In the rude and early stages of society before the accumulation of capital and appropriation of land both Adam Smith and David Ricardo contended that the value of a laborer’s output is solely determined by his/her direct and indirect labor time. Essentially, the whole produce of labor was his/her own and determined by productivity. But this was before the compulsions of capitalism emerged where capital was accumulated and land appropriated in the hands of a few.

With the emergence of capitalism both authors explained in no uncertain terms that the wages of labor at a bare minimum should at least be equal to the cost of subsistence. In short, the wages of labor must be a living wage. In his book the Wealth of Nations, Smith went on to explain why faster growth in national income is accompanied by higher wages – this is the demand side of the determination of wages.

With the emergence of the Neo-classical doctrine the marginal productivity theory of wages became dominant. Essentially, it argues that the wages of labor will be equal to the marginal value of output to the firm or employer. Indeed this marginal productivity theory holds, but in a very unique and special case where all income shares (profits and wages mostly) in national output are constant. Shaikh (1974) empirically displays how the theory of wages determined by labor’s marginal productivities breaks down when the wage and profit shares in national income are not constant.

Goodwin (1967) in his growth cycle model explains why wage shares in national income are not constant. Capitalism is dynamic with wage and profit motivated by conflicting forces for greater share in national income. This empirical fact explains why wages are not determined by marginal productivities, save and except for the special case where profit and wage share in national income are constant.

It is not a given that higher productivity means higher wages. What is productivity? The embodiment of education that results in specific skills used to produce goods and services in a given period of time. To consider the productivity side of wages in isolation of demand is to fall victim to Say’s law of markets. There are doctors and engineers in many parts of India, China and those places that are overly populated that hardly earn a wage worth their skillset. More importantly, contrary to the free trade theory, factor price equalization is not an empirical truth. It is a myth that labor across boundaries in the same station/profession earn the same wage. Labor’s productivity is important for the production process, but both theoretically and empirically it is not the principal determinant of wages.

Indeed the government is the employer of last resort when the private sector is not sufficiently dynamic or when growth is not accompanied by sufficient employment. It is also true that there are many pencil pushers in government and the call for meritocratic employment and improved productivity in the public service is acceptable. But to use the productivity argument as a basis for wage determination is erroneous. How do we plan to measure a public servant’s productivity? And how much do we pay per unit of labor’s productivity? Many impulses may claim that we use the market wage, but what happens when the market wage is below the cost of living? This is precisely why we have a minimum wage.

Whether the state at present can afford higher wages is a matter of analysis and projection of government’s income, new hires, promotion, gratuity, pension and welfare analysis etc. Although it is always instructive to consult Smith and Ricardo, on moral grounds wages should always be above subsistence levels. If the state’s declaration is that it cannot meet this demand that is another telling matter.

Figure 1

Source: policymic.com (2013)

Source: policymic.com (2013)

Non-constant income shares

Non-constant income shares (all graphs are for US data)


Goodwin. R. M. ‘A Growth Cycle’ in C. H. Feinstein, editor, Socialism, Capitalism and Economic Growth. Cambridge: Cambridge University Press. (1967)

Shaikh. ‘Laws of Production and Laws of Algebra: The Humbug Production Function.’ The Review of Economic and Statistics, Vol. 56 (1) pp. 115-120. (1974)

Smith. A. ‘The Wealth of Nations.’ London: W. Strahan and T. Cadell. (1776)

Sraffa. P. editor, ‘The Collected Works of David Ricardo.’ Liberty Fund Inc. Vol. 1, (2004)

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