Marginal Productivity

Marginal Productivity Theory

Thomas Palley with more on the acceptance of heterodox views within the economics profession. Thomas discusses the neoclassical theory of income distribution. Since this theory was first published by J. B. Clark over a century ago, it has been controversial. J.M. Clark, his son and also a prominent economist, wrote that his father's ideas on marginal productivity and the distribution of income are ethical statements "oriented at Marx, and are best construed as an earnest, and not meticulously qualified, rebuttal of Marxian exploitation theory." Clark believed that each factor of production would receive a return just equal to its contribution to society (the value of its marginal product) and hence the distribution of income was ethically correct.

There have been many, many objections to the normative conclusions drawn by Clark from his marginal product theory. To name a few, it requires perfect competition, it rewards factors, not individuals (owning capital and land gives the owners income, but the income is for the contribution of the factors, not for the contributions of individuals receiving the income), there is no meaningful way to separate the contributions of factors to total product (when crops grow, was it the hoe used to weed the plot of land, or the person operating it?)

Marginal productivity theory gives an explanation for why income is distributed in a particular way. The question is whether it provides an adequate theory for understanding the flow of income to the factors of production, and I think it does provide such a basis. So it helps us to understand why income is distributed as it is, but arguing about whether the result is equitable or not is fruitless since it will depend upon the definition of equity used to evaluate the outcome, and the definition can differ across individuals.

My own view is that we don't need, at least not yet, to discard the standard theoretical model. Instead, and there has been a lot of work in this direction, we should first be sure that incorporating market and political power relationships into the standard structures won't explain what we observe in the world. Dani Rodrik states this as "I think the best antidote against the blind spots is neoclassical economics itself." When someone invokes marginal productivity theory's ethical implications, as they do, say, when they argue that CEO pay is justified because it reflects CEO's contributions to the firm's output (and hence to society more generally), they are implicitly assuming that the assumptions of the perfectly competitive market hold when it's doubtful that they do. Markets can fail in a variety of ways and the neoclassical model of pure competition can serve as a useful benchmark for understanding how departures from an idealized structure will resolve themselves as people interact in the marketplace. Too many people argue from the standpoint of the perfectly competitive model when it simply doesn't apply and I would be happy, at least as a start, if the discussions of these issues would do a better job at recognizing that the competitive model is an idealized benchmark to evaluate actual markets, but not an outcome we should necessarily expect in the real world.