How the ruling class abstracted society out of economics

Though it appears as an established and rigorous science, the assumptions of modern economics were formulated in response to fierce social and political struggle between labor and capital

Modern economic theories rely on a foundational assumption: individuals striving to maximize their own personal benefits will produce an aggregate good for society. Economists don’t characterize the idea of society as such in their models. In fact, these models don’t even consider society as a real thing, let alone something that impacts economics in any substantive way. Individual actors who maximize their own benefit will magically lead to the equilibrium—that beautiful point where supply equals demand perfectly—that economists crave to observe.

This equilibrium is presupposed by many modern economists. In other words, the market mechanisms of supply and demand at play will automatically lead to equilibrium. If equilibrium is not reached, something must have gotten in the way. In this way, the pure free market will deliver the perfect economic solution. If it doesn’t, it isn’t as free as it needs to be, with the usual prescription being reduced state interference or mitigating the influence of unions on the supply and demand curve for labor.

According to these modern economic theories, everything is a commodity. Even labor. Labor is exchanged by workers for a wage. Capitalists shuffle around the number of workers according to their needs for production. Workers and capitalists are free to either enter a contract or not. Once again, there is no social aspect to any of this. In fact, if workers collectively organize, this is seen to introduce a distortion to the rational interaction between workers and bosses that would naturally result in equilibrium between wages and labor. Like everything else, it is considered to be a function of supply and demand. Workers, like everyone else exchanging commodities in a market, are assumed to exchange their labor for wages autonomously and of their own free will.

But this is not the way labor works in modern society. The relationship between a worker and a boss is not one of free exchange of labor for wages. The worker in many instances has to work in order to survive. They do not have the luxury of refusing to work. For Marx, workers are legally free to work, but they are not really free, because if they refused to do so, they would starve. This is what he meant when he spoke of the “double freedom” of workers.

Thus, one aspect of the relationship between workers and capitalists that modern (neoclassical and their offshoots) economic theories fail to take into account is this asymmetry in the power relationship. This asymmetry makes it impossible to even conceptualize (let alone model accurately) the relationship between wages and labor as a simple economic exchange, because the social aspect of the relationship is removed. But is it precisely this social aspect that makes wages a continual grounds for class struggle and makes labor and wages so hard to model in modern economic theories as simple problems of supply and demand.

This discounting of the social aspect in economic theory was not always the case. Even the father of economics, Adam Smith recognized the asymmetry in the power relationship between workers and bosses:

What are the common wages of labour depends everywhere upon the contract usually made between those two parties [the employee (worker) and the employer (master)], whose interests are by no means the same. The workmen desire to get as much, the masters to give a little as possible. The former are disposed to combine in order to raise, the latter in order to lower the wages of labour. It is not, however, difficult to foresee which of the two parties must, upon all ordinary occasions, have the advantage in the dispute, and force the other into a compliance with their terms. The masters, being fewer in number, can combine much more easily; and the law, besides, authorises, or at least does not prohibit their combinations, while it prohibits those of workmen. We have no acts of parliament against combining to lower the price of work; but many against combining to raise it. In all such disputes the masters can hold out much longer. A landlord, a farmer, a master manufacturer, or merchant, though they did not employ a single workman, could generally live a year or two upon the stocks which they have already acquired. Many workmen could not subsist a week, few could subsist a month, and scarce any a year without employment. In the long-run the workman may be as necessary to his master as his master is to him; but the necessity is not so immediate.¹

Smith is homing in on a crucial point here. He is saying that the wages that a given worker is able to get from their employer depend on the contract that they are able to negotiate. But crucially, this contractual arrangement is biased in favor of the boss in the extreme. Within a few decades after Smith published his Wealth of Nations, workers in Britain would be legally prohibited from establishing trade unions or entering into collectives with the intent to bargain for wages. This prohibition, formalized in the Combination Acts of 1799 and 1800, legally enshrined the power asymmetry that Smith articulates here.

For workers, and for classical political economists, this social aspect that pitted wages and profits against one another was a highly salient feature of their lives and their economic thinking

Classical political economy assumes that the division of income between profits and wages is not determined by supply and demand in markets, but rather by society—social custom for Smith and Ricardo, class struggle for Marx. Either way, classical political economy sees this major economic fact as socially decided outside of markets. Markets then enter to determine the prices of goods, how much capitalists invest, how many workers are employed, and how fast the economy grows.²

In contrast to modern economic theories, these formulations assume that the relationship between wages and profits is determined by society. They referred to this as being determined by “custom,” meaning that society decided what an acceptable standard of living was and thereby what an acceptable wage was. This relationship was hinted at by Smith, but was formalized by David Ricardo in his economic theory

Ricardo’s assumption about the social determination of wages means that society and markets are inextricably intertwined in an economy. Markets play an important role, but there is no exclusive market sphere. An economy, however efficient or inefficient it might be, cannot even be imagined outside of a social framework. By contrast, neoclassical theory admits only individual preferences working through markets. Each individual knows what gives him or her more utility or less utility: which goods are preferable to which other goods. Not only may individuals disagree with one another, but their views about utility cannot be compared. Thus, neoclassical theory sees markets alone as creating an economy and does not even admit the concept of society.³

Aside from the idea that markets alone dictate the exchange of commodities, including labor and wages, another significant difference between classical and neoclassical economics is the way they conceptualize the value of a commodity. For classical economists, the value of a commodity is equivalent to the amount of labor required to produce it (the so-called labor theory of value). For neoclassical theories of economics, the value of a commodity is determined by the marginal utility that a consumer experiences. This is just another way of saying that we subjectively value different commodities depending on how much of something we already have. If we have a lot of something, getting more of it isn’t really that important. But if we don’t have a lot of something, getting it has some degree of utility. In all our exchanges on the market, we attempt to maximize our individual utility.

Putting aside whether the labor theory of value or the marginal utility of value is more “correct” in terms of theoretical modeling (they both have their issues), the subjective effect of these explanations in the minds of workers could not be more different. The labor theory of value suggests that the value of the commodities that a worker produces is directly proportional to the amount of labor that worker expends. The capitalist will sell the product and keep a portion of the income received as profit while paying the worker some wage for their labor.

In this formulation, the worker produces all of the value and the capitalist extracts some of the value of the worker’s labor as profit. Indeed, this was precisely what Marx asserted was the case in the capitalist system.

Unsurprisingly, in combination with the uniformly terrible and exploitative working conditions during the Industrial Revolution, this conceptualization of value and its expropriation as capitalist profit led to severe dissatisfaction and agitation among the working class. This culminated with the movements of the “Ricardian socialists” who engaged in social and political struggle, writing pamphlets and lobbying Parliament against passing anti-labor legislation. They worked to educate workers about economics and organize them and prod them into political action. Their movements corresponded with the demands for universal (male) suffrage made by the Chartists and the social and political unrest that followed.

The amplified class struggle threatened the foundations of society as currently constituted in Britain and caused the ruling class no small degree of concern

As the so-called Ricardian socialists roused the British working class, academic economists and their politician allies—often the same individuals—worried… By the 1830s these economist-politicians were crafting proto-neoclassical ideas to extricate society from classical theory and replace it with individual utility maximization.⁴

Over the next decades, a number of theoretical innovations were made by individuals such as William Jevons, Léon Walras, and Carl Menger (considered the fathers of neoclassical economics). These innovations, though not all politically-motivated, dealt nicely with the problems posed by classical economic ideas that asserted that society determined the trade-off between wages and profits, and thus these contractual arrangements could be affected and changed by social and political action.

The new economics disposed of this idea wholly. The social aspect of labor was removed, and units of labor and capital were, like everything else in these models, commodified and abstracted from their social context, determined solely as a function of supply and demand

The neoclassical theory that emerged in Britain over the course of the nineteenth century seemed to respond to these economist-politicians’ concerns. It rejected the assumption that social custom determines the division of income between capital and labor, and replaced it with assumptions about atomistic individuals and firms. Consumers are supposed to buy more oranges and fewer apples at the market, or vice versa, to maximize utility. Firms are likewise supposed to choose between factors of production on the market, hiring more capital and less labor—more machinery and fewer workers—or vice versa, to minimize costs. These purely individualistic choices determine the division of income between capital and labor, as well as the prices of goods. The very concept of society is banished.⁵

The neoclassicists even removed the term “political” from their discipline. Henceforth is was to no longer be known as political economy, only as economics. The new name did away with any notion that political or social concerns had anything to do with the discipline, and conferred upon it a solemnity and seriousness akin to physics. Economists were not studying anything to do with society or politics, they were deducing natural laws of markets, supply and demand, and rational individual utility maximization.

Today, economics assume these as maxims that need no explanation or testing. By contrast, the impacts of class struggle or union activity—the social aspects of labor—are viewed as distortions of the equilibrium that the market is constantly striving to reach—indeed will reach—if only allowed to be as free as it needs to be. This assumed distortion is the reason why neoclassical economists are so critical of the labor movement or any state intervention in worker’s rights or wages.

As a result of the theoretical innovations of the ruling class of the 19th century, who also happened to be the economic theorists, the power asymmetry that sits at the heart of the class struggle between labor and capital plays no significant role in modern economic theories, replaced by asymmetries in information known regarding commodities between sellers and buyers.

Though the ruling class have removed society from economics, this power asymmetry remains frustratingly in the shadows, tormenting economists. It remains the invisible driver of the volatility in the labor market that refuses to submit to the modelers, in much the same way as the workers—whose social reproduction of their lives constitutes the grounds for continuing class struggle—refuse to submit to the capitalists.

1. Adam Smith, quoted in Jean Vercherand’s Labour: A Heterodox Approach.

2. Jonathan Schlefer, The Assumptions Economists Make, 32.

3. Ibid, 54.

4. Ibid, 71.

5. Ibid, 73.