The Ricardian System

The Ricardian System

For reasons that we shall discuss below, Ricardo had a far greater impact on the future direction of economic theory than Malthus. But as theoretical an­tagonists, each played an important part in the development of the other's an­alytical system. Malthus saw a close and direct link between the general level of wages and the price of corn. He argued in favor of the Corn Law because he felt that free importation of grain would drive down domestic grain prices (and wages) and precipitate a depression. To Ricardo, however, the Corn Law sig­naled a rise in wages and a fall in profits and thus less capital accumulation and an end to economic growth. In answering Malthus, Ricardo constructed a most ingenious argument, built around the labor theory of value.

The Labor Theory of Value: Empirical or Analytical?

Few misconceptions in the history of economics have been perpetuated as ex­tensively as the popular one concerning Ricardo's theory of value. The inter­pretation of the theory that lingers is that of a strict uncompromising labor the­ory of value. Yet there is little or no support in Ricardo's writings for this interpretation. Ironically, it was not Ricardo's critics (e.g., Malthus and Samuel Bailey) but his ardent disciples who were mostly responsible for the misinterpretation. We prefer to characterize Ricardo's theory of value as a ''real-cost" theory, where, nevertheless, labor is the most important (empir­ical) factor.

The central problem posed by Ricardo in his Principles of Political Econ­omy and Taxation was how changes occur in the relative income shares of land, labor, and capital and what effect these changes have on capital accu­mulation and economic growth. The determination of rent was an integral part of this problem, of course. But every theory of income distribution must rest on a theory of value, and Ricardo set out to modify Smith's value theory for his own use. Specifically, Ricardo perceived certain deficiencies in Smith's doctrine of "natural value." According to Smith, a rise in the price of one fac­tor (e.g., wages) would increase the price of goods produced by that factor (labor). To Ricardo, this was a superficial analysis, especially if the change in value was to be more than a nominal price-level change.

Ricardo felt that with certain modifications, the labor theory of value pro­vided the best general explanation of relative prices and that Smith's restric­tion of the labor theory to a "primitive economy" was unnecessary. To Ricardo, the relation between value and labor time expended in production was straightforward: "Every increase of the quantity of labor must augment the value of that commodity on which it is exercised, as every diminuation must lower it" (Works, I, p. 13). Although Ricardo never wavered from this basic position, he nevertheless added several qualifications necessary to make the theory more realistic. In this process, his theory of value ceased to be a pure labor theory. But Ricardo consistently sidestepped his own qualifications in subsequent analysis and policy and made use of a simple labor theory in order to reach general conclusions.

The first exception to the above rule that Ricardo allowed was in the case of nonreproducible goods. "There are some commodities," he maintained, "the value of which is determined by scarcity alone. No labour can increase the quantity of such goods, and therefore their value cannot be lowered by an in­creased supply." The value of a Renoir painting or a bottle of a 1929 Lafitte-Rothschild, to use Ricardo's words, "is wholly independent of the quantity of labor originally necessary to produce them, and varies with the varying wealth and inclinations of those who are desirous to possess them" (Works, I, p. 12). Quantitatively, this exception was unimportant to Ricardo, since "These commodities... form a very small part of the mass of commodities daily ex­changed in the market."

More important qualifications of the labor theory of value were made re­specting the role and importance of capital, which was treated as "indirect" or "embodied" labor. Here Ricardo distinguished between fixed and circulating capital. Circulating capital "is rapidly perishable and requires to be frequently reproduced," whereas fixed capital "is of slow consumption." Value will therefore increase as the ratio of fixed to circulating capital increases and as the durability of capital increases. This fact is demonstrated by Ricardo in the following passage:

Suppose two men employ one hundred men each for a year in the construction of two machines, and another man employs the same number of men in cultivating corn, each of the machines at the end of the year will be of the same value as the corn, for they will each be produced by the same quantity of labour. Suppose one of the owners of one of the machines to employ it, with the assistance of one hundred men, the following year in making cloth, and the owner of the other machine to em­ploy his also, with the assistance likewise of one hundred men, in making cotton goods, while the farmer continues to employ one hundred men as before in the cul­tivation of corn. During the second year they will all have employed the same quan­tity of labour, but the goods and machine together of the clothier, and also of the cotton manufacturer, will be the result of the labour of two hundred men, employed for a year; or rather, of the labour of one hundred men employed for two years; whereas the corn will be produced by the labour of one hundred men for one year, consequently if the corn be of the value of 500£ the machine and cloth of the clothier together, ought to be of the value of 1000£ and the machine and cotton goods of the cotton manufacturer, ought to be also of twice the value of the corn. But they will be of more than twice the value of corn, for the profit on the clothier's and cotton man­ufacturer's capital the first year has been added to their capitals, while that of the farmer has been expended and enjoyed. On account then of the different degrees of durability of their capitals, or, which is the same thing, on account of the amount of time which must elapse before one set of commodities can be brought to market, they will be valuable, not exactly in proportion to the quantity of labour bestowed on them.. .but something more, to compensate for the greater length of time which must elapse before the most valuable can be brought to market (Works, I, pp. 33-34).

Ricardo's example clearly illustrates that he recognized the two ways in which capital affects the value of goods: (1) the capital used up in production constitutes an addition to the value of the product, and (2) the capital em­ployed per unit of time must be compensated (at the going rate of interest). This recognition by Ricardo that time as well as labor is an important element of value constituted a genuine contribution to economics, for which he subse­quently was given little, if any, credit.
From an analytical standpoint, then, it is clear that Ricardo based value on the real costs of labor and capital. His theory differed from Smith's in that it excluded rent from costs. But from an empirical standpoint, Ricardo held that the relative quantities of labor used in production are the major determinants of relative values. On the methodological front, Ricardo exemplifies the ab­stract, deductive reasoner. He preferred to base the principles of his analytical system on a single, dominant variable rather than on a number of lesser ones of dubious effect. To this end, he warned his readers (after noting the above effects of capital on value): "In the subsequent part of this work, though I shall occasionally refer to this cause of variation [i.e., time], I shall consider all the great variations which take place in the relative value of commodities to be produced by the greater or less quantity of labour which may be required from time to time to produce them" (Works, I, pp. 36-37). Ricardo, at least, was less open to the criticism leveled against some modern theoreticians, namely, the failure to state explicitly the assumptions underlying one's analytical con­structs.

Despite its rigor, Ricardo's value theory contained several deficiencies. In the first place, his handling of qualitative differences in labor was unsatisfac­tory. Ricardo assumed that wage adjustments for qualitative differences in la­bor would occur in the marketplace and that once determined, the scale of dif­ferences would vary little. Since Ricardo was seeking a measure of market value in the first place, this is a circular argument. In the second place, the exclusion of rent from costs can be justified only if land has no alternative uses (which Ricardo assumed, unrealistically). Moreover, the Ricardian theory of value kept the role of demand restricted to a special class of (nonreproducible) goods. This is of course inadequate in the case where goods are not produced subject to constant average costs of production.