Monday, April 13, 2009

Economic ratios: crude but useful

Economists typically divide factors of production into land (the natural means of production), labour (human effort) and capital (the produced means of production). There has been something of an ongoing game in economics and broader social analysis in finding new forms of capital, so we have physical capital (factories, buildings, machinery, tools, etc.), human capital and social capital. As well as, of course, financial capital, but that is (in some ways) the odd one out.

It is a useful, if crude, measure to look at broad ratios. In an agrarian society where capital is scarce, two useful ratios to consider are the land/labour ratio—the number of workers to (productive) land—and the land/population ratio—the number of people to (productive) land. If capital is sufficiently scarce—as in a largely agrarian economy—the former is the main determinant of average wages and the latter the main determinant of average living standards.

So, if population goes up, wages tend to fall since expansion in output does not (without some improvement in technology or weather) match the increase in population, so labour becomes less scarce compared to land (or, more precisely, what labour is providing becomes less scarce to what the land is providing) and labour's price (wages, to use what is often a somewhat anachronistic term) fall. If population goes down, wages tend to rise as labour becomes more scarce compared to land so its price (wages) rises. As, for example, after the Black Death, which killed people not land, building, tools, machines or coins. The land/labour ratio matters because it sets relative scarcity and expresses how much—given the existing level of technology (both physical and social)—can be produced per person.
Obviously, we are talking averages here: this says nothing about how wealth and income are distributed in a society. Wages can rise with population if there are economies of scale (people able to specialize more and so produce more) and scope (more forms of skills or other specializations being available), as in the early medieval recovery from the post-Roman collapse. Basically, if people are able to get more out of what they have. It is what labour, land and capital provide which is crucial (hence the "absent some change in technology/expansion in capital/change in climate" provisos).

You can also get wages rising with population if the amount of productive land is being expanded, as also happened in the early medieval period during the recovery from the post-Roman collapse. It happened even more dramatically (for Europeans) with the European settlement of the Americas and the Antipodes. People talk as if land is fixed but, in economic terms, that is not so. Land can be cleared or reclaimed. It can also become more accessible--refrigerated transport reduced the value of farming land in the UK, for example, because it meant it was competing more directly with Argentina, Australasia, etc. Land can be used for different purposes. So, for example, if officials have discretionary control over land use (such as for housing), that can create housing price bubbles, as a constrained quantity response leads to an increased price response to increased demand. That turns houses into inflation-beating-assets, so people invest in them in part as inflation-beating-assets. Until, of course, the belief that prices will just continue to rise collapses, so they stop being inflation-beating assets—that part of their value being partly or completely wiped out as the bubble “bursts”.

The ultimate point being it is not land on its own which is productive, but land use.

Once capital becomes a significant part of the productive processes, one gets major shifts, since capital is far more expandable than use of land. In industrialised economies, the capital/labour ratio becomes much more important. Wages tend to rise because capital tends to expand faster than the labour force, at least in capitalist economies. In other words, increasing levels of capital makes labour more scarce even if population is increasing.

But this is a ratio thing. Increasing the labour supply must put downward pressure on wages by making labour less scarce than it otherwise would be. So the movement of women into the paid workforce and large-scale immigration have put downward pressure on average wages, even though household incomes have tended to increase (since they include more income-earners). Increasing levels of capital can, however, compensate, or more than compensate, for rising labour supply.

For example, Jewish migration to Palestine increased wages, since the migrating Jews increased the total level of capital more than they increased the population. The increased wage levels attracted non-Jewish migrants. Both rising wages and out-migration upset the social control mechanisms of the local landlord class (such as debt-bondage). It is not surprising that a prominent member of said landlord class led agitation against the upsetting newcomers, rather than trying to seek some mutually beneficial arrangements. (The freedom, democracy and prosperity of the “Zionist entity”—nowadays very visible through TV and TV ads—continue to be a standing indictment of various Arab regimes.)

There are lots of complications, such as labour/capital ratios varying between industries. Still, economic ratios—crude though they are—are useful in understanding broad trends in societies and economic history.

ADDENDA: This post has been amended to improve clarity and to expand points.

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