LONG-PERIOD PRICES, DISTRIBUTION AND

THE CHOICE OF TECHNIQUE

MAIN POINTS:
 Defining the rate of profit; the notion of a
uniform rate of profit, centres of gravity and the
associated “normal” (relative) prices
 Normal prices are determined by the technique of
production and one of the distributive variables
 Conflicting income shares: the real wage and the

rate of profit are inversely related

 Complexity in relative price movements with
changes in distribution
 Some production conditions are integral to the
price system: basics versus non-basics
 The choice of technique - the role of distribution
 The rate of profit
 We suppose that in a capitalist economy, capitalists

are interested in maximising profit

 => comparison of profitability across sectors
 => comparison of profit rates across sectors
 Consider the two-commodity iron/corn model
 With constant returns to scale, profit rates for total
output of a commodity are the same as the profit rate
for each unit of the commodity
 => the profit rate for each sector can be written as

p i − wm .l i − ( a ci . p c + a ii . p i )
ri =
( a ci . p c + aii . pi ) ........(2.1)
p c − wm .l c − ( a ic . pi + a cc . p c )
rc =
( aic . pi + a cc . p c ) 6
 In a subsistence economy:
Aa + Ab + Ac = A Aa pa + Ba pb + Ca pc = Apa
Ba + Bb + Bc = B ∴ Ab pa + Bb pb + Cb pc = Bpb
C a + Cb + Cc = C Ac pa + Bc pb + Cc pc = Cpc
 => any one of the price equations can be inferred
from the other two, e.g. from 2nd and 3rd equation =>
Ab pa + Ac pa + Bb pb + Bc pb + Cb pc + Cc pc = Bpb + Cpc
From Ab pa + Ac pa = Apa − Aa pa
Bb pb + Bc pb = Bpb − Ba pb
Cb pc + Cc pc = Cpc − Ca pc
Apa − Aa pa + Bpb − Ba pb + Cpc − Ca pc = Bpb + Cpc
Apa = Aa pa + Ba pb + Ca pc  => only 2 indep. equs.
 With two linearly independent equations, and
physical quantities known, two of the prices in terms
of one other could be determined endogenously =>
e.g. by setting pa = 1, and determining pba and pca
 However, as Sraffa (1960) notes, if the physical
system generates a surplus the equations
Aa pa + Ba pb + Ca pc = Apa
Ab pa + Bb pb + Cb pc = Bpb
Ac pc + Bc pc + Cc pc = Cpc
become “self-contradictory” (p.6).
 Physical quantities of inputs will no longer match
outputs => no one equation above can be inferred
from the other two => 3 linearly independent equs. to
determine 2 relative prices
 With a surplus produced could we get back to the
original case, by “allotting the surplus before the
prices are determined” (ibid.,) (e.g. by subsuming the
surplus quantities of A, B and C in Aa, Bb, and Cc input
quantities), so as to maintain 2 linearly independent
equations ?
 No. Need to know prices to “allocate the surplus”
i.e. “the surplus (or profit) must be distributed in
proportion to the means of production (or capital)”
(ibid.)
 But prices include a rate of profit and therefore
cannot be known prior to the rate of profit
 “The distribution of the surplus must be determined
through the same mechanism and at the same time as
are the prices of commodities” (ibid.)
Normal prices and a uniform rate of profit
 In the absence of restrictions on mobility of
resources between sectors expect capitalists to
exploit differentials in profit rates
 => tendency to uniformity of profit rates
 => view by Classical Political Economy and in
marginalist theory up to 1930’s that uniform profit
rates represented a “center of gravity” in a
competitive capitalist economy
 => useful starting assumption that ri = rc = r
 Rearranging equations (2.1) with ri = rc = r =>
pi = ( a ci . p c + aii . pi ).(1 + r ) + wm .l i
........(2.2)
p c = ( aic . pi + a cc . p c ).(1 + r ) + wm .l c
 Note: if technical conditions of production
are given => 2 equations with 4 unknowns
 Can reduce the problem to one of
determining relative values by choosing a
numeraire, e.g. corn, => setting pc = 1 =>
( aci + aii . pic ).(1 + r ) + w.li = pic
……..(2.3)
( aic . pic + acc ).(1 + r ) + w.lc = 1
where w = wm/pc and pic = pi/pc
 => 2 equations with 3 unknowns
 Alternatively, one might take the money wage
as the numeraire =>
( aci . pcw + aii . piw ).( 1 + r ) + li = piw ……..(2.4)
( aic . pic + acc . pcw ).( 1 + r ) + lc = pcw
where piw = pi / wm and pcw = pc/ wm 10
 For both (2.3) and (2.4), setting one unknown
exogenously, allows the remaining two unknowns
to be determined by the price equations
 So which variable – real wage, rate of profit or
relative price – should be exogenous ?
 Consider the n-commodity case
The n-commodity case
 The technique of production is given by

a 11 a 12 a 13  a 1n 
a a 22 a 23  a 2n 
 21 
a 31 a 32 a 33  a 3n 
 
     
a n1 a n2 a n3  a nn 
 

 l1 l2 l3  ln 
 z = 3x + y + 4
z = 7x + 2 y + 1

3x + y + 4 = 7 x + 2 y + 1

y = 3 − 4x

Or we can derive a relation between x and z or a

relation between y and z
=> the n-sector price system is
( a11. p1 + a 21. p2 + a31. p3 + ..... + a n1. p n ) .(1 + r ) + wm .l1 = p1
( a12 . p1 + a 22 . p 2 + a32 . p3 + ..... + a n2 . p n )(1 + r ) + wm .l 2 = p 2
( a13 . p1 + a 23 . p 2 + a33 . p3 + ..... + a n3 . p n )(1 + r ) + wm .l3 = p3
     
( a1n . p1 + a2n . p 2 + a3n . p3 + ..... + ann . p n )(1 + r ) + wm .l n = p n
……..(2.5)
 With commodity k as numeraire (p = 1) => n-1
k
relative prices (i.e. price of commodities other than k
in terms of commodity k), real wage (in terms of k)
and rate of profit
 => n+1 unknowns in n equations
 Note similarity with two-sector case
 Different versions of the “surplus approach”
(i.e. CPE and “modern classical” approaches) take one
of the two distributive variables as exogenous =>
 (i) relative prices and remaining distributive variable are
fully determined by the price system: i.e. by technical
conditions and the value of the exogenous distributive
variable
 (ii) resulting relative prices are “normal” or “long-period
equilibrium” prices
 (iii) relative prices can only change if technical conditions
or the value of the exogenous distributive variable change
 (iv) changes in demand for a commodity affect it’s long-
period relative price only where they affect technical
conditions or the exogenous distributive variable
 (v) income distribution is partly exogenous to the price
system (contrast with marginalism ?)
 In the words of Garegnani, (in describing how
Sraffa himself arrived at this theoretical position)
 “the basic result [is] …. that essentially, the physical
conditions of production of the commodities [plus a given
real wage or rate of profit] and the need to allow
production to be repeated [and thus for relative prices to
be such as to allow for production to be repeated] are
sufficient to determine relative prices quite independently
of what are generally understood as ‘demand and supply
forces’”
 (“On a turning point in Sraffa’s theoretical and
interpretative position of the 1920’s”, Euro. Jrnl of the
History of Economic Thought, Sept. 2005, p. 469)
Closing the price system for the iron/corn case:
Let wm = X.pc ∴w = X ……..(2.6)
 With X given, and taking corn as the numeraire,

( aci + aii . pic ).(1 + r ) + X .li = pic

……..(2.7)
( aic . pic + acc ).(1 + r ) + X .l c = 1
 Alternatively, with wm = Xc.pc + Xi.pi and Xc
and Xi given, and corn as numeraire,
( aci + aii . pic ) .( 1 + r ) + li .( X c + pic .X i ) = pic ……..(2.8)
( aic . pic + acc ) .( 1 + r ) + lc .( X c + pic . X i ) = 1
 With r exogenously given in (2.7), the relative
price and X (the real wage in terms of corn) are
determined endogenously
 Interesting question – what forces govern the
exogenous distributive variable ?
The real wage - rate of profit relation
 What is the relation between the two distributive
variables - w and r ?
Supposition in CPE – at least Ricardo and Marx –
that the relation was inverse
 For Ricardo

SOCIAL PRODUCT - NECESSARY CONSUMPTION

r=
NECESSARY CONSUMPTION
 SOCIAL PRODUCT
r= −1
NECESSARY CONSUMPTION
SOCIAL PRODUCT
= −1 ……..(2.9)
w.L
 But outside of a one-commodity case, even with the
real wage exogenous, expression (2.9) is insufficient
to determine the rate of profit, r
 => insufficient to establish an inverse w – r relation
 Consider the two-sector case:

( a11. p1 + a 21. p 2 ).(1 + r ) + wm .l1 = p1 ……..(2.10)

( a12 . p1 + a 22 . p 2 ).(1 + r ) + wm .l 2 = p 2
 Assume p2 = 1, so that
( a11. p12 + a 21 ).(1 + r ) + w2 .l1 = p12 ……..(2.11)
( a12 . p12 + a 22 ).(1 + r ) + w2 .l 2 = 1
where w2 = wm / p2 and p12 = p1 / p2.
 Rearranging equations (2.11),

( a11.a 22 − a12 .a 21 ).(1 + r ) 2 − ( a11 + a 22 ).(1 + r ) + 1

w2 =
( l1.a12 − l 2 .a11 ).(1 + r ) + l 2 ……..(2.12)
 Or, alternatively, with p1 = 1
( a11 + a 21. p 21 ).(1 + r ) + w1.l1 = 1 ……..(2.13)
( a12 + a 22 . p 21 ).(1 + r ) + w1.l 2 = p 21
where w1 = wm / p1 and p21 = p2 /
p1.
( a11.a 22 − a12 .a 21 ).(1 + r ) 2 − ( a11 + a 22 ).(1 + r ) + 1
w1 =
( l 2 .a 21 − l1.a 22 ).(1 + r ) + l1 ……..(2.14)
 With
dw1 dw2
< 0 and <0
dr dr
 For example, consider equations (2.13) with the
second equation (commodity 2) rewritten as
1
( a12 .(1 + r ) + w1.l 2 ) = 1 − a 22 .(1 + r )
p 21
so that, if both w1 and r rise, p21 must rise. But from
the first equation (2.13)
( a11 + a 21. p 21 ).(1 + r ) + w1.l1 = 1
 If both w1 and r rise, p21 must fall. Hence w and r
cannot both rise
Note: the w – r relation is inverse regardless of
the numeraire
 Other features of the w-r relation: the
maximum rate of profit, maximum real wage
and relative prices
 With an inverse w-r, the maximum rate of profit
will be associated with w = 0. Substituting this
condition in (2.12) and (2.14) yields
( a11.a 22 − a12 .a 21 ).(1 + r ) 2 − ( a11 + a 22 ).(1 + r ) + 1 = 0
……..(2.15)
 Note that the max. r (= R) is independent of the
numeraire and labour input requirements
 Maximum real wage will be associated with r = 0.
Substituting in (2.12) and (2.14) yields respectively

W2 =
( 1 − a11 ) . ( 1 − a22 ) − a12 .a21
W1 =
( 1 − a11 ) . ( 1 − a22 ) − a12 .a21
( l1.a12 − l2 .a11 ) + l2 ( l2 .a21 − l1.a22 ) + l1
……..(2.16)
  => maximum real wage depends on the numeraire
Summing so far: for each technique (i.e. set of
aij’s and li’s) one can construct a price system
which yields: (i) an inverse relation
between w and r, whatever
the numeraire;
w (ii) a maximum rate of
profit independent of the
W2 numeraire; and
W1 (iii) a maximum real
wage dependent on the
numeraire

R r
 From equations (2.12) and (2.14) respectively
p1
=
( l2 .a21 − l1 .a22 ).( 1 + r ) + l1
and
wm ( a11 .a22 − a12 .a21 ).( 1 + r ) 2 − ( a11 + a22 ).( 1 + r ) + 1
p2
=
( l1 .a12 − l2 .a11 ) .( 1 + r ) + l2
wm ( a11 .a22 − a12 .a21 ).( 1 + r ) 2 − ( a11 + a22 ).( 1 + r ) + 1

so that
w2 p1
= = p12 =
( l2 .a21 − l1 .a22 ).( 1 + r ) + l1
w1 p2 ( l1.a12 − l2 .a11 ).( 1 + r ) + ……..(2.16)
l2
dp12 >
where 0 ……..(2.17)
dr <
depending on the technical conditions of
production
 Note: any set of relative prices will in general
presuppose a particular income distribution
 Note that where

l2 .a21 = l1 .a22
l2 l1
=
a22 a21
l1 .a12 = l2 .a11
l1 l2
= =
a11 a22

dp12
so that =0
dr
 More generally, consider again the n-commodity
case (2.5) and assume wm = 1, and consider the
relative price pj1
From Pasinetti (1977, pp. 82-83),
dp j1 >
0 according to whether
dr <
 n n

 p1 ∑ aij . pi − p j ∑ ai1. pi  +
 i =1 i =1 
 n dpi n
dpi  >
( 1 + r ) .  p1 ∑ aij . − p j ∑ ai1.  0
 i =1 dr i =1 dr  <
 Note: 1st term relates to technology solely of the
two sectors – i and 1
 But 2nd term brings into play technologies in
other sectors, via effects of ∆’s in r on other prices
 Where r = 0 and thus where w = W

p12 =
( l2 .a21 − l1 .a22 ) + l1
( l1.a12 − l2 .a11 ) + l2 ……..(2.18)

 In this case relative prices depend on the relative

quantities of embodied labour (direct and indirect)
Basics and non-basics
 Are some commodities “more important” than
others in terms of the determination of income
distribution ?
 Sraffa’s (1960) distinction between basic and non-
basic commodities addresses this question
 Basic commodities are required directly or
indirectly in the production of all commodities
 Consider a 3-commodity economy with the
following technical conditions:
a 11 a 12 a 13   => commodities 1
a a 22 a 23  and 2 are basic;
A =  21
 0 0 0  commodity 3 is non-
  basic
 l1 l2 l3 
 The price system is:
( a11. p1 + a 21. p 2 + 0. p3 ).(1 + r ) + wm .l1 = p1
( a12 . p1 + a 22 . p 2 + 0. p3 )(1 + r ) + wm .l 2 = p 2……..(2.20)
( a13 . p1 + a 23 . p 2 + 0. p3 )(1 + r ) + wm .l3 = p3
 Taking commodity 1 as numeraire:
 ( a11 + a21. p21 + 0. p31 ) . ( 1 + r ) + w1.l1 = 1
( a12 + a22 . p21 + 0. p31 ) ( 1 + r ) + w1 .l2 = p21 ……..(2.21)
( a13 + a23 . p21 + 0. p31 ) ( 1 + r ) + w1.l3 = p31
 Consider first two price equations => 2 equations
in p21, r and w1
=> with w1 exogenous for example, p21 and r are
fully determined
 Substituting solved value for r and p21 in 3rd
equation determines p31
 => relative price of basic commodities and
endogenous distributive variable can be
determined by reference exclusively to the
conditions of production of basic commodities
 ( a11 + a21. p21 + 0. p31 ) . ( 1 + r ) + w1.l1 = 1
( a12 + a22 . p21 + 0. p31 ) ( 1 + r ) + w1 .l2 = p21
( a13 + a23 . p21 + 0. p31 ) ( 1 + r ) + w1.l3 = p31
 Note, taking either the 2nd and 3rd equations
or the 1st and 3rd equations, we would have
two equations in 4 unknowns and could not
therefore solve as before by taking one of the
distributive variables as exogenous
 Conditions of production of non-basics are relevant
only to their own prices and those of other non-basics
into which they enter as input
Other implications of the basic/non-basic distinction?
 Consider a change in technical conditions of a
commodity (e.g. due to an invention)
If the commodity is basic – all prices in the system
are affected
 If the commodity is non-basic – only its own price
and that of other non-basics into which it is an input are
affected
 Problems with partial equilibrium micro analysis:
e.g. a tax on the production of a basic affects all prices
 => a violation of ceteris paribus behind supply curve
 Choice of technique
 Consider the two-commodity case, with 3 available
techniques differing in the method used to produce
commodity 2.
 Each technique => w-r curve for a particular
numeraire
 Assume the same numeraire for each technique
=> can compare w-r relations
Suppose the techniques are:

 a11 aα  a β   a11 a δ 
a
Aα =  12  A β =  11 12  Aδ =  12 
 a 21 a α22  β
 a 21 a 22  δ
 a 21 a 22 
 Which technique is chosen at different w-r
combinations?
Taking w as exogenous, presumably technique
yielding highest rate of profit
What if r is exogenous ?
 Consider for example r = r

δ β wm wm
w
w >w => >
α
pδ pβ
=> pδ < p β
β

_
w δ

0 _ r
r
 Suggests that technique which would dominate in
a long-period equilibrium, for a given rate of profit,
would be that which generates the highest real wage
 => dominant technique will be the technique
generating the highest rate of profit at the given
real wage or the highest real wage at the given
rate of profit
w
 Suggests that the α
relevant portion of
the set of w-r curves
(representing
β
available
techniques) is the _ w δ
outermost envelope
of this set 0 _
r r
 Note: adjacent techniques at a switch point will
in general differ in the method of producing only
one of the commodities
 => in the 2-commodity case, at the switch point
there are three unknowns between the two price
systems – p21, w1 and r
 => require three equations from the two systems
= > only one equation can be different between the
two systems
 Applying this choice of technique analysis to basic
commodities, a lower price for one commodity under
one method => a lower price for all commodities
using that method
 => ranking of techniques according to profitability
as w falls and r rises is the same regardless of the
numeraire
Some comparisons with orthodox theory
 How does one reconcile “modern classical”
analysis so far with orthodox demand and supply
explanation of relative prices ?
 Analysis so far suggests that changes in the
composition of demand would not affect relative
prices unless they affect the exogenous distributive
variable or technical conditions of production
 Orthodox theory however allows for such an effect:
specifically, for changes in demand to impact on
income distribution
 For example, a rise in demand for a particular
commodity, relative to other commodities, increases
relative demand for factors used more intensively in
the production of this commodity
 => relative price of those factors rises
=> unit cost of production rises
 Hence, even with CRTS (i.e. constant aij’s and li’s )
in an orthodox framework, unit cost and hence
“supply price” rises with output
 i.e. supply curve can be rising with output even
with CRTS
 => dependence of price on demand in an
orthodox framework, at least with CRTS, is a
reflection of the dependence of the return to factors
of production and hence income distribution on
demand and supply
 Is there a role for demand and supply interaction in
a modern classical approach ?
 Yes – in disequilibrium, rather than equilibrium !
 In an orthodox framework demand and supply
(interpreted as functional relations) interaction
governs the equilibrium price as well and the out-
of-equilibrium price
 In a modern classical approach demand and
supply interaction affects out-of-equilibrium prices
 BUT equilibrium prices are determined by
technical conditions and an exogenous distributive
variable