... and with Distribution Theory

Another spectacular failure of static analysis is distribution theory. Marshall is known for his marginal productivity theory. The marginal shepherd of the “Preliminary survey” of book VI of the Principles is taken as an epitome (sometimes a caricature) of the unit of a factor of production, which, when added to other factors, causes an increase in net production that determines its remuneration.

However, as Marshall repeatedly emphasizes, the law of substitution and the mar­ginal product do not provide the backbones of a theory of distribution. As usual with Marshall, the determining causes lie on the supply side: “Marshall in true classical vein sees factor supply conditions as having the dominant effect in determining wage and interest rates in the long period” (Whitaker 2006: 322). In the long run, supply conditions regulate the price of labour, like any other price, and “Ricardo and his followers seem to have been rightly guided by their intuitions, when they silently determined that the forces of supply were those, the study of which is the more urgent and involves the greater dif­ficulty” (Marshall 1920: 525).

In the case of labour, Marshall explicitly rejects the idea that marginal productivity determines its remuneration. The true causal link runs the other way around: increase in wages leads to increased productivity.

Likewise, when dealing with capital Marshall rejects Bohm-Bawerk’s theory that interest depends on the increased productivity of roundabout methods of production (Marshall 1920: 583 n). Supply conditions determine whether interest has to be paid for the use of capital. In principle, interest can be negative (ibid.: 232, 582 n), and even when it is positive there is no necessary relationship between its rate and the level of saving. It all depends on the motives which lie behind the supply of saving.

With his analytical tools on hand, Marshall outlines a general overview of distribu­tion in book VI of Principles. The book is of paramount importance in his system of thought because it verges on the “high theme of economic progress”. In particular, the final chapter (final two, from the fifth edition) leads the way to higher level economic and social research, as Marshall states in Distribution and Exchange:

In Book V the theory of oscillations about a point of equilibrium is prominent, but not in Book VI. There we have very little to do with oscillations of a mechanical sort about a centre of equilibrium. We discuss demand and supply in their general relations, but ever more and more from a biological point of view. Especially is that the case in the final chapter, which gives a slight partial sketch of the “Influence of Progress on Value.” Every page of that chapter is dominated by conceptions of provisional equilibria of opposing forces. An endeavour is made, by their latent aid, to present at once whole chords, instead of single notes. But the equilibria themselves never appear. The chapter aims at being dynamical, if that phrase must be used; but I prefer to regard it as biological. (Marshall 1898: 54)

Distribution is fundamental since in the long run it exercises a decisive influence on the uses of wealth and thereby on social and economic evolution.

Interpreters have often noted a contrast between the evolutionary character of book IV and the static equilibrium analysis of book V. Book VI goes one step further, taking into account the evolution of the economic system, and investigates how the earnings of the agents of production of Book IV, in compliance with the theory of value of book V, react on their future performance and shape the overall functioning of the economic system.