The falling rate of profit

To understand capitalism Marx employed three key concepts: constant capital (c), variable capital (v), and surplus value (s). By "constant" capital he meant that part of a firm's capital invested in workplace buildings, plant, machinery, raw materials and energy. He called this "constant" because the value of these products of labour was only transferred to the new product (whether gradually or in one go).

By "variable" capital he meant that part of capital invested in purchasing productive labour-power, i.e. in the wages of productive workers. He called this "variable" because the exercise of such labour-power created a greater value than its own; it not only transferred its own value to the product but added new value to it. This new value over and above the value of the original capital he called "surplus value".

Textbook economics divides capital differently, into “fixed” capital (buildings, machinery) and “circulating” capital (raw materials, energy, wages) which is used up in one productive cycle.

Marx listed various relationships between his three categories. s/v he called the rate of exploitation (though in Value, Price and Profit but nowhere else he confusingly called it the rate of profit). s/(c + v) he called the rate of profit. c/v he called the organic composition of capital, which was similar but not the same as fixed capital per worker.

Marx thought that, as capitalism progressed, c/v would tend to increase. This was a reasonable enough assumption since the technical progress that competition between capitalist firms brought about did lead to the amount of equipment and machinery per worker increasing. But, since s is related only to v, any increase in c/v will, other things being equal, mean a fall in the rate of profit (s/(c + v).

Marx's intention was not to show that under capitalism the rate of profit would fall. What he was doing was offering an explanation for what the economists of his day took as a given -- that the rate of profit would fall. They explained this tendency by factors external to the mechanism of capitalism. Ricardo, for instance, explained it in terms of the physical fact of diminishing returns from agriculture. Marx was offering an explanation that was internal to capitalism -- the rise in the ratio of constant capital to living labour.

But would the rate of profit actually fall? Marx made the point himself that the real question was why had the rate of profit not fallen more quickly and more noticeably than it had. There must, he concluded, be some counteracting factors working to maintain the rate of profit. The obvious one, which Marx mentions first, is an increase in the rate of exploitation s/v, an assumption just as reasonable as that c/v increases. If s increases as well, s/(c + v) won't fall as much; in fact it might not fall at all. Another counteracting factor mentioned by Marx was that, whereas the amount of physical equipment and machinery per worker can be expected to increase, c/v might not increase as much if the value of that equipment and machinery or of the raw materials or energy falls, what Marx called "the cheapening of the elements of constant capital".

The trouble is that Marx's discussion of this question is in various notes found amongst his papers after his death. (Engels put some of these together as Volume III of Capital. Others were not published in Engels's lifetime either.) So we don't know what Marx's considered or final conclusion on the matter might have been.

So, later generations of Marxian economists were left to argue over the matter. Basically the argument has been between those who argue that any fall in the rate of profit due to an increase in c/v would be a slow, long-run tendency which would not be noticeable enough to affect shorter term investment decisions by firms and those (such as Paul Mattick) who argue that such a fall happens over a much shorter period of time and is a precipitating factor of crises.

What do the facts about the actual movement of the rate of profit show? One problem is that neither business accounts nor government statistics reflect the Marxian categories of c, v and s, and in fact most empirical studies have had to define the rate of profit not as s/(c + v) but simply as s/fixed capital. The various empirical studies are inconclusive, showing a rising rate of profit over some periods and a falling rate over others. In other words, sometimes the factors making for a fall prevail, sometimes the counteracting factors do.