The Distribution of Wealth: A Theory of Wages, Interest and Profits

Guarding ourselves as carefully as we have done against the idea that capital ever lives in a disembodied state, we may safely use, for scientific purposes, the business man’s formula. We may think of capital as a sum of productive wealth, invested in material things which are perpetually shifting—which come and go continually—although the fund abides. Capital thus lives, as it were, by transmigration, taking itself out of one set of bodies and putting itself into another, again and again. The more frequently it casts off one set of forms and takes on another, other things being equal, the more actively business operations are proceeding, and the more vitality there is in the fund itself. The life of such a capital is not torpid, like the life of a reptile having a sluggish circulation: it is rather like the life of a highly organised animal that casts off and renews its tissues at short intervals.
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Such an abstract formula as this for describing a concrete thing is common in every sphere of thought. We have already used the illustration of a water power. Power, in itself considered, is an abstraction, but power embodied in an endless succession of drops of falling water is not abstract, but eminently material and concrete. Life in itself is an abstraction, but life embodied in an endless succession of human beings is concrete. Productive power measured in units and expressed in terms of money is abstract; but when this power is embodied in an endless succession of capital-goods, it is concrete. We might designate capital, the permanent thing that we have described, as an endless succession of shifting goods always worth a certain amount. We mean exactly that, when we designate it as a certain amount of “money” permanently invested in a succession of perishable things.

It is because the idea of permanence is conveyed in the best and simplest way by this latter form of expression that, in this connection and in others, common thought adheres to it. It is a water power that the manufacturer buys, when he gets the right to have an endless series of particles of water flow through his flume. It is life that abides on the planet, as men come and men go. It is a fund, a sum of active and productive wealth, that continues in industry, as successive instruments of production live, as it were, their industrial lives and die. Here, as we have noted, there is one exception to be made: capital invested in land has no occasion to cast off its present body and take another. This part of the general productive fund can live, as we have seen, without transmigration, but it is the only part that can do so.

It is inevitable that both capital and capital-goods should be subjects of economic study. There are problems concerning each of them that have to be solved; and this fact appears, in an unfortunate way, in all those treatises on political economy in which the single term, capital, is used to designate productive wealth. Invariably does the application of this term shift from capital, as we define it, to capital-goods, and
vice versa. This twofold meaning of one important word has made endless trouble and confusion. Are wages, for example, paid out of capital? That they are so paid is the essence of the wages-fund doctrine, which was for a long period scarcely questioned. What is meant by the term capital in this connection? Is it the abiding fund of productive wealth? If it is, then the statement that was so long current must mean that industry, as it proceeds, draws on this fund and reduces it. This vital element in business must, at least temporarily, dwindle; yet every one knows that it does not do so. Does the term capital, as thus used by early writers, really mean capital-goods? If so, their statement concerning it only asserts the fact that the real pay that a workman gets and shares with his family consists in goods taken from merchants’ stocks. They have, it is true, been capital-goods heretofore, but they are consumers’ goods now; and their places in the stock of capital-goods have been taken by other and similar commodities. There has been no reducing of capital, though there may have been a withdrawing and a replacing of the tissues of it. A statement that would have made these facts clear would have precluded logomachies and confusions without number; and a definition of terms that would have distinguished capital from capital-goods would have done this.

The early economists all defined capital as consisting in instruments of production, such as tools, buildings, raw material, etc. By a confusion of thought they usually included, as one of the forms of capital, food for laborers—a typical kind of consumers’ goods; but otherwise they made it clear that capital consists in tools, buildings, materials and other things that assist labor. Yet, having defined capital in this way, they were forced—as any one must be—to revert to the common conception of it as a fund describable in terms of money, when they entered on the consideration of the problem of interest; for five per cent of itself per annum is something that a building cannot earn, though the “money” invested in the building may do so.

What, then, is interest? Is it net a fraction of itself that a permanent fund of wealth annually earns? It is five dollars annually earned by a hundred dollars. It is usually expressed in percentages; and percentages imply that both the capital itself and its annual earnings are described in units of value. Does a building, or an engine, or a ship literally earn in a year a fraction of itself? Does it emerge at the end of the year larger by one twentieth than it was at the beginning? The
capital that is embodied in the buildings, the engines and the ships of the world does enlarge itself in this way.
It returns interest; but what the concrete instruments themselves earn is not interest, but rent.

A popular and accurate use of the term rent makes it describe the amount that any concrete instrument earns. Thus, a building earns rent, as does the land on which it stands; and so, in fact, does every machine or bit of raw material that the building may contain. Rent, then, is a lump sum and not a percentage. Let anything for hire, and what ever you get for it will, in common usage, take the name rent. Whether the thing that is let be a farm, a house, a vehicle, a ship, a tool or any other concrete capital-good, it earns rent; while capital, as such, earns interest. Make an inventory of all the concrete instruments of production that the world contains, including in the list every commodity that helps to produce other commodities and putting opposite the name of each article the sum that in a year it can earn for its owner. Add together all these sums, and the gross amount is the total income of the property-holding class, as this income is reduced to the form of rent. Now take a different course. Make the same inventory of capital-goods as before, appending to the name of each article the value that it embodies. Add together these values, and the grand total will describe the permanent capital of the world. Find what part of itself this fund will earn in a year, and you have the
rate of interest. Find how many dollars this fraction of the fund of capital amounts to, and what you have is the absolute amount of interest. It is, again, the entire income of the property-holding class; but this time it is in the form of interest, conceived as the product, not of perishable instruments, but of an abiding fund of invested wealth. In a use of terms which harmonizes with practical thought and which, as we undertake to prove, is entirely scientific, rent and interest describe the same income in two different ways.
Rent is the aggregate of the lump sums earned by capital-goods; while interest is the fraction of itself that is earned by the permanent fund of capital.

It will be noticed that, in computing the rate of interest, we first ascertained the absolute amounts, or lump sums, earned by all the several instruments. In a sense, interest depends on rent: it is total rent, reduced to a percentage of total capital. In another and a deeper sense, rent is governed by interest: the amount that any one instrument earns depends on the number of such instruments that are in use. Increase the number of tools of any one kind, and the earnings of each of them will grow smaller; diminish the number, and the earnings of each will grow larger. The number of each kind of instrument that is naturally brought into use depends on the law of interest. The
capital in one kind of tool, machine, building, etc., is made to earn as large a percentage of itself as does the capital in another; and the number of each kind of capital-goods is so adjusted as to make it do so. This equalizing force determines the number of capital-goods of each kind; and this, again, governs the rents that they severally earn. If there are at work so many turning lathes that another one will not earn as large a fraction of its cost as will some other tool, the other tool is produced and set working, in preference to the lathe.
Proximately, rent fixes interest. Given a certain number of capital-goods of each kind, and what they earn is the amount that, by an arithmetical reduction, is converted into interest.
Fundamentally, interest governs rents. Given a certain permanent fund of capital, and it is put into such forms that the rent secured by one concrete form, or capital-good, is as large a fraction of its value as is that secured by another. A fuller statement of the laws of rent and interest will later make this clear.

Among those statements concerning capital which Mr. John Stuart Mill classed as fundamental is the assertion that it is all destined to destruction. Raw materials, he says, will transform themselves into finished goods and will then be used up, tools will wear out, buildings will go to decay, etc. Here is a naïve reversion to the original idea, expressed by the definitions of capital that were then current—the idea, namely, of capital-goods. These do perish; but the fundamental fact about capital—the fact that originally gave it its name—is that it cannot perish except by disaster.

Another of Mr. Mill’s fundamental propositions is, that capital originates in abstinence. In this assertion it is permanent capital that is referred to. Not a little care needs, however, to be used, if we are to have a clear idea of the function termed abstinence; for concerning it there are current many old confusions and some modern ones. We abstain from something when, as a man would say, we “save money.” We do, indeed, get something by abstaining; but what we abstain from is very different from what we get. That which we keep our hands off from—that which we put away from ourselves and do not consume—is not capital-goods: it is the consumers’ goods, the articles for personal comfort, that we should have bought and used, if we had not saved our money. We do not abstain from using and destroying a machine or a building; we use them and wear them out. In getting them, however, we abstain from pleasures and articles that give pleasure. Abstinence is nothing more than electing to take our income in the form of wealth-creating goods, instead of in that of pleasure-giving goods. It is on these latter goods, which we elect not to take,—and which are, therefore, not produced for us,—that we practise abstinence. We let alone things that do not exist, though they would exist if we called for them.

What we get by abstinence is true capital; and this means that the capital-goods which come to us are not merely for the replacing of other capital-goods that we are wearing out. They are new goods, embodying a net addition to our fund. In every case an instrument that is gained by genuine abstinence signifies that the man has more permanent capital than he had before. In due time this instrument will wear itself out; and it will be followed by another instrument. Virtually, though not literally, it will have created that other instrument; and the second instrument in the series, as well as all following ones, will have come into existence without further abstaining acts. When a loom in my cotton mill shall be discarded by reason of age and infirmity, I shall not be forced to replace it by trenching upon my income and denying myself goods that I have been accustomed to consume; for, in addition to the net income that the loom has earned for me, it has provided a sinking fund which replaces itself without imposing on me any further burden. Not all the creating of capital-goods, then, calls for abstinence. The starting of an entirely new series of capital-goods does so; and the abstinence exhausts itself in calling the first one of the series into being, for the later ones are virtually made by the first one. This is saying that abstinence always calls a new bit of permanent capital into existence.

In modern economic literature there is a disposition to divide continued production into periods, and to connect these periods with capital. Every bit of capital is, according to one form of analysis, supposed to thrust itself between the labor of production and the beginning of consumption. This, however, is, as we have seen, what capital-goods do. They separate labor, in time, from the enjoyment that will be afforded when the particular thing with which labor is now engaged shall be fully ripe for use; while capital, on the contrary, synchronizes labor and its fruits. We may measure a period of production by the interval which a particular capital-good thrusts between labor and its fruits. This is measuring it by the lapse of time between two different subjective experiences—namely, the sacrifice from making a thing and the personal gain from using it. In another way, we may measure the period by the duration of the instrument itself; and, if it is a tool for aiding labor, we have to divide the life of it as we divide the life of a human being, into a period of growth and a period of maturity. There is a time when it is taking shape under the hands of workmen; and there is a later time when it is fulfilling its destiny by helping other workmen to produce.

Capital-goods follow one another in an endless succession, and each one has its day. Capital, on the other hand, has no periods. It works incessantly; and there is no way of dividing its continuous life, except by using arbitrary divisions, such as days, months or years. There is nothing in the function of it that can make a basis for such a division as we can trace in the life of capital-goods. Capital, as such, does not originate, mature and then exhaust itself, giving place to other capital. Goods do this, but funds do not. No permanent capital ever ripens and begins to minister to direct wants: immaturity is of the nature of capital. Some raw materials, which are now capital-goods, do mature in this way; though in doing so they cross the division that separates producers’ wealth from consumers’ wealth; for when they are ripe and in use, they embody capital no longer.

In the reservoir that we have lately used as an illustration, every particle of water, separately considered, has its period of production. It enters the pond at one end and slowly flows through it; and here its function is to help in keeping the surface of the pond at a certain level—to keep what is called the head of water, that drives the wheel, at a certain height. In the end, it passes quickly through the wheel pit, and in an instant its productive function is over. That particular water has thus reached the end of a period. On the other hand, a water power, as such, has no periods, unless we make them arbitrarily by shutting the gates and stopping the mill at a certain part of the day. If the power be used to drive dynamos that work day and night, there are not even such arbitrary periods traceable in its action: the power is perpetual.

There has lately appeared in some discussions a use of the term “waiting,” as a synonym for abstinence; and the waiting that is referred to connects itself with the periods that define the life of particular capital-goods. It is as though, when a man abstained, he began making for himself some instrument of production that would have its day and would, in the end, exhaust itself in the operation of giving to him consumers’ goods. It is as though the man measured the length of time that it would take for the instrument to run its course, and then weighed and counted the cost of waiting for his consumers’ goods through such a period. It is as though he could not have the consumers’ goods till the period should be ended. After the instrument should have worn itself out, it would then be necessary to make a new one; and in doing this the man would again measure the period of its duration and would count the cost to himself of so much waiting. According to this view, if the periods were long, there would be a great deal of abstinence, or waiting, to be done in connection with a particular bit of capital; while if the periods were short, there would be comparatively little.

This resolving of abstinence into waiting for consumers’ goods, through the economic lifetime of particular instruments of production, would be reasonable,
if consumers’ goods actually came in that periodic way; but they do not. They come continuously; and they begin to come from the moment when the instrument begins to act at all. From the moment when a gallon of water flows into the upper end of a reservoir, the wheel at the lower end is made to move by the overflow that there takes place. It is wholly unnecessary for the owner of the mill to watch the inflow, note the time of it and calculate how long it will be before the particular gallon of water that then flows in will reach the wheel pit. He is, in fact, relieved from the necessity of doing any waiting whatever, in connection with the career of that particular bit of capital-goods. At the beginning of the period he has no occasion whatever to look forward to the end of it, since nothing will happen at the end that is not happening at every moment. There is a perpetual shifting of the identity of the drops of water in the pond, and there is a perpetual working of the wheel; but, granting that the rate of the outflow is given, the time that it takes for the water to get through the pond signifies nothing.

When the raw material, A, starts on its economic career, there is no occasion for calculating how long it will be before that particular material will become A”’ and pass into the hands of consumers, to render the ultimate service for which it was designed. The moment that this A appears on the scene, some A”’ has been released from the capitalist’s hands and has entered the realm of consumption as an article of use. There has been an outflow of usable wealth. There is, then, no need of calculating at the outset the ripening time of A. The consumer has not to wait for it; and, even if the ripening were very remote, this fact would subject him to no inconvenience. It is an actual fact that the length of periods of production defined by the life of capital-goods is a matter of entire indifference, so far as the time at which consumers begin to get enjoyment out of the production is concerned. If a reservoir is large, it will take a certain gallon of water a long time to make its way through it; if the reservoir is small, it will get through more quickly, but it will do its work of moving the wheel, by causing an overflow, as soon in the one case as in the other.

Let us, for another example, plant a forest of such slow-growing trees that it will take fifty years to bring one of them to the point of maturity, at which it will be ready for cutting. Let us arrange the trees in rows, and plant one row each year. During this part of the process there is waiting to be done; though this does not mean that we must wait for any return whatever. The young and growing trees have
value; and this repays us for our labor, and does it promptly, as the labor proceeds. This return, however, comes in a form in which we cannot use it for consumption. We must at least wait for our firewood. After fifty years the cutting begins; and now all waiting is over. We may cut every year a row from the ripe end of the forest and plant a row at the opposite end. From this point on, the long period involved in the ripening of the trees loses its importance. The setting out of a new row of trees is now a very different thing from the planting of the original row fifty years ago; for in a sense the present planting yields firewood at once. It replaces the row that we now cut, and prevents this cutting from trenching at all on the capital represented by the forest; and it would have this effect if the trees required five hundred years for maturing instead of fifty, provided only that there were, in that case, five hundred rows in the forest. As tree planters, even in that case, we should have no more waiting to do than we should now have if we could sow acorns, and, by magic, cause them instantly to become five centuries old. The time that will be required for the ripening of the particular trees that we are now setting out has lost its importance, since we are not dependent on those particular trees. If the forest will yield us any other mature trees in equal number, it is enough; and it will do this so long as we keep unimpaired our permanent capital, in the shape of the forest; and the planting of the new row and the ripening of the older ones, as they take place each year, have the effect of thus preserving the forest. If the process goes on, it will continue to the end of time in the same condition—as a forest arranged in graded rows of different degrees of maturity. So far as the industry that is spent on them is concerned, it is every year the same—planting one row, cutting one row, with no waiting for the newly planted trees to ripen. All the waiting that was done was involved in getting this bit of arboreal capital into the condition in which it should perform its function.

If the industry represented by the column of A’s in our recent table, were of such a kind that it took fifty years for an A to become A”’, and if, on the other hand, a B could become B”’ in one year, the first industry, when once it should be in running order, would impose no more waiting upon any one than would the second. There would be daily a creation of a new A and a new B; and there would be daily a yielding up of an A”’ and a B”’ to consumption. It is, in short, the
genesis of new capital that requires abstinence. The maintenance of it, the mere renewal of the wasting tissue of it, does not require abstinence. The duration of particular tissues has no effect on the amount of the abstaining. We have seen that the making of a new instrument, to take the place of an old one, imposes on the owner no such sacrifice as that involved in making the original one; for the reason that the instrument virtually, though not literally, makes its own successor. The loom in the factory that is worn out and is about to be replaced has, during its career, earned its share of dividends for the stockholders of the mill and, besides this, has earned for them a sum that will buy a new loom. It is not necessary, therefore, to take the cost of the new loom out of the stockholders’ incomes. That would impose on them the necessity for a genuine act of abstinence, and that only would do so. If the loom had not done what well-selected machines always do,—if it had not created a fund to replace itself,—then it might have been necessary to assess the stockholders for the cost of new machinery. That would have made them abstainers; for it would have caused them to trench upon their incomes and to forego some consumers’ goods.

Abstinence, then,
originates new capital: it diverts income in money from the expenditure that would secure goods for consumption to that which secures instruments of production. This is the same thing as saying that abstinence consists in taking one’s income in the form of producers’ goods—electing to take draft horses instead of driving horses, trading vessels instead of steam yachts, factories instead of pleasure palaces, always as a part of the income of the men who do the abstaining. The effect of this is to put such a series of coördinated capital-goods as the trees, the gallons of water and the A’s, etc., of our illustrations into working order. Once the abstaining is done, no further diverting of income is involved. The keeping up of the series of capital-goods is, in a sense, automatic. The mill, the ship, etc., virtually replace themselves as they are worn out; and these facts signify that, in a static condition, capital-goods would be created forever in limitless variety and number, but that no capital would be created. No net addition to the fund of productive wealth could then be called into existence. This takes place wholly under dynamic conditions, and it is a typical and important part of what constitutes economic dynamics. Abstinence is the relinquishment, once for all, of a certain pleasure from consumption and the acquisition of a wholly new increment of capital. The particular enjoyment that the man might have had, if be had spent his money for consumers’ goods, he will never have if he saves it. He has abandoned it forever; and, as an offset for it, he will get interest. In the absence of disaster, the new capital will create its outflowing product thenceforth forever.

It has been customary to regard abstinence as an “economic merit” and to justify interest on the ground of it. In our view, such an argument is not necessary. If we reduce society to a static state and keep it so, every bit of capital that society owns will have inherent power to create wealth. If the men who own the capital keep it in their own hands, they will get the product of it; but if they loan the capital, they virtually sell the product of it, and they may ask for an equivalent, as they would do in making any other sale.

To every one who has a larger income than is necessary to sustain life, is presented the option of taking, as part of his income, something that will give pleasure for a time and then utterly perish or, on the other hand, of taking something that will never in itself give any pleasure, but that to the end of time will create, every year, a quantity of other things that will do so. It is nature, and not human institutions, that offers this choice. It is not a government that says to a solitary hunter, “You may pursue game on foot and catch what you can of it, or you may make a bow and thus secure more.” It is the nature of the bow to add something to the hunter’s product; and, moreover, it is the nature of it to add enough the product to enable him to take time to make another bow, when the first one is worn out, and still have more game for his own use than he could have had otherwise. The laws of matter, in short, make capital productive. Being productive, it may make over its product to the owner directly or it may make it over to some one else, who will pay the owner for it. Paying interest is buying the product of capital, as paying wages is buying the product of labor.
The power of capital to create the product is, then, the basis of interest.

The fact that the product of capital is salable, is of great importance in furnishing a motive for abstinence. There will come times when the owner cannot use it. Men perish, but capital remains; and, though it may pass into the hands of young children or of others who cannot personally use it, the inheritors will still get the value of the product, if they loan the capital and thus sell the product to others. This reveals the motive for accumulating productive wealth. It is to get an income that will never cease; and it is, therefore, to get an income of which all but a minute part will go to others than the one whose abstinence has created the capital. A fraction of itself the capital will earn every year; and, in the absence of disaster, it will do this to the end of time—infinitely longer, that is, than any man’s life.

In assuming the static, condition of society, we assume also the absence of those disasters which would destroy capital; and we likewise assume a fixed amount of the capital itself and a fixed earning capacity. If this static condition continues, the rate of interest will stand forever at the rate current at the outset. This fixed condition cannot exist, however, unless the motive for saving something from men’s incomes is not equal to the motive for spending it. In the static state there is no abstinence or creation of new capital; because, with the capital now on hand, men would lose more by foregoing pleasure and making their fund larger than they would gain by doing so. The whole subject of creating capital belongs, as has just been said, in the dynamic division of the science of economics. The process involves a perpetual comparison between present pleasures and an endless series of smaller pleasures, accruing mainly to the heirs of the man who abstains.

A recent and brilliant theory
*12 connects the rate of interest with the length of what is called the period of production, or with that interval which, as we have noted, thrusts itself between the labor and the concrete fruits of that particular labor, whenever a man makes an instrument of production. When the man begins to sharpen a stone for the making of a rude hatchet, one of these periods is said to begin; and when the tool has completely hacked itself to pieces, leaving no other result than firewood for the owner’s comfort, the period is supposed to end. The longer the average period becomes, the smaller becomes the interest. In reality, however, there is a successor of this first hatchet to be considered. It is the virtual product of the first one; and it continues to embody the same bit of permanent capital that the first one embodied. The period of production of this capital is not bounded by the life of any one concrete instrument. If the first hatchet was made by labor, without any capital created still earlier, then the life of the unit of productive wealth has a beginning; but it has no end. Its existence is bounded on one side, but not on the other. When we create a bit of new capital, we start another endless period: we do not lengthen any period that has already begun. We may thus go on adding tool after tool to our equipment, till we create the complicated mechanism with which society is now working; we may continue the process, and elaborate the mechanism without limit; but we shall have added not one day to the period that intervenes between the abstinence that created the first tool and the enjoyment that will mark the virtual end of its economic career or, rather, that will mark the end of the productive action of the true capital that the first crude tool represents. There is, in fact, no such end: with a single bit of permanent capital launched upon its economic career, the lifetime of the capital, in the static state, is endless.

The one thing that we can do is to bring new bits of capital into existence and to start them on similar endless periods. After the hatchet we may make a spade; and it, in turn, will have furnished us with another spade by the time its work is done. We shall thus find that we have started a second endless series of capital-goods; and this is saying that we shall have doubled the amount of our contribution to the capital in permanent existence. It is, in short, possible to add to the units of capital that are to exist through the ages; but it is not possible to add to the ages through which capital exists.

If we disregard the action of an instrument of production, in virtually creating its own successor, and say that the period of production connected with such an instrument commences when some one begins to make it and ends when the owner throws it away, then we have periods of finite length to deal with; but now we encounter the difficulty that adding to the length of such periods does not necessarily add to the amount of capital in existence. If it does not do that, the increase in the average length of the periods does not have the effect that the brilliant Austrian economist attributes to this lengthening; for it does not reduce the rate of interest. This might, indeed, be high when the periods were long, and low when they were short. It is, however, when the
quantity of permanent capital increases that interest falls. Many instruments that last a short time may embody as much capital as do a few that last a long time. If we were to substitute a dozen ferry-boats for a single bridge of solid masonry, we might have the same amount of capital that we had at the outset; and if all adjustments were quite natural, we should get the same rate of interest. Yet the periods of production—as defined, not by the lifetime of capital, but by that of particular capital-goods—would have grown appreciably shorter.

Professor v. Böhm Bawerk’s view is that short periods are highly productive, that longer periods are less so, and that every addition to the average length of the periods adds less to the products of industry than did the preceding additions. In our view, every addition to the quantity of permanent capital in existence adds less to the product of industry than did the preceding additions. In our view, also, the average length of such periods as we are now considering might conceivably be made either longer or shorter, without affecting either the quantity of capital in existence or the rate of its earnings; for the period connected with the duration of capital itself cannot be lengthened. Here is a dilemma. If we measure productive periods by the duration of true capital, they are endless. If we measure them by the lifetimes of particular capital-goods, they may be lengthened or shortened without affecting the rate of interest. The deeper fact in the case is, that the periods which are measured by the duration of capital-goods have no significance as affecting the amount of waiting for the pleasures of consumption that a capitalist is supposed to do. Once the series of capital-goods is created and set working, there is no further waiting to be done. In its permanent static function, capital does not make any one wait, although in its origin it causes its creator and owner to begin a period of endless waiting. Abstinence, in short, means a perpetual surrender of something, and not a mere deferring of it.
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