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April 19, 2016

Comments

Luis Enrique

here is one way of thinking about why MP is the wrong way to think about CEO.

suppose output is produced by n workers, who together perform a 'task'. Marginal productivity is well defined, for a given task, so you can add and subtract workers and output goes up and down like so: Y=t*(sum W_n) where W is the ability of worker indexed n

t is the chosen task, and in addition to the workers, there is a CEO who selects a task. For shareholders in such a business[1], choosing a CEO who is capable of finding a high value t would be worth paying a lot. But the CEO pay has to come out of output, so the more they are paid, the less there is left for the workers. If you pay the CEO anything at all, they get less than MP. But from point of view of workers, it is also worth finding a CEO who can deliver a high value t, because that's how they can get higher wages too. So CEO and workers have to bargain over wages.

The point of this toy model is simply to demonstrate how easy it is to get to a point where W=MP makes no sense. As I pointed out in my first comment, this sort of thing has been commonplace in mainstream econ for decades.

[1] I realise I haven't added capital to production

Luis Enrique

here is Gabaix - an extremely high status economist within the mainstream - with a survey on CEO pay

http://pages.stern.nyu.edu/~xgabaix/

"... traditional optimal contracting theories find it difficult to explain the data, suggesting that compensation results from "rent extraction" by CEOs."

Luis Enrique

sorry, Gabaix's webpage does something funny with urls, here is better link

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2576707

Luis Enrique

sorry for all the comments, but I'd further like to add that imo it is perfectly valid to argue that choosing a organizational form of the type sketched in my toy model is tantamount to conferring wealth on those lucky enough to be considered in the pool of CEOs, and that alternative models such as, for example, having the task chosen democratically by workers, would be better. I do not know what most mainstream economists would say about this, but imo it's definitely valid not just to ask what determines incomes with a certain system of economic organization, but to attribute incomes distributions to the nature of that system and think about alternatives.

Egmont Kakarot-Handtke

The solemn burial of marginalism

In order to tackle the problem of wages and employment economics has to switch from microfoundations to macrofoundations. The paradigm shift is achieved as follows.

(A0) The objectively given and most elementary configuration of the (world-) economy consists of the household and the business sector which in turn consists initially of one giant fully integrated firm.
(A1) Yw=WL wage income Yw is equal to wage rate W times working hours. L,
(A2) O=RL output O is equal to productivity R times working hours L,
(A3) C=PX consumption expenditure C is equal to price P times quantity bought/sold X.

These premises are certain, true, and primary, and therefore satisfy ALL methodological requirements. The macro axiom set contains NO NONENTITIES like utility, maximization, equilibrium, or a well-behaved production function. For the graphical representation of the absolute formal minimum set see link #1.

At any given level of employment L, the wage income Yw that is generated in the consolidated business sector follows by multiplication with the wage rate W. On the real side, output O follows by multiplication with the productivity R. Finally, the price P follows as the dependent variable under the conditions of (i) budget balancing, i.e. C=Yw and (ii) market clearing, i.e. X=O. Note that the ray in the southeastern quadrant is NOT a linear production function; the ray tracks ANY underlying production function. Note also that the wage rate W is an AVERAGE if the individual wage rates are different among the employees, which is normally the case. These details are not needed at the beginning but come later with DIFFERENTIATION.

Under the conditions of (i) market clearing and (ii) budget balancing in each period the price is derived as P=W/R (1), i.e. the market clearing price is in the most elementary case equal to unit wage costs. This is the elementary form of the Law of Supply and Demand which, in a later step, has to be generalized for an arbitrary number of markets.

The first thing to notice is that the real wage W/P is invariably equal to the productivity R according to (1). So, for the economy as a WHOLE the marginal principle does NOT hold. The real wage is NOT equal to marginal productivity — because there is NO marginal productivity — because there is NO such thing as a well-behaved production function. The real wage is equal to productivity.

Marginalism must ASSUME a well-behaved production function in order to make the green cheese assumption of constrained optimization work. This is methodologically ILLEGITIMATE and known since antiquity as petitio principii. To fool around with ASSUMED NONENTITIES is like kindergarten kids playing with Spiderman, Tooth Ferry, and Easter Bunny.

For the economy as a WHOLE holds: If the wage rate W is lowered, the market clearing price P falls. If the number of working hours L is increased the price remains constant, provided productivity R does not change. If productivity decreases the price P rises. If productivity increases the price falls. In any case, labor gets the whole product, and profit for the business sector as a whole is invariably zero. So, the next question is where does profit come from? This question has NEVER been answered by standard economics. So economists have NO idea of the most important phenomenon of their subject matter.

All changes in the system are reflected by the market clearing price. The most elementary economy is REPRODUCIBLE for an indefinite number of periods under the interim condition of no external limitations. With further DIFFERENTIATION one eventually arrives at the correct employment equation #2 and eventually at a single firm, that is, at micro.

What is standard economics? Krugman put it thus: “most of what I and many others do is sorta-kinda neoclassical because it takes the maximization-and-equilibrium world as a starting point”.

And this is why Krugman and the rest of standard economics is a failure. If the premises are false the whole theoretical superstructure implodes with karmic neccessity. It is as simple as that: garbage in, garbage out. This methodological truism, though, is forever beyond the ant horizon of marginalist losers.

Egmont Kakarot-Handtke

#1 Wikimedia, The pure consumption economy with market clearing and budget balancing https://commons.wikimedia.org/wiki/File:AXEC31.png

#2 Wikimedia, The structural employment equation https://commons.wikimedia.org/wiki/File:AXEC62.png

Egmont Kakarot-Handtke

The solemn burial of marginalism

In order to tackle the problem of wages and employment economics has to switch from microfoundations to macrofoundations. The paradigm shift is achieved as follows.

(A0) The objectively given and most elementary configuration of the (world-) economy consists of the household and the business sector which in turn consists initially of one giant fully integrated firm.
(A1) Yw=WL wage income Yw is equal to wage rate W times working hours. L,
(A2) O=RL output O is equal to productivity R times working hours L,
(A3) C=PX consumption expenditure C is equal to price P times quantity bought/sold X.

These premises are certain, true, and primary, and therefore satisfy ALL methodological requirements. The macro axiom set contains NO NONENTITIES like utility, maximization, equilibrium, or a well-behaved production function. For the graphical representation of the absolute formal minimum set see link #1.

At any given level of employment L, the wage income Yw that is generated in the consolidated business sector follows by multiplication with the wage rate W. On the real side, output O follows by multiplication with the productivity R. Finally, the price P follows as the dependent variable under the conditions of (i) budget balancing, i.e. C=Yw and (ii) market clearing, i.e. X=O. Note that the ray in the southeastern quadrant is NOT a linear production function; the ray tracks ANY underlying production function. Note also that the wage rate W is an AVERAGE if the individual wage rates are different among the employees, which is normally the case. These details are not needed at the beginning but come later with DIFFERENTIATION.

Under the conditions of (i) market clearing and (ii) budget balancing in each period the price is derived as P=W/R (1), i.e. the market clearing price is in the most elementary case equal to unit wage costs. This is the elementary form of the Law of Supply and Demand which, in a later step, has to be generalized for an arbitrary number of markets.

The first thing to notice is that the real wage W/P is invariably equal to the productivity R according to (1). So, for the economy as a WHOLE the marginal principle does NOT hold. The real wage is NOT equal to marginal productivity — because there is NO marginal productivity — because there is NO such thing as a well-behaved production function. The real wage is equal to productivity.

Marginalism must ASSUME a well-behaved production function in order to make the green cheese assumption of constrained optimization work. This is methodologically ILLEGITIMATE and known since antiquity as petitio principii. To fool around with ASSUMED NONENTITIES is like kindergarten kids playing with Spiderman, Tooth Ferry, and Easter Bunny.

For the economy as a WHOLE holds: If the wage rate W is lowered, the market clearing price P falls. If the number of working hours L is increased the price remains constant, provided productivity R does not change. If productivity decreases the price P rises. If productivity increases the price falls. In any case, labor gets the whole product, and profit for the business sector as a whole is invariably zero. So, the next question is where does profit come from? This question has NEVER been answered by standard economics. So economists have NO idea of the most important phenomenon of their subject matter.

All changes in the system are reflected by the market clearing price. The most elementary economy is REPRODUCIBLE for an indefinite number of periods under the interim condition of no external limitations. With further DIFFERENTIATION one eventually arrives at the correct employment equation #2 and eventually at a single firm, that is, at micro.

What is standard economics? Krugman put it thus: “most of what I and many others do is sorta-kinda neoclassical because it takes the maximization-and-equilibrium world as a starting point”.

And this is why Krugman and the rest of standard economics is a failure. If the premises are false the whole theoretical superstructure implodes with karmic necessity. It is as simple as that: garbage in, garbage out. This methodological truism, though, is forever beyond the ant horizon of marginalist losers.

Egmont Kakarot-Handtke

#1 Wikimedia, The pure consumption economy with market clearing and budget balancing https://commons.wikimedia.org/wiki/File:AXEC31.png

#2 Wikimedia, The structural employment equation https://commons.wikimedia.org/wiki/File:AXEC62.png

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