</p>
+<p>
+&sect;6. The Disturbances Of Monetary Changes <a href="#33">33</a>
+</p>
+<p>
+&sect;7. The Trade Cycle <a href="#34">34</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_III">Chapter III</a></h3>
+<h3 class="chap_name">Utility and the Margin of Consumption</h3>
+<p>
+&sect;1. The Forces Behind Supply And Demand <a href="#37">37</a>
+</p>
+<p>
+&sect;2. The Law Of Diminishing Utility <a href="#40">40</a>
+</p>
+<a name="Viii"> </a>
+<p>&sect;3. The Relation Between Price And Marginal
+Utility <a href="#43">43</a>
+</p>
+<p>
+&sect;4. The Marginal Purchaser <a href="#44">44</a>
+</p>
+<p>
+&sect;5. The Business Man As Purchaser <a href="#47">47</a>
+</p>
+<p>
+&sect;6. The Diminishing Utility Of Money <a href="#49">49</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_IV">Chapter IV</a></h3>
+<h3 class="chap_name">Cost and the Margin of Production</h3>
+<p>
+&sect;1. An Illustration From Coal <a href="#52">52</a>
+</p>
+<p>
+&sect;2. The Various Aspects Of Marginal Cost <a href="#55">55</a>
+</p>
+<p>
+&sect;3. The Dangers Of Ignoring The Margin <a href="#57">57</a>
+</p>
+<p>
+&sect;4. A Misinterpretation <a href="#59">59</a>
+</p>
+<p>
+&sect;5. Some Consequences Of A Higher Price Level <a href="#60">60</a>
+</p>
+<p>
+&sect;6. General Relation Between Price, Utility And
+Cost <a href="#65">65</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_V">Chapter V</a></h3>
+<h3 class="chap_name">Joint Demand and Supply</h3>
+<p>
+&sect;1. Marginal Cost Under Joint Supply <a href="#66">66</a>
+</p>
+<p>
+&sect;2. Marginal Utility Under Joint Demand <a href="#69">69</a>
+</p>
+<p>
+&sect;3. A Contrast Between Cotton And Cotton-Seed, And
+Wool And Mutton <a href="#71">71</a>
+</p>
+<p>
+&sect;4. The Importance Of Being Unimportant <a href="#74">74</a>
+</p>
+<p>
+&sect;5. Capital And Labor <a href="#76">76</a>
+</p>
+<p>
+&sect;6. Conclusions As To Joint Supply And Joint Demand <a href="#79">79</a>
+</p>
+<p>
+&sect;7. Composite Supply And Composite Demand <a href="#79">79</a>
+</p>
+<p>
+&sect;8. Ultimate Real Costs <a href="#82">82</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_VI">Chapter VI</a></h3>
+<h3 class="chap_name">Land</h3>
+<p>
+&sect;1. The Special Characteristics Of Land <a href="#83">83</a>
+</p>
+<p>
+&sect;2. The Scarcity Aspect <a href="#84">84</a>
+</p>
+<a name="Ix"> </a>
+<p>&sect;3. The Differential Aspect <a href="#87">87</a>
+</p>
+<p>
+&sect;4. The Margin Of Transference <a href="#94">94</a>
+</p>
+<p>
+&sect;5. The Necessity Of Rent <a href="#98">98</a>
+</p>
+<p>
+&sect;6. The Question Of Real Costs <a href="#100">100</a>
+</p>
+<p>
+&sect;7. Rent And Selling Price <a href="#102">102</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_VII">Chapter VII</a></h3>
+<h3 class="chap_name">Risk-Bearing and Enterprise</h3>
+<p>
+&sect;1. Profits And Earnings Of Management <a href="#104">104</a>
+</p>
+<p>
+&sect;2. The Payment For Risk-Bearing <a href="#104">104</a>
+</p>
+<p>
+&sect;3. Monte Carlo And Insurance <a href="#105">105</a>
+</p>
+<p>
+&sect;4. Risk Under Large Scale Organization <a href="#111">111</a>
+</p>
+<p>
+&sect;5. The Entrepreneur <a href="#113">113</a>
+</p>
+<p>
+&sect;6. Risk-Taking And Control <a href="#116">116</a>
+</p>
+<p>
+&sect;7. General Analysis Of Profits <a href="#117">117</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_VIII">Chapter VIII</a></h3>
+<h3 class="chap_name">Capital</h3>
+<p>
+&sect;1. A Reference To Marx <a href="#119">119</a>
+</p>
+<p>
+&sect;2. Waiting For Production <a href="#120">120</a>
+</p>
+<p>
+&sect;3. Waiting For Consumption <a href="#121">121</a>
+</p>
+<p>
+&sect;4. Capital Not A Stock Of Consumable Goods <a href="#123">123</a>
+</p>
+<p>
+&sect;5. The Essence Of Waiting <a href="#126">126</a>
+</p>
+<p>
+&sect;6. Individual And Social Saving <a href="#127">127</a>
+</p>
+<p>
+&sect;7. The Necessity Of Interest <a href="#129">129</a>
+</p>
+<p>
+&sect;8. The Supply Of Capital <a href="#130">130</a>
+</p>
+<p>
+&sect;9. Involuntary Saving <a href="#134">134</a>
+</p>
+<p>
+&sect;10. Interest And Distribution <a href="#137">137</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_IX">Chapter IX</a></h3>
+<h3 class="chap_name">Labor</h3>
+<p>
+&sect;1. A Retrospect On Laissez-Faire <a href="#139">139</a>
+</p>
+<p>
+&sect;2. Ideas And Institutions <a href="#141">141</a>
+</p>
+<a name="X"> </a>
+<p>&sect;3. The General Wage-Level <a href="#143">143</a>
+</p>
+<p>
+&sect;4. The Supply Of Labor In General <a href="#145">145</a>
+</p>
+<p>
+&sect;5. The Apportionment Of Labor Among Places <a href="#147">147</a>
+</p>
+<p>
+&sect;6. The Apportionment Of Labor Among Social Grades <a href="#149">149</a>
+</p>
+<p>
+&sect;7. The Apportionment Of Labor Among Occupations <a href="#153">153</a>
+</p>
+<p>
+&sect;8. Women's Wages <a href="#157">157</a>
+</p>
+<h3 class="chap_head"><a href="#Chapter_X">Chapter X</a></h3>
+<h3 class="chap_name">The Real Costs Of Production</h3>
+<p>
+&sect;1. Comparative Costs <a href="#162">162</a>
+</p>
+<p>
+&sect;2. The Allocation Of Resources <a href="#166">166</a>
+</p>
+<p>
+&sect;3. Utility And Wealth <a href="#170">170</a>
+</p>
+<p>
+&sect;4. Criteria Of Policy <a href="#172">172</a>
+</p>
+<a name="1"> </a>
+<h1>Supply and Demand<br>
+</h1>
+<h3 class="chap_head"><a name="Chapter_I"></a>Chapter I</h3>
+<h3 class="chap_name">The Economic World</h3>
+<p>
+&sect;1. <i>Theory and Fact</i>. The controversy between the
+"Theorist" and the "Practical Man" is common to
+all branches of human affairs, but it is more than usually
+prevalent, and perhaps more than usually acrid in the
+economic sphere. It is always a rather foolish controversy,
+and I have no intention of entering into it, but
+its prevalence makes it desirable to emphasize a platitude.
+Economic theory must be based upon actual
+fact: indeed, it must be essentially an attempt, like all
+theory, to <i>describe</i> the actual facts in proper sequence,
+and in true perspective; and if it does not do this it is
+an imposture. Moreover, the facts which economic
+theory seeks to describe are primarily economic facts,
+facts, that is to say, which emerge in, and are concerned
+with, the ordinary business world; and it is, therefore,
+mainly upon such facts that the theory must be based.
+People sometimes speak as though they supposed the
+economist to start from a few psychological assumptions
+(e. g. that a man is actuated mainly by his own self-interest)
+and to build up his theories upon such foundations
+by a process of pure reasoning. When, therefore,
+some advance in the study of psychology throws into
+<a name="2"> </a>apparent disrepute such ancient maxims about human
+nature, these people are disposed to conclude that the
+old economic theory is exploded, since its psychological
+premises have been shown to be untrue. Such an
+attitude involves a complete misunderstanding not
+merely of economics, but of the processes of human
+thought. It is quite true that the various branches of
+knowledge are interrelated very intimately, and that
+an advance in one will often suggest a development in
+another. By all means let the economist and psychologist
+avoid a pedantic specialism and let each stray
+into the other's province whenever he thinks fit. But
+the fact remains that they are primarily concerned
+with different things: and that each is most to be
+trusted when he is upon his own ground. When,
+therefore, the economist indulges in a generalization
+about psychology, even when he gives it as a reason for
+an economic proposition, in nine cases out of ten the
+economics will not depend upon the psychology; the
+psychology will rather be an inference (and very
+possibly a crude and hasty one) from the economic
+facts of which he is tolerably sure.
+</p>
+<p>
+But the purpose of economic theory is not merely to
+describe the facts of the economic world; it is to describe
+them in their proper sequence and true perspective.
+It must begin with those facts which are
+most general and which have the widest possible
+significance. Those are not likely to be the facts
+which our practical experience forces most insistently
+upon our notice. For it is the particular and not the
+general, the differences between things rather than their
+resemblances, that concern us most in daily life. Nor
+<a name="3"> </a>are we likely to find the universal facts which we
+require in the sphere of public controversy. We must
+rather look for them in the dark recesses of our consciousness,
+where are stored those truths which are so
+obvious that we hardly notice them, which are so indisputable
+that we seldom examine them, which seem so
+trite that we are apt to miss their full significance.
+</p>
+<p>
+&sect;2. <i>The Division of Labor</i>. There is one such truth
+in the economic sphere which it is essential to appreciate
+vividly and fully, with the widest sweep of the imagination
+and the sharpest clarity of thought. Man lives by
+cooperating with his fellow-men. In the modern
+world, that cooperation is of a boundless range and an
+indescribable complexity. Yet it is essentially undesigned
+and uncontrolled by man. The humblest
+inhabitant of the United States or Great Britain depends
+for the satisfaction of his simplest needs upon
+the activities of innumerable people, in every walk of
+life and in every corner of the globe. The ordinary
+commodities which appear upon his dinner table
+represent the final product of the labors of a medley of
+merchants, farmers, seamen, engineers, workers of
+almost every craft. But there is no human authority
+presiding over this great complex of labor, organizing
+the various units, and directing them towards the
+common ends which they subserve. Wheel upon
+wheel, in a ceaseless succession of interdependent
+processes, the business world revolves: but no one has
+planned and no one guides the intricate mechanism
+whose smooth working is so vital to us all. Man, indeed,
+can organize and has organized much. Within
+<a name="4"> </a>a large factory the efforts of thousands of
+work-people,
+each engaged on the repetition of a single small process,
+are fitted together so as to form an ordered whole by
+the conscious direction of the management. Sometimes
+factory is joined with factory, with farms, fisheries,
+mines, with transport and distributing agencies,
+as one gigantic business unit, controlled by a common
+will. These giant businesses are remarkable achievements
+of man's organizing gifts. The individuals who
+control them wield an immense power, which so impresses
+the public imagination that we dub them
+"kings," "supermen," "Napoleons of industry." But
+how small a portion of man's economic life is dominated
+by such men! Even as regards the affairs of their own
+businesses, how narrow, after all, are the limits of their
+influence! The prices at which they can buy their
+materials and borrow their capital, the quantities of
+their products which the public will consume, are
+factors at once vital to their prosperity and outside
+their own control.
+</p>
+<p>
+A great business, like a nation, may cherish visions of
+self-sufficiency, may stretch its tentacles forward to the
+consumer and backwards to its supplies of raw material;
+but each fresh extension of its activities serves only
+to multiply its points of contact with the outside world.
+When those points are reached, the largest business,
+like the smallest, is out on the open sea of an economic
+system immeasurably larger and more powerful than
+itself. There it must meet&mdash;the better perhaps for its
+inherent strength and accumulated knowledge&mdash;the
+impact of rude forces, which it is powerless to control.
+Beneath the blasts of a trade depression, or some other
+<a name="5"> </a>tendency of world-wide scope, the authority of the
+mightiest industrial magnate, and equally of any
+Government, assumes the same essential insignificance
+as the pride of a man humbled by contact with the
+elemental powers of nature.
+</p>
+<p>
+&sect;3. <i>The Existence of Order</i>. The parallel can be
+pursued further with advantage. Just as in the world
+of natural phenomena, which for long seemed to man so
+wayward and inexplicable, we have come gradually
+to perceive an all-pervading uniformity and order; so
+there is manifest in the economic world, uniformity,
+order, of a similar if less majestic kind. Upon the
+cooperation of his fellowmen, man depends for the very
+means of life: yet he takes this cooperation for granted,
+with a complacent confidence and often with a naive
+unconsciousness, as he takes the rising of to-morrow's
+sun. The reliability of this unorganized cooperation
+has powerfully impressed the imagination of many
+observers.
+</p>
+<p>
+"On entering Paris which I had come to visit,"
+exclaimed Bastiat some seventy years ago, "I said to
+myself&mdash;Here are a million of human beings who would
+all die in a short time if provisions of every kind ceased
+to flow towards this great metropolis. Imagination is
+baffled when it tries to appreciate the vast multiplicity
+of commodities which must enter to-morrow through
+the barriers in order to preserve the inhabitants from
+falling a prey to the convulsions of famine, rebellion,
+and pillage. And yet all sleep at this moment, and their
+peaceful slumbers are not disturbed for a single instant
+by the prospect of such a frightful catastrophe. On
+<a name="6"> </a>the other hand, eighty departments have been laboring
+to-day, without concert, without any mutual understanding,
+for the provisioning of Paris."
+</p>
+<p>
+The theme may well excite wonder. But wonder
+should always be watched with a wary eye; for he is
+apt to bring in his train a hanger-on called worship,
+who can do nothing but mischief here. It is a short step
+from a passage like that quoted above to a glorification
+of the existing system of society, to a defence of all
+manner of indefensible things; and a cross-grained
+attitude towards all projects of reform. It is a short
+step; but it is one which it is quite unjustifiable to take.
+For the evils of our economic system are too plain to be
+ignored; too many people have harsh personal experience
+of the wastefulness of its production, the injustice
+of its distribution; of its sweating, its unemployment
+and slums. And when the attempt is made to plaster
+over evils, such as these with obsequious rhetoric about
+the majesty of economic law, it is not surprising that the
+spirit of many men should revolt and that they should
+retort by denying the existence of order in the business
+world, by declaring that the spectacle which <i>they</i> see is
+one of discord, confusion and chaos. And then we are
+engulfed in a controversy as stale, flat and unprofitable
+as that between the "theorist" and the "practical
+man."
+</p>
+<p>
+The truth is that the language of praise and obloquy
+is quite inappropriate. In the first place, it may be well
+to note that the order of which I have spoken manifests
+itself not merely in those economic phenomena which
+are beneficial to man, but hardly less in those which
+work to his hurt. Even in those alternations of good
+<a name="7"> </a>and bad trade, which spell so much unemployment and
+misery, there is discernible a rhythmic regularity like
+that of the process of the seasons, or the ebb and flow
+of the tide. This is not an elegance to be admired. Furthermore,
+in so far as the order comprises adjustments
+and tendencies which are beneficial (as, indeed, is
+mainly true), there is no warrant for assuming that these
+are either adequate to secure a prosperous community
+or dependent upon the social arrangements which happen
+to exist. Let us, therefore, refrain from premature
+polemics and examine in a spirit of detachment some
+further aspects of the elaborate, but yet unorganized,
+cooperation of which so much has been already said.
+</p>
+<p>
+&sect;4. <i>Some Reflections upon Joint Products</i>. A quite
+inadequate idea of the complexity of this co&ouml;peration
+is obtained by dwelling on the numbers of people who
+participate in it, or the immense distances over which it
+extends. The deficiency can be partially supplied by
+referring to some of the more obvious of the many
+subtle interconnections which exist between different
+commodities and different trades.
+</p>
+<p>
+There are innumerable groups of commodities (which
+it is customary to term "joint products") such that the
+production of one commodity belonging to the group
+necessarily implies or very greatly facilitates the production
+of the others. Wool and mutton; beef and
+hides; cotton and cotton-seed are a few familiar illustrations.
+The important feature of these "joint products"
+is the fairly precise relation which must exist
+between the quantities in which the different products
+are supplied. If you plant a certain crop of cotton, it
+<a name="8"> </a>will yield you so much cotton lint and so much
+cotton-seed.
+You can, of course, if you choose, throw away
+part of the seed, as indeed at one time planters used to
+do; but unless you do this, you cannot vary the proportions
+of the two things which you will have for sale.
+Similarly, if you keep a flock of sheep, or a herd of cattle,
+you will obtain wool and mutton in the one case, or beef
+and hides in the other, in proportions, which indeed you
+can vary within certain limits by choosing a different
+breed,[<a href="#8f1">1</a>] but which you cannot radically transform.
+When, however, we turn to the uses to which these
+products are put, no similar relation is to be discovered.
+Cotton lint is used chiefly for making articles of clothing;
+cotton-seed for crushing into oil, on the one hand,
+and cake for cattle fodder on the other. There is no
+apparent connection of any kind between the demands
+for these different things, and still less is there any
+obvious reason why these demands should bear to one
+another the particular proportions which characterize
+their respective supplies. It is very much the same with
+wool and mutton; with beef and hides; with all "joint
+products." Why should we consume mutton on the
+one hand and woolen clothing on the other, in a ratio
+at all commensurate with that in which they are
+yielded by the sheep?
+</p>
+<p class="footnote">
+<a name="8f1">[1]</a> These possibilities of small variation are of
+very great
+importance
+as will be shown in Chapter V, but they do not affect the
+present argument.
+</p>
+<p>
+What, then, might we expect to find if order was nonexistent
+in the economic world? Surely that some
+things such as wool would be produced in quantities
+many times in excess of the demand for them, quite
+<a name="9"> </a>possibly five, ten, or twenty times in excess; while
+conversely the supplies of others such as mutton might
+fall far short of what was required. But in practice we
+find nothing of the sort. Somehow it comes about
+that an equilibrium is established between the demand
+for and the supply of every commodity; and that this
+applies to wool and mutton, to beef and hides, as surely
+as to commodities which are produced quite independently.
+It is true that this equilibrium is a rough,
+imperfect one; and it may happen that what is called a
+"glut" of wool may co-exist for a short period with
+what is called a scarcity of mutton. But qualifications
+of this nature are in the strictest sense of the phrase, the
+exceptions which prove the rule. For the departures
+from equilibrium which gluts and scarcities represent
+are always transient and are usually confined within
+narrow limits. A strong prevailing trend towards an
+adjustment of demand and supply is unmistakably
+manifest amid all the vagaries of changing circumstance.
+Let me carry the argument a step further for the
+benefit of any reader who is restrained by a repugnance
+too deep and instinctive to be readily overcome, from
+admitting fairly to his mind that conception of order
+which I am endeavoring to emphasize. He will in all
+probability be one who, cherishing ideals of a better and
+fairer system of society, looks forward to a time when an
+organized co&ouml;peration will be substituted for what he
+regards as the existing chaos. Let us suppose that his
+visions were fulfilled as completely as he could desire;
+and that an immense system of Socialism were in existence,
+embracing not one country only, but the whole
+world. Suppose all the difficulties of human perversity
+<a name="10"> </a>and administrative technique to have been surmounted
+and a wise, disinterested executive to be in supreme
+control of our business life. Let us suppose all this, and
+ask only the question: How would this executive treat
+the humdrum case of wool and mutton? How would
+it decide the number of sheep it would maintain?
+</p>
+<p>
+Shall we suppose that it is inspired by the ideal "to
+each according to his need," and that it resolves accordingly
+that the commodities which people require for a
+decent standard of life shall be supplied to them as a
+matter of course? How, then, would it proceed? It
+might estimate the amount of woolen clothing which a
+normal family requires, allowing for differences in
+climate, and possibly indulging somewhat the caprices
+of human taste. On this basis, a certain number of
+sheep would be indicated. It might perform a similar
+calculation for mutton, and again a certain number of
+sheep would be indicated. But it would be an extraordinary
+coincidence if the numbers which resulted
+from these independent calculations were nearly equal
+to one another, or were even of the same order of magnitude;
+and, if they differed widely, what number would
+our world executive select? Would it decide to waste
+an immense quantity of either wool or mutton; or
+would it decide that it could not, after all, supply
+the full human needs for one or other of the commodities?
+</p>
+<p>
+Of course, if the executive were sensible it could solve
+the problem satisfactorily enough. It could retain the
+monetary system we know to-day and it could supply
+the commodities to the consumers, not as a matter of
+right, but by selling them to them <i>at a price</i>. This price
+<a name="11"> </a>it could then move upwards or downwards, raising,
+say,
+the price of mutton and reducing that of wool, until it
+found that the consumption of the two things was
+adjusted in the required ratio. But if it acted in this
+manner, what essentially would it be doing? It would
+be seeking by deliberate contrivance to reproduce, in
+respect of this particular problem, the very conditions
+which occur to-day without aim or effort on the part of
+anyone at all.
+</p>
+<p>
+The moral of this illustration must not be misinterpreted.
+It does not show the folly of Socialism or the
+superiority of Laissez-faire. What it does show is the
+existence in the economic world of an order more
+profound and more permanent than any of our social
+schemes, and equally applicable to them all.
+</p>
+<p>
+&sect;5. <i>Some Reflections upon Capital</i>. Another aspect
+of the great cooperation is of even greater significance.
+It embraces not only a multitude of living men, but it
+links the present together with the future and the past.
+The goods and services which we enjoy to-day we owe
+only in part to the labors of the week, the month, or
+the year, only in part even to the efforts of our contemporaries.
+The men, long since dead and forgotten, who
+built our railways, or sunk our coal mines, or engaged
+in any of a great variety of tasks, are still contributing
+to the satisfaction of our daily wants. The expression
+is not altogether fanciful; for, had it not been reasonable
+to expect that those labors would be of use to us to-day,
+many of them in all probability would never have been
+undertaken. It was to meet our present wants, and
+even our future wants, that many men toiled on monotonous
+<a name="12"> </a>tasks ten, twenty, thirty years ago. And yet,
+of course, we should deceive ourselves if we supposed
+that this was the motive of these men, that our welfare
+was the centre of their heart's desire. We in our turn
+dedicate to the future, and often to a distant future,
+an immense portion of our energies. Let any reader
+who doubts this, study the statistics of the occupations
+of the people, and reflect on how long a period must
+elapse before the labors of this trade or that can fulfil
+their ultimate function. How long would the period be
+in the case of a man making bricks, which will later be
+employed in the erection of a factory, where machinery
+will be made, to equip an electrical generating station
+designed to supply, over a period of many years, light,
+heat, and power to people living in a remote Continent?
+A longer time, it may be hazarded, than he is accustomed
+to look ahead.
+</p>
+<p>
+Like the daily cooperation of living men, this cooperation
+of past, present and future is essential to the
+well-being of mankind, and yet it is undesigned and
+unorganized. As private individuals, men do, indeed,
+deliberately provide for their own future, and for that
+of their kith and kin: as the directors of businesses,
+they try to forecast the trend of demand. But such
+conscious calculations and deliberate acts would avail
+little if they stood alone. They are hardly more than
+the necessary spokes in the great wheel which regulates
+the relations of past, present and future. The hub of the
+wheel is an elaborate system of borrowing and lending,
+essentially similar to the buying and selling of commodities.
+The private individual in order to provide
+for his family or for his old age "saves" and "invests."
+<a name="13"> </a>But what exactly does this mean? It means that he
+transfers so much purchasing power, which he might
+have spent on his personal pleasures, to some one else
+in return for the expectation of receiving, year by year
+in the future, he and his heirs after him, a certain smaller
+quantity of purchasing power. The other party to
+the transaction will be, we may suppose, a business
+man who enters into it because he sees the opportunity
+of a promising industrial development, to undertake
+which he requires more purchasing power than he himself
+possesses. And, because this transaction is entered
+into, a smaller number of us will shortly be engaged in making
+motorcars, or gramaphones, and a larger number
+of us in making factories and machinery, which will
+later enhance the world's productive power.
+</p>
+<p>
+Many transactions of the kind take place daily in
+modern communities, and their multiplicity gives rise
+to a mass of phenomena with which we are all tolerably
+familiar. We recognize a short-loan market, a stock
+exchange, a number of "markets" where lenders and
+borrowers are brought together by the aid of various
+intermediaries, such as banks, bill brokers, and stock
+jobbers, who correspond to dealers in commodities.
+Between these different specialized markets, we are
+aware of an interconnection so close and strong that we
+speak more generally of a Capital Market, of which the
+stock exchange, the short-loan market and so forth, are
+the component parts. Now, "market" is a word which
+was originally used to denote a place where tangible
+commodities were bought and sold; and the more
+closely we examine the phenomena of the Capital
+Market, the more closely do we perceive the profound
+<a name="14"> </a>resemblance between the mechanism of borrowing and
+lending, and that of buying and selling. Corresponding
+to the price of a commodity is the rate of interest (in
+the short-loan market we actually call the rate of Discount
+"the price of money," and speak of money being
+cheap or dear); and between the rate of interest, the
+demand for and the supply of capital there exist relations
+precisely similar to those between price, demand,
+and supply in commodity markets. Above all there is
+the same strong prevailing trend towards an adjustment
+of demand and supply.
+</p>
+<p>
+This fundamental resemblance between two such
+apparently incommensurable things as the buying of
+material commodities and the borrowing of capital is
+highly significant; it is another instance of that order
+in the economic world, of which the reader may now
+be growing weary. But so difficult is it to see clearly
+and fully something which one sees, as it were, every
+day of one's life, that a few more moments of reflection
+on the special case of capital will be time well spent.
+Let us revert then to our fantasy of a world socialist
+commonwealth; and humbly submit another poser
+to its supreme executive. The question this time will be
+whether some great constructional work, such, let us
+say, as the recently mooted Severn barrage scheme,
+should or should not be undertaken. Let us suppose
+that the costs and future benefits of the undertaking
+can be estimated accurately; and that the problem
+reduces itself to one of expending now a sum, let us say,
+of $100,000,000, with the prospects of obtaining in the
+future an income of power, or whatever it may be, worth
+$5,000,000 per annum. I have assumed for the sake of
+<a name="15"> </a>simplicity that we shall still be reckoning in terms
+of
+money, though possibly the executive may have
+substituted Marxian labor units; but it is quite immaterial
+to the present argument what the measuring
+rod may be. The point to be observed is, that it is
+impossible to tackle the problem at all without the
+conception of a rate of interest. For suppose that you
+tried to do without it, and said, "We shall take a long
+view. The interests of the future are no less our concern
+than those of the present; we shall not discriminate
+between them. We shall regard as an enterprise worthy
+to be undertaken whatever promises to yield in the
+course of time a return larger than the outlay." Where
+will this lead you? The particular proposal set out
+above would clearly pass the test; for in twenty years
+the resultant benefits would have added up to a figure
+equivalent to the initial cost. But equally clearly,
+the cost might have been more than $100,000,000; it
+might have been $250,000,000, $500,000,000, whatever
+figure you care to take, and if you extend the period
+similarly to fifty or one hundred years, sooner or later
+the gains would top the cost. Now there is no limit to
+the enterprises which would pay their way on this
+basis; and it would be quite impossible to undertake
+them all. For they would swallow up all and more than
+all your labor and your materials, and would leave
+you with no resources with which to meet the recurrent
+daily wants of men. Clearly, then, in some way or
+other, you must pick and choose, you must reject some
+enterprises as <i>insufficiently</i> worth while. But how
+would you proceed to choose? Without a clear principle,
+a simple criterion to guide you, you would be
+<a name="16"> </a>plunged in utter chaos. You could not say, "Let all
+proposals involving capital expenditure be submitted
+to a central committee, who shall compare them with
+one another in a sort of competitive examination and,
+after deciding the number of applications they can pass
+on the basis of the volume of resources which they can
+devote to the future, award the places to those which
+head the list." Such a prospect is a nightmare of
+officialism and delay. You would be driven to formulate
+a simple, intelligible rule or measure, and leave
+that rule to be applied by the unfettered judgment of
+innumerable men to individual problems, as and when
+they arose. And for such a rule or measure, you could
+not do better than a rate of interest; you would have to
+lay it down that only those projects should be approved
+which promised a return of 6 per cent, or whatever
+it might be. Even in deciding what it should be,
+the limits of your choice would be narrowly confined.
+If, for instance, you fixed on 1 or 2 per cent, you would
+probably discover that you had not achieved your
+object, that the undertakings for distant returns which
+passed this test, still consumed far more resources than
+you could spare. You would be compelled then to raise
+the rate until it had cut these enterprises down within
+manageable limits. But, once more, what essentially
+would you be doing? You would be using the instrument
+of the rate of interest to adjust the demand for
+and supply of capital, though indeed the interest might
+not be paid away as now to private individuals. You
+would be reproducing by the method of deliberate trial
+and error, the adjustments which occur automatically
+as things are, in the actual world. Once again the most
+<a name="17"> </a>perfectly contrived Utopia would be compelled to pay
+to the unorganized co&ouml;peration of our epoch the sincerest
+flattery of imitation.
+</p>
+<p>
+&sect;6. <i>The Fundamental Character of many Economic
+Laws.</i> But again perhaps a word of warning may be
+desirable. There is much controversy in these days
+about something called "Capitalism" or "The capitalist
+system." When these words are used with any precision,
+they usually refer to the arrangement so prevalent
+at present, whereby the ownership and sole
+ultimate control of a business rests with those who hold
+its stocks and shares. There is much to be said upon
+the merits and demerits of this system; something will
+perhaps be said upon the matter in the fifth volume of
+this series; but I shall not discuss it here. Nothing
+that I have said so far has any real bearing on it whatsoever;
+to suppose that it has, is indeed to miss the
+whole point of this chapter.
+</p>
+<p>
+The order, which I have sought to reveal, pervading
+and moving the most diverse phenomena of the
+economic world, would be a far less noteworthy and
+impressive thing were it merely the peculiar product of
+capitalism. Merchant adventurers, companies, and
+trusts; Guilds, Governments and Soviets may come and
+go. But under them all, and, if need be, in spite of them
+all, the profound adjustments of supply and demand will
+work themselves out and work themselves out again
+for so long as the lot of man is darkened by the curse
+of Adam.
+</p>
+<a name="18"> </a>
+<h3 class="chap_head"><a name="Chapter_II"></a>Chapter II</h3>
+<h3 class="chap_name">The General Laws of Supply and Demand</h3>
+<p>
+&sect;1. <i>Preliminary Statement of Three Laws</i>. The recognition
+of order in any branch of natural phenomena is
+but the prelude to the formulation of a set of laws,
+the simpler as the order is more universal, which describe,
+and as we say, explain it. Thus the perception
+of the even, elliptical courses of the heavenly bodies led
+to the statement of the law of gravitation and the laws
+of motion.
+</p>
+<p>
+In economics, similar laws have long since been
+enunciated, and have proved themselves such valuable
+instruments for the understanding of the daily problems
+of the workaday world, that they have been woven
+into the texture of our ordinary speech and thought.
+I have already touched upon them in the preceding
+chapter. But it is now desirable to set them out in
+order, in the most concise and formal manner possible.
+</p>
+<div class="law">
+I. When, at the price ruling, demand exceeds
+supply, the price tends to rise. Conversely
+when supply exceeds demand the price tends
+to fall.
+</div>
+<div class="law">
+II. A rise in price tends, sooner or later, to
+decrease demand and to increase supply.
+Conversely a fall in price tends, sooner or
+<a name="19"> </a>later, to increase
+demand and to decrease
+supply.
+</div>
+<div class="law">
+III. Price tends to the level at which demand is
+equal to supply.
+</div>
+These three laws are the cornerstone of economic
+theory. They are the framework into which all analysis
+of special, detailed problems must be fitted. Their
+scope is very wide. I have purposely refrained from
+introducing into my statement of them any reference
+to commodities; for they extend far beyond commodities.
+Subject to an important qualification, they
+apply to capital, the price paid for the use of capital
+being what we call the rate of interest. They apply
+hardly less to "services," to the remuneration of labor
+of every kind and grade. People sometimes protest
+warmly against the idea of treating labor "like a commodity."
+If this indignation expresses no more than a
+belief that in matters concerning conditions of work,
+and relations between employees and the management,
+the sensibilities of human nature should be taken into
+due account, it is based on elementary decency and
+commonsense. But if, as sometimes appears, it is
+directed against the fact that the remuneration of
+labor is controlled by the laws of supply and demand,
+it is a mere baying at the moon, with singularly little
+provocation. For these laws are in no way peculiar to
+commodities, and it is no one's fault that they include
+commodities too within their scope.
+<p>But let us go back to the laws themselves, and probe
+them and dissect them, and turn them this way and
+that, so that we may perceive their full content, and
+<a name="20"> </a>grasp it firmly in our minds. The third law implies
+a
+prevailing tendency for demand to be equal to supply.
+This tendency, as was suggested in Chapter I, can be
+verified by anyone from his experience and observation
+(provided he is a reasonable person, and not the tiresome
+kind who would dispute the law of gravitation
+because he sees that a feather falls to the ground more
+slowly than a stone). But it can also be deduced as a
+corollary from the two preceding laws; and to regard it
+in this way will help us to appreciate its significance.
+Start, for instance, by supposing that demand is in
+excess of supply. Then the price will tend to rise. After
+the price has risen, the supply will become larger, while
+the demand will fall away. The excess of demand
+with which we started will thus clearly be diminished.
+But if there remains any portion of this excess, the
+same reactions will continue; the price will rise further,
+and for the same reason; demand will be further
+checked and supply further stimulated. In other words,
+these forces must persist until the entire excess of
+demand over supply is eliminated. If we start by
+supposing supply to exceed demand, the converse chain
+of sequences will operate. Now these very simple steps
+of reasoning illuminate the nature of the normal equilibrium
+of demand and supply. They reveal that the
+equilibrium is established and maintained by the
+agency of <i>changes in price</i>, and they enable us to lay it
+down as perhaps the most important thing that can be
+said about the price of anything that it will tend to be
+such as will equate demand and supply. But that is not
+all that they reveal. They reveal also the extreme
+dependence of both demand and supply upon price.
+<a name="21"> </a>Now this is a fact which it is most important to
+realize
+vividly. It is apt to be obscured by customary modes
+of speech. In ordinary times the prices of most commodities
+and services do not change by very much,
+unless indeed over a long period of years; the amounts
+demanded and supplied may therefore seem to maintain
+a fairly constant level; and we may be tempted to
+speak of Great Britain producing so many million tons
+of coal, or America consuming so many millions of
+motor-cars per annum, almost as though these quantities
+were independent of price considerations. But
+we should never forget that there is no service or commodity
+produced by man, however essential it may
+seem, the demand for or the supply of which might not
+be reduced to nothing, if the price were sufficiently
+raised on the one hand, or lowered on the other. How
+easy it is sometimes to forget this simple truth may be
+seen from the mistake so commonly made of supposing,
+because the peoples of Central Europe were left, on the
+cessation of the war, starving and destitute of the
+means of life and the materials of work, that they must
+necessarily become heavy purchasers of imported
+goods; without pausing to consider whether the prices
+were such as they could afford to pay.
+</p>
+<p>
+&sect;2. <i>Diagrams and their Uses</i>. It will help to prevent
+mistakes like this and more generally to make sharp and
+clear the fundamental relations which exist between
+demand, supply and price, if we exhibit them pictorially
+in the form of a diagram. Such diagrams are of great
+service in many parts of economic theory, not because
+they can prove anything which could not be proved
+<a name="22"> </a>otherwise, but because, being really a simpler
+medium
+of expression than words, they enable the mind to
+grasp more readily and to retain more vividly the essential
+facts of complex relations.
+</p>
+<object type="image/svg" data="files/fig1.svg">
+<img alt="figure 1" height="311" width="354" src="files/fig1.png"></object>
+<p>Figure 1</p>
+<p>
+In Fig. 1 the curve DD' represents the conditions of
+demand. It is supposed to be drawn in such a way that
+if any point, Q, be taken on the curve, and the perpendicular QN be
+drawn to meet the base line, or axis OX,
+then ON will represent the amount that will be demanded
+at a price represented by QN (or O<i>l</i>). In other
+words, distances measured along OY represent prices,
+and distances measured along OX represent quantities
+of the commodity, or service, or whatever it may be.
+Clearly, then, the demand curve, DD', must slope
+downwards from left to right, since the lower the
+price asked, the greater will be the amount demanded.
+Similarly the curve SS' represents the conditions of
+<a name="23"> </a>supply. It is supposed to be so drawn that if any
+point <i>q</i> be taken upon it, and the perpendicular <i>q</i>N
+be drawn to meet OX, then ON will represent the
+amount that will be supplied at a price represented by
+<i>q</i>N (or O<i>k</i>). Equally clearly this supply curve must
+slope upwards from left to right, since the higher the
+price obtainable, the greater will be the quantity
+offered. Take the point P where the two curves meet,
+and draw the perpendicular PM to meet OX. Then
+the third law enunciated at the beginning of this
+chapter corresponds to the statement that PM or O<i>m</i>
+will represent the price at which the commodity or
+service will be exchanged.
+</p>
+<p>
+It can readily be seen that no other price could be
+maintained. For suppose the price to be less than O<i>m</i>,
+suppose it to be O<i>k</i>, then, at this price, ON (or <i>kq</i>)
+will
+be the amount supplied, and <i>kr</i> the amount demanded.
+The demand will thus exceed the supply, and the
+price will tend to rise, i.e. to move upwards towards
+O<i>m</i>. Similarly if we suppose the price to be O<i>l</i>, which
+is larger than O<i>m</i>, the supply (<i>l</i>R) will exceed the
+demand (<i>l</i>Q) and the price will fall downwards towards
+O<i>m</i>. Thus, again, we have deduced Law III from
+Laws I and II with the form and precision of a
+proposition in Euclid. Now, when once the eye has
+become familiar with this diagram, it ought to be
+impossible for the mind to lose even momentarily its
+grip on the fact that demand and supply are both
+dependent upon price. For these curves do not represent
+any particular amounts; they represent a series of
+<i>relations</i> between amount and price; if the price is
+QN the amount demanded is ON, and so forth. The
+<a name="24"> </a>terms demand and supply in the sense, in which I
+have been using them, of the respective amounts demanded
+and supplied are, indeed, strictly meaningless
+without reference to some particular price. The
+reference may sometimes be implicit; but, whenever
+there is a chance of ambiguity, it should be explicitly
+made.
+</p>
+<p>
+&sect;3. <i>Ambiguities of the Expressions, "Increase in Demand,"
+etc.</i> It is the more important to be precise
+upon this point, in that there is a further possible
+confusion which we have now to consider. Demand
+and supply, as we have seen, are dependent upon
+price; but equally clearly they are dependent upon
+other things as well. Demand depends upon the needs,
+tastes and habits of the people, as well as upon the
+length of their purse; supply depends upon such things
+as the cost of production in the case of commodities.
+None of these things are constant factors, all of them
+are liable to change, and it may well happen that we
+shall want to consider in some concrete problem the
+probable consequences of such a change. Now the
+most usual and natural way of describing such changes
+in the medium of words is to use the expression "increase"
+or "decrease in demand," and "increase"
+or "decrease in supply," the same expressions, which
+we employed before to describe the consequences of a
+change in price. This identity of language conceals
+a fundamental distinction between the phenomena
+described; and to make this distinction plain we cannot
+do better than revert to our diagrammatic presentation
+of the laws.
+</p>
+<a name="25"> </a>
+<object type="image/svg" data="files/fig2.svg"><img alt="figure 2"
+ height="329" width="342" src="files/fig2.png"></object>
+<p>Figure 2</p>
+<p>
+In Fig. 2 we start as before with our demand curve,
+and supply curve, cutting one another at the point P.
+We then suppose that some alteration takes place in
+the conditions of demand; there has been a growth
+in the general taste for the commodity or service, and
+the demand, as we say, has increased accordingly.
+How is this fact to be represented in the diagram?
+Plainly not by taking another point on the curve, DD',
+at a further distance from OY. For this would merely
+indicate the larger amount that would be taken, if the
+conditions of demand had remained unaltered but the
+sellers had reduced their prices. The correct way of
+representing the change we have supposed is to construct
+a new demand curve (in the figure, the dotted
+<a name="26"> </a>curve <i>dd'</i>), lying at every point above the
+old demand
+curve. For this indicates that larger quantities will
+be purchased at the old prices, which is exactly what
+we want to represent. Similiarly if we wish to represent
+a change in the conditions of supply, such as might
+result, in the case of a commodity, from a tax imposed
+on its production, we must draw a new supply curve,
+<i>ss'</i>, which in the case supposed, must lie everywhere
+above the old supply curve. On the other hand, the
+decrease or increase in demand or supply, <i>resulting</i>
+from a change in price, is represented simply by a
+shifting of the equilibrium from one point to another on
+the same curve. The striking pictorial contrast between
+a movement from one curve to another, and a
+movement along the same curve should help to make
+vivid to our minds the fundamental distinction between
+a change in the <i>conditions</i> of demand, arising from new
+tastes, enhanced purchasing power, etc.; and a mere
+change in the amount purchased resulting from an
+alteration in the price which the sellers ask. Words,
+as this necessarily cumbrous sentence shows, are a
+clumsy instrument for the expression of abstract
+relations; it is not very easy to see which words in a
+sentence are the significant, commanding ones, and
+which are performing, as it were, ordinary routine
+duties. A diagram is not exposed to similar ambiguities
+of emphasis.
+</p>
+<p>
+The particular distinction, to which attention has
+been called, is important. The reader who has grasped
+it clearly will be able to perceive many instances of the
+confusion arising out of its neglect in the ordinary
+discussions of economic questions which take place
+<a name="27"> </a>in the press and on the platform. It is not
+uncommon,
+for instance, for an argument to run something like
+this: "The effect of a tax on this commodity might
+seem at first sight to be an advance in price. But an
+advance in price will diminish the demand; and a
+reduced demand will send the price down again. It
+is not certain, therefore, after all, that the tax will
+really raise the price." A glance at the diagram will
+keep us out of such a bog of sophistry and muddle.
+For if we suppose the amount of the tax per unit of the
+commodity to be represented by S<i>s</i>, the curve <i>ss'</i>
+(drawn, as it is, roughly parallel to SS') will represent
+the new conditions of supply after the tax has been
+imposed. The new position of equilibrium will be
+given by the point P', where <i>ss'</i> cuts DD', the demand
+curve. Now P' lies to the left of P the old point of
+equilibrium; hence, since DD' <i>must</i> slope downwards
+from left to right, it is clear that, if, as it is fair here to
+assume, the <i>conditions</i> of demand have remained unaltered,
+the new price P'M', must be greater than the old.
+</p>
+<p>
+&sect;4. <i>Reactions of Changes in Demand and Supply on
+Price.</i> Having now made clear the meaning that must
+be attached to the terms, let us consider the question
+which naturally arises, whether we can lay down any
+general propositions or laws as to the effect upon
+price, of an increase or decrease in demand or supply.
+Another glance at the diagram suggests that we can.
+An increase in demand is represented in Fig. 2 by a
+movement from DD' to <i>dd'</i>, which cuts the supply
+curve, SS', at <i>p</i>, to the right of P. Since the supply
+curve (drawn, as it is best to draw it, to represent the
+<a name="28"> </a>amount which will be supplied in response to a given
+price) must always slope upwards from left to right,
+the new price, <i>pm</i>, must be greater than the old, PM.
+Conversely a decrease in demand is represented by a
+movement from <i>dd'</i> to DD', and the new price is
+seen to be less than the old. We have already seen
+that a decrease in supply, which is represented by a
+movement from SS' to <i>ss'</i> results in a higher price;
+and it is the obvious converse that an increase in
+supply will have the opposite effect. It would seem
+then that we might lay down quite generally that an
+increase in demand or a decrease in supply will raise the
+price while a decrease in demand or an increase in
+supply will lower it.
+</p>
+<p>
+But here it is necessary to be cautious. All conclusions
+as to the effects of causes are necessarily based,
+implicitly, if not explicitly, upon the assumption
+"other things being equal." This method of reasoning,
+which some people appear to find so irritating in the
+economic sphere, and as they say so "theoretical"
+and "unreal," is one which they adopt readily enough
+in every other department of life. No one, for instance,
+objects to the statement that the sun, when it comes
+out, makes a room warmer, although it may very
+well happen, if a fire is dying at the same time, that
+the room grows colder in point of fact. For in our
+general statement we assume implicitly that "other
+things" such as fires, are unchanged. But assumptions
+of this kind are legitimate only when there is no reason
+to suppose that the cause, the effects of which are
+being studied, will itself produce a change in the "other
+things." If (as I have often been told; I really do not
+<a name="29"> </a>know if it is true) the rays of the sun help to put
+a
+fire out, the statement made above would be the better
+for some qualification.
+</p>
+<p>
+Now we can only say that an increase in demand
+raises price if we assume the conditions of supply (as
+represented by the supply curve) to remain unchanged.
+But in practice, an increase in demand may cause a
+change in the <i>conditions</i> of supply. An increase, for
+instance, in the demand for a commodity may give rise
+to a revolution in the methods of production, to the
+introduction of labor-saving machinery and so forth,
+which will eventually result in the commodity being
+produced more cheaply. It will certainly take a considerable
+time before reactions of this kind can exert
+an appreciable influence; and we can, therefore, feel
+reasonably sure that over a short period an increase in
+demand will raise the price. But we cannot be sure
+what the ultimate effect will be. A similar alteration in
+the condition of demand is less likely to result from an
+increase or decrease in supply; but it may conceivably
+occur. We must, therefore, be careful to qualify any
+general propositions which we lay down in this connection,
+by explicit reference to a short period of time.
+We can add the following to our body of laws:&mdash;
+</p>
+<div class="law">
+IV. An increase in demand, or a decrease in supply
+will tend to raise the price for a short period at
+least. Conversely a decrease in demand, or an
+increase in supply will tend to lower the price
+for a short period at least.
+</div>
+<p>
+This law, like the others, applies to commodities,
+services, capital, to anything which can be said, literally,
+<a name="30"> </a>or by analogy, to have a price. "A short period"
+is, however, a vague expression and, since precision is
+the hallmark of an important law, we must accord to
+this one a status inferior to that which the preceding
+three can rightly claim.
+</p>
+<p>&sect;5. <i>Some paradoxical reactions of price changes on
+supply.</i> Let us turn, though, once more to these
+earlier laws, and with a heightened critical sense let us
+submit them to the test of the whole gamut of our
+experience, and see if in any of them we can find the
+smallest flaw. The first of them will pass through
+the ordeal&mdash;let each reader prove it for himself&mdash;unscathed.
+The second will emerge with a few hairs,
+as it were, singed. It tells us, for instance, that a rise
+in price will tend to augment the supply. Now there
+are some things the supply of which cannot possibly
+be augmented; these are the capital resources of nature,
+of which land is the most important for our present
+purpose. Land is bought and sold, it commands a
+price. In a certain sense, it may be said to be possible
+to increase the supply of land, in response to a rise in
+price, by drainage and reclamation schemes; and it
+will certainly happen that a rise in the price which
+land can command for any particular purpose will
+increase the amount which is devoted to that purpose.
+But, speaking broadly, the supply of land available
+for purposes of every kind is a fixed unvarying factor,
+with an inertia which the cajolery of price-changes is
+powerless to disturb. This is a most important fact,
+and it gives rise to some peculiar features of the price
+and rent of land, which we shall have to consider later
+<a name="31"> </a>as a separate problem. It constitutes a limiting
+case
+rather than an exception to the general law. But we
+have not yet done with the reactions of price upon
+supply. In the case of capital, the nature of those reactions
+has been much discussed as a highly controversial
+question. That a rise in the rate of interest will
+cause some people to save more than before, is generally
+admitted; but it is pointed out that the effect upon
+others may be the exact opposite, because it means that
+they do not need to save so much to acquire the same
+future annual income. It is unwise to say dogmatically
+that the former tendency outweighs the latter; though
+upon the whole it seems highly probable that it does.
+We cannot, therefore, in this case feel confident that a
+change in price will react upon supply in the manner
+which our law indicates. Similarly it is possible to
+argue that a rise in the general level of real wages may
+reduce the supply of labor, even, or some might say
+particularly, if the term is used to denote not the
+number of workpeople, but the quantity of work done.
+For there may be a tendency for workpeople, when
+more comfortably off, to work less regularly or less
+hard. Here again we cannot be sure. In none of
+these cases, however, including that of land, is there
+any reason to doubt that a rise in price will diminish
+<i>demand</i>, or conversely that a fall will increase it. Since,
+therefore, in the reasoning by which we deduced the
+third law, the conclusion will hold good, even if the
+effects of price-changes on supply are of the above
+paradoxical kind, provided that they do not continually
+outweigh the effects upon demand, there is no
+reason to cast doubt on the solidity of Law III, which,
+<a name="32"> </a>indeed, as we suggested before, commends itself
+directly
+to experience. But Law II seems now, perhaps, somewhat
+the worse for wear.
+</p>
+<p>
+The damage, however, is not considerable. For in
+each case the uncertainty arises only when we are
+dealing with one of the factors of production, land,
+labor or capital, <i>regarded as a whole</i>. If we are dealing
+with the capital available for a particular industry, a
+rise in the rate of profit in that industry will certainly
+increase the supply of capital available there; for it will
+tend to attract savings that might otherwise have been
+employed elsewhere. We can even be fairly sure that
+an increase in the general rate of interest prevailing in
+any particular country will increase the total supply
+of capital available for the businesses of that country,
+since capital has in modern times acquired a considerable
+migratory power. In the case of labor, we cannot
+go so far as this; but here, too, there is no doubt that an
+increase in the remuneration offered in any particular
+occupation will attract an increased labor supply
+(always supposing, of course, that "other things are
+equal"). No similar difficulty arises for land, labor
+or capital, as regards the effect of price-changes on
+demand; while for ordinary commodities there is no
+such difficulty on the side either of demand or of
+supply. Hence the only qualification which the
+strictest accuracy would require us in this connection
+to attach to our statement of Law II is the
+postscript:&mdash;
+</p>
+<p>
+<!-- poem -->"Except that, in the case of land, the aggregate supply
+is
+unalterable; while in the case of capital or labor we cannot be
+sure how price-changes will affect the aggregate supply."
+<!-- poem --></p>
+<a name="33"> </a>
+<p>Much significance attaches to these exceptions, as
+later will appear.
+</p>
+<p>
+&sect;6. <i>The Disturbances of Monetary Changes</i>. But let
+us still keep a critical eye on Law II, and submit it
+to another flashlight from our practical experience.
+The recent world war made us all acutely aware of a
+remarkable rise in the price of almost everything,
+which yet did not seem to diminish appreciably the
+demand. The explanation of this paradox is not
+difficult to find. There was an immense increase in the
+volume of nominal purchasing power, due to a complex
+set of causes, of which "currency inflation" may be
+taken as the symbol. Now perhaps we are entitled to
+assume the absence of such currency changes as part of
+the "other things being equal" which is always understood
+as implied. But it is rash to take this particular
+assumption for granted, more especially in these days.
+Already people are too apt to speak as though the
+trade depression (which as these pages are written
+holds us in its grip) cannot pass away until pre-war
+prices are restored, ignoring altogether the great and
+probably permanent increase in nominal purchasing
+power which the war has left behind it. It would be
+safer, therefore, to add explicitly to Law II the reservation,
+"Assuming that there is no change in the general
+volume of purchasing power."
+</p>
+<p>
+Monetary and allied questions will form the subject
+of the second volume of this series. It must not be
+supposed that our general laws have no bearing on
+them. On the contrary, Law I, which all this time has
+remained serene and undisturbed by the occasional discomfitures
+<a name="34"> </a>of Law II, is the gateway through which all
+questions of currency, banking and the foreign exchanges
+should be approached. It is well to note, as an
+inexorable corollary of Law I, that prices can rise <i>only</i>
+if demand exceeds supply, and fall <i>only</i> if supply exceeds
+demand; and hence that it is only through the
+agency of changes in the demand for and supply of
+commodities and services that an inflation or deflation
+of the currency can influence the price level. Further,
+since a condition of things in which supply generally
+exceeds demand spells what we know and fear as a trade
+depression, it may be well to note at once that falling
+prices and unemployment are inseparable bedfellows.
+For we are far too apt to shut our eyes to these unpleasant
+truths. But we cannot pursue them further
+here; and in the remainder of this volume we shall
+not be concerned (except, perhaps, incidentally) with
+questions affecting the general level of prices or of purchasing
+power; but rather with the relation which the
+price of one commodity bears to that of another, with
+the rate of interest (which being a rate per cent is not
+essentially dependent on the price level), with "real"
+wages (as distinct from money wages) and the like.
+</p>
+<p>
+&sect;7. <i>The Trade Cycle</i>. But our reference to trade
+depressions suggests a final comment on Law II. One
+small qualification was embodied in our original statement
+of it, namely the words "sooner or later." A rise
+in price may not check the demand immediately (even
+if the printing presses are standing idle in the Treasuries);
+it may actually stimulate it for a time. For
+people may fear that the price will rise further still, and
+<a name="35"> </a>hasten to buy what they <i>must</i> buy before very
+long.
+Sellers may share the same opinion, and be reluctant on
+their side to part. When prices are falling the roles are
+reversed, and we are likely to see the sellers tumbling
+over one another in a frantic eagerness to sell, the
+buyers wary and aloof. Sooner or later, indeed, these
+tendencies must dissolve and disappear; but they may
+persist for a longer period than might seem probable
+at first. For the raw material of one trade is, as we say,
+the finished product of another. The demand for one
+thing gives rise to a demand for other things, for the
+labor with which to make them, and so on in an expanding
+circle. A sympathy, subtle and intense,
+unites the business world, and a wave of depression or
+animation arising in any quarter may spread itself far
+and wide, heightened by the gusts of human hope and
+fear, and continue long before its influence is spent.
+</p>
+<p>
+Here we are upon the threshold of one of the most
+striking and formidable of economic facts, the regular
+alternation of periods of good and bad trade, each very
+widespread, if not world-wide, in its range, each comprising
+certain regular phases of acceleration and decay,
+and each infallibly yielding sooner or later to the other.
+The details of these phenomena are highly complex,
+some of them obscure; an immense literature has
+already been devoted to the subject, yet its systematic
+study is hardly more than begun. The account given
+in the preceding paragraph is incomplete and meagre.
+It is inserted here in the hope that it will impress the
+reader with a sense both of the fact of these alternations
+and of the deeply rooted nature of the causes from which
+they spring. They take a heavy toll of human happiness
+<a name="36"> </a>and wealth; and there is no object that more
+urgently calls for concerted human effort than that of
+mitigating them, and of alleviating the misery which
+they bring in their train. Still better, of eradicating
+them if that is possible; but let none suppose that it can
+be lightly done. Meanwhile, let us always remember
+that they form the atmosphere and medium in which
+the enduring tendencies of the business world must
+work themselves out. It is often convenient to speak of
+"normal conditions" in this trade or that; but hardly
+ever can it be truly said of a particular moment that
+conditions are normal. The normal is rather a mean
+level about which oscillations to and fro, round and
+about, are constantly taking place, but which itself is
+reached only by accident, if at all. Whenever we say
+that some new factor should in the long run lower
+the price of this or that commodity or service, the
+picture which these words should convey to our mind
+is one of the price rising less on times of boom, and
+falling more in times of depression than is the case
+with other things. And if ever our faith in some
+honored economic law is shaken by the apparent ease
+with which, perhaps, in times of active trade, sellers are
+able to advance their prices to whatever figure (so it
+almost seems) they choose to name, let us rally our
+sense of economic rhythm, and reserve our judgment
+until the trade cycle has run its course.
+</p>
+<a name="37"> </a>
+<h3 class="chap_head"><a name="Chapter_III"></a>Chapter III</h3>
+<h3 class="chap_name">Utility and the Margin of Consumption</h3>
+<p>
+&sect;1. <i>The Forces behind Supply and Demand</i>. The
+laws enunciated in the preceding chapter constitute
+the framework and skeleton of all economic analysis;
+but they do not carry us very far. It is only through
+the agency of these laws that any influence can affect
+the price of anything: but what influences may so
+affect it is a question which we have still to consider.
+</p>
+<p>
+Let us begin with ordinary commodities and ask ourselves,
+in the light of experience and common sense,
+upon what factors their price seems mainly to depend?
+Two factors spring to mind at once; their cost of production
+and their usefulness. As regards the former, the
+case seems clear enough. We may indeed sometimes
+grumble that the price of this or that commodity is
+unconscionably high in comparison with its cost; but
+this only goes to show that we conceive a relation between
+price and cost as the normal, governing rule. If
+one commodity cost only a half as much to produce as
+another, we should think that something had gone very wrong indeed, if
+the former commodity were sold for
+the higher price. But, when we turn to the usefulness
+of commodities, the case is not so clear. Usefulness has
+some connection with price, so much is certain; for an
+entirely useless thing, fit only for the dust-bin (and
+<a name="38"> </a>known to be such, it may be well to add) will fetch
+no
+price at all, however costly it may be to produce. But
+it is not easy to express the connection in quantitative
+terms. It seems reasonable enough to say that the
+prices of commodities are roughly proportionate to
+their costs of production. But directly we contemplate
+saying a similar thing of their usefulness, we are pulled
+up short. As we look round the world, and enumerate
+the commodities which by common consent are the
+most useful, salt, water, bread, and so forth, the striking
+paradox presents itself that these are among the
+cheapest of all commodities; far cheaper than champagne,
+motor-cars or ball-dresses, which we could very
+well get on without. As things are, of course, a ball-dress,
+or a motor-car costs more to produce than a loaf
+of bread or a packet of salt; and the common-sense
+explanation of the paradox seems, therefore, to be that
+the cost of production is a more weighty influence
+than the usefulness, or utility, as we will henceforth call
+it (so as to include the satisfaction we derive from not
+strictly useful things). We are thus tempted to conclude
+that, provided a commodity possesses some utility,
+its price will be determined by the cost of production,
+the degree of utility being unimportant. This was exactly
+how the position was gummed up for many years
+in systematic treatises upon Political Economy; and
+it was not until fully half a century after the <i>Wealth
+of Nations</i> that a discovery was made which threw a
+fresh light on the whole matter.
+</p>
+<p>
+First of all, let it be clearly observed how very
+unsatisfactory is the above account. In Chapter II
+where we were treading surely, with a sense of solid
+<a name="39"> </a>ground beneath us, we drew no such invidious
+distinction
+between supply and demand. They seemed
+then to possess an equal status. But cost of production
+is the chief factor which, in the case of commodities,
+ultimately determines the conditions of supply. Utility,
+similarly, is the chief factor which ultimately determines
+the conditions of demand. Must not then the
+symmetrical relations between demand and supply be
+reflected in a corresponding symmetry between the
+utility and the costs which underlie them? Demand
+springs obviously from utility; the only motive for
+buying anything is that it will serve some real or fancied
+use. Can we then accord to demand so dignified and
+to utility so subordinate a place? There is here an
+inconsistency which we must somehow reconcile. It
+will not serve as a solution to distinguish between
+different periods of time, and to say, as economists used
+to say not very long ago, that price is governed over a
+short period by demand and supply, but in the long run
+by the cost of production. This still leaves our sense of
+symmetry unsatisfied. Moreover, the conception of
+cost of production, when we consider it as ruling over
+a long period, frequently seems to lose any precision,
+as an independent factor, which it may otherwise
+possess. Motor-cars, we have agreed, are more costly
+to produce than loaves of bread; but, as we know well,
+the cost of producing motor-cars varies enormously,
+accordingly as they are produced on a small or a large
+scale. By the methods of mass production they can be
+turned out at a relatively low cost per car. But this
+requires that they should be purchased in large numbers
+and this in turn throws us back to the demand for
+<a name="40"> </a>motor-cars, and plainly enough, to people's judgment
+as to their utility. In some cases, the opposite phenomenon
+occurs. In the case of British coal, for instance,
+the average cost of production would be much
+lower than it is if the output were reduced to a fraction
+of its present volume, and if only the richer seams of the
+more fertile mines were worked. Once again, therefore
+it is difficult to measure the cost of production until we
+know the magnitude of the demand, which in a manner,
+which we have still to elucidate, clearly depends upon
+the utility.
+</p>
+<p>
+If we take the problem of joint products, the conception
+of cost of production fails us still more conspicuously.
+For what is the cost of producing wool,
+or the cost of producing mutton? We can speak of
+the cost of rearing sheep: but it is hardly possible
+to allot this cost, except quite arbitrarily, between
+the two products. How, then, can we explain the
+separate prices of these things by reference to cost
+alone? Instances of joint production are becoming so
+common in the modern world, or at least, with the
+growing attention to the utilization of by-products, are
+assuming so much more heightened a significance, that
+an explanation of price, which does not apply to them,
+is a very feeble one indeed.
+</p>
+<p>
+&sect;2. <i>The Law of Diminishing Utility</i>. Let us turn
+back, then, to the factor of utility, and see if we cannot
+put on a more satisfactory basis the relation between
+utility and price. The clue to the puzzle is to be found
+in a brief reflection on the implications of the second
+general law propounded in Chapter II. A rise in price,
+<a name="41"> </a>it was there stated, will sooner or later diminish
+the
+demand. This was asserted as a matter of fact, observed
+from and confirmed by experience. But what
+does it signify? To what causes is this familiar fact
+to be attributed? The first stage of the answer is very
+ample. The many individuals, whose purchases make
+up the demand for the commodity, will buy smaller
+quantities now that the price is higher. Possibly some
+of them may cease to buy it altogether; but as a rule
+it would be reasonable to suppose that most people continue
+to buy a certain amount though a smaller amount
+than hitherto. Let us turn our attention, then, to the
+individual purchaser, and ask ourselves why he (or let
+us say she) acts in the manner indicated. The obvious
+answer is that the more she already has of anything,
+the less urgently does she require a little more of it.
+If she buys 6 pounds of sugar every week when the price
+is 7 cents a pound, but only 5 pounds when the price is 8
+cents, she shows by her action that she does not consider
+that the additional utility she will derive from buying 6
+pounds a week rather then 5 pounds is worth as much as
+8 cents. But she shows at the same time that she thinks
+it worth 7 cents. For, when the price is 7 cents, no one
+compels her to buy that sixth pound. She could stop, if
+she chose, at five; and it may serve to make the point
+quite plain if we suppose her actually to hesitate before
+she buys the sixth. She has hitherto, let us say, been
+buying 5 pounds a week at 8 cents. To-day she enters
+the shop and finds the price is down to 7 cents. She
+asks for her customary 5 pounds; then she pauses, and a
+minute later turns her order into six. What are the alternatives
+which she has been weighing one against the
+<a name="42"> </a>other in that momentary pause? Not the utility of
+the
+whole 6 pounds of sugar against the total price of 42
+cents. For she has already ordered the first 5 pounds;
+and the decision to buy the sixth is taken independently
+and subsequently. She has been sizing up the <i>increment</i>
+of utility which a sixth pound would yield, and she decides
+that this is worth the expenditure of a further 7
+cents. Again, when the price was 8 cents she need not
+have bought as many as 5 pounds. She could have
+stopped at 4 had she chosen, and the fact that she did
+buy 5 pounds shows that the increment of utility derived
+from buying a fifth pound, when she might be said
+already to have 4, was worth at least 8 cents in her
+judgment.
+</p>
+<p>
+This trite illustration enables us to lay down two
+important laws relating to utility. To state them
+shortly, it is convenient to employ one or two technical
+terms, which, unlike every term employed hitherto,
+are not very commonly used in their present sense in
+everyday life. Their adoption is desirable not merely
+for the sake of convenience, but because they help
+to stamp clearly on the mind a most illuminating
+conception, that of the "margin," which supplies
+the clue to many complicated problems. The last
+pound of sugar which the housewife purchased, the
+fifth pound when the price was 8 cents, or the sixth
+pound when the price was 7 cents, we call the "marginal"
+pound of sugar. And the increment of utility
+which she derives from buying this marginal pound
+we call the "marginal utility" of sugar to her. We
+are thus able to state the fact that the more a
+person has of anything the less urgently does he
+<a name="43"> </a>require a little more of it, in the following formal
+terms:&mdash;
+</p>
+<div class="law">
+V. The marginal utility of a commodity to anyone
+diminishes with every increase in the amount
+he has.
+</div>
+<p>
+The total utility will, of course, increase with an increase
+in the amount, but at a diminishing rate. This
+law is usually called The Law of Diminishing Utility.
+</p>
+<p>
+&sect;3. <i>Relation between Price and Marginal Utility</i>
+But this is not all. We are now in a position to perceive
+the true relation between utility and price. The
+relation is one which exists not between price and total
+utility, but between price and marginal utility. If we
+know only that a housewife will buy weekly 5 pounds of
+sugar at 8 cents per pound, but 6 pounds at 7 cents, we
+know nothing of the total utility of sugar to her. We do
+not know how much she might be prepared to pay
+rather than go without 3 pounds, 2 pounds, or any sugar
+at all. But we do know that, when she buys 6 pounds,
+the marginal utility of sugar is in her judgment worth
+something which does not differ greatly from the price.
+We can, therefore, say in general terms that the price of
+a commodity measures approximately its marginal
+utility to the purchaser.
+</p>
+<p>
+This statement is perfectly consistent with the
+paradox noted above that the most useful commodities
+such as bread, salt and water are very cheap. For
+when we say that these commodities are supremely
+useful, we mean only that their total utility is very
+great; that, rather than do without them altogether,
+we would offer for them a large proportion of our means.
+<a name="44"> </a>But we would not value very highly a small addition
+to the bread, water or salt that we habitually consume;
+nor would most of us feel it as a very serious deprivation
+if our consumption of these things were curtailed
+by a small percentage. In other words, their <i>marginal</i>
+utilities are small, and it is only the <i>marginal</i> utility
+that has any relation to price.
+</p>
+<p>
+&sect;4. <i>The Marginal Purchaser</i>. A possible objection
+to the preceding argument deserves to be considered.
+Some readers may find the picture I have drawn of
+the hesitating housewife entirely unconvincing. They
+may declare that her mind does not work at all in
+the manner I have indicated. She will have formed
+certain habits in regard to her weekly purchases of
+sugar, which are connected very vaguely, if at all, with
+any conscious processes of thought. She will buy so
+many pounds of sugar weekly without troubling her
+head over the specific utility of the last pound she buys.
+When the price falls she may, indeed, buy more; but
+it will not be because she separates out and considers
+by itself the extra utility of an additional pound. She
+may buy more, because she has formed the habit of
+spending so much money on sugar; and now that the
+price has fallen, the same amount of money will enable
+her to buy more pounds. Or, perhaps, she may be
+moved by instinctive and irresistible attraction to buy
+more of a thing when it is cheaper, similar to that which
+inspires so many people to face with ardor the horrors
+of a bargain sale. In any case the fine calculations I
+have imagined convey a fantastic picture of her state of
+mind. And how much more fantastic, the critic may
+<a name="45"> </a>continue, of the state of mind in which things of a
+different kind are bought by less careful people. When,
+for instance, one of us happy-go-lucky males (more
+liberally supplied, perhaps, than the housewife with the
+necessary cash), decides to buy a motor bicycle, or to
+replenish his stock of collars or ties, does the above
+analysis bear any resemblance to the actual facts? In
+the case of the motor bicycle, the purchaser may, indeed,
+weigh the price fairly carefully against the pleasure
+and benefit, though contrariwise he may be a rich
+enough gentleman hardly to bother about this. But,
+one motor bicycle is as much as he is at all likely to buy,
+and what becomes, then, of the distinction between
+total and marginal utility? In the case of the ties and
+collars, the vagueness of many of us about the price will
+be extreme. We probably have been uneasily conscious
+for some time of an inconvenient shortage of these
+troublesome articles and eventually will go off (or
+perhaps will be sent off with ignominy) to the nearest
+suitable shop to make good the deficiency. How can
+we speak here with a straight face of the relation between
+marginal utility and price?
+</p>
+<p>
+These are very pertinent criticisms; but they do
+not make nearly as much nonsense of the notion of
+marginal utility as may seem at first. The last point,
+indeed, serves rather to give it a fresh aspect of much
+significance. Those of us who do not bother about the
+price we pay for our ties and collars owe a debt of gratitude,
+of which we are insufficiently conscious, to the
+more careful people who do; as well as to the custom
+which prevails in shops in Western countries (as distinct
+from the bazaars of the East) of charging as a
+<a name="46"> </a>rule a uniform price to all customers. If <i>we</i>
+were the
+only people who bought these things, an enterprising
+salesman would be able to charge us very much what
+he chose. He could put up his price, and we would
+hardly be aware of it. And, as by lowering his price he
+could not tempt us to buy any more, price reductions
+would be few and far between. But fortunately there
+are always some people who do know what the price
+is, even when they are buying collars and ties; and who
+will adjust the amount they buy in accordance with the
+price. It is these worthy people who make the laws
+of demand work out as we well know they do. It is
+they who will curtail their consumption if the price has
+fallen and it is they who constitute the seller's problem,
+and help to keep down prices for the rest of us. The
+rest of us&mdash;it is well to be quite blunt about it&mdash;simply
+do not count in this connection. We have no cause
+then to plume ourselves that we have disproved the
+truth of economic laws when we declare that we seldom
+weigh the utility of anything against its price. All
+that this shows is that our actions are too insignificant
+to be described by economic laws since they exert no
+appreciable influence on the price of anything. And
+this in turn shows the extreme importance of grasping
+clearly the conception of the margin. Just as it is
+the marginal purchase, so it is the marginal purchaser
+who matters. It is the man who, before he buys a
+motor bicycle, weighs the matter up very carefully
+indeed and only just decides to buy it, whose demand
+affects the price of motor bicycles. It is the utility
+which <i>he</i> derives that constitutes the marginal utility,
+which is roughly measured by the price.
+</p>
+<a name="47"> </a>
+<p>As to the housewife, I am not prepared to concede
+that my picture is in essentials very fanciful. She may
+be a creature of habits and instincts like the rest of
+us, but most habits and instincts affecting household
+expenditure are based ultimately on <i>some</i> calculation,
+if not one's own, and reason has a way of paying, as
+it were, periodic visits of inspection, and pulling our
+habits and instincts into line, if they have gone far
+astray. I am not satisfied that the housewife does not
+envisage the utility of a sixth pound of sugar as something
+distinct from the utility of the other five; she
+may buy it, for example, with the definite object of
+giving the children some sugar on their bread, and she
+may have a very clear idea as to the price which sugar
+must not exceed before she will do any such thing.
+Possibly I may exaggerate. I have the profound
+respect of the incorrigibly wasteful male for the care
+and skill she displays in laying out her money to the
+best advantage.
+</p>
+<p>
+&sect;5. <i>The Business Man as Purchaser.</i> But if the reader
+still finds the picture unconvincing, let us shift the
+scene from domestic economy to commerce, and substitute
+for the careful housewife an enterprising business
+man. Now, as anyone who has a business man for his
+father will have often heard him say, the vagueness and
+caprice which characterize our personal expenditure
+would be quite intolerable in business affairs. There
+you must weigh and measure with the utmost possible
+precision. You must be for ever watching the several
+channels of your expenditure, careful to see that in
+none does the stream rise higher than the level at which
+<a name="48"> </a>further expenditure ceases to be profitable. You
+will
+not even engage typists or install a telephone in your
+office without weighing up fairly carefully the number
+of typists or the number of switches that it is worth
+your while to have. And in deciding whether to employ
+say, five typists, or six, you will not vaguely lump the
+services of the whole six typists together, and consider
+whether as a whole they are worth to you the wages
+you must give them. You will, in the most direct and
+literal manner, weigh up the <i>additional</i> benefit you
+would derive from a sixth typist, and if that does not
+seem to you equivalent to her wage, you will not engage
+her, however essential it may be to you to have one or
+two typists in your office. If on the other hand, the
+utility of having a sixth typist seems to you worth
+much more than her pay, the chances are that you will
+be well advised to consider the employment of a seventh.
+And so, where you stop employing further typists,
+the utility to you of the last one, of the "marginal
+typist" as it were, is unlikely to differ greatly from her
+pay.
+</p>
+<p>
+Now this is not a fancy picture of some remote
+abstraction called an "economic man." Allowing for
+the over-emphasis which is necessary to drive home the
+central point, it is a bald account of the aims and
+methods of the actual man of business. To ascertain
+the margin of profitable expenditure in each direction,
+to go thus and no further, is the very essence of the
+business spirit, as the business man himself conceives
+it. When he condemns the extravagance of Government
+departments, it is their lack of just this marginal
+sense that he chiefly has in mind. "The lore of nicely
+<a name="49"> </a>calculated less or more" may be rejected by High
+Heaven and Whitehall, but no one can afford to despise
+it in the business world.
+</p>
+<p>
+The transition from household to business expenditure
+involves an extended use of the word utility, which
+is worth noting. Commodities like bread, sugar, or
+privately owned motor-cars are sometimes called
+"consumers' goods" in contrast to "producers' goods,"
+which comprise things such as raw materials, machinery,
+the services of typists and so forth, which are
+bought by business men for business purposes. The
+line of division between the two classes is not a sharp
+one, and we need not trouble with fine-spun questions
+as to whether a particular commodity should in certain
+circumstances be included under the one head or the
+other. But, broadly speaking, things of the former
+type yield a direct utility; they contribute directly to
+the satisfaction of our pleasures or our wants. Things
+of the latter type yield rather an indirect utility. Their
+utility to the business man who buys them lies in the
+assistance they give him in making something else from
+which he will derive a profit. The utility of these
+things is therefore said to be <i>derived</i> from that of the
+consumers' goods or services to which they ultimately
+contribute. This conception of derived utility leads to
+certain complications which we shall have to notice
+later.
+</p>
+<p>
+&sect;6. <i>The Diminishing Utility of Money</i>. But one
+important point must be emphasized in this chapter.
+The utility which a business man derives from the
+things which he buys for business purposes is the extra
+<a name="50"> </a>receipts which he obtains thereby. Derived utility,
+in other words, is expressed in terms of money, and the
+idea of its relation to price presents no difficulty. But
+the utility of things which are bought for personal
+consumption means the <i>satisfaction</i> which they yield,
+and this is clearly not a thing which is commensurable
+with money. When, therefore, it is said that the prices
+measure their respective marginal utilities, what exactly
+is meant? What was it that the argument of &sect;3 went
+to show? That the utility of the marginal pound of
+sugar would seem to the housewife just worth the price
+that she must pay for it; in other words, that it would
+be roughly equal to the utility she could obtain by
+spending the money in other ways. The respective
+marginal utilities which <i>she</i> obtains from the different
+things she buys will thus be proportionate to their
+prices. But if she were to receive a legacy which gave
+her a much larger income to spend, she might buy
+larger quantities of practically every commodity; and,
+though she would obtain a greater total utility thereby,
+the marginal utility she would obtain in each direction
+would be smaller, in accordance with the law of diminishing
+utility. The prices might not have changed;
+the respective marginal utilities to her of the different
+things would again be proportionate to their prices,
+but they would constitute a smaller satisfaction than
+before.
+</p>
+<p>
+Thus we can only say that the prices of commodities
+will be proportionate to their real marginal utilities,
+when we are considering the different purchases of
+one and the same individual. The amounts of money
+which different people are prepared to pay for different
+<a name="51"> </a>consumers' goods are no reliable indication
+of the real utilities, the amounts of human satisfaction
+which they yield. Here we must take account not
+only of varying needs and capacities for enjoyment,
+but of the very unequal manner in which purchasing
+power is distributed among the people. The cigars
+which a rich man may buy will yield him an immeasurably
+smaller satisfaction than that which a poor family
+could obtain by spending the same amount of money
+on boots, or clothes or milk. When, therefore, we
+compare commodities which are bought by essentially
+different consuming publics, their respective prices may
+bear no close relation to their <i>real</i> utility, whether
+marginal or otherwise. Thus the law of diminishing
+utility applies to money or purchasing power, as well
+as to particular commodities. The more money a
+man has the less is the marginal utility which it yields
+him; and, where the marginal utility of money to a
+man is small, so also will be the real marginal utility
+he derives in each direction of his expenditure. The
+extreme inequality of the distribution of wealth gives
+immense importance to this consideration. Its practical
+implications will be discussed in Chapter V. Meanwhile,
+we may express the conclusions of the present
+chapter by the statement that the price of a commodity
+tends to equal its marginal utility, <i>as measured in terms
+of money</i>, i.e. relatively to the marginal utility of money
+to its purchaser.
+</p>
+<a name="52"> </a>
+<h3 class="chap_head"><a name="Chapter_IV"></a>Chapter IV</h3>
+<h3 class="chap_name">Cost and the Margin of Production</h3>
+<p>
+&sect;1. <i>An Illustration from Coal</i>. We have already
+had occasion to note the symmetry which characterizes
+the relations of demand and supply to price. This
+symmetry was apparent throughout the argument
+of Chapter II, and it was a striking feature of the
+diagrams which we employed to illustrate the argument.
+We shall do well to cultivate a lively sense of this
+symmetry, for it will frequently save us from ignoring
+factors which have a vital bearing on the problems
+we are considering. We should never leave an important
+feature of demand without turning to see whether
+it has a counterpart on the supply side, though indeed
+we may not always find one. In the last chapter we
+examined the relation between utility and price, and
+found that the true relation was between the price and
+what we termed the marginal utility. Corresponding
+to utility on the demand side is cost of production
+on the supply side. The question should thus at once
+suggest itself&mdash;"Can we speak appropriately of the
+marginal cost of production, and will this serve to
+make clear the relation between cost and price?" To
+answer these questions, let us take one of the instances
+in which we found that price could not be
+explained satisfactorily by the bare phrase "cost of
+production."
+</p>
+<a name="53"> </a>
+<p>An important feature of the coal industry, which
+recent events have brought into sharp prominence,
+is the great diversity of conditions between different
+coalfields and different collieries. We speak of rich
+seams and poor seams, of fertile and unfertile mines,
+and we are aware that the costs of raising coal to the
+surface differ very widely in accordance with these
+diverse natural conditions. Nor must we confine our
+attention to the cost price at the pit-head. If we wish
+to speak of cost of production as a factor determining
+price, we must use the term in a broad sense to include
+the transport and other charges necessary to bring
+the coal to market.
+</p>
+<p>
+In this respect also one coalfield differs greatly from
+another. Some are well situated close to a large market,
+or within easy reach of the seaboard; others must
+incur very heavy transport charges to bring their coal
+to any considerable centre of consumption. These
+varying conditions lead, as we well know, to great
+variations in the financial prosperity of different colliery
+concerns. In Great Britain, under the abnormal
+conditions which prevailed during the war, and subsequently,
+these variations were so huge as to constitute
+a most formidable embarrassment and to contribute,
+more perhaps than any other single factor, to the
+unrest and instability by which the industry has been
+afflicted. But they are always with us, if usually upon
+a more modest scale.
+</p>
+<p>
+What, then, is the normal relation between price and
+cost in the case of coal? Should we direct our attention
+to the average costs over the whole industry, or the
+costs incurred by the richer and better situated mines,
+<a name="54"> </a>or, lastly, that of the poorer and worse situated?
+Now, as things are, it is clear enough that no concern
+will continue indefinitely producing at a loss. It may
+do so for a time, rather than close down altogether,
+hoping to recoup itself later when the market has
+taken a more favorable turn. But, in the long run,
+taking good years with bad, it must expect to obtain
+receipts sufficient not only to cover its necessary
+expenditure, but to provide also a reasonable profit
+on the capital employed. Of course, once the capital
+has been sunk and embodied in plant and buildings,
+which are of little use for any other purpose, a business
+may continue for many years, with a rate of profit
+far below what it had anticipated. But plant and
+buildings gradually wear out, and need to be replaced;
+the course of technical improvement calls continually
+for fresh capital outlay, which a business in a bad way
+is reluctant to undertake. The tendency, therefore,
+when profits rule low over a considerable period, is
+for the plant to fall gradually into disrepair and
+obsolescence, and finally for the business to disappear.
+We can thus include an ordinary rate of profit under the
+head of cost of production, and say with substantial
+accuracy that for no business can this cost for long
+exceed the price if the business is to continue to exist.
+If then the relatively poor and badly situated mines
+are to be worked, the price of coal, taking good years
+together with bad, must cover the costs at which these
+mines can produce. If the price rules lower than this,
+sooner or later they will close down, and we will be left
+with a smaller number of mines, among which great
+variations of conditions will still prevail. Once more,
+<a name="55"> </a>the price must cover the cost incurred by the least
+profitable of these remaining mines, unless their number
+is still further to be diminished. Thus we can conceive
+of a "margin of production" which will shift backwards
+to more profitable or forwards to include less profitable
+mines, according as the demand for coal contracts
+or expands. But, wherever this margin may be, there
+is no escaping the conclusion that it is the cost of
+production of the "marginal mines," of those that is
+to say which it is only just worth while to work, to
+which the price of coal will approximate.
+</p>
+<p>
+It follows that there is no real connection between
+price and cost of production throughout the industry
+as a whole. It follows incidentally that those concerns
+which can market their coal at an appreciably lower
+cost than the marginal concerns, are likely to reap
+more than an ordinary rate of profit, though royalties
+may absorb part of the excess.
+</p>
+<p>
+&sect;2. <i>The Various Aspects of Marginal Cost</i>. This
+relation cuts much deeper than the particular system
+under which the mines are at present owned and worked.
+If, for instance, we supposed that the various mines
+were amalgamated together in a few giant concerns,
+each of which comprised some of the richer and some
+of the poorer mines, the preceding argument would
+need to be recast in form, but its substance would be
+unaffected. For though a great coal trust could in a
+sense <i>afford</i> to sell at a price lower than the marginal
+cost, setting its losses on the poorer against its gains
+on the better pits, is it likely it would do so? Why
+should it dissipate its profits in this way? It is clearly
+<a name="56"> </a>more reasonable to suppose that it would close down
+the poorer pits (unless it could advance the price of
+coal), and thereby maintain its profits at a higher figure.
+If, indeed, the mines were nationalized the deliberate
+policy might be pursued of selling coal at a price which
+left the industry no more than self-supporting as a
+whole. Some coal might thus be sold at less than its
+cost price, and the selling price would conform roughly
+to the <i>average</i> cost. But such a policy, though in special
+circumstances it might be justified, would represent a
+very dangerous principle, which could not be applied
+widely without the most serious results. Nothing
+could be more fatal to any enterprise, whether it be
+in the hands of an individual, a joint-stock company,
+a State department, or a Guild, than that the management
+should content themselves with results which
+in the lump seem satisfactory, and regard losses
+here or there with an indifferent eye. That way lies
+stagnation, waste, progressive inefficiency and ultimate
+disaster. To inquire searchingly into every nook and
+cranny of the business, to construct, as it were, for
+each part a separate balance-sheet of profit and loss,
+to expand in those directions where further development
+promises good results, and to curtail activity
+where loss is already evident, is the very essence of good
+management. Here, it will be observed, we are using
+language very similar to that in which we described
+the principles which govern a business man's expenditure.
+The resemblance is inevitable and significant, for
+we are dealing here with what is essentially another
+aspect of the same thing. The object is to secure that
+nowhere does expenditure fail to yield a commensurate
+<a name="57"> </a>return. This we express, when we consider a business
+in
+its aspect as a consumer, by saying that its consumption
+of anything will not be carried beyond the point at
+which the marginal utility exceeds the price it will
+have to pay. When we consider it as a producer, we
+say that its production of anything will not be carried
+beyond the point at which the marginal cost exceeds
+the price it will obtain.
+</p>
+<p>
+&sect;3. <i>The Dangers of Ignoring the Margin</i>. This at least
+is the general rule. A business may decide deliberately
+to sell part of its output below cost, because, for instance,
+this will serve as an advertisement, bring it connections,
+and enable it to obtain a larger profit at a later
+date, or immediately on other portions of its sales. In
+so acting, it recognizes that the price obtained for a
+thing may be an inadequate measure of the real return
+it yields. In the same way, though for different reasons,
+a nationalized coal industry might conceivably be
+justified in selling some coal below cost price, because,
+let us say, it held that the price which the
+immediate purchasers were willing to pay was an
+inadequate measure of the utility of coal to the community
+as a whole. But in all such cases it is essential
+to be very clear as to what exactly you are doing; so
+that you may be at least moderately clear as to whether
+the policy is well advised. It may be sound enough to
+lose on the swings and make good this loss on the
+roundabouts, but only if your loss on the swings <i>helps</i>
+you to a larger profit on the roundabouts. If you
+would get the same return on the roundabouts in any
+case, it would be better to cut the swings out altogether.
+<a name="58"> </a>So, if you are directing the policy of a
+nationalized coal
+industry, and decide to make a loss on a portion of
+your sales, you will need to know that the indirect
+benefit which the community will derive from this
+particular part of your coal output is worth the loss
+which you incur. You will certainly come to grief, if
+you pursue a vague ideal of lumping all results together,
+and regarding a profit somewhere as a sufficient excuse
+or a positive reason for making a loss elsewhere.
+</p>
+<p>
+It is quite true that in big undertakings, where there
+are large standing charges, and where the organization
+possesses some of the characteristics of an integral
+whole, it is not easy to measure accurately the specific
+costs which should be assigned to any particular
+portion of the output. But this difficulty is one of the
+most serious weaknesses of large undertakings; precise
+detailed measurement is the great prophylactic of
+business efficiency, and, where it is lacking the bacilli
+of waste will enter in and multiply. So clearly is this
+recognized, that the development of large scale business
+has led to the evolution of new methods of accountancy,
+designed to make detailed mensuration possible. We
+have most of us heard of them vaguely under such
+names as "comparative costings," but too few of us
+appreciate their full significance. It is hardly too
+much to say that the issue as to whether the size of the
+typical business unit will continue to become larger and
+larger, or whether it has already overshot the point of
+maximum efficiency will turn largely upon the capacity
+of accountancy to supply large and complex undertakings
+with more accurate instruments of detailed
+financial measurement.
+</p>
+<a name="59"> </a>
+<p>&sect;4. <i>A Misinterpretation</i>. The price, then, of a
+commodity
+tends roughly to equal its marginal cost of
+production; and this marginal cost (in perfect symmetry
+with what we observed as regards marginal
+utility), may be conceived as applying either to the
+marginal producer or to the marginal output of any
+producer. In the former aspect it is open to a misinterpretation,
+against which it will be well to guard.
+Some advocates of socialism have argued, as one of the
+counts in their indictment of the present industrial
+system, that the price of a commodity is determined by
+the cost at which the least efficient concern in the
+industry can produce. They say, in effect, "Under
+the present competitive regime, you have to pay for
+everything you buy a price which far exceeds the
+necessary cost to a concern which is managed with
+ordinary ability. For, as economic theory has shown,
+it is the cost of the <i>marginal</i> concern, i.e. the concern
+managed by the most incompetent, and half-witted
+fellow in the trade; it is the cost incurred by him,
+together with a profit on his capital, that the price has
+got to cover. The producer of no more than average
+capacity is therefore making out of you a surplus profit,
+which would be quite unnecessary in any well-arranged
+society." Such an argument is a gross caricature of
+the marginal conception. The half-witted incompetent
+will, as we know well enough, speedily disappear under
+the stress of competition, and his place will be taken
+by more efficient men. There is an essential difference
+between him and the "marginal coal mine" of which
+we spoke above. For the probabilities are that of the
+coal resources, whose existence is clearly known, the
+<a name="60"> </a>more fertile and better situated parts will already
+be in
+process of exploitation; and there is not likely, therefore,
+to be a supply of substantially better seams which
+can be substituted for the worst of those in actual use.
+There <i>is</i> likely, on the other hand, to be available a
+supply of decent business capacity which can be substituted
+for the most inefficient of existing business men.
+The marginal concern, in other words, must be conceived
+as that working under the least advantageous
+conditions in respect of the assistance it derives from
+the strictly limited resources of nature, but under
+average conditions as regards managerial capacity and
+human qualities in general. Thus in agriculture we can
+speak of a marginal farm, which we should conceive as
+the least fertile and worst situated farm which it is just
+worth while to cultivate (of which more will be said
+when we come to the phenomenon of rent), but we
+must assume it to be cultivated by a farmer of average
+ability.
+</p>
+<p>
+&sect;5. <i>Some Consequences of a Higher Price Level</i>. The
+foregoing controversy will be of service to us, if it
+makes clear the manner and the spirit in which the
+marginal conception should be handled. It should be
+regarded not as a rigid formula which we can apply
+to diverse problems without considering the special
+features they present, but rather as a signpost which
+will enable us to find our way, a compass by which we
+may steer between the shoals of triviality and sophistry
+to the crux of any problem with which we have to deal.
+Let us illustrate its practical uses by an example which
+is of great interest and far-reaching practical importance
+<a name="61"> </a>at the present day. As has been already observed,
+the
+war has left behind it in all countries a great and almost
+certainly permanent increase in nominal purchasing
+power. Since the armistice prices have moved upwards
+and downwards with unprecedented violence; and it
+would be very rash to prophesy the precise level at
+which they will ultimately settle (using that word with
+considerable relativity). But, for reasons for which the
+reader is referred to Volume II in this series, it is safe
+enough to say that the general level of post-war will
+greatly exceed that of pre-war prices. Now this will
+apply not only to consumers' goods like milk and
+clothes, or to raw materials like pig-iron and cotton,
+but in very much the same degree to things like
+factories and machinery. Things of this last type are
+sometimes called "capital goods," because it is in them
+that a large part of the capital of a business is embodied.
+Now the fact that it will cost much more than it did
+before the war to construct fresh capital goods, has a
+significance which very few people appreciate. An
+existing factory cost, let us say, $500,000 to build and
+equip with machinery before the war. To construct a
+similar factory to-day would cost, let us assume (it
+is probably a moderate assumption) $1,000,000. Suppose
+10 per cent to be the gross profit that is necessary
+to attract capital to the particular industry. Then it
+will not pay to construct this new factory unless the
+trade prospects point to the probability of a profit of
+about $100,000 per annum. But if the old factory is
+equally well managed, it too should be able to earn this
+$100,000, which upon the capital actually sunk would
+represent a rate of 20 per cent. The particular figures
+<a name="62"> </a>given are, of course, purely illustrative; the
+conclusion
+to which they point is that, if new enterprises
+are to be undertaken, pre-war enterprises are likely to
+yield a rate of profit, on their fixed capital at least,
+increased in rough proportion to the price-level. Of
+course, in years when trade is bad, the factory which
+dates from pre-war times will not earn a profit of this
+kind, it may very likely make an actual loss. At those
+times it is very certain that few new factories will be
+erected. But it is difficult to reconcile a condition of
+trade activity, in which the constructional industries
+are busily employed, with a rate of profit to pre-war
+businesses on the fixed part of their capital of a lesser
+order of magnitude than has been indicated. It makes
+no difference, it should be observed, whether we suppose
+the new enterprises to take the form of starting of
+new concerns or extending old ones; in neither case
+will they be undertaken, unless there is reason to
+expect an adequate return on the capital which they
+require at post-war constructional prices. High profits
+(taking always good years together with bad) on capital
+sunk before the war in buildings and machinery are
+thus a likely consequence of an increase in the price-level.
+</p>
+<p>
+This fact is, indeed, the counterpart or complement
+of another phenomenon with which we are more
+familiar. While prices are actually rising, profits, as we
+have come to recognize, necessarily rule high, because
+every trader or manufacturer is constantly in the
+position of selling at a higher price-level, stock which
+he purchased, or goods made from materials which he
+purchased at a lower level. He thus acquires an abnormal
+<a name="63"> </a>profit on his circulating capital, which is
+essentially similar to the profit on fixed capital, which
+we have just examined. The difference is that the
+former profit is crowded into the years when prices are
+actually on the increase, and thus is very noticeable
+indeed; while the latter profit continues to accrue in
+smaller instalments after prices have settled down, as
+it were, at the higher level, and is not exhausted until
+the buildings and machinery have become obsolete.
+But the two profits are essentially similar, and in the
+long run should be commensurate. In the one case,
+stock can be sold for a large profit, because it cannot
+be replaced except at a higher price; in the other case,
+plant and buildings yield a higher income because <i>they</i>
+cannot be replaced except at a higher price. Indeed,
+if the owners choose, the plant and building can, like
+the stock, be sold at their appreciated value, as has been
+widely done by the owners of cotton mills in Great
+Britain since the armistice.
+</p>
+<p>
+There is nothing in these considerations that should
+surprise us, or even shock our moral sense. For what
+they have indicated is an increase of money profits in
+rough proportion to the price-level, so that the aggregate
+profits will represent about as much real income as
+before.[<a href="#63f1">1</a>] The conclusion therefore amounts to no
+more
+than this, that you cannot alter fundamentally the
+distribution of wealth between labor and capital by
+merely inflating the currency, or otherwise juggling
+<a name="64"> </a>with the price-level. And this is only what we
+should
+expect, if there are any laws of distribution of sufficient
+importance and permanence to justify the many volumes
+which have been devoted to them.
+</p>
+<p class="footnote">
+<a name="63f1">[1]</a> Assuming that the rate of interest has remained
+unaltered.
+In fact it has greatly increased since pre-war days, and this points
+to a still further increase of money profits, and an increase in the
+real income which they represent. See Chapter VIII, p. <a href="#138">138</a>.
+</p>
+<p>
+But this somewhat tame conclusion does not make
+it any less important to grasp clearly the significance
+of the appreciation in the value of capital goods. A
+failure to realize it lies at the root of our bewildered
+muddling of many crucial problems of the day. In
+the matter of housing, for instance, we know we cannot
+build houses at less than two or three times their prewar
+cost, and yet we cannot endure to see the owners
+of pre-war houses obtaining a commensurate increase
+of rent. And so, in Great Britain, we pass Rent Restriction
+Acts, and Housing Acts, and then, in a fit of
+economy we suspend the latter, and let the former
+stand, while the housing shortage becomes steadily more
+acute. When we hand the railways back from State
+control to private hands, our horror at the idea of the
+companies receiving larger money profits than they did
+before the war leads us to lay down principles for the
+fixing of fares and freight charges, which take no
+account of post-war construction costs; and then, in
+alarm lest we may have thereby made it unprofitable
+for the companies to spend a single penny of fresh
+capital upon further development, we seek to provide
+for capital expenditure by cumbrous and dubious
+expedients. Doubtless we shall muddle through somehow
+with such policies: and, public opinion being what
+it is, they may perhaps have been about the best
+policies that were practicable. But the problems would
+have been easier to handle, if the public generally were
+<a name="65"> </a>a little less disposed to think in terms of
+averages, and
+a little more in terms of margins, if we all of us instinctively
+realized that the cost that really matters is the
+cost at which additional production is profitable under
+the conditions ruling at the time, or in the immediate
+future.
+</p>
+<p>
+&sect;6. <i>General Relation between Price, Utility and Cost</i>.
+Let us conclude this chapter by summing up the conclusions
+which have emerged as to the relations of
+utility and cost to price.
+</p>
+<p>
+The price of a commodity is determined by the conditions
+of both supply and demand; and neither can
+logically be said to be the superior influence, though
+it may sometimes be convenient to concentrate our
+attention on one or other of them. The chief factor on
+which the conditions of demand depend is the utility
+(as measured in terms of money). The chief factor
+on which the conditions of supply depend is the cost
+of production (again as measured in terms of money).
+The prevailing trend towards an equilibrium of demand
+and supply can thus be expressed as follows:&mdash;
+</p>
+<div class="law">
+VI. A commodity tends to be produced on a scale
+at which its marginal cost of production is
+equal to its marginal utility, as measured in
+terms of money, and both are equal to its
+price.
+</div>
+<a name="66"> </a>
+<a name="Chapter_V"></a>
+<h3 class="chap_head">Chapter V</h3>
+<h3 class="chap_name">Joint Demand and Supply</h3>
+<p>
+&sect;1. <i>Marginal Cost under Joint Supply</i>. Several references
+have been made above to joint products, a relation
+which it will be convenient now to describe as that
+of Joint Supply. Our sense of symmetry should make
+us look for a parallel relation on the side of demand; and
+it is not far to seek. There is a "joint demand" for
+carriages and horses, for golf clubs and golf balls, for
+pens and ink, for the many groups of things which we
+use together in ordinary life. But the most important
+instances of Joint Demand are to be found when we pass
+from consumers' to producers' goods. There, indeed,
+Joint Demand is the universal rule. Iron ore, coal and
+the services of many grades of operatives are all jointly
+demanded for the production of steel; wool, textile
+machinery and again the services of many operatives
+are jointly demanded for the production of woollen
+goods (to mention in each case only a few things out
+of a very extensive list). Now we have already noted
+that, when commodities are jointly supplied, there is
+an obvious difficulty in allocating to each of them its
+proper share of the joint cost of production. There is
+a similar difficulty in estimating the utility of a commodity
+which is demanded jointly with others. Thus,
+the utility of wool is derived from that of the woollen
+goods which it helps to make. But the utility of the
+factories, the machinery and the operatives employed in
+the woollen and worsted industries is derived from precisely
+<a name="67"> </a>the same source. How much, then, of the utility of
+woollen goods should be attributed to the wool and how
+much to the textile machinery? Can we make any sense
+of the notion of utility as applying to one of these things,
+taken by itself? And, if not, how can we explain the
+price of a thing like wool in terms of utility and cost,
+since we cannot disentangle its cost from that of mutton,
+nor its utility from that of a great variety of other things?
+</p>
+<p>
+Here the conception of the margin enables us to
+grapple with a problem which would otherwise be
+insoluble. For, while it is impossible to separate out
+the total utility and cost of wool, it is not impossible
+to disentangle its marginal utility and its marginal cost.
+The proportion in which wool and mutton are supplied
+cannot be radically transformed; but it can be varied
+within certain limits, by rearing, for instance, a different
+breed of sheep. Variations of this kind have been an
+important feature of the economic history of Australasia,
+where sheep farming is the leading industry. Before
+the days of cold storage, Australia and New Zealand
+could not export their mutton to European markets,
+though they could export their wool. Wool was accordingly
+much the most valuable product; the mutton was
+sold in the home markets, where, the supply being very
+plentiful, the price was very low. In the circumstances,
+the Australasian farmers naturally concentrated on
+breeding a variety of sheep whose wool-yielding were
+superior to their mutton-yielding qualities. The
+development of the arts of refrigeration led in the
+eighties to an important change. It became possible to
+obtain relatively high prices for frozen mutton in overseas
+markets. There was, therefore, a marked tendency,
+<a name="68"> </a>especially in New Zealand, to substitute, for the
+merino,
+the crossbred sheep which yields a larger quantity of
+mutton and a smaller quantity of wool of poorer quality.
+Now if we calculate the cost of maintaining the number
+of merino sheep which will yield a given quantity of
+wool, and calculate the cost of maintaining the larger
+number of crossbred sheep which will be required to
+yield the <i>same</i> quantity of wool (allowing for differences
+of quality) the extra cost which would be incurred in the
+latter case must be attributed entirely to the extra
+mutton that would be obtained. This extra cost we can
+regard as constituting the marginal cost of mutton.
+So long as this marginal cost falls short of the price
+of mutton, it will be profitable to extend further the
+substitution of crossbred for merino sheep. The process
+of substitution will in fact be continued until we reach
+the point at which the marginal cost is about equal to
+the price. Similarly by starting with the numbers of
+merino and crossbred sheep which would yield the same
+quantity of mutton, we can calculate the marginal cost
+of wool; and again the tendency will be for this marginal
+cost to be equal to the price.[<a href="#68f1">1</a>]
+</p>
+<div class="footnote">
+<p><a name="68f1">[1]</a> It may be found difficult to grasp this point
+when stated
+in
+general terms. The following arithmetical example may make it
+plainer:&mdash;
+</p>
+<p>
+Suppose a merino sheep yields 9 units of mutton and 10 units of
+wool.
+</p>
+<p>
+Suppose a crossbred sheep yields 10 units of mutton and 8 units
+of wool.
+</p>
+<p>
+Suppose, further, that a merino sheep and a crossbred sheep
+each cost the same sum, say, for convenience, &pound;10, to rear and
+maintain; and that there are no special costs assignable to the
+wool and the mutton respectively, as, of course, in fact there are.
+</p>
+<p>
+Then 10 merino sheep, yielding 90 units of mutton + 100 units<a
+ name="69"> </a>of wool, cost &pound;100; while 9 crossbred sheep,
+yielding 90 units of
+mutton + 72 units of wool, cost &pound;90.
+</p>
+<p>
+Hence you could obtain an extra 28 units of wool for an extra
+cost of &pound;10, by maintaining 10 merino sheep rather than 9
+crossbred
+sheep. The marginal cost of wool is thus &pound; 10/28 per unit.
+</p>
+<p>
+Similarly 8 merino sheep, yielding 72 units of mutton + 80 units
+of wool, cost &pound;80; while 10 crossbred sheep, yielding 100 units
+of
+mutton + 80 units of wool, cost &pound;100.
+</p>
+<p>
+Hence you could obtain an extra 28 units of mutton for an extra
+cost of &pound;20, by maintaining 10 crossbred sheep in place of 8
+merinos.
+The marginal cost of mutton is thus &pound; 20/28 per unit.
+</p>
+<p>
+So long as the price obtainable for wool exceeds &pound; 10/28, and
+that
+obtainable for mutton does not exceed &pound; 20/28 per unit, it will
+pay to
+substitute merino for crossbred; and conversely. If the price of
+wool exceeds &pound; 10/28 and the price of mutton also exceeds &pound;
+20/28, it will
+be profitable to expand the supply of both breeds, until as the
+result of the increased supply, one of the above conditions ceases
+to obtain. Conversely, if the prices of both products are less than
+the figures indicated, sheep farming of both kinds will be restricted.
+The resultant of the processes of expansion or restriction,
+and substitution, will be that, unless one of the breeds is
+eliminated, the prices of mutton and wool will equal their respective
+marginal costs. These marginal costs may, of course, alter
+as the process of substitution extends. For the relative cost of
+maintaining merinos and crossbreds will not be the same for
+every farmer. Here again it is the costs at the "margin of
+substitution"
+that matter.
+</p>
+</div>
+<p>
+&sect;2. <i>Marginal Utility under Joint Demand</i>. On the side
+of demand there exist as a rule similar possibilities of
+variation. <i>Some</i> machinery, <i>some</i> labor, <i>some</i>
+materials
+of various kinds, are all indispensable in the production
+of any manufactured commodity. But the proportions
+in which these factors are combined together can
+be varied, and are frequently varied in practice as the
+result of the ceaseless pursuit of economy by business
+men. To produce pig-iron, you need both coal and
+iron ore; but, if coal becomes more costly, it is possible
+to economize its use. Machinery and labor must be
+<a name="70"> </a>used together, in some cases in proportions which
+are
+absolutely fixed. But there is in nearly every industry
+a debated question as to whether the introduction of
+some further labor-saving machine would be worth
+while, or some improved machine which would represent
+the substitution of more capital plus less labor for less
+capital plus more labor. A farmer can cultivate his
+land, to use a common expression, more intensively or
+less intensively; in other words, he can apply larger
+or smaller quantities of capital and labor (the proportion
+between which he can also vary) to the same
+amount of land. The problem is essentially the same as
+that of the substitution of the crossbred for the merino.
+We can take the various possible combinations of the
+factors of production, and contrast two cases in which
+different quantities of one factor are employed, together
+with equal quantities of the others. The extra product
+which will be yielded in the case in which the larger
+quantity of the varying factor is employed can then be
+regarded as the marginal product (or marginal utility)
+of the extra quantity of that factor; and we can say
+that the employment of this factor will be pushed
+forward to the point where this marginal product
+will be roughly equal to the price that must be paid
+for it. We can thus lay down the most important
+proposition that the relation between marginal utility
+and price holds good generally of the ultimate agents
+of production; that the rent of land, the wages of
+labor, and, we can even add, the profits of capital tend
+to equal their (derived) marginal utilities, or, as it is
+sometimes expressed, their marginal net products.
+</p>
+<p>
+Whenever, therefore, the proportions in which two or
+<a name="71"> </a>more things are produced or used together can be
+varied, the relations of joint supply and joint demand
+are perfectly consistent with a specific marginal cost
+and marginal utility for each commodity.
+</p>
+<p>
+&sect;3. <i>A contrast between Cotton and Cotton-seed, and
+Wool and Mutton</i>. But it sometimes happens that such
+variations cannot be made. Thus, it has not been
+found possible (so far as I am aware) to alter the
+proportions in which cotton lint and cotton-seed are
+yielded by the cotton plant. Roughly speaking, you
+get about 2 pounds of cotton-seed for every 1 pound of
+cotton lint (or raw cotton), and though this proportion
+may vary somewhat from plantation to plantation, it is
+upon the knees of the gods, and not upon the will of the
+planter that the variation depends. We cannot, therefore,
+speak with accuracy of the separate marginal costs
+of raw cotton and cotton-seed. It is true that some
+plantations are so far distant from any seed-crushing
+mill that it is not worth while to sell the seed as a
+commercial product; and it might seem, therefore,
+as though we might regard the entire costs of cotton
+growing on <i>such</i> plantations as constituting the marginal
+costs of raw cotton. But planters, so situated,
+derive a considerable value from their cotton-seed by
+using it as fodder for their live stock or as a manure.
+You can, of course, argue that proper allowance is
+automatically made for this factor, as a deduction from
+the costs of raw cotton, when you add up the expenses
+of the plantation. In the same way you can deduct the
+price which a planter who sells his cotton-seed obtains
+for it, from the total costs of the plantation, and call the
+<a name="72"> </a>remainder the costs of the raw cotton. But this is
+really to reason in a circle. For in either case the
+magnitude of the deduction depends on the marginal
+utility of the cotton-seed. And the notion of the cost
+of anything becomes blurred and blunted if we so use
+it that it must be deduced from the utility of something
+else, which is not an agent in the production of the
+thing in question.
+</p>
+<p>
+This point is not merely an academic one. It means
+that we cannot explain the <i>relative</i> prices of cotton
+lint and cotton-seed in terms of cost at all, whether
+marginal or otherwise. The influence of cost will be
+confined to the <i>sum</i> of the prices of the two things.
+Upon this sum it will exert precisely the same influence
+as it exerts upon price in general, by affecting the total
+quantities of the two things that will be supplied. But
+upon the distribution of this sum between lint and
+seed, cost will exert no influence whatever, because it
+cannot affect the proportions in which they are supplied.
+It may assist some readers if I state the matter in more
+concrete terms. Cost of production will be one of the
+factors which will result in the production of an annual
+cotton crop in the United States of, let us say, 10 million
+tons of seed cotton. This crop will yield roughly 6-2/3
+million tons of cotton-seed, and 3-1/3 million tons (or
+rather more than 13 million bales) of lint. The combined
+price received by the planter of (let us say) 14.4
+cents for 1 pound of lint plus 2 pounds of seed should
+correspond roughly to the marginal joint costs of production.
+But the factor of cost has no influence at all
+in determining that this combined price is made up of
+a price of 12 cents per pound for lint, and only 1.2 cents
+<a name="73"> </a>per pound (or $24 per ton) for cotton-seed. To
+account
+for this we must rely entirely upon demand. We can
+say, shortly, that the respective prices must be such as
+will enable the demand to carry off 6-2/3 million tons
+of seed, and 3-1/3 million tons of raw cotton. Or we
+can go further and say that the marginal utility of a
+pound of raw cotton, when 3-1/3 million tons are supplied,
+is ten times as great as that of a pound of seed
+when 6-2/3 million tons are supplied.
+</p>
+<p>
+If accordingly the demand for cotton-seed were to
+expand considerably owing, say, to the discovery of
+some new use for the oil, which is its most valuable constituent;
+the effect would be first a rise in the price of
+cotton-seed, and, subsequently, by stimulating cotton
+growing, a more plentiful supply and a lower price for
+raw cotton. And so far at least as the increased supply
+is concerned, this must necessarily be the effect, "other
+things being equal"; though, to be sure, it might be
+outweighed and obscured by other influences such as the
+boll-weevil. But it is <i>not</i> the case that an increased
+demand for mutton must necessarily increase the supply
+or lower the price of wool; and it is most unlikely
+to do so in any similar degree. For, here, the separate
+marginal costs of the two things exert their influence.
+An increased demand for mutton will stimulate sheep
+farming, but it will also stimulate the substitution of
+crossbred for merino breeds; and the resultant of these
+two opposite tendencies upon the supply of wool is
+logically indeterminate. As a matter of history we know
+that the development of cold storage in the eighties
+(which we may regard for the present purpose as equivalent
+to an increased demand for Australian mutton)
+<a name="74"> </a>caused considerable perturbation in the woollen and
+worsted industries of Yorkshire. They were faced with
+a dwindling supply and a soaring price of merino wool;
+and the adaptability with which they met the situation,
+and won prestige for the crossbred tops, and yarns and
+fabrics, to which they largely turned is a matter of
+just pride in the trade to-day. The fact, however, that
+this alteration in the supply of wool was a matter not
+only of quantity but of quality, while it takes nothing
+from the substance of the preceding argument, makes
+it difficult to draw a clear moral, bearing on the present
+issue, from this incursion into history.
+</p>
+<p>
+&sect;4. <i>The Importance of being Unimportant</i>. The above
+contrast between cases in which variation is possible,
+and those in which it is not possible, is reproduced with
+a heightened significance when we turn back to joint
+demand. The cases are perhaps less common in which
+it is <i>impossible</i> to alter the proportions in which different
+commodities are jointly demanded, but there are many
+cases in which it is not nearly worth while to do so
+(and this amounts to very much the same thing).
+Cases of this sort are especially likely to occur when we
+are dealing with a commodity which accounts for only
+a tiny fraction of the costs of the industry which is its
+chief consumer. Sewing cotton, for example, is jointly
+demanded, with many other things, by the tailoring
+and other clothing trades; but the money which these
+trades spend on sewing cotton is so small a part of
+their total expenditure, that no ordinary variation in
+its price is likely to make it worth while to study the
+ways and means of using it in smaller quantities. When
+<a name="75"> </a>sewing cotton is bought by the domestic consumer,
+considerations which are fundamentally the same,
+though somewhat different in form, point to a similar
+conclusion. It is thus very difficult to assign to sewing
+cotton a specific marginal utility. This difficulty is of
+great importance in connection with the possibilities
+of monopolistic exploitation. For it means that the
+demand blade of the scissors upon which we rely to cut
+off excrescences of price is blunted, and if accordingly
+the producers constitute a strong enough combination
+to control the supply blade, they will possess an unusual
+power of advancing their selling prices as they choose.
+I am far from suggesting that Messrs. J. &amp; P. Coats
+are to be condemned as an extortionate monopoly.
+On the contrary, during 1919, when the profits in highly
+competitive industries like the main branches of the
+cotton and woollen trades, soared exuberantly, the
+record of this concern seems to me one of distinct
+moderation. But the present point is that they possess
+an exceptional <i>power</i> to fix the price of sewing cotton
+as they choose, and that this is attributable in no small
+degree to the fact that sewing cotton constitutes an
+essential but relatively trifling item in the expenses of
+the processes in which it is employed.
+</p>
+<p>
+Perhaps the point will be made clearer if we turn
+from the selling prices of commercial products, in regard
+to which there is a strong and not ineffective public
+sentiment against "profiteering," to the remuneration
+of different classes of labor. With an instinctive disposition
+towards megalomania, it is often claimed in
+Great Britain that the miners, being a very numerous
+and well-organized body of workpeople, were in a
+<a name="76"> </a>stronger strategic position than most workpeople
+for exacting the remuneration they desire. It is
+quite true that a stoppage of work in the coal industry
+causes us a high degree of inconvenience,
+and temporary concessions may thereby be obtained
+which might otherwise have been refused. But this
+is a dubious advantage, and we grossly exaggerate
+its real importance. The truth is that the strategic
+position of the miners in regard to wages questions is
+by no means strong. For their wages constitute a very
+large percentage of the cost of coal; and the price of coal
+in its turn is a most important element in the costs of
+many of the industries which are its principal consumers.
+Great Britain, moreover, is far from possessing
+a monopoly of coal. If, accordingly, the wages of the
+miners are temporarily pushed up to a high point, the
+result will certainly be a diminished demand for British
+coal, which will lead before long to their fighting a losing
+battle to maintain the concessions they have won.
+Contrast their position with that of the steel smelters,
+whose wages (high though the wage rates are) constitute
+a very small percentage of the costs of steel production,
+and we must agree I think that we have in this distinction
+the main reason why the steel smelters, though
+they hardly ever go on strike, have as a rule been
+able to do so much better for themselves than the
+miners.
+</p>
+<p>
+When a commodity or service is such that an appreciable
+alteration in its price has only a slight effect upon
+the quantity demanded, the demand is said to be
+<i>inelastic</i>. Conversely, when a small change in price
+greatly alters the quantity demanded, we call the
+<a name="77"> </a>demand <i>elastic</i>. In the former case, it is
+worth nothing,
+a larger aggregate sum of money will be spent upon the
+thing when its price is high than when it is low, while
+the opposite is true in the latter case. This distinction
+is of considerable importance in connection with many
+problems (e.g. of taxation); and the terms, elastic
+demand and inelastic demand, are worth remembering.
+We may thus express the above conclusions by saying
+that the demand for sewing-cotton is highly inelastic,
+and that the demand for coal miners is more elastic than
+that for steel smelters.
+</p>
+<p>
+&sect;5. <i>Capital and Labor</i>. Cases in which it is impracticable
+to make any variation in the proportions in
+which different things are used together are, however,
+the exception rather than the rule. Where variation
+is possible, we are confronted with an uncertainty as to
+the way in which an increased supply of one thing will
+react on the demand for another, similar to our uncertainty
+as to whether an increased demand for mutton
+would augment or diminish the supply of wool. It is,
+for instance, of the highest importance to give a clear
+answer, if we can, to the question whether an increased
+supply of capital will increase the demand for labor.
+The chief effect of an increased supply of capital is to
+facilitate the extended use of expensive machines: to
+some extent these machines will increase the demand
+for labor; to some extent they will be substituted for
+it. Which of these two tendencies will outweigh the
+other we cannot be absolutely sure. But fortunately
+we can be far more nearly sure than was possible in the
+analogous case of wool and mutton. An increase in the
+<a name="78"> </a>supply of capital increases the demand for the
+commodities,
+from which the demand for labor is derived,
+in both the senses discussed in Chapter II. First it
+makes them cheaper to buy, and thus increases the
+quantity that will be bought. It is this that is parallel
+to the effect of an increased demand for mutton in
+making it more profitable to breed sheep. But it also
+serves to increase the purchasing power with which to
+buy commodities, because it increases the aggregate
+real wealth of the community, and it thus serves to
+raise the whole demand curve. This last consideration
+is so important as to make it overwhelmingly probable,
+apart from the evidence of history, that an increase in
+the supply of capital (and the same may be said of an
+increase in the supply of the other agents of production)
+will on balance increase the demand for labor. The
+evidence of history points to the same conclusion. The
+history of the last hundred years displays an unprecedented
+accumulation of capital, and an unprecedented
+extension of machinery, associated with an unprecedented
+improvement in the standard of living throughout
+the whole community. This is powerful testimony
+in favor of the view that an increase in the supply of
+capital and the use of machinery will usually enhance on
+balance the demand for labor. Moreover, though this
+is not conclusive, there is little room for doubt that an
+obstructive attitude towards the extension of machinery
+in a particular country, or a particular district, is misguided.
+For its effect must be to make production
+more costly there than it is elsewhere, and to lead,
+slowly perhaps, but very surely, to the transference of
+the industry to other regions.
+</p>
+<a name="79"> </a>
+<p>&sect;6. <i>Conclusions as to Joint Supply and Joint Demand</i>.
+Here, however, we are beginning to digress. Let us
+sum up in a general form our conclusions as to the way
+in which changes in the supply or demand of a commodity
+react upon the demand or supply of the other things
+with which it is jointly demanded or supplied. Everything
+turns, as we have seen, on the possibility of
+variation in the proportions in which the things are
+used or produced together; and this, it is also clear,
+is a matter of degree. Our conclusions, therefore, had
+best take the following form:&mdash;
+</p>
+<div class="law">
+VII. When two or more things are jointly demanded,
+in proportions which cannot easily be varied, the
+tendency will be for an increase (or decrease) in the supply of
+one of them to increase (or decrease) the demand for the others.
+These results will be more certain, and more marked, the more
+difficult it is to vary the proportions in which the things are used.
+<br>
+<br>
+Similarly, when two or more things are jointly
+supplied, in proportions which cannot easily be varied, the
+tendency will be for an increase (or decrease) in the demand
+for one of them to increase (or decrease) the supply of
+the others. These results again will be more certain and more
+marked, the more difficult it is to vary the proportions in
+which the things are supplied.
+</div>
+<p>
+&sect;7. <i>Composite Supply and Composite Demand</i>. Joint
+Demand and Joint Supply do not complete the list of
+<a name="80"> </a>relations between the demand and supply of different
+things. Between tea and coffee, or beef and mutton
+there is a relation of a different kind. These things are
+in large measure what we call "substitutes" for one
+another. An increased supply, and a lower price of
+mutton, will probably induce us to consume less beef.
+This relation it is convenient to describe as Composite
+Supply. Beef and mutton make up a composite supply
+of meat; tea and coffee a composite supply of a certain
+type of beverage. For any group of things, between
+which the relation of Composite Supply exists, we can
+say, with complete generality, that an increased supply
+of one of them will tend to diminish the demand for
+the others. Parallel to the relation of Composite
+Supply is that of Composite Demand. There are frequently
+several alternative uses in which a commodity
+or service can be employed; and these alternative uses
+make up a composite demand for the thing in question.
+Thus railways, gasworks, private households and a
+great variety of industries contribute to a Composite
+Demand for coal. It is worth noting that there is frequently
+an association in practice between Joint Demand
+and Composite Supply on the one hand; and between
+Joint Supply and Composite Demand on the
+other. Wool and mutton, for instance, we have described
+as an instance of Joint Supply; but, in so far as
+the proportions of wool and mutton can be varied, we
+can regard these things as constituting a Composite
+Demand for sheep. And this conception may help us
+to retain a clearer and more orderly picture of the problems
+we have discussed above. We can regard the fact
+that wool and mutton are produced together as their
+<a name="81"> </a>Joint Supply aspect, and the fact that these
+proportions
+can be varied as their Composite Demand aspect; and
+the question as to whether an increased demand for
+mutton will increase the supply of wool turns upon
+whether the former aspect is more important than
+the latter. Similarly labor and machinery, employed
+together for the same purpose, form an instance of
+Joint Demand; but in so far as they can be substituted
+for one another, they constitute a Composite Supply of
+alternative agents of production.
+</p>
+<p>
+These four relations of Joint Demand, Joint Supply,
+Composite Demand and Composite Supply are well
+worth remembering and distinguishing from one
+another. They are of immense importance in every
+branch of economic affairs. There are hardly any
+economic problems upon which we are fitted to express
+an opinion, unless we have a lively sense of the far-reaching
+ramifications of cause and consequence, of the
+subtle and often unexpected interconnections between
+different industries and different markets. To gape at
+these complexities in a confused stupor is as foolish as
+it is to ignore them. But confusion and stupor are only
+too likely to represent our final state of mind, if we
+attempt to deal with these complications, one by one
+as they occur to us, in a piecemeal and haphazard
+fashion. We need a clear method, a systematic plan
+by which we may search them out, and fit them into
+place. The four relations which we have enumerated
+supply us with such a plan and method. For they
+represent something more than a series of pompous
+names for familiar notions. They constitute a classification
+of the various ways in which the demand and
+<a name="82"> </a>supply of one thing can affect the demand and supply
+of
+others; a classification which is exhaustive when we
+add the relation of derived demand, and an analogous
+relation on the supply side which we must now notice.
+</p>
+<p>
+&sect;8. <i>Ultimate Real Costs</i>. Just as the utility of
+"producers'
+goods" is derived from that of the "consumers'
+goods" which they help to make; so the
+cost of any commodity is derived from the cost of the
+things which help to make it. Moreover, just as we
+recognize that the utility of "consumers' goods" lies
+at the back of all demand, and constitutes the ultimate
+end of all production; so we cannot but feel, however
+obscurely, that behind the phenomena of money costs,
+there must lie certain ultimate costs, of which all money
+costs are but the measure. But when we try to explain
+what the nature of these real costs may be, we are
+plunged in difficulty. Wages, it may indeed seem at
+first sight, present no trouble. There is the effort
+and the fatigue, the unpleasantness of human labor, to
+represent real costs. But can we suppose that these
+things are measured with any approach to accuracy by
+the wages which are paid in actual fact? Is it true,
+even as a broad general rule, that the services which are
+most arduous and most disagreeable command the
+highest price? And wages are not the only ingredient
+of money costs. There are profits: to what real costs
+do profits correspond? More difficult still, to what
+does rent correspond? These plainly are not questions
+upon which he who runs may read. It will be necessary
+to devote the next four chapters to their elucidation.
+</p>
+<a name="83"> </a>
+<h3 class="chap_head"><a name="Chapter_VI"></a>Chapter VI</h3>
+<h3 class="chap_name">Land</h3>
+<p>
+&sect;1. <i>The Special Characteristics of Land</i>. In the great
+process of co-operation by which the wants of mankind
+are supplied, Nature is an indispensable participant.
+She renders her assistance in an infinite variety
+of ways, of which the properties of the soil which
+man cultivates form only one; but the sunshine and
+rain which enable the farmer to grow his crops; the
+coal and iron ore beneath the surface of the earth, can
+be regarded for our present purpose as forming part of
+the land with which they are associated. We can
+thus concentrate upon land as the representative
+of the free gifts of nature, which are of economic
+significance. Land in modern communities is for the
+most part privately owned. It can be bought and sold
+for a price, and acquired by inheritance. Moreover, it
+is a common practice, particularly in the United
+Kingdom, for an owner who does not wish himself to
+cultivate or otherwise use the land, not to sell it to the
+man who does, but to lease it to him for a term of years
+for an annual payment which we term rent. It is therefore
+natural and convenient to envisage the problems,
+which we shall consider in this chapter, as problems
+concerning the price and rent of land. But, once again,
+the laws and principles which we shall state and
+illustrate in terms of the current systems of ownership
+<a name="84"> </a>and tenure, possess a much deeper significance than
+this terminology might suggest.
+</p>
+<p>
+The fact that land is a free gift of Nature distinguishes
+it in various ways from commodities which
+are produced by man. The peculiarities which are most
+important from the economic standpoint are (1) that
+the supply of land is, broadly speaking, fixed and
+unalterable, and (2) that its quality and value vary,
+from piece to piece, with a variation which is immense
+in its range, but fairly continuous in its gradation.
+These are thus two aspects from which the phenomena
+of price and rent can be regarded; aspects which it is
+usual to call, (1) the scarcity aspect, (2) the differential
+aspect.
+</p>
+<p>
+&sect;2. <i>The Scarcity Aspect</i>. The fact that the supply of
+land is fixed has the following significance. If the
+demand for land increases, the price will tend to rise.
+This is also true, for a short period at least, of an
+ordinary commodity. But, in the latter case, there
+would ensue an increase in supply which would serve to
+check the rise in price, and possibly, if production on a
+larger scale led to improved methods of production,
+bring the price down eventually below its original level.
+In the case of land, no such reaction is possible. There
+is nothing, therefore, to restrain the price (and the rent)
+of land from rising indefinitely, and without limit,
+if the demand for it should continue to increase. Conversely,
+if the demand for land falls off, there is nothing
+to check the consequent fall in price and rent. In the
+case of ordinary commodities, the supply would be
+diminished, because most things are either consumed
+<a name="85"> </a>by being used, or wear out in the course of time,
+and
+a regular annual production is therefore necessary to
+sustain their supply at the existing level. But land
+remains, whether it is used or not; and its supply is,
+broadly speaking, just as incapable of being diminished,
+as it is of being increased. Changes in the demand for
+land in either direction are thus likely to affect its price
+in a much greater degree than that in which the price of
+an ordinary commodity will be affected by a corresponding
+change in its demand.
+</p>
+<p>
+For most purposes, however, it is of more interest
+to compare land with other agents of production,
+especially with capital and labor, rather than with
+ordinary commodities. Now, as we have already
+noted, there is some doubt as to the manner in which
+the supply of capital or labor is likely to be affected
+by alterations in demand price. But the supply of
+capital and the supply of labor, even if we suppose
+them to be as entirely unresponsive to price changes as
+is the supply of land, are at any rate not fixed. Not
+only <i>may</i> they vary for many reasons, but they are in
+fact likely to vary in direct proportion to the population.
+An increase in population implies an increase in the
+supply of labor; and it is likely to be accompanied
+by an increase in the supply of capital; in other words,
+the supply of these agents will expand, as the demand
+for them expands. But the supply of land will remain
+what it was. This fact is enormously important in
+connection with the broad problem of population, which
+will form the theme of Volume VI.
+</p>
+<p>
+But it is important also in other connections. It has
+been the dominating factor in many absorbing controversies
+<a name="86"> </a>upon high policy regarding the ownership of
+land, or the taxation of land values, upon which we
+can touch but lightly here. It has seemed to many
+writers a reasonable proposition to lay down, that the
+ordinary course of the progress of society, the increase
+of population and industry, must mean, as a broad
+general rule, a constant increase in the demand for land.
+And, if that be granted, it seems to follow that the
+price and rent of land will tend constantly to increase.
+John Stuart Mill, accordingly, in the middle of the last
+century, asserted that "the ordinary progress of a
+society, which increases in wealth, is at all times tending
+to augment the incomes of landlords; to give them
+both a greater amount and a greater proportion of the
+wealth of the community, independently of any trouble
+or outlay, incurred by themselves,"[<a href="#86f1">1</a>] and upon the
+strength of this assertion, he justified the policy
+of imposing a special tax upon what we have come
+to call the "unearned increment" of land. But how
+far does actual experience bear his assertion out?
+In Great Britain we have seen in the last half-century
+an undoubted increase in urban rents; but over long
+periods at least, there was a marked fall in both the
+prices and rents of agricultural land, despite the
+fact that the country was "increasing in wealth"
+as rapidly as ever before. This was due, of course, in
+the main to the increased supplies of wheat and other
+foodstuffs coming from the New World: and if, accordingly,
+we choose to lump together not only our own
+urban and agricultural land, but the land of other
+countries as well, and to speak vaguely of the demand
+<a name="87"> </a>for land as a whole, it might seem as though we
+could
+argue that Mill's generalization still holds good. But
+even this is by no means certain and in any case such
+a generalization is of very little service: what the
+illustration should rather suggest to us, is the danger
+of speaking of land vaguely as a whole, and the importance
+of turning our attention to the variations in value
+between different kinds and different pieces.
+</p>
+<p class="footnote">
+<a name="86f1">[1]</a><i>Principles of Political Economy</i>, by John
+Stuart
+Mill.
+</p>
+<p>
+&sect;3. <i>The Differential Aspect</i>. Most ordinary commodities
+are not produced on a single, uniform pattern. As a
+rule there are many variations of grade and quality,
+and consequently of price. But these variations are
+usually designed to meet the differences of taste among
+the purchasers, and we do not expect to find that any
+variety of an ordinary commodity will be produced,
+which is so poor in quality as to be entirely valueless.
+But since it is nature which has produced the land,
+without any assistance or guidance from man, there are
+many pieces of land which are so unfertile, or are otherwise
+so unsuitable for productive purposes, as to be
+quite valueless from the economic standpoint. Even
+in a densely populated country like Great Britain, there
+are considerable tracts of land which it is unprofitable
+to employ for any economic purpose whatsoever, and
+which possess no further value than what the mere
+pride of ownership may give them. This fact makes it
+possible to apply the conception of the margin to the
+case of land with particularly illuminating results.
+</p>
+<p>
+In the first place, however, it should be observed
+that the value of any piece of land does not depend
+solely on the intrinsic fertility of the soil. The fact that
+<a name="88"> </a>land is an immobile thing makes its <i>situation</i>
+a factor of
+great importance. In the case of urban land, situation
+is, of course, the only thing that counts. The value of
+a site in Bond Street or the City is entirely unaffected
+by its capacity or incapacity for potato-growing
+purposes. But even for agricultural land, situation is a
+most important matter. A farm, which is so remote
+that considerable transport charges must be incurred
+to bring its produce to market, will be less sought after,
+and less valuable, than one which is much better
+situated though somewhat less fertile. In what follows,
+therefore, we must speak of the "quality" of a piece
+of land in a broad sense to include advantages of
+situation, as well as of fertility. Let us now, imagine
+the different pieces of land in Great Britain to be
+arranged in order of quality, so that we have a long
+series, with land of the best quality at one end, and of
+the poorest quality at the other. At the latter end, we
+will have such land as is found near the top of Snowden
+or Ben Nevis, which it clearly does not pay to cultivate
+at all. Somewhere, then, between these two extremes,
+we shall come to a point where the land is just, but only
+just, worth cultivating, or where, to revert to a form
+of words we previously employed, it is a matter of <i>doubt</i>,
+whether the land is really worth using for a productive
+purpose. Such land we can regard as the "marginal
+land"; and since the variety of nature is at once
+infinite and fairly minutely graduated we shall probably
+find that on one side of this margin there is much land
+which is only slightly superior, and on the other, much
+which is only slightly inferior, to the marginal land
+itself. What, then, is likely to be the value and the
+<a name="89"> </a>rent of this marginal land, this land which is just
+on the
+"margin of cultivation"? Some readers may find the
+answer startling. The rent of the marginal land will
+be nil, because it will not pay to cultivate it, if any
+appreciable rent is charged. A piece of land for which
+it is worth a tenant's while to pay an appreciable rent,
+will not be the marginal land, because there will be land
+just slightly inferior to it which it will also pay to
+cultivate if a somewhat lower rent is charged. And so
+we can pass to poorer and poorer qualities of land,
+with an ever diminishing rent, until at the margin of
+cultivation the derived utility of the land is negligible
+and the rent vanishes.
+</p>
+<p>
+This certainly is a somewhat abstract conception;
+but it is by no means so remote from reality as may at
+first sight appear. The reader may protest that in the
+course of an extensive and varied acquaintance with
+landowners, he has not yet run across this peculiar
+marginal type, who lets his land for no rent at all. But
+there, if his experience is really extensive, I think he
+is mistaken. It so happens that the ordinary agricultural
+landowner leases out his land, not by itself, but
+together with a variety of other things such as farm
+buildings, which it costs him a considerable sum of
+money to provide. He will not as a rule be willing to
+go to this expense, unless he sees his way to obtain for
+the farm an annual payment, which represents at least
+a fair return on this capital outlay, as big a return as
+he could have got, for instance, by investing the
+same amount of money in some gilt-edged security.
+This annual payment will, it is true, be called rent;
+but the significance of this is that what we term rent
+<a name="90"> </a>in ordinary life is usually a complex thing, made up
+of
+two essentially distinct elements, viz. the normal return
+on the capital goods supplied together with the land,
+and what we may call the "net rent," or the "pure
+rent" attributable to the land itself. Now will any
+reader make so bold as to say that there is no land under
+cultivation, in respect of which this net rent is either nil
+or negligible? The landowners will not agree with him.
+It is not a question, it should be observed, as to whether
+the rent obtained represents more than a fair return on
+the purchase price paid for the land; that is quite another
+matter. The question is whether the rent obtained
+exceeds a fair return on the capital sum spent on the
+buildings, etc.; with which every farm must be equipped
+to let at all. In fact there are not a few farms where
+there is no such excess, and where accordingly there
+is no "net rent" or "pure rent" which can be attributed
+to the land.
+</p>
+<p>
+The question whether it would be profitable to cultivate
+any piece of land, turns upon whether the receipts
+which would be obtained by selling the produce
+would exceed the costs of cultivation: and under these
+costs of cultivation we must include, of course, the
+remuneration of the farmer's services. Farmers, like
+other people, have to live; and they would not take
+on the troublesome job of farming, unless there seemed
+a prospect of making a living out of it. The remuneration
+of the farmer takes, of course, the form not
+of a salary, but of profits: and these profits vary very
+much from year to year, and from place to place, and
+from man to man. But they are essentially payment
+for work done, and an ordinary profit must be regarded
+<a name="91"> </a>therefore as part of the necessary costs of farming.
+Thus it will not be worth while to cultivate a piece
+of land, and the land will in fact lie unused, upon
+which a careful farmer might obtain a profit in the
+ordinary sense, of no more than $50 or $100 a year.
+The marginal land will be land which yields a decent
+profit to a decent farmer, as well as a gross rent to the
+landowner, sufficient to compensate him for his capital
+outlay, but nothing further.
+</p>
+<p>
+What, then, will be the rent of a fertile and well-situated
+farm, about which there is no doubt that it is
+well worth cultivating? Part of the gross rent which
+the landowner receives must again be regarded as
+merely a return for the capital expended in equipping
+the farm for use; but in this case, there will be a residue
+left over, which constitutes the net rent of the land.
+The net rent will measure the derived utility of the
+land to its occupier, and will in general represent
+(very roughly, of course, in practice) the differential
+advantage of cultivating the land in question rather
+than land on the "margin of cultivation." This differential
+advantage may take either, or both, of the forms,
+of a larger produce per acre, or a lower cost of production
+and marketing. But, in any case, the extra profit,
+which, if no rent were charged, a decent farmer could
+obtain by cultivating the farm in question, rather than
+a marginal farm, will be roughly equal to the net rent
+which his landlord can exact from him, if his landlord
+so chooses. The landlord may, of course, not choose
+to exact a rent as high as this; and as a matter of fact,
+in a country like Great Britain landlords often content
+themselves with less. The traditions associated
+<a name="92"> </a>with the ownership of agricultural land, and with
+the
+relations between landlord and tenant serve to soften
+the edge of economic law, and to subject the rents
+which are actually fixed to the control in no small
+measure of the general sense of what is fair or customary.
+In such cases the landlord makes the farmer
+a present, for the time being, of part of the economic
+rent. On the other hand, as Irish agrarian history
+well illustrates, the landlord may sometimes expropriate
+under the name of rent, permanent improvements
+which are due to the labors or the expenditure of the
+tenant. This is, of course, particularly likely to happen,
+whenever it is the custom to leave to the tenant the
+obligation of providing the capital equipment of the
+farm, which in Great Britain is, for the most part, the
+recognized duty of the owner. Again, in the case of
+urban land in the South of England, expropriations
+of this kind are an essential and well-understood feature
+of the leasehold system. The owner grants a
+lease for a long period of time, usually ninety-nine
+years, for a ground rent, which is notoriously below
+the true economic rent of the land, subject to the
+condition that the leaseholder must erect upon the
+land and keep in good repair certain buildings, which
+on expiry of the lease will become the property of the
+ground owner. Here the nominal ground rent is only
+part of the total rent which is really paid; the ultimate
+transference of the buildings representing often the
+more important part. There is, in fact, a great variety
+of systems of land tenure, some of which are highly
+complex, the respective merits of which vary greatly,
+and which constitute a most important problem for
+<a name="93"> </a>statesmen and legislators. Considerations of this
+kind
+in no way diminish the importance of the general
+analysis of rent, which we are pursuing in the present
+chapter. Rather they make it the more important,
+because we cannot properly weigh the merits of any
+system of land tenure, until we have grasped clearly
+the principles governing the rent of land in the purest
+form. But certainly we must never forget that the rent
+we are discussing may differ very greatly from, though
+it will vitally influence, the money payments which
+are called rent in actual life. It is the pure economic
+rent, the rent which represents the <i>full</i> annual payment
+which it would be worth paying to obtain the use
+of the land alone, which will measure, as we have said,
+the differential advantage of the land in question
+over land on the margin of cultivation.
+</p>
+<p>
+A clear grasp of this relation helps us to perceive
+that an increase in the prosperity of the community may
+sometimes influence rents in an unexpected way. It
+all depends on the causes which have given rise to
+the increased prosperity. An advance, for instance,
+in agricultural science will facilitate a more abundant
+supply of foodstuffs; but it will not necessarily increase
+the aggregate rents of agricultural land. For if
+it takes the form, say, of the discovery of some new
+artificial manure, it will very likely facilitate production
+on the less fertile soils far more than it will on the more
+fertile soils where artificial manures are not so necessary.
+It will thus tend to diminish the differential
+advantages of working on the more fertile farms, and
+their rents will accordingly fall, possibly by much more
+in the aggregate than any increase in the rents of the
+<a name="94"> </a>farms near the margin of cultivation. The point may,
+perhaps, be better understood if we pass from agricultural
+to urban land, and ask what would be the effect
+on site values of a great improvement in the facilities
+of internal transport. Push the case to an extreme, and
+suppose passenger transport to become so cheap and
+so quick that there ceases to be any advantage in
+living in a town so as to be near your place of work.
+Urban landlords would no longer be able to obtain the
+high rents they now receive for the sites of houses
+in or near a town. For most people would prefer to
+move out into the country where sites can be obtained
+at little more than an agricultural rent. The country
+covers so large an area relatively to the towns that
+the supply of rural sites would be still very plentiful as
+compared with the demand. Their rents would not,
+therefore, rise by very much, although the rents of the
+housing sites in towns would fall heavily. Of course,
+there are other factors to be taken into account before
+we could pronounce upon the effect on aggregate rents.
+Central sites for shops might, for instance, fetch a
+higher rental than before. The purpose of this discussion
+is not to generalize but to show the danger of generalizing
+about rents in the aggregate, or land as a whole.
+</p>
+<p>
+&sect;4. <i>The Margin of Transference</i>. The last illustration
+may serve, however, to remind us of an obvious fact
+which we must now take into account. The same
+piece of land may be used for a variety of purposes.
+It may have been used for growing corn, and later it
+may be devoted to the building of houses, or, as at
+Slough, to a repair depot for motor vehicles. It need
+<a name="95"> </a>hardly be said that the land will, as a general
+rule,
+be put to the use in which its value is greatest; or to
+speak more strictly, in which the biggest rent, or the
+biggest selling price can be obtained. But the notion
+of the differential advantages which a piece of land
+possesses over the marginal land becomes decidedly
+more complicated when we take account of this variety
+of uses. Let us turn our attention, for instance, to the
+sites used for shop and office purposes, and consider
+what we can regard as the marginal site in this connection.
+Clearly it will not be the marginal land of which
+we spoke above, which it only just paid to cultivate,
+and which yielded no rent at all. For this will probably
+be agricultural land in an out-of-the-way district,
+where no one would dream of setting up an office
+or a shop. Any site upon which a sane man would contemplate
+setting up a shop will certainly possess value
+for other purposes, such as house-building. Hence the
+marginal site for shopkeeping purposes will not be like
+our marginal farm, a site which yields no rent.
+</p>
+<p>
+As regards many pieces of land, there is no doubt
+as to the purposes for which they can most profitably
+be used. This piece will command a much higher rent
+as a shop site than in any other capacity; for that piece
+house-building is the obvious employment; for another,
+agriculture. But in quite a number of instances there
+is considerable uncertainty. It is not clear whether
+upon this site it will be better to erect a house or a shop,
+or if the latter, what kind of a shop. It is not clear
+whether it will pay to use that farm land for a building
+scheme; and, within the domain of agriculture, which
+of course comprises an immense variety of really different
+<a name="96"> </a>*ferent industries, it is often a very moot point
+indeed
+whether a certain field should be left under grass, or
+brought under the plow. Cases of this sort are not phantoms
+of the imagination; they emerge on every side as
+concrete problems with which some one or other is dealing
+every day, and it is these cases which constitute the
+marginal land for the purposes of a particular occupation.
+The marginal sites for shops are the sites for which
+it is only just worth while to pay rents sufficient to entice
+them away from houses. And the rent for a site in Bond
+Street, or elsewhere, which is so much more suitable for
+shop purposes that no alternative use would be worth
+considering, will exceed the rent paid for one of these
+marginal sites by, roughly speaking, the extra advantage
+it possesses for shop purposes. Or will fall short of
+it, it may be well to add, to the extent of its comparative
+disadvantage. For there may be many such marginal
+sites, some of which will fetch low rents, and others
+very high rents indeed; the same site being often of
+great potential utility for a large variety of occupations.
+Between any two occupations there will thus
+usually be a <i>margin of transference</i>, which we must conceive
+not as a point, but as an irregular line, upon or
+near to which there will be many pieces of land, differing
+greatly in the rents which they fetch. These variations
+of rent will correspond to the differences between
+the advantages or derived utilities which the sites
+possess for <i>both</i> the occupations in question. The
+position of such margins of transference will of course
+alter as industrial conditions change, and, when they
+alter, the rents of sites which are not near any margin
+of transference will be affected also. Thus an increased
+<a name="97"> </a>demand for the products of any particular industry
+will make it profitable for that industry to offer higher
+rents, and thus draw land away from other occupations.
+This will have the effect of raising, though
+possibly to a very slight extent, the rents of sites which
+still remain in other uses; for there will be fewer of
+them available; and their derived utilities will consequently
+be increased.
+</p>
+<p>
+But here, as everywhere, it is upon the margin that
+our attention should be focussed, because it is round
+about the margin (wherever it is found) that the
+changes are taking place which really matter for society.
+When Mr. Mallaby-Deeley buys an estate in Covent
+Garden from the Duke of Bedford, the transaction
+hardly deserves the degree of public interest it excites.
+Nothing has happened which is of material consequence
+to anyone except the two gentlemen concerned; the
+various sites are still used for the various purposes for
+which they were used before; nothing has occurred
+that really matters. But when houses are pulled down
+for the erection of a cinema, or when a field is diverted
+from tillage to pasture, something has happened which
+affects for good or ill the interests of the whole community.
+Conversion from tillage to pasture represents,
+indeed, a tendency which has been very marked in
+Great Britain during the last generation, and has
+aroused misgivings in many public-spirited observers.
+Possibly for a variety of reasons, these misgivings may
+be justified; certainly the problem is well worthy of
+attention. But when in this way the issue is raised of
+tillage versus pasture, it is essential, if we are to discuss
+it rationally, that we should envisage it clearly
+<a name="98"> </a>as applying only to a limited portion of
+agricultural
+land, to the portion which lies somewhere near the
+margin of transference, as things are now, between
+the two forms of agriculture. It might be socially
+desirable to bring under the plow a field which the
+farmer finds it only <i>slightly</i> more profitable to lease
+under grass; but this would be highly improbable
+in the case of a field where the balance of argument
+to the farmer in favor of pasture is overwhelming.
+The position of the margin of transference between
+different uses may, in other words, be somewhat out of
+place from the social point of view, and it may be
+desirable by appeals and propaganda, even conceivably
+by the devices of State subsidy and compulsion,
+to push it forwards or backwards in greater or less
+degree. But it will be necessarily a matter of degree,
+and nothing could be more foolish than to speak as
+though there was, or could be, some ideal method of
+cultivation equally applicable to all lands, without
+regard to their climatic and other conditions. Needless
+to say, none of the agricultural experts who sometimes
+deplore the decline of arable farming are guilty of such
+foolishness. But the sense of the diversity of nature
+which is very vivid to them may sometimes be lacking in
+people who live in towns, and a firm grasp of the marginal
+notion may serve best to keep the latter from
+forgetting it.
+</p>
+<p>
+&sect;5. <i>The Necessity of Rent</i>. Behind all such detailed
+applications there lies a more general consideration
+which deserves attention. The way in which the land
+of a country is used, the way in which it is apportioned
+<a name="99"> </a>between the countless alternative employments that
+are
+possible, is a most important matter, more important
+perhaps than any questions as to the size of the incomes
+which particular landowners receive by virtue of their
+rights of ownership. How is this apportionment
+effected as things are now? The answer is clear: mainly
+by the agency of either rent or price. The business
+which finds it worth while to offer the highest rent or the
+highest price for any piece of land will, as a rule, be
+able to command its use. And, with this as the governing
+principle, an apportionment is secured between
+shops, offices, factories, agriculture, between the immense
+variety of different employments covered by
+each of these broad headings; not a rigid unvarying
+apportionment, but one which constantly changes as
+economic circumstances change, and as the margin of
+transference between different occupations moves hither
+and thither. This apportionment takes place at present
+as the result of the independent decisions and bargains
+of many private individuals, who are thinking mainly of
+their own interests, and not of those of the community.
+But this state of affairs might be altered. The land
+might be nationalized and allocated to its various uses
+by the co-ordinated labors of a great State department,
+or some other agency of the collective will. However
+improbable such a change, it is perfectly conceivable.
+But what is not conceivable is that any State department
+should handle the job with a success even approaching
+that of the present system, unless it continued
+to use, as its main instrument, the criterion of
+either rent or price. That a piece of land would yield a
+higher rent in one occupation than in any other is not
+<a name="100"> </a>conclusive evidence that it is best to devote it to
+the
+former purpose, but it is very good evidence, and it
+should be allowed to prevail unless it is demonstrably
+outweighed, as it possibly might often be, by considerations
+of a different kind. That it would not be well for
+the community to employ land in the city of London for
+corn-growing purposes, however desirable might be a
+revival of home agriculture, is so obvious that it
+may seem to have no bearing on the present issue.
+But it is only an extreme indication of the absurd
+and wasteful use of our natural resources, which would
+grow up slowly but surely, if we dispensed with ideas of
+rent and price as sordid irrelevancies, and allocated
+our land on the basis of a balancing of the loftiest
+arguments of a vague and sentimental character. If
+you are prepared for the distribution of land to become
+stereotyped, for each piece to continue indefinitely
+in its present use, then indeed you might dispense with
+rent, as primitive societies very largely do. That would
+mean stagnation and, for an industrial country, decay.
+But if changes are ever to be contemplated, a simple
+quantitative measure is the only safeguard against utter
+chaos. Thus rent, like interest, will be found indispensable
+as a measure under any efficient system of society,
+even if it might not always represent the payment of
+sums of money to private individuals. And that is why
+the principles governing rent possess, as I indicated at
+the outset of this chapter, an importance more fundamental
+than our present system of ownership and tenure.
+</p>
+<p>
+&sect;6. <i>The Question of Real Costs</i>. But we must not
+forget the preliminary question that started us upon
+<a name="101"> </a>our analysis of the agents of production. The rent
+which a manufacturer or farmer has to pay for his land
+he naturally includes in his cost of production. But
+does this money cost to the individual correspond
+to, and measure, any real cost to the community as a
+whole? Here let us note in the first place that if only
+we could disregard the variety of uses to which land is
+put, if we could suppose that all industry was agriculture,
+and that agriculture was a single industry with a
+single product, we could argue that rent does not enter
+into marginal costs at all. For we could regard the
+marginal producer as the one working on a marginal
+farm, whereas we have seen there is no pure rent. The
+rent which other producers have to pay would thus
+represent merely the destination of the surplus profits
+which arise wherever actual costs fall short of marginal
+costs. This way of looking at the matter has proved
+attractive to some thinkers, not in the least because of a
+desire to palliate the effects of landlordism, but because
+it fits in so well with our general sense of rent as a
+"surplus," and a surplus as something distinct from a
+necessary price. But it is clearly illegitimate in an
+economic theory which professes "to describe the
+facts." The marginal land for many purposes fetches,
+as we have seen, a considerable rent; and this rent is
+certainly part of the marginal costs and of the necessary
+price of the products of the particular industry. The
+answer to our question is, however, not now very difficult
+to see. Land, greatly as it differs in many respects
+from the other agents of production, resembles them in
+the very important respect that, being used for one
+purpose, it is not available for other purposes, and that
+<a name="102"> </a>the productive powers of the community in other
+directions
+are thereby diminished. This is the real cost to
+the community, which attaches to the products of any
+industry, in virtue of the land which it occupies;
+not any human labors or sacrifices required to produce
+the land itself, but the curtailment of the natural
+resources available for productive use elsewhere. This
+is the real cost of which rent is the money measure,
+and generally speaking an accurate measure at the
+margin of transference between one occupation and
+another. A somewhat fanciful use of the term cost,
+this may seem perhaps, one not quite in accordance
+with our instinctive sense of what real costs should be.
+But possibly the real costs represented by wages and
+profits may turn out to be not so very different, and
+we had best leave the matter there, until we have
+examined the nature of these other costs.
+</p>
+<p>
+&sect;7. <i>Rent and Selling Price</i>. In this chapter we have
+spoken mainly of the rent rather than the price of land:
+the relation between the two things is fairly obvious
+and well understood, but it will be well not to close
+the chapter without a brief account of it. The price of
+any piece of land is affected by all the considerations on
+which its rent depends, but it is also affected by another
+factor which has no influence whatever upon rent.
+This factor is the rate of interest. The higher the rate
+of interest, the higher the return which a man could
+obtain by buying gilt-edged securities, the lower will
+be the price that he will pay for a piece of land which
+yields a given rent. We can express the relation more
+precisely by the formula Price = (Rent &times; 100)/(Rate of Interest),
+though
+<a name="103"> </a>we must be careful, in applying this formula in
+practice
+to allow for the possible deviations between the nominal
+and the true rent, and similar complications. The
+price, it must be observed, is derived in this way from
+the rent, not the rent from the price.[<a href="#103f1">1</a>] Rent is
+thus
+logically the simpler, price the more complex thing.
+It is well, therefore, to analyze in the first instance the
+principles of rent, if we live in a country where the
+practice of leasing land for annual rent is less common
+than it is in Great Britain, even if, for whatever reason,
+it is the price of land with which we are concerned in
+practice. The problem of price contains two distinct
+elements which it is not easy to handle when mixed up
+together. For the rate of interest represents in itself
+an important branch of economics, which will require
+a separate chapter to itself.
+</p>
+<p class="footnote">
+<a name="103f1">[1]</a> In this the rent of land differs fundamentally
+from that
+of
+other things, such as houses. For the price of a house is largely
+influenced by the costs of construction of new houses, and should
+correspond closely to them in the long run. The same relation
+between rent, price and rate of interest will hold good; but the
+rents will be affected by changes in the rate of interest, owing to
+the reactions of such changes on the supply of houses.
+</p>
+<a name="104"> </a>
+<h3 class="chap_head"><a name="Chapter_VII"></a>Chapter VII</h3>
+<h3 class="chap_name">Risk-Bearing and Enterprise</h3>
+<p>
+&sect;1. <i>Profits and Earnings of Management</i>. The profits
+of a business, as they are ordinarily reckoned, whether
+for the purposes of income tax or of a balance sheet,
+comprise several elements which are fundamentally
+distinct. The relative importance of these various
+elements varies greatly from one type of business to
+another. The profits of a private business include, for
+instance, the remuneration of the work of management,
+which in the case of a Joint Stock Company is mostly
+paid for by salaries or directors' fees. It is to their profit
+that farmers, small shopkeepers, and the partners of
+a private firm look not merely for a return upon their
+capital, but for the reward of their own labors. "Earnings
+of Management," as they are usually termed
+(though in truth they often cover other and humbler
+forms of labor) are thus frequently one of the ingredients
+of profits.
+</p>
+<p>
+&sect;2. <i>The Payment for Risk-bearing.</i> There is another
+element of great importance about which our ordinary
+ideas are apt to be so vague that it will be well to devote
+a chapter to its examination. This is the element of
+payment for risk, or rather the reward of risk-bearing.
+Risk is inherent in all business, as it is inherent in all
+life. The vagaries of nature and the vagaries of man
+<a name="105"> </a>are alike responsible. The farmer may find his
+harvest
+ruined by a drought or by a deluge; the coal or the gold,
+for the extraction of which you have perhaps set up
+an extensive mining plant, may come to an end which
+is unexpectedly abrupt. You may put your money
+into roller-skating rinks and find that cinemas have
+become the rage with the fickle public; sometimes
+"the market" may decline for causes which remain
+obscure but with consequences which are disagreeably
+plain. But while risk is always present in some degree,
+the degree varies enormously from one industry to
+another. Now, it is obvious enough that in an exceptionally
+risky industry, where there is a considerable
+possibility that the capital invested will yield no return
+at all, the profits of those concerns which succeed
+are likely to exceed the rate of interest on gilt-edged
+securities. But what is likely to be the magnitude of
+this excess? Is risk-taking rewarded if there is any such
+excess, however small? Or will it suffice that the gains
+and losses should average out to a fair rate of interest
+over the whole industry? To enable us to think closely
+let us suppose for a moment that we can measure
+accurately what the chances are.
+</p>
+<p>
+Suppose, then, that there were a precisely equal
+chance of success on the one hand and failure on the
+other in any enterprise, failure involving a complete
+loss of all the capital invested. Suppose, further,
+6 per cent to be at the time a fair return on a perfectly
+secure investment. What would be the return which
+must be expected from the risky enterprise, in the
+event of its succeeding, before it will be undertaken?
+The reader may be tempted to answer, 12 per cent.
+<a name="106"> </a>But 12 per cent would not suffice. An equal chance
+of 12 per cent or nothing, as compared with a certainty
+of 6 per cent, does not mean that the risk in the former
+case is paid for to the tune of 6 per cent. It means
+that it is not paid for at all. In each case what a
+mathematician would call the <i>expectation</i> is a return
+of 6 per cent. The odds are evenly balanced; in the
+long run, over a large number of cases, if the law of
+averages works as we assume it does, you would get
+just as much from the one type of investment as the
+other. Now, risky enterprises will not, as a rule, be
+undertaken on terms like these; investors and business
+men will not take risks with the odds precisely equal;
+they must have them, or believe that they have them,
+in their favor.
+</p>
+<p>
+&sect;3. <i>Monte Carlo and Insurance</i>. To assert this is not
+to ignore the strength of the appeal which the gambling
+instinct makes to many, if not to most of us. The
+taste for gambling is, indeed, so deep and widespread
+that it would be foolish to leave it out of account in this
+connection. It is clear enough that at places like Monte
+Carlo people are prepared to have the odds unmistakably
+against them, apparently for the sheer pleasure
+and exhilaration of taking risks. Moreover, though for
+most people play at Monte Carlo represents a mere
+holiday indulgence, it would be unsafe to assume that
+what appeals to them there will not also appeal to them
+in their business affairs. But what exactly is the secret
+of the charm of Monte Carlo? It is the great attractive
+force of a small chance of a large gain, as compared
+with the deterrent force of a large chance of a small loss.
+<a name="107"> </a>People will readily pay $5 for one chance in a
+hundred
+of making no more, perhaps, than $400 or $450. And it
+is very likely that this holds good in the world of business.
+If, for example, we were to suppose that the promoters
+of a new enterprise were confronted with one
+chance in fifty of a profit of 50 per cent per annum on
+their capital, as against forty-nine chances of a profit of
+5 per cent, this might well prove a more attractive prospect
+than a certain return of 6 per cent, although the
+strict <i>expectation</i> of profit would be smaller in the former
+case. But the risks of business enterprise are not
+often of this type. They conform more usually to
+the opposite type of a large chance of a relatively
+small gain, balanced by a small chance of serious
+loss or entire failure. Now for almost everyone the
+possibility of a great loss will count as a deterrent
+(just as the possibility of a great gain may count as
+an attraction) for much more than its strict actuarial
+value.
+</p>
+<p>
+The truth of this proposition is demonstrated by the
+existence of institutions more impressive than Monte
+Carlo&mdash;the Insurance Companies, which play so large
+a part in the economic life of modern times. Every
+year, and upon an ever-growing scale, both private
+individuals and business concerns pay sums of money,
+which reach in the aggregate a colossal sum, as premiums
+to insure themselves against loss by Fire,
+Shipwreck, Burglary, Death, Death Duties, against
+every risk which Insurance Companies will cover.
+Now Insurance Companies are not, as we say, in
+business for their health. They find their business
+profitable, and pay good dividends to their shareholders.
+<a name="108"> </a>Moreover, they incur a considerable expenditure on
+offices, on clerical staff, on agents, and the like. All
+these payments must be defrayed out of the premiums
+they receive; so that it is plain that the premiums
+greatly exceed the <i>expectation</i> of the risks insured.
+The odds are heavily in favor of the Insurance Company&mdash;of
+that the stupidest person can have no shadow
+of doubt. Yet we continue to insure, as private individuals
+and as business men, and so far from being
+ashamed of our proceedings as a weak and nerveless
+folly, which somehow we are unable to resist, we blazon
+them forth in the strong accents of conscious pride.
+We preach insurance to our neighbors as the core of
+self-regarding duty, and, if ever we feel a twinge of
+uneasiness, it is lest we, too, may have omitted in some
+particular to practice what we preach.
+</p>
+<p>
+The significance of this is unmistakable. Be our
+psychology what it may, however deep and irrepressible
+our taste for derring-do, however inadequate
+the scope which the dull routine of modern life affords
+for our adventurous impulses, we are most of us anxious
+to avoid the risk of great financial loss. We are very
+glad to find someone to take it off our shoulders if we
+can; so glad that we are prepared to pay him for the
+service, to pay him a sum which covers not only the
+actuarial equivalent of the risk, but something substantial
+over and above. In this we are entirely rational.
+Our conduct is justified by the law of the diminishing
+utility of money, which was noted at the end of
+Chapter III. It would be plainly foolish, for instance,
+to substitute for the certainty of an income of $2500
+per annum an even chance of $5000 or nothing, since
+<a name="109"> </a>the utility to us of $5000 is not twice as great as
+that
+of $2500.
+</p>
+<p>
+The majority of business risks are not of a kind
+against which it is possible to insure. Insurance companies
+confine themselves to risks which are mainly a
+matter of what we call objective rather than subjective
+chance, i.e. risks in respect of which knowledge of detailed
+facts peculiar to the individual case is of minor
+importance. But such knowledge is of paramount importance
+in the case of ordinary business risks. If, for
+example, a new enterprise is to be undertaken, the special
+knowledge and experience which its promoters
+possess is a vital factor in determining their estimate of
+the risk involved. An outsider with no special knowledge
+would necessarily require to estimate the risk far
+more highly if we were to form a rational opinion on the
+basis of <i>his</i> knowledge. So great, indeed, would be the
+risk to him, that we can lay it down as a sound maxim
+that people are extremely rash who invest their money
+in risky undertakings about which they know very
+little. This subjective aspect of business risk has a
+significance to which it will be necessary to revert.
+</p>
+<p>
+But, though most business risks are not and cannot
+be a matter for premiums and policies, the principle,
+which the practice of insurance illustrates, applies none
+the less. In the light of their knowledge and experience,
+the promoters of a new undertaking must weigh up
+the chances of failure and success, though they will not
+do so by the precise methods of an actuary. They will
+require that any chances of serious loss should be
+balanced by such chances of exceptional gain, as would
+raise the <i>expectation</i> of profit well above the normal
+<a name="110"> </a>return on secure investments. The more risky the
+project seems the greater, generally speaking, must
+be the <i>expectation</i> of profit required to induce people
+to undertake it.
+</p>
+<p>
+If we suppose business men to calculate reasonably,
+it follows that the average profits in any industry over
+a long period of years, reckoning in the losses of the
+concerns which disappear altogether, are likely to be
+higher, the more risky is the industry. Such a result
+will not, of course, occur in every case. Even when the
+calculations are reasonable, they may be entirely falsified
+by the event. Moreover, business men may not
+calculate reasonably on the information which they
+have. But, unless we suppose their judgment to be subject
+to a prevailing bias in one direction, i.e. to be unduly
+optimistic as a general rule, <i>we</i> should expect, and
+in any case <i>they</i> must expect, profits above the ordinary
+in a risky industry.
+</p>
+<p>
+This conclusion is sufficiently important. Far too
+many people, though they admit it when it is expressly
+stated and dismiss it even as a tiresome commonplace,
+are apt to neglect it when the occasion for applying
+it arises. For example, the great importance to any
+industry of good management is generally recognized,
+and the consequent desirability of paying adequate
+salaries to the managerial staff. The importance
+of securing a supply of capital is very widely recognized,
+and the practical necessity of paying a fair rate
+of interest is thus, however grudgingly, conceded.
+But the "residuary profits," as they are called, which
+accrue at present to the owners of a business, are denounced
+in some quarters in a sweeping fashion,
+<a name="111"> </a>which seems to ignore altogether the all-pervading
+element of risk. People speak as though you might
+appropriately limit profits in every industry to some
+uniform percentage on the capital employed, without
+making it clear whether you would even be allowed
+to make up in good years for the losses incurred in
+bad. The effect of introducing any such crude device
+into our present industrial system could only be to
+paralyze enterprises of an unusually risky kind, which,
+so far from being pushed to an excess at present,
+are more probably curtailed unduly from the standpoint
+of what is socially desirable. Like the fixing of a
+low maximum price for a commodity it would cause the
+supply to wither up and disappear.
+</p>
+<p>
+&sect;4. <i>Risk under Large-scale Organization</i>. While this
+is true of the present economic system, the question
+is worth considering whether it represents a fundamental
+necessity, whether, for instance, under our world
+socialist commonwealth the factor of risk-bearing need
+play so important a part as it does in the actual business
+world. This question cannot be answered with a
+conclusive simplicity; opposing considerations present
+themselves, between which it is not easy to strike a
+balance. On the one hand, in accordance with the law
+of averages gains and losses tend to cancel out over a
+large series of transactions, <i>when reasonable calculations
+have been made</i>. Thus Insurance Companies, while
+they take heavy risks off the shoulders of policy-holders,
+incur relatively trifling risks themselves; they can
+predict the aggregate sums which they will be called
+upon to pay within a small margin of error. In the
+<a name="112"> </a>same way it might seem that every enlargement of
+the
+scale of business would make for an automatic insurance
+and a consequent economy of risk; and thus that if all
+businesses were comprised in a single financial unit,
+gains and losses would cancel out over so wide a range
+that the degree of risk remaining would be almost
+negligible.
+</p>
+<p>
+This might indeed happen, if business risks were
+mainly of that objective kind in which the insurance
+companies specialize; for then we could assume that the
+chances of success or failure would be estimated reasonably.
+But, in fact, most business risks, not being of this
+kind, must be estimated by processes of human judgment,
+which are very fallible. And here we must take
+account of the law of averages in another aspect,
+with a different bearing on the argument. When an
+industry comprises a large number of separate concerns,
+and the decisions accordingly are taken by many men,
+acting independently of one another, the errors of
+calculation will tend to some extent to cancel one
+another out. The undue optimism of one man will be
+balanced by the undue pessimism of another; and, if
+there is no prevailing bias in either direction, the errors
+of judgment will not affect the results for the industry as
+a whole. But where the effective decisions are taken
+by very few men, the chances are far greater of a preponderating
+balance of error in one direction. The
+risks dependent on the factor of human judgment tend
+therefore to increase.
+</p>
+<p>
+This truth can be illustrated by a phenomenon which
+is fairly familiar. It is recognized by intelligent persons
+that the risks of speculation in a particular commodity
+<a name="113"> </a>market or stock market increase more than
+proportionately
+to the scale of operations. A man who sets
+out as a "bull" upon a small scale can buy without
+sending up the price against him in the process, and, if
+he decides later that his judgment is mistaken, he can
+at any time cut his losses and sell out without much
+difficulty. But a "bull" on a very large scale cannot
+complete his purchases except at a price which has been
+raised in consequence of his own action, and he cannot
+count on being able to "unload" at or near the market
+price, should he decide to do so. If, accordingly, he
+miscalculates, he cannot save himself from serious loss
+as a smaller man might do by a prompt discovery of
+his error. His difficulties spring from the fundamental
+fact that the effects of his calculations are too great to
+be offset by those of the different, and often opposite,
+calculations of other men.
+</p>
+<p>
+Upon the issue whether a growth in the size of the
+business unit is likely to diminish risk, the law of
+averages thus cuts both ways. The risks arising from
+the element of pure chance are more likely, those arising
+from miscalculation are less likely, to cancel out.
+Upon these grounds alone, it would be unsafe to conclude
+that there would be on balance an economy of risk
+under any system of national or world socialism.
+</p>
+<p>
+&sect;5. <i>The Entrepreneur</i>. There remains, however, an aspect
+of the problem which is perhaps more important
+than those discussed above. It is probable that risks
+would be estimated and undertaken more wisely or
+less wisely under a different system of society or of
+industrial organization? Upon this issue, methods of
+<a name="114"> </a>precise analysis are out of place, but we may have
+something to learn from the emphatic testimony of
+tradition. It has become an axiom of business men
+that, while Governments can manage with more or
+less competence a safe and routine business like a
+Postal Service, their success would be unlikely to prove
+conspicuous in undertakings where the element of
+risk is great. There, it is said, we owe everything in
+the past to the enterprise of individual men (for even
+joint-stock companies have not been notable as pioneers)
+adventuring their own fortunes in accordance
+with their own unfettered judgment. This contention,
+however much we may desire to qualify it, has unquestionably
+a large measure of truth, and the explanation
+is not difficult to discover. For the wise taking
+of risks in industrial development of an experimental
+character, peculiar conditions and special qualities
+are required. First, it is necessary to envisage distinctly
+the promising though risky opportunity, and this
+calls not infrequently for imagination of a none too
+common order. Then it must be studied with insight
+and expert knowledge and weighed by processes which
+are as much intuitive as intellectual. The reasons for or
+against taking a particular business risk are seldom such
+as can adequately be expressed in terms of arithmetic,
+or even by clear arguments the soundness of which is
+proportioned to their logical cogency. The mysterious
+faculty of judgment enters in; and from mental processes
+which defy analysis there emerge ultimately conviction
+and the will to act. But it is precisely here
+that Government Departments are apt to fail. It is
+here that the individual, who need consult no one but
+<a name="115"> </a>himself, has a pull over any form of organization,
+where decisions are reached by the method of debate
+and agreement among a heterogeneous committee.
+Hence it is that we have come to regard exceptional
+risk-taking as the peculiar province of individual
+enterprise. It is probable that these deficiencies of
+corporate organization are tending to diminish, and it
+is an interesting question how far it may be found
+possible to eliminate them in the future.
+</p>
+<p>
+Meanwhile the above considerations have an important
+bearing on the rewards which can often be obtained
+from risky enterprises. The number of individuals
+who are in a position to envisage a business
+opportunity, and to assess with some confidence the
+chances of success and failure is very limited. Not only
+must they possess special knowledge, ability, imagination,
+confidence in their own judgment, and the capacity
+to act on it; they must also have at their disposal
+considerable financial resources. To combine all these
+advantages represents a union of circumstances which
+is distinctly rare. The fortunate few, who do combine
+them, are thus generally able to extract in the form of
+profits a high price for their services, a price which
+covers not only the strict reward of risk-bearing, and the
+necessary remuneration of their own service, but a
+handsome payment for the special qualities and advantages
+which have been indicated. Profits, moreover,
+may vary between one industry and another, not only
+in accordance with the real risk which is entailed, but
+with the degree to which the supply of special knowledge,
+etc., is scarce or abundant.
+</p>
+<p>
+This consideration goes a long way to explain the
+<a name="116"> </a>large fortunes which enterprising business men are
+often able to amass. It also throws some much-needed
+light upon the functions which such men discharge.
+They perform to a large extent the work of management;
+they supply capital on what may be a considerable
+scale; but it is the taking of business risk which is
+perhaps their most characteristic function. It is the
+union of these functions which distinguishes them as
+an essentially different type from the salaried manager
+who has invested his savings in rubber or in oil. In
+other languages there is a specific name for the man
+who combines all these three functions; in French he
+is called an "entrepreneur," in German an "Unternehmer."
+It is much to be regretted that in English
+we have no clear corresponding word. The word
+"capitalist" is not uncommonly employed to do duty
+in this connection, but this is a source of much confusion.
+For the word is also used, and more appropriately,
+to include all investors, whether or not they
+are active business men.
+</p>
+<p>
+&sect;6. <i>Risk-taking and Control</i>. But there is an allied
+confusion of more importance. We commonly suppose
+it to be a leading feature of our present "capitalist
+system" that the control of industry rests in the hands
+of those who supply the capital. Nor, as a general
+statement, is this untrue. But it conceals the essential
+point. Strictly speaking, it is risk-taking with
+which control is associated. The mere lending of
+money carries with it no title to control. Governments
+and municipalities concede no such title to the subscribers
+to their loans; nor does a company to its debenture
+<a name="117"> </a>holders. The shareholders' ultimate control
+is based upon the fact that they bear the financial
+risks of the concern. Nor is this a matter of mere
+legal form. It is not uncommon for ordinary shares to
+carry with them a greater voting power than the preference
+shares of a corresponding value. The principle
+which such arrangements endeavor to express is clear:
+control should rest with him who bears the risk. It
+is with this principle rather than with a mulish insistence
+on the rights of property, that advocates of
+"workers' control" and the like have got to reckon.
+It is upon this ground that (as they may quite conceivably
+do) they must make good their case.
+</p>
+<p>
+&sect;7. <i>General Analysis of Profits.</i> Let us conclude this
+chapter by clearing the ground for the next. Earnings
+of management, payments for risk-taking and for the
+special knowledge and advantages associated with it,
+are ingredients of the gross profits of a business. The
+chief element that remains is that of interest on capital.
+Frequently, indeed, it is not the only one. As we saw in
+the last chapter, a farmer may not be required by his
+landlord to pay the full economic rent for his farm;
+and he may therefore make profits above the normal
+level, above the ordinary return for his own services,
+his own capital expenditure, and the risks to which
+he is necessarily exposed. In such a case the farmer is
+really the recipient, as we have already suggested, of
+part of the economic rent of the land; and an element
+of rent accordingly enters into his gross profits. But
+profits may include a surplus element which may arise
+in a great variety of other ways. A business may
+<a name="118"> </a>possess some decided advantage which is not open to
+competitors; and it may reap high profits accordingly.
+You can, for instance, if you choose, regard the high
+money profits, which, as was suggested in Chapter IV,
+are likely to accrue in future to the owners of pre-war
+factories, as a surplus profit of this kind. But while, as
+this illustration indicates, the phenomenon of surplus
+profits becomes of very great importance when we
+seek to study the distribution of wealth, it need not
+detain us here. For the surplus element arises only
+in so far as the costs of a business are lower than the
+marginal costs; and it is the marginal costs, which,
+with good reason, we are now endeavoring to analyze.
+The marginal costs must include a normal profit, i.e. a
+profit which will cover earnings of management, the
+reward of risk and enterprise, interest on capital, but
+nothing further. It remains, then, only to consider
+this last element of interest.
+</p>
+<a name="119"> </a>
+<h3 class="chap_head"><a name="Chapter_VIII"></a>Chapter VIII</h3>
+<h3 class="chap_name">Capital</h3>
+<p>
+&sect;1. <i>A Reference to Marx.</i>. Interest is the price paid
+simply for the use of capital. But what is capital, and
+in what does its use consist? What claim has it to be
+regarded as an independent factor of production? Our
+very familiarity with the term, our habit of employing
+it with the rich looseness of every-day life is an obstacle
+to the clearness of thought, which is again
+essential. We recognize, most of us, clearly enough
+that capital, although we reckon it in terms of money,
+consists, like income, of real things; factories, machinery,
+materials and the like. It is quite obvious that these
+things are of use, are, indeed, indispensable for production;
+what more natural than that capital should
+command a price? It almost seems as though we might
+pass, without further ado, to a detailed discussion of
+the forces which determine the amount of this price.
+</p>
+<p>
+But this account does not bring out the essential
+point as brief reference to a very famous controversy
+will show. Some ingenious writers in the last century,
+the most notable of whom was Karl Marx, set out to
+prove that, in our modern society, workpeople are
+"exploited," robbed of the "whole produce of their
+labor," to the full extent of the return which accrues
+to capital. The argument was exceedingly complex
+in detail; but it boils down to this: The factories and
+<a name="120"> </a>machinery which are admittedly essential to
+production
+were themselves produced in exactly the same way
+as consumable goods. They were produced by labor,
+working with the assistance of nature, and, again, if
+you choose, of capital in the form of further factories,
+machinery, etc. But these further capital goods can
+in their turn be regarded as the product of labor,
+nature and capital; and so we can proceed until it
+seems as though the element of capital must disappear
+in the last analysis, as though labor and nature were
+the sole ultimate agents of production, and the reward
+of capital represented no more than the exercise of the
+exploiter's power. In one form or another this argument
+still dominates the minds of a large proportion of
+the so-called "rebels" against the existing social order.
+</p>
+<p>
+If we are to meet this argument, if, which is perhaps
+more important, we are to understand the true nature
+of capital, we cannot rest content with saying that it
+consists of factories and machinery, and that these are
+essential to the worker. Just as it was well to get
+behind the money terms, in which we often think of
+capital, to the real goods; so we have now to get behind
+the real goods to something else. What this something
+else is, the first chapter may have already done something
+to reveal.
+</p>
+<p>
+&sect;2. <i>Waiting for Production.</i> Between production
+and consumption there is an interval of time. All
+productive processes take time to accomplish. The
+farmer must plow the soil and sow the seed months
+before he can reap the harvest which will reward him
+for his efforts. Meanwhile, he must live, and in order
+<a name="121"> </a>that he may live he must consume. If he employs
+laborers he must pay them wages, that they too may
+consume and live. For both purposes he requires
+purchasing power, which represents of course command
+over real things; and if he has not sufficient purchasing
+power of his own, he must borrow from someone
+else who has. In either case it is not enough that the
+farmer and his laborers should work; no less essential
+is it that someone should <i>wait</i>. The farmer must
+wait till he has sold his crops, both for the reward of
+his own labor and for the repayment of the wages he
+advances in the meantime to his laborers. Or, if he
+cannot afford to wait, and borrows in anticipation of
+the harvest, then the lender must wait, until the farmer,
+having sold his crop, is able to repay him. Thus the
+period of time involved in all production gives rise to
+a demand for <i>waiting</i>, which someone or other must
+supply, if the production is to take place. It is this
+waiting which is the essential reality underlying the
+phenomena of capital and interest. It is really this
+which constitutes an independent factor of production,
+distinct from labor and nature, and equally necessary.
+</p>
+<p>
+&sect;3. <i>Waiting for Consumption.</i> But let us carry the
+argument a step further. After the farmer has sold
+his crops, there are many stages through which they
+must pass, at each of which more waiting is required,
+before they reach the ultimate consumer. But then the
+waiting is at an end.
+</p>
+<p>
+This, however, is by no means the case with a great
+number of commodities. Let us take the case of a
+speculative builder. While he is building a house he,
+<a name="122"> </a>like the farmer, must wait (or find someone to wait
+on his behalf), for his own reward, and for the repayment
+of his expenditure on wages and materials. But, after
+the house is built, if he lets it to a tenant for an annual
+rent, his waiting is far from over. Not until many years
+have passed will the rent payments add up to a sum
+which equals or exceeds his outlay. He may, of course,
+sell the house, and thus bring his waiting to an end.
+But then the purchaser must wait, no matter whether
+or not he is the occupier. For no one would consider
+the use of a house for a day, a month, or a year as an
+adequate return for the price it cost to buy. The
+occupier-owner pays for the prospect of its use for a long
+and perhaps indefinite number of years ahead, and he
+must wait to enjoy the benefits for which he pays
+now in full. Waiting is as inherent in the consumption
+of durable things as it is in all production.
+</p>
+<p>
+Now most industries are consumers of durable things
+of a very expensive kind. Here we come back to the
+factories and machinery which ordinarily spring to our
+mind at the mention of the word capital. Not merely
+does the construction of these things involve waiting;
+their consumption involves waiting on a vastly larger
+scale. Just as with a house, many years must elapse
+before their derived utility can even approximate to
+their purchase price. It is mainly to supply the waiting
+involved in the consumption of such durable goods,
+that a typical joint-stock company issues shares for
+public subscription. The waiting required to cover the
+period of time, which its own productive process requires,
+is largely supplied by means of bank overdrafts
+or other forms of short-period borrowing. More
+<a name="123"> </a>strictly, fixed capital represents the waiting
+involved in
+the consumption of durable things; circulating capital
+the waiting involved in current production.
+</p>
+<p>
+This distinction loses its sharpness when we consider
+not the affairs of a particular business, but the industrial
+system as a whole. Then the period of time involved
+in the consumption of durable instruments falls into
+place as part of the time required for the production
+of the ultimate consumers' goods. We can even, perhaps,
+conceive of an "average period of production" for
+industry and commerce as a whole; and this conception
+is not without its uses. For it serves to bring out the
+fact that the period of consumption, and the period of
+production in the narrower sense, are only two aspects
+of the same fundamental thing, the interval of time
+which elapses between work and the utility, which is
+its ultimate purpose. It serves, moreover, to make clear
+that anything which lengthens this interval of time
+increases the demand for waiting, or in other words,
+the demand for capital; and, conversely, that anything
+which shortens this interval diminishes the demand
+for capital.
+</p>
+<p>
+&sect;4. <i>Capital not a Stock of Consumable Goods.</i> But
+the distinction between the two forms of waiting,
+though not fundamental, is none the less worth noting.
+It enables us to keep our theory in conformity with
+fact, to look at the phenomenon of capital the right
+way up; and it is easy, if we are not careful, to slip
+into the habit of looking at it upside down. People
+sometimes speak as though the commodities which
+constitute our capital, instead of being mainly, as our
+<a name="124"> </a>plain sense tells us that they are, factories,
+machinery
+and other durable instruments, were rather a <i>store</i> or
+<i>stock</i> of immediately consumable goods. The argument
+takes the following form. It is consumers' goods,
+things like food and clothes, which the farmer, the
+builder and their workpeople consume while they are
+working. To enable them to work, therefore, it is vital
+that such things should not in the past have been consumed
+as soon as they were made; part of them must
+have been saved, and carried forward for future use.
+Furthermore, the longer the time that the work on
+which people are now engaged takes to yield its product,
+the larger must be this store of consumers' goods. For
+these products, when they are completed, will serve
+(taking society as a whole) to replace the store which in
+the meantime is being used up, so that the longer this
+replacement takes, the larger must be the initial store.
+Conversely, the larger the store of consumers' goods
+available, the more distant is the future for which we
+can afford to work. It is thus the store or stock of
+consumers' goods which represents our real capital;
+for it is the magnitude of this store which determines
+how far we can devote our energies to purposes which
+are remote in time.
+</p>
+<p>
+Now this is pure mysticism. Regarded literally,
+it is in direct conflict with the facts. The processes
+of industry are fairly regular and continuous. At any
+moment, large quantities of consumers' goods of almost
+every kind are on the point of completion; at the same
+moment equally large quantities are consumed. The
+things which we buy were finished, very likely, only
+recently; or, if in fact they have lain idle for some
+<a name="125"> </a>time in stock, there is nothing essential or at all
+helpful
+in that fact. It represents rather a defect&mdash;a maladjustment
+which should be rectified. Even many kinds
+of agricultural produce do not need to be carried forward
+from one year to another, for they are produced in
+many parts of the world, where the seasons come at
+different periods of the year. It is conceivable, therefore,
+that we might consume all non-durable things
+the moment they were ready, and the degree to which
+we approximate to this ideal is a mark of the efficiency
+of our economic system. A large store of consumable
+goods is thus <i>not</i> a fundamental necessity of a prosperous
+society.
+</p>
+<p>
+What <i>is</i> necessary is plainly the power to produce
+these things in large quantities as they are required.
+And this power is furnished by the durable instruments
+of production, which we thus rightly regard as the true
+representatives of modern capital. If it is argued that
+this power to produce consumable goods may be regarded
+as being <i>in effect</i> a store of consumable goods, it
+must be sternly replied that this is the language of
+symbolism, not of science, and that symbolism is highly
+dangerous in this connection. The false conception of
+capital as essentially a store of consumers' goods has
+led and still leads to many serious fallacies. It was
+this that gave rise to the notorious doctrine of the
+Wages Fund; the notion that the sum which can at any
+time be paid in wages is equal to the quantity of capital,
+<i>alias</i> consumable goods, which happens to exist. To
+this day it blocks, with an undergrowth of obscurantist
+controversies, the way to a straightforward account
+of the problem of trade cycles.
+</p>
+<a name="126"> </a>
+<p>&sect;5. <i>The Essence of Waiting.</i> But it is with positive
+conclusions that we must here concern ourselves.
+What is the essence of this waiting, as we have called
+it? What are its results from the point of view of the
+community? The individual, who saves and lends,
+waits in the obvious sense that he postpones consumption.
+He foregoes his right to purchase now a quantity
+of consumers' goods in consideration of the prospect
+of purchasing a larger quantity of such things in the
+future. From the standpoint of the whole community,
+there is a similar postponement of consumption, though
+it need not commence so soon. The store of consumable
+goods is what it is: the quantity of goods in <i>process</i>
+of manufacture, which will shortly be coming forward,
+is also what it is. For some time, therefore, a sudden
+access of saving cannot affect the quantity of goods
+available for consumption; and if, in fact, they should
+be consumed less rapidly, that will represent an unfortunate
+defect, not an essential condition of a smoothly
+working system. The <i>necessary</i> consequence comes
+later. The increased saving will cause labor, materials,
+land, agents of production generally, to be devoted
+to distant purposes. Men will be set to work producing
+durable goods, largely durable instruments of production
+like ships or railways or factories or plant. If the
+increased saving is considerable, the labor, materials,
+etc., required for these purposes will be withdrawn
+even under our present system, as under a smoothly
+working system they clearly must be, from the production
+of other and more immediately consumable
+things. Hence, some time later, the supplies of consumable
+things will be diminished, while at a later
+<a name="127"> </a>period still they will be more than correspondingly
+increased as the result of the assistance of the new
+durable instruments. That is the essence of saving
+from the social standpoint. An early future is sacrificed
+to a more remote future. The aggregate consumable
+income of the present is unaffected; the aggregate consumable
+income of the near future is actually diminished;
+it is not until at least some years later that the
+aggregate consumable income is increased.
+</p>
+<p>
+&sect;6. <i>Individual and Social Saving.</i> This conclusion
+is important: but there is an obvious misinterpretation
+against which it will be well to guard. It is
+customary for social moralists to preach thrift and
+saving as a public duty, and to impart to their appeals
+a special note of urgency in times like the present,
+when, as the result of the havoc of the war, destitution
+is widespread over Europe. Now obviously these advisers
+do not mean to recommend something which
+will impoverish the world next year and the year after
+and the benefit of which will accrue only in a distant
+future: it is the immediate urgency of the world's
+needs which is rather the substance of their case. Nor
+would it be right to conclude that these wise men are
+the victims of a delusion, and advocate a course, the
+consequence of which they do not understand. The
+explanation of the paradox is simple. The more the
+community as a whole saves now, the less in the near
+future will be the aggregate consumable income of the
+whole community: but not of the <i>remainder</i> of the
+community, exclusive of the savers. It is the saver
+who must wait, whose consumption must be postponed
+<a name="128"> </a>to perhaps a distant future; but <i>at no time</i>
+does
+his saving result in a smaller income of consumable
+goods for other people. The aggregate consumable
+income of the near future will be diminished, but it
+may be better distributed, and it may consist of things
+of a different <i>kind</i>. For consumers' goods, we must
+remember, comprise champagne and motor cars as
+well as food and clothes; and, if a rich man saves, it
+may be purely articles of luxury, the production of
+which will shortly be diminished. Moreover, if his
+saving has the effect of transferring purchasing power
+to impoverished people, like those in Central Europe,
+it will not be devoted to a distant future; it will very
+likely be devoted to quite immediate ends. In other
+words, it may not result in any "creation of capital";
+it may not represent any saving on the part of the
+community as a whole. A relatively rich man waits,
+and a relatively poor man <i>anticipates</i> his income to a
+corresponding extent; and it is precisely this that is so
+urgently desirable in a time of widespread poverty and
+chaos.
+</p>
+<p>
+This is no matter of hair-splitting, and making
+plain things obscure. While it is always better for the
+<i>rest</i> of us that an individual, who can afford to save,
+should save rather than spend (though it might be
+better for us still if we could have his money to spend
+ourselves) and while this is the more important the
+greater is the poverty which generally prevails; yet,
+as a community we cannot save so much, we <i>ought</i>
+not to save so much, when we are impoverished as
+when we are prosperous. It is vital to appreciate this
+truth, because, as we shall see, by no means all the
+<a name="129"> </a>saving of the world is done by individuals. There
+are
+many forms of "collective saving," which take place
+in actual fact; still more which we are often urged to
+undertake. And it is of practical importance to realize
+that the very considerations, which call most urgently
+for individual thrift, forbid a great indulgence in such
+projects. A time of national poverty is not a time
+when it is suitable for the State to embark on large
+schemes of capital development: we require our resources
+for more immediate ends. Faced with such
+problems, our practical sense may no doubt suffice to
+keep us straight; but it is apt to do so at the expense
+of a complete inversion of the real issues. If, for instance,
+we call for Governmental retrenchment on
+what we deem extravagant policies of housing and
+education, we usually speak as though they represented
+the profligacy of a spendthrift as contrasted with
+the saving that is indispensable. The truth is rather
+that these policies represent a saving, an investment for
+future purposes, which may conceivably be greater
+(this must not be taken as representing my personal
+opinion) than the community can properly afford.
+This is another instance of what I mean by looking
+at the problem of capital the right way up.
+</p>
+<p>
+&sect;7. <i>The Necessity of Interest.</i> It is only now that
+we are in a position to appreciate the true functions
+of a rate of interest, and the nature of its claims to be
+regarded as a "real cost." Interest, it is sometimes
+said, is necessary to provide for the future. It is far
+more certain that interest is necessary to provide for
+the present. It is a matter of legitimate doubt how far
+<a name="130"> </a>it is necessary to <i>pay</i> interest to secure a
+supply of
+capital; there is no doubt at all that it is necessary to
+<i>charge</i> interest to limit the demand for it. As we saw in
+Chapter I, a world socialist commonwealth would
+require to retain a rate of interest, if only as a matter
+of bookkeeping, in order to choose between the various
+capital undertakings that were technically possible.
+And this is the primary function which the fate of
+interest fulfils in our present-day society. It separates
+the sheep from the goats. It serves as a screen, by
+means of which capital projects are sifted, and through
+which only those are allowed to pass which will benefit
+the future in a high degree. For this essential purpose
+it is hard to imagine how a better instrument could be
+devised.
+</p>
+<p>
+&sect;8. <i>The Supply of Capital.</i> Let us dwell for a moment
+on this image of a screen, or sieve. One condition of a
+good sieve is that its meshes should all be of the same
+size. This condition the rate of interest almost perfectly
+fulfils. But it is also important that the meshes should
+be of the <i>right</i> size. Whether this is true of the actual
+rate of interest is a far more doubtful matter. It is,
+indeed, plain that it is not altogether devoid of merit in
+this respect. In times of general world poverty, like
+those which follow upon a great war, it is desirable, as
+has been argued, that more of our productive resources
+should be devoted to immediately useful purposes, and
+a smaller portion dedicated to a distant future. This
+readjustment the rate of interest helps to bring about.
+For it rises to a higher level, and there is accordingly
+a strong inducement to all manufacturers and traders
+<a name="131"> </a>to economize their use of capital, and thus to set
+free
+productive resources for more urgent needs. But,
+while the meshes of the sieve, as it were, contract in
+times when it is desirable that they should contract,
+we have no reason for supposing that they will contract
+in just the degree that is desired, neither more nor less;
+or, indeed, that at any time they approximate to the
+right size. We in the twentieth century owe much
+of the material wealth that we enjoy to the fact that
+over the last century men saved as largely as they
+did. But our natural gratitude should not restrain
+us from doubting whether they were really well advised
+to do so. If we ask the question <i>how</i> they managed to
+do so, our doubts are deepened. For first place among
+the explanations must be assigned to the inequality
+in the then distribution of wealth. It was because
+many men in England were rich enough to save that our
+railways were built, and the resources of new Continents
+were opened up. But England, a century or even half a
+century ago, was not really a rich community. And if
+the national income in those days had been distributed
+more evenly among the people, can we doubt that they
+would have spent a far larger proportion of it on
+immediate needs; can we doubt that they would have
+been right to do so? We may rather doubt, in view
+of the reactions of poverty on physical and mental
+efficiency, on social harmony, even possibly on population,
+whether we to-day would have been really injured
+as much as might appear. How, then, can we suppose
+that the sum of the amounts which it suits individuals
+to save will bear any close relation to the resources
+which the community can properly devote to future
+<a name="132"> </a>ends? Are we to regard an unjust distribution of
+wealth
+as a mysterious dispensation of Providence for securing
+perfect harmony between the future and the present?
+The point need not be labored further. There are no
+grounds for assuming that we save, as a community,
+even roughly what we ought to save. If we wish to
+believe we do, we must turn for support from economics
+to theology.
+</p>
+<p>
+It is important to be clear upon this issue in order to
+distinguish it from another, with which it sometimes
+seems to be confused. This is the question, briefly
+outlined in Chapter II, of the effect of changes in the
+rate of interest on the supply of capital. As was there
+indicated, there are good reasons for supposing that a
+fall in the rate of interest would induce some people
+to save more, and conversely. But the balance of probability
+is in favor of the conclusion that the <i>net</i> effect
+of changes in the rate of interest, though perhaps slight,
+is usually of the more ordinary kind. The decisive argument
+in this connection is the fact, upon which we have
+just touched, that savings are supplied largely by people
+who are relatively rich, and who become richer when the
+rate of interest rises. For at this point it is necessary to
+be careful. It is easy to slide from the above conclusion
+into an argument of the following kind. A higher
+rate of interest leads to more saving; it is thus necessary
+to <i>evoke</i> more saving; it is thus required as an <i>incentive</i>
+to induce people to incur the <i>sacrifice</i> of waiting; this
+sacrifice represents the "real cost" for which interest
+is paid.
+</p>
+<p>
+This terminology of incentive, inducement and
+sacrifice is of very dubious validity. A rich man, who
+<a name="133"> </a>is made richer by a rise in the rate of interest,
+will
+probably save more, but it will be rather because he
+has become richer than because he is tempted by
+the higher rate: and the less we talk about his sacrifice
+the better. Nor is it clear that the attraction of a high
+rate of interest is an operative factor on the mind of a
+man to whom saving means a real sacrifice of immediate
+comfort or enjoyment. Certainly it is only one among
+many factors, and seldom an important one. A really
+poor man will think not so much of the annual income
+which will accrue from his savings, as of the capital
+sum upon which he or his family can fall back if a
+rainy day should come. And for this purpose he might
+save as much as he saves now, even if there were no
+interest to be obtained thereby. He might even be
+prepared to lend what he had saved, at least to banks
+(a deposit with a bank is in effect a loan), for the mere
+advantage of safe custody. The people who save rather
+for the sake of the capital sum that can be realized than
+for that of the annual interest are very numerous, and
+probably include many men in receipt of quite considerable
+earned incomes. Moreover, those who consider
+mainly the future annual income which their savings
+will yield them, are usually more concerned with its
+absolute amount than with the ratio it bears to the
+amount they must save in order to acquire it. For this
+reason, as has been often recognized, they may save
+less when the rate of interest rises, since a smaller
+quantity of savings will insure to them the future annual
+income they desire to obtain. There is no need to
+be dogmatic upon any of these points. The psychology
+of saving is both complex and obscure. Our conclusion
+<a name="134"> </a>must be the negative one that we have insufficient
+evidence to warrant the assertion that the particular
+rate of interest which happens to prevail is a measure of
+the sacrifice involved in saving, even in the case of what
+we might regard as the "marginal saving." And, if
+we cannot assert this, we must be careful not to assume
+it as the basis of other arguments, or as part of a general
+analysis of price or exchange value.
+</p>
+<p>
+It is of some interest to observe that the difficulties
+which our world socialist commonwealth would encounter
+if it attempted to dispense with the rate of
+interest, would not necessarily include that of obtaining
+a supply of capital. It might, indeed, not find it easy
+to determine the proportions in which it should allocate
+its productive resources between immediate and distant
+ends. Our present system cannot be said to have evolved
+satisfactory principles for the solution of this question;
+and the socialist commonwealth would have to work
+out its own solution. But when it directed that labor
+and materials should be devoted to purposes of long-period
+utility, there would be an automatic collective
+saving, of which no one would be conscious as an
+individual sacrifice. Even at the present time, our
+capital is not supplied entirely by the savings of individuals,
+but to an extent, which though quite incalculable
+is yet certainly considerable, by involuntary saving
+of an essentially similar type to the above.
+</p>
+<p>
+&sect;9. <i>Involuntary Saving.</i> When a municipality embarks
+on a municipal tramways scheme or any other industrial
+enterprise, and pays off by means of a sinking-fund
+the capital which it borrows in the first instance, the
+<a name="135"> </a>proceeding amounts, as the defenders of municipal
+trading have rightly claimed, to a compulsory and
+unconscious saving on the part of the citizens. Their
+consumption has been postponed willy-nilly as the
+result of the increased rates or the high charges which
+they have had to pay; and, when the subscribers to
+the original loan have been paid off, the capital of the
+community is enhanced to the extent of that loan.
+Central governments might similarly increase the supply
+of capital by devoting annual revenue to capital purposes;
+though their actual record, as it happens, is
+mainly of a different kind. But what is chiefly a possibility
+in the case of Governments has actually been
+carried out on an enormous scale by other institutions.
+The development of the joint-stock company system has
+introduced a new factor into the problem of the supply
+of capital, which is of immense though but dimly
+perceived importance. The directors of a company
+are technically no more than the servants of the shareholders.
+It is the profit of the shareholders that it
+is the directors' duty to promote with a single mind,
+and the whole capital of the concern, including its
+reserves both open and concealed, is the shareholders'
+exclusive property. But realities have a way of differing
+from forms, and just as in political affairs it is common
+to regard the State as a very different thing to the
+people who compose it, as a sublime entity with a separate
+existence of its own, so directors are apt to distinguish
+between the company and the shareholders. It is
+the company to which they owe allegiance. To pay
+away in dividends to shareholders money which they
+could employ in extending the business or strengthening
+<a name="136"> </a>the position of the company appears to some
+directors
+a necessity hardly less unpleasant than an increased
+wages bill, or an Excess Profits Duty. Concessions must
+indeed be made to the shareholders' rapacity: but
+when something has been done in this direction, dust
+can easily be thrown in their not very observant eyes.
+Reserves, which within limits are a necessity of sound
+finance, can be accumulated beyond those limits, and,
+when the further limits of an extreme but just arguable
+conservatism have been passed, there remain the
+innumerable devices, known to every resourceful
+Board, of hidden reserves, the secret of which is unmenaced
+by the meager information of a balance-sheet.
+In all this the shareholder, as the directors occasionally
+assure themselves, has no real grievance, for he will
+gain in the long run, from the appreciation in the capital
+value of his shares, all and perhaps more than all that
+he foregoes in the meantime in the way of dividends.
+</p>
+<p>
+In the long run the shareholder is not injured; but
+in the meantime he is in effect compelled, without
+any consciousness of the proceeding, to save and to
+reinvest in the company a portion of the dividends,
+which he might otherwise have spent. The reserves
+which are accumulated are not allowed to lie idle:
+they are employed either in what are really capital
+extensions of the business, or in the purchase of outside
+securities, and in either case they represent an increase
+in the total supply of capital. The principal which
+these proceedings represent is capable of indefinite
+extension.
+</p>
+<p>
+But however possible it might be to secure a supply
+of capital without the inducement of a rate of interest,
+<a name="137"> </a>that rate is indispensable for dealing with the
+demand.
+It is no good saying, "Three per cent seems a fair rate
+of interest; let us try and limit it to that." Given
+the amount of savings which are supplied, the rate of
+interest must be allowed to reach whatever figure
+is necessary to confine the demand to that amount.
+Given the quantity of resources which you have available
+for future needs, the meshes of the sieve must be
+made as narrow as is necessary to confine the projects
+that pass through within those limits. And so, indeed,
+it becomes necessary for any particular business to pay
+for its capital interest at the market rate, not so much
+to secure the saving of it as to secure its allocation from
+the common pool.
+</p>
+<p>
+&sect;10. <i>Interest and Distribution.</i> It is unavoidable that
+this interest should accrue to whoever it is that supplies
+the capital. If the capital were supplied, as it
+might conceivably be, collectively by the community,
+the interest would accrue to the community, and all
+would be well. But as things are, the capital is supplied
+mainly by the savings of individuals, and largely by
+individuals confined to a relatively narrow class. The
+profits of Capital have thus a vital influence on the
+very serious matter of the distribution of wealth between
+social classes. Now, as experience shows, there
+is no element in profits which is capable of such radical
+change in so short a space of time, as is the rate of
+interest. Even before the war it had become hard for
+people in Great Britain to realize that 3 per cent Consols
+had stood at 114 as late as 1896. "How blest," wrote
+two cynical satirists of society in the same period:
+</p>
+<a name="138"> </a>
+<p><!-- poem -->"How blest the prudent man, the maiden pure,<br>
+Whose income is both ample and secure,<br>
+Arising from Consolidated Three<br>
+Per cent Annuities, paid quarterly."[<a href="#138f1">1</a>]<br>
+<!-- poem --></p>
+<p>
+It is impossible to read those lines now without a
+sense of irony, different from that which they were
+intended to convey.
+</p>
+<p>
+Not only is the rate of interest now double what it
+was a generation ago; we have no good reason to suppose
+that the present high level will quickly be reduced.
+The havoc of the war, of which the widespread poverty
+of Europe and the huge debts of Governments are but
+two different aspects, makes it almost inevitable that
+the rate should rule high in the present decade. This
+cannot but exercise a profound influence, of a most
+disquieting character on the general level of profits,
+and to a lesser extent (for here we must allow for the
+effects of high taxation) on the distribution of real wealth
+between social classes. Here we are on the threshold
+of tremendous issues. We almost feel the earth quake
+beneath our feet. We hear the muffled roar of far-reaching
+social controversy:
+</p>
+<p>
+<!-- poem -->"And 'mid this tumult Kubla heard from far<br>
+Ancestral voices prophesying war."<br>
+<!-- poem --></p>
+<p class="footnote">
+<a name="138f1">[1]</a> <i>Narcissus</i>, by Samuel Butler and Henry
+Festing
+Jones.
+</p>
+<a name="139"> </a>
+<h3 class="chap_head"><a name="Chapter_IX"></a>Chapter IX</h3>
+<h3 class="chap_name">Labor</h3>
+<p>
+&sect;1. <i>A Retrospect on Laissez-faire.</i> When, a century
+and a half ago, the foundations were being laid in the
+Western world of systematic economic theory, the
+public attention was much occupied with a subject,
+which indeed has not ceased to hold it: that of the
+failings of Governments. The general interest in that
+topic was shared by the pioneers of economic thought,
+of whom, in Great Britain, Adam Smith was the most
+notable. It was indeed their practical concern with the
+concrete economic issues of the day which very naturally
+gave the impetus to their scientific quest. It was
+hardly less natural that they should have expressed
+their opinions on these concrete issues with considerable
+emphasis.
+</p>
+<p>
+Now the keynote of their practical conclusions was
+that Governments were doing immense mischief by
+meddling with a great many matters, which they would
+have done better to leave alone. In this they were in
+general agreement with one another; incidentally&mdash;let
+there be no mistake about it&mdash;they were right. But,
+as invariably happens in public controversy, their
+opinions became crystallized in a compact formula, or
+cry, with unduly sweeping implications. This was the
+cry of "<i>laissez-faire</i>." Let Governments preserve law
+and order; and leave the economic sphere alone. The
+<a name="140"> </a>economists picked no quarrel with this formula; it
+served well enough for workaday purposes to indicate
+the lines of policy which they rightly thought essential
+in their day.
+</p>
+<p>
+The history of this cry is the history of every cry
+which has won a wide acceptance from mankind. It did
+good work for perhaps half a century; but then many
+crimes were committed in its name. The instrument
+which had been forged to clear away a noxious tariff
+jungle and the monstrous laws of Settlement, was
+turned against Lord Shaftesbury and the Factory Acts.
+Not only was inaction recommended to Governments
+as the highest wisdom; other institutions, like trade
+unions, were warned off the economic grass. An ideal
+of perfect competition became an idol to which much
+human flesh and blood were sacrificed.
+</p>
+<p>
+But, what is more to our present purpose, the idea
+took root of an intimate association between the laws
+of economics and the policy of <i>laissez-faire</i>. People
+who opposed some long-overdue measure of State
+regulation believed themselves to be justified by the
+eternal verities of economic law, and this claim even
+the advocates of the measure seldom ventured to
+dispute. They took refuge rather in a conception of
+economic law as a dangerous monster, whose claws
+must be clipped in the interests of the higher good.
+This notion that all interference with so-called "free
+competition," is a violation (though very likely fully
+justified) of economic laws has sunk deep into our
+common thought. So that to this day, whenever we
+see at work the hand of a State department, a trust or
+a trade union, we are apt to say "Demand and supply
+<a name="141"> </a>are here in abeyance," and possibly we add "A good
+thing too." Since in the matter of wages, the hand of
+the trade union is very generally evident, it is impossible
+to discuss the subject-matter of this chapter, until we
+have rid our minds of this quite baseless prepossession.
+To sweep away this cobweb, I urge the reader to
+recall here the general tenor of the analysis of the
+preceding chapters. Whether we were dealing with the
+price of an ordinary commodity, with joint products,
+land or capital, we came across relationships which
+seemed altogether more fundamental than our present
+industrial system; nor, we may incidentally observe,
+were we ever required to suppose that the present
+system was one of "perfect competition." These
+relationships were almost invariably such that even a
+world socialist commonwealth would find it necessary
+to maintain them. It was not suggested, and most
+certainly it must not be thought, that a world socialist
+commonwealth, or even a more modest remodeling of
+the social order would not effect great changes, possibly
+for good, and possibly for ill. The same economic laws
+might be made to bear very different fruits, but they
+themselves would remain unchanged. What is true in
+all these other fields&mdash;this should be our predisposition&mdash;is
+not likely to be quite untrue in the field of
+labor.
+</p>
+<p>
+&sect;2. <i>Ideas and Institutions</i>. Another point is worth
+noting here. We are sometimes advised to distinguish
+sharply between "What should be" and "What is";
+often two very different things. The advice is pertinent
+and useful, particularly in the sphere of sociology.
+<a name="142"> </a>But our incorrigible habit of confusing the two
+things
+together is not without justification, or at least excuse.
+For, in fact, they gravitate towards one another with a
+force which is just as strong as the capacity of man for
+understanding and controlling his environment. When
+we have a system which is clearly bad, <i>and</i> when we see
+our way to make it better, we generally make the change
+however tardily. Our sense of "What should be" thus
+reacts upon "What is." Meanwhile, until we can make
+the system better, our appreciation of "What is"
+affects our sense of "What should be." And the more
+so, as we are sensible. For "What should be" is
+pre-eminently an affair of relativity. A man may
+hold very strongly that equal pay to every individual
+is desirable, as he puts it, as an ideal. But this will not
+prevent him, in a world in which managers are paid far
+more than manual workers, from maintaining hotly
+(at any rate, if he is sensible) that to pay the manager of
+a particular concern a manual worker's wage would
+be monstrously unfair. He would also argue that it
+would be highly inexpedient. Equity and expediency
+are, in fact, intricately intertwined in our sense of
+"What should be"; and our sense of "What should
+be" in the particular is governed by our knowledge of
+"What is" in the general.
+</p>
+<p>
+These may seem unnecessary commonplaces. But
+they have a vital bearing on the <i>modus operandi</i> of economic
+laws. These laws do not work <i>in vacuo</i>. They
+work through the medium of the acts of men. The acts
+of men are greatly influenced by their institutions, and
+by their ideas of right and wrong. Both institutions and
+ideas may serve to smooth rather than obstruct the
+<a name="143"> </a>path of economic laws; because the laws may
+represent
+either "what should be" in the general, or "what is" in
+the general, and therefore "what should be" in the
+particular. This may hold true even of a trade union
+or a sense of "fair wages." The business of economic
+theory is not to justify a regime of <i>laissez-faire</i>, still less
+to show the folly of bringing morals into business. Its
+value is rather that it may help us, by improving our
+understanding, to shape our institutions, and to adopt
+our moral sentiments so as to promote the public welfare.
+With these general notions in our minds, let us
+turn to see how stands the case with Labor.
+</p>
+<p>
+&sect;3. <i>The General Wage Level</i>. The term Labor may be
+used in a broad or in a narrow sense. It may be confined
+to weekly wage-earners: it may be extended to include
+all those who work, as the phrase goes, "with either
+hand or brain." It is with all classes of Labor, in the
+broadest sense of the term, that we must here concern
+ourselves. It will be convenient, however, in the first
+instance to ignore the differences between them, and to
+consider the forces which determine what we may
+regard as the general wage-level.
+</p>
+<p>
+The general laws of supply and demand hold good.
+The wages of labor tend to a level at which the demand
+is equal to the supply. For, if the demand exceeds the
+supply, if, in other words, labor is scarce, wages tend to
+rise, sooner or later in any case, and the more promptly
+in proportion as the workpeople are organized. Conversely,
+if the supply exceeds the demand, if in other
+Words there is general unemployment, wages tend to fall,
+and the strongest trade unions cannot resist the tendency,
+<a name="144"> </a>though they may delay it. Moreover, the higher
+the wages that must be paid, the smaller, other things
+being equal, is the demand for labor. For, even if
+we leave foreign competition out of account, and consider,
+as it were, labor throughout the world as a whole,
+the demand for labor is by no means inelastic. It is
+derived along with the demand for the other agents of
+production in the manner described in Chapter V.
+As was there shown, the greater the supply of the other
+agents of production, the greater is likely to be the
+demand for labor; but these other agents can be substituted
+for labor in a great variety of ways, and an
+increase in wages (unless accompanied by increased
+efficiency) will make it profitable for employers to effect
+such a substitution, where it was not profitable before.
+Thus, higher wages for the same labor efficiency must
+stimulate the tendency for capital to act as a substitute
+for labor at the expense necessarily (since the aggregate
+supply of capital will not be increased thereby) of its
+tendency to serve as a complement; and this must mean
+a decrease in the volume of employment. Hence the
+power of labor to secure a general advance of wages
+by concerted or simultaneous trade union action, applied
+if you will, not merely to every industry, but to
+every country, is necessarily very limited. Beyond
+a certain point, such a policy must result in general
+unemployment; and, if pushed sufficiently far, in unemployment
+so extensive that it would continue even
+in periods of active trade. Such a policy could neither
+be maintained in practice nor would it be a wise policy
+from the workers' point of view.
+</p>
+<p>
+In other words, given on the one hand the conditions
+<a name="145"> </a>of the demand for labor (i.e. the supply of
+capital,
+natural resources, business ability, risk-bearing and
+knowledge of technical processes, etc., which happens
+to exist), and given on the other hand the supply of
+labor (i.e. both the numbers of workpeople and their
+efficiency), the wage-level in the long run is fairly rigidly
+determined. The introduction of the phrase "in the
+long run" in this connection is apt to provoke comment
+which may be pertinent, but may be misconceived.
+The worker, it is pointed out, is deeply concerned
+with "the short run" in which he has to live. It
+is very true; and it is this that supplies one of the many
+justifications of trade unionism. To secure for the
+workers advances of wages, which economic conditions
+justify, sooner than would otherwise have been obtained,
+is certainly no trivial or contemptible function. But
+it is none the less an illusion to suppose that the general
+wage-level can be appreciably and permanently raised
+by trade union action, except in so far as it increases
+the efficiency of the workers or incidentally stimulates
+the efficiency of the employers.
+</p>
+<p>
+&sect;4. <i>The Supply of Labor in General</i>. The efficiency
+of labor may be regarded as affecting either the demand
+for labor on the one hand or the supply of it on the
+other, according as we look at the matter from the
+worker's or the employer's standpoint. The employer
+is concerned with the labor costs per unit of his output,
+the worker is concerned with the wages he receives.
+An increase in the efficiency of labor may, and usually
+will, mean both a decrease in labor costs to the employer
+and an increase in the earnings of the worker. It is
+<a name="146"> </a>thus wholly to the good. But the effects of an
+increase
+in the supply of labor in the sense of a growth in the
+numbers of the population are far more dubious. Unaccompanied
+by an increase in the <i>demand</i> for labor,
+it <i>must</i> result in a diminished remuneration for the individual
+worker. To some extent indeed the demand
+for labor would almost certainly be increased. The
+supply of Capital may expand, perhaps proportionately,
+perhaps more than proportionately to the increase
+in population. But one factor of production, as
+we have seen, is not capable of such expansion. This
+is the factor of Land, or Natural Resources. It is the
+limitation of this factor which gives rise to what we
+have most of us heard of as The Law of Diminishing
+Returns. It is this that is the essence of the problem
+of Population, portrayed in somber hues more than a
+hundred years ago by Malthus.
+</p>
+<p>
+This problem will form the subject of the sixth volume
+of the present series. In the meantime it may be
+suggested that we are easily credulous if we suppose
+that the problem has been finally disposed of by the
+peculiar progress of an abnormal century. But that
+experience has at least destroyed the view that there
+<i>need be</i>, or even is in fact in Western countries, a relation
+between real wages and the numbers of the people so
+close and direct that an improved standard of living
+must be temporary only, doomed to destroy itself by the
+increased population it engenders. One may perhaps
+go further and say that it is doubtful even in what direction
+changes in remuneration will influence the
+aggregate supply of labor. When we pass to "what
+should be," it is plain that there is nothing whatever
+<a name="147"> </a>to be said for the sort of relation indicated
+above. The
+view once widely held that the principle of population
+must inevitably keep the mass of people close to the
+verge of the bare means of subsistence was no statement
+of a desirable ideal. It was a nightmare; a nightmare
+none the less though it may haunt us yet. It is far from
+fanciful to suggest that it is because this relation is so
+obviously <i>not</i> "what should be" that it may be ceasing
+to hold true in fact. But it would be very fanciful
+indeed to maintain that as yet "what should be" is
+represented by the actual population. Thus, just as
+with capital, so with labor, there is no reason to suppose
+that the aggregate supply is determined by any
+fundamental economic law, or corresponds in practice
+to what is socially desirable.
+</p>
+<p>
+&sect;5. <i>The Apportionment of Labor among Places.</i> Again,
+as with capital, it is when we turn to the <i>apportionment</i>
+of labor between different employments that both
+economic law and social ideal make their appearance.
+It will be well, however, to consider briefly in the first
+instance the different question of its apportionment
+between places. This was hardly necessary in the case
+of capital, because the possibilities of foreign investment
+are very numerous and easy: the mobility of
+capital is thus sufficiently strong (once again it is only
+<i>marginal</i> adjustment that is necessary) to establish
+over at least a large part of the world something near to
+a uniform rate of interest. But this is not the case with
+labor. People do indeed move from place to place
+within a country, and from one country to another, in
+response to economic opportunities. That even the
+<a name="148"> </a>latter movement may be a considerable thing, the
+present population of the United States is a striking
+testimony. But obviously the mobility is very incomplete.
+Here, then, we have what we might <i>loosely</i>
+call an economic law that labor tends to "flow" (as
+it is sometimes unhappily phrased) to those places
+where it can command the highest reward; we have this
+tendency in evidence, but it is far too weak to enable us
+to lay down what would deserve more strictly the title
+of an economic law, that in the long run the reward of
+the same kind of labor is roughly equal in all places.
+Perhaps we can say this for many districts in a single
+country; but for few countries is this true as between
+all their districts. As between countries, it is not remotely
+true.
+</p>
+<p>
+Here, however, the imperfection of economic law is
+balanced by an extreme uncertainty as to the ideal.
+Perfect mobility of labor may be <i>economically</i> desirable
+in a very narrow sense of the term; but it opens out a
+vista of racial, national and cultural problems, into
+which it will be better for us not to enter here. We
+must take for granted the population of a country,
+like that of the world, as a given fact.
+</p>
+<p>
+When we do this, the question of its remuneration
+is on all fours with the more general question discussed
+above. That the remuneration of the labor of a country
+is mainly governed by the relations between demand
+and supply is an inexorable fact. In view of the international
+mobility of capital, the main distinctive factor in
+the demand for the labor of a particular country is the
+supply of natural resources, which it knows how to use.
+Where the natural resources are great relatively to the
+<a name="149"> </a>population, there wages will rule high; where the
+converse
+is true, wages will rule low. This result of economic
+analysis is abundantly confirmed by experience.
+The relatively high wages in the new world, the low
+standard of living in the densely populated East; the
+economic history of Ireland are so many object-lessons
+of its truth.
+</p>
+<p>
+&sect;6. <i>The Apportionment of Labor among Social Grades.</i>
+The question of the apportionment of the labor of a
+country among different employments falls under two
+heads. Some differences of occupation are associated
+particularly in Great Britain with differences of what
+we know as class. The movement of labor between
+different social grades is clearly a very different thing
+from its movement between different occupations in the
+same grade. The grades themselves are not easy to
+define: not a little ingenuity has been expended on the
+attempt, and perhaps the best brief classification that
+has been put forward is one which divides labor into the
+following four grades:&mdash;
+</p>
+<ol>
+<!-- poem --><li>Automatic manual labor.</li>
+  <li>Responsible manual labor.</li>
+  <li>Automatic brain workers.</li>
+  <li>Responsible brain workers.</li>
+<!-- poem -->
+</ol>
+<p>
+But the matter is one perhaps for the satirist of manners
+rather than the economist. It suffices for our purpose
+that the distinctions, however vague, are very real.
+</p>
+<p>
+It is obvious the mobility of labor between the occupations
+of a platelayer and a barrister is not very
+great. It may seem perhaps to be even smaller than it
+<a name="150"> </a>is. For here it is important to bear in mind a
+general
+consideration which is equally applicable to horizontal
+movements within any social grade. There may be a
+considerable movement of labor between different employments
+without any individual worker having to
+change his occupation. The personnel of any industry
+is constantly changing. At one end, men die, retire, or
+are pensioned off; at the other end, young recruits are
+taken on. By a diversion of the new recruits from one
+employment to another, a radical change can be made
+in the occupational census in a comparatively short
+space of time. It is in this manner that such movement
+as takes place is largely effected at the present
+time. Within the ranks of the professional classes, a
+man does not commonly leave the profession to which
+he has been trained. But his <i>choice</i> of profession is determined
+by him or his parents not solely on pecuniary
+grounds but usually with an anxious scanning of the
+general prospects, which include pecuniary advantages
+together with many other things. The same thing is
+true in no small measure of manual wage-earners. This
+general consideration must be borne in mind throughout
+the remainder of this chapter.
+</p>
+<p>
+But even the sons of platelayers do not commonly
+practise at the bar. The obstacles in the way are various
+and subtle. Many of them are ideas, inherited
+from a bygone epoch, about keeping other people "in
+their proper stations," which the whole drift of circumstance,
+and the spirit of the age are rapidly wearing
+down. In the new world such obstacles are rare. But
+an obstacle of a more tangible and formidable kind
+arises from the fact that the liberal professions and
+<a name="151"> </a>many business careers require a long and expensive
+education and training, which the platelayer is quite
+unable to afford to give his son.
+</p>
+<p>
+Now this expense of training is highly relevant not
+only to "what is," but to "what should be." It includes,
+it should be observed, a negative as well as a
+positive element; a long period of waiting before income
+begins, as well as the actual outlay on educational and
+other charges. When the burden both of the waiting
+and the positive costs must be borne either by the individual
+or the family, there are few people who would
+seriously dispute that this goes to justify, on grounds
+of fairness as well as of expediency, a higher level of annual
+remuneration later on; though many people would
+doubtless argue that the amenities and dignities of the
+professions should be taken into account on the other
+side. But the same consideration makes it a matter of
+legitimate doubt whether it would be desirable, even as
+an ideal, that the community should provide so completely
+the costs of training and of maintenance in the
+waiting period, as to make it no longer "fair" that the
+individual should be remunerated more highly than
+workers in less expensive occupations. For this would
+mean that more labor would be absorbed in the former
+employments than in principle would be socially desirable,
+for reasons which the argument of the next chapter
+will make plain. But the most desirable number of
+doctors, barristers, teachers, etc., is not a thing which
+can be settled on purely economic grounds, and it is
+unprofitable to carry further this particular line of
+thought. Few people would advocate, as an ultimate
+ideal, that the remuneration of the professional grades
+<a name="152"> </a>of labor should exceed that of lower grades by <i>more</i>
+than
+the extra expense of training and waiting they involve.
+That the excess is usually greater than this at the
+present time seems very probable: though it is a matter
+on which it is very hard to generalize. But it would
+certainly be far greater than it is if the principle of
+<i>laissez-faire</i> ruled supreme in these affairs. Fortunately
+it does not, and has never done so. Even before
+the days of free elementary education, the endowment
+of education was not unknown. The ancient public
+schools and universities, which have come down to us
+from the Middle Ages, are a standing witness to what
+in this field a far poorer community thought fit to do.
+Their systems of scholarships and exhibitions, no less
+than their courts and towers, deserve our notice. For
+these were designed to form what we now call "a ladder"
+by which talent could climb from the humblest
+origins to the callings which then seemed the summit
+either of spiritual or of worldly ambition.
+</p>
+<p>
+This reference to "talent" makes it well to consider
+here a factor which necessarily complicates, though it
+does not substantially affect, the whole argument of
+the present chapter. There are differences of natural
+ability, which no education or training can obliterate,
+which it should rather be their business to excite.
+These differences are associated to a great extent with
+differences of occupation; they <i>should be</i> so associated
+far more closely than in fact they are. They are also
+associated with differences of remuneration even within
+the same occupation; "what should be" here is a question
+which we may excuse ourselves from discussing.
+The principle which, however vague, is sufficient for
+<a name="153"> </a>our present purpose is that the same <i>natural
+ability</i>
+should command the same reward in all occupations,
+subject to differences which should not exceed the differences
+of educational cost and initial waiting they
+involve. We cannot assert, as an economic law, that
+this is generally true in fact. If ever it becomes true,
+it will be due not to "<i>laissez-faire</i>," or "free competition,"
+but to social arrangements, which express a
+sense of what is right.
+</p>
+<p>
+&sect;7. <i>The Apportionment of Labor among Occupations.</i>
+When we pass to the apportionment of labor among
+different occupations in the same social grade, the same
+principle as to "what should be" applies in a simpler
+form. Equal natural ability should command an equal
+reward in all occupations; assuming that differences
+in cost of training can be ignored. The reward must,
+of course, be interpreted not in terms of money only
+but of "real wages," with allowance for the varying
+amenities of different tasks. Now it was here that the
+extreme advocates of <i>laissez-faire</i> made one of their
+cardinal mistakes. They assumed that this ideal would
+be best secured by "perfect competition." The employer
+would choose the worker who would come for
+the lowest wage; the worker would choose the employer
+who would pay him the highest wage; and so, by a process
+similar to the higgling of a commodity market, the
+desirable uniform wage-level would become established.
+But in fact the conditions of the labor market differ
+greatly from those of a commodity market. People
+are ignorant, do not look ahead, cannot afford to risk
+the loss of a job, however wretched, which they happen
+<a name="154"> </a>to have got. For reasons such as these, a
+considerable
+departure from <i>laissez-faire</i> is necessary in order to
+realize the theoretical results of <i>laissez-faire</i>. To prevent
+the putting of boys in large numbers into "blind
+alley" occupations, you must supplement the foresight
+of parents with Juvenile Employment Exchanges and
+After-Care Committees. To secure a proper uniformity
+of wages within the same occupation, you must have
+trade unions. To secure a proper uniformity between
+different occupations, you must have again trade unions,
+or, failing them, Trade Boards.
+</p>
+<p>
+That the actions of trade unions are very largely of
+this type is a fact insufficiently appreciated by the
+middle-class public. The elaborate system of piece-rate
+lists which has been evolved in the Lancashire cotton
+industry is primarily designed to secure the same wage
+for workers of equal efficiency in all mills, irrespective
+of the degree to which the machinery is antiquated or
+up to date. This result is wholly to the good: not only
+does it secure "fairness" for the worker, it stimulates
+the employer wonderfully to efficiency. The same result
+could never be secured so effectively by the free
+play of competition. But this tendency, which is easily
+the predominant element in the trade union regulations
+of the cotton trade, is at least an important element
+in the policy of "The Common Rule" of all trade
+unions, though it may often be mixed up with the more
+questionable tendency to eliminate differences of pay
+for differences of natural ability, and the unquestionably
+bad tendency to discourage output. As between different
+occupations, the insistence of a trade union that
+wages must be leveled up towards the wages obtaining
+<a name="155"> </a>in similar trades acts again as a far more powerful
+force
+than competition.
+</p>
+<p>
+But the actions of trade unions are by no means
+wholly of this type. They often serve rather to secure
+still higher wages for workers who, comparatively
+speaking, are already highly paid. It makes little
+difference whether this effect is secured directly by
+wage demands, or indirectly by restricting the right
+of the entry to the trade. In either case the consequences
+are the same, and there should be no ambiguity
+as to their nature. They are certainly bad for the community,
+certainly bad for the <i>other</i> workers of the
+grade, almost certainly bad for the workers of the
+grade regarded as a whole. The higher wages must
+raise the money costs of production, and result, sooner
+or later, in fewer workpeople being employed in that
+occupation; larger numbers must accordingly seek
+employment elsewhere; and this cannot but depress
+the wage rates of less strongly organized trades. Thus
+the effect is twofold: a larger proportion of workpeople
+will be employed in badly paid occupations; and the
+wages there will be lessened.
+</p>
+<p>
+The power of a strong trade union to secure wage
+advances of this type is considerable, but it must not
+be exaggerated. Trade unions employ as a matter
+of course devices which, in the case of trusts, we regard
+as the extremest weapons of monopoly. To say, "If
+you buy from anyone except us, you must not buy at
+a lower price than ours," which Messrs. J. &amp; P. Coats
+are represented as having done, is analogous to insisting
+that if non-unionists are employed, it shall be at the
+trade union rate, as every trade union very properly
+<a name="156"> </a>insists. To say, "You must buy <i>only</i> from
+us," the
+method of the boycott, as it is called, is analogous to
+the very common refusal to work with non-unionists
+at all. But in one important respect the tactical position
+of a trade union is weaker than that of an ordinary
+combination. It has usually got a buyers' combination
+up against it, in the shape of an association of employers.
+The latter will be governed in their attitude towards
+the workpeople's demands, not only by immediate
+expediency, but also by their own sense of "what should
+be"; and they will usually resist demands for wages
+greatly in excess of those obtaining in comparable
+trades. In this way, the tendency for workers of the
+same efficiency to receive the same real wages in all
+employments is far stronger than might at first sight
+appear.
+</p>
+<p>
+If we had to rely for this result upon trade unions
+alone, it would be highly problematical. For here a
+psychological curiosity emerges, which, familiar and
+intelligible as it is, is none the less a curiosity. So
+far from still higher wages for well-paid workpeople
+being regarded in the world of manual labor as detrimental
+to the interests of other workpeople, it has become
+almost a point of honor to believe the contrary.
+A wage dispute in a particular trade is conceived as
+an engagement in a far-flung battle between Capital
+and Labor, in which success at any part of the line
+will facilitate the victory of the whole army. This
+conception contains a measure of truth, as regards
+immediate and purely temporary effects; though,
+even here, it is made to seem unduly plausible by the
+recurrence of trade cycles, which cause wages at any
+<a name="157"> </a>time to move in the same direction all along the
+line.
+But, if the foregoing analysis has been appreciated,
+the essential falsity of this notion should be evident.
+It is an illusion, which should receive no endorsement,
+either tacit or express, in any work on economics.
+The general wage level of a country cannot be regarded
+(except temporarily, and within narrow limits) as a
+function of the efficiency of labor organization; it
+depends on the far deeper economic facts set out in
+&sect;3 above.
+</p>
+<p>
+Let us now try to summarize the conclusions of this
+section. There <i>is</i> a tendency towards a uniformity
+of real wages for workers of the same grade and of the
+same efficiency. This tendency is not due to competition
+alone. It is helped by many acts of a collective
+kind, arising from a sense of "what should be"; it is
+obstructed by other acts of a like kind, where the sense
+of "what should be" is based on imperfect understanding.
+The more people act in accordance with
+"what should be," and the better their understanding,
+the more will this tendency approximate to an accurate
+economic law.
+</p>
+<p>
+&sect;8. <i>Women's Wages.</i> The wages of women represent
+a problem of great public interest, upon which the
+principles laid down in this chapter have a most important
+bearing, and which in its turn serves to illustrate
+these principles further. It has been suggested that
+male and female labor can be regarded as a strong case
+of Joint Supply, and the suggestion is not merely facetious.
+The essential point, that the proportions of
+available male and female labor are fairly constant (not
+<a name="158"> </a>that they may not alter with time and
+circumstances,
+but that they are essentially independent of the conditions
+of demand) holds true not only of a country as a
+whole, but hardly less of a particular district. If men
+and women are to be regarded as separate grades, they
+are grades between which immobility is complete.
+Now men and women differ in many ways which affect
+both the demand for and the supply of their services.
+On the one hand, far fewer women wish to enter business
+employments of any kind, as women have plenty of
+work that must be done at home. On the other hand,
+though women can do many kinds of work as well as
+or better than men, it so happens that for much the
+greater number of services, which are in large demand
+in the business world, men are the more efficient.
+Incidentally, it happens that many occupations which
+women <i>might</i> do as well as men are closed to them by
+exclusive regulations. The resultant of these forces
+is that men and women are for the most part employed
+in different occupations, and the scale of payment
+in women's occupations is far lower than that in men's.
+Of this last fact singularly small complaint is made.
+</p>
+<p>
+It is otherwise, however, when we come to occupations
+where men are either wholly or partially employed,
+where women are at least approximately as efficient
+as men, and where the barriers to their entry are at
+least formally removed. There a ferocious controversy
+rages over what is known as the principle of "equal
+pay for equal work." It is easy to understand why
+the male trade unionists in, let us say, the engineering
+trades, should support this claim. It is also, indeed,
+<i>intelligible</i> why the enthusiasts for Women's Rights
+<a name="159"> </a>should urge it; but it is much more doubtful
+whether
+they are wise. Possibly they are wise enough in their
+generation, since it might not serve them on this matter
+to get across the men. But it is clearly not prudential
+considerations of this kind by which they are mainly
+actuated. They make the demand, with extreme
+intensity of feeling, as a demand for fundamental
+justice. They are also very obviously inspired with the
+belief (similar to the illusion which is a point of honor
+with the male trade unionist) that high wages for
+women in well-paid occupations will help to raise the
+wages of sweated women workers in other trades.
+</p>
+<p>
+Now, here again, any lack of candor would be inexcusable.
+The effect of this policy on the wages in
+women's trades is certainly to reduce them. The policy
+serves, as powerfully as any trade union custom,
+to restrict the entry of women into the men's employments,
+and often spells virtual exclusion. For the
+"equal efficiency" may be approximate only, and there
+may be advantages in male labor from the employer's
+standpoint which are none the less important, because
+they are not easy to define. Moreover, from the employer's
+standpoint, the efficacy of female labor will
+be largely a matter for <i>experiment</i>, and "equal pay"
+will give him no inducement to experiment at all.
+The diminished number of women in these occupations
+(as compared with what might have been) increases
+the number who must fall back on the purely women's
+trades; and it <i>must</i> serve to reduce the wages there,
+where organization is by no means strong. I am far
+from asserting that this consideration is conclusive
+against the principle of "equal pay for equal work"
+<a name="160"> </a>(though I think it conclusive against a rigid
+interpretation
+of it); for other matters, such as the standpoint of
+the male trade unionist must be taken into account.
+But the reactions on the wages in women's trades permit
+of no ambiguity.
+</p>
+<p>
+In occupations of another type, the issue takes a
+somewhat different form. In the teaching profession,
+"equal pay" would not exclude the women; it would
+be far more likely to exclude the men. For, though the
+advocates of the principle would declare that their
+intention is that the salaries of women should be leveled
+up to those of men, it is more probable that the ultimate
+outcome would be a leveling down. Educational
+authorities have the ratepayer and the taxpayer to
+consider; and, apart from this, they have their own
+interpretation of "what should be." To pay a woman
+less than a man for the same work may seem glaringly
+unfair; but it is not very clear why a woman, who is
+an elementary school teacher, should be paid much
+more than, say, a hospital nurse, merely because in the
+former case a number of men happen also to be employed.
+In fact, there is a clashing of equities in this
+connection; and there is little doubt which of them
+the educational authorities would prefer. A leveling
+down of the men's salaries would make it all but impossible
+to attract men of the desired type into the
+profession, and would thus lead to the virtual extinction
+of the male elementary school teacher. This might
+seem in a narrow sense to be economically desirable.
+Why should not men take their services to the tasks
+for which they can command a higher reward, and which
+women cannot do as well? But whether this would
+<a name="161"> </a>be desirable in the true interests of education is
+a far
+more doubtful matter. And this is the real problem
+of "equal pay for equal work" for male and female
+school teachers. The reader will notice that I have
+refrained from alluding to the controversy as to whether
+men should receive more on the grounds that they have
+wives and families to maintain. That, although a most
+absorbing issue, is not the real issue in practice at the
+present time. The real issue is a clashing between a
+sense of "what should be" on obvious general grounds
+and a sense of "what should be " in the particular, derived
+from the very patent and general "what is" that
+men receive as a rule far higher pay than women.
+</p>
+<a name="162"> </a>
+<h3 class="chap_head"><a name="Chapter_X"></a>Chapter X</h3>
+<h3 class="chap_name">The Real Costs of Production</h3>
+<p>
+&sect;1. <i>Comparative Costs</i>. Beneath the great diversity
+of the considerations which are applicable to the different
+agents of production, certain general conclusions
+emerge from the analysis of the last four chapters.
+In no case did we find that the aggregate supply of the
+agent was determined by clear and certain economic
+laws, possessing any fundamental significance. The
+supply of natural resources is a fixed thing, quite independent
+of the efforts or the desires of man. However
+the supply of capital and the supply of labor
+may react under present conditions towards economic
+stimuli, these reactions possess no quality of inevitability
+and bear no clear relation to "what should be."
+The supply of risk-bearing responds perhaps more
+decidedly to the prospects of increased reward; but
+it is so intimately associated with special knowledge
+and the qualities of business enterprise, as to leave
+some uncertainty attaching even to this conclusion.
+When, on the other hand, we turn to the apportionment
+of these factors among different uses, we find
+relations which are both clear and fundamental. Laws
+emerge which state at once not only "what is" or at
+least "what tends to be," but also "what should be";
+and it is the fact that they taste "what should be"
+that gives them their fundamental character.
+</p>
+<a name="163"> </a>
+<p>These conclusions enable us to give a general answer
+to the question which was raised at the end of Chapter
+V: What are the ultimate real costs to which the
+money cost of production correspond? The attempt
+has often been made to relate money costs to such
+things as the effort of working and the sacrifice of waiting.
+The existence of such costs is beyond dispute.
+Much saving does mean a sacrifice of immediate enjoyment
+to the man who saves. Most labor is irksome and
+disagreeable in itself, and involves strain and wear and
+tear; while all labor means a deprivation of the utility
+of leisure. Workpeople, moreover, do not grow on
+gooseberry bushes, but must be fed and clothed from
+the cradle; and their rearing and maintenance represents
+a real cost which someone must incur.
+</p>
+<p>
+But the existence (or the importance) of such costs
+is one thing, their relation to money costs is another.
+In Chapter VIII we saw how difficult it was to establish
+any clear relation between the rate of interest and the
+sacrifice of saving. The costs of labor present similar
+difficulties. The relative irksomeness of two occupations
+may affect the relative wages which will rule in the
+two cases; so, certainly, will the differences in the cost
+of education and training which they require. But
+these are matters which concern the <i>apportionment</i>
+of labor between different employments. There is
+no good reason to suppose that the general wage-level
+would be reduced, merely because work as a whole
+became less irksome, or involved a smaller physical or
+mental strain. The supply of people is not determined
+by the same kind of influences as is the supply of a
+commodity. Parents do not produce children for the
+<a name="164"> </a>sake of the wages which the children will receive
+when
+they go out to work; or, if this happens, we rightly
+regard it as a horrible anomaly. In so far as parents
+are affected by economic conditions it is by their own
+economic conditions; the question is rather one of
+how many children they can afford to have, than of a
+balancing of the cost to them against the incomes
+which their children may subsequently acquire. But
+other considerations enter in; and, in fact, it is doubtful
+how the aggregate supply of labor will react to changes
+in prosperity. Finally, the supply of land involves
+neither effort nor sacrifice; and, among our money
+costs, we have to account for the item of the rent of land.
+To dispose of this difficulty by arguing that rent does
+not enter into marginal costs (in any sense which is not
+equally true of wages and profits) is to lose contact
+with reality. Thus the attempt to explain money
+costs in terms of the costs of producing the ultimate
+agents of production leads us into a quagmire of unreality
+and dubious hypothesis. For a systematic theory,
+which will rest on firm foundations, we must interpret
+money costs in very different terms.
+</p>
+<p>
+The real costs which the price of a commodity measures
+are not absolute, but comparative. Marginal
+money costs reduce themselves in the last analysis
+to the payments which must be made to secure the use
+of the requisite agents of productions. These payments
+<i>tend</i> to equal the payments which the same agents
+could have commanded in alternative employments.
+The payments which they could have commanded in
+alternative employments, tend in their turn to equal
+the derived marginal utilities of their services in those
+<a name="165"> </a>employments. It is thus the loss of <i>Utility</i>
+which
+arises from the fact that these agents of production
+are not available for alternative employments that is
+measured by the money costs of a commodity at the
+margin of production.
+</p>
+<p>
+This conception of ultimate costs encounters an
+instinctive repugnance, arising from a mistaken sense
+of logical symmetry, which it will be well to examine.
+Cost, it is objected, so interpreted loses its character
+as an independent entity. It is merely something derived
+from utility. Now in the earlier chapters of
+this volume, we found reason to be impressed with
+the general symmetry which pervades the relations
+of demand and supply. Moreover, when we considered
+the case of ordinary commodities we found that at
+the back of demand and giving rise to it was utility;
+at the back of supply, and limiting it, was cost. The
+general symmetry between demand and supply thus
+seemed almost to imply a fundamental symmetry
+between utility and cost. If, then, cost in the last
+analysis is derived from utility, does not this make
+nonsense of the symmetry between demand and supply,
+or, if we cling to this last symmetry as a demonstrable
+truth, must we not refuse to admit that cost can be
+derived from utility?
+</p>
+<p>
+This is one of those false dilemmas which supply the
+wiseacres of the world with a plausible case for distrusting
+the logical faculty. If we have good reason for
+believing that both of two apparently inconsistent
+things are true, the explanation is seldom that one of
+them is really false; it is more usually that they are
+not really inconsistent. So it is here. The symmetry
+<a name="166"> </a>between demand and supply is very great, and we
+should always look to see if it holds good, but it is by no
+means perfect, and it is in the last analysis that it most
+notably fails. It is most important to distinguish
+clearly between the utility and the cost of a commodity
+as two separate and independent things. In
+Chapter V, it will be remembered, we did not permit
+ourselves to derive the costs of producing cotton lint
+from the utility of cotton-seed. The refusal to do so was
+essential to clear thought; it led to some very useful
+practical corollaries. But to derive the cost of a commodity
+from the utility of something which is produced
+<i>with</i> it, as part of the same productive process; and to
+derive the cost from the utilities which the agents,
+which help to produce it, possess for other purposes, are
+two entirely different things. In works on International
+Trade, the reader will discover that the comparative
+nature of real costs is so unmistakable that a Doctrine
+of Comparative Costs is expounded with much formality
+at the outset. This doctrine is apt to prove somewhat
+puzzling, when we have to deal with it as an apparent
+exception to the general tenor of economic theory.
+Its difficulties disappear when we realize clearly that
+the real cost of <i>anything</i> is the curtailment of the supply
+of other useful things, which the production of that
+particular thing entails.
+</p>
+<p>
+&sect;2. <i>The Allocation of Resources.</i> However strange the
+above conception may seem, there should be no doubt
+that this cost is very "real." Here the irregularities and
+maladjustments of the economic world, the recurrence
+of trade depressions and the like, do much to obscure
+<a name="167"> </a>a clear vision of the essential realities. At a
+time when
+there is much unemployment, and much machinery
+standing idle, it is so clear to common sense that we
+<i>could</i> produce more of some particular thing without
+diminishing the supply of other things, that any apparent
+statement to the contrary may perhaps seem
+the height of academic pedantry. But let me ask the
+reader to consider with an open mind a familiar parallel.
+During the recent war there was inevitably much waste
+and muddle in the utilization of the military resources
+of the Allies. Some regiments would be kept inactive
+for long periods, not for purposes of rest or training,
+but owing to some defect of organization. In the
+manufacture of munitions, an insufficient appreciation
+of the principles of joint demand led to the piling up of
+excessive stores of certain materials, which were useless
+until commensurate supplies of the complementary
+factors could be obtained. It is unnecessary to multiply
+examples. The waste of both man-power and material
+was immense. But the allocation of these resources
+between, for instance, the various theaters of war was
+none the less a very real problem, which gave rise to
+much engrossing controversy. It was an axiom that
+the more resources you employed in Mesopotamia or in
+Palestine, the less resources remained available for
+France. No one thought of maintaining that, as long
+as there was any waste of these resources, so long as
+there remained any men to be "combed out" of unessential
+industries, you could pour troops and munitions
+into Salonika without stopping to consider the
+needs of other theaters of war. Such a notion would
+have been clearly imbecile, for the sufficient reason
+<a name="168"> </a>that the sending of armies to Salonika would do
+nothing
+in itself to secure (however much it might incidentally
+stimulate) the more efficient use of the resources which
+remained.
+</p>
+<p>
+Now this is precisely analogous to the problem of
+the allocation of our resources for the purpose of peace.
+Notwithstanding all the wastes and maladjustments
+of the economic system, the use of resources to produce
+one commodity <i>does</i> in general curtail the production
+of others. The mere launching of a new business enterprise
+does no more than the sending of an army to
+Salonika, to eliminate waste in the remainder of the
+economic organism. Unemployment, broadly speaking,
+is a function not of the magnitude of the normal demand
+for labor (which affects rather the wage-level), but of
+fluctuations in the demand for labor; fluctuations
+from one day to another as at the docks, from one
+season to another as in the building trades, above all
+from one period of years to another as in the cycles of
+general trade boom and depression. Nothing will
+diminish unemployment which does not serve to
+diminish these fluctuations. A new business will not,
+as a rule, have any such effect. If it is launched during
+a trade depression (a most unusual proceeding),
+it may temporarily absorb unemployed labor and idle
+materials. But when the next boom comes, it will
+be using, though presumably to greater advantage,
+labor and materials which, but for it, would have
+been employed for other purposes. Meanwhile the
+causes making for unemployment will be unaffected.
+Miscalculations will still be made, the building trades
+will still become slack in the winter, the casual methods
+<a name="169"> </a>of engaging dock laborers will still continue,
+trade cycles
+will still recur, while beneath them, and concealed by
+them, some industries will expand and others will decay.
+Thus, like the armies at Salonika, the new business
+would in effect divert resources from elsewhere.
+</p>
+<p>
+This truth needs to be firmly grasped in mind. It
+is this that makes it in general unsound policy to subsidize
+industries, either directly or indirectly, by means
+of a protective tariff. It is this, indeed, that supplies
+the answer to half the economic fallacies that are always
+current.
+</p>
+<p>
+The allocation of resources so as to yield the maximum
+effect was rightly recognized as one of the most
+vital and difficult of our war-time problems. To cope
+with it, the Allied peoples devised one instrument after
+another, and finally evolved the Supreme Allied Council.
+The analogous problem in the economic world of
+peace time is no less important and far more difficult;
+but there is nothing to correspond to the Supreme Allied
+Council. There we rely upon a co-operation which,
+as was stressed in Chapter I, is unco-ordinated. That
+co-operation has been evolved by the mutual competition
+of innumerable business concerns, controlled by
+men largely animated by the motive of pecuniary profit.
+But it has not been evolved wholly by such means:
+and how far that competition or that motive of profit
+is essential to its efficiency are questions with which
+this volume has not been in any way concerned. The
+economic laws, the relations between utility, and price
+and cost, with which it has been occupied, are an entirely
+different matter; and these <i>are</i> essential to the
+efficiency of any system of society. For if the marginal
+<a name="170"> </a>utility of a commodity is equal to its marginal
+cost, and
+if this marginal cost is composed of payments to the
+various agents of production at least as great as they
+could have obtained if they had been used otherwise,
+this amounts to saying that the agents of production
+are so utilized as to yield the maximum utility; and
+this is the same thing as saying that they are so utilized
+as to produce the maximum wealth.
+</p>
+<p>
+&sect;3. <i>Utility and Wealth.</i> Upon this last point it is
+important to be quite clear. An increase in wealth
+seems a solid, tangible reality; something, which,
+however much we may scorn it in our more precious
+moods, we recognize, for a rather poor community,
+to be an important object of endeavor. But an increase
+in utility seems a vague, impalpable notion,
+hardly deserving the same practical concern. None the
+less the two things are identical. We greatly deceive
+ourselves if we suppose wealth to be an objective reality.
+It is true that, when we get behind the money in which
+it is measured, we come upon commodities, like food
+and clothes and houses and factories, which seem
+comfortably solid and objective things; but we also
+come upon many services, like those of gardeners and
+doctors and hospital nurses, which we are bound to
+reckon as part of our wealth, although they are not
+embodied in any tangible commodities. Moreover,
+although material commodities are objective realities
+in themselves, and in many of their properties, they are
+<i>not</i> objective realities in their property as wealth. A
+pair of boots is an objective fact; so is the number of
+pairs in existence at any time, so is their size, their
+<a name="171"> </a>weight, the quantity of leather or of paper which
+they
+happen to contain. But the wealth which those boots
+represent is not an objective fact. It depends upon the
+opinion which men and women entertain as to their
+utility; and these opinions take us into the subjective
+regions of human psychology. Let us suppose,
+for instance, that we calculated, on the basis of present
+prices, that the boots in existence at the present time
+represented 1/1000 part of our total wealth. Suppose,
+then, that a miracle were to happen; that the skies
+opened and rained boots upon us, of every size and
+shape and pattern, until we had 1000 times as many
+boots as we had before. Could we say that our total
+real wealth had been doubled? Clearly we could
+not. To obtain boots for nothing, and to wear a new
+pair every week, would make us somewhat better off,
+but not twice as well off as we were previously. In
+other words, the real wealth of a thousand times as
+many boots as we have now, is not a thousand times as
+great as the wealth of the present number of boots. We
+are, indeed, practically restating the Law of Diminishing
+Utility; and this perhaps is enough to show that
+wealth is fundamentally the same thing as utility.
+</p>
+<p>
+Another point, however, is worth noting. Our real
+wealth would be somewhat increased in the case supposed;
+but if we were to turn to the money measure
+of wealth, the opposite result would be far more likely,
+For the price of boots would most likely fall to nothing,
+and the total value of boots, in the commercial sense,
+would accordingly be nothing also. This shows that
+money values may be a most imperfect measure of
+aggregate wealth; for what money values represent is
+<a name="172"> </a>the product of the quantity of the commodity and
+its
+<i>marginal</i> utility, while aggregate wealth is <i>total</i>
+utility,
+which is a very different thing. This, it may be observed,
+makes all attempts to compare the wealth of different
+countries or different times, and no less to construct
+Index Numbers of Prices, imperfect of necessity,
+and arbitrary in their foundations.
+</p>
+<p>
+&sect;4. <i>Criteria of Policy.</i> The point has now been reached
+at which we must take into account the very important
+fact which was mentioned at the close of Chapter III.
+The maximum utility which the laws of supply and
+demand tend to bring about is a maximum <i>total</i> utility
+indeed, but one still measured in terms of money. An
+unequal distribution of wealth destroys any necessary
+correspondence between that and the maximum <i>real</i>
+utility. This consideration, however, does not affect
+the general validity of the conclusion that the laws of
+supply and demand represent what is socially desirable
+now or under any system. For what is at fault here is
+the distribution of wealth; and it is that which should
+be changed, in so far as it is possible to do so. Now it is
+important to realize that whenever it is possible to
+supply a commodity to poor people below cost price,
+it is possible to alter the distribution of wealth, for that
+in effect is what is done. Purchasing power, which may
+be taken from richer people by taxation, or which may
+be obtained from "collective" profits on other trading,
+is in effect transferred to the poor people in question,
+though the transference is coupled with the condition
+that the purchasing power must be expended in a
+particular way. It is <i>in general</i> desirable that the
+<a name="173"> </a>transference should be made without this condition
+being attached. To this general statement, exceptions
+indeed exist so numerous and important as possibly to
+justify a great extension of social expenditure of this
+type. Education should certainly be provided free of
+charge, there are strong arguments for subsidizing
+housing; the provision of milk to expectant mothers,
+the feeding of school children, such instances can be
+multiplied into a very extensive list. But it is important
+to observe that in each case the justification of the
+policy rests in the presumption that the service supplied
+is one which it is particularly important that the beneficiaries
+should have, <i>as compared with</i> the other things
+upon which they might have preferred to expend the
+equivalent purchasing power, had it been transferred
+to them without conditions. Where there is no such
+presumption, as surely there is none in the case of the
+great bulk of commodities, the relation between price
+and marginal cost should be rigidly maintained; it
+is the distribution of purchasing power which we should
+rather seek to alter. How far is it possible to alter that?
+</p>
+<p>
+I suppose that it is inevitable that many readers will
+have concluded that the preceding chapters must be
+taken to mean that the distribution of wealth is not
+susceptible of any appreciable change. I would remind
+those readers of an important distinction upon which
+impatient people have sometimes based a complaint
+against economists. The economist, it is said, analyses
+with great pomp and ceremony the laws governing the
+distribution of wealth among the agents of production,
+but says practically nothing about the distribution
+between individuals and classes, which is the only thing
+<a name="174"> </a>of any real interest to practical people. Now the
+economist
+concentrates on the agents of production for
+the very good reason that it is only with respect to them
+that any clear and certain laws as to distribution can
+be laid down. Into the distribution between individuals
+and classes there enter other and variable
+factors, governed by no fundamental economic law;
+and <i>here</i>, the conclusion should at once suggest itself,
+is the field for action designed to alter the distribution
+of wealth. What is possible or desirable in this field,
+it is again not the purpose of this volume to discuss.
+It is an obvious, even if not a very helpful conclusion
+that an increase in the habit of saving among weekly
+wage-earners might, without appreciably affecting the
+distribution between Capital and Labor, greatly modify
+the resulting distribution between social classes.
+But questions as to how far it might be possible or
+justifiable to achieve a similar result by the use of the
+weapon of taxation, by changes in inheritance laws, or
+by the public ownership of industry take us into a far
+more uncertain and controversial sphere. The difficulties
+and objections which present themselves are
+familiar and formidable; but they are of quite a different
+order from the economic laws which we have
+been examining. The laws themselves do not entitle us
+to make any dogmatic pronouncement upon these large
+issues of social policy.
+</p>
+<p>
+But this is not to deprive these laws of practical
+importance. They represent essential criteria of sound
+policy in the sphere of social reorganization no less than
+in ordinary business. In our days a curious obsession
+has led many people to disparage these criteria, as
+<a name="175"> </a>though they were the sordid prejudices of a stupid
+tradesman. Because it has been found a matter of
+obvious practical convenience to maintain the roads
+out of taxation or of rates, and to dispense with charges
+for their use, it is suggested that the same principle
+should be applied to the railways. Or, more commonly,
+because it has been found convenient to make the same
+charge for the carrying of letters between Land's End
+and John o' Groats as between Hampstead and Highgate,
+it is suggested that <i>this</i> principle should be applied
+to railway rates and fares. It may be well, therefore, to
+point out that the justification of uniform postal charges
+rests upon the facts: (1) that the costs of collection,
+sorting, etc., are so large a part of the costs of carrying
+a letter, that the real cost between John o' Groats
+and Land's End does not differ from that between
+Hampstead and Highgate by as much as might at
+first sight appear, (2) that the charges in any case are
+very small; so that (3) the avoidance of the small degree
+of taxes and bounties which the present system
+implies is not worth the book-keeping expenses which
+differential charges would involve. It should be obvious
+that these considerations apply to the railways
+with a greatly diminished force. They might possibly
+justify what is known as the "zone" system of charges,
+i.e. uniform rates within certain narrow areas. But the
+notion of uniform rates throughout Great Britain
+conjures up a vision of trains taking coal from South
+Wales to Scotland, and others taking coal from Scotland
+to South Wales, in accordance with the slightest
+preferences of the consumers, and without regard to the
+extra real cost involved, on a scale to which the "wastes
+<a name="176"> </a>of competition" afford no parallel. It would in
+fact
+achieve the essential folly of "sending coals to Newcastle."
+These considerations, however, are not what
+interest the advocates of the postal principle. They seem
+to recommend the obliteration or the confusion of the relations
+between price and cost as a superior ideal. It is
+important to be clear what exactly this ideal involves.
+</p>
+<p>
+It involves, in the first place, as the whole argument
+of this volume has gone to show, a less economical
+employment of our productive resources; they would
+be diverted to ends of less utility, and so produce less
+real wealth. But this is not the worst. There is plenty
+of waste and maladjustment in our economic system at
+the present time. The desirable relation of price to
+marginal cost is but imperfectly attained. The further
+departures from this relation, which would follow from
+any likely applications of the postal principle, might not
+matter in themselves so very much. What is far more
+serious is that the criteria of efficiency would become
+blunted, and the clear aims of management would be
+confused in fog. It is essential that every manager
+should be on the alert to eliminate waste and to improve
+efficiency, that he should be always trying to secure
+the best results; but how can he do this if he has no
+simple means of <i>measuring</i> what results are good and
+what are bad? The measure which he has at present
+is that of price, cost and the resultant profit, and it
+would be fatal to take that away, unless an equally
+simple and more accurate measure could be substituted
+for it.
+</p>
+<p>
+This is not a question, it should be observed, of
+motive or incentive. Very likely we much exaggerate
+<a name="177"> </a>the importance of the profit motive. It may be true
+that men would work, perhaps that they already work
+in fact, as zealously for a fixed salary, as for personal
+gain. But aim and motive are two somewhat different
+things, and the <i>aim</i> of profit, is, and will remain, essential
+to the efficient conduct of business. In a game the
+players are not animated by the motive of scoring runs
+or points, but they aim at them; and the zest disappears
+very speedily from the game, if that aim ceases
+to be of interest. Moreover, while a scoring system is
+always a somewhat arbitrary thing, measuring imperfectly
+the true merits of the play, if it measures
+them with the roughest accuracy, we prefer the issue
+of our games to be decided so, rather than by the decisions
+of an impartial judge, who can take into account
+the finest points of skill. So it is in the world
+of business. The scoring-board of profits may be an
+imperfect one; let us, by all means, where we can, alter
+the rules of the game so as to make it better. But
+let us not imagine that it displays a finer insight or a
+superior intellect to speak as though the scoring-board
+could be dispensed with, and the test of profit and loss
+treated as irrelevant. Quantitative measurement is
+essential to efficiency. Let us be careful to remember
+all that this implies.
+</p>
+<a name="178"> </a>
+<h3><a name="Index">Index</a></h3>
+<div class="letter">
+<div class="entry">Ability, <a href="#152">152</a></div>
+<div class="entry">Accountancy, <a href="#58">58</a></div>
+<div class="entry">Allocation of resources, <a href="#166">166</a></div>
+<div class="entry">Ambiguities, <a href="#24">24</a></div>
+<div class="entry">Australasia, <a href="#66">66</a></div>
+</div>
+<div class="letter">
+<div class="entry">Bastiat, Frederic, <a href="#5">5</a></div>
+<div class="entry">Beef and hides, <a href="#7">7</a></div>
+<div class="entry">Borrowing and lending, system of, <a href="#12">12</a></div>
+<div class="entry">Business efficiency, <a href="#58">58</a></div>
+<div class="entry">Business man as a purchaser, <a href="#47">47</a></div>
+<div class="entry">Business risk, <a href="#104">104</a></div>
+</div>
+<div class="letter">
+<div class="entry">Capital, <a href="#119">119</a>;<br>
+as representing a period of waiting, <a href="#123">123</a>;<br>
+distribution, <a href="#131">131</a>;<br>
+distribution and rate of interest, <a href="#137">137</a>;<br>
+effect on labor of an increased supply, <a href="#77">77</a>;<br>
+not a stock of consumable goods, <a href="#123">123</a>;<br>
+reaction of price charges on, <a href="#31">31</a>;<br>
+reflections upon, <a href="#11">11</a>;<br>
+supply, <a href="#130">130</a>;<br>
+supply as affected by charges in interest rate, <a href="#132">132</a></div>
+<div class="entry">Capital goods, <a href="#61">61</a></div>
+<div class="entry">Capital market, <a href="#13">13</a></div>
+<div class="entry">Capitalism, <a href="#17">17</a></div>
+<div class="entry">Capitalist, <a href="#116">116</a></div>
+<div class="entry">Chance, <a href="#105">105</a></div>
+<div class="entry">Coal industry, cost of production and price, <a
+ href="#52">52</a>;<br>
+miners' wages, <a href="#75">75</a></div>
+<div class="entry">Coats, J. &amp; P., <a href="#75">75</a>, <a
+ href="#155">155</a></div>
+<div class="entry">Collective saving, <a href="#129">129</a></div>
+<div class="entry">Commodities, <a href="#7">7</a>, <a href="#19">19</a>;<br>
+labor as a commodity, <a href="#19">19</a></div>
+<div class="entry">Competition, <a href="#140">140</a></div>
+<div class="entry">Composite demand, <a href="#80">80</a></div>
+<div class="entry">Composite supply, <a href="#80">80</a></div>
+<div class="entry">Consumable goods, <a href="#123">123</a></div>
+<div class="entry">Consumers' goods and producers' goods, <a href="#49">49</a></div>
+<div class="entry">Consumption, margin of, <a href="#37">37</a>;<br>
+waiting for, <a href="#121">121</a></div>
+<div class="entry">Control and risk-taking, <a href="#116">116</a></div>
+<div class="entry">Controversy, <a href="#1">1</a>, <a href="#6">6</a></div>
+<div class="entry">Co&ouml;peration, <a href="#3">3</a>;<br>
+unorganized, <a href="#5">5</a>,<a href="#7">7</a></div>
+<div class="entry">Cost, general relation of price, utility and cost, <a
+ href="#65">65</a>;<br>
+price relation to, <a href="#37">37</a>, <a href="#39">39</a>, <a
+ href="#52">52</a>;<br>
+rent as factor in real costs, <a href="#100">100</a>;<br>
+ultimate, <a href="#82">82</a>, <a href="#162">162</a>;<br>
+utility and, <a href="#165">165</a></div>
+<div class="entry">Cotton and cotton-seed, <a href="#7">7</a>;<br>
+contrast to wool and mutton, <a href="#71">71</a></div>
+<div class="entry">Cotton industry, <a href="#154">154</a></div>
+<div class="entry">Criteria of policy, <a href="#172">172</a></div>
+<div class="entry">Currency inflation, <a href="#33">33</a></div>
+<div class="entry">Cycles, <a href="#34">34</a>, <a href="#125">125</a></div>
+</div>
+<div class="letter">
+<div class="entry">Demand, ambiguity of expression "increase in
+demand," <a href="#24">24</a>;<br>
+derived, <a href="#82">82</a>;<br>
+elastic and inelastic, <a href="#76">76</a>;<br>
+<i>see also</i> Composite demand; Joint demand; Supply and demand</div>
+<div class="entry">Derived demand, <a href="#82">82</a></div>
+<div class="entry">Derived utility, <a href="#49">49</a></div>
+<div class="entry">Diagrams, use of, <a href="#21">21</a></div>
+<div class="entry">Diminishing utility, <a href="#40">40</a>;<br>
+money and, <a href="#49">49</a></div>
+<div class="entry">Directors, <a href="#135">135</a></div>
+<div class="entry">Distribution of wealth, <a href="#131">131</a>, <a
+ href="#172">172</a>;<br>
+interest rate and, <a href="#137">137</a></div>
+<div class="entry">Dividends, <a href="#135">135</a></div>
+<div class="entry">Division of labor, <a href="#3">3</a></div>
+</div>
+<div class="letter">
+<div class="entry">Economic laws, <a href="#140">140</a>, <a
+ href="#142">142</a>;<br>
+fundamental character, <a href="#17">17</a>
+<a name="179"> </a></div>
+<div class="entry">Economic theory, <a href="#v">v</a>, <a href="#143">143</a>;<br>
+fact and, <a href="#1">1</a></div>
+<div class="entry">Economic world, orderly nature, <a href="#1">1</a></div>
+<div class="entry">Education, <a href="#150">150</a>, <a href="#160">160</a></div>
+<div class="entry">Efficiency, <a href="#58">58</a>, <a href="#177">177</a></div>
+<div class="entry">Elastic demand, <a href="#76">76</a></div>
+<div class="entry">Employers' associations, <a href="#156">156</a></div>
+<div class="entry">Enterprise, <a href="#104">104</a>, <a href="#109">109</a></div>
+<div class="entry">Entrepreneur, <a href="#113">113</a></div>
+<div class="entry">"Equal pay for equal work," <a href="#158">158</a></div>
+<div class="entry">Expectation, <a href="#106">106</a></div>
+</div>
+<div class="letter">
+<div class="entry">Fact and theory, <a href="#1">1</a></div>
+<div class="entry">Farmers, <a href="#90">90</a></div>
+<div class="entry">Fortunes, <a href="#116">116</a></div>
+</div>
+<div class="letter">
+<div class="entry">Gambling, <a href="#106">106</a></div>
+<div class="entry">Government, enterprises, <a href="#114">114</a>;<br>
+failings, <a href="#139">139</a></div>
+</div>
+<div class="letter">
+<div class="entry">Hides and beef, <a href="#7">7</a></div>
+<div class="entry">Houses, <a href="#103">103</a></div>
+<div class="entry">Housewife as purchaser, <a href="#41">41</a>, <a
+ href="#43">43</a>, <a href="#44">44</a>, <a href="#47">47</a></div>
+<div class="entry">Housing, <a href="#64">64</a>, <a href="#129">129</a></div>
+</div>
+<div class="letter">
+<div class="entry">Ideas and institutions, <a href="#141">141</a></div>
+<div class="entry">Incompetents, <a href="#59">59</a></div>
+<div class="entry">Increase in demand, ambiguity, <a href="#24">24</a></div>
+<div class="entry">Index numbers, <a href="#172">172</a></div>
+<div class="entry">Inelastic demand, <a href="#76">76</a></div>
+<div class="entry">Inflation, <a href="#63">63</a></div>
+<div class="entry">Institutions and ideas, <a href="#141">141</a></div>
+<div class="entry">Insurance companies, <a href="#107">107</a>, <a
+ href="#111">111</a>;<br>
+significance, <a href="#108">108</a></div>
+<div class="entry">Interest, <a href="#119">119</a>;<br>
+necessity of, <a href="#129">129</a></div>
+<div class="entry">Interest rate, <a href="#14">14</a>;<br>
+changes and their effect on supply of capital, <a href="#132">132</a>;<br>
+distribution and, <a href="#137">137</a>;<br>
+price of land and, <a href="#102">102</a></div>
+<div class="entry">Intuition, <a href="#114">114</a></div>
+</div>
+<div class="letter">
+<div class="entry">Joint demand, <a href="#66">66</a>;<br>
+importance of the unimportant, <a href="#74">74</a>;<br>
+marginal utility under, <a href="#69">69</a>;<br>
+summary of considerations, <a href="#79">79</a></div>
+<div class="entry">Joint products, <a href="#7">7</a>;<br>
+cost of production, <a href="#40">40</a></div>
+<div class="entry">Joint-stock company, <a href="#135">135</a></div>
+<div class="entry">Joint supply, marginal cost under, <a href="#66">66</a>;<br>
+summary of considerations, <a href="#79">79</a></div>
+</div>
+<div class="letter">
+<div class="entry">Keynes, J. M., <a href="#vi">vi</a></div>
+</div>
+<div class="letter">
+<div class="entry">Labor, <a href="#139">139</a>;<br>
+apportionment among occupations, <a href="#153">153</a>;<br>
+apportionment among places, <a href="#147">147</a>;<br>
+apportionment among social grades, <a href="#149">149</a>;<br>
+as a commodity, <a href="#19">19</a>;<br>
+cost, difficulty of estimating, <a href="#163">163</a>;<br>
+division, <a href="#3">3</a>;<br>
+effect of increased supply of capital, <a href="#77">77</a>;<br>
+four grades, <a href="#149">149</a>;<br>
+mobility, <a href="#148">148</a>;<br>
+product of, <a href="#119">119</a>;<br>
+reaction of price changes on, <a href="#31">31</a>;<br>
+supply in general, <a href="#145">145</a></div>
+<div class="entry"><i>Laissez-faire</i>, <a href="#11">11</a>;<br>
+retrospect on, <a href="#139">139</a></div>
+<div class="entry">Land, characteristics, <a href="#83">83</a>;<br>
+differential aspect, <a href="#87">87</a>;<br>
+margin of transference, <a href="#94">94</a>, <a href="#96">96</a>;<br>
+marginal, <a href="#88">88</a>;<br>
+price and rent,relation, <a href="#102">102</a>;<br>
+question of real costs, <a href="#100">100</a>;<br>
+scarcity aspect, <a href="#84">84</a>;<br>
+supply, <a href="#30">30</a>;<br>
+tenure, <a href="#92">92</a>;<br>
+urban, <a href="#94">94</a>;<br>
+<i>see also</i> Rent</div>
+<div class="entry">Landlords, <a href="#91">91</a>, <a href="#92">92</a></div>
+<div class="entry">Large scale business, <a href="#58">58</a></div>
+<div class="entry">Laws, fundamental, <a href="#18">18</a>, <a
+ href="#29">29</a></div>
+</div>
+<div class="letter">
+<div class="entry">Malthus, T.R., <a href="#146">146</a></div>
+<div class="entry">Management, <a href="#104">104</a></div>
+<div class="entry">Margin, danger of ignoring, <a href="#57">57</a></div>
+<div class="entry">Margin of consumption, <a href="#37">37</a></div>
+<div class="entry">Margin of production, <a href="#52">52</a></div>
+<div class="entry">Margin of transference, <a href="#94">94</a>, <a
+ href="#96">96</a></div>
+<div class="entry">Marginal cost, aspects, <a href="#55">55</a>;<br>
+misinterpretation, <a href="#59">59</a>;<br>
+under joint supply, <a href="#66">66</a></div>
+<div class="entry">Marginal land, <a href="#88">88</a></div>
+<div class="entry">Marginal purchaser <a href="#44">44</a>
+<a name="180"> </a></div>
+<div class="entry">Marginal utility, <a href="#42">42</a>;<br>
+price relation to, <a href="#43">43</a>;<br>
+under joint demand, <a href="#69">69</a></div>
+<div class="entry">Market, <a href="#13">13</a></div>
+<div class="entry">Marshall, Alfred, <a href="#vi">vi</a></div>
+<div class="entry">Marx, Karl, <a href="#119">119</a></div>
+<div class="entry">Mill, J. S., <a href="#86">86</a></div>
+<div class="entry">Miners, <a href="#75">75</a></div>
+<div class="entry">Monetary changes, disturbances of, <a href="#33">33</a></div>
+<div class="entry">Money, diminishing utility, <a href="#49">49</a></div>
+<div class="entry">Monte Carlo, <a href="#106">106</a></div>
+<div class="entry">Mutton. <i>See</i> Wool and Mutton</div>
+</div>
+<div class="letter">
+<div class="entry">Natural ability, <a href="#152">152</a></div>
+<div class="entry">Normal conditions, <a href="#36">36</a></div>
+</div>
+<div class="letter">
+<div class="entry">Occupations, <a href="#150">150</a>;<br>
+apportionment of labor among, <a href="#153">153</a></div>
+<div class="entry">Order, economic, <a href="#5">5</a></div>
+</div>
+<div class="letter">
+<div class="entry">Pasture versus tillage, <a href="#97">97</a></div>
+<div class="entry">Pigou, A. C., <a href="#vi">vi</a></div>
+<div class="entry">Policy, criteria, <a href="#172">172</a></div>
+<div class="entry">Population, <a href="#85">85</a>, <a href="#146">146</a></div>
+<div class="entry">Postal charges, <a href="#175">175</a></div>
+<div class="entry">Poverty, <a href="#131">131</a>;<br>
+national, <a href="#128">128</a>, <a href="#129">129</a></div>
+<div class="entry">Price, consequences of higher, <a href="#60">60</a>;<br>
+general relation with utility and cost, <a href="#65">65</a>;<br>
+law of tendency, <a href="#19">19</a>;<br>
+marginal utility and, <a href="#43">43</a>;<br>
+post-war, <a href="#61">61</a>;<br>
+reaction of changes in demand and supply, <a href="#27">27</a>;<br>
+relation of demand and supply to, <a href="#20">20</a>;<br>
+utility and, <a href="#40">40</a></div>
+<div class="entry">Producers' goods, <a href="#49">49</a></div>
+<div class="entry">Production, power of, <a href="#125">125</a>;<br>
+real costs, <a href="#162">162</a>;<br>
+waiting for, <a href="#120">120</a></div>
+<div class="entry">Professions, <a href="#150">150</a></div>
+<div class="entry">Profiteering, <a href="#75">75</a></div>
+<div class="entry">Profits, <a href="#61">61</a>, <a href="#177">177</a>;<br>
+elements, <a href="#104">104</a>;<br>
+general analysis, <a href="#117">117</a>;<br>
+in risky industries, <a href="#110">110</a>, <a href="#115">115</a></div>
+<div class="entry">Protective tariff, <a href="#169">169</a></div>
+<div class="entry">Psychology and economics, <a href="#1">1</a></div>
+<div class="entry">Purchasers, business man, <a href="#47">47</a>;<br>
+housewife, <a href="#41">41</a>, <a href="#43">43</a>, <a href="#44">44</a>,
+<a href="#47">47</a>;<br>
+marginal, <a href="#44">44</a></div>
+<div class="entry">Purchasing power, <a href="#33">33</a>, <a
+ href="#61">61</a>, <a href="#172">172</a></div>
+</div>
+<div class="letter">
+<div class="entry">Railway rates, <a href="#175">175</a></div>
+<div class="entry">Railways, <a href="#64">64</a></div>
+<div class="entry">Rate of interest. <i>See</i> Interest rate</div>
+<div class="entry">Rent, <a href="#82">82</a>, <a href="#83">83</a>;<br>
+complex character, <a href="#90">90</a>;<br>
+marginal land, <a href="#89">89</a>;<br>
+necessity, <a href="#98">98</a>;<br>
+rate of interest and, <a href="#102">102</a></div>
+<div class="entry">Reserves, <a href="#136">136</a></div>
+<div class="entry">Residuary profits, <a href="#110">110</a></div>
+<div class="entry">Resources, allocation, <a href="#166">166</a></div>
+<div class="entry">Risk, reward for, <a href="#104">104</a>;<br>
+under large-scale organization, <a href="#111">111</a></div>
+</div>
+<div class="letter">
+<div class="entry">Satisfaction, <a href="#50">50</a></div>
+<div class="entry">Saving, <a href="#127">127</a>, <a href="#174">174</a>;<br>
+individual, <a href="#127">127</a>;<br>
+involuntary, <a href="#134">134</a>;<br>
+psychology,<a href="#133">133</a>;<br>
+social, <a href="#128">128</a></div>
+<div class="entry">School teachers, <a href="#160">160</a></div>
+<div class="entry">Service, <a href="#19">19</a></div>
+<div class="entry">Serving cotton, <a href="#74">74</a></div>
+<div class="entry">Shareholders, <a href="#135">135</a></div>
+<div class="entry">Sinking-fund, <a href="#134">134</a></div>
+<div class="entry">Situation, <a href="#88">88</a></div>
+<div class="entry">Smith, Adam, <a href="#v">v</a>, <a href="#139">139</a></div>
+<div class="entry">Social grades, labor movement among, <a href="#149">149</a></div>
+<div class="entry">Socialism, <a href="#9">9</a>,<a href="#11">11</a>,<a
+ href="#14">14</a>,<a href="#59">59</a>,<a href="#134">134</a>,<a
+ href="#141">141</a></div>
+<div class="entry">Speculation, <a href="#112">112</a>-<a href="#113">113</a></div>
+<div class="entry">Steel smelters, <a href="#76">76</a></div>
+<div class="entry">Subsidies, industrial, <a href="#169">169</a></div>
+<div class="entry">Substitutes, <a href="#80">80</a></div>
+<div class="entry">Supply, reactions of price changes on, <a href="#30">30</a>;<br>
+<i>see also</i> Composite supply; Joint supply</div>
+<div class="entry">Supply and demand, changes in, and their reaction on
+price, <a href="#27">27</a>;<br>
+forces behind, <a href="#37">37</a>;<br>
+general laws,<a href="#18">18</a>, <a href="#29">29</a>;<br>
+relation of price to, <a href="#20">20</a>;<br>
+wages and, <a href="#143">143</a></div>
+<div class="entry">Supreme Allied Council, <a href="#169">169</a></div>
+</div>
+<a name="181"> </a>
+<div class="letter">
+<div class="entry">Teachers, <a href="#160">160</a></div>
+<div class="entry">Theory, economic, <a href="#v">v</a>, <a href="#1">1</a></div>
+<div class="entry">Thrift, <a href="#127">127</a></div>
+<div class="entry">Tillage versus pasture, <a href="#97">97</a></div>
+<div class="entry">Trade cycles, <a href="#34">34</a>, <a href="#125">125</a></div>
+<div class="entry">Trade depression, <a href="#33">33</a></div>
+<div class="entry">Trade unions, <a href="#144">144</a>;<br>
+actions, <a href="#154">154</a>;<br>
+wage level and, <a href="#156">156</a></div>
+</div>
+<div class="letter">
+<div class="entry">Ultimate real costs, <a href="#82">82</a>, <a
+ href="#162">162</a></div>
+<div class="entry">Unearned increment, <a href="#86">86</a></div>
+<div class="entry">Unemployment, <a href="#168">168</a>;<br>
+trade union policy and, <a href="#144">144</a></div>
+<div class="entry">Utility, <a href="#37">37</a>;<br>
+cost and, <a href="#165">165</a>;<br>
+derived, <a href="#49">49</a>;<br>
+general relation of price, utility and cost, <a href="#65">65</a>;<br>
+law of diminishing utility, <a href="#40">40</a>;<br>
+law of diminishing utility as applied to money, <a href="#49">49</a>;<br>
+marginal, <a href="#42">42</a>;<br>
+price relation to, <a href="#38">38</a>,<a href="#40">40</a>;<br>
+wealth and, <a href="#170">170</a></div>
+</div>
+<div class="letter">
+<div class="entry">Wages, general wage level, <a href="#143">143</a>;<br>
+trade unions and, <a href="#155">155</a>, <a href="#156">156</a>;<br>
+women's, <a href="#157">157</a></div>
+<div class="entry">Wages Fund, <a href="#125">125</a></div>
+<div class="entry">Waiting, essence of, <a href="#126">126</a>;<br>
+for consumption, <a href="#121">121</a>;<br>
+for production, <a href="#120">120</a></div>
+<div class="entry">Waste, economic, <a href="#167">167</a>, <a
+ href="#168">168</a>, <a href="#176">176</a></div>
+<div class="entry">Wealth, distribution, <a href="#131">131</a>, <a
+ href="#137">137</a>,<a href="#172">172</a>;<br>
+utility and, <a href="#170">170</a></div>
+<div class="entry">"What should be" and "What is," <a href="#141">141</a></div>
+<div class="entry">Women's wages, <a href="#157">157</a></div>
+<div class="entry">Wool and mutton, <a href="#7">7</a>, <a href="#66">66</a>;<br>
+contrast to cotton and cotton-seed, <a href="#71">71</a></div>
+<div class="entry">Workers' control, <a href="#117">117</a></div>
+</div>
+
+
+
+
+
+
+
+<pre>
+
+
+
+
+
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diff --git a/old/10612.txt b/old/10612.txt
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+The Project Gutenberg EBook of Supply and Demand, by Hubert D. Henderson
+
+This eBook is for the use of anyone anywhere at no cost and with
+almost no restrictions whatsoever.  You may copy it, give it away or
+re-use it under the terms of the Project Gutenberg License included
+with this eBook or online at www.gutenberg.org
+
+
+Title: Supply and Demand
+
+Author: Hubert D. Henderson
+
+Release Date: January 6, 2004 [EBook #10612]
+
+Language: English
+
+Character set encoding: ASCII
+
+*** START OF THIS PROJECT GUTENBERG EBOOK SUPPLY AND DEMAND ***
+
+
+
+
+Produced by Josh Cogliati and PG Distributed Proofreaders
+
+
+
+
+SUPPLY AND DEMAND
+
+By Hubert D. Henderson M.A.
+
+With an Introduction by J.M. Keynes M.A., C.B.
+
+1922.
+
+
+
+
+
+INTRODUCTION
+
+The Theory of Economics does not furnish a body of settled conclusions
+immediately applicable to policy. It is a method rather than a
+doctrine, an apparatus of the mind, a technique of thinking, which
+helps its possessor to draw correct conclusions. It is not difficult
+in the sense in which mathematical and scientific techniques are
+difficult; but the fact that its modes of expression are much less
+precise than these, renders decidedly difficult the task of conveying
+it correctly to the minds of learners.
+
+Before Adam Smith this apparatus of thought scarcely existed. Between
+his time and this it has been steadily enlarged and improved. Nor is
+there any branch of knowledge in the formation of which Englishmen can
+claim a more predominant part. It is not complete yet, but important
+improvements in its elements are becoming rare. The main task of the
+professional economist now consists, either in obtaining a wide
+knowledge of _relevant_ facts and exercising skill in the application
+of economic principles to them, or in expounding the elements of his
+method in a lucid, accurate and illuminating way, so that, through his
+instruction, the number of those who can think for themselves may be
+increased.
+
+This Series is directed towards the latter aim. It is intended to
+convey to the ordinary reader and to the uninitiated student some
+conception of the general principles of thought which economists now
+apply to economic problems. The writers are not concerned to make
+original contributions to knowledge, or even to attempt a complete
+summary of all the principles of the subject. They have been more
+anxious to avoid obscure forms of expression than difficult ideas; and
+their object has been to expound to intelligent readers, previously
+unfamiliar with the subject, the most significant elements of economic
+method. Most of the omissions of matter often treated in textbooks are
+intentional; for as a subject develops, it is important, especially in
+books meant to be introductory, to discard the marks of the chrysalid
+stage before thought had wings.
+
+Even on matters of principle there is not yet a complete unanimity of
+opinion amongst professors. Generally speaking, the writers of these
+volumes believe themselves to be orthodox members of the Cambridge
+School of Economics. At any rate, most of their ideas about the
+subject, and even their prejudices, are traceable to the contact they
+have enjoyed with the writings and lectures of the two economists who
+have chiefly influenced Cambridge thought for the past fifty years,
+Dr. Marshall and Professor Pigou.
+
+J.M. Keynes.
+
+CONTENTS
+
+CHAPTER I
+
+THE ECONOMIC WORLD
+
+Sec.1. THEORY AND FACT
+
+Sec.2. THE DIVISION OF LABOR
+
+Sec.3. THE EXISTENCE OF ORDER
+
+Sec.4. SOME REFLECTIONS UPON JOINT PRODUCTS
+
+Sec.5. SOME REFLECTIONS UPON CAPITAL
+
+Sec.6. THE FUNDAMENTAL CHARACTER OF MANY ECONOMIC LAWS
+
+
+
+CHAPTER II
+
+THE GENERAL LAWS OF SUPPLY AND DEMAND
+
+Sec.1. PRELIMINARY STATEMENT OF THREE LAWS
+
+Sec.2. DIAGRAMS AND THEIR USES
+
+Sec.3. AMBIGUITIES OF THE EXPRESSIONS, "INCREASE IN DEMAND," ETC.
+
+Sec.4. REACTIONS OF CHANGES IN DEMAND AND SUPPLY ON PRICE
+
+Sec.5. SOME PARADOXICAL REACTIONS OF PRICE CHANGES ON SUPPLY
+
+Sec.6. THE DISTURBANCES OF MONETARY CHANGES
+
+Sec.7. THE TRADE CYCLE
+
+
+
+CHAPTER III
+
+UTILITY AND THE MARGIN OF CONSUMPTION
+
+Sec.1. THE FORCES BEHIND SUPPLY AND DEMAND
+
+Sec.2. THE LAW OF DIMINISHING UTILITY
+
+Sec.3. THE RELATION BETWEEN PRICE AND MARGINAL UTILITY
+
+Sec.4. THE MARGINAL PURCHASER
+
+Sec.5. THE BUSINESS MAN AS PURCHASER
+
+Sec.6. THE DIMINISHING UTILITY OF MONEY
+
+
+
+CHAPTER IV
+
+COST AND THE MARGIN OF PRODUCTION
+
+Sec.1. AN ILLUSTRATION FROM COAL
+
+Sec.2. THE VARIOUS ASPECTS OF MARGINAL COST
+
+Sec.3. THE DANGERS OF IGNORING THE MARGIN
+
+Sec.4. A MISINTERPRETATION
+
+Sec.5. SOME CONSEQUENCES OF A HIGHER PRICE LEVEL
+
+Sec.6. GENERAL RELATION BETWEEN PRICE, UTILITY AND COST
+
+
+
+CHAPTER V
+
+JOINT DEMAND AND SUPPLY
+
+Sec.1. MARGINAL COST UNDER JOINT SUPPLY
+
+Sec.2. MARGINAL UTILITY UNDER JOINT DEMAND
+
+Sec.3. A CONTRAST BETWEEN COTTON AND COTTON-SEED, AND WOOL AND MUTTON
+
+Sec.4. THE IMPORTANCE OF BEING UNIMPORTANT
+
+Sec.5. CAPITAL AND LABOR
+
+Sec.6. CONCLUSIONS AS TO JOINT SUPPLY AND JOINT DEMAND
+
+Sec.7. COMPOSITE SUPPLY AND COMPOSITE DEMAND
+
+Sec.8. ULTIMATE REAL COSTS
+
+
+
+CHAPTER VI
+
+LAND
+
+Sec.1. THE SPECIAL CHARACTERISTICS OF LAND
+
+Sec.2. THE SCARCITY ASPECT
+
+Sec.3. THE DIFFERENTIAL ASPECT
+
+Sec.4. THE MARGIN OF TRANSFERENCE
+
+Sec.5. THE NECESSITY OF RENT
+
+Sec.6. THE QUESTION OF REAL COSTS
+
+Sec.7. RENT AND SELLING PRICE
+
+
+
+CHAPTER VII
+
+RISK-BEARING AND ENTERPRISE
+
+Sec.1. PROFITS AND EARNINGS OF MANAGEMENT
+
+Sec.2. THE PAYMENT FOR RISK-BEARING
+
+Sec.3. MONTE CARLO AND INSURANCE
+
+Sec.4. RISK UNDER LARGE SCALE ORGANIZATION
+
+Sec.5. THE ENTREPRENEUR
+
+Sec.6. RISK-TAKING AND CONTROL
+
+Sec.7. GENERAL ANALYSIS OF PROFITS
+
+
+
+CHAPTER VIII
+
+CAPITAL
+
+Sec.1. A REFERENCE TO MARX
+
+Sec.2. WAITING FOR PRODUCTION
+
+Sec.3. WAITING FOR CONSUMPTION
+
+Sec.4. CAPITAL NOT A STOCK OF CONSUMABLE GOODS
+
+Sec.5. THE ESSENCE OF WAITING
+
+Sec.6. INDIVIDUAL AND SOCIAL SAVING
+
+Sec.7. THE NECESSITY OF INTEREST
+
+Sec.8. THE SUPPLY OF CAPITAL
+
+Sec.9. INVOLUNTARY SAVING
+
+Sec.10. INTEREST AND DISTRIBUTION
+
+
+
+CHAPTER IX
+
+LABOR
+
+Sec.1. A RETROSPECT ON LAISSEZ-FAIRE
+
+Sec.2. IDEAS AND INSTITUTIONS
+
+Sec.3. THE GENERAL WAGE-LEVEL
+
+Sec.4. THE SUPPLY OF LABOR IN GENERAL
+
+Sec.5. THE APPORTIONMENT OF LABOR AMONG PLACES
+
+Sec.6. THE APPORTIONMENT OF LABOR AMONG SOCIAL GRADES
+
+Sec.7. THE APPORTIONMENT OF LABOR AMONG OCCUPATIONS
+
+Sec.8. WOMEN'S WAGES
+
+CHAPTER X
+
+THE REAL COSTS OF PRODUCTION
+
+Sec.1. COMPARATIVE COSTS
+
+Sec.2. THE ALLOCATION OF RESOURCES
+
+Sec.3. UTILITY AND WEALTH
+
+Sec.4. CRITERIA OF POLICY
+
+
+
+SUPPLY AND DEMAND
+
+
+
+CHAPTER I
+
+THE ECONOMIC WORLD
+
+
+Sec.1. _Theory and Fact_. The controversy between the "Theorist" and the
+"Practical Man" is common to all branches of human affairs, but it is
+more than usually prevalent, and perhaps more than usually acrid in
+the economic sphere. It is always a rather foolish controversy, and I
+have no intention of entering into it, but its prevalence makes it
+desirable to emphasize a platitude. Economic theory must be based
+upon actual fact: indeed, it must be essentially an attempt, like all
+theory, to _describe_ the actual facts in proper sequence, and in true
+perspective; and if it does not do this it is an imposture. Moreover,
+the facts which economic theory seeks to describe are primarily
+economic facts, facts, that is to say, which emerge in, and are
+concerned with, the ordinary business world; and it is, therefore,
+mainly upon such facts that the theory must be based. People
+sometimes speak as though they supposed the economist to start from a
+few psychological assumptions (e. g. that a man is actuated mainly by
+his own self-interest) and to build up his theories upon such
+foundations by a process of pure reasoning. When, therefore, some
+advance in the study of psychology throws into apparent disrepute such
+ancient maxims about human nature, these people are disposed to
+conclude that the old economic theory is exploded, since its
+psychological premises have been shown to be untrue. Such an attitude
+involves a complete misunderstanding not merely of economics, but of
+the processes of human thought. It is quite true that the various
+branches of knowledge are interrelated very intimately, and that an
+advance in one will often suggest a development in another. By all
+means let the economist and psychologist avoid a pedantic specialism
+and let each stray into the other's province whenever he thinks
+fit. But the fact remains that they are primarily concerned with
+different things: and that each is most to be trusted when he is upon
+his own ground. When, therefore, the economist indulges in a
+generalization about psychology, even when he gives it as a reason for
+an economic proposition, in nine cases out of ten the economics will
+not depend upon the psychology; the psychology will rather be an
+inference (and very possibly a crude and hasty one) from the economic
+facts of which he is tolerably sure.
+
+But the purpose of economic theory is not merely to describe the facts
+of the economic world; it is to describe them in their proper sequence
+and true perspective. It must begin with those facts which are most
+general and which have the widest possible significance. Those are not
+likely to be the facts which our practical experience forces most
+insistently upon our notice. For it is the particular and not the
+general, the differences between things rather than their
+resemblances, that concern us most in daily life. Nor are we likely to
+find the universal facts which we require in the sphere of public
+controversy. We must rather look for them in the dark recesses of our
+consciousness, where are stored those truths which are so obvious that
+we hardly notice them, which are so indisputable that we seldom
+examine them, which seem so trite that we are apt to miss their full
+significance.
+
+
+Sec.2. _The Division of Labor_. There is one such truth in the economic
+sphere which it is essential to appreciate vividly and fully, with the
+widest sweep of the imagination and the sharpest clarity of
+thought. Man lives by cooperating with his fellow-men. In the modern
+world, that cooperation is of a boundless range and an indescribable
+complexity. Yet it is essentially undesigned and uncontrolled by
+man. The humblest inhabitant of the United States or Great Britain
+depends for the satisfaction of his simplest needs upon the activities
+of innumerable people, in every walk of life and in every corner of
+the globe. The ordinary commodities which appear upon his dinner table
+represent the final product of the labors of a medley of merchants,
+farmers, seamen, engineers, workers of almost every craft. But there
+is no human authority presiding over this great complex of labor,
+organizing the various units, and directing them towards the common
+ends which they subserve. Wheel upon wheel, in a ceaseless succession
+of interdependent processes, the business world revolves: but no one
+has planned and no one guides the intricate mechanism whose smooth
+working is so vital to us all. Man, indeed, can organize and has
+organized much. Within a large factory the efforts of thousands of
+work-people, each engaged on the repetition of a single small process,
+are fitted together so as to form an ordered whole by the conscious
+direction of the management. Sometimes factory is joined with factory,
+with farms, fisheries, mines, with transport and distributing
+agencies, as one gigantic business unit, controlled by a common
+will. These giant businesses are remarkable achievements of man's
+organizing gifts. The individuals who control them wield an immense
+power, which so impresses the public imagination that we dub them
+"kings," "supermen," "Napoleons of industry." But how small a portion
+of man's economic life is dominated by such men! Even as regards the
+affairs of their own businesses, how narrow, after all, are the limits
+of their influence! The prices at which they can buy their materials
+and borrow their capital, the quantities of their products which the
+public will consume, are factors at once vital to their prosperity and
+outside their own control.
+
+A great business, like a nation, may cherish visions of
+self-sufficiency, may stretch its tentacles forward to the consumer
+and backwards to its supplies of raw material; but each fresh
+extension of its activities serves only to multiply its points of
+contact with the outside world. When those points are reached, the
+largest business, like the smallest, is out on the open sea of an
+economic system immeasurably larger and more powerful than
+itself. There it must meet--the better perhaps for its inherent
+strength and accumulated knowledge--the impact of rude forces, which
+it is powerless to control. Beneath the blasts of a trade depression,
+or some other tendency of world-wide scope, the authority of the
+mightiest industrial magnate, and equally of any Government, assumes
+the same essential insignificance as the pride of a man humbled by
+contact with the elemental powers of nature.
+
+
+Sec.3. _The Existence of Order_. The parallel can be pursued further with
+advantage. Just as in the world of natural phenomena, which for long
+seemed to man so wayward and inexplicable, we have come gradually to
+perceive an all-pervading uniformity and order; so there is manifest
+in the economic world, uniformity, order, of a similar if less
+majestic kind. Upon the cooperation of his fellowmen, man depends for
+the very means of life: yet he takes this cooperation for granted,
+with a complacent confidence and often with a naive unconsciousness,
+as he takes the rising of to-morrow's sun. The reliability of this
+unorganized cooperation has powerfully impressed the imagination of
+many observers.
+
+"On entering Paris which I had come to visit," exclaimed Bastiat some
+seventy years ago, "I said to myself--Here are a million of human
+beings who would all die in a short time if provisions of every kind
+ceased to flow towards this great metropolis. Imagination is baffled
+when it tries to appreciate the vast multiplicity of commodities which
+must enter to-morrow through the barriers in order to preserve the
+inhabitants from falling a prey to the convulsions of famine,
+rebellion, and pillage. And yet all sleep at this moment, and their
+peaceful slumbers are not disturbed for a single instant by the
+prospect of such a frightful catastrophe. On the other hand, eighty
+departments have been laboring to-day, without concert, without any
+mutual understanding, for the provisioning of Paris."
+
+The theme may well excite wonder. But wonder should always be watched
+with a wary eye; for he is apt to bring in his train a hanger-on
+called worship, who can do nothing but mischief here. It is a short
+step from a passage like that quoted above to a glorification of the
+existing system of society, to a defence of all manner of indefensible
+things; and a cross-grained attitude towards all projects of
+reform. It is a short step; but it is one which it is quite
+unjustifiable to take. For the evils of our economic system are too
+plain to be ignored; too many people have harsh personal experience of
+the wastefulness of its production, the injustice of its distribution;
+of its sweating, its unemployment and slums. And when the attempt is
+made to plaster over evils, such as these with obsequious rhetoric
+about the majesty of economic law, it is not surprising that the
+spirit of many men should revolt and that they should retort by
+denying the existence of order in the business world, by declaring
+that the spectacle which _they_ see is one of discord, confusion and
+chaos. And then we are engulfed in a controversy as stale, flat and
+unprofitable as that between the "theorist" and the "practical man."
+
+The truth is that the language of praise and obloquy is quite
+inappropriate. In the first place, it may be well to note that the
+order of which I have spoken manifests itself not merely in those
+economic phenomena which are beneficial to man, but hardly less in
+those which work to his hurt. Even in those alternations of good and
+bad trade, which spell so much unemployment and misery, there is
+discernible a rhythmic regularity like that of the process of the
+seasons, or the ebb and flow of the tide. This is not an elegance to
+be admired. Furthermore, in so far as the order comprises adjustments
+and tendencies which are beneficial (as, indeed, is mainly true),
+there is no warrant for assuming that these are either adequate to
+secure a prosperous community or dependent upon the social
+arrangements which happen to exist. Let us, therefore, refrain from
+premature polemics and examine in a spirit of detachment some further
+aspects of the elaborate, but yet unorganized, cooperation of which so
+much has been already said.
+
+
+Sec.4. _Some Reflections upon Joint Products_. A quite inadequate idea of
+the complexity of this cooeperation is obtained by dwelling on the
+numbers of people who participate in it, or the immense distances over
+which it extends. The deficiency can be partially supplied by
+referring to some of the more obvious of the many subtle
+interconnections which exist between different commodities and
+different trades.
+
+There are innumerable groups of commodities (which it is customary to
+term "joint products") such that the production of one commodity
+belonging to the group necessarily implies or very greatly facilitates
+the production of the others. Wool and mutton; beef and hides; cotton
+and cotton-seed are a few familiar illustrations. The important
+feature of these "joint products" is the fairly precise relation which
+must exist between the quantities in which the different products are
+supplied. If you plant a certain crop of cotton, it will yield you so
+much cotton lint and so much cotton-seed. You can, of course, if you
+choose, throw away part of the seed, as indeed at one time planters
+used to do; but unless you do this, you cannot vary the proportions of
+the two things which you will have for sale. Similarly, if you keep a
+flock of sheep, or a herd of cattle, you will obtain wool and mutton
+in the one case, or beef and hides in the other, in proportions, which
+indeed you can vary within certain limits by choosing a different
+breed,[1] but which you cannot radically transform. When, however, we
+turn to the uses to which these products are put, no similar relation
+is to be discovered. Cotton lint is used chiefly for making articles
+of clothing; cotton-seed for crushing into oil, on the one hand, and
+cake for cattle fodder on the other. There is no apparent connection
+of any kind between the demands for these different things, and still
+less is there any obvious reason why these demands should bear to one
+another the particular proportions which characterize their respective
+supplies. It is very much the same with wool and mutton; with beef and
+hides; with all "joint products." Why should we consume mutton on the
+one hand and woolen clothing on the other, in a ratio at all
+commensurate with that in which they are yielded by the sheep?
+
+[Footnote 1: These possibilities of small variation are of very great
+importance as will be shown in Chapter V, but they do not affect the
+present argument.]
+
+What, then, might we expect to find if order was nonexistent in the
+economic world? Surely that some things such as wool would be produced
+in quantities many times in excess of the demand for them, quite
+possibly five, ten, or twenty times in excess; while conversely the
+supplies of others such as mutton might fall far short of what was
+required. But in practice we find nothing of the sort. Somehow it
+comes about that an equilibrium is established between the demand for
+and the supply of every commodity; and that this applies to wool and
+mutton, to beef and hides, as surely as to commodities which are
+produced quite independently. It is true that this equilibrium is a
+rough, imperfect one; and it may happen that what is called a "glut"
+of wool may co-exist for a short period with what is called a scarcity
+of mutton. But qualifications of this nature are in the strictest
+sense of the phrase, the exceptions which prove the rule. For the
+departures from equilibrium which gluts and scarcities represent are
+always transient and are usually confined within narrow limits. A
+strong prevailing trend towards an adjustment of demand and supply is
+unmistakably manifest amid all the vagaries of changing circumstance.
+Let me carry the argument a step further for the benefit of any reader
+who is restrained by a repugnance too deep and instinctive to be
+readily overcome, from admitting fairly to his mind that conception of
+order which I am endeavoring to emphasize. He will in all probability
+be one who, cherishing ideals of a better and fairer system of
+society, looks forward to a time when an organized cooeperation will be
+substituted for what he regards as the existing chaos. Let us suppose
+that his visions were fulfilled as completely as he could desire; and
+that an immense system of Socialism were in existence, embracing not
+one country only, but the whole world. Suppose all the difficulties of
+human perversity and administrative technique to have been surmounted
+and a wise, disinterested executive to be in supreme control of our
+business life. Let us suppose all this, and ask only the question: How
+would this executive treat the humdrum case of wool and mutton? How
+would it decide the number of sheep it would maintain?
+
+Shall we suppose that it is inspired by the ideal "to each according
+to his need," and that it resolves accordingly that the commodities
+which people require for a decent standard of life shall be supplied
+to them as a matter of course? How, then, would it proceed? It might
+estimate the amount of woolen clothing which a normal family requires,
+allowing for differences in climate, and possibly indulging somewhat
+the caprices of human taste. On this basis, a certain number of sheep
+would be indicated. It might perform a similar calculation for mutton,
+and again a certain number of sheep would be indicated. But it would
+be an extraordinary coincidence if the numbers which resulted from
+these independent calculations were nearly equal to one another, or
+were even of the same order of magnitude; and, if they differed
+widely, what number would our world executive select? Would it decide
+to waste an immense quantity of either wool or mutton; or would it
+decide that it could not, after all, supply the full human needs for
+one or other of the commodities?
+
+Of course, if the executive were sensible it could solve the problem
+satisfactorily enough. It could retain the monetary system we know
+to-day and it could supply the commodities to the consumers, not as a
+matter of right, but by selling them to them _at a price_. This price
+it could then move upwards or downwards, raising, say, the price of
+mutton and reducing that of wool, until it found that the consumption
+of the two things was adjusted in the required ratio. But if it acted
+in this manner, what essentially would it be doing? It would be
+seeking by deliberate contrivance to reproduce, in respect of this
+particular problem, the very conditions which occur to-day without aim
+or effort on the part of anyone at all.
+
+The moral of this illustration must not be misinterpreted. It does
+not show the folly of Socialism or the superiority of
+Laissez-faire. What it does show is the existence in the economic
+world of an order more profound and more permanent than any of our
+social schemes, and equally applicable to them all.
+
+
+Sec.5. _Some Reflections upon Capital_. Another aspect of the great
+cooperation is of even greater significance. It embraces not only a
+multitude of living men, but it links the present together with the
+future and the past. The goods and services which we enjoy to-day we
+owe only in part to the labors of the week, the month, or the year,
+only in part even to the efforts of our contemporaries. The men, long
+since dead and forgotten, who built our railways, or sunk our coal
+mines, or engaged in any of a great variety of tasks, are still
+contributing to the satisfaction of our daily wants. The expression is
+not altogether fanciful; for, had it not been reasonable to expect
+that those labors would be of use to us to-day, many of them in all
+probability would never have been undertaken. It was to meet our
+present wants, and even our future wants, that many men toiled on
+monotonous tasks ten, twenty, thirty years ago. And yet, of course, we
+should deceive ourselves if we supposed that this was the motive of
+these men, that our welfare was the centre of their heart's desire. We
+in our turn dedicate to the future, and often to a distant future, an
+immense portion of our energies. Let any reader who doubts this, study
+the statistics of the occupations of the people, and reflect on how
+long a period must elapse before the labors of this trade or that can
+fulfil their ultimate function. How long would the period be in the
+case of a man making bricks, which will later be employed in the
+erection of a factory, where machinery will be made, to equip an
+electrical generating station designed to supply, over a period of
+many years, light, heat, and power to people living in a remote
+Continent? A longer time, it may be hazarded, than he is accustomed
+to look ahead.
+
+Like the daily cooperation of living men, this cooperation of past,
+present and future is essential to the well-being of mankind, and yet
+it is undesigned and unorganized. As private individuals, men do,
+indeed, deliberately provide for their own future, and for that of
+their kith and kin: as the directors of businesses, they try to
+forecast the trend of demand. But such conscious calculations and
+deliberate acts would avail little if they stood alone. They are
+hardly more than the necessary spokes in the great wheel which
+regulates the relations of past, present and future. The hub of the
+wheel is an elaborate system of borrowing and lending, essentially
+similar to the buying and selling of commodities. The private
+individual in order to provide for his family or for his old age
+"saves" and "invests." But what exactly does this mean? It means that
+he transfers so much purchasing power, which he might have spent on
+his personal pleasures, to some one else in return for the expectation
+of receiving, year by year in the future, he and his heirs after him,
+a certain smaller quantity of purchasing power. The other party to the
+transaction will be, we may suppose, a business man who enters into it
+because he sees the opportunity of a promising industrial development,
+to undertake which he requires more purchasing power than he himself
+possesses. And, because this transaction is entered into, a smaller
+number of us will shortly be engaged in making motorcars, or
+gramaphones, and a larger number of us in making factories and
+machinery, which will later enhance the world's productive power.
+
+Many transactions of the kind take place daily in modern communities,
+and their multiplicity gives rise to a mass of phenomena with which we
+are all tolerably familiar. We recognize a short-loan market, a stock
+exchange, a number of "markets" where lenders and borrowers are
+brought together by the aid of various intermediaries, such as banks,
+bill brokers, and stock jobbers, who correspond to dealers in
+commodities. Between these different specialized markets, we are
+aware of an interconnection so close and strong that we speak more
+generally of a Capital Market, of which the stock exchange, the
+short-loan market and so forth, are the component parts. Now, "market"
+is a word which was originally used to denote a place where tangible
+commodities were bought and sold; and the more closely we examine the
+phenomena of the Capital Market, the more closely do we perceive the
+profound resemblance between the mechanism of borrowing and lending,
+and that of buying and selling. Corresponding to the price of a
+commodity is the rate of interest (in the short-loan market we
+actually call the rate of Discount "the price of money," and speak of
+money being cheap or dear); and between the rate of interest, the
+demand for and the supply of capital there exist relations precisely
+similar to those between price, demand, and supply in commodity
+markets. Above all there is the same strong prevailing trend towards
+an adjustment of demand and supply.
+
+This fundamental resemblance between two such apparently
+incommensurable things as the buying of material commodities and the
+borrowing of capital is highly significant; it is another instance of
+that order in the economic world, of which the reader may now be
+growing weary. But so difficult is it to see clearly and fully
+something which one sees, as it were, every day of one's life, that a
+few more moments of reflection on the special case of capital will be
+time well spent. Let us revert then to our fantasy of a world
+socialist commonwealth; and humbly submit another poser to its supreme
+executive. The question this time will be whether some great
+constructional work, such, let us say, as the recently mooted Severn
+barrage scheme, should or should not be undertaken. Let us suppose
+that the costs and future benefits of the undertaking can be estimated
+accurately; and that the problem reduces itself to one of expending
+now a sum, let us say, of $100,000,000, with the prospects of
+obtaining in the future an income of power, or whatever it may be,
+worth $5,000,000 per annum. I have assumed for the sake of simplicity
+that we shall still be reckoning in terms of money, though possibly
+the executive may have substituted Marxian labor units; but it is
+quite immaterial to the present argument what the measuring rod may
+be. The point to be observed is, that it is impossible to tackle the
+problem at all without the conception of a rate of interest. For
+suppose that you tried to do without it, and said, "We shall take a
+long view. The interests of the future are no less our concern than
+those of the present; we shall not discriminate between them. We shall
+regard as an enterprise worthy to be undertaken whatever promises to
+yield in the course of time a return larger than the outlay." Where
+will this lead you? The particular proposal set out above would
+clearly pass the test; for in twenty years the resultant benefits
+would have added up to a figure equivalent to the initial cost. But
+equally clearly, the cost might have been more than $100,000,000; it
+might have been $250,000,000, $500,000,000, whatever figure you care
+to take, and if you extend the period similarly to fifty or one
+hundred years, sooner or later the gains would top the cost. Now there
+is no limit to the enterprises which would pay their way on this
+basis; and it would be quite impossible to undertake them all. For
+they would swallow up all and more than all your labor and your
+materials, and would leave you with no resources with which to meet
+the recurrent daily wants of men. Clearly, then, in some way or other,
+you must pick and choose, you must reject some enterprises as
+_insufficiently_ worth while. But how would you proceed to choose?
+Without a clear principle, a simple criterion to guide you, you would
+be plunged in utter chaos. You could not say, "Let all proposals
+involving capital expenditure be submitted to a central committee, who
+shall compare them with one another in a sort of competitive
+examination and, after deciding the number of applications they can
+pass on the basis of the volume of resources which they can devote to
+the future, award the places to those which head the list." Such a
+prospect is a nightmare of officialism and delay. You would be driven
+to formulate a simple, intelligible rule or measure, and leave that
+rule to be applied by the unfettered judgment of innumerable men to
+individual problems, as and when they arose. And for such a rule or
+measure, you could not do better than a rate of interest; you would
+have to lay it down that only those projects should be approved which
+promised a return of 6 per cent, or whatever it might be. Even in
+deciding what it should be, the limits of your choice would be
+narrowly confined. If, for instance, you fixed on 1 or 2 per cent,
+you would probably discover that you had not achieved your object,
+that the undertakings for distant returns which passed this test,
+still consumed far more resources than you could spare. You would be
+compelled then to raise the rate until it had cut these enterprises
+down within manageable limits. But, once more, what essentially would
+you be doing? You would be using the instrument of the rate of
+interest to adjust the demand for and supply of capital, though indeed
+the interest might not be paid away as now to private individuals. You
+would be reproducing by the method of deliberate trial and error, the
+adjustments which occur automatically as things are, in the actual
+world. Once again the most perfectly contrived Utopia would be
+compelled to pay to the unorganized cooeperation of our epoch the
+sincerest flattery of imitation.
+
+
+Sec.6. _The Fundamental Character of many Economic Laws_. But again
+perhaps a word of warning may be desirable. There is much controversy
+in these days about something called "Capitalism" or "The capitalist
+system." When these words are used with any precision, they usually
+refer to the arrangement so prevalent at present, whereby the
+ownership and sole ultimate control of a business rests with those who
+hold its stocks and shares. There is much to be said upon the merits
+and demerits of this system; something will perhaps be said upon the
+matter in the fifth volume of this series; but I shall not discuss it
+here. Nothing that I have said so far has any real bearing on it
+whatsoever; to suppose that it has, is indeed to miss the whole point
+of this chapter.
+
+The order, which I have sought to reveal, pervading and moving the
+most diverse phenomena of the economic world, would be a far less
+noteworthy and impressive thing were it merely the peculiar product of
+capitalism. Merchant adventurers, companies, and trusts; Guilds,
+Governments and Soviets may come and go. But under them all, and, if
+need be, in spite of them all, the profound adjustments of supply and
+demand will work themselves out and work themselves out again for so
+long as the lot of man is darkened by the curse of Adam.
+
+
+
+CHAPTER II
+
+THE GENERAL LAWS OF SUPPLY AND DEMAND
+
+
+Sec.1. _Preliminary Statement of Three Laws_. The recognition of order in
+any branch of natural phenomena is but the prelude to the formulation
+of a set of laws, the simpler as the order is more universal, which
+describe, and as we say, explain it. Thus the perception of the even,
+elliptical courses of the heavenly bodies led to the statement of the
+law of gravitation and the laws of motion.
+
+In economics, similar laws have long since been enunciated, and have
+proved themselves such valuable instruments for the understanding of
+the daily problems of the workaday world, that they have been woven
+into the texture of our ordinary speech and thought. I have already
+touched upon them in the preceding chapter. But it is now desirable to
+set them out in order, in the most concise and formal manner possible.
+
+LAW I. When, at the price ruling, demand exceeds supply, the price
+   tends to rise. Conversely when supply exceeds demand the price
+   tends to fall.
+
+LAW II. A rise in price tends, sooner or later, to decrease demand and
+   to increase supply. Conversely a fall in price tends, sooner or
+   later, to increase demand and to decrease supply.
+
+LAW III. Price tends to the level at which demand is equal to supply.
+
+These three laws are the cornerstone of economic theory. They are the
+framework into which all analysis of special, detailed problems must
+be fitted. Their scope is very wide. I have purposely refrained from
+introducing into my statement of them any reference to commodities;
+for they extend far beyond commodities. Subject to an important
+qualification, they apply to capital, the price paid for the use of
+capital being what we call the rate of interest. They apply hardly
+less to "services," to the remuneration of labor of every kind and
+grade. People sometimes protest warmly against the idea of treating
+labor "like a commodity." If this indignation expresses no more than
+a belief that in matters concerning conditions of work, and relations
+between employees and the management, the sensibilities of human
+nature should be taken into due account, it is based on elementary
+decency and commonsense. But if, as sometimes appears, it is directed
+against the fact that the remuneration of labor is controlled by the
+laws of supply and demand, it is a mere baying at the moon, with
+singularly little provocation. For these laws are in no way peculiar
+to commodities, and it is no one's fault that they include commodities
+too within their scope.
+
+But let us go back to the laws themselves, and probe them and dissect
+them, and turn them this way and that, so that we may perceive their
+full content, and grasp it firmly in our minds. The third law implies
+a prevailing tendency for demand to be equal to supply. This
+tendency, as was suggested in Chapter I, can be verified by anyone
+from his experience and observation (provided he is a reasonable
+person, and not the tiresome kind who would dispute the law of
+gravitation because he sees that a feather falls to the ground more
+slowly than a stone). But it can also be deduced as a corollary from
+the two preceding laws; and to regard it in this way will help us to
+appreciate its significance. Start, for instance, by supposing that
+demand is in excess of supply. Then the price will tend to rise. After
+the price has risen, the supply will become larger, while the demand
+will fall away. The excess of demand with which we started will thus
+clearly be diminished. But if there remains any portion of this
+excess, the same reactions will continue; the price will rise further,
+and for the same reason; demand will be further checked and supply
+further stimulated. In other words, these forces must persist until
+the entire excess of demand over supply is eliminated. If we start by
+supposing supply to exceed demand, the converse chain of sequences
+will operate. Now these very simple steps of reasoning illuminate the
+nature of the normal equilibrium of demand and supply. They reveal
+that the equilibrium is established and maintained by the agency of
+_changes in price_, and they enable us to lay it down as perhaps the
+most important thing that can be said about the price of anything that
+it will tend to be such as will equate demand and supply. But that is
+not all that they reveal. They reveal also the extreme dependence of
+both demand and supply upon price.
+
+Now this is a fact which it is most important to realize vividly. It
+is apt to be obscured by customary modes of speech. In ordinary times
+the prices of most commodities and services do not change by very
+much, unless indeed over a long period of years; the amounts demanded
+and supplied may therefore seem to maintain a fairly constant level;
+and we may be tempted to speak of Great Britain producing so many
+million tons of coal, or America consuming so many millions of
+motor-cars per annum, almost as though these quantities were
+independent of price considerations. But we should never forget that
+there is no service or commodity produced by man, however essential it
+may seem, the demand for or the supply of which might not be reduced
+to nothing, if the price were sufficiently raised on the one hand, or
+lowered on the other. How easy it is sometimes to forget this simple
+truth may be seen from the mistake so commonly made of supposing,
+because the peoples of Central Europe were left, on the cessation of
+the war, starving and destitute of the means of life and the materials
+of work, that they must necessarily become heavy purchasers of
+imported goods; without pausing to consider whether the prices were
+such as they could afford to pay.
+
+
+Sec.2. _Diagrams and their Uses_. It will help to prevent mistakes like
+this and more generally to make sharp and clear the fundamental
+relations which exist between demand, supply and price, if we exhibit
+them pictorially in the form of a diagram. Such diagrams are of great
+service in many parts of economic theory, not because they can prove
+anything which could not be proved otherwise, but because, being
+really a simpler medium of expression than words, they enable the mind
+to grasp more readily and to retain more vividly the essential facts
+of complex relations.
+
+Figure 1:
+
+     Y
+       |
+       |                                            S'
+       |                                          *
+     D |                                         **
+       |*                                       **
+       | **                                    *
+       |  **                                  *
+       |    *                                *
+       |     **                            **
+       |      **                          *
+       |        **                       *
+       |         **                    **
+       |           **                 *
+       |            **  Q           **
+    _l_|--------------*------------* R
+       |              |***       **
+       |              |   ** P **
+    _m_|--------------------***
+       |              |  *** |***
+    _k_|--------------***----+---** _r_
+       |          _q_*|      |     ***
+       |          *** |      |        ****
+       |       ***    |      |           ****
+       |    ***       |      |               ***
+     S |****          |      |                  ****
+       |              |      |                      ** D'
+       |              |      |
+       |              |      |
+       |              |      |
+       |              |      |
+      0+-------------------------------------------------------- X'
+                      N      M.
+                              Figure 1
+
+In Fig. 1 the curve DD' represents the conditions of demand. It is
+supposed to be drawn in such a way that if any point, Q, be taken on
+the curve, and the perpendicular QN be drawn to meet the base line, or
+axis OX, then ON will represent the amount that will be demanded at a
+price represented by QN (or O_l_). In other words, distances measured
+along OY represent prices, and distances measured along OX represent
+quantities of the commodity, or service, or whatever it may be.
+Clearly, then, the demand curve, DD', must slope downwards from left
+to right, since the lower the price asked, the greater will be the
+amount demanded.  Similarly the curve SS' represents the conditions of
+supply. It is supposed to be so drawn that if any point _q_ be taken
+upon it, and the perpendicular _q_N be drawn to meet OX, then ON will
+represent the amount that will be supplied at a price represented by
+_q_N (or O_k_). Equally clearly this supply curve must slope upwards
+from left to right, since the higher the price obtainable, the greater
+will be the quantity offered. Take the point P where the two curves
+meet, and draw the perpendicular PM to meet OX. Then the third law
+enunciated at the beginning of this chapter corresponds to the
+statement that PM or O_m_ will represent the price at which the
+commodity or service will be exchanged.
+
+It can readily be seen that no other price could be maintained. For
+suppose the price to be less than O_m_, suppose it to be O_k_, then,
+at this price, ON (or _kq_) will be the amount supplied, and _kr_ the
+amount demanded. The demand will thus exceed the supply, and the
+price will tend to rise, i.e. to move upwards towards O_m_. Similarly
+if we suppose the price to be O_l_, which is larger than O_m_, the
+supply (_l_R) will exceed the demand (_l_Q) and the price will fall
+downwards towards O_m_. Thus, again, we have deduced Law III from Laws
+I and II with the form and precision of a proposition in Euclid. Now,
+when once the eye has become familiar with this diagram, it ought to
+be impossible for the mind to lose even momentarily its grip on the
+fact that demand and supply are both dependent upon price. For these
+curves do not represent any particular amounts; they represent a
+series of _relations_ between amount and price; if the price is QN the
+amount demanded is ON, and so forth. The terms demand and supply in
+the sense, in which I have been using them, of the respective amounts
+demanded and supplied are, indeed, strictly meaningless without
+reference to some particular price. The reference may sometimes be
+implicit; but, whenever there is a chance of ambiguity, it should be
+explicitly made.
+
+
+Sec.3. _Ambiguities of the Expressions, "Increase in Demand," etc_. It is
+the more important to be precise upon this point, in that there is a
+further possible confusion which we have now to consider. Demand and
+supply, as we have seen, are dependent upon price; but equally clearly
+they are dependent upon other things as well. Demand depends upon the
+needs, tastes and habits of the people, as well as upon the length of
+their purse; supply depends upon such things as the cost of production
+in the case of commodities. None of these things are constant
+factors, all of them are liable to change, and it may well happen that
+we shall want to consider in some concrete problem the probable
+consequences of such a change. Now the most usual and natural way of
+describing such changes in the medium of words is to use the
+expression "increase" or "decrease in demand," and "increase" or
+"decrease in supply," the same expressions, which we employed before
+to describe the consequences of a change in price. This identity of
+language conceals a fundamental distinction between the phenomena
+described; and to make this distinction plain we cannot do better than
+revert to our diagrammatic presentation of the laws.
+
+Figure 2:
+
+    Y |
+      |
+   _d_|
+      |.
+      | .
+      |  .                                         _s'_
+      |   .                                       .
+    D |    .                                     .
+      |**   .                                   .    * S'
+      | **   ..                                .    *
+      |  **    .                               .   *
+      |   **    .                            ..   *
+      |     *    ..                         .    **
+      |      **    .                       .    **
+      |       **    ..                   ..    **
+      |         *     .                 .     *
+      |          **    .               .     *
+      |           **    ..            .    **
+      |             **    ..        ..    **
+      |              **     ..    ..    **
+      |                **     . ..    **
+      |                 ** p' ..     **
+      |                   **..  .. **
+      |                  ..|**p  **._p_
+      |                ..  | **** | ..
+      |             ...    |**|** |   ..
+      |           ..      *|  |  *|     ..
+      |      .....     *** |  |   |**     .
+   _s_|......       ***    |  |   |  **    ..
+      |          ***       |  |   |    **    ...
+      |     *****          |  |   |      **     ...
+    S |*****               |  |   |        **      ..
+      |                    |  |   |          ***     .._d'_
+      |                    |  |   |            ***
+      |                    |  |   |               **
+      |                    |  |   |                 **D'
+      |                    |  |   |
+      |                    |  |   |
+     0+---------------------------------------------------------
+                          M'  M  _m_
+                            Figure 2
+
+
+
+In Fig. 2 we start as before with our demand curve, and supply curve,
+cutting one another at the point P. We then suppose that some
+alteration takes place in the conditions of demand; there has been a
+growth in the general taste for the commodity or service, and the
+demand, as we say, has increased accordingly. How is this fact to be
+represented in the diagram? Plainly not by taking another point on
+the curve, DD', at a further distance from OY. For this would merely
+indicate the larger amount that would be taken, if the conditions of
+demand had remained unaltered but the sellers had reduced their
+prices. The correct way of representing the change we have supposed is
+to construct a new demand curve (in the figure, the dotted curve
+_dd'_), lying at every point above the old demand curve. For this
+indicates that larger quantities will be purchased at the old prices,
+which is exactly what we want to represent. Similiarly if we wish to
+represent a change in the conditions of supply, such as might result,
+in the case of a commodity, from a tax imposed on its production, we
+must draw a new supply curve, _ss'_, which in the case supposed, must
+lie everywhere above the old supply curve. On the other hand, the
+decrease or increase in demand or supply, _resulting_ from a change in
+price, is represented simply by a shifting of the equilibrium from one
+point to another on the same curve. The striking pictorial contrast
+between a movement from one curve to another, and a movement along the
+same curve should help to make vivid to our minds the fundamental
+distinction between a change in the _conditions_ of demand, arising
+from new tastes, enhanced purchasing power, etc.; and a mere change in
+the amount purchased resulting from an alteration in the price which
+the sellers ask. Words, as this necessarily cumbrous sentence shows,
+are a clumsy instrument for the expression of abstract relations; it
+is not very easy to see which words in a sentence are the significant,
+commanding ones, and which are performing, as it were, ordinary
+routine duties. A diagram is not exposed to similar ambiguities of
+emphasis.
+
+The particular distinction, to which attention has been called, is
+important. The reader who has grasped it clearly will be able to
+perceive many instances of the confusion arising out of its neglect in
+the ordinary discussions of economic questions which take place in the
+press and on the platform. It is not uncommon, for instance, for an
+argument to run something like this: "The effect of a tax on this
+commodity might seem at first sight to be an advance in price. But an
+advance in price will diminish the demand; and a reduced demand will
+send the price down again. It is not certain, therefore, after all,
+that the tax will really raise the price." A glance at the diagram
+will keep us out of such a bog of sophistry and muddle. For if we
+suppose the amount of the tax per unit of the commodity to be
+represented by S_s_, the curve _ss'_ (drawn, as it is, roughly
+parallel to SS') will represent the new conditions of supply after the
+tax has been imposed. The new position of equilibrium will be given by
+the point P', where _ss'_ cuts DD', the demand curve. Now P' lies to
+the left of P the old point of equilibrium; hence, since DD' _must_
+slope downwards from left to right, it is clear that, if, as it is
+fair here to assume, the _conditions_ of demand have remained
+unaltered, the new price P'M', must be greater than the old.
+
+
+Sec.4. _Reactions of Changes in Demand and Supply on Price_. Having now
+made clear the meaning that must be attached to the terms, let us
+consider the question which naturally arises, whether we can lay down
+any general propositions or laws as to the effect upon price, of an
+increase or decrease in demand or supply. Another glance at the
+diagram suggests that we can. An increase in demand is represented in
+Fig. 2 by a movement from DD' to _dd'_, which cuts the supply curve,
+SS', at _p_, to the right of P. Since the supply curve (drawn, as it
+is best to draw it, to represent the amount which will be supplied in
+response to a given price) must always slope upwards from left to
+right, the new price, _pm_, must be greater than the old, PM.
+Conversely a decrease in demand is represented by a movement from
+_dd'_ to DD', and the new price is seen to be less than the old. We
+have already seen that a decrease in supply, which is represented by a
+movement from SS' to _ss'_ results in a higher price; and it is the
+obvious converse that an increase in supply will have the opposite
+effect. It would seem then that we might lay down quite generally that
+an increase in demand or a decrease in supply will raise the price
+while a decrease in demand or an increase in supply will lower it.
+
+But here it is necessary to be cautious. All conclusions as to the
+effects of causes are necessarily based, implicitly, if not
+explicitly, upon the assumption "other things being equal." This
+method of reasoning, which some people appear to find so irritating in
+the economic sphere, and as they say so "theoretical" and "unreal," is
+one which they adopt readily enough in every other department of
+life. No one, for instance, objects to the statement that the sun,
+when it comes out, makes a room warmer, although it may very well
+happen, if a fire is dying at the same time, that the room grows
+colder in point of fact. For in our general statement we assume
+implicitly that "other things" such as fires, are unchanged. But
+assumptions of this kind are legitimate only when there is no reason
+to suppose that the cause, the effects of which are being studied,
+will itself produce a change in the "other things." If (as I have
+often been told; I really do not know if it is true) the rays of the
+sun help to put a fire out, the statement made above would be the
+better for some qualification.
+
+Now we can only say that an increase in demand raises price if we
+assume the conditions of supply (as represented by the supply curve)
+to remain unchanged. But in practice, an increase in demand may cause
+a change in the _conditions_ of supply. An increase, for instance, in
+the demand for a commodity may give rise to a revolution in the
+methods of production, to the introduction of labor-saving machinery
+and so forth, which will eventually result in the commodity being
+produced more cheaply. It will certainly take a considerable time
+before reactions of this kind can exert an appreciable influence; and
+we can, therefore, feel reasonably sure that over a short period an
+increase in demand will raise the price. But we cannot be sure what
+the ultimate effect will be. A similar alteration in the condition of
+demand is less likely to result from an increase or decrease in
+supply; but it may conceivably occur. We must, therefore, be careful
+to qualify any general propositions which we lay down in this
+connection, by explicit reference to a short period of time. We can
+add the following to our body of laws:--
+
+LAW IV. An increase in demand, or a decrease in supply will tend to
+   raise the price for a short period at least. Conversely a decrease
+   in demand, or an increase in supply will tend to lower the price
+   for a short period at least.
+
+
+This law, like the others, applies to commodities, services, capital,
+to anything which can be said, literally, or by analogy, to have a
+price. "A short period" is, however, a vague expression and, since
+precision is the hallmark of an important law, we must accord to this
+one a status inferior to that which the preceding three can rightly
+claim.
+
+
+Sec.5. _Some paradoxical reactions of price changes on supply_. Let us
+turn, though, once more to these earlier laws, and with a heightened
+critical sense let us submit them to the test of the whole gamut of
+our experience, and see if in any of them we can find the smallest
+flaw. The first of them will pass through the ordeal--let each reader
+prove it for himself--unscathed. The second will emerge with a few
+hairs, as it were, singed. It tells us, for instance, that a rise in
+price will tend to augment the supply. Now there are some things the
+supply of which cannot possibly be augmented; these are the capital
+resources of nature, of which land is the most important for our
+present purpose. Land is bought and sold, it commands a price. In a
+certain sense, it may be said to be possible to increase the supply of
+land, in response to a rise in price, by drainage and reclamation
+schemes; and it will certainly happen that a rise in the price which
+land can command for any particular purpose will increase the amount
+which is devoted to that purpose. But, speaking broadly, the supply
+of land available for purposes of every kind is a fixed unvarying
+factor, with an inertia which the cajolery of price-changes is
+powerless to disturb. This is a most important fact, and it gives rise
+to some peculiar features of the price and rent of land, which we
+shall have to consider later as a separate problem. It constitutes a
+limiting case rather than an exception to the general law. But we have
+not yet done with the reactions of price upon supply. In the case of
+capital, the nature of those reactions has been much discussed as a
+highly controversial question. That a rise in the rate of interest
+will cause some people to save more than before, is generally
+admitted; but it is pointed out that the effect upon others may be the
+exact opposite, because it means that they do not need to save so much
+to acquire the same future annual income. It is unwise to say
+dogmatically that the former tendency outweighs the latter; though
+upon the whole it seems highly probable that it does. We cannot,
+therefore, in this case feel confident that a change in price will
+react upon supply in the manner which our law indicates. Similarly it
+is possible to argue that a rise in the general level of real wages
+may reduce the supply of labor, even, or some might say particularly,
+if the term is used to denote not the number of workpeople, but the
+quantity of work done. For there may be a tendency for workpeople,
+when more comfortably off, to work less regularly or less hard. Here
+again we cannot be sure. In none of these cases, however, including
+that of land, is there any reason to doubt that a rise in price will
+diminish _demand_, or conversely that a fall will increase it. Since,
+therefore, in the reasoning by which we deduced the third law, the
+conclusion will hold good, even if the effects of price-changes on
+supply are of the above paradoxical kind, provided that they do not
+continually outweigh the effects upon demand, there is no reason to
+cast doubt on the solidity of Law III, which, indeed, as we suggested
+before, commends itself directly to experience. But Law II seems now,
+perhaps, somewhat the worse for wear.
+
+The damage, however, is not considerable. For in each case the
+uncertainty arises only when we are dealing with one of the factors of
+production, land, labor or capital, _regarded as a whole_. If we are
+dealing with the capital available for a particular industry, a rise
+in the rate of profit in that industry will certainly increase the
+supply of capital available there; for it will tend to attract savings
+that might otherwise have been employed elsewhere. We can even be
+fairly sure that an increase in the general rate of interest
+prevailing in any particular country will increase the total supply of
+capital available for the businesses of that country, since capital
+has in modern times acquired a considerable migratory power. In the
+case of labor, we cannot go so far as this; but here, too, there is no
+doubt that an increase in the remuneration offered in any particular
+occupation will attract an increased labor supply (always supposing,
+of course, that "other things are equal"). No similar difficulty
+arises for land, labor or capital, as regards the effect of
+price-changes on demand; while for ordinary commodities there is no
+such difficulty on the side either of demand or of supply. Hence the
+only qualification which the strictest accuracy would require us in
+this connection to attach to our statement of Law II is the
+postscript:--
+
+
+   "Except that, in the case of land, the aggregate supply is
+   unalterable; while in the case of capital or labor we cannot be
+   sure how price-changes will affect the aggregate supply."
+
+
+Much significance attaches to these exceptions, as later will appear.
+
+
+Sec.6. _The Disturbances of Monetary Changes_. But let us still keep a
+critical eye on Law II, and submit it to another flashlight from our
+practical experience. The recent world war made us all acutely aware
+of a remarkable rise in the price of almost everything, which yet did
+not seem to diminish appreciably the demand. The explanation of this
+paradox is not difficult to find. There was an immense increase in the
+volume of nominal purchasing power, due to a complex set of causes, of
+which "currency inflation" may be taken as the symbol. Now perhaps we
+are entitled to assume the absence of such currency changes as part of
+the "other things being equal" which is always understood as
+implied. But it is rash to take this particular assumption for
+granted, more especially in these days. Already people are too apt to
+speak as though the trade depression (which as these pages are written
+holds us in its grip) cannot pass away until pre-war prices are
+restored, ignoring altogether the great and probably permanent
+increase in nominal purchasing power which the war has left behind
+it. It would be safer, therefore, to add explicitly to Law II the
+reservation, "Assuming that there is no change in the general volume
+of purchasing power."
+
+Monetary and allied questions will form the subject of the second
+volume of this series. It must not be supposed that our general laws
+have no bearing on them. On the contrary, Law I, which all this time
+has remained serene and undisturbed by the occasional discomfitures of
+Law II, is the gateway through which all questions of currency,
+banking and the foreign exchanges should be approached. It is well to
+note, as an inexorable corollary of Law I, that prices can rise _only_
+if demand exceeds supply, and fall _only_ if supply exceeds demand;
+and hence that it is only through the agency of changes in the demand
+for and supply of commodities and services that an inflation or
+deflation of the currency can influence the price level. Further,
+since a condition of things in which supply generally exceeds demand
+spells what we know and fear as a trade depression, it may be well to
+note at once that falling prices and unemployment are inseparable
+bedfellows. For we are far too apt to shut our eyes to these
+unpleasant truths. But we cannot pursue them further here; and in the
+remainder of this volume we shall not be concerned (except, perhaps,
+incidentally) with questions affecting the general level of prices or
+of purchasing power; but rather with the relation which the price of
+one commodity bears to that of another, with the rate of interest
+(which being a rate per cent is not essentially dependent on the price
+level), with "real" wages (as distinct from money wages) and the like.
+
+
+Sec.7. _The Trade Cycle_. But our reference to trade depressions suggests
+a final comment on Law II. One small qualification was embodied in our
+original statement of it, namely the words "sooner or later." A rise
+in price may not check the demand immediately (even if the printing
+presses are standing idle in the Treasuries); it may actually
+stimulate it for a time. For people may fear that the price will rise
+further still, and hasten to buy what they _must_ buy before very
+long. Sellers may share the same opinion, and be reluctant on their
+side to part. When prices are falling the roles are reversed, and we
+are likely to see the sellers tumbling over one another in a frantic
+eagerness to sell, the buyers wary and aloof. Sooner or later, indeed,
+these tendencies must dissolve and disappear; but they may persist for
+a longer period than might seem probable at first. For the raw
+material of one trade is, as we say, the finished product of
+another. The demand for one thing gives rise to a demand for other
+things, for the labor with which to make them, and so on in an
+expanding circle. A sympathy, subtle and intense, unites the business
+world, and a wave of depression or animation arising in any quarter
+may spread itself far and wide, heightened by the gusts of human hope
+and fear, and continue long before its influence is spent.
+
+Here we are upon the threshold of one of the most striking and
+formidable of economic facts, the regular alternation of periods of
+good and bad trade, each very widespread, if not world-wide, in its
+range, each comprising certain regular phases of acceleration and
+decay, and each infallibly yielding sooner or later to the other. The
+details of these phenomena are highly complex, some of them obscure;
+an immense literature has already been devoted to the subject, yet its
+systematic study is hardly more than begun. The account given in the
+preceding paragraph is incomplete and meagre. It is inserted here in
+the hope that it will impress the reader with a sense both of the fact
+of these alternations and of the deeply rooted nature of the causes
+from which they spring. They take a heavy toll of human happiness and
+wealth; and there is no object that more urgently calls for concerted
+human effort than that of mitigating them, and of alleviating the
+misery which they bring in their train. Still better, of eradicating
+them if that is possible; but let none suppose that it can be lightly
+done. Meanwhile, let us always remember that they form the atmosphere
+and medium in which the enduring tendencies of the business world must
+work themselves out. It is often convenient to speak of "normal
+conditions" in this trade or that; but hardly ever can it be truly
+said of a particular moment that conditions are normal. The normal is
+rather a mean level about which oscillations to and fro, round and
+about, are constantly taking place, but which itself is reached only
+by accident, if at all. Whenever we say that some new factor should in
+the long run lower the price of this or that commodity or service, the
+picture which these words should convey to our mind is one of the
+price rising less on times of boom, and falling more in times of
+depression than is the case with other things. And if ever our faith
+in some honored economic law is shaken by the apparent ease with
+which, perhaps, in times of active trade, sellers are able to advance
+their prices to whatever figure (so it almost seems) they choose to
+name, let us rally our sense of economic rhythm, and reserve our
+judgment until the trade cycle has run its course.
+
+
+
+CHAPTER III
+
+UTILITY AND THE MARGIN OF CONSUMPTION
+
+
+Sec.1. _The Forces behind Supply and Demand_. The laws enunciated in the
+preceding chapter constitute the framework and skeleton of all
+economic analysis; but they do not carry us very far. It is only
+through the agency of these laws that any influence can affect the
+price of anything: but what influences may so affect it is a question
+which we have still to consider.
+
+Let us begin with ordinary commodities and ask ourselves, in the light
+of experience and common sense, upon what factors their price seems
+mainly to depend? Two factors spring to mind at once; their cost of
+production and their usefulness. As regards the former, the case seems
+clear enough. We may indeed sometimes grumble that the price of this
+or that commodity is unconscionably high in comparison with its cost;
+but this only goes to show that we conceive a relation between price
+and cost as the normal, governing rule. If one commodity cost only a
+half as much to produce as another, we should think that something had
+gone very wrong indeed, if the former commodity were sold for the
+higher price. But, when we turn to the usefulness of commodities, the
+case is not so clear. Usefulness has some connection with price, so
+much is certain; for an entirely useless thing, fit only for the
+dust-bin (and known to be such, it may be well to add) will fetch no
+price at all, however costly it may be to produce. But it is not easy
+to express the connection in quantitative terms. It seems reasonable
+enough to say that the prices of commodities are roughly proportionate
+to their costs of production. But directly we contemplate saying a
+similar thing of their usefulness, we are pulled up short. As we look
+round the world, and enumerate the commodities which by common consent
+are the most useful, salt, water, bread, and so forth, the striking
+paradox presents itself that these are among the cheapest of all
+commodities; far cheaper than champagne, motor-cars or ball-dresses,
+which we could very well get on without. As things are, of course, a
+ball-dress, or a motor-car costs more to produce than a loaf of bread
+or a packet of salt; and the common-sense explanation of the paradox
+seems, therefore, to be that the cost of production is a more weighty
+influence than the usefulness, or utility, as we will henceforth call
+it (so as to include the satisfaction we derive from not strictly
+useful things). We are thus tempted to conclude that, provided a
+commodity possesses some utility, its price will be determined by the
+cost of production, the degree of utility being unimportant. This was
+exactly how the position was gummed up for many years in systematic
+treatises upon Political Economy; and it was not until fully half a
+century after the _Wealth of Nations_ that a discovery was made which
+threw a fresh light on the whole matter.
+
+First of all, let it be clearly observed how very unsatisfactory is
+the above account. In Chapter II where we were treading surely, with a
+sense of solid ground beneath us, we drew no such invidious
+distinction between supply and demand. They seemed then to possess an
+equal status. But cost of production is the chief factor which, in the
+case of commodities, ultimately determines the conditions of
+supply. Utility, similarly, is the chief factor which ultimately
+determines the conditions of demand. Must not then the symmetrical
+relations between demand and supply be reflected in a corresponding
+symmetry between the utility and the costs which underlie them? Demand
+springs obviously from utility; the only motive for buying anything is
+that it will serve some real or fancied use. Can we then accord to
+demand so dignified and to utility so subordinate a place? There is
+here an inconsistency which we must somehow reconcile. It will not
+serve as a solution to distinguish between different periods of time,
+and to say, as economists used to say not very long ago, that price is
+governed over a short period by demand and supply, but in the long run
+by the cost of production. This still leaves our sense of symmetry
+unsatisfied. Moreover, the conception of cost of production, when we
+consider it as ruling over a long period, frequently seems to lose any
+precision, as an independent factor, which it may otherwise
+possess. Motor-cars, we have agreed, are more costly to produce than
+loaves of bread; but, as we know well, the cost of producing
+motor-cars varies enormously, accordingly as they are produced on a
+small or a large scale. By the methods of mass production they can be
+turned out at a relatively low cost per car. But this requires that
+they should be purchased in large numbers and this in turn throws us
+back to the demand for motor-cars, and plainly enough, to people's
+judgment as to their utility. In some cases, the opposite phenomenon
+occurs. In the case of British coal, for instance, the average cost of
+production would be much lower than it is if the output were reduced
+to a fraction of its present volume, and if only the richer seams of
+the more fertile mines were worked. Once again, therefore it is
+difficult to measure the cost of production until we know the
+magnitude of the demand, which in a manner, which we have still to
+elucidate, clearly depends upon the utility.
+
+If we take the problem of joint products, the conception of cost of
+production fails us still more conspicuously. For what is the cost of
+producing wool, or the cost of producing mutton? We can speak of the
+cost of rearing sheep: but it is hardly possible to allot this cost,
+except quite arbitrarily, between the two products. How, then, can we
+explain the separate prices of these things by reference to cost
+alone? Instances of joint production are becoming so common in the
+modern world, or at least, with the growing attention to the
+utilization of by-products, are assuming so much more heightened a
+significance, that an explanation of price, which does not apply to
+them, is a very feeble one indeed.
+
+
+Sec.2. _The Law of Diminishing Utility_. Let us turn back, then, to the
+factor of utility, and see if we cannot put on a more satisfactory
+basis the relation between utility and price. The clue to the puzzle
+is to be found in a brief reflection on the implications of the second
+general law propounded in Chapter II. A rise in price, it was there
+stated, will sooner or later diminish the demand. This was asserted as
+a matter of fact, observed from and confirmed by experience. But what
+does it signify? To what causes is this familiar fact to be
+attributed? The first stage of the answer is very ample. The many
+individuals, whose purchases make up the demand for the commodity,
+will buy smaller quantities now that the price is higher. Possibly
+some of them may cease to buy it altogether; but as a rule it would be
+reasonable to suppose that most people continue to buy a certain
+amount though a smaller amount than hitherto. Let us turn our
+attention, then, to the individual purchaser, and ask ourselves why he
+(or let us say she) acts in the manner indicated. The obvious answer
+is that the more she already has of anything, the less urgently does
+she require a little more of it. If she buys 6 pounds of sugar every
+week when the price is 7 cents a pound, but only 5 pounds when the
+price is 8 cents, she shows by her action that she does not consider
+that the additional utility she will derive from buying 6 pounds a
+week rather then 5 pounds is worth as much as 8 cents. But she shows
+at the same time that she thinks it worth 7 cents. For, when the price
+is 7 cents, no one compels her to buy that sixth pound. She could
+stop, if she chose, at five; and it may serve to make the point quite
+plain if we suppose her actually to hesitate before she buys the
+sixth. She has hitherto, let us say, been buying 5 pounds a week at 8
+cents. To-day she enters the shop and finds the price is down to 7
+cents. She asks for her customary 5 pounds; then she pauses, and a
+minute later turns her order into six. What are the alternatives which
+she has been weighing one against the other in that momentary pause?
+Not the utility of the whole 6 pounds of sugar against the total price
+of 42 cents. For she has already ordered the first 5 pounds; and the
+decision to buy the sixth is taken independently and subsequently. She
+has been sizing up the _increment_ of utility which a sixth pound
+would yield, and she decides that this is worth the expenditure of a
+further 7 cents. Again, when the price was 8 cents she need not have
+bought as many as 5 pounds. She could have stopped at 4 had she
+chosen, and the fact that she did buy 5 pounds shows that the
+increment of utility derived from buying a fifth pound, when she might
+be said already to have 4, was worth at least 8 cents in her judgment.
+
+This trite illustration enables us to lay down two important laws
+relating to utility. To state them shortly, it is convenient to employ
+one or two technical terms, which, unlike every term employed
+hitherto, are not very commonly used in their present sense in
+everyday life. Their adoption is desirable not merely for the sake of
+convenience, but because they help to stamp clearly on the mind a most
+illuminating conception, that of the "margin," which supplies the clue
+to many complicated problems. The last pound of sugar which the
+housewife purchased, the fifth pound when the price was 8 cents, or
+the sixth pound when the price was 7 cents, we call the "marginal"
+pound of sugar. And the increment of utility which she derives from
+buying this marginal pound we call the "marginal utility" of sugar to
+her. We are thus able to state the fact that the more a person has of
+anything the less urgently does he require a little more of it, in the
+following formal terms:--
+
+LAW V. The marginal utility of a commodity to anyone diminishes with
+   every increase in the amount he has.
+
+The total utility will, of course, increase with an increase in the
+amount, but at a diminishing rate. This law is usually called The Law
+of Diminishing Utility.
+
+
+Sec.3. _Relation between Price and Marginal Utility_ But this is not
+all. We are now in a position to perceive the true relation between
+utility and price. The relation is one which exists not between price
+and total utility, but between price and marginal utility. If we know
+only that a housewife will buy weekly 5 pounds of sugar at 8 cents per
+pound, but 6 pounds at 7 cents, we know nothing of the total utility
+of sugar to her. We do not know how much she might be prepared to pay
+rather than go without 3 pounds, 2 pounds, or any sugar at all. But we
+do know that, when she buys 6 pounds, the marginal utility of sugar is
+in her judgment worth something which does not differ greatly from the
+price. We can, therefore, say in general terms that the price of a
+commodity measures approximately its marginal utility to the
+purchaser.
+
+This statement is perfectly consistent with the paradox noted above
+that the most useful commodities such as bread, salt and water are
+very cheap. For when we say that these commodities are supremely
+useful, we mean only that their total utility is very great; that,
+rather than do without them altogether, we would offer for them a
+large proportion of our means. But we would not value very highly a
+small addition to the bread, water or salt that we habitually consume;
+nor would most of us feel it as a very serious deprivation if our
+consumption of these things were curtailed by a small percentage. In
+other words, their _marginal_ utilities are small, and it is only the
+_marginal_ utility that has any relation to price.
+
+
+Sec.4. _The Marginal Purchaser_. A possible objection to the preceding
+argument deserves to be considered. Some readers may find the picture
+I have drawn of the hesitating housewife entirely unconvincing. They
+may declare that her mind does not work at all in the manner I have
+indicated. She will have formed certain habits in regard to her weekly
+purchases of sugar, which are connected very vaguely, if at all, with
+any conscious processes of thought. She will buy so many pounds of
+sugar weekly without troubling her head over the specific utility of
+the last pound she buys. When the price falls she may, indeed, buy
+more; but it will not be because she separates out and considers by
+itself the extra utility of an additional pound. She may buy more,
+because she has formed the habit of spending so much money on sugar;
+and now that the price has fallen, the same amount of money will
+enable her to buy more pounds. Or, perhaps, she may be moved by
+instinctive and irresistible attraction to buy more of a thing when it
+is cheaper, similar to that which inspires so many people to face with
+ardor the horrors of a bargain sale. In any case the fine calculations
+I have imagined convey a fantastic picture of her state of mind. And
+how much more fantastic, the critic may continue, of the state of mind
+in which things of a different kind are bought by less careful
+people. When, for instance, one of us happy-go-lucky males (more
+liberally supplied, perhaps, than the housewife with the necessary
+cash), decides to buy a motor bicycle, or to replenish his stock of
+collars or ties, does the above analysis bear any resemblance to the
+actual facts? In the case of the motor bicycle, the purchaser may,
+indeed, weigh the price fairly carefully against the pleasure and
+benefit, though contrariwise he may be a rich enough gentleman hardly
+to bother about this. But, one motor bicycle is as much as he is at
+all likely to buy, and what becomes, then, of the distinction between
+total and marginal utility? In the case of the ties and collars, the
+vagueness of many of us about the price will be extreme. We probably
+have been uneasily conscious for some time of an inconvenient shortage
+of these troublesome articles and eventually will go off (or perhaps
+will be sent off with ignominy) to the nearest suitable shop to make
+good the deficiency. How can we speak here with a straight face of the
+relation between marginal utility and price?
+
+These are very pertinent criticisms; but they do not make nearly as
+much nonsense of the notion of marginal utility as may seem at
+first. The last point, indeed, serves rather to give it a fresh aspect
+of much significance. Those of us who do not bother about the price we
+pay for our ties and collars owe a debt of gratitude, of which we are
+insufficiently conscious, to the more careful people who do; as well
+as to the custom which prevails in shops in Western countries (as
+distinct from the bazaars of the East) of charging as a rule a uniform
+price to all customers. If _we_ were the only people who bought these
+things, an enterprising salesman would be able to charge us very much
+what he chose. He could put up his price, and we would hardly be aware
+of it. And, as by lowering his price he could not tempt us to buy any
+more, price reductions would be few and far between. But fortunately
+there are always some people who do know what the price is, even when
+they are buying collars and ties; and who will adjust the amount they
+buy in accordance with the price. It is these worthy people who make
+the laws of demand work out as we well know they do. It is they who
+will curtail their consumption if the price has fallen and it is they
+who constitute the seller's problem, and help to keep down prices for
+the rest of us. The rest of us--it is well to be quite blunt about
+it--simply do not count in this connection. We have no cause then to
+plume ourselves that we have disproved the truth of economic laws when
+we declare that we seldom weigh the utility of anything against its
+price. All that this shows is that our actions are too insignificant
+to be described by economic laws since they exert no appreciable
+influence on the price of anything. And this in turn shows the extreme
+importance of grasping clearly the conception of the margin. Just as
+it is the marginal purchase, so it is the marginal purchaser who
+matters. It is the man who, before he buys a motor bicycle, weighs the
+matter up very carefully indeed and only just decides to buy it, whose
+demand affects the price of motor bicycles. It is the utility which
+_he_ derives that constitutes the marginal utility, which is roughly
+measured by the price.
+
+As to the housewife, I am not prepared to concede that my picture is
+in essentials very fanciful. She may be a creature of habits and
+instincts like the rest of us, but most habits and instincts affecting
+household expenditure are based ultimately on _some_ calculation, if
+not one's own, and reason has a way of paying, as it were, periodic
+visits of inspection, and pulling our habits and instincts into line,
+if they have gone far astray. I am not satisfied that the housewife
+does not envisage the utility of a sixth pound of sugar as something
+distinct from the utility of the other five; she may buy it, for
+example, with the definite object of giving the children some sugar on
+their bread, and she may have a very clear idea as to the price which
+sugar must not exceed before she will do any such thing. Possibly I
+may exaggerate. I have the profound respect of the incorrigibly
+wasteful male for the care and skill she displays in laying out her
+money to the best advantage.
+
+
+Sec.5. _The Business Man as Purchaser_. But if the reader still finds the
+picture unconvincing, let us shift the scene from domestic economy to
+commerce, and substitute for the careful housewife an enterprising
+business man. Now, as anyone who has a business man for his father
+will have often heard him say, the vagueness and caprice which
+characterize our personal expenditure would be quite intolerable in
+business affairs. There you must weigh and measure with the utmost
+possible precision. You must be for ever watching the several channels
+of your expenditure, careful to see that in none does the stream rise
+higher than the level at which further expenditure ceases to be
+profitable. You will not even engage typists or install a telephone in
+your office without weighing up fairly carefully the number of typists
+or the number of switches that it is worth your while to have. And in
+deciding whether to employ say, five typists, or six, you will not
+vaguely lump the services of the whole six typists together, and
+consider whether as a whole they are worth to you the wages you must
+give them. You will, in the most direct and literal manner, weigh up
+the _additional_ benefit you would derive from a sixth typist, and if
+that does not seem to you equivalent to her wage, you will not engage
+her, however essential it may be to you to have one or two typists in
+your office. If on the other hand, the utility of having a sixth
+typist seems to you worth much more than her pay, the chances are that
+you will be well advised to consider the employment of a seventh. And
+so, where you stop employing further typists, the utility to you of
+the last one, of the "marginal typist" as it were, is unlikely to
+differ greatly from her pay.
+
+Now this is not a fancy picture of some remote abstraction called an
+"economic man." Allowing for the over-emphasis which is necessary to
+drive home the central point, it is a bald account of the aims and
+methods of the actual man of business. To ascertain the margin of
+profitable expenditure in each direction, to go thus and no further,
+is the very essence of the business spirit, as the business man
+himself conceives it. When he condemns the extravagance of Government
+departments, it is their lack of just this marginal sense that he
+chiefly has in mind. "The lore of nicely calculated less or more" may
+be rejected by High Heaven and Whitehall, but no one can afford to
+despise it in the business world.
+
+The transition from household to business expenditure involves an
+extended use of the word utility, which is worth noting. Commodities
+like bread, sugar, or privately owned motor-cars are sometimes called
+"consumers' goods" in contrast to "producers' goods," which comprise
+things such as raw materials, machinery, the services of typists and
+so forth, which are bought by business men for business purposes. The
+line of division between the two classes is not a sharp one, and we
+need not trouble with fine-spun questions as to whether a particular
+commodity should in certain circumstances be included under the one
+head or the other. But, broadly speaking, things of the former type
+yield a direct utility; they contribute directly to the satisfaction
+of our pleasures or our wants. Things of the latter type yield rather
+an indirect utility. Their utility to the business man who buys them
+lies in the assistance they give him in making something else from
+which he will derive a profit. The utility of these things is
+therefore said to be _derived_ from that of the consumers' goods or
+services to which they ultimately contribute. This conception of
+derived utility leads to certain complications which we shall have to
+notice later.
+
+
+Sec.6. _The Diminishing Utility of Money_. But one important point must
+be emphasized in this chapter. The utility which a business man
+derives from the things which he buys for business purposes is the
+extra receipts which he obtains thereby. Derived utility, in other
+words, is expressed in terms of money, and the idea of its relation to
+price presents no difficulty. But the utility of things which are
+bought for personal consumption means the _satisfaction_ which they
+yield, and this is clearly not a thing which is commensurable with
+money. When, therefore, it is said that the prices measure their
+respective marginal utilities, what exactly is meant? What was it that
+the argument of Sec.3 went to show? That the utility of the marginal
+pound of sugar would seem to the housewife just worth the price that
+she must pay for it; in other words, that it would be roughly equal to
+the utility she could obtain by spending the money in other ways. The
+respective marginal utilities which _she_ obtains from the different
+things she buys will thus be proportionate to their prices. But if she
+were to receive a legacy which gave her a much larger income to spend,
+she might buy larger quantities of practically every commodity; and,
+though she would obtain a greater total utility thereby, the marginal
+utility she would obtain in each direction would be smaller, in
+accordance with the law of diminishing utility. The prices might not
+have changed; the respective marginal utilities to her of the
+different things would again be proportionate to their prices, but
+they would constitute a smaller satisfaction than before.
+
+Thus we can only say that the prices of commodities will be
+proportionate to their real marginal utilities, when we are
+considering the different purchases of one and the same
+individual. The amounts of money which different people are prepared
+to pay for different consumers' goods are no reliable indication of
+the real utilities, the amounts of human satisfaction which they
+yield. Here we must take account not only of varying needs and
+capacities for enjoyment, but of the very unequal manner in which
+purchasing power is distributed among the people. The cigars which a
+rich man may buy will yield him an immeasurably smaller satisfaction
+than that which a poor family could obtain by spending the same amount
+of money on boots, or clothes or milk. When, therefore, we compare
+commodities which are bought by essentially different consuming
+publics, their respective prices may bear no close relation to their
+_real_ utility, whether marginal or otherwise. Thus the law of
+diminishing utility applies to money or purchasing power, as well as
+to particular commodities. The more money a man has the less is the
+marginal utility which it yields him; and, where the marginal utility
+of money to a man is small, so also will be the real marginal utility
+he derives in each direction of his expenditure. The extreme
+inequality of the distribution of wealth gives immense importance to
+this consideration. Its practical implications will be discussed in
+Chapter V. Meanwhile, we may express the conclusions of the present
+chapter by the statement that the price of a commodity tends to equal
+its marginal utility, _as measured in terms of money_, i.e. relatively
+to the marginal utility of money to its purchaser.
+
+
+
+CHAPTER IV
+
+COST AND THE MARGIN OF PRODUCTION
+
+Sec.1. _An Illustration from Coal_. We have already had occasion to note
+the symmetry which characterizes the relations of demand and supply to
+price. This symmetry was apparent throughout the argument of Chapter
+II, and it was a striking feature of the diagrams which we employed to
+illustrate the argument. We shall do well to cultivate a lively sense
+of this symmetry, for it will frequently save us from ignoring factors
+which have a vital bearing on the problems we are considering. We
+should never leave an important feature of demand without turning to
+see whether it has a counterpart on the supply side, though indeed we
+may not always find one. In the last chapter we examined the relation
+between utility and price, and found that the true relation was
+between the price and what we termed the marginal utility.
+Corresponding to utility on the demand side is cost of
+production on the supply side. The question should thus at once
+suggest itself--"Can we speak appropriately of the marginal cost of
+production, and will this serve to make clear the relation between
+cost and price?" To answer these questions, let us take one of the
+instances in which we found that price could not be explained
+satisfactorily by the bare phrase "cost of production."
+
+An important feature of the coal industry, which recent events have
+brought into sharp prominence, is the great diversity of conditions
+between different coalfields and different collieries. We speak of
+rich seams and poor seams, of fertile and unfertile mines, and we are
+aware that the costs of raising coal to the surface differ very widely
+in accordance with these diverse natural conditions. Nor must we
+confine our attention to the cost price at the pit-head. If we wish to
+speak of cost of production as a factor determining price, we must use
+the term in a broad sense to include the transport and other charges
+necessary to bring the coal to market.
+
+In this respect also one coalfield differs greatly from another. Some
+are well situated close to a large market, or within easy reach of the
+seaboard; others must incur very heavy transport charges to bring
+their coal to any considerable centre of consumption. These varying
+conditions lead, as we well know, to great variations in the financial
+prosperity of different colliery concerns. In Great Britain, under the
+abnormal conditions which prevailed during the war, and subsequently,
+these variations were so huge as to constitute a most formidable
+embarrassment and to contribute, more perhaps than any other single
+factor, to the unrest and instability by which the industry has been
+afflicted. But they are always with us, if usually upon a more modest
+scale.
+
+What, then, is the normal relation between price and cost in the case
+of coal? Should we direct our attention to the average costs over the
+whole industry, or the costs incurred by the richer and better
+situated mines, or, lastly, that of the poorer and worse situated?
+Now, as things are, it is clear enough that no concern will continue
+indefinitely producing at a loss. It may do so for a time, rather than
+close down altogether, hoping to recoup itself later when the market
+has taken a more favorable turn. But, in the long run, taking good
+years with bad, it must expect to obtain receipts sufficient not only
+to cover its necessary expenditure, but to provide also a reasonable
+profit on the capital employed. Of course, once the capital has been
+sunk and embodied in plant and buildings, which are of little use for
+any other purpose, a business may continue for many years, with a rate
+of profit far below what it had anticipated. But plant and buildings
+gradually wear out, and need to be replaced; the course of technical
+improvement calls continually for fresh capital outlay, which a
+business in a bad way is reluctant to undertake. The tendency,
+therefore, when profits rule low over a considerable period, is for
+the plant to fall gradually into disrepair and obsolescence, and
+finally for the business to disappear. We can thus include an
+ordinary rate of profit under the head of cost of production, and say
+with substantial accuracy that for no business can this cost for long
+exceed the price if the business is to continue to exist. If then the
+relatively poor and badly situated mines are to be worked, the price
+of coal, taking good years together with bad, must cover the costs at
+which these mines can produce. If the price rules lower than this,
+sooner or later they will close down, and we will be left with a
+smaller number of mines, among which great variations of conditions
+will still prevail. Once more, the price must cover the cost incurred
+by the least profitable of these remaining mines, unless their number
+is still further to be diminished. Thus we can conceive of a "margin
+of production" which will shift backwards to more profitable or
+forwards to include less profitable mines, according as the demand for
+coal contracts or expands. But, wherever this margin may be, there is
+no escaping the conclusion that it is the cost of production of the
+"marginal mines," of those that is to say which it is only just worth
+while to work, to which the price of coal will approximate.
+
+It follows that there is no real connection between price and cost of
+production throughout the industry as a whole. It follows incidentally
+that those concerns which can market their coal at an appreciably
+lower cost than the marginal concerns, are likely to reap more than an
+ordinary rate of profit, though royalties may absorb part of the
+excess.
+
+
+Sec.2. _The Various Aspects of Marginal Cost_. This relation cuts much
+deeper than the particular system under which the mines are at present
+owned and worked. If, for instance, we supposed that the various
+mines were amalgamated together in a few giant concerns, each of which
+comprised some of the richer and some of the poorer mines, the
+preceding argument would need to be recast in form, but its substance
+would be unaffected. For though a great coal trust could in a sense
+_afford_ to sell at a price lower than the marginal cost, setting its
+losses on the poorer against its gains on the better pits, is it
+likely it would do so? Why should it dissipate its profits in this
+way? It is clearly more reasonable to suppose that it would close down
+the poorer pits (unless it could advance the price of coal), and
+thereby maintain its profits at a higher figure. If, indeed, the
+mines were nationalized the deliberate policy might be pursued of
+selling coal at a price which left the industry no more than
+self-supporting as a whole. Some coal might thus be sold at less than
+its cost price, and the selling price would conform roughly to the
+_average_ cost. But such a policy, though in special circumstances it
+might be justified, would represent a very dangerous principle, which
+could not be applied widely without the most serious results. Nothing
+could be more fatal to any enterprise, whether it be in the hands of
+an individual, a joint-stock company, a State department, or a Guild,
+than that the management should content themselves with results which
+in the lump seem satisfactory, and regard losses here or there with an
+indifferent eye. That way lies stagnation, waste, progressive
+inefficiency and ultimate disaster. To inquire searchingly into every
+nook and cranny of the business, to construct, as it were, for each
+part a separate balance-sheet of profit and loss, to expand in those
+directions where further development promises good results, and to
+curtail activity where loss is already evident, is the very essence of
+good management. Here, it will be observed, we are using language very
+similar to that in which we described the principles which govern a
+business man's expenditure. The resemblance is inevitable and
+significant, for we are dealing here with what is essentially another
+aspect of the same thing. The object is to secure that nowhere does
+expenditure fail to yield a commensurate return. This we express, when
+we consider a business in its aspect as a consumer, by saying that its
+consumption of anything will not be carried beyond the point at which
+the marginal utility exceeds the price it will have to pay. When we
+consider it as a producer, we say that its production of anything will
+not be carried beyond the point at which the marginal cost exceeds the
+price it will obtain.
+
+
+Sec.3. _The Dangers of Ignoring the Margin_. This at least is the general
+rule. A business may decide deliberately to sell part of its output
+below cost, because, for instance, this will serve as an
+advertisement, bring it connections, and enable it to obtain a larger
+profit at a later date, or immediately on other portions of its
+sales. In so acting, it recognizes that the price obtained for a thing
+may be an inadequate measure of the real return it yields. In the same
+way, though for different reasons, a nationalized coal industry might
+conceivably be justified in selling some coal below cost price,
+because, let us say, it held that the price which the immediate
+purchasers were willing to pay was an inadequate measure of the
+utility of coal to the community as a whole. But in all such cases it
+is essential to be very clear as to what exactly you are doing; so
+that you may be at least moderately clear as to whether the policy is
+well advised. It may be sound enough to lose on the swings and make
+good this loss on the roundabouts, but only if your loss on the swings
+_helps_ you to a larger profit on the roundabouts. If you would get
+the same return on the roundabouts in any case, it would be better to
+cut the swings out altogether. So, if you are directing the policy of
+a nationalized coal industry, and decide to make a loss on a portion
+of your sales, you will need to know that the indirect benefit which
+the community will derive from this particular part of your coal
+output is worth the loss which you incur. You will certainly come to
+grief, if you pursue a vague ideal of lumping all results together,
+and regarding a profit somewhere as a sufficient excuse or a positive
+reason for making a loss elsewhere.
+
+It is quite true that in big undertakings, where there are large
+standing charges, and where the organization possesses some of the
+characteristics of an integral whole, it is not easy to measure
+accurately the specific costs which should be assigned to any
+particular portion of the output. But this difficulty is one of the
+most serious weaknesses of large undertakings; precise detailed
+measurement is the great prophylactic of business efficiency, and,
+where it is lacking the bacilli of waste will enter in and
+multiply. So clearly is this recognized, that the development of large
+scale business has led to the evolution of new methods of accountancy,
+designed to make detailed mensuration possible. We have most of us
+heard of them vaguely under such names as "comparative costings," but
+too few of us appreciate their full significance. It is hardly too
+much to say that the issue as to whether the size of the typical
+business unit will continue to become larger and larger, or whether it
+has already overshot the point of maximum efficiency will turn largely
+upon the capacity of accountancy to supply large and complex
+undertakings with more accurate instruments of detailed financial
+measurement.
+
+
+Sec.4. _A Misinterpretation_. The price, then, of a commodity tends
+roughly to equal its marginal cost of production; and this marginal
+cost (in perfect symmetry with what we observed as regards marginal
+utility), may be conceived as applying either to the marginal producer
+or to the marginal output of any producer. In the former aspect it is
+open to a misinterpretation, against which it will be well to guard.
+Some advocates of socialism have argued, as one of the counts in their
+indictment of the present industrial system, that the price of a
+commodity is determined by the cost at which the least efficient
+concern in the industry can produce. They say, in effect, "Under the
+present competitive regime, you have to pay for everything you buy a
+price which far exceeds the necessary cost to a concern which is
+managed with ordinary ability. For, as economic theory has shown, it
+is the cost of the _marginal_ concern, i.e. the concern managed by the
+most incompetent, and half-witted fellow in the trade; it is the cost
+incurred by him, together with a profit on his capital, that the price
+has got to cover. The producer of no more than average capacity is
+therefore making out of you a surplus profit, which would be quite
+unnecessary in any well-arranged society." Such an argument is a gross
+caricature of the marginal conception. The half-witted incompetent
+will, as we know well enough, speedily disappear under the stress of
+competition, and his place will be taken by more efficient men. There
+is an essential difference between him and the "marginal coal mine" of
+which we spoke above. For the probabilities are that of the coal
+resources, whose existence is clearly known, the more fertile and
+better situated parts will already be in process of exploitation; and
+there is not likely, therefore, to be a supply of substantially better
+seams which can be substituted for the worst of those in actual use.
+There _is_ likely, on the other hand, to be available a supply of
+decent business capacity which can be substituted for the most
+inefficient of existing business men. The marginal concern, in other
+words, must be conceived as that working under the least advantageous
+conditions in respect of the assistance it derives from the strictly
+limited resources of nature, but under average conditions as regards
+managerial capacity and human qualities in general. Thus in
+agriculture we can speak of a marginal farm, which we should conceive
+as the least fertile and worst situated farm which it is just worth
+while to cultivate (of which more will be said when we come to the
+phenomenon of rent), but we must assume it to be cultivated by a
+farmer of average ability.
+
+
+Sec.5. _Some Consequences of a Higher Price Level_. The foregoing
+controversy will be of service to us, if it makes clear the manner and
+the spirit in which the marginal conception should be handled. It
+should be regarded not as a rigid formula which we can apply to
+diverse problems without considering the special features they
+present, but rather as a signpost which will enable us to find our
+way, a compass by which we may steer between the shoals of triviality
+and sophistry to the crux of any problem with which we have to deal.
+Let us illustrate its practical uses by an example which is of great
+interest and far-reaching practical importance at the present day. As
+has been already observed, the war has left behind it in all countries
+a great and almost certainly permanent increase in nominal purchasing
+power. Since the armistice prices have moved upwards and downwards
+with unprecedented violence; and it would be very rash to prophesy the
+precise level at which they will ultimately settle (using that word
+with considerable relativity). But, for reasons for which the reader
+is referred to Volume II in this series, it is safe enough to say that
+the general level of post-war will greatly exceed that of pre-war
+prices. Now this will apply not only to consumers' goods like milk and
+clothes, or to raw materials like pig-iron and cotton, but in very
+much the same degree to things like factories and machinery. Things of
+this last type are sometimes called "capital goods," because it is in
+them that a large part of the capital of a business is embodied. Now
+the fact that it will cost much more than it did before the war to
+construct fresh capital goods, has a significance which very few
+people appreciate. An existing factory cost, let us say, $500,000 to
+build and equip with machinery before the war. To construct a similar
+factory to-day would cost, let us assume (it is probably a moderate
+assumption) $1,000,000. Suppose 10 per cent to be the gross profit
+that is necessary to attract capital to the particular industry. Then
+it will not pay to construct this new factory unless the trade
+prospects point to the probability of a profit of about $100,000 per
+annum. But if the old factory is equally well managed, it too should
+be able to earn this $100,000, which upon the capital actually sunk
+would represent a rate of 20 per cent. The particular figures given
+are, of course, purely illustrative; the conclusion to which they
+point is that, if new enterprises are to be undertaken, pre-war
+enterprises are likely to yield a rate of profit, on their fixed
+capital at least, increased in rough proportion to the price-level. Of
+course, in years when trade is bad, the factory which dates from
+pre-war times will not earn a profit of this kind, it may very likely
+make an actual loss. At those times it is very certain that few new
+factories will be erected. But it is difficult to reconcile a
+condition of trade activity, in which the constructional industries
+are busily employed, with a rate of profit to pre-war businesses on
+the fixed part of their capital of a lesser order of magnitude than
+has been indicated. It makes no difference, it should be observed,
+whether we suppose the new enterprises to take the form of starting of
+new concerns or extending old ones; in neither case will they be
+undertaken, unless there is reason to expect an adequate return on the
+capital which they require at post-war constructional prices. High
+profits (taking always good years together with bad) on capital sunk
+before the war in buildings and machinery are thus a likely
+consequence of an increase in the price-level.
+
+This fact is, indeed, the counterpart or complement of another
+phenomenon with which we are more familiar. While prices are actually
+rising, profits, as we have come to recognize, necessarily rule high,
+because every trader or manufacturer is constantly in the position of
+selling at a higher price-level, stock which he purchased, or goods
+made from materials which he purchased at a lower level. He thus
+acquires an abnormal profit on his circulating capital, which is
+essentially similar to the profit on fixed capital, which we have just
+examined. The difference is that the former profit is crowded into the
+years when prices are actually on the increase, and thus is very
+noticeable indeed; while the latter profit continues to accrue in
+smaller instalments after prices have settled down, as it were, at the
+higher level, and is not exhausted until the buildings and machinery
+have become obsolete. But the two profits are essentially similar,
+and in the long run should be commensurate. In the one case, stock can
+be sold for a large profit, because it cannot be replaced except at a
+higher price; in the other case, plant and buildings yield a higher
+income because _they_ cannot be replaced except at a higher
+price. Indeed, if the owners choose, the plant and building can, like
+the stock, be sold at their appreciated value, as has been widely done
+by the owners of cotton mills in Great Britain since the armistice.
+
+There is nothing in these considerations that should surprise us, or
+even shock our moral sense. For what they have indicated is an
+increase of money profits in rough proportion to the price-level, so
+that the aggregate profits will represent about as much real income as
+before.[1] The conclusion therefore amounts to no more than this, that
+you cannot alter fundamentally the distribution of wealth between
+labor and capital by merely inflating the currency, or otherwise
+juggling with the price-level. And this is only what we should expect,
+if there are any laws of distribution of sufficient importance and
+permanence to justify the many volumes which have been devoted to
+them.
+
+[Footnote 1: Assuming that the rate of interest has remained
+unaltered. In fact it has greatly increased since pre-war days, and
+this points to a still further increase of money profits, and an
+increase in the real income which they represent. See Chapter VIII,
+Sec.10]
+
+But this somewhat tame conclusion does not make it any less important
+to grasp clearly the significance of the appreciation in the value of
+capital goods. A failure to realize it lies at the root of our
+bewildered muddling of many crucial problems of the day. In the matter
+of housing, for instance, we know we cannot build houses at less than
+two or three times their prewar cost, and yet we cannot endure to see
+the owners of pre-war houses obtaining a commensurate increase of
+rent. And so, in Great Britain, we pass Rent Restriction Acts, and
+Housing Acts, and then, in a fit of economy we suspend the latter, and
+let the former stand, while the housing shortage becomes steadily more
+acute. When we hand the railways back from State control to private
+hands, our horror at the idea of the companies receiving larger money
+profits than they did before the war leads us to lay down principles
+for the fixing of fares and freight charges, which take no account of
+post-war construction costs; and then, in alarm lest we may have
+thereby made it unprofitable for the companies to spend a single penny
+of fresh capital upon further development, we seek to provide for
+capital expenditure by cumbrous and dubious expedients. Doubtless we
+shall muddle through somehow with such policies: and, public opinion
+being what it is, they may perhaps have been about the best policies
+that were practicable. But the problems would have been easier to
+handle, if the public generally were a little less disposed to think
+in terms of averages, and a little more in terms of margins, if we all
+of us instinctively realized that the cost that really matters is the
+cost at which additional production is profitable under the conditions
+ruling at the time, or in the immediate future.
+
+
+Sec.6. _General Relation between Price, Utility and Cost_. Let us
+conclude this chapter by summing up the conclusions which have emerged
+as to the relations of utility and cost to price.
+
+The price of a commodity is determined by the conditions of both
+supply and demand; and neither can logically be said to be the
+superior influence, though it may sometimes be convenient to
+concentrate our attention on one or other of them. The chief factor on
+which the conditions of demand depend is the utility (as measured in
+terms of money). The chief factor on which the conditions of supply
+depend is the cost of production (again as measured in terms of
+money). The prevailing trend towards an equilibrium of demand and
+supply can thus be expressed as follows:--
+
+LAW VI. A commodity tends to be produced on a scale at which its
+   marginal cost of production is equal to its marginal utility, as
+   measured in terms of money, and both are equal to its price.
+
+
+
+CHAPTER V
+
+JOINT DEMAND AND SUPPLY
+
+
+Sec.1. _Marginal Cost under Joint Supply_. Several references have been
+made above to joint products, a relation which it will be convenient
+now to describe as that of Joint Supply. Our sense of symmetry should
+make us look for a parallel relation on the side of demand; and it is
+not far to seek. There is a "joint demand" for carriages and horses,
+for golf clubs and golf balls, for pens and ink, for the many groups
+of things which we use together in ordinary life. But the most
+important instances of Joint Demand are to be found when we pass from
+consumers' to producers' goods. There, indeed, Joint Demand is the
+universal rule. Iron ore, coal and the services of many grades of
+operatives are all jointly demanded for the production of steel; wool,
+textile machinery and again the services of many operatives are
+jointly demanded for the production of woollen goods (to mention in
+each case only a few things out of a very extensive list). Now we have
+already noted that, when commodities are jointly supplied, there is an
+obvious difficulty in allocating to each of them its proper share of
+the joint cost of production. There is a similar difficulty in
+estimating the utility of a commodity which is demanded jointly with
+others. Thus, the utility of wool is derived from that of the woollen
+goods which it helps to make. But the utility of the factories, the
+machinery and the operatives employed in the woollen and worsted
+industries is derived from precisely the same source. How much, then,
+of the utility of woollen goods should be attributed to the wool and
+how much to the textile machinery? Can we make any sense of the notion
+of utility as applying to one of these things, taken by itself? And,
+if not, how can we explain the price of a thing like wool in terms of
+utility and cost, since we cannot disentangle its cost from that of
+mutton, nor its utility from that of a great variety of other things?
+
+Here the conception of the margin enables us to grapple with a problem
+which would otherwise be insoluble. For, while it is impossible to
+separate out the total utility and cost of wool, it is not impossible
+to disentangle its marginal utility and its marginal cost. The
+proportion in which wool and mutton are supplied cannot be radically
+transformed; but it can be varied within certain limits, by rearing,
+for instance, a different breed of sheep. Variations of this kind have
+been an important feature of the economic history of Australasia,
+where sheep farming is the leading industry. Before the days of cold
+storage, Australia and New Zealand could not export their mutton to
+European markets, though they could export their wool. Wool was
+accordingly much the most valuable product; the mutton was sold in the
+home markets, where, the supply being very plentiful, the price was
+very low. In the circumstances, the Australasian farmers naturally
+concentrated on breeding a variety of sheep whose wool-yielding were
+superior to their mutton-yielding qualities. The development of the
+arts of refrigeration led in the eighties to an important change. It
+became possible to obtain relatively high prices for frozen mutton in
+overseas markets. There was, therefore, a marked tendency, especially
+in New Zealand, to substitute, for the merino, the crossbred sheep
+which yields a larger quantity of mutton and a smaller quantity of
+wool of poorer quality. Now if we calculate the cost of maintaining
+the number of merino sheep which will yield a given quantity of wool,
+and calculate the cost of maintaining the larger number of crossbred
+sheep which will be required to yield the _same_ quantity of wool
+(allowing for differences of quality) the extra cost which would be
+incurred in the latter case must be attributed entirely to the extra
+mutton that would be obtained. This extra cost we can regard as
+constituting the marginal cost of mutton. So long as this marginal
+cost falls short of the price of mutton, it will be profitable to
+extend further the substitution of crossbred for merino sheep. The
+process of substitution will in fact be continued until we reach the
+point at which the marginal cost is about equal to the price.
+Similarly by starting with the numbers of merino and crossbred
+sheep which would yield the same quantity of mutton, we can calculate
+the marginal cost of wool; and again the tendency will be for this
+marginal cost to be equal to the price.[1]
+
+[Footnote 1: It may be found difficult to grasp this point when stated
+in general terms. The following arithmetical example may make it
+plainer:--
+
+Suppose a merino sheep yields 9 units of mutton and 10 units of wool.
+
+Suppose a crossbred sheep yields 10 units of mutton and 8 units of
+wool.
+
+Suppose, further, that a merino sheep and a crossbred sheep each cost
+the same sum, say, for convenience, L10, to rear and maintain; and
+that there are no special costs assignable to the wool and the mutton
+respectively, as, of course, in fact there are.
+
+Then 10 merino sheep, yielding 90 units of mutton + 100 units of wool,
+cost L100; while 9 crossbred sheep, yielding 90 units of mutton + 72
+units of wool, cost L90.
+
+Hence you could obtain an extra 28 units of wool for an extra cost of
+L10, by maintaining 10 merino sheep rather than 9 crossbred sheep. The
+marginal cost of wool is thus L 10/28 per unit.
+
+Similarly 8 merino sheep, yielding 72 units of mutton + 80 units of
+wool, cost L80; while 10 crossbred sheep, yielding 100 units of mutton
++ 80 units of wool, cost L100.
+
+Hence you could obtain an extra 28 units of mutton for an extra cost
+of L20, by maintaining 10 crossbred sheep in place of 8 merinos. The
+marginal cost of mutton is thus L 20/28 per unit.
+
+So long as the price obtainable for wool exceeds L 10/28, and that
+obtainable for mutton does not exceed L 20/28 per unit, it will pay to
+substitute merino for crossbred; and conversely. If the price of wool
+exceeds L 10/28 and the price of mutton also exceeds L 20/28, it will
+be profitable to expand the supply of both breeds, until as the result
+of the increased supply, one of the above conditions ceases to
+obtain. Conversely, if the prices of both products are less than the
+figures indicated, sheep farming of both kinds will be restricted.
+The resultant of the processes of expansion or restriction, and
+substitution, will be that, unless one of the breeds is eliminated,
+the prices of mutton and wool will equal their respective marginal
+costs. These marginal costs may, of course, alter as the process of
+substitution extends. For the relative cost of maintaining merinos and
+crossbreds will not be the same for every farmer. Here again it is the
+costs at the "margin of substitution" that matter.]
+
+
+Sec.2. _Marginal Utility under Joint Demand_. On the side of demand there
+exist as a rule similar possibilities of variation. _Some_ machinery,
+_some_ labor, _some_ materials of various kinds, are all indispensable
+in the production of any manufactured commodity. But the proportions
+in which these factors are combined together can be varied, and are
+frequently varied in practice as the result of the ceaseless pursuit
+of economy by business men. To produce pig-iron, you need both coal
+and iron ore; but, if coal becomes more costly, it is possible to
+economize its use. Machinery and labor must be used together, in some
+cases in proportions which are absolutely fixed. But there is in
+nearly every industry a debated question as to whether the
+introduction of some further labor-saving machine would be worth
+while, or some improved machine which would represent the substitution
+of more capital plus less labor for less capital plus more labor. A
+farmer can cultivate his land, to use a common expression, more
+intensively or less intensively; in other words, he can apply larger
+or smaller quantities of capital and labor (the proportion between
+which he can also vary) to the same amount of land. The problem is
+essentially the same as that of the substitution of the crossbred for
+the merino. We can take the various possible combinations of the
+factors of production, and contrast two cases in which different
+quantities of one factor are employed, together with equal quantities
+of the others. The extra product which will be yielded in the case in
+which the larger quantity of the varying factor is employed can then
+be regarded as the marginal product (or marginal utility) of the extra
+quantity of that factor; and we can say that the employment of this
+factor will be pushed forward to the point where this marginal product
+will be roughly equal to the price that must be paid for it. We can
+thus lay down the most important proposition that the relation between
+marginal utility and price holds good generally of the ultimate agents
+of production; that the rent of land, the wages of labor, and, we can
+even add, the profits of capital tend to equal their (derived)
+marginal utilities, or, as it is sometimes expressed, their marginal
+net products.
+
+Whenever, therefore, the proportions in which two or more things are
+produced or used together can be varied, the relations of joint supply
+and joint demand are perfectly consistent with a specific marginal
+cost and marginal utility for each commodity.
+
+
+Sec.3. _A contrast between Cotton and Cotton-seed, and Wool and
+Mutton_. But it sometimes happens that such variations cannot be
+made. Thus, it has not been found possible (so far as I am aware) to
+alter the proportions in which cotton lint and cotton-seed are yielded
+by the cotton plant. Roughly speaking, you get about 2 pounds of
+cotton-seed for every 1 pound of cotton lint (or raw cotton), and
+though this proportion may vary somewhat from plantation to
+plantation, it is upon the knees of the gods, and not upon the will of
+the planter that the variation depends. We cannot, therefore, speak
+with accuracy of the separate marginal costs of raw cotton and
+cotton-seed. It is true that some plantations are so far distant from
+any seed-crushing mill that it is not worth while to sell the seed as
+a commercial product; and it might seem, therefore, as though we might
+regard the entire costs of cotton growing on _such_ plantations as
+constituting the marginal costs of raw cotton. But planters, so
+situated, derive a considerable value from their cotton-seed by using
+it as fodder for their live stock or as a manure. You can, of course,
+argue that proper allowance is automatically made for this factor, as
+a deduction from the costs of raw cotton, when you add up the expenses
+of the plantation. In the same way you can deduct the price which a
+planter who sells his cotton-seed obtains for it, from the total costs
+of the plantation, and call the remainder the costs of the raw
+cotton. But this is really to reason in a circle. For in either case
+the magnitude of the deduction depends on the marginal utility of the
+cotton-seed. And the notion of the cost of anything becomes blurred
+and blunted if we so use it that it must be deduced from the utility
+of something else, which is not an agent in the production of the
+thing in question.
+
+This point is not merely an academic one. It means that we cannot
+explain the _relative_ prices of cotton lint and cotton-seed in terms
+of cost at all, whether marginal or otherwise. The influence of cost
+will be confined to the _sum_ of the prices of the two things. Upon
+this sum it will exert precisely the same influence as it exerts upon
+price in general, by affecting the total quantities of the two things
+that will be supplied. But upon the distribution of this sum between
+lint and seed, cost will exert no influence whatever, because it
+cannot affect the proportions in which they are supplied. It may
+assist some readers if I state the matter in more concrete terms. Cost
+of production will be one of the factors which will result in the
+production of an annual cotton crop in the United States of, let us
+say, 10 million tons of seed cotton. This crop will yield roughly
+6-2/3 million tons of cotton-seed, and 3-1/3 million tons (or rather
+more than 13 million bales) of lint. The combined price received by
+the planter of (let us say) 14.4 cents for 1 pound of lint plus 2
+pounds of seed should correspond roughly to the marginal joint costs
+of production. But the factor of cost has no influence at all in
+determining that this combined price is made up of a price of 12 cents
+per pound for lint, and only 1.2 cents per pound (or $24 per ton) for
+cotton-seed. To account for this we must rely entirely upon demand. We
+can say, shortly, that the respective prices must be such as will
+enable the demand to carry off 6-2/3 million tons of seed, and 3-1/3
+million tons of raw cotton. Or we can go further and say that the
+marginal utility of a pound of raw cotton, when 3-1/3 million tons are
+supplied, is ten times as great as that of a pound of seed when 6-2/3
+million tons are supplied.
+
+If accordingly the demand for cotton-seed were to expand considerably
+owing, say, to the discovery of some new use for the oil, which is its
+most valuable constituent; the effect would be first a rise in the
+price of cotton-seed, and, subsequently, by stimulating cotton
+growing, a more plentiful supply and a lower price for raw cotton. And
+so far at least as the increased supply is concerned, this must
+necessarily be the effect, "other things being equal"; though, to be
+sure, it might be outweighed and obscured by other influences such as
+the boll-weevil. But it is _not_ the case that an increased demand for
+mutton must necessarily increase the supply or lower the price of
+wool; and it is most unlikely to do so in any similar degree. For,
+here, the separate marginal costs of the two things exert their
+influence. An increased demand for mutton will stimulate sheep
+farming, but it will also stimulate the substitution of crossbred for
+merino breeds; and the resultant of these two opposite tendencies upon
+the supply of wool is logically indeterminate. As a matter of history
+we know that the development of cold storage in the eighties (which we
+may regard for the present purpose as equivalent to an increased
+demand for Australian mutton) caused considerable perturbation in the
+woollen and worsted industries of Yorkshire. They were faced with a
+dwindling supply and a soaring price of merino wool; and the
+adaptability with which they met the situation, and won prestige for
+the crossbred tops, and yarns and fabrics, to which they largely
+turned is a matter of just pride in the trade to-day. The fact,
+however, that this alteration in the supply of wool was a matter not
+only of quantity but of quality, while it takes nothing from the
+substance of the preceding argument, makes it difficult to draw a
+clear moral, bearing on the present issue, from this incursion into
+history.
+
+
+Sec.4. _The Importance of being Unimportant_. The above contrast between
+cases in which variation is possible, and those in which it is not
+possible, is reproduced with a heightened significance when we turn
+back to joint demand. The cases are perhaps less common in which it is
+_impossible_ to alter the proportions in which different commodities
+are jointly demanded, but there are many cases in which it is not
+nearly worth while to do so (and this amounts to very much the same
+thing). Cases of this sort are especially likely to occur when we are
+dealing with a commodity which accounts for only a tiny fraction of
+the costs of the industry which is its chief consumer. Sewing cotton,
+for example, is jointly demanded, with many other things, by the
+tailoring and other clothing trades; but the money which these trades
+spend on sewing cotton is so small a part of their total expenditure,
+that no ordinary variation in its price is likely to make it worth
+while to study the ways and means of using it in smaller
+quantities. When sewing cotton is bought by the domestic consumer,
+considerations which are fundamentally the same, though somewhat
+different in form, point to a similar conclusion. It is thus very
+difficult to assign to sewing cotton a specific marginal utility. This
+difficulty is of great importance in connection with the possibilities
+of monopolistic exploitation. For it means that the demand blade of
+the scissors upon which we rely to cut off excrescences of price is
+blunted, and if accordingly the producers constitute a strong enough
+combination to control the supply blade, they will possess an unusual
+power of advancing their selling prices as they choose. I am far from
+suggesting that Messrs. J. & P. Coats are to be condemned as an
+extortionate monopoly. On the contrary, during 1919, when the profits
+in highly competitive industries like the main branches of the cotton
+and woollen trades, soared exuberantly, the record of this concern
+seems to me one of distinct moderation. But the present point is that
+they possess an exceptional _power_ to fix the price of sewing cotton
+as they choose, and that this is attributable in no small degree to
+the fact that sewing cotton constitutes an essential but relatively
+trifling item in the expenses of the processes in which it is
+employed.
+
+Perhaps the point will be made clearer if we turn from the selling
+prices of commercial products, in regard to which there is a strong
+and not ineffective public sentiment against "profiteering," to the
+remuneration of different classes of labor. With an instinctive
+disposition towards megalomania, it is often claimed in Great Britain
+that the miners, being a very numerous and well-organized body of
+workpeople, were in a stronger strategic position than most workpeople
+for exacting the remuneration they desire. It is quite true that a
+stoppage of work in the coal industry causes us a high degree of
+inconvenience, and temporary concessions may thereby be obtained which
+might otherwise have been refused. But this is a dubious advantage,
+and we grossly exaggerate its real importance. The truth is that the
+strategic position of the miners in regard to wages questions is by no
+means strong. For their wages constitute a very large percentage of
+the cost of coal; and the price of coal in its turn is a most
+important element in the costs of many of the industries which are its
+principal consumers. Great Britain, moreover, is far from possessing
+a monopoly of coal. If, accordingly, the wages of the miners are
+temporarily pushed up to a high point, the result will certainly be a
+diminished demand for British coal, which will lead before long to
+their fighting a losing battle to maintain the concessions they have
+won. Contrast their position with that of the steel smelters, whose
+wages (high though the wage rates are) constitute a very small
+percentage of the costs of steel production, and we must agree I think
+that we have in this distinction the main reason why the steel
+smelters, though they hardly ever go on strike, have as a rule been
+able to do so much better for themselves than the miners.
+
+When a commodity or service is such that an appreciable alteration in
+its price has only a slight effect upon the quantity demanded, the
+demand is said to be _inelastic_. Conversely, when a small change in
+price greatly alters the quantity demanded, we call the demand
+_elastic_. In the former case, it is worth nothing, a larger aggregate
+sum of money will be spent upon the thing when its price is high than
+when it is low, while the opposite is true in the latter case. This
+distinction is of considerable importance in connection with many
+problems (e.g. of taxation); and the terms, elastic demand and
+inelastic demand, are worth remembering. We may thus express the
+above conclusions by saying that the demand for sewing-cotton is
+highly inelastic, and that the demand for coal miners is more elastic
+than that for steel smelters.
+
+
+Sec.5. _Capital and Labor_. Cases in which it is impracticable to make
+any variation in the proportions in which different things are used
+together are, however, the exception rather than the rule. Where
+variation is possible, we are confronted with an uncertainty as to the
+way in which an increased supply of one thing will react on the demand
+for another, similar to our uncertainty as to whether an increased
+demand for mutton would augment or diminish the supply of wool. It is,
+for instance, of the highest importance to give a clear answer, if we
+can, to the question whether an increased supply of capital will
+increase the demand for labor. The chief effect of an increased
+supply of capital is to facilitate the extended use of expensive
+machines: to some extent these machines will increase the demand for
+labor; to some extent they will be substituted for it. Which of these
+two tendencies will outweigh the other we cannot be absolutely
+sure. But fortunately we can be far more nearly sure than was possible
+in the analogous case of wool and mutton. An increase in the supply of
+capital increases the demand for the commodities, from which the
+demand for labor is derived, in both the senses discussed in Chapter
+II. First it makes them cheaper to buy, and thus increases the
+quantity that will be bought. It is this that is parallel to the
+effect of an increased demand for mutton in making it more profitable
+to breed sheep. But it also serves to increase the purchasing power
+with which to buy commodities, because it increases the aggregate real
+wealth of the community, and it thus serves to raise the whole demand
+curve. This last consideration is so important as to make it
+overwhelmingly probable, apart from the evidence of history, that an
+increase in the supply of capital (and the same may be said of an
+increase in the supply of the other agents of production) will on
+balance increase the demand for labor. The evidence of history points
+to the same conclusion. The history of the last hundred years displays
+an unprecedented accumulation of capital, and an unprecedented
+extension of machinery, associated with an unprecedented improvement
+in the standard of living throughout the whole community. This is
+powerful testimony in favor of the view that an increase in the supply
+of capital and the use of machinery will usually enhance on balance
+the demand for labor. Moreover, though this is not conclusive, there
+is little room for doubt that an obstructive attitude towards the
+extension of machinery in a particular country, or a particular
+district, is misguided. For its effect must be to make production
+more costly there than it is elsewhere, and to lead, slowly perhaps,
+but very surely, to the transference of the industry to other regions.
+
+
+Sec.6. _Conclusions as to Joint Supply and Joint Demand_. Here, however,
+we are beginning to digress. Let us sum up in a general form our
+conclusions as to the way in which changes in the supply or demand of
+a commodity react upon the demand or supply of the other things with
+which it is jointly demanded or supplied. Everything turns, as we have
+seen, on the possibility of variation in the proportions in which the
+things are used or produced together; and this, it is also clear, is a
+matter of degree. Our conclusions, therefore, had best take the
+following form:--
+
+LAW VII. When two or more things are jointly demanded, in proportions
+   which cannot easily be varied, the tendency will be for an increase
+   (or decrease) in the supply of one of them to increase (or
+   decrease) the demand for the others. These results will be more
+   certain, and more marked, the more difficult it is to vary the
+   proportions in which the things are used.
+
+   Similarly, when two or more things are jointly supplied, in
+   proportions which cannot easily be varied, the tendency will be for
+   an increase (or decrease) in the demand for one of them to increase
+   (or decrease) the supply of the others. These results again will be
+   more certain and more marked, the more difficult it is to vary the
+   proportions in which the things are supplied.
+
+
+Sec.7. _Composite Supply and Composite Demand_. Joint Demand and Joint
+Supply do not complete the list of relations between the demand and
+supply of different things. Between tea and coffee, or beef and mutton
+there is a relation of a different kind. These things are in large
+measure what we call "substitutes" for one another. An increased
+supply, and a lower price of mutton, will probably induce us to
+consume less beef. This relation it is convenient to describe as
+Composite Supply. Beef and mutton make up a composite supply of meat;
+tea and coffee a composite supply of a certain type of beverage. For
+any group of things, between which the relation of Composite Supply
+exists, we can say, with complete generality, that an increased supply
+of one of them will tend to diminish the demand for the
+others. Parallel to the relation of Composite Supply is that of
+Composite Demand. There are frequently several alternative uses in
+which a commodity or service can be employed; and these alternative
+uses make up a composite demand for the thing in question. Thus
+railways, gasworks, private households and a great variety of
+industries contribute to a Composite Demand for coal. It is worth
+noting that there is frequently an association in practice between
+Joint Demand and Composite Supply on the one hand; and between Joint
+Supply and Composite Demand on the other. Wool and mutton, for
+instance, we have described as an instance of Joint Supply; but, in so
+far as the proportions of wool and mutton can be varied, we can regard
+these things as constituting a Composite Demand for sheep. And this
+conception may help us to retain a clearer and more orderly picture of
+the problems we have discussed above. We can regard the fact that wool
+and mutton are produced together as their Joint Supply aspect, and the
+fact that these proportions can be varied as their Composite Demand
+aspect; and the question as to whether an increased demand for mutton
+will increase the supply of wool turns upon whether the former aspect
+is more important than the latter. Similarly labor and machinery,
+employed together for the same purpose, form an instance of Joint
+Demand; but in so far as they can be substituted for one another, they
+constitute a Composite Supply of alternative agents of production.
+
+These four relations of Joint Demand, Joint Supply, Composite Demand
+and Composite Supply are well worth remembering and distinguishing
+from one another. They are of immense importance in every branch of
+economic affairs. There are hardly any economic problems upon which we
+are fitted to express an opinion, unless we have a lively sense of the
+far-reaching ramifications of cause and consequence, of the subtle and
+often unexpected interconnections between different industries and
+different markets. To gape at these complexities in a confused stupor
+is as foolish as it is to ignore them. But confusion and stupor are
+only too likely to represent our final state of mind, if we attempt to
+deal with these complications, one by one as they occur to us, in a
+piecemeal and haphazard fashion. We need a clear method, a systematic
+plan by which we may search them out, and fit them into place. The
+four relations which we have enumerated supply us with such a plan and
+method. For they represent something more than a series of pompous
+names for familiar notions. They constitute a classification of the
+various ways in which the demand and supply of one thing can affect
+the demand and supply of others; a classification which is exhaustive
+when we add the relation of derived demand, and an analogous relation
+on the supply side which we must now notice.
+
+
+Sec.8. _Ultimate Real Costs_. Just as the utility of "producers' goods"
+is derived from that of the "consumers' goods" which they help to
+make; so the cost of any commodity is derived from the cost of the
+things which help to make it. Moreover, just as we recognize that the
+utility of "consumers' goods" lies at the back of all demand, and
+constitutes the ultimate end of all production; so we cannot but feel,
+however obscurely, that behind the phenomena of money costs, there
+must lie certain ultimate costs, of which all money costs are but the
+measure. But when we try to explain what the nature of these real
+costs may be, we are plunged in difficulty. Wages, it may indeed seem
+at first sight, present no trouble. There is the effort and the
+fatigue, the unpleasantness of human labor, to represent real
+costs. But can we suppose that these things are measured with any
+approach to accuracy by the wages which are paid in actual fact? Is it
+true, even as a broad general rule, that the services which are most
+arduous and most disagreeable command the highest price? And wages are
+not the only ingredient of money costs. There are profits: to what
+real costs do profits correspond? More difficult still, to what does
+rent correspond? These plainly are not questions upon which he who
+runs may read. It will be necessary to devote the next four chapters
+to their elucidation.
+
+
+
+CHAPTER VI
+
+LAND
+
+
+Sec.1. _The Special Characteristics of Land_. In the great process of
+co-operation by which the wants of mankind are supplied, Nature is an
+indispensable participant. She renders her assistance in an infinite
+variety of ways, of which the properties of the soil which man
+cultivates form only one; but the sunshine and rain which enable the
+farmer to grow his crops; the coal and iron ore beneath the surface of
+the earth, can be regarded for our present purpose as forming part of
+the land with which they are associated. We can thus concentrate upon
+land as the representative of the free gifts of nature, which are of
+economic significance. Land in modern communities is for the most part
+privately owned. It can be bought and sold for a price, and acquired
+by inheritance. Moreover, it is a common practice, particularly in the
+United Kingdom, for an owner who does not wish himself to cultivate or
+otherwise use the land, not to sell it to the man who does, but to
+lease it to him for a term of years for an annual payment which we
+term rent. It is therefore natural and convenient to envisage the
+problems, which we shall consider in this chapter, as problems
+concerning the price and rent of land. But, once again, the laws and
+principles which we shall state and illustrate in terms of the current
+systems of ownership and tenure, possess a much deeper significance
+than this terminology might suggest.
+
+The fact that land is a free gift of Nature distinguishes it in
+various ways from commodities which are produced by man. The
+peculiarities which are most important from the economic standpoint
+are (1) that the supply of land is, broadly speaking, fixed and
+unalterable, and (2) that its quality and value vary, from piece to
+piece, with a variation which is immense in its range, but fairly
+continuous in its gradation. These are thus two aspects from which
+the phenomena of price and rent can be regarded; aspects which it is
+usual to call, (1) the scarcity aspect, (2) the differential aspect.
+
+
+Sec.2. _The Scarcity Aspect_. The fact that the supply of land is fixed
+has the following significance. If the demand for land increases, the
+price will tend to rise. This is also true, for a short period at
+least, of an ordinary commodity. But, in the latter case, there would
+ensue an increase in supply which would serve to check the rise in
+price, and possibly, if production on a larger scale led to improved
+methods of production, bring the price down eventually below its
+original level. In the case of land, no such reaction is
+possible. There is nothing, therefore, to restrain the price (and the
+rent) of land from rising indefinitely, and without limit, if the
+demand for it should continue to increase. Conversely, if the demand
+for land falls off, there is nothing to check the consequent fall in
+price and rent. In the case of ordinary commodities, the supply would
+be diminished, because most things are either consumed by being used,
+or wear out in the course of time, and a regular annual production is
+therefore necessary to sustain their supply at the existing level. But
+land remains, whether it is used or not; and its supply is, broadly
+speaking, just as incapable of being diminished, as it is of being
+increased. Changes in the demand for land in either direction are thus
+likely to affect its price in a much greater degree than that in which
+the price of an ordinary commodity will be affected by a corresponding
+change in its demand.
+
+For most purposes, however, it is of more interest to compare land
+with other agents of production, especially with capital and labor,
+rather than with ordinary commodities. Now, as we have already noted,
+there is some doubt as to the manner in which the supply of capital or
+labor is likely to be affected by alterations in demand price. But the
+supply of capital and the supply of labor, even if we suppose them to
+be as entirely unresponsive to price changes as is the supply of land,
+are at any rate not fixed. Not only _may_ they vary for many reasons,
+but they are in fact likely to vary in direct proportion to the
+population. An increase in population implies an increase in the
+supply of labor; and it is likely to be accompanied by an increase in
+the supply of capital; in other words, the supply of these agents will
+expand, as the demand for them expands. But the supply of land will
+remain what it was. This fact is enormously important in connection
+with the broad problem of population, which will form the theme of
+Volume VI.
+
+But it is important also in other connections. It has been the
+dominating factor in many absorbing controversies upon high policy
+regarding the ownership of land, or the taxation of land values, upon
+which we can touch but lightly here. It has seemed to many writers a
+reasonable proposition to lay down, that the ordinary course of the
+progress of society, the increase of population and industry, must
+mean, as a broad general rule, a constant increase in the demand for
+land. And, if that be granted, it seems to follow that the price and
+rent of land will tend constantly to increase. John Stuart Mill,
+accordingly, in the middle of the last century, asserted that "the
+ordinary progress of a society, which increases in wealth, is at all
+times tending to augment the incomes of landlords; to give them both a
+greater amount and a greater proportion of the wealth of the
+community, independently of any trouble or outlay, incurred by
+themselves,"[1] and upon the strength of this assertion, he justified
+the policy of imposing a special tax upon what we have come to call
+the "unearned increment" of land. But how far does actual experience
+bear his assertion out? In Great Britain we have seen in the last
+half-century an undoubted increase in urban rents; but over long
+periods at least, there was a marked fall in both the prices and rents
+of agricultural land, despite the fact that the country was
+"increasing in wealth" as rapidly as ever before. This was due, of
+course, in the main to the increased supplies of wheat and other
+foodstuffs coming from the New World: and if, accordingly, we choose
+to lump together not only our own urban and agricultural land, but the
+land of other countries as well, and to speak vaguely of the demand
+for land as a whole, it might seem as though we could argue that
+Mill's generalization still holds good. But even this is by no means
+certain and in any case such a generalization is of very little
+service: what the illustration should rather suggest to us, is the
+danger of speaking of land vaguely as a whole, and the importance of
+turning our attention to the variations in value between different
+kinds and different pieces.
+
+[Footnote 1: _Principles of Political Economy_, by John Stuart Mill.]
+
+
+Sec.3. _The Differential Aspect_. Most ordinary commodities are not
+produced on a single, uniform pattern. As a rule there are many
+variations of grade and quality, and consequently of price. But these
+variations are usually designed to meet the differences of taste among
+the purchasers, and we do not expect to find that any variety of an
+ordinary commodity will be produced, which is so poor in quality as to
+be entirely valueless. But since it is nature which has produced the
+land, without any assistance or guidance from man, there are many
+pieces of land which are so unfertile, or are otherwise so unsuitable
+for productive purposes, as to be quite valueless from the economic
+standpoint. Even in a densely populated country like Great Britain,
+there are considerable tracts of land which it is unprofitable to
+employ for any economic purpose whatsoever, and which possess no
+further value than what the mere pride of ownership may give
+them. This fact makes it possible to apply the conception of the
+margin to the case of land with particularly illuminating results.
+
+In the first place, however, it should be observed that the value of
+any piece of land does not depend solely on the intrinsic fertility of
+the soil. The fact that land is an immobile thing makes its
+_situation_ a factor of great importance. In the case of urban land,
+situation is, of course, the only thing that counts. The value of a
+site in Bond Street or the City is entirely unaffected by its capacity
+or incapacity for potato-growing purposes. But even for agricultural
+land, situation is a most important matter. A farm, which is so remote
+that considerable transport charges must be incurred to bring its
+produce to market, will be less sought after, and less valuable, than
+one which is much better situated though somewhat less fertile. In
+what follows, therefore, we must speak of the "quality" of a piece of
+land in a broad sense to include advantages of situation, as well as
+of fertility. Let us now, imagine the different pieces of land in
+Great Britain to be arranged in order of quality, so that we have a
+long series, with land of the best quality at one end, and of the
+poorest quality at the other. At the latter end, we will have such
+land as is found near the top of Snowden or Ben Nevis, which it
+clearly does not pay to cultivate at all. Somewhere, then, between
+these two extremes, we shall come to a point where the land is just,
+but only just, worth cultivating, or where, to revert to a form of
+words we previously employed, it is a matter of _doubt_, whether the
+land is really worth using for a productive purpose. Such land we can
+regard as the "marginal land"; and since the variety of nature is at
+once infinite and fairly minutely graduated we shall probably find
+that on one side of this margin there is much land which is only
+slightly superior, and on the other, much which is only slightly
+inferior, to the marginal land itself. What, then, is likely to be the
+value and the rent of this marginal land, this land which is just on
+the "margin of cultivation"? Some readers may find the answer
+startling. The rent of the marginal land will be nil, because it will
+not pay to cultivate it, if any appreciable rent is charged. A piece
+of land for which it is worth a tenant's while to pay an appreciable
+rent, will not be the marginal land, because there will be land just
+slightly inferior to it which it will also pay to cultivate if a
+somewhat lower rent is charged. And so we can pass to poorer and
+poorer qualities of land, with an ever diminishing rent, until at the
+margin of cultivation the derived utility of the land is negligible
+and the rent vanishes.
+
+This certainly is a somewhat abstract conception; but it is by no
+means so remote from reality as may at first sight appear. The reader
+may protest that in the course of an extensive and varied acquaintance
+with landowners, he has not yet run across this peculiar marginal
+type, who lets his land for no rent at all. But there, if his
+experience is really extensive, I think he is mistaken. It so happens
+that the ordinary agricultural landowner leases out his land, not by
+itself, but together with a variety of other things such as farm
+buildings, which it costs him a considerable sum of money to
+provide. He will not as a rule be willing to go to this expense,
+unless he sees his way to obtain for the farm an annual payment, which
+represents at least a fair return on this capital outlay, as big a
+return as he could have got, for instance, by investing the same
+amount of money in some gilt-edged security. This annual payment
+will, it is true, be called rent; but the significance of this is that
+what we term rent in ordinary life is usually a complex thing, made up
+of two essentially distinct elements, viz. the normal return on the
+capital goods supplied together with the land, and what we may call
+the "net rent," or the "pure rent" attributable to the land
+itself. Now will any reader make so bold as to say that there is no
+land under cultivation, in respect of which this net rent is either
+nil or negligible? The landowners will not agree with him. It is not
+a question, it should be observed, as to whether the rent obtained
+represents more than a fair return on the purchase price paid for the
+land; that is quite another matter. The question is whether the rent
+obtained exceeds a fair return on the capital sum spent on the
+buildings, etc.; with which every farm must be equipped to let at
+all. In fact there are not a few farms where there is no such excess,
+and where accordingly there is no "net rent" or "pure rent" which can
+be attributed to the land.
+
+The question whether it would be profitable to cultivate any piece of
+land, turns upon whether the receipts which would be obtained by
+selling the produce would exceed the costs of cultivation: and under
+these costs of cultivation we must include, of course, the
+remuneration of the farmer's services. Farmers, like other people,
+have to live; and they would not take on the troublesome job of
+farming, unless there seemed a prospect of making a living out of
+it. The remuneration of the farmer takes, of course, the form not of a
+salary, but of profits: and these profits vary very much from year to
+year, and from place to place, and from man to man. But they are
+essentially payment for work done, and an ordinary profit must be
+regarded therefore as part of the necessary costs of farming. Thus it
+will not be worth while to cultivate a piece of land, and the land
+will in fact lie unused, upon which a careful farmer might obtain a
+profit in the ordinary sense, of no more than $50 or $100 a year. The
+marginal land will be land which yields a decent profit to a decent
+farmer, as well as a gross rent to the landowner, sufficient to
+compensate him for his capital outlay, but nothing further.
+
+What, then, will be the rent of a fertile and well-situated farm,
+about which there is no doubt that it is well worth cultivating? Part
+of the gross rent which the landowner receives must again be regarded
+as merely a return for the capital expended in equipping the farm for
+use; but in this case, there will be a residue left over, which
+constitutes the net rent of the land. The net rent will measure the
+derived utility of the land to its occupier, and will in general
+represent (very roughly, of course, in practice) the differential
+advantage of cultivating the land in question rather than land on the
+"margin of cultivation." This differential advantage may take either,
+or both, of the forms, of a larger produce per acre, or a lower cost
+of production and marketing. But, in any case, the extra profit,
+which, if no rent were charged, a decent farmer could obtain by
+cultivating the farm in question, rather than a marginal farm, will be
+roughly equal to the net rent which his landlord can exact from him,
+if his landlord so chooses. The landlord may, of course, not choose to
+exact a rent as high as this; and as a matter of fact, in a country
+like Great Britain landlords often content themselves with less. The
+traditions associated with the ownership of agricultural land, and
+with the relations between landlord and tenant serve to soften the
+edge of economic law, and to subject the rents which are actually
+fixed to the control in no small measure of the general sense of what
+is fair or customary. In such cases the landlord makes the farmer a
+present, for the time being, of part of the economic rent. On the
+other hand, as Irish agrarian history well illustrates, the landlord
+may sometimes expropriate under the name of rent, permanent
+improvements which are due to the labors or the expenditure of the
+tenant. This is, of course, particularly likely to happen, whenever it
+is the custom to leave to the tenant the obligation of providing the
+capital equipment of the farm, which in Great Britain is, for the most
+part, the recognized duty of the owner. Again, in the case of urban
+land in the South of England, expropriations of this kind are an
+essential and well-understood feature of the leasehold system. The
+owner grants a lease for a long period of time, usually ninety-nine
+years, for a ground rent, which is notoriously below the true economic
+rent of the land, subject to the condition that the leaseholder must
+erect upon the land and keep in good repair certain buildings, which
+on expiry of the lease will become the property of the ground
+owner. Here the nominal ground rent is only part of the total rent
+which is really paid; the ultimate transference of the buildings
+representing often the more important part. There is, in fact, a great
+variety of systems of land tenure, some of which are highly complex,
+the respective merits of which vary greatly, and which constitute a
+most important problem for statesmen and legislators. Considerations
+of this kind in no way diminish the importance of the general analysis
+of rent, which we are pursuing in the present chapter. Rather they
+make it the more important, because we cannot properly weigh the
+merits of any system of land tenure, until we have grasped clearly the
+principles governing the rent of land in the purest form. But
+certainly we must never forget that the rent we are discussing may
+differ very greatly from, though it will vitally influence, the money
+payments which are called rent in actual life. It is the pure economic
+rent, the rent which represents the _full_ annual payment which it
+would be worth paying to obtain the use of the land alone, which will
+measure, as we have said, the differential advantage of the land in
+question over land on the margin of cultivation.
+
+A clear grasp of this relation helps us to perceive that an increase
+in the prosperity of the community may sometimes influence rents in an
+unexpected way. It all depends on the causes which have given rise to
+the increased prosperity. An advance, for instance, in agricultural
+science will facilitate a more abundant supply of foodstuffs; but it
+will not necessarily increase the aggregate rents of agricultural
+land. For if it takes the form, say, of the discovery of some new
+artificial manure, it will very likely facilitate production on the
+less fertile soils far more than it will on the more fertile soils
+where artificial manures are not so necessary. It will thus tend to
+diminish the differential advantages of working on the more fertile
+farms, and their rents will accordingly fall, possibly by much more in
+the aggregate than any increase in the rents of the farms near the
+margin of cultivation. The point may, perhaps, be better understood if
+we pass from agricultural to urban land, and ask what would be the
+effect on site values of a great improvement in the facilities of
+internal transport. Push the case to an extreme, and suppose passenger
+transport to become so cheap and so quick that there ceases to be any
+advantage in living in a town so as to be near your place of work.
+Urban landlords would no longer be able to obtain the high rents they
+now receive for the sites of houses in or near a town. For most people
+would prefer to move out into the country where sites can be obtained
+at little more than an agricultural rent. The country covers so large
+an area relatively to the towns that the supply of rural sites would
+be still very plentiful as compared with the demand. Their rents would
+not, therefore, rise by very much, although the rents of the housing
+sites in towns would fall heavily. Of course, there are other factors
+to be taken into account before we could pronounce upon the effect on
+aggregate rents. Central sites for shops might, for instance, fetch a
+higher rental than before. The purpose of this discussion is not to
+generalize but to show the danger of generalizing about rents in the
+aggregate, or land as a whole.
+
+
+Sec.4. _The Margin of Transference_. The last illustration may serve,
+however, to remind us of an obvious fact which we must now take into
+account. The same piece of land may be used for a variety of purposes.
+It may have been used for growing corn, and later it may be devoted to
+the building of houses, or, as at Slough, to a repair depot for motor
+vehicles. It need hardly be said that the land will, as a general
+rule, be put to the use in which its value is greatest; or to speak
+more strictly, in which the biggest rent, or the biggest selling price
+can be obtained. But the notion of the differential advantages which a
+piece of land possesses over the marginal land becomes decidedly more
+complicated when we take account of this variety of uses. Let us turn
+our attention, for instance, to the sites used for shop and office
+purposes, and consider what we can regard as the marginal site in this
+connection. Clearly it will not be the marginal land of which we
+spoke above, which it only just paid to cultivate, and which yielded
+no rent at all. For this will probably be agricultural land in an
+out-of-the-way district, where no one would dream of setting up an
+office or a shop. Any site upon which a sane man would contemplate
+setting up a shop will certainly possess value for other purposes,
+such as house-building. Hence the marginal site for shopkeeping
+purposes will not be like our marginal farm, a site which yields no
+rent.
+
+As regards many pieces of land, there is no doubt as to the purposes
+for which they can most profitably be used. This piece will command a
+much higher rent as a shop site than in any other capacity; for that
+piece house-building is the obvious employment; for another,
+agriculture. But in quite a number of instances there is considerable
+uncertainty. It is not clear whether upon this site it will be better
+to erect a house or a shop, or if the latter, what kind of a shop. It
+is not clear whether it will pay to use that farm land for a building
+scheme; and, within the domain of agriculture, which of course
+comprises an immense variety of really different industries, it is
+often a very moot point indeed whether a certain field should be left
+under grass, or brought under the plow. Cases of this sort are not
+phantoms of the imagination; they emerge on every side as concrete
+problems with which some one or other is dealing every day, and it is
+these cases which constitute the marginal land for the purposes of a
+particular occupation. The marginal sites for shops are the sites for
+which it is only just worth while to pay rents sufficient to entice
+them away from houses. And the rent for a site in Bond Street, or
+elsewhere, which is so much more suitable for shop purposes that no
+alternative use would be worth considering, will exceed the rent paid
+for one of these marginal sites by, roughly speaking, the extra
+advantage it possesses for shop purposes. Or will fall short of it, it
+may be well to add, to the extent of its comparative disadvantage. For
+there may be many such marginal sites, some of which will fetch low
+rents, and others very high rents indeed; the same site being often of
+great potential utility for a large variety of occupations. Between
+any two occupations there will thus usually be a _margin of
+transference_, which we must conceive not as a point, but as an
+irregular line, upon or near to which there will be many pieces of
+land, differing greatly in the rents which they fetch. These
+variations of rent will correspond to the differences between the
+advantages or derived utilities which the sites possess for _both_ the
+occupations in question. The position of such margins of transference
+will of course alter as industrial conditions change, and, when they
+alter, the rents of sites which are not near any margin of
+transference will be affected also. Thus an increased demand for the
+products of any particular industry will make it profitable for that
+industry to offer higher rents, and thus draw land away from other
+occupations. This will have the effect of raising, though possibly to
+a very slight extent, the rents of sites which still remain in other
+uses; for there will be fewer of them available; and their derived
+utilities will consequently be increased.
+
+But here, as everywhere, it is upon the margin that our attention
+should be focussed, because it is round about the margin (wherever it
+is found) that the changes are taking place which really matter for
+society. When Mr. Mallaby-Deeley buys an estate in Covent Garden from
+the Duke of Bedford, the transaction hardly deserves the degree of
+public interest it excites. Nothing has happened which is of material
+consequence to anyone except the two gentlemen concerned; the various
+sites are still used for the various purposes for which they were used
+before; nothing has occurred that really matters. But when houses are
+pulled down for the erection of a cinema, or when a field is diverted
+from tillage to pasture, something has happened which affects for good
+or ill the interests of the whole community. Conversion from tillage
+to pasture represents, indeed, a tendency which has been very marked
+in Great Britain during the last generation, and has aroused
+misgivings in many public-spirited observers. Possibly for a variety
+of reasons, these misgivings may be justified; certainly the problem
+is well worthy of attention. But when in this way the issue is raised
+of tillage versus pasture, it is essential, if we are to discuss it
+rationally, that we should envisage it clearly as applying only to a
+limited portion of agricultural land, to the portion which lies
+somewhere near the margin of transference, as things are now, between
+the two forms of agriculture. It might be socially desirable to bring
+under the plow a field which the farmer finds it only _slightly_ more
+profitable to lease under grass; but this would be highly improbable
+in the case of a field where the balance of argument to the farmer in
+favor of pasture is overwhelming. The position of the margin of
+transference between different uses may, in other words, be somewhat
+out of place from the social point of view, and it may be desirable by
+appeals and propaganda, even conceivably by the devices of State
+subsidy and compulsion, to push it forwards or backwards in greater or
+less degree. But it will be necessarily a matter of degree, and
+nothing could be more foolish than to speak as though there was, or
+could be, some ideal method of cultivation equally applicable to all
+lands, without regard to their climatic and other conditions. Needless
+to say, none of the agricultural experts who sometimes deplore the
+decline of arable farming are guilty of such foolishness. But the
+sense of the diversity of nature which is very vivid to them may
+sometimes be lacking in people who live in towns, and a firm grasp of
+the marginal notion may serve best to keep the latter from forgetting
+it.
+
+
+Sec.5. _The Necessity of Rent_. Behind all such detailed applications
+there lies a more general consideration which deserves attention. The
+way in which the land of a country is used, the way in which it is
+apportioned between the countless alternative employments that are
+possible, is a most important matter, more important perhaps than any
+questions as to the size of the incomes which particular landowners
+receive by virtue of their rights of ownership. How is this
+apportionment effected as things are now? The answer is clear: mainly
+by the agency of either rent or price. The business which finds it
+worth while to offer the highest rent or the highest price for any
+piece of land will, as a rule, be able to command its use. And, with
+this as the governing principle, an apportionment is secured between
+shops, offices, factories, agriculture, between the immense variety of
+different employments covered by each of these broad headings; not a
+rigid unvarying apportionment, but one which constantly changes as
+economic circumstances change, and as the margin of transference
+between different occupations moves hither and thither. This
+apportionment takes place at present as the result of the independent
+decisions and bargains of many private individuals, who are thinking
+mainly of their own interests, and not of those of the community. But
+this state of affairs might be altered. The land might be nationalized
+and allocated to its various uses by the co-ordinated labors of a
+great State department, or some other agency of the collective
+will. However improbable such a change, it is perfectly conceivable.
+But what is not conceivable is that any State department should handle
+the job with a success even approaching that of the present system,
+unless it continued to use, as its main instrument, the criterion of
+either rent or price. That a piece of land would yield a higher rent
+in one occupation than in any other is not conclusive evidence that it
+is best to devote it to the former purpose, but it is very good
+evidence, and it should be allowed to prevail unless it is
+demonstrably outweighed, as it possibly might often be, by
+considerations of a different kind. That it would not be well for the
+community to employ land in the city of London for corn-growing
+purposes, however desirable might be a revival of home agriculture, is
+so obvious that it may seem to have no bearing on the present issue.
+But it is only an extreme indication of the absurd and wasteful use of
+our natural resources, which would grow up slowly but surely, if we
+dispensed with ideas of rent and price as sordid irrelevancies, and
+allocated our land on the basis of a balancing of the loftiest
+arguments of a vague and sentimental character. If you are prepared
+for the distribution of land to become stereotyped, for each piece to
+continue indefinitely in its present use, then indeed you might
+dispense with rent, as primitive societies very largely do. That would
+mean stagnation and, for an industrial country, decay. But if changes
+are ever to be contemplated, a simple quantitative measure is the only
+safeguard against utter chaos. Thus rent, like interest, will be found
+indispensable as a measure under any efficient system of society, even
+if it might not always represent the payment of sums of money to
+private individuals. And that is why the principles governing rent
+possess, as I indicated at the outset of this chapter, an importance
+more fundamental than our present system of ownership and tenure.
+
+
+Sec.6. _The Question of Real Costs_. But we must not forget the
+preliminary question that started us upon our analysis of the agents
+of production. The rent which a manufacturer or farmer has to pay for
+his land he naturally includes in his cost of production. But does
+this money cost to the individual correspond to, and measure, any real
+cost to the community as a whole? Here let us note in the first place
+that if only we could disregard the variety of uses to which land is
+put, if we could suppose that all industry was agriculture, and that
+agriculture was a single industry with a single product, we could
+argue that rent does not enter into marginal costs at all. For we
+could regard the marginal producer as the one working on a marginal
+farm, whereas we have seen there is no pure rent. The rent which other
+producers have to pay would thus represent merely the destination of
+the surplus profits which arise wherever actual costs fall short of
+marginal costs. This way of looking at the matter has proved
+attractive to some thinkers, not in the least because of a desire to
+palliate the effects of landlordism, but because it fits in so well
+with our general sense of rent as a "surplus," and a surplus as
+something distinct from a necessary price. But it is clearly
+illegitimate in an economic theory which professes "to describe the
+facts." The marginal land for many purposes fetches, as we have seen,
+a considerable rent; and this rent is certainly part of the marginal
+costs and of the necessary price of the products of the particular
+industry. The answer to our question is, however, not now very
+difficult to see. Land, greatly as it differs in many respects from
+the other agents of production, resembles them in the very important
+respect that, being used for one purpose, it is not available for
+other purposes, and that the productive powers of the community in
+other directions are thereby diminished. This is the real cost to the
+community, which attaches to the products of any industry, in virtue
+of the land which it occupies; not any human labors or sacrifices
+required to produce the land itself, but the curtailment of the
+natural resources available for productive use elsewhere. This is the
+real cost of which rent is the money measure, and generally speaking
+an accurate measure at the margin of transference between one
+occupation and another. A somewhat fanciful use of the term cost, this
+may seem perhaps, one not quite in accordance with our instinctive
+sense of what real costs should be. But possibly the real costs
+represented by wages and profits may turn out to be not so very
+different, and we had best leave the matter there, until we have
+examined the nature of these other costs.
+
+
+Sec.7. _Rent and Selling Price_. In this chapter we have spoken mainly of
+the rent rather than the price of land: the relation between the two
+things is fairly obvious and well understood, but it will be well not
+to close the chapter without a brief account of it. The price of any
+piece of land is affected by all the considerations on which its rent
+depends, but it is also affected by another factor which has no
+influence whatever upon rent. This factor is the rate of
+interest. The higher the rate of interest, the higher the return which
+a man could obtain by buying gilt-edged securities, the lower will be
+the price that he will pay for a piece of land which yields a given
+rent. We can express the relation more precisely by the formula Price
+= (Rent * 100)/(Rate of Interest), though we must be careful, in
+applying this formula in practice to allow for the possible deviations
+between the nominal and the true rent, and similar complications. The
+price, it must be observed, is derived in this way from the rent, not
+the rent from the price.[1] Rent is thus logically the simpler, price
+the more complex thing. It is well, therefore, to analyze in the
+first instance the principles of rent, if we live in a country where
+the practice of leasing land for annual rent is less common than it is
+in Great Britain, even if, for whatever reason, it is the price of
+land with which we are concerned in practice. The problem of price
+contains two distinct elements which it is not easy to handle when
+mixed up together. For the rate of interest represents in itself an
+important branch of economics, which will require a separate chapter
+to itself.
+
+[Footnote 1: In this the rent of land differs fundamentally from that
+of other things, such as houses. For the price of a house is largely
+influenced by the costs of construction of new houses, and should
+correspond closely to them in the long run. The same relation between
+rent, price and rate of interest will hold good; but the rents will be
+affected by changes in the rate of interest, owing to the reactions of
+such changes on the supply of houses.]
+
+
+
+CHAPTER VII
+
+RISK-BEARING AND ENTERPRISE
+
+
+Sec.1. _Profits and Earnings of Management_. The profits of a business,
+as they are ordinarily reckoned, whether for the purposes of income
+tax or of a balance sheet, comprise several elements which are
+fundamentally distinct. The relative importance of these various
+elements varies greatly from one type of business to another. The
+profits of a private business include, for instance, the remuneration
+of the work of management, which in the case of a Joint Stock Company
+is mostly paid for by salaries or directors' fees. It is to their
+profit that farmers, small shopkeepers, and the partners of a private
+firm look not merely for a return upon their capital, but for the
+reward of their own labors. "Earnings of Management," as they are
+usually termed (though in truth they often cover other and humbler
+forms of labor) are thus frequently one of the ingredients of profits.
+
+
+Sec.2. _The Payment for Risk-bearing_. There is another element of great
+importance about which our ordinary ideas are apt to be so vague that
+it will be well to devote a chapter to its examination. This is the
+element of payment for risk, or rather the reward of risk-bearing.
+Risk is inherent in all business, as it is inherent in all life. The
+vagaries of nature and the vagaries of man are alike responsible. The
+farmer may find his harvest ruined by a drought or by a deluge; the
+coal or the gold, for the extraction of which you have perhaps set up
+an extensive mining plant, may come to an end which is unexpectedly
+abrupt. You may put your money into roller-skating rinks and find that
+cinemas have become the rage with the fickle public; sometimes "the
+market" may decline for causes which remain obscure but with
+consequences which are disagreeably plain. But while risk is always
+present in some degree, the degree varies enormously from one industry
+to another. Now, it is obvious enough that in an exceptionally risky
+industry, where there is a considerable possibility that the capital
+invested will yield no return at all, the profits of those concerns
+which succeed are likely to exceed the rate of interest on gilt-edged
+securities. But what is likely to be the magnitude of this excess? Is
+risk-taking rewarded if there is any such excess, however small? Or
+will it suffice that the gains and losses should average out to a fair
+rate of interest over the whole industry? To enable us to think
+closely let us suppose for a moment that we can measure accurately
+what the chances are.
+
+Suppose, then, that there were a precisely equal chance of success on
+the one hand and failure on the other in any enterprise, failure
+involving a complete loss of all the capital invested. Suppose,
+further, 6 per cent to be at the time a fair return on a perfectly
+secure investment. What would be the return which must be expected
+from the risky enterprise, in the event of its succeeding, before it
+will be undertaken? The reader may be tempted to answer, 12 per cent.
+But 12 per cent would not suffice. An equal chance of 12 per cent or
+nothing, as compared with a certainty of 6 per cent, does not mean
+that the risk in the former case is paid for to the tune of 6 per
+cent. It means that it is not paid for at all. In each case what a
+mathematician would call the _expectation_ is a return of 6 per
+cent. The odds are evenly balanced; in the long run, over a large
+number of cases, if the law of averages works as we assume it does,
+you would get just as much from the one type of investment as the
+other. Now, risky enterprises will not, as a rule, be undertaken on
+terms like these; investors and business men will not take risks with
+the odds precisely equal; they must have them, or believe that they
+have them, in their favor.
+
+
+Sec.3. _Monte Carlo and Insurance_. To assert this is not to ignore the
+strength of the appeal which the gambling instinct makes to many, if
+not to most of us. The taste for gambling is, indeed, so deep and
+widespread that it would be foolish to leave it out of account in this
+connection. It is clear enough that at places like Monte Carlo people
+are prepared to have the odds unmistakably against them, apparently
+for the sheer pleasure and exhilaration of taking risks. Moreover,
+though for most people play at Monte Carlo represents a mere holiday
+indulgence, it would be unsafe to assume that what appeals to them
+there will not also appeal to them in their business affairs. But what
+exactly is the secret of the charm of Monte Carlo? It is the great
+attractive force of a small chance of a large gain, as compared with
+the deterrent force of a large chance of a small loss. People will
+readily pay $5 for one chance in a hundred of making no more, perhaps,
+than $400 or $450. And it is very likely that this holds good in the
+world of business. If, for example, we were to suppose that the
+promoters of a new enterprise were confronted with one chance in fifty
+of a profit of 50 per cent per annum on their capital, as against
+forty-nine chances of a profit of 5 per cent, this might well prove a
+more attractive prospect than a certain return of 6 per cent, although
+the strict _expectation_ of profit would be smaller in the former
+case. But the risks of business enterprise are not often of this
+type. They conform more usually to the opposite type of a large chance
+of a relatively small gain, balanced by a small chance of serious loss
+or entire failure. Now for almost everyone the possibility of a great
+loss will count as a deterrent (just as the possibility of a great
+gain may count as an attraction) for much more than its strict
+actuarial value.
+
+The truth of this proposition is demonstrated by the existence of
+institutions more impressive than Monte Carlo--the Insurance
+Companies, which play so large a part in the economic life of modern
+times. Every year, and upon an ever-growing scale, both private
+individuals and business concerns pay sums of money, which reach in
+the aggregate a colossal sum, as premiums to insure themselves against
+loss by Fire, Shipwreck, Burglary, Death, Death Duties, against every
+risk which Insurance Companies will cover. Now Insurance Companies
+are not, as we say, in business for their health. They find their
+business profitable, and pay good dividends to their shareholders.
+Moreover, they incur a considerable expenditure on offices, on
+clerical staff, on agents, and the like. All these payments must be
+defrayed out of the premiums they receive; so that it is plain that
+the premiums greatly exceed the _expectation_ of the risks insured.
+The odds are heavily in favor of the Insurance Company--of that the
+stupidest person can have no shadow of doubt. Yet we continue to
+insure, as private individuals and as business men, and so far from
+being ashamed of our proceedings as a weak and nerveless folly, which
+somehow we are unable to resist, we blazon them forth in the strong
+accents of conscious pride. We preach insurance to our neighbors as
+the core of self-regarding duty, and, if ever we feel a twinge of
+uneasiness, it is lest we, too, may have omitted in some particular to
+practice what we preach.
+
+The significance of this is unmistakable. Be our psychology what it
+may, however deep and irrepressible our taste for derring-do, however
+inadequate the scope which the dull routine of modern life affords for
+our adventurous impulses, we are most of us anxious to avoid the risk
+of great financial loss. We are very glad to find someone to take it
+off our shoulders if we can; so glad that we are prepared to pay him
+for the service, to pay him a sum which covers not only the actuarial
+equivalent of the risk, but something substantial over and above. In
+this we are entirely rational. Our conduct is justified by the law of
+the diminishing utility of money, which was noted at the end of
+Chapter III. It would be plainly foolish, for instance, to substitute
+for the certainty of an income of $2500 per annum an even chance of
+$5000 or nothing, since the utility to us of $5000 is not twice as
+great as that of $2500.
+
+The majority of business risks are not of a kind against which it is
+possible to insure. Insurance companies confine themselves to risks
+which are mainly a matter of what we call objective rather than
+subjective chance, i.e. risks in respect of which knowledge of
+detailed facts peculiar to the individual case is of minor
+importance. But such knowledge is of paramount importance in the case
+of ordinary business risks. If, for example, a new enterprise is to be
+undertaken, the special knowledge and experience which its promoters
+possess is a vital factor in determining their estimate of the risk
+involved. An outsider with no special knowledge would necessarily
+require to estimate the risk far more highly if we were to form a
+rational opinion on the basis of _his_ knowledge. So great, indeed,
+would be the risk to him, that we can lay it down as a sound maxim
+that people are extremely rash who invest their money in risky
+undertakings about which they know very little. This subjective aspect
+of business risk has a significance to which it will be necessary to
+revert.
+
+But, though most business risks are not and cannot be a matter for
+premiums and policies, the principle, which the practice of insurance
+illustrates, applies none the less. In the light of their knowledge
+and experience, the promoters of a new undertaking must weigh up the
+chances of failure and success, though they will not do so by the
+precise methods of an actuary. They will require that any chances of
+serious loss should be balanced by such chances of exceptional gain,
+as would raise the _expectation_ of profit well above the normal
+return on secure investments. The more risky the project seems the
+greater, generally speaking, must be the _expectation_ of profit
+required to induce people to undertake it.
+
+If we suppose business men to calculate reasonably, it follows that
+the average profits in any industry over a long period of years,
+reckoning in the losses of the concerns which disappear altogether,
+are likely to be higher, the more risky is the industry. Such a result
+will not, of course, occur in every case. Even when the calculations
+are reasonable, they may be entirely falsified by the event. Moreover,
+business men may not calculate reasonably on the information which
+they have. But, unless we suppose their judgment to be subject to a
+prevailing bias in one direction, i.e. to be unduly optimistic as a
+general rule, _we_ should expect, and in any case _they_ must expect,
+profits above the ordinary in a risky industry.
+
+This conclusion is sufficiently important. Far too many people, though
+they admit it when it is expressly stated and dismiss it even as a
+tiresome commonplace, are apt to neglect it when the occasion for
+applying it arises. For example, the great importance to any industry
+of good management is generally recognized, and the consequent
+desirability of paying adequate salaries to the managerial staff. The
+importance of securing a supply of capital is very widely recognized,
+and the practical necessity of paying a fair rate of interest is thus,
+however grudgingly, conceded. But the "residuary profits," as they
+are called, which accrue at present to the owners of a business, are
+denounced in some quarters in a sweeping fashion, which seems to
+ignore altogether the all-pervading element of risk. People speak as
+though you might appropriately limit profits in every industry to some
+uniform percentage on the capital employed, without making it clear
+whether you would even be allowed to make up in good years for the
+losses incurred in bad. The effect of introducing any such crude
+device into our present industrial system could only be to paralyze
+enterprises of an unusually risky kind, which, so far from being
+pushed to an excess at present, are more probably curtailed unduly
+from the standpoint of what is socially desirable. Like the fixing of
+a low maximum price for a commodity it would cause the supply to
+wither up and disappear.
+
+
+Sec.4. _Risk under Large-scale Organization_. While this is true of the
+present economic system, the question is worth considering whether it
+represents a fundamental necessity, whether, for instance, under our
+world socialist commonwealth the factor of risk-bearing need play so
+important a part as it does in the actual business world. This
+question cannot be answered with a conclusive simplicity; opposing
+considerations present themselves, between which it is not easy to
+strike a balance. On the one hand, in accordance with the law of
+averages gains and losses tend to cancel out over a large series of
+transactions, _when reasonable calculations have been made_. Thus
+Insurance Companies, while they take heavy risks off the shoulders of
+policy-holders, incur relatively trifling risks themselves; they can
+predict the aggregate sums which they will be called upon to pay
+within a small margin of error. In the same way it might seem that
+every enlargement of the scale of business would make for an automatic
+insurance and a consequent economy of risk; and thus that if all
+businesses were comprised in a single financial unit, gains and losses
+would cancel out over so wide a range that the degree of risk
+remaining would be almost negligible.
+
+This might indeed happen, if business risks were mainly of that
+objective kind in which the insurance companies specialize; for then
+we could assume that the chances of success or failure would be
+estimated reasonably. But, in fact, most business risks, not being of
+this kind, must be estimated by processes of human judgment, which are
+very fallible. And here we must take account of the law of averages in
+another aspect, with a different bearing on the argument. When an
+industry comprises a large number of separate concerns, and the
+decisions accordingly are taken by many men, acting independently of
+one another, the errors of calculation will tend to some extent to
+cancel one another out. The undue optimism of one man will be balanced
+by the undue pessimism of another; and, if there is no prevailing bias
+in either direction, the errors of judgment will not affect the
+results for the industry as a whole. But where the effective decisions
+are taken by very few men, the chances are far greater of a
+preponderating balance of error in one direction. The risks dependent
+on the factor of human judgment tend therefore to increase.
+
+This truth can be illustrated by a phenomenon which is fairly
+familiar. It is recognized by intelligent persons that the risks of
+speculation in a particular commodity market or stock market increase
+more than proportionately to the scale of operations. A man who sets
+out as a "bull" upon a small scale can buy without sending up the
+price against him in the process, and, if he decides later that his
+judgment is mistaken, he can at any time cut his losses and sell out
+without much difficulty. But a "bull" on a very large scale cannot
+complete his purchases except at a price which has been raised in
+consequence of his own action, and he cannot count on being able to
+"unload" at or near the market price, should he decide to do so. If,
+accordingly, he miscalculates, he cannot save himself from serious
+loss as a smaller man might do by a prompt discovery of his error. His
+difficulties spring from the fundamental fact that the effects of his
+calculations are too great to be offset by those of the different, and
+often opposite, calculations of other men.
+
+Upon the issue whether a growth in the size of the business unit is
+likely to diminish risk, the law of averages thus cuts both ways. The
+risks arising from the element of pure chance are more likely, those
+arising from miscalculation are less likely, to cancel out. Upon
+these grounds alone, it would be unsafe to conclude that there would
+be on balance an economy of risk under any system of national or world
+socialism.
+
+
+Sec.5. _The Entrepreneur_. There remains, however, an aspect of the
+problem which is perhaps more important than those discussed above. It
+is probable that risks would be estimated and undertaken more wisely
+or less wisely under a different system of society or of industrial
+organization? Upon this issue, methods of precise analysis are out of
+place, but we may have something to learn from the emphatic testimony
+of tradition. It has become an axiom of business men that, while
+Governments can manage with more or less competence a safe and routine
+business like a Postal Service, their success would be unlikely to
+prove conspicuous in undertakings where the element of risk is
+great. There, it is said, we owe everything in the past to the
+enterprise of individual men (for even joint-stock companies have not
+been notable as pioneers) adventuring their own fortunes in accordance
+with their own unfettered judgment. This contention, however much we
+may desire to qualify it, has unquestionably a large measure of truth,
+and the explanation is not difficult to discover. For the wise taking
+of risks in industrial development of an experimental character,
+peculiar conditions and special qualities are required. First, it is
+necessary to envisage distinctly the promising though risky
+opportunity, and this calls not infrequently for imagination of a none
+too common order. Then it must be studied with insight and expert
+knowledge and weighed by processes which are as much intuitive as
+intellectual. The reasons for or against taking a particular business
+risk are seldom such as can adequately be expressed in terms of
+arithmetic, or even by clear arguments the soundness of which is
+proportioned to their logical cogency. The mysterious faculty of
+judgment enters in; and from mental processes which defy analysis
+there emerge ultimately conviction and the will to act. But it is
+precisely here that Government Departments are apt to fail. It is here
+that the individual, who need consult no one but himself, has a pull
+over any form of organization, where decisions are reached by the
+method of debate and agreement among a heterogeneous committee. Hence
+it is that we have come to regard exceptional risk-taking as the
+peculiar province of individual enterprise. It is probable that these
+deficiencies of corporate organization are tending to diminish, and it
+is an interesting question how far it may be found possible to
+eliminate them in the future.
+
+Meanwhile the above considerations have an important bearing on the
+rewards which can often be obtained from risky enterprises. The number
+of individuals who are in a position to envisage a business
+opportunity, and to assess with some confidence the chances of success
+and failure is very limited. Not only must they possess special
+knowledge, ability, imagination, confidence in their own judgment, and
+the capacity to act on it; they must also have at their disposal
+considerable financial resources. To combine all these advantages
+represents a union of circumstances which is distinctly rare. The
+fortunate few, who do combine them, are thus generally able to extract
+in the form of profits a high price for their services, a price which
+covers not only the strict reward of risk-bearing, and the necessary
+remuneration of their own service, but a handsome payment for the
+special qualities and advantages which have been indicated. Profits,
+moreover, may vary between one industry and another, not only in
+accordance with the real risk which is entailed, but with the degree
+to which the supply of special knowledge, etc., is scarce or abundant.
+
+This consideration goes a long way to explain the large fortunes which
+enterprising business men are often able to amass. It also throws some
+much-needed light upon the functions which such men discharge. They
+perform to a large extent the work of management; they supply capital
+on what may be a considerable scale; but it is the taking of business
+risk which is perhaps their most characteristic function. It is the
+union of these functions which distinguishes them as an essentially
+different type from the salaried manager who has invested his savings
+in rubber or in oil. In other languages there is a specific name for
+the man who combines all these three functions; in French he is called
+an "entrepreneur," in German an "Unternehmer." It is much to be
+regretted that in English we have no clear corresponding word. The
+word "capitalist" is not uncommonly employed to do duty in this
+connection, but this is a source of much confusion. For the word is
+also used, and more appropriately, to include all investors, whether
+or not they are active business men.
+
+
+Sec.6. _Risk-taking and Control_. But there is an allied confusion of
+more importance. We commonly suppose it to be a leading feature of our
+present "capitalist system" that the control of industry rests in the
+hands of those who supply the capital. Nor, as a general statement, is
+this untrue. But it conceals the essential point. Strictly speaking,
+it is risk-taking with which control is associated. The mere lending
+of money carries with it no title to control. Governments and
+municipalities concede no such title to the subscribers to their
+loans; nor does a company to its debenture holders. The shareholders'
+ultimate control is based upon the fact that they bear the financial
+risks of the concern. Nor is this a matter of mere legal form. It is
+not uncommon for ordinary shares to carry with them a greater voting
+power than the preference shares of a corresponding value. The
+principle which such arrangements endeavor to express is clear:
+control should rest with him who bears the risk. It is with this
+principle rather than with a mulish insistence on the rights of
+property, that advocates of "workers' control" and the like have got
+to reckon. It is upon this ground that (as they may quite conceivably
+do) they must make good their case.
+
+
+Sec.7. _General Analysis of Profits_. Let us conclude this chapter by
+clearing the ground for the next. Earnings of management, payments for
+risk-taking and for the special knowledge and advantages associated
+with it, are ingredients of the gross profits of a business. The chief
+element that remains is that of interest on capital. Frequently,
+indeed, it is not the only one. As we saw in the last chapter, a
+farmer may not be required by his landlord to pay the full economic
+rent for his farm; and he may therefore make profits above the normal
+level, above the ordinary return for his own services, his own capital
+expenditure, and the risks to which he is necessarily exposed. In such
+a case the farmer is really the recipient, as we have already
+suggested, of part of the economic rent of the land; and an element of
+rent accordingly enters into his gross profits. But profits may
+include a surplus element which may arise in a great variety of other
+ways. A business may possess some decided advantage which is not open
+to competitors; and it may reap high profits accordingly. You can,
+for instance, if you choose, regard the high money profits, which, as
+was suggested in Chapter IV, are likely to accrue in future to the
+owners of pre-war factories, as a surplus profit of this kind. But
+while, as this illustration indicates, the phenomenon of surplus
+profits becomes of very great importance when we seek to study the
+distribution of wealth, it need not detain us here. For the surplus
+element arises only in so far as the costs of a business are lower
+than the marginal costs; and it is the marginal costs, which, with
+good reason, we are now endeavoring to analyze. The marginal costs
+must include a normal profit, i.e. a profit which will cover earnings
+of management, the reward of risk and enterprise, interest on capital,
+but nothing further. It remains, then, only to consider this last
+element of interest.
+
+
+
+CHAPTER VIII
+
+CAPITAL
+
+
+Sec.1. _A Reference to Marx_. Interest is the price paid simply for the
+use of capital. But what is capital, and in what does its use consist?
+What claim has it to be regarded as an independent factor of
+production? Our very familiarity with the term, our habit of employing
+it with the rich looseness of every-day life is an obstacle to the
+clearness of thought, which is again essential. We recognize, most of
+us, clearly enough that capital, although we reckon it in terms of
+money, consists, like income, of real things; factories, machinery,
+materials and the like. It is quite obvious that these things are of
+use, are, indeed, indispensable for production; what more natural than
+that capital should command a price? It almost seems as though we
+might pass, without further ado, to a detailed discussion of the
+forces which determine the amount of this price.
+
+But this account does not bring out the essential point as brief
+reference to a very famous controversy will show. Some ingenious
+writers in the last century, the most notable of whom was Karl Marx,
+set out to prove that, in our modern society, workpeople are
+"exploited," robbed of the "whole produce of their labor," to the full
+extent of the return which accrues to capital. The argument was
+exceedingly complex in detail; but it boils down to this: The
+factories and machinery which are admittedly essential to production
+were themselves produced in exactly the same way as consumable
+goods. They were produced by labor, working with the assistance of
+nature, and, again, if you choose, of capital in the form of further
+factories, machinery, etc. But these further capital goods can in
+their turn be regarded as the product of labor, nature and capital;
+and so we can proceed until it seems as though the element of capital
+must disappear in the last analysis, as though labor and nature were
+the sole ultimate agents of production, and the reward of capital
+represented no more than the exercise of the exploiter's power. In one
+form or another this argument still dominates the minds of a large
+proportion of the so-called "rebels" against the existing social
+order.
+
+If we are to meet this argument, if, which is perhaps more important,
+we are to understand the true nature of capital, we cannot rest
+content with saying that it consists of factories and machinery, and
+that these are essential to the worker. Just as it was well to get
+behind the money terms, in which we often think of capital, to the
+real goods; so we have now to get behind the real goods to something
+else. What this something else is, the first chapter may have already
+done something to reveal.
+
+
+Sec.2. _Waiting for Production_. Between production and consumption there
+is an interval of time. All productive processes take time to
+accomplish. The farmer must plow the soil and sow the seed months
+before he can reap the harvest which will reward him for his
+efforts. Meanwhile, he must live, and in order that he may live he
+must consume. If he employs laborers he must pay them wages, that they
+too may consume and live. For both purposes he requires purchasing
+power, which represents of course command over real things; and if he
+has not sufficient purchasing power of his own, he must borrow from
+someone else who has. In either case it is not enough that the farmer
+and his laborers should work; no less essential is it that someone
+should _wait_. The farmer must wait till he has sold his crops, both
+for the reward of his own labor and for the repayment of the wages he
+advances in the meantime to his laborers. Or, if he cannot afford to
+wait, and borrows in anticipation of the harvest, then the lender must
+wait, until the farmer, having sold his crop, is able to repay
+him. Thus the period of time involved in all production gives rise to
+a demand for _waiting_, which someone or other must supply, if the
+production is to take place. It is this waiting which is the essential
+reality underlying the phenomena of capital and interest. It is really
+this which constitutes an independent factor of production, distinct
+from labor and nature, and equally necessary.
+
+
+Sec.3. _Waiting for Consumption_. But let us carry the argument a step
+further. After the farmer has sold his crops, there are many stages
+through which they must pass, at each of which more waiting is
+required, before they reach the ultimate consumer. But then the
+waiting is at an end.
+
+This, however, is by no means the case with a great number of
+commodities. Let us take the case of a speculative builder. While he
+is building a house he, like the farmer, must wait (or find someone to
+wait on his behalf), for his own reward, and for the repayment of his
+expenditure on wages and materials. But, after the house is built, if
+he lets it to a tenant for an annual rent, his waiting is far from
+over. Not until many years have passed will the rent payments add up
+to a sum which equals or exceeds his outlay. He may, of course, sell
+the house, and thus bring his waiting to an end. But then the
+purchaser must wait, no matter whether or not he is the occupier. For
+no one would consider the use of a house for a day, a month, or a year
+as an adequate return for the price it cost to buy. The occupier-owner
+pays for the prospect of its use for a long and perhaps indefinite
+number of years ahead, and he must wait to enjoy the benefits for
+which he pays now in full. Waiting is as inherent in the consumption
+of durable things as it is in all production.
+
+Now most industries are consumers of durable things of a very
+expensive kind. Here we come back to the factories and machinery which
+ordinarily spring to our mind at the mention of the word capital. Not
+merely does the construction of these things involve waiting; their
+consumption involves waiting on a vastly larger scale. Just as with a
+house, many years must elapse before their derived utility can even
+approximate to their purchase price. It is mainly to supply the
+waiting involved in the consumption of such durable goods, that a
+typical joint-stock company issues shares for public subscription. The
+waiting required to cover the period of time, which its own productive
+process requires, is largely supplied by means of bank overdrafts or
+other forms of short-period borrowing. More strictly, fixed capital
+represents the waiting involved in the consumption of durable things;
+circulating capital the waiting involved in current production.
+
+This distinction loses its sharpness when we consider not the affairs
+of a particular business, but the industrial system as a whole. Then
+the period of time involved in the consumption of durable instruments
+falls into place as part of the time required for the production of
+the ultimate consumers' goods. We can even, perhaps, conceive of an
+"average period of production" for industry and commerce as a whole;
+and this conception is not without its uses. For it serves to bring
+out the fact that the period of consumption, and the period of
+production in the narrower sense, are only two aspects of the same
+fundamental thing, the interval of time which elapses between work and
+the utility, which is its ultimate purpose. It serves, moreover, to
+make clear that anything which lengthens this interval of time
+increases the demand for waiting, or in other words, the demand for
+capital; and, conversely, that anything which shortens this interval
+diminishes the demand for capital.
+
+
+Sec.4. _Capital not a Stock of Consumable Goods_. But the distinction
+between the two forms of waiting, though not fundamental, is none the
+less worth noting. It enables us to keep our theory in conformity
+with fact, to look at the phenomenon of capital the right way up; and
+it is easy, if we are not careful, to slip into the habit of looking
+at it upside down. People sometimes speak as though the commodities
+which constitute our capital, instead of being mainly, as our plain
+sense tells us that they are, factories, machinery and other durable
+instruments, were rather a _store_ or _stock_ of immediately
+consumable goods. The argument takes the following form. It is
+consumers' goods, things like food and clothes, which the farmer, the
+builder and their workpeople consume while they are working. To enable
+them to work, therefore, it is vital that such things should not in
+the past have been consumed as soon as they were made; part of them
+must have been saved, and carried forward for future use.
+Furthermore, the longer the time that the work on which people are now
+engaged takes to yield its product, the larger must be this store of
+consumers' goods. For these products, when they are completed, will
+serve (taking society as a whole) to replace the store which in the
+meantime is being used up, so that the longer this replacement takes,
+the larger must be the initial store. Conversely, the larger the
+store of consumers' goods available, the more distant is the future
+for which we can afford to work. It is thus the store or stock of
+consumers' goods which represents our real capital; for it is the
+magnitude of this store which determines how far we can devote our
+energies to purposes which are remote in time.
+
+Now this is pure mysticism. Regarded literally, it is in direct
+conflict with the facts. The processes of industry are fairly regular
+and continuous. At any moment, large quantities of consumers' goods of
+almost every kind are on the point of completion; at the same moment
+equally large quantities are consumed. The things which we buy were
+finished, very likely, only recently; or, if in fact they have lain
+idle for some time in stock, there is nothing essential or at all
+helpful in that fact. It represents rather a defect--a maladjustment
+which should be rectified. Even many kinds of agricultural produce do
+not need to be carried forward from one year to another, for they are
+produced in many parts of the world, where the seasons come at
+different periods of the year. It is conceivable, therefore, that we
+might consume all non-durable things the moment they were ready, and
+the degree to which we approximate to this ideal is a mark of the
+efficiency of our economic system. A large store of consumable goods
+is thus _not_ a fundamental necessity of a prosperous society.
+
+What _is_ necessary is plainly the power to produce these things in
+large quantities as they are required. And this power is furnished by
+the durable instruments of production, which we thus rightly regard as
+the true representatives of modern capital. If it is argued that this
+power to produce consumable goods may be regarded as being _in effect_
+a store of consumable goods, it must be sternly replied that this is
+the language of symbolism, not of science, and that symbolism is
+highly dangerous in this connection. The false conception of capital
+as essentially a store of consumers' goods has led and still leads to
+many serious fallacies. It was this that gave rise to the notorious
+doctrine of the Wages Fund; the notion that the sum which can at any
+time be paid in wages is equal to the quantity of capital, _alias_
+consumable goods, which happens to exist. To this day it blocks, with
+an undergrowth of obscurantist controversies, the way to a
+straightforward account of the problem of trade cycles.
+
+
+Sec.5. _The Essence of Waiting_. But it is with positive conclusions that
+we must here concern ourselves. What is the essence of this waiting,
+as we have called it? What are its results from the point of view of
+the community? The individual, who saves and lends, waits in the
+obvious sense that he postpones consumption. He foregoes his right to
+purchase now a quantity of consumers' goods in consideration of the
+prospect of purchasing a larger quantity of such things in the
+future. From the standpoint of the whole community, there is a similar
+postponement of consumption, though it need not commence so soon. The
+store of consumable goods is what it is: the quantity of goods in
+_process_ of manufacture, which will shortly be coming forward, is
+also what it is. For some time, therefore, a sudden access of saving
+cannot affect the quantity of goods available for consumption; and if,
+in fact, they should be consumed less rapidly, that will represent an
+unfortunate defect, not an essential condition of a smoothly working
+system. The _necessary_ consequence comes later. The increased saving
+will cause labor, materials, land, agents of production generally, to
+be devoted to distant purposes. Men will be set to work producing
+durable goods, largely durable instruments of production like ships or
+railways or factories or plant. If the increased saving is
+considerable, the labor, materials, etc., required for these purposes
+will be withdrawn even under our present system, as under a smoothly
+working system they clearly must be, from the production of other and
+more immediately consumable things. Hence, some time later, the
+supplies of consumable things will be diminished, while at a later
+period still they will be more than correspondingly increased as the
+result of the assistance of the new durable instruments. That is the
+essence of saving from the social standpoint. An early future is
+sacrificed to a more remote future. The aggregate consumable income of
+the present is unaffected; the aggregate consumable income of the near
+future is actually diminished; it is not until at least some years
+later that the aggregate consumable income is increased.
+
+
+Sec.6. _Individual and Social Saving_. This conclusion is important: but
+there is an obvious misinterpretation against which it will be well to
+guard. It is customary for social moralists to preach thrift and
+saving as a public duty, and to impart to their appeals a special note
+of urgency in times like the present, when, as the result of the havoc
+of the war, destitution is widespread over Europe. Now obviously these
+advisers do not mean to recommend something which will impoverish the
+world next year and the year after and the benefit of which will
+accrue only in a distant future: it is the immediate urgency of the
+world's needs which is rather the substance of their case. Nor would
+it be right to conclude that these wise men are the victims of a
+delusion, and advocate a course, the consequence of which they do not
+understand. The explanation of the paradox is simple. The more the
+community as a whole saves now, the less in the near future will be
+the aggregate consumable income of the whole community: but not of the
+_remainder_ of the community, exclusive of the savers. It is the saver
+who must wait, whose consumption must be postponed to perhaps a
+distant future; but _at no time_ does his saving result in a smaller
+income of consumable goods for other people. The aggregate consumable
+income of the near future will be diminished, but it may be better
+distributed, and it may consist of things of a different _kind_. For
+consumers' goods, we must remember, comprise champagne and motor cars
+as well as food and clothes; and, if a rich man saves, it may be
+purely articles of luxury, the production of which will shortly be
+diminished. Moreover, if his saving has the effect of transferring
+purchasing power to impoverished people, like those in Central Europe,
+it will not be devoted to a distant future; it will very likely be
+devoted to quite immediate ends. In other words, it may not result in
+any "creation of capital"; it may not represent any saving on the part
+of the community as a whole. A relatively rich man waits, and a
+relatively poor man _anticipates_ his income to a corresponding
+extent; and it is precisely this that is so urgently desirable in a
+time of widespread poverty and chaos.
+
+This is no matter of hair-splitting, and making plain things
+obscure. While it is always better for the _rest_ of us that an
+individual, who can afford to save, should save rather than spend
+(though it might be better for us still if we could have his money to
+spend ourselves) and while this is the more important the greater is
+the poverty which generally prevails; yet, as a community we cannot
+save so much, we _ought_ not to save so much, when we are impoverished
+as when we are prosperous. It is vital to appreciate this truth,
+because, as we shall see, by no means all the saving of the world is
+done by individuals. There are many forms of "collective saving,"
+which take place in actual fact; still more which we are often urged
+to undertake. And it is of practical importance to realize that the
+very considerations, which call most urgently for individual thrift,
+forbid a great indulgence in such projects. A time of national poverty
+is not a time when it is suitable for the State to embark on large
+schemes of capital development: we require our resources for more
+immediate ends. Faced with such problems, our practical sense may no
+doubt suffice to keep us straight; but it is apt to do so at the
+expense of a complete inversion of the real issues. If, for instance,
+we call for Governmental retrenchment on what we deem extravagant
+policies of housing and education, we usually speak as though they
+represented the profligacy of a spendthrift as contrasted with the
+saving that is indispensable. The truth is rather that these policies
+represent a saving, an investment for future purposes, which may
+conceivably be greater (this must not be taken as representing my
+personal opinion) than the community can properly afford. This is
+another instance of what I mean by looking at the problem of capital
+the right way up.
+
+
+Sec.7. _The Necessity of Interest_. It is only now that we are in a
+position to appreciate the true functions of a rate of interest, and
+the nature of its claims to be regarded as a "real cost." Interest, it
+is sometimes said, is necessary to provide for the future. It is far
+more certain that interest is necessary to provide for the present. It
+is a matter of legitimate doubt how far it is necessary to _pay_
+interest to secure a supply of capital; there is no doubt at all that
+it is necessary to _charge_ interest to limit the demand for it. As we
+saw in Chapter I, a world socialist commonwealth would require to
+retain a rate of interest, if only as a matter of bookkeeping, in
+order to choose between the various capital undertakings that were
+technically possible. And this is the primary function which the fate
+of interest fulfils in our present-day society. It separates the sheep
+from the goats. It serves as a screen, by means of which capital
+projects are sifted, and through which only those are allowed to pass
+which will benefit the future in a high degree. For this essential
+purpose it is hard to imagine how a better instrument could be
+devised.
+
+
+Sec.8. _The Supply of Capital_. Let us dwell for a moment on this image
+of a screen, or sieve. One condition of a good sieve is that its
+meshes should all be of the same size. This condition the rate of
+interest almost perfectly fulfils. But it is also important that the
+meshes should be of the _right_ size. Whether this is true of the
+actual rate of interest is a far more doubtful matter. It is, indeed,
+plain that it is not altogether devoid of merit in this respect. In
+times of general world poverty, like those which follow upon a great
+war, it is desirable, as has been argued, that more of our productive
+resources should be devoted to immediately useful purposes, and a
+smaller portion dedicated to a distant future. This readjustment the
+rate of interest helps to bring about. For it rises to a higher
+level, and there is accordingly a strong inducement to all
+manufacturers and traders to economize their use of capital, and thus
+to set free productive resources for more urgent needs. But, while the
+meshes of the sieve, as it were, contract in times when it is
+desirable that they should contract, we have no reason for supposing
+that they will contract in just the degree that is desired, neither
+more nor less; or, indeed, that at any time they approximate to the
+right size. We in the twentieth century owe much of the material
+wealth that we enjoy to the fact that over the last century men saved
+as largely as they did. But our natural gratitude should not restrain
+us from doubting whether they were really well advised to do so. If we
+ask the question _how_ they managed to do so, our doubts are
+deepened. For first place among the explanations must be assigned to
+the inequality in the then distribution of wealth. It was because many
+men in England were rich enough to save that our railways were built,
+and the resources of new Continents were opened up. But England, a
+century or even half a century ago, was not really a rich
+community. And if the national income in those days had been
+distributed more evenly among the people, can we doubt that they would
+have spent a far larger proportion of it on immediate needs; can we
+doubt that they would have been right to do so? We may rather doubt,
+in view of the reactions of poverty on physical and mental efficiency,
+on social harmony, even possibly on population, whether we to-day
+would have been really injured as much as might appear. How, then, can
+we suppose that the sum of the amounts which it suits individuals to
+save will bear any close relation to the resources which the community
+can properly devote to future ends? Are we to regard an unjust
+distribution of wealth as a mysterious dispensation of Providence for
+securing perfect harmony between the future and the present? The
+point need not be labored further. There are no grounds for assuming
+that we save, as a community, even roughly what we ought to save. If
+we wish to believe we do, we must turn for support from economics to
+theology.
+
+It is important to be clear upon this issue in order to distinguish it
+from another, with which it sometimes seems to be confused. This is
+the question, briefly outlined in Chapter II, of the effect of changes
+in the rate of interest on the supply of capital. As was there
+indicated, there are good reasons for supposing that a fall in the
+rate of interest would induce some people to save more, and
+conversely. But the balance of probability is in favor of the
+conclusion that the _net_ effect of changes in the rate of interest,
+though perhaps slight, is usually of the more ordinary kind. The
+decisive argument in this connection is the fact, upon which we have
+just touched, that savings are supplied largely by people who are
+relatively rich, and who become richer when the rate of interest
+rises. For at this point it is necessary to be careful. It is easy to
+slide from the above conclusion into an argument of the following
+kind. A higher rate of interest leads to more saving; it is thus
+necessary to _evoke_ more saving; it is thus required as an
+_incentive_ to induce people to incur the _sacrifice_ of waiting; this
+sacrifice represents the "real cost" for which interest is paid.
+
+This terminology of incentive, inducement and sacrifice is of very
+dubious validity. A rich man, who is made richer by a rise in the rate
+of interest, will probably save more, but it will be rather because he
+has become richer than because he is tempted by the higher rate: and
+the less we talk about his sacrifice the better. Nor is it clear that
+the attraction of a high rate of interest is an operative factor on
+the mind of a man to whom saving means a real sacrifice of immediate
+comfort or enjoyment. Certainly it is only one among many factors, and
+seldom an important one. A really poor man will think not so much of
+the annual income which will accrue from his savings, as of the
+capital sum upon which he or his family can fall back if a rainy day
+should come. And for this purpose he might save as much as he saves
+now, even if there were no interest to be obtained thereby. He might
+even be prepared to lend what he had saved, at least to banks (a
+deposit with a bank is in effect a loan), for the mere advantage of
+safe custody. The people who save rather for the sake of the capital
+sum that can be realized than for that of the annual interest are very
+numerous, and probably include many men in receipt of quite
+considerable earned incomes. Moreover, those who consider mainly the
+future annual income which their savings will yield them, are usually
+more concerned with its absolute amount than with the ratio it bears
+to the amount they must save in order to acquire it. For this reason,
+as has been often recognized, they may save less when the rate of
+interest rises, since a smaller quantity of savings will insure to
+them the future annual income they desire to obtain. There is no need
+to be dogmatic upon any of these points. The psychology of saving is
+both complex and obscure. Our conclusion must be the negative one that
+we have insufficient evidence to warrant the assertion that the
+particular rate of interest which happens to prevail is a measure of
+the sacrifice involved in saving, even in the case of what we might
+regard as the "marginal saving." And, if we cannot assert this, we
+must be careful not to assume it as the basis of other arguments, or
+as part of a general analysis of price or exchange value.
+
+It is of some interest to observe that the difficulties which our
+world socialist commonwealth would encounter if it attempted to
+dispense with the rate of interest, would not necessarily include that
+of obtaining a supply of capital. It might, indeed, not find it easy
+to determine the proportions in which it should allocate its
+productive resources between immediate and distant ends. Our present
+system cannot be said to have evolved satisfactory principles for the
+solution of this question; and the socialist commonwealth would have
+to work out its own solution. But when it directed that labor and
+materials should be devoted to purposes of long-period utility, there
+would be an automatic collective saving, of which no one would be
+conscious as an individual sacrifice. Even at the present time, our
+capital is not supplied entirely by the savings of individuals, but to
+an extent, which though quite incalculable is yet certainly
+considerable, by involuntary saving of an essentially similar type to
+the above.
+
+
+Sec.9. _Involuntary Saving_. When a municipality embarks on a municipal
+tramways scheme or any other industrial enterprise, and pays off by
+means of a sinking-fund the capital which it borrows in the first
+instance, the proceeding amounts, as the defenders of municipal
+trading have rightly claimed, to a compulsory and unconscious saving
+on the part of the citizens. Their consumption has been postponed
+willy-nilly as the result of the increased rates or the high charges
+which they have had to pay; and, when the subscribers to the original
+loan have been paid off, the capital of the community is enhanced to
+the extent of that loan. Central governments might similarly increase
+the supply of capital by devoting annual revenue to capital purposes;
+though their actual record, as it happens, is mainly of a different
+kind. But what is chiefly a possibility in the case of Governments has
+actually been carried out on an enormous scale by other institutions.
+The development of the joint-stock company system has introduced a new
+factor into the problem of the supply of capital, which is of immense
+though but dimly perceived importance. The directors of a company are
+technically no more than the servants of the shareholders. It is the
+profit of the shareholders that it is the directors' duty to promote
+with a single mind, and the whole capital of the concern, including
+its reserves both open and concealed, is the shareholders' exclusive
+property. But realities have a way of differing from forms, and just
+as in political affairs it is common to regard the State as a very
+different thing to the people who compose it, as a sublime entity with
+a separate existence of its own, so directors are apt to distinguish
+between the company and the shareholders. It is the company to which
+they owe allegiance. To pay away in dividends to shareholders money
+which they could employ in extending the business or strengthening the
+position of the company appears to some directors a necessity hardly
+less unpleasant than an increased wages bill, or an Excess Profits
+Duty. Concessions must indeed be made to the shareholders' rapacity:
+but when something has been done in this direction, dust can easily be
+thrown in their not very observant eyes. Reserves, which within
+limits are a necessity of sound finance, can be accumulated beyond
+those limits, and, when the further limits of an extreme but just
+arguable conservatism have been passed, there remain the innumerable
+devices, known to every resourceful Board, of hidden reserves, the
+secret of which is unmenaced by the meager information of a
+balance-sheet. In all this the shareholder, as the directors
+occasionally assure themselves, has no real grievance, for he will
+gain in the long run, from the appreciation in the capital value of
+his shares, all and perhaps more than all that he foregoes in the
+meantime in the way of dividends.
+
+In the long run the shareholder is not injured; but in the meantime he
+is in effect compelled, without any consciousness of the proceeding,
+to save and to reinvest in the company a portion of the dividends,
+which he might otherwise have spent. The reserves which are
+accumulated are not allowed to lie idle: they are employed either in
+what are really capital extensions of the business, or in the purchase
+of outside securities, and in either case they represent an increase
+in the total supply of capital. The principal which these proceedings
+represent is capable of indefinite extension.
+
+But however possible it might be to secure a supply of capital without
+the inducement of a rate of interest, that rate is indispensable for
+dealing with the demand. It is no good saying, "Three per cent seems
+a fair rate of interest; let us try and limit it to that." Given the
+amount of savings which are supplied, the rate of interest must be
+allowed to reach whatever figure is necessary to confine the demand to
+that amount. Given the quantity of resources which you have available
+for future needs, the meshes of the sieve must be made as narrow as is
+necessary to confine the projects that pass through within those
+limits. And so, indeed, it becomes necessary for any particular
+business to pay for its capital interest at the market rate, not so
+much to secure the saving of it as to secure its allocation from the
+common pool.
+
+
+Sec.10. _Interest and Distribution_. It is unavoidable that this interest
+should accrue to whoever it is that supplies the capital. If the
+capital were supplied, as it might conceivably be, collectively by the
+community, the interest would accrue to the community, and all would
+be well. But as things are, the capital is supplied mainly by the
+savings of individuals, and largely by individuals confined to a
+relatively narrow class. The profits of Capital have thus a vital
+influence on the very serious matter of the distribution of wealth
+between social classes. Now, as experience shows, there is no element
+in profits which is capable of such radical change in so short a space
+of time, as is the rate of interest. Even before the war it had become
+hard for people in Great Britain to realize that 3 per cent Consols
+had stood at 114 as late as 1896. "How blest," wrote two cynical
+satirists of society in the same period:
+
+"How blest the prudent man, the maiden pure,
+Whose income is both ample and secure,
+Arising from Consolidated Three
+Per cent Annuities, paid quarterly."[1]
+
+It is impossible to read those lines now without a sense of irony,
+different from that which they were intended to convey.
+
+Not only is the rate of interest now double what it was a generation
+ago; we have no good reason to suppose that the present high level
+will quickly be reduced. The havoc of the war, of which the
+widespread poverty of Europe and the huge debts of Governments are but
+two different aspects, makes it almost inevitable that the rate should
+rule high in the present decade. This cannot but exercise a profound
+influence, of a most disquieting character on the general level of
+profits, and to a lesser extent (for here we must allow for the
+effects of high taxation) on the distribution of real wealth between
+social classes. Here we are on the threshold of tremendous issues. We
+almost feel the earth quake beneath our feet. We hear the muffled roar
+of far-reaching social controversy:
+
+"And 'mid this tumult Kubla heard from far
+Ancestral voices prophesying war."
+
+[Footnote 1: _Narcissus_, by Samuel Butler and Henry Festing Jones.]
+
+
+
+CHAPTER IX
+
+LABOR
+
+
+Sec.1. _A Retrospect on Laissez-faire_. When, a century and a half ago,
+the foundations were being laid in the Western world of systematic
+economic theory, the public attention was much occupied with a
+subject, which indeed has not ceased to hold it: that of the failings
+of Governments. The general interest in that topic was shared by the
+pioneers of economic thought, of whom, in Great Britain, Adam Smith
+was the most notable. It was indeed their practical concern with the
+concrete economic issues of the day which very naturally gave the
+impetus to their scientific quest. It was hardly less natural that
+they should have expressed their opinions on these concrete issues
+with considerable emphasis.
+
+Now the keynote of their practical conclusions was that Governments
+were doing immense mischief by meddling with a great many matters,
+which they would have done better to leave alone. In this they were in
+general agreement with one another; incidentally--let there be no
+mistake about it--they were right. But, as invariably happens in
+public controversy, their opinions became crystallized in a compact
+formula, or cry, with unduly sweeping implications. This was the cry
+of "_laissez-faire_." Let Governments preserve law and order; and
+leave the economic sphere alone. The economists picked no quarrel with
+this formula; it served well enough for workaday purposes to indicate
+the lines of policy which they rightly thought essential in their day.
+
+The history of this cry is the history of every cry which has won a
+wide acceptance from mankind. It did good work for perhaps half a
+century; but then many crimes were committed in its name. The
+instrument which had been forged to clear away a noxious tariff jungle
+and the monstrous laws of Settlement, was turned against Lord
+Shaftesbury and the Factory Acts. Not only was inaction recommended
+to Governments as the highest wisdom; other institutions, like trade
+unions, were warned off the economic grass. An ideal of perfect
+competition became an idol to which much human flesh and blood were
+sacrificed.
+
+But, what is more to our present purpose, the idea took root of an
+intimate association between the laws of economics and the policy of
+_laissez-faire_. People who opposed some long-overdue measure of State
+regulation believed themselves to be justified by the eternal verities
+of economic law, and this claim even the advocates of the measure
+seldom ventured to dispute. They took refuge rather in a conception of
+economic law as a dangerous monster, whose claws must be clipped in
+the interests of the higher good. This notion that all interference
+with so-called "free competition," is a violation (though very likely
+fully justified) of economic laws has sunk deep into our common
+thought. So that to this day, whenever we see at work the hand of a
+State department, a trust or a trade union, we are apt to say "Demand
+and supply are here in abeyance," and possibly we add "A good thing
+too." Since in the matter of wages, the hand of the trade union is
+very generally evident, it is impossible to discuss the subject-matter
+of this chapter, until we have rid our minds of this quite baseless
+prepossession. To sweep away this cobweb, I urge the reader to recall
+here the general tenor of the analysis of the preceding
+chapters. Whether we were dealing with the price of an ordinary
+commodity, with joint products, land or capital, we came across
+relationships which seemed altogether more fundamental than our
+present industrial system; nor, we may incidentally observe, were we
+ever required to suppose that the present system was one of "perfect
+competition." These relationships were almost invariably such that
+even a world socialist commonwealth would find it necessary to
+maintain them. It was not suggested, and most certainly it must not be
+thought, that a world socialist commonwealth, or even a more modest
+remodeling of the social order would not effect great changes,
+possibly for good, and possibly for ill. The same economic laws might
+be made to bear very different fruits, but they themselves would
+remain unchanged. What is true in all these other fields--this should
+be our predisposition--is not likely to be quite untrue in the field
+of labor.
+
+
+Sec.2. _Ideas and Institutions_. Another point is worth noting here. We
+are sometimes advised to distinguish sharply between "What should be"
+and "What is"; often two very different things. The advice is
+pertinent and useful, particularly in the sphere of sociology. But
+our incorrigible habit of confusing the two things together is not
+without justification, or at least excuse. For, in fact, they
+gravitate towards one another with a force which is just as strong as
+the capacity of man for understanding and controlling his
+environment. When we have a system which is clearly bad, _and_ when we
+see our way to make it better, we generally make the change however
+tardily. Our sense of "What should be" thus reacts upon "What is."
+Meanwhile, until we can make the system better, our appreciation of
+"What is" affects our sense of "What should be." And the more so, as
+we are sensible. For "What should be" is pre-eminently an affair of
+relativity. A man may hold very strongly that equal pay to every
+individual is desirable, as he puts it, as an ideal. But this will not
+prevent him, in a world in which managers are paid far more than
+manual workers, from maintaining hotly (at any rate, if he is
+sensible) that to pay the manager of a particular concern a manual
+worker's wage would be monstrously unfair. He would also argue that it
+would be highly inexpedient. Equity and expediency are, in fact,
+intricately intertwined in our sense of "What should be"; and our
+sense of "What should be" in the particular is governed by our
+knowledge of "What is" in the general.
+
+These may seem unnecessary commonplaces. But they have a vital bearing
+on the _modus operandi_ of economic laws. These laws do not work _in
+vacuo_. They work through the medium of the acts of men. The acts of
+men are greatly influenced by their institutions, and by their ideas
+of right and wrong. Both institutions and ideas may serve to smooth
+rather than obstruct the path of economic laws; because the laws may
+represent either "what should be" in the general, or "what is" in the
+general, and therefore "what should be" in the particular. This may
+hold true even of a trade union or a sense of "fair wages." The
+business of economic theory is not to justify a regime of
+_laissez-faire_, still less to show the folly of bringing morals into
+business. Its value is rather that it may help us, by improving our
+understanding, to shape our institutions, and to adopt our moral
+sentiments so as to promote the public welfare. With these general
+notions in our minds, let us turn to see how stands the case with
+Labor.
+
+
+Sec.3. _The General Wage Level_. The term Labor may be used in a broad or
+in a narrow sense. It may be confined to weekly wage-earners: it may
+be extended to include all those who work, as the phrase goes, "with
+either hand or brain." It is with all classes of Labor, in the
+broadest sense of the term, that we must here concern ourselves. It
+will be convenient, however, in the first instance to ignore the
+differences between them, and to consider the forces which determine
+what we may regard as the general wage-level.
+
+The general laws of supply and demand hold good. The wages of labor
+tend to a level at which the demand is equal to the supply. For, if
+the demand exceeds the supply, if, in other words, labor is scarce,
+wages tend to rise, sooner or later in any case, and the more promptly
+in proportion as the workpeople are organized. Conversely, if the
+supply exceeds the demand, if in other Words there is general
+unemployment, wages tend to fall, and the strongest trade unions
+cannot resist the tendency, though they may delay it. Moreover, the
+higher the wages that must be paid, the smaller, other things being
+equal, is the demand for labor. For, even if we leave foreign
+competition out of account, and consider, as it were, labor throughout
+the world as a whole, the demand for labor is by no means
+inelastic. It is derived along with the demand for the other agents of
+production in the manner described in Chapter V. As was there shown,
+the greater the supply of the other agents of production, the greater
+is likely to be the demand for labor; but these other agents can be
+substituted for labor in a great variety of ways, and an increase in
+wages (unless accompanied by increased efficiency) will make it
+profitable for employers to effect such a substitution, where it was
+not profitable before. Thus, higher wages for the same labor
+efficiency must stimulate the tendency for capital to act as a
+substitute for labor at the expense necessarily (since the aggregate
+supply of capital will not be increased thereby) of its tendency to
+serve as a complement; and this must mean a decrease in the volume of
+employment. Hence the power of labor to secure a general advance of
+wages by concerted or simultaneous trade union action, applied if you
+will, not merely to every industry, but to every country, is
+necessarily very limited. Beyond a certain point, such a policy must
+result in general unemployment; and, if pushed sufficiently far, in
+unemployment so extensive that it would continue even in periods of
+active trade. Such a policy could neither be maintained in practice
+nor would it be a wise policy from the workers' point of view.
+
+In other words, given on the one hand the conditions of the demand for
+labor (i.e. the supply of capital, natural resources, business
+ability, risk-bearing and knowledge of technical processes, etc.,
+which happens to exist), and given on the other hand the supply of
+labor (i.e. both the numbers of workpeople and their efficiency), the
+wage-level in the long run is fairly rigidly determined. The
+introduction of the phrase "in the long run" in this connection is apt
+to provoke comment which may be pertinent, but may be misconceived.
+The worker, it is pointed out, is deeply concerned with "the short
+run" in which he has to live. It is very true; and it is this that
+supplies one of the many justifications of trade unionism. To secure
+for the workers advances of wages, which economic conditions justify,
+sooner than would otherwise have been obtained, is certainly no
+trivial or contemptible function. But it is none the less an illusion
+to suppose that the general wage-level can be appreciably and
+permanently raised by trade union action, except in so far as it
+increases the efficiency of the workers or incidentally stimulates the
+efficiency of the employers.
+
+
+Sec.4. _The Supply of Labor in General_. The efficiency of labor may be
+regarded as affecting either the demand for labor on the one hand or
+the supply of it on the other, according as we look at the matter from
+the worker's or the employer's standpoint. The employer is concerned
+with the labor costs per unit of his output, the worker is concerned
+with the wages he receives. An increase in the efficiency of labor
+may, and usually will, mean both a decrease in labor costs to the
+employer and an increase in the earnings of the worker. It is thus
+wholly to the good. But the effects of an increase in the supply of
+labor in the sense of a growth in the numbers of the population are
+far more dubious. Unaccompanied by an increase in the _demand_ for
+labor, it _must_ result in a diminished remuneration for the
+individual worker. To some extent indeed the demand for labor would
+almost certainly be increased. The supply of Capital may expand,
+perhaps proportionately, perhaps more than proportionately to the
+increase in population. But one factor of production, as we have seen,
+is not capable of such expansion. This is the factor of Land, or
+Natural Resources. It is the limitation of this factor which gives
+rise to what we have most of us heard of as The Law of Diminishing
+Returns. It is this that is the essence of the problem of Population,
+portrayed in somber hues more than a hundred years ago by Malthus.
+
+This problem will form the subject of the sixth volume of the present
+series. In the meantime it may be suggested that we are easily
+credulous if we suppose that the problem has been finally disposed of
+by the peculiar progress of an abnormal century. But that experience
+has at least destroyed the view that there _need be_, or even is in
+fact in Western countries, a relation between real wages and the
+numbers of the people so close and direct that an improved standard of
+living must be temporary only, doomed to destroy itself by the
+increased population it engenders. One may perhaps go further and say
+that it is doubtful even in what direction changes in remuneration
+will influence the aggregate supply of labor. When we pass to "what
+should be," it is plain that there is nothing whatever to be said for
+the sort of relation indicated above. The view once widely held that
+the principle of population must inevitably keep the mass of people
+close to the verge of the bare means of subsistence was no statement
+of a desirable ideal. It was a nightmare; a nightmare none the less
+though it may haunt us yet. It is far from fanciful to suggest that it
+is because this relation is so obviously _not_ "what should be" that
+it may be ceasing to hold true in fact. But it would be very fanciful
+indeed to maintain that as yet "what should be" is represented by the
+actual population. Thus, just as with capital, so with labor, there is
+no reason to suppose that the aggregate supply is determined by any
+fundamental economic law, or corresponds in practice to what is
+socially desirable.
+
+
+Sec.5. _The Apportionment of Labor among Places_. Again, as with capital,
+it is when we turn to the _apportionment_ of labor between different
+employments that both economic law and social ideal make their
+appearance. It will be well, however, to consider briefly in the
+first instance the different question of its apportionment between
+places. This was hardly necessary in the case of capital, because the
+possibilities of foreign investment are very numerous and easy: the
+mobility of capital is thus sufficiently strong (once again it is only
+_marginal_ adjustment that is necessary) to establish over at least a
+large part of the world something near to a uniform rate of
+interest. But this is not the case with labor. People do indeed move
+from place to place within a country, and from one country to another,
+in response to economic opportunities. That even the latter movement
+may be a considerable thing, the present population of the United
+States is a striking testimony. But obviously the mobility is very
+incomplete. Here, then, we have what we might _loosely_ call an
+economic law that labor tends to "flow" (as it is sometimes unhappily
+phrased) to those places where it can command the highest reward; we
+have this tendency in evidence, but it is far too weak to enable us to
+lay down what would deserve more strictly the title of an economic
+law, that in the long run the reward of the same kind of labor is
+roughly equal in all places. Perhaps we can say this for many
+districts in a single country; but for few countries is this true as
+between all their districts. As between countries, it is not remotely
+true.
+
+Here, however, the imperfection of economic law is balanced by an
+extreme uncertainty as to the ideal. Perfect mobility of labor may be
+_economically_ desirable in a very narrow sense of the term; but it
+opens out a vista of racial, national and cultural problems, into
+which it will be better for us not to enter here. We must take for
+granted the population of a country, like that of the world, as a
+given fact.
+
+When we do this, the question of its remuneration is on all fours with
+the more general question discussed above. That the remuneration of
+the labor of a country is mainly governed by the relations between
+demand and supply is an inexorable fact. In view of the international
+mobility of capital, the main distinctive factor in the demand for the
+labor of a particular country is the supply of natural resources,
+which it knows how to use. Where the natural resources are great
+relatively to the population, there wages will rule high; where the
+converse is true, wages will rule low. This result of economic
+analysis is abundantly confirmed by experience. The relatively high
+wages in the new world, the low standard of living in the densely
+populated East; the economic history of Ireland are so many
+object-lessons of its truth.
+
+
+Sec.6. _The Apportionment of Labor among Social Grades_. The question of
+the apportionment of the labor of a country among different
+employments falls under two heads. Some differences of occupation are
+associated particularly in Great Britain with differences of what we
+know as class. The movement of labor between different social grades
+is clearly a very different thing from its movement between different
+occupations in the same grade. The grades themselves are not easy to
+define: not a little ingenuity has been expended on the attempt, and
+perhaps the best brief classification that has been put forward is one
+which divides labor into the following four grades:--
+
+(1) Automatic manual labor.
+(2) Responsible manual labor.
+(3) Automatic brain workers.
+(4) Responsible brain workers.
+
+But the matter is one perhaps for the satirist of manners rather than
+the economist. It suffices for our purpose that the distinctions,
+however vague, are very real.
+
+It is obvious the mobility of labor between the occupations of a
+platelayer and a barrister is not very great. It may seem perhaps to
+be even smaller than it is. For here it is important to bear in mind a
+general consideration which is equally applicable to horizontal
+movements within any social grade. There may be a considerable
+movement of labor between different employments without any individual
+worker having to change his occupation. The personnel of any industry
+is constantly changing. At one end, men die, retire, or are pensioned
+off; at the other end, young recruits are taken on. By a diversion of
+the new recruits from one employment to another, a radical change can
+be made in the occupational census in a comparatively short space of
+time. It is in this manner that such movement as takes place is
+largely effected at the present time. Within the ranks of the
+professional classes, a man does not commonly leave the profession to
+which he has been trained. But his _choice_ of profession is
+determined by him or his parents not solely on pecuniary grounds but
+usually with an anxious scanning of the general prospects, which
+include pecuniary advantages together with many other things. The same
+thing is true in no small measure of manual wage-earners. This general
+consideration must be borne in mind throughout the remainder of this
+chapter.
+
+But even the sons of platelayers do not commonly practise at the
+bar. The obstacles in the way are various and subtle. Many of them are
+ideas, inherited from a bygone epoch, about keeping other people "in
+their proper stations," which the whole drift of circumstance, and the
+spirit of the age are rapidly wearing down. In the new world such
+obstacles are rare. But an obstacle of a more tangible and formidable
+kind arises from the fact that the liberal professions and many
+business careers require a long and expensive education and training,
+which the platelayer is quite unable to afford to give his son.
+
+Now this expense of training is highly relevant not only to "what is,"
+but to "what should be." It includes, it should be observed, a
+negative as well as a positive element; a long period of waiting
+before income begins, as well as the actual outlay on educational and
+other charges. When the burden both of the waiting and the positive
+costs must be borne either by the individual or the family, there are
+few people who would seriously dispute that this goes to justify, on
+grounds of fairness as well as of expediency, a higher level of annual
+remuneration later on; though many people would doubtless argue that
+the amenities and dignities of the professions should be taken into
+account on the other side. But the same consideration makes it a
+matter of legitimate doubt whether it would be desirable, even as an
+ideal, that the community should provide so completely the costs of
+training and of maintenance in the waiting period, as to make it no
+longer "fair" that the individual should be remunerated more highly
+than workers in less expensive occupations. For this would mean that
+more labor would be absorbed in the former employments than in
+principle would be socially desirable, for reasons which the argument
+of the next chapter will make plain. But the most desirable number of
+doctors, barristers, teachers, etc., is not a thing which can be
+settled on purely economic grounds, and it is unprofitable to carry
+further this particular line of thought. Few people would advocate, as
+an ultimate ideal, that the remuneration of the professional grades of
+labor should exceed that of lower grades by _more_ than the extra
+expense of training and waiting they involve. That the excess is
+usually greater than this at the present time seems very probable:
+though it is a matter on which it is very hard to generalize. But it
+would certainly be far greater than it is if the principle of
+_laissez-faire_ ruled supreme in these affairs. Fortunately it does
+not, and has never done so. Even before the days of free elementary
+education, the endowment of education was not unknown. The ancient
+public schools and universities, which have come down to us from the
+Middle Ages, are a standing witness to what in this field a far poorer
+community thought fit to do. Their systems of scholarships and
+exhibitions, no less than their courts and towers, deserve our
+notice. For these were designed to form what we now call "a ladder" by
+which talent could climb from the humblest origins to the callings
+which then seemed the summit either of spiritual or of worldly
+ambition.
+
+This reference to "talent" makes it well to consider here a factor
+which necessarily complicates, though it does not substantially
+affect, the whole argument of the present chapter. There are
+differences of natural ability, which no education or training can
+obliterate, which it should rather be their business to excite. These
+differences are associated to a great extent with differences of
+occupation; they _should be_ so associated far more closely than in
+fact they are. They are also associated with differences of
+remuneration even within the same occupation; "what should be" here is
+a question which we may excuse ourselves from discussing. The
+principle which, however vague, is sufficient for our present purpose
+is that the same _natural ability_ should command the same reward in
+all occupations, subject to differences which should not exceed the
+differences of educational cost and initial waiting they involve. We
+cannot assert, as an economic law, that this is generally true in
+fact. If ever it becomes true, it will be due not to
+"_laissez-faire_," or "free competition," but to social arrangements,
+which express a sense of what is right.
+
+
+Sec.7. _The Apportionment of Labor among Occupations_. When we pass to
+the apportionment of labor among different occupations in the same
+social grade, the same principle as to "what should be" applies in a
+simpler form. Equal natural ability should command an equal reward in
+all occupations; assuming that differences in cost of training can be
+ignored. The reward must, of course, be interpreted not in terms of
+money only but of "real wages," with allowance for the varying
+amenities of different tasks. Now it was here that the extreme
+advocates of _laissez-faire_ made one of their cardinal mistakes. They
+assumed that this ideal would be best secured by "perfect
+competition." The employer would choose the worker who would come for
+the lowest wage; the worker would choose the employer who would pay
+him the highest wage; and so, by a process similar to the higgling of
+a commodity market, the desirable uniform wage-level would become
+established. But in fact the conditions of the labor market differ
+greatly from those of a commodity market. People are ignorant, do not
+look ahead, cannot afford to risk the loss of a job, however wretched,
+which they happen to have got. For reasons such as these, a
+considerable departure from _laissez-faire_ is necessary in order to
+realize the theoretical results of _laissez-faire_. To prevent the
+putting of boys in large numbers into "blind alley" occupations, you
+must supplement the foresight of parents with Juvenile Employment
+Exchanges and After-Care Committees. To secure a proper uniformity of
+wages within the same occupation, you must have trade unions. To
+secure a proper uniformity between different occupations, you must
+have again trade unions, or, failing them, Trade Boards.
+
+That the actions of trade unions are very largely of this type is a
+fact insufficiently appreciated by the middle-class public. The
+elaborate system of piece-rate lists which has been evolved in the
+Lancashire cotton industry is primarily designed to secure the same
+wage for workers of equal efficiency in all mills, irrespective of the
+degree to which the machinery is antiquated or up to date. This result
+is wholly to the good: not only does it secure "fairness" for the
+worker, it stimulates the employer wonderfully to efficiency. The same
+result could never be secured so effectively by the free play of
+competition. But this tendency, which is easily the predominant
+element in the trade union regulations of the cotton trade, is at
+least an important element in the policy of "The Common Rule" of all
+trade unions, though it may often be mixed up with the more
+questionable tendency to eliminate differences of pay for differences
+of natural ability, and the unquestionably bad tendency to discourage
+output. As between different occupations, the insistence of a trade
+union that wages must be leveled up towards the wages obtaining in
+similar trades acts again as a far more powerful force than
+competition.
+
+But the actions of trade unions are by no means wholly of this
+type. They often serve rather to secure still higher wages for workers
+who, comparatively speaking, are already highly paid. It makes little
+difference whether this effect is secured directly by wage demands, or
+indirectly by restricting the right of the entry to the trade. In
+either case the consequences are the same, and there should be no
+ambiguity as to their nature. They are certainly bad for the
+community, certainly bad for the _other_ workers of the grade, almost
+certainly bad for the workers of the grade regarded as a whole. The
+higher wages must raise the money costs of production, and result,
+sooner or later, in fewer workpeople being employed in that
+occupation; larger numbers must accordingly seek employment elsewhere;
+and this cannot but depress the wage rates of less strongly organized
+trades. Thus the effect is twofold: a larger proportion of workpeople
+will be employed in badly paid occupations; and the wages there will
+be lessened.
+
+The power of a strong trade union to secure wage advances of this type
+is considerable, but it must not be exaggerated. Trade unions employ
+as a matter of course devices which, in the case of trusts, we regard
+as the extremest weapons of monopoly. To say, "If you buy from anyone
+except us, you must not buy at a lower price than ours," which
+Messrs. J. & P. Coats are represented as having done, is analogous to
+insisting that if non-unionists are employed, it shall be at the trade
+union rate, as every trade union very properly insists. To say, "You
+must buy _only_ from us," the method of the boycott, as it is called,
+is analogous to the very common refusal to work with non-unionists at
+all. But in one important respect the tactical position of a trade
+union is weaker than that of an ordinary combination. It has usually
+got a buyers' combination up against it, in the shape of an
+association of employers. The latter will be governed in their
+attitude towards the workpeople's demands, not only by immediate
+expediency, but also by their own sense of "what should be"; and they
+will usually resist demands for wages greatly in excess of those
+obtaining in comparable trades. In this way, the tendency for workers
+of the same efficiency to receive the same real wages in all
+employments is far stronger than might at first sight appear.
+
+If we had to rely for this result upon trade unions alone, it would be
+highly problematical. For here a psychological curiosity emerges,
+which, familiar and intelligible as it is, is none the less a
+curiosity. So far from still higher wages for well-paid workpeople
+being regarded in the world of manual labor as detrimental to the
+interests of other workpeople, it has become almost a point of honor
+to believe the contrary. A wage dispute in a particular trade is
+conceived as an engagement in a far-flung battle between Capital and
+Labor, in which success at any part of the line will facilitate the
+victory of the whole army. This conception contains a measure of
+truth, as regards immediate and purely temporary effects; though, even
+here, it is made to seem unduly plausible by the recurrence of trade
+cycles, which cause wages at any time to move in the same direction
+all along the line. But, if the foregoing analysis has been
+appreciated, the essential falsity of this notion should be evident.
+It is an illusion, which should receive no endorsement, either tacit
+or express, in any work on economics. The general wage level of a
+country cannot be regarded (except temporarily, and within narrow
+limits) as a function of the efficiency of labor organization; it
+depends on the far deeper economic facts set out in Sec.3 above.
+
+Let us now try to summarize the conclusions of this section. There
+_is_ a tendency towards a uniformity of real wages for workers of the
+same grade and of the same efficiency. This tendency is not due to
+competition alone. It is helped by many acts of a collective kind,
+arising from a sense of "what should be"; it is obstructed by other
+acts of a like kind, where the sense of "what should be" is based on
+imperfect understanding. The more people act in accordance with "what
+should be," and the better their understanding, the more will this
+tendency approximate to an accurate economic law.
+
+
+Sec.8. _Women's Wages_. The wages of women represent a problem of great
+public interest, upon which the principles laid down in this chapter
+have a most important bearing, and which in its turn serves to
+illustrate these principles further. It has been suggested that male
+and female labor can be regarded as a strong case of Joint Supply, and
+the suggestion is not merely facetious. The essential point, that the
+proportions of available male and female labor are fairly constant
+(not that they may not alter with time and circumstances, but that
+they are essentially independent of the conditions of demand) holds
+true not only of a country as a whole, but hardly less of a particular
+district. If men and women are to be regarded as separate grades, they
+are grades between which immobility is complete. Now men and women
+differ in many ways which affect both the demand for and the supply of
+their services. On the one hand, far fewer women wish to enter
+business employments of any kind, as women have plenty of work that
+must be done at home. On the other hand, though women can do many
+kinds of work as well as or better than men, it so happens that for
+much the greater number of services, which are in large demand in the
+business world, men are the more efficient. Incidentally, it happens
+that many occupations which women _might_ do as well as men are closed
+to them by exclusive regulations. The resultant of these forces is
+that men and women are for the most part employed in different
+occupations, and the scale of payment in women's occupations is far
+lower than that in men's. Of this last fact singularly small
+complaint is made.
+
+It is otherwise, however, when we come to occupations where men are
+either wholly or partially employed, where women are at least
+approximately as efficient as men, and where the barriers to their
+entry are at least formally removed. There a ferocious controversy
+rages over what is known as the principle of "equal pay for equal
+work." It is easy to understand why the male trade unionists in, let
+us say, the engineering trades, should support this claim. It is also,
+indeed, _intelligible_ why the enthusiasts for Women's Rights should
+urge it; but it is much more doubtful whether they are wise. Possibly
+they are wise enough in their generation, since it might not serve
+them on this matter to get across the men. But it is clearly not
+prudential considerations of this kind by which they are mainly
+actuated. They make the demand, with extreme intensity of feeling, as
+a demand for fundamental justice. They are also very obviously
+inspired with the belief (similar to the illusion which is a point of
+honor with the male trade unionist) that high wages for women in
+well-paid occupations will help to raise the wages of sweated women
+workers in other trades.
+
+Now, here again, any lack of candor would be inexcusable. The effect
+of this policy on the wages in women's trades is certainly to reduce
+them. The policy serves, as powerfully as any trade union custom, to
+restrict the entry of women into the men's employments, and often
+spells virtual exclusion. For the "equal efficiency" may be
+approximate only, and there may be advantages in male labor from the
+employer's standpoint which are none the less important, because they
+are not easy to define. Moreover, from the employer's standpoint, the
+efficacy of female labor will be largely a matter for _experiment_,
+and "equal pay" will give him no inducement to experiment at all. The
+diminished number of women in these occupations (as compared with what
+might have been) increases the number who must fall back on the purely
+women's trades; and it _must_ serve to reduce the wages there, where
+organization is by no means strong. I am far from asserting that this
+consideration is conclusive against the principle of "equal pay for
+equal work" (though I think it conclusive against a rigid
+interpretation of it); for other matters, such as the standpoint of
+the male trade unionist must be taken into account. But the reactions
+on the wages in women's trades permit of no ambiguity.
+
+In occupations of another type, the issue takes a somewhat different
+form. In the teaching profession, "equal pay" would not exclude the
+women; it would be far more likely to exclude the men. For, though the
+advocates of the principle would declare that their intention is that
+the salaries of women should be leveled up to those of men, it is more
+probable that the ultimate outcome would be a leveling down.
+Educational authorities have the ratepayer and the taxpayer to
+consider; and, apart from this, they have their own interpretation of
+"what should be." To pay a woman less than a man for the same work may
+seem glaringly unfair; but it is not very clear why a woman, who is an
+elementary school teacher, should be paid much more than, say, a
+hospital nurse, merely because in the former case a number of men
+happen also to be employed. In fact, there is a clashing of equities
+in this connection; and there is little doubt which of them the
+educational authorities would prefer. A leveling down of the men's
+salaries would make it all but impossible to attract men of the
+desired type into the profession, and would thus lead to the virtual
+extinction of the male elementary school teacher. This might seem in a
+narrow sense to be economically desirable. Why should not men take
+their services to the tasks for which they can command a higher
+reward, and which women cannot do as well? But whether this would be
+desirable in the true interests of education is a far more doubtful
+matter. And this is the real problem of "equal pay for equal work" for
+male and female school teachers. The reader will notice that I have
+refrained from alluding to the controversy as to whether men should
+receive more on the grounds that they have wives and families to
+maintain. That, although a most absorbing issue, is not the real issue
+in practice at the present time. The real issue is a clashing between
+a sense of "what should be" on obvious general grounds and a sense of
+"what should be" in the particular, derived from the very patent and
+general "what is" that men receive as a rule far higher pay than
+women.
+
+
+
+CHAPTER X
+
+THE REAL COSTS OF PRODUCTION
+
+
+Sec.1. _Comparative Costs_. Beneath the great diversity of the
+considerations which are applicable to the different agents of
+production, certain general conclusions emerge from the analysis of
+the last four chapters. In no case did we find that the aggregate
+supply of the agent was determined by clear and certain economic laws,
+possessing any fundamental significance. The supply of natural
+resources is a fixed thing, quite independent of the efforts or the
+desires of man. However the supply of capital and the supply of labor
+may react under present conditions towards economic stimuli, these
+reactions possess no quality of inevitability and bear no clear
+relation to "what should be." The supply of risk-bearing responds
+perhaps more decidedly to the prospects of increased reward; but it is
+so intimately associated with special knowledge and the qualities of
+business enterprise, as to leave some uncertainty attaching even to
+this conclusion. When, on the other hand, we turn to the
+apportionment of these factors among different uses, we find relations
+which are both clear and fundamental. Laws emerge which state at once
+not only "what is" or at least "what tends to be," but also "what
+should be"; and it is the fact that they taste "what should be" that
+gives them their fundamental character.
+
+These conclusions enable us to give a general answer to the question
+which was raised at the end of Chapter V: What are the ultimate real
+costs to which the money cost of production correspond? The attempt
+has often been made to relate money costs to such things as the effort
+of working and the sacrifice of waiting. The existence of such costs
+is beyond dispute. Much saving does mean a sacrifice of immediate
+enjoyment to the man who saves. Most labor is irksome and disagreeable
+in itself, and involves strain and wear and tear; while all labor
+means a deprivation of the utility of leisure. Workpeople, moreover,
+do not grow on gooseberry bushes, but must be fed and clothed from the
+cradle; and their rearing and maintenance represents a real cost which
+someone must incur.
+
+But the existence (or the importance) of such costs is one thing,
+their relation to money costs is another. In Chapter VIII we saw how
+difficult it was to establish any clear relation between the rate of
+interest and the sacrifice of saving. The costs of labor present
+similar difficulties. The relative irksomeness of two occupations may
+affect the relative wages which will rule in the two cases; so,
+certainly, will the differences in the cost of education and training
+which they require. But these are matters which concern the
+_apportionment_ of labor between different employments. There is no
+good reason to suppose that the general wage-level would be reduced,
+merely because work as a whole became less irksome, or involved a
+smaller physical or mental strain. The supply of people is not
+determined by the same kind of influences as is the supply of a
+commodity. Parents do not produce children for the sake of the wages
+which the children will receive when they go out to work; or, if this
+happens, we rightly regard it as a horrible anomaly. In so far as
+parents are affected by economic conditions it is by their own
+economic conditions; the question is rather one of how many children
+they can afford to have, than of a balancing of the cost to them
+against the incomes which their children may subsequently acquire. But
+other considerations enter in; and, in fact, it is doubtful how the
+aggregate supply of labor will react to changes in prosperity.
+Finally, the supply of land involves neither effort nor sacrifice;
+and, among our money costs, we have to account for the item
+of the rent of land. To dispose of this difficulty by arguing that
+rent does not enter into marginal costs (in any sense which is not
+equally true of wages and profits) is to lose contact with
+reality. Thus the attempt to explain money costs in terms of the costs
+of producing the ultimate agents of production leads us into a
+quagmire of unreality and dubious hypothesis. For a systematic theory,
+which will rest on firm foundations, we must interpret money costs in
+very different terms.
+
+The real costs which the price of a commodity measures are not
+absolute, but comparative. Marginal money costs reduce themselves in
+the last analysis to the payments which must be made to secure the use
+of the requisite agents of productions. These payments _tend_ to equal
+the payments which the same agents could have commanded in alternative
+employments. The payments which they could have commanded in
+alternative employments, tend in their turn to equal the derived
+marginal utilities of their services in those employments. It is thus
+the loss of _Utility_ which arises from the fact that these agents of
+production are not available for alternative employments that is
+measured by the money costs of a commodity at the margin of
+production.
+
+This conception of ultimate costs encounters an instinctive
+repugnance, arising from a mistaken sense of logical symmetry, which
+it will be well to examine. Cost, it is objected, so interpreted
+loses its character as an independent entity. It is merely something
+derived from utility. Now in the earlier chapters of this volume, we
+found reason to be impressed with the general symmetry which pervades
+the relations of demand and supply. Moreover, when we considered the
+case of ordinary commodities we found that at the back of demand and
+giving rise to it was utility; at the back of supply, and limiting it,
+was cost. The general symmetry between demand and supply thus seemed
+almost to imply a fundamental symmetry between utility and cost. If,
+then, cost in the last analysis is derived from utility, does not this
+make nonsense of the symmetry between demand and supply, or, if we
+cling to this last symmetry as a demonstrable truth, must we not
+refuse to admit that cost can be derived from utility?
+
+This is one of those false dilemmas which supply the wiseacres of the
+world with a plausible case for distrusting the logical faculty. If we
+have good reason for believing that both of two apparently
+inconsistent things are true, the explanation is seldom that one of
+them is really false; it is more usually that they are not really
+inconsistent. So it is here. The symmetry between demand and supply is
+very great, and we should always look to see if it holds good, but it
+is by no means perfect, and it is in the last analysis that it most
+notably fails. It is most important to distinguish clearly between the
+utility and the cost of a commodity as two separate and independent
+things. In Chapter V, it will be remembered, we did not permit
+ourselves to derive the costs of producing cotton lint from the
+utility of cotton-seed. The refusal to do so was essential to clear
+thought; it led to some very useful practical corollaries. But to
+derive the cost of a commodity from the utility of something which is
+produced _with_ it, as part of the same productive process; and to
+derive the cost from the utilities which the agents, which help to
+produce it, possess for other purposes, are two entirely different
+things. In works on International Trade, the reader will discover that
+the comparative nature of real costs is so unmistakable that a
+Doctrine of Comparative Costs is expounded with much formality at the
+outset. This doctrine is apt to prove somewhat puzzling, when we have
+to deal with it as an apparent exception to the general tenor of
+economic theory. Its difficulties disappear when we realize clearly
+that the real cost of _anything_ is the curtailment of the supply of
+other useful things, which the production of that particular thing
+entails.
+
+
+Sec.2. _The Allocation of Resources_. However strange the above
+conception may seem, there should be no doubt that this cost is very
+"real." Here the irregularities and maladjustments of the economic
+world, the recurrence of trade depressions and the like, do much to
+obscure a clear vision of the essential realities. At a time when
+there is much unemployment, and much machinery standing idle, it is so
+clear to common sense that we _could_ produce more of some particular
+thing without diminishing the supply of other things, that any
+apparent statement to the contrary may perhaps seem the height of
+academic pedantry. But let me ask the reader to consider with an open
+mind a familiar parallel. During the recent war there was inevitably
+much waste and muddle in the utilization of the military resources of
+the Allies. Some regiments would be kept inactive for long periods,
+not for purposes of rest or training, but owing to some defect of
+organization. In the manufacture of munitions, an insufficient
+appreciation of the principles of joint demand led to the piling up of
+excessive stores of certain materials, which were useless until
+commensurate supplies of the complementary factors could be
+obtained. It is unnecessary to multiply examples. The waste of both
+man-power and material was immense. But the allocation of these
+resources between, for instance, the various theaters of war was none
+the less a very real problem, which gave rise to much engrossing
+controversy. It was an axiom that the more resources you employed in
+Mesopotamia or in Palestine, the less resources remained available for
+France. No one thought of maintaining that, as long as there was any
+waste of these resources, so long as there remained any men to be
+"combed out" of unessential industries, you could pour troops and
+munitions into Salonika without stopping to consider the needs of
+other theaters of war. Such a notion would have been clearly imbecile,
+for the sufficient reason that the sending of armies to Salonika would
+do nothing in itself to secure (however much it might incidentally
+stimulate) the more efficient use of the resources which remained.
+
+Now this is precisely analogous to the problem of the allocation of
+our resources for the purpose of peace. Notwithstanding all the
+wastes and maladjustments of the economic system, the use of resources
+to produce one commodity _does_ in general curtail the production of
+others. The mere launching of a new business enterprise does no more
+than the sending of an army to Salonika, to eliminate waste in the
+remainder of the economic organism. Unemployment, broadly speaking, is
+a function not of the magnitude of the normal demand for labor (which
+affects rather the wage-level), but of fluctuations in the demand for
+labor; fluctuations from one day to another as at the docks, from one
+season to another as in the building trades, above all from one period
+of years to another as in the cycles of general trade boom and
+depression. Nothing will diminish unemployment which does not serve to
+diminish these fluctuations. A new business will not, as a rule, have
+any such effect. If it is launched during a trade depression (a most
+unusual proceeding), it may temporarily absorb unemployed labor and
+idle materials. But when the next boom comes, it will be using, though
+presumably to greater advantage, labor and materials which, but for
+it, would have been employed for other purposes. Meanwhile the causes
+making for unemployment will be unaffected. Miscalculations will
+still be made, the building trades will still become slack in the
+winter, the casual methods of engaging dock laborers will still
+continue, trade cycles will still recur, while beneath them, and
+concealed by them, some industries will expand and others will decay.
+Thus, like the armies at Salonika, the new business would in effect
+divert resources from elsewhere.
+
+This truth needs to be firmly grasped in mind. It is this that makes
+it in general unsound policy to subsidize industries, either directly
+or indirectly, by means of a protective tariff. It is this, indeed,
+that supplies the answer to half the economic fallacies that are
+always current.
+
+The allocation of resources so as to yield the maximum effect was
+rightly recognized as one of the most vital and difficult of our
+war-time problems. To cope with it, the Allied peoples devised one
+instrument after another, and finally evolved the Supreme Allied
+Council. The analogous problem in the economic world of peace time is
+no less important and far more difficult; but there is nothing to
+correspond to the Supreme Allied Council. There we rely upon a
+co-operation which, as was stressed in Chapter I, is unco-ordinated.
+That co-operation has been evolved by the mutual competition
+of innumerable business concerns, controlled by men largely
+animated by the motive of pecuniary profit. But it has not
+been evolved wholly by such means: and how far that competition or
+that motive of profit is essential to its efficiency are questions
+with which this volume has not been in any way concerned. The economic
+laws, the relations between utility, and price and cost, with which it
+has been occupied, are an entirely different matter; and these _are_
+essential to the efficiency of any system of society. For if the
+marginal utility of a commodity is equal to its marginal cost, and if
+this marginal cost is composed of payments to the various agents of
+production at least as great as they could have obtained if they had
+been used otherwise, this amounts to saying that the agents of
+production are so utilized as to yield the maximum utility; and this
+is the same thing as saying that they are so utilized as to produce
+the maximum wealth.
+
+
+Sec.3. _Utility and Wealth_. Upon this last point it is important to be
+quite clear. An increase in wealth seems a solid, tangible reality;
+something, which, however much we may scorn it in our more precious
+moods, we recognize, for a rather poor community, to be an important
+object of endeavor. But an increase in utility seems a vague,
+impalpable notion, hardly deserving the same practical concern. None
+the less the two things are identical. We greatly deceive ourselves if
+we suppose wealth to be an objective reality. It is true that, when
+we get behind the money in which it is measured, we come upon
+commodities, like food and clothes and houses and factories, which
+seem comfortably solid and objective things; but we also come upon
+many services, like those of gardeners and doctors and hospital
+nurses, which we are bound to reckon as part of our wealth, although
+they are not embodied in any tangible commodities. Moreover, although
+material commodities are objective realities in themselves, and in
+many of their properties, they are _not_ objective realities in their
+property as wealth. A pair of boots is an objective fact; so is the
+number of pairs in existence at any time, so is their size, their
+weight, the quantity of leather or of paper which they happen to
+contain. But the wealth which those boots represent is not an
+objective fact. It depends upon the opinion which men and women
+entertain as to their utility; and these opinions take us into the
+subjective regions of human psychology. Let us suppose, for instance,
+that we calculated, on the basis of present prices, that the boots in
+existence at the present time represented 1/1000 part of our total
+wealth. Suppose, then, that a miracle were to happen; that the skies
+opened and rained boots upon us, of every size and shape and pattern,
+until we had 1000 times as many boots as we had before. Could we say
+that our total real wealth had been doubled? Clearly we could not. To
+obtain boots for nothing, and to wear a new pair every week, would
+make us somewhat better off, but not twice as well off as we were
+previously. In other words, the real wealth of a thousand times as
+many boots as we have now, is not a thousand times as great as the
+wealth of the present number of boots. We are, indeed, practically
+restating the Law of Diminishing Utility; and this perhaps is enough
+to show that wealth is fundamentally the same thing as utility.
+
+Another point, however, is worth noting. Our real wealth would be
+somewhat increased in the case supposed; but if we were to turn to the
+money measure of wealth, the opposite result would be far more likely,
+For the price of boots would most likely fall to nothing, and the
+total value of boots, in the commercial sense, would accordingly be
+nothing also. This shows that money values may be a most imperfect
+measure of aggregate wealth; for what money values represent is the
+product of the quantity of the commodity and its _marginal_ utility,
+while aggregate wealth is _total_ utility, which is a very different
+thing. This, it may be observed, makes all attempts to compare the
+wealth of different countries or different times, and no less to
+construct Index Numbers of Prices, imperfect of necessity, and
+arbitrary in their foundations.
+
+
+Sec.4. _Criteria of Policy_. The point has now been reached at which we
+must take into account the very important fact which was mentioned at
+the close of Chapter III. The maximum utility which the laws of
+supply and demand tend to bring about is a maximum _total_ utility
+indeed, but one still measured in terms of money. An unequal
+distribution of wealth destroys any necessary correspondence between
+that and the maximum _real_ utility. This consideration, however, does
+not affect the general validity of the conclusion that the laws of
+supply and demand represent what is socially desirable now or under
+any system. For what is at fault here is the distribution of wealth;
+and it is that which should be changed, in so far as it is possible to
+do so. Now it is important to realize that whenever it is possible to
+supply a commodity to poor people below cost price, it is possible to
+alter the distribution of wealth, for that in effect is what is
+done. Purchasing power, which may be taken from richer people by
+taxation, or which may be obtained from "collective" profits on other
+trading, is in effect transferred to the poor people in question,
+though the transference is coupled with the condition that the
+purchasing power must be expended in a particular way. It is _in
+general_ desirable that the transference should be made without this
+condition being attached. To this general statement, exceptions indeed
+exist so numerous and important as possibly to justify a great
+extension of social expenditure of this type. Education should
+certainly be provided free of charge, there are strong arguments for
+subsidizing housing; the provision of milk to expectant mothers, the
+feeding of school children, such instances can be multiplied into a
+very extensive list. But it is important to observe that in each case
+the justification of the policy rests in the presumption that the
+service supplied is one which it is particularly important that the
+beneficiaries should have, _as compared with_ the other things upon
+which they might have preferred to expend the equivalent purchasing
+power, had it been transferred to them without conditions. Where there
+is no such presumption, as surely there is none in the case of the
+great bulk of commodities, the relation between price and marginal
+cost should be rigidly maintained; it is the distribution of
+purchasing power which we should rather seek to alter. How far is it
+possible to alter that?
+
+I suppose that it is inevitable that many readers will have concluded
+that the preceding chapters must be taken to mean that the
+distribution of wealth is not susceptible of any appreciable change. I
+would remind those readers of an important distinction upon which
+impatient people have sometimes based a complaint against
+economists. The economist, it is said, analyses with great pomp and
+ceremony the laws governing the distribution of wealth among the
+agents of production, but says practically nothing about the
+distribution between individuals and classes, which is the only thing
+of any real interest to practical people. Now the economist
+concentrates on the agents of production for the very good reason that
+it is only with respect to them that any clear and certain laws as to
+distribution can be laid down. Into the distribution between
+individuals and classes there enter other and variable factors,
+governed by no fundamental economic law; and _here_, the conclusion
+should at once suggest itself, is the field for action designed to
+alter the distribution of wealth. What is possible or desirable in
+this field, it is again not the purpose of this volume to discuss. It
+is an obvious, even if not a very helpful conclusion that an increase
+in the habit of saving among weekly wage-earners might, without
+appreciably affecting the distribution between Capital and Labor,
+greatly modify the resulting distribution between social classes. But
+questions as to how far it might be possible or justifiable to achieve
+a similar result by the use of the weapon of taxation, by changes in
+inheritance laws, or by the public ownership of industry take us into
+a far more uncertain and controversial sphere. The difficulties and
+objections which present themselves are familiar and formidable; but
+they are of quite a different order from the economic laws which we
+have been examining. The laws themselves do not entitle us to make any
+dogmatic pronouncement upon these large issues of social policy.
+
+But this is not to deprive these laws of practical importance. They
+represent essential criteria of sound policy in the sphere of social
+reorganization no less than in ordinary business. In our days a
+curious obsession has led many people to disparage these criteria, as
+though they were the sordid prejudices of a stupid tradesman. Because
+it has been found a matter of obvious practical convenience to
+maintain the roads out of taxation or of rates, and to dispense with
+charges for their use, it is suggested that the same principle should
+be applied to the railways. Or, more commonly, because it has been
+found convenient to make the same charge for the carrying of letters
+between Land's End and John o' Groats as between Hampstead and
+Highgate, it is suggested that _this_ principle should be applied to
+railway rates and fares. It may be well, therefore, to point out that
+the justification of uniform postal charges rests upon the facts: (1)
+that the costs of collection, sorting, etc., are so large a part of
+the costs of carrying a letter, that the real cost between John o'
+Groats and Land's End does not differ from that between Hampstead and
+Highgate by as much as might at first sight appear, (2) that the
+charges in any case are very small; so that (3) the avoidance of the
+small degree of taxes and bounties which the present system implies is
+not worth the book-keeping expenses which differential charges would
+involve. It should be obvious that these considerations apply to the
+railways with a greatly diminished force. They might possibly justify
+what is known as the "zone" system of charges, i.e. uniform rates
+within certain narrow areas. But the notion of uniform rates
+throughout Great Britain conjures up a vision of trains taking coal
+from South Wales to Scotland, and others taking coal from Scotland to
+South Wales, in accordance with the slightest preferences of the
+consumers, and without regard to the extra real cost involved, on a
+scale to which the "wastes of competition" afford no parallel. It
+would in fact achieve the essential folly of "sending coals to
+Newcastle." These considerations, however, are not what interest the
+advocates of the postal principle. They seem to recommend the
+obliteration or the confusion of the relations between price and cost
+as a superior ideal. It is important to be clear what exactly this
+ideal involves.
+
+It involves, in the first place, as the whole argument of this volume
+has gone to show, a less economical employment of our productive
+resources; they would be diverted to ends of less utility, and so
+produce less real wealth. But this is not the worst. There is plenty
+of waste and maladjustment in our economic system at the present
+time. The desirable relation of price to marginal cost is but
+imperfectly attained. The further departures from this relation, which
+would follow from any likely applications of the postal principle,
+might not matter in themselves so very much. What is far more serious
+is that the criteria of efficiency would become blunted, and the clear
+aims of management would be confused in fog. It is essential that
+every manager should be on the alert to eliminate waste and to improve
+efficiency, that he should be always trying to secure the best
+results; but how can he do this if he has no simple means of
+_measuring_ what results are good and what are bad? The measure which
+he has at present is that of price, cost and the resultant profit, and
+it would be fatal to take that away, unless an equally simple and more
+accurate measure could be substituted for it.
+
+This is not a question, it should be observed, of motive or
+incentive. Very likely we much exaggerate the importance of the profit
+motive. It may be true that men would work, perhaps that they already
+work in fact, as zealously for a fixed salary, as for personal
+gain. But aim and motive are two somewhat different things, and the
+_aim_ of profit, is, and will remain, essential to the efficient
+conduct of business. In a game the players are not animated by the
+motive of scoring runs or points, but they aim at them; and the zest
+disappears very speedily from the game, if that aim ceases to be of
+interest. Moreover, while a scoring system is always a somewhat
+arbitrary thing, measuring imperfectly the true merits of the play, if
+it measures them with the roughest accuracy, we prefer the issue of
+our games to be decided so, rather than by the decisions of an
+impartial judge, who can take into account the finest points of
+skill. So it is in the world of business. The scoring-board of profits
+may be an imperfect one; let us, by all means, where we can, alter the
+rules of the game so as to make it better. But let us not imagine that
+it displays a finer insight or a superior intellect to speak as though
+the scoring-board could be dispensed with, and the test of profit and
+loss treated as irrelevant. Quantitative measurement is essential to
+efficiency. Let us be careful to remember all that this implies.
+
+
+INDEX
+
+
+Ability
+Accountancy
+Allocation of resources
+Ambiguities
+Australasia
+
+Bastiat, Frederic
+Beef and hides
+Borrowing and lending, system of
+Business efficiency
+Business man as a purchaser
+Business risk
+
+Capital;
+  as representing a period of waiting;
+  distribution;
+  distribution and rate of interest;
+  effect on labor of an increased supply;
+  not a stock of consumable goods;
+  reaction of price charges on;
+  reflections upon;
+  supply;
+  supply as affected by charges in interest rate
+Capital goods
+Capital market
+Capitalism
+Capitalist
+Chance
+Coal industry, cost of production and price;
+  miners' wages
+Coats, J. & P.
+Collective saving
+Commodities;
+  labor as a commodity
+Competition
+Composite demand
+Composite supply
+Consumable goods
+Consumers' goods and producers' goods
+Consumption, margin of;
+  waiting for
+Control and risk-taking
+Controversy
+Cooeperation;
+  unorganized
+Cost, general relation of price, utility and cost;
+  price relation to;
+  rent as factor in real costs;
+  ultimate;
+  utility and
+Cotton and cotton-seed;
+  contrast to wool and mutton
+Cotton industry
+Criteria of policy
+Currency inflation
+Cycles
+
+Demand, ambiguity of expression "increase in demand,";
+  derived;
+  elastic and inelastic;
+  _see also_ Composite demand; Joint demand; Supply and demand
+Derived demand
+Derived utility
+Diagrams, use of
+Diminishing utility;
+  money and
+Directors
+Distribution of wealth;
+  interest rate and
+Dividends
+Division of labor
+
+Economic laws;
+  fundamental character
+Economic theory;
+  fact and
+Economic world, orderly nature
+Education
+Efficiency
+Elastic demand
+Employers' associations
+Enterprise
+Entrepreneur
+"Equal pay for equal work,"
+Expectation
+
+Fact and theory
+Farmers
+Fortunes
+
+Gambling
+Government, enterprises;
+  failings
+
+Hides and beef
+Houses
+Housewife as purchaser
+Housing
+
+Ideas and institutions
+Incompetents
+Increase in demand, ambiguity
+Index numbers
+Inelastic demand
+Inflation
+Institutions and ideas
+Insurance companies;
+  significance
+Interest;
+  necessity of
+Interest rate;
+  changes and their effect on supply of capital;
+  distribution and;
+  price of land and
+Intuition
+
+Joint demand;
+  importance of the unimportant;
+  marginal utility under;
+  summary of considerations
+Joint products;
+  cost of production
+Joint-stock company
+Joint supply, marginal cost under;
+  summary of considerations
+
+Keynes, J. M.
+
+Labor;
+  apportionment among occupations;
+  apportionment among places;
+  apportionment among social grades;
+  as a commodity;
+  cost, difficulty of estimating;
+  division;
+  effect of increased supply of capital;
+  four grades;
+  mobility;
+  product of;
+  reaction of price changes on;
+  supply in general
+_Laissez-faire_;
+  retrospect on
+Land, characteristics;
+  differential aspect;
+  margin of transference;
+  marginal;
+  price and rent, relation;
+  question of real costs;
+  scarcity aspect;
+  supply;
+  tenure;
+  urban;
+  _see also_ Rent
+Landlords
+Large scale business
+Laws, fundamental
+
+Malthus, T.R.
+Management
+Margin, danger of ignoring
+Margin of consumption
+Margin of production
+Margin of transference
+Marginal cost, aspects;
+  misinterpretation;
+  under joint supply
+Marginal land
+Marginal purchaser
+Marginal utility;
+  price relation to;
+  under joint demand
+Market
+Marshall, Alfred
+Marx, Karl
+Mill, J. S.
+Miners
+Monetary changes, disturbances of
+Money, diminishing utility
+Monte Carlo
+Mutton. _See_ Wool and Mutton
+
+Natural ability
+Normal conditions
+
+Occupations;
+  apportionment of labor among
+Order, economic
+
+Pasture versus tillage
+Pigou, A. C.
+Policy, criteria
+Population
+Postal charges
+Poverty;
+  national
+Price, consequences of higher;
+  general relation with utility and cost;
+  law of tendency;
+  marginal utility and;
+  post-war;
+  reaction of changes in demand and supply;
+  relation of demand and supply to;
+  utility and
+Producers' goods
+Production, power of;
+  real costs;
+  waiting for
+Professions
+Profiteering
+Profits;
+  elements;
+  general analysis;
+  in risky industries
+Protective tariff
+Psychology and economics
+Purchasers, business man;
+  housewife;
+  marginal
+Purchasing power
+
+Railway rates
+Railways
+Rate of interest. _See_ Interest rate
+Rent;
+  complex character;
+  marginal land;
+  necessity;
+  rate of interest and
+Reserves
+Residuary profits
+Resources, allocation
+Risk, reward for;
+  under large-scale organization
+
+Satisfaction
+Saving;
+  individual;
+  involuntary;
+  psychology;
+  social
+School teachers
+Service
+Serving cotton
+Shareholders
+Sinking-fund
+Situation
+Smith, Adam
+Social grades, labor movement among
+Socialism
+Speculation
+Steel smelters
+Subsidies, industrial
+Substitutes
+Supply, reactions of price changes on;
+  _see also_ Composite supply; Joint supply
+Supply and demand, changes in, and their reaction on price;
+  forces behind;
+  general laws;
+  relation of price to;
+  wages and
+Supreme Allied Council
+
+Teachers
+Theory, economic
+Thrift
+Tillage versus pasture
+Trade cycles
+Trade depression
+Trade unions;
+  actions;
+  wage level and
+
+Ultimate real costs
+Unearned increment
+Unemployment;
+  trade union policy and
+Utility;
+  cost and;
+  derived;
+  general relation of price, utility and cost;
+  law of diminishing utility;
+  law of diminishing utility as applied to money;
+  marginal;
+  price relation to;
+  wealth and
+
+Wages, general wage level;
+  trade unions and;
+  women's
+Wages Fund
+Waiting, essence of;
+  for consumption;
+  for production
+Waste, economic
+Wealth, distribution;
+  utility and
+"What should be" and "What is,"
+Women's wages
+Wool and mutton;
+  contrast to cotton and cotton-seed
+Workers' control
+
+
+
+
+
+End of Project Gutenberg's Supply and Demand, by Hubert D. Henderson
+
+*** END OF THIS PROJECT GUTENBERG EBOOK SUPPLY AND DEMAND ***
+
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