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In order to achieve maximum profits, each entrepreneur will endeavor, so far as is practicable, to apportion his use of land, labor, and capital so that the value of the increment of product attributable to the marginal unit of each factor in production will about equal its expense.

The significance of the law of diminishing productivity in relation to the distribution of wealth now becomes apparent. If a given class of laborers in a given employment receive like wages, their wages (being the same as the wages of the marginal laborer) will tend to equal the marginal product of labor. The expense incurred by the entrepreneur for any unit of a certain kind of capital goods will tend to equal the value of the marginal product of that particular kind of capital goods. The rent which the farmer will pay for any acre of a quantity of land of uniform quality will tend to equal the value of the marginal product of land of that quality. But so far as competition works freely, different entrepreneurs in the same market will have to pay the same wages for the same kind of labor, the same price for the same kind of capital goods, and the same rent for the same kind of land; and they will get the same prices for the same kinds of products. So it is possible to state in more general terms that the remuneration of each factor in production tends to equal its marginal product.1

farmers can use additional units of the productive factors more profitably than he can. The most profitable size of the business unit will vary, other things being equal, with the efficiency of the entrepreneur.

Some writers have introduced the efficiency of the entrepreneur as a fourth variable in their discussion of diminishing productivity. Such a procedure is avoided in this book, because it leads to theoretical complexities and because it involves a shifting of the point of view. The diminishing productivity of each of the three factors in production is a physical fact which every entrepreneur has to deal with, and which we can explain most clearly by adhering to the analysis of the motives controlling the individual entrepreneur. The analysis of the diminishing productivity of the entrepreneur's efficiency, on the other hand, involves of necessity the social point of view, for the only kind of estimate that is made of the entrepreneur's productivity is expressed through the social process of the valuation of the entrepreneur's products. In this book the diminishing productivity analysis is applied only to the entrepreneur's expenses of production, the entrepreneur being regarded (as he is in accounting practice) as the "residual claimant.”

1 The statement that rewards tend to equal products has no ethical significance, and should not be interpreted as a justification of the present economic order, and this for the following reasons among others: (1) That distribution ought to

It is not necessary for the validity of this marginal productivity theory of distribution, as it is called, that in any particular undertaking at any given time the proportions in which the factors of production are actually combined should be adjusted with the nicety which the theory seems to imply. The amount of land which the farmer holds at any one time is apt to be fixed by his estimate of his future rather than of his present production, while custom, pride of ownership, and the chance of gain through an increase in land values (which is not to be confused with the motives guiding his activity as a producer) have their influence. Moreover, the size of the government homesteads into which a large part of be according to productivity is itself a debatable proposition. Some socialists, for example, maintain that distribution according to needs is a higher ideal. (2) The ethical side of the problem of distribution relates to personal distribution, while the marginal productivity doctrine relates to the determination of the incomes going to the different factors in production. To state that the rent of an acre of land tends to equal the value of its product is not to say that the landowner has "earned" his income. The private receipt of rent depends upon such social institutions as private property, inheritance, and free contract, and these have to be judged from the broad viewpoint of social welfare. (3) The efficiency of the individual laborer, which is one of the things determining his productivity, often depends upon the opportunity he has had to "make the most of himself." But opportunity depends largely on environment, and this in turn is to a large extent amenable to social control. (4) The amount of the marginal product of any one factor in production is itself a resultant of all the forces affecting the supply of all the factors in production and of all the conditions that affect their fitness to serve in the production of the things that consumers are demanding. (5) This theory is only a statement of a normal tendency. It does not, properly understood, conflict with the fact that such things as custom and other forms of economic friction and inertia, the higgiing of the market, the conscious efforts of social classes to better their condition, imperfections in the monetary system, short-sighted selfishness on the one hand, altruism on the other, as well as the conscious social control expressed in labor legislation, usury laws, and the like, all have important effects upon the incomes actually received by those who furnish labor, capital, and land for the work of production. Actual wages may differ from the normal wages measured by marginal product just as contractual rent may differ from economic rent. (6) We can imagine an economic order very different from the present one in which it would still be true that incomes would tend to equal products. If, for example, wages were arbitrarily increased 50 per cent by law, while one result would undoubtedly be an increase in unemployment, it would still be true that wages would tend to equal the marginal product of labor, or, rather, that the marginal product of labor would tend to equal wages. To attempt to avoid this difficulty by assuming that the present order, or a purely competitive order, is the "natural" order of things, is to beg the whole question in favor of the existing

status.

the public domain was divided has had an important effect on the size of the farmer's holding in a large section of the United States. The average American farmer undoubtedly holds more land than he would if he were looking only for maximum present profits. The practical problem for him is apt to be how intensively he shall cultivate it: how much labor and capital he shall combine with it. That is, he is apt to use relatively more land and relatively less labor and capital than he would use if every additional acre of land used meant an additional expense for land. This conclusion is not altered by the fact that his land is probably not of uniform quality, and that some of it may not repay cultivation under present conditions. In a similar way the manufacturer builds his factory for the future, and may even equip it with a larger complement of some kinds of machines (such as boilers and engines) than present requirements justify. On the other hand, a sudden and probably temporary increase in demand for a product will be met by the manufacturers by the employment of more labor (even at the high rate charged for overtime or night work) rather than by the installation of more labor-saving machinery, even though the latter might, in the long run, be more economical. In general, when considerations which take into account a period of years dominate, land and the more permanent forms of capital goods will be used more freely, labor and the less permanent forms of capital goods less freely. When short-time considerations are dominant, the reverse will be true.

These limitations do not invalidate the law of the equality of the remuneration of the factors in production and the value of their marginal products any more than the fact that a feather does not fall through the atmosphere as rapidly as a stone invalidates the law of gravitation. This law, like other economic laws, is the statement of a fundamental tendency, which, in this case, is bound up with the universal desire of entrepreneurs to get for themselves the largest possible profits.

The reader who has

Marginal Productivity and Valuation. firmly grasped the concept of marginal utility will find that a recognition of some similarities in the rôles which marginal utility

and marginal productivity play in the process of valuation will help him to grasp the significance of the latter concept. The value of consumption goods is determined by their capacity to yield an income of satisfactions; the value of production goods is determined by their capacity to yield a money income to the entrepreneur. In the one case the law of diminishing utility is dominant; in the other case, the law of diminishing productivity. Just as we cannot speak of the utility of a commodity in general, but only of the utility of particular units of a commodity, so we cannot speak of the productivity of land, labor, or capital in general, but only of the productivity of particular units of land, labor, and capital a productivity which is attributed or imputed to other similar units of the supply of these factors in production. The consumer is getting the maximum of satisfaction of his wants when the final dollar spent for one commodity satisfies just as intense wants as the final dollar spent for any other commodity, and he tends to apportion his expenditures accordingly. The entrepreneur is not making maximum profits if his final expenditures for any one of the factors in production add more to his product than his final expenditure (of equal amount) for either of the other factors in production, and he tends to apportion his employment of land, labor, and capital accordingly. But it must not be supposed that the statement that the prices paid for land, labor, and capital tend to equal the value of their marginal products is a complete explanation of the valuation of the services of the factors in production any more than the principle of marginal utility is a complete explanation of the valuation of consumption goods. In fact, from one point of view, marginal productivity is itself partly determined by the prices which the entrepreneur has to pay for the services of the factors in production.

The demand for the use of land, labor, and capital is ultimately a demand for their products- the goods that satisfy human wants. The entrepreneur's task is to anticipate and meet this demanda problem that takes the concrete form of producing goods that will sell for more than the expense of production. On the one hand he has to estimate the quantities which he can sell at certain prices; on the other hand, he has to take account of the quantities

which various units of land, labor, and capital will contribute to his product, together with the prices (wages, rent, and interest) that he has to pay for these units. Through his mediation the demand of society for want-satisfying goods becomes a demand for the services of certain quantities of land, labor, and capital, combined in certain proportions. And the principle that guides the entrepreneur's transformation of the social demand for the products of land, labor, and capital into his own demand for the services of these factors in production is the principle of marginal productivity. The wages, rent, and interest that are actually paid for the services of the factors in production are the resultants of the demand of entrepreneurs, on the one hand, and of the supply of these factors on the other hand. The principle of marginal productivity is an illuminating way of stating the problem of the distribution of wealth, rather than a solution of it. Just how supply and demand operate in the case of each factor in production is a topic to be considered in later chapters.

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Social Aspects of Diminishing Productivity. Since the entrepreneurs are only the intermediaries between society viewed as a body of consumers and society viewed as a body of producers, we may, for present purposes, leave them out of consideration, in order to fix our attention upon some of the more general results of the fact of diminishing productivity.

If the number of laborers within the boundaries of a nation is increased by immigration, without a corresponding increase in capital or in the amount of land available for use, the result will be an increase in the total amount of goods produced, which means an increase in the amount of wealth produced per unit of land and capital, but (on account of the operation of the law of diminishing productivity) a decreased amount per laborer; a higher marginal product for land and capital, and a lower marginal product for labor; consequently, higher rent and higher interest, but lower wages. If the supply of capital within a country is increased, while labor and land remain constant, the result will be higher wages and higher rents, but a smaller remuneration for capital. Similarly, if the available supply of land be increased (as by improvements in transportation facilities), rent will absorb relatively

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