[A-List] Henry C.K. Liu: OLEC - Part 1

["Sabri Oncu" <soncu@xxxxxxxxxxx>]

http://www.atimes.com/atimes/Global_Economy/HB25Dj01.html

PART 1: The need for a labor cartel

The global economy as currently constituted does not operate with a free
market by any stretch of imagination, the propaganda of neo-liberal
free-traders notwithstanding. For this reason, there is a need for a global
cartel for labor. 

Three related facts combine to make the global market not free. The first
fact is that global trade is carried out under an international finance
architecture based on dollar hegemony, which is a peculiar arrangement in
which the US dollar, a fiat paper currency backed by nothing of intrinsic
value, can be printed at will by the United States, and only the United
States, thus making export for dollars a game of shipping real wealth
overseas for paper that is only usable in the dollar economy and useless
domestically in all other non-dollar countries. 

Key commodities, such as oil, are denominated in dollars primarily because
of US geopolitical prowess. Most economies need dollars to buy imported oil,
but the exporting economies buy much more oil than they otherwise need
domestically merely to satisfy the energy needs of their export sectors. The
net monetized trade surplus from exports in the form of dollars, after
paying for dollar-denominated oil and other imports, remains useless in the
domestic markets of the exporting economies. Thus dollar hegemony reduces
the non-dollar exporting economies to an absurd position: the more dollars
from trade surplus they accumulate, the poorer they become domestically.
This situation is exacerbated if domestic wages are kept low by export
policy in order to compete for more global market share to earn dollars. It
is a case of starving one's own children to provide free child labor to
serve ice cream to outsiders. It is bad enough to exchange valuable goods
for fiat paper; it is outright foolhardiness to keep domestic wages low
merely to earn fiat paper that cannot even be spent in one's own economy. 

The second fact that makes the global market not free comes from
neo-classical economics' flawed definition of labor productivity as the
amount of market value a worker can produce with a given unit of capital
investment. 

Since according to monetary economics, market value, which is expressed as
price, needs to remain stable to prevent inflation, labor productivity in
financial terms can only be increased with declining wages per unit of
capital. Further, price competition for market share directly depresses
wages. Even if wages can at times rise in monetary terms, the ratio of wages
to the market value of production must constantly fall in order for
increased labor productivity to be monetized as profit. Thus profits from
trade under this flawed definition of productivity ultimately can only be
derived from falling wages. 

The concept of surplus value within the context of the labor theory of value
as explained by Karl Marx embodies this structural compulsion. Yet Marx was
speaking of the structural effect of fair profits, not the obscene profits
that are now the norm from sweatshops in the deregulated global market.
Neo-classical economics replaces the labor theory of value with the theory
of marginal utility, in which price is defined as the intersection of supply
and demand in a free market. William Stanley Jevon (Theory of Political
Economy, 1817), Carl Menger (Principles of Economics, 1871), and Leon Walrus
(Elements of Pure Economics, 1877) promulgated the marginal-utility,
neo-classical revolution. 

Yet today's allegedly free market in effect deprives labor of any pricing
power over its market value. Since capitalism does not recognize any ceiling
for fair profit, always celebrating the tenet of "the more the merrier", it
must by implication oppose any floor for fair wages, to validate the
opposite tenet of "the lower the merrier". The terms of global trade, then,
are based on seeking the lowest wages for the highest profit, rather than
fair wages for fair profit. This is the linkage between neo-liberal
capitalistic globalization and wage arbitrage, both in the domestic labor
market and across national borders. Yet in a consumer-based global market
economy, low wages lead directly to overcapacity, because consumer demand
depends on high wages. The adverse effect on consumer demand from the quest
for maximum profit is the critical internal contradiction of the deregulated
capitalistic market economy. 

The third fact that makes the global market not free is that while financial
globalization facilitates unrestricted cross-border mobility of capital
around the globe, obdurate immobility of workers across national borders
continues to be maintained through government restrictions on immigration. 

Free-trade advocates, from Adam Smith (1723-90) to David Ricardo
(1772-1823), in considering the relationship between capital and labor,
treat the mobility disparity between capital and labor as a natural state,
never entertaining that it is a mere political idiosyncrasy. This "natural"
immobility of labor might have been reality in the 18th century, but it is
no longer natural in the jet-age global economy of the 21st century in which
mobility has become a natural characteristic. Labor immobility deprives
labor of pricing power in a global market by preventing workers from going
where they are needed most and where market wages are highest, while capital
is free to go where it is needed most and where return on investment is
highest. This econo-political regime against labor mobility, coupled with
unrestrained cross-border mobility of capital, maintains a location-bound
wage disparity that has created profit opportunities for cross-border wage
arbitrage, in a downward spiral for all wages everywhere. 

Greenspan supports more immigration

In January 2000, when the US unemployment rate reached 4.1% (4.7% in January
2006), the low end of structural unemployment without wage-pushed inflation,
employers found it difficult to fill low-paid agricultural, meat- and
poultry-packing, and health-services jobs, as well as high-paid high-tech
information-technology and software-design jobs. The problem led the Federal
Reserve to become concerned about possible wage-pushed inflation. It forced
lawmakers to sponsor legislation that would make it easier for farmers, meat
processors, and high-tech industries to import temporary workers through
exemptions in immigration restrictions. 

Fed chairman Alan Greenspan told Congress that increasing immigrant numbers
in areas where workers are difficult to find could relieve stress in the job
market and therefore wage-pushed inflation. Consistent with the Fed's warped
mission of maintaining structural unemployment to contain inflation,
Greenspan said: "Aggregate demand is putting very significant pressures on
an ever-decreasing available supply of unemployed labor. The one obvious
means that one can use to offset that is expanding the number of people we
allow in. Reviewing our immigration laws in the context of the type of
economy which we will be enjoying in the decade ahead is clearly on the
table, in my judgment." Congress showed no enthusiasm for Greenspan's
suggestion of permanent immigration liberalization along with global finance
liberalization. 

Agricultural growers in the US had hoped to increase the number of immigrant
farm workers by attaching a provision in their interest to the highly
favored high-technology industry's legislation to increase the number of
high-tech immigrant workers. In 2000, high-tech-immigration legislation
seemed likely to pass Congress until the administration of president Bill
Clinton began attaching legislative riders that would give Latin American
refugees legal permanent residency. In addition, the Clinton administration
wanted to grant amnesty to a large number of illegal immigrants, most of
whom were Hispanics. This political maneuvering stopped the pending
high-tech legislation dead in its tracks because Republicans feared that the
Democrats were attaching such legislative riders to gain support from the
large number of Hispanic voters. 

The shortage of high-tech workers forced the industry to move operations
overseas, at first not to save money on wages, but to find available
workers. The labor unions reacted to immigration with traditional phobia,
viewing it as a development that would keep wages low, rather than as a new
source for reversing the steady decline in membership. Yet employment data
showed that high-tech immigrant workers did not lower wages during the
high-tech boom in the US. What eventually did lower high-tech wages in the
US was overcapacity resulting from overinvestment caused by excessive debt
and inadequate consumer demand resulting from stagnant wages. After its
collapse, the US high-tech sector recovered by outsourcing manufacturing
jobs to low-wage countries, leaving consumer demand to be sustained by an
expanding debt-driven asset bubble. 

Three years later, Greenspan took up another argument on behalf of
immigration: this time in response to the actuary dilemma facing social
security. On February 27, 2003, Greenspan, testifying before the Senate
Special Committee on Aging, chaired by Republican Senator Larry Craig,
described the economic impact of an aging US population, which would lead to
slow natural population growth that would result in slow economic growth,
diminishing growth in the labor force, and an increase in the ratio of the
retired elderly to the working-age population. 

By 2030, the growth of the US workforce will slow from 1% to 0.5%, according
to census projections cited by Greenspan. At the same time, the percentage
of the population over 65 years old will rise from 13% to 20%. Greenspan
described how the aging population would have significant adverse fiscal
effects. 

"In particular, it makes our Social Security and Medicare programs
unsustainable in the long run, short of a major increase in immigration
rates, a dramatic acceleration in productivity growth well beyond historic
experience, a significant increase in the age of eligibility for benefits,
or the use of general revenues to fund benefits," Greenspan warned. 

According to Greenspan, immigration could prove a most potent antidote for
slowing growth in the working-age population. As the influx of foreign
workers in response to the tight labor markets of the 1990s showed,
immigration does respond to labor shortages. An expansion of labor-force
participation by immigrants and the healthy elderly offers some offset to an
aging population. 

"Fortunately, the US economy is uniquely well suited to make those
adjustments," said Greenspan. "Our open labor markets can adapt to the
differing needs and abilities of our older population. Our capital markets
can allow for the creation and rapid adoption of new labor-saving
technologies, and our open society has been receptive to immigrants. All
these factors put us in a good position to adjust to the [impacts] of an
aging population." 

Short of a major increase in immigration, economic growth cannot be safely
counted upon to eliminate deficits and the difficult choices that will be
required to restore fiscal discipline, said Greenspan's semi-annual report
to Congress on monetary policy, submitted on February 11, 2003. Also,
immigrants tend to have higher birth rates than native-born citizens. This
would moderate the aging population trend. 

Still, anti-immigration phobia continued to rise in the US, as reflected by
CNN personality Lou Dobbs, recipient of the 2004 Man of the Year Award from
the Organization for the Rights of American Workers for his tilted coverage
of the national debate on jobs, global trade and outsourcing. Dobbs was also
a recipient of the Eugene Katz Award for Excellence in the Coverage of
Immigration from the Center for Immigration Studies for his ongoing series
Broken Borders, which criticized US policy on illegal immigration and the
Bush administration's "guest worker" program and proposals for immigration
amnesty, notwithstanding that if his crusade should bear fruit, there would
be no one to clean his broadcast studio every night. 

Time is ripe for a global cartel for labor
In a world operating under the rules of political economy, the idea of a
global cartel for labor, to be known as the Organization of Labor-intensive
Exporting Countries (OLEC), can help to level the playing field between
capital and labor. It is a timely political concept with important positive
economic implications in this age of deregulated finance globalization. 

In finance capitalism, both capital and labor are viewed as mere
commodities, not unlike other basic commodities, most notably oil. All
commodities command a price in the market by their sellers exercising fair
pricing power. They do this by withholding supply from the market until the
price is right and fair. If OPEC (Organization of Petroleum Exporting
Countries) members can form a global cartel for oil to control and raise oil
prices in the global market for their collective benefit, at the same time
claiming benefits for the global economy, low-wage manufacture-exporting
countries can also form a similar cartel for global labor to control and
raise wages worldwide with a long-range strategy that would be good for the
global economy. 

The objectives of OLEC would be to coordinate and unify labor policies among
member countries to secure fair, uniform and stable prices for labor in the
global market and an efficient, economic and regular supply of labor to
provide a fair return on capital to maximize growth in the global economy.
The ultimate aim would be to implement a trade regime in which profitability
is tied to rising wages. Toward these objectives, the successful experience
of OPEC can be a useful guide. Just as OPEC allows different grades of oil
to command different prices tied to a benchmark, OLEC would aim to set a
price benchmark for labor around which flexible price ranges would reflect
factors that affect productivity. The aim is to stop the downward spiral of
wages caused by predatory wage policies. 

OPEC is a permanent intergovernmental organization created at the Baghdad
Conference on September 10-14, 1960, by Iran, Iraq, Kuwait, Saudi Arabia and
Venezuela. The five founding members were later joined by eight other
members: Qatar (1961), Indonesia (1962), Libya (1962), the United Arab
Emirates (1967), Algeria (1969), Nigeria (1971), Ecuador (1973-92) and Gabon
(1975-94). Headquartered in Geneva in the first five years of its existence,
OPEC moved to Vienna on September 1, 1965. 

Each member country selects representatives who choose a governor for their
country. These governors attend two regular OPEC meetings every year and
they also choose the organization's chairman. All decisions are to be
unanimous. The OPEC Statutes identify the main objective as setting prices
of oil and oil products and keeping the price and supply stable with fair
returns to the investors by adjusting production rates according to market
conditions. OPEC operates as a market-sharing cartel within a framework of
non-collusive cooperation with imperfect information. 

For the first decade of OPEC history, the transnational oil companies, the
so-called "seven sisters" (Esso, BP, Shell, Gulf, Standard Oil of
California, Texaco and Mobil), managed to use their overwhelming financial
power to ignore it, continuing their decade-old strategy of keeping oil
prices low, with low royalties to the producer governments, to subsidize the
advanced consumer economies while maintaining high corporate profit. In
1947, the price of oil was about US$2.20 a barrel, while exporter-government
taxes were less than 50 cents a barrel and production costs were between 10
and 20 cents a barrel. These figures remained relatively constant until the
cartel effects of OPEC took form in the 1970s. Up to 1973, oil was selling
for less than $3 per barrel just before the OPEC oil embargo, a rise of less
than 80 cents in 26 years, way behind inflation. 

In 1967, during the Six Day War, OPEC member nations, namely Saudi Arabia,
Kuwait and Libya, provided financial support to Jordan, Egypt and Syria.
OPEC also successfully embargoed oil to Israel and the countries that
supported Israel. In 1970, Libyan leader Muammar Gaddafi used OPEC's
influence to put pressure on the other independent Middle Eastern states to
increase oil prices and raise taxes on oil-company incomes, and in some
cases to nationalize the oil companies dominated by foreign joint-venture
partners. But it was not until 1973 that OPEC began to gain real market
power. By that year, US oil production was falling because of rising
dependence on low-priced oil from the Middle East. The oil crisis of the
1970s was a pricing problem rather than a shortage problem. In 1973, a
barrel of Arabian crude sold for $3, and in 1980, the price peaked at $37 a
barrel. In 1978, the "second oil crisis" was triggered by the Iranian
revolution, causing its production to drop from 6 million barrels per day in
September 1978 to 2.4mmb/d by December 1978. 

In the 1980s, OPEC learned from experience that the higher oil prices of the
1970s decreased demand, stimulated conservation, and encouraged new
exploration and production as well as quests for alternative energy sources,
expanding the life span of the oil age. In May 1990, the first Gulf War
caused a temporary oil shortage. In response to the crisis, OPEC increased
supplies from fields not affected by the Iraq-Kuwait crisis, stabilizing
prices. After the 1997 Asian financial crisis, oil fell to below $10. The
second Gulf War caused oil prices to increase more than sixfold to exceed
$70 per barrel, despite US pressure on OPEC to increase production. Few if
any market analysts currently expect oil to fall below $50 in the
foreseeable future. The impact of high oil prices, while stimulating
conservation, has not been fatal to the global economy (see The real
problems with $50 oil, May 26, 2005). 

OPEC came into existence in 1960, but emerged as an effective cartel only
after the Arab oil embargo that began on October 19-20, 1973, and ended on
March 18, 1974. During that period the price for benchmark Saudi Light
increased from $2.59 a barrel in September 1973 to $11.65 in March. OPEC has
since been setting bottom benchmark prices for its various crudes. Yet oil
prices immediately before the current crisis dipped below $10 after the
Asian financial crisis of 1997 and eventually stabilized around $20. 

Today, OPEC is the source of slightly more than a third of the world's oil
supply. The margin for turning three barrels of crude oil into two barrels
of gasoline and one of heating oil fell to $3.086 a barrel on February 9,
2006, based on futures prices in New York, the lowest since June 2003. The
profit for turning a barrel of crude into gasoline fell below $1 a barrel
for the first time since September 1994; the margin plunged from $31.708 on
September 1, 2005. Oil reached a record $70.85 on August 30, the day after
Hurricane Katrina made landfall on the US Gulf Coast, wrecking oil
platforms, pipelines and refineries, and cutting production in the world's
largest energy market. Oil may rise to a record $96 a barrel this August, a
month when hurricanes typically cut US output, Mitsui & Co, Japan's
second-largest trading company, said on February 6. China kicked off the
trading of fuel oil futures on the Shanghai Futures Exchange last August 25
for the first time in a decade. 

There is a fundamental relationship between wages and prices. Pricing
policies of firms as they are actually practiced in the real world, whether
by cartels such as OPEC, by other commodity producers, or by market leaders
in pharmaceuticals, software, communication and in fact money (interest
rates), have one thing in common. Pricing policies across all these
different economic sectors are predicated on the proposition that price is
seldom, if ever, set by the intersection of supply and demand, as
neo-classical economics textbooks teach. The bottom line is that price is
determined not by supply and demand but by strategies that aim at optimizing
the long-term value of assets and political considerations. 

OPEC pricing is a good example. Because of OPEC, oil prices have become a
key factor in the global economy. Throughout the history of oil, price has
been set by highly complex considerations and supply has always been
adjusted to maintain the set price. 

With pharmaceuticals, price is set neither by cost nor demand. The pricing
model of any new drug aims at achieving a maximum lifetime value of the drug
that has very little to do with current supply and demand. Microsoft's
pricing model for Windows has nothing to do with supply and demand, or
marginal costs, which are close to zero. Telephone charges are similarly
disconnected from supply and demand, or marginal costs. Even in the auto
industry, the dinosaur of the old economy, where cost input is high and
discounted return on capital low, pricing is based more on complex
considerations than demand. With 80% of autos financed or leased,
subsidization of financing costs is the name of the game, not sticker price.
Farm-commodity prices are definitely not set by the intersection of supply
and demand. They are set artificially high by political considerations of
practically all producer governments, and both supply and demand are
artificially distorted to maintain the politically set price. The general
consensus of mainstream economists on the global steel-overcapacity problem
is to reduce capacity, not to let prices fall. 

Price in fact is the most manipulated component in trade. That is the
fundamental flaw of market fundamentalism. Friedrich Hayek's rejection of
socialist thinking is based on his view that prices are an instrument of
communication and guidance, which embodies more information than each market
participant individually processes. Hayek uses the aggregate effect of
individual misjudgments as the correct judgment. To Hayek, it is impossible
to bring about the same price-based order based on the division of labor by
any other means. Similarly, the distribution of incomes based on a vague
concept of merit or need is impossible. Prices, including the price of
labor, are needed to direct people to go where they can do the most good.
The only effective distribution is one derived from market principles. On
that basis, Hayek intellectually rejects government regulation of market. 

The only trouble with this view is that Hayek's notion of price is a
romantic illusion and nowhere practiced. That was how the native Americans
sold Manhattan to the Dutch for a handful of beads, which under modern
commercial law would be categorized as a fraudulent transaction. The Bank of
Sweden Prize in Economic Sciences (Nobel Prize) was awarded to Joseph
Stiglitz, George Akerlof and A Michael Spence for "their analyses of markets
with asymmetric information". In his acceptance press conference, Stiglitz
said, "Market economies are characterized by a high degree of
imperfections." Further, and most significant, Hayek's argument is
predicated on labor being able to go where it can do the most good, a
precondition that is denied by immigration constraints. 

The nature of cartels
A global cartel can take on many variant forms with different
characteristics and impacts on the global market. Although every cartel is
unique, from oil to diamonds, the common attribute of any effective cartel
is agreement among members for deliberate restraint on supply to the market
to achieve a consistently higher price than that from predatory competition
among sellers with no market pricing power. 

Theoretically, an ideal cartel can act as a monopoly operated by a number of
separate but related yet independent entities. The multi-entity monopoly
cartel assumes that it is a cartel authority rather than individual cartel
members who make price and supply decisions, such that the cartel as a whole
obtains the maximum possible monopoly revenue and profits from the market,
and cartel members do not compete with one another but share the total
profits in a pre-agreed manner. Under these terms, the cartel authority
actually acts as a monopolist, but not necessarily a total monopolist. OPEC
controls only one-third of the world's oil supply. 

The marginal cost curve is determined by using up the lowest cost area
first, regardless of which member country the supply area belongs to. Given
the market demand curve for the cartel's supply, the cartel authority
calculates the marginal revenue pattern and equates it to the jointly
decided marginal cost curve. The equilibrium will set the cartel's
profit-maximizing supply level and the corresponding monopoly price. The
central determination of price and supply by the cartel authority can
guarantee maximum profit to the organization as a whole. Under this
framework, the producers with high marginal cost might not produce at all if
their marginal cost is higher than the cartel's marginal revenue. Therefore,
a unanimously accepted profit-share arrangement must be pre-agreed and
post-enforced. However, such a perfect cartel cannot be sustained in reality
by OPEC, which is composed of constituent sovereign nations. The large
producer (Saudi Arabia) would have to act as the "swing producer", absorbing
the demand and supply fluctuations in order to maintain the monopoly price. 

A cartel for labor would have to operate under rules responsive to the
unique problems of labor markets, the details of which will have to be
worked out depending on the membership make-up and the negotiated outcome
among the members. But the prospect of common benefit will ensure that the
appropriate operational mechanics can be worked out. For OLEC, China and
India can be swing suppliers to absorb labor supply and demand fluctuations
to maintain stable and rising global wages for the common benefit of all
OLEC members. 

A market-sharing cartel is one in which the members decide on the share of
the market that each is allotted as a cartel member to achieve fair sharing
of benefits and costs. To achieve this objective, the members may then meet
regularly to reach consensual measures in light of changing market
conditions monitored by a staff of specialists. Since each member country in
OPEC retains sovereign power over its own production rate and no individual
one (except, possibly, Saudi Arabia as a swing producer) has the power to
fix the price favorable to the cartel, it is predictable that member
countries would adopt the market-sharing strategy as the way to achieve the
cartel objective. The members join together to restrain their production for
higher prices to gain optimum profit. Violating the cartel quota would serve
no purpose, as an individual member may sell more oil but total revenue
would fall because of lower prices. Theoretically, if cartel members have
similar marginal cost curves, the ideal market-sharing strategy can achieve
the same goals as the joint profit-maximizing ideal cartel model, outcomes
of which are equivalent to those of a monopolist operating a number of
plants. 

Third World economies with surplus labor operate separately from a
collective disadvantaged position in global trade because global capital
obeys the Law of One Price while global labor is exempt from this law. As
dollar hegemony forces all foreign investments into the export sectors of
non-dollar economies to earn dollars from trade, it produces a structural
shortage of capital for non-export domestic development in all developing
countries. These non-dollar economies then suffer from an imbalance between
excess labor and a shortage of capital that prevents them from achieving
full employment and improving overall labor productivity. This imbalance
translates into low wages that depress domestic consumer demand, which in
turn discourages investment, in a downward vicious cycle of perpetual
domestic underdevelopment. This widespread local underdevelopment in turn
prevents the global economy from developing its full growth potential from
rising consumer demand. This hurts not only the developing economies, but
the advanced economies as well. 

On the one hand, cross-border wage disparity has given rise to predatory
outsourcing that threatens employment and wage levels in the advanced
economies. On the other hand, low wages around the world prevent needed
growth of exports from the advanced economies to balance trade. Thus raising
wages around the world to reduce or even eliminate cross-border wage
disparity would be good for all economies. It would be the win-win
proposition that neo-liberal free-traders promised but never delivered. The
current regressive terms of global trade need to be altered by a progressive
global labor cartel. 

A positive and progressive undertaking

Since competition for global capital in a deregulated global financial
market tends to depress wages worldwide to the detriment of all, it follows
that a cartel to give labor fair pricing power in international trade would
be a positive and progressive undertaking. 

Dollar hegemony has deprived Third World economies of the option of using
sovereign credit for domestic development, leaving export trade as the only
available alternative. Yet economic and monetary policy sovereignty of all
Third World nations has been under relentless attack from neo-liberal terms
of trade. But creating a cartel for labor along the lines of OPEC, a
political organization with an economic agenda, ie a cartel for oil, is
something that Third World leaders can do while they are still in command of
political sovereignty. 

The OPEC leaders achieved pricing power in the global oil market with two
preconditions: ownership of oil in the ground (not movable) they occupy and
political sovereignty. With that they managed to raise the price of oil,
albeit with occasional failures, and at the same time reduce the abusive
waste of energy in the consuming countries, especial the advanced economies.
Now the labor-intensive exporting countries have two similar preconditions:
1) workers who cannot leave because of the immigration regimes of all
advanced countries and 2) political sovereignty. They can do the same in
pricing labor as OPEC did in pricing oil, to provide a benchmark global wage
platform and to raise wages steadily to alter the current destructive terms
of trade in the globalized market. The idea should also get support from the
US corporations and labor movement, and from the likes of Lou Dobbs. 

The way to do this is to make it impossible for global capital to exploit
cross-border wage arbitrage for profit without raising wages to close the
wage gap and, if necessary, with countervailing charges or taxes.
Conversely, tax preference can be tied to a rising-wage policy. 

Globalization itself is not a bad development. What is destructive are the
current terms of trade behind globalization, which operate as a "beggar thy
neighbor process" while trumpeting a win-win fallacy. 

The idea of economic development is not to redistribute wealth by making the
rich poor, but to create new wealth by making the poor rich at an
accelerated pace to reverse the widening gap between rich and poor. Current
terms of globalized trade widen the income and wealth gap by driving wages
down and making low wages the main factor in measuring competitiveness. The
neo-liberal financial system provides credit only to firms that profit from
driving wages down and withholds credit from firms that raise wages. What
the world needs is a credit-allocation regime and a profit-measuring system
to link corporate profitability with raising wage levels rather than
lowering them. 

Lest we should forget, this is a very American idea. Henry Ford did it in
the US by voluntarily paying higher wages than the market norm so that his
workers could afford to buy the cars they produced. The US experience has
proved that the poor can be made richer without the rich getting poorer.
This can be done by enlarging the pie while benignly re-dividing it so that
no one gets less than before while the poor get more faster, rather than
just re-dividing a shrinking pie. The US itself provided very good lessons
on how it could be done. The US has a superior Gini coefficient, which
measures net income equality, to many underdeveloped economies. And the US
is a richer nation by far. This shows that if the global Gini coefficient
improves with more income equality, the global economy can also be richer.
Many of the problems currently faced by the US economy have to do with the
use of debt to mask a declining Gini coefficient. 

US prosperity built on high wages 

The US economy emerged after World War II as the strongest, the most
productive and the most dynamic in the world, not only because Europe,
Britain, Japan and the USSR and were all in war ruins, and the rest of the
world was left barren from a century of plundering by Western imperialism,
but because the US model was operatively superior. This superiority was
based on three factors: 1) high socio-economic mobility, 2) high wages with
relatively equality of income and 3) heavy public investment in physical and
social infrastructure such as transportation, education and research and
public health. 

Socio-economic mobility manifested itself in a flowering of creative
entrepreneurship and innovation. It was easy to turn new ideas and
innovations into new small businesses because of pent-up demand from the war
years and a friendly posture of banks that provided easy credit for
returning veterans who aspired to be small-business owners. Big business
applied its wartime management techniques to concentrate on heavy industry,
benefiting from technological and management breakthroughs made in war
research and systems analysis, leaving small and medium business
opportunities to young new entrepreneurs to exploit innovations to fill the
needs of a market economy in transition from war production to peace
production. 

Communication and transport were relatively costly and cumbersome, keeping
centralized management from being cost-effective in pervasive control of
local markets, thus enabling small local entrepreneurs to compete
effectively with big business through nearness to market and sheer ability
to change. A new middle class of good and rising income came quickly into
existence that was confident, dynamic and independent. This came to be
recognized around the world as the American Spirit, the belief that the
combination of good ideas and hard work will lead to success in a free and
open market, even though only a very small part of the US market was really
free and open. China is now at the beginning of this path of development,
with spectacular success. 

High wages and full employment in the postwar US led to strong consumer
demand and a happy working class whose economic interests were effectively
promoted by a strong labor movement that had developed productive symbiotic
relationships with management from war production. Home ownership was
promoted by government subsidies through credit guarantees and interest
ceilings. All that was needed to realize the American dream was a job, the
income from which was closely calibrated to pay for a home, a car, and a
good life including free education, affordable health care and comfortable
retirement, all accomplished with consumer financing. 

The concept of "pay as you go" liberated Americans from the slavery of "save
first, consume later", which would produce overcapacity while consumer needs
remained unsatisfied. And jobs were plentiful because consumer demand was
strong. There was living democracy in the workplace, with bosses forced to
treat workers with equality and with the respect awarded to customers in
order to retain them. The income gap between factory workers and
professionals (engineers, lawyers, doctors, etc) were narrow. Many hourly
paid union tradesmen such as plumbers, carpenters, metalworkers,
electricians, etc, actually enjoyed higher incomes than professional
engineers, at least in the early decades of their careers. Aside from old
money, income disparity among the working population was small, giving
society de facto socio-economic-cultural democracy. This happy outcome was
because work was fairly and highly compensated. 

The GI Bill obliterated the elitist tradition of higher education. Children
of working-class, farming and immigrant background went to college,
university and graduate school for the first time in US history and went on
to be titans of industry and academia. This public-funded investment in
human capital was the single largest contributor to US prosperity for the
postwar decades until this generation reached retirement age in the
mid-1970s. 

Despite the anti-communist ideology behind the Cold War, the US economy
benefited greatly from socialistic programs that began in the New Deal while
the core of the US economy remained firmly rooted in capitalism. The
combination of a capitalistic core and a socialist infrastructure produced
one of the greatest prosperities in human history, relatively free of
oppressive exploitation. Within limits, the US was undeniably the freest and
richest society in the world. With such a wondrously successful system, it
was a puzzle why Americans were told by their leaders to fear communism,
since the whole world was trying to copy the US. Even the Soviet Union was
copying the US model with the ideological modification of state capitalism
at the core. Where the USSR erred was that it failed to allow a consumer
market of small entrepreneurs, a mistake China is now avoiding. 

Income disparity hurts the US economy

The good times in the United States did not last forever, but the decay came
imperceptibly slowly. Cold War paranoia in the US reversed populist policies
and arrested the economic ascendance of the middle class while it turned the
young socialist economies around the world into victims of garrison-state
politics. 

The Korean War set the US on a path against all national-liberation
movements in all former colonies, which constituted two-thirds of the
population of a world that had risen from the postwar ashes of European
imperialism. The Vietnam War was a continuation of that misguided
geopolitical posture. These counterproductive wars not only did not achieve
their misguided geopolitical objectives, they forced the US to rely on Japan
as a convenient and docile ally both militarily and economically, shutting
out the rest of Asia and, most important, its vast market by self-negating
embargoes imposed by US foreign policy. In Europe meanwhile, confrontation
with Soviet communism after the Berlin Crisis forced the US to build up
defeated Germany as a key military and economic client state. 

These policies set up the US in a new role of neo-imperialist in a global
struggle of the rich against the poor. To support Germany and Japan and to
incorporate them economically into a reactionary West led by the United
States, the US decided to allocate the sunset industries to their economies,
such as auto manufacturing, while the US kept the high-tech industries such
as aircraft manufacturing, television and computers and, most important,
defense industries. Japan and South Korea were later given steelmaking and
shipbuilding to help support US logistics in Asian wars. 

The original idea was that subsidized imports to the US from these new
allies were to be tolerated only on a temporary basis, that they were
expected to supply low-priced goods to the parts of the global market that
were too poor to buy US goods produced at high wages. But the Cold War
embargoes put all such markets off limits to US allies, forcing the US
market to stay permanently open to Japan and Germany. In time, the US came
to depend on relatively inexpensive imports from Japan and Germany to help
contain inflation. Both Germany and Japan have failed to recover to this day
as truly sovereign powers to fulfill their full potential as independent
states. 

Meanwhile, domestically the worst aspects of both capitalism and socialism
were working hand-in-hand to weaken the US economy. The organization man
emerged from US corporate bureaucratic culture, robbing the economy of
creativity and initiative. The likes of IBM, General Motors and General
Electric became ruthless predators that chewed up independent entrepreneurs
for breakfast by their market monopoly. A Massachusetts Institute of
Technology professor of electronics with a new technology would start a
successful company by servicing IBM, which then would force a fire sale of
the new company to IBM by threatening to stop buying from it. Within a year
of its success, the new innovative company would become another IBM
subsidiary managed by the huge bureaucracy of a gigantic enterprise. And the
professor would retire from creative work with the sale proceeds. In this
manner, IBM grew into a sluggish giant on a diet of other people's
ingenuity. 

Unionism turned into a drag on productivity and efficiency and the main
resistance against change, rather than the driving force of innovation to
protect labor's pricing power. Finance and banking evolved in ways that
discriminated against small business and those with inadequate capital, and
pushed innovative entrepreneurs to seek funding from venture-capitalist
firms whose main aim was to sell the new companies to big business for a
quick profit. Risk-taking eventually became too costly for entrepreneurs,
but cheap for speculators. 

The US trade deficit grew along with war-induced fiscal deficits threatening
the gold-backed dollar. Keynesian deficit financing, instead of a formula to
moderate the business cycle, became a permanent feature even in boom times
to support ever higher levels of structural unemployment. President Richard
Nixon was finally forced by recurring trade deficits and fiscal
irresponsibility to take the dollar off gold in 1971; and by 1973, OPEC was
allowed to raise oil prices on condition that petrodollars would be recycled
backed to the US to limit damage to the US economy. 

As the US economy continued to stagnate, offering low returns on investment,
petrodollars went to so-called newly industrialized countries (NICs). This
was the beginning of globalization, which at first was called
interdependence, as half of the world was still under communist rule. The
United States was compensating for the slowdown in domestic growth with
overseas expansion, by arguing that the US economy was merely growing beyond
its borders rather than shrinking domestically, which would only be true if
the US accepted a restructuring of its economy: by shifting from domestic
manufacturing to global finance. 

Jimmy Carter presided over this restructuring transition of the US economy
and saw a "national malaise" of spiritual despondency and economic
stagflation that was inevitable when the population failed to understand the
transition of the US from a strong nation to a hegemonic empire, a fact on
which US transnational corporations could not level with the American public
because of US self-image. The same thing happened to the controversy over
Corn Laws during the early days of the British Empire. Silly talk of Japan
and Germany overtaking the United States were widely circulated in clueless
segments of the US, lamenting the disappearance of the good old days from
the rear-view mirror, unable to see where the rest of the nation was heading
without them. Paul Volcker administered a blood-letting cure on inflation
and restored health to the US financial sector by sacrificing US industry,
which was increasingly forced to go global, leaving the American worker
jobless on the roadside. 

Neo-liberal global trade with dollar hegemony depress wages worldwide 
Bill Clinton was the first neo-liberal president of the United States. Just
as life-long anti-communist Nixon could strike a deal with communist China
without being accused domestically of being soft on communism, something
that a populist John Kennedy could never have done during the Cold War,
Clinton was more helpful to US transnational big business by undercutting
organized labor than any Republican dared venture. 

Clinton was able to silence US labor protestation against job outsourcing
under globalization because the union vote had no other viable presidential
candidate to vote for. Union wrath was deflected from US management to
offshore labor, first in Japan, then Southeast Asia and then China,
exploiting deep-rooted racial hostility in US labor movements. 

But it was Robert Rubin, consummate bond trader from Goldman Sachs, who
devised dollar hegemony as a way of financing a perpetual trade deficit by
forcing US trade partners to recycle their trade surpluses denominated in
dollars back into US capital accounts by buying US Treasuries that yield low
returns. Thus dollar hegemony allows the US to enjoy a rising
current-account deficit by way of a guaranteed capital-account surplus and
the benefits of a strong dollar and low interest rate all at the same time. 

The Clinton administration in effect resisted political pressure from US
export manufacturers to devalue the dollar, arguing that devaluation, while
helpful to US exports, is not good for the overall US national interest,
which lies in the global dominance of finance. And US global financial
dominance depends on a strong dollar made possible by dollar hegemony.
Financial dominance is the caviar and the trade deficit is in fact the bait
to capture sturgeon in the form of trade partners. By exporting more to the
US for dollars than they import from the US payable in dollars, the United
States' trading partners are fooled into thinking their trade surpluses with
the US are a good deal, while they are shipping real wealth produced by
underpaid labor to the US in exchange for paper money that can only be
invested in the US and their own domestic sectors are starved for capital. 

The economic transformation of the industrial base in New England was
accomplished in the 1950s by shifting textile manufacturing to the low-wage
southern United States. This was repeated by shifting manufacturing from the
Midwest to overseas in the 1990s, but unlike New England in the 1950s, which
transformed into a new economy of finance and high tech, the Midwest
remained mostly a rust belt that never recovered. This is because the profit
from the economic transition, instead of going to start new, more efficient
plants, goes to finance debt that keeps US consumers spending. 

Rubin, a Wall Street bond trader who became US Treasury secretary, is an
internationalist whose idea of America does not extend west of the Hudson
River. Politically, the Wall Street internationalists, not all of whom are
Jewish, appeased the opposition by deregulation of the banking and finance
sector so that non-New York financial firms could get in on the action. In
reality, the New York banks ended up turning all banks across the nation
into their local branches. Banks in the US, instead of being local financial
pillars that prosper only with the local economy of their domicile, now can
profit from destroying the local economies. 

The battle between those who sold their labor and those who manipulated
finances was won hands down by the financiers in the age of globalization.
This is because cross-border wage arbitrage, unlike financial arbitrage that
often eliminates market inefficiency by lifting the market value of the
coupled instruments, works only to depress wages, never to lift them.
Workers are not allowed to go to where wages are high, yet capital is
encouraged to go where wages are low. Thus while the aim of financial
arbitrage is to lift asset value to enhance profit, the aim of wage
arbitrage is to lower wage value to enhance profit. 

To defuse political backlash of falling wages in the advanced economies
caused by outsourcing to low-waged economies, an asset bubble, including
housing, was allowed to give the masses in the advanced economies
capital-gains income to compensate for reduced income from work. The formula
was to take jobs from high-paid US workers and give them to low-wage
overseas workers, and to compensate US workers with rising prices on their
homes, low-price imports and larger return for their pension-fund
investments overseas. This formula worked for a while, but it requires an
escalating expansion of the money supply to support a debt bubble. The Fed
under Greenspan managed to accommodate debt-driven expansion for more than a
decade, until the problem reached a point when further expansion of the
money supply did not leave money in the US, but went only to the global
dollar economy offshore. US corporations are lining up to shed their pension
obligations in the name of maintaining global competitiveness. The US
housing bubble will burst from insufficient and stagnant income even if
mortgage rates should remain low. 

Thus while it may still be in US imperial interests to expand the dollar
economy globally, this expansion is facing domestic political opposition
because an expanding global dollar economy leads to imbalances in the US
economy with clear winners and losers that will soon translate into
political expressions in future elections. In a democracy, when losers
exceed winners in numbers, even if not in aggregate monetary value, the
electoral impact can be immediate. The dollar economy, which benefits
primarily the financial sectors in the US and other money-center locations,
continues to expand while the non-financial sectors of the US economy
collapse. With domestic political opposition building in the US, it is of
critical importance how US policy will deal with the challenge of domestic
imbalances created by globalization. 

The need to reduce global wage disparity
US policies need be changed to stop the destructive impact of dollar
hegemony on both the US economy as well as the global economy. The global
dollar economy is shaping up to benefit unfairly only a small number of
financial speculators and manipulators, not the world's population. The key
is to eliminate as quickly as possible global income disparity that enable
destructive cross-border wage arbitrage. 

The United States should promote, even impose, terms of trade that reduce
wage disparity both domestically and globally. This would allow both the US
and the global economy to expand faster. Since it is economically painful
and politically dangerous to lower wages in the advanced economies, the only
option is to raise wages at a rapid rate in the currently low-wage regions
to reduce global wage disparity. This can be done only if global wage parity
is set as a policy objective, rather than letting market forces dictate a
downward spiral of falling wages. As global wages reach parity,
manufacturing will be redistributed to locations of true overall
competitiveness, rather than being based on the single-dimensional factor of
wages. Global trade and exports will be conducted to benefit domestic
development rather than to deter domestic development. Global income will
rise, creating more consumer demand to reduce or even eliminate current
global overcapacity. 

Without an OLEC cartel to protect the pricing power of labor in a global
financial market, the Law of One Price will discriminate against labor by
pushing wages down. The Law of One Prices echoes David Ricardo's Iron Law of
Wages, which supplements Thomas Malthus' population theory by asserting that
wages tend to stabilize at the lowest subsistence level as a result of
unregulated market forces. Malthus observed that population growth would
mathematically outstrip the means of subsistence, giving economics the label
of the "dismal science". 

The theory of marginal utility as espoused by William Stanley Jevons in
England, Leon Walrus in France, Eugene Bohm-Bawerk in Austria, and Irving
Fisher and Alfred Marshall in the US asserts that the market value of a
commodity is determined by the demand for it and the relative scarcity at
any given time and situation, and not by any intrinsic value. Marginal price
is the price above which no buyer will buy. Marginal land is land that will
not repay the cost of labor and capital applied to its cultivation or
improvement. Marginal wage is the wage above which employment will cease.
But while labor is a commodity, humans are not. There are basic human needs
that every economy is required to satisfy before market rules can be
applied. For this reason, all civilized societies forbid slavery, child
labor and other inhumane labor practices. 

The Law of One Price for labor decrees that the Iron Law of Wages will
depress marginal wage to the lowest possible level if left to market forces.
Yet the theory of marginal value of labor operating within a regime of
neo-liberal terms of trade only applies impeccable logic to an artificial
structure disguised as fundamental truth. The terms of trade in a labor
market in which an anti-inflation monetary policy structurally disallows any
scarcity of labor to emerge is inherently prejudicial to the fair pricing of
labor. Similarly, the theory of marginal value in the flawed terms of trade
in the auto market leads Detroit to produce unsafe cars at any speed by
calculating that the cost of lawsuits from injury and death caused by unsafe
cars is less costly than raising auto-safety standards when the monetary
value of injury and death are set too low by the courts. 

The current global overcapacity is a direct result of global wages being set
too low by global wage arbitrage, depriving the world of the full potential
of consumer demand. This overcapacity can be corrected by a global labor
cartel. 

Purchasing-power parity and the Law of One Price

Purchasing-power parity (PPP) between currencies measures the disconnection
between exchange rates and local prices that defy the Law of One Price in a
globalized economy. Purchasing-power parity is reached when exchange rates
between two currencies are adjusted to enable both currencies to buy the
same amount of goods and services at local prices. The PPP gap between the
US dollar and the Chinese yuan is estimated to be 4, meaning that one
Chinese yuan buys four times as much in China as its current exchange-rate
equivalent in dollars buys in the United States. A PPP gap highlights the
distortion exchange rates exert on the Law of One Price in cross-border
trade. 

Purchasing-power parity contrasts with interest-rate parity (IRP), which
assumes that the behavior of investors, whose transactions are recorded on
the capital account, induces changes in the exchange rate. For a dollar
investor to earn the same interest rate on his investment in a foreign
economy with a PPP gap of 4, such as the purchasing-power disparity between
the US dollar and the Chinese yuan, the return would have to buy four times
as much in China as it could in the US. Thus for every dollar of profit US
investors require from investment in China, four dollars' equivalent in
Chinese goods and services are needed to support the prevailing exchange
rate. Accordingly Chinese wages would have to be at least four times lower
than (one-quarter of) US wages unless inflation in China closes the PPP gap,
or purchasing-power disparity, between the two currencies. But inflation in
China will cause the yuan to fall against the dollar, keeping the PPP gap
constant even as Chinese prices rise. This shows that pushing China to
revalue its currency upward is futile, as Chinese wages would fall to
compensate for a stronger yuan. What China needs to do is to raise Chinese
wages within a stable exchange rate. 

Applying the Law of One Price to global labor

The Law of One Price says that identical goods should sell for the same
price in two separate markets when there are no transportation costs and no
differential taxes or tariffs applied in the two markets. A global trade
regime governed by the Law of One Price should have wages in two separate
labor markets converging through arbitrage to close the disparity. Since it
is economically regressive for the higher wages to fall, the only productive
convergence would be for the lower wages to rise. 

In finance, the Law of One Price is an economic rule stating that in an
efficient market, a security must have a single price, no matter how that
security is created. For example, if an option can be created using two
different sets of underlying securities, then the total price for each would
be the same; otherwise an arbitrage opportunity would exist. Because of the
Law of One Price, put-call parity requires that the call option and the
replicating portfolio must have the same price. 

Interest-rate parity, which plays an important role in the foreign-exchange
markets, is another example of the Law of One Price. For the Law of One
Price to hold between two economies, purchasing-price parity, exchange-rate
parity between the paired currencies and interest-rate parity must all exist
simultaneously. 

Any violation of the Law of One Price is an arbitrage opportunity. The same
should apply to the disaggregated labor markets in the global economy. The
issue of unified wages is not only a matter of morality or social justice,
as liberals asserted during the Industrial Revolution and the age of
imperialism, and as neo-liberals and market fundamentalists reject in the
age of globalization and neo-imperialism. It is the law of a truly free
global market. While finance arbitrage uses the Law of One Price to raise
market value of securities, cross-border wage arbitrage thus far only
obstructs the Law of One Price in separate labor markets to keep wages low
everywhere. 

A common mistake traders make is to forget the caveat that arbitrageable
price discrepancy should be isolated from factors such as tax treatment,
liquidity or credit risk. Otherwise, they will put on what they perceive to
be an arbitrage when in fact there is no violation of the Law of One Price
beyond government intervention. The Law of One Price underlies the important
financial engineering definition of arbitrage-free pricing even for
disparity of prices created by government policy. 

To understand the positive potential for cross-border wage arbitrage, beyond
the destructive impact of archaic outsourcing, lessons can be learned from
how profit is generated by arbitrage plays in financial markets. If risks
from oil, weather, environmental impact, credit and interest rates can be
arbitraged profitably, there is good reason that risks associated with
rising wages can also be arbitraged for profit. 

Using wage arbitrage to stabilize rising wages

In finance theory, an arbitrage is a "free lunch", a transaction or
portfolio that makes a profit without risk. Suppose a futures contract
trades on two different exchanges. If, at one point in time, the contract is
bid at $40.02 on one exchange and offered at $40.00 on the other, a trader
could purchase the contract at one price and sell it at the other to make a
risk-free profit of a $0.02. If the market for that security has sufficient
broadness and depth, the arbitrageur can make millions. And if an arbitrage
opportunity is created by a central bank on two currencies, as the Bank of
England did in 1992 defending the pound sterling, an arbitrageur like George
Soros could make billions in a couple of days at the expense of the British
economy. 

In 1998, an article Soros wrote in the Financial Times on the inevitability
of a Russian devaluation of its currency precipitated the fall of the
Russian government, a massive default on its debts, and widespread financial
panic that brought down Long Term Capital Management (LTCM), another
high-flying hedge fund, requiring involvement of the US Federal Reserve in a
$3.5 billion bailout. The International Monetary Fund (IMF) plan for Russia
assumed that the maturing treasury bills (GKOs) could be rolled over, albeit
at an astronomically high interest rate. But the holders of the GKOs were
banks that borrowed dollars to buy the same GKOs and which could not repay
the dollars without the foreign banks agreeing to lend them more money,
which the foreign banks would not. So the Russian banks could not roll over
the GKOs at any price, leaving a missing link in the financial chain. As the
Russian public started withdrawing their savings from the national savings
banks, the missing link widened. What started out as a fixable hole of $7
billion, within a week or two became a unfixable abyss. Soros and his
partners lost their investment in a Russian telephone company, along with
countless others. 

Most arbitrage opportunities only reflect minor pricing discrepancies
between markets or correlated instruments. Per-transaction profits tend to
be small, and they can be negated entirely by retail transaction costs.
Accordingly, most arbitrage is performed by institutions that have very low
wholesale transaction costs and can make up for small profit margins by
doing a large volume of transactions. Formally, theoreticians define an
arbitrage as a trading strategy that requires the investment of no net
capital, cannot lose money, and has a positive probability of making money.
Arbitrage is the quintessential virtual-capital play in capitalism. 

Wages in different labor markets change for complex reasons. The gap in
wages as measured by standard productivity units changes, which produces
arbitrage opportunities. Any company whose revenue is affected by weather
has a potential need for weather-risk management products that hedge the
company's exposure to weather deviating from historical norms. This is true
for companies that consume oil, or are impacted by changes in interest rates
or any kind of uncertainty. In 2003, the US Defense Department considered
launching a market for terrorism futures to improve the prediction and
prevention of terrorist outrages. 

All companies are affected in their profits by wage:productivity ratios. A
labor cartel, like an oil cartel, cannot be expected to keep prices at a
fixed level for long periods, nor would it be necessary. Thus a wage-risk
management derivative could be structured to mitigate wage risks and reduce
resistance to wage rises caused by fear of unexpected temporary wage
declines in competing markets. Like weather and environmental derivatives,
hedging can be a defensive use of wage-index derivatives. Strategic planning
linked to wage uncertainties can also be financially backed by wage-index
derivatives for proactive use to sustain wage targets set by the labor
cartel. 

While a market is said to be arbitrage-free if prices in that market offer
no arbitrage opportunities, there is a second use of the term, shunned by
theoretical purists but in wide use for several decades so as to become
standard in all markets. According to this usage, an arbitrage is a
leveraged speculative transaction or portfolio. During the 1980s, junk-bond
financing funded an overheated mergers-and-acquisitions market that produced
new corporations such as CNN, Microsoft and many other firms that are now
respected industrial giants. Arbitrageurs of this period were speculators
who took leveraged equity positions either in anticipation of a possible
takeover or to put a firm in play. They also engaged in greenmail. Ivan
Boesky was a famous arbitrageur from this period who was ultimately
convicted of insider trading. Michael Milken, the junk-bond king, also was
sent to prison on finance-related charges. But the role of junk bonds in
financing new companies was undeniable. 

The presence of a labor cartel to sustain rising wages that stimulate
consumer demand could also be financed by speculative arbitrage. If the
conditions should come into existence, the almost inexhaustible creativity
of the financial markets will response to the challenge. 

Unequal pricing powers between capital and labor

David Ricardo's interest in economics was sparked by Adam Smith's Wealth of
Nations (1776), whose thesis is that the division of labor (specialization)
enhances economic growth. Ricardo's law of rent was seminally influenced by
Malthusian concepts. He propounded his "Iron Law of Wages" and a labor
theory of value. To Ricardo, rent is a result and not a cause of price. 

The Iron Law of Wages asserts that wages cannot rise above subsistence
levels. The theory of value maintains that in exchange, the value, not the
price, of goods is measured by the amount of labor expended in their
production. Smith also saw advancements in mechanization and international
trade as engines of growth through the facilitation of further
specialization. Because savings by the rich were seen as what provide
investment and hence economic growth, Ricardo saw unequal income
distribution as being one of the most important determinants of national
economic growth. 

This is a critical shortcoming in Ricardo's proposition, as in the modern
economy, capital comes increasingly from the pension funds of workers, not
exclusively from the rich. However, Ricardo posited savings to be in part
determined by the profits of stock: as the capital stock of a country
increased, profit declined - not because of decreasing marginal
productivity, but rather because competition among capitalists for workers
would bid wages up to reduce profit. So keeping the living standards of
workers low was another way to maintain or accelerate economic growth. 

This was the critical error Ricardo made in his observation of industrial
capitalism. Ricardo did not understand that as industrialization advances,
overcapacity will result unless workers are paid enough to consume what they
have produced. Ricardo did not foresee that free markets must include free
labor markets that would enhance worker market power if economic growth were
to be maintained. Ricardo reasoned that if labor cost rises with labor
productivity, such a rise will neutralize any marginal rise in return to
capital, which requires productivity rising faster than wages. Ricardo thus
provided the "scientific" rationale for the anti-labor mentality of
capitalism which is not only unnecessary but also factually incorrect. 

For Ricardo, capital is deployed to enhance labor productivity to increase
return on capital, not to raise the standard of living of workers by raising
worker income. The fixation with regressive theory is the rationale for the
need of a labor cartel such as OLEC. 

Next: Rising wages solve all problems 

Henry C K Liu is chairman of a New York-based private investment group. His
website is at http://www.henryckliu.com.