I am glad to say that my previous blog entry generated a response, in fact more than an hour long youtube video response. Despite the frequent usage of words such as “idiot” and “fucktard” to describe me during the video I take the long response as a sign that some of the arguments I made in my response were so compelling and “in need of debunking” that he had to set aside a full hour of youtubing to do it. That’s great! I like that. Despite some emotional outbursts and light-headed and easy responses, it does overall show a commitment to learning and defending the truth with arguments and not with silence, and I applaud that.

[youtube]http://www.youtube.com/watch?v=ulKN3pipzHU[/youtube]

I cannot respond to every single point in a blog entry without boring readers out of their minds, so I will try to focus on the essential points, the thrust behind my argument. The video blogger has corrected me and says that he does not believe capitalism leads to worse conditions for workers, only that it doesn’t improve things naturally and automatically. Thus, without strikes and unions people would still be working 16 hour days in horrible working conditions and with low pay, possibly a little bit higher than in the 19th century but not as high as they are today. The reason he cites is that there is not much competition for workers but workers compete for jobs, and cites unemployment as evidence.

He also argues that a doubling in production of wheat relative to cotton wouldn’t necessarily reduce the prices of wheat relative to cotton by 50% because it depends on how many people were needed to produce the wheat. This is essentially a version of Karl Marx’ long debunked labor theory of value, and I will get back to this. He is also not fond of my cotton vs wheat example because we live in a money economy and he thinks that money somehow radically changes the outcome.

Before I respond to this I need to clarify and give people an overview: there are five, components involved in these arguments: 1) capital (=means of production), 2) goods (=products of capital), 3) capitalists (capital owners), 4) labor (produced by employees) and 5) money (means of exchange between goods).

Money vs capital

That’s a lot of balls to juggle in the air at once, and the last ball — money — doesn’t really add any understanding to the basics of market economy. In fact, it only adds confusion because it hides what goes on under the hood. Money is a huge topic which involves confusing things such as central banking, price inflation, the gold standard and fractional reserve banking. The value of money has been diluted by money printing over the last 80 years and this hides the fact that prices of most goods have NOT been rising, but in fact falling measured in real terms, i.e. in how much one needs to work for it. 200 years ago people typically needed to work 12 hour days just to feed themselves and their families. Today the average worker in the West only needs to work less than 30 minutes per day to feed themselves. Inflation hides this fact and therefore we should leave it out of the discussion.

Once we take the money out of the equation it is easier to reveal the underlying argument: unions are arguing that people don’t have to work so much anymore for food because they get a bigger share of the things that are produced (due to strikes etc.), but my explanation (which is shared by most economists in the world) is the mechanization of agriculture. 200 years ago you needed to plough the fields manually with a horse and sow it and harvest it manually. Anyone who has ever tried or even just watched it knows that it is an extremely time consuming, laborious job. Today the same job is performed by machines much, much more efficiently. Watch the video below just to get a feeling of the immensity of this productivity increase. In this video a single man ploughs 3,2 km² in 24 hours!

[youtube]http://www.youtube.com/watch?v=Z0ybEMc1MtM[/youtube]

In this next video you can see a combined harvesting and threshing machine. Imagine how heavy and time consuming threshing was 200 years ago when it had to be done manually, or semi-manually and then look at how efficiently and comfortably it is done today by a single person sitting in a spacious air-conditioned cabin listening to sweet music.

[youtube]http://www.youtube.com/watch?v=oX0xzu_LREY[/youtube]

Here you see real world practical examples of why the price of agricultural products have fallen by more than 90% in 200 years. It has nothing to do with strikes and everything to do with the fact that the amount of labor needed to perform that job has fallen by more than 95%. If you only talk about wages in money terms you don’t see the real underlying causes, namely capital improvements and accumulation leading to productivity increases to the benefit of all. Notice that by capital improvements and accumulation I am not referring to financial capital, i.e. money. In this context and in my article capital refers to means of production. The tractor and harvester you saw in the videos above are prime examples of capital.

Capital vs goods

Whereas capital is the means of production, goods are what is produced from capital. So in the above example the tractor is the capital and the wheat that is produced with it is the goods. In my previous article I did not distinguish clearly between the two because they are so intertwined. For instance, what does capital accumulation mean? Does it simply mean building machines or structures? Is building a road to nowhere that no-one uses capital accumulation? Is building a machine for efficiently producing a useless product that no-one demands capital accumulation? No. Capital accumulation is measured in terms of its increased output of useful goods and services.

So how do you measure that something is useful? This is determined by the market in the form of demand. If a machine is able to produce more of things that people demand (demand=what people are willing to pay for in the market place) then that machine has contributed to capital accumulation. In other words, for something to be considered capital it must be profitable. It must generate a surplus. If it does not generate a surplus it is not capital but a consumer good. The car you have in your garage and use for your own private pleasure is a consumer good. The car that a taxi owner uses to generate a profit by selling transportation services is capital.

So when we say that has been a tremendous capital accumulation in the West we do of course mean that there are now more roads, taxis, trucks, tractors, factories, electricity lines, buildings, machines and bridges, but more importantly these are also making a positive contribution to society by generating more of things that people want and are willing to pay for, i.e. more goods and services for which there is demand. In fact, we can summarize that as the very definition of capital accumulation as follows:

Capital accumulation is the increase in the ability to output goods and services for which there is demand.

Supply vs demand

The video blogger argues that a doubling in output of wheat relative to cotton will not necessarily cut the price of wheat in half, because it depends on how many people were used to produce the wheat. This is partially true, but mostly it is a version of Karl Marx’ labor theory of value, namely that every man hour is worth equally much and therefore the price of a product equals the sum of man hours used to create the product.

But in a market economy this is not true. The number of man hours used to create a product is irrelevant to the price it commands in the market place. There are numerous examples of people who have used millions of dollars and thousands of man hours only to produce a product which no-one wants to pay for. Similarly there are people who spend only a few hours on a product (e.g. a famous painter) and yet is able to demand millions of dollars for it. When you go into a store to buy a product you as a consumer don’t care how many hours was used to create it. You only care about whether you want it and how much you are willing to pay for it.

In general in a market economy the price is set by supply and demand and ONLY by that. The suppliers try to push the price as high as possible and the demanders try to push it as low as possible. Where they meet is the market price.

When we denote the price in money we get the artificial sense that only one of the sides is the suppliers of goods and the other side is the demanders who have the money. But how did people get that money? They got it by supplying goods and selling it to someone else. So the demanders are also suppliers.

Similarly, why do the suppliers want money? In order to buy goods. So the suppliers are also demanders. This is why it is useful to remove money from the equation and only look at the underlying barter. The cotton producers supply cotton and demand wheat, the wheat producers supply wheat and demand cotton, and it is the ratio between the supply and demand of the two that will determine the price. This is true whether 1 ton of cotton is produced by one man or one million men. As long as two tons of wheat are chasing one ton of cotton and vice versa then cotton will command roughly twice the price of wheat.

Capitalists

Capitalists use their capital to supply two things: 1) goods/services to consumers and 2) jobs to workers. The reason they do this is to make money (i.e. to transform his production into a more exchangeable form of good). The reason they typically supply jobs is because they usually need labor in order to operate the equipment and participate in the creation of wealth. Even though the farmer owns the nice tractor that can plough many hectars in a day he still might need someone to drive and operate it to free up his own time, and therefore he must in addition to supplying wheat to consumers also supply a job to a tractor driver. To supply a job means to give some of the goods produced by capital in exchange for labor. In our example, the farmer needs to give some of the wheat he produces to the driver who operates the tractor. (Of course, in a money economy he goes to the market first and exchanges that wheat for money and gives the driver money instead.)

So how much wheat (or its money equivalent) must the farmer give to the tractor driver? Well, that totally depends on supply and demand. He supplies two things: wheat and tractor jobs. What is the demand for wheat and what is the demand for tractor jobs? These four factors (supply of and demand for wheat+ supply and demand for tractor jobs) will determine how much he must pay the driver to do the job and how much of the income from wheat he can keep for himself.

Let’s look at these factors separately. Suppose the ratio between supply and demand of farm jobs does not change. This means that the share of the produced wheat that the farmer needs to give to his helper does not change. So if he in 1911 had to give, say 30% of the wheat he produced to his helper then he would still have to pay 30% of the wheat he produces in 2011.

But even if the supply-to-demand ratio of farm jobs hasn’t changed the supply of wheat has increased dramatically relative to the demand of wheat. In 1911 the farmer didn’t have a tractor and other equipment and therefore he wasn’t able to produce so much food. But 100 years later all the capital has enabled him to more than quadruple his wheat production. The result is that the price of wheat has fallen dramatically. This means that the helper is now paid four times as much wheat as he was in 1911, because the increased supply of wheat has made it less expensive.

Or put in money terms: the salary that he pays his helper now allows the helper to buy four times as much wheat for the same salary (adjusted for inflation). In other words, the accumulation of capital (which has led to an increased output of goods) has made the worker richer even if his share of the production hasn’t changed, because the total production has increased dramatically.

Now, even if this example is more complex and more fleshed out than in my previous example it is still the same example, and the same law still applies:

Accumulation of capital (leading to increased production of goods) puts the capitalists in a worse negotiation position and they have to give more and more goods to the workers in order to keep them.

The supply of jobs

Let us now turn our attention to the supply and demand for jobs. One of the video blogger’s main arguments against me is that there is a lot of unemployment. How can this be the case if what I say is true? Well, as I have shown above, capitalists supply two things, jobs and goods, and both affect the wages and both can change independently of each other for different reasons. As I have also shown the most important factor is the increase in goods that results from capital accumulation. This forces the prices of all goods down (such as wheat in my example) and therefore makes everyone richer. But it is true that the supply and demand for jobs may affect wages and I will now show how.

The law of supply and demand dictates that if there is too little supply the price of the good will rise until there is balance between supply and demand again. (increased prices causes the demand to fall) Similarly if there is too little demand the suppliers will start to underbid each other and so the price falls. This makes it unprofitable for some of the suppliers to stay in the business and there supply falls, this continues until there is balance between supply and demand.

This is true of all goods in a free market. Therefore, in a free market one should not expect to see chronic unemployment (must not be confused with transitional unemployment between jobs). But in most Western countries we do see chronic unemployment. In the EU the average unemployment rate before the financial crisis hovered around 10%. My answer to why this happens is very simple: Western countries are not free, unregulated markets. There are price controls (minimum wage) on labor and this creates unemployment because all the jobs that pay less than the mimimum wage are illegal.

Also there are very strict hiring and firing regulations. In some EU countries such as France the worker’s rights are extreme. There it is virtually impossible to fire someone once they are hired. This great wall around the labor market is fantastic for those who are inside those walls, but for those who are unlucky enough to be outside those walls it is horrible and means chronic unemployment for many.

Such strict regulations make labor very unattractive and risky and therefore capitalists try to shy away from hiring people. In France this means that all groups that are considered risky are immediately discarded from potential jobs. Risky groups are: young people (inexperienced), women (they can have babies and are often more sick) and immigrants (they have funny names and weird hats) and worst off are the combinations of these groups. Youth unemployment in France is more than 20% and the unemployment among immigrant youth is a staggering 40%!

Finally in all Western countries there is a mechanism that reduces the general demand for jobs, and that is capital taxation. Remember, jobs are typically created to operate capital in order to produce goods, but when that very process of capital formation an production of goods is burdened by tax the result is that less business is done and fewer jobs are created.

Despite all these hurdles for job creation in the West the obstacles are even worse in most non-Western countries. There is a strong correlation between unemployment rate and economic freedom. The freer countries have low unemployment whereas the unfree countries have high unemployment. The areas in which the developing countries typically score extremely bad compared to the west are corruption and security. Businessmen hate risk and if there is one thing that creates risk it is corruption and lack of security. Therefore the supply of jobs is much lower in the unfree countries than in the freer countries. It is so risky to do business in developing countries (due to mafia, crime, nationalization, corruption, war, civil war and a lack of rule of law) that capital is very rare, and those few who have capital can therefore charge a much higher profit rate.

Make no mistake about it: this pushes the wages down, but it has nothing to do with capitalism and everything to do with socialism, corporatism, fascism and the lack of capitalism. The general rule that applies is that the stronger the influence of politics in a society, the greater the hurdles for job creation, and therefore the higher the unemployment rate and the lower the wages. Politicians like to make regulations and high taxes, and this causes corruption (lobbyism) and they change the rules at a whim so there is no security and no predictability. What is legal today may be illegal tomorrow. This makes entrepreneurs look for short term profit rather than longer term investments because they don’t trust that the rules are the same 10 years down the line or that their investment will stay safe that long.

This brings us to our final point, a factor which holds the wages down in developing countries: the Great Wall around the West which prevents poor people from developing countries to go abroad and take a job in foreign, rich countries. This is because most of the Western countries are highly nationalistic and protect their own workers and industry from competition from poorer nations. Every single social democrat who favors toll barriers, national subsidies and a ban on work immigration has no right to be morally outraged by the working conditions in poor anti-capitalist countries, because he is partially responsible for this by denying these poor people the opportunity to work in a semi-capitalist country where the supply of jobs is much greater.

Conclusion

Economic freedom (i.e. no labor regulations, low taxes, no restrictions on finance, low corruption, secure property rights and low crime = capitalism) makes it easy for entrepreneurs to acquire capital, to make businesses and to make jobs. This has several beneficial effects: 1) it causes the most rapid accumulation of capital in society which increases the production of goods, which causes the prices of goods to drop, making everyone richer. 2) The accumulation of capital makes capital much cheaper and so it becomes easier for everyone to buy capital and to start businesses. This has the advantage of intensifying the competition, both for customers and for labor. This brings the prices of goods down and quickly brings up the wages. 3) Finally when there are no restrictions on job creation, the supply of jobs is maximized and hence the unemployment is minimized.