The Value of Everything (UK)

by Mariana Mazzucato

  THE DISAPPEARANCE OF RENT AND WHY IT MATTERS

  When students learn about microeconomics in the classroom (e.g. how prices are determined, including wages), they are not told that this is only one of many different approaches to thinking about value. It is, as far as they are concerned, the only one – and, as a result, there is no need to refer to the word ‘value’. The term essentially disappears from the discourse. It is simply Microeconomics 101.

  In concluding our history of economic thought, we should ask: is this only an academic exercise, or does it matter? Why it does matter is the subject of this book: it is crucial to our understanding of value extraction – and hence the ability to limit it.

  The concept of ‘rent’ has changed in economic thought over the centuries, because rent is the principal means by which value is extracted. The eighteenth-century economists described rent as unearned income, which they thought of as income derived from simply moving existing resources from one hand to another. Their disapproval of unearned income partly came, as we have seen, from medieval strictures on usury – the charging of interest. But it was also practical. Adam Smith believed that a genuinely free market was a market free of rent, and so policymakers had to do their best to eliminate it. His follower David Ricardo considered landowners who collected rent without contributing to the productivity of land to be economic parasites; he denied vehemently that there was any value in the income or rent received from owning land. Rents were unearned income and fell squarely outside the production boundary. Both Smith and Ricardo realized that freeing the economy from rent called for strong intervention – in practice by government – to prevent value extraction. Neoclassical economists too; they see rent as an impediment to ‘free competition’ (free entry and exit of different types of producers and consumers). Once those impediments are removed, competition will benefit everyone.

  In the subjective marginalist’s approach, wages, profits and rent, along with wages and profits, all arise from ‘maximizing’: individuals maximizing utility and firms maximizing profits. Thus labour, capital and land are input factors on the same footing. The distinction between social classes, including who owns what, is obliterated, since whether one lends out capital or works for wages depends on an unexplained initial endowment of resources.15

  Wages are determined by the worker equalizing the (diminishing) marginal utility of the money obtained from working with the ‘disutility’ of working, for example less leisure time. At the prevailing wage rate, the amount of time spent on work determines the income. This assumes that the amount of employment can be flexibly adjusted. If this is not the case, the marginal utility of taking a job might become less than the utility derived from an equivalent time of leisure; someone chooses not to work. As we have seen, this means that unemployment is therefore voluntary.

  Profits and rent are thus determined analogously: the owners of capital (money) will lend it until the marginal utility from doing so is lower than that of consuming their capital. Landlords do the same with their land. For instance, the owner of a house might rent it out and then decide to let her daughter live there for nothing, effectively consuming capital because rent earnings are forgone. The justification for any profits is thus related to individual choices (based on psychology) and the psychological assumption that people derive less utility from future consumption (discounting). So the return on capital and land is seen as compensation for future marginal utility at a level which could be enjoyed today if the capital were consumed instead of lent.

  In classical economics, therefore, rents are part of the ‘normal’ process of reproduction. In neoclassical economics, rents are an equilibrium below that which is theoretically possible – ‘abnormal’ profits. The main similarity is that both theories see rent as a type of monopoly income. But rent has a very different status in the two approaches. Why? Chiefly because of the divergent value theories: classical economics fairly clearly defines rent as income from non-produced scarce assets. This includes, for example, patents on new technologies which – once produced – need not be reproduced any more; the right to issue credit money, which is restricted to organizations with a banking licence; and the right to represent clients in court, which is restricted to members of a Bar association.16 Essentially, it is a claim on what Marx called the pool of social surplus value – which is enormous compared to any individual production capitalist, circulation capitalist, landowner, patent holder and so on.

  By contrast, in neoclassical economics – in general equilibrium – incomes must by definition reflect productivity. There is no space for rents, in the sense of people getting something for nothing. Tellingly, Walras wrote that the entrepreneur neither adds nor subtracts from value produced.17 General equilibrium is static; neither rents nor innovation are allowed. A relatively recent refinement, the more flexible partial equilibrium analysis, allows us to disregard interactions with other sectors and introduce quasi-rents, and has since the 1970s led to the idea of ‘rent-seeking’ by creating artificial monopolies, for example tariffs on trade. The problem is that there is no hard-and-fast criterion with which to assess whether the entrepreneur creates ‘good’ new things or is imposing artificial barriers in order to seek rents.

  The neoclassical approach to rent, which largely prevails today, lies at the heart of the rest of this book. If value derives from price, as neoclassical theory holds, income from rent must be productive. Today, the concept of unearned income has therefore disappeared. From being seen by Smith, Ricardo and their successors as semi-parasitic behaviour – extracting value from value-creating activity – it has in mainstream economic discourse become just a ‘barrier’ on the way to ‘perfect competition’. Banks which are judged ‘too big to fail’ and therefore enjoy implicit government subsidy – a form of monopoly – contribute to GDP, as do the high earnings of their executives.

  Our understanding of rent and value profoundly affects how we measure GDP, how we view finance and the ‘financialization’ of the economy, how we treat innovation, how we see government’s role in the economy, and how we can steer the economy in a direction that is propelled by more investment and innovation, sustainable and inclusive. We begin by exploring in the next chapter what goes into – and what is omitted from – that totemic category, GDP, and the consequences of this selection for our assessment of value.

  3

  Measuring the Wealth of Nations

  What we measure affects what we do; and if our measurements are flawed, decisions may be distorted.

  Joseph Stiglitz, Amartya Sen and Jean-Paul Fitoussi, Mismeasuring Our Lives (2010)

  Scarcely a day goes by without politicians, the media or experts opining on the state of a country’s GDP – the measure used to calculate the growth of goods and services in an economy: the ‘wealth of nations’. Success or failure – real or imagined – in managing GDP can make or break governments and careers. If GDP falls for more than two consecutive quarters, there are cries of ‘recession’. If the fall is sustained over a year, it’s a depression. But where does this measure come from? And how is it influenced by the way value is understood?

  Marginal utility is today a major influence on the measurement of economic activity and growth. It has an effect on the rationale for the kinds of economic activities that are considered productive – which, as we saw in Chapter 2, is basically anything that fetches a (legal) price in the market. According to marginalists, because value derives from price, somebody earning a very high salary is indicative of their productivity and worth. At the same time, anybody holding down a job at all is supposed to reflect their preference for work: the utility of work against that of leisure. GDP can be measured as the total amount of products produced, the total amount demanded, or the total income earned (with adjustments reviewed below). But if income is not necessarily a sign of productivity but of something else – for example the classicals’ notion of rent as ‘unearned income’ – what are the implications for GDP as a reliable measure of an
economy’s productiveness?

  A rise in incomes in the financial sector, for example, would have an effect on GDP. So how sectors are valued influences our calculations of growth rates, and this may in turn influence how we decide to steer the economy. In other words, how we measure GDP is determined by how we value things, and the resulting GDP figure may determine how much of a thing we decide to produce. Performativity!

  But if there are problems with the way in which we measure GDP, policymakers can receive misleading signals about what is productive and how to steer the economy. Discussion about which parts of society are productive and which non-productive has been much less explicit since the arrival of marginal utility theory. As long as products and services fetch a price on the market, they are worthy of being included in GDP; whether they contribute to value or extract it is ignored. The result is that the distinction between profits and rents is confused and value extraction (rent) can masquerade as value creation.

  This chapter will look at the ways in which governments have calculated growth through national accounting methods, the relationship between these methods and value theory, and the very strange results that have ensued, including the undervaluation of certain activities (like caring for our children), and the overvaluation of others (such as polluting businesses). In Chapter 4 we will see how marginal utility theory has also failed to account for one of the key problems in modern capitalism: the extractive activities of the financial sector.

  GDP: A SOCIAL CONVENTION

  It is crucial to remember that all types of accounting methods are evolving social conventions, defined not by physical laws and definite ‘realities’ but reflecting the ideas, theories and ideologies of the age in which they are devised.1 The way in which a spreadsheet is constructed in itself reflects values. An interesting example is the Jesuit Order. Back in the 1500s, the newly founded Order devised an innovative accounting system which blended vision with finance. In order to align finance with the values of their order, they made sure that the cash box could only be opened with two keys: one operated by the person in charge of the finances (the procurator, today’s CFO) and another by the person in charge of the strategy (the rector, today’s CEO).2 As this instance shows, accounting is not neutral, nor is it set in stone; it can be moulded to fit the purpose of an organization and in so doing affect that organization’s evolution.

  In this same way, the modern accounting concept of GDP is affected by the underlying theory of value that is used to calculate it. GDP is based on the ‘value added’ of a national economy’s industries. Value added is the monetary value of what those industries produce, minus the costs of material inputs or ‘intermediate consumption’: basically, revenue minus material input cost. Accountants call the intermediate inputs a ‘balancing’ item because they balance the production account: cost and value added equal the value of production. Value added, however, is a figure specifically calculated for national accounting: the residual difference (residual) between the resource side (output) and the use side (consumption).

  The sum of all industry value-added residuals in the economy leads to ‘gross value added’, a figure equal to GDP, with some minor corrections for taxes. GDP can be calculated either through the production side, or through the income side, the latter by adding up the incomes paid in all the value-adding industries: all profits, rents, interest and royalties. As we will see below, there is a third way to calculate GDP: by adding up expenditure (demand) on final goods, whose price is equal to the sum of the value added along the entire production chain. So GDP can be looked at through production (all goods and services produced), income (all incomes generated), or demand (all goods and services consumed, including those in inventory).

  So which industries add value? Following marginalist thinking, the national accounts today include in GDP all goods and services that fetch a price in the market. This is known as the ‘comprehensive boundary’. As we saw in Chapter 2, according to marginalism the only economic sectors outside the production boundary are government – which depends on taxes paid by the productive sectors – and most recipients of welfare, which is financed from taxation. Adopting this principle to calculate GDP might seem logical. But in fact it throws up some real oddities which call into question the rigour of the national accounting system and the way in which value is allocated across the economy. These oddities include how government services are valued; how investments in future capacity, such as R&D, are measured; how jobs earning high incomes, as in the financial sector, are treated; and how important services with no price (such as care) or no legal price (such as the black market) are dealt with. In order to explain how these oddities have arisen, and why the system seems to be so idiosyncratic, we need briefly to look at the way in which national accounting and the idea of ‘value added’ has developed over the centuries.

  A Brief History of National Accounts

  Value theory has been at the heart of national accounting for a very long time. The most significant early initiatives took place in late-eighteenth-century France, when there were at least eight attempts by different thinkers to estimate France’s national product based on Quesnay’s land theory of value. Because, as we have seen, for Quesnay the production boundary encompassed only agricultural output – everyone else being classed as living off transfers from the agricultural sector – manufacturing was placed on the unproductive side of the boundary, in the process ignoring dissenting voices such as that of Say, who, taking a broadly utilitarian approach, argued that productive labour is simply labour which produces utility. If the product is something people want to buy – has utility for them – then making it is productive.

  Excluding manufacturing from the national product seemed as obvious to Quesnay’s followers as it is for us today to include everything that fetches a price. These early French estimators were illustrious figures. They included the writer Voltaire (1694–1778); Antoine Laurent Lavoisier (1743–94), one of the founders of modern chemistry; and his friend the mathematician Joseph Louis Lagrange (1736–1813), better known today for his work on mechanics and mathematical techniques which is still used by economists. Quesnay’s ideas proved remarkably durable: as late as 1878, one French estimate of national product was based on his reasoning.3

  Similarly influential were Adam Smith’s ideas of value production. His national income estimates defined only the production or income of agricultural and industrial labour, which produced material goods – actual stuff – and excluded all services, whether government or banking ones. Smith’s ideas even underpinned the first account of national product in revolutionary France when, in 1789, Napoleon commissioned Smith’s disciple Charles Ganilh (1758–1836) to provide an up-to-date and accurate picture of French national income.4

  In the late nineteenth century, marginal utility theory predominated. Although radically different from the thinking of earlier economists, it continued to underscore the importance of value theory in national accounting. Increasingly, under its influence, national accountants included everything bought with income: for them, the sum of revenue from market activity, irrespective of sector, added up to the national income. As income tax statistics became more readily available, it was easier to construct estimates based on income data and to analyse the personal distribution of income.

  Alfred Marshall, the father of marginal utility theory in Britain, was the driving force behind its application to national income estimates.5 In his highly influential Principles of Economics he wrote explicitly about how the national product could be estimated. An earlier book, The Economics of Industry, co-authored with his wife Mary Paley Marshall (1850–1944), was clear on the utility basis of national income: ‘everything that is produced, in the course of a year, every service rendered, every fresh utility brought about is a part of the national income’.6

  Meanwhile, the labour theory of value which, fully developed by Marx, rooted productivity firmly in the concept of the production of ‘surplus value’, was either disp
uted or, increasingly, ignored altogether in assessments of national income. By the early twentieth century it was associated with a revolutionary programme and therefore could not, by definition, sit easily with official statistics in the very nations of which Marxists were so critical. Things were of course different in the countries where Communists came to power: first in the Soviet Union after the 1917 Bolshevik Revolution and later in Eastern Europe after the Second World War (though in justifying their construction of a ‘material product system’ that valued only material goods they should technically have been invoking Smith, not Marx). With the exception of these socialist states, the idea that assessments of national income should be based on the sum total of all incomes, thus forming a ‘comprehensive’ production boundary, spread rapidly to many countries.7

  In the first half of the twentieth century marginalists had become aware of their theory’s limitations, and began to debate the inclusion of non-market activities in national income accounting. One of Alfred Marshall’s students, the British economist Arthur Cecil Pigou (1877–1959), who succeeded him as Professor of Political Economy at Cambridge, argued that since market prices merely indicated the satisfaction (utility) gained from exchange, national income should in fact go further: it should measure welfare. Welfare, Pigou argued, is a measure of the utility that people can gain through money – in other words, the material standard of living. In his influential 1920 book The Economics of Welfare, Pigou further defined ‘the range of our inquiry’ as being ‘restricted to that part of social welfare that can be brought directly or indirectly into relation with the measuring-rod of money’.8 On the one hand, Pigou was saying that all activities which do not really improve welfare (recall the discussion of welfare principles from Pareto discussed in Chapter 2), should be excluded from national income, even if they cost money. On the other hand, he stressed, activities which do generate welfare should be included – even if they are not paid for. In these, he included free or subsidized government services.