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The term Wicksell effects was introduced by Joan Robinson (1953, p. 95) during a debate in the theory of capital. There is a distinction between price Wicksell effects and real Wicksell effects (henceforth, PWE and RWE). A PWE relates to a change in relative prices corresponding to a change in income distribution, given the system of production in use. A RWE in addition takes into account the problem of the choice of technique. The “changes” under consideration refer to comparisons of long-period equilibria.
Knut Wicksell (1954; 1934, pp. 147-151) discussed these effects within an “Austrian” framework of the analysis, which conceives of production as a one-way avenue of finite length leading from the services of original factors of production, in particular labor, via some intermediate products to consumption goods. Before Wicksell they had been studied by the classical economists, especially David Ricardo (Works I, pp. 30-43), who wrote that relative prices depend on income distribution because of the “variety of circumstances under which commodities are actually produced” (Works IV, p. 368). This in conjunction with the fact that “profits [are] increasing at a compound rate … makes a great part of the difficulty” (Works IX, p. 387). Ricardo also tackled the problem of the dependence of the chosen technique on distribution in his disquisitions on rent and on machinery (1951-1973). The classical economists and Karl Marx typically conceived of production as a circular flow where commodities are produced by means of commodities.
The source of PWEs can be illustrated by expressing the ratio of the prices of two commodities, A and B, by means of their “reduction to dated quantities of labour” (Sraffa 1960, chapter VI). Call pa and ph the prices of one unit each of two commodities, w the wage rate per unit of labor (paid post factum), and r the rate of interest (or profits). Then we have
last but one stage; and so on. Whereas with the Austrian concept each series is finite, with the classical circular flow concept it is infinite. Because for a given system of production the rate of interest and wages are inversely related (as has already been established, albeit imperfectly, at the time of the classical economists), a change in distribution typically affects the prices of the two commodities differently: It all depends on how the total amounts of labor expended are distributed over time—whether or not relatively much labor is expended in early periods of time and little in later ones. Because with a rise of w and the corresponding fall of r the size of each term in each of the reduction equations (except the first one) is pulled in different directions, the overall effect of a change in distribution on relative prices depends on how the time patterns of the labor inputs compare with one another, with compound interest as a magnifier.
With a choice of technique, a change in the real wage rate may prompt cost-minimizing producers to change the methods of production to produce the various commodities. This brings us to the concept of RWE. In order to be able to compare the new situation with the original one, it has to be assumed that in both situations the same net output is produced; typically the economy is taken to be in a stationary state both before and after the change. The questions to be answered are: (1) which technique will be chosen in the new situation?; (2) what will then be the level of the other distributive variable and the set of normal prices?; and, most importantly, (3) is it possible to say anything definite about how the two situations compare with one another?
To illustrate RWEs, we may refer back to the equation above, but now A and B stand for two different processes of production of a given commodity available to producers. In competitive conditions the method chosen will be the one that allows one to produce the commodity at lower unit costs and thus a lower price.
Marginalist theory, of which Austrian theory is but a variant, maintains that both effects are positive. A positive PWE means that with a rise (fall) in the rate of interest, consumption goods will become relatively more (less) expensive compared with capital goods. The reason given is that consumption goods are said to be produced more capital intensively than are capital goods, because consumption goods emerge at the end of the production process, whereas capital goods are intermediate products that gradually “mature” towards the final product. The higher (lower) the rate of interest, the less (more) expensive the intermediate products in terms of a standard consisting of a (basket of) consumption good(s). At the macro level of a stationary economy (in which the net product contains only consumption goods), this implies that with a rise in the rate of interest, the value of the net social product rises relatively to the value of the aggregate of capital goods employed. Clearly, seen from the marginalist perspective, a positive PWE with regard to the relative price of the two aggregates under consideration involves a negative relationship between the aggregate capital-to-net output ratio on the one hand and the interest rate on the other. Let K/Y = xp(r)/yp(r) designate the capital-output ratio, where x is the row vector of capital goods, y the row vector of net outputs, and p(r) the column vector of prices (in terms of the consumption vector) which depends on r); then the marginalist message is:
Because for a given system of production the amount of labor is constant irrespective of the level of the rate of interest, the ratio of the value of the capital goods and the amount of labor employed, or capital-labor ratio, K/L, would also tend to fall (rise) with a rise (fall) in the rate of interest:
This is the first claim marginalist authors put forward. The second is that RWEs are also positive. A positive RWE means that with a rise (fall) in the rate of interest, cost-minimizing producers switch to methods of production that generally exhibit higher (lower) labor intensities, “substituting” for the “factor of production” that has become more expensive—”capital” (labor)—the one that has become less expensive—labor (“capital”). Hence (II) is said to apply also in this case. The assumed positivity of the RWE underlies the marginalist concept of a demand function for labor (capital) that is inversely related to the real wage rate (rate of interest).
Careful scrutiny of the marginalist argument has shown that it cannot be sustained generally: There is no presumption that PWEs and RWEs are invariably positive. In fact, there is no presumption that techniques can be ordered monotonically with the rate of interest (Sraffa 1960). As Mas-Colell (1989) stressed, the relationship between K/L and r can have almost any shape. The finding that PWEs and RWEs need not be positive challenges the received doctrine of the working of the economic system as it is portrayed by conventional economic theory with its reference to the “forces” of demand and supply.
Bibliography:
- Kurz, Heinz D., and Neri Salvadori. 1995. Theory of Production: A Long-Period Analysis. Cambridge, U.K., Melbourne, and New York: Cambridge University Press.
- Mas-Colell, Andreu. 1989. Capital Theory Paradoxes: Anything Goes. In Joan Robinson and Modern Economic Theory, ed. George R. Feiwel, 505–520. London: Macmillan.
- Ricardo, David. 1951–1973. The Works and Correspondence of David Ricardo, 11 vols., ed. Piero Sraffa with Maurice H.Dobb. Cambridge, U.K.: Cambridge University Press.
- Robinson, Joan V. 1953. The Production Function and the Theory of Capital. Review of Economic Studies 21: 81–106.
- Sraffa, Piero. 1960. Production of Commodities by Means of Commodities: Prelude to a Critique of Economic Theory. Cambridge, U.K.: Cambridge University Press.
- Wicksell, Knut. [1893] 1954. Value, Capital, and Rent. London: Allen and Unwin. Reprint 1970. New York: Kelley.
- Wicksell, Knut. [1901] 1934. Lectures on Political Economy. Vol. 1. Trans. E. Classen, ed. Lionel Robbins. London: George Routledge and Sons.
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