capital, interest, and rent essays in the theory of distribution

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Capital, Interest,and Rent



Studies in Economic Theory

Laurence S. Moss, Editor

Am erica's G reat Depression, M u r r a y N. Ro t h b a r d ( 1 9 7 5 )The Economic Point of View, I s r ae l M. Kirzner (1976)The Economics of Ludwig von Mises: Toward a Critical Reappraisal,ed. Laurence S. Moss (1976)

The Foundations of Modern Austrian Econom ics, ed . Edw in G. Dolan(1976)



Capital, Interest,and Rent

Essays in the Theory of Distribution

By Frank A. Fetter

Edited with an Introduction by

Murray N. Rothbard

SHEED ANDREWS AND McMEEL, INC.

Subsidiary of Universal Press Syndicate

Kansas City



This edition is cosponsored by the Institute forHumane Studies, Inc., Menlo Park, California.

Capital, Interest, and RentCop yright ®I977 by the Institute for Hu m an e Studies.All rights reserved. Printed in the United States ofAmerica. No part of this book may be used or repro-

duced in any manner whatsoever without writtenpermission except in the case of reprints in the co ntextof reviews. For information write Sheed And rews andMcMeel, Inc., 6700 Squibb Road, Mission, Kansas66202.

Library of Congress Cataloging in Publication Data

Fetter, Frank Albert, 1863-1949.Capital, interest, and rent.

(Studies in economic theory)

"Bibliography of Frank Albert Fetter": p.Includes bibliographical references and index.1. Distribution (Economic theory)—Addresses,

essays, lectu res. I. Ti tle. II . Series.H B 77 l.F4 7 1976 330.1 76-25587ISBN 0-8362-0684-3ISBN 0-8362-0685-1 pbk.



PREFACEI was first apprised of Frank A. Fetter's contributions to the

theory of distribution by the references in Ludwig von Mises'sHuman Action (1st ed., New H av en : Yale University Press , 1949;3d ed., Chicago: Henry Regnery, 1966). Then, while readingFetter's oeuvre in the cou rse of writing my Man, Econom y, and State(2 vols., Prince ton, N .J.: D. Van N ostra nd , 1962, re p ri n te d ., LosAngeles: Nash Pub lishing Co., 1970), I was struck by the brillianceand consistency of his integrated theory of distribution and bythe neglect of Fetter in current histories of economic thought,

even by those that are Austrian o rien ted . For Fetter's systematictheory, while challenging and original (particularly his theoriesof interest and rent), was emphatically in the Austrian schooltradition.

T h e pres en t volum e includes all of the essays in which Fetterdeveloped and presented his theory of distribution; the onlyimportant writings excluded are his two treatises: The Principlesof Economics (New York: The Century Co., 1910) and Economic

Principles (New York: The Century Co., 1915).I am indebted to Professor Emeritus Joseph Dorfman of Col-um bia University for ex am ining my introd uctio n and the collec-tion of essays with his usual tho rou gh nes s a nd for making manyvaluable suggestions. The editor of this series, Professor Lau-rence S. Moss of the University of Virginia, also made manyhelpful suggestions. Neither is responsible for any errors thatmay remain.

I would like to thank the American Accounting Association,publishers of the Accounting Review; the editors of the QuarterlyJournal of Econom ics; the Academ y of Political Science, publishersof the Political Science Quarterly; the University of Ch icago Press,publishers of the Journal of Political Economy; and MacmillanPublishing Com pany for permission to rep rin t the articles in thisvolume.

Murray N. RothbardNew York, N.Y.March, 1976



CONTENTSI NT R ODUC T I ON

Murray N. Rothbard 1

PART 1: THE THEORY OF CAPITAL

Review of F. W. Taussig, Wages and Capital

(1897) 26

Recent Discussion of the Capital Concept

(1900) 33

T h e Nex t Decade of Economic Th eo ry (1901) 74

Review of Böhm-Bawerk, Capital undCapitalzins (1901) 84Review of Böhm-Bawerk, Einige strittige Fragen

der Capitalstheorie (1902) 87

Review of Böhm-Bawerk, Positive Theorie

des Capitals (1902) 92

T h e N atu re of Capital an d Incom e (1907) 93

A re Savings Incom e? — Discussion (1908) 114

Clark's Reformulation of the Capital Concept

(1927) 119

Capital (1930-35) 143Reformulation of the Concepts of Capital andIncom e in Economics an d Accoun ting (1937) 151

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PART 2: THE THEORY OF INTEREST

The "Roundabout Process" in the Interest

Theory (1902) 172

The Relations between Rent and Interest

(1904) 192

Review of Gustav Cassel, The Nature and

Necessity of Interest, and B ö h m - B a w e r k , RecentLiterature on Interest (1905) 222

In t e r e s t Th e o r i e s , Old and New (1914) 226

Capi ta l iza t ion versus Product iv i ty : Re jo inder

(1914) 256

I n t e r e s t T h e o r y and Price Movements (1927) 260

PART 3: THE THEORY OF RENT

The Pass ing of the Old Rent Concep t (1901) 318

L a n d e d P r o p e r t y as an Ec o n o m i c Co n c e p t and

as a Field for Resea rch — Discussion (1917) 356

C o m m e n t on Re n t u n d e r In c r e a s i n g Re t u rn s(1930) 359

Rent (1930-35) 366

BIBLIOGRAPHY OF FRANK ALBERT FETTER 374

INDEX 390




































































Introduction

Frank Albert Fetter (1863-1949) was the leader in the UnitedStates of the early Austrian school of eçpnomics. Born in ruralInd iana , Fetter was gra du ated from the University of Indian a in1891. After earning a master's degree at Cornell University,Fetter pursued his studies abroad and received a doctorate ineconomics in 1894 from the University of Halle in Germany.Fe tter then tau gh t successively at Co rnell, India na , and Stanfo rduniversities. He returned to Cornell as professor of politicaleconomy and finance (1901-1911) and terminated his academicca ree r at Princeton University (1911-31), where h e also served aschairman of the department of economics.

Fetter is largely remembered for his views on business"monopoly" (see his Masquerade of Monopoly [ New York:Harcourt, Brace and Co., 1931]). But long before he publishedhis work on m onopoly in the 1930s, he developed a unified andconsistent theory of distribution that explained the relationshipamong capital, interest, and rent. While Fetter's theoreticalwork, like much of capital and interest theory in recen t de cades,

has been generally neglected, much of it is still valuable andinstructive today. In my opinion, microeconomic analysis has aconsidera ble way to go to catch u p to the insight that we find inFetter's writings in the first decade and a half of this century.

Apart from his two lucidly written treatises (The Principles ofEconomics [New York: The Century Co., 1904]; and EconomicPrinciples [New York: The Century Co., 1915]), Fetter's majorcontributions to distribution theory appeared in the series of

jo ur na l articles and sho rter p ape rs that I have collected to formthis volume. It was difficult for me to classify Fetter's work intothe categories of "capital," "re nt," a nd "interest," because his was

1



2 Introduction

an u nusually systematic and integra ted theory of distribution, allareas of analysis being interrelated.

Fetter's point of departure was the Austrian insights that (1)prices of consumer goods are determined by their relativemarginal utility to consumers; and (2) that factor prices aredetermined by their marginal productivity in producing theseconsumer goods. In other words, the market system imputesconsumer goods prices (determined by marginal utility) to thefactors of product ion in accordance with their marginalproductivities.

W hile the early Austrian a nd neoclassical schools of econom icsadopted these insights to explain prices of consumer goods andwages of labor, they still left a grea t m any lacunae in the theo riesof capital, interest, and rent. Rent theory was in a particularlyinchoate state, with rent being defined either in the old-fashioned sense of income per year accruing to land, or in thewider neo-R icardian sense of differential income between m orean d less produ ctive factors. In the latter case, re nt theory was an

appendage to distribution theory. If one worker earns $10 anho ur and ano ther, in the same occupation, earns $6 , an d we saythat the first m an's income contains a "differential re nt " of $4,rent becomes a mere gloss upon income determined by princi-ples completely different from those used to de term ine th e ren titself.

Frank Fetter's imaginative contribution to rent theory was toseize up on the businessman 's com m onsen se definition of ren t as

the price per unit service of any factor, that is, as the price ofrenting out that factor per unit time. But if rent is simply thepayment for renting out, every unit of a factor of productionearns a rent, and there can be no "no-rent" margin. Whateverany piece of land ea rns per year or p er m on th is ren t; whatever acapital good earns per unit time is also a rent. Indeed, whileFe tter did not develop his thesis so far as to con sider the wage oflabor per ho ur or per m on th as a "rent," it is, as becomes clear if

we consider the economics of slavery. Under slavery, slaves areeither sold as a whole, as "capital," or are rented out to otherm asters . In sho rt, slave labor has a unit, or ren tal, price as well as



Introduction 3

a capital value. Rent then becomes synonymous with the unitprice oïany factor; accordingly, a factor's rent is, or rath er tendsto be, its marginal productivity. For Fetter the marginal pro-ductivity theory of distribution becomes the marginal produc-tivity theory of rent determination for every factor of pro-duction. In this way, Fetter generalized the narrow classicalanalysis of land rent into a broader theory of factor pricing.

But if every factor ea rns a ren t in accordance w ith its m arginalproduct, where is the interest return to capital? Where doesinterest fit in? Here Fetter made his second vital and still un-

appreciated contribution to the theory of distribution. He sawthat the Austrian Eugen von Böhm-Bawerk, in the second vol-um e of his notable Capital and Interest, inconsistently returned tothe productivity theory of interest after he had demolished thattheory in the first volum e. After co ming to the brink of rep lacingthe productivity theory by a time-preference theory of interest,Böhm-Bawerk withdrew from that path and tried to combinethe two explanations—an eclecticism that capital and interest

theory (in its "real" form) has followed ever since.Fetter approached the problem this way: If every factor earnsa rent, and if therefore every capital good earns a rent, what isthe source of the extra return for interest (or "long-run normalprofit," as it is sometimes called)? In short, if a machine isexpected to earn an income, a rent, of $ 10,000 a year for the nextten years, why does not th e m arket bid up the selling price of themachine to $100,000? Why is the current market price con-

siderably less than $100,000 , so tha t in fact a firm tha t invests inthe machine earns an interest return over the ten-year period?The various proponents of productivity theory answer that themachine is "productive" and therefore should be expected toearn a return for its owner. But Fetter replied that this is reallybeside the point. T h e u nd oub ted productivity of the m achine isprecisely the reason it will ea rn its $10,000 ann ua l ren t; how ever,there is still no answer to the question why the market price of

the mach ine at present is not bid high enou gh to equal the sum ofexpected future ren ts. Why is the re a net ret ur n to the investor?Fetter demonstrated that the explanation can only be found



4 Introduction

by separating the concep t of marg inal productivity from that ofinterest. Marginal productivity explains the height of a factor'srental price, but an oth er principle is nee ded to explain why andon what basis these rents are discounted to get the presentcapitalized value of the factor: whether that factor be land, or acapital good, or the price of a slave. That principle is "timeprefe rence ": th e social rate at which peo ple prefer prese nt goodsto future goods in the vast interconnected time m arke t (present/future goods market) that pervades the entire economy.

Each individual has a personal time-preference schedule, a

schedule relating his choice of present and future goods to hisstock of available present goods. As his stock of present goodsincreases, the m arginal value of future goods rises, and his rateof time preference tends to fall. These individual schedulesinterac t on the tim e m arket to set, at any given tim e, a social rateof time preference. This rate, in turn, constitutes the interestrate on the market, and it is this interest rate that is used toconvert (or "discount") all future values into present values,

w heth er the future good h appe ns to be a bon d (a claim to futuremoney) or more specifically the expected future rentals fromland or capital.

Th u s , Fetter was the first economist to explain interest ratessolely by time preference. Every factor of production earns itsrent in accordance with its marginal product, and every futurerental return is discounted, or "capitalized," to get its presentvalue in accordance with the overall social rate of time pref-

erence. This means that a firm that buys a machine will onlypay the present value of expected future rental incomes, dis-counted by the social rate of time preference; and that when acapitalist hires a worker or rents land, he will pay now, not thefactor's full m arginal pro du ct, bu t the expected future m arginalproduct discounted by the social rate of time preference.

A glance at any prom ine nt c ur re nt textbook will show how fareconomics still is from incorporating Fetter's insights. The

textbook discussion typically begins with an exposition of themarginal productivity theory applied to wage determination.Then, as the author shifts to a discussion of capital, "interest"



Introduction 5

suddenly replaces "factor price" on th e y-axis of the gra ph , andthe conclusion is swiftly reached that the marginal productivity

theory explains the interest rate in the same way that it explainsthe wage rate. Yet the correct analog on the y-axis is not theinterest rate but the rental price, or income, of capital goods.T he interest rate only enters the picture when the m arket priceof the capital good as a whole is formed out of its expectedann ual fu ture incomes. As Fetter pointed o ut, interest is not, likerent or wages, an annu al or monthly income, an income per unittime earn ed by a factor of prod uctio n. Inte rest, on the con trary,

is a rate, or ratio, between present and future, between futureearnings and present price or payment.Fetter's theory makes it impossible to say that capital "earns,"

or generates an interest return. On the contrary, the very con-cept of capital value implies ^preceding process ofcapitalization, asumming up of expected future rental incomes from a good,discounted by a rate of interest. Rent, or productivity, and in-terest, or time preference, are logically prerequisite to the

determination of capital value.

2.

Frank A. Fetter's earliest article in this collection, a review ofFrank W. Taussig's Wages and Capital: An Examination of the WagesFund Doctrine (New York: D. Appleton, 1896), was written in

1897 and sets the pace for the articles in the first part of thisbook. Here Fetter criticized Taussig's attempt to revive theclassical notion of the "wage fund." Rather than attempting toexplain aggregate wage payments, Fetter recommended ex-plaining individual wage rates.

Fetter's first full-length article on capital was his "RecentDiscussion of the Capital Conce pt" (1900). In it he com pared thetheories of capital offered by Böhm -Bawerk, Jo h n Bates Clark,

and Irving Fisher. Fetter did less than full justice to Böhm-Baw erk's subtle insistence on the defects of th e idea of capital asmerely a fund, especially in comparing or measuring concrete



6 Introduction

capital goods that differ from each other. Above all, Fetter, inproperly co nce ntrating on a fund of capital value as an attribu te

of all durable productive goods, never fully realized the im-portan ce between land (the original prod ucer's good) and capi-tal goods (created or produced producer's goods). In fact, Fet-ter's idea of capital as a fund of value and the Austrian view ofcapital as concrete capital goods are not inconsistent; they playroles in different areas of capital theory.

Of special interest is Fetter's charge that Böhm-Bawerk'sintention was to establish a labor theory of property in capital

goods. Furthermore, when Fetter declared that Böhm-Bawerkwas inconsis tent in c lass i fy ing man-made improvementspermanently incorporated into the land as "land" itself, heapparently did not realize that for Austrian economists thecrucial criterion for classifying a good as "land" is no t its origina lnature-given state but its permanence as a resource (or, moreprecisely, its nonreproducibility). Goods that are permanent, orno nrep rodu cible, earn a net ren t, whereas capital goods, which

have to be produced and maintained, only earn a gross rent,absorbed by costs of produc tion an d m aintenance. H ere is a vitaldistinction between land and capital goods that Fetter com-pletely misunderstood (see my Man, Economy, and State, 2 vols.[New York: D. Van Nostrand, 1962], 2:502-4).

Fetter, however, took his stand squarely with Böhm-Bawerkand against Clark when he denied that capital is a permanentfund and that produ ction ever becomes "synchron ous," thereby

eliminating the time dimension between inpu t and ou tpu t. Th issame controversy was to reappear dramatically in the 1930s inpublications of Frank H. Knight (advancing the Clark position)and those of Friedrich A . Hayek and Fritz M achlup (represen t-ing the Austrian view).

On the other hand, Fetter praised Irving Fisher's theory ofcapi ta l (The Rate of Interest: Its Nature, Determination, and Relationto Economic Phenomena [New York: Macmillan Co., 1907]) in

places where it deviated from the Au strian view an d criticized itwhere it conformed to the Austrian position. Thus, Fisher'sdistinction between capital an d incom e (based on the differences



Introduction 7

between stock and flow m easureme nts) is com m ende d because iteliminates the need for distinguishing between land and capital

goods. On the other hand, Fetter objected to Fisher's highlysensible insistence that the concept of concrete physical capitalgoods is logically pre req uis ite to the concep t of abstract cap ital asa fund of value. Furthermore, Fetter objected to the Austrianview, also in Fisher, that capital goods are way stations on thepath to producing more consumer goods, and that they aretherefore "used up" in production. Fetter cited machines andland ("natural agents") as goods that do no t advance toward th e

status of consumer goods. But machines advance toward con-sumer goods precisely by being impermanent, that is, by beingused up in the march of prod uction toward the goal of consum p-tion; an d the fact th at land is no t used u p in this way is preciselythe reason for distinguishing it from capital goods.

In his 1902 review of Böh m Baw erk's Einige strittige Fragen derCapitalstheorie Fetter quite properly pointed to the major textualcontradiction in Böhm-Bawerk's theory of interest: Böhm-

Baw erk's initial finding th at interest stems from time prefe renc efor present over future goods is contradicted by his later claimthat the greater productivity of rou nd ab out produ ction process-es is what accounts for interest. However, when criticizingBöhm-Bawerk's productivity theory of interest, it was notnecessary for Fetter to dismiss Böhm-Bawerk's importantconception of roundaboutness or the period of production.Roundaboutness is an important aspect of the productivity of

capital goods. H owever, while this productivity may increase th erents to be derived from capital goods, it cannot account for anincrease in the rate of interest return, that is, the ratio betweenthe annual rents derived from these capital goods and theirpresent price. That ratio is strictly determined by time pref-

erence."The Nature of Capital and Income" (1907) offered a review

of Irving Fisher's book of the sam e title. Fetter hailed Fisher's use

of the capitalization concept of capital as well as Fisher'sabandonment of his prev ious view tha t the stock/flow concep t ofcapital and income applied to the same concrete goods. Here,



8 Introduction

Fisher shifted to an abstract and generalized conception ofstocks and flows. But, as Fetter noted, this very abstraction

rendered the whole stock/flow dichotomy untenable. Fisher'streatment of income as strictly psychic income, to the virtualexclusion of money income, is properly criticized, as is thecorollary that only consum ption is income, and th erefo re capitalgains are no t income and should not be subject to an income tax .Finally, Fetter, who ha d himself been wo rking on an integra tedtheory of income distribution, found that Fisher's theory ofcapital and income had an ad hoc flavor because it had been

developed separately from the remainder of Fisher's distribu-tion theory.In "Are Savings Income—Discussion?" (1908) , Fe t te r

elaborate d on his criticism of F isher's view tha t savings, or ra th eradditions to capital, are not income, and that the term incomeshould be limited to consumption expenditure only. Fettercorrectly pointed out that Fisher confused the concept of ulti-mate psychic income, which indeed consists only of co nsum ption ,

with the concept of monetary incomes acquired in the market,which are partially saved and partially consumed.Two decades later (1927) Fetter returned to the theory of

capital in his contribution to the Festschrift hono ring Jo hn BatesClark. In the course of reviewing Clark's contributions to thetheory of capital, Fetter praised Clark for treating capital as afund ra th er tha n as an array of hetero gen eou s capital goods andfor offering a general definition of rent as the income from all

capital goods and not jus t the incom e from land. Böhm -Bawerkis criticized on ce again for clinging to the identification of capitaland interest (instead of realizing how interest permeates theentire time-value market), but this cogent criticism is againmisleadingly linked to an attack on Böhm-Bawerk for main-taining a distinction between land and capital goods. In thisarticle, F. W. Ta uss ig is criticized for allegedly m ainta ining tha tonly land, and not capital, is productive. But here Taussig was

not simply in the throes of the labor theory of value; rather, hewas adopting the subtle Böhm-Bawerkian insight that, whilecapital goods are evidently productive, they are not ultimately



Introduction 9

productive, for they have to be produced and reproduced bylabor, land, and time, so that capital goods earn gross rent, but

not net rents, which go only to labor and land factors. Henceagain we encounter the importance of the land-capital goodsdistinction. As for interest, it is entirely the result of time pref-

erence; in the case of a capital good, interest depends on firstproducing the capital good by combining labor and land andthen on reap ing th e fruits of this com bination at a later time. T h every distinction between land and capital goods so resisted byFetter was thus used by Böhm-Bawerk to pave the way for

Fetter's own theory of interest!Of particular importance in this 1927 essay is Fetter's critiqueof Alfred Marshall's capital theory. Always an unsparing logi-cian, Fetter relentlessly criticized the myriad of inconsistencies,confusions, and contradictions in Marshall's discussion. Fetteralso added to his previous criticisms of Fisher's capital theory areview of the inconsistency in adopting a wealth-at-one-time/services-at-one-time distinction between capital and income on

top of his previous stock/flow dichotomy.Fetter's contribu tion en titled "Capital," which ap pe are d in theEncyclopedia of the Social Sciences (1930-35) , i s a convenientsummation of his views on capital as well as his criticisms ofalternative theories. It is clear that his exclusive concern withcapital as a fund , or as "the market value [of] the p resen t w orthsof . . . individual claims to incomes," is a consequen ce of hisdissatisfaction with the productivity theories of interest and his

des ire to establish "capital value" as simply the cap italized sum ofexpected future rental incomes.

3.

Frank A. Fetter 's pioneering development of the pure time-preference theory of interest began with his article "The

'Roundabout Process' in the Interest Theory" (1902). HereFetter hailed Böhm-Bawerk as the first to state properly thecentral problem of interest theory: To explain why present



10 Introduction

goods are valued more highly than future goods. But afterstarting out with time preference as the proper explanation,

Böhm-Bawerk introduced his "third ground" for interest—thegreater productivity of roundabout processes of production—an d arg ue d tha t it was the most im porta nt reason pre sent goodshad higher values than future goods.

W hen offering his detailed critique of Böhm -Bawerk's "thirdground," Fetter explained how Böhm-Bawerk had failed toseparate the undoubted increase in physical productivity, result-ing from an increase in capital, from a claimed increase in the

"value" productivity of capital. Fetter noted that an increase inthe value of capital (as distinct from its physical amount) willincrease the value productivity of capital if and only if the in-terest rate remains constant. In other words, Böhm-Bawerk'sproductivity explan ation of interest m akes use of the conce pt ofthe present value of capital and therefore assumes that theinterest ra te is already given, since it is ne ed ed to dete rm ine thepresent value of capital. Thus, Böhm-Bawerk's productivity

explanation of interest involved circular reasoning. Similarly,Fetter noted that one determinant of the degree of capitaliza-tion, or the degree of roundaboutness of production processesin the econom y, is precisely th e interest rate— the ra te of p rese ntcapitalization of future rents. Here is still another example ofcircular reasoning.

For the rem ain de r of his 1902 article, Fetter elabo rated o n hiscritique (outlined above) of the Austrian separation of land and

capital goods, and the idea of the period of produ ction. H ere itmight be noted that Fetter's perfectly valid point about landcapitalization in the market by way of the interest rate does notnegate th e Au strian distinction between land an d capital goods.According to the Austrian school "capital" and "capital goods"are separate and distinct concepts. Furthermore, Fetter 's re-peated attempts to attribute a labor theory of capital value toBöhm -Bawerk are contradicted by his own admission tha t both

land an d time en ter into the A ustrian view of the prod uction ofcapital. Fetter, however, made an important point in criticizingBöhm-Bawerk's formulation of the "average period of pro-



Introduction 11

auction," especially the idea of ex post averaging of the variousperiods of production throughout the economy. Fetter also

cogently attacked Böhm-Bawerk's attempt to leap from theincreased physical productivity of roun da bo ut processes to valueproductivity by the use of purely arithmetical tables. H ere Fetterlevelled a (characteristically Austrian) critique of the use ofm athem atics in economics against an economist who was himselfa leading critic of the mathematical method.

In his 1902 article, Fe tter offered an oth er b rilliant criticism ofBöhm-Bawerk's "third ground." Böhm-Bawerk tried to use the

greater productivity of capital to explain why these "presentgoods" are worth more than "future goods" when the capitalcomes to fruition as con sum er goods. Bu t, as Fetter pointed out,since capital instruments only mature into consumer goods atvarious times in the futu re, capital goods are really future goods,not present goods. If, then, we concentrate on utility to con-sum ers, capital goods ar e seen to be uture goods, and the "thirdground" for an extra return to these (future) capital goods as

being m ore produ ctive "pres ent g oods" becomes totally invalid.We may apply Fetter's insight to the current textbook ex-planations of interest rate determination in the market forproductive loans. The supply curve of loanable funds is con-ventionally explained by time preference, while the demandcurve for loans by business firms is explained by referenc e to the"marginal productivity of capital"—in short, by the "natural"rate of interest embodied in the long-term norm al rate of profit.

But the firm that borrows m oney in ord er to hire workers or tobuy capital goods is really buyingfuture goods in exch ange for apresent good, money. In short, the business borrower, like thesaver-creditor who lends him money, is buying a future goodwhenever he makes an investment. If we assume, for example,that there are no business loans but only stock investment, thispoint is easier to und ers tan d. W hen a man saves an d invests in aproductive process, he pays workers and other factors now in

exc han ge for services that will yield a pro du ct, and there fore anincom e, at somefuture time. In short, the capitalist-entrepreneu rhires or invests in factors now and pays out money (a present



12 Introduction

good) in exch ange for prod uctive services that are future goods.It is for his service in paying factors now, in advance of the fruits

of production, that the capitalist normally earns an interestreturn, a return for time preference. In sum, every factor ofproduction (whether labor, land , or capital goods) ea rns , not itsmarginal value productivity, according to the current con-ventional explana tion, bu t its marginal productivity discounted bythe interest rate or time preference; and the capitalist earns thediscount.

Fetter also cogently argu ed that B öhm -Bawerk in effect used

one explanation (the "third ground") for interest on producergoods and another (the notion of time preference) for intereston consumer loans. Since interest must have a unitary expla-nation , Böhm -Bawerk's analysis is som ething of a retrogression.

Fetter stressed the basic weakness of all productivity expla-nations of interest. It is not en ou gh , he po inted o ut, to show tha tmore capital is productive in physical or even value terms; theproblem is to explain why the value of capital on the market

today is low enou gh to generate a surplus value retu rn tomo r-row. The productivity of capital has nothing to do with thesolution to this problem. As Fetter wrote:

The essence of the interest problem is to explain a surplus of value overthe value of capital employed. It is not enough to show that morecapital (or a more roundabout process) will produce more products, orto show that the aggregate of products has a greater value than thosesecured before. The value of capital being derived from the value ofthe products, the more the products (in value), the more the capital(value), unless the interest rate (the thing to be explained) keeps thecapital from increasing proportionately.

Fetter pointed out ironically that Böhm-Bawerk himself, incriticizing earlier productivity theories of interest, had raisedprecisely the same point. Even conceding that very long round-about processes may be physically highly productive, Fetter

pointed out that the question remained unresolved in Böhm-Bawerk why these processes ar e no t the n always p re fe rre d to lessproductive, but more immediately fruitful, processes.



Introduction 13

Fetter concluded by reiterating his unique position on therelationship between interest and rent. Rent reflects the

(marginal) productivity of scarce factors of production, andinterest reflects the present valuation of future services andtherefore depends, not at all on roundaboutness, but on thepostponement of use. The theory of interest, Fetter concluded,"must set in their true relation the theory of rent as the incomefrom the use of goods in any given period, and interest as theagio or discount on goods of whatever sort, when comparedthroughout successive periods."

In the presentation of his theory before the AmericanEconomic Association, "The Relations between Rent and In-terest " (1904), Fetter pointed out the confusions and incon-sistencies of previous writers on the theory of rent and interest.In place of the classical distinction between rent as income fromland and interest as income from capital goods, Fetter p roposedthat all factors of pro du ction , whether land or capital goods, beconsidered either "as yielding u s e s ,. . . as [a] beare r of rent," or as

"salable at their present wo rth, . . . as [a] discoun ted sum ofrents," as "wealth" or "capital." As a corollary, rent must beconceived of as an absolute amount (per unit time), whereasinterest is a ratio (or pe rcen tage) of a principal sum called cap italvalue. Rent becomes the usufruct from any material agent orfactor—the use of the agent considered apart from using it up.But then there is no place for the idea of interest as the yield ofcapital goods. Rents from any du rab le good accrue at different

points in time, at differen t dates in the futu re. T he capital valueof any good then becomes the sum of its expec ted future ren ts,discounted by the rate of time preference for present over fu-ture goods, which is the rate of interest. In short, the capitalvalue of a good is the "capitalization" of its future rents inaccordance with the rate of t ime preference or interest .Therefore, marginal utility accounts for the valuations andprices of con sum er go ods; the ren t of each factor of prod uction

is determined by i ts productivity in eventually producingconsumer goods; and interest arises in the capitalization, inaccordance with time preference, of the present worth of the



14 Introduction

expected future rents of durable goods. Such is Fetter's lucid,systematic, and unique vision of the relative place of rent, in-terest, and capital value in the theory of distribution.

Fet te r ' s paper was considered so impor tant tha t n ineeconom ists were assigned to discuss it. As Fetter ind icated in hisreply, few of his commentators demonstrated that they un-derstood his positive theory, and many were only interested indefending the classical school against Fetter's criticisms. ToThomas Nixon Carver's major point that since land, in contrastto oth er factor services, need not be supplied, land r en t does not

en ter into cost, Fetter re plied : (1) that th e same sort of surplus, orno-cost, elements may be said to permeate all factors of pro-duc tion, an d (2) that land, like oth er factors, must also be served,maintained, and allocated efficiently. Furthermore, several ofthe commentators, as Fetter pointed out, mistakenly identifiedFetter's theory with that of John Bates Clark and proceeded tocriticize Clark's assimilation of re nt and interes t, despite the factthat Fetter held an almost diametrically opposed view.

A decade later Fetter returned to the theory of interest, in"Interes t T heo ries, Old and New" (1914), as part of a critique ofIrving Fisher's recantation from his previous adherence to puretime-preference theory, a position he had approached in his TheRate of Interest (1907), and one that influenced Fetter in de-veloping his own theory . But now Fisher was taking the path ofBöhm-Bawerk and returning to a partial productivity expla-nation . Moreover, Fetter discovered that the seeds of er ro r were

in Fisher's publication of 1907. Fisher had stated that valuationsof present and future goods imply a preexisting money rate ofinterest, thereby suggesting that a pure time-preference ex-planation of interest involves circular reasoning. By way of con-trast, and in the course of explaining his own pure time-pref erence, or "capitalization," theo ry of interest, F etter showedthat time valuation is prerequisite to the determination of themarket rate of interest. The market rate of interest on loans is,

for Fetter, a reflection of a genera l ra te of time p refere nce in theeconomy, a capitalization process that discounts, in the presentprices of durable goods and factors of production, the future



Introduction 15

uses of these goods. Consumers evaluate directly enjoyableconsumer goods, then evaluate durable factors according to

their productivity in making these goods, and then discountthese future uses to the present in accordance with their timepreferences. The first step yields the prices of consumer goods;the second , the incomes or ren ts of pro du ce r go ods; the last, the"underestimation" of, or the rate of interest yielded by, theproducer goods.

Again restating his case, this time in criticizing the views ofHenry R. Seager, Fetter pointed to the crucial problem: why

does entrep ren eu rial purch ase of factors seem to contain withinitself a net surplus, an interest return? The productivity ofcapital goods does not explain why the value of this expectedproductivity is discounted in their present price, which in turnpermits the e ntr ep ren eu rs to pay interest on loans with which tobuy or hire these factors of production. As Fetter stated: "Theamount of interest which 'enterprisers estimate' they can affordto pay ... is the difference between the discounted, or present,

worth of products imputable to these agents and their worth atthe time they are expected to ma ture." Fetter adde d that th ere ofcourse must be productivity to account for the expected futureincome, just as there must be people and markets; but therewould be no rate of interest if the future value of the productswere not discounted. Market interest can be paid out of a valuesurplus that emerges from an antecedent time discount of the"value-productivity" of the factors of production. Or, putting it

an oth er way, Fetter readily adm itted th at produ ctivity of capitalgoods brings greater value to the final product. "But the value-productivity which furnishes the motive to the enterpriser toborrow and gives him the power, regularly, to pay contractinterest, is du e, n ot to the fact that th ese prod ucts will have valuewhen they come into existence, but to the fact that their expectedvalue is discounted in the price of the agents bou gh t at an earlierpoint of time."

Fetter also sha rpen ed the contrast between his own theory andthe productivity theory of interest in an oth er way. T h e pro du c-tivity theorists assert that as capital grows the economy becomes



16 Introduction

more productive, and that the interest rate increases owing tothe grea ter productivity of capital. But F etter cou nte red with th e

insight that, as the economy advances and more present goodsare pro du ced , the preference for pres ent goods is lowered, andthe interest rate there fore may be expected to fall. O r, as it mightbe put more elaborately, everyone has a t ime-preferenceschedule relating his supply of pre sen t goods with his prefe renc efor the present over the future. A greater supply of presentgoods would move to the right and down along a given time-preference schedule, so that the marginal utility of present

goods would fall in relation to future goods. As a result, on thegiven schedules, the rate of time pre ference, of deg ree of choiceof presen t over futu re, w ould tend to fall and so there fore wouldthe interest rate.

Fetter also anticipated Frank Knight's classic distinction, inRisk, Uncertainty, and Profit (1921), between interest, or long -runnorm al profits, on the one hand and s ho rt-run profits and lossesearned by superior, or suffered by inferior, entrepreneurs on

the other—superiority or inferiority defined in terms of theability to forecast the uncertain future. Why does an entre-p re neu r borrow at all if in so do ing h e will bid u p the loan rate ofinteres t to the rate of time preference as reflected in his long -runnormal rate of profit (or his "natural rate of interest," to useAustrian terminology)? The reason is that superior forecastersenvision making short-run profits whenever the general loanrate is lower than the return they expect to obtain. This is

precisely the com petitive process, which tend s, in the long ru n ,to equalize all natural and loan rates in the time market. Thosee n t r e p r e n e u r s " w i t h s u p e r i o r k n o w l e d g e a n d s u p e r i o rforesight," wrote Fetter, "are merchants, buying when they canin a che aper and selling in a dea rer capitalization m arke t, actingas the equalizers of rates and prices."

Fetter also pointed out, quite correctly, that the process ofcapitalization and time discount applies as fully and equally to

land as it does to capital goods. From the point of view ofcapitalization, the re is no fun dam ental distinction between landand produced means of production. In fact, Fetter might have



Introduction 17

pointed out that under slavery, where laborers are owned, they,too, becom e capitalized, and the present price of slaves becomes

the capitalized value of expec ted future earn ings (or "rents") ofslaves, discoun ted by the social rate of time prefe renc e. Bu t th efact tha t slaves, too, can be capitalized does n ot justify obliterat-ing for other purposes any and all distinctions between slavesand capital goods.

Not only is Fetter's pure time-preference, or capitalization,theory the only one that offers an integrated explanation ofinterest on slaves, land, and capital goods, but it is also, as he

pointed out, the only one that provides an integrated explana-tion of interest on consum ption loans and on productive loans.For even the productivity theo rists had to concede tha t at least inthe case of consumer loans interest was occasioned by timepreference.

In Fetter's final and extensive treatment of interest, "InterestTheory and Price Movements" (1927), pessimism has replacedhis optimism of earlier years; for after an illum inating discussionof early interest theories (in which he rescued Turgot from thedeprecation of Böhm-Bawerk), Fetter sadly noted that his in-sight into interest theory had been ign ored . Th e old productivitytheory of interest, having at last conquered Böhm-Bawerk andIrving Fisher, survived as the dominant explanation of interestin the eclectic theory of Alfred Marshall. Among English andAmerican economists, productivity remained the major ex-planation of interest on prod uctive capital, an d time prefe rencewas relegated to an explanation of consumer lending.

Fetter proceeded to a particularly extended discussion of thenature of time preference and the time market. Time prefer-ence enters into primitive, Crusoe-type valuations, which pre-date the development of barter as well as the emergence ofmoney loans and a money economy. The rates of time prefer-ence reflect all the conditions, the interac tions, and the choices ofhuman beings. In almost all cases, present goods are preferredto future goods, and this prefere nce is most m arke d in primitivem an. Bu t, Fetter ad de d, with the deve lopm ent of civilization, theadvent of thrift generally means a lowering of the premiums



18 Introduction

placed on present goods and hence of the rate of t imepreference.

In the m oney econom y, ju st as the utility scales of individualsinteract to brin g abo ut uniform prices on the market, individualtime-preference schedules through exchange bring all timepreferences into conform ity. T h e consequen ce is a social rate oftime preferen ce, a "gen eral, average rate of prem ium of prese ntdollars over fu ture dollars which has resulted from leveling out. . . a great part of the individual differences." T hr o ug h arbitragetime-preference rates tend to be equalized thr ou gh ou t the time

market. The price of a durable factor of production is derivedfrom the expected price of its products, being the presentdiscount, or capitalized sum, of all of its future products. Thiscapitalization process precedes, rathe*r than follows, the exis-tence of an interest rate on money loans. The time-preferencerate that capitalizes future incomes emerges as the long-runnormal, or natural, rate of profit of business firms. Short-rundeviations from this norm are caused by special circumstances

and by entrepreneurial skills. Profit rates tend to be equalizedthroug hou t the market throug h a continu ing reevaluation of theprices of dura ble agen ts—those capital goods pro viding a profitbeing recapitalized upward and those suffering losses beingrecapitalized downward. This process of recapitalization andreevaluation tends to bring about uniform profit rates, Fetternoted, rather than according to the conventional theory, uni-form costs of producing new durable agents. For Fetter, theinterest rate on productive money loans and the norm al rate ofprofit tend to equality because they have a common cause:capitalization of time preferences throughout the time market.As Fetter stated:

The normal profit-making "productivity of capital" (where goodscontaining future uses rise toward parity with present uses) is thusnothing but the reversal of the former discount-valuation applied to

distant incomes. It is a psychological, valuation process, not a physical,technological process. Thus profits no more explain interest thaninterest explains profits. They offer alternative investment oppor-tunities but neither is the cause of the o ther. Both opportunities result



Introduction 19

from discounts and premiums permeating the existing system ofprices, and these are traceable to the fundamental factor of time-

preference exercised by men individually and collectively.Having thus elaborated his concept of time preferen ce a nd the

time m arket, Fetter applied his pur e theory to the complexitiesof determining interest in the real world. In the first place,interest rates, in addition to being determined by time pre·ference, vary in accordance with different degrees of risk, en-trepreneurial skill, the cost of making loans, different habits,

and legal restrictions. Furthermore, as Fetter pointed out,changes in the price level slow up the market process ofequilibrating interest rates and lead to widespread errors ofovercapitalization and undercapitalization.

In a discussion of money and price levels in relation to theinterest rate, Fetter incorporated into his analysis Fisher's in-sight, now being rediscovered, that interest rates tend to riseduring a boom and fall during a recession in response to ex-

pected changes in price levels. Rising price levels lower thepurchasing power of the creditor's return, and interest ratestend to rise during inflations to compensate for this loss. Con-versely, interest rates tend to fall below time-preference ratesduring a recession to offset the increased real rate of return.

But Fetter was not content to stop there. Noting that empir-ically interest rates do not rise continually du rin g bo om s, Fetterdeveloped a monetary theory of the business cycle, one that

came close to the Mises-Hayek "monetary malinvestment"theory that was being developed in Austria at about the sametime (see my America's Great Depression [Kansas City: Sheed &Ward, 1975]).

Fetter explained that a currency inflation from increasedgovernment spending raises the price level, which in the longrun is determined by movements in the supply of money. Butincreasing the money supply via bank credit expansion has far

m ore complex consequences. C ontinu ing bank credit exp ansionnot only will brin g abo ut a boom an d hig he r prices bu t also willincrease th e m oney supply via a massive increase in the supp ly of



2 0 Introduction

loanable funds emitted by the banks. The increased moneysupply will keep the ra te of interest below the free-market rate, at

least until later stages in the boom, and will bring about anovercapitalization of durable and producers' goods. Owing tothe increase in product prices combined with the artificially lowrates of interest, businessmen are led into numerous unsoundinvestments. When the banks are finally forced to stop theircredit ex pan sion, th e overestimation of capital values is suddenlyreversed, and the boom is quickly succeeded by a recession.Business failures, mon eta ry losses, an d low ering of capital values

brin g the va rious parts of the system of prices and values on themarket once more into harmony. In particular, that part of themarket not influenced by bank credit is brought into harmonywith the remainder of the economy. Such is the function of therecession in response to the distortions generated by the bankcredit expansion of the preceding boom.

Criticizing the theory that bank credit should simply be re-sponsive to the "needs of business," Fetter properly pointed out

that during a boom business overestimates its "needs" in re-sponse to rising prices and the seemingly greater opportunitiesfor profit. In this way, bank credit expansion stimulates thosevery business "needs" that are supposed to furnish a rigorouscriterion for bank credit policy.

Fetter also provided a useful critique of the Swedish econ omistKnut W icksell's theory th at if banks sho uld con tinue to hold th einterest rate below the natural, or free-market, rate, the price

level would rise indefinitely. Fetter pointed out that this couldonly be tru e if the low ering of the discount ra te was accomp aniedby a continuous expansion of bank credit.

Fetter conc luded this discussion of interest theo ry by applyingit to the economics of war. During wartime there is a sharpincrease in rates of time preference, in the demand for presentgoods immediately usable for war purposes. Consequently,there is a substantial rise in wartime of free-market interest rates .

Fetter was therefore highly critical of the common attempts bygovernments to keep interest rates low during wartime, thuscreating economic distortions and preven ting high interest rates



Introduction 21

from smoothly shifting resources from civilian industries to warindustries, which have a higher immediate demand for funds.

4.

Fetter's major article on the the ory of rent, "T he Passing of theOld Ren t Co ncept" (1901), was on e of his most notab le essays. Itis a detailed critique of the several mutually contradictory renttheories found in Alfred M arshall's Principles ofEconomics. First is

the Ricardian notion that ren t is the return to land. T he problemof "exp laining" ren t becomes equivalent to defining w hat land isan d why it is different from capital. Fe tter attacked the distinc-tion made between land and capital by criticizing the idea thatland can be distinguished from capital in terms of its allegedinelasticity of supply. Fetter argued that both land and capitalcan be increased in the long run, while in the short run thesupply o f capital goods can be as inelastic as the supp ly of land .

Fetter next turned his attention to the influential doctrine ofquasi-rents. According to Marshall, land (as well as othernonreproducible goods, such as paintings and rare jewelry) ispermanently fixed in supply and therefore earns a true rent.Capital goods, however, are fixed in supply only in the sho rt ru n ,and therefore their income, while similar to land rent, is onlytemporary, hence the term "quasi-rent." Fetter uncovered thecrucial error in Marshall's claim that quasi-rents are not part ofthe cost of production. In making this claim, Marshall hadquietly shifted his discussion from the entrepreneur to theowner of the capital good who "earns an income" rather than"pays a cost." Thus instead of being a costless surplus to theen tre pr en eu r, ren t "is essentially that paym ent which, as a p artof [m oney] costs, prevents the [en trep ren eu r] from getting anysurplus which can be attributed to the rented agents."

At the base of the M arshallian er ro r in the quasi-rent d octrin e,stated Fetter, is a confusion between money costs and the ra th ermystical concept of "real costs." Money costs of production donot consist of "rea l" costs; they are simply the m arke t value of the



22 Introduction

factors of production that the business firm contracts to put touse. To make rent a "surplus" over real cost is tantamount to

abandoning the basic notion of rent as a regularly accruingincome produced by way of market exchange.Fetter criticized Marshall's adherence to the classical notion

that ren t is the one incom e paym ent that does not en ter into th emoney cost of production, or into the supply price of factors ofprod uction . Fetter noted that the rent of land enters into moneycosts as does any oth er co ntractual paym ent, as any land-r en tingfarmer or businessman can attest. The Marshallian reply that

land is emp loyed u p until the no-rent m argin and th erefore hasno effect on decisions to produce a little more or less of theproduct is dismissed by Fetter's demonstration that the samecould be said about any factor payment whatsoever by way ofgeneralizing the law of diminishing returns into the law ofvariable pro po rtion s. T h er e is simply no thin g special abo ut landrent in this regard. Furthermore, Fetter pointed out that noproducer ever pushes a factor as far as the "no-rent" margin;

here economic reality contradicts the infìnitesimally small unitsof mathematical economics. For so long as a factor remainsproductive at all, it will pay a rent in accordance with thatproductivity, no m atter how small. A nd , furthe rm ore , the sup-ply of any good is determined fully as much by rent-bearing as bym argina l un its. In su m , land is priced in the same way as labor orcapital in terms of the value of its marginal product.

In his "Com men t on Rent un de r Increasing Return s" (1930),Fetter demolished the idea of increasing returns and called foran extension of the concept that rent accrues to land to thenotion that rent accrues to the separable uses of any kind ofdu rab le good wh atsoever. Finally in his article on "Re nt" in t heEncyclopedia of Social Sciences, Fet ter t raced the his tory of thenotion of rent and defined rent in the common-sense meaningof "renting-out": the amount paid for the separable uses of adurable agent "entrusted by the owner to a borrower, to bereturned in equally good condition."



Introduction 23

5.

It may be that the hallmark of Frank A. Fetter's approach toeconom ic theo ry was his "radicalism"— his willingness to discardthe entire baggage of lingering Ricardianism. In distributiontheory his most im po rtant con tributions are still too radical to beaccepted into the corpus of economic analysis. These are: (1) hiseradication of all productivity elements from the theory of in-terest and his development of a pure t ime-preference, orcapitalization, theory and (2) his eradication of everything

perta ining to land , whether it be scarcity or som e sort of m arginover cost, in the theory of rent, in favor of rent as the "rentingout" of a dura ble good to earn an income per u nit time. Guidedby Alfred Marshall and by eventual retreats toward the olderview by Böhm-Bawerk and Fisher, microeconomic theory haschosen a more conservative route.

Despite the attention and the enthusiasm accorded to hiswritings at the time, Fetter's con tributions to distribution theory

have fallen into neglect and disuse. It is to be hoped that thiscollection of essays will br ing Fetter's con tribu tions a nd his lucidand systematic economic vision to the attention of co ntem poraryeconomists.



24 Introduction

BIBLIOGRAPHICAL NOTE

For a recent appreciation of Fetter's contributions to economicthou ght, see Jo hn Appleby Coughlan, "T he Con tributions of FrankAlbert Fetter (1863-1949) to the Development of Economic Theory"(Ph.D. diss., Catholic University of America, 1965). For an earlysummary of his theoretical system that apparently received Fetter'sapproval, see Robert F. Hoxie, "Fetter 's Theory of Value," QuarterlyJournal ofEconomics 19 (February 1905): 210-30. Hoxie concluded thatFetter ( in his Principles of Econom ics: With A pplications to Practical Prob-lems [New York: Cen tury Co ., 1904]) had created a "system which, forlogical consistency, is without preced en t; a system thr ou gh which with

clearness there run s one essential chain of th o u g h t. .. and as successivelinks of which the prob lems of the value of consum ption good s, ren ts,wages, and profits, the value of productive agents, and interest aresuccessively solved" (ibid., p. 230). General discussions of Fetter'scontribution may be found in Joseph Dorfman, The Economic Mind inAmerican Civilization, 5 vols. (New York: V iking Press, 1959), 3:360-65 ,385-86; 5:464-79; and Wesley C. Mitchell, Types of Economic Theory:From Mercantilism to Institutionalism, 2 vols . (New York: Augus tus M.Kelley, 1969) 2:251-300. I have included a bibliography of Fetter's

works at the end of this volume.



Part 1The Theory of Capital



Review of F. W. Taussig,Wages and Capital: A n

Examination of the WagesFund Doctrine

This book consists of two main parts—a historical resume ofthe wages-fund controversy, and a presentation of the auth or'sown conclusions on the subject. The historical portion is by nomeans unimportant: in fact, it cannot fail to receive commen-dation from all qu arte rs for impartiality of trea tm en t, acutenessof criticism, fullness of knowledge and clearness of style. Thisreview, however, must be confined to the author's "positive

theory" as contained in the first 125 pages of the volume.A m on g the lim itations which Professor Tau ssig places on theproblem he is investigating is on e that dese rves a special word ofcomment. He limits the problem to the determination of "thetotal tha t goes to labo rers as a whole." "It is only with the total,"he says, "that the wages fund, or the discussion of wages andcapital, has to do" (p. 109). "The causes which determine thesha re which a particu lar set of laborers shall have are different,"

and present a different set of questions. This distinction, to besure, is made with practical unanimity by the adherents of thewages-fund doctrine in any of its forms: it may almost be con-sidered the ir shibboleth. T h e au th or accepts it w ithout ques tion.May we ve ntu re to suggest that it is the fu ndam ental source ofwh at seems to be the e rror in the view he presents? "T otal wages"

Reprinted from Political Science Quarterly 12 (March 1897). The bookunder review is Frank W. Taussig's restatement of the classical theoryof the wage fund, Wages and Capital: An Examination of the Wages FundDoctrine (New York: D. Appleton, 1896).

26



Review of F. W. Taussig 27

is an abstraction—and, moreover, a useless and misleadingabstraction. To suppose that one set of forces determines the

total going to laborers and that another set of forces then dis-tributes this among the different classes and individuals, is toreverse the true order of fact and of thought. Total wages aremerely the arithmetical sum of individual wages. The latter arein a sense the dynam ic elem ent; the total is a passive result. T oview the m atter o therwise is to go astray at the earliest stage , andto set one's self seeking for a shadowy a nd unc ertain explanationof a vague and shadowy thing.

Professor Taussig's first chapter, entitled "Present Work andPresent Wages," is devoted to a very lucid description of theleading features of the m od ern industrial process. In the case ofthe g reat m ultitud e of p rod uc ts, as he shows, a long series of actsextending over a considerable period is necessary before thefinishing touches are put upon them. The conclusion is clearlydrawn that "present labor produces chiefly unfinished things,but the reward of present labor is finished things." In the sense

that "the cu rre nt yield of industry " (p. 22) is always hav ing put toit the finishing touches, wages may, indeed, be said to be paidfrom current product; but in a truer sense "real wages arevirtually to their full extent the product of past labor" (p. 17).

The main conclusion of chapter two, entitled "Capital andWages," is as follows: Tak ing wages to "mean all the incom e of alllaborers" (p. 43), and capital to mean "that supply of inchoategoods, in all stages toward completion, from which the steady

flow of real income is derived" (p. 44), "we may lay it downbroadly," says Professor Taussig, "that wages are derived fromcapital" (p. 43). Th is prop osition "has noth ing to do with m oneyor money wages" (p. 45). "T he relation of wages to capital," he reexpressed, "would be the same under any social organization"(p. 45). Real capital, under any rational conception, consists of"things tangible and usable"; real wages, of "the enjoyablecommodities which the laborer gets" (p. 46).

The author perceives, however, that this proposition is en-tirely too general to be used to support a doctrine of a wagesfund. He admits that



28 Capital, Interest, and Rent

this reasoning, while directed to wages, applies equally to every otherform of income [What] is true of wages is true of interest and rentand business profits. All are derived from capital in the same senseIf any law of wages has been reached . . . it is but a statement of the factthat all the enjoyment of to-day comes from commodities which are theproduct of past labor [p. 48].

The result thus reached would appear very neatly and con-clusively to dispose of the concept and phrase "wages fund,"except as a literary curio. In the same sense and with equalscientific significance can it be said tha t ther e is a pro fit fund, aninterest fund, a re n t fund—a possibility which earlier in the book(p. 16) does no t escape the au tho r's notice. Yet he would no t havethe reader draw a conclusion which his own conservatismhesitates to accept. The reader's judgment is therefore sus-pended by various expressions: "if any law of wages has beenreach ed" (p. 48); "and yet ther e is som ething m ore to be said ofwages and capital than this general proposition;" "the unmis-takable differences in the m ode in which the various m em bers ofthe social body get their share of the general income brin g som eim po rtant consequences, both as to distribution at large an d as towages and the wages fund." These expressions indicate that theauthor intends to retain the expression "wages fund," and toshow that ther e are good reasons for looking up on such a fund asdiffering in some points worth the noting from the part of thesocial income going for rent, for profits and for interest.

In carrying ou t this pu rpo se the au tho r may fairly be expec tedto conform to certain minimum requirements. First, we arejustified in expecting that real wages, and not mere moneywages, shall be the subject of his discussion. Professor Taussigkeenly appreciates the proneness of other writers to err at thispoint. "The obvious distinction between real wages and moneywages," says he, "makes its appearance in every book on theelements of economics, but it is too often forgotten when the

causes determining wages come to be examined" (p. 15). As heelsewhere expresses it (p. 231), this is a convenient short cutwhich bre eds confusion in the m ind of the rea de r while veiling



Review of F. W . Taussig 29

the real question. (See also pp . 17, 19, 45 , 4 6 ,4 7 , 231, 245, 247,297 et passim.)

Secondly, we may expec t tha t h e will avoid the er ro r, to w hichhe so frequently refers, of considering that the "capital"—the"fund," whatever it be called, that constitutes real wages—is"necessarily owned by the individual who pays wages." "Suchreason ing," as he says, "does not touch real capital or real wages"(P· 46).

The capitalists who directly employ laborers have usually no

ownership of the commodities which make real wages. If these realwages come from capital, the capital is certainly not in the hands of theemployers [p. 20. See also p. 258 am ong others].

Th irdly, we may justly req uire of the au tho r a comprehensibleexplanation of the way in which the "wages fund " is m arke d offfrom, or carved out of, the total income of the community; andwe may expect that in some important respects this shall beshown to differ from the process which ap portio ns th e shares ofthe othe r factors in distribution . This "total incom e," elucidatedby the author in the first two chapters, is essentially the "sub-sistence fund" of Böhm-Bawerk. Yet the author says: "There isan obvious difficulty in the fact that the general subsistencecontains the income not only of laborers, but of the wholecom m unity" (p. 316). Ind ee d, he thinks the Austrian w riter hasgone "but a very little way toward explaining ju st how the totalsubsistence fund and its ripening installments are diverted toone and another class in the community" (p. 317). When Pro-fessor Taussig fur ther adds that u an investigation of themachinery of distribution ... is the essential part of the wages-fund prob lem " (p. 317), he seems to imply a prom ise to make anexamination of these "essential" questions before quitting thesubject. M oreover, th e p rom ise is m ade distinctly (p . 16) wherethe author says that the question "whether there can be anypossibility of sepa ration of this ne t incom e into pa rts destine d forany one set of persons , or ap pro pri ate d to them ," will eng age hisattention "at a later stage."

Every one of these m inimum requirem ents th e au tho r fails to




m eet. First, instead of striking straight at the fundam entals an drefusing to consider the m ere "m achinery by which laborers ar e

enab led to get their real wages" (p. 15), he makes this m achinery,that is, money wages, a central object of his attention. Havingdevoted some discussion to "real income and real wages," hebegins a fresh chapter with the announcement: "In the presentcha pter mo ney an d mo ney income play a vital pa rt" (p. 51). T h esuddenness of this change of face comes as a surprise and adisappointm ent to the reader. M oreover, throu gh ou t the chap-ter the discussion blooms with that p eren nial er ro r, emp hasis of

the superficial m one tary aspects of the p roblem . M oney incom eand money payments, flowing first into the hands of the im-mediate employers, absorb all the author's attention. Further,repeated use is made of "funds" in íhe sense of money funds inthe h ands of the employers. A mo ng nu m erou s instances one ofthe most noteworthy is the following:

The hired laborer gets his wages from capital in a sense in which the

independent workman does not. His money income . . . is turned overto him by capitalists. It comes fromfunds in the possession of a body ofwhich his immediate employer is a member. . . . In this sense hisearnings depend on a wages fund—on the sums which the employersjudge it expedient to turn to the hire of labor [p. 75] [With the sameconnotation he says:] In an important sense hired laborers are primar-ily dependent for their wages on the funds which the whole body ofactive capitalists can and will turn over to them [p. 78].

It is unnec essary an d, inde ed , impossible he re to follow o ut allthe details of the reasoning on these points. T h e a uth or himselfin his criticism of o the rs has most satisfactorily shown th at such atreatment but skims over the surface of the question. It ends inwhat seems little more than a mere verbal quibble.

The second requirement is met no more satisfactorily. Thecapital or funds that are discussed are throughout looked uponas in the hands of the employing class, except where the con-

ception is widened to include the great body of m oney-lenders"whose business it is to make advances to the more immediatedirectors of business affairs" (p. 63). Throughout the chapter



Review of F. W. Taussig 31

th e concept of capital, or fund s, fails to include all the sources ofthe real income that the laborers enjoy—for example, stores of

goods in the hand s of indepe nde nt produ cers, and even a por-tion of labor itself, so far as personal services make up that realincome. T he re is no h int that such elements m ay play a part indetermining the remuneration of labor.

Nor is the third requirement fulfilled in the author's dis-cussion. He practically brushes aside, when he reaches it, theproblem of the fixing of the shares in distribution. Nowheredoes he show that th ere is anythin g peculiar about the part going

to labor tha t can entitle it, in distinction from the o th er pa rts, tobe called a fund. He sum marizes his own results in these wo rds:

In fact the wages-fund doctrine, or what there is of truth in i t , . . . cantell us little . . . as to the fundamental causes which . . . determine theshare of that real income which in the long run shall go to wages orinterest or rent (p. 322).

Moreover, Professor Taussig does not show what the funda-

m ental causes are which determ ine the different shares at anygiven time. Once he confesses that his examination of "theimm ediate source of the m oney wages of hired laborers is at bestincomplete; the inquiry as to the source of real wages remainsthe important one in the background" (p. 64). But with theremark that "the questions as to the machinery of immediatemoney wages are im portant eno ugh " (p. 65), he retu rns to theirconsideration. The reader looks in vain for any further light

upon this question in the remaining chapters.The "main conclusions" reached by the author appear to be

that th ere is m ore th an o ne tenable sense in which a wages fundmay be spoken of—that, indeed, there are tw o wages-funddoctrines. Neither is quite like the doctrine as held by the oldereconomists. The one is broader than theirs—so broad, in fact,that it seems to the reviewer n othin g m ore tha n a statement thatwhat th e laborers enjoy is a pa rt of the total incom e of society. Inthis it is hard to recognize more than a bald truism. The seconddoctrine which the author presents is the one wherein thesuperficial monetary aspects alone are kept in view. This is




impressed upon the reader with much emphasis; yet, as myitalics show, the a utho r's faith fails him w hen he com es to state it

for the last time:Hired laborers are dependent on a wages fund (if one chooses so to call it),which is in the hands of the capitalist class. Their money income isderived from what the capitalists find it profitable to turn over to them[p. 321].

No further citation is needed to indicate that the author has,without inte nd ing it, given the coup de grace to what was left of the

old wages-fund doctrine. He intends to be conservative, and heshrinks from the logical conclusions of his own re aso ning; yet noone, so effectively as he , has shown tha t the wages-fund do ctrin e,in any tenable form, is nominis magni umbra.



Recent Discussion of theCapital Concept

To most readers the reopening of the question as to theconcept of capital will seem to call for an apology. If after somuch discussion the fundamental definitions have not been

generally agreed upon, some will say that further argument onterms and concepts is a waste of time. While practical questionsof great importance await profounder study, impatience ofmetaphysical quibbling is pardona ble; bu t in recent years m anystudents have felt that the re was need of earnest effort to makeclearer and more consistent the fundamental concepts. Theseare th e tools which aid m en to think on econom ic subjects. A flawin these concep ts, an un suspected ambiguity in a word or phrase,

not only mars the conclusions of the student, but affects thepopular judgment on the most practical questions. The cir-cumstances and special problems of former generations havecaused the grouping of unharmonized ideas under one term;and it is the business of the economist to measure, mark, andcorrect the concepts, to m ake the parts consistent with each o the ran d th e whole fitted to the need s of social discussion. T he writerbelieves that the re is no econom ic term to which this s tatemen t

applies more fully than to capital, and this belief is the apologyfor the present paper. The concept of capital holds a centralplace in every economic system, and on its treatm en t have alwaysde pe nd ed the leading categories in the theory of economics. Allag ree , whatever definition may be held, tha t this is increasingly"a capitalistic age." The place, therefore, of the concept in allpractical problems is growing mo re and m ore dom inant; a nd abetter definition of it is the most urgent need of the abstracter

branch of economic science.

Reprinted from Quarterly Journal of Economics 15 (November 1900).33




L BÖHM-BAWERK

A point of departure admirably fitted for our purpose isfound in the Positive Theory of Capital of Böhm-Bawerk, whichwas given to the English reading public in 1891, and at oncegained a large following. There are several advantages in be-ginning h ere. As the a utho r's pu rpo se was to present n ot only atheo ry of inte rest, bu t, as the title indicates, a Positive T heo ry "ofCapital," we get the most typical cross-section of the study. Westart with the known; and we direct our criticisms not against

abandoned errors, but against views widely accepted.Böhm-Bawerk undertook in his two large volumes to dealthoro ughly w ith the theories of interest, an d, to do so , was led todea l with the concep ts of capital; for, tho ugh t h e, it is capital forwhich interest is paid. However mu ch he disputed the relation ofproduction and interest, he had no doubt, in undertaking hisstudy,1 as to the relation of capital and interest. Interest is theyield of capital in the broader sense, and capital the source of

interest. They are correlative terms. To clear the field for hisown concept of capital, Böhm-Bawerk, therefore, passes in re-view the various concep tions of capital that have been em ployed.He begins by following th e historical o rd er ,2 and later grou ps theconcepts in logical order.3 In the chapter on historical de-velopment he begins with a mention of the mediaeval view ofcapital as "an interest-be aring sum of m oney," gives a few wordsto Turgot's "saved goods" (a very inadequate, not to say mista-

ken, interpretation of Turgot's view), and passes on to AdamSm ith's division of these into cons um ption goods and capital thatbrings an income. In Smith's treatment the author thinks hefinds the germ of the productivity theory of interest, which heconsiders false. Smith, in giving two varieties of the concept,—capital as a me ans of acquisition to the individu al, an d cap ital as ameans of social production,—has in reality given, says Böhm-Bawerk, "two entirely independent conceptions, resting sub-

stantially on quite different foundations, and only connectedexterna lly by a very loose bond."4 After devoting several pages todiscussing this difficulty, the author abandons the historical



Recent Discussion of the Capital Concept 35

order, and enumerates eight other variations of the concept:Hermann's "every durable foundation of a utility which has

exchan ge value"; M enger's "grou ps of economic goods of h igherran k [productive goods] now available to us for future perio ds,"Kleinwächter's "tools of production"; Jevons's "sustenance ofthe laborer"; Marx's "instruments for the exploitation of thelaborer"; Knies's goods available to satisfy wants in the future;Walras's goods which can be used more than once; MacLeod's"value of the productive power contained in material goods." 5

These are discussed more at length in Chapter V., the most

important content ions being that the dist inct ion betweenconsumption goods and what he calls "the true instrument ofproduction" is essential; that labor must not be confused withcapital; that land must for many important reasons also be keptdistinct; and tha t capital shou ld be looked u po n not as a "sum ofvalue" hovering over goods, but as the "complex of goods"itself.

6

A m ong these many variations the au tho r gives his approval to

that of Adam Smith, giving it "a more distinct formulation," 7

however, and distinguishing between the wider and narrowercon cep tions , acquisitive (private) and productive (social) capital.



3 6 Capital, Interest, and Rent

Of the form er he says: "Capital in general we shall call a g ro up ofProducts which serve as means to the Acquisition of Goods.

U nd er this genera l conception we shall put that of Social Capitalas narro w er con ception."8 T h e problem of interest, he thinks, iscon nected with private or acquisitive capital, no t necessarily w ithsocial or productive capital.

We may represent in the above diagram the results of theauthor's long inquiry. The large circle represents the entirem aterial wealth of society. T h e oute r ba nd m arke d L is land, o rall na tur al ag ents. T h e en tire circle P contained w ithin that ba nd

consists of "products." The next band, C G, is consumptiongood s. T h e concentric circle S C, within, is social capital, an d theoval C is "capital in general," or private capital, embracing allsocial capital and , in addition, such consum ption goods as are letfor hire. Repre sen ting this in ano the r way, we have the followingclassification:—

Î Land

í In hands of owner[ Consumption goods <

Products (L etf or hi re ,I Social capital ( ( « ca pi ta l»

J general)

What judgment now is to be passed on this reading of thecapital concept? We must be struck by the fact tha t in the m atterof simplicity the results of the a uth or's study a re not ideal. Bu t h easserts with a tone of triu m ph that the "conception m eets all ou r

logical and terminological requirements. Logically, it is unas-sailable."9 He concludes with this hopeful prophecy: "If, then,unbiased people are ever to agree on the conception of capital,we may expect that this will be the on e chose n."10 His strongestground for such a hope was the fact that he had made a placeunder the name "capital" for the two most generally employedcon cep ts, an d tha t the conc ept of social capital is the o ne w idelyheld,—"products used for further production." He did not

claim much originality for this part of his work. He says: "Theheavy part of the Positive Theory of Capital lies in the theory ofinterest. In th e oth er portion s of the subject [he seems to me an




the co ncept of capital] I was able, at least on the whole, to followin the footsteps of previous theorists."11

T h e imm ediate reception of this portion of the autho r's worklargely justified his hopes. His careful resta tem ent of the conceptand the authority of his nam e undo ubtedly add ed to the prestigeit already enjoyed. Th e m ore usual point of attack on the au th orhas been his interest theory, not his capital concept, which hasbeen far less questioned,12—in fact, has usually been accepted asflawless. Some protests, however, have already been raisedagainst it; and, although it is still the dominant concept, dis-

content with this and other features of the older economicthought has been spreading. The earnest teacher, using theavailable text-books, an d a ttem ptin g to correct their treatm ent inaccord with recent criticisms, is in despair. To one who haswatched the course of the discussion it might seem that theservice of Böhm-Bawerk's work, so far as it touches the capitalconcept, lay not in settling, bu t in reop en ing th e whole question .Remembering, however, that most students still accept Böhm-

Bawerk's statement of the concept, we turn to a group of think-ers who would give other readings to it; and we shall confineou r study to the leading represen tatives of two differing views onthe question.

2. J. B. CLARK

This part of the Austrian writer's work, especially, was at-tacked by Professor John B. Clark ,13 who defends the produc-tivity theory of interest, though that point we need not raise inthis pape r. His own views had been published 14 at the same timeas the G erm an edition of the Positive Theory of Capital; but moreattentio n was attracted to them , it is probable, as a result of thiscontroversy than at their first publication. I shall not enter intothe merits of the discussion as a whole. It was carried on withgrea t skill, with some later confessed m isun de rstan din gs, an d a ttimes, perh ap s, with an over-subtlety which mak es it exceedinglydifficult to follow. I shall simply try to state the issue involved asto the capital concept.




In every-day speech and in the writings of economists therehave been, since before the time of Adam Smith, two broadly

marked ways of thinking of capital: one views it as concretegoods, such as tools and machines; the other, as the moneyexpress ion, or m arke t value, of the goo ds. It is probab le that nowriter has long kept from the use of the term in both these ways,no matter what his formal definition. Frequently both uses willbe found on the same page. A few writers only have chosen toframe their capital concept in accord with the second of theseways of thinking.15 Böhm-Bawerk has taken the former way,

defining capital as the concrete goods; and in the interest pro b-lem he insists on the need of comparing goods of like kind andquan tity. Clark declares this to be an er ro r, an d defines capital inharm ony with the second way of think ing of it. He says, "T her e isin existence a pe rm an en t fund of productive wealth, expressiblein mo ney, but not em bodied in money; an d it is this tha t businessm en design ate by the term capital."16 T h e concrete things whichmake u p this fund he calls "capital goods." In con trast with this

list of goods he often speaks of his kind of capital as "truecapital," or "pure capital," which, as he says elsewhere, "residesin many unlike things, but consists of a single entity that iscommon to them all. That entity is 'effective social utility.' " 17

Again, he says: "Capital goods are . . . vanishing elements. Truecapital . . . is abiding."18 Elsewhere he clothes his definition,which he calls "the com m on and practical sense of the te rm ," inthese wo rds: "Capital is an ab iding fund of wealth emp loyed in

production."19

Needless to say, Böhm-Bawerk defends himself vigorouslyagainst the charge of "side-tracking" the theory of capital indefining the concept as he had done. The controversy turnedabout the phrase "goods of like kind and quantity," and thequestion as to the real natu re of the comparison of presen t a ndfuture good s. Clark holds that it is two sums of "quite differentgoods" that are com pare d. B öhm-Baw erk saves his phrase by the

exp edie nt of making the "goods of like kind and quantity" m ean"dollars," "exactly as does Professor Clark." 20 This is not anovelty with h im; for, as he points ou t,21 he had "in many , an d in




some of the most important, passages of the Positive Theory ofCapital . . . used money as an illustration of the p ropo sition tha t

present are worth more than future goods." Without quiteindorsin g C lark's com m ent o n this point, we may agree w ith himthat this app ears to su rre nd er the entire question conc erning th eformula "of like kind and quantity." 22 What meaning is in thephrase "the technical superiority of present goods over futuregoods," when those goods are made to mean dollars? Whatbecomes of the elaborate analysis of the rou nd ab ou t m etho d ofproduction?23 Certainly, it means something very different,

when the present goods employed are taken merely as circulat-ing medium which is not in the normal case retained by theindividual producers nor used up by society. The truth is,Böhm-Bawerk had fallen into the common error of using twodifferent concep tions of capital, and at the first attack was foundin an unten able position. This ph ase of the controversy seems toend by showing that the conception of capital made use of byBöhm-Bawerk himself, when he discusses business problems,

takes the money exp ression, and differs in impo rtan t ways fromthat of concrete goods expressed in his elaborately framed def-inition. A word as to the relation of these two views. It is to benoted that both parties agree that economists must study wealthun de r both these aspects. Böhm -Bawerk adm its that he does so.The point against him is that, while framing his concept andbasing his argu m en t as to interest on the first, he introdu ces thesecond view, in som e ways inconsistent, without recogn izing the

shift of concept. And Clark says that "the issue is not whetherconcrete capital goods are or are not to be studied at all. Forcertain p urpo ses they have to be studied."24 But he would con-fine the term "capital" to the sum of wealth or "per m an en t fund"constituted of the perishable goods.

T he concep tion cham pion ed by Clark is of grea t significance;and, before going further, it is important to consider somepeculiarities and difficulties in Clark's way of setting it forth.

(1) The discussion is confined by Clark at the outset to socialcapital.25 He uses this term in a wider sense tha n Böhm-Baw erkdoe s (as is exp lained in the ne xt p ara gr ap h) , but no t differently




as to the exclusion of consumption goods. Social capital is thatkind which Böhm-Bawerk himself considers to be productive.

Clark gains thus a distinct tactical adva ntage over his op po ne ntin upholding the productivity theory of interest, though that isnot of imm ediate im porta nce to us he re. T he fact, how ever, thatBöhm-Bawerk does not note this limitation, but fights the issueon th e g roun d chosen by his adversary, shows that he himself iscaugh t in the confusion of the two concepts, an d is the strongestevidence of the inexpediency of the division of capital into socialand private.26 On the other hand, the fact is of immediate in-

terest to us that Clark gives this narrower content to the term"capital," confining capital to "material forms of wealth that donot directly minister to con sum ers' wants,"27 and does not makea place for acquisitive consumption goods, nor explain the in-terest from them , as is do ne by Böhm-Bawerk in his concept ofprivate capital. In this respect the concept evidently needs ad-dition or correction.

(2) In the second place, Clark's explanation of the genesis of

capi ta l is inconsistent with his own concept . Land usedproductively— for exam ple, a farm, a waterfall, a mine , any rar eand useful natural agent—is capital according to his definition.In his earlier utterances, such things are in plain words, in-cluded.28 In the late r articles this is still the inevitable implicationof the definition,—"a fund of productive wealth expressible inmo ney"; but a rea de r new to the autho r's doctrine would find n ospecific statem ent to this effect, and there would be small chance

that the m ean ing in question would be ga the red . T h e whole logicof the argument is against it. "The genesis of capital," we aretold, "takes place by a process for which the good old term'abstinence' is, as I ve ntu re to m aintain, the best designation."29

This does not seem to give a place in capital to natural agents.T h er e are , we are told, two classes of accum ulators: th e typicalcapitalists, who save to make pe rm an en t a dditions to their capi-tal; and the quasi-capitalists, who "save sums now, inten din g tospend them later."30 There is no place here for the unearnedincrement of a newly discovered mine, which to-day forms formany men the chief productive wealth expressible in money. If




this is saving, it is a sense so unusual as to require a specialexplanation by the author; and it is difficult to see how it can

consistently be given. There certainly would be no attempt toevade the real question by assuming tha t the dollars that boug htthe mine had been saved; for the mine may not have been sold,an d, if so, it is irrelevant to the issue. If the definition a do pte d byClark is consistently applied, there are necessarily many thingsforming a part of capital which never have been saved, andwhich never have called for abstinence, as Clark employs thatterm.31 In fact, Clark seems to show he re , as did Böh m-Baw erk,

some traces of the e rr o r of the labor theory of value, so difficultto throw off.

32

(3) Again, Clark would seem to err by extreme statement inm aking it in the n atu re of capital to be a "pe rm an ent fund." "Increatin g capital, we put the p ersona l good away from us forever.. . . A n addition to the social fund of perpe tual capital is broughtinto existence." "Nothing generates capital that does not add tothe pe rm an ent fund of invested wealth."33 "True cap i ta l . . . is , in

the absence of untoward accidents, perpetual, and yieldsperpetual fruits."34 Many oth er expressions emphasize th e sametho ug ht. Now this evidently does not apply at all to the au tho r'squasi-capitalist, who saves to spend late r. T h a t, of course, is whyhe uses the term "quasi," which evades the issue. Either suchsavings are capital (in which case why quasi?) or they are notcapital, and may be om itted from the concept. T he au tho r, afterstating that a pa rt of the accu mulation of capital is du e to thesequasi-capitalists, proceed s as if there were n on e such . If be tter orm ore tools and larger stocks were accumulated, an d w ere the nallowed to deteriorate while in use without being replaced, ourau th or must certainly call them capital while they lasted; an d, ifso , the elem ent of perm anency is no essential part of the capitalconcept. Indeed, if a fund of productive wealth must beperm ane nt to be capital, we cannot be sure that th ere is any sucha thing; for we have not the gift of prophecy, and all humaninterests are fleeting.35 Clark himself says, "C ap i ta l . . . normallywill never perish"; but "this is not saying that no capital everperishes in fact."36 This says clearly enough that permanency is




not an essential mark of the concept, and makes meaninglessboth the word itself in that connection and a number of sen-

tences, besides those quote d, in which this feature is emphasizedas a vital mark of the concept. There is a valid thought in hiscontention, but it is not that capital is in its nature perpetual.There is ambiguity in the phrases "increase of capital" and"decrease of capital," because they may m ean e ither some of theparts or the whole. A part of capital may perish while the totalamount of capital is preserved or even increased. Clark wouldconfine the exp ression to the whole of capital, and objects to the

form of statement "capital is destroyed" when the value of theconcrete goods is passed on to oth er goods. Bu t what of the caseswhere the total value is not preserved? The zeal of his attackcarries him to an extrem e and u ntena ble expression, and makeshim insist upon an unessential.37

(4) Less successful than his contention against Böhm-Bawerkabout "goods of like kind and quantity" is Clark's claim thatcapital "synchronizes all industry and its fruition," tha t becauseof capital "indu stry and its fruition are sim ultaneou s." T h e re areseveral objections to such an expression.

(a)l am not quite in sympathy with the point of view of eitherof the parties to the discussion, bu t between them it is a que stionnot as to what happens,—not of fact,—but of expression; andBöhm-Bawerk's opinion commends itself when he says 38 it is a"figure of speec h" tha t is "misleading" to say that the real wages,consisting of "consumption goods" received to-day for workdone on goods not be completed for years, are the "true andimmediate fruit" of, e.g., the tann er 's labor.39 T o the tann er , ofcourse, they are the "immediate" and only fruits, since they areall he gets for his labor. T h e qu estion is, doe s it seem logical an dexpe dien t from the genera l standpoin t in econom ic discussion toconsider and speak of them as the "true fruits" of that day'slabor? The expression chosen appears to say merely that thesethings express th e pre sen t m ark et value of the laborer's services;that is, it is a ro un da bo ut a nd somewhat whimisical way of statingthe truism that they are the man's wages.

(b ) Fu rthe r, it may be urg ed that the inaptness of this exp res-




sion is more apparent when something other than subsistencegoods is considered. In the example chosen of the tanner, it is

at least debatable wh ethe r it is best to call the shoes h e gets to-daythe "true fruit" of his labor. But in the case of the laborerreceiving food and clothing for digg ing a canal or w orking on amarble palace, it is straining the point further to use the ex-pression . If he re , too , his wages are called the "true fruit" of hislabor, it still ap pe ars tha t the pecu liar power ascribed to capital isdu e only to one pa rt of capital, the finished co nsum ption goods.No m atter how large a stock of capital in the form of m achines,buildings, and raw m aterials may be on ha nd , if there be no stockof finished goods, labor and its results are not sync hronized .40

(c) A fu rthe r objection to this way of conceiving of the na tu reof capital's work is that it would, if true, be applicable only to"produced" forms of capital. As indicated by the phrases "in-dustry and its fruition," "labor and its fruits," it implies vaguelythe labor the ory of value as to the origin of capital. T h e picture oflabor continuously flowing into the reservoir of capital andconsumption goods at the same time flowing out4 1 is not satis-factory as app lied to prod uc ts; for it implies tha t the inflow of aquantity of labor forces out consumption goods whose quantityis determined or measured by the quantity of inflowing labor.T h e value of consumption goods flowing out, how ever, is great-er in varying deg rees than the value of labor flowing in; and it isonly through their values that we can compare at all the quan-tities of the two streams. Further, it is not a happy figure; for itsuggests that all the goods tha t are a pa rt of capital will eventuallybecome consumption goods, whereas in many cases this is notexpected no r desired. It is significant that Clark in desc ribing th eprocess speaks only of "the m aterials, raw an d partly w rought,"of which an art icle for consumption is made. He ignoresmachines and durab le goods. It is only in the gra du al passing onof their value, as they are used up , to the things that are m ade by

them, that machines and more durable agents can be said toripe n at all.42 Even Clark's value conception of capital, however,though it explains this point better than does the concreteconcept of capital, does not avoid the difficulty. The point may




be most clearly seen in the case of natural agents, which, as wehave noted, are in Clark's treatment included in the "fund" of

capital. If we consider not m erely capital in the form of p rod uctsm ore o r less fitted for consu m ption, bu t, as his concept requires ,durab le natural agents also, the phrases we are criticizing a pp ea rhardly short of absurd. Clark forgets this kind when he says:"T he capital goods that are set working are not perm ane nt. T heypass away, and are replaced."43 Natural agents, the field, thewaterfall, insofar as they are thoug ht of ap art from be tterm entsup on them , have not been originated by labor; and they are no t

in a state of transformation that will eventually ripen them intoconsum ption goods. Th ey stand there to be used by man, if hewishes, as an aid in securing future harvests or products; butneither the things themselves nor their value or money expres-sion is "synchronizing" labor and its fruits. If there is anysynchronizing, it is do ne not by this, bu t by some oth er pa rt ofcapital, and is, therefore, not an essential mark of the capitalconcept.

(5) It is likely that to som e po ints in what has been thu s far saidthe answer will be made that they are du e to m isund erstand ingof the author's meaning. No doubt the author attaches greatweight to the constrast he draws between true capital and capitalgoods, which it might seem I had neglected. The reply is acriticism stronger, perhaps, than any of the foregoing againstClark's capital concept. T h er e is in his mode of think ing of thiscon trast an over-abstraction th at is neith er expedie nt no r logical;

and there results in his presentation some inconsistency ofthou gh t an d s tatem ent. In som e passages, capital is said to be asconcrete a thing as can be. It "consists in goods. It is not anabstraction, and it is not a force ind epe ndently of m atter. It hassubstance. If at any instant we could collect in one place all thematerial forms of wealth that do not directly minister to con-sumers' wants, we should have the fund for the moment beforeour eyes in substantial embodiment." 44 Capital is thus "produc-t ive weal th, expressible in money, but not embodied inmoney."45 T ha t is plain enou gh , and we are still on solid g ro und:we are not puzzled here by the "entity, effective social utility," of




the earlier statement,46 where capital does not consist of theconcrete things, but is the "fund that resides in many unlike

things," and is "embodied in instruments of production." Thishas the unpleasant flavor of Marx's labor jelly, though it neednot be taken as m ore than a loose, conven ient way of ex pressingthe market value of the concrete things. But the developmentthat follows of the paradoxical contrasts between capital goodsand true capital appears to be mischievous subtlety. The veryadjectives "true" and "pure" applied to capital are suspicious.Why not plain "capital"? We are told that "the genesis of capital

goods is unlike that of capital."47 It would seem that, if capitalconsists of concrete go ods, the n m aking concrete goods is mak-ing capital. But the author says not, unless those goods are netadditions to the stock; that is, more than replace the capitaldestroyed in the same time. "Build an altogether new engine.T hat is creating capital. Renew ing an old on e is only preserv ingcapital."48 The simple mode of expression that some capital hasbeen created, while an equal am ou nt has been d estroyed, is thus

not to be permitted. Surely, since capital has substance andconsists in good s, ther e is only one way in which its am ou nt canbe pre serve d while some of it is being destroye d; and that is, by"creating" more capital to replace that destroyed. And whatwould be the circle within which the balance must be struck?W ould it be the individual, the national, or th e world economy?If Jo h n builds a machine w hile his neigh bor lets one decay, the nhas Jo h n created no capital? It is true that care is often nee de d, in

speaking of any increase, to indicate whether it is a net increaseor n ot, bu t no m ore n eed ed in the case of a "fund of capital" thanin that of a herd of cattle. The striking antithesis of the goodsthat make up capital with the capital itself appears thus to beover-abstraction and unreality.

To sum up the objections to Clark's conception of capital: 49

(1) It includes only goods used in "pro duction ," and does n otrecognize no r p rep are to explain the interest-bearing qualities ofconsumption goods.

(2) It is confused in attributing the genesis of capital to ab-stinence (as he uses that w ord) while includ ing in capital na tura l




agents for whose origin no abstinence was required.(3) It errs in m aking permanency, or perpetuity, an essential

mark of capital.(4) Th e statement that an important, if not the chief, function

of capital is to "synchronize industry and its fruition" is a mis-leading figure of speech. It can be affirmed, even figuratively,only of the part of produced goods that is to be at once con-sumed, and is quite meaningless as applied to the durablenatural agents which are a part of his capital concept.

(5) The conception, starting from concrete goods, is de-

veloped away from them into a more abstract, dematerialized"pure" or "true" capital, which is put into contrast with realthings.

3. Irving Fisher.

We now turn to the notable contribution of Professor Irving

Fisher.50 He lays a basis for his own treatment with soundstatements as to the requisites of a good definition, and carefulstudies of the definitions and usage of the leading authorities.He believes that a mistake has been m ade as to the real characterof the problem, that it is not one of the classification of wealth,and that unavoidable difficulties "attend every effort to delimitcapital from 'other wealth.' "51 His own conclusion, then, is thatcapital should be taken to mean simply all wealth at a point of

time.52 It is contrasted not with other wealth,—for that categoryis exhausted,— but with the same wealth as a flow during a givenperiod, and at a rate. The contrast, then , is between a stock and aflow , and still more important "between stock and rate of flow ."53

This conception is ingeniously developed, use being made ofmathematical terminology, and is applied in criticism of rivaldefinitions. Finally, the attempt is made to show how it could beemployed in the discussion of various economic questions.

To grasp more fully the import of this radical proposal ineconomic terminology, let us note in what regards it differs fromthe conceptions we have been considering.




single sum excepting in terms of value. A capital account inwhich five pou nds of feathers were add ed to a bushel of wheat

and a yard of cloth would give a curious total, (c) Fisher isinevitably betrayed into inconsistency when he comes to estimatethe quantities of wealth, and express in percentages the relationbetween th e stock and rate of flow; for this can be do ne only bycomparison of values.55

(3) This conception shares what I believe to be an error,common with it to both of the others,5 6 in that it makes theincome of a com mu nity consist of "streams . . . of the very same

commodities"57

that compose the total capital. This, again,implies that all things of value originate in labor, an d a re on the irway towards the goal of consumption goods: whereas manythings, standing where they are, may be made to push otherthings towards that goal, though never getting nearer to itthemselves; e.g., machines and natural agents. Fisher means byincome a "flow of things" (material things), and rejects Mr.Edwin C ann an 's conception "of income as a flow of p leasu re," or

satisfactions.58

T h e book -keeping of society will be throw n badlyou t of balance if services be no t cou nted as a pa rt of incom e; bu t,even if services be included as a part both of income and ofcapital at a point of time, there are still many things, as aboveindicated, th at a re a pa rt of Fisher's capital only, an d neve r are apart of the flow of income. They never have been made forconsumption, and never will be fitted for consumption.

(4) A final objection is that the term "capital" is made

synonymous with wealth, and two good words are employed inthe same sense. Fisher anticipates this objection, and recognizingits validity, if the fact be true, defends by saying that wealthpresents the two aspects of income and stock (capital),—differences important enough to merit separate terms. Thisdefence fails, if the point made in the preceding paragraph issou nd . By wea lth, Fisher must m ean he re "all wealth." As I haveshown, all capital must be considered wealth, and all wealth

capital by Fisher's definition, tho ug h all wealth has not been no rwill all wealth become income. Wealth and capital thus aresynonymous, while income differs from them not merely as an




cism of Böhm-Bawerk's views which were the starting-point ofou r study, and , taking u p mo re thorough ly than before some of

the issues involved in his definition, to work towards a positiveconclusion.The distinction between private and social capital is consid-

ered by Böhm-Bawerk to be of the very greatest importance,and he deems his clear distinguishing of them to be one of hishighest services to economic theory. The failure to distinguishthem, he thinks, is the chief reason for the "false" productivitytheory of interest. If the difference is not seen between capital,

the source of interest, and capital, the tool in production, in-terest, he argu es, is naturally thou gh t to be due to productivity.But, if it is clearly seen that a pa rt of interest-be aring capital is nota tool in production, then productivity cannot be the one essen-tial exp lanation of interest. T his point was evaded by Clark, as Ihave shown;59 for he simply considers social or productivecapital, and om its men tion of acquisitive consum ption goods. Itwas not raised in his discussion with Clark by Böhm-Bawerk

himself, for his attention was fixed on other points; but in hisreply to W alker it is put very clearly. "T here is interest w ithoutany production w h at ev er . . . . I refer, for example, to interest onconsumption loans and to the return on durable consumptiongoods, such as rented houses, pianos, and the like."60 Privatecapital is, by his view, social or productive cap ital plus some ot he rthings, enjoyable and more or less durable products let for hireto the u ser. Of what im portance is this class of goods that makes

all the difference between the two concepts? He has herem ention ed ren ted houses and pianos: the stock illustration is themasquerade suit let by the costumer. A complete list of thesearticles would include a very small am ou nt of wealth com pa redwith that in social capital, and, doubtless, very much less thanthat in the rest of con sum ption goods. Yet it wou ld be w ron g toclaim on this account that it is not worth while to make a dif-ference in the concept. Logical differences of any importance

call for distinctions in concepts, no matter how slight be thequantitative differences. I pass, therefore, to a criticism of thelogical grounds for such a distinction.




(1) T he re is no need to make an ind epe nd en t conception onaccount of this group of income-bearing things, if an explana-

tion can be given that will dispose of them in a simpler way. He reare two houses lived in by the ow ners in two neig hborin g towns.Th ey are called consum ption g oods, bearing n o income. Ow nerA moves into another house, paying $300 rent, letting his ownfor an equal sum. His house then becomes acquisitive capital.O w ner B does the same, and his house becomes capital. Chan ceor choice leads each to occupy the othe r's hou se. Each, th ro ug h abroker and without knowing who his tenant is, pays the other

$300 yearly, and b oth houses are capital. Sho rtly, they m ove backinto the ir own h ouses, which at once cease to be capital; and the"income" of each man is reduced $300.

The puzzle is an old one. It compels us to say that a thingbecomes capital or ceases to be capital no t because of any cha ngein its physical or econom ic nature , not because it is m ore or lessserviceable to the community, not because the use to which it isput is altered, but simply because the man who owns it does ordoes not h ap pe n to be the on e who enjoys tha t use. Now Bö¯ hm-Bawerk himself, in his interest theory , has given us a hint of theway such an absurdity can be avoided without the use of aseparate concept,61 though he does not see the applicationpossible here. The person who rents a house buys the "materialservices" of the thing du rin g a definite period. T he whole valueof the house is simply the sum of a long series of uses. To thelogical eye, tho ug h no t to the technical eye of the law, the ten an tor user is the ow ner of the th ing dur ing the time, with only suchconditions as will insu re its safe keep ing and re tu rn at the close ofthe period . It may be looked u po n as a sale to the ten ant of a useor a group of uses defined by a period of time, and with theagreement to return the use-bearer when a group that has notbeen pu rchased begins to m atu re. T h e value of the unp urch aseduses does not app ear in the transaction, but they are bou nd u pwith the use-bearer that is given and returned. The dancer isoften compelled to deposit the price of the masquerade suitwhen he takes it ou t. After the ball is over, his subjective valua-tion having fallen, he is the gainer by returning it at an agreed




price which to the costum er re pre sen ts its worth as stock to him .The latter keeps such things in stock because there are, on an

average, enough such sales to pay his trouble, expenses, and areturn on that amount of stock. Such rented consumptiongoods, being owned for the time by the user, form, then, noexception to the general class of consum ption goods Th e incomeof the dealer or the house owner is explained as a profit g ained inexch ange, like that of any other retail me rchan t, an d includes apaym ent for services, risk, an d incom e from stock em ployed . T oexplain such transactions as the sale of a grou p of uses (which is

actually the temporary sale of the use-bearer) is entirely con-sistent with Böhm-Bawerk's treatment of interest, and makesneedless the elaborate distinction between private and socialcapital.

(2) T h e foregoing would seem to be a valid reply, at all eventsas an argumentum ad hominem, to Böhm-Bawerk; but it mayap pe ar to some to be too elabo rate and artificial. Th e distinctionin question may then be attacked on the still stronger groundthat it confuses things economic and legal. It is based on anunclear view of the relations of economic and contract interest.Let us look at this distinction. Contract interest is the interestactually paid by one person to another as the result of anagreement. Economic interest is the advantage attributable tothe possession and use of a thing dur in g a given period, rega rd-less of its own ership . Th e re is economic interest when a ma n uses

his own plou gh to raise a crop o r his own store room as a place ofbusiness.62 Now, in the case of all the things included undersocial (productive) capital, contract is based on and tends toconform to economic interest. In all such cases it is economicinterest that we seek to explain logically through the economicna tu re o f the goods . Con t rac t in te res t i s a secondaryproblem,—a business and legal problem,—as to who shall havethe benefit of the income arising with the possession of the

goods. It is closely connected with the question of ownership.Only by accident, mistaken judgment, or old agreements, canthe con tract interest co nnec ted with social capital con tinue when




economic interest does not. The two are related as cause andeffect. Yet in the case of the relatively small group of consump-

tion goods let for hire there is in the current view here rep-resented by Böhm-Bawerk only contract interest, there beingsupposed to be no economic interest on which it is based. Theeconom ist's p roblem in distribution is essentially an im person alone, to determine the economic contribution regardless of thequestion of legal ownership. Here, if it be held that there is noeconomic interest or contribution, we have an anomalous casewhere the final answer to the interest problem must contain a

mixture of economic and legal elements. No solution of thiscontradiction will, I believe, be found short of the view thatcontract and economic interest are normally inseparable. By"normally" I mean that no man contracts to pay interest, or,be ing free to choose, actually does pay it, unless he has reaso n tobelieve that he thereby will gain the benefit of what must becalled economic interest of a somewhat greater amount.

(3) This brings us to another objection to the distinctionbetween social and private capital; namely, that it involves awrong conception of the nature of income. I shall maintain thatincome must be looked up on as a series or g ro up of satisfactions,not as a series or group of material things. Though scatteredauthority may be found for this view, it is at variance with theviews alike of Böhm-Bawerk, of Clark, and of Fisher, as well asthose of the great majority of economists, and requires expla-

nation a nd defense . T h e thesis is that th e economic goods whichare "produced" either by human effort or by the material ser-vices of goods must, in their last analysis, be looked upon assatisfactions. Böhm-Bawerk notices this view as expressed byRoscher, and rejects it;63 yet the view is one peculiarly in har-mony with the psychological treatment of value which Böhm-Bawerk favors. Indeed, it seems to me the view to which thatvalue theory logically and inevitably leads. Rosch er fails to apply

this th ou gh t consistently, as Böh m-Baw erk rightly shows;64

andwith that we will not con cern ourselves. T h e view suggested looksupon all material goods as means of production or capital, their




value being derived from the states of satisfaction to which theyminister or which they enhance. Böhm-Bawerk's objection to

this lacks validity. He says: "Any unbiased person can see howunfortunate this is. Without due cause it obliterates the veryimportant distinction between the production of goods whichsatisfy want and their consumption. It christens, for example,the idler as a zealous producer, always thinking how he mayproduce the personal goods of satiety, of ease, of contentment,and so on ." It need s only to be replied to this that th e idler in suchcase would be wrongly christened. The term "means of pro-

duction" must be confined to objective means of producing asubjective state, not to subjective states, to Buddhistic dreamsthat un ite the dre am er w ith Nirvana. T h e p leasure of basking inthe sun is a fact of which economic theo rists mus t take no te; bu ttha t pleasu re can be secured usually by the use of free good s, andthus is not an economic satisfaction. It becomes an economicsatisfaction when it is conditioned on the control of some scarcem aterial agent or can be secured only by effort. T h e test, then , ofeconomic personal goods or satisfactions is dependence oneither objective things or persons, or on reaction against theou ter w orld by the m an seek ing the satisfaction. If the objectionof Böhm -Bawerk is urg ed beyo nd the extrem e and inapplicableexam ple he has given, an d is app lied to the perso nal services ofone m an for an oth er, it leads to the old and ab and on ed distinc-tion between productive and unproductive labor. We do chris-ten many m en "as zealous prod uce rs because they are pro du cingthe personal goods of satiety,"—in other men. Such servicesmust be counted as ephemeral forms of wealth, enjoyed orconsum ed at the mo men t of their production. This is no m oreobliterating the distinction between production and consump-tion tha n eating a ho t cake fresh from the gridd le obliterates thatdistinction. Th e two things are as logically sepa rable in tho ug htwhen they occur simultaneously as when a second or a decadeintervenes. We have ceased to consider it essential to "produc-tive" labor that it should be first embodied in material form,however fleeting. The same untenable distinction is adhered toalmost universally in the case of the services of material goods.




T he ir productive contributions m ust be pu t on the same basis asthose of labor, to be m eas ured by the intensity of the w ants they

aid in satisfying an d th e psychic states they help to pr od uc e. T h ehouse of the mill-owner is, logcially considered, producingdirectly, his mill is prod uc ing indirec tly; for only after a deviousjourney will the contribution of the mill reach its goal in thesatisfaction of wants. Our economic book-keeping can be madeto balance only when real income be looked upon as a flow ofpleasure in all cases, not as a flow of goods in some an d a flow ofpleasures in others, as is done generally now.

(4) Th is view makes possible the correction in the concepts ofprivate and social capital of another fault which calls for ourfourth and last objection to this part of the almost universallyaccepted trea tm ent. T h e fault is this. Interes t is looked up on asconn ected with a special class of go ods: it must be reco gnized tobe conn ected with eve rything of value.65 T h e value of anythin g isbuilt up on its uses or services to men. Wherever there is a

postpo ned use, that use is subject to a discou nt. Its pre sen t w orthis less than its worth will be at maturity. Consider the case ofconsumption goods. In the orthodox view a bushel of apples,kep t by the g rocer from fall till sprin g, is capital, an d norm allyshows economic interest in enhanced value. Bought in the falland stored in the cellar by the housewife, it is a consumptiongood; and economic interest is absent. But that early purchasecan only be rationally explained as we take account of the in-

crem ent of value on the app les thus stored, an d this is economicinterest. Larg er purch ases in advan ce effect, of course , econom yof labor, and brin g an additional motive to mak e them ; but this isnot saying that the whole saving is wages, an d tha t n o interest isgained.

T he radical consequences of this view are ev iden t. It erases alldistinction between the essential econom ic cha racte r of so-calledproductive and consumption goods. The term "consumptiongood s" may still be conveniently re tain ed to mean, as at pre sen t,the material good in its final form in the hands of the oneintending to use it; but it ceases to be an essential economic




category. Every material good and every human service hasvalue only as it is a condition to the satisfying of a present or

prospective want. The abiding value of the diamond is built onno more substantial foundation than its flash and sparkle. Mar-ket values are the capitalized economic contr ibu tion of objectiveagents to psychic states; and these states are the final, highest,only essential economic products.

T o sum u p th e objections to the concepts of private and socialcapital:

(1) The distinction between them rests on a supposed dif-ference in the interest-bearing character of different groups ofconsumption goods. This difference can be explained in a sim-ple way that makes needless an additional concept.

(2) The distinction between them rests on legal, not oneconomic grounds, and involves a confusion of economic andcontract interest.

(3) T h e distinction rests on an incom plete and illogical view ofthe n atu re of incom e and the services of goods. T he income th atneeds to be explained by economic theory is the flow of objec-tively created pleasures coming to the individual and thecommunity.

(4) In these concepts the interest-bearin g quality is confinedto the conventional production goods and such consumptiongoods as yield contract interest. Many actions connected with

"consumpt ion goods" a re le f t unexpla ined. The in teres tphenomenon is found wherever there is abiding value.O ur conclusion, the n, is that the distinction b etween social (or

productive) and private (or acquisitive) capital rests on illogicalgrounds. Böhm-Bawerk thinks it a great advantage that "notwithstanding the material difference there is between capital,the factor of p rod uctio n, a nd capital, the source of interest, it isno t necessary in [his] rea din g to make two conceptions of capitaltha t are entirely foreign to on e anoth er." 66 We mu st assert on theother hand that the two conceptions he has given us are solargely foreign to one anoth er 67 that, instead of an advan tage, it




1. Land is imm ovable. Capital is, for the most pa rt, movable.2. Land is a gift of nature. Capital is a result of labor.

3. Land cannot be increased, capital can be.4. The social and economical position of the landlord isessentially different from that of the capitalist.

5. Prop erty in land and pro perty in movables are justified onessentially different grounds, and they are commonly attackedby quite distinct people.

6. Land is the special agent in a kind of production [ag-riculture?] that is economically distinguished by many im po rtan t

peculiarities.7. T h e income from land differs in m any ways from income

from capital.8. Us ing capital for all m aterial m eans of acquisition leaves

us no name for produced acquisitive instruments.9. Popular usage does not put land under capital , but

opposes the two.10. Usage does not apply the term "interest" to the income

from land.69

He concludes that "it is most convenient to keep land quitedistinct from other kinds of productive wealth," and that "thereis a considerable balance in favor of defining capital as the'produced means of acquisition,' and against the inclusion ofland."70

Of this formidable list it must be said that not a reason given,considered singly, is free from flaw, some are quite mistaken,and collectively they are not conclusive. The worth of 1 is de -stroyed for purp ose s of definition by the limitation "for th e mostpa rt." It is not that a definition may not be based on a differencein degree, where quali t ies grade off from one extreme toanother; and, i f something of importance depends on thede gree , it may often be expe dien t to draw a line of division m oreor less arbitrarily so m ew here. H ere , however, it is not so. Things,like ho use s, ditches , tree s, tha t a re as firmly fixed as the soil itselfand whose value would be quite lost if they were moved, are,withou t a ques tion, include d in capital. Tu rnin g to the other partof the statement, that land is immovable, it is found quite as




un true. Pa rts of land are shifting from day to day. It is usua l forthose who follow this definition to consider that a th ing ceases to

be land and becomes capital the instant it is moved by man'sagency or effort; but to appeal to this to prove the point is toconfound "unmoved" with "immovable." No matter is im-movable. T o say that "land" m eans som ething that has not beenmoved by man begs the question, and this is evidently an un-tenable definition of nature or material agents. Some writerswho have followed out such reasoning have been led to narrowthe essential concept of land down to mere situation,71 or, dif-

ferently ex pressed, to the "geom etric relations in which any p artof it stands to oth er parts .72 This is a very different idea from theone here defended by Böhm-Bawerk, and would not be con-sistent with some of the oth er reasons of this list. Reason 1 in thelist appears to be an illogical use of reason 2, it being falselyassumed that results of labor are necessarily movable in therelative sense in which we can use that term of material things,and that gifts of nature are immovable. No such parallelismexists, and the two reasons are often in conflict.

Passing 2 and 3 for later and fuller c ons ideration, we take up 4and 5, which appeal to social and personal grounds of distinc-tion, not to economic and impersonal ones. Here is again aconfusion of the political or legal ques tion of ow nersh ip with thereal economic question, the function performed or contributionm ade by material agents. Th is difference, m oreover, in the socialposition of landlo rd and capitalist, so em pha sized, can be shownto rest on accidental historical grounds which we cannot nowdiscuss. Again, the emphasis of this difference is largely due tothe misleading terminology which is under discussion. And,finally, I would contest the statement that property in land and"movables" is justified on essentially different grou nd s. T he ymust be, an d a re by most political theorists of to-day, justified onexactly the same ground.

In 6 an d 7 appe al is m ade to differences in economic n atu re.In reason 6 there is again the fallacy of thin kin g of land as a fieldused for agr icultur e. It mu st be said, first, that land , in the senseof the word under discussion,— i.e., natural agents—is an in-




dispensable agent of the milling industry, carpentry, and everyother art, as well as of agriculture. To call land the "special"

agent of agriculture because that part of land which consists offertile soil is necessary for plant life is to make a very crudedistinction, based on no logical principle. At most a difference ofde gre e only is involved, in tha t a larger area is usually nee ded toproduce a given value of food than is needed to produce thatvalue of oth er th ings; but the reverse is frequently tru e. Second-ly, it may be said that "the im po rtan t peculiarities" (the chief ofwhich no do ubt is tho ug ht of as the law of diminishing returns)

here attributed to agriculture are in no way peculiar to it. Thebelief that they are rests largely on the basis of a false ter-minology. As to 7, likewise, we have a beg ging of the question ;for the differences in ou r ways of reg ard ing interest and ren t areprimarily due to the terminology whose correctness is underdiscussion. Finally, it must be noted that, when Böhm-Bawerkcomes to explain interest from durable goods,73 he refutes thestatement that income from land differs in many ways from

income from capital, an d, "obeys many distinct laws of its own."74

He then finds that the two incomes "have one common finalcause."75 "Land rent is nothing but a special case of interestobtained from durable goods."76

In 8 , 9, an d 10 the a ppea l is to usage which is shifting, an d byno m eans uniform in the direction Böhm -Bawerk assumes. As to8, the reply is that it will be an advantage not to designate byspecial nam es the gro up m ention ed if it is shown, as will be do ne

later, that such a gro up should not, either for logical or practicalpurpo ses, be m arked off from the othe r parts of capital. Ind eed ,it is one of the most important advantages of a different ter-minology that it gets rid of the figment in question. Reasons 9and 10 conta in doubtfu l s ta tem ents . Pop ular usage andeconomists, even those who favor Böhm-Bawerk's terminology,in many cases class land under capital, speaking of the invest-ment of capital in land, and reckoning the land with the man'scapital thereafter. So, when a loan is made in money, we arealways told that the thing really borrowed is what the moneybuys: if machines, then it is really these for which intere st is paid;




if a farm, the n it is this for which interest is paid. T h e m om entyou give the money aspect to the loan, no attempt is made to

distinguish between the incom e from land and the income fromother material agents.

I have left to the last reasons 2 and 3, which, stated together,rea d that land is a gift of na tur e a nd cann ot be increased, whilecapital is a result of labor a nd can be increased. T his th ou gh t isthe ce ntral one in the distinction: it is the pa ren t of all the otherreasons; and we here trace to their source the errors just con-sidered . Th e trail of the serpe nt, the m ark of the labor theory of

value, is over the whole treatment of capital as the product offormer labor. Böhm-Bawerk does not escape it. He has indeedgiven a most able refutation of that theo ry,77 and takes frequentopportunities to stamp it with his disapproval. In his later vol-ume he says that the phrase "stock of accumulated labor" is ametaphor ,78 and, again, that it is employing a mere "figure ofspeech" to speak of capital as "previous labor" or "stored-uplabor."79 In refutin g socialist views, he has shown that capital "isnot exclusively 'previous labor' " 80; but he is not free from hisown criticism when he adds: "but it is partly and, indeed, as arule, it is principally, 'previous labor'; for the rest, it is valuablenatural power stored up for human purposes." 81 Later he againmakes greater limitations on the proposition, and says: "Theasserted 'law,' tha t the value of goods is regulated by the am ou ntof the labor inco rpo rated in them , does not hold at all in the caseof a very considerable proportion of goods; in the case of theoth ers , does not ho ld always, and never holds exactly. Th ese arethe facts of experience with which the value theorists have toreckon."82 In these statements we have the view that the value ofcapital is not in proportion to previous labor, and that capitalowes its value partly to scarce and valuable natural powers. Thesame idea appears elsewhere. "Capital—to keep the same formof expression— is 'stored -up labor,' bu t it is som ething m ore: it is

also store d-u p valuable na tura l pow er."

83

The part attributed tonatural powers reaches at times the vanishing-point as Böhm-Bawerk shows;84 bu t he does not draw the obvious inference thatthe part of labor reaches at times the vanishing-point, and that



6 2 Capital Interest, and Rent

many products, many things classed by him as capital, are ex-clusively "s tored -up" natu ral powers. Why continue to apply the

phrase "products of labor" more than "products of nature" tothose things which owe to labor p rop ortio ns of their value vary-ing from all to nothing? Where there is no labor, would Böhm-Baw erk cease to call the thing capital? Certainly no t, mus t be th eansw er, if that is the only difference. T o take his own illustration,used against Rod bertus for an oth er pu rpos e: "If a lum p of solidgold in the sh ape of a m eteoric stone falls on a m an's field,"85 willit not be capital as much as any othe r piece of gold? According to

proposition 2, which we are criticizing, it would not be capital,but land, being a "gift of nature."In truth, Böhm-Bawerk does not concern himself about any

such difficulties, bu t speaks literally of capital in the very ph ras ehe has called a m eta pho r. H e says, "T he next stage of the con-troversy brings us to the question whether we are to give thename of capital only to the products of labor that serve for ac-quisition, the 'previous stored-up labor, ' or are to include

land."86 Again, he approves the same usage when he says, "Millhas so far yielded to the pre ssu re of facts as to adm it th at capital isitself the product of labor, and that its instrumentality in pro-duction is, therefore, in reality, that of labor in an indirectshape."87 It seems to Böhm-Bawerk self-evident that capital isproduced. "Every child knows that a piece of capital, say ahamm er , must be prod uce d if it is to com e into existence."88 Nowthe re m ight be some unc ertainty, taking the sentence alone, as to

just what is meant here by "produced"; but the context showsthat this means just what the last-quoted sentence does, thatcapital is pro du ced by labor. In the discussion of the ro un da bo utmethod of production he consciously omits 89 from the produc-tive powers the uses of land "for the sake of simplification," an dassumes tha t the a nnu al e ndo w m ent of powers consists only of"labor years." There is the danger in this omission that it mayaccustom the author and his readers to the thought that capital

indeed consists of stored-up labor alone. In fact, most productsare du e to the use of both sources of produ ction; b ut supposinghe had omitted "for the sake of simplification" the labor years,




and had assumed that the productive powers of land alonepro du ced all goods. Such cases, in fact, occur w here a fixed flow

of goods from natu ral agents has an an nu al value w ithout the aidof man. Yet it probably never would have occurred to Böhm-Bawerk to speak of such goods as products if, as is usually thecase, they were not fully fitted for consumption, hence wereintermediate goods. I have looked in vain not only in his writ-ings, but through economic literature, for an admission thatcapital may be a "prod uc t" of unassisted na tu re as fully as it canbe the pro du ct of labor. Yet the re seems no valid reason why that

view should not be h eld, the only reason why it is not be ing tha tthe labor theory of value still influences the thoughts and ut-terances of men.

Our immediate study, let us recall, is the validity of a distinc-tion between capital and land, on the gro un d that the one is an dthe oth er is not th e p rod uct of labor. We have jus t seen thedifficulty of apply ing it in the case of capital. We m ust now no tethat Böhm-Bawerk gives up the attempt to apply it strictly toland. He says that improvements on land, so far as they arecompletely incorporated with it, "are to be kept separate fromcapital for the same reasons90 which made us keep land itselfseparate from capital."91 Evidently, the au tho r deceives himself.

He has forgotten one of the most important reasons for thedistinction, the one we are discussing; nam ely, that capital is theresult of labor, and land is not. In this case he is classing theimp rovem ents w ith land , not because, bu t in spite of the fact thatthey are th e results of labor. H e sees the difficulty, an d in a no tesays: "I m ay be accused of wan t of logic here on the groun d thatsuch improvements are always products which serve towardsfurther prod uction, and therefore com e un de r ou r definition ofcapital."92 But he arg ue s, "T he criticism is correct as to the letter,bu t wro ng as to the spirit." Wh at can the spirit of the distinctionbe that is so opp osed to the wo rds of the definition? W e get thisanswer: "A stay pr op pe d u p against a tree is certainly no t the tre eitself, but an outside body. But who would still call it an outsidebody if after some years it had grown inseparable from thetree?"93 So far as this has any application at all, it disproves what




the author wishes to support; for we should not call a stickaro un d w hich the tree had grown a pa rt of the tree. T h e tree has

the unity of life and organization, and the stay is no part of it.The essential thing for us, however, is that here also is a set ofcases in which Böhm-Bawerk finds it practically impossible tomake the distinction between capital and land depend onwhether their source is in labor. Though the source of theirvalue is in labor, some things are to be classed with na tura l agentsbecause they are physically inseparable from natural agents.May we no t ask why, if the labor is incorpo rated in the land, does

no t the land becom e capital? In som e cases a touch o f labor is allthat is needed to "produce" goods of large value from naturalmaterials, which are the n called capital. Why call a combinationof natural agents and labor land at one time and capital atanother? A satisfactory reason, if there be one, has never yetbeen given.

To sum up the objections to the attempt to make the distinc-tion between lan d and capital rest on th e absence or p resence of

labor:—1. Some capital, things treated as such by Böhm -Bawerk an d

others, is not the result of labor at all,—for example, themeteoric lump of gold, the annual crop of fruits on an untilledfield, the yield of a mineral spring.

2. It is not logical to call capital a result or product of labor,any more than to call it a result or product of land. Nearly allcapital owes in pa rt its economic existence to labor; bu t its value is

not measured by the "amount of labor," whatever that maymean, any more than it is measured by the amount of uses ofland . In fact, we have no way of expressing th e am ou nt of laboror of uses of land, except through their value.

3. If the mere presence of labor in producing the presentvalues is what is meant by "pr odu ctio n," the n, practically, all landmust be classed as capital; for th er e is little of it that has not hadits value enhanced by labor applied to it.

4. T h e attem pt to distinguish between th e p art of the value ofa material thing that is due to labor and the part that is due tona tu re , keeping th us n atu re (or land) and capital distinct, is vain




when once the labor has been spent. This is recognized byBöhm-Bawerk in certain cases, like permanent improvements

on agricultural fields; but this case differs in no essential fromevery other case where scarce natural materials are united withlabor. It is purely arbitrary to call some such combinations land ,and others capital.

5. Finally, it is not tru e that lan d, as und ersto od by the busi-ness m an o r the econom ist when he really comes to his prob lem ,consists only of the gifts of nature. Large areas are made andreclaimed, and then are treated precisely the same way as the

land th at exists little cha nged since com ing from na ture 's ha nd .The reasons are so many and conclusive against this distinc-

tion that only the influence of the labor theory of value overthose who think themselves eman cipated from it can explain thepersistence of the error. Yet this distinction is of the essence ofBöhm -Baw erk's concept of capital. A consistent capital conceptnever can be based upon it.

6. A RESTATEME NT OF THE CAPITAL CONC EPT.

We have seen94 that Böhm -Baw erk ho lds the view that capitalshould be taken to consist of conc rete goods, and th at he oppo sesstrongly any attempt to make "some kind of abstraction theessence of capital."95 He does not think that capital should bespoken of as a "sum of value" or as "circulating power" or as"purchasing power."96 He believes that capital consists of "thecommon material goods called mills, looms, ploughs, locomo-tives." It is these, and not "an immaterial sum of value," which"can grind corn, or spin yarn, or plough up land, or carry aload."97 We have seen that the attack of Clark on the work ofBöhm-Bawerk assumes that the concrete conception is the onethat B öhm -Bawerk makes use of, an d that it is a false one. O urcriticism of Böhm-Bawerk's treatment is on a different line;namely, that he has not one, but two concepts of capital,98 andthat, while defining capital as if it could be spoken of withoutreference to value or th e use of value expressions, he employs a




value concept almost entirely in his reasoning on the interestproblem. He makes a shift without being conscious of it, and

makes use of the concept w hich C lark criticizes him for igno ring.In the concept of capital must be united both the thought ofcon crete things a nd tha t of their value, for the ir quan tity is onlymeasurable in a way that permits of comparison in terms ofvalue. T h e re is no thin g m etaphysical or abstract about th is: it iswhat business men are do ing constantly. Th ey d o not attem pt tocompare amounts of capital by physical standards of mea-sure m ent. Th ings which lose their value are no longer cou nted

as capital, no matter how large their amount. A change in thequality involving a change in value o r in value of a given quality isat once counted as a chan ge in the quan tity of capital. A nd theidea of capital is carried over to all things of value, regardles s ofthe question of the origin of the good. Böhm -Baw erk illustratesthis usage frequently, for exam ple, when h e speaks of the "capi-tal value of land,"99 and, again, in making use of the word"capitalization" in explain ing th e value of land an d interest aris-

ing from it.100

T h e business ma n, followed by the econom ist when he comesto discuss practical problems, starts with the thought of a manwith a sum of m oney to spend for buying goods; and this buyingis called "investing" his capital, or , as the w ord originally m ean t"clothing," the money in the form of other material things.When the money is thus "invested," it may be in the form ofmachines, buildings, lands, products on which labor has beenemployed. If the investment has been fortunate, we say, com-pa ring the values with the value of the money ex pe nd ed , that th ecapital has increased. Now there is of course some danger ofconfusing capital with money, but no more than in every casewh ere money is used to express the value of othe r g oods. W hat isthe capital? Either the money or the thing whose value is ex-pressed in m one y. M oney is itself a concrete th ing , on e in which

the value of other things is expressed. It is this expression andm eas ure m en t of m arket value which is the essence of the capitalconcept in much business usage, as well as in most economicdiscussion, no matter what may be the formal definition. This




must be recognized in our definition.Cap ital, in ou r conception, is an aspect of material things, or,

better, it consists of material things considered in one aspect,—their m arket value. It is u n d er this aspect that men have comemore and more to look at wealth. The growth of a money-economy has m ade it m ore and m ore convenient to com pare andm easu re th e value of dissimilar things in term s of dollars. Th ing sare thus capitalized. A writer, tracing the development of thewealth conc ept, has well pointed ou t tha t at on e time w ealth waslooked upon as consisting of things of use to the owner, lands,

flocks, herds,—use-values, to use the old phrase,— but tha t nowit is looked up on as m ade u p of things having exchange value,estimated in terms of the general standard of value in thecommunity.101 H e would confine th e term "wealth" to this latterconc ept, leaving the fo rm er without any special na m e; while theproposal here is to confine the term "wealth" to the formerconcept, and apply to the latter the term "capital." We thusadhere as closely as possible to popular usage. We should thus

speak of a man's wealth as consisting of a number of acres ofland, a herd of horses or cattle, a num be r of m achines or ships;bu t we should say tha t his capital consisted of so many thousanddo llars' worth of land, cattle, an d the like. We say that a co mp anyhas a capital of so many thousand dollars, and it is invested inbuildings and machinery. The distinction between nominalcapital and paid-up capital, and that between the capital stockconsisting of paper certificates or shares and the capital ofvaluable material things, present no serious difficulties. Wealthand capital consist of precisely the same things. Wealth is thepo pu lar ex pression for goods the exact valuation of which is no tstated. Cap ital is merely the ordinary m arket value expression ofwealth. As we cannot give to the value of any thing a n arithm eti-cal expression except in term s of some oth er concrete thing, wefind it most convenient to express it in terms of money. Theincrease or decrease of capital is not measured by any ultimatestand ard. T h e changes in its money expression do n ot necessar-ily reflect changes in the welfare of the community or of theindividual. Over periods of time, changes in the quantity of




capital can only be dete rm ine d in a conventional way, by m en'sagre eing to accept one com modity or grou p of comm odities as a

standard. But at any moment the different portions of capitalare hom ogeneous, and can be com pared, added , or subtractedas we see men doing every day in business.

T h e term "p rop erty ," again, is loosely used in place of wealthor capital, but can be clearly distinguished from them as thelegal, not the economic, aspect of valuable material things. Insho rt, "prop erty " has as its essence the idea of legal righ t; and inconnection with material things the important right is that of

con trol. O w nership is simply a grea ter o r less degre e of contro l.The term "property," meaning legal r ights of control , isbroader; that is, extends to m ore things than the term s "wealth"or "capital," for it includes patent rights, legal monopolies,valuable agre em ents from m en to do or not to do certain things,all having the com m on feature that the value is not attached to orconn ected with or attributed to a m aterial thing , bu t is du e to thelegal right to control or limit some person's action. It seems

inadvisable to try to m ake th e con tent of w ealth as large as tha t ofpro perty by considering that m en become wealthy to the deg reethat their rights are limited in the interest of others. 102 T oillustrate the use of the terms "wealth," "capital," and "proper-ty," we would say that a stock of goods is wealth, it is (or itrepre sents ) a capital of $10,000 , and it is the pro pe rty of Jones ,and the property is worth $1 0,000. If Brown holds a mo rtgage of$5,000 on the pro pe rty, however th e lawyers may look at it, we

mu st consider that Jone s's p rope rty (or right) is only of the valueof $5,000. The property of Brown and that of Jones are bothfound within the capital of $10,000, and in total value cannotexceed it. T h e value of the prop erty owned never can exceed th ecapital that is the object of the legal right. Many absurdities inour laws of taxation have resulted from confusing the econom icview of wealth with the legal question of ownership, and ofconfusing, still less excusably the mere paper evidences of legal

rights with the wealth to which those rights apply.To restate the definition that has been arrived at: Capital is

economic wealth whose quantity is expressed in a general value unit. It is




used as applying to a single thing or to a gr ou p of things. T he re isno place in it for the distinction, the inconsistencies of which

have been discussed, between individual and social capital. Wedo not call the services of things that minister directly to satis-faction unproductive while calling the personal services of menproductive, even where nothing material results. We do notretain the distinction between consumption and productiongoods as essential in econom ic discussion. All valuable thing s ofmore than momentary duration are "intermediate goods," arecapital, in that they are valuable because designed to satisfy

future wants. While the definition thus sweeps away any limita-tion on the content of capital because of a difference in futureuse, it likewise sweeps away any limitation because of a differ-ence in the origin o r sou rce of its value. Capital is not tho ug ht ofas m ade up only of goods whose value is the result of labor. It hasbeen shown that the prevailing distinction between "naturalagents" and "produced agents" of production involves radicaldefects of logic and is practically not m ainta ined. T his definition

is em ancipated from the false labor theo ry of value. In reg ard tothe contending views—first, that capital consists of concretegoods, an d, second , tha t it is the value of goods,— the definitionharmonizes them by defining capital as consisting of the con-crete things, but only when considered as homogeneous andcomparable units of value.

I would not exaggerate the significance of the change herepro posed in the capital concep t, yet it would be folly to ignore theconsequences its acceptance would involve for econom ic the ory .Text-books must be rewritten, and many questions must bere-examined. This is not because the concept is unused by theolder w riters, bu t because they have used it w ithout recognizinghow different it was from their formal definitions and theconcept emp loyed in other parts of their work. Many students ofrece nt years have felt the n eed of a readjus tm ent of the leading

economic concepts. This concept requires and makes possiblesuch a readjustment. T h e cu rren t theories of land value, of ren t,of interest, to a greater o r less exten t rest on the un so un d ideaswhich have been criticized throughout this paper. On another




occasion the writer will attempt to state the outlines of aneconomic system of tho ug ht in harm ony with the capital concept

here presented.

N O T E S

1. W e will note later his aband onm ent of this idea, calling the ren tof land "interest" (Positive Theory, 355) and ascribing interest to allconsumption goods, even those not included in capital. Ibid., 350.

2. Positive Theory, p. 24, ff.3. Ibid., p. 42, ff.4. Ibid., p. 27.5. Ibid., p. 31, ff.6. Positive Theory, p p . 43-59.7. Ibid., p . 3 1 .8. Ibid., p. 38.9. Positive Theory, p. 59.

10. Ibid., p. 60.

11. Ibid., Preface, p. xxiii.12. E.g., Horace White on "Böhm-Bawerk on Capital," PoliticalScience Quarterly, vii. 133-148; General Walker, "Böhm-Bawerk'sTheory of Interest," in Quarterly Journal of Econom ics, vi. 399-41 6.

13. "T he Genesis of Capital," Yale Review, ii. 302-315; "Th e Originof Interest," Quarterly Journal of Econom ics, ix. 257.

14. Publications of American Economic Association, iii. (1888).15. Positive Theory, pp . 33, 34.16. Yale Review, ix . 307.17. Publications of American Economic Association, iii. 91 .

18. Yale Review, ii. 308.19. Quarterly Journal of Economics, ix. 257.20. Quarterly Journal of Econom ics, ix . 116.21. Ibid., 380.22. Ibid., 263 .23. Positive Theory, pp. 17-23.24. Quarterly Journal of Econom ics, ix . 258.25. Yale Review, ii. 304.26. A fuller discussion of this point is given later, p. 49.

27. Yale Review, ii. 307 .28. Publications of American Economic Association, iii. 95, 112.29. Yale Review, ii. 309 .30. Ibid., 303, 304.




31. Yale Review, ii. 309 .1 must dissent from Clark's opinion that theterm "abstinence" is, in the discussion of value theorie s, to be app lied

only to the first act of saving. See this view in QuarterlyJournal, ix. 260 ,261. In a more useful sense it is a pow er of choice tha t is continuouslypresent d uri ng the foregoing of the right to consum e wealth, at everymoment during which a man could convert the principal of interest-bearing capital into a source of present enjoyment.

32. This point is treated more fully later, p. 57.33. Yale Review, ii. 309 .34. Ibid., 312.35. Th is has already b een observed by Fisher, EconomicJournal, vi.

530.36 . Yale Review, ii. 309.37. See further on this, infra, pp . 44-45.38. Quarterly Journal of Economics, ix. 124, 125.39. Yale Review, ii. 312 .40. Th is is a somew hat different presentation of Böhm -Bawerk's

argument in Quarterly Journal of Econom ics, ix. 125-128.41. Yale Review, ii. 310, 31 1.42. Böhm -Bawerk app ears to have very much the same concep tion

of products ripening into consumption goods, in his circles of pro-

duction periods. See Positive Theory, 93 , 106-108.43. Yale Review, ix. 312.44. Yale Review, ii. 307 .45. Ibid.46. Publications of American Economic Association, i i i . 11.47 . Yale Review, ii. 308 .48. Quarterly Journal of Econom ics, ix. 275 .49. Th is article was in the editor's han ds before th e app earan ce of

Professor Clark 's latest work, The Distribution of Wealth. T h e views of the

au tho r on the capital concept the re expressed show no essential changefrom those here examined, and the criticism stands as first written.50. In three articles, Economic Journal, vi. 509; vii. 199, 511 (1896-

97.)51. Ibid., vi. 51 3.52. Ibid., p. 514.53. Economic Journal, vi. 51 5.54. Ibid., p. 530.55. E.g., at the very outset, Economic Journal, vi. 515 .56. See as to Clark, supra, p. 43.57. Economic Journal, vi. 514, ff.58. Economic Journal, vi. 534 .59. Supra, p. 39.




95. Positive Theory, pp . 33, 34.96. Ibid., pp. 58, 59.97.

See oth er definitions of capital as conc rete inPositive Theory,

p p .22, 65, and passim.98. One of which differs both from the social and the private

capital; three, therefore, including both of them.99. Positive Theory, p. 344.

100. Ibid., p . 348.101. Charles A. Tuttle , in Annals of the American Academy of Political

and Social Science, i. 615, ff.102. Such a view is taken by Irv ing Fisher,EconomicJournal, vii. 206.



The Next Decade ofEconomic Theory

To forecast from present tendencies and current theories thedirection of furth er dev elopm ent in the abstracter econom ics is,as I fully realize, an undertaking venturesome and liable to

error. Even when years have passed, it is not always possible tocharacterize a dec ade o r a gene ration of grow th in any science, tosay that ju st this or that tendency was the dom inan t one du rin gthe period in question. There are so many lines of thought, somany practical problems to influence, so many varieties ofthinkers, that there has not been a year since Adam Smithpublished his work in which almost every leading aspect ofeconomics has not been to some degre e u nd er discussion. Th er e

has been continuity in the growth of economic thought, yetcertain periods are m arke d by the peculiar develop m ent of someleading economic doctrine. As the thoughts of men have beenripe for a new study of a special gr ou p of industrial ph eno m ena ,and for a new statement of their relations, and as the practicalneeds of the day have prompted to new attempts at economictheo ries, tha t subject or gr ou p of subjects has taken the cen ter ofthe field of attention. On this basis we may distinguish various

epochs in economic theory.

Reprinted from American Economic Association, Papers and Proceed-ings ofthe Thirtieth Annual Meeting 2 (February 1901). A lively discussionfollowed this paper in which E. R. A. Seligman, C. A. Tuttle, F. M.Taylor, and E. A. Ross took part. T heir discussion of whether Fetterhad not exaggerated the break between marginal economics and theclassical school is not reprinted here but may be found in the publishedproceedings, pp. 247-53.

74



The Next Decade of Economic Theory 7 5

EPOCH OF THE UTILITY VALUE DISCUSSION.

Certainly the years from 1885 on belong to the utility valuetheorists. The Austrian writers, read at once in the original byEnglish and American students, and quickly introduced to thebroader English speaking public through excellent translations,hold the center of the stage. The work of Jevons, in date ofpublication so m uch ea rlier, must be credited to this later perio dif the decision is made with reference to the interest attractedan d th e discussion aro use d. Am erican economics may almost be

said to have won its spurs in the independent development ofsome essential parts of the d octrine and in the ope nin g u p of newfields of psychological analysis which have yielded some of themost valuable fruits of the discussion. This sudden revival ofabstracter o r deduc tive economics, ju st as such studies seemed tobe growing into discredit, is one of the most remarkable chaptersin economic theory. Without question th e pe riod has been o ne inwhich economic analysis has grown keener and economic

thought has taken a broader view.

SOME RESULTS OF THE VALUE DISCUSSION.

The President of this Association not long ago published asurvey of the last "Decade of Economic Theory" in the UnitedStates. Some may dissent from portion s of it (for wh en did on eeconomist ever agre e entirely with ano ther? ), bu t as a whole it is,though condensed, so comprehensive and satisfactory that itwould be idle to attempt to cover that gro un d again. Let us the nmerely put in relief some results of the value discussion, theprincipal feature of this period, so far as it concerns abstractereconomic analysis. Certain of its results which must be recog-nized are the following:

The old cost-of-production theory of value is discredited asanything more than an immediate and superficially practicalexplanation of prices.

The utility principle is no longer a supernumerary member,but is the strongest limb of our value theory.




The importance of wants, motives and consumption in thediscussion has been greatly and permanently enlarged.

The marginal principle as a device of explanation and as amode of thought, has become indispensable, and is finding newapplications constantly.

A satisfactory statem ent of the relations of supp ly an d utility inthe determ ination of value, tho ug h attem pted by m any, does notseem to have yet been attained, though the essential nature ofthis relation is certainly perceived by a large num ber of students.

T h at a universal law of value is possible, which will exp lain in a

broad way the value importance assigned to every economicagent, has become almost unconsciously, within the last fewyears, the firm conviction of students.

T h e old artificially cum berso m e system of separate "laws" andexplanations for each of the leading factors of production, hasbecome an anachronism in our text books.

Th ese ideas, so startling a short time ago, have become a partof the accepted stock of economic doctrines to the grea t body of

oncoming students. Those of us who got our first bent ineconomic theory more than ten years ago, before this notabledevelopment, must beware of the personal equation in judgingof the progress of such doctrines. The younger generation isadjusting itself to these new m ode s of tho ug ht; to it they are nolong er in controversy . Th e significance of these develop m ents ineconomic theory we cannot yet fully realize. They are changingour methods of approach to every prac t ica l problem in

economics. Th ey are hav ing further results in economic theory .

THE CHANGING VIEW OF THE FACTOR CAPITAL,

Let us turn now from these attained results of the value dis-cussion, to some of the yet im m ature tho ug h ripen ing fruits. Acentral doctrine like that of value cannot undergo such great

changes as these without compelling soon a readjustm ent of allthe doctrines with which it is intertwined. One of the mostimportant to note is the change in the whole conception of the



The Next Decade of Economic Theory 77

factors of production and of the relation of the conventionalshares to each other. First to mention is the concept of capital.

There has been a marked lull for several years past in thediscussion of this branch of economic theory, which might givethe impression that the discussion was generally consideredclosed an d tha t interest in it had ceased. Such is far from the case.The seeds of doubt sown by the able series of articles on thenature of capital that appeared from 1890 to 1896 have beenripenin g in many m inds. T h e main connection of this with th evalue discussion is foun d in the idea of the origin of capital. T h e

conventional capital concept is a cost-of-production concept.The value of capital is traced to former labor which has beenneeded to produce it. Such a concept involves many internalinconsistencies, manifest on any close study, and many externalinconsistencies manifest on its every application to practicalaffairs. So dom inan t, how ever, has been th e cost-of-productiontheory of value in the thoughts of men, that these essentialobjections have been waved aside as only petty and apparent

exceptions which must be found in any application of generalformula to actual affairs. Cap ital has been treate d as the pro du ctof labor, though there were thousands of things included incapital which, as monopolized fruits of natural resources, hadcost no labor or but an insignificant show of it. We have been toldat one mo m ent tha t rent was not me asure d by labor or d ue to it,but was a surplus gained w ithout labor, and in the n ext we haveseen the wealth th at was paid over to the landlord as ren t used byhim as capital and defined as the pro du ct of labor. We are told inall the text books tha t capital is "stored u p labor," that "its value isdue to labor," that "it is labor in another form," both the ideasand the antiqu e ph rases reflecting the labor theory of value. Wehave continued to use these phrases after we have made laugh-ing stock of that theory, and after we have recognized utility,regardless of the origin of the good, as the measure of value.Writers who use in a masterly way the utility and marginalconce pts, nevertheless accept as an u ltima te stan da rd of value arejuvenated Ricardian or Marxian labor unit. Nothing couldmore emphasize the hold of the old thought modes and the




vigorous effort that must be made to be rid of them.The old capital concept is in unstable equilibrium. The dif-

ficulties are too ap pa ren t and too many m inds are seeking a wayto avoid th em , for this situation long to con tinue. Th ou san ds ofstudents are treading the paths of doubt and inquiry. Logicalconsistency dem an ds th at the capital concept be framed withoutrefere nce to labor as its source o r origin, an d withou t limits as toits use. W hen the utility theo ry displaced the cost-of-productiontheory of value, this change of the capital concept became alogical necessity.

W ith this, of course, mu st go a cha nge in the whole con ceptionof interest, which likewise is connected in the still currenttreatment with a factor that has been produced by labor. Them ultitudino us a nd naive inconsistencies of the older treatm en tbecame apparent when viewed in the light of the later valuetheory.

THE CHANGING CONCEPT OF RENT

While this change is going on in the capital concept the rentconcept is chang ing also, an d from the sam e logical causes. T h eold rent concept, long supposed to be the surest attainment ofeconomic theory, depended in a negative way on the labortheory of value. W hile capital was supposed to be the p rod uc t ofhuman effort, and interest in an indirect way a payment for it,rent on the contrary was a surplus coming without hu m an effort.It was the on e great exception to the cost-of-production theo ry,an exception, how ever, which was suppo sed not to weaken but tostrengthen the theory, by giving it a paradoxical, carefullygu ard ed and com pleted air. A favorite test of economic acum enfor generations has been a comprehension of the phrase, "Rentdoes not enter into the cost-of-production." T ho ug h this may betrue (it is the central thesis of a recent and valuable book oneconom ic theory ), m any s tudents a re com ing to believe that it ismerely an illogical trick in the explanation of values. The dif-ficulties of the rent theory as confined to natural resources




began early to manifest themselves, as a study of the olderauthors shows. Long before the utility theory brought such

doubt into the economic world, the theory of rent, the "ponsasinorum" of political econom y, as M ill called it, was becom ing avery difficult bridge for even the most orthodox thinkers tocross, withou t cutting some very asinine capers , ju dg ed by Mill'smaxim . A study of our co ntem porary writers shows the con ceptin ruins. Marshall, who has connected "quasi rents" with everyagen t of prod uction , and m ade land ren t only a species of a largegen us, has gon e furth er from the old system of distribution tha n

he app ears to have dre am ed of in starting. Macfarlane has m adean interesting an d able attem pt to give to the re nt concep t someexcuse for being, but in widening it to the "price determined"factor, he has wrecked it beyond recognition. Hobson has re-tained the conventional division of the two m aterial factors withno hint of doubt of their consistency, but has extended theconcept of rent until it enwraps the economic world. Clarkstar ted twelve years ago , it would seem , from the idea of Bastiat,

that the ren t of land can be reduc ed to a paym ent for labor, andapplied this in criticism of the single tax doctrine. As he hasdeveloped this independently he has met the other converginglines of thought on rent, and in his last work gives the mostsatisfactory statem ent yet m ade of an ema ncipated r en t concep t.T h e situation is no t final, and at no time since Adam Sm ith hasgre ater confusion of terminology existed, or have opinions u po nimportant questions of economic theory been more unsettled.

The logical development of the theory of value must bring ussoon to more general agreement as to a theory of monopoly,scarcity, o r differential gains, which was the star ting po int of t hedevelop m ent of the theory of ren t. W heth er the ren t concept isto be broadened to cover all such cases, or is to be defined assomething still different, is one of the important questions ofeconomic theory to be settled in the next decade.




THE PRACTICAL NEED OF NEW CONCEPTS.

What has been said must not be taken to imply a belief in thegrowth of theory from inte rna l logical necessity, in de pe nd en t of,and uninfluenced by, the practical needs of the times. Fewcherish now such an idea of theory. The conventional conceptsof capital and interest, land a nd ren t, were largely dete rm ined ,as is now gene rally recognized , by the co nditions of the times inwhich they were developed. The living questions and practicalinterests of to-day are having no less influence in determining

the lines of economic speculation a nd the form it shall take. Andit is likely that when the future chapter shall be written on theeconom ic theo ry of this day, it will be said that indu strial nee dswere stimulating to a development of the leading economicconcepts in the same direction along which theoretical consis-tency was urg ing . This th ou gh t m ay be stated m ore specifically.

STAGES OF INDUSTRIAL DEVELOPMENT ANDCORRESPONDING CAPITAL CONCEPTS.

A century ago, whe n economic concepts were taking the formthey have in the main retained, even then they were an illogicalcom prom ise between two sets of ideas belon ging to two differenteconomic epochs. The mediaeval agr icultural and naturaleconomy had rent payments and physical measurements as its

typical and general form of contract and payment. The newindustrial, capitalistic, and money economy was developingrapidly, bu t had not become do m inant as it is to-day. Even suchcity m en as Ricardo were so u n d er the influence of the old waysof thought that the real difference between these two kinds ofeconom ic conceptions could not be clearly seen by them . Rent asa retu rn to natural resources seemed a different kind of ret ur n,with a different source, from interest as a re tu rn to city wealth, so

evidently the work of man's hands, whose value was so easilytransferable, and whose return always took the money ex-pression. They never doubted that they were taking the same




point of view as they looked at the two factors, two shares, twoeconom ic laws, tha t seem ed so essentially differen t. In fact they

were taking two different points of view, one of the 16th and on eof the 19th century, and were thus finding contrasts and dis-tinctions which corresponded, not with reality, but with theirown shifting modes of thought. The enormous developmentrecently of capitalistic enterp rise , the ma rke ting of every form ofnatural resource by means of shares and bo nds, the expressionin money form of the value of nearly every kind of wealth andthe decline of the agricultural and extractive industries in rela-

tive social and economic importance, have made this uncon-scious confusion of mediaeval and modern viewpoints ineconomic theory an increasing hindrance to clear and practicalthin king. In o rd er to be suited to the discussions of an age tha t isincreasingly indu strial, the capital concept m ust be unified an dcleared of its feudal elements.

THE SCARCITY FACTOR THEN AND NOW.

T h e old ren t concept also is found to be inade qua te in this ageof rapid growth of industrial corporations which enjoy somepublic franchise o r peculiar econom ic situation, of large industryexercising a power on prices over areas and periods m ore or lessextended, and of multiplying trusts and monopolies. Thetheorists of a century ago, looking on value from the cost-of-

production standpoint, thought of monopoly as a rare thing,due generally to political favor, and almost negligible in ordinaryeconomic discussion. The contribution and value of land, theonly exception to the law of labor value tha t was qu ite obvious tothem, was accounted for by "the law of rent." Now when oureconomic growth is bringing to our attention every day newinstances of the influence of scarcity on value, often by socialchanges outside the control of the one who gains by the m , oftenby the capitalists' own m anipu lation s, it can no longer be ignoredthat th e coat of economic theory is a bad misfit. It is in Hibernianphras e, too long at on e end a nd too short at the other. Th e ren t




theory ex plains so m uch th at it is not tru e in one direction, and inthe o th er it does n ot explain at all. Th is difficulty worried even

Ricardo, it caused Mill a deal of anxiety, and industrial de-velopmen ts have m ade it grea ter every year. T h er e is no solutionshort of a new terminology. The Ricardian law of rent is beingrelegated by industrial development to the curiosity shop ofoutgrown economic theories.

SOME PROPOSITIONS.

These are some of the difficulties. In order that the sugges-tions as to the kind of work to be do ne in the nex t deca de m ay bespecific, and may serve as a basis for thought and discussion,some proposit ions expressed or implied in the foregoingparagraphs may be recapitulated.

1. The concept of capital must be given an importance ineconomic theory corresponding to the dominant place of

capitalistic enterprise in present industrial affairs.2. T h e concept must be re-defined so as to corre spo nd m oreclosely with commercial usage and the needs of practical dis-cussion.

3. The conventional division of the factors of production isillogical, and must be abandoned. This involves a re-study ofmany problems and a re-writing of large portions of economicliterature.

4. T h e old idea of rent as a paym ent for a gift of na tur e mustbe rejected; it is questionable whether the later tendency toex ten d the te rm rent to every differential gain will prove to be afortunate development.

5. T h e labor theory of value an d the no tion of labor units as insome way usable for a standard of value, are persistent errorswhich vitiate a large part of current economic discussion, andmust be completely thrown aside.

6. The doctrines of rent and interest as currently taught arehopelessly en tan gled in these old and illogical distinctions. T h etwo forms of return for material goods must be considered as




differing in m odes of calculation, not as to kinds of agents and askinds of return.

RESTATEMENT OF THE OBJECTS OF THIS PAPER.

The object of this paper may now be restated as follows:1. To account rationally for the conviction that has been

growing among economists that economic terminology is in anunsatisfactory state.

2. To show the necessity of rewriting the theory of distribu-tion along radically new lines.3. To reduce the mental friction and waste of social energy

that must accompany the acceptance of doctrines, a readjust-ment of which is shown to be inevitable.

4. To indicate specifically the direction which the new doc-trines m ust take, the points at which energy of thou gh t may mosteffectively be applied.



Review of Böhm-Bawerk, Capital und Capitalizins 85

arou nd the alterations and additions. T he au tho r says of these inthe new preface: "The changes are not important. They are

limited to a few improvements in the composition and thecorrection of a few errors that had been overlooked. On theother hand I have had occasion to make copious additions,increasing by mo re th an a third the size of the book." On everyessential question the author's views remain unchanged. Theadd itions co unt up 192 pages, of which 23 are in the new pref-

ace, 54 are in the added section on John Rae, 25 are in thediscussion of Marx's third volume and the controversy con-

nected with it, and 90 are in the new concluding c hap ter entitled"Contemporary Literature on Interest." Some clew to the activ-ity of economic discussion in the various coun tries may be foun din the Autoren-Register. There are 88 names that did not appearin the first edition, distributed by nationalities as follows:Germans, 25; Americans, 16; Italians, 14; English, 12; Aus-trians, 4; N orwegians, 4; Swedes, 3; Du tch, 3; Danes, 2; Swiss, 2;Fren ch, 2; Russian, 1. G rou pin g these by languag es it is seen that

35 per cent, write in G erm an , 32 per cent, in English, 6 per cent,in Italian, 10 pe r cent, in Scandinavian, 3.5 per cen t, in Dutch , 2pe r cent, in Fren ch, an d 1 pe r cent, in R ussian. But this alone isnot a fair test of the relative attention given to them by Böhm-Bawerk. Many of the auth ors a re merely men tione d, or are citedin a footnote, as is the case with all bu t those writing in English o rG erm an . As to the text additions it is not easy to determ ine whatjustly shou ld be credited to each g roup . Rae is spoken of by the

author as a Canadian, but John Stuart Mill refers to him as "aScotchm an settled in the United States." His book was publishedin Boston in 1834, and its recent prominence is due to Mr.Mixter's essay in the Quarterly Journal of Economics on "Aforerunner of Böhm-Bawerk." It would seem that Americamight claim him. Macvane receives a page, Walker two, andCarver nine , a total of 66 pages to Am erica. T he English writersingled out for a ttention is M arshall, to whom in preface and text29 pages are given. T he G erm an writers receive 67 pages, nearlyhalf tu rn ing imm ediately abou t the belated volume of Marx, andmuch of the rest connected with the old discussion of surplus




value. Omitting thirty other pages, not assignable to specialwriters or coun tries, it appe ars th at 42 pe r cent, of the a dditions

are devoted to German writers and 58 per cent, to writers ofEnglish, of which Am erica has 41 percent, and England 17 percent. This is a showing that may well justify a little harm less pr ideif it represen ts at all fairly the relative activity of economic studiesin the different lands. The exceptional length of the sectiongiven to Rae, a forgotten au thor of earlier da te, it may well besaid, invalidates any such claim for America; but, on the otherhand, it may be said that the German additions are in large

m easure given to Marx's posthum ous book, that there is a strongtendency for an author to exaggerate the importance of thewriters in his own languag e, and finally that the m ost im po rtan tof American contributions, probably the most important of allrecen t con tribution s, to the interest pro blem , those of Fisher andClark, not to me ntion several oth ers , ar e barely referr ed to. It isha rd to reconcile oneself that so m uch en ergy has been wasted inrefuting trite eclecticism, when original and farreaching con-

tributions by these Americans are all but passed in silence.A m ends m ay be ma de for this, how ever, in the revision oîThePositive Theory of Capital, which is prom ised at an early da te. Th iswill be looked forw ard to with interest no ne the less keen becauseof the difficulties in which the au th or is su re to find himself. T h emovement of economic thought is rapidly leaving behind it theconcep t of capital with which Böhm -Baw erk works. It is not to beexpected th at the able au tho r will cha nge his point of view, bu t to

the task of meeting objections and eluding the charges of in-consistency he will bring that remarkable acuteness and abilitywhich he has shown himself in these volumes to possess.



Review of Böhm-Bawerk,Einige strittige Fragen

der CapitaistheoneThis little group of essays, dedicated to the "true friends of

theory," is a reprint of three articles which appeared during1899 in the Zeitschrift für Volksw irtschaft, Socialpo litik und Verw al-tiing. The author's object, as he explains, is not to present anynew theory of capital or interest or to make any changes in theone which he had before pre sented , but rathe r to exam ine m orecarefully some questions of detail in the doctrine of capital thatare essential for the solution of the main question. Of the fivedistinguishable subjects discussed, the four less important ones

comprise the last third of the pamphlet and may be first men-tioned.

The author maintains that the confusing of interest, the re-tu rn of capital, with the earning s of the entr ep re ne ur , as is don eby Philippovich, is a step backw ard away from clear think ing an da clear economic terminology. He refutes Dietzel's idea thatthere must be, not one, but several theories of interest—that intu rn , or according to the particular prob lem, the abstinence, theproductivity, the exploitation, the time-value theory or others,must be employed. The author makes a telling criticism of thiseclectic m ethod of avoiding the real problem involved. He th enreplies to the objection made to his own theory by Philippovich,to the effect that it explains only a part of the cases of interest.And, finally, he criticizes the loose acceptance by Lexis of the

Reprinted from Political Science Quarterly 17 (March 1902). Böhm-Bawerk ' s Einige strittige Fragen der Capitalstheorie was publ ished in Vi-enna and Leipzig by Wilhelm Braumuller in 1900.

87




socialistic explo itation th eory of intere st, sharply an d powerfullyarraigning that sentimentality which has led many thinkers,

especially in Germany, to concede validity to the socialistictheory of interest, while rejecting the reasoning on which alonerational validity can be demonstrated.

Let us turn now to the major th em e of the essay— the na tu re ofthe rou nd ab ou t process. Böhm -Bawerk's conception of the "av-erage produc tion period " as that period which elapses betweenthe application of productive agents and their reward in theform of satisfaction, and his proposition that by roundabout

m ethods a greater prod uct ca n, as a rule, be attained, have beenvariously criticized a nd attacked . Especially th e assaults of Lexiscalled for a reply. In defense of his ideas, the author retracesmuch of the argument of his earlier works, developing andillustrating the thought in many details. He first clears awaysome m isunde rstanding s, by defining the produ ction period no tas the absolute time that elapses from the first application oflabor and capital until the securing of the enjoyment, bu t as theaverage length of the interval. As the main objection tur ns on theeffect of inventions which shorten the various industrial process-es, while giving a larger p rodu ct, he considers at length th e effectof inventions and improved processes. He concludes thatthey are dynamic factors that check, but do not reverse, them ovem ent of the rate of interest, an d m aintains the tru th of thegeneral rule set forth in his theory. He returns to the sameargument in the next division, maintaining that the greaterproductivity of th e longe r p eriod can be shown both by observa-tion and experience (pp. 43-52).

He then turn s to a different but related question, as to wh ether(pp. 51-63) the rate of interest is fixed in the whole range ofindustry or, as Lexis has m ainta ined , in a particu lar bra nch of it.The same question appears under a slightly different aspect inthis form: whether the different branches of trade have anessential effect on each oth er in the m atter of the rat e of interest.Böhm -Bawerk analyzes the m ethod s by which the ra te of interestand the successive uses of capital are equalized in the variouslines of industry. From the stand point of the auth or an d tha t of



Review of Böhm -Bawerk 89

Lexis, who apparently approaches the subject from the sameside, this is a subtle and convincing piece of analysis. Its defects,viewed from a different standpoint, will be suggested below.

Finally, in this division Böhm-Bawerk vigorously resents theview that his notion of the production period and the length ofthe roundabout process is unsound, in that it deals with mag-nitudes practically not determ inab le. A dm itting th at it is impos-sible to m easure the produc tive per iod , he says that this is equallytrue of many causes which must be recognized and reasonedabout in the various sciences. He says it would be very pleasantand interesting to know all these facts, but that a lack of knowl-edg e does no t invalidate his theory . T h e details of the argum en tspresented cannot be discussed here , but i t must be con-fessed that, despite the great ingenuity displayed, they leave thevague impression that somehow the real question has beenevaded. N ot a single concrete ex am ple has been given wh ere anindividual prod uc er practically mea sures this period , whereas in

the cases of cost of production and of the marginal buyer inmarket value, which Böhm-Bawerk adduces as strict analogies,the re are clearly evident som e points at which the m agn itudes ofsatisfaction o r cost, usually un m easu red, ap pea r for a m om ent inconcrete and measurable forms.

Con sidering as a whole the autho r's argum ent on the cen traltheme, it can be called successful only in a negative way, as arefutation of various objections that have been made against it.

The author has not advanced the solution of the problem, posi-tively, a single step. Critics of the Positive Theory have frequentlydeclared in effect that, while its au thor had ejected the pro du c-tivity of capital from the front yard of his theory, he had o pen edto it the side doo r and had given it the freedom of the h ouse. Forwhat place are we to assign in the bro ad theory of interest to the"productiveness of the roundabout process"? Is it the main andfundam ental, or is it only a sup plem entary and partial, explana-

tion of the cause of interest? The essay under review certainlyputs it in the cen tral and leading place: it is the g reate r pro du c-tiveness of labor when applied in a long and roundabout waywhich is the gre at an d efficient cause of interest on capital. If tha t




is not th e imp ression left on the r ea de r of this essay, an d th e o nethe author intends to leave, then we have missed its purpose.

A nd yet this is out of harm on y, first, with the auth or's own stron gnegative criticisms of productivity theories as affording onlyincomplete answers to the interest problem and, secondly, withhis formal statement of the theory of interest as due to thedifference between the value of present and that of futuregoods.

Let us venture to suggest very briefly an explanation of thisapp eara nce of wavering in the auth or's conclusion. Starting witha na rrow concept of capital as com posed of things pro duc ed bylabor, he has not succeeded in escaping various of the old err orsof the labor-value theory which he himself has elsewhere sosuccessfully discredited. That concept suggests the thought thatlabor is put into the material form of capital to appear later asenjoyment. Some cases may be found in seeming supp ort of thisview, but others that clearly forbid it. When or in what way willthe labor expended in digging the Isthmian canal become en-joyment? There will be an annual yield of enjoyment, but the"principle," or result of the labor, is, as John B. Clark hasstrongly emphasized, an abiding thing, never to be used up.Again, Böhm-Bawerk recognized before he concluded his Posi-tive Theory tha t the capitalization of land is only an oth er aspect ofthe interest problem, yet his productive period or roundaboutprocess has no validity there. Indeed, his capital concept is acost-of-production conc ept an d do es not mak e possible a consis-tent explanation of the theory of interest or the capitalization ofscarce agents—"natural" means of production. The period ofproduction seems plausible when illustrated by examples ofcapital thou gh t of as "previous labor" (seeStrittige Fragen, pp. 11,12, 17, et passim). An "average waiting time," however abstractand unrelated to any practical calculation which business menm ake in dete rm ining investments, app ears to be a possible thin g,

if capital can be red uc ed to applications of labor at various time s,destined all to ap pe ar at a later m om ent in the form of consum a-ble goods. But when the problem of comparing present andfuture goods is tho ug ht of in the form of a balancing of p resen t



Review of Böhm -Bawerk 91

and future rentals, as is done in the case of capitalizing scarcenatural agents, the fallacy is evident. Then there is no "round-aboutness" in the application of labor. Th er e is ne ithe r a series oftechnical processes nor an application of labor which will ma tureas enjoyment at a later period. The rate of interest falls gradu-ally, as future rents increase in value relative to present rents,and accordingly are d iscounted at a lower rate of interest. G reatas have been the services of ou r a ut ho r in stim ulating to cleareiand deeper thinking in economic theory, his presentation of aCapitalstheorie evidently is not destined to be a finality. Somedevelopm ent it is sure to un de rgo , and is un derg oing . A nd thatdevelopment clearly lies along the lines of a value concept, asopposed to a cost-of-production concept of capital.



Review of Böhm-Bawerk,Positive Theorie des CapitalsThis second edition, long awaited with lively expectation by

students of economic theory, proves to be an unc han ged rep rin tof the first edition published some fourteen years ago. Theau th or has found it impossible in the m idst of his duties, recentlyundertaken as finance minister of Austria, to carry out his revi-sion of this part as he had already done with the first part ofCapital und Capitalzins. T h e a uth or still adh eres to his purpos e ofrevising the Positive Theory, but is unable to do so until a morefavorable time arrives. The student acquainted with recentmagazine articles by the author, in which he has replied to hisvarious critics, is aware, however, that no appreciable change hastaken place in Böhm-Bawerk's views on the interest theory. Hiswritings on the p roblem in the past fifteen years have been takenup , not with the revision an d a m end m ent of his interest theory,but merely with a restatement and defense of his well-knownviews against the critics who have assailed it from many direc-tions. Each year is making the revision of the Positive Theory amore difficult task. The work of Böhm-Bawerk has been themost stimulating influence that has come into economic theoryin the last half century , and yet his Positive Theory seems fated togo the way of its many prede cesso rs. Its acceptance by stude nts iseach year becoming less and less possible.

Reprinted from Journal ofPolitical Economy 11 (December 1902). Thesecond edition of Böhm-Bawerk's Positive Theorie was published inInnsbruck by Verlag der Wagner'schen Universitäts-Buchhandlung in

1902. The English title of this work ^Positive Theory of Capital, and it isvolume 2 of Eugen von Böhm-Bawerk, Capital and Interest, trans.George H. Huncke and Hans F. Sennholz (South Holland, 111.:Libertarian Press, 1959).

92



The Nature of Capitaland Income

The work before us1 notably strengthens the forces makingfor the new conception of capital. Professor Fisher he re ren de rs

a threefold service. He demonstrates mathematically the in-consistency of the old classification and conception of factorsand incomes; he shows the ma them atical consistency of the valueconcept of capital and of the capitalization theory of interest;an d he illustrates by actuarial m etho ds the app lication of the newconceptions to business problem s. All thr ee of these proofs havebeen offered before in verbal form, and the results are alreadyaccepted by a number of American economists. But it is always

possible to miss the point more easily in a verbal argument,especially when it involves the rejection of familiar conceptions.The argument at a number of points is here restated fully,clearly, and conclusively. T h e peculiar endo wm ent a nd trainingof Professor Fisher as both m athematician an d economist m adehim uniquely capable of this notable performance in economicexposition.

T h e chief topics an d th e ord er in which they are treate d a re as

follows: The introduction treats of the nature of wealth, ofprop erty, an d of utility. Part one deals with the natu re of capital,of capital accounts in private and corporate business, and ofvarious correct and incorrect m ethod s of sum m ing u p capital, asrevealed in a study of the principles of accountancy. Part twodeals with income in the usual concrete form of com modities andmoney, applies the methods of accountancy to the estimation

Reprinted from Journal of Political Economy 15 (March 1907). This is areview of Irving Fisher, The Nature of Capital and Income (New York:Macmillan Co., 1906).

93




an d sum m ation of incom es, and concludes with the discussion ofpsychic income as the final or true form of which all others are

but reflections. Part three approaches the central theme of thebook, the ratios between capital and incom e: he re are treated theinterest rate, capitalization, and various accountancy questionsinvolving the distinction between capital and income. Sum-maries of the last part and of the whole work conclude the textwhich is followed by appendices, aggregating seventy pages,mostly on the mathematical formulae and methods of express-ing capital and incom e. Many par ts of the text also ar e illustrated

with diagrams and mathematical examples. Such a brief list oftopics gives no adequate idea of the methods and style oftrea tm en t. For these, as well as for substance of doc trine, m anyof the chapters merit and must receive careful reading byeconomic students.

Agreeing so fully with the general doctrines defended byProfessor Fisher in opposition to the conven tional conceptions,the reviewer deem s it unn eedfu l to attem pt h ere a m ere e pitomeof the various arg um en ts. Nor would it be profitable to dissipatethe discussion over a score or m ore of min or questions wh ere th eauthor may be in error. It seems best in the cause of economicscience, how ever, to call attention to some doub tful conclusions,an d, as a help to the in terp retatio n of this work, to indicate howProfessor Fisher's views have deve lope d since his first essays inthis subject ten years ago. These comments conveniently groupthemselves about the three parts of the text: (1) the nature ofcapital, (2) the na tu re of incom e, (3) the relation of capital a ndincom e, with a conclusion (4) on the relation of Fisher's doctrinesto contemporary speculation.

The nature of capital.— Professor Fisher sees the essence of hiscontribution to the theory of capital in the distinction betweena fund and a flow, "the m ost im po rtan t application" of which "isto differentiate between capital and income."2 He gives thisdefinition:

Capital is a fund and income a flow. This difference between capitaland income, is, however, not the only one. There is another important



The Nature of Capital and Income 95

difference, namely, that capital is wealthy and income is the service ofwealth. We have therefore the following definitions: A stock of wealth

existing at an instant of tim e is called capital. A low ofservices through aperiod of time is called income.3

T h e r e a f t e r h e r e f e r s n o t t o o n e b u t t o t w o f u n d a m e n t a ldis t inct ions between capi ta l and income, those "between fundan d f low, an d betw een weal th an d services ." 4 H er e w i thou t com-ment or footnote, is introduced into the defini t ions of capitaland income which he had presented ten years before a radical ly

new e l emen t , and one deno t ing t he abandonmen t o f t he f o r -mer thought . His or iginal view is indicated in the fol lowingquo ta t i ons :

All wealth presents a double aspect in reference to time. It forms astock of wealth, and it forms a low of wealth. T he former is, I ven ture tomaintain, capital, the latter, income and outgo, production andconsumption. 5

T h e total capital in a com munity at any particula r instan t consists ofall commodities of whatever sort and condition in existence in thatcommunity at that instant, and is antithetical to the streams of pro-duction, consumption and exchange of these very same commodities.6

These [older] definitions assume that capital is on e sort of wealthand income an othe r Economists have tho ug ht of capital andincome as different kinds of com modities instead of different aspectsof commodity in time.7

Endeavor ing to account for the fact that Marshal l d id notapply this ant i thes is of fund and f low to capi ta l and income,Fisher says:

Possibly the reason why this step was not taken lies in the fact thatMarshall conceives of income as a flow of pleasure rather than ofgoods. H e conceives of capital as antithetical to the enjoyable incomewhich it brings in. But the simpler antithesis is not between a stock ofgoods and the particular flow which it may earn or purchase, but

between the stock and the flow of goods of the same kind.8

M a rs h a ll . . . . allowed the notion to survive that capital is on e speciesof wealth and income another.9




In criticizing an expression of Edwin Cannan's Fisher ex-presses what in his view is the error in it:

the omission of the explicit statement that income and capital consist ofthe self-same goods.10

Speaking of the distinction between capital and income, Fisherrejects again

the old and harmful notion . . . . that this distinction implies some

difference in the kind of goods concerned.11

At the beginning of the second article he reiterates the viewthat the sole distinction between capital and income is thatbetween fund and flow.

A full view of capital would be afforded by an instantaneousphotograph of wealth.12

T he reviewer pointed o ut some years ago 13 the impossibility ofthis view, saying:

this conception shares what I believe to be an error common with it toboth of the others [Clark's and Böhm-Bawerk's] in that it makes theincome of a community consist of "streams . . . . of the very samecommodities that compose the original capital." There are many thingsthat are a part of Fisher's capital only and never are a part of the flow ofincome. Income differs from wealth not merely as an aspect but in thegroup of goods which compose it.

In the book o ne m ay search in vain for th e idea that wealth andincome consist of goods of the same kind. It has been withoutcomment abandoned and therewith has been taken away thevery raison d'etre of the contrast between fund and flow. Theoriginal concept was unsound, the new idea is the all important

one.Let us look more closely at the origin and defects of the

original concept. The only applicable definitions of stock that




are found in the two authorities at hand are as follows: TheStandard Dictionary definition (6): "any accumulated store or

reserved supply that may be drawn on at will;" (7) "materialaccumulated or ready for employment." The Century Dictionary,definition (18) reads: "hoard or accumulation; store; supply;fund which may be drawn upon as occasion demands." Thesem eanings accord fairly well with the thou gh t of fund and flow ofthe sam e thin gs , bu t accord ill with a stock of wealth an d a flow ofservices. The stock of wealth of concrete goods is not an ac-cumulation of services nor of incomes to be drawn upon asoccasion demands, or a supply that may be drawn on at will.

Is it not possible for the reader to make a shrewd guess as toone o r two of the causes leading to the e rro r in F isher's originaldefinition? The first is, that he apparently identifies two verydifferent propositions. He is contending for a conception ofcapital tha t includes all existing wealth and not merely prod uc edproductive agents. The proposition that "capital is not anyparticular kind of wealth, but a stock of wealth of any kindexisting at an instant of time," he deems equivalent to theproposition that capital is a fund and income a flow. So long as heheld th e idea that incom e consisted of the same things as capital,it was easy to identify the two thoughts. When later the idea ofsameness of substance was given u p, the definition was retained.

Another contributory cause of this error may be better un-derstoo d after the discussion of incom e and of ratios, but m ay be

referred to now. Fisher began his study of capital

14

with hisattention fixed upon the relations between the inflow and out-flow of concrete goods. Not until the third article 15 do otherrelations take a prominent part. All his illustrations in the firsttwo articles apply to the conception of stocks and flows of thesame goods (not incomes at all, as he later comes to see). Someexamples will make this clear:

Stock relates to a point of time, flow to a stretch of time. Food in thepantry at any instant is capital, the monthly flow of food through thepantry is income.16

Commodities of which a large stock exists are usually commoditieswhose flow s not conspicuous, while in those where the flow s large,




the stock in tu rn is insignificant. Factories, ships and railways illustratethe first class; food, drink, fuel, illuminants, the second. The former

are therefore set down as capital and the latter as income.

17

The stock of carpets in a store is not so closely associated with the flowof interest paid by the merchants in maintaining this stock, or of theprofits earned by its use, as it is with the flow of carpets into and out ofthe store. The distinction between a stock and a flow of the same kind ofgoods is prior to that between a stock of one kind and a flow ofanother.18

Other examples implying the same view are found in the

contrast of rivers and lakes where in fact the water is the same,an d of which F isher says tha t behind the "arbi trary classificationlies the real scientific distinction between 'gallons' and 'gallonsper second.' "1 9 In another illustration of the case of moneyloans, the language used is: "the sum lent being a stock and thesuccession of interest paym ents con stituting a flow." Speaking ofthe wage fund, he says that it should have been looked up on as aflow dependent

not upon the magnitude of the fund, but upon the rate at which it isreplenished. This rate is not a fund at all, but a flow; t bears the samerelation to a fund that a flow of so many gallons per hour does to areservoir holding so many gallons of water.20

At a later poin t, Fisher seems unconsciously criticizing his owndoctrine when he says:

in [most theories of income] the annual supply or consumption of foodand clothing, not their use, is regarded as income. That is, income isconceived as a flow of the first of three kinds distinguished in thisarticle instead of one of the third.21

This is in the last article in which he has come to look uponservices as the only thing deserving the name of income.

Thus in the first article Fisher forms his peculiar concept ofcapital and frames a definition to fit a case which later analysiscompels him to relegate to a non-fundamental place in histheory. B eginning by em phasizing as essential the sam eness, heends by em phasizing the c ontrast, of the things com posing capi-




tal and income.

The instant we include any such concrete wealth under the head ofincome, that instant we begin to confuse capital and income.22

T h e misleading phrase "fund and flow" must be looked up on asa historical accident and one unsuited to the better capitalconcept which Professor Fisher has now adopted.

Another difficulty that will be more clearly seen later in thisreview is that the earlier concept applied to stocks or sums not

expressed in terms of value. The reviewer has, on a previousoccasion, directed a criticism to this point. 23 In the first of theearlier articles, Fisher objected to Clark's definition of value onthe ground that he tried to include different sorts of capitalun de r the same fund, redu ced to a com m on equivalent in term sof value. He ad de d: "the objection is not that the sum m ation ofvalue is inadmissible, bu t tha t it is a secondary op era tion ."24 T hewhole implication is not clear but this much is, that in Fisher's

opinion the value summation is no essential part of the capitalconcep t, and that a summ ation of concrete objects by inventoryor by description of physical qualities, not only is a capital sum,but that it is the prim ary and essential capital sum . In the secondarticle,25 value of wealth and value of property are admitted astwo of the senses of capital, bu t stocks of wealth an d of pro pe rtyas quantities (inventory and description without valuation) aregiven the titles of capital-wealth and capital-property. In the

book these terms are retained but as hardly more than for-malities, for nearly the whole attention is given to the valueconcept of capital. Fisher's own trea tm en t becom es subject to hisown former criticism directed against another, for he includes"different sorts of capital in the same fund, reduced to a com-mon equivalent in terms of value." Capital is still thought of asthe "flash-light picture" of incomes,26 but it is said to be

heterogeneous; it cannot be expressed in a single sum. We can inven-tory the separate columns, but we cannot add them together. Theymay, however, be reduced to a homogeneous mass by considering nottheir kinds and quantities, but their values. And this value of any stock




of wealth is also called capital Unless it is otherwise specified, theterm capital will be understood in this sense.

This brings the treatment pretty nearly in harmony with thecriticism to the effect that "the total quantity of many differentkinds of goods cannot be expressed for economic purposes in asingle sum, except in term s of value."27 That this is a good andnecessary change is unquestioned, but that it shifts Fisher'sconcept from its original basis is no less certain.

The nature of income.—Fisher's income concept has un derg on e

a change no less radical and beneficial than has his capitalconcept. Three stages can be pretty clearly distinguished. First,income is conceived of as the flow of the same concrete com-modities which make up the fund of wealth, as seen in theexamples given above. "The monthly flow of food through thepantry is income."28 It is because he thus thinks of wealth as"used for both capital and income"29 that Fisher framed hisconcept as he did. He criticized Marshall for conceiving of

"income as a flow of pleasure rather than of goods." Quite asstrongly he criticized Cannan:

Like Marshall, Cannan seems to conceive of income as a flow ofpleasure, but capital as a stock of things; and thus, in spite of the clearstatement of the time distinction between them, this distinction is notregarded as fully adequate, and there persists a trace of some addi-tional distinction between the substances of which capital and incomeare composed.30

No hint of any other view appears in the first article.In the second article in distinguishing between wealth and

property, a different thought is suggested of the services ofwealth, i. e., the desirable events it occasions. A footnote refers toseveral writers who have discussed this subject. The thought liesnear that these services are the income of the wealth; but nostatem ent to tha t effect is m ade . N ear the end of the third article,these services suddenly a re pre sen ted, not only as incom e, bu t asthe only income. Th e last problem treate d in the article, that "ofincome and its distribution,"31 begins:




In some respects, the third group of relations, those between stocksof wealth and the flow of services they render is the most important and

fundamental of all. . . . . The value of the services we shall call theincome from the wealth Textbooks now usually point out that a"part" of income consists of services of man and uses of durable wealth.I propose to go a step further and show that all income consists ofservices.32

T h e services cease in this view to be tangible thin gs of the na tu reof wealth.

Every article of wealth is to be pictured as simply the tangible andvisible handle to hold fast invisible streamers or filaments of servicesreaching into the future.33

In the book this is in the main the notion of income presented:

Th e only true method, in our view, is to regard uniformly as incomethe service of a dwelling to its owner (shelter, money or rental).34

The belief is implied that this sum of money-rentals and enjoy-able services is a homogeneous income because it all consists ofservices to the owner.35 This is a complex of contractual moneyincomes and economic services of goods to men. This summa-tion of heterogeneous elements, direct services from goods andm oney p aym ents by m en in exchan ge for services of goo ds, is nota satisfactory solution of the problem, but it is "the solutionoffered in the presen t book" as a hom ogeneo us expression of the

real income concept.36

Fisher is no t satisfied with this himself, an d in the third stage ofhis concept he is led to the "psychic stream of events as finalincome."37 The income of enjoyable objective services leads upto subjective satisfactions. He says: "it is usually recognized byeconomists that we must not stop at the stage of this objectiveincome. T he re is one m ore step before the process is com plete."He then defines subjective income "as the stream of con-

sciousness of any human being," 38 or "simply one's wholeconscious life."39 Does this no t go a bit too far in th e w iden ing ofthe concept, and ou gh t it not to be limited to certain of th e states




th e origin of F isher's do ctrine tha t increase of capital value is no tincome.48 T h e doc trine in brief is tha t the increase of capital as it

grows in value, as for ex am ple between two interest paym ents, isnot income when both capital and increase are reckon ed in term sof m oney. If a forest, wo rth $2 0,000 ten years ago , is now worth$32,000, the inc rem ent of $12,000 may be cou nted as capital butnot as income during that period.49 Fisher would not speak ofincome until the wood is cut and sold, and insists upon thedistinction "between income that is realized by the investor andincome which is earn ed by the capital."50 Th is implies some idea

of a kind of income that does not come to any person. He goeson:

Realized income is the value of the actual services secured from thecapital; earned income is found by adding to realized income theincrease of capital value, or deducting from it the decrease.51 Ex-pressed in a single sentence, the general principle connecting realizedand earned income is that they differ by the appreciation or deprecia-tion of capital.52

It is venturesome to question mathematical examples whenpre sen ted by Professor Fisher, bu t these seem quite m isleading.He says the truth of the doctrine "is evident from the fact thatthis item is never d iscoun ted in m aking up capital value."53 Thisexample follows:

Suppose, for instance, with interest at 4 per cent., that a man buys an

annuity of $4 a year, which does not begin at once but is deferred oneyear. Since this annuity will be worth $100 one year hence, its presentvalue will be about $96, which, during the ensuing year, will graduallyincrease to $100. If this increase of value of (about) $4 is itself to becalled income, it should be discounted. But this is absurd. The dis-counted value of $4 would be $3.85, which, if added to the $96, wouldrequire $99.85, or practically the same as a year later instead of $4 lessas is actually the case. In other words, the hypothesis which counts anincrease of value as income is self-destructive; for if the increment is

income, it must be discounted, but, if discounted, it is practicallyabolished.

It would indeed be absurd to discount the income a second




time and add it to the capital value, for it has already beendiscounted and ad ded to the capital sum . If it had not been, th e

capital sum would be the discoun ted value of an ann uity to begintwo years hence, which would be abou t $3.85 less tha n $96 . Andso every successive annuity has been included to arrive at thecapital sum. Of course it would be an error to count it first asincrease of capital and then as an additional sum of income themoment it becomes payable. But take away this increase of thecapital value during the year and you take away the income,which is nothing but the increment in capital value detached at

certain conven tional points and put at the disposal of the o wner.Does not the thought shift in this example from the stage ofmoney income to the stage of enjoyable income? Yet Fisher isdiscussing money income and deems the income to be realizedwhenever the money is paid to the owner of the capital. In themerely monetary aspect of the question, there is as yet no en-joym ent, b ut in a developed money m arket the capital value ofthe annuity would be salable any day for a sum including the

accrued income. On the other hand, the annuity at the expira`tion of the year may be money income not expended forgratifications, but reinvested in other future incomes. Theincrem ent of money income in any elapsed year is the refo re theprimary fact, and increase of capital occurs only on conditionthat the accrued money income is not withdrawn but is adde d byreinvestment, or is saved.

The same difficult doctrine is set forth in an elaborate illust-

ration in which thre e brothe rs are sup posed to be subjected to anincome tax. Each supposed ly inhe riting $1 0,000, the first investsthe sum in a perpetual annuity of $500; the second puts his intrus t to be invested in an ann uity of $1,000 after fourteen yearswhen the capital has doub led; the third , a spendthrift, buys anannuity of nearly $2,000 for six years.54 In Fisher's view, the$500, the $1,000 and the $2,000 are the true realized incomes,which alone should be taxed un de r income taxation. T he second

bro ther should be taxed on n othin g until after fourteen years, asuntil then he would be spending nothing, and the third brotherwould be taxed du rin g his brief spendth rift c aree r on an income




of $2,000, the amount he is spending. The argument is sub-stantially that a tax on expenditures is more equitable and

exp edie nt than e ither a tax on the ann ual ne t increase of capitalin the owner's hands (the usual ideal of an income tax), or a taxon capital value (the general property tax). The general ar-gument as to the virtues of consumption taxes is frequentlymade, but if true it hardly supports the proposition Fisher isadvancing. T he re is no pretense that the ordina ry income tax is aconsumption tax; it is frankly, however crudely, a tax on netearnings which are at the disposition of the taxpayer either to

save or to spend without encroaching upon his other capital.Where, therefore, is the fallacy to which reference is made? 55

There is no pretense that the general property tax is a con-sumption tax; its ideal is frankly the taxation of all propertyrights in pro po rtion to their pre sent capitalized value. T h e d ou-ble taxation and injustice too frequently found in its practice iscaused by bad administration and by bad reasoning of quite adifferent nature.

In this illustration "true realized income" is used in the senseof the am ou nt of money exp end ed for enjoyment, w hether it istaken from the current earnings of capital or from the originalcapital sum invested. According to this usage income is nevermoney com ing in but always money going out. Inco m e is not anaddition but always a subtraction. The confusion betweenmoney income and subjective income could no t be m ore evident.

No m ore convincing are the o the r illustrations. In the case ofthe vacant land rising in value,56 it is not necessary to wait untilthe land is built on and en joyed, for it is money incom e tha t is tobe calculated and that is realized in every resale of the land. Isthis not a "p ro per place" at which m oney income can logically beestimated? According to the view taken 57 the exemption fromtaxation of forests in Europe, cited as a "more rational system"due to longer experience and to a recognition that the growingforest should not be treated as income, is not, it is safe to say,based upon the reason assigned by Fisher. It is simply a socialexpedient, a conscious subsidizing of forestry, because forestsm ore than most oth er wealth in the hands of individuals confer




broad social benefits upon others than the owner.Another minor point in this connection. The treatment of

money income is out of harmony with the conception and def-inition of incom e as a flow. Capital is repeatedly spoken of as "forthe p resent yielding no income;" 58 there are long periods "dur-ing which no income is realized;" 5 9 in annual contractualpaym ents of interest or an nu ities, it is said that "du ring the en tireyear u p to the very end the re is no incom e at all."60 Income thusis treated not as a flow but as a num be r of sums of money du e atdefinite though perhaps very irregularly distributed points of

time.The relations between capital and income.—Coming to the

examination in detail of the relations between capital andincome, F isher p resents "th e four income-capital ratios," capitalbeing called a stock of wealth or of p rop erty and being expre ssedeith er in physical term s or in value.61 These four "ratios" are: (1)physical produc tivity, (2) value productivity, (3) physical r et u rn ,(4) value retu rn . "T he ratio of the quantity of services per u nit of

time to th e quantity of capital which yields those services may becalled physical productivity." These quantities are expressedphysically as acres, as bushels, not as values. The first difficultyhere is that a large part of the services yielded by goods is notphysical, and in such cases and in so far there is not physicalproductivity. T h e examples chance to be chosen w here th ere issome (wheat from acres, cloth from looms). But the seconddifficulty is tha t it is not possible to ascribe to a par ticula r piece of"capital" in a physical sense the whole product which is at thesame time and in the same sense the product of labor and ofoth er pieces of "capital," such as the bu ilding, the lan d, etc. Thisphysical productivity is not a measurable thing which can becompared with the physical pieces of "capital."62 Not until valuehas been imputed to it can it be so compared, and that is thefourth ratio.

T he se objections do not apply to the third ratio called "physi-cal re tu rn " (bushels per $100 of capital applied), for he re it is notthe whole product but the part imputed by marginal meas-urement that seems to be considered. The second ratio is the




"value productivity" (dollars rent per acre or per dwelling, andwages per laborer). The fatal objection lies to all three of these

so-called ratios tha t they are no t ratios. W ith some diffidence thepoint must be raised that ratio in mathematics implies the rela-tion between two numbers or magnitudes of the same kind.T he re may be a "rate" described as dollars pe r acre pe r year, butnot a "ratio," for that m ust be a num erical relation betw een twoquan tities of similar dim ensions. No wo nder that after only thre epages of form al definitions this statem ent is m ad e: "in this bookwe are concerned chiefly with the fourth relation, value return,

or th e ratio of the value of incom e to the value of capital."63 Mostof what has preceded and all of what follows pertains to thisvalue ratio, which is the essential feature of the capital concept,tho ug h a different idea is embo died in Fisher's definition, as hasbeen indicated above. The author as he proceeds comes torecognize that no oth er subject is eng agin g his atten tion . At theconclusion of the part on the relations between capital andincome, he says: "we have finished our study of the relationsbetween capital-value an d income-value."64 "Our special themehas been the value return — the relations between income-valueand capital-value."65 Still m ore significant is the last page but oneof the text.

It is to the relation between capital and income in the value sense thatour attention throughout this book has been chiefly devoted. It hasbeen noted that the relation between capital and income, taken in the

value sense, is profoundly different from the relation between capitaland income when either or both are measured in their various indi-vidual units. When capital and value are measured as "quantities,"capital may be said to produce income; but when they are measured in"values," we find that it is necessary to reverse this statement, and to saythat income produces capital.66

In this it appears that the rejected stone has become theheadston e of the corner . Th is profound difference between capitaland wealth comes very near being recognized as the essence ofthe capital concept. But the tho ug ht halts short of the inevitableconclusion that the wealth aspect of value is to be found in the




prod uctio n of incomes, whereas th e essential capital aspect is theevaluation of incomes and the expression of their pre sen t w orth.

Fisher early com m itted himself to a conception of capital that hasdimmed this distinction, from which conception criticism has asyet only partially freed him.

Relation to contemporary speculation.—With these exceptions thiswork presents the modern capitalization theory with an in-vigorating air of practicality. There is no worship of the oldfetiches, such as artificially produced or as hypotheticallyunim prov ed agen ts. T h e re is no illusion that the income of land

bears a peculiar relation to price, or that the influence of timeup on value is limited to some classes of prod uc ed agents . Capitalis treated as the present worth of expected incomes, and theessence of the capital problem is found in the value relationsbetween incomes and capital sums. Professor Fisher here showsthat this problem has now, by the aid of the new value concept ofcapi ta l , been brought wi th in the range of log ical andmathematical treatment and of the usages of business. As

Professor Fisher's suggestive articles ten years ago helped toattract attentio n to this subject an d to presen t the issues involved,so this rip er a nd weightier co ntribution will he lp to tip finally thescales of judgment. A book not appealing directly to a largeaudience, it will be carefully read by the critical few, and itsinfluence will spread with the new conception of distribution toever-widening circles of thought.

Every au th or draw s his inspira tion from sources of which he is

rarely quite conscious. Fisher's mathem atical interest led him toascribe to the mathematician Simon Newcomb the paternity ofhis origina l concep tion of capital and incom e as fund an d flow ofthe same g oods, altho ugh his account of the influence shows thatit was only a phrase caught from a quite different connection,and that it was not in ten ded by Newcomb to have attached to itthe thought that Fisher gave it.

Newcomb applied his distinction only to problems of monetarycirculation Intent on elucidating questions of monetary circu-lation, Newcomb failed to see that the same conception would clear up




questions of capital The fact that the author of the distinctionbetween stock and flow did not apply it to capital, and the fact that also

Professor Marshall, who was quick to see the importance of Newcomb'sdistinction, did not so apply it, have often caused serious doubts in myown mind as to the propriety of that application.67

There was indeed occasion for serious doubt. Fisher did notnote that because Newcomb's use of it was confined to m one taryproblems the funds and flows were expressible in hom oge neousuni ts of value, whereas Fisher extended the thought to

heterogeneous masses of agents and their incomes, even whennot expressible in value units, and insisted that the concept ofcapital be not limited to funds expressed or m easure d in term s ofvalue. All the d evelop m ent of the concept since has been awayfrom Fisher's original idea toward a conception derived fromother sources.

So quickly have the soun de r an d tested fruits of the studies ofPatten and Clark been appropriated, so thoroughly have they

becom e a part of ou r tho ug ht, that they now seem simple truth s.Many rem em be r the stimulus they found in Patten's analysis ofthe ideals, tastes, and economic nature of man. How rev-olutionary was the thought that life, aspirations, and effortwere the center of economic study rather than acres, clay, andi ron. Under the inf luence of a theory of consumpt ion,economics has changed from a study of the physical sources ofwealth to a psychological science. The novel of yesterday has

become the commonplace of today.A score of years ago Clark reo pe ne d the question of the capitalconcept by challenging the usual classification of capital andland, of rent and interest. His thought so traversed the con-ventional definitions an d conceptions that for years it foun d fewdisciples, yet its fault was rather that it changed the old view toolittle tha n too m uc h. Slowly the new tho ug ht became familiar as itwas pre sen ted in its different aspects; the difficulties of the olde r

view became more evident; while here and there the new ideabore fruit in comment or critical essay that clarified details orshowed new applications to practical problems.




Among such essays showing the awakened interest in thecon cep t of capital must be classed the articles from Professor

Fisher's hand s ten years ago . T h e p resen t work is an evidence ofthe growing part now played in economic theory by thepsychological analysis and of the development that the capitalconcept has und ergo ne of late. Fisher's presen t views are in somereg ard s th e logical outco m e of the rece nt psychological studies ineconomics, and in other regards, of the Clarkian protest againstthe old classification of economic factors. The relation tothe latter is probably more close and direct than Fisher has

recognized.How ever it may be as to the particula r influences, F isher in hislater thinking has probably been more affected by the spirit ofhis times tha n his citation of authorities would ind icate. Ou tlin-ing his conceptions of capital and income with little consciousreliance upo n co ntem porary speculation, and guided largely bya mathem atical analogy, he has been forced as he developed thethought to take account more and more of the conclusions

reached by oth ers . His first articles had, as he later fou nd, beento a considerable exten t anticipated.68 The capital concept of afund of concrete wealth changes beyond recognition into avaluation or present worth of rights to future incomes. Theincome concept of a flow of the same goods that compose theflow of wealth is tran sform ed into the at-first-rejected tho ug ht ofpsychic gratifications. The four capital-income ratios shrink inthe course of the treatm ent to one , and that the very one whose

ch aracte r as capital he at first m ost do ub ted. Yet he still believestha t the whole book is "only the elaboration of the ideas outlinedsome years ago in the Economic Journal."69 His treatment con-tinues to labor under the incubus of the original erroneousdefinitions and of the original impossible fourfold hyphenatedterminology, compelling us to talk of wealth-capital, property-capital, etc.

These are perhaps but the inevitable penalties of a certain

isolation in Fisher's capital theory. He began the analysis andreconstruction of the capital concept as if it were a task apartfrom the the ory of distribution as a whole. Be ginnin g with th eø




priori mathematical concept of stock and flow, he tried to em-

brace under it all the forms and the whole problem of wealth. A

large part of this is prior to, and a necessary condition of, atheory of capital, which is peculiarly the time aspect of value. His

study as it has advanced has led to the incidental consideration of

difficulties which demanded systematic and fundamental

treatment. The capital theory presented has therefore a certain

character of intellectual aloofness that leaves it out of touch with

the larger theory of distribution of which it should be but one

part. Much of what is best in the present work is thus somewhat

belated, keeping the plane of the discussions of a decade ago andlacking that sense of unity and co-ordination in the theory of

distribution which of late has been increasingly felt and ex-

pressed.

These criticisms are offered to center attention upon the

points most controverted, and to give the perspective in which

the work should be viewed. The work as a whole has a marked

significance. It puts into convincing form some important

disputed conceptions, and it must rank among the memorablecontributions made by Americans to economic study.

NOTES

1. The Nature ofCapital and Income, by Irving Fisher, Ph.D., Profes-sor of Political Economy, Yale University. Pp. xxi+427. New York: The

Macmillan Co., 1906.2. The Nature of Capital and Income, p. 52.3. Op. cit., p. 52. T h e italics in all the q uotations in this review follow

exactly the original texts.4. Op. cit., pp. 58, 324, et passim.5. "What is Capital?" Economic Journal, Vol. VI (1896), p. 514.6. Ibid., p. 514.7. Ibid., p. 516.8. Ibid., p. 527.

9. hoc. c it., p. 528.10. Ibid., p. 533.11. Ibid., p. 534.12. Ibid., Vol. VII, p . 199. So desirous was the au tho r to emph asize




40. Fetter, The Principles ofEconomics, p. 43 (1904).

41. Nature ofCapital and Income, p. 177.

42. Ibid., p. 176.43. Ibid., p. 177.44. Ibid., p. 149.

45. Ibid., p. 326.

46. ƒtøtf., p. 232.47. Chap, xiv, passim, especially p. 250.48. It first appeared in criticizing Edwin Cannan, Economic Journal,

Vol. VII, p. 532.49. Op. cit.,p. 232.

50. Ibid., p. 234.51. Op. cit., p. 234.52. Ibid., p. 238.53. Ibid., p. 248.

54. /W.,p. 249.55. 7tó ,p . 253.56. 0/?. cit., p. 230.57. ƒtóf., p. 177.58. Ibid., p. 230.

59./W.,p. 232.

60 . ƒ¿>¿¿,p. 235.61. Ibid., p. 184.62. In these cases the word "wealth" would be more fitting than the

word "capital."63. Op. cit, p. 188.64. Ibid., p. 303.65. Ibid.66. Ibid., p. 327. See also above, p. 99, where is shown Fisher's

change from this earlier thought to the value concept.

67 . Economic Journal, Vol. VI, p. 526.68. Economic Journal, Vol. VII, p. 511, note.69. Nature of Capital and Income, Preface, p. viii.



Are Savings Income?—Discussion

W e are discussing a question o f terminology but not a question

"merely" of terminology. In "the bright lexicon" of the newer

economic criticism there is no such word as "merely" in appli-

cation to questions of terminology. Against such a word the

literature of economic thought gives many warnings in the fal-

lacies resulting from am biguity of term s. "Merely" termin ologi-

cal differences soon appear in the form of real and practical

differences w hen am biguou s terms are applied in the discussion

of practical questions. Even in this case Professor Fisher has

promptly deduced from his peculiar concept of income some

peculiar conclusion s as to the justice o f certain form s o f taxa tion;

an d at a time w he n eco no m ic theo ry and financial practice alike

are leading to the taxation of the unearned increment on land

held for spec ulation, Professor Fisher is led to co nd em n both this

theory and this practice.

Professor Fisher confesses that his conception is opposed to

the usual view of economists , of business men, and of account-

ants, and that therefore the burden of proof rests upon him.

More than that, his denial that additions to capital are moneyincome is a paradox of the sort that economics is now generally

rejecting. It is just such a paradox as that "rent does not enter

Reprinted from American Economic Association, Pap ers and Discussionsof the Twentieth Annual Meeting 9 (April 1908). These remarks refer toand follow an article by Irving Fisher entitled "Are Savings Income?"(ibid., pp . 21-47). In his discussion Fetter criticizes Fisher's figure 2 (see

ibid., pp. 40-41) for confusing pyschic and nominal income bymeasuring them on the same axis. Other discussants were W inthrop M.

Daniels (ibid., pp. 48-51), A. W. Flux (ibid., pp. 55-56), John FranklinCrowell (ibid., p. 57) and Maurice H. Robinson (ibid., p. 57-58).

114



Are Savings Income?-Discussion 115

into price," or that "savings are at once consumed," or that"demand for commodities is not demand for labor"—such

parad oxe s, once considered to be the quintessence of economicwisdom, are now, by economic criticism, being relega ted to thelumber room.

The very title of Professor Fisher's paper presents a ter-minological question, and is misleading. The subject is not som uch "A re savings incom e?" as, Is an in crem ent in the value ofcapital in a given period to be considered money income?Whether or not that increment of capital, when it is at thedisposal of the owner, will be saved or spent is a later questionand not involved in our present inquiry. Our question and ourattention may be confined to the period w ithin which the incomeaccrues and matures. Professor Fisher's critics contend for thealmost universal business usage of the term income as an in-crement of business power expressed in money value. What isthe kind of income here u n de r discussion? Th e term "income,"rightly or wrongly, is applied to two (indeed, several) differentthings. We contend that the question h ere is of money income,whereas Professor F isher has his attention fixed upon a differentkind, nam ely, psychic incom e. He apparen tly agre es that capitalas a business conce pt is the anticipated value or pres en t wo rth offuture psychic incomes. And he therefore concludes that in theperiod of its acquisition this capital is not money income to itsowner. This is a non-sequitur.

In Professor Fisher's paper is meant by income evidentlypsychic incom e or value of the gratification. H e prese nts us witha diagram which depicts the larger part of the argument in hispap er. B ut what do those lines mean? I n themselves they are bu tchalk m arks. T h e lines a, b, c, d, and e in his diagram representthe income when it is detached an d con verted into enjoyment,w he n, in so far, the capital ceases to be capital, an d is convertedinto a present realized psychic result. At that moment the line

does not represent a monetary income, but a monetary outgo.He is looking at the end and ultimate goal of the valuationprocess, whereas the business man is estimating the objectiveincome, the money value accruing in the period, regardless of




whether that money will in the next period be saved or con-sumptively spent.

The chief reliance of Professor Fisher in his rejection ofcommon practice and common judgment is undoubtedly hisbelief that the increments of capital value of future periods arenot discounted from the present moment as is the psychicincom e. It may be said that th e question is not as to the discount-ing of future incomes, bu t as to the view to be taken an d th e termto be used in reference to past and prese nt increm ents of value.H e says that the inc rem ent of value u p to date is not incom e. W e

say tha t it is, an d, of cou rse, if it is saved, no t spent, an d is ad de dto capital, it will continue to contribute its portion to the sub-sequent increments of capital. It is this estimate up to date in anyaccumulative period that is in question here. Treating the pastincrements of capital as income simply recognizes the incre-ments that have accrued to the moment.

But the capital sums of an accumulating capital, taken atdifferent points of time, are the actuarial equivalent one ofanother, when viewed from the present moment. The moneyincome at the moment it occurs is the actuarial equivalent of alater larg er m oney incom e that will result from th e saving of thepresen t m onetary incom e. W ith this thou gh t in mind it is evidentthat the incomes a, b, c, d, e of the diagram can be treated as Prof.

Fisher treats them only on condition that they be consumptivelyused; in oth er w ords, that they be conve rted at that m om ent intopsychic incom e. If they are k ept by the ow ner an d used norm allyand rationally, they accumulate in the hands of the owner. IfProfessor Fisher transfers them to another capital account atthat mom ent, it is simply concealing benea th a new bookk eepingen try a source of add itional incom e for the future . If, the refo re,incomes e, d, etc., are n ot detached from the owner's capital, bu tmerely given anoth er entry in the accounts, the curve N n wouldbe extended toward the right and upward. The money incomeof the earlier periods, being saved and ad de d to the capital sum,becom e themselves the source of new increm ents of value in th esucceeding period. And this shows again that the detachedincomes of which Professor Fisher speaks, must be not money



Are Savings Income?-Discussion 117

incomes, but m oney outgoes, consumptive exp end iture of a partof the capital value.

Indeed, there is here seen a difference between ProfessorFisher's mode of conceiving of the problem of income and them ode in business calculations. Professor Fisher is thinking of theincom e as subjective; business deals with incom e as objective o ras objectively ex pressed. Professor Fisher think s of the incom e asoccu rring only when it is detach ed from the capital, a conceptiontrue at the moment of monetary expenditure and psychicincome. Business thinks of the income for the most part as

occurring w hen it is attached to the ow ner's capital, a concep tiontrue of the monetary income. These two conceptions haveperhaps the relation that Professor Fisher elsewhere calls aninteraction. Business practice, the logic of which we are de-fending, treats the income as occurring within the given periodin which it either attaches or is enjoyed as usufruct. When apo rtion of the capital is spent for g ratification, th at m uch moneyvalue is detached and becomes psychic income.

It must be recognized that the capitalistic estimate and ex-pression of incomes is not an ultimate psychological analysis ofthe problem of value. It is an estimate of income in objectiveterms, bu t an es timate at once logical in its place and indispensa -ble in practice,—a statement probably true of the whole "cost ofproduction" conception when rightly limited and understood.Professor Fisher's use of terms flies in the face of usage. Whilethinking of the income as detached value, he ignores the sig-nificance of the present and past attached value. Once a disbe-liever in psychic income, he now, with the zeal of an apostate,becomes intolerant of any other conception even when mone-tary income is the subject u nder discussion. Is a thou san d dollarsin money received as a gift no t an incom e when it is received? Is aten-thousand-dollar estate received by legacy not an income tothe beneficiary? Is a hundred dollars earned within this monthby personal service not incom e because it is not yet enjoym ent? Isthe hundred dollars interest received from a mortgage or thehundre d dollars renta l received from a farm not income? T o allthese receipts Professor Fisher must deny the name of income



Clark's Reformulation ofthe Capital Concept

1. STATEMENT OF CLARK'S DOC TRINE

The eightieth anniversary of the birth of John Bates Clark,ou r h on ore d m aster in social philosophy, calls renewed attentionto those econom ic issues in the discussion of which h e has h ad amost vital part.

As a humble contribution to the volume which his felloweconom ists he re brin g as token of their reg ard , I would essay toreview C lark's reform ulation of the capital conc ept, and to trace

its con tinuing influence up on economic opinion. N o one can saywhat its total effect ultimately will be, but we may now form somejudgment of its logic and of its aptness in practical discussion,and of the m easure of acceptance which it has u p to the presen tattained in America and England.

It is almost forty years since the publication of Clark's mono-graph entitled Capital and Its Earnings. * Hardly larger than amagazine article (merely 61 pages of text) it is yet one of the

important milestones in the history of American economicthe ory , an d likewise mark s significantly new intere sts and a newstage of developm ent in Clark's own th ou gh t. H e was the n in hisforty-second year and had, since the age of thirty, been con-tributing toward "the reformulating of certain leading princi-ples of economic science," th ro ug h occasional m agazine articles.Th ese w ere "repub lished with varying amo unts of revision andthe discussion extended" in his first book, The Philosophy of

Reprinted from Jacob H . Hollander, ed., Economic Essays Contributed inHonor ofJohn Bates Clark (New York: Macmillan Co., 1927).

119




Wealth, in 1885. W hile the wo rk of tha t deca de shows Clark to be ,in his own words , "in revolt against th e spirit of the o ld political

economy," unsatisfied with its "defective" premises and its"de grad ed conception" of hu m an na tur e (mere selfishness), anddisco ntented w ith the actual relation of "capital" (the em ployingclass) with "labor" (the wage earning class), it gives no hint orwarning of the author's purpose to replace with a new concep-tion the con ventional notion of capital as an econom ic factor ofproduction. That came in 1888 seemingly out of a clear sky.

Le t us first re state , as briefly as we can, ju st w hat the tho ug ht

was, an d th en seek to accoun t for its appea rance at that time. T h emore essential points in which Clark departed from the thenprevalent views of capital may be reduced to five. He said:

(a) T h e conven tional capital concept is ambiguous, meaningboth "pure" capital and concrete "capital goods."

(b) "P ure capital" is a fund of value.(c) Land in all its forms is a pa rt of concrete capital.

(d) All conc rete goods yield rent s.(e) All pu re capital yields inte res t.

(a) Clark declared that economic science had and was usingtwo unlike conceptions of capital, while believing that it had bu tone. Hence ambiguity, confusion, "logomachies." Clark wouldfrankly accept bo th concepts, clarify them , an d distinguish themby somewhat different names. One is the abstract, the other is

the con crete concept. T h e abstract conception, paradoxically, isthe one "employed in business a hundred times where theconcrete conception is employed once";2 whereas "the actualpractice of economic science has been to first define capital in theconcrete, and then, in the problems connected with it, to tacitlysubstitute again and again the abstract conception."

(b) Clark calls capital in the abstract sense "p ur e capital," whichis a "fun d," a "single entity" comm on to all the co ncrete forms ofcap ital. Thi s fund or entity is expressly decla red to be "effectivesocial utility," but this mysterious notion is repeatedly spoken ofmore simply though somewhat puzzlingly as "the value that a



Clark's ReformuL·tion of the Capital Concept 121

business man invests" in the various instruments and materialshe uses. This is the value conception of capital in contrast with

the concrete goods conception as defined by the conventionaldefinition of the older political economy.(c) Clark classed as concrete capital not merely the artificial,

humanly "produced means of production," but all instrumentsand materials, including land and all other natural agents.

(d) Clark correspondingly widened the meaning and appli-cation of the term rent beyond that of the orthodox Englisheconomics, mak ing it apply to the "sums earn ed by outw ard and

m aterial instrum ents of pro du ction" of any and every kind, i.e.,the earnings of concrete capital. The rent law is universal.

(e) Clark called th e earn ings of " pu re cap ital" interest, and heconceived of this as re n t (value) exp ressed as a perce ntage of thevalue of the abstract capital. Thus interest, as Clark wished toexpress it, did not consist of uses, yields, earnings, or incomesother than those composing rents, but simply was rent, ex-pressed as a price in relation to the price of the instrum ents tha t

embody the fund.T ha t these ideas app eare d at that time to be radical novelties in

American and English economic theory, is evident. The vigorand incisiveness of their statement helped them to commandimmediate attention even from those who were not ready toaccept them as true. It must have been obvious that their ac-ceptanc e would involve sweeping chang es in the structure of thethen accepted theory of distribution, with its sharp divisionbetween (natural) land and (artificial) capital as factors ofpro du ction , and between ren t (of land) an d interest (on capital)as forms of "earn ings" or incom es. Clark himself began at onceto shap e and build a struc ture of distributive theory bu t faintlyforecast in his earlier essays, and increasingly to this day theseideas have exercised an influence upon theoretical opinion.

2. POSSIBLE SOURCES; THE AMERICAN TRADITIONIdeas departing so far from prevalent opinion rarely if ever

spring as pure inventions of the moment from one mind. Nor




does a change in the content and direction of an individual'sthou ght, as marke d as that of Clark at that time, occur w ithout

some influence from other thinkers or from environing con-dition s. Bu t to trace such influences to their sources seems, in thecase of Clark, at first unusually difficult. His literary style isdidactic rather than polemical, and his thought seems to movealong positive lines hardly at all conscious either of hisforerunners or of hostile opinions, once he has formulated hisown views. His writings give slight internal evidence of thesources of his thought. In the monograph in question the only

references to the opinions of others are in minor matters, inth ree cases dissenting (from Rica rdo, J . S. Mill an d SydneyWebb) and in three approving (A. Smith, S. N. Patten, andClark's co-worker, Giddings). T h e sources or the starting p ointsof Clark's own thought must be sought more widely in thecircumstances of his life and of his surroundings.

T h e first possibility mig ht seem to be close at han d in the factthat Clark was an American. A scholarly study has recently

shown3

that with few exceptions writers on economics in theUnited States from Raym ond in 1820 to Perry in 1877 (includingPhillips, W ayland, V ethake, M. Wilson, Cardoza, T uck er, Carey,an d A masa W alker) defined capital as privately owned means ofproduction, emphasized its valuation or price aspect, and in-cluded land among the concrete goods in which this value wasembodied. Some of the exceptions serve to prove the rule, forthese exceptions were men of English training or faithful dis-

ciples drawing their ideas directly from Ricardian text books.Such unorthodox views arose naturally in America where werelacking the artificial feuda l limitations upon the sale of land, a ndwhere landholders were not marked off socially from capitalistm erchants as a separate class. H ere land was readily bough t andsold and was from the earliest settlement the chief object ofinvestment with a view to speculative profit. This environmenthad prompted one American writer after another (apparently

without mutual influence) to develop conceptions radicallydifferent from those of th e English school. It m igh t have likewiseprom pte d Clark quite inde pend ently to his very similar thou gh t.



124 Capital Interest, and Rent

influence of the ideas of the historical school and of theeconomic-ethical doctrines then current in Germany. Knies

himself had published in 1873 Das Geld subtitled also "a discus-sion of capital"; a second, enlarged edition of this was dated1885. In this work ap pears a conception of capital strikingly likethe on e of Clark which we are exam ining. This conception hadbecome traditional in Germ an economics after th e original workof Professor F. B. W. Hermann 4 first began to exercise an in-fluence upon German thought. Hermann based his capitalconcept on property,—though it cannot be said that he suc-

ceeded in clearly distinguishing the thought of the value ofproperty from the thought of the concrete goods. He includednot only land within the concept of capital, but also immaterialgoods or legal rights to income, even though the claims wereup on perso ns and to services, an d n ot to material goods. Proba-bly the greatest change made by Hermann was to extend thedefinition of capital beyond artificial, produced, goods and toinclude as capital anything (or at least its value) that is the

durable foundation of a use that has value.Very similar ideas were developed by Carl Rodbertus in thethirties and forties, most significant because of the great influ-ence they exercised upon later thinkers in the period of de-veloping German state socialism after 1870. Especially AdolfWagner acknowledged his profound indebtedness to Rod-bertus.5 To Wagner is due the much wider circulation and in-fluence in the last quarter of a century of these ideas which he

restated and endorsed.6 Wagner credits Rodbertus with "theessential distinction between capital in the purely economicsense as any stock of material agents and means of production,an d capital in the historico-legal sense as capital-possessions." Hecites the statem ent of Knies that political econom y uses capital intwo senses, as concrete means of production, and as a stock ofgoods acqu ired by an ow ner. Both W agner and Knies recognizethe double meaning of capital as a tool in economic processes

(technological sense) and as a source of private income (ac-quisitive sense), the distinction on which so muc h of the tho ug htof Tho rste in Veblen as well as of Karl M arx, seems to have been



CL·rk's Reformulation of the Capital Concept 125

based. When Knies says approvingly that what has been calledcapital is "fundamentally nothing but a mere abstraction," 7 theexpression m ight be the original of C lark's "entity," "this abstractconception of capital."8

Clark, in commo n with all oth er Am ericans pu rsuin g grad uateeconomic studies in Germany, must have become familiar withthese ideas. Yet why did no trace of them ever appear in thewritings of othe r studen ts retu rn ing from Germ any, or even inClark's writings, until 1888? Is not the exp lanation to be found in

the fact that Am ericans went abro ad with m inds already cast inthe mold of the Ricardian-Mill "orthodox" scheme of distribu-tive theory, and these concepts persisted. It was possible forthese students to acquire a zeal for displacing (or for supple-m enting) deductive m ethods with historical studies, and in favorof state activity vs. laissez-faire, without any essential change inthe old conceptions of the economic factors and shares in dis-tribu tion. T his is well illustrated by H . C. Adam s, R. T . Ely, an d

many others besides Clark. The more difficult question toanswer is: Why did Clark ever, and why did he alone, breakthrough this crust of conventional ideas, and in 1888 advancethe views, received as complete novelties, with which hisname has ever since been linked.

The important eras of human thought, we are assured byph ilosophers, rarely, if ever, are initiated by entirely new ideas,but by the rediscovery and restatement of old ones. Therein

consists the more effective originality. It has been said, perhapsextremely, that the first time a new thought is expressed or aninvention is m ade, the world simply pays no attention to it. Notuntil it is repeated independently and rediscovered a hundredtimes, and then only under peculiarly favoring conditions, doesthe world look up and say: yes, there is something in it, butnothing original—indeed it is very old. Until the world hasreceived an idea in this way, its rediscovery for the hundredth

time is as original as its discovery the first time, and its mererestatem ent by on e aw are of its earlier origin a nd rejection, calls,for that very reason , for as grea t vigor of thou gh t, and for faithand conviction.




4. EFFECTS OF THE SINGLE TAX AGITATION

T h e probable source from which im m ediate stim ulation cameto Clark was the contemporary single tax discussion. Started in1879 by the publication of H enry George's book on Progress andPoverty, it gained within a few years the most remarkable voguein pop ular interest. It attracted at once the attention of leadingeconomists. Professor W. G. Sumner attacked it in 1881 inmagazine articles.9 Professor Francis A. Walker, who seems tohave been stirred to indignant protest particularly by George'spropos al to confiscate land values, m ade it the subject of a seriesof lectures at Ha rva rd in 18 83, published u n d er th e title ofLandand Its Rent. Bu t Clark, until after the publication of his first bookThe Philosophy of Wealth,10 an d app arently until 1888, gave it nom entio n in his published w ritings. T h e chief theoretical pillar ofGeorge's doctrine was the Ricardian rent theory, and Walker,even while assailing George, had avowed himself to be "aRicardian of the Ricardians," declaring that "Ricardo's rentdoctrine can no more be impugned than the sun in heaven."11

He would have none of Bastiat and Carey, who had sought toreduce the origin of all land values to labor. Yet Walker some-wh at uncon ventionally trea ted capital in the aspect of value as "acapital sum" to be invested 12 as well in land, "in the soil," as inagricultural imp rovem ents, and not as any particular g rou p o rkind of economic agents. No formal definition of capital in theold terms of "produced" means of production appears, yetWalker is not conscious of any de pa rtu re from "the general bodyof orthodox economic doctrines," the "validity" of which hethinks he is merely confirming.13

Events were ju st at tha t time crowding each oth er fast in thesingle tax propaganda. Progress and Poverty was translated intomany languages and was said to have had a larger sale than anyother book ever written by an American. In 1886 George wasno m inated an d ra n for th e mayoralty of New York City, an d ofthe three candidates he polled the second-highest number ofvotes. In 1887 George was a candidate for the Secretaryship ofNew York State bu t was defeated . N o othe r economic subject at




up on Clark's thou gh t. As to the latter, traces of the labor theoryof value remain in the confusion between the process ofevaluating "concrete instruments," including natural land, andthe "personal sacrifices incurred in the service of society" inbring ing concrete instrum ents into existence. W hen "the fruit oftwenty years of labor" is exchanged for a piece of unimprovedland, the value in the land is declared to embody "the fruit ofpers onal sacrifice" of the buyer.14 But w hence came the value ofthe land before it was sold? Again, though including the mostimperishable land am ong the things which embod y p ur e capital,Clark sees the "concrete forms of capital" as constantly vanish-ing. "The bodily tissue of capital lives by destruction and re-placement." In truth, Clark had not developed a consistentcapitalization concept, or made a clear distinction between, onthe one hand, technical production as the source and origin ofwh at he called "capital goods," an d, on the othe r ha nd , financialvaluation of rights, incomes, claims (to land a nd also to perso nalservices, good will, privileges, etc., as well as to "artificial" con-crete goods) as a source of his "pure capital."

Nevertheless, his great achievements in this matter were thathe bro ug ht o ut into the open the old ambiguity between "capitalvalue" and certain concrete things called capital, and that hepresented "capital" as essentially an investment concept; andthat he gave a bro ad er read ing to the idea of ren t. These notionshave been app les of discord, and even yet professional opin ionshave not attained to unity u po n them . It is of interest to observethe position taken toward the value concept of capital by somerepresentative economists.

5. THE MORE CONSERVATIVE VIEWS

Böhm-Bawerk's conclusions on the capital concept weresurprisingly old-fashioned. Beg inning with a new conception ofthe so-called "interest problem" as that of differences of thevalue of goods because of time, he wrecked his attempt at thevery first by his conception of capital (goods) as limited to



Clark's Reformulation of the Capital Concept 129

produced means of production. For if, as he believed, "capital"and interest are coextensive facts, he cannot explain with such acapital concept the manifold time differences that appeareveryw here, in land uses, legal rights, financial incomes, h um anservices, etc. On no other point did Böhm-Bawerk differ withClark so categorically as on this; he would have none of thevaluation concept of capital.15 Not even th e m ost conservative ofhis contemporary neo-Ricardians were so uncompromising onthis poin t. Yet not for a single page does he succeed in avoidingthe valuation concept of capital when once he begins to use one .His capital is always an investmen t sum , expressed as so m anykronen, pounds sterling, or dollars.

Professor Taussig devoted large space in his text to the dis-cussion of the capital concept, returning to it again and again,evidently troubled and more or less impressed by nearly everycount in the newer criticism on this subject. It seems a justcharacterization to say that Taussig's general conclusions andposition resemble somewhat those of Marshall, outlined below,but show certain significant differences. First, he is somewhatmore definitely conscious that the adoption of the valuationconcept involves a radical break with the older doctrines.Secondly, he therefore more explicitly (though with variousconcessions and doubts) adheres to the older formal definitionof capital in term s of conc rete goo ds, an d to the old er idea of th etwo-fold division of the "instruments of production and the

different sorts of return to their owners"(i.e.,

land and capital,rent and interest , respectively) .16 Third , he , much moreexplicitly than Marshall, reaffirms a pretty bald labor-theory-of-value to account for the origin and distinctiveness of capital(concrete),17 conceived of as "artificial" in contrast with land as"natural." In accord with this thought, he (probably unique inthis regard) denies "productivity" alike to capital and to land,and thinks labor alone can properly be said to be productive,

more so to be sure if applied "through the use of tools" thanwithout them, more applied "on some land . . . than on otherland," but in any case it is always labor alone that has "produc-tivity."18 Fo urth , far m ore tha n M arshall, he struggles to escape




from the meshes of the inevitable valuation conc ept. H e sees, asM arshall did not, that he is being trap pe d into a rep ud iation of

the old er views. H e was forced to recognize that "the ord inar ybusiness method of measurement" of capital is "in terms ofvalue." He confesses that the old distinctions between rent andinteres t "find no respon se in the world of affairs."19 Earlier20 hehad recognized that it was "often convenient to measure andreco rd capital in term s of value and price,— as so m uch m oney,"an d h e had even issued fair w arning that h e would "sometim es"so far conform "to everyday term inolog y" as to speak of capital

in terms of its "value or price." (Of course, he always doesexpress capital in those term s whe never he discusses investm entof capital an d in terest as a rate p er cent of return — no o ne can d ootherwise.) Yet he explicitly rejects the "valuation principle" 21

and indicates what he thinks are its absurdities.22

Professor Seager, a colleague of Clark's at Co lumbia, acknowl-edges in the preface of his text his indebte dness to writers so farapa rt as Böhm-Bawerk, J . B. Clark and A lfred M arshall, an d his

treatment of this particular question betrays some of the dis-co rda nt results. H e seems to accept both the old view and in p arttha t of Clark. He defines capital as "the prod uc t of past industryused as aids to further production." 23 Yet he cites, apparentlywith app rov al, the business man 's use of capital as "the com plexof capital goods, used in connection with each branch of pro-duction, measu red in terms of m oney,"24 a valuation investmentconcept. But he does not, as did Clark, include land among

"capital goods"; these are purely artificial things, "products ofpast industry,"25 thus plainly differing with the business usagecited. Seager was insistent on keeping sharply distinct the twoclasses of concrete goods (land and capital goods) which rep-resent "man's part in production and nature 's part ." 2 6 Soon,however, Seager is found talking abou t buying land, quite in thesense in which the business m an speaks of the purch ase of o the rgoods, as an "investment" involving the "capitalization of

rents." 27



Clark's Reformulation of the Capital Concept 133

T h e re ad er must take his choice amon g these contradictions,for his bewilderment will only be enhanced by further searchamid the mazes of Marshall's tome. But, though Marshall'sformal definitions of capital run in terms of concrete agents,there is no doubt that whenever he comes to discuss individualcapital in problem s relating to business in gene ral he resorts to avaluation concept. The resources of an individual "are in theform of general purchasing power."38 He declares that the ideaof interest is strictly applicable only to fluid capital, evidentlymeaning readily available purchasing power. "The rate of in-terest is a ratio and the two things which it connects are bothsums of m oney."39 T hu s it app ears that after m any contradictoryassertions and formal definit ions that reaffirm the olderRicardian scheme, Marshall really uses capital in nearly all hisdiscussions of price and of business p roblem s in his later editionsas an individual (acquisitive) concept, expressed in (market)valuation t erm s. Yet unsuspec ting studen ts still are led to seek inMarshall a source of theoretical illumination instead of a smokecloud.

7. THE YALE ECONOMISTS

The influence of Clark's views of capital showed itself at Yalewithin the following d ecade in the writings of A. T . Hadley an d

of his younger colleague, Irving Fisher. Hadley published in189540 a noteworthy article marked by an insight and a clarityin nearly every fea ture in advance of its da te, and by a realism inadvance of Clark's abstraction of an entity of pure capital. Had-ley recognized both the broad social and the narrow individualconception of wealth, and the broad and the narrow conceptionof capital. "Individual wealth is more accurately designated aspro pe rty." "Th e capital of an individual is m ore accurately des-

ignated as an investm ent." "A title to prop erty is no t necessarilyproductive as held by Clark." Here Hadley briefly, but in es-sence, anticipated what Veblen (and in part Davenport) de-veloped m any years later reg ard ing the contrast between acqui-




sition and production, while avoiding Veblen's exaggeration ofthe contras t and his carica ture of the profit m otive. Hadley's text

Economics published th e next year, rep rod uc ed in its first cha pter(on Public and Private Wealth) the substance of this article, bu twith certain additions (unfortunate, in our view) involving, asHadley says,41 "a combination of the ideas of Knies andNewcomb," but for which he acknowledges his chief in-debtedness to be due to his colleague, Dr. Irving Fisher.

T h e essential addition du e to Fisher was a distinction betweencapital an d income as "mo des of m easurin g" which Had ley h ad

com e to believe "is almost as important as the distinction betwe enpublic an d private wealth"42 which he had pre sen ted in his essayof the year before. This new distinction is, however, certainlym ore th an a me re detail; it introdu ces into Hadley's earlier clearan d simple thou gh t of capital as the value of rights of indiv idualownership, a different idea of a stock of wealth43 as contrastedwith a flow of wealth. The latter was pretty clearly Fisher's ownidea at that time, as app ear ed in his con tem pora ry articles.44 In

these Fisher presented this distinction between a "stock," or a"fund," and a "flow," or a "stream," as the one essential test ofcapital, as he conceived it. He is intent (not as was Hadley) ondistingu ishing capital as valuation from wea lth as objects (for hethinks of both simply as m aterial) bu t in distinguishing incom e asa low of things from wealth as a fund, reservoir or stock of things.There is not a hint in Fisher's definitions that capital consists of"rights" expressed in terms of monetary valuation, or financial-

ly, or of its being a sum of purchasing power, a business in-vestment concept. Fisher specifically objects to Clark's expres-sion of the am ou nt of tru e capital in term s of price, instead of byphysical measurements. However, as soon as he attempts todiscuss the p ercentage rate of flow, he assumes the m easu rem entof both stocks and streams in monetary terms, for in no otherway could a percentage appear. Fisher's contrast was that be-tween a stock and a stream of the "very same comm odities."45 T h e

presen t writer soon afterward46 sou gh t to show tha t this view wasuntenable in that it overlooked the durative nature of many ofthe objects com prised in Fisher's m aterial "capital," an d involved



Cfork's ReformuL·tion of the Capital Concept 135

the erroneous assumption that all indirect agents eventuallyap pe ar in substance as direct (enjoyable) g oods. However, whenFisher next ex po un de d his definition, thoug h he referred in noway to this criticism, he in trodu ce d alongside of the old distinc-tion a new one designed to obviate the difficulty with the un-fortun ate result that his unified concep tion is conv erted into thedualistic conception already foreshadowed by Hadley. This isthe passage:47

Capital is a fund and income a flow. This difference between

capital and income is, however, not the only one. There is anotherimportant difference, namely, that capital is wealth, and income isthe service of wealth. We have, therefore, the following definitions:A stock of wealth existing at an instant of time is called capital. A low ofservices through a period of time is called income.

Now it m ust be said of these dualistic definitions tha t they ar equite useless for the purpose in view. Fisher's own work oncapital and income deals mainly with financial conceptionsuntouched in these defini t ions, incomes as price-quanta ,discounted and summed up in capital (also a price quantum)conceived of as the p rese nt w orth of claims to future m one taryincomes, no matter whence or how derived (even from intangi-ble rights). And the definitions are at least in part tautological,for while it would be logically possible (even tho ugh theore ticallyuseless) to have a fund of wealth (m aterial goods) an d to co ntras t

it with a flow of the same goods, it is not possible to conceive of aliteral stock of services at an instant of tim e; it is possible only toconceive of their p rese nt w orth as a financial fund at an instantof tim e. Services (taken in the sense of uses eithe r of wealth or ofhu m an beings) may conceivably be delayed o r hasten ed, bu t theyare in their very nature a flow; they cannot be heaped up andconstitute a stock of services. They can at most, as they occur, be"inc orp ora ted" in dura ble form s of wealth. If this is so, then why

this elaborate contrast between a.flow of services and a. fund ofsom ething quite different? It is the vestigial rem ains of the o lderconception that Fisher has been obliged to discard.

T he idea of a "fun d" as a financial sum , estimate, or valuation,




at an instant of time, has become confused with the idea of a"fun d" as a he ap o r store of physical goods existing at an instant

of time. The phrases of Fisher's definitions form a superficial,verbal bond of connection between the old conception and thenew one, while in fact the essential distinction has become thatno t between incom e as a flow an d capital as a fund (of the "verysame" material things) but that between a valuation of services(incomes) when accruing separately throughout time and thevaluation of those same services when discounted and summedup at an instant of time. Capitalization thus does involve a

com parison of a financial fund (the single pre sen t worth) and aflow (a series of future wo rths) of the very same thin gs, nam ely,valuations of services. Only through the common element,valuation, do capital as a valuation fun d an d income as a valua-tion flow become comparable.48

T h e text of Fairchild, Furniss and Buck, em ana ting from Yale,starts in the old pa ths, formally d efining capital as a third factorof production, produced instruments of production. The tool,

the indirect ag ent, seems to be the typical capital in m ind in thehistorical survey, and the older definitions are repeated.4 9

"Land, labor and capital" are presented in the familiar roles ofthe thre e factors of pro du ction. 50 Bu t the first tim e that th ere isany real occasion to use the capital concept, a simple footnotem akes kindling wood of these m useum pieces an d the re ad er isinformed that "In the present discussion we shall use the termcapital including land as well as man-made instruments. The

term is generally so used in discussions of investments." 51

Thereafter capital appears as a fund of value, an investmentfund, expressed in terms of dollars. Yet from time to time thediscarded notion of the difference between land and m an-m adecapital instruments is weakly reechoed.52 The treatment ofinterest and capital seems pretty nearly in accord with that ofFisher.



CL·rk's Reformulation of the Capital Concept 137

8. OTHER REPRESENTATIVE OPINIONS

Professor Seligman, a colleague of Clark's at Columbia, tookan advanced position on the concept of value, as well as on thevarious related questions of rent, capitalization, etc. He declaresrepea tedly: "capital is capitalized incom e," an d m akes use almostexclusively of a valuation concept in that sense. Professor J. R.Turner too makes use54 consistently of an advanced valuationconcep t of capital. Th ese views and those of the w riter55 are inlarge measure in accord.

Ely as early as 189356 began with a dual capital concept as"every pro duct which is used or held for the purp ose of producingor acquiring wealth," but almost immediately speaks of capitalfrom the individual standpoint as "any economic good" (notmerely produ cts) held "for the pu rpose of gaining wealth." Latereditions, though repeating old definitions, give increasingemphasis to the individual, valuation conception, which finallybecomes the only one actually used. "The business world . . .speaks of the total investment— the am ou nt of money 'tied u p ' ina business unit—as its capital. Th is is the better and m ore com-mon usage."57

Professor Fred M. Taylor58 speaks approvingly of "one newway of conceiving of capital" as a "fund of value . . . ra th er tha nthings themselves"; and adds: "Even those who doubt thesoundn ess of this distinction are almost compelled to use it m oreor less on account of the ambiguities in which current con-troversies have involved the word capital."

Professor Bye59 in his formal definition follows Fisher: "astock of wealth in existence at a given time," including land as"natural capital," and "intangible property rights or titles towealth as a part" of an individual's capital. He thus glides in-sensibly into the value conce ption of "ne t p rop erty rights ," "networths," etc.60 Still the ghosts of the older conceptions of

"natural" land and "produced" capital haunt almost everyparagraph of the later chapter entitled "Income from artificialcapital."

Professor O. F. Boucke 61 endeavors to give impartial recog-




nition to the two different main concepts (besides several minorvariations), capital "as technical aids used in production, or as

any source whatsoever of incomes."62 The latter idea is laterexpressed as "a sum of m oney or its equ ivalen t," a "capital value"concept which includes such things as the "value of patents orcopyrights, or of personal reputat ions," e tc . 6 3 Therea f t e r ,whenever capital is referred to in connection with credit, in-terest, or any sort of business p roblem s, this value conc ept seemsto be the one preferred.

Professor L. D. Edie 64 likewise starts by repeating the older

definitions a nd distinctions based on the con crete goods n otion ,noticing, only to chide, the business man's thought of his busi-ness capital as m oney , or as "bo rrow ed m oney on cre dit."65 Buthe can no t long escape recognizing "capital values," and "capitalis, from this viewpoint, no t merely a mass of physical goods, bu tthis plus a mass of p rop erty righ ts, good will, an d o ther intangi-ble assets." He ad ds : "To be realistic, ou r use of the term capitalmust harmonize with prevailing business facts" and declares

that, "This modern view is amplified later in the present chap-ter."66 A peculiarity of this auth or 's view is that h e seems to adm itthe valuation concept of capital only under the corporate formof organization.

9. CLARK'S MESSAGE STILL VITAL

It would be too great a task to pur su e ou r inquiries furth er intothe m ass of recen t business texts tha t touch up on this subject. It isa paradox that the more emphatically an author professes tohave written for students of business, the more remote fromactual business u sage his conc eption of capital is likely to be. Howlong must it continue to be a sort of ritual for the writer ofeconomic text books to at first repeat piously old definitionsfrom which all vital m ean ing has de pa rte d (if they ever had any)only to throw the m aside later wh en th e time comes to use th em .Must every year the mind s of thou sand s of beginn ing stude nts ofeconomics be cra m m ed with this useless intellectual lumb er? In




T. Kozak. (Known to the writer only in the French translation, Paris,1904.)

6. See Wagner's Grundlegung, 3rd. ed., 1892, p. 307 ff.7. Knies, op. cit., p. 43.8. Clark, op. cit., p. 11.9. See Dr. A. N. Young , The Single Tax Movement in the United States

(1916), passim. Prof. R. T. Ely noticed it in his Recent American Socialismin 1885.

10. Largely a republication of a series of articles the publication ofwhich was begun ten years earlier. See preface to first edition.

11. Op. cit., p. 86.12. E.g., op . cit., pp. 33, 34.

13. Op. cit., p. 86.14. Op. cit., pp . 55, 66.15. See the discussion, Quarterly Journal of Economics (1895-1896),

Vol. 9 (Clark), p. 238; (Böhm-Bawerk), pp. 113, 235, 380; Vol. 10(Clark), p. 98, (Böhm-Bawerk), p. 121.

16. Principles of Econom ics, 1st ed., 1911, Vol. 2, p . 115.17. E.g., Vol. 1, pp. 72, 75; Vol. 2, p. H9ff.18. Ibid., Vol. 2, pp. 5-8, 58.19. Ibid., Vol. 2, p. 118.

20. Vol. 1, pp. 84, 85.21. Ibid., pp. 121-123.22. In pa rt his objections result from his not seeing the full impo rt of

the principle; however, his objection to Professor Irving Fisher's viewof capitalizing hu m an beings is in my ju dgm en t well taken . T h e ref-erence to my text at this point in the 3rd edition (1921) is misleading.(Vol. 2, p. 126)

23. Introduction to Economics (1904), p. 108.24. Ibid., p. 126, an d, in revised form, Principles ofEconomics (1913),

p. 14.25. Principles, p. 148.26. Ibid., p. 149.27. Ibid., p. 239.28. E.g., note p. 615; and specific reference to Capital and its

Earnings in note, p. 492.29. Ibid., p. 137.30. Ibid., pp. 135-136.31. Ibid., p. 133.32. Ibid., p. 284.33. Ibid., pp . 513 , 620 ff., 635, 648 , etc.34. 8th ed., p. 72. But still, in his last word on the subject (p. 790),

Marshall justifies his own adop tion of "the two-fold de finition of cap -ital."



Clark's Reformulation of the Capital Concep t 141

35. Ibid., p. 170.36. Ibid., pp . 430-431. Also p. 535 et passim.

37. Ibid., p. 78.38. E.g., ibid., p. 41L39. Ibid., p. 412.40. Yale Review, Vol. 4, pp. 156-170, "Misunderstandings about

economic terms."41 . In a footnote, p. 5.42. It would be a m ore accurate description of this distinction to say,

using Hadley's own phrases: between public wealth as the sum of the"means of enjoyment" or "means of happiness," in existence, and

private capital as the value of individual property rights.43. Material objects by Fisher's definition, Nature of Capital andIncome, p. 3.

44. Economic Journal, Vols. 6 and 7, 1896, 1897. A number of ref-erences to J. B. Clark's ideas occur in the three articles.

45. Op. cit., Vol. 6 (1896), p. 514.46. See Quarterly Journal o f Economics, Vol. 15 (1900), p. 19.47. The Nature of Capital and Income (1906), p. 52. Italics in the

original.48. The thought is hardly to be avoided that some of the peculiar

ideas regarding savings and income to which Fisher has adhered souniquely desp ite criticism are traceable to this confusion of definitions.We refer especially to his reiterated proposition that "savings are notincome." As a financial fact, there can be no saving and addition tocapital value until th ere is first a prope rty righ t to an incom e calculablein monetary terms (a financial present worth) to be saved. Hence todeny that m onetary savings are m onetary income is in simple com m onsense to deny a ait accompli; it is to assume the existence of the effectbefore its cause.

49. Elementary Economics (1926), Vol. 1, p. 32 ff.50. Ibid., p. 40.51. Ibid., Vol . l ,p . 355.52. E.g., Vol. 2, pp. 163 and 189.53. Principles of Economics (1905), see p p . 17, and ch. xiv, p . 204, on

"The Capitalization of Value."54. Introduction to Economics, 1919.55. As developed in various places; see, among other, Quarterly

Journal ofEconomics, Vol. 15 (1900), pp . 1-45, "Recen t Discussion of th e

Capital Concept"; "The Relations between Rent and Interest," paperread at the New Orleans meeting, with discussion, Publications of theAmerican Economic Association, 3rd series (1904), Vol. 5, pp. 176-240;The Principles of Economics (1904); American Economic Review, Vol. 4(1914), pp. 68-92; Economic Principles (1915), p. 267: "Capital is a




person's investment power as expressed in terms of money, being aperson's property rights to income, estimated, as to amount, with

reference to market conditions." The definitions given in the refer-ences datin g 1900 to 1904 followed in pa rt Clark's an d Fisher's leads inconceiving of capital more n early as the valuation expression merely of(mater ia l ) weal th . In developing af ter 1904 a more adequatecapitalization and "interest" theory, the writer returned with clearerconvictions to the conception of capital that he had glimpsed before1900.

56. Outlines of Economics.57. Outlines of Economics, 4th revised edition (1923), p . 20 6; see also

p. 103 et passim.58. Principles (1913), p. 69 .59. R. T. Bye, Principles of Econom ics, 1924.60. Op. cit., p. 24.61. Principles of Econom ics, 2 Vols., 1925. Ref. to Vol I.62. Op. cit., p. 95. These ideas are more elaborately set forth, pp.

370-376.63. Ibid., p. 381 .64. Economics, 1926.65. Op. cit., p. 247 ff.; also p. 254.

66. Ibid., p. 255.



CapitalCapital is a word derived from the adjective form capitalis

(Latin root caput, head), meaning principal, chief. Its variousm ean ings as a substantive a re exp laine d as the "several ellipticaluses of the adjective" (Oxford Dictionary). As first used incom m erce capital mean t an interest bearing sum of money. T h e

manifold derivative m eanings are all of two types, the one im-plying ownership of a valuable source of income, the other thestock of physical goods constituting the incom e sou rce. T h e on eidea was from the first characteristically individual, acquisitiveand commercial, that of any financial fund having a monetaryexpres sion; th e other idea was characteristically im person al andtechnological , that of the physical goods used to extract ,transport, create or alter goods: ships, stores of merchandise,

money, tools, machines, houses and, usually but not always,lands.

By a simple association of ideas the original thou gh t of capitalas a "fun d" for investm ent was generally conn ected w ith len dingby the class of passive capitalists, but capital as a "stock" ofinstrum ents was connected with borrow ing by active en terpris-ers for the purpose of buying the physical instruments of tradeand manufacture. This contrast disappeared, however, whenthe active enterpriser was pictured as neither borrower norlender bu t one who "invests" (clothes) his pu rchasing fund in thephysical equ ipm ent in his own possession. Th us the business as awhole might be thought of either as the sum or fund of pur-chasing power invested, or as the m ass of goods which, althoughnot bou ght with borrowed funds, em bodied the owner's businessfund.

These two types of capital concepts are so distinctive in es-

Reprinted from Encyclopedia of the Social Sciences, s.v., "Capital."

143




sential tho ug ht a nd practical application tha t confusion inevita-bly resulted from the use of one word to designate both. This

confusion occurred not later than the early years of theseventeenth century, when capital was defined by Cotgrave in1611 as "wealth, worth; a stocke, a man's principall, or chiefe,substance." Here the idea of "worth," implying a valuation, isthoroug hly mixed w ith that of substance, no doub t in the senseof material things in possession. "Capital" thus used is asuperfluo us an d confusing synonym of wealth, goods an d stock.

This transition and duplication of terms was confirmed byassociation of the words capital and stock. The latter, an oldGerm anic root word, developed in English manifold m eanings.T h e term stock was used in business in the sixteenth cen tury as "acollective term for the imp lem ents an d th e animals em ployed inthe w orking of a farm , an indu strial establishm ent, etc."; an d atthe same time as "a capital sum to tra de with or to invest." Evenearlier, in the fifteenth cen tury, stock m ean t "a sum of money setaside to provide for certain expenses; a fund," but this becameobsolete.

As English trading companies developed after the fifteenthcentury, the terms joint stock, capital stock, stock and capitalwere used with little clear distinction. Adam Smith (Wealth ofNations, bk. v, ch. i, pt. iii, art. i) says of the East India Com pan y,chartered in 1600 by Queen Elizabeth: "In the first twelvevoyages which they fitted out for India, they appear to havetraded as a regulated company, with separate stocks, thoughonly in the general ships of the company. In 1612, they unitedinto a joint-stock." This an d o the r similar examples indicate tha tat first the "stocks" meant the physical merchandise composingthe cargo , and a jo in t stock company was on e in which thesestocks were held jointly instead of severally. But Smith refers atonce to the "capital" of the joint stock company as so manythousand pounds sterling. His treatment of capital as a wholemanifests all the errors that have accompanied the use of thiselusive term ever since: the em ploym ent of the term as me aningboth investment fund and goods bought with it or sometimes"talen ts" or "skill" acquired by mean s of it, and as den oting bo th




employed in production is "worth ten thousand pounds." Thechapter on "increase of capital" is mostly concerned with "the

pro du ce of past labor"— physical objects; but that on "th e profitsof capital or stock" treats mainly a "rat e" of profits o n a valuedinvestment. Mill stumbles at length into the notion that all ad-vances "have consisted of no thin g bu t wages," a large p ortio n asdirect payment and the rest as "previous advances" which "con-sist wholly of wages." N oth ing could b e m ore explicit— or m oreerroneous as an explanation of the origin of capital values—ignoring as it does every influence from scarcity of natural

materials, from monopoly, from previous profits, from man-ifold speculative influences and from recapitalization (the re-valuation of agents). Mill's capital concept a t this poin t is the fruitof his labor theo ry of value— herein, however, he has substitutedwages for R icardo's quantity of labor, thereby b etter concealingthe difficulty due to various qualities and values of labor.

T h e capital concept re m aine d in the circle of English "liberal"price econom ists as Mill had left it until th e late eigh ties. Am on g

them Marx's conception of capital as an agency of exploitationfound no echoes. Yet unquestionably th ere was he re an aspect oftru th , on e which at that tim e and since the n has been given widerecognition in Germany. Capital both with Marx and with Millinvolved the confusion of acquisition and "production," Marxseeing chiefly the acquisitive and Mill the technical aspect.Classification of capital as on e of the th ree factors of pro du ctio nimplies its physical nature and its technological function. Its

yield (profit, or interest, as by preference it began to be called)was assumed to be coordinate in nature with rent (of land) andwage (of labore r); yet profits (or intere st) as a rate perc en t of aninvestment manifestly d oes not fit into this schem e, and th ere is aconsequent confusion in the theory of incomes.

T h e psychological school after 1870 m ade earn est attem pts torevise the prevailing capital concept. Jevons, in his incompletestudies of cap ital (e.g. The Theory ofPolitical Economy, 1871, ch . vii;

also appendices i-ii in 4th ed. London 1911), offered someoriginal suggestions, but in the end adopted Mill's subsistence( food for laborers) concept . Böhm-Bawerk (Kapital und




the technological uses of physical wealth; the comm unist deniedto wealth any valuable technological uses, attributing all value to

labor and depicting private property as merely a tool ofexploitation used by employers to rob the workers of the"surplus value" they had created.

Economic as well as ethical interest theory has suffered fromthis ambiguity. All use and productivity theories are attempts toexplain the rate of premium (or yield) from a financial fund(capital value) by reference to the rent or usance value of a stockof indirect technical agents, without a theory o f capitalization to

explain first the value of the capital sum or principal.The terms fixed and circulating capital are distorted ex-

pressions o f the truth that various kinds and various portions ofinvestments are more or less readily saleable, confused with thetechnological truth that various physical agents are more or lessdurable in nature.

The definition of capital determines in turn the meaningmore or less vaguely attached to such phrases as capitalistic

system, the growth of capitalism and the capitalistic age. Somesee in capitalism essentially the use of labor saving machines(perhaps also power driven); this is a technological conception ofcapitalism. Others, more eclectic, see in capitalism essentially thewage system where the employer owns all the physical agents.But consistently with the value concept capitalism is merely theprice system, the commercial exchanging organization of in-dustry, where valuations, incomes and property take on thefinancial expression.

It is necessary to distinguish certain popular uses o f the termcapital, notably "nominal capital" of a corporation as the totalface value of shares of stock outstanding, taken at par (orsometimes the total authorized); this, however, can mean onlynumber of shares in the now frequent cases of shares with no parvalue. Sometimes nominal capital is used to mean the totaldenomination value of all securities, even bonds, and "capital ofa corporation" as denoting these taken at their market value.None of these is properly called "capital" but rather "nominalvalue [or market value respectively] of corporation shares or



Capital 149

securities." Capital as applied to corporations is ra the r a figure ofspeech th an a consistent scientific term , inasmuch as a co rpora -

tion (a person only by legal fiction) has revenues and receiptsrathe r tha n "incom es," and assets (physical or intangible sourcesof revenues) rather than capital.

While recognizing divergent usage, we may define capital asthe market value expression of individual claims to incomes,whethe r they have their sources in the technical uses of wealth o relsew here. T his is essentially an individua l acquisitive, financial,investment, ow nership concept. It is a "fund" only in the finan-

cial sense, not a stock of wealth. It is the sum , in terms of dollars,of the present worths of various legal claims. It therefore in-cludes the wo rth of all available and marketable intangibles, suchas cred its, promises, good will, franchises, pa ten ts, etc. as well asthe wo rth of claims to the uses of physical forms of wealth. T he irsum m ation as a financial fund is the re sultan t of a capitalizationprocess. Physical objects of value are not capital, being suffi-ciently designated as goods, wealth or agents.

Capital as here defined is a conception of individual richeshaving real meaning only within the price system and in themarket place where it originated, and developing with thespread of the financial calculus in business practise.

Consult: C ann an, E dwin, "Early History of the T er m Capital" inQuarterly Journal of Economics, vol. xxxv (1920-21) 469-81, andcom ments on it by R. D. Richards and H. R. Hatfield in Quarterly

Journal of Economics, vol. xl (1925-26) 329-38 and 547-48;Cannan, Edwin, A History of the Theories of Production and Dis-tribution (3rd ed. London 1924); Böhm-Bawerk, Eugen von,KapitalundKapitalzins, 2 vols. (4th ed . Je na 1921), tr. by W. Smartas Capital and Interest (London 1890), and The Positive Theory ofCapital (London 1891); Davenport, H. J., Value and Distribution(Chicago 1908); Spiethoff, A., "Die Lehre vom Kapital" in DieEntwicklung der deutschen Volkswirtschaftslehre im neunzehntenJahrhundert, 2 vols. (Leipsic 1908) vol. i, no . iv; Passow, R ichard ,Kapitalismus (2nd ed. Je na 1927); Op pen heim er, Franz, Theoriederreinen undpolitischen Oekonomie, 2 pts. (5th ed. Je na 1923-24)




pt. ii, p . 565-606; Fisher, Irv ing, The Nature of Capital and Income(New Y ork 1906); Fetter, F. A., "Recent D iscussion of th e Cap ital

Concept" in Quarterly Journal ofEconom ics, vol. xv (1900-01) 1-45,and Economic Principles (New York 1915) pt. iv, and "Clark'sReformulation of the Capital Concept" in Economic Essays Con-tributed in Honor of John Bates Clark (New York 1927) p . 136-56;Veblen, T . B., "O n the N atur e of Capital" rep rinte d inThe Placeof Science in Modern Civilization (New York 1919) p. 324-86.



Reformulation of theConcepts ofCapital and Income in

Economics and Accounting

Exam ination of a considerable sample of curr en t accountingliterature discloses a m uch divided op inion as to the relationsh ipbetween economic and accountancy concepts and theory. Oc-casionally some accountant deplores the fact that "accountantshave seldom had m uch train ing in econom ics" an d expresses thehope that in the future public accountants may be more

thoroughly educated in that subject.1

The more frequentlyrecurring emphasis, however, is that "the point of view of theaccountant differs sharply from that of the economist, and thatconsequently, the terms, concepts, and principles of economicscannot reasonably be transferred, unmodified, to the field ofaccounting."2

The genera l a t t i tude of accountants seems to be tha tthe econom ic concepts may be valid in the ir own field, but that

they cannot be adopted and applied to accounting purposes.3 Imaintain, on the contrary, that there is no necessary conflictbetween the conceptions and terms in economics and ac-countancy. It is true that economics ought to deal with someaspects of public, or social, policy which lie outside the field ofaccountancy, but econom ics also has to do , as has accoun tancy,with the price system and the problems of capital, profits, andincome in connection with private individual and corporate

enterprises, and much of the current economics does this ex-

Reprinted from Accounting Review 12 (March 1937).

151




clusively to the neglect of the social aspects.4 Our first thesis,th en , is th is : If and when accountants and economists are talking about

the same things, namely problems of private enterprise, investment,prices, capital, and income, they should talk the same language amongthemselves, with each other, and with the public. Words a re the sym-bols of thoug ht, th e circulating me dium of ideas, an d the penaltyfor confusion in our language must be confusion in our ownthinking, magnified further in the minds of the public.

For my part, I concede that economics is primarily to blamefor the confusion existing today in both fields of study. The

principal economic terms now in use were taken uncriticallyfrom popular speech by the earlier writers with little regardeithe r to etymology o r to logical consistency. The se term s havelong been used in special restricted senses in the discussion ofcontemporary issues without recognition of other misleadingassociations of ideas. Often in the same paragraph or chapterwhere th e terms a re formally defined in one sense, they are usedby the author himself in a different sense. In many modern

economic texts definitions of this sort still linger as the sacred"idols of the forum" and "of the theater," as Sir Francis Baconcalled the errors arising from human language and from tra-ditional doctrines and methods. It is to this arsenal of rustyweap ons tha t the accoun tants have mostly con tinue d to reso rt insearch of much needed arms of economic theory, whose de-fectiveness is quickly revealed u n de r h ard usage in their ha nd s.Economists often with impunity may be arm-chair theorists;

acco untan ts are on the firing line of business, and their weaponsof theory feel the full shock of the battle. Their efforts to findconsistent and useful terms and concepts have in some respectsbeen hindered rather than helped by their reliance upon theolder economic authority. Not until economists of the Mar-shallian, Neo-R icardian, school have m ore fully recognized theirerrors and reformed their terminology, can the accountantshope to derive much help from many of the current economic

texts.It should be observed also that the close contact of accou ntants

with the hard realities of business has made more difficult for



ReformuL·tion of the Concepts of Capital and Income 153

them the task of form ulating logical and consistent concepts fortheir own use. Co nsider particularly the necessity they are u nd er

of protecting their clients by conforming with the requirem entslaid down in legislative statutes regarding the maintenance of"legal capital" (or "stated capital") an d reg ard ing the permissibledistribution of dividends. Such statutes, often varying andconflicting in different jurisdictions, carelessly and inconsis-tently drafted or later so interpreted by the courts, frequentlyforce the accountants to bend logical terminology to legal andpractical requirements. As Hatfield says:5 "T he accountant can

not disregard the decisions of the courts, or h e may find that hehas led his clients into an action for which they may be heldliable." But surely it is the highest duty of both accou ntants an deconom ists, while meeting the legal and practical dem an ds of them om ent, to point the way towards tru er economic conceptions inthe law instead of merely passively submitting to its sometimesblundering dictation. That, indeed, is the ideal of this session.

2.

Re garding t he im po rtant place of the concepts of capital an dincome both in economics and in accountancy there is no dis-pute. Not long ago an accountant in a thoughtful article6 on"The maintenance of capital" declared: "The fundamentalpurpose of accounting consists of an attempt to distinguishclearly between capital and income." Another accountant hasrecently said:7 "The primary and central problem of businessand hence of accounting and finance, will always be income."Here the emphasis is on income but the context rightly impliestha t the conceptions of capital an d incom e are so interwoven thatthe de term inatio n of one is impossible without tha t of the othe r.This is implied also in the generally accepted view that thefundamental divisions, or classifications, of accounting are thebalance sheet and the income sheet.

It is remarkable, therefore, that clear and tenable definitionsof these fundam ental term s are almost impossible to find eithe r



Reformulation of the Concepts of Capital and Income 155

prices, dotting the wide sea of feudalism where prevailed con-ditions of status with custom ary du es and services, an d w here the

use of money an d the m onetary expression e ither of wealth or ofincomes, were scarcely known. Both the use of money and itslending by merchants to each other and to the feudal noblesbecame much more common during the Crusades which re-cu rre d at intervals for nearly two cen turies (from 1096 to 1270).For centur ies the rura l - feudal and the urban-commercia lconceptions of wealth and income continu ed to grow ap art. T hemore static feudal conceptions of landed property and custom-

ary dues began to come into violent conflict with the moredynam ic ideology of contrac tual prices an d capital values in th eworld of commerce, with the gravest consequences in politics,religion, and social relations.

Sometime in this period the adjective capitalis, by an easytransition, came to be used elliptically in common speech as asubstantive, dropping the words pars. At the same time, doubt-less very gradu ally, the m ean ing of "capital" was widened in the

m arketplace to include besides actual mon ey loaned , the m one-tary value of wares sold on credit, and still more generally theworth of any other credit (receivable) expressed in terms ofmoney.

T he next inevitable expansion of the m eanin g of capital m adeit include the estim ated value of m ercha nt's stock of goods an d ofagents (such as tools, shops, ships, lands, etc.) employed in hisbusiness by himself as well as when loaned to another for anagre ed interest or renta l. Included with these as "capital" was them one tary valuation of debts an d bills receivable and of valuablerights of all kinds pertaining to the business. All these wereresou rces, or assets (to use a later term ) which m ight be sold formoney and which were thus alternative forms of business in-vestment, the equivalents in their money's worth of a principalsum loaned at interest. Each such asset item was at first a separa te"capita l," invested in a specific way, or form , an d collectively theywere long spoken of in the p lural as "the capitals"; bu t graduallythe net sum of all the separate items after deducting debts, orliabilities, came to be called a person's capital (in the singular




nu m ber) . T h e first authentic ex am ple of this usage (which haddoubtless become comm on) is a somew hat confused definition

of date 1611: "Cap ital: wealth, worth; a stocke, a m an's p rincipallor cheif substance."11 Here the notion of capital as the physicalstore of goods, called also "wealth," "stocks," or "substance," ismingled with that of capital as a valuation (w orth), cons tituting aman's principal in a financial sense.

T h e use of the w ord "capital" in this definition as a synonymboth for "wo rth" or "principa l" an d for "stock" or "substance" isevidence that already a confusion was present which was des-

tined to plague economics, the law, and accountancy from thatday till this. "Capital" in th e original sense of the principal of amo ney loan, later exp an de d to include the worth of any kind ofbusiness asset or investment, is a purely financial concep tion; b ut"capital" in the sense of a man's "stock" or "substance" is essen-tially a physical-goods conception. Still other confusions wereforeshadow ed. T h e use of the Anglo-Saxon word "stock," in thedefinition just quoted, made easy the transition from the term

"capital" as a sum of values to the hybrid and ambiguous term"capital stock" as a m ass of physical goods,12 the value of whichwas the financial investment in the enterprise. Within the nextcentury other confusions appeared as the terms capital andincome were extended to relate to corporations, not merely toindividuals.

These changes occur red no t sudden ly bu t du r ing theseventeenth century. In the definition of date 1611, capital was

still something thought of as belonging to "a man," a naturalpe rson , an d n ot to a co rpo ratio n. Th is individualistic conceptionof capital had been unq uestio ned for cen turies an d still survivedat the end of Q uee n E lizabeth's reign. Th e com plicating notionof corpora tion capital came within the next h un dre d y ears. T h eEnglish trading companies numerously organized as MerchantAdventurers in the fifteenth century for trading on the Con-tinent had retained this distinctly individualistic conception of

capital as the sum invested by a natural person in the hope ofprofit. T he com pany as such had no pe rm ane nt investment, andeach tra din g trip was a separate " ad ve ntu re" for which a stock of




"capital stock" in the sense of the "legal" or "th e stated cap ital," anominal sum not corresponding with either of the other con-

ceptions? O r is it some confused m ixtu re of all three? From thatday to this, conflicting usage has left the answer in doubt.The confusion of terms that thus came to prevail in the

seventeenth and eighteenth centuries may be inferred fromAdam Smith's usage in 1776, which greatly influenced hissuccessors. He used the terms "stock," "capital stock," and"capital" for the most part indiscriminately, but in some caseswith evident purpose to distinguish them. "Stock," the term he

uses most frequently, is the more general, usually seems toinclude "capital" and "capital stock" as the things in which thecapital "w orth" is contained ; ind eed , stock is usually synonym ouswith them and sometimes with "wealth." Occasionally, ho wev er,the generic term "stock" is broader than "capital stock," includ-ing things reserved for consumption. Smith sometimes, too,suggested the distinction that "stock" consists of physical goods,while "capital" is the investm ent value of goods used to obtain a

profit.14

It appears therefore that (so far as Smith is fairly rep-resentative) the conceptions of capital as a stock of physicalobjects or as monetary investment and as something ownedeither individually or collectively were pretty thoroughlyconfused in the seventeenth and eighteenth centuries.

Further, Adam Smith introduced the terms fixed and cir-culating capital, distinguishing them by the criterion of changeof ownership; and forty years later the Ricardians, without

realizing the difference, distinguished these terms by the crite-rion of durability versus physical destruction by a single use.The se confused term s are still reta ined in most of the econom ictexts, and are given too respectful attention by the accountants,who, however, find them troublesome and unworkable.15

In the period from Smith to John Stuart Mill (1776-1848)other confusions appeared. The then current labor-theory ofvalue was grafted up on the physical-goods concept of capital an d

for the first time capital was defined as "produced means ofprodu ction used for furthe r prod uction ." Th is still rem ains thestan da rd definition of capital in most of the econom ic texts. By




"produced" was meant "produced by labor," but what, in turn,that mean t was never clearly defined. Misled by an abn orm al and

temporary situation in England at that time, the Ricardiansmagnified to supreme theoretical importance a fallacious dis-tinction between land (in the sense of natural, that is "unpro-duced," agents) and "capital" (as consisting of "artificial" orlabor-prod uced agents) used for further prod uction. "Land" (inthat broad sense) even when used in business for profit was bydefinition excluded from the concept of capital, as also was themoney valuation of natural agents. This conception of capital,

apparently unknown before the so-called classical economics,was dee m ed by the R icardians to be one of their most imp ortan tcontributions to theory. I need not argue in this presence,however, that it is of no possible use to accountants, and theyhave wisely discarded it, still mistakenly believing, however, thatit is the best that recent economics has to offer. Although theRicardian and neo-Ricardian definition of capital as "producedmeans of production" is framed explicitly in terms of physical

goods, it was always in practice almost im mediately ab ando ne d(as is do ne by the M arshallians today) for a valuation, investm entconception, including the value of national agents. The discus-sion of capital in all the conventional economic texts is per-meated with this ambiguity.

While the corporation was swiftly becoming the dominanttype of manufacturing and commercial organization after 1870,the new subjective, or psychological, schools of value theoryappeared nearly simultaneously in several lands and began aneeded revision of some of the fundamentals in economictheo ry. For a time tho ug ht was stim ulated in right directions inregard to value and price, but quickly became entangled in thephrases of ut i l i tar ian psychology, a l ready discredi ted inphilosophic circles. Jevons in England and the Austrian schoolstopped short of any lasting contribution to better concepts ofcapital and income. The Austrian Böhm-Bawerk—in somerespects one of the greatest of economic dialect ic ians—un de rtoo k to ma ke himself master in that particular dom ain; yethe finally reverted to the most sterile version of the Ricardian




the present market valuation of all legal rights to income pos-sessed by natu ral perso ns. T h e business entity as such, w heth erinco rpora ted or n ot, has assets, but no capital, the ne t worth ofwhich (i.e., assets minus other liabilities) is the capital of thecollective investors. The so-called "capital" of a corp oratio n is atmost a quasi, fictitious, or pseudo capital, created by and cor-responding to the legal fiction of the separate corporate entity.The corporation owns the assets but the shareholders own thecapital. T he same thing cannot be owned at the same time and inthe same sense by two different ow ners. A corporatio n is not acapitalist. A sufficient proof of this to accoun tants sh ould be thesimple fact that "capital" always appears on the liability side ofthe balance sheet. The corporation owes the capital, it does notown it. The shareholders own it.

The cost-of-production theory, still lingering in most of thetextbooks, looks to the past to account for present valuations; itmust be replaced by a consistent theory of the capitalizationprocess.17

4.

T h e terminology of income is no m ore satisfactory than is thatof capital. Economists and accountants, at least by implication,seem initially to ag ree tha t income is som ethin g rela ted to capitalso closely that the determination of one involves that of theother. This thought is reflected in the title of this session. Yetsurprisingly little use is m ade of the term income in accou ntingtexts, and that is often in strange new meanings, loosely relatedto the concept of capital, an d income is not defined beyond thegenero us suggestion of othe r am biguous term s as synonyms. Afew examples are given in the note.1 8

T h e w ord "incom e" is broadly self-defining, as any thing th^t

comes in, and at one time or another it has been used in manysenses that are now obsolete or archaic, including such anunfamiliar idea as that of calling a person an income when heente red a room (that is, a new com er). T h e earliest reco rded use




of the word income (in an Anglo-Saxon version of the Bible in1000 A.D.) was as a verb, m eaning to enter. T h e m eaning of theno un incom e that is now deeply rooted in po pu lar speech and ismost usual in its application to business and econom ic pu rpo sesap pe ars to be tha t o f any sort ofgoods (or valuable rights) coming intothe possession of a person, with the fur ther impl icat ion that th is i ss o m e t h i n g additional and available for consum ers* use without deple-tion of a formerly existing physical stock, or of a financial capital fund, asthe case may be. This is now the generic meaning in currenteconomics w here , however, various specific te rm s such as "realincome," "income in goods," "income in kind," "labor income,""funded incom e," an d "psychic incom e" have indispensab le usesin connection with, and often in contrast with, "pecuniaryincome." However, there has recently been a tendency in busi-ness and popular speech toward narrowing this concept toinclude only incomes expressed in terms of money.19 At thesame time "incom e" has largely displaced the term profits in theacco untan ts' trea tm en t of the business entity, and particularly ofthe business corporation.

T h e resu lt of these several shifts of m ean ing, so unequally an dvariously accepted in differen t circles and applications , has beento create a greater confusion in the term income than ever hasreigned before, with practical consequences of importance bothto economics and to accountancy. Few appreciate how com-pletely until of late the term income had been limited in its

application to individuals nor how recently it has been applied tobusiness corporations. In the numerous quoted examples col-lected in The Oxford Dictionary, no ne un til late in the nine teen thcentury clearly implies that an income could accrue to anybodybu t a na tura l pe rson. Th e shift in usage has com e only since therecent great increase of business corpo rations. Th e A ccoun tants'Committee on Terminology (p. 68) speaking of the usage ofterms that "it is believed are now well established" makes the

following just observation: "Income, while sometimes used bycorp orations , frequently as applied to net earning s, applies m oreparticularly to the compensation or profits received by a per-son." This idea, however, is immediately contradicted in def-




initions of more specific forms of income, as gross, net, frominvestmen ts, miscellaneous, opera ting, non -ope rating, etc., all ofwhich are evidently treated as applying in accounting to cor-porations as well as to any other impersonal business entity.

In economic usage the term income is still, in greater part,applied broadly to things accruing to individuals and availablefor consumption; whereas profits are peculiarly the impersonalyield of any business no matter what the type of ownership. Inconformity with earlier and long established usage it would notbe permissible to speak of the "income" of a corporation. Acorpora tion if successful has, profits which when distributed areincomes to the receivers; but a corporation is a creature of thelaw once vividly described as having "neith er a body to be kickedno r a soul to be da m ne d." As such it has no capacity to enjoy an dcan have no "incom e" except in a recently d istorted sense of th eword. It can hardly be doubted that in most cases where ac-countants now use the term "income" to designate the surplus

accruing to the impersonal business entity or to some specialbranch of its ope ration, the term profits would be m ore pro pe r;and usually in the other cases neither income nor profits is afitting term.

It may be ungrac ious to suggest that accountan ts and businessm en have largely themselves to blam e if now they a re u nable tofind any tenable difference in the m eanings of incom e, earn ings,profits, revenues, etc., Th ey have ma de th eir task m ore difficult

by the careless use of terms. W ith a wealth of wo rds from whichto choose to fashion a logical system of terminology, each termwith a clear distinctive meaning, accountants have lost them-selves in a maze of terms: income, gain, profits, earnings, rev-enue, receip ts, increase in equities, increase in wealth, accrual ofwealth, periodic return, benefit or advantage, surplus from theearning s, dividends, rents and interest paym ents, etc. Confusionis the n m ultiplied by limiting adjectives such as gross, net, p ure ,

economic, from operation, sales, investments, other incomes,etc. Every canon of sound terminology is violated; each term isapplied to two or more ideas, and each idea is expressed byseveral different terms. The client, the reader, and the public




compared with the capital sum, or present worth, of the an-ticipated incomes which the stock or fund contains or rep resen ts.

Accoun ting m ay be defined as the capitalistic calculus in m od ernbusiness, in othe r w ords, the calculus of capital and incom e. Th iscomplex calculation may be the bane of the accountant 'sexistence—but, happy thought—it is what makes necessary hisservices and generous fees. No capital, no accountants!

5.It is indeed rash for a layman in accounting to offer even a

suggestion to the acco untan ts, bu t in the light of the foregoing itwould seem tha t they should begin by m aking far m ore gen erou suse of the simpler, descriptive categories of receipts and dis-bursements classifying them and balancing them for differentpurposes before beginning to use any such terms as revenues,earnin gs, profits, or income. T he term revenues m ight, pe rha ps ,in accord with the usage in public finance, be reserved for thosereceipts, such as ren ts, royalties, interest, dividends from outsideinvestm ents, etc., that d o n ot strictly result from the operation sof the enterprise itself, but are derived from sources outside.Then, and not till then, should come the more detailed study ofreceipts and disbursements in various departments of thebusiness provisionally treated as minor separate entities, such as

transportation operation, manufacturing, merchandising, etc.The several "balances," "results" or "earnings" (if that term bepre fer red , desp ite its original root m ean ing which was limited toincomes from human labor) would then be ready to be sum-m ated algebraically with reve nu es, taxes, capital changes, etc., toarrive at a figure for current "profits" of the enterprise as awhole. Current profits added to previous profits and capitalvalues would yield the figure for th e accum ulated net wo rth, or

proprietorship, of the collective enterprisers. Then, and not tillthen , would app ear the term income as the am ou nt accruing ordistributed to the several investors, the return to each on hiscapital in the enterprise.




view" as is done by the accountants. Much current economics is per-vaded by a confusion of individual and social conceptions. See note 4

below, and related text.3. A recent text, Porter and Fiske, Accounting, 1935, pp. 15-16,

contrasts the economists' concept of capital which, it says, is "ordinari-ly" limited to "material wealth" with that of the accountants whichincludes property rights and claims. Let it be noted, however, that theauthors somewhat vaguely imply in the adverb "ordinarily" theirawareness that this concept is not universally or consistently em ployedin economics; and they incidentally recognize the growing influence ofthe unorthodox school to which I belong when they say: "The sharp

distinction drawn by older economists between land and capital hastended to break down and to result in grouping the two as a singlefactor."

Another leading accountancy text (Hatfìeld, Accounting, p. 173 n)repeatedly refers to some unquestionable contrast between theeconomic and the accounting definition of capital without, however,anywhere defining capital either in the econom ic or in the accountingsense. The author does, however, imply his meaning; for example,when referring to one definition of "capital stock" frequently used instatutes, he quotes an explanation of it as meaning "not the shares of

which the nominal capital is com posed but the actual capital, that is, theassets with which the corporation carries on its corporate business."W hereupon the author comments: "This corresponds to the economic,not to the accounting definition of capital." I take this to mean that theauthor believes the economist's definition o f capital to be "the assets" ofthe corporation, and the accountant's definition as "the capital accountof a corporation"—explained in his text as "a nominal sum, the parvalue of the capital stock." In another passage—the phrase: "usingcapital in the economic, but not in the accounting, sense" [p. 375]

carries the same implication, that "invested capital" in the economicsense includes all assets of the corporation whether financed by stocksor by bonds, whereas capital in the accounting sense means only theamount represented by shares of stock, the "capital stock," or perhaps"the stated capital." See below, notes 8 and 10, two other conceptions of"capital" that are held by accountants.

4. The writer has discussed this contrast in two articles in theAmerican Economic Review, Vol. x, pp. 467 and 719: "Price economicsversus welfare economics."

5. Accounting, 1927, p. 294 .6. H. W. Sweeney, in the Accounting Review, December, 1930, p.277.

7. A. C. Littleton, "Contrasting Theories of Profit," AccountingReview, March, 1936, p. 15.




8. E.g., Porter and Fiske, Accounting, 1935, p . 16: "Business capitaland business assets are synonymous. Business assets consist of the

material goods, claims and property rights applied to the businessproject Assets are capital." And again, p. 544: "T he term ca p it a l. ..refers to the assets employed in the business and not to that po rtion ofthe claim against the assets vested in the stockholders." See also quo-tation from Hatfîeld in note 3 above, wh ere he calls this the "economic"definition, in contrast to that of the* accountants, which, he says, ismerely the stated capital, "a nominal sum."

9. Paton, Accounting Theory, 1922, p. 37 .10. E.g., Kester, Accounting Theory and Practice, 3d . ed., 1930, Vol. I,

p. 290. "From an accounting viewpoint, the capital of any businessen terp rise is the excess of its assets over its liabilities." T he same view isexpressed in these words by a legal student of accounting a nd discipleof Hatfîeld: "Capital should be defined as the difference in valuebetw een the total assets and the total liabilities of a business at a givenmom ent of time." (Prosper Reiter, Profits, Dividends and the Law, 1926,p. 5.)

11. Quoted in The Oxford Dictionary.12. T he Germ anic word "stock" had the root m eanin g of "stick" and

hence main stem (as of a tree), hence, figuratively, a collection of

physical things viewed as a fund of goods and resources constantlyrenewed—all of which meanings still persist in good use in variouscontexts. Evidently the "capital" of individual subscribers meantsomething quite different from "capital" in the sense of the "capitalstock" of the whole enterprise, the latter corresponding rather to thephysical aspect of what today are generally called assets.

13. The writer is indebted to Prof. Stanley E. Howard for the op-portunity to consult an unpublished manuscript further developingthis subject.

14. Thus he says: "The stock which is lent at interest is alwaysconsidered as a capital by the lend er T h e borrow er may use it eitheras a capital or a stock reserved for immediate con sum ption ." Wealth ofNations, Book II, Ch. 4. Canna n ed., p. 332. T h e w ord "stock" as usedby Smith suggests a collection of useful th ings, and "capital" seems onlymeant to suggest that these things are used in business as a source ofincome, either to individuals or to the whole nation. In the latter casethe th ou gh t of their mon ey valuation is lacking. Such ph rases occur as"the capital stock of the society," "the stock of the cou ntry ," "the wealth

of the society," "the capital of a great natio n" and "the capital stock ofGreat Britain" (Ibid., Book I, Ch. 9, pp. 94, 95) with no hint of dis-tinction; but also occurs the ph rase , "the capital of a private man " Ibid.,p. 93).

15. T he preliminary rep ort (1931) on Accou nting Terminology says




(p. 31) of "circulating capital": "This expression appertains toeconomics rath er th an to accounting"; an d of "fixed capital": "A rath er

vague term , used in economics more than in accounting." In furthercomment the Committee uncritically accepts both mutually inconsis-tent criteria of the distinction between fixed and circulating capital,saying of fixed capital: "It has been defined as wealth used in theproduction of commodities, the efficacy of which is exhausted by asingle use," and in the next line: "Th e term 'circulating' is derived fromthe circumstance that this portion of capital requires to be constantlyrenewed by the sale of the finished articles and repurchase of rawmaterials, etc." The former makes the criterion a physical quality(durability), the latter makes it a financial quality (continuous andready saleability, i.e., liquidity).

It is to be observed, however, that the older economic distinctionbetween fixed and circulating capital survives in slightly altered, andperhaps equally troublesome, form in the accountants' attempt todivide assets into fixed and current. For example, the Accountants'Handbook (14th p rin ting, 1934, p. 151) calls this "th e most satisfactorybasis of asset classification," adding: "This is founded on theeconom ists' distribution of all capital goods into fixed and circulatingcapital, and has genuine economic and operating significance." The

confusion of technical and financial criteria is plainly evident in thecontext.16. In my essay on "Clark's Re formulation of the Capital Con cept,"

in Essays in Honor ofJohn Bates Clark [see above].17. A capitalization theory is completely wanting in Clark's

treatment, and was lost sight of by the Austrians after a promisingbeg innin g in its recognition. By this is m ean t the process of estimatingcapital as the present worth of the proprietorship of sources to futureincom es, which is not to be confused with the very differen t process of

issuing various kinds of shares in nominal amounts, as the termcapitalization is often used in statute law and elsewhere18. A recent text (Porter and Fiske, 1935, p. 327) declares in the

chapter on "Income—its nature and determination," that "it is im-possible to find a universal definition of income" and then proceeds atonce to discuss profits as synonymous with it, as if that solved theproblem. (E.g., 327 , 338.) A veteran in academic accounting h aving, ashe says, "vainly tried to find any accepted differen tiation betw een" theterms income and profits and finding no aid in the preliminary reportof the acco untan ts' Co mm ittee on Term inolog y (1931) explains that inhis "treatise, there fore, the wo rds are used indiscriminately." (Hatfield,Accounting, 1927, pp . 214-242.) A writer in the Ju n e , 1936, AccountingReview, (G. A. D. Prienreich, p. 130), still further complicates theproblem by announcing that "the terms 'income' and 'profits' are




synonymous with 'earnings' for all purposes germane to the presentdiscussion," and a moment later discouragingly adds: "Apparently

discussion will be facilitated by avoiding th e use of the te rm 'in co m e.'"Thus he disposes of half the subject matter of this paper, and we mayfeel tem pted to em ulate his discretion by pitching the oth er half out ofthe window. Bu t what then becomes of "the fundam ental pu rpos e ofaccounting"—"to distinguish clearly between capital and income?"

19. See Oxford Dictionary to this effect.20. Paton, Accounting Theory, p. 53 .



The "Roundabout Process"in the Interest Theory

1 . THE NATURE OF THE INTEREST PROBLEM.

Professor Eugen von Böhm-Bawerk's critique 1 of the older

interest theories marks a new era in economic thought. Thehighest point attained in his more positive discussion is hisstatement of the real nature of the interest problem, as that ofthe exchange of present goods against future goods. Thisthought was an inspirational break with the past, and wascharged with possibilities for the future of economic theory.

Nevertheless, Böhm-Bawerk has failed to formulate a con-sistent and satisfactory theory of interest. A statement of thena ture of the problem and a solution of it are not the sam e. T heEnglish translater implies his belief that they are when he callsthis statement "the essence" of "Böhm-Bawerk's theory of in-terest"2; the a utho r likewise ap pears to identify the two when, inhis Positive Theory,3 he says: "Prese nt goods are , as a rule, w orthmore than future goods of like kind and number. 4 . . Thispropo sition is the k ernel an d cen tre of the interest theo ry whichI have to present." This, however, is but the fact which theinterest theory is to explain logically. T h e p ropo sition is not opento question: it is a novel, but unquestionably b etter, way of statingthe nature of the problem. Explanations may differ after thena ture of the problem is well agreed up on . Böhm -Bawerk showsnot only in manifold expressions, but by devoting severalh un dr ed pages to setting forth his theory of interest, that he doesnot consider his work don e when the p roposition above qu oted isstated. He adds immediately: "The first part of our explanation

Reprinted from Quarterly Journal of Economics 17 (November 1902).

172



The "Roundabout Process" in the Interest Theory 173

(Book V.) will try to prove the tru th of the propo sition."5 Whathe does, however, is to give his peculiar exp lana tion of the causesfor this fact. The truth of the original proposition cannot beinvoked as a proof of any one theory to explain it. The concep-tion of the interest prob lem as one aspect of exch ang e value mustbe considered merely as preliminary to the formulation of aninterest theory, not as the theory itself.

2. THE ROUNDABOUT PROCESS AND THEPRODUCTIVITY OF CAPITAL.

It is our purpose here to consider only one of the threeprincipal features of Böhm-Bawerk's explanation "why presentgoods are , as a rule, worth m ore tha n future goods"; but tha t on eis the most important. It is the technical superiority of presentgoods as instrume nts of produc tion when used in "ro un da bo ut"processes.6 He repeatedly refers to this as "the most fundam en-tal conception in the theory of capital,"7 as "th e chief pillar,"8 andas "the empirical corner-stone" of his theory. He has recentlyoffered an elaborate defense and restatement of it.9

Ag ain, we shall narrow ou r discussion to one only of the thre esupports1 0 offered for the proposition that roundabout process-es are more productive than direct ones; that is, its agreementwith the old proposition that "capital is productive." Thisproposition is so generally accepted that, if the two propositionscan be shown to be identical in thought, differing merely inexpressio n, his thesis, so Böhm -Bawerk declares, is established.The main purpose of the author is to prove that a moreroundabout process means identically the same as productionwith "m ore capital." If he can show that the two propositions areinterch ang eab le, he will gain for the on e all of the au thority an dbelief that attaches to the other among economic students.

It may enable the r ea de r to see a unity in the va rious criticismsthat are to follow: it may serve to show that the negative viewsexpressed proceed not from a spirit of captiousness but from asomew hat positive concep tion of th e n atu re of the solution, if at




this point is indicated the stand po int from which our discussionproceeds. We must demand of the theorist dealing with capital

an d interest (1) tha t the term "capital" be used consistently in th evarious stages of his argument, and (2) that the fundamentalexp lanation apply to interest wherev er it is manifest an d in all itsforms. On another occasion I have given reasons for the beliefthat in these respects Böhm -Baw erk is at fault.11 In the followingdiscussion these tests are applied to the particular question inhand.

If it be allowable to epitomize many pages of the author's

argument into a single syllogism, it would run thus:—First premise: The proposition that capital is productive

(which means that, the more capitalistic agents12 labor has, themore productive it is) is unquestionable.

Second premise, first link: More capital means identically thesame as a longer production period; second link: A longerproduct ion period means the same as a more roundaboutprocess.

Conclusion: Therefore the statement that the roundaboutprocess is more productive is unquestionable.

Böhm-Bawerk does not deem it necessary to labor long toprove the general p roposition tha t capital is productive. H e firststates the pro position in this form :13 "Labo r is m ore productiveaccording as it is equipped with more capitalistic agents." Thismay suggest the idea of a greater n um be r o r quantity of agents,physically cons ide red ; bu t he imm ediately uses in his illustrationthe value expression of capital in these words: "National laboryields m ore w hen su pp orte d by a capital of five hund re d florinsper head than without any capital at all, and yields still morewhen th e capital is five tho usa nd florins o r ten thou san d florinspe r h ead ." T h e implication, he re as elsewhere, is that, while thisincrease may not be in exact pro po rtion to, it is some function of,the increase of capital. So much depends on the sense in whichthe w ord "capital" is used th at we must exam ine its mean ing inthis connection.

"More capitalistic agents" evidently tend to more technicalpro du ction. T wo spa des, two fields, two ploughs, in place of one,




and perfect tools in place of crude ones, m ean a m ore bountifullyendowed world to work in; and, while an increase of one par-

ticular kind of agent may sometimes burden rather than aidindu stry, the possibility of adjusting and interc ha ng ing th e sup-ply of different agents makes the proposition a valid one ingeneral. But, when one passes over to the value expression ofcapital, the nature of the statement as an abstract theoreticalproposition changes; for, unless we are assured that the greatervalue expression at the later period stands for a gre ater nu m be ror better quality of physical agents, the technical productivity

may vary in any conceivable deg ree or d irection, becom ing evenabsolutely less with the greater amount of capital. The twoconcepts, it is true, would be the same in practice if we werespeaking of the increase of capital app lied to a particular indu s-try at a given m om ent in which th ere was no change in the supplyof capital in the community. But Böhm-Bawerk has chosen todiscuss, not the greater roundaboutness of production in aparticular industry to which more capital is applied, but the

greater ro und abo utne ss in industry as a whole where the valueexpression of capital has increased. T ha t is, he discusses not thecase of a static supply of capital as a whole, but th at of a changin gsupply of capital, the change being measured by the value ex-pression. T h e conclusion he draw s, ther efo re, is not theoreticallysou nd ; for th ere is no certainty or even probability tha t the twofeatures of effectiveness an d value will vary at the sam e rate, or ,in the extreme case, that more "capital, '* containing a largerelement of various scarcity values, will represent productiveagents even as great or (technically) as effective as those ofsmaller value did in the preceding period.

Regarding the second premise, first link, Böhm-Bawerk mustshow tha t the longer production perio d is identical with the useof "more capital." Let us examine his concept of capital in thisimmediate connection.14

Böhm -Baw erk answ ers the question "W hat is capital?" not byusing either of the definitions referred to in the last paragraph,but by a figure of speech inte nd ed to direct attention to what ithas been a nd to the source of its value. "Prev ious labor," he says,




"is a roug h bu t essentially tru e definition." But he a dds in a note,"It is m ore exact to say, stor ed -up , previously applied produ ctive

force, which can be not only labor, but also valuable naturalforces or uses of land."15 Then, returning to the text: "a smallcapital evidently represents little previous labor, a large capitalmuch. A capital of fifty florins can represent, in the extremestcase, one-sixth of a labor year when the common wage is threehundre d florins a year," etc. Th is comes nea r to the discreditedlabor value theo ry; and the a uth or , seeing the difficulty, add s ina note: "Probably considerably less, because on the one hand

comes into play a higher paid quality of labor, and on the oth erthe value of the stock of capital goods cannot by any means beresolved into labor or wages respectively, but contains for aconsiderable p art accumu lated interest, profits, m onopo ly gains,and the like."16 Despite these important alterations in them ean ing of the term "capital" the au tho r has gone on to use it inthe simpler, unmodified form, drawing, as to the nature andeffect of capital as a whole, conclusions w hich at the m ost can betrue of that part of capital reducible to terms of previous labor.Th is conception of capital is confusing by reason of its attem pt ata simplicity th at is un tru e to the facts. It mu st be noted , how ever,tha t it is a value concept of capital. T h e cap ital em bod ies a valuewhich it derives from the value of the labor that has p rod uce d it(sometimes thought of together with the value of all the otherfactors a dm itted in the note above quo ted) . It is a value conceptdespite the use of the terms "labo r-m on th" and "labor-year"; forthe labor can be spoken of as rep resen ting a certain fraction ofthe value of the capital only after the amount of the labor itselfhas been expressed in terms of value, not of time.

In attempting to show the identity of the thoughts of a longerperiod of production and a more roundabout process (secondlink of second prem ise), he says that the ripe consum ption goodsneeded within the year will be secured by a union of new laborwith the old labor in the form of capital. It is evident to him th at,when little old labor is present, the new labor must be in largeproportion, and the average production period 17 mu st be sho rt,and vice versa. "The mass of existing capital shows how many




labor-months are on their way at any one time, have beenperformed as labor, and have not yet arrived at the goal of

ripened enjoyment. If now, with a capital of fifty florins perhead, no more than two labor-months are on their way at onet ime, it indicates, in an unmistakable way, a shorter averageduration of the round abo ut method ad opted than wh en, with amass of capital ten or a hundred fold greater, twenty or twohundred labor-months at once are in the transition stage ofunripe intermediate product." This being to Böhm-Bawerkquite "evident," he believes that prod uction with the aid of m ore

capital is identical with the lengthening of the average produc-tion period , and hence with the adoption of a more roundaboutmethod of production.18

3. FAILURE OF THE ARGUMENT TO IDENTIFYINCREASE OF CAPITAL AND ROUNDABOUTNÉSS.

We must, for several reason s, question the arg um en t by whichare thus identified the thoughts of a larger capital, a longerproduction period, a more roundabout process, and a greaterproductiveness. First, in Böhm-Bawerk's concept the naturalagents are not a part of capital; and, unless the natural agents,the fertile soil and natural forces, are as great per capita, thetechnical productiveness of the larger capital may be less thanbefore. His conclusion, therefore , would hold good at most withthe added proviso: the amount and effectiveness of naturalagents increasing prop ortionally. In an extr em e case conceivablethe grea ter supply of capital (however mea sured ) might be mo rethan offset in its technical effect by a smaller per capitaequipment of natural agents.

Secondly, the argument contains the fallacy of the viciouscircle by implying the rate of interest. With a value concept the"am ount of capital" cor resp on ding to a given produ ct each yearvaries with the rate of discount in capitalization.19 If the p revail-ing interest is at 20 per cent., an annual product valued at 10suppo rts a capitalization of fifty; bu t, if the inte res t falls to 1 per




cent., the same prod uct su ppo rts five h un dr ed . O f the two partsof the p roposition that m ore capital m eans a gre ater productivity

and a more roundabout process, the first portion, therefore, isun so un d unless it be qualified by the p hrase : provided th at th erate of interest has rem ained the sam e. But it is the change of therate of interest which he is attempting to explain through achange in the technical productiveness.

Thirdly, the argument is unsound in the degree to which thecapital contains accumulated interest or monopoly gains. Itsou nds plausible to say tha t, if the capital pe r he ad rep resen ts a

value one-sixth th e average value of a year's labor, the process isone-sixth as rou nd ab ou t, and the prod uction period is one-sixthas long , as if the cap ital we re ju st equal in value to a year's labo r.But this is an entirely hypothetical proposition, whose truthde pe nd s on the fact assumed in the "if"; an d the au th or himselfhas hastened to add that a considerable part of the value of thecapital is due to other elements, among them accumulated in-terest.20 If the value of the capital always can be traced back to

labor, and two amo un ts of capital are pro po rtiona te to the laborthat has been put into them , then, on an average, the length ofthe prod uction period w ould be the quotient of the value of thecapital divided by the value of a year's labor. But every unit ofcapital that rep rese nts th e oth er sources of capital disturbs an dfalsifies that relation. If one hundred and fifty of the threehundred florins capital consists of accumulated interest, thecapital rep rese nts a prod uc tion per iod of only one-ha lf of a year:

if two hundred and fifty florins so consists, the productionperiod would be only one-sixth of a year, the same as if capitalwere only fifty florins, all due to labor.21 The proposition inquestion will be true , therefo re, only with a third proviso re adin gthus: an increase of capital is identical with a mo re ro un da bo utprocess, provided that the increase represents labor only, andnot accumulated interest or monopoly gains.

A fourth objection to the argument is that, in admitting thevalue of the uses of land into the value of the stock of capital,Böhm-Bawerk has given a blow that wrecks the capital conceptthat he emp loys. W hat is it that goes rou nd ab ou t in prod uction




when capital is used? A ccording to B öhm -Baw erk's idea it is notthe capital itself, but something that passes through and abides

for a time in the capital. T h e capital, he says, is previous labor; or,correcting himself,22 it is, more exactly, "stored up previously

applied productive force, which can be no t only labor, bu t alsovaluable natu ral forces or uses of land." Th eir value is though t ofas originating or given off at a certain m om en t; an d, evidently, itis this value, rather than the physical things, which goes arou nd ab ou t jou rne y, an d at length arrives at the goal of finished,enjoyable goods. The average production period must be the

average time that elapses, throughout the industrial system,between the moment that a use of land originates and themoment it reaches its goal. Any valuable use of land that is notyet matured or available for present wants is a postponed orfuture value. Anything , such as a table or a house, that contains anu m be r of these uses owes a part of its present value, therefo re,to the capitalization or discounting of these future uses at aprevailing rate of discoun t. In this way the uses of land a re m ade

a part of the capital value of all things. Farms or mines havevalues due to the capitalization of the value of their uses; andthis, by Böhm-Bawerk's admission, is just what constitutes anycapital value. T h ere is left no logical or consistent test to d ividecapital, as formally defined by Böhm-B awerk, from those thingswhich he would exclude from that concept.

If we put to geth er these objections to the argu m en t, we have itin this form: if it were true in any case, it would be tru e (1) only

wh en the dimin ishing ret ur ns of natural agents did no t offset it;(2) when the change in the amount of capital is not merely theexpression of a change in the rate of interest; (3) when theincrease does not represent accumulated interest or monopolygains embodied in capital; and (4) when the increase is not thecapitalization of the uses of natural agents. There is involved inBöhm -Bawerk's argu m en t, therefore, the fallacy of an un sou ndpremise. If all capital does not consist of, or owe its value to,prev ious labor, a false conclusion is draw n when the length of theproduction period is assum ed to be fixed by the relation betw eenthe stock of capital, counted as previous labor, and the annual




amount of labor. Arithmetical examples of the kind given byhim 23 prove no thin g as to the proposition advan ced unless it can

be shown that the increase in the capital represents labor only.If the concepts of the rou nd ab ou t process and of the averageproduction period are so defective, and yet have obtained widecurre ncy , it m ust be because they contain a partial tru th . In fact,the author at the outset transfers the reader's thought to thepoint from which the conceptions app ear simple and reasonable.This may be better und erstoo d if we state the proposition as ahypothetical tru th . If the value of capital consisted entirely of the

value of labor, if the amount of capital varied directly with the"am ou nt of labo r" and with n oth ing else, if capital were distrib-uted to the industries of longer and shorter processes in a fixedpr op ort ion , the n every increase in the ra tio of existing capital tocu rre nt labor would rep rese nt an increase of the average p eriodof labor between the application of labor and its fruition. Butevery one of t he "ifs" is contrary to reality. T he au tho r states theproposition with all these conditions implied, makes, in a note,

passing comment on its inexactness, fails to see how his generalproposition is affected, and goes on to draw a conclusion.

Hasty and rough observation seems to support the propo-sition; for, taking the extreme cases, evidently a larger propor-tion of the efforts of m en is applied to curre nt wants in primitivesociety, while in a more advanced and richer society a largerpro portio n is em bodied in dura ble agents. But, labor being onlyone of th e factors e nte ring into the am oun t of capital, the ratio of

capital to cur rent labor does not ex press at all exactly the lengthof "the rou nd ab ou t process." T h e am oun t of capital varies as afunction of several factors, of which labor is only one. Mostim po rtan t of the neglected factors is the rate of interest,— that is,the rate at which all of the existing rentals , no m atte r what t he irnature, shall be capitalized, and shall enter into the value ex-pression of the stock of capital.




average of the subjective estimates of all the buyers and sellers.In any particular industry at any m om ent the use of mo re capital

(value) may, perhaps, yield a larger product, either technical oreconomic; but this may even accompany a decrease of the aver-age pro du ctio n period for indu stry as a who le, if the capital hasbeen transferred from an industry with a longer productionperiod to one with a shorter. Along the margin of possible usesthe ex isting stock of capital is app lied, equ alizing thu s the rate ofinterest in the different uses, and altering likewise the ratio oflabor and capital invested. In determining this distribution,

however, the average production period, as Böhm-Bawerkconceives of it, has no causal influence whatever. It is itselfno thin g but an arithm etical resu ltant of all the changes that havetaken place. It is a figment of the same kind as the w age fund. Alengthening of the average productive period could thereforeaccompany as well a fall as a rise of the produc tiveness of capital.

I t remains to mention the mathematical support for hisproposition by which the au tho r is himself misled. Ta king up his

final discussion of the r ou nd ab ou t process, he says:25

"I ventureto think we may now assume it as proved," and then he framessome arbitrary arithmetical tables "to represent the productwhich may be turned out by increasingly lengthy processesun de r th e p icture of a series increasing in a certain ra tio, reg ula ror irregu lar." In the first one he re prese nts a m onth of labor in1888, for that year producing 100 units; for 1890, producing200; for 1892, pro du cin g 400, etc. Plainly, these figures ad d no

proo f wh atever to the prop osition, which, the refo re, is in no waystreng then ed by the statement that, "whatever period of time wetake as our standpoint of comparison, the earlier (present)amount of productive instruments is seen to be superior ,technically, to the equally great later (future) a m ou nt." 26 Whenthe author goes on to the further proposition, that technicalsuperiority is accom panied by a superiority of value, he declaresthat it "may be made absolutely convincing by mathematical

evidence."27 T h e "evidence," however, is merely ano the r set ofillustrative tables, arbitrarily constructed on the assumption ofthe truth of the proposition in question. Introduced with the




statements quoted in the third line of this paragraph, they aredismissed with the remark: "on the single assumption that

longer m ethods of production lead generally to a greater prod-uct, it is a necessary result." 28

5. THE CAPITAL CONCEPT AS THE SOURCE OFERROR.

The validity of the assumption being the question under

consideration, we return from the mathematical evidence to thequestion of the greater productiveness of the roun da bo ut proc-ess. Glancing back over the many difficulties in the author'sargument, it appears that they may all be traced more or lessclearly to the defects of his capital concept. In advance of hist ime, and pres enting a twentieth-century theory of value, he hasbeen content to use the clumsy eighteenth-century capitalconcept. This involves him in inconsistencies at every step. An

advocate of the the ory o f m arginal u tility, he yet emp loys what isessentially a cost-of-production concept of capital, and, despitehis various statem ents to the con trary, he is looking to the pastrather than to the future of goods for an explanation of theirvalue. It is "previous labor" and not future utility, regardless ofthe qu antity, tim e, or value (however it may be mea sure d), tha tdistracts his attention, and fixes it on the figment of the averageproduction period of industry as a whole. A value concept of

capital, where in capital is thou gh t of as merely the present wo rthor capitalized value of the future uses of existing agents, makesthe conception of the rou nd ab ou t process app ear fragmentary,inadequate, and false because only a half-truth. Almost im-mediately he is compelled to go over to the value concept ofcapital, for that is the only one that permits of the discussion ofinterest as a percentage of the principal. Thus at every step thetwo ideas conflict, a greater capital at one moment meaning

more physical instruments, at another meaning durable in-strum ents of greater value expressed in terms of present g oods.Before beginning his task, Böhm-Bawerk has expressed the




ho pe that he m ight give a solution of the prob lem of interest that"invents nothing and assumes nothing." 29 The conceptions of

the average period of prod uction an d of the ro un da bo ut processappear to err both in inventing and assuming.

6 . RELATION OF ROUNDABOUTNESS TO THEOTHER GROUNDS FOR THE HIGHER VALUATION OF

PRESENT GOODS.

Our author says he considers that the "statement of how theproductivity of capital works into and together with the othertwo groun ds 3 0 of the higher valuation of presen t goods, is one ofthe most difficult points in the theo ry of interest and , at the sametime, the one which mu st decide the fate of that theo ry."31 T h e r eis a flaw in the argument at this crucial point. Foregoing adetailed criticism here, let us observe that the technical pro-ductiveness is not co-ordinate with the other causes assigned,

an d that the words "present w ants" and "future wan ts" are usedin the propositions in different senses. In the statement thatpresent goods are worth more than future goods because ofdifferences in wants and p rovision for wan ts, the p resen t goodsare objects which confer enjoyments or satisfactions at thepresent m om ent: the future goods are the same goods thoug htof as secured at a future moment. But, in the statement thatpresent goods are technically more productive than future

goods, the "present goods" are not "present enjoyments," but"interm ediate g oods," or "productive agen ts," to use the phraseselsewhere employed by Böhm-Bawerk. Whether they will ma-ture physically and become enjoyable goods in the future, orw heth er they will merely pe rm it the securing of future good s, ineither case they may be said to represent rather future goods(enjoyments) than present goods in the sense of the otherproposition. To identify the two things as present goods is en-

tirely misleading. It would be a far more consistent use oflanguage to call intermediate, or productive, agents "futuregoods" than present goods.




T o Böhm -Bawerk these three reasons togethe r seem to makea complete explanation. The first two reasons account for theagio on present over future consumption goods, the thirdaccounts for the agio of present production over future pro-duction goods,— i.e., those available at a later period. B ut ther e isonly a mechanical or arithmetical completeness: there is nological unity in the explanation.32 A satisfactory theory of in-terest is not attained until time differences in all kinds of goodsar e traced back to a single principle . T h at principle is the greaterwant-satisfying power of present as compared with futureconsumption goods. The essence of the explanation must befound not in technical production, but in the subjective com-parision of goods.

7. THE WEAKNESS OF PRODUCTIVITYTHEORI ES .

It has been a surprise to many students of Böhm-Bawerk tofind tha t he has presente d a theory, the most prom ine nt featureof which is the technical productiveness of rou nd ab ou t process-es. His criticism of the productivity theories of interest has beenof such a nat ur e as to lead to the belief that he u tterly rejectedthem.33 But evidently such is not the case. Critics have prettygenerally agreed that the theory of the roundabout process is aproductivity theory of interest; and it appears from Böhm-Bawerk's later statement that he does not object to the produc-tivity theory as a partial, but as an exclusive, explanation ofinterest. He believes particularly that interest on consumptiongoods cannot be explained in that way. But he says repeatedlythat the idea of the roundabout process contains the essentialtruth in the productivity theory, and he uses it to explain thatpar t of interest yielded by produced goods employed inlengthened product ive processes . Böhm-Bawerk 's theory ,therefore, so far as it rests upon the productiveness of round-ab ou t processes, is a productivity th eory; an d as such it is to beju dg ed by the tests which h e has set u p , and rightly, in criticizing



186 Capital, Interest, and Ren t

such an argument. The essence of the interest problem is toexplain a surplus of value over the value of the capital

employed.34 It is not enou gh to show that mo re capital (or a m oreroundabout process) will produce more products, or to showthat the aggregate of products has a greater value than thosesecured b efore. T h e value of the capital being derived from thevalue of the p rodu cts, the mo re the produ cts (in value), the m orethe capital (value), unless the interest rate (the thing to beexplained) keeps the capital from increasing proportionately.

In criticizing others, Böhm-Bawerk has said:35 "I grant that

capital actually possesses the physical productivity ascribed to itBut there is not on e single feature in the whole circumstance

to indicate that this greater a m oun t of goods must be worth m orethan the capital consumed in its production; and it is thisph eno m eno n of surplus value we have to explain." Now, comingto this explanation in his own positive argument, 36 he asksrega rdin g the earlier produ ctive instrum ent which he has shownto be technically sup erio r: "B ut is it supe rior also in the h eight of

its marginal utility and value? Certainly it is. For, if in everyconceivable de pa rtm en t of wants for the supply of which we mayor shall employ it, it puts more means of satisfaction at ourdisposal, it must have a gre ater im por tance for ou r w ell-being."This argument curiously has involved in it the whole question;for, if the importance of the future use were, at the presentm om ent, always greater than the present use, everything w ouldbe kep t for the futu re. T h e reason why this is not do ne is that the

future uses are discounted at the prevailing rate of interest.W hat we must dem and at this point from the auth or, acco rdingto his own canons of criticism, is some proof that the greatertechnical product of the future has a greater value at this mo-m ent th an the value of the capital consum ed in it. Th is he qu itefails to give. Instead, he says, after confessing that sometimes th eopposite is the case: "For one and th e same person at on e and thesame point of time the greater amount has always the greater

value."37

But the crucial question why the gre ater am ou nt mayhave a less value at the prese nt m om ent, when th e two pro du ctsar e at two points of time, is not touched . T h e problem of interest




is on e tha t involves a ratio between the value of the capital andthe value of the interest. The fact that the value of a given

number of productive agents may be the same in any one of adozen possible uses , though in some of them very long"ro un da bo ut processes" would give eno rm ou s sums of pro duc tsand in others smaller amounts are at once secured, shows thatthe amount of technical product may diverge indefinitely fromthe value. Böhm-Bawerk has not bridged the gulf between thetechnical productivity and the surplus of value over the capitalinvestment any better than those whom he has criticized.

8 . RELATION OF TECHNICAL PRODUCTIVITYTO THEORIES OF INTEREST.

If the foregoing is true, most of what is characteristic orsignificant in Böhm -Baw erk's Positive Theory must be rejected.38

It must be said tha t he starts with brilliant intuitions into the tru e

cha racter of the interest pro blem , only to go astray on the roa d ofthe old productivity theory. Let us venture an opinion as to thenature of the difficulty and the direction that must be taken toreach a correct conclusion.

T h e initial er ro r in the olde r theories of interest was mistakingthe n atu re of the pro blem . Interest an d re nt were believed to beco-ordinate and essentially similar aspects of value, the differ-ence lying in the kind of agen ts with which they were co nnected .

Ren t was tho ug ht to be due to the surplus value of the prod uctsof the soil, and interest in general to the surplus value of theproducts from capital. Böhm-Bawerk seems at many points ofhis earlier criticism ready to break away from this; but, inadopting the concept of capital that he employs, he made acorrect solution of the problem impossible. He looks upon capi-tal as consisting of ce rtain kinds of agents, and of interest as thesurp lus value or pro du ct peculiar to those age nts. Glimpses of a

diffe rent view ap pea r, bu t on e which certainly falls far short of acorrect one.3 9

Let us suggest the view tha t re nt a nd interest a re very dissimi-




lar aspects of the value of goods. Rent has to do with "produc-tion" or scarce and desirable uses of things. To the interest

theor ist this is in the na tu re , on e m ight almost say, of an ultimatefact. The interest theory begins with the valuation of thesedifferent rents or incomes, dist r ibuted through differentperiods of time. The "productiveness" of a material agent ismerely its quality of giving a scarce and desirable service to m en .To explain this service of goods is the essence of the theory ofrent. Given this and a prospective series of future services,however, the problem of interest arises, which is essentially that

of explaining the valuation set on the future uses contained ingoods. Interest thus expressing the exchange ratio of presentand future services or uses is not and cannot be confined to anyclass of good s: it exists whereve r th ere is a futu re service. It is notdependent on the roundaboutness of the process; for it existswhere there is no process whatever, if there be merely apos tpon em ent of the use for the briefest perio d. A good interesttheory must develop the fertile suggestion of Böh m-B awerk that

the interest problem is not one of pro duc t, but of the ex changeof product,—a suggestion he has not himself heeded. It mustgive a simple and unified exp lanatio n of tim e value w here ver it ismanifest. It must set in their true relation the theory of rent asthe income from the use of goods in any given period, andinterest as the agio or d iscount on goods of whatever so rt, wh encompared throughout successive periods. For such a theory thecritical work of Böhm-Bawerk was an indispensable condition;

bu t, the m ore his positive theo ry is stud ied, the m ore ev ident it isthat it has missed the goal.

N O TES

1. Capital und Capitalzins, Innsbruck, 1884. The second edition,Innsbruck, 1900, is reviewed by F. A. F. in the Journal of Political

Economy, January, 1902. The English translation of the first edition,cited in this article, bears the title Capital and Interest.2. Capital and Interest, preface, p. xix, referring to text pp. 257-259.




3. Positive Theory of Capital, p. 237.4. T h e last five word s, if taken in a literal an d objective sense, a re

open to criticism. See my discussion in the Quarterly Journal of Economics,vol. xv. p. 8 [see above, p. 38].5. Positive Theory, p. 237.6. Ibid., p . 260. T he other reasons given are: (1) differences in want

and provision in present and future (Positive Theory, p. 249); and (2)underestimate of the future (Positive Theory, p. 253).

7. Positive Theory, p. 22.8. Ibid., p. 264.9. Einige strittige Fragen der Capitalstheorie, Wien u. Leipzig, 1900.

Published first as three articles in the Zeitschrift fü r VolL·wirtschaft,

Sozialpolitik, und Verwaltung, in 1899. Reviewed by F. A. F. in the PoliticalScience Quarterly, vol. xvii. pp. 169-173, March, 1902.

10. The first explanation Böhm-Bawerk offers is an appeal topractical examples. It cam easily be shown tha t he wavers greatly in histho ug ht a nd stateme nt of the degre e of validity in the prop osition. See,e.g.,Positive Theory, pp . 20 ,22 ,82 ,84 ,260 ; Einige strittige Fragen, pp . 39,40. T h e second reason given to account for the greater productivenessof round about m ethods is that thereby natu ral forces are enlisted in theservice of m an . Positive Theory, p p . 12-33; Einige strittige Fragen, p. 10.

This second reason is op en to the criticism to be given in discussing th ethird (see below, p. 177); and the two will stand or fall together.11. Quarterly Journal of Economics, vol. xv. pp. 1-45.12. These words occur in Einige strittige Fragen, p. 11.13. Einige strittige Fragen , p . 11: "Die Arbeit desto produc tiver ist, mit

je mehr capitalistischen Hilfsmitteln sie ausgerüstet ist."14. This modifying phrase is needed, as there are several different

conceptions of capital used by Böhm-Bawerk. See "Recent Discussionof the Capital Concep t," QuarterlyJournal ofEconomics, vol. xv. pp . 8,4 0.

15. Einige strittige Fragen, p. 11 : "Was ist de nn eigentlich das 'Capi-tal'? Es ist, wie es mil: einer zwar nicht ganz schulgerechten aberwenigstens im Groben recht zutreffenden Definition bezeichnet zuwerden pflegt, 'vorgethane Arbeit. ' " The note reads: "Genauer ist eszu sagen, aufgespeicherte, vorgeschossene Productivkraft, die nichtnur Arbeit, sondern auch wertvolle Naturkraft oder Bodennutzungsein kann."

16. Einige strittige Fragen, p. 12.17. The "production period" with Böhm-Bawerk means not the

entire time elapsing from the first labor applied to goods, but theaverage time from the embarking of labor in products until itsemergence as enjoyable goods, the whole produced value beingthought of as ultimately consumed. This is carefully restated by the




author in Einige strittige Fragen, pp. 4, 5. Misunderstanding on thispoint has led to most of the criticisms to which Böhm-Bawerk has

replied. We must recognize also that Böhm-Bawerk uses the concep-tion of the p roduc tion period as that of the average for all industry.18. Einige strittige Fragen, p. 11.19. It may seem that this is not tr ue of B öhm-Baw erk's concept of

capital, as he has defined it in term s of con crete thing s an d n ot acco rd-ing to its money exp ression. Yet as in this very passage he has emp loyedthe money expression, and as the discussion of "units" of capital isimpossible without violating his definition, it is permissible to cite thisagainst him.

20. Einige strittige Fragen, note, p. 12.

21. One can imagine the reply that the greater proportion of in-terest is the result, and expresses the lengthening of the period ofproduction; but this fails to explain profits and monopoly gain. It isshifting entirely the test by which the length of a period is to bemeasured; for, if only one-sixth of the results of the year's labor is atany time bo un d u p in the form of capital, evidently five-sixths of it ar eapplied to curr en t uses, are on an av erage consumed at once, and onlytwo m onths elapse on a n average from the m om ent a unit of labor isapplied until it em erges as pro du ct. A nd, finally, it brings us back to the

difficulty tha t the am ou nt of capital must, if it includes an elem ent ofinterest, vary according to the rate of interest: it must involve alreadythe rate of interest which it is the problem to explain.

22. Einige strittige Fragen, p. 11 and note.23. Positive Theory, pp . 262, 266, 267, 269.24. See above, p. 189 note 17.25. Positive Theory, p. 260.26. Ibid., p. 262.27. Ibid., p. 264.28. Positive Theory, p. 268.29. Capital and Interest, p. 428.30. Given above, p. 189 note 6.31. Positive Theory, p. 227, note.32. T h e r ea de r will recall the distinction between the action of the

different causes, the first two being called cumulative, the secondalternative. See Positive Theory, pp . 273-277.

33. See Capital and Interest, e.g., pp. 111-119, 180, 181, and 183,quoted below.

34. See Capital and Interest, e.g., pp. 116-118.

35. Capital and Interest, p . 138.36. Positive Theory, p . 2 6 3 .37. Ibid., p . 2 6 4 .



The "Roundabo ut P rocess" in the Interest Th eory 191

38. After this article was in print the new edition of the PositiveTheory came to hand . It proves, however, to be ^verbatim rep rint, not a

revision of the first edition, the author's official duties having pre-vented his und ertak ing its rewriting at this time. T his will be a source ofmu ch re gret to economic students, althoug h rec ent m agazine articlesby the a uth or make it clear that he has in no essential way modified theconcepts or theories presented in the first edition.

39. E.g., Positive Theory, pp. 352-357.



The Relations betweenRent and Interest

PART / . NEGATIVE CRITICISM OF THE CONVENTIONALRENT AND INTEREST CONCEPTS

1. Logical clearness and practical needs call for a reex am ina-tion and restatement of the economic concepts of rent andinterest.

This proposition expresses the thought of many contempo-rary economic students. The thought is reflected in the recentremarkable revival of interest in this phase of economic theory.The truth of the proposition is, however, not recognized by all.Some look upon the Ricardian doctrine of rent as an eternalverity, and deem the agitators of new economic concepts to bethe pernicious disturbers of theoretical calm. Some economistscling to the traditional views as some theologians cling to out-grown creeds, oppressed with the thought that if the ancientfaith gives way nothing can take its place. With rock-ribbedconservatism argument is vain, but such an attitude has oneconsiderable justification: the recent rent controversy has beenalmost entirely of a negative cha racte r. T h e p eriod of destructivecriticism has elapsed; but erroneous concepts will not be dis-carded until positive and practically applicable ones are put intheir places.

Reprinted from American Economic Association, Papers and Proceed-ings ofthe Sixteenth Annual Meeting 5 (February 1904). The discussants ofFetter's paper included Thomas N. Carver, Jacob H. Hollander,

Charles W. MacFarlane, Lindley M. Keasbey, W. G. LangworthyTaylor, Richard T. Ely, James Edward LeRossignol, Franklin H.Giddings, and Winthrop M. Daniels (see ibid., pp. 199-227). Fetter'sreply to their criticisms is reprinted here.

192



The Relations between Rent and Interest 193

2. The generally accepted definitions of rent and of interestare imperfect in that they mark only a small portion of the

boundaries of the concepts actually employed.Criticism of definitions should not be unreasonably exacting.

It is sufficient tha t the definition state the essential characteristicof the co ncept, for it is impossible to include in a sen tence all thelogical and practical deve lopm ents of the cen tral thou gh t. It is novital fault that the statements that rent is income from naturalagents, and that interest is the income from products used inproduction, do not tell everything about rent and interest. But

the prevailing belief is that all of the essential contrasts of rentand interest so much dwelt up on for a cen tury past, result fromthe one defined and simple difference as to the kind of goodsyielding the income. In fact, however, the concepts of rent andinterest are not developed along parallel lines, other mostfundamental terms being unconsciously introduced into them.T he prevailing concepts of ren t and interest, therefore, have anexceedingly complex character, and what is worse for clear

thinking, this complexity is concealed beneath a simple form.The two propositions above state the negative portion of the

thesis to be here maintained. Part I of this paper, given tonega tive criticism, is con tinu ed in prop ositions 3 a, b, 4, 5 a, b, c,and summarized in 6, these together forming a demonstrationthat the conventional rent concept contains several conflictingthoughts. Part II, consisting of propositions 7 a, b, and 8 is anexamination of two possible but in exp edient ways of ma king therent and interest concepts formally consistent, by developingpropositions 3 and 4. Part II I, th e positive solution, points out inprop osition s 9 a, b, c, the logical and practical line of distinctionto be found in propositions 5 a, b, c, wh en they are consistentlydev eloped, an d conc ludes in 10 and 11 with the outline of a newtheory of distribution.

3a. Since the beginning of m ode rn economic theory, rent and

interest have been defined by social m arks ; rent has been said tobe the income of land owners, interest that of merchants,manufacturers and city men of wealth.

This distinction deserves mention, when the most recent and




one of the keenest critics in this field expresses himself as fol-lows: "It is a com m onp lace of historical econom ics that lan d was

first given the rank of a factor in production coordinate withlabor and capital for the simple reason tha t in Eng land, the hom eof classical political econom y, th e lan dlo rds form ed a social classdistinct from the capitalists and laborers." 1 Adolph Held ,probably th e first to suggest this orig in, states qu ite dogm atically,without discussion, that "the social classification appeared sosharply in England that Adam Smith accepted i t withoutquestion, and accordingly distinguished the kinds of incomes

without inquiring how far property in land and capital belongtogether." 2 However it originated, this thought of rent as apersonal incom e of the m em bers of a social class, persists to-day,as may be seen in many representative definitions.3 The con-scious distinguishing of the conceptions of economic and con-tract incomes is a recent phase of thought, as yet but slightlyreflected in the formal definitions. Ownership, though fre-quently thus included in the definition, has not played an es-

sential par t in economic discussion bec ause, as used, the defini-tion became a mere truism. Goods and incomes were not clas-sified ac cord ing as they belonged to m em bers of different socialclasses, but, on the contrary, social classes were distinguishedaccording as they were receiving incomes from particular kindsof goods. T h e income of the landlo rd as a person was m ade u p ofthe yield from such varied agents that to the personal mark(mem bership in the land-holding class), necessarily was add ed at

once an impersonal mark (the kinds of agents yielding theincome). A man was considered to be a landlord if his mostimportant income came from land. As the thought of rent aslandlo rd's income and as income from land never have been verysharply distinguished , we may designate this second phase of th ethought as 3b.

3b. Rent, in the conventional treatm ent, was theref ore said tobe the income derived from natural agents, and interest that

from produced, or artificial agents.W hen this is m ad e, as it was, the cen tral tho ug ht of r en t, th atpart of the income of landlords that is derived from im-




confuses the rent concept. Certainly none of the contemporarysupporters of this view have as yet framed a definition that is

m ore th an tem porizing . But even if a choice we re mad e betweenthese two essentially different concepts of rent (and of interest)amb iguity would not be banish ed, for in all the old er discussionof re nt an d interest ano the r distinction has been assum ed whosesignificance usually has been quite unsuspected, but which infact contains the key to the problem.

5a. An essentially different distinction between rent and in-terest is tacitly introd uce d into the discussion when the am ou nt

of the bea rer, or source, of ren t is expressed in physical term s asto quantity an d quality, while the b earer, o r sou rce, of interest isexpressed in the general value unit as a principal sum.

That this distinction is made a part of the conventionalconcepts will be recognized by all stud ents of econom ic theory .Equally eviden t is it when once attention is called to th e fact, thatthis is do ne w ithout recognizing the chang ed point of view thustaken toward the two kinds of goods. The Columbus of

econom ic theory who stood this egg on en d is Professor Jo h n B .Clark. All the s tand ard texts declare, in discussing interest, th atcapital consists of concrete g ood s, an d is neither m ere money n orm ere abstraction, yet at the sam e time they speak of capital as ofuniform quality and as yielding a uniform rate of incom e. Th is issaid to contra st capital strikingly with lan d, which is measu red bythe acre, and differs from unit to unit. Professor Clark, in hisbrilliant criticism of this confused thought, has vividly pictured

the varying grades of "capital goods" as he calls the m , and hasshown that artificial agents can be viewed in concrete form andexpressed in physical terms in the same way as natural agentsusually are. Most studen ts, the refo re, a re ready to recognize thetruth of a statement that would have been startling some yearsago: the contrasts sup posed to reside in the objective differencesbetween n atu ral agents and capital ar e bu t subjective differencesd u e to the p oints of view taken by the thin ker wh en h e chooses to

express the quantity of goods in different modes.These differing modes of expressing the bearers of the twoincomes involve co rres po nd ing differences in the conceptions of




their m aintenance and of their incom e. As these conceptions are

but phenomenal forms of the thought expressed in 5 a, thestatement of them will be numbered 5 b and 5 c.5b. In estima ting its net income, the beare r of rent is thou gh t

of as materially unimpaired by use, being preserved in identicalform or in kind; the bearer of interest is thought of as main-tained of undiminished value, expressed in terms of someconventional standard.

This is a contrast in po int of view tha t is entirely unre lated with

the contrast presented in the formal definition, and confusionresults. The taking of different points of view is allowable; in-deed , it is necessary if all aspects of any subject are to be consi-de red . T h e inconsistency is in unconsciously shifting the poin t ofview and believing that the differing na ture s of the objects w erethe cause of the differences observed. Two similar housesviewed, the one from the front and the other from the rear,app ear to be very differently plan ned . T h e one blind m an who

got his idea of the e lep hant by touc hing the tusk is said to hav eargu ed long with the othe r who had cau ght hold of the animal'stail. Debates as hopeless as this, result from the shifting of theconcepts here under discussion.

A side light on the theoretica l analysis above may be given by abrief suggestion of the historical conditions in which the dis-tinction took its rise. The rent contract, almost universallyemployed in the Middle Ages in transferring the temporary

control of wealth, involves a legal fiction. Land, houses, cattle,whose use is delegated to the tenant, must, according to theterm s of the contract usua l in such cases, be ret u rn ed in the sam econdition as when borrowed. The performance of this contractis literally an d physically impossible; bu t by means of ag ree m en tsas to repairs and replacements, the agents can be restored inequally good condition. Every rent contract for the use of ag-ricultural land is in its terms a disproof of the idea that rent is

paid alon e for the original an d ind estruc tible qualities of the soil;yet the fiction of a perpetual rent-bearer deceived Ricardo andhas continued to deceive. The interest contract came into usemuch later, as a money economy arose; hence, its employment




was confined, until the last century, almost entirely to moneyloans and to the transfer of city wealth. This chance historicalparallelism between land, rent, country and landlord on the o nehand, and machines, interest, city and merchant on the other,explains m any of the fallacies tha t beset econom ic thoug ht in thefirst conscious attem pts to analyze value.5 T he ren t contract andthe intere st contrac t are not in any essential way connec ted withland and produced agents respectively, and the chance use ofthem for transferring certain kinds of goods has within the lastcentu ry becom e less an d less com m on. T h e contrasting form ofcontract in ren t and interest (and a corr esp on ding contrast in themode of estimating the income bearer in economic rent andinterest) was introd uce d into the older concepts alongside of theformally recognized characters, making the concepts complexand contradictory.

5c. Contract rent (corresponding with the thoughts in 5a and5b) is treated by all writers as an absolute amount, not as apercen tage of the income bea rer; con tract interest is treated as apercentage of a principal sum. A similar distinction is made inthe case of economic rent and economic interest at certainmoments .

The conception of economic income being more subtle thanthat of contractual income, is less easily grasped. Contractualincom e is person al, economic income is im perso nal. W hile it wascontractual re nt that drew the attention of the earlier economicstuden ts, it is economic ren t (using the term in a br oa de r sensethan mere land rent) that constitutes the real problem ineconomic theory.

Here also a word of economic history throws light on theorigin and occasion of this distinction as applied to the con-tractual incomes. T h e theorists of 125 years ago found contractre nt in extensive practical use. W hile mainly used in refere nce tothe income of land, the word rent was taken in a much moregene ral sense both in English and in the continental lang uages.Houses and machines were then rented as pianos and au-tomobiles are now. At first th e incom e from land was specificallydistinguished as "land rent," but Ricardo's authority specialized




the term "rent" in English economic theory, and, ever since,economists have struggled in vain to establish their word usagein the place of that sanc tioned by many centu ries. A part of everyconventional discussion of ren t is given to exp laining th at "in th eeconom ic sense" it means only the incom e from land cons ideredapart from improvements.

The renting contract doubtless was the exclusive mode bywhich the temporary use of wealth was given and acquired inprimitive communities. It certainly continued throughout thefeudal period to be all bu t universal in the ru ra l econom ies. Th einterest contract was an impossibility until the rise of a moneyecono my. M oney cam e into use first in the cities, an d the re alsowas felt m ost strongly the inconven ience of the ren tin g co ntract.The ventures of the merchant at home and abroad requiredgoods so various in quantity a nd quality, so difficult to m easu reexactly except in term s of value, tha t the borro wing of them washardly possible except in the form first of general purchasing

power, that is, under the interest contract. And it is so to-day.The differing practice was due to business convenience, not toan essential difference in the econom ic na tu re of the goo ds, andwhile in fact m achines can be an d a re "ren ted," land and oth ernatural agents are often temporarily acquired nowadays underthe interest contract. As contractual incomes both rent andinterest are found alternating in practice, and just because thecontracts are so different in ou ter form, the incomes app ea r to

have in many ways essentially different characters.6. T he re are thus included in the generally accepted conceptsof rent, without formal recognition, three essentially differentand often conflicting thoughts:

(a) It is the income of a special social class, marked by theow nersh ip of a special class of physical agents (the characteristicsbeing somewhat shifting).

(b) It is any income having a special relation to price, namely,

that "it does not enter into the cost of production."(c) It is an income that is yielded by wealth measured physicallyand that is expressed as an absolute sum.

In each case rent is in contrast with interest which is (a) re-




ceived by a different social class, and from a different class ofage nts, or (b) has a supposedly different relation to the value ofprodu cts, or (c) is estimated as a percen tage of a principal sum orvalue of wealth.6

If the incomes from wealth are to be grouped logically andclassified practically as rent and interest, the three foregoingtests must be applied to each income as it ap pe ars . It is assumedin the conventional treatment that these tests give consistentresu lts. Unless, however, the th re e tests are logically relate d, it is

incredible tha t the results of their application should coincide inm ore than a small num ber of cases. Ind eed , every contradictionthat is possible by combining these independent tests occurs atone time or another in the conventional treatment of rent. Theentire collapse of the old rent doctrine has been prevented onlyby failure to app ly the tests to all cases and in full m eas ure . T h ethought is shifted as convenience suggests. Starting with theformal definition framed abou t the first thou gh t, the trea tm ent

shifts to the second or third . Such a m ethod c anno t be defen dedas a legitimate employment of a continuity concept. Continuitydoes no t justify the cross-logic of a three-fold or four-foldprinciple of classification. These is no continuity in the jumpfrom natural agents to consumer's rent, or from landlord'sincome to the contract to restore in kind.

In concluding the merely negative part of this paper it shouldbe reiterated that prop ositions 3 , 4 and 5, sum m arized in 6, are

to be interpreted collectively. In the foregoing argument it hasno t been m aintained that any on e of the three principal tho ug htscontained in these three propositions cannot be made formallylogical if it is developed by itself consistently. It is, however,m aintained her e that when these several thou gh ts are employedtogether without a recognition of the resulting complexity,fallacious contrasts and conclusions result. Differences betweenren t and interest, that are assumed to arise ou t of the na ture of

the two classes of agen ts, are but th e reflection of the chang ingsubjective attitudes of the theorists.In Part II is to be considered the logical character of the




concepts resulting from a consistent dev elop m ent of each of thefirst two thoughts here recognized.

PART II. EXCLUSION OF TWO POSSIBLE FORM ALSOLUTIONS OF THE INCONSISTENCIES

7a. Formal consistency might be gained if the distinctionbetween ren t and interest were m ade to tur n on the difference inthe social classes that receive the incomes; but this is almostpurposeless in economic theory.

A merely formal concept of rent might be framed about thethoug ht of a social class. Re nt migh t be defined as the income ofwealthy men or of those moving in the best society. Englishconditions naturally suggested to the thinkers of a century agothe contrast of agricultural land hold ers and city m en of wealth.Bu t it is safe to say that no such social classification ever has beenor ever could be presented that is either exact or significanten ou gh to serve in the analysis of value. T h e econom ic theory ofvalue is essentially an atte m pt to explain imp ersonally the originand degree of importance of goods. T h e social class concep t ofrent thus involves a distinction not primarily econom ic, and onethat is incapable of even a moderate degree of exactness inpractical application. When, moreover, membership in a socialclass is tested by ownership of a particular kind of agent, thesocial aspect of the concept almost disappears. The connectionof the thought of land rent and landlords as a class could con-tinue only in the peculiar social conditions of En glan d, an d the nit corresponded only in a broad, not in an exact way, withrealities.

7b. Formal consistency is possible if the distinction betweenrent and interest be made to turn solely on the difference in theclasses of physical agents that yield them; but this distinction isquite incapable of practical application.

T h e only classification of wealth tha t ever has been suggestedfor this pu rpo se is that into na tura l and artificial, or un pr od uc edan d pro du ced agents, or land an d "capital." Such a classification




may be requ ired to meet two tests. It is ex pedie nt only if the twoclasses of agents can be practically distinguished by marks orevidences tha t can be taken accoun t of in the practical world; it islogical only if it is consistently applied.

Lan d in an unim prove d state is rare if not unknown in m ode rnsocieties. As nearly every concrete thing is a bit of naturalmaterial adapted artificially to some degree to man's use, ev-eryth ing acco rding to this conception should have in it eleme ntsof capital and interest, and elements of land and rent. Nopracticable m etho d of deciding wheth er a thing is land or capitalever has been suggested, much less applied.7 W hen one consid-ers the na tu re of th e case, it ap pears impossible even to conceiveof such a test.

Therefore economic theory, unable to make the divisionbetween land a nd capital alon g a con crete and objective line, hasbeen led to m ake it alon g an abstract line. Rent was said to be theincome from land "considered as unimproved," or "consideredapart from improvements"; while interest was that part of theincome of land th at was to be considered as du e to improvementsor to produced agents. Ricardo put it that rent is paid to thelandlord for the use "of the original and indestructible qualitiesof the soil." Few writers that have accepted the Ricardian de-finition, have failed to apologize for the evident error in thephrase. Ricardo apparently meant, not that all qualities wereindestructible, but that they might be spoken of as un destroy ed,if annu ally rep air ed . In de ed it wou ld be difficult to find a w ritertha t does not, both in theoretical and practical problem s, give u pthe impossible task of distinguishing all the value due to im-prov em ents o n la nd . It is so m uch easier to wave the difficultyaside by "incorporating" or "merging" the improvements intothe land . It has not been recognized that the original thoug ht hasthus been departed from, that the practical difficulty has beenslurred over, and that a metaphysical division has been substi-tuted for a concrete classification. The designating of an im-proved field as land or n atura l agents, and of an improv ed pieceof iron as capital, becomes a purely arbitrary matter. The test isnot found in immobility. A re the Suez Can al, the Hoosac T u n -




nel, the ploughe d field, land or capital? A touch of hum an laboris at one time believed to convert the entire material into capital,a larger amount of labor at another time is declared merely toincorporate itself with the land and become indistinguishablefrom it.8 The notion that it is a simple matter to distinguishbetween th e yield of natu ral agen ts an d th at of im prove m ents isfanciful a nd confusing , is responsible for many erro rs , includingthe cruder part of the single tax doctrine. The distinctiondoubtless more nearly approaches business realities in the caseof city building sites than in that of agricultural land. It must,however, be maintained that the objective classification of landand capital as natural and artificial agents is a task that alwaysmust transcend human power of discrimination.

T he vagueness of the line between n atural age nts and capital isincreased by the fact that money and artificial agents measuredas "capital" can be and are so often invested in land . W her e lan dbecomes a com monly m ark ete d form of wealth, the classificationof rent and interest according to the social class of ownersbecomes meaningless, and the classification accorded to kind ofagents grows quite out of harmony with business usage. Anattem pt to meet the difficulty is seen in the m ore rec ent c ontrastbetween capital from the individual and capital from the socialpoint of view, which is an abandonment of the distinction ac-co rding to the class of agents in most of its possible app lications .This complicates instead of solving the difficulty, which m ust belogically met.9

8. Formal consistency m ay be gained if the distinction betweenrent and interest is made to turn on their supposed relation tocost of production.

It is always a scientific service to carry to its extreme pos-sibilities any abstract distinction, for thus only can be madeapparent its merits and defects. In the gradual enlargement ofthe no-cost-of-production notion of land rent (noted in prop-osition 4) until it becomes the essential thought in the rentconcept, the view of Mr. John A. Hobson represents nearly thisultimate developm ent.10 Moved by the desire to find a basis inthe theory of ren t for a ju ste r system of distribution and of




taxation, he reexamines the problem and arrives at the conclu-sion that "the law of rent, in its extreme application, is valid for

each factor." A fund is require d as well to keep land a nd labor, asto keep capital in repair, above which sum, he thinks, the dif-ferential expenses of pro duction "w hether they be ren t, interest,or wages, will not enter into the market price of the supply."While he thus narrows the conception of rent in some ways, hewidens it greatly in others. He retains, though after modifica-tion, the notion of a no-cost-factor, and broadens it greatly. Hestops just short of rejecting the whole distinction between land

and capital as unproduced and produced agents. As a result ofthis and o the r rece nt criticisms, a doctrine of gen eral ren t, or ofquasi-rent, is the dominant idea regarding rent to-day in manyminds.11 As a negative criticism Hobson's essay has the highestmerits, demonstrating, as it does, how illusive are many of thesupposed peculiarities of the various incomes in the oldertrea tm en t of d istribution. His idea of cost and "no-cost" factors ism ore over closely in tou ch with realities, for cost in his discussion

is a very concrete thing, representing the repair and replace-ment fund needed for each factor. Moreover, there is for thethe ory of social legislation m uch suggestiveness in the idea of thesurplus feature in each income that is above "cost," and there-fore amenable to taxation. For all this, Hobson's treatment doesnot yield a satisfactory solution of the problem of the rentconcept, notably because rent is left quite unadjusted, andunrelated to, the interest concept. Though Hobson, in con-

cluding , expresses the ho pe that he has laid the basis for a "soundtheory of distribution," he recognizes the complexity of hisconcept and the difficulty of its application.12

T h e distributive system presen ted by D r. C. W. M acfarlane13

is, however, a further step into abstraction. That writer, believ-ing that any given factor may, at a given moment, have variousrelations to price, reaches the som ewhat bew ildering conclusionthat land (which "includes all natural forces except labor") and

entrepreneur's service, each may yield both rent and profit;capital may yield rent, profit and interest; and labor may yieldren t, profit and g ain. W he the r and how far any income is thus to




the other m od e, has been noted above in proposition 5 . No t onlyis it possible to view both aspects of use -bea rers consistently, bu t

clear theory and sound business practice require that this bedone .

9c. As a necessary resu lt of the distinction be tween the wealthand the capital aspects of agents, and of the thoughts as to themaintenance of the factors, rent must be expressed as an abso-lute amount, and interest as a percentage of a principal sum.

This is stated mainly for formal completeness, but it em-phasizes the reten tion of a feature of the older treatm ent whosesignificance was unsuspected. In fact the expression of interestas a percentage marks interest as the form of income mostcon nec ted with mobile and saleable agen ts, it makes of interes t a"marginal" factor in price, a fact so much emphasized in theolde r trea tm en t, it connects interest peculiarly with the elem entof time, as so many writers have felt it should be. Yet the per-centual form of expressing interest is impossible when the in-come bearer is measured by physical norms, it is practicallyinevitable when th e income be are r is expresse d as a capital sum .

10. The rent and interest concepts, when looked upon assuccessive steps in the analysis of value, instead of as coordinateshares dividing between them the incom e from m aterial agen ts,are m ade consistent internally, mu tually, and with the foregoingconceptions of wealth and of capital.16

It was suggested in proposition 5 that the treatment of landrent as an absolute amou nt, and of interest on prod uced goods asa perce ntage of their value, grew out of prevailing practice in thecontracts for the use of wealth. Either mode of expressing in-come may be logical if consistently employed, and if divorcedfrom the confusing prejudice that the difference is due to thedifferent nature of the factors yielding the two incomes. Thiserror recognized, economic theory must abandon the old dis-tinction as to the diffe ring factors. W hat is left in place of the old

rent concept? All that was best in it, freed of error: rent is theusufruct attributable to any material agen t. T he uses of m aterialagents considered apart from the using up of the agents, are inthis view always and only rent s. This is a logical thou gh t, a useful



2 0 8 Capital Interest, and Rent

one and one applicable to practical problems.W hen to rent has thus been assigned all cu rre nt incomes from

material agents the re is no place for the old con cep t of inte rest asthe yield of prod uced agents. But rents accrue at different pointsof time and vary in value accordingly. Present uses and futureuses differ. A more or less durable agent represents a series ofrents. The capital value of a good is the sum of its prospectiverents and uses, discounted at a rate that reflects the prevailingpre m ium on the pre sen t. Capitalization, thus viewed, is logicallya later stage of the problem of value than is rent; and interest

first appears in connection with capitalization. As the marketexpression of the àll-pervasive premium of present over future,interest may appear in connection with any gratifications,w hethe r they be yielded by natural or by produ ced , by m aterialor by hum an , by durable o r by perishable agents. Th er e is not awriter from Ricardo to the present time by whom this universalapplication of interest is not vaguely recogn ized; t he re probablyis not one by whom its application is not more or less inconsis-

tently restricted.17

11. The propositions above imply the need of a radical re-statem ent of the theory of distribution, an d suggest its essentialoutlines.

The prevailing theory of distribution rests upon the idea ofthree (more often lately, four) objectively differing factors, towhich correspond three (or four) different kinds of income.Some later, m ore subtle, attem pts to restate the theo ry have left itfar from realities and quite unusable. Another solution may befound by com bining into a logical system th e th ree typical modesin which goods appeal to wants. First, goods appeal directly, aswant-gratifîers imm ediately available. H ere is req uire d a theoryof wants and enjoyable goods, and the technical analysis ofmarg ina l u t i l i ty . The men ta l p rocess here examined i schronologically the first stage of evalua tion in the h istory both ofthe individual and of the race. Secondly, goods appear as moreor less durable , and may be mad e com parable by being consid-ered, through repairs, to be lasting use-bearers, yielding in agiven short period a group of uses. Here is the place for the




theory of rents. This is chronologically the second stage ofevaluation, when d urable goods are tho ugh t of and expressed in

te rms of the i r usuf ruc t s . Th i rd ly , whenever two non-synchronous gratifications, rents or series of rents, are ex-changed, they must be discounted to their present worth to bemade comparable. Here is required a theory of capitalization,that is of economic inte res t. T his is historically as well as logicallythe latest stage of evaluation, characteristic of a developedmoney economy and of a "capitalistic" era. These three phasesmust be observed in every complete analysis of value. Th ey a re in

some respects analogous to the three dimensions in geometry.T h e older econom ic theories were curiously crude caricatures ofsuch an analysis. T h e cost-of-production theory of the exchan gevalue of comm odities, (assumed to be the w hole theory of value)roughly corr esp on de d only with the first. T h e old theory of landren t caugh t a fragm entary view of the second. T he old theory ofinterest on a narrowly conceived class of "capital," was an in-effective attem pt to express the thir d. Th e theory of value in the

present conception proceeds from the simple to the complex,from the immediate to the distant gratification, from the goodsdirectly in contact with the senses, to those whose utility is indi-rect and only in expectation. While the negative criticism of thepast thr ee decades has wrecked the old distributive theo ry, m anyadmirable positive contributions, widely diverse in character,converge to the solution here presented.

DISCUSSION

All taking part in this discussion have shown their belief thateconomic theorizing is worth w hile, and that theo ries both goodand bad are affected by, and in turn affect, practical life. Inaccordanc e with this view, the leading proposition of the open-ing pap er that the conventional concepts of ren t and interest a reillogical and inconsistent, has a corollary that these concepts areunfitted to explain the p roblem s of the business world, an d thatanother conception must be adopted.

To the frank and friendly criticisms offered in this debate, I




shall rep ly as brevity perm its. Th ose taking p art in the discussionmay be arranged in a continuity classification (the validity of

which I fully admit) from those who for regard of traditionaltheories would overlook a lack of logic, to those who for re ga rdof logic are willing to ado pt new theo ries. T h e conservatives arefar from harm on ious in the ir beliefs, an d by m utual cancellationthey have left for consideration only a residuum of argument. 1 8

T h e p rime contention of the first part of my open ing pap er isnot, as it was assumed by Professor Hollander to be, "the his-torical relativity of the traditional theories."19 T ha t thou ght is a

minor one, and the brief historical paragraphs were givenm erely as "side lights" on the origin of the err or s. 2 0 It would bean easy task to defen d and stren gth en these historical referenceshad any one of the speakers sought to controvert them at anyspecific po int. Even th e critic who first waived the whole o pe n ingpaper aside as "conjectural history" gave to the historicalsuggestions "conditional assent."21

Pre judg m ent has, I fear, caused m ore th an one of my critics toshut his eyes to the repeatedly avowed purpose of the paper,which was to show that the traditional concepts are internallyinconsistent, illogical, containing several conflicting thoughts,an d that they w ere thus defective even in the days of Ricardo. Inrecognizing th at som e practical issues in Ricardo's time served toobscu re this lack of logic, the pa pe r h ad , to be sure, a suggestionof historical relativity. It is admitted by all the speakers that ofrecent years the emphasis on the various thoughts of thesecon cep ts has been shifted; an d som e would believe tha t this shifthas cu red the infirmities in logic. O n the contrary I m aintain thatit has aggravated them . T h us , changes in industry an d changesof thought have combined to enhance the difficulties inherentfrom the first in the older concepts.

Professor Carver has dissented generally from the negativepart of the opening paper, regretting the attempt "to show thatthere is no basis for the scientific distinction." 22 He would ex-plain the confusion by declaring that there are two clearly dis-tinguishable concepts, the popular and the scientific, which attimes contradict and overlap each other. As none of my critics




attempted a specific disproof of this portion of my openingargument I may limit myself here to a reassertion that the so-

called "scientific conce pt" is inconsistent in itself\ that no writer hasem ployed it without shifting thou gh t and unten able conclusions.It is for the re ad er to determ ine w hethe r I have not shown tha tthe so-called "practical concept" has been confused with theso-called "scientific concep t" in econom ists' m ind s. If this is tru eit follows that some of the supposed contrasts between rent andinterest are but the reflection of the unconscious shifting in thesubjective attitude of the thinker.

A test is thus afforded for any revision of the concepts; novalid contrast can be drawn between the concepts of rent andinterest where there is an unconscious change from one toanother of the three conceptions that have been noted. A shift-ing eclecticism becomes impossible when these differentthoughts are clearly recognized. My critics, however, avoid aclear-cut decision, an d uph old conceptions uniting two or m oredisco rdan t elem ents. It is not easy, the refo re, to say on ju st what

ground they take their stand. They defend in the main theattempt to distinguish between land and artificial agents ob-jectively, but their reasons are largely drawn from supposeddifferences in the relation of the income to price, and yet ac-cording to their own statements this distinction is not co-extensive with that of the two objective classes of agents.Moreover, their arguments involve a use of the third distinc-tion,23 which they are endeavoring to overthrow.

This confusion may be seen in Professor Hollander's con-tention tha t the critics of the tradition al distinction overlook " thecomposite charac ter of the law of diminishing r etu rns ." H e saysthat the characteristic that suffices to "differentiate land fromcapital as a productive good" is its diminishing efficiency inextensive cultivation; "while capital is available in identicalhom oge neo us quality with respect to extensive use." Observe thereasoning by which this conclusion is reached.24 The assump-tion, however, that any particular enterpriser, in enlarging hisbusiness, is forced to take up poorer land, surely is not war-ranted. Except in the rare case that the particular enterpriser




had been using the one best piece of land, he can hire m ore landas good as he h as, or even bette r, if he cares to pay the prevailing

rental, jus t as he can hire m ore an d be tter mach ines. T h ethou gh t evidently shifts to the old dynam ic an d social conceptionof the growing scarcity of land with increasing population, andfrom the part icular entrepreneur to the personif ied totalpopulation.

There is another shift, for while the physical conception ofland is retained, and it is thought of in terms of acres, theparticular pro du ced goods called capital, are tho ug ht of in term s

of a value unit. This creates the illusion that the differentialre tu rn is peculiar to land , and that th e value units of capital areof hom ogeneo us quality. T h e varying yields of land are looked atin a way that m akes them necessarily ap pe ar as differentials, andthe varying yields of other agents are by reason of the mode oftheir capital expression, converted from differential incomesinto ho m oge neous capitalized sum s. W hat is this capital but theincomes (or I should call them rents) of productive goods,

capitalized at the prevailing rate of interest? A given rent thuscor resp on ds to one un it of capital, a double re nt to two units ofhomogeneous capital, and a free good, or rentless unit, to nocapital at all. This capitalization of ren ts is possible in the case ofland also, the price of land being the sum of the anticipatedfuture rents, discounted to their present worth; and the en-terpriser can purchase x dollars' worth of land as easily as xdollars' worth of machines, and the units are jus t as hom ogen e-ous in one case as in the other. In fact, both kinds of agentsfrequently are boug ht as value units. T h e word " am oun t" in thecontrast between an amount of land and an amount of capitalbegs the whole question, for in one case it m eans units m easu redby area and differing in yield, in the other it means thehom oge neous value expression of differing un its. It is impossi-ble to escape these errors if the analysis insisted upon in theopening paper is overlooked.

Professor Carver has maintained 25 that there are abundantreasons for distinguishing between the income from land andthe income from produced goods, in that interest as a personal




incom e is a necessity to insu re waiting, and thu s is a condition ofefficient pro du ction . Th is is retaining the traditional conception

of the distinction between the objective classes of goods, whilerep ud iating the traditional reason ing, and while bro ade nin g theconception of ren t to any surplus or un ear ned income. T he ideaof surplus is generally very vague, but under the application ofany suggested surplus-test the concept of rent would extend tonum berless incomes and fractions of incomes not derived fromland, and would fail to include numberless incomes and frac-tions of incomes that are derived from land in any usable sense of

that term. Replies that, to my mind, are conclusive on theprinciple here involved were given in the course of the dis-cussion.26 It follows from this surplus conception that any por-tion of the income derived from produced goods that wouldhave been saved if the ra te of interest h ad been lower, is rent, notinterest; and that any natural element of fertility in land thatwould have been used u p except for the factor of waiting, wouldtherea fter yield interest, no t ren t. A dopting for the mo m ent th e

terminology of the critic, his challenge may be accepted; thepropo sition that "m en m ust receive interest as a personal incometo induce them [i.e., the marginal abstainers] to wait" and that"interest as a personal income is necessary to secure efficientproduction," not only can be but must be paralleled by likepropositions concerning rent. Men must receive land rent as apersonal income to induce them to bring the marginal land intocultivation and to maintain undiminished the supply of pro-ductive qualities. Thus land rent is necessary to secure efficientproduction continuously from land. The margin in question isno t a ha ir line, it is in prac tice a zone of wide exten t. Th is fact isthe basis of private prop erty in land as broadly a nd surely as theother fact is the justification of interest. We are not concernedhe re w ith th e ethical question , but in each of th e two cases a socialpolicy is based on the n eed of ma intaining the m arginal units ofsupp ly, a policy which always ap pe ars unjustified when atten tionis directed only to the surplus cases.27 It is in conflict with allexperience to assume that the actual supply of land would bekep t up to its efficiency if re nt d id not go to some perso nal age nt




who m ade himself responsible for the repairs , the restoration offertility, and the waiting for the future involved in refraining

from "Raubbau," the immediate exploitation of the land. (Insome cases, it is true, this agent may be a group of men actingcollectively through government, as in the case of any form ofpublic ownership.)

As M arshall says: "T he gre ater pa rt of the soil in old cou ntries. . . . has in it a large elemen t of capital. Man can tur n a ba rreninto a very fertile soil."28 To deny first that the supply of landeither as extension or fertility has any marginal relation to sac-

rifice, or is within m an's con trol, and the n w hen this is shown tobe an er ro r, to assert that such land is not land , but capital, andthat the income from it is not rent, but interest—this is theapproved mode of showing the exceptional character of rent.Are the terms land and rent thus to be refined away from anyrelation to the real things about which the economist begins toreason , an d of which the practical world thinks whene ver thoseterms are used? 29

Professor Taylor admits that my thesis is valid when confinedto static conditions, but he adheres to "the relation-to-cost"concept in discussing dynamic conditions.30 In his very sugges-tive remarks he has not revealed his thought fully enough tomake clear the gro un d of his reasoning, but it would appe ar to beessentially the one just examined. While Taylor and Carverdiffer in som e points, they ag ree in othe rs, both alike rejectingthe static reasoning on which Hollander bases his conclusion.

Dr. MacFarlane also holds a relation-to-cost concept of rent,but most of his discussion is given to a negative criticism of myposition. His own views, though known to many readers, werenot developed in this symposium. Some points will be notedbelow.

The attacks on my positive proposals refer in part to theirsupposed implications and consequences, in part to the ad-visability of the terms suggested.

1. Professor Taylor objects31 that the first of the thr ee stagesin the analysis of value is not fundam ental and pre ced en t to theothers, but is co-extensive with them. This criticism probably




proceeds from a misunderstanding of the briefly expressedproposition. Not all goods, but only immediately enjoyable goods

were said to present the first problem in the analysis of value.The second problem, that of the value of usufructs, and theth ird , that of the value of future uses, ar e, as my critic suggests,but developed phases of the general problem of value.

2. Professor Taylor believes that in criticizing Marshall's at-tempt to trace a continuity between rent and interest, I havedenied the validity of reasoning by continuities.32 It is not to atru e continuity concept that I object, but to a pseudo-continuityconce pt. As the th ou gh t passes along the series from ren t as anincome yielded by one k ind of concrete goods, to interest as theincome yielded by another kind, there is unconsciously in-troduc ed a new con trast. T h e value expression of capital and thepercentage expression of interest are equally applicable to theren t end of th e series, an d it is an er ro r to assume th at they ar eapplicable only at the other end. My suggestion is to applyconsistently each distinction in turn.

3. Dr. MacFarlane declares33 that the outcome of my proposalis the ob literation of all distinctions between r en t, interes t, profitand wages. This conclusion, drawn from my statement that"interest m ay app ea r in connection with any gratification," is dueto the failure to apprehend how and how far the proposedconception differs from the one apparently taken in this dis-cussion34 by the critic himself, that each kind of income cor-respo nds to a particular kind of income bearer. T h e proposal isto look upon interest in all cases (as it is now in many cases) asbeing that particular phase of value connected w ith differencesin the time of accrual of incomes. Recognizing that a day's workto-day is worth more than one next year, does not identifyinterest and wages. Wages payable at different points of timevary in value as do rents at different points of time, and thecomparison of each series is expressed by the interest rate.

4. Dr. MacFarlane objects

35

further that the propose d view ofcapital identifies the capitalized value of monopoly surplus withcapital in g ene ral. Tr u e it doe s; ther e is no o the r logical way.36 Itis not quite clear what monopoly means as the critic uses the



2 1 6 Capital, Interest, and Rent

term , but any source of income th at is continuin g and foresee-able can be capitalized an d sold, an d thu s becomes hom og ene ous

with the value of the continued control of other sources ofincom e. When from any cause incom e ceases, the capitalizationcollapses, monopoly or no monopoly. The puzzle as to whetherthe $5,000 or the $12,000 are to be called interest, is merely aconfusion of the problems of economic income and contractinterest.

5. Dr. M acFarlane says37 that I have tried to identify land an dcapital by a mere arithmetic device that does not touch the

substantial differences. I would reply that because an arithm eticdevice has been inconsistently applied in the traditional theory,illusive contrasts not existing objectively, have been created. Idissent from Professor Carver's opinion that it is merely aquestion of terminology in dispute,3 8 and I agree with Dr.MacFarlane that there is involved more than a question of def-inition.39 The arithmetic device is significant at least in a nega-tive criticism of th e supp osed contrast between rent as a differ-

ential and interest as a homogeneous income; it serves to showthe fallacy in the old view as to the special relation of rent toen tre pr en eu r's cost of pro du ctio n; a nd it sets in a clear light theerror in the traditional contrast between the value expression of"capital" and the concrete expression of land. This proof of thesubstantial unity and continuity of the body of income yieldingwealth has been suggestively styled by Professor Taylor 40 in aphrase drawn from chemistry, "allotropism." One group of

elements has been mistaken under differing conditions for twoelem ents, (the condition in this case being the subjective attitud eof the thinker). Take away the fallacious contrast, apply thearithmetic device consistently, and the objective classes of"natura l age nts" and "capital goods" are seen to be m erged intoone body of wealth, presenting three value aspects: gratifica-tions, usufructs, expectations. But identifying the substancedoes not identify the allotropic states; coal is not diamond,

though both are allotropic states of carbon; and no more is rentthe same as interest. Like most analogies, however, this one is notperfect, and may become m isleading. But this has bro ug ht us to




another question deserving special answer.6. It is taken for g ran ted that my proposition is to treat ren t

and interest as identical. Several of the speakers have assumedthat the idea of the paper was that of John B. Clark, andthereupon they have criticized his views, not mine. My indebt-edness (shared in common with all contemporary students) tothe inspiration of this ablest of theoretical economists, shouldnot impose on him any responsibility for the theory of distribu-tion he re pre sen ted. Th e prepossessions of some of the spe akersm ake it difficult for the m to see the full im po rt of a denial of the

parallelism between the two incomes, rent and interest on theon e h an d , and th e two objective classes of good s, land and capitalon the other. They therefore attribute to me conclusions de-duc ed from premises of their own supplying. Th is is seen in theassumption that a denial of the conventional contrasts betweenvaluable natural agents and (conventional) capital is a denial ofthe difference between re n t an d intere st. It is consistent with myviews to speak , as Professor Daniels does, of the identification (or

m erging), of the classes of wealth comp osing "land and capital"(in the conventional sense); but this is not an identification, asothers consider it to be, of rent and interest. Having made thispoint as clear as I could in the limited space allotted, I can merelyre-asse rt that this lack of parallelism is of the very essence of thecontention in the opening paper.

7. Finally, it is said41 that if the old concep ts are to be rejected,it is better to devise new terms than to adapt old ones havingmisleading associations. To this view must be conceded a largemeasure of validity. Regarding the term rent there is less dif-ficulty, as the broa d m ean ing h ere suggested not only has stro nghistorical suppo rt, but in many languages, including o ur own, isgrounded so deeply in pop ular usage that no economic au thorityhas been able to up roo t it. There is nee ded only an elimination ofinconsistent thoug hts from the concept and th e retention of oneof the ideas that always has bee n pre sen t in it. Regard ing interestthe decision is m ore difficult. Only yesterday econom ists talkedof "the theory of profits" when they meant what is now called"the theory of interest." The term interest, until recently, was




used almost if not quite exclusively, as m ean ing th e incom e froma money loan. This is a con tractual, not an economic incom e, and

as such is not a genu s coo rdin ate with econom ic ren t, ra th er it isspecies of the genus contractual rent. Is it not significant thateven in the classical treatm en t in terest as an ac cruin g or realizedincome expressed as a percentage never appears except as theresult of a contract?

T h e essence of the so-called p rob lem of interest, acc ord ing tothe view in the open ing pa pe r is not fundam entally contractualinterest, but capitalization. The problem logically following that

of rent is not that of analyzing a coordinate income, for rentabsorbs all the incomes accruing from material agents at anymoment of time; bu t it is tha t of the value-calculation on fu tureincomes. Th e title of the ope ning pap er m ight perhap s better be:"T he relations between ren t and capitalization." T ha t, how ever,would have misled the reader approaching it with the olderconceptions in mind. Either "the theory of discount" or "thetheory of capitalization" would be a m ore ap pr op riate te rm for

this part of the problem than is the theory of interest, andpossibly some still better term can be found. The final use ofterm s is a m atter of social conven tion; but w hen th e real na tur eof the problem is understood, and then the fitting terms aresuggested, they will no t long fail of acceptance, as the ex am ple ofthe rapid c han ge in the usage of the word p rofits gives reason tohope.

Whatever other impression may be left by this discussion I

trus t it will be that I have con tende d for a merely verbal change .On the contrary I have outlined, whatever be its defects, aradically new conception of the whole theoretical analysis ofdistribution. Doubtless this session has been most profitablyspen t in con siderin g the m ore negative phases of the subject; b utthe scant attention that has been given to the yet m ore im po rtantpositive outcom e of the study m ay leave an im pression of nega-tion and verbal criticism that is misleading.

I welcome the able, forcible and somewhat unexpected sup-port that has been given to my thesis in this discussion by theadvocates of a realistic theory.42 Opinion on this subject is



2 20 Capital Interest, and Rent

that it truly states the princ ipal cause of the distinction in question . T h eau tho r quo ted makes it the m ain thesis of his book that the difference

between land rent and interest, though thus originally observed as amerely transitory historical fact, remains of permanent significance.2. Zwei Bucher zur socialan Geschichte England's, p. 160.3. Note for examp le, Ricardo, 1817: "that portion of the prod uce

of the e arth , which is paid to the land lord," etc.; F. A. W alker, 1887:"the remuneration received by the landowning class," etc.; Marshall,1890: "the income derived from the ownership of land," etc.; Bullock,1897: "the return that is secured by the owner," etc.

4. Th is question is dea lt with m ore fully in "T he passing of the oldrent concept," especially pp. 333-350.

5. Th is tho ug ht was stated with a somew hat different emp hasis in"The next decade of economic theory," pp. 80-81.6. Still other distinctions find partial recognition in current

economics. See "The passing of the old rent concept," 325-332, for adiscussion of space extension and of time in this connection.

7. The ablest attempt to face this difficulty formally, that ofBöhm -Bawerk, in his "Positive theory," p p. 55-56, is quite unsuccessful.A criticism of his arg um en t is given in "Recent discussion of th e capitalconcept," pp. 57-65.

8. This idea as held by Böhm-Bawerk is more fully criticized in"Recent discussion of the capital concept," p. 63.9. The "land concept of rent" in the somewhat complex form as

held by Marshall, is criticized in "T he passing of the old re nt concep t,"pp. 320-325.

10. "The law of the three rents," article in Quarterly Journal ofEconomics, vol. 5, p. 263; restated in his "Economics of distribution,"1900. Likewise in vol. 5, p. 289 , ap peared Jo hn B. Clark's rem arkablepaper on "Distribution as determined by a law of rent."

11. T h e chang e in the ren t concept is reviewed in "T he next deca deof economic theory," pp. 78-79.

12. "The law of the three rents," pp. 287-8.13. Value and distribution, 1899.14. The mistaken origin of the no-cost concept is shown in "The

passing of the old rent concept," especially pp. 345-350.15. This solution was implied in the capital concept presented in

"Recent discussion of the capital concept," pp. 65-70.16. This conception was briefly suggested in concluding the criti-

cism of Böhm-Bawerk: "The 'roundabout process' in the interest

theory," pp. 185-188.17. The broader conception of interest was presented in "Recentdiscussion of the capital concept," pp. 33-73, especially pp. 49-57.

18. Brevity compels me to confide these closing comments to the




criticisms adverse to the opening paper.19. H ollan de r, "Discussion, A.E.A." Proceedings 5 (February 1904):

204.20. See above, pp. 197-198.21. See Hollander, pp. 204, 205.22. See Carver "Discussion, A.E.A." Proceedings 5 (February 1904):

205.23. See above, p. 205.24. See Hollander, passage beginning "No en trep ren eu r" and end-

ing "only in inferior efficiency," p. 208.25. See Carver, pp. 200-201.

26. See Daniels, p. 226. Dr. Whitaker's remarks to the same effectunfortunately were not obtainable for this report.27. This applies also in answer to the remarks of Professor Ely.28. Marshall, Principles of economics, 4th edition, p. 224. He does

not d raw the conclusion., however, that is he re suggested as necessary.29. The interesting facts cited by Professor LeRossignol, p. 224,

seem to m e to illustrate, not to disprove, the view I have take n, which isfar from a denial of the "surplus return" to the investor in land, or inother wealth, in a new country.

30. See Taylor, "Discussion, A.E.A r Proceedings 5 (February 1904):221.

31. See Taylor, p. 21832. See Taylor, p. 220.33. MacFarlane, "Discussion, A.E.A." Proceedings 5 (February

1904): 215.34. As is well known to students of econom ic theory Dr. MacFarlane

has in his work "Value and distribution," obliterated the distinctionsbetween the objective classes of agents yielding rents, and other in-comes, more fully than has any other writer.

35. See MacFarlane, pp. 213-14.36. See Professor Gidding 's reply , "Discussion, A.E.A."Proceedings 5(February 1904): 226.

37. See MacFarlane, p. 212.38. See Carver, pp. 203-4.39. See MacFarlane, p. 214.40. See Taylor, p. 219.41. Hollander, p. 209.42. Daniels, Giddings, Marburg, Whitaker. Unfortunately no re-

port was secured of Mr. M arburg's brief and p ointed rem arks or of Dr.Whitaker's subtle discussion. Professor Keasbey's attitude toward thequestion is favorable to the o pe nin g p ap er as against its critics, but hispo int of view is original., and his tre atm en t in several ways not consis-tent with the views I have expressed.



Review of Gustav Cassel,The Nature and Necessityof Interest, and E u g e n

von Böhm-Bawerk , RecentLiterature on Interest

These two books, published almost simultaneously last year,

testify to the attention which the theoretical problem of interest

still commands. The first is a well-executed translation of the

new material embodied in the second German edition (1900) ofB ö h m - B a w e r k ' s Geschichte und Kritik der Capitalzinstheorien. The

t ransla tors wel l say in t he i r p re face :

W hateve r may be the final verdict of science reg ard ing th e agio theo ry,no one can doubt that the splendid example of criticism and analysiswhich is contained in Böhm-Bawerk's work has raised theoreticaldiscussion to a higher level and has been a constant and powerfulstimulus to investigation in this field.

T h e p reface i s la rgely take n up wi th the t r ans la to r s ' ep i tom e of

the cr i t ic i sm of John Rae, to whose ideas the au t h o r ' s a t t en t i o nhad been cal led af ter the firs t edi t ion of h is w ork ap p ea re d . The

Reprinted from Political Science Quarterly 20 (March 1905). The re-viewed works are: Eugen von Böhm-Bawerk, Recent Literature on In-

terest: A Supplement to Capital and Interest, trans. William A. Scott andSigmund Feilbogen (New York: Macmillan Co., 1903); and GustavCassel, The Nature and Necessity of Interest (Lond on: Macmillan & Co .,1903).

222



Review of Gustav Cassel and Böhm-Bawerk 223

translation is made up mostly of somewhat detailed replies toM arshall (a modified abstinence theo rist), Ca rver (an abstinence

theorist), and Wieser (a productivity theorist), and to variousadvocates of labor-cost and exploitation theories.

T h e book has, on the w hole, a negative rath er than a positivecharacter. To borrow a phrase from recent politics, the author"stands pat" on what he had written fifteen years before. Moreclearly than before h e realizes an d frankly confesses that he is aneclectic. He ad m its (p. 137) tha t som ething may be said against

eclecticism of every kind, but the objection seems to him leastwhen "incoherent elements of different theories are combinedinto an external unity," He rep eats his familiar cond em nation ofthe productivity theory, declaring (p. 121) that "the solution ofthe problem of interest can never be found in the process ofthought peculiar to that theory." But he here means completesolution, and again and again he repeats his belief that twoe lements coopera te in the exp lana t ion (p . xxx i i ) , t ha t

psychological and technical points of view must be harm on ized(p.8), that interest has several sources, including the ro un da bo utprocess (p p. 45 , 46 , 143, 145 etpassim). H e contrasts (p. 142) hisown partial productivity theory with "the genuine, outspokenproductivity theories," which leave out "a full half of the actualcauses of the phenomenon of interest." So far from seeking toevade the appearance of eclecticism, he takes pride (p. 146) inthe two-fold nature of his explanation, and declares it to be "a

recognized tru th " tha t a correct solution m ust be an eclectic on e.We must express an emphatic dissent from this lame and im-potent conclusion which, however, completely verifies theopinion of the reviewer as expressed in the Quarterly Journal ofEconomics (vol. xvii, p. 177) tha t Böh m-B awerk's theory , "so far asit rests on the productiveness of the roundabout process, is aproductivity theo ry." An eclectic conclusion disap points the highpurposes with which Böhm-Bawerk began his study of the

subject, and the high hopes he inspired. His whole discussiongoes astray for lack of a consistent conception of capital. Heseems at times near to a broader and truer conception of the




prob lem of time-discou nt, bu t fails at such points to develop histhought.

Th e author is entirely untou che d by those cur ren ts of thou gh twhich, beginning with J.B. Clark and Irving Fisher, have de-veloped an entirely new literature of the subject of the capitalconcept. For lack of such a point of view, most of the subtlecontroversy of the presen t volume m ust app ea r to many read ersto be the echoes of ancient opinions. The argument does notmove forward, but m erely m arks time. T he familiar ideas, whe nreiterated, may still engage the attention of a small group of

special stud ents of abstract theo ry, but they have lost their powerto stimulate and inspire.

Dr. Cassel attempts first to develop a new theory of interestand secondly to examine the causes why interest is and alwayswill be necessary. He presents a theo ry of interest as the pay for"waiting," and differs with Böhm-Bawerk, to whom he refersslightingly (p . 22), whose review of th e h istory of the subject hecriticizes as one-sided, and to whose roundabout process he

presents essentially the same objections that had been pointedout a year before by the reviewer (in the Quarterly Journal ofEconomics, vol. xvii, pp. 163-180). But Dr. Cassel meets some ofthe same difficulties tha t befell Bö hm -Bawerk, for he also fails toget a consistent capital concept. He connects the payment for"waiting" with the definite factor capital (p.67), and then aftersome delay limits capital to "produced goods except suchconsumable goods as are already in the ha nd s of the c onsu m er"(p. 88; see also p. 133). He does not see that waiting may beprese nt both in the case of consumable goods in the han ds of theconsumer and in the case of land (which, in the old-fashionedway, he usually thinks of as not being an object of waiting). Hewavers somewhat when (p . 167) he declares tha t interest is paidnot for "the use of a piece of concrete c a p it a l. .. but for 'goods ingen era l,' " for land m ust he re also be include d. But it is needlessto adduce other examples to show that such a limitation of thecapital concept makes impossible a complete theory of time-discount.

In the part dealing with the necessity of interest, the book is



Review of Gustav Cassel and Böhm-Bawerk 225

more original. It discusses at leng th and suggestively the chang estha t would be worked in the motives of men if the rate of interest

fell from th ree p er cent to two pe r cent or lower. T h e shifting ofthe margin of application of agents is described, and "the mainargu m ent of the book" (p. 157), which is to show "th e necessity ofinterest," is strikingly brought out. The argument is strong asdirected against the notions of the over-production of capitaland the fallacy of saving. By this, its most interesting and valu-able feature, the book should be ju d ge d as a contribution toeconomic theory.



Interest Theories,Old and New

Abstract theory, always of fundamental importance, has, astruly as practical policy, its "topics of the day," and just nowdiscussion of the interest problem is especially active. Notableamong recent articles are those by Professors H. R. Seager,Irving Fisher, and H. G. Brown.1 Mere individual differences ofopinion concern us little; but certain impersonal equities whichother students of economics have in the interest problem, areinvolved; for in recent discussion is fairly presented the issuebetween the old and the new conception of the interest prob-lem.2 And yet the case for the newer view m ight seem to be on thepoint of being lost before the bar of economic opinion. It is aduty, therefore, to attempt a more adequate statement of theneglected truths.

The rival views may be characterized as the technological3 andthe psychological interest theories. For more than a decade, thepsychological theory has been gaining adherents in America.There has not been lacking adverse criticism in scattered bookreviews and in occasional footnotes; but in the main, the op-

position has been of a merely negative sort, in that mosteconomists have failed to reckon with it and have adhered to theolder theory.

1. PROFESSOR IRVING FISHER AS A PRODUCTIVITYTHEORIST

Seager's paper, just cited, is the first systematic attempt that

has been made to disprove any version of the newer theory (for

Reprinted from American Economic Review 4 (March 1914).

226



Interest Theories, Old and New 227

Fisher's "impatience theory," which Seager attacks, has beengenerally supposed to be a psychological theory ). T h e discussion

started by Seager necessarily follows in large part the linesdetermined by Fisher's treatment. Let us first, therefore, try toget our bearings as to that. My own position on the generalquestion involved in this discussion has in the past been withFisher so far and so long as he adhered to a psychologicalexplanation. And yet, I must recognize the merit of Seager'sargu m en t in several respects, and , as a psychological theorist, Ifind myself more disquieted by Fisher's reply than by Seager's

direct attack. Particularly regrettable is the impression of con-fession an d avo idance which Fisher gives. H e seems to cap itulateon th e main issue. T o the cha rge that he failed "to take accountof the elemen ts of productivity or th e technique of prod uction ,"Fisher enters a d enial4 in term s which seem to imply tha t he is agood productivity theo rist. T his reply comes as a surp rise even tothose who were aware of certain am biguous expressions on thispoin t in Fisher's writings. For if he has not m ean t to deny , in hisprevious writings, the validity of productivity theories, oneknows not what to believe. Here are some significant passages:

There are many who, consciously or unconsciously, ascribe thephenomena of interest to the productivity of capital in g enera l. .. . Yeta very slight examination will suffice to show the inadequacy of thisexplanation.5

To raise the rate of interest by raising the productivity of capital is,therefore, like trying to raise oneself by one's boot-straps.6

Absence of interest is quite compatible with the presence ofphysical-productivity, and ... therefore whatever element is responsi-ble for the existence of interest in the actual world, that element cannotbe physical-productivity.7

The conclusion, therefore, from our study of the various forms ofthe productivity theory is that physical-productivity, of itself, has nosuch direct relation to the rate of interest as is usually ascribed to it; andin the theories which we have examined, the rate of interest is alwayssurreptitiously introduced.8

"Interest is due to the productivity of capital" . . . This propositionlooks attractive, but it is supe rfic ial... the superior productiveness ofroundabout processes of p rod uc tion ... has no power whatever to createinterest.9



2 2 8 C a p i t a l , I n t e r e s t , a n d R e n t

Now, however, instead of meeting the question directly, andre-affirming his disbelief in the productivity theo ry, he seems to

surrender his position as the easiest way of ridding himself ofcriticism. He says that he pleads "not guilty to the charge ofneglecting the 'productivity' or 'techn ique' eleme nt." H e speaksof "the true way in which the 'technique of production' entersinto the determination of the rate of interest;" 10 he says, " 'theproductivity' or 'techn iqu e' element, so far from being lacking inmy theory, is one of its cardinal features;" 11 and, again, "Pro-ductivity has not been neglected in my treatment of interest."

Now it is true that these somewhat general expressions alonemerely raise the reader's doubts. For to say that he does notneglect "productivity" o r tha t it is not lacking in his theo ry doesnot positively commit Fisher to belief in a productivity expla-nation of interest as distinct from an essentially psychologicalexplanation. But other expressions deepen the reader's doubts,and suggest strongly that Fisher objects only to certain formu-

lations of a productivity theory, not to productivity theories onprinciple.

He admits12 that in his book he has criticized " t h e ordinary13

productivity theories," but says that he then "explained to thereader that later in the book / would rebuild t h e 'technical' featurewhich, in the theo ries of oth ers , I soug ht to destroy." Aga in14 hespeaks of his strictures on " t h e ordinary productivity theories,"implying that some productivity theory or theories may be

tenable. Again he reproa che s Professor Seager with being "o pento the charge of regarding all productivity theories as alikesound in principle" (implying that some are sound?). And heexpresses the belief that "every one who has read Böhm -Bawerkshould believe that t h e ordinary, or as Böhm-Bawerk calls them,the 'naive' productivity theories are snares and delusions." 15

These passages taken by themselves give the impression thatthe a utho r is at hea rt as good a productivity theorist as any on e;indeed, he collates them himself, seemingly, for the purpose ofpro du cin g ju st this imp ression. This clearly is out of accord withthe spirit and letter of much else that Fisher has said in den yin g




productivity as a causal explanation of interest. Th e m ost lenientinterpretation is that Fisher is here speaking in the spirit of an

earlier statement:16

If after all has been said and understood, any one still prefers to callsuch a loan "productive,"no objection is offered, provided always that itis made wholly clear what is meant by the term "productive."

Here it seems clear that Fisher did not think the term pro-ductive, which he carefully enclosed in quotation marks each

t ime, was a fitting adjective for such loans, made by borrowersfor the purpose of gaining a profit. In his reply to Seager,however, Fisher's mood is all for so emphasizing any earlierstatement of the tolerant sort as to make it appear that he doesnot deny the productivity theory of interest. He cites severalpassages in his earlier writings in which he has used such ex-pressions as "the elem ents of tru th contained in the claims of theproductivity theories."17 He says: "It was through mathematics

that I saw the na ture and im porta nce of productivity in relationto interest," giving the impression that he at one time disbelievedin productivity as a causal explanation but had come to see hismistake. He says that his book "was written expressly for thatpurpose" (rendering of the technique element).18 Despite hisability to add uc e these evidences of his innocence of th e c ha rgeof disbelief in the productivity intere st theory, Fisher is pen iten tfor no t having m ade his position clearer. H e declares that he h as

himself "to blam e" "for the mistakes he (Seager) has m ade ." H econcludes this recantation:19

moreI ought, I doubt not, to have put forward the productivity element

___ore prominently and with less avoidance of the term "productivity." Iremember consciously avoiding this term so far as possible lest thereader should associate my theory too much with the manyfalse theories ofproductivity.20

T h e m ost clear-cut evidence that he cites from his writings toprove that he never intended to deny the validity of the pro-ductivity theory per se is this :21 "Again I specifically stated (The




econom ists, and its tru e im po rt unrecognized by some who haveread it.

As is shown in the passages cited above, my conception longhas been that in the analysis of the value problem the value ofenjoyable goods must be first considered; that this should befollowed by the valuation connected with the physical productivityof agents; and that only after full consideration of income ex-pressed in psychic terms, in physical terms, and in monetaryterms, is it in o rd er to take u p the theory of time value, which is

then to be developed as the basis of capitalization of incom es a ndof a resulting rate of contract interest.

3. POSITIVE STATEMENT OF THE CAPITALIZATIONTHEORY

Accordingly, in my text, the first forty pages are devoted to

psychic income and to the p rocess of valuation which results in aprice of things considered as directly enjoyable objects of choice.In the next division, comprising nearly sixty pages, is taken upthe physical productivity of wealth, the uses of goods, and thevaluation of those uses. Contract rent is here based upon thevaluation, to individuals, of the productive uses of durableagen ts, ju st as contract-price is based u po n the valuation ofenjoyable goods. A hu nd red pages were thus given to explaining

as well as I was able to do it in a first sketch of the theory ofdistribution for elementary students, what income is, and howincome arises, so that it may be the object of choice and ofexchange. In the next division (Capitalization and Time-value) Idiscussed, in seventy pages, the various problems of value thatarise from a comparison of goods in point of time. I treatedcapitalization as the p roblem of valuation of dura ble agen ts, anddeveloped a theory of the ra te of interest on con tract loans based

on this conception of capitalization.For the rea de r unacquain ted with the capitalization theo ry, itsessential features may be he re ou tlined. At the outset let us seekto avoid th e confusion caused by the use of the w ord interest in




two senses, first, of a paym ent for co ntract loans ma de in te rm sof m oney , an d, secondly, of the difference in value between likegoods available at different times. Economists have of lategenerally recognized these two meanings, and have sought todistinguish them by the terms contract and economic interest.29

T h o ug h such a terminology is an impro vem ent u po n the old, itleaves an am biguity that continually re ap pe ars in the discussion.I therefore used the word interest solely in its original and stillalmost universal commercial sense of contract-interest, and Iused the term time-value to designate the other problem of"economic" or "implicit" interest.30

Seeing the two problems as in large measure distinguishable,and seeking for the logical starting point in the study, I asked:Which of these two questions was prior in history and which isprimary in logic? In both cases the answer was time-value. Thecanon of p r io r i ty in economic reason ing app l i ed he re :whichever of two interrelated problems or mutually actingforces can be thought of as existing without the other, must beprimary in the explanation. A rate of interest on money loanswould be unthinkable if there were no differences relative totime in the estimates men placed on some goods available atdifferent points of time. O n th e other ha nd , the use of m oneyan d th e practice of borrow ing and lending in term s of mon ey a reof comparatively recent origin; and the estimate of time-valuetoday is thinkable, and is actually made, apart from the use of

money or from any act of borrowing or exchange betweenpersons . It must always have been found , as it now is in countlesscases, in an impersonal relation between man and objects.Further, I applied the same test to determine the priority ofcapitalization and the rate of interest on loans (taking capitali-zation to m ean simply pu tting a valuation, a presen t w orth , up ona more or less durable group or source of incomes). The usualview has been that capitalization is subsequent to a rate of in-

terest. But capitalization, as the process of putting a presentworth upon any durable source of wealth and thus discountingits future uses by the act of exchan ging it for ot he r things, musthave occurred many times before a rate of contract interest




existed. This process surely occurs now in many cases withoutprevious reference to such a rate. If, ho wever, the less cru de viewbe taken, that the interest problem studied is economic interest(tim e-discount) ra th er tha n c ontract interest, it is clear that thisalso is an aspect of the capitalization ra ther tha n an tece de nt to it.This rate of discount ("implicit" or "economic interest") is initself no thin g bu t an arithm etic reflection, in n o sense causal, ofthe preference implied in the valuation of goods. RobinsonCruso e, in his individual econom y, m ust, by his choice of goods

which embody uses maturing at different periods, wrap up ascale of time-values which only later, if ever, except in a veryvague form, appear as an ar i thmetic ra te . The primit iveeconom y in its choice of enjoyable goods of different epochs ofmaturity, in its wars for the possession of hunting grounds andpas tures , in its slow accumulation of a store of valuable du rab letools, we apons, houses, boats, orn am en ts, flocks an d he rds , firstappropriated from nature, and then carefully guarded and

added to by patient effort—in all this and in much else theprimitive economy, even though it were quite patriarchal andcommunistic, without money, without formal trade, withoutdefinite arithmetic calculations, was nevertheless capitalizing,and therefore em body ing in its economic env ironm ent a rate ofpremium and discount as between present and future.

This, then, is the essence of the capitalization theo ry of interestas nearly as we can put it in a proposition: The rate of interest

(contractual) is the reflection, in a m arket price on m oney loans,of a rate of capitalization involved in the prices of the goods inthe community. The price of durable agents is a capitalizationwhich involves a discount of their future uses, and this is logicallyprior to the rate of contract interest. T h e logical o rd er of exp -lanation is from num berless separate acts of choice of goods withreference to time, to the value (and prices) of durable goodsembodying future incomes, and finally to the market rate of

interest.31

Th is interest th eory was new in its order of developmen tfrom elementary choice; in the priority it assigned to capitalizationabove contract intere st; in its unified psychological explanation of allthe pheno m ena of the surplus that emerges when und ervalued




expected incomes approach maturity, the surplus all beingderived from the value of enjoyable (direct) goods, not by two

separate theories , for consumption and production goodsrespectively; in the integration of the interest theo ry with the wholetheory ofdistribution; an d in a num be r of details necessarily re latedto these features.

A ju st opinion of the new er theory is possible only to those whoare willing to re-think the fun dam ental economic concepts. T h echange in the interest theory is only a part of the general re-formulation of distributive theory which has bee n un d er way for

a third of a century. It is to be understood only in that light.

4. SOM E DIFFICULTIES IN FISHER'S IMPATIENC ETHEORY

From the standpoint of the capitalization theory, the variousquestions raised in the discussion between Seag er an d Fisher an din Professor Brown's paper, appear from a new angle. It seemsto be a different standpoint from that of Fisher, although attimes he may ap pe ar to hold it. It is tru e that in his work The Rateof Interest (1907), in which his theory was first presented, heintroduced his "first approximation" with a chapter on time-prefe ren ce, which he declares to be "the central fact in the theoryof interest," giving in a footnote without com m ent at this point 32

a page reference to my text. He says that "the income conceptplays the central role." 3 3 But he treats capitalization as sub-sequent to a rate of interest, saying:34

When any other goods than enjoyment incomes are considered theirvalues already imply a rate of interest. When we say that interest is thepremium on the value of a present house over that of a future house weare apt to forget that the value of each is itself based on a rate ofinterest. We have seen that the price of a house is a discounted value of

its future income. In the process of discounting there lurks a rate ofinterest. The value of houses will rise or fall as the rate of interest fallsor rises. Hence, when we compare the values of present and futurehouses, both terms of the comparison involve the rate of interest. If,




therefore, we undertake to make the rate of interest depend on therelative preference for present over future houses, we are making it to

depend on two elements in each of which it already enters.And again he says:35 "The value of the capital is found by

takin g the incom e which it yields and capitalizing it by means ofthe rate of interest." Still later he writes:36 "Capital value ismerely the prese nt or discounted value of incom e. Bu t wheneverwe discount income we have to assume a rate of interest."

From the moment Fisher begins his first approximation 37 he

takes his standpoint in the money market and supposes anexisting rate of interest to which rates of time-preference ofindividuals are later brought into conformity. His treatmentthroughout is of the actuarial, mathematical type, concernedwith the explaining and equalizing of incomes which are as-sumed to be present. I feel as strongly as does Professor Seagerthe neglect, in this treatment, of the element of productivity inaccoun ting for the existence of the incom es.38 From my point of

view the difficulty appears to inhere in Fisher's general con-ception of the prob lem.39 I differ from the productivity theorist,however, in looking upon the interest problem as that of ex-plaining not the existence nor yet the magnitude of those in-comes, but the rate of their valuation to the valuation of thecapital sum (principal) to which the contract rate (percentage)refers.

I share with Seager the opinion that there is no "sovereign

virtue in mathem atical mod es of tho ug ht" which safeguards themathematical economist from error. Indeed, there seem to becharacteristic mathematical illusions.

I share Seager's doubt of the aptness of the proposition thatimpatience is "a fundam ental attribute of hu m an na tur e" or is"the essence of interest," though my doubts are for a differentreason.40 It is interesting to notice that Fisher himself did notseem to hold this view when he w rote The Rate ofInterest, in 1907.

He said:41

It shows also that the preference for present over future goods of likekind and num ber is not, as some writers seem to assume, a necessary




attribute of human nature, but that it depends always on the relativeprovisioning of the present and future.

In an article in 1911,42 he for the first time used the termimpatience in this connection, which he confesses is but a"catchword" in place of time-preference. With this change ofname has gone a change in the conception of the thing desig-nated.

In my own book, The Rate of Interest, for instance, this term was

unused because unthought of, and the clumsier and less explanatoryterm "time-preference" was employed instead. The proposal toemploy the term "impatience" is here made for the first time. . . .Impatience is a fundamental attribute of hum an nature.

In 1912,43 he restates the same view: "It [impatience] is afundamental attribute of human nature. . . . Interest is, as itwere, human impatience crystallized into a market rate."

My objection to this change of te rm s is tha t if the new w ord ismore "catchy" it is less fitting than the word it displaces. Im-patience is freighted with suggestions of "e agerness for c han ge,restlessness, chafing of spirit, fretfulness, passion" (Webster).Time-valuation or time-preference better expresses the com-plex of motives which at one time impels men to get goodsearlier, and again leads them to postpone use by storing goodsand by wo rking for the future in many ways. A prevailing rate ofinterest is the resultant of all kinds and degrees of time-preference in a community, preference for goods in the future insome cases as well as preference for goods in the pres ent, an d itseems a great straining of words to attribute th e resulting rate ofinterest to impatience alone. Patience, self-denial, the qualityexpressed in the old term abstinence, have a no less im por tantpart in the explanation.

Let us pass with brief mention the question which takes up a

goodly space in Seager's criticism and Fisher's reply—whetherindividuals are able to, and actually do, bring their "rate ofimpatience" (time-preference) into exact accord with that im-plied in the m arke t rate of interest. Seager did well to question




Fisher says,46 that Seager regards "all productivity theories asalike sound in principle." Seager's opinion has, however, an

element of progressiveness in it, for he says that nothing hasshaken his "confidence in the essential soundness of theproductivity-theory explanation of interest, when presen ted notas the complete explanation but as the necessary supplement tothe discount theory."47 He suggests in his explanation (also ec-lectic) of the way in which exp enses of pro du ction an d prices arerelated , that it is "ne arer the truth to say that pr ices. . . determinethe expense of prod uction than the reverse." Yet he concludes,48

"the chain of causation is not straight, bu t it tur ns up on itself in acircle." He seems abou t to avow the same doc trine of co ordin aterank and mutual influence as between technical productivityand time-preference, but he turns to the view that the part ofproductivity is in a fuller sense causal and primary, and thattime-discount is the resultant of this.49 He declares that it isborro w ers' "d em an d for capital growing out of" the productivitywhich is "the positive, active influence determining interest."

The capitalization theorist is compelled regretfully to rejectthe com prom ise involved in this en ligh tened eclecticism. For thisis the way Seager begins his indication of what his theory "doesand what it does not involve:"50

It starts out with the proposition that entrepreneurs desirous ofmaking profits by supplying goods at current prices compete againstone another for control of the factors necessary to production. This

competition tends to keep their own profits down to a large or small"wages-of-management" and to force them to pass along as the re-muneration of the factors which they hire, subject to this deduction andto a deduction for the replacement fund, the total price which theyreceive for the things which they sell. It is, therefore, contended that itis the part these factors play in production as compared and measuredby the entrepreneurs that determines the shares of this total price thatare assigned to them . The part that capital plays presents two aspects:that of capital goods available at a given instant of time, and that of the

purchasing power tied-up in these capital goods during the period thatthey are performing their productive function. In relation to the firstaspect, entrepreneurs appear as buyers. Normally, under conditions offree competition, the prices which they must pay for capital goods




conform to their expenses of production. In relation to the secondaspect, entrepreneurs appear as users of capital. How much interest

they can afford to pay for such use, entrepreneurs estimate throughcomparing the productive services of capital goods at current priceswith the productive services of workers, who at some points are in-terchangeable with capital goods, at current rates of wages. Throughthese comparisons the general rate of interest, so far as it depends uponthe demand for capital for use in production, is determined.

Space does not permit of detailed comment to show thatalmost every sentence of this arg um en t clashes with the physical

productivity theory.T h e p roductivity of which use is m ade when the explanation is

really begu n is no t technical o r physical produc tivity at all, bu t isthe capacity which goods bou ght with ju dg m en t at current priceshave in the ha nd s of ente rprisers , of yielding a net su rplus,sufficient not only to remunerate them, but to pay contractinterest to lenders. The amount of interest which "enterprisers

estimate" they can afford to pay (i.e., the maximum amount) isthe difference between the discounted, or present, worth ofproducts imputable to these agents and their worth at the timethey are expected to m atu re. T h e prices of the agents, which a rethe costs, involve (not presup pose) a rate of discount. As was saidin my text:51

When the agent is bought outright, the very concluding of the

bargain fixes

a relation between the expected value of the income andthe value of the capital invested. In other words, the exchange ofdurable agents virtually wraps up in them a net income which it isexpected will unfold year by year when rents mature and are secured.

Undo ubtedly, at this point is the crucial test of the com petin gtheories. Is it productivity of agents that makes business menwilling to borrow and pay interest? Could they afford to payinterest varying with the time element, if the value of the pro-

ductivity, however large or small, were not discounted in theprice of the agents they borrow (or buy with borrow ed money)? Ithink not. Seager says:52




It is their [the business men's] demand for the savings of others foruse in business enterprises that causes the balance always to be on the

side of a positive rate of interest.But this demand cannot reasonably begin unless there is

already a balance on th e side of a discount of values of the futureuses of agents. Viewed from the stand poin t of the capitalizationtheo ry, the causal or de r is the reve rse of that of the productivitytheory. Of course, there must be future expected uses (in-comes), that is, productivity, as th ere must be m en , if ther e is to

be a valuation process, and as there must be some social or-ganization if the re are to be markets an d prices. But if the futurevalue of the produ cts were not discounted, the re could be no r ateof interest. It varies with the magnitude of the time-discount atwhich borrowers, on the whole, are able to buy the title to thefuture products; and time-discount varies with changes in thewhole complex economic situation, of which technical produc-tivity is but one eleme nt, othe rs being forethoug ht, provision for

need s in accordance with a prevailing stan da rd (itself a complexthing ), social and m oral ideals, political conditio ns, etc., etc. It isthe opportunity which the possession of ready money gives tothe enterpriser to buy goods at a price involving a discountprop ortion al to the futurity of the expected ret urn s, that m akeshim willing to contract to pay interest. When these expectedreturns (the products) do appear in the course of time, theirvalue-magnitude is, or should be, greater than was their in-

vestment magnitude, and it is out of this value-surplus, directlyconditioned on an antecedent discount of the value-productivity, t h a tcontract interest is paid.

Before leaving this phase of our subject, let us look at it fromone more angle, in the hope that some reader may find this amore helpful point of view. My contention th rou gh ou t has beentha t the productivity theo ry in any of the versions known to me ,and, specifically, in the entrepreneur version, defended by

Seager, involves a confusion between physical-productivity an dvalue-productivity; th at in the cou rse of the reas onin g the re is ashift from the one idea to the other. Seager admits that this




confusion "has sometimes occ urre d," 53 bu t he believes that the reis a "necessary or logical connect ion between physical-product ivi ty as a general phenom enon of capitalistic production a n dvalue-productivity." To bridge this logical gap seems to him,however, to be so simple a task that express proof of it may beassumed "to be superfluous," for he thinks it is merely "anobvious deduction from the accepted principles in rega rd to thedetermination of exchange values and prices." His proposition,therefore, is substantially this:5 4 T he capital (agents) by virtue ofits technical productivity here and now, produces more goods,and these goods have (when commodities generally are con-sidered, and not some exceptional commodity) a greater valuethan the goods which would have been obtained without thecapital. Hence, Seager concludes:

Admitting the physical-productivity of capital . . . the value-productivity . . . or more accurately an increase in the total value-product as a consequence of the assistance which capital renders to

production seems to me to follow as a logically necessary consequence.H ere , where S eager would expect dissent, I readily ag ree ; bu t

hasten to add that this value-productivity is no t at all that of whichthe productivity theorist speaks in his interest theory. Here weare saying m erely: If agents used at this m om ent p rod uc e m ore ,the products (speaking of the general and usual result) havem ore value here and now than the prod ucts that could have been

obtained without the help of the productive agents. But thevalue-productivity w hich furnishes the motive to the en terp rise rto borrow and gives him the power, regularly, to pay contractinteres t, is du e, no t to the fact that these pro ducts will have valuewhen they come into existence, bu t to the fact that their expe ctedvalue is discounted in the price of the agents bou gh t at an earlierpoint of time . T h e two relations are in different planes. It is aproblem of two dimensions which may be represented as fol-

lows:




A (Physical-productivity)

synchronousrelationTime

C (Capitalization) B (Value-productivity)relation

Present Future

The modern productivity theorist assumes as quite obviousthe value-productivity B, as derived synchronously from thephysical productivity A, but he ignores the problem of thediscount relation in time between B and C. The pseudo-value-productivity assumed in the productivity theo ry of interest is all,however, involved in the un exp laine d discou nt relation betw eenB and C, not in the identity relation between A and B. Th is is thepetitio principii of the theory .

T h e value-surplus referred to is that pa rt, im putable to, andvarying with, the time element, and not that due to the peculiarcommercial skill, or to the luck, of the enterpriser, in findingunusually low valued agents in one place, or unusually highvalued products in another. If one did not bear in mind thecomplex character of the gross income "profits," one might betempted to exclaim: If the enterpriser must pay as interest thewhole am ou nt involved in time-discoun t, he neve r would have a

motive to borrow . It is ju st he re th at ap pe ars so plainly themiddleman's character of the productive borrower. The rate ofinterest is a market price at which (security, etc., equalized) theindividual borrows; but those with superior knowledge andsup erior foresight a re able to buy in one economic gro up a nd tosell their products in another, to buy "underestimated" goodsand to find a favorable market for highly esteemed products.They are merchants, buying when they can in a cheaper andselling in a de are r capitalization m arke t,55 acting as the equaliz-ers of rates and prices. It is the m ercantile function everyw hereto do this. So we must dissent again when Seager says:56




And it is this demand for capital growing out of the important rolecapital plays as a factor in production, that is the positive, active in-

fluence determining interest, in the same sense that utility may be saidto be the positive, active influence determining value.

Rather, this demand for capital determines interest in thesame sense tha t the merchan t ' s demand de te rmines thewholesa le pr ice of m erch and ise , he mere ly ju d g in g andtransmitting to the wholesaler and manufacturer the ultimateconsumer's demand for various goods. In this case, the mid-

dlem an's d em an d for capital (that is, for loans) is a reflection ofthe time-valuation of consumers as embodied in the pricesprevailing in the markets for goods.

Professor Seager seems so near at times to abandoning thecost-of-production theory of prices with which the productivitytheory of interest is related, and has contributed such valuableand needed criticism to the present discussion, that it is to beho pe d th at he may yet br ing his powerful aid to the cap italization

camp.

6. THE CAPITAL CONC EPT IN THE INTEREST THEOR Y

The difficulty of seeing the capitalization problem in a broadway, as som ething touch ing all sources an d gro up s of incom e, is,however, insurmountable so long as one adheres to the old

concept of capital. Seager uses capital

57

"in the sense of theprod uced means of further prod uction," and distinguishes landand cap ital as two grou ps of concrete objects, on e of which owesits value to na tu re , and the ot he r to labor. It is, of course , futile toattem pt h ere a restatem ent of the reasons, negative and positive,against this view. They have been pretty fully stated elsewhere.Seager seems still to conceive of the interest problem as con-nected only with pro du ced means of production, as did the older

English economists, and as all productivity theorists incline todo. This inclination is found along with a treatment limitedmainly, if not entirely, to contract interest.

Bu t how can the "economic interest" aspect of the prob lem be




limited to the income yielded by tools an d machines? W hy is notthis problem presented in the case of incomes from land (or

from an o rch ard , to which exam ple Seager objects as not be ingtypical of all forms of capital)? How accou nt for th e capitalizationof this land and of this orchard? By applying a rate of interestderived from the money market as Fisher would seem to do, or arate taken from the market for the loan of purely "produced"capital goods (whatever that may mean)? Cannot unproducedagents be capitalized unless the rate of discount is first discov-ered by making produced goods? Is not a capitalization rate

conceivable in a community where land is the only form ofwealth that is bought and sold? If so, then the thought is notavoidable that a rate of interest on contract loans to purchaselan d m ay prevail, reflecting this implied rate of capitalization—the chan ce for profit op er ating as a motive for th e loan ju st as itdoes in m anufacturing and co m me rce. Is interest not connectedwith a loan of m oney to buy "n atu ra l" agents as fully as with th atto buy "artificial" agents? A n answ er to these q uestions inevitablycarries one into the atmosphere of the capitalization theory,where the arbitrary limitation of the interest problem to loansmade to buy "produced" agents becomes unthinkable.

But there is still the old question, how account for the ten-dency of profits (in the old broad sense of the term, includinginterest) toward equality; how explain the fact that on the av-erage, though with many exceptions and fluctuations, the ratesof profit to be had by productive borrowers in the various in-dustries do not get so very far apart? Th e re is the old exp lanationof cost-of-production of capital, up on which the latest pro du c-tivity theorists still rely, and there is the capitalization theory.Both of these concede a place to the enterpriser. In the olderview, the place is worthy to be called causal, in that, when anyagent yields an abnormal return, he produces more agents, byincurr ing "costs" (which are eithe r assum ed to be fixed or are leftquite unexplained), putting the price of more labor and mate-rials into them an d thus bring ing the ir price into conformity withoth er agents of the same cost. T h e citadel w here the productivitytheorist feels his position to be impregnable is just here, in the




thought that the amount and the value of "capital" (producedagents) is "brought into conformity with the expense of pro-

ducing them," thus regulating the interest rate. Seager is onfamiliar ground when he says:

Since there is nothing in the assumption that the productivity of allinstruments is doubled that involves any serious change in the expenseof producing the instruments.58

We must dissent. The doubling of the productivity of all

agen ts alike would have very diverse effects up on the prices ofthe various enjoyable goo ds, and the se prices wou ld be reflectedin the valuation process to the prices of the different naturalsources and of all other agents, thus altering greatly the wholescale of costs in "producing" more agents.

But is this not a recognition that technical productivity hassome influence upon the comparison of present and futuregratifications, an d h ence u po n th e rate of interest? Surely, some

influence it has, but the causal order of explanation is verydifferent from that of the productivity theory. Technicalproductivity is one of the facts, physical, moral, intellectual,which go to make up the whole economic situation in whichtime-preference is exercised. That this, however, is not goingover to the productivity theory of interest is shown by the factthat it points to an opposite conclusion as regards the resultingrate. The greater provision for present desires thus made possi-ble leads us to expect a reduction of the preference for presentgoods and a lowering of their valuation in term s of future goo ds.Th is (other things being equal) would be reflected in a lower rateof tim e discount a nd a lower, not a hig he r, rate of interest, as theproductivity theorist believes.59

May we not the n conclude that the cost-of-production-of-capital explanation of interest is a partial glimpse of an inter-

m ediate an d su bord inate process of the adjustmen t of prices, inpa rt a mistaking of effect for cause? It assumes a dua l theory ofinvestment prices; some prices are explained as du e to d em an dand others as due to cost. The prices of the factors (materials,




tools, labor) are taken as a basis from which to calculate the ra teof interest, a sort of turtle's-back (as in the ancient theo ry of the

universe) on which the giant, E ntr ep ren eu r, stands while carry-ing on his back the burden of interest.The capitalization theory views the causal order very differ-

ently. First, time-valuation being embodied in durable agentswith incomes extending over a period of time, becomes thecapitalization of agents containing future uses, this involving arate of time-discount. This, in a ma rket with exch ange, becomesprice, which is cost to the en terp rise r seeking a profit by buying

these factors, combining them m ore or less with his own services,and selling them. This process is constantly levelling downinequalities in capitalization as between different commoditiesan d m arkets. All m en to gethe r a re helping to evaluate all of theeconomic goods in the community. Within this larger circle ofexplanation, the part of the enterpriser is secondary and in-termediate. He does not represent any additional "technicalproductivity" cause, coming in alongside of the psychological

explanation of interest. T h e chance of incom e for himself existsbefore he makes a move, partly because the future incomes havealready been discounted (the pure capital-income aspect), andpartly because all agents are not discounted at any moment atexactly the same, or exactly the rig ht, rate (the com mercial profitaspect). It is because of the chance of private profit alreadyinherent in the situation that the producer is led to act in hisintermediary capacity.

7. THE SAME DIFFICULTIES AGAIN

The article by Professor H. G. Brown,60 a former pupil andpresent colleague of Fisher, appeared almost simultaneouslywith Fisher's concessions to the productivity theory. ProfessorBrown, agreeing almost completely with Seager, formulates an

eclectic theory.

The position taken by the present writer is, that productivity and




impatience are coordinate determinants, i.e., that productivity is asdirect a determinant of interest as is impatience, and that productivity

may be, in a modern community, the more important determinant.61

At every poin t where Professor Fisher is at his best, and rejectsproductivity "as a direct acting cause," Professor Brown dis-agrees with him, and accepts productivity. Yet the article ism arked by a nu m be r of ust observations and seems at one pointto touch upon the truth of the capitalization theory:62

We may say that a person's valuation of capital, along with thevaluations of other persons in like situation, is less the direct result ofthe previously existing m arket rate of interest, than it is, by affecting hisand their attitude towards the market, a determinant of the rate ofinterest.

But the argument on the whole is on the plane of that con-ception of productivity criticized above. Every feature of the oldargu m ent is repr odu ced . Th e explanation is hardly begun until

the productivity is assumed to be a five per ce nt, a ten pe r cent, ora twenty per cent productivity. Per cent of what? Of the capitalvaluation, or the p rices at which the borro wer can buy the ag ents.Productivity in what way? In that the present prices, being thediscounted value of the incomes that are expected, emerge attheir m atu ring value as time elapses. T h e discount-rate involvedin the capitalization is the "rate of productivity" which appearsagain and again in the argument. The borrower pays contract

interest of five per cent only when he thinks he sees the op-portunity to get this increment and something more for histroub le. Simple and true as an explanation of why m en borrow ata rate of contract interest related to the prevailing rate of time-discoun t, bu t no proof w hatever that the rate of interest is du e totechnical productivity.

Here, as always, the productivity theorist looks at the proxi-mate influence, not at that one step removed; examines the

middleman's motive, and ignores the ultimate consumer. Theproductive borrow er is but the intermed iary, transm itting to them arket of con sum ers throug h the agency of prices, the effects of




t ime-preference. Forgetting the motives and influences of the

real ly determ ining gr ou p of m inds, Professor Brown looks only

at the "productive" borrower and says: "In what possible sensecan it be said that he borrows only because he is impatient?" 63

"All question of impatience aside";64 "For even those [produc-

tive borrow ers] w ho are n ot by nature impatient" etc .6 5 Professor

Brow n shows well66 the inaptn ess of the w ord "im patience," but

his argument is futile as a refutation of a true psychological

theory , for he is quite overloo king the sub stance, while he chases

the shadow, of t ime-preference.

This motive to borrow exists as well when the agent to bebou ght with borrow ed m on ey is land, as w he n it is ano ther agen t.

But just here 6 7 Professor Brown withdraws to the citadel, the

cost -of-p rod uct ion o f capital, as that wh ich ten ds "to fix the rate

of interest and of discount." He reaffirms the

importance of the distinction which Professor Seager has recentlyemphasized, betw een land and made capital, between original natural

resources and "the produced means to further production." Land isalready present. For the most part, there is no balancing of choice as towhether or not we shall produce it.

W hat is the fo rce o f "already present"? Do es "for the m ost part

there is no balancing of choice" etc. , mean that the way we use

land has not affected its quantity in the past, an d do es no t affect

it for the future, either as acres or as productive power? In this

day of the conservation and reclamation movements, are we to

forget the part of repairs and depreciation, and assume the

immutability of acres, arable and other kinds? Is there not in-

volved in any standard of husbandry where soil-fertil ity is

maintained, an adjustment of the cost-of-production and of the

capitalization o f each arable acre to its price based o n its ex pe ct ed

return quite as this is done in the case of factories? 68

It is not for us her e to discuss further the older co nce ption o f

capital here involved. We had supposed that it had become

unthinkable in the atmo sphere o f Columbia and of Yale, und er

the influences of J. B. Clark and of Irving Fisher.



Interest T h eories, O ld and New 251

8. SUMM ARY

Surely we are making some progress in formulating moreclearly the issues involved in the interest problem. The opinionswe have reviewed face in at least three different directions, notsquarely opposing each other.69 Seager and Brown stand to-gether on one side of the circle of opinion, glancing now andthen with one eye at a psychological explanation (for consum p-tion loans) and with the other eye fixed most of the time on theenterpriser-productivity explanation. They are not far away

from Böhm-Bawerk, who is likewise eclectic; but their concep-tion of productivity goes little farther than the personal en-terpriser, whereas Böhm-Bawerk seeks, though vainly, in hisroundabout theory, to extend his explanation formally to theimpersonal productive powers in the agents. Nearly oppositethem stands Fisher, directing his attention mainly upon themarket for money loans, but giving many glances before andafter to the psychological causes, in accord with the capitalization

theory. T he capitalization theorist at another point in the circle isfaced directly toward the psychological explanation of interest,and sees the other features of the picture in due perspective tothis central fact.

Seen from any of these standpoints, the interest paid onconsumpt ion loans is and must be explained in purelypsychological terms. The capitalization theory, alone, is noteclectic, and explains interest on consumption and on produc-tion loans, in the same psychological terms. It alone sees theenterpriser's part embraced within the larger circle of time-preference, and explains interest on productive loans as but thereflection of the time-preference in the minds of the great bodyof buyers in the community, whose representatives and in-termediaries the enterprisers are.




N O T E S

1. American Economic Review, Dec, 1912, H. R. Seager, (critique of)"The Impatience Theory of Interest"; Sept., 1913, Irving Fisher(reply), and H. R. Seager (comment) "The Impatience Theory ofInterest."

Quarterly Journal of Economics, Aug., 1913, Harry G. Brown, "TheMarginal Productivity versus the Impatience Theory of Interest."

2. To prevent misunderstanding, let us say that Böhm-Bawerk ishere classed among those holding to the old theory, for his "round-abou t process" explanation is technological, thou gh u nited w ith stron gpsychological features in the explanation of consumption loans.

3. This somewhat unusual word is here employed in the sense ofphysically productive, a technological interest theory being one whichfinds the explanation of the rate of interest in the actual, practicalperformances, or uses, of agents in producing other goods.

4. American Economic Review, Sept., 1913, p. 610.

5. The Rate of Interest, 1907, p. 12.6. Ibid., p. 15.7. Ibid., p. 22.8. Ibid., p. 28.

9. The Impatience Theo ry of Interest," Scientia, vol. IX, 1911, pp.383, 384, 386.

10. American Economic Review, Sept., 1913, p. 610.11. Ibid., p. 610.12. Ibid., p. 611.13. My italics throughout.14. Ibid., p. 611.15. Ibid., p. 617.16. The Rate of Interest, p. 251.

17.American Economic Review,

Sept., 1913,p. 612.

18. Ibid., 613.19. Ibid., p. 617.20. My italics.21. Ibid., p. 612.22. "Recent Discussion of the C apital Con cept," Quarterly Journal of

Economics, vol. XV (Nov., 1900), p. 45.23. Proceedings of the Thirteenth Annual Meeting, Dec, 1900,

"The Next Decade of Economic Th eory," Publications of the AmericanEconomic Association, 3d series, vol. 2, pp. 240, 246.

24. "Einige Strittige Fragen der Capitalstheorie," Political ScienceQuarterly, vol. 17 (Mar., 1902), p. 173.

25. Quarterly Journal of Economics, vol. 17 (Nov., 1902), p. 179.




26. The reader will observe that the term rent was there used in the

more general sense of the income from the use, or the usance, of

agents, not merely in the sense of contractual rent. This particularterminology which was due to the influence of J. B. Clark, has since

been modified, not to weaken but to strengthen, the conception in-

volved.

27. Publications of the American Economic Association, 3d series , vol. V,

in a paper on "The Relations between Rent and Interest," p. 197.

28. Believing this conception to be logically involved in much of

Böhm-Bawerk's argument in his critical volume, "Capital and In-

terest," I credited him with "the fertile suggestion" (see above, p. 231,

quotation from the article, "The Roundabout Process"). But he has not

accepted this interpretation; indeed, this would invalidate the greaterpart of what is distinctive in his positive theory of the roundabout

process, to which he adheres without change in the latest edition, 1912.

29. Fisher prefers to call the one explicit and the other implicit

interest. However, throughout his book he uses the phrase "the rate of

interest" almost if not exclusively for contract interest, and other terms,

such as rate of preference, time-preference, etc., when implicit interest

is meant.

30. Other expressions, to designate various aspects of the same

problem, used in my Principles of Economics (1904), were "choice be-tween different values," p. 104; "difference in want-gratifying power,"

p. 144; "time-difference"; "time-discount"; "the rate of time-discount,"

p . 145; "estimate of time value," p. 145; "a choice between present

enjoyment and future provision," p. 146; " a premium rate on present

goods," p. 146; "the exchange in time-valuation," p. 146; "preference

of the future over the present," p. 158; "the preference of present over

future," p. 159.

31 . When, however, attention is given to the details in the modern

loan market following the action of this man or that, or studying a

temporary situation such as a sudden demand for loans on the occasionof a war or in a financial panic, we break into the explanation at a

different point. The change in the immediate status of the loan market

is reflected in widening circles and for a time affects the capitalization

of much of the wealth in the economy (of the nation or of the world).

This and many other needed interpretations are briefly indicated in

my elementary text. It is fundamental to the conception of the

capitalization theory, however, that these impulses from the money

market are not, as they superficially appear, primary or causal in a

theory of interest, in the same sense as is the preference in time forenjoyable goods and the resulting level of capitalization. See especially

chs. 17-19, in m y Principles of Economics, 1904.



254 Cap ital, Interest, and Rent

32. The Rate of Interest, p. 88.33. Ibid., p. 88.34. Ibid., p. 91.

35. Elementary Principles, 1912, p. 229.36. Ibid., p. 336.37. The Rate of Interest, p. 117.38. American Economic Review, Dec, 1912, pp. 836-837.39. My purpose, in large part, in calling attention to my mode of

approach to the interest problem as outlined above, is to show tha t thepsychological theory, in its original form, is not open to the criticismwhich Seager forcibly directs against Fisher, "that he dissociates hisdiscussion completely from any account of the production of wealth."

T o be sure, Fisher's reply begins with a categorical de nial, "I did notdissociate" (American Economic Review, Sept. 1913), but he immediatelyadmits that in his "first approximation" the income streams were"temporarily assumed." And while in his larger theoretical book, hebelieves that "this assumption gives place to the more complicatedconditions of the actual world," when he comes to the second and thirdapproximations, he confesses that those complications were, "for themost part, omitted (as too difficult and controversial)" from theelemen tary book. Seager's com m ent (American Economic Review, Sept.,1913, p. 618) is pertinent: "A methodology that causes an author to

d ro p out an essential link when he tries to restate his theory inelementary form seems to me to be almost self-condemned." At thispoint may be recalled my ow n criticism of Fisher's treatment of capitalin his Capital and Income. Reviewing this in the Journal of PoliticalEconomy, March, 1907, vol. 15, p. 14 7,1 spoke of a "certain isolation inFisher's capital theory . He began th e analysis and reconstruction of thecapital concep t as if it were a task apa rt from the theory of distributionas a whole. . . . The capital theory presented has therefore a certaincharacter of intellectual aloofness that leaves it out of touch with the

larger theory of distribution, of which it should be but one part ." Thesame criticism ap plies in general to The Rate ofInterest, published a yearlater.

40. Seager, American Economic Review, Dec, 1912, p. 835.41. The Rate of Interest, p. 184.42. "The Impatience Theory of Interest," Scientia, vol. IX, p. 387.43 . Elementary Principles, p. 371.44. American Economic Review, Dec 1912, pp. 841-842.45. Fisher has followed Böhm-Bawerk in presenting objections to

the productivity theoryin

terms that logically invalidate everypro-

ductivity theory and, apparently, is again following his example inwithdrawing the objections insofar as they apply to any but the naivetheories. (See above, pp. 227-228.)




46. American Economic Review, Sept., 1913, p. 617.

47. Ibid., Dec, 1912, p. 849.

48. Ibid., p. 845.49. Ibid., p. 848.50. Ibid., pp. 847-848.51. The Principles of Economics, 1904, p. 127.52. American Economic Review, Dec, 1912.53. American Economic Review, p. 842.54. Ibid., pp. 842-843.55. See above, pp. 235-236, 240-241.56. American Economic Review, Dec, 1912, p. 848.57. Ibid., p. 844.

58. American Economic Review, Dec, 1912, p. 847.59. On this Fisher has taken a position in accordance with the

capitalization theo ry. SeeAm ericanEconomic Review, Sept., 1913, p. 614.60. Cited above, p. 252, n. 1.61. Quarterly Journal of Economics, Aug., 1913, p. 634. Here im-

patience and productivity are said to be coordinate determinants,thou gh productivity may be the more important; and again, page 645 ,impatience is said "to enter into the chain of cause and effect" in acertain conn ection "as effect r at he r than cause"; and, finally, page 650,

impatience "is also, to some e xtent, a join t consequ ence, with interest,of the other cause, the superiority of indirect production."62. Quarterly Journal of Econom ics, Aug., 1913, p. 644.63. Ibid., p. 638.64. Quarterly Journal of Economics, Aug., 1913, p. 639.65. Ibid., p. 640.66. Ibid., p. 637.67. Ibid., p. 644.68. Professor V. G. Simkhovitch's illuminating article on "Hay and

History," in the Political Science Quarterly, Sept., 1913, gives new evi-dence of the effect upon agricultural industry of enlarging man'spower over the production of fertile and arable qualities in land.

69. A different conception, apparently a unique variation of theenterpriser- productivity theory, is the dynamic theory of ProfessorSchu m peter, as presented in his Theorie der WirtschaftlichenEntwicklung,

1912, and reviewed at length by Böhm-Bawerk in the Zeitschrift farVolkswirtschaft, 1913.



Capitalization versusProductivity: Rejoinder

Dr. Brow n's restate m ent of the productivity theory of interesthas one distinctive merit. It abandons the attempt to make afallacious enterprise -profit rate of productivity an elem ent in the

explanation. Every previous formulation, not excepting Dr.Brown's own, has been ope n to this charge. T h e recent discus-sion has yielded a substantial result in this admission that theproductivity theorist is bo un d to show the existence of a definiterate of physical productivity to which the rate of interestconforms, quite apart from any borrowing producers' rate ofprofit. Dr. Brown courageously undertakes this task, and hisresults m ust be ju dg ed by this criterion.

At the same time , however, he pru den tly limits his defense tothe very narrowest scope that ever has been claimed for thetheory . H e makes a virtue of eclecticism (p. 349), an d claims forproductivity only a little part, an irreducible minimum. In themanner much in vogue since Böhm-Bawerk led the way, heconcedes much of the field to the purely psychological expla-nation . Intere st adm ittedly would exist in a world of desires an dmere scarcity, without physical productivity, either direct or

indirect for that matter. The capitalization theory alone couldapply in such cases. It is admitted further that time-preferenceexists in every case, as well whe re t he re is as where th ere is notphysical production of indirect agents. The claim Dr. Brown

Reprinted from Am erican Economic Review 4 (December 1914). This is acritique of an article by Harry Gunnison Brown entitled, "The Dis-count Versus the Cost-of-Production Theory of Capital Valuation,"American Economic Review 4 (June 1914): 340-49. Brown's article waswritten in reply to Fetter's "Interest Theories, Old and New," seechapter 15.

256



Capitalization versus Productivity: Rejoinder 257

makes now is m erely tha t when a physically prod uc tive process isemployed to create an indirect agent, then the rate of productiv-

ity which he believes is involved may assume the dominant rolean d d eterm ine the rate of time-p reference. I say "may assume,"not necessarily assumes, for here the claim is narrowed as-tonishingly as compared with previous versions of the produc-tivity theory. In previous versions the supposed regulative ratehas been believed to dominate wherever there was an indirect(roundabout) process. In Dr. Brown's version this claim is lim-ited to situations where fruits are being produced at the same

time, in the same economy, by labor used in two differenttechnical processes, one direct and the other indirect, oneproductive of more, the other of fewer physical fruits. Of this,m ore later. I note it he re only to show how large a field has beenconceded to the capitalization theory in productivity's masterlyretreat. Dr. Brown has here probably tricked himself quite asmu ch as his rea de rs. H e is defen ding a mere shadow of the olddoctrine.

In still an oth er respect D r. Brown attem pts (as he says on page340 was his purp ose in his form er article) to limit the produ ctiv-ity theory, namely by treating it not as a part of the value-theory,but as dealing "w ith quantities of goods instead of with values." Itis no minor matter to which I am here directing the reader'sattention. It concerns the whole conception of the prob lem. T h eproposi t ion speaks a different language from that of aninterest-theory , and concerns a different que stion. So long as D r.Brown limits his attention to amounts of income as absolutequan tities, he is in the realm of the rent-, or m ore broa dly, of theincome-problem. This is arguing at cross purposes with thecapitalization theory, and is not within range of the interestproblem . A theory of interest must be essentially a value-theory.The thing to be explained is the ratio between the value of theincome and the va lue of the income-bearer . There i s a

cou rageo us logic, to a certain point, in Dr. Brown's attem pt. T h eonly way the produ ctivity theo ry could be saved from the viciouscircle would be to find a rate in he rent in the physical process, inthe relation between quantities of future goods and quantities of




indirect agents, independent of the value-expression. But thisattempt is vain. Fruits can be expressed for economic purposes

as a percentage of trees not as physical quantities, but only asvalue-relations in terms of some standard. Usually the money-standard is chosen: Dr. Brown chooses a present-fruit valuestand ard an d doe s not see tha t he is do ing it. T o say tha t 1,000present fruit equals 1,100 future fruit is to express a value re-lation. Equal how? Evidently not in quantity, for they are un-equal, but in value. It is a psychological not a physical ratio. If,now, the productivity part of the problem be considered, 10

present trees equal 1,100 future fruit. Again we ask, equal inwhat way? Evidently not in quantity, but only in value? Wherethe n is the ten per cent ratio? T h e answer comes that 10 prese nttrees equal 1,100 future fruit and at the same time equal 1,000present fruit; herein lies a ten per cent rate of productivity. Acertain value of labor invested in tree s yields a ten pe r cent valuesurplu s at the en d of a year. En ter th e value relation disguised asa rate of physical productivity.

One who for years has trailed the elusive cost-of-productionfallacy, can no t fail to see in D r. Brown's novelty the old illusionin a very thin new disguise. It is a very versatile and persistentfallacy. Böhm-Bawerk effectively exposed the old form of thedoctrine, and then, as every student now knows, fell into thesame pit wh en he form ulated his own positive theo ry. W hoeve rlays claim to the discovery of some slightly different device forsqu aring this circle, ope ns u p anew for himself, if not for oth ers ,

al l the old puzzling questions. To answer al l the doubtsreawakened in his mind it would be necessary to resurvey thewhole wide field of the interest-controversy. Space will be takenfor only one other brief criticism (among many possible), buttha t one alone destructive of Dr. Brown's cen tral conception of aregulative rate of physical productivity. With this I will be con-tent to rest, for th e prese nt, the case for the capitalization theo ry.

The semblance of a rate of physical productivity which Dr.Brow n discovers, ap pea rs only whe n, side by side, two m ethod sof produ ction are in use, one new and the othe r old. As long asthe two methods so continue, a unit of labor has equal value



Capitalization versus Productivity: Rejoinder 259

w heth er applied to pre sen t fruit or to trees; bu t how long can thiscontinue? Only so long as the rate of time-preference hap pen s tocoincide with th is so-cal led ra te of product iv i ty . Time-preference existed before the new method was discovered; itcontin ues to exist afterw ard. If wh en the new technical meth od isdiscovered in the assum ed case, time-preference hap pen s to beover ten percen t, the new m ethod is uneconom ic and can not beadopted; if it happens to be under ten per cent then the oldmethod is uneconomic and m ust be aband oned as fast as the shiftcan be made. Time-preference dominates the choice amongtechnical methods. When all the fruit comes to be obtained bythe rou nd ab ou t m etho d, and th e supply of present fruit is 1,100a year, where is the supposed regulative ten per cent ratio ofphysical productivity? It does not exist. Abandoned methods ofproduction simply do not function in fixing either the presentprice of goods (either trees or fruits) or the rate of time-preference. The abandoned method becomes ancient history.Time-preference must be adjusted in the new conditions—amore bountiful environment. (In my former article I touchedup on the probability as to the rate of tim e-preference in such acase.) There is greater productivity than before but no "rate ofproduc tivity" whateve r, is th e sense of Dr. Brown's theory. T h ecapitalization the ory is alon e left to explain th e rat e of intere st inthis situation, and time-preference never ceases to function.

Now and then in a maladjusted economy the interest ratemight be found to coincide with this curious p he no m en on whichDr. Brown believes to be a rate of physical productivity . It is onlyth e semblance of such a rat e, being but the reflection of a rat e oftime-preference when an indifferent choice is possible between adirect an d an indirect m etho d of produ ction. This is always but alimited aspect of a dynamic situation (where I have alwaysrecognized that it has a place), which in the theory before us ishopelessly confused with the static problem of interest.



Interest Theory andPrice Movements

PART I. HISTORICAL STAGES IN TH E CO NCE PTION OF THEINTEREST PROBLEM

1. Purpose of this essay.—What is now usually known as "in-terest th eory " will per ha ps b e conceded by all to be the subtlestand most difficult problem in the broad field of economictheory. Various opinions upon it and its solution have in turnbeen dominant, and probably every one of these still survivesand is today held in some quarter, scientific or popular. Even inthe narrower circle of experts and special students, the dif-

ferences of conception are perhaps more fundamental and far-reaching than in any other subject of theory.This problem being intimately related to many others having

theoretical and practical bearings, the center of discussion hasshif ted greatly throughout the centur ies . In ancient andmedieval times, it was viewed as little more than a phase of justprice, and attempts to explain the phenomenon of interest rateswere m erely incidental to arg um en ts on the ethics of usury. Even

the more recent discussions of the subject from Senior's ab-stinence theory to the work of J. B. Clark, of Böhm-Baw erk, ofWieser, and of others, reveal clearly this motive. The incometaking the form of "interest" has borne and still has to bear themain shock of comm unistic attack upo n th e institution of p rivateproperty, although Henry George's brilliant sally diverted aconsiderable part of the reforming zeal to the attack upon land

Reprinted from American Economic Review, suppl. 17 (March 1927).The discussants of this paper included Irving Fisher, Wesley C.Mitchell, Melchior Palyi, and Waldo F. Mitchell (ibid., pp. 106-113).

260



Interest Theory and Price Movements 261

rent. However, the notable development of a more truly de-tach ed scientific spirit in theory which has occ urre d, at least in a

small esoteric circle, has shown itself in part by the arden t p ursuitof a "theory of interest" as matter of pure reason, regardless ofits bearings on any particular practical questions. This sort of"mere theory" has been not only ignored but deprecated bysome of those economists, who, armed with new statisticalweapons of correlation, are in pursuit of quantitative measure-ments. They for their part have been doing notable work incollecting, analysing, and c ha rting the growing mass of b ank ing

and commercial data regarding price changes and rates of in-terest, as aspects of the business cycle.There ought to be at this time no such mutual suspicion, but

rather closer co-operation between the students of quantitativemeasurements and those dealing with the more philosophicphases of economic inqu iry. Each m etho d and each p oint of viewis in turn needed—now to present working hypotheses, then totest them; now to relate newly discovered facts to the existing

body of know ledge, again to rea ppra ise o lder accepted views inthe light of new evidence.Especially in this phase of the study of the business cycle, to

wit, the relation of interest rates and interest theory to generalprice movem ents, the interchange of thoug ht between studentswith different methods has been lacking. Apparently most ofthose especially devoted to the study of the business cycle haverem aine d indifferent to, an d negligent of, the m ore recent novel

studies and radical conceptions in this field of theory . T h e re is,to be sure, still lacking agreem ent am ong economists both as tothe theory and as to the terminology of interest. But it seemspossible that a resurvey of interest history and theory, and astatem ent of some of the newer speculative aspects may result insome fruitful cross-fertilization of thought in this importantsubject.

2 . Amount-of-money conception of the interest problem.— David

Hume, writing around 1752, combatted prevailing opinionwhen he declared: "Lowness of interest is generally ascribed toplenty of money." Th is seems to be a fair statem ent of the notion




implied at least, if not always clearly formulated, in the moralcondemnation of interest on money loans from Aristotle

thr ou gh the era of the chu rch canonists. Interest was tho ug ht ofas paid for the use of money, as land rent was paid for the use ofland. But m oney "cannot breed m oney," as land can bree d cropsan d feed flocks; money is the "b arre n bre ed of m etal." Even toscholars, as well as to the pop ulace, the price paid for the use ofm oney (quite like that of othe r things) seemed to de pe nd on th eplenty or scarcity of the precious metals. Certainly this notionstill is the natural, naive, popular view, coming to the surface

again and again, as in the Greenback program of the 7O's and8O's, in the Populist movement of the 9O's, in many contempo-ra ry pamphle t s sen t fo r the en l igh tenment o f academiceconomists by amateur reformers, and even promulgated bydistinguished inventors and manufacturers, who are novices ineconomic theory.

This errone ous notion H um e rejected, declaring at once: "Butmoney, however plentiful, has no other effect, if fixed, than to

raise the price of labor" ("and," he added a little later, "com-modities"). After appealing to certain economic facts since thediscovery of the Indies, he concludes: "The rate of interest,therefore, is not derived from, the quantity of the preciousmetals." Before examining Hume's more positive thesis, let usobserve that his negative thesis relates to static conditions as tothe money stock, the quan tity of m onetary m etals, in a coun try.He touches elsewhere only briefly on certain historical dyn am icconditions, long-time ra the r than short-time in na tur e, in whichhe thinks that increase in a nation's money a nd a sinking interest(rate) go together. But, he says, it is a mistake to consider thegreater quantity of money the cause of the lowness of interest.This is to mistake "a collateral effect for a cause."

3 . Amount-of -riches conception; Hume's psychological germ.—Whatwas Hume's positive thesis; what explanation of the rate ofinterest did h e prop ose in place of the on e he rejected? T h e realcause of lowness of intere st, he says, is growth of in dus try in t hestate, etc., which same cause both attracts "great abundance ofthe precious m etals" and lowers interest. "Th e m ost industriou s




nations always abound most with precious metals; so that lowinterest and plenty of money are in fact almost insepara ble." T h e

generally accepted interpetation of Hume's view was expressedm ore than a century later by Böhm-Baw erk in these wo rds: "T heheight of the interest rate in a country does not depend on theamount of currency that the country possesses, but on theamount of its riches or stocks."1

Since Hume's time until very recently that proposition, withvarious explanations and elaborations, has been the center ofnearly all the theories of interest having a considerable following

among liberal economists. It is the core of all the productivityand use theories . But Böhm-Bawerk's general ly acceptedsumm ation of Hum e's thoug ht is far too simple to d o justice to it,and Böhm-Bawerk's notion of "r iches or s tocks" is muchnarrower than is necessarily implied in Hume's words. Onem ust, to be sure, beware of the tem ptation to read into H um e'slanguag e an attitude toward m od ern issues of which he was quiteuna w are. Bu t Böhm -Bawerk himself has not escaped that erro r.

His inte rpretatio n of H um e's essay is tha t of on e hold ing firmly,as the Austrian economist did, to the tripartite division of thefactors, and to the no tion of capital as a distinct gr oup of artificialagents—as he did after elaborate studies despite some incon-sistences.2

But there is required no un du e stretching of H um e's words tofind in them room for a broader thought of a psychologicalexplanation of interest, thou gh the dim outlines of this are only

imperfectly sketched. Hume says: "High interest arises fromthree circumstances [and italicizes three]: A great demand forbo rrow ing, little riches to supply that dem an d, and g reat profitsarising from commerce. . . . Low interest, on the other hand,proceeds from the three opposite circumstances: a small de-mand for borrowing, great riches to supply that demand, andsmall profits a rising from com m erce." It is tru e that this merelystates the problem rather than gives a full explanation, recog-

nizing which, Hume says: "We shall endeavor to prove thesepo ints; and shall begin w ith th e causes an d the effects of a g reatdemand or small demand for borrowing."




Our limits forbid following here his detailed argument. Wewould point out only that i t abounds with references to

psychological factors as causal and ante ced ent to the qu antity ofriches and to the rate of profits: different tempers, prodigals,misers, desire to consume, pursuit of pleasure, differences inhabits and m ann ers, and in customs; and a long with these goes apenetrating discussion of the comparative influence of largelandholding and commerce upon the motives of industry andfrugality, d eterm inin g whe ther or no t money gathers into largestock into the hands of those who are willing to lend it at a low

interest. The discussion of the third circumstance requisite toproduce lowness of interest is, however, very superficial, dis-solving into the agnostic proposition that the two things, lowinterest and low profits, "both arise from an extensive com-merce, and mutually forward each other" but it is "needless toinquire which is the cause and which the effect."

Indeed, Hume's discussion, as a whole, never gets very farbeneath the surface; it merely makes a beginning along lines in

which little prog ress was m ade (excepting only in the abstinenceconcept) for nearly a century and a half. In one respect, how-ever, Hume's essay indeed marks an epoch in the history of theinterest theory; thereafter (except as a popular fallacy) theabundance -of-m oney-concep tion was definitely displaced by theabundance-of-goods-conception. The orthodox liberal doctrine(despite other differences) became Hume's proposition that wereally and in effect borrow labor and com modities when we take

money upon interest.4 . Turgot's limited capitalization theory.— Turgot's br illia nt littleessay in 1770 displayed in several respects an insight into theessential nature of economic problems, hardly to be equalledagain for m ore th an a century . Th ou gh he begins his discussionof interest with a narrow conc eption of "capitals" as consisting of"the accum ulation of ann ual p rod uce not consu m ed," otherwisecalled "moveable riches," he at once speaks of these riches as

"advances" (not jus t w hen loaned— that is, "advanced" to a p er-son— that comes later—but "advanced" when used on land, inindustry or in commerce). He then gives throughout his




treatment unusual prominence to the notion of time, usingrepeatedly the term "waiting" to describe what the advances

enable workers of all kinds to do. He then turns his thought atonce to the various "employments of capitals" among which aperson may choose who has "accum ulated value"; that is, fundsavailable for investment. It is rem arkable that he speaks first notof manufacturing, agriculture (i.e., capitalist farming), andcommerce, and the loan of money at interest (these follow inorder) , but of "the purchase of an estate of land." Here hesketches, in scanty lines, to be sure, but clearly, a capitalization

theory of land value, "what is called the penny of the price oflands," resulting from "the varying proportion between peoplewho wish to sell or buy lands." Böhm-Bawerk in his critiquedismissed this disparag ingly as "a fructification theory of in-terest," "an explanation in a circle" because he believed T urg otwas trying to explain "all forms of interest as the necessary resultof the circumstance that any one who has a capital may exchan geit for a piece of land bearing a rent."

But this seems to me to miss in Turgot's discussion its mostsignificant and unique feature. Turgot is seeking to explain, ashe says, the valuation of lands in accordance with the prop or tionwhich the revenue bears to the value for which they are ex-changed, and he does this first without once referring to thecu rre nt rate of interest on loans or to the curr en t rate of profitsin other business (or without taking a rate found in financialm arke ts to use as a capitalization rate in exp laining the price of

lands). Turgot pretty clearly conceived of an investment rate inland (that is, a discount, or capitalization rate) as discoverableand usable by the simple adjustment of supply and demand ofbuyers and sellers of land. It is true that T ur go t, as he proceeds,shows that the various employments of capital are mutuallyrelated in their rates of return by the possibility of shiftinginvestments. But this is valid and does not conflict with histhought of the capitalization of land as occurring primarilythrough the working of forces independent of the market formonetary loans. Such a view of the possibility of the landcapitalization process being prior to the contractual interest rate




wayside, but it germinated and lived on there the sole sprig ofpsychological capital-theory until the new era of thought at the

en d of the centu ry. It is a cur ious jum ble of ideas as set forth byits author. Senior called abstinence variously a third agent, aninstrument of production, a principle, a productive power,alongside of, bu t distinct from, "labou r and th e agency of na tu re ,the concu rrence of which is necessary to the existence of capital."He called abstinence "the conduct of a person," and "an addi-tional sacrifice made when labour is undergone for a distantobject"; he describe d it as "pro videnc e" united with "self-denial."

But again he said th e nam e was a substitute for "capital," definedas "an article of wealth," and he spoke repeatedly of labor,natural agents, and abstinence as the three instruments ofproduction. This was very confused thinking, but at least itbrou ght into the foreground of the problem the much neglectedmotives involved (in Senior's words) in "the production of re-m ote rat he r than of im m ediate results" in und erg oin g labor "fora distant object," in abstaining "from the unproductive use" of

what one commands, or, "from the enjoyment which is in ourpower." Incidentally., also, Senior discussed rather more thanwas usual "the average period of advance of capital," and rec-ognized that before the capitalist can retain a profit he m ust seeto "kee ping th e value of his capital un im paire d." B ut these ideasunderwent no systematic or satisfactory development at hishands.

6. Influence of the artificial goods capital concept.—The history of

interest theory among liberal economists for more than acentury, from Adam Smith to Böhm-Bawerk, runs narrowlywithin the limits of the amount-of-goods ("riches or stocks")conception of Hume. But it was profoundly affected by thecha nce that the term "riches or stocks" cam e to be identified withthe artificial goods con cep t of capital in the tripar tite division ofthe factors of production, land, capital, and labor. A falsesymmetry was thus given to the structure of the theory of dis-

tribution, ren t as a.form of income being limited and bo un d to thenatural factor land as its source, and interest as âform of incomebein g viewed as coextensive w ith th e "artificial" m an-m ade fac-




tor capital. T he re was nothing in the inheren t n ature of the caseto prevent the term "riches or stocks" from being taken in a

bro ad er sense, including in am ou nt of goods everything to buywhich borrowed funds might be used, such as lands for arableand other agricultural uses, and all natural agencies such asresidence and business sites, mineral deposits, etc. But alreadywith Adam Smith this linking of interest (and profits) with ar-tificial stocks was apparent, and Ricardo's development of thelabor-theory of value and its application to the capital concept(capital merely embodied labor) crystallized this notion that

interest was a phenomenon and a form of return linked solelywith "prod uce d m eans of produ ction," not with goods in gen er-al.

This conception of the economic factors and their relatedyields remained almost unquestioned until near the last decadeof the nineteenth century. I uphold the opinion that both ontheoretical and on practical grounds the attempt to classifym aterial goods as artificial a nd na tura l according to the assum ed

source of their value is unsound. Enough that it involves thefallacy of the labor theory of value. But even those who stillaccept this classification m ust concede that it led to a very un realand illogical restriction of the broader problem of interest. Itquite obscured the significance of time as a genera l factor in theuse of goods of every kind, though always in a vague way timewas felt to have somew hat m ore to do with interest an d artificialcapital than with rent and land. The linking of abstinence ex-

clusively with the origin of artificial goods dwarfed the de-velopment of that conception and prevented the recognition of"conservative"4 abstinence as an essential form of condu ct in th euse, maintenance of and investment in, material resources andage nts, no m atter w hat their physical origin or th e cause of the irvalue. Such a narro w c oncep tion of t he "riches or stocks" whoseamount determined the rate of interest blocked the way to anygeneral theo ry of capitalization applicable alike to "n atu ral " land

and to "produced" capital. All problems of capitalization oflands, i. e., natura l resources in gene ral, have by this conceptionto be treated as outside the realm of interest-fixing facts.




Capitalization in all such cases can only be explained by the naive

device of applying to land rents, mining royalties, and otherfuture incomes from various sources, a rate of interest (ordiscount) that is supposed to be de term ine d solely in the realm ofartificial agents (in essence a "fructification" theory of the sortcondemned, yet used, by Böhm-Bawerk.)5

7. Böhm-Bawerk's promise and disappointment.—These not ionswere deeply imbedded in the "classical" economics and stillcontinue to have a phenomenal influence on thought. A most

striking exam ple is seen in the case of Böhm -Bawerk. Th ou gh atone point in his studies he had the conviction that the interestproblem was really the bro ad on e of the "agio," or difference invalue, of labor and of uses of goods of all kinds in relation totime, he finally relapsed into the old simple conception of in-terest as arising only in conne ction with "p rodu ce d" capital. (Butnote his incidental and inconsistent treatment of land rent as acase of interest from du rab le agents.) Böhm -Bawerk in his grea t

critical first volume saw, as the essential lack in all foregoingtheories , the failure to explain adequately th e rate of intere st as avaluation relationship between the capital sum and the interest(income or yield). He condemned in principle all productivityan d use theories . Likewise his elabora te pre pa rato ry w ork on thetheory of prices in his second volum e, "Positive Th eo ry ," seemsto have been d irected tow ard the en d of exp laining the valuationof capital as the sum of the expected values, the summation of

thefuture uses and ren ts contained in stocks of economic age nts.But he had closed the door to any solution in that direction byado pting the old R icardian capital concept, "pro du ced means ofproduction," thus seeking to explain the origin of this group ofdurable artificial indirect goods and their valuation by means of athinly disguised labor theory of value—in their past, not in theirfuture uses. That is, he developed no theory of capitalization,though several times he seems on the point of doing so. 6 H e

relapsed into a productivity theory of interest, and he failed, ju stas he had shown so many oth ers to have failed, in exp laining therate of interest as a percenta ge of a principal sum , as a surplus ofprice over and above the initial capital price of the series of




future uses.8. Clark's "pure capital" and timeless production.—J. B. Clark, l ike

Böhm-Bawerk, became convinced of the inadequacy of pastinterest theory. But the beginning of his contribution lay at avery different point, namely, in exposing the ambiguity of thecurrent capital concept, especially in his recognition of its ne-glected value aspect alongside of the conventional artificialconcrete goods aspect.7 Hardly second to this in significance an dintimately connected with it, is Clark's broadening of the con-ception of the things comprising capital, making it inclusive ofland and natural agents, indeed, logically, of every intangibleright to income in which "a fund of pure capital" (as he calls it)may be invested. Pure capital as a private, business concept,becam e essentially an inve stmen t fund, tho ug h Clark gave it lesspractical expression. It cannot be said, though, that Clarksucceeded any better than Böhm-Bawerk in explaining thegenesis of capital valuations. H e too seeks the answer in the pastof goods rather than in the anticipation of future uses, anddevelops an abstinence theory to account for the technical,physical beginning s of "capital good s" in a m an ne r inconsistentwith his own inclusion of land together with artificial agents inthe capital goods concept. He too accounts for the valuation ofthe pure capital by sacrifice incurred at the origin of artificialgoods—a psychic cost concept. Clark too is wanting in anycapitalization or recapitalization theo ry th at relates capital valueto anticipated incomes in general. He too concludes with aproductivity theory of interest, in which the "interest" sum islooked up on as the specific pro du ct of the capital and is relatedto the capital-goods as a ren t rath er tha n as a rate pe r cent upo n acapital-sum.

In one important feature Clark's treatment of this problem isreactionary just where the Austrian advanced the discussionmost; that is, in the importance of the role assigned to time.

Böhm-Bawerk, it is my belief, started on the right road towardan un de rsta nd ing of the tim e-factor, tho ug h he ultimately wentastray on other paths without ever clearly recognizing how hehad lost the road. But Clark never was on the right road and




arrived at an explicit denial of any significance for time in theexplanation of interest. It is the function of (pure) capital, hedec lared , to synchronize th e outlay of labor an d its fruits, and heattempted to prove this by an argument palpably fallacious.

It is one of the misfortunes of economic theory that Böhm-Bawerk and Clark, who had many theoretical virtues in com-mon, could not have got together on their main differences.Böhm-Bawerk's initial conception of time needed to be com-bined with Clark's value conce pt of capital, and both freed froma labor theory of value influence. T h e results surely would havebeen much nearer a true solution than is either of the old-fashioned productivity theories of interest dressed up in new-fangled terminology with which these two pioneer thinkersterm inated their ard uo us labors. Each was destined to give a newimpulse to thought, and each disagreed with the main con-clusions of the other; yet both came to results that seem singu-larly alike in certain respects. Böhm-Bawerk's interest theoryafter some early attacks up on it by the o lder school of econom ics,English a nd Am erican, was adop ted by them very generally withlittle modification, an d is now the the ory most widely accep ted,in type, if not in all details; while Clark's notion of capital valuehas likewise gained wide vogue . T hu s, views which their au tho rshad expected to be revolutionary could be accepted and in-corporated into the conventional system of thought of theor tho do x school ju st because the original ideas had not b eenconsistently developed. The doctrines at first novel were at lastaccepted not as strangers but as old, familiar friends.

9. Productivity interest theory.—The negative an d critical work ofBöhm-Bawerk and Clark raised issues which their positivetheories did not suffice to settle. It is true that two dynamicdecades of widespread discussion of this and related topics ineconomic theory were followed after about 1900 by an equalperiod of reaction, or at least a prevailing lassitude, in theory.

The majority of economists were inclined to take the variousmore or less novel and conflicting notions that had appeared,an d to merg e them into an eclectic body of do ctrin e, which it wasbelieved, or hoped, might be generally accepted and initiate an




era of theoretical harmony. To a remarkable degree this policyseemed to succeed. Alfred Marshall, the leader of this eclecticmovement as well as its most typical representative, took fromthe first this attitude toward the work of Böhm-Bawerk.8

Marshall's eclectic formula of the two qualities in capital ofprospectiveness and productiveness became the mode amongEnglish and American economists. To the influence of J. B.Clark, and perhaps in part to Wieser's general imputationtheory , is traceable a related b ut m ore systematic form ulation ofa general theory of the specific productivity (or productivecontribution) of each of the factors, a conception almost, if notqu ite, as widely favored in the text books as tha t of M arshall. Inall these cases the "productivity" of capital (as a certain limitedgroup of material artificial agents) is viewed as the cause andsource of the yield or income called interest (implicit as well asexplicit). It is assum ed tha t this "productiv ity" (vaguely assum edto be a technological fact, but always shifting its character tovalue-productivity, a fact of private profit in the broader sense)serves to explain not m erely th e am ou nt o r price sum yielded bya group of "capital goods" but also the rate per cent of yieldcomputed on the valuation of the principal, or capital value. Itought to be evident without argument to any one acquaintedwith Edwin Cannan's work9 that when this shift is made theinterest ra te per cen t of "productivity" of capital value becomessom ething quite unco-ordinated with the per acre am oun t or perm an am ou nt of productivity of the oth er factors. A rate p er cent

yield from the investment of borrowed "capital" is a fact ofgeneral bearing, not related solely to the "productivity" of arti-ficial agents contrasted with that of land per acre and of laborper man, but related equally to the profit productivity of laborhired and of land and natural agents either hired or bought bythe use of any investment fund (owned or borrowed).

All this relates solely to the explanation of interest on "pro-ductive" capital, used in business, but what of th e case of intereston enjoyable goods ("consum ption goo ds" so called)? Wh en thisprob lem is recogn ized at all (frequently it is not) in no case is theclaim made that interest can be explained by "productivity."




Another, supplemental, explanation is here conceded by theproductivity theorist to be necessary, which is essentially that oftime-preference. Thus every productivity interest theorist whohas faced the whole question holds a dua l theory, or, ra the r, twoquite distinct theories, of interest, one to cover the case of indi-rect goods (sometimes limited to those employed in com mercialways) an d a no ther to cover that of direct (i. e., enjoyable) goo ds.Numerous further difficulties of the productivity theory havebeen discussed by the writer elsewhere, and need not be re-peated here.1 0

10. Sources of a general time-valuation theory.—Böhm-Bawerkand Clark, united, were more potent to arouse discussion of theinterest problem than, divided, they had been to give it a satis-factory solution . Th is at least was the verdict of a small gro up ofstudents who were not satisfied with the eclectic results justindicated. Though the subject claimed the attention of a muchsmaller propo rtion of econom ists after 1900, it con tinue d to bestudied with undiminished zeal by a few. They felt profounddiscontent with the outcome and they had hope of somethingbetter, of winning, so to speak, some purer metal from the richnugg ets of tru th that had been un ear the d by the newer criticism.Negative criticism of unprecedented keenness and quality hadrevealed the ambiguity or untenableness in logic of various ofthe older conceptions and thus had made deep breaches in theold structu re of distributive theory , calling for some fund am en-tal reconstruction. Yet with superficial repa irs the old struc turehad been restored and reoccupied. The most brilliant flashes ofinsight by the pioneers in the interest discussion had faded intodark ness a nd had no t lighted the way to any constructive results.

Suggestions have been given above of some of these ideas tha twere glimpsed by Böhm-Bawerk and by Clark, especially thoseof a pervasive prem ium (agio) for time, of the tru e natu re of thecapitalization process in the case of any series of uses, of the

capital value concept, etc. No one of these was consistentlydeveloped, and they were left as mere passing suggestions offthe m ain line of economic thou ght. Besides these squ and ered ormisprized resources of theory, there were many othe rs waiting to




be utilized. T h e re was the ab stinence concep t, still, after nearlythree -qu arters of a century , in as cru de a form as that in whichSenior had left it, confused between technological and value orinvestm ent relation ship, an d tied to a narrow notion of artificialcapital. T h er e was the th ou gh t, given wide currenc y in the textby F. A. Walker (borrowed by him from some earlier source),that t ime change is a cause of value co-o rdina te w ith stuff, place,and form. This thought, to be sure, was not developed byW alker, an d he did not see in it the revolu tiona ry possibilities of agen eral the ory of time-valuation in relation to all kinds of goods.There was the new academic subject of accountancy beginningto attract attention to the exacter mathematical expression oftime relations in investments, and especially to the process ofrecapitalization according to changes in earnings. There werecertain elem entary notions of actuarial science an d practice thatbegan to filter into the class rooms of theory, as insurance,forestry, corporation finance, valuation of utilities, and otherrelated subjects were taking their place in the university cur-riculum. Th er e was the increasing attention to the h um an andpsychological aspects of economic problems, begun by "themarginalists" Jevons, Clark, and the Austrians. However faultytheir technical psychology (ranking thus probably in the orderju st na m ed) and how ever faultily applied , they had in this matte rinitiated a new era, whose broa de nin g application of psychologyto econom ics and sociology we are still witnessing.11 A nd finally(for we can he re touch only a few of th e high points), there wasthe influence of the new er econom ic history in which, at least afew avid students of theory began to find rich suggestions fordestructive critique of the conventional, orthodox, commercialsystem of econom ics (especially distribu tive theory ). No eclecticcan ho pe to begin to und ersta nd the continue d discussion of theinterest theory after 1900 unless he gives due consideration atleast to these elem ents in the situation. Otherw ise h e catches onlyfragmentary glimpses of the movement and fails to see itsbro ad er implications. Many minds contributed some elemen ts tothis process of thought though the participation of some waseither meagre or of short duration. Besides those whose names




have repeatedly ap pe are d above, notew orthy contributions weremade by Ashley , Cunningham, Toynbee , Edwin Cannan ,

Carver, Veblen, Davenport , Turner, and others .The positive outline of the time-valuation theory has been

most fully presented in two versions—that of Professor IrvingFisher and that of the writer. These differ in the mode ofapproach and in emphasis, and in a number of details, some ofthem unquestionably of considerable importance.12 But in re-gard to the larger issue, the two versions are in substantialagreement. Fisher's treatment is that of the mathematician andaccountan t, conceiving of the whole process as one of buying andselling future incomes. My app roac h and treatm en t has alwaysbeen rather historical and genetic, with a greater stress on thepsychological and human factors. Though begun and largelydeveloped before the term "institutional economics" was coined,it m ight even be de em ed to be in some respects an essay of tha ttype. Especially, it treats the interest rate not as a thing apartfrom the general price system, but rather finds its explanationinterwoven with the whole process of price formation, from itsearliest beginnings to the complex price system of the modernwo rld. Such a view of the interest prob lem is m uch m ore closelybound up with the business cycle than any productivity theorylimited to artificial capital goods or to industrial profits couldpossibly b e. We will the refo re seek to resta te th e time-valuationtheo ry with m ore definite re ga rd to its use in this connec tion, inthe hope that by the cross-fertilization of ideas ways may befou nd to m ake the statistical analysis of the business cycle yieldlarger fruits.

PART II. TIME-VALUATION AND THE CAPITALIZATIONTHEORY

I. Individual time valuation without trade.—Contractual interest(as a rate pe r cent) is a relatively superficial ph en om en on . It isalso in economic history a very recent phenomenon on anyconsiderable scale. It ap pe are d subsequen t to the use of m oney




and to a regime of monetary prices. If, therefore, any causalrelation is historically traceable, interest appears as an effectrather than as a cause of prices. It is impossible to conceive of ageneral rate of interest, expressed as a percentage of theprincipal sum, antedating any system of prices; whereas it ispossible to picture, as antedating both interest and monetaryprices, a system of n on -m on etary , ba rter prices, involving ratiosof exchange between commodities. Indeed early economichistory shows us such systems on quite extended scales, in-terwoven m ore o r less on th e one h an d w ith caste, status, feudaland manorial relations, and on the other with the embryonicforms of monetary trading. The ancient and medieval concep-tion oïjustum pretium was deeply roo ted in this notion of the fairand normal ratios of goods. However, after monetary prices doapp ear, they m ay become m utually related to bar ter prices, andsomewhat modify them through causing changes in modes oftrade and of production.

But we must go deeper still in tracing back historically andanalysing logically into its simplest elements the modern com-plex relations of the time element to prices. Even the exchangeratios of goods in the simplest barter and in primitive bartermarkets appear subsequent in t ime, and must be logicallysubsequent to, long-prevailing schemes and systems of valua-tions of goods in terms of each other, in tribal, village, family,and individual life. In all the modern textbook expositions ofprice, it is assumed that the individual trade r ap proac hes a trad ewith some scheme of choice, or state of mutual valuations ofgoods, and the careful use of this notion will hardly be deniedvalidity. But this must not be taken to imply that once the in-dividual has access to bar te r and m ark ets, his scale of valuation isunaffected by trad ing o pp ortun ities, by past experienc es, and byhabits formed, in the market.

In the very earliest pre -ba rter, pre -m arket choices of p rimitiveman, time-valuation must have entered into the scheme ofchoice, as it must today in the most simple, isolated acts of menapart from markets and the developed apparatus of price ad-justment. Except for a due recognition of the mutual influence




of folks on each othe r's social standa rds , etc., it would be pu ttin gthe cart before the horse to find the cause of the individual'stime-preferences in the state of preference discovered by himand borrowed by him from oth er persons in the ma rket. R atherwe must seek an explanation outside of this circular, endlesschain of causation, to wit, in the n atu re of man 's desire for goodsand in the particular circumstances of plenty, scarcity, andprovision for need, as modified by intelligence, customs,training, habit, and social relations.

The fact that time differences in the availability of concretegoods (and also of their separate uses) do cause choice-differences cannot be disputed. Generally viewed, it appearsthat the more animal-like the stage and the more primitive thepeople, the greater the preferences for immediate appropria-tion and use over postponement. However, some curious ex-ceptions are found in primitive communities, supported usuallyby religious tabus or sanctions. It is only slowly that this differ-

ence in choice is diminished, with the growth of social institu-tions, customs and habits. We cannot imagine, therefore, anyindividual, family, or larger group economy, either the mostsimple or the most complex, wh ere th ere w ould not be involvedin the system of valuations reflected by and implied in the rela-tive valuations them selves, differences in choice due to time; thatis, due to the differences in the desires for goods at certain timelocations an d not du e to physical differences eithe r in quality or

quantity of the goods when they are ripe for use. It is a casewhere quality and kind are the "other things equal," and timepreference reflects the unequal conditions of choice, such asappetite, mood, fatigue, companionship, etiquette, and manyother things that affect merely the time of greater impulse,drive, or desire.

Experience and observation teach that in the vast majority ofcases the preference is very marked for present goods over

future goods (and vice versa as to present and future ills) withchild ren, savages, and the masses of man kind . But the growth ofthe spirit of providence an d frugality means the growth of powerand readiness to inhibit this choice of present in relation to




future goods. It is not doing violence to the facts to say thatindividuals and families have, involved in their schemes of

valuations, more or less definite rates of time-preference. Thischanging nature and force of time-choice cannot fail to modifythe actions of men, determining what, when, and how they dothings, what material things they use and how they use them,determining in large part what are the kinds and amounts ofdurable agents with which men surround themselves. Observetha t this is all conceivable an d actually o ccurs in coun tless cases,before o r without th e expression of these valuations in term s of

m one tary price, or even without the simplest ba rter . It is a systemof individual choices of goods with implicit ratios of time-preference.

2. Time-valuations under barter.—The beginn ings of ba rter ariseout of such a system of time-valuations o pe ratin g in individu al,family, and group economies. The essential motive for thesimplest trade can be found only in the fact that the tradingparties have at a given m om ent un equ al valuation ratios between

specific goo ds (at least implicit in their d rives an d desires ), an d bytrad ing b ring these ratios mo re nearly into accord . Tim e-value isno t a quality separa te and ap art from the total value of a concreteobject (w ealth) or of a specific act ( labor); it is merely that pa rt ofthe total value which in the particular circumstances is due totime relations, just as other parts of the value may be logicallyattributable to conditions of place, stuff, form, proprietorship,and manifold subjective factors in men. The time-value may be

negative or nothing or little or much or all of the value of acertain good in a particular situation. It requires no stretch ofimagination to picture trad er A having no presen t use whateverfor commodity m which he possesses, but an intense desire forimm ediate use of commodity z; while trad er B has no pres ent usewhatever for commodity z which he possesses, but an intensedesire for commodity m. Yet at a later time the a ttitud e of thesetwo traders in respect to these two commodities might be re-

versed. Barter in such a case is simply the exercise of choice, insocial circum stances, as to time -relations of goods a nd uses. Evenwhen the contrast in the traders' intensities of desire is less




extre m e th an in the exam ple, there mu st be usually some limit atwhich one or the other trader would cease to have a motive fortrade, due to time-relations. These same differences in time-value explain likewise the simplest process of deferring pay-ments, borrowing and lending, where the borrowed goods arereturned later in kind, often because of tribal mores withoutbonus, but with usury exacted from a stranger. There appearsno reason to dou bt tha t time-differences are ju st as real and ju stas clearly the explanation of particular economic choices ofwealth and of actions in the simple states of status an d of b art er,as are any other differences in the conditions of choice. Whenthis time-valuation is not consciously expressed as to am ou nt in asepa rate u nit (as mo ney) or as to rate p er u nit of time (discountor prem ium pe r ann um ), it may be very effectually em bedd ed ina person's general system of contemporary valuations in theratios of certain goods with others.

3 . Time-valuation in a m onetary price regime without loans.—Böhm-Bawerk, to whom we owe much for his emphasis of thepsychological factor and for awakened thought on the interestproblem , declared tha t "the kernel and ce nter" of his own theorywas the proposition: "as a rule, present goods have a highersubjective value than future goods of like kind and number." 1 3

He recognizes that this rule is subject to some exceptions but heconsiders these to be very ra re .1 4 In reality, many present goodsmay be worth less to any and every individual than a like kindand number of future goods, notably seasonal goods, as ice inwinter, fruit in summer, etc., as well as in many other specificsituations where present individual desire is small comparedwith anticipated need for particular goods at some later point oft ime.

Now, suppose that one finds that his relative valuations ofpresent and future goods of a certain like kind and quantityexpressed in the price unit are out of accord with his own relativevaluation of the time element in certain o the r kinds of goods. O r,again, suppose that one finds that his own time-valuations ofparticular goods are out of accord with the market rate whichreflects the time-valuations of othe rs, their estimates of the ratios




of the pre sen t and futu re prices of the specific goods. In eith ercase the person (except as deterred by the trouble of choosingand trading) would buy some and sell other specific goods,giving u p the money that he has left or acqu iring the mo ney thathe will either spen d at once or kee p as a "storehouse of value." Bythis use of m oney evidently a p erson may often get some one elseto supply him with m ore pres ent goods or with a gre ater total ofpresent and future goods of specific sorts than he could other-wise have, and at the same time the other person may gain bydistributing his possessions better throughout time periods. Insuch cases money serves as a "storehouse of value" better thanthe other sorts of specific goods. And such a process of buyingand selling (without lending or the use of credit) must tend toweave into the whole price fabric a certain gen eral, average rateof premium of present dollars over future dollars which hasresulted from leveling out and ro un din g off a great part of theindividual differences, though considerable may remain. So,then, each unit of money would evidently buy durable goodswhich (barring mistakes and accidents) would rise in pricethroughout a given period in the ratio of the prevailing time-price emb odied in the price of goo ds; and vice versa, the seller ofdurable goods to be used in the future would have to sell themfor less than the price that would emerge in course of time. Inoth er words discounts on future goods and uses, and prem ium son present goods and uses, must interpenetrate into everyco rner of a price system a nd en ter into almost every price quiteapart from the use of credit in any form, to say nothing oflending money at interest.

4 . Time-prices and time-shifts of goods.—In this process of priceadjustment of goods in relation to time-periods many intricatepractical problem s m ust arise because of the different deg rees ofdurability and preservability of goods, and because of the dif-ferences in the troub le and e xpe nse of keeping certain goods orof hastening th e ripen ing of others. From the primitive eras ofhuman industry, the shifting of goods in point of time was thepurpose of many kinds of economic activities such as dryingfoods, smoking, cooking, salting, buryin g in the gr ou nd , storing,




building caves and warehouses, oiling, painting or otherwiseprotecting many kinds of tools, agents, and supplies; and againthe purpose is to ripen or otherwise hasten the time at whichspecific goods can be had for use. Some goods lend themselvesreadily to this process and o the rs with difficulty. It is little tro ub leto keep some things, and they dete riora te little or n on e (e .g., theprecious metals) while at the other extreme are things whichdefy all attempts to delay their use (or vice versa, to hasten it).Now almost every process of keeping things involves the givingup of labor and other goods which have value (or price) foralternative purp oses; and besides there m ay be a loss in quality o rin quantity, as in the ro tting of fruit, the spoiling of meat, etc. Allthese subtractions from the physical quantity and quality of thegoods to be kept, plus all the subtractions from other goodsneeded in the process, taken together, are charges upon thetransfer of goods from one t ime-period to another quiteanalogous to freight charges for physical place change. (Con-versely, the re may be gains in physical quantity o r quality.) Th ismu st give rise to many an d com plex adjustments in the relativeprices of goods both contemporaneously and over periods oft ime. To take a comparatively simple case: suppose that applesmay be kept in an ordinary cellar from September until March,but that one-half of those thus stored rot in the six months. Aprice per bushel in March twice as much as in September, plusthe price (actual or alternative) of labor and storage space , m ighteasily be th ree times as high as a Septem ber price. But at the ratioof three to one, March and September prices might not containthat prevailing premium on present dollar purchasing powerneeded to induce its investment for keeping these particulargoods six months. The investment does not promise the pre-vailing increm ent of a high er n et price in March while all aro un din the existing price system are alternative investments which docon tain it. By choice the line is dra w n between th at time-shiftingof goods which is warranted by time-price relations and thatwhich is not. These differences may be reduced by shiftinggood s, but not to zero, any m ore th an local differences in pricesof goods can be reduc ed to nothing by transp orting goods from




the place of lower to place of hig he r valuations. Local prices oftwo exchanging markets sti l l differ by the amount of the

freights. T h e price system in any perio d of tim e viewed statically,con tem po raneou sly, is linked u p by countless acts of choice withthe price system in succeeding periods of time, into a time-em bracing price system. This is an unescapable conclusion fromthe phenomenon of individual time-valuations.

5 . Capitalization in the pricing of durable agents.—We have spo -ken th us far of th e price of concrete goods as wholes, having inmind, typically, goods that afford single uses (even though the

goods may be preserved over a period of time). W e now come tothe price problem found in another more complex class ofobjects, which the olde r speculations on interest almost ign ore d.T he se a re dura ble agen ts giving off a series of uses ove r a periodof time. Such agents, as Böhm-Bawerk showed (without fullydeveloping the thought in his interest theory) may be lookedupon as containing separable uses arra ng ed in time series which,like particu lar goods, often may be shifted forward an d back in

time in accord with differences in time-valuations. A ro und thesedurable goods, too, is built up a structure of time prices. Theexplanation of this process is the theory of capitalization thatmay fairly b e said to be a p rodu ct of twentieth century tho ug ht,so meager were the traces of it before.

It was one of the triumphs of the psychological marginaltheorists, an d pre-em inently th e work of the A ustrian school, tooverthrow the old cost-of-production theory of prices and to

replace it with an explana tion beg innin g in the value of u ltimateuses, an d traced backward from them to agen ts. Every indirectage nt derives its value (and its m onetary price) from its produ cts;it has not an d canno t have ultima tely any basis for its price exceptthe price of its prod uc ts, actual or exp ected ; its price is simply th epresent price of the sum of all its future products (or of itsseparab le uses). Bu t in every ex isting price system the prices oflike uses and of like ripe products differ according to time

location; therefore the price (capitalization) of durable agentscontaining series of products equal in number and maturingprice, m ust differ accord ing to the m atu ring dates. For example,




let one agent contain ten units of product yielded within a year(the agent being then used u p) and an oth er agent contain those

same ten units yielded once a year for ten years, or once everytwo years for twenty years; clearly these various d ura ble agen tstho ug h they may contain equal sums of pro duc ts (taken at theirpar , ma turin g valuations) would have un equ al pre sent (capital)values, if an d w henever th e p resent claims to the future produ ctsare taken as the sums they represent in the actual system ofprices.

This way of looking at the origin an d na tu re of the capitaliza-

tion process is revolutionary of traditional and still widely cur-rent conceptions. The counting house and banking habit ofmind has largely dominated economic thinking since theeighteenth century, and "interest theory" has been a phase ofcommercial economics with its disposition to regard as normaland pe rm an ent things jus t as they are. T h e economic m an (stillwith us) is pictured as a merch ant in a m od ern m arket, equip pedwith interest tables, aided by accountan ts, resortin g every day to

bank s an d th e loan m arket, and consciously and mathem aticallyestimating the presen t worth of durable agents and all other t imeseries of products or incomes, by reference to the interest rateprevailing in his circles. So economists, even since they havebegun to give attention to the capitalization process, continuedto explain it by taking a mathematically expressed interest ratedete rm ined antecedently in the loan m arket an d ap plying it as adiscount rate to rents and future incomes to arrive at their

present worth. The illusion persists even among some who inlarge measure accept time-valuation doctrines, that in no otherway could capital values be arrived at by investors.

But ou r view of the capitalization process is utterly different. Itis gene tic an d sees capitalization as a pa rt of the earliest system ofprices. It does not conceive of private property as "given in itsfinished scope an d force" (as Veblen asserts is erron eou sly do nein most current economic thinking). Rather it looks upon the

price system of today and the habits of mind that go with it ascomparatively recent developm ents, thou gh having their originbefore o ur ban king an d credit systems. T h e capitalization theory




here outlined has been far more shaped by anthropology,economic history, and genetic psychology, than by continuing

deductive, dogmatic, speculative studies.Our thought is not that the earlier type of the capitalization

process (which still persists in large measure today) involved theconscious recognition or explicit expression of a capitalizationrate either derived from outside or inherent. But some ratebecomes automatically involved in every price of durable goods(or series of incomes an d of p roducts) w here time-location in anyde gre e affects the valuation of the constituent elem ents m aking

u p the whole price of the thing . Th is ph eno m eno n of discount ofuses contained in any agent or source of incomes is correlatednot with artificiality but with durability of the income bearer,because durability m eans continuance th rou gh time, and m oreor less extended periods between the present valuation and them aturity of the future use, pro duc t, or income, that is taken to beon e of the constituent pa rts of the pre sent agen t. T h us th e pricesof ephemeral goods of present use contain little or no time-

discount, and durable goods (notably land and natural agents)contain more and more in proportion to the distance and timedistribution of their uses.

The process of time-valuation is in large part one of trial anderror, affected by imitation, habit, custom, social training, etc.,and constantly adjusted in the light of exp erien ce within both th eindividual and the group economies. When, and to the extentthat, competition operates, the persons who succeed, more or

less grop ingly o r intuitively, in bringin g the ir time-estimates in tosome semblance of a true system of time-prices, are more suc-cessful buyers, holders, and users of wealth. Certainly after theuse of money becam e com m on in medieval towns and m arkets, itwas inevi table that t ime-discounts and premiums shouldpermeate everywhere into the enlarging system of prices thatwas created. And these time-valuations (discounts) on futureuses and products within the larger system of prices must

themselves be built into a system reflecting a general rate,tho ugh varying ju st as prices do , in the various economies o ut-side the larger central markets. Such a price system as this is




logically conceivable in a creditless, loanless, interestlesscommunity, and is indeed the kind of situation disclosed byeconomic history as existing before th e rise of m od ern financialinstitutions and methods.

6. Capitalization and "the normal rate" of profits.—Such a pricesystem embodying time discounts is not, however, conceivablewithout the accom paniment and result of a usual, norm al rate ofprofit accruing to the buyers and ow ners of the durab le agen ts.Since at least the days of H u m e , a close connection has been seento exist between the ra te of profits secured by active e nterprise rsin their own businesses, and the prevailing rate of interest oncommercial monetary loans.

However, from the first, it was seen that a distinction must bedrawn between the usual, average or (as it came to be called)"natu ral" or "no rm al" rate of profits (which must be in the longrun if the business is to attract enterprisers, and above whichactive com petition will not for long pe riods perm it it to rem ain)and the higher or lower rates which may prevail temporarilyperh aps in particular places or branch es of trade , an d which maybe attributed to accidental and unforeseeable causes, or to thepresence or lack of special skill and of efforts by individualenterprisers.

It is therefore tru e that the close connec tion between the profitrate and the interest rate exists only at the moment of invest-m ent, as anticipated probable chance of profit (or income), andany add itional profit (or loss) is either attributed to hu m an effortor is absorbed in a recapitalization of the principal, the price ofthe enduring agents or property rights that give control of theincome. T he significance of this was, before recent capitalizationtheory, quite missed in the futile attempt to explain capital-values by cost of production. The long remarked "tendency ofprofits to equality" in various employments is rather more theresult of the constant re-evaluation of existing durable agentsand the tendency of their valuations to accord with revisedestimates of their products than it is the effect of the cost ofproduction of new agents of like kind, as held in orthodoxdoctrine.




At the moment of investment, however, the individual inves-tor sees the two "norm al" rates (of profits a nd of loan-interest) as

mutually reacting and affecting each other, without having tothink of their causal relations. Each offers to him a chance ofgain and a choice for inv estmen t, and even econom ists' thin kin ghas often seemed to rest at that point. But if the question israised, ther e are thr ee possible types of answ er. T h e interest ra temight be the cause of the "normal" profit rate; or the reversemight be the case; or bo th rates m ight be the results of a com m oncause. T h e last of these is implied in the capitalization th eory ; bu t

here tofo re only on e or the oth er of the first two theories seems tohave found adherents.

7. The general interest rate and the profits rate.— Here, at len gt h,we have arrived at th e interest p roblem in the strict sense. Whatis the cause of, w hat makes possible, the prevailing intere st ra teson m one tary loans? If the questions have been pu t, is interest thecause of profits or are profits the cause of interest, the answer,yes, has generally been given to the latter. For th e "productivity

theo ry" of interest, which in its various versions an d deg rees hasheld an overwhelming predominance in this field of thought, isreally, wh en exa m ined , found to m ean this if it m eans an ythin g.The vague and ambiguous term "productivity" is at first as-sumed to mean some kind of physical creation of product; butthis conception being utterly unusable in an explanation of aninterest rate (ratio of the value of prod uct to the value of the agen tor source), it is always quietly abandoned in favor of the value

conc eption. Productivity is taken to mean an incre m ent of value(price). But what kind of value and where found? Even in themost elaborate rece nt attem pts to apply the m argina l analysis tothis question, the outcom e of the reaso ning is simply this: capital(as an investment sum) is "productive" in the sense that onehaving capital has normally a chance of making profits at theaverage prevailing rate, by investing it. So-called "produc tivity"means profit yielding, and "product" means merely investors'

profit. And what is the source and essential condition of thisprofit emerging at a rate on an investment? It is explainedneither by physical productivity of agents nor by the value of




products (or uses) taken at the time of their realization andmaturity. It is explainable only by reference to the existing p rice

system wherein go ods con taining postp one d or future uses havebeen and are, when the loan is made, so priced (summed up,capitalized) in relation to time that as those uses mature andripe n they rise toward the parity of realized valuable uses. Thisnormal profit-making "productivity of capital" is thus nothingbut the reversal of the former discount-valuation applied todistant incomes. It is a psychological, valuation process, not aphysical, technological process. Thus profits no more explain

interest than interest explains profits. They offer alternativeinvestment opportunities but neither is the cause of the other.Both oppor tuni t ies resu l t f rom discounts and premiumsperm eatin g th e existing system of prices, an d these are traceableto the fundamental factor of time-preference exercised by menindividually and collectively in the complex environment ofmodern markets and prices.

8. Separate m arkets for time-prices.—A cons ide rab le usefu lness

can not be denie d to the notion of a gen eral interest rate . Bu t thisnotion, like that of a "norm al ra te of profits" is abstract; actuallyintere st rates ap pe ar in great variety, an d differ at any pa rticu lartime am ong individual transactions, grou ps of tra der s, kinds ofbusiness, an d types of loans. But, as in th e case of profits, so ofinterest, the notion of a gen eral, or no rm al, or prevailing rate isthe resu lt of analysing the various gross rates, attrib utin g a largepar t of the differences to ot he r causes (various kinds of chan ce,

luck, individua l skill, various service charges, an d costs of mak-ing the loans, etc.), and looking up on the rem aind er as tru e orpure interest. Parts are thus imputed to costs, other parts toenterp rise, and oth er parts p erhap s for a time to rents (more orless permanent) which sums, in fact, enter into the recapitalizedprincipal of the investment.

Bu t if the safest, simplest an d most m arketable kind of loans,such as government bonds, give the index approximately to

"pure interest," quite persistent differences are seen to prevailamong the rates in various loan markets, for commerce, forurb an real estate, for agricu lture, etc. Many such differences can




be readily explained as due to the special factors of cost. Thegross, or apparent, rates of interest do differ far more than the

true, net interest, both to the lenders and to the borrowers.It is impossible by this analysis to reduce all the apparentlydifferent rates in a cou ntry to a single tru e rate , eithe r to lend ersor to borrowers. Th e problem is analogou s to that of differencesbetween th e comm odity prices of two localities; these to be su re,differ by costs of tran spo rtation and tend toward a net equality toactual shippers, i. e., marginally; but that does not change thefact tha t local sellers get an d local bu yers pay hig he r p rices in the

one market than do sellers and buyers respectively in the othermarket. The differences persist, on the whole, through longperiods as our own economic history abundantly shows. Solikewise it is evident that in many neighborhoods and amongvarious economic groups, larger or smaller, real differences inth e prevailing interest rates may and do persist indefinitely. Th ismay be despite extensive loans and the constant import andexport of merchandise. Evidently, too, in such cases, the whole

structure of prices must be both reflected in, and reflect, thesedifferences. Capitalizations, the relative prices of present goodsand of durable agents, and normal rates of profit in activebusiness investm ents, as well as rates of interest, mu st, th ro ug hthe operation of competition and substitution, be brought intosome measure of consistency, as respects the time-discounts invarious goods and employments. Crude tools , ephemeralstructures, high business profit rates, low present prices (large

discounts) on fu ture uses, an d high rates of interest go tog eth er.Even within countries, provinces, neighborhoods, and in par-ticular employments, real differences in all these facts can ariseand persist, moderated but not destroyed by borrowing or bytrade in goods. A limit to the equalizing of the time-rates indifferent m arkets is set by the lack of purc has ing pow er to buygood s, an d by inability of borrow ers to give security en ou gh tolenders in oth er com mu nities to induce them to keep on lending .

Bu t not infrequently lend ers in regions of lower time-valuationlend u p to the limit of the wealth that backward com m unities canpledge, and even beyond, until a collapse of credit teaches its




lesson. In the same country within the markets for commercial,agricultural, and urban real estate loans, within loan markets

affected by different tax laws, and among groups of borrowersand lenders affected by tax-free features, there must be dif-ferences in rates that persist and that are reflected in the wholeset of economic choices and the whole system of prices in eachmarket and group.

Whatever be the relative prices of particular classes of goods,these prices would all be interpenetrated more or less consis-tently by the time-discount rate peculiar to each market or

group. Any such system of prices having become fairly stable atany time and in any country, may be disturbed and altered bychanges originating (1) in the medium-of-exchange m echanism,affecting more or less alike all prices, i. e., the general level ofprices as expressed in index numbers; or (2) in conditions oftime-valuations, acting upon time-prices and capitalization; or(3) in special conditions of demand and supply determiningrelative prices. The last of these is not negligible, but is of least

im portan ce to ou r prese nt them e and m ust be passed over here .The first is for our purpose the most important and it will beconsidered o n the assumption that a cha nge occurs from the sideof money without any change originating in the psychologicalfactor of time-preference. Finally and more briefly, will beobserved the case of individual time-preference changes (sowidespread that they affect the prevailing market rates of time-discounts, etc.) without any change originating in the money

supply or other exchange mechanism. We say "originating in"not "occurring in" to avoid any suggestion that such changes maynot and do not occur as a result of the repercussions of theparticular price adjustments in the new situations taken aswho les. N eithe r of these two problem s (1 and 2 above) is simple,and it may be questioned whether the true nature and fullbea ring of either ha d be en clearly recognized until within th e lastthirty years.




PART III. INTEREST RATES AND SOME PROBLEMS OFGENERAL PRICE CHANGES

1. Long-time changes in the general price level, and compensatory

interest rates.— W hen, after 1873 , the g ene ral p rice level hadcontinued to fall for some years, the accompanying fall in in-terest rates on long-t ime loans at t racted the at tent ion ofeconomists, notably that of J. B. Clark and of Irving Fisher, inthe decade of the nineties. Alfred Marshall had briefly calledat tent ion, as ear ly as 1886, and again in 1890,1 5 to the

phenomenon later designated by the title of Professor IrvingFisher 's notable monograph, "Appreciat ion and Interest ."Indeed it seems to have been glimpsed as early as 1802 by H.Thornton, and by Ricardo in his "Principles," 1817. The dis-cussion of this problem has been in part deductive and in partinductive through the use of statistical data. Take a period offalling prices resulting, let it be assumed, from a decrease, ab-solute or relative, of gold production. Then it was shown that

when this trend becomes fairly definite and generally expected,prospective borrowers become more wary and prospectivelend ers mo re eage r; for each compa res the purcha sing power ofdollars wh en the loan is m ade with that of dollars when paym entsof interest and of the principal, respectively, will fall due. Theborrow ers are warn ed by the outcry of the deb tor class, an d thatgroup of capitalists that lives in the neutral zone between activean d passive investm ent is tem pte d to shift over to passive m oney

lending unless and until the interest rate falls to a degree thatoffsets the fortuitous advantage accruing to creditors from ris-ing prices. (Of cou rse, the con verse of all this would be the case ifprices were rising.) In principle this process is competitive ad-ju stm en t, on both sides, of expected gains an d losses from pricechan ges, resulting in a com pensatory rate of contractual interest.The "true" interest rate translated into terms of goods (thecommodity interest rate) would be no higher or lower thanunder a regime of stable general prices, if this process operatedwithout lag or friction. B ut of course it does not so op er ate . Atthe best, the uncertainties of price changes make this process,




though good as far as it goes, but little better than a gamble.Several in de pe nd en t statistical tests16 have shown that in part the

compensation takes place, but only tardily, imperfectly, in-equitably, unequally in the various branches of trade and incoun tless transactio ns. So far as it doe s occur, it can affect onlynewly made loans or old loans at the moment of renewal, andleaves the vast ou tstan din g bu lk of contracts in term s of dollars tobe settled on the level of the new and ever-changing prices. Inhistorical fact, no sooner has the downward trend of pricesseemed to be established, an d interest rates on newly m ade loans

become more or less roughly adjusted to it, than general priceschanged to an upward trend, and for years even the ignorantand unskillful among the active capitalists reaped unexpectedprofits on new loans still made at low interest rates. Then thewhole "m oney lendin g" class, includ ing as it does th e m any littlelenders who are the equitable owners and beneficiaries of vasttrust and insurance funds, endowments, and savings accounts,are the innocent losers.

2 . Changing general prices in relation to particular prices and toindustrial equipment.—Most of this doctrine is so generally ac-cepted now that repetition is scarcely necessary. But there isanother somewhat deeper-lying problem that calls for furtherattention from future stude nts of prices. For is it not evident thatduring such a process of price change the whole scheme ofrelative prices would be disarranged, compared with what itwould have been, or would be, u n d er a regim e of stable g ene ral

prices? Where interest rates were compensated fully (or ex-cessively) in relation to falling prices, the re long-tim e inves tmentin durable equipment would be "normally" large; while if in-terest rates are as yet com pensated little or n on e, investm ent forthe future m ust lag and even in renew ing old loans many deb torswould face ruin. Such things might raise some kinds of prices inthe future by causing physical depreciation of existing wealth(lands, machinery, equipment) but reduce present prices in

those industries by causing producers to continue to turn outgoods under the pressure of need for ready funds.The same uncertainty and chance that hangs over the whole




process of borrowing from others to invest in particular ways,hang s over th e process of employing on e's own capital in active

business. (We are concerned here only with the time-value andtime-price aspects of these price relations.) There must beoverinvestm ent at one place in dura ble goods,' and un de rin-vestment in others, compared with what would have been thecase in a state of economy where general prices, as determinedby the relation between the exchange mechanisms and thevolume of exchanges, remained stable. While the contractualinterest rate is ou t of accord with the profit ra te, m ore o r less, in

different em ploym ents, bo th m ust be m ore or less ou t of accordwith the " true " comm odity interest rate, and at the same time thecapitalizations of agents in various uses as well as the suppliesand prices of various "rip e" goods m ust be greatly dislocated. Amarket rate of time-discount would in such periods cease to"prevai l" wi th any precis ion, throughout any one of thestructures of prices. T h e existing unce rtainty as to price tren dsspecial and general, the inequality, the accidental gains and

losses of enterprisers and investors, the resulting discour-agements and prodigalities of individuals and large classes,extend even to the more fundamental psychological fact oftime -prefere nce . O n the w hole it would seem to have the effectof reducin g abstinence and investment, tho ug h th e factors m ustbe varied and often conflicting.

3 . Short-time general price changes, bank credits and discountrates.—In an historical chart of price index numbers, the long-

time fluctuating curves, representing the greater tidal waves ofgeneral prices, may be as much as forty or fifty years from peakto peak; and they are broken up into a succession of uneven,sho rter waves formerly tho ug ht to ex tend over eight to ten yearsbut which some m ore recen t studies indicate to ru n now nea rerthree or four years. In any case these briefer curves mark whatare now called business cycles. Naturally the peaks and hollowsof the long-time curves coincide with the high and low points

respectively of certain of the s ho rter cycles, wh ereas between thegre ater peaks and hollows the s ho rter cycles may be pictured assupe rinscribed up on the long-time curves. At the few co incident




points there might be a common cause, but the interveningdivergences of the business cycle from the general trends cer-tainly suggest the working of two somewhat in de pe nd en t causes.

W ithout com mitting ourselves to an inflexible theo ry, it seemsnow a good working hypothesis, in view of the known facts, toconnect the long-time curves mainly with changes in thefundamental monetary conditions. Chiefly these relate to gold(and silver) production, together with the accompanying con-ditions as to the use of gold as the "s tan da rd" money a nd unit ofprices in the world (if on e likes, "the supply of and de m an d for"gold for use as the sta nd ard price un it in the mo netary system).Since 1914 irredeemable paper money, crowding gold entirelyout of circulation and becom ing the sole fluctuating "sta nd ard ,"has a part even m ore im por tant th an gold in the explanation ofthe price levels of pa rticula r co un tries , an d has a very significantpart in the explanation of the value of gold throughout thewo rld. Similarly we may find the larger pa rt of the cause of thosebriefer fluctuations that diverge from the long-time trends, inthe changes occurring in that p art of the exchange-mechanismconsisting of credit agencies (in relation, of course, to the ac-com panying psychological conditions of ho pe , fear, confidence ,expectations, whether based on calculation or resting merely inemotion, in the business community).

Now it is well recognized th at m od ern developed bank ing a ndcredit systems, by the use both of bank notes and of discountdeposits, permit of large and rapid expansion of the dollar-exp ressed pu rcha sing power, without substantial changes or anyincrease whatever at once and at the same time in the am ou nt ofstandard money in the particular community. Any bank orgroup of banks starting at the close of a period of depressionwith a good percentage margin of reserves above the legal (orpopularly reputed safe) minimum, can rapidly increase itsearning assets and earned income by expanding credits on thebasis of the same (or even less) standard (or legal) money in itsvaults. This additional purchasing power in the hands of bankcustom ers and b orrow ers m ay be assumed to have somewhat, ifnot just, the same immediate effect on prices as would a per




capita increase of money in the community. As soon as anyconsiderable number of enterprisers begin to share the con-

fidence and belief that prosperous times are in prospect, thenumber of borrowers increases. The earlier an individual acts,the greater, probably, will be his eventual profit from thetransaction , as funds borro w ed at the lowest rate of interest areused to buy good s and eq uip m en t (and labor) at the lowest levelsof prices, to be held and used while they are advancing to h igherlevels. There follows, therefore, on a smaller scale, and over ashorter period, the same kind of compensation between prices

an d intere st rates as when prices advan ce because of the relativeincrease of stan dar d mon ey thro ug ho ut the world. W ages rise atfirst more slowly and then more rapidly than prices of mostproducts, until the wide profit margins shrink. Discount ratesthen rise with the growing dem and s of custom ers. T h e relationof various particular prices in the general system of pricesundergoes rapidly various modifications, notably the relationbetween capital-valuations of durable and indirect goods with

near-finished direct goods. Then every miscalculation, espe-cially the overestimate of capital values (based on the combina-tion of low discoun t rates on borro w ed funds a nd high exp ectedproduct-prices) reveals itself, the margin of security shrinks orvanishes, and many bank credits are "frozen."

4 . Public aspects of bank-credits in relation to stable prices.—As tothe b ank s' part in the m ovem ent of the business cycle, public andeconomic opinion in the past has thought it should be guided

only by individual (or corp ora te) self-interest a nd the m otives ofprivate competitive profit, limited only by the minimum legalpercentage of reserves. The banks have accordingly actedindependently and indeed had to do so or lose the chance ofprofits for their stockholders. Midway in the upward pricemovement, long before its culmination, other banks (and thecountry as a whole) would benefit if some of the banks wouldcease expanding their credits. But as a private competitor the

individual bank could not afford to do this. Only by acting incombination, and therefore monopolistically, could the bankstogether share the gains and losses of early restriction of credit




while yet having an ample reserve perc entage m argin a nd legallen din g po we r. And in this m atte r, as for long years in respect totransportation, the public could see nothing but good in com-petition, and has been very reluctant to admit the good in anym easure of monopoly, even with governm ental control. Popu larfear of combination of moneyed institutions is still great.

In the Federal Reserve System, two monopolistic featureswere incorporated (doubtless without recognition of all theirbearings): virtually centralized rediscount, and centralized noteissues, both under control of the Federal Reserve Board. Veryfortunately also (in contrast with the plan proposed by theNa t iona l [A ld r i c h ] Mone ta ry Commis s ion a nd a lmos tunanimously preferred by the bankers of the country), theFederal Reserve System was given a far more public characterand control, notably in not gra nting to the m em ber ban ks all theprofits as th e Aldrich plan p rop ose d. As a result of limiting to 6pe r cent the dividends from the F ederal Reserve Banks going tomember banks the atti tude of the whole banking communitytoward the sacrifice of earning assets (and therefore profits) ofthe Federal Reserve Bank since 1921 has been very differentfrom what it otherw ise would have be en . It would be difficult toexag gerate th e contrast. If only in the period between 1918 and1920 the Federal Reserve policy had not become entangled andconfused, thr ou gh th e m istaken zeal of the treasury de pa rtm en t,with the policy of low interest rates on bo nd s, the cou ntry m ighthave been spared a large part of the loss of that period ofridiculous price inflation.

T h er e has been revealed of late the possibility of stabilizing inconsiderable measure the minor swings of prices (business cy-cles), by increasing the percentage and even the amount ofreserves of standard money (impounding gold), at the sacrificeof possible bank profits, instead of passively letting the specula-tive de m an ds of business precip itate a period of inflation. It is atlast seen by a few, tho ugh no t as yet generally by the public (norconfessed by the Federal Reserve Board), that the paramountuse for public welfare that can be m ad e of surp lus assets is not toinflate c redit a nd raise prices, but to kee p prices as nearly level as




possible. T h e index n um ber, n ot the reserve percentage, m ightbetter be the compass by which to guide the discount policy of

the great central, noncompetitive bank. But such action haspretty definite limits which are frequently ignored. It cannotlong control or defy the larger swings correlated with standardm oney pro du ction an d use, but only or m ainly the m inor savingscaused by bank credit expansion. Ultimately the balance be-tween gold and production costs in marginal mines must de-term ine th e valuation of the stan dard unit and the level of priceson the gold standard throughout the world.

5 . Various types of Loans and divergent interest rates.—W e h av espoken 17 of the differences in interest ra tes existing side by sidein different markets for loans. Such are seen in the higherinterest rates long prevailing in the newer compared with theolder states; in agricultural co m pare d w ith urb an districts; in therates on bonds of long successful compared with doubtful en-terprises; and in the varying rates for bank and mercantilecredit, granted on poor, fair, or prime security. Such con-

temporaneous differences may be largely explained as due torisk (of losing principal and interest), to trouble of placing andcollecting loans, etc., as seen from the standpoint of marginallend ers th at are in a position to choose between th e two forms ofinvestment (vice versa as to borrowers). But evidently the truemarket net interest rate to non-marginal lenders within eachterritorial or other class of credit market must be genuinelydifferent because of the prevailing competit ive conditions

(reflected in the particu lar system of prices in which they live andwork). We are not now concerned primarily with these con-temporaneous differences, connected either with geography orrisk, but merely with time differences, the fluctuations overperiods of time which occur in each of these kinds of loans, andmore or less parallel with those in the other kinds of loans.

It has been a comm on observation th at interest rates vary (infrequency and degree of change) somewhat directly with the

shortness of the term of the loans.18

Th is m eans, of course, them ore frequent necessity of renewals, and the grea ter pro po rtionof all the loans of that type becoming subject of bargaining for




renewal at any one time or state of the loan market. Thussomething like 75 per cent of all outstanding loans now are in

corporation and government bonds and real estate, rural andurban, aggregating perhaps ninety to one hundred bil l iondollars.19 O n these the cur re nt rates for new loans and renewalsare the most stable, following on the whole, most closely thegeneral trend of long-time contractual (or nominal) and ad-justed (commodity) interest rates. At the other extreme is themuch smaller, quite elastic volume of fluid funds, consisting ofcall loans, com m ercial pa pe r, bank ers' acceptances and Fede ral

Reserve rediscounts, on the average perhaps five billion dollars(say 4 per cent of all loans). T h e cu rren t rates on these are mostfluctuating (extremest on call loans); for these are the marginalloans, on th e frontier, so to speak , of speculative investm ent, an dmade with reference to the more ephemeral changes of pricesand opportunities for profit.

Midway between these two classes of loans stands the veryconsiderable class of the more ordinary bank loans to commer-cial borrowers, together with the casual business credit bymanufacturers and merchants to customers, totaling perhapssomething less than thirty billion dollars, or something morethan 20 per cent of all existing credits. The nominal rates onthese change little, but the actual effective rate is very consid-erably modified by altering terms of collateral, of customers'balances, refusal to rene w , etc.

6. Underlying relationship of these various loan markets.— N o d o u b tthese thr ee (and correspon ding ly their various subdivisions) areimperfectly co nnected m arke ts, between w hich, because of legalrestrictions, commitments, habits, lack of financial machinery,etc., there is a tardy transfer of funds by either borrowers orlenders. Moreover persistent average differentials in rates re-flect risks and costs and trouble of placing and collecting loans.Th ese m arkets to a large extent go their sep arate ways, and their

time fluctuations of interest rates, be they large or small, man-ifest a considerable degree of independence. Long time realestate loans, continue to be made at about the same ratesthroughout periods when short t ime commercial loans are




undergoing wide fluctuations. Likewise a large degree of in-dependence must subsist at times in the several minor price

systems, but fundam entally they are all conn ected and related toeach oth er by the slow, tho ug h im perfect, transfer of m arginallylocated funds until what may be called the "n orm al" differentialis re-established. We might picture these various time-discountrates as the cars of a train hitched together by elastic couplings,all drawn along by the same engine. On a perfectly level track,moving at a perfectly even speed, they would keep the samerelative positions and distances apart. But they would lag or

catch up as the engine changed its speed and as, with varyinggrades of the track, gravity now reta rd ed , now accelerated, the irmotion.

This view seems true of moderate or ordinary fluctuation ofbusiness; but some evidence indicates that in times of criticalcredit changes, the readily marketable, staple, long-time bonds(on the larger exchanges) may undergo notable swings of price(and reciprocally, their long-time yields).20 Viewed as m ere dipsin pr ice , likely to be followed in a few years, at m ost, by recovery ,the cha nges of capital value plus the reg ular interest mak e a totalsacrifice by the seller (and gain to the buyer) possibly com-m ensu rate w ith, if they do not exceed, the large r fluctuations ofthe rates on call loans. Is not the explan ation to be foun d in thefact that in the periods of financial catastrophe, a considerablenu m be r of even the best bo nd s becom e, so to speak, the last lineof reserves to be thrown into the battle by speculators andbankers, the one asset convertible into ready funds? Thereforebonds are brought out of strong boxes by wealthy marketoperators and by financial institutions. The "supply" of fundsavailable for their purchase is so small that the "marginal price"registered by sales is very low. But the actual sales represent avery small proportion of the outstanding amounts. These se-curities are mostly held by more passive investors whose valua-tion is m uch h igher tha n that of the m arket, who would not thinkof selling at the m om entary prices but who yet have little or nonew funds by which to add to their holdings.

1 .Different kinds of inflation as affecting prices and interest rates.—




In the foregoing comparison between long and short timechang es in price levels, we may have a clue to the unra veling of

an old puzzle (at least a trial may be worth while); that is, thecontradictory effects upon interest rates that seem to followchanges in prices at different times. To survey the problembriefly: before Hume it seems to have been generally thoughtthat if m oney increased (and prices rose) the interest ra te wouldfall and stay there. Hume declared (he seems to have beenconsidering only the effects after the adjustment to a new levelwas complete) that prices and interest rates were independent,and the ra te the same after the price level had ch ang ed that it wasbefore. T he n the theory of appreciation and interest, thou gh notcon tradictory to H um e's view of the pro blem he was exam ining,showed that ju st d ur ing th e period of gradual ge neral pricechange in on e direction , interes t rates are affected, bu t preciselyopposite to the popular notion. Interest rates then fall whilem oney a nd prices decrease a nd rise while they increase. Not onlyhas the old notion persisted popularly, but it has from time totime ap pe are d in the mo re professional economic circle. Certainfacts as to foreign tra de m ove m ents, rates of foreign exch anges,bank reserves, note issues, increase of bank credits, com mercialprices and ease of com mercial credit, refuse stubborn ly to chimewith the simple sweeping proposition that rising prices alwayscause (or at least accompany) rising interest and discount rates.At times the ou tstandin g an d an om alous fact is a rapid expan -sion of trade and rise of prices continuing for months (in rarecases even for years) with little or no increase, possibly somereduction, in discount and interest rates in commercial circles.

We are tempted to find the explanation in the contrast be-tween long and short time price changes, and in the lag of theinterest rate, as the effect, behind rising prices as the cause.T he re may be some truth here , but the larger part promises to befound in the contrast between the two main sorts of price infla-tion in respect to their origin o r cause, the on e resulting from anincrease in standard money, the other from an increase of bankcredits. Ordinarily the standard money is gold or silver which,following changes in physical conditions of mining output,




comes into circulation and is paid out by mine owners andworkers gradually to buy goods without h aving been at any time

in the h and s particularly of a lend ing class. Likewise (whether ornot we designate it as standard money), the irredeemable,political paper money issued from the printing press by needygovernments, comes into circulation day by day directly asmeans of payment of current expenses, not assuming evenmomentarily the form of a loan fund. The first and immediateeffect of money com ing into circulation directly thus as m eans ofpayment is to raise prices of commodities, whatever effects, if

any, it may later have indirectly on interest rates (notably thecompensatory adjustment of contractual rates, already dis-cussed).

Q uite o therw ise is it in the case of price inflation by means ofbank credit; it matters not immediately whether the particularform which the new purchasing power takes is deposit anddiscount or bank note issues (credit currency). Any surpluspercentage of reserves above legal requirements is to banks

potential lending power, (e. g., 80 per cent in a central bankwhen the minimum legal requirement is 35 per cent, or 25 percent for member banks when the minimum legal requirementhas ju st b een reduce d to 13 pe r cent). Viewed as private en-terprises merely, the banks have at such times not only thepower, but the profit motive, to expand their loans, to convertthis useless, ornamental surplus reserve into earning assets asfast and as far as possible. If the central bank management hasmisgivings about letting this occur, these may be overr idd en byFederal fiscal influences because of a predetermined policy tofloat governmental loans at low rates of interest.

8 . Abnorm al bank-loan expansion and comm ercial discountrates.—Now what happens to prices and interest rates underthese conditions? Note that if prices are to be affected, it is to bethrough putting into the hands of business men the purchasingpower rep rese nted by this huge latent loan fund, an d it canno tbe until that is done. Let it be assumed that, dollar for dollar,purchasing power of that kind will at least for a while have thesame effects as an increase of standard circulating money in




raising prices in com mercial circles (immed iately an d d irectly, nomatter how the later adjustments may differ).21 The latent in-

flating medium-of-exchange has no effect on prices until itbecomes actual. It is first a hu ge loan fund con cen trated in thehan ds of bankers an d only after being loaned to bank customersdoes it increase the ratio of dollar purch asing pow er to goods forsale. T h e m om ent that it begins to be loaned, it tends to shift th ebalance of buyers and sellers of loan funds in the market forcommercial credit, in favor of the borrowers, and to lowerdiscount rates, or k eep them low despite large bo rrow ing. If the

shift is sudd en , if the potential am ou nt of this loan fund is large,and if the movement, therefore, can be long continued (asbetween 1915-1920), it is easily un de rstan da ble how bank (andother related commercial) discount rates would behave ab-normally, and remain low while prices were steadily, and at lastrapidly, advancing. Customers are tempted and, so to speak,bribed by the low discoun t rates, to borrow this new pu rcha singpower, than as comm odity prices rise, customers borrow m ore ,and thus the vicious circle of loans raising prices which in turnincrease loans continues so long as the discount rates remainlevel, or rise little. Only the approaching exhaustion of thesurplus reserve percentages calls a halt.

Meanwhile, of course, there would have been the constanttendency not only for the discount rate, but for the whole pricesystem in this bank ing and com mercial world to get ou t of accord

with the underlying forces of time-valuation, and with theprevious (and in a sense more "normal") scheme of capital-valuations and prices. Commercial loans pretty closely con-nected with banking are barely one-fourth of all loans, and forthe other three-fourths (now around one hundred billion dol-lars) little of these banking funds would be available. Further,the capitalization of several hundred billion dollars of existingwealth would be only very imperfectly adjusted to this artificial

and tem pora ry cheapness of ban king credit. T he whole situationis such as to deceive the judgment and demoralize the businesspolicies in every line of enterprise. Political pressure may pro-long this movement even after the banks, if left to their own




judgment and self-interest, would have curtailed credit andraised discoun t rate s. It is probably the most outst an din g case in

which contractual interest and discount rates on commercialloans appear to find their cause and explanation for considera-ble periods outside of fundamental time-valuation factors, andou t of accord with them , tho ug h in the end those factors g overn.This situation has served to mislead some economists into thedevelopment of a general theory of interest based on bankcredit.

9 . Bank loan elasticity and the needs of business.—The foregoing

presents the extreme case of the expansion and contraction ofbank loans in relation to prices but in principle quite smallchanges in the loan policies of banks affecting the volume ofcommercial loans, discount rates, and percentages of reserves,are of the same natu re.2 2 The y cause and co nstitute inflation anddeflation of the exchange m edium and of comm ercial purch as-ing power, not originating in changes in the am oun t of stand ardmoney but in the elasticity of banking loan funds. This word

"elasticity" has long been used in discussion of bank ing policy todesign ate a quality assumed to be highly and wholly desirable inbank note issues and in customers' credits, but with only vaguesuggestions as to what is the need, standard, or means, withreference to which bank loans should expand and contract.

R ath er, it may be m ore exact to say, the tacit assump tion hasbeen that the bank loan funds should be elastic in response to"the needs of business." But "the needs of business" appears to

be nothing but another name for changes in customers' eager-ness for loans; and this eagerness increases when prices arebeginning or a re expected to rise, and often continues to ga thermomentum while prices rise and until, because of vanishingreserve percen tage s (and o ther factors), the limit of this elasticityan d also the limit of price increase , are in sight. In this situa tion,the most conservative business operations become intermixedwith elements of investments speculation, motivated by the rise

of prices and the hope of profit that will be made possible by afurther rise. Throughout this process the much esteemed elas-ticity of bank funds is the very condition causing, or making




possible, the rising prices which stimulate the so-called "needs ofbusiness." Truly a vicious circle, to be bro ken only by crisis an d

collapse when bank loans reach a limit and prices fall. Thenbusiness failures, depreciation and losses written off, and thereadju stm ent of capital values, brin g the system of prices againinto some semblance of self-consistency, and particularly bringthe scheme of prices in active commercial markets which aremo st influenced by ban k discou nt rates , into better accord w iththe larger, more inert volume of long-time loans and with thegreater mass of the capital-valuation in owned wealth more

rarely bought and sold.Q uite different would be the course of events if "the ne eds of

business" were to be ju dg ed with reference , not to the specula-tive desires of individual traders (however "natural" and ex-cusable) to expand operations because of and in expectation ofrising prices, but w ere to be ju dg ed rath er w ith reference to the"need" (or desirability) of a stable level of prices for the wholecommunity. Then an official index number of general pricesmight better than customers' clamor indicate the social-welfareneed of exp and ing bank loans. Given a bank reserve-percentagerate in excess of legal requirements, bank inflation would trulyfill a (public) need w hen prices were falling, bu t not when priceswere rising. If this index were followed, that portion of thefluctuations of prices and of th e business cycle due to the viciouscircle of ban k inflation to meet the so-called "need s of business ,"would be minimized instead of caused or accentuated.

No doubt there must be a limit to the possible operation ofsuch measures at either end of any legally enacted scale ofreserve-percentage rates, and in any long-time movement ofprices either up or down. It would seem that in principle theinfluence of such a policy of bank credit control upon pricechanges must be confined in the main within the short-timefluctuations of the business cycle, and must eventually in anycoun try whose stand ard m oney is a prec ious m etal, yield place tothe major influences determining the world production andsupply of the standard metal which influence the long-timeswings.




We are not concerned here with the difficulties in the way ofpractical application of such a plan because of habits of tho ug ht ,

old usages, and adm inistrative details; we are only indicating th ena tur e of the problem and the possible contrasting policies. T h ewhole subject has been viewed in the past in the light of theacquisitive, private-profit conception,applied to banking, which,at least in part, defeats its own e nd s, as well as the e nd s of gen eralwelfare.

10. The Bank of England rediscount policy and the price level.—The nearest approach to a policy of deliberately manipulating

bank loans in relation to national, rather than to individual,"needs" is the practice, origina ting with the B ank of En gland, ofvarying its rediscount rates. An adequate treatment of thishighly technical subject would transcend our theme and ourpowers, but some aspects we may venture to glimpse. Thepu rpo se of raising the rediscount rate is quite definitely to pro -tect the coun try's central reservo ir of gold when a turn of foreignexchange rates threatens to deplete it by causing exportation.

However, the purpose only one step removed (indeed boundtogether with main purpose as means to end) is to reducecommercial borrowing at home, thus reducing commercialpurchasing power and thus checking the rise of, or deflating,English prices in commercial circles. Two results follow almostsimultaneously: on e, English com modity prices cease rising, orare slightly reduced relative to foreign prices, and thus Englishexpo rts are stimulated a nd im ports to Eng land are discouraged;and two, the high er discount rates tem pt back English assets heldabro ad as well as induce foreign ban kers to exten d or to increasefinance bills and o the r credits to Eng land . Both of these changesreduce, and may remove entirely for the time, the adverseforeign exchange rates calling for the net export of gold fromEngland. The artificial raising of the rediscount rate really ef-fects a lowering of commodity prices in Eng land (both absolutelyand relatively to those of other countries) and if it does notincrease absolutely the amount of standard money in thecountry, it has at least the negative effect of preventing thedecrease that otherwise would occur.




T he plan really works. It is well to inqu ire carefully, how ever,whether this process shows more than a restricted, temporary,and superficial power to determine the level of prices or theform of the price system by changes artificially initiated in in-terest rates. In our view, in accord with the general theory oftime-va luation, this process is no thing m ore than an anticipationof the bank-fund deflation that would otherwise be forced by thecontinued export of gold. Raising the rediscount rate merelyputs springs un de r comm ercial prices to prevent their dro pp inglater with a jolt. Moreover it is essentially a process of read-justment of relative price levels and of the stock of internationalstandard money, in different geographical areas of the world,prices and money stocks in different national markets havingbecome more or less out of alignment with world conditions.Fundam entally it is almost entirely un related to the problem ofthe long-time level of general prices either in the particularcountry or in the world at large.

11. WickselVs startling doctrine of discount policy examined.—Such arole (however useful) is m ore m odest than seems to be attributedby a good many economists here and abroad to the rediscountpolicy. T h e extrem est view, that taken by the late Professor KnutWicksell, has gained a wide hearing and some following loyalen ou gh to claim "Wicksell as the originator of the m od ern theoryof discount policy, which constitutes the chief advance ofmonetary theory since Ricardo."23 Wicksell's thesis is this: If,

other things remaining the same, the banks from any causewhatever together fix their interest rates somewhat below thenormal level (assumed to be fixed by "m arginal productivity") allcom modity prices will rise an d con tinu e to rise withou t any limitwhatever; and vice versa. There is an incredible rigidity in theclaim of lasting effects from a temporary change of bank dis-count rates: "W hen com m odities have risen in price, anew level ofprices has fo rmed itself which in its tu rn will serve as basis for all

calculations for the future and all contracts. Therefore, if theban k rate now goes up to its norm al height, the level of p rices willnot go down . . . . there being no forces in action which couldpress it down"24




Criticism of this prop osition is difficult because of the elusiveorder and ambiguous nature of Wicksell's discussion. For attimes he implies that the thesis has an important and usefulapp lication to real cond itions and again confesses that "it is onlyan abstract statem ent," and even th at it is on e of such natu re th atit can have no meaning or use in the financial world as it is.However, it can be shown that in either case the proposition isunsou nd— eve n tak ing it most "hypothetically." A gross fallacy iscontained in the very first phrase, "other things remaining thesam e," for this does not have its legitimate m ean ing an d pu rpo seof limiting to one (a cha nge of the bank rate) the new con ditionso r causal factors assum ed to be different from the norm al reali-ty. T h e attentive re ad er soon discovers that W icksell is assuming,or confessing, in or de r th at the thesis shall hold at all, that beforethe ban k ra te could have the effect indicated, several ot he r veryimportant things must be quite different from what they are.First, all the ban ks of a cou ntry m ust act tog ether, the individualbank , even a strong central on e, would be pow erless; the n, thisnot being en ou gh , all the banks of the world m ust act to gethe r,the single nation would be powerless; then, there must be "nocirculation whatever of coins or notes," or the attem pt to m aintain anartificially low discount rate would break down by the exhaus-tion of reserves; and it appears by this time that the thesis ism eant to be defend ed only in the case of a com plete regime ofbank credit, with a zero reserve percentage.

Now in such a bankin g U topia wh ere bank credit were the onlymedium of exchange, if credit continued indefinitely to beextended to all applicants at an artificially (or arbitrarily) low rateof interest (not determined by the "normal" or usual forces),then the re seems no thing to preven t constant bank credit infla-tion and a constant rise of prices, in turn creating a motive formore commercial loans, ad infinitum, just as in the case ofRussian and German paper money inflation. Under such con-

ditions the p rice of a shoe string or of a loaf of br ea d in term s ofthe nominal monetary unit may burst the mathematical tables.Either a regime of irredeemable paper money or a completeregim e of bank credit without any m oney or any reserves, can be




said to make possible a rise of general prices without assignablelimits. But Wicksell's doctrine as a guide to practical bankingpolicy is more to be shunned by stable money theorists thanpoisoned alcohol as a beverage . W ith the gold stan da rd or som eother definite standard of reserves, Wicksell's policy would beutterly unworkable, as he concedes quite casually. If he hadpre sen ted his doc trine in a different o rd er , introdu cing first thewildly unreal condition u nd er which alone it could be imaginedto op era te, probably no one could have been deceived, not evenits inventor, into thinking it could give any guidance in actualsituations.

At times W icksell's tho ug ht seems to be in a confused way tha tin the situation which he p ro po un ds prices rise indefinitely notbecause bank loans are continuously exp an de d, bu t because thediscount is kept artificially low (while loans are restricted). Butthe superficiality o f such a view is paten t. It is simply unthinkablethat all prices should rise continuously without continuous

increase in the exchange mechanism either of standard moneyor of bank credit, or in the rapidity of turnover. If, however,discount rates were kept artificially low in Wicksell's imaginaryban king regim e, this would create a speculative "need " for loans(a demand for credit at a rate low compared with the time-discount rates pervading the general price system) and theamount of loans would steadily increase unless they were arti-ficially restricted by rationing credit, or by favoritism, or by

confining it to com mercial p urp ose s, or otherw ise. Such a policywould affect unequally the prices and time-valuations involvedin different kinds of goods. T h e notion that it would d eterm inethe time-discount ra te em bod ied in the comm unity's who le pricesystem appears when viewed in the light of the capitalizationtheory, as foolish as "lifting one's self by one's bootstraps," or as"the tail wagging the dog ." Bank loans are bu t a small pro po rtionof all loans, and a muc h sm aller p rop ortio n of the total wealth in

private han ds which is from time to time evaluated in terms ofdollars. In all the durable sources of income are involved time-differences determ ining th e shape in manifold ways of the wholesystem of relative contem po raneous prices. This system of prices




itself rests upon, or grows out of, the totality of psychologicaltime-valuation co nditions. In the causal or de r of things the bank

discount rates do not determine, they are in the long run de-termined by, these underlying conditions. With all their ele-ments of artificiality, bank rates must, so far as competitiveconditions prevail, tend to come into accord with the system ofprices.25

12. Fundamental conditions and government loans in war time.—We have mainly assumed the gen eral un derlying conditions oftime-valuation to remain stable in the larger community, andhave directed our attention almost entirely to changes originat-ing on the side of the mechanism of exchange (either stand ardmoney or credits, banking , or other). A symm etrical treatm entwould require an equally full examination of the problemsoriginatin g in changes from the side of time-valuation, assumingno chan ge origina ting on the side of money an d cred it. Bu t a fewsuggestions m ust suffice us he re . Recall tha t in all the phases oftime-valuation, from the most subjective in the simplest indi-vidual economy to the most objective in developed commercialmarkets where a general price prevails for time (interest rate,capitalization rate, etc.) differences may co-exist as betweenindividual groups and different fields of investment. There aremore or less distinct fields of time-va luation and time prices, onlyimperfectly con nected. It must ha pp en also, that chan ges even inrelative prices in particular markets (e. g., through a suddendemand for certain kinds of ripe, direct goods, compared withothers) may react on time-valuations of durable wealth, oftenprofoundly. Some indirect durable agents that make up thelarger part of the wealth in one branch of industry (e. g., ag-riculture) may suddenly become much more or much less inde m an d relative to oth er indirect d urable ag ents (e. g., mines orrailroads or some kinds of machines). Now this, because offriction and imperfect substitution, may for a while throw thetime-discount rates of different tradin g group s even mo re out ofaccord with each other than they were before. The individualswithin these groups are readjusted (and readjust themselves)marginally to the need situation, and even those of greatest




frugality and thrift now buy and sell goods at the prevailingprices in their group. Whether or not the implicit rate of time-discount will be changed depends alike on transfers from out-side as well as on the latter stre ng th and preva lence of ind ividualfrugality and p rovidence within the g ro up . Conversely, changesin time-preference originating within smaller groups mustslowly change their respective marginal (market) rates ofcapitalization, etc., up or down, and these rates in turn, bysubstitution of investments, would gradually modify the time-valuation levels everywhere else.

The occasion or cause of change may be of such a generalnature as to affect in large measure the real and actual time-valuations of all individuals and groups within a country, asnotably on the outbreak of war. T he n the immediate need of theequipment and munitions of war, not present in adequatequantities, must be met with an almost utter disregard of thefuture and of prem ium rate, and a large and costly equipm ent ofindirect agents must be rapidly created which will be of little orno use when the war is ended. The effect is to raise quickly thewhole general level of t ime-discounts and t ime-premiums.Countries with large saleable or pledgeable assets may for a whileretard such a rise by selling claims, securities, credits, againstothers o r against themselves, to wealthy n eu tral nations, as GreatBritain and France sold securities to and borrowed from theUnited States between 1914 and 1919. But this at the sam e tim e

raises the m arginal time-discount rates in the lending co un tries.O r it may ha pp en (as in the period of the N apoleonic wars and in1917 on o ur en try into the world war) that m ost of the capitalisticworld becomes involved, and the fundamental marginal time-valuations are everywhere raised. At such times there is aninevitable competitive bidding and rivalry between the borrow-ing needs of the government for war purposes and those ofprivate business (both in nonessential industries and in those

directly and indirectly producing war supplies). Because of thepressure of business opinion and its political bearings, theadministration always is betrayed into the illogical and self-

defe ating policy of trying to borrow at low rates an d at the sam e




time trying (one aspect of a price-fixing policy) to keep com-mercial interest rates artificially low by encouraging bank in-flation. T h e enfo rcing of artificially lower bank discou nt rates tobuyers of national bo nd s by giving them pre feren ce as collateral(as in the case of Liberty and Victory bonds) combined withpatr iot ic pressure and quota bond sel l ing, leads to bondpurc hase s largely or purely by bank loans rat he r tha n from thriftan d saving, an d to the extensive pledging by business borro w ersof whatever equities in national bonds they have.

H ere is a place w here, as to the general com mercial discountrate, the cons istent and practical policy would be laissez faire , as ahigh in terest rat e would be on e effective m eans of cutting off thedem an d for loans by the "non essential" indus tries, an d therebywould prevent diverting labor and materials from the war in-dustries. Higher interest rates as costs in "essential" industriescould be directly and frankly compensated by higher prices ofthose particular products, rather than by a course which in-

evitably raises the prices of all commodities. Another policyalways used m ore or less in connection with price fixing (both ofcommodity prices and of loans) is that of rationing and, by thehigh hand of a gove rnm ental agency, app ortio nin g credits onlyto "war-essential" industries. Despite the danger of mistakenju dg m en t a nd the occu rrence of abuses, this is potentially b othm ore logical an d m ore effective tha n price fixing in securing th ereal end in view, viz., to use for war purposes, not for private

enjoyment, the all too inadequate stocks of goods and humanlabor at hand . T h er e are deductive gro un ds , never yet shown tobe unsound, for condem ning as fallacious an d self-defeating theeve r-rep eated attem pts of gove rnm ents to float loans at less thanthose warranted by the general state of the price system. Theattem pt always involves tink erin g with the exch ange m echanism(either currency or bank credits and notes, usually both), withthe result of price inflation. This ultimately imposes upon the

nation as a whole bu rd en s an d losses incomparably grea ter thanthe petty saving in interest charges on the public debt for a fewyears . T o de press interes t rates on public loans artificially an d bygovernmental pressure to manipulate bank discount rates is to




treat superficial symptoms while ignoring underlying condi-tions. Jus t so far as present purchasing power in greater am ountsand at artificially depressed interest rates is, in wartim e, put intothe hands of those who clamor for "business as usual," so far isreduced and retarded the most needed shift of goods frompresent private use to capital equipment and to present goodsfor war purposes, paid for by public loans. Prices become in-flated, war costs are increased, and the people really payusuriously both as taxpayers a nd as the victims of the inevitablefinancial crisis.

13. Interest theory and after-war recovery.— Conditions in w hic htime-valuations change in an opposite direction from that takenin wartime, occur at the close of a great war. These cannot beadeq uately discussed within the limits of this pa pe r; bu t certainlyrecent events (1918-1926) as well as a broader theory of time-valuation, u nite to discredit the belief of J . S. Mill, tha t a co un trydevastated in time of war an d from which "nearly all the movablewealth existing in it" has been carried away, will "by the merecontinua nce of that ordinary a m ou nt of exertion which they areaccustomed to employ in their occupations . . . . in a few years"acquire "collectively as great wealth" as before. 26 The root ofMill's error (in fact and in theory) more clearly appears in hisaffiliated discussion of "government loans for war purposes."The amount borrowed (and spent for goods destroyed in waruses) "was abs t racted by the lender f rom a product iveemployment" concedes Mill, and "the capital, therefore, of thecountry, is this year diminished by so much." But (here beginsthe erro r) he declares: "T he loan cannot

21 have been taken fromtha t p ortion of the capital (concrete goods) of the country whichconsists of tools, machinery, and buildings. It must have beenwholly draw n from the portion em ployed in paying laborers

* B u t . . . . t h e r e is no reason tha t their labor should pro du ce less inthe next year th an in the year before ." Th is is all w rong ; the re is

no such "cannot have been," no such "must," and there isabu nd an t "reason" to the contrary. Th e whole though t is taintedwith the labor theory of value. For in truth, from the momentthat war begins to raise time-discounts, and progressively until




peace retu rn s, physical depreciation procee ds, the norm al peacetime repairs, replacements, and imp rovements of many durable

agents are curtailed, especially those in the non-essential in-dustries, norm al building operations and additions to industrialequipm ent are su spend ed, while curren t prod uction is appliednot only to pro cu ring the m aterials to be imm ediately consu m edin the war, bu t even m ore to building the elaborate equipm ent ofindirect agents which are to become nearly worthless the mo-m ent th e war is en de d. T his would be tru e even in a victoriousuninv aded coun try. In a con que red land, from which "nearly all

the movable w ealth" had been carried away, the case would befar worse. Returning to the arts of peace, the population evenwith herioc self-denial and efforts, may for years be unable toobtain again the pre-war stream of commodity income. Thepeasant is lacking in beas ts of burden and agr icu l tura lequipment; the artisan is forced to return to simpler tools andmachinery; both are lacking in stocks of raw material; whilehighways, bridges, and other means of transport are in ruins.T he mass of the popu lation, even to exist, is forced to adjust itselfto a lower sta nd ard of living, a cond ition which m akes peculiarlyburdensome any effective "abstinence" to create loanable fundsand additions to the durable wealth directed toward futureneeds. These evils, it need hardly be said, are usually greatlyaggravated by political disorders and by the monetary de-moralization resulting from both paper money and bank creditinflation. In this situation n o do ub t large loan funds (to be usedmainly to buy imported industrial equipment) could in manycases, if wisely chosen, be "profitably" borrowed from morepro spe rou s nation s. Th at is to say, the price system is such in th edevastated cou ntry , that all sorts of goods with fu ture uses are sopriced tha t investors can "pro fit" (individually) by contrac ting topay abroad high interest rates to buy, build, and increase thenumber of such long-time, durable bearers of future uses. Thegreatest difficulty is that borrowers lack good enough securityand the moral factor of credit to obtain, even at high interestrates, the loans needed either for public or private uses.

14. Conclusion.— The foregoing are bu t illustrations of the




practical questions, the answers to which p resu ppose and implysome general theory of interest. Th ey vary widely in scope an d

nature as do also the answers that have been offered. There isbut little evidence in the large volume of recent discussion ofprice movem ent an d th e business cycle that the implicit que stionof interest has been explicitly considered as an integral part ofthe price system. Interest theory receives attention only inci-dental to or aside from the price system. An interest theory isadvanced which does not originally apply to all kinds of prices.Interest (so far as attribute d to im persona l forces) is explained byan ambiguous technical "productivity" of a restricted group of"artificial" agen ts, the rate so de term ined being then tho ug ht tobe applied in the capitalization of oth er agen ts; or it is explainedas fixed in the realm of bank loan credit, and then somehow topermeate all oth er loans and prices. Th ese are piecemeal interesttheories which fail to find general cause for interest inherent inthe relation of all kinds of goods to man's nature and needs.They are what Böhm-Bawerk called fructification theories,rightly cond em ne d by him in principle,28 as an attem pt to stretcha partial explanation so as to make it app ear to be a complete on e.Such an attemp t is an almost infallible sign tha t the ex planation isnot only incom plete bu t un so un d. N ot discovering the generallyvalid ground of explanation, it has chosen an invalid— not evenpartially valid—ground.

It may be too much to attribute to the lack of sound interest

theory alone all the inharmonious and discordant ideas andpolicies regarding interest rates and prices that have latelystalked abro ad. H um an th ou gh t has a rem arkab le capacity to gowrong at many points and in many ways. But the thesis of thispa pe r is that a unified time-valuation theory makes it clear th attime-discounts and premiums enter into the formation of allprices both of direct and of indirect good s, and are an insepa ra-ble pa rt of even th e earliest price systems; that the price system is

logically and chronologically antecedent to all forms of con-tractual intere st, which is merely derivative from the capitaliza-tion process; that finally this view gives a clear, consistent crite-rion by which to test various notions with respect to price




changes and policies with respect to the fixing of interest and

discount rates by government or banks, and it shows the limits of

their possible application. Our object will have been attained iftheoretical discussion shall have been aroused, statistical inquiry

stimulated, and in the end, practical efforts to stabilize prices

helped to move along right lines.

N O T E S

1. Capital and Interest, English translation, p. 47.2. E.g., he speaks of political economy, "from Say's time to the

present," as having been "captivated by the deceptive symmetry thatexists between the three great factors of production—nature, labour,capital." Positive Theory, p. 1.

3. Many exam ples of this could b e cited. Even Irv ing Fisher lapsesinto this thou gh t at times; e.g., The Rate ofInterest, p . 91; and ElementaryPrinciples, pp. 229 and 336.

4. A term introduce d by the w riter in Principles ofEconomics, 1904.

5. See above, sec. 4.6. Positive Theory, pp. 348-9.7. Capital and Its Earnings, 1888.8. Explicitly, first, it seems in his Principles, 3d ed., 1895, pp. 142

and 664, cited by Böhm-Baw erk in preface to his second edition of hisGeschichte, etc.

9. History of Theories of Production and Distribution, 1894.10. See "Interest Theories, Old and New," American Economic Re-

view, vol. 4, March, 1914 [see above, pp. 226-255].

11. See the writer's paper on "Value and the Larger Economics,"Journa l of Pol. Econ., 1923, pp. 587, 790.12. Some of these are indicated in "Interest Theories, Old and

New," op . cit.13. Positive Theory, p. 237. Of course this proposition is not itself a

theory of interest, but merely the statement of a broad empirical factwhose explanation constitutes "the interest problem ." T h e tru th is thatBöhm -Bawerk does not make and keep this "the kernel an d ce nter" ofhis "positive theory," for to do so would seem to require a consistent"agio" or time-preference theory such as he promised to give. But

instead, as he went on , he m ade technical productivity of capital (in th eroundabout process) more and more the kernel and center of hisexplan ation, "the third reason why present goo ds are, as a rule, worth



Interest Theory and Price Movements 3 1 5

m ore than future."Positive Theory, p. 260. Th is becomes in his view "theprincipal form assumed by the interest pro blem ." Ibid., p . 299 . It is the

circumstance giving "the phenomenon of the higher valuations ofpresent goods an almost universal validity" whereas on the othermerely psychological grounds "an overwhelming majority (of men)would have no preference for present goods." Ibid., 277. This pre-vailing prefe renc e becom es in his exp lanation almost entirely the resultof technical productivity, pres en ted as the chief cause of this prem iumon p resent goods (and there fore of interest) ind ep en den t of any of thetwo already mentioned. Ibid., p. 270.

14. Ibid.,e.g., pp. 250, 251, 297 . T h e frequency of these exceptions

seems to be greatly m inimized in Böhm-B awerk's view by his practice,in nearly every case where h e seeks to test the m atter by an exam ple, ofshifting from particu lar goods to a sum of money. E.g., ibid., p p . 250ff., 255, 256, 276, et passim. It can happen much more rarely that apresent dollar would be worth less than a future dollar, in a moderncom mu nity with a developed financial system, with borrow ing, savingaccounts, etc.; in fact, it could occur only in periods of catastrophicchanges in genera l prices, or because of some peculiar pe rsona l choiceof particular goods that; are u nd erg oin g gre at changes in their relativeprices. This adjustment of particular prices to the general time-

premium on money is in part touched on below.15. Principles, 1st. ed ., p. 627 .16. Prof. W aldo F. Mitchell alon e, it seems, claims now to find in th e

statistical data no evidence of such a result.17. Part II, Sec. 8.18. See Mr. Carl Snyder's discussion and formulation in American

Economic Review, December, 1925, pp. 684-699, esp. p. 690.19. App roximately Snyd er's estimates, op . cit.20. See some data given by Waldo F . Mitchell, in American Economic

Review, Ju ne , 1926, p . 216.21. As shown by the statistical studies of Ho lbrook W orking , ReviewofEconomic Statistics, July , 1926, p . 120, "Bank D eposits as a Forecasterof the General Wholesale Price Level"; earlier article in Quar. Jour.Econ.y Feb., 1923.

22. See Holb rook W orking , op . cit., for striking statistical confirma-tion of the principle.

23. See Economic Journal, vol. 36, p . 503 (and especially p. 507) Sept.,1926, obituary notice of Knut Wicksell by Prof. B. Ohlin; Economic

Journal, vol. 17, p. 213, "The Influence of the Rate of Interest onPrices," pap er re ad by Prof. Wicksell before the econom ic section of theBritish Association; Jahrbucher, 1897, p. 228, "Der Bankzins als Reg-ulator der Warenpreise," by K. Wicksell.




24. Econ. Jour., op. cit., p. 216.25. As shown above in sections 5 and 6.

26. Book 1, Chapter V. Section VII.27. Our italics.28. See above, part I, sec. 4.



PART 3:THE THEORY OF RENT



The Passing of theOld Rent Concept

Since the time of Ricardo the Rent Concept has been con-stantly under criticism, and many amendments of it have beensugges ted. Yet it ho lds its place in the texts and in discussion, a nd

still determines to a large extent the outlines of our economicsystems. No suggested amendment has succeeded in winningmore than a meagre following until of late. Within the pastdecade, however, the attractive statement of new doctrines byProfessor A lfred M arshall has con tributed m ore than any oth erinfluence to bring about a remark able chan ge of opinion o n thissubject. H e has m et in a m an ne r tha t has proved to be generallysatisfactory the demand that had become imperative for a re-statement of the old concept. In view of the wide and well-merited influence oí his Principles ofEconomics, it may be allowa-ble to take it as typifying the state of contemporary thought onthe subject of the rent concept; and it is for this reason thatfrequent reference will be made to it.

The present paper is an attempt to determine what are thedifficulties adm itted to-day in the old concept of ren t and wh atdefects m ust be recognized in the newer and d om inan t form ofthe concept. Five central ideas may be distinguished in con-temporary discussion of rent, giving thus five concepts,—theland , the extension o r space relation, the tim e or long pe riod, theexchanger's surplus, and the no-cost concepts. These will betaken up in order.

Reprinted from Quarterly Journal of Economics 15 (May 1901).

318



The Passing of the Old Rent Concept 3 1 9

1. THE LAND CONCEPT.

The original form of the rent concept makes it an incomearising from land, one of the three factors of production. Theessential thin g distinguishing it from oth er incomes is the kind ofagents for w hose use it is paid. This is the first conce pt defined byProfessor M arshall: "T he income derived from the owne rship ofland an d oth er free gifts of na tu re is called ren t."1 The definitionis given in connection with a statement of th e k inds of incomesderived from wealth, the oth er kind me ntion ed bein g interest oncapital (profits are analyzed in to interest of capital an d earn ingsof management). This view of rent is found so repeatedly ex-pressed in the text-books that it may be called the conventionalview. The chapter on the agents of production begins:—

"The agents of production are commonly classed as Land, Labourand Capital. By Land is meant the material and forces which Naturegives freely for man's aid, in land and water, in air and light and heat."Th e next chapter begins, "The requisites of production are commonlyspoken of as land, labour and capital: those material things which owetheir usefulness to human labour being classed under capital, andthose which owe nothing to it being classed as land." A few lines furtherthe explanation is added, "The term land' has been extended byeconomists so as to include the permanent sources of these utilities,whether they are found in land as the term is commonly used, or in seasand rivers, in sunshine and rain, in winds and waterfalls."2

T h e usual three shares are not distinctly en um erate d when BookVI., on "Value or Distribution and Exchange," is reached; yetthe thought appears and determines the ord er of treatmen t a ndthe chapter headings. It is said that there has been "left on oneside, as far as migh t be, all consideration s tu rn in g on the specialqualities an d incidents of the agents of produ ction "; bu t the re isprom ised a "more detailed analysis in the following thr ee gro up sof chapters on demand and supply in relation to labour, to

capital and business power, and to land, respectively."

3

Thetrea tm en t of distribution , accordingly, falls into these th ree m ainconventional divisions: "earnings of labour" (chapters 3-5);"interest of capital" (chapters 6-8); an d " ren t of land" (chapters




9, 10),—where each of the three shares is linked with a cor-responding factor.

The land concept of rent, thus presented, involves manydifficulties;4 an d a recognition of these leads to a modification ofthe con cept. 1. It is shown tha t the distinction between land an dthe products of labor is a loose one, impossible to make inpractice. 2. It is said tha t the distinction is of no im portanc e to thepractical business man. In these two statements the distinctionseems to be aban don ed or discredited. 3. But it is said to be va lid,because land is a fixed stock for all time, while capital is not.

These points will be considered in order.1. In the following passages the difficulty of trying to dis-

tinguish between land and capital is recognized:—

Those material things which owe their usefulness to human labour[are] classed under capital, and those which owe nothing to it [are]classed as land. The distinction is obviously a loose one: for bricks arebut pieces of earth slightly worked up; and the soil of old settledcountries has for the greater part been worked over many times byman, and owes to him its present form.5

Further on is emphasized strongly the control that man hasover many of the utilities connected with land:—

If the soil be well provided in other respects, and in good conditionmechanically, but lack [only certain elements] then there is an op-portunity for man to make a great change with but little labour. He can

then turn a barren into a very fertile soil by adding a small quantity ofjust those things that are needed He can even permanently alter thenature of the soil by draining it, or by mixing with it other soil that willsupplement its deficiencies.

All these changes are likely to be carried out more extensively andthoroughly in the future than in the past. But even now the greater partof the soil in old countries owes much of its character to human action;all that lies jus t below the surface has in it a large element of capital, theproduce of m an's past labour; the inherent or indestructible propertiesof the soil, the free gifts of nature, have been largely modified; partlyrobbed and partly added to by the work of many generations of m en.6

Later is added: "In an old country it is seldom possible to discoverwhat was the original state of the land before it was first cultivated. T heresults of some of man's work are for good and evil fixed in the land;



The Passing of the Old Rent Concept 321

they can not be distinguished from the results of nature's work, butmust be coun ted w ith th em . Th e line of division between natu re's work

an d ma n's work is blu rred , and must be drawn m ore or less arbitrari-ly.'"

In these passages the concept f i rs t s tated seems to be given up;for , if only thos e thing s wh ich owe no th in g to lab or ar e classed asland, and i f i t i s then shown that there i s no mater ia l th ing inset t led countr ies of which this can be said, i t fol lows that ev-erything must be c lassed as capi ta l .

2 . The dis t inct ion between land and capi ta l i s formal ly givenup by thinkers of this school , so far as i t concerns the individualowner , the inves tor , or bus iness manager . I t i s sa id:—

The balance of usage and convenience is in favour of reckoningrights to land (sic) as part of individual capital.8

It is to be observed th at land is bu t a particular form of capital fromthe point of view of the individual producer. 9

A manufacturer or trader owning both land and buildings, regards

the two as bea ring similar relations to his business W hen he comes todecide whether to obtain [more] space by taking in an extra piece ofland, or by building his factory a floor h igher, he weighs the n et incometo be derived from further investments in the one against that to bederived in the oth er Th is argu m ent says noth ing as to wh ether theappliances were made by man, or part of a stock given by nature. 1 0

It is true th at land is bu t a particular form of capital from the po int ofview of the individual manufacturer or cultivator.11

Ther e is likeness [between land a nd appliances m ade by man] in that,

since some of the latter can not be produced quickly, they are practi-cally a. ixed stock for short periods, and for those periods the incomesderived from them stand in the same relation to the value of theproduce raised by them, as do true rents. 12

It may be well to refer once again to the relations between land,whether agricultural or urban, and other forms of wealth regardedfrom the point of view of the individual investor. Even from the pointof view of no rm al value, the distinction, thou gh a real one , is slighterthan is often supposed; and even in an old country, the distinctionbetween land and other forms of wealth has very little bearing on thedetailed transactions of ordinary life.13

The imposs ib i l i ty in prac t i ce of d i s t inguish ing accura te ly




betw een things that are "natural" an d thing s that are pr od uc ed ,

the absence of any suggestion of a measure to aid in classifying

the things that compose land and capital, require the usageapproved in these quotations when practical questions are

c o n s i d e r e d . N e a r l y a ll e c o n o m i c d i s c u s s i o n is f r o m t h e

standpoint of the individual produ cer. W e will note later som e o f

the results of the adoption of this usage.

3 . These changes in the concepts of land and capital are not

treated as equivalent to an abandonment of the distinction en-

tirely, for it is just ified from a differ en t stan dp oint.

When regarding capital from the social point of view it is best toseparate the capital, wnich is the result of laoour and saving, from thosethings which nature has given freely.14

The reason for this distinction is given as follows:—

[Although land and other wealth appear alike to the individual],there is this difference from the point of view of society. If one personhas possession o f another farm there is less land for others to have. Hisuse of it is not in addition to , but in lieu of the use o f a farm by otherpeople. Whereas if he invests in improvements of land or in buildingson it, his investments will leave as good a field as before for an increas-ing population to improve other land or put buildings on it There islikeness amid unlikeness between land and appliances made by man.There is unlikeness because land is a fixed stock for all time: whileappliances made by man, whether improvements in land, or inbuildings or m achinery, & c, are a flow capable o f being increased or

diminished according to variations in the effective demand for theproducts which they help in raising.15

T h e sam e argu m ent is presented in replying to the su ggestion

that the farmer considers in just the same way whether he shall

try to get m ore w ork out of his stock of p loug hs or out o f his land ,

and that, therefore, the income does not enter into price any

more than does rent. It is answered:—

So far as the individual farmer is concerned the two cases are indeed ,parallel. But if he decides to have another plough instead of gettingmore work out of his present stock of ploughs, that will not make a




lasting scarcity of ploughs since more ploughs can be produced to meetthe demand: while, if he takes more land, there will be less left for

others; since the stock of land in an old country cannot be increased.16

T h e ar gu m en t con tained in these passages will be criticized intwo par ticula rs; an d we shall seek to show th at it involves in thefirst place a comparison of one factor viewed statically withanother viewed dynamically, and in the second place a com-parison of the total supply of one factor with that portion ofanother factor used in a single industry or by a single under-taker.

(a ) The argument assumes that the land is in an old settledcou ntry , and that there fore its qua ntity is fixed. La ter, how ever,it is shown that inventions that will turn the soil deeper, dis-coveries and new means of transportation that will bring intocompetition great areas of new land, and improvements thatmake available the resources before unused are constantlychanging the limits of the supply of natural resources, in the

economic sense of the word "supply." The view that land is afixed stock for all time is contradicted when it said:—

The supply of fertile land cannot be adapted quickly to the demandfor it, and therefore the income derived from it may diverge per-manently much from normal profits on the cost of preparing it forcultivation.17

Despite this it is assum ed tha t the econom ic supply of land is

necessarily and always fixed; and it is then contrasted with thestock or supply of other thing s, which is supp osed to be increas-ing and capable of indefinite increase. Whether a static ordynamic view be take n, it is logically necessary to take it alike ofboth factors: either land m ust be recognized as an increasing an dincreasable factor, as well as capital, in which case the questionbecomes the somewhat speculative one as to their probable fu-tur e rate of increase com pared with the urgency of the de m an d,

or both must be treated as fixed for the moment. In either case,when they are looked at from the same standpoint, the ap-pearance of an essential difference in the two kinds of wealthdisappears.




Again, objection must be made to the view of the increase ofcapital. Capital, as the te rm is he re em ployed, can be increased;

but it does not increase because it is employed in one industryrath er than in ano ther. It is sure to be employed in some industryor it is not capital. Why should its use in a particular industryincrease the total supply? The addit ional ploughs can beproduced to meet the demand only by the use of the availableappliances, which are limited in am ou nt, and w hich, if used forthe ploug hs, cann ot be used for other thin gs. T h er e will be lessproductive pow er to pu t into oth er industries unless the g enera l

stock of wealth is increased. It is hard to see how the use of theexisting stock of capital in one indu stry ra the r th an a no the r canbe assumed to be the cause of this. 18

If the historical or dynamic view is taken, the supply of utilitiesconn ected with land canno t be treate d as fixed in am ou nt. If thestatic view is taken, it cannot rightly be assumed that capitalincreases instead of being a limited supply which must beeconomized. It is from inharmonious assumptions that theconclusion is drawn that an essential difference exists betweenthese things in the real world.

(b ) It is argued in the passages under consideration that landan d o ther wealth are differen t from the po int of view of society.Th is can only m ean wh en both are viewed from that standp oint;but in the argument stated the land only is thus viewed, thecapital is still con side red only from the individual standp oin t. Inthe case of land the total supply is clearly bo rne in m ind, and theuse of land in one indu stry is seen to take it away from an oth er.But in the case of capital there appears to be a shift to theindividual view and the supply used by one undertaker; and,because he can increase or dec rease the capital employed in hisindustry "according to the effective demand" (which means inthat o ne industry), it is conclud ed that the total supply of capitalis thus altered. The objections that have been given in thepreceding paragraphs apply here also. The line of reasoninghere criticized is interwoven with the idea of the static anddynam ic supplies of the various factors; bu t her e and the re it canbe plainly distinguished.



The Passing of the Old Rent Concept 32 5

2.EXTENSION AS THE FUNDAM ENTAL ATTRIBUTE OF LAND

AND THE BASIS OF RENT.

Many of the difficulties just considered are generally rec-ognized in current discussion of the rent concept. The old clas-

sification of the ma terial things comp osing wealth, into land andcapital, is adm itted to be impossible for som e purp oses, and onlyjustifiable for others by reaso ning that is foreign to the Ricardiantreatment. In current discussion of the rent concept the viewappe ars tha t, although the reasons usually given for con trastingland and capital may not hold, yet there is a sound ground forthe dist inct ion. One sug gest ion has jus t been con sidered .Another closely related to it is that,

underlying [the distinction between] those material things which owetheir usefulness to human la bour. .. classed as capital, and those whichowe nothing to i t . . . classed as land, there is a scientific principle. . . .When we have inquired what it is that marks off land from thosematerial things which we regard as the products of land, we shall findthat the fundamental attribute of land is its extension. The right to usea piece of land gives command over a certain space—a certain part ofthe earth's surface. The area of the earth is fixed. The geometic

relations in which any particular part of it stands to other parts arefixed. Man has no control over them.19

It is stated that this principle has important bearings oneconomic theory.

We shall find that it is this property of "land" which, though as yetinsufficient prominence has been given to it, is the ultimate cause of thedistinction which all writers of economics are compelled to make

between land and other things. It is the foundation of much that is mostinteresting and most difficult in economic science.20

T he n , after som e statem ents as to the way in which the soil can




b e en r i ch ed by man ' s ac t ion , it is said:—

We may then con tinue to use the ordinary distinction between theoriginal or inherent properties, which the land derives from nature,and the artificial properties which it owes to human action: providedthat we remember that the first include the space-relations of the plotin question, and th e annu ity that n atu re has given it of sunlight and airand rain; and that in many cases these are the chief of the inherentproperties of the soil. It is chiefly from them that the ownership ofagricultural land derives its peculiar significance, and the Theory ofRent its special character.21

(a) In these statements an initial difficulty results from a lack of

positiveness in their expression. In the last paragraph it is stated

that the distinction in question may be retained because it rests

on the property of extension in land; but, instead of concluding

that the only inherent or original properties to be considered in

the land concept are the space relations, it is said that they

"include" the space relations. This leaves the statement still

undefined, for it implies that other things also are included. Theintention to include other things appears further in the phrases

"in many cases," "the chief of the inherent properties," "chiefly

from the ownership." Such phrases give vagueness at the outset

to the "fundamental attribute," "the scientific principle," that is

being stated.

(b ) There are some difficulties in the reasoning of the passages

quoted. This attribute of land is singled out as the essential one in

the distinction between land and other kinds of wealth, for thereason that it is thought to be the one property which man is

incapable of influencing. It is thus stated:—

There are other utilities over the supply of which [man] has nocontrol: they are given as a fixed quantity by nature The area of theearth is fixed: hegeometic relations in which any particular part of thisstands to other parts are fixed and man has no control over them.

22

Here is a jump in thought from the "supply" of utilities fur-nished by the extension of land, the accompanying natural

forces of rain, sunshine, and the like, to the physical area of the




earth. One could dispute the truth of the statement that thephysical extent even of arable land is fixed; but, neglecting the

small area of made land, the supply of natural utilities and theexisting area of land are widely different things. Part of theearth's surface undiscovered or inaccessible does not exist foreconomic purp oses: it is not a pa rt of the supply, althoug h it maybecome such in the future. The utilities of new areas becomeavailable to man, become a part of the "supply," when, as isconstantly happening on a large scale, they are brought intorelation with industrial communities. The geometric relations,

physically considered, are as nothing in economic discussion,compared with the time relations and what might be called thesacrifice relations of two parts of the earth's surface. Newtransportation routes and new motive agents are constantlycha ng ing the tim e and toil relations of two area s. W hen districtswhich were a mon th's jou rn ey apa rt are bro ug ht w ithin a day'sjourney of each other , when cont inents a re brought in toeconomic relations with markets and with wants, does not the

statement that "geometric relations rem ain u naltere d" become aplay on words? In cutting tunnels, levelling hills, buildingrailroad s, bridging rivers, conn ecting oceans by new waterways,man exercises as great a control over space relations, it wouldseem safe to say, as he does over any o the r m aterial conditions.In the work which has been q uo ted is discussed the developm entof new countries, and the effects on prices of products, and onthe values of lands in the older countries with which the newcountries are brought into competition; and it does not seempossible to cons ider these facts oth er tha n a ne gation of the ideaof a fixed supply of the utilities connected with land.23

(c) The statements under consideration raise hopes of acontribution to economic theory that are unfulfi l led. Thethought of extension as the essential attribute of land and thefoundation of rent has never been developed and applied to

"elucidate the interesting and difficult" parts of economicscience. "Ex tension" is not again m ention ed in the succeeding sixhundred pages of the work quoted, nor is there anything es-sential in the ar gu m en t which can be traced to its influence. T h e




concept is distinctly rep ud iate d in the suppo sed case of m eteoricstones which fell in a shower a nd prov ed to be of grea t value in

indu stry. T h e incom e from the ir use, it is said, "would be a tru eeconomic re nt, whe the r [the ow ners] used the stones themselvesor loaned them out to manufacturers." 24 The illustration isintroduced to show "that the immovability of land, though amost important attribute of land for many purposes, is notessential to the eminent claim which the income derived fromland in an old country has to be regarded as a true rent." 25

The illustration, it is said, shows "a perfect form of true rent

yielded by a movable commodity." Here what is called the at-tribu te of extension is ap pare ntly implied in imm ovability, bu t itis not considered fundamental, it is not essential: it is merely"important for many purposes," though .what those purposesare is not stated . H ere is a case of "tru e ren t," th ou gh it was saidthat the theory of rent derives its special character from spacerelations. The theory of rent is presented in a number of waysquite independent of space relations. It appears that the old

concept of rent as a payment for the bounty of nature is notdisplaced in this treatment by the concept of extension.

Closely allied to the thought just noted is the one that in therent of land there is an element due to environment, or tosituation, which is spearab le from the elem ents du e to the "valueof the soil as it was made by nature," and that due "to im-provem ents m ade in it by m an." It is said that in "the full r en t of afarm in an old country" the third element, "which is often the

most im porta nt of all, [is du e] to the growth and rich po pulation,and to facilities by communication by public roads, railroads,etc."26

Th is idea is not furthe r developed until we reach the cha pteron " In f luence o f Env i ronment on the Income f rom anAppliance for Production. Situation Rent. Composite Rent."Reference is m ade to the two preceding c hap ters as dealing with"the income dervied from the own ership of the 'original pow ers'of land and oth er free gifts of n atur e, an d that which is directlydue to the investment of private capital." 27 The purpose of thechapter is then stated:—




But there is a third class, holding an intermediate position betweenthese two. It consists of those incomes, or rather those parts of incomes

which are the indirect result of the progress of society, rather than thedirect result of the investment of capital and labour by individuals forthe sake of gain. This class has to be studied now.

T h en follows a discussion of "situation re nt." T h e distinctionheretofore considered is that between the first and secondelem ents, land a nd capital: the distinction now suggested is on ebetween the p art of land value due to the free gifts of nat ur e a nd

the part due to environment or situation. This appears to beop en also to serious objection. N o m atter w hat are the "originalpowers" of land, they have no fixed or predetermined value:they have value only with referenc e to the social situation, to theneeds of me n. Th e value of a piece of land is apparen tly thou gh tof as a given amount due to nature in one given set of cir-cumstances; and then, changes such as those mentioned beingsupposed to take place, the increased value and income of the

land is attrib uted to a new eleme nt, th e situation. But it may beobjected that the situation of the "gifts of nature" near humanwants was essential to the ir value in the first case, ju st as thepresence of certa in qualities in the gifts is essential to the ir valuein the second place. In considering time, place, form, andelemental value, it may be assumed for logical and practicalpurposes that any three of the four features of value are given,and then the change in the value may be attributed to the fourth

feature. A ton of ice on a Ju ly day in a city may be said to owe itsvalue to its situation, if you contrast it with another ton atho usa nd miles to the n or th ; bu t you may also contrast it with aton of ice six months earlier, or with a ton of water then andthe re, and then its value appe ars to be due to other things tha nsituation. T h e value is equally de pe nd en t on the substance, forman d tim e, place, an d the presen ce of wants tha t can be satisfied.In the case of land the social environment is not a new element

which imparts a value separable from that due to nature. Thesocial env ironm ent is always one of th e conditions w hich m ake itpossible for the gifts of nature to have any value whatever.W hile, the re fo re, it may be permissible, in looking at the subject




historically, to speak o f a ch an ge in the value o f natural resour ces

as du e to a ch an ge in the adva ntages o f the situation, it do es not

seem allowable, in viewing the subjects statically, to speak of twoclasses of income from natural resources, one due to the free

gifts of nature a nd the oth er to the increase in value of tho se gifts

with social progress.

3.

TIME AS THE GROUN D OF THE DISTIN CT ION

B E TW E E N R E N T A N D INTEREST.

It is said that the distinction betw een rent an d interest m ay be

made to turn on a difference of time. It is probably true that

now her e in current discussion will the statement be fou nd that

this is the whole difference, but it is put thus:—

T he greater part, though not the whole, of the distinction between

rent and interest on capital turns on the length o f the period which wehave in view.28 [And again:] For the time they [the net incomes derivedfrom appliances for production already made] hold nearly the samerelation to the price of the things which they take part in producing, asis held by land or any other free gift of nature.29

T h e idea recurs frequen tly that "for the time" the supp ly o f

any agent may be regarded as f ixed, and, therefore, as not

con form ing to its cost of prod uction; and in such case the incom e

yielde d by it is "of the n ature o f ren t."30 The reservation in the

phr ase, "tho ugh not the wh ole o f the distinction," leaves in do ub t

the value of the statement for exact theory. But the trend of the

thought is evident. It is a departure from the land concept,

w he rein rent is always a retu rn for the gifts of na ture, and from

the extension concept, where rent is paid for one property of

land . It is a continu ity conc ep t of a peculiar sort, the differen ce

between rent and interest appearing gradually as the time islengthened within which the productive agents are considered.

"In passing from the gifts of nature through the more perma-

nent improvements in the soi l to less permanent improvements




. . . we find a continuous series."31

In this conception, as the period under consideration is

len gthe ne d, th e re nt be are r, if it is a perishable thin g, g raduallybecomes an interest bea rer, rent gradually m erges into interest,and there is no sharp dividing line between them. In the staticview of industry, th e incom e from m aterial agents is ren t, a ndinterest is nonex istent. If there is any thoug ht h ere of the bountyof n atu re o r of the attribute of extension, it comes in the dynamicview of industry in considering long periods. The income de-rived from the durab le sources is always ren t (in this conception),

and never becomes interest; while the income from applianceswhich m ust be renew ed, is sometimes ren t (in short pe riods), bu tbecomes interest if a period of some length be considered.

In this brief restatement and explanation is implied no ad-verse criticism. Th at this concept has a m uch different con tentfrom the others may make an inconsistency in an economictreatise, but n ot necessarily within th e concep t itself, which maybe an improvement on those found defective. That it is a con-tinuity concept, and that only the two extremes are in logicalopp osition , is no t necessarily a fault. T h e qu estion is, W hat sortof continuity is shown? Th e difficulty is that this concept is neverthought of by business men in the conduct of practical affairs.Such a usage of term s cann ot be m aintained ex cept on the m ostabstract p lane . A terminolog y which does not reflect distinctionspresent, though perhaps but vaguely, in the minds of practicalmen, does not meet the requirements even of the abstractereconomic theory.

Further criticism may be reserved, for the time concept isnowhere in contemporary discussion fully worked out; and itmay perhaps be looked upon as an undeveloped thoughtsuggested by the recent mode of treating costs and rent. Thosegoods which are worn out and renewed more or less frequentlyten d, in the long ru n , to conform (it is thou ght) to the cost rule,while the dura ble goods are in de pe nd en t of the cost rule . In thelatter case the incom e is a tru e r en t; bu t all the o the r appliancesyield what appears to be a rent, if they be studied for shortper iods , wi th in which the i r va lue canno t be ad jus ted




to their cost. This supposed relation between cost and rent—the no-cost concept of rent—will later be given a fuller

consideration.

4.RENT AS A GENERAL SURPLUS.

The word "rent" is frequently used of late in reference toalmost any surplus gain. For example, the term "consumer's

ren t" is applied to "the excess of p rice which [a bu ye r] would bewilling to pay rather than go without [a thing], over that which h eactually does pay."32 Rent is here not connected with any par-ticular kind of agen ts, no r is it any regu lar form of income; but itis merely a m argin of adva ntage in an exch ange. It m ust be note dtha t the te rm is used cautiously: "It has some analogies to a re nt ;but is perhaps best called simply consumer's surplus."33

The word is used also in connection with the "extra incomeswhich are earned by extraordinary natural abilities."34 It is saidthat the re is strong "cause for regar din g them as of the n atu re ofa rent, or pro du cer's surp lus, resulting from the possession of adifferential advantage for production, freely given by nature."Several cases are cited where the term m ight be misleading; andit is said that "the greatest caution is required in the applicationof the term re nt to the earning s of natural ability."35 Yet the useis sanctioned under some circumstances.

The term "producer's surplus or rent" is used still morebroadly of the e arning s of the m ost ord inary ability, as indicatinga surplus of pleasure to the wo rkers above the sacrifice involvedin their work. As they are paid for the earlier hours "at a ratesufficient to com pensate them for the last and most distressinghour," they are said to be "reaping a producer's surplus, orrent,"36 on the earlier hours.

Still an othe r variation is given to the term when it is said that "anegative rent" is "reap ed" by the m an who would p refer to stopwork an ho ur ea rlier, but cannot.37 In all these cases the tho ug htis that an incom e, or sh are, of the pro du ct should be called a ren t




whenever it represents a value greater than that which is at-tributab le to the sacrifice tha t is or m ust be m ade to secure it. T h e

ren t concept has become one of surpluses found th rou gh ou t th ewhole range of industry.

5.EXAM INATION OF THE DOC TRINE THAT RENT DOES

NOT ENTER INTO MONEY COST OF PRODUCTION,PRELIMINARY TO THE STUDY OF QUASI-RENTS.

Pervading the curren t treatme nt of rent is the tho ug ht that it isa share of the product (or an income, or the yield of a factor)which "does not ente r into the cost of pro duction ." This comes tobe the very essence of the rent concept. The criticism of thisconcept naturally divides itself into two parts, co rrespo nd ing tothe generally recognized dou ble m ean ing of cost of p rod uctio n.

The term cost of production [is used] in two senses, sometimes tosignify the difficulty of producing a thing, and sometimes to expressthe outlay of money that has to be incurred in order to induce people toovercome this difficulty and produce it.38

T h e "efforts and sacrifices" required to m ake the comm odityare called "the real cost of production," while "the sums ofmoney that have to be paid for these efforts and sacrifices" are

called "the money cost of production, or, for shortness, theexpenses of produ ction," "or, in other words, they are the supplyprice."

T her e is no question that it is with cost in the money sense thatrent is linked in the proposition above quoted.

The price of the whole produce is determined by the expenses, ormoney cost, of production on the margin of cultivation; and rent doesnot enter into cost of production.39

It is this doc trine which will now be exam ined with the view ofdetermining what basis it affords for a concept of r en t. First, let it




be noted that, in viewing the money costs of production asregulating value, one is taking the individual standpoint. The

costs are thought of as incurred by the undertaker when he paysout money. W e are told that in studying this feature o f rent "theeasiest as well as the most practical course is to go straight toproduction for sale in a market."40 There is no question as to howmuch sacrifice is involved to the laborer, to the capitalist, or tothe landlord, in giving services or the use of the wealth whichthey control to the undertaker who pays for them. Cost ofproduction is said to regulate or determine the value of products

because, if the price is not high enough to meet these moneycosts, some undertakers will reduce their output, others will goout o f business. Vice versa, if prices rise, other undertakers will betempted into the business by the more than ordinary balanceover and above expenses. In this view, everything that an un-dertaker pays out in order to produce a comm odity would seemto be a necessary part of his costs, and , it being supposed that heis not a land-owner, rent is a part of these as much as is any other

payment. The typical undertaker is supposed to rent his land, tohire his labor, and to borrow his capital. T o the undertaker, behe farmer, manufacturer, or merchant, these various costs standin just the same relation to his production. N o one of them is tohim a surplus, for he is paying their full value as fixed bycompetition in the market. The only surplus to him is a surplusof the price over and above the sum of costs entering into theproduct.

A consideration of these facts gives an appearance of self-

evident error to the doctrine in question. It seems to be a denialof the good sense of the undertaker. It suggests the thought thatthose who state the doctrine have overlooked the fact that theundertaker pays rent. Ind eed, it will be shown later that the ideaof rent as a surplus starts with the thought of the owner who hasespecially good land and thus gets a surplus product;41 but, inthe argument at the stage we are now considering it, the factsabove stated are fully conceded. It is said:—

The doctrines do not mean that a tenant farmer need not take his rent




into account when making up his year's balance sheet. When he isdoing that, h e m ust coun t his ren t ju st in th e same way as he does any

other expenses.42

This argument does not imply that a manufacturer when making upthe profit and loss account of his business would not count his rentamong his expenses.43

In m aking up the profit a nd loss accou nt of the cultivation of land, thefarmer's rent must be reckoned among his expenses.44

T he se imply a lso tha t r e n t m us t be taken in to accou nt ju s t asany oth er ex pe ns e in any increase of th e bus iness which involvesth e use of m ore l an d . T h e doc t r ine would thu s seem to be g ivenu p ; but i t is jus t i f ied by this reasoning:—

W hat they do m ean is that, when th e farmer is do ubtin g wh ether it isworth his while to apply more capital and labour to the land, then heneed not think of his rent; for h e will have to pay this same rent wh etherhe applies this extra capital and labour, or not. Therefore if the

m arginal pro du ce d ue to this add itional outlay seems likely to give himnormal profits, he applies it: and his rent does not then enter into hiscalculations.45

I t has before been assumed that i t i s poss ible to es t imate theexpenses of p roduct ion whi le omi t t ing ren t ; tha t i s , "on themargin of cul t ivat ion."

T h at is, they are estimated for a part of the pro duc e which either israised on land th at pays no ren t because it is poor o r badly situated; o r,is raised on land tha t does pay re nt , but by applications of capital andlabour which only just pay their way, and therefore can contributeno thing tow ards the ren t. It is these expenses which the dem an d mu stjus t cover: for if it does not, th e supply will fall off, and the price will beraised till it does cover them . Tho se parts of the p rod uc e which yield asurplu s will generally be prod uced even if tha t price is no t m aintain ed;their surplus therefore does not govern the price: while there is no

surplus yielded by that portion of the produce the expenses of pro-duction of which do take direct part in governing the price. No surplusthen e nters into that (money) cost of p roduc tion which gives the level atwhich the price of the whole supply is fixed.46




The last unit of product which the undertaker attempts tosecure, it is said, contains no element of rent, whether it be

prod uce d o n rich rent-bea ring land (on the intensive m argin) oron the poorest piece of land (on the extensive margin). Moststress is placed, however, on the argument as to the intensivemargin; for that is present in every industry.

A number of reasons may be adduced for rejecting the doc-trine that has been stated.

1. The statement that rent does not enter into the cost ofproduc tion, when in terpreted as has been shown, is a violation of

the plain and usual meaning of the words, and one that isconfessed. Nearly all the atten tion that has bee n attracte d to thephrase has been due to its evident contradiction of the facts asun ders tood by the practical man .47 It is he re justified by giving ita most unpractical meaning. It is said that, while rent is practi-cally a part of the expenses of production at every moment oftime, exactly as every oth er outlay is, yet in a certain logical senseit may be looked u po n as not b eing a p art. Even if the logic of this

were sound, it comes very near being a quibble on words.2. T h e logic by which it is shown tha t the u nd erta ke r need not

consider as part of his expenses the rent of the last or marginalunit of prod uct proves too m uch to be sou nd . In exactly the sameway on e can seem to show tha t interest, wages, an d profits d o n ot"enter into" th e cost of production,—areductio adabsurdum whichhas.not failed to ap pe ar u nd e r the light of rece nt criticism.48 N ordoes this possibility escape the ing eniou s thin ke rs who hold thedoctrine under criticism. Speaking of the farmer, it is said:—

The question whether he has carried his cultivation of a particularpiece of land as far as he profitably can, and whether he should try toforce more from it, or to take in another piece of land, is of the samekind as the question whether he should buy a new plough, or try to get alittle more work out of the present stock of ploughs That part of hisproduce which he is in doubt whether to raise by extra use of his

existing ploughs, or by introducing a new plough, may be said to bederived from a marginal use of the plough. It pays nothing net (i.e.,nothing beyond a charge for actual wear-and-tear) toward the netincome earned by the plough.49




Again, it is said m ore generally of the m anu facturer or trader:—

That part of this production which he jus t forces out of his existingappliances, being in doubt whether it would not be better worth hiswhile to increase those appliances than to work so intensively thosewhich he has, contributes nothing of the income which thoseappliances yield him. This argument says nothing as to whether theappliances were made by man, or part of a stock given by nature.50

When it is noted that these statements are made in connectionwith the thought that all material agents are capital from the

standpoint of the undertaker, the conclusion seems necessarytha t all claims of any excep tional re lation of re nt to money costs,and hence to value, must be given up . But such consequences d onot appear to be recognized.

To restate our argument: If it can be shown that each of theproductive factors employed by an undertaker, in a certainlogical sense, costs him nothing in the marginal product, it fol-lows that no one of these factors and no one of the items of

expenses is on this account in an exceptional relation to the valueof the pro duc t. Either one must say that none of the unde rtaker 'soutlay "enters in to" the cost of the p rodu ct, which to the businessman would appear to be a very Pickwickian statement, or onemust say that all of them enter in just the same way, hence thiscan be no peculiarity of rent.

T he same argum ent may be made to apply to each and everyitem of expense entering into costs. If seed, ploughs, horses,

reapers, fences, barns, are used by a farmer in producing acertain cr op , the am ou nt of every item bu t one can be increased,and another unit or product procured, without any addition tothe cost of that one item. Thus each item may be shown, withequal fallaciousness, to be no part of the cost of production ofthat unit of product supposed to be price-determining.

It must be bo rne in mind th at the supposed peculiarity of ren tis not mad e dep en de nt on th e elem ent of time, the length of the

period un de r consideration, but is based on reaso ning applicableat any given m om ent, as appe ars above, to each and every itementering into production. By a mere logical device the actual




expenses of produ ction may be conjured away, while the b ur de nof their p aym ent rests with undim inished force on the shoulders

of the undertaker.3. T h e doc trine contradicts the conditions which it postulates.A fundam ental assump tion of the whole arg um en t is that th ereis free com petition am on g intelligent ren ter s. It is assum ed tha tthe tenant who rents the land knows what the land would beworth when used in connection with the best possible propor-tions of other ag ents, and bids that am ou nt for ren t. Of course,the best proportions are relative to the general state of knowl-

edge at the time. Under the justifiable assumption of diminish-ing returns with increasing applications of labor and capital,there is an ideal point at which the maximum economic resultwould be secured from the land, and beyond which the appli-cation of th e slightest add itional cap ital would involve a loss. It isthis ideal point which every practical undertaker is striving toattain. In theoretical discussion the additional doses of capitalare supposed to be infinitesimally small, as are the additional

units of product. The argument under criticism assumes that ablu nd er has been m ade by the un de rtak er, and tha t it would payto add m ore capital than h e had cou nted o n. But, if the ren t hasbeen really a competitive one, and the doses be considered asinfinitesimally small, there must be some product secured forre nt for each add ed un it of capital an d labor u p to the very last,in order that the tenant may pay the competitive rent. The lastun it of prod uc t of any finite am ou nt would contain this elem ent

of advantage, and under competition would have to pay itscorresponding rent. The only product obtained, in the stricttheory of the case, without paying rent, would be one unitinfinitesimally small,—in plain Anglo-Saxon, would be nothingat all. No finite unit of pro du ct can be shown to be a no -ren t u nitin the theo ry of th e intensive app lication of labor a nd capital withregularly diminishing retur ns . T h e concrete units are prod uce dat varying costs for labor an d interest on capital, an d every o ne

contains an element of rent. This rent is a part of the under-taker's costs, an d equalizes th e total costs of the various units ofpro du ct; for un de r perfect competition he is com pelled to pay it,




if he is to retain control of that quantity of land which iseconomically most favorable for the output he is producing. 51

4. T h e m arginal costs in one industry m ay contribu te to ren tsin another. If it were logical in the case of any business that ispaying ren t to look upo n certain m arginal units as contributingnothing to money rent in that business, and if these units, be-cause jus t paying, were considered as regulating the price of th ewhole supp ly, still is it not a beg ging of the question to say that apaym ent to ren t is not a par t of the m oney costs of the m argina lunit? For the marginal units of money cost are not ultimate

factors of value. They are a complex of many payments forvarious elements, and the re is no proof th at these do not co ntainan elem ent of ren t which m ust be paid if the supp ly of m aterialsis to be obtained and the supply of the .product is to be main-tained. Some of these elements may be secured from naturalresources having a high r enta l value: some of them , in fact, m aybe bought from landlords who have received them as rents inkind. So when the theorist, seeking to show that rent is not a

necessary part of money costs, has eliminated the rent of theimmediate product, a final answer has not been reached: thedifficulty has only be gu n. H e mu st again take each portion of thecosts an d eliminate the re n t found in it, seeking, if he may, them arginal un its of these m arginal units, in which no trou blesom eelem ent of ren t is foun d. Th ese com plex units of cost, which ar eadm itted to en ter into the price and determ ine it, are thus seen tobe in many cases made up in part of payments to rents, to"p r i c e -de t e rm i ne d" t h i ngs o f va l ue . T he y a r e no t t hehomogeneous, rentless units they were assumed to be. 52

5. Such rentless marginal units could not be considered asregulating and determining the value of the product in anycausal or exceptional sense. The four preceding reasons all arein support of the view that rent is a necessary part of the ex-penses of any p rod uc t in the same sense that any othe r outlay of

the undertaker is. If those reasons are sound, the supposedpeculiarity of rent in relation to costs is sufficiently disp roved .Bu t it may be m ade clearer th at ren t bears ju st th e same relationto the money costs that every other outlay of the undertaker




does, if the analysis is carried one step farther to show that, ifsome units could justly be looked upon as rentless, they could

not, except by chance, be the ones that fix the limits of supplyan d hence govern price, even in an abstractly logical view.53 T h em arginal units of supply which it ju st pays the u nd er tak er toproduce may be those containing a large element of rent.

Start with the existing market price. It is determined by themarket conditions at the moment. If price falls, there is areadjustmen t or redu ction of supply because costs are no t m eton some units. If price rises, there is an increase of supply

because othe r agen ts seek that ind ustry. T h e only sense in whichit is claimed tha t these m arginal costs de term ine price is by the ireffect on supply. The marginal units produced with the poorestland (or oth er agents) or with the p oorest pow ers of agents u sed,are assumed to be the regulative units. But neither is therepractical proo f of this no r is it logically eviden t. Any u nit tha t isad de d to supply or taken from supply, because not paying at anym om ent, may be ju st as logically cons idered the m arginal unit in

determ ining supply. Suppose that a large fertile sou rce of supplyfor wheat is newly discovered o r m ade available. Com ing into themarket in large quantities, these units of product increase sup-ply, depress price, and drive large areas of land either out ofcultivation or into othe r ind ustries.54 T he re is a readjustment ofthe old sources of supply, a loss of the weaker units on them arg in; but it is no causal ma tter , it is the effect of a cha nge atanother point. The employment in the industry and the very

costs (that is, value) of these supposedly determining units areseen to be determ ined by oth er u nits of supply. Constantly som eof the better agents are being tempted into other uses or agentsyielding a high ren tal are bro ug ht back into the industry. T hos esources of supply and units of product which have large ele-ments of rent in them are just as effective in determining thefinal equilibrium of supply as any rentless un its can be. T he workof pre serving the supply ju st where it will cause the price on them ark et to cover these costs is not left to a few rentless units alongthe m argin. In th e case of any imp ortant prod uct it is performedby thou sands of units of supply of the be tter age nts, any one of




which is read y, at the slightest cha nge of price, to shift into or ou tof the industry, if thereby it can earn a greater rental. If thesem arginal u nits of supply, which it ju st pays the u nd er take r tosecure, thus usually contribute to rent, rent must be said tocontribute to the marginal money cost of production.

T h e facts above noted are adm itted in the cur ren t defenses ofthe doctrine under discussion. It is said:—

"Each crop strives against others for the possession of the land. If anyone crop shows signs of being more remunerative than before, rela-tively to others, the cultivators will devote more of their land andresources to it." As a result, any one crop, as oats, must pay even for thepoorest land on which it is grown enough rent to hold the land from acompeting use. There thus results "a modification of the classicaldoctrine of rent and value." "The margin of cultivation has now to bedescribed as the margin of the profitable application of capital andlabour to all land which the competition of other crops yields to oats."And this means, as it is further explained, that "the expenses ofproduction of those oats which only just pay their way, are increased by

the diversion to other crops of land which would retu rn large crops ofoats; land which would yield a good rent under them, but which yields abetter rent under other crops."55

Let us no te what effect these facts are ad m itted to have on th edoctrine under discussion. It is admitted that marginal units inon e cro p, which it ju st pays to pro du ce , do contain an elem ent ofmoney cost sufficient to pay the ren t tha t would be earn ed by acompeting crop, and that the demand for land in other usesraises the m argina l expen ses an d the price. It is distinctly statedthat the argument is valid for urban as well as rural land. Thiswould seem to cover the great majority of products, and nearlyall the rent that is paid for any purpose. If the rents of allcom peting crops mutually en ter into each other's prices, the do orhas been op en ed quite as effectually for th e entrance of rent intoprice as if the relation had been m ade m ore direct. It is implied,further, that, in considering this competition for the use offertile soils, "the classical economists" are not followed. It isadmitted that "it requires a modification of the amended doc-trines as to rent and value," that the statement that the normal




value of a single crop is determined by cost of production underthe most unfavorable circumstances (that is, on land paying norent) was incomplete in the way above noted; and, finally, it isadmitted that the phrase "rent does not enter into the cost ofproduction," when applied to a particular crop or to any par-ticular product, "is liable to misinterpretation," should beavoided , "and its use is inexpedient."56 Th e phrase, when m ean-ing the money cost of production, never is applied except to aparticular product. So the doctrine appears to be effectuallydiscredited by its defenders. But this conclusion is rejected, andthe claim is made that "it is still true that rent is not an elem ent inthose expenses of production of m arginal oats to which the priceof the whole conforms." It does not seem to us possible toharmonize this with the facts above admitted. The only reasongiven, one considered sufficient to justify the doctrine, is the onefully considered in another connection,—the logical device of arentless unit of product.

The suggestion may be ventured that, when considering themoney costs of production as regulating the supply of variousgoods, the marginal unit is logically the no-profit unit for theundertaker. A no-profit unit of product, moreover, is, in anabstract view of the case (that is, assuming that there has beenneither blunder nor miscalculation), the last unit that can bemade to earn enough in the business to pay its burden of rent,wages, and interest. The no-profit unit results from just that

ideal right combination of instruments which yields the highestnet product in the whole industry. No change in the proportionof the various factors could make any on e of them contribute aparticle more to the net result of the undertaker's profits. W henmoney costs of production are looked at concretely, as they areby the business men, all kinds alike are essential, and all enterinto the cost. If the yield of the various factors be studied by themethods of marginal product and mathematical increments,

each can be considered as reaching at last a point of no-yield tothe undertaker. It is this which in an empirical way the businessman is striving to locate. Th e marginal or no-profit unit, to anyundertaker, is the unit where every facto r may be logically looked




upon as having reached this point.6. The doctrine is by logical necessity given up when land is

classed as a particular form of capital from the point of view ofthe individual un de rtak er. 5 7 Passages have been cited in an oth erconnection58 to show that contemporary defenders of the rentdoctrine give up the attempt to distinguish between land andcapital, and justify it only because of differences which ar e said toappear from a social standpoint. But, as has several times beenpointed o ut in this pap er, the u nd ertak er views the pay m ent of"re nt" an d " interest" in precisely the sam e way, as the pu rcha seof so mu ch productive po w er. All of these expen diture s a re, bymeans of the money expression, reduced to comparable andhomogeneous units of money cost. All costs represent capitalexpended by the undertaker .

The giving up of the distinction between land and capital,when taking the business man's standpoint, involves as a con-sequence the giving up of the old distinction between rent and

interest, wh en considering the m oney costs of produ ction. T h emaintenance of the distinction and the founding upon it of anim po rtant doc trine (that of quasi-rents) can hardly be explainedexcept as due to the survival of economic traditions, and to afailure to adjust the older and the newer thought.

T h e conclusion of this long series of argu m en ts is not only tha tthe tim e-ho nored doctrine is un so un d, but that this is by logicalimplication repeatedly admitted by those who still formally as-

sert its validity.

6.THE NO-COST CONCEPT OF RENT.

T h e do ctrine ju st stated, far from being rejected, is m ade thebasis of the concept of rent which may be considered the dom-

inant one at present among the economists of England andAm erica. O n the assump tion that the doctrine has been prov ed,this peculiar relation to value is made the essence of the rentconcept; and all the incomes which are thought to share this




peculiarity are classed as rent. It is explained that the "incomesderived from appliances for production made by man" are cal-led quasi-rents, "partly because (in short periods) the stock ofthem has to be rega rded as temporarily fixed," bu t essentially, as isstated in the next sentence, because "for the time they holdnearly the sam e relation to the price of the things which they takepart in producing, as is held by land or any other free gift ofnature, of which the stock is permanently fixed; and whose netincome is a true rent." 5 9

In such cases the incomes from improve m ents on land "do no ttake direct part in determining the price of the produce, butrather depend on them" (sic).60 Hence these incomes are calledquasi-rents; that is, of the natu re of rent . Th e point repeatedlyinsisted upon is that the mark of rent or of quasi-rent is that itdoes not "ente r directly into the margina l cost of prod uctio n." 61

In this concept re nt is an income th at is "a result and not a causeof selling price."62 Rent is a share, or an income, that does notcorrespond to a cost which must be met if the supply of theproduct is to be maintained. The expression "a cause of sellingprice" means the same as "enters into the cost of production."Instead of a sharp classification of sources of income, as wasinvolved in the original concept of ren t, the re is here presented acontinuity classification of the incomes themselves, rangingfrom those at the on e extre m e, which never enter into the cost ofproduction, in a continuous series to those which do not enterwhen very short periods are considered, but do enter at anyoth er tim e. At the head of the series are th e free gifts of na tu re ,whose supply is said to be fixed , and likewise mu st be logically theincomes flowing from the possession of strictly un rep rod uc iblearticles, as masterpieces of art, auto gra ph s, thou gh these are notmentioned: all such are true rents. At various points along thescale come the incomes from appliances m ade by m an , the sup -ply of which can be renew ed or increased in varying period s oft ime.

Th e a ttempt will now be m ade to show that this concept of re ntas the no-cost income , an d the do ctrine of quasi-rents conn ectedwith it, involve a number of fallacies; that they are radically out




of ha rm on y with th e principles jus t criticized, on which they aresup pose d to rest; an d that they grow out of a confusion betweenthe two sets of ideas enumerated in parallel columns, as fol-lows:—

1.2.3.4.5.

Between the undertaker

<«u

<(

undertaker's costproduction of the goodmoney costthe individual

andu

ií

M

i (

the owner.owner's income.production of the appliance.real cost.the social standpoint.

1. The undertaker 's vs. the owner's standpoint.As we have seen, the consideration of money costs of pro-

duction and their relation to the value of goods compels theadop tion of the und erta ke r's stand point. T he costs of goods acton th eir va lue, so far as they do it at all, th ro ug h the m ed ium ofthe undertakers, who adjust supply according to the price. Wehave maintained that in so doing they must count the rent ofland precisely as they do any othe r item ; while the do ctrine he re

criticized seems to be tha t, ju st as the und ertake rs need not counttheir re nt, so they need n ot count any other items of expe nse, fornot one of them enters into the cost of production in shortperiods. Such a reductio ad absurdum must cause the no-costdoctrine to be renou nce d; b ut the conclusion is escaped becauseth e th o u g h t h as p as sed o n f r o m th e u n d e r t ak e rand his burden of costs, and his constant endeavor to adjustsupply to the price, and has gone over to the owner of theappliances of production.

2. Undertaker's cost vs. owner's income.This shift of thought is evident in the first paragraph of the

chapter on quasi-rents. It is said that

The farmer pays "rent" to his landlord [this is rent as undertaker'scost] without troubling himself to distinguish how much of the annualnet value of his land is due to the free gifts of nature and how much . . .

to improvement.In th e nex t sentence the shift to ren t as the ow ner's income is

made:—




Now the income derived from . . . appliances of production made byman have really something analogous to true rents. . . . For the time

they hold nearly the same relation to the price of things which they takepart in producing, as is held by land.63

Every item of outlay by the undertaker may be viewed fromtwo sides: to the u nd er take r it is always a money cost, an d neve ran income; to the one who receives it64 in payment for labor orthe use of appliances it is always a part of income, and never amoney cost. Now, in the ch ap ter 6 5 on qua si-rents, after the first

sentence, the discussion is all of incomes: "the incomes frombuildings," "the net incomes from appliances for productionalready m ade may be called the ir quasi-rents," "the extra incomederived from improv em ents that have been m ade in the land byits individual owner,"—these are a few of a large number ofexpressions showing that the payment is not looked upon as amoney cost, but as an owner's income. This helps us to under-stand how it is possible to say tha t n on e of the shares are money

costs: it is an u na nn ou nc ed an d doub tless unconscious shift to aquite different conception.In this connection it may be suggested th at the idea th at re nt is

not a pa rt of u nd er tak er's costs origina ted in ju st this fallacy.Here no sha re of th e pro du ce is a cost, because all are viewed asow ner's incom e: there ren t is not a cost, because for the m om entit is assumed that the un de rtak er is an own er and has no ren t topay. The thought appears at the beginning of the chapter on

Rent in these words:—

When a person is in an advantageous position for any branch ofproduction, he is likely to obtain a "producer's surplus,"—that is, abenefit in excess of what is required to remunerate him for his im-mediate outlay. This surplus is likely to exist when he produces for hisown consumption, as much as when he produces for sale.66

It require s no a rgu m en t to prov e that this is a surplus only tothe ow ner, and that comp etition keeps it from being a surplus tothe un de rtak er an d makes it a cost. So that, if the stan dpo int ofmoney costs be he ld consistently, almost the exact oppo site of th e




usual statement must be made. Instead of rent being to theun de rtak er a "surplus above costs," it is essentially that paym entwhich, as a part of costs, prevents the undertaker from gettingany surplus which can be attributed to the rented agents.

3. Produc t ion of the commodi ty vs. produc t ion of theappliance.

T h e changes ju st n oted involve a chang e of thou gh t also fromthe production of the commodity in question to that of theproduction of the appliances. The things these appliances takepa rt in pro du cin g are still spoken of, b ut the inte rest is indirec t.In the case of the p roduction of the commodity, the un der take rpays what he is forced to in each case for th e agen ts of p rodu c-tion "without troublin g himself" about their origin. T h e periodwithin which the supply affects price is that within whichappliances can be diverted from one use to another. Here,however, the price of commodities is supposed to remainunchanged until new appliances can be brought into existence,tem pted by the higher income: the period considered im portan tis that w ithin which the supply of "im prov em ents" or of "m eansof p rod uctio n" can be increased. Th eir (real) cost is thou ght of asreflected on in the price of the goods; but let it be noted inpassing that this can never raise, it can only lower the price,through increased supply. Only occasionally is it impossible todivert some of the existing appliances almost immediately toothe r uses with grea ter o r less ease, so tha t the perio d sufficientto increase the supply of the com mo dity rarely is the sam e as thatne ed ed for creating new appliances. W hen th e relation of m oneycosts to the price of commodities was talked of, it was withreference to their influence in increasing or decreasing the su p-ply of the various commodities: when the relation of owner'sincom e to prices is talked of, it is with refere nce to the effect the ywill have in increasing or decreasing the supply of availableappliances. The undertaker reaps his unexpected profit whenthe price of his pro du ct sudd enly rises, an d h e has either a largestock of it or h as contracts out for th e m aterials, so tha t he can geta large ma rgin between costs and price by pro du cing quickly andmore cheaply than his new competitors. The owner reaps an




unex pected income when his appliances are suddenly in grea terdemand. The case to test what the effect is of a relatively fixedsupply of appliances on the undertaker's costs is that where hehas no standing contract for materials when the increaseddem and for the produ ct arises; and he re can be seen most clearlythat m oney costs do e nte r into price. T h e value of the appliancefor the time limited would rise, its ow ner would get an increasedincom e, an d th e un de rta ke r m ust m eet increased costs if he is tocontinue to produce the article.

4. Money cost vs. real cost.All of these shifts of thought seem to be traceable to the

perennial source of error,—the confusion of money costs andreal costs. In speaking of the cost of the u nd er tak er , it is usuallymoney cost; in speaking of cost to the on e whom the un de rtak erpays, w heth er he be a labo rer, capitalist, or land-ow ner, it is realcost that is meant. In the quasi-rent discussion this error ispalpable. It is said that

for periods that are long in comparison with the time needed to makeimprovements of any kind, and bring them into full operation, the netincomes derived from them are but the price required to be paid forthe efforts and sacrifices of those who make them. . . . But in shortperiods ... these incomes may be regarded as quasi-rents which do nottake direct part in determining the price of the produce, but ratherdepend on them.67

H ere all the po ints are com bined . It is the ow ner's income, thesupply of im provem ents, and the cost in the form of effort an dsacrifice which mu st be me t. T h e re is no h int of the tho ug ht thateven in the shortest periods the payment that is income to theown er m ust be a cost to the un de rtak er. So thro ug ho ut " the freegift of nature" is said to yield an income that is not a cost. The"made appliances" have cost "effort and sacrifice," which is nomore than enough to remunerate the owner. This is the very

heart of the quasi-rent doctrine,—the thought that there is adifference in the cost which must be undergone to bring intoexistence different productive agents. Some are free gifts, andinvolve no cost (sacrifice): others are made by man, and cost




effort. It is not clearly seen and bo rne in mind that m oney costshave no correspondence with these, but are merely the marketvalue of the agents of which a producer makes use.

Here mention may be made of a troublesome fallacy in thevery definition of land as "the free gifts of na tu re ." If it is definedin this way, m an ca nnot increase land by his efforts; for it is thennot land, not being a free gift. Everything to which man hasgiven the slightest effort becom es capital. But, if land be take n inthe usual practical sense, as the earth and the materials it af-fords, whether difficult to get at or not, it is evident that mostkinds of land can be secured with varying degrees of difficulty.All economists dr op into this conception soo ner or later.68 In thissense, land has a supply price, just as any other good has. Thesupply is increased when the price is sufficient to meet themoney costs in the same practical sense in which this is said ofother things. This is plainly admitted when it is said that

the supply of fertile land cannot be adapted quickly to the demand forit, and therefore the income derived from it may diverge permanentlymuch from normal profits on the cost of preparing it for cultivation.69

5. The individual vs. the social standpoint.T h e distinction between th e individual an d the social views of

land , on w hich m uch stress is laid by con tem po rary econom ists,rests on th e recognition of the two points of view indica ted. Byindividual point of view is meant that of the undertaker whoconsiders money costs. By the point of view of society is meantapparently that of owners in general, who are considered asex pe nd ing effort, m aking sacrifices, inc urrin g real costs, in theincrease of productive appliances. This distinction is maderepeatedly,70 an d it must be note d tha t it is fatal to an ythin g bu t a"real cost" conception of ren t. If land is but a pa rticular form ofcapital to the undertaker, then there is no difference between

rent and interest as money costs to the undertaker. It is onlywhen real costs are considered that there is any difference tonote. Now real costs are very little considered in practical busi-ness under a money economy. As they are not capable of




mathematical expression, they are dismissed pretty effectuallyfrom any discussion of practical business problems, of rent in its

relation to market values, and from the economist's analysis ofindus try. It is difficult to see how the conclusion can be evadedthat the distinction still insisted on in curren t discussion betw eenrent and other shares of industry as they affect value, and thequasi-rent doctrine itself, [rests] on a confusion of these twoessentially different conceptions.

7.REVIEW AND CONCLUSION.

This paper has been mainly critical and negative, yet somepositive results may ap pe ar in glancing over the grou nd that hasbeen traversed.

(1) The land concept, the first of the rent concepts, was onetha t rested o n a classification of m aterial things. W hen any thinghad been classified as land, it followed that the income from itsuse was rent.

(2) T h e ex tension, or space relation, concept is an atte m pt toescape some of the difficulties of this classification by narrowingthe concept of land to those p rop erties only which were assum edto be neith er increasable nor des tructible. T he fertile qualities ofsoil, the many destructible and removable material elements,

would thus be classified as capital, even though they had notbeen produced by man. This concept is hardly more thansuggested. It is not fully developed by any author. 71

(3) Next in logical o rd er is the o ne we reserve d for the last andfullest treatment, the no-cost concept. It originates unques-tionably from the land concept, in the thought that free giftshave no "real" cost, and, therefore, the material services ren-dered by them do not involve a cost. The application of this

notion to rents has two phases, separately considered above.First, by an er ro r of reason ing, the idea that ren t is a surplus a ndnot a "real" cost to the owner of land is carried over to theun de rtak er; and ren t is assumed not to be a money cost to him.




So strongly does this notion take root that, when reasons aresought, a very evident fallacy is taken as convincing. It is then

assum ed that the reason why ren t does not en ter into the cost ofgoods is that land cannot be increased in quantity (though thiswas not the reason that h ad bee n given),72 an d the same relationto cost must be found in anything else that is fixed in supply.Here the land concept is subordinated; and land is thought toyield a re nt only because it has no cost of pro du ction , and doesnot enter into the cost of production of commodities.

(4) T he time concept is bu t a variation of this. It takes time toincrease the stock of productive age nts, an d an incom e from anyagent is to be considered ren t when brief periods are considered ;for w ithin that perio d, it is assum ed, ren t does not en ter into themoney costs of the commodities.

(5) The exchanger's surplus concept is merely a loose exten-sion of the thou gh t that any surp lus may be looked u po n as rent,any gain which does not involve a real sacrifice. It aban do ns theidea that rent is a regularly accruing income. It is carelesslythought out, and nevertheless has found its way into wide andreckless use during this period of psychological economics.

One feature marks all these concepts: it is the inclusion ofland, the "free gift of nature." In the land concept it is the veryessence. The extension concept is narrowed to those of thesegifts which are dee m ed to be fixed in supply: in the oth er th re e,land becom es only on e of many things which yield at one time or

an oth er a ren t, yet it rem ains the typical ren t, the "true r en t," the"ren t p rope r," because it is the on e thing that is looked u po n asunv arying in supply an d incapable of increase. Yet this com m onfeature does not bind these various concepts together into aconsistent series: it does not make them mere variations of oneanother. In the land concept and in the no-cost concept, forexa m ple, there ar e essentially different central thou gh ts. Withinthe later concept, land is included merely because it is one of

many things which are found to have the rent character.T he golden rule of the critic of art, never to ju d g e a p icture byits defects, may pe rha ps b e ada pte d to the criticism of economictheory. The errors, if they be such, in the work of the distin-




guished economist from whom we have quoted, are inheritedfrom the past. T h er e is not one of them w ithout a history. Th ey

merely become evident in their statement along with the newerideas. In tha t which is most characteristic, origina l, and positivein his work, Professor Marshall has left the old concept of rentfar behind. The logical consequence of his treatment is that allthe division fences between the different sorts of materia l wealthhave been levelled; and ren t is the incom e of any m aterial agen t,when static problems, practical business rent, and the moneyaspects of prod uction are under discussion. And this is a serviceof high order to economic thought.

The main conclusions of this paper may be summed up inthese statements:—

T h e old concept of ren t is passing; it is not being un de rm inedby attacks of the old sort, by those who d o not seek to un de rst an dit; bu t it is now abandon ed in all but form by those who repre sen tthe most conservative wing of economic thought.

The various new concepts considered are imperfect andunsuccessful efforts to escape the difficulties of the older view.

T h e use of the term "re nt" for any su rplus above "real" cost isou t of harm ony with the conception of ren t as a regularly accru-ing income, and with the practical need s of a money econom y inwhich the concept must be employed.

T h e do ctrine of quas i-rents, involving the idea that no incom e,or share, enters into market prices in short periods, cannot

stand. On the other hand, the recognition that there is no dif-ference in short periods between land and other wealth in rela-tion to market values is a great advance.

The relation which rare and not easily producible applianceshave to market price over long periods of time is of just theopposite character from that asserted. The less capable of in-crease particular appliances are, the greater income they yield,the m ore therefo re it "enters into price" as the dem an d for their

products increases.The need for a new concept of rent which will evade thedifficulties of the old is evident.73 T h e way is pr ep are d for it bythe break-down of the old and the patent difficulties of the




subs t i tu tes tha t have been p resen ted .

N O T E S

1. P. 150. References are to the fourth edition, 1898.2. Pp. 21 3, 220.3. P. 628.4. A nu m ber of these are noted in the article on "R ecent Discussion

of the C apital Concept" in this jo ur na l for Novem ber, 1900 [cf. 33-73].5. P. 220. He adds, however, that "there is a scientific principle

underlying the distinction, which is the fixity of the supply of utilitiesconnected with land." This is discussed below, p. 322.

6. Pp. 223, 224. The indestructible properties are said to berobbed!

7. P. 233.8. P. 144.9. P. 492.

10. P. 493 .

11. Pp . 607-8.12. P. 494 .13. P. 717.14. P. 144.15. P. 493 .16. P. 478 , note.17. P. 494. See other examples, pp. 714, 760, 765. Note also the

point discussed below, p. 327.18. E.g., p. 608, where this view is taken.

19. P. 220.20. P. 22 1.21. Pp. 224, 225.22. Pp. 220-1.23. See above, pp . 319, 322.24. P. 50 1.25. Ibid.26. P. 233 .27. P. 504.28. Preface, p. x.29. P. 489.30. Especially p p . 489-49 9.31. P. 496.32. P. 199.




33. Ibid. See also the diagram of prod uce r's and consum er's ren t, p.521.

34. P. 661 .35. P. 663.36. P. 598.37. P. 599, notes.38. P. 418 , note.39. P. 477. This is shown by many other passages; e.g., pp. 418,

423, 426, 428, 430, 431 , 43 3, 473 , 477, 5 61, 608.40. P. 476 .41. See below, pp. 345-346.

42. P. 478 .43. P. 486.44. P. 487 .45 . P. 478.46. P. 477 .47. See recognition of this, p. 482, note.48. This point has been noted, doubtless quite independently, by

Mr. H. M. Tho m pson, in The Theory of Wages (1892), pp . 49-80; by M r.J. A. Hobson, The Economics ofDistribution (1900), p p . 113-159; and byProfessor J. B. Clark, The Distribution of Wealth (1899), pp . 354-365.

49. P. 492 .50. P. 493 .5 1 . I t is not intended to cal l in quest ion the worth of the

mathem atical me thod of incremen ts in economic studies, but only thecorrectness of this particular application of it.

52. This argument, if sound, invalidates the theory of distributionand the terminology presented by Dr. C. W. Macfarlane in Value andDistribution (1899).

53. P. 477 .

54. Ad am Sm ith, noting such facts, stated a doctrine opp osed to thatunder criticism, saying that the most fertile coal and silver minesregu late the p rice of the whole supply. Wealth of Nations, Book I., chap ,xi., Part II. This is equally unwarranted.

55. Pp . 48 1, 482 . T h e thou ght is further illustrated, p. 487.56. See pp. 481-483, passim.57. P. 492 .58. P. 419 .59. P. 489. The italics are Professor Marshall's.

60. P. 491.61 . Pp. 419, 498.62. P. 49 5.63. P. 489 .




64. If he be not merely another undertaker through whose handsthe thin g has passed and who m ust pass on to others a pa rt of the price

as part of his costs.65. P. 48 9, Book V., ch ap. ix.66. P. 476 .67. P. 491.68. E.g., p. 220.69. P. 494 .70. See above, pp. 319-321.71. Besides Professor Marshall, already cited, see Professor J. R.

Com mon s's interesting and ingenious presentation of this idea in The

Distribution of Wealth (1893), pp . 27-41.72. See above, pp . 321-326.73. It ne ed hard ly be said th at a n otable essay in the direction* he re

indicated is the concept presented by Professor J. B. Clark.



Landed Property as anEconomic Concept and as a

Field for Research—Discussion

With the larger purpose of Professor Ely's valuable paper, Iam in entire agree m ent. I would reserve ju dg m en t on a few ofthe minor statements, and I would express dissent on only oneperhaps not very important point. The ti t le appears to besomewhat of a misnomer. Landed property is not an economicconc ept, but ajuristic o ne . T h e various classes of land m entio nedin the paper are partly physical, partly technological, partly

juris t ic , and only in small part economic. Of course thegeological, top ograp hical, an d chemical qualities of soil, all haveeconomic bearings, but primarily such classifications are noteconom ic. It would, of cou rse, be possible to correc t or adjust thisterminology without affecting the main purposes of the leadingpaper .

T h e two m ain aspects of the p ap er are the theoretical conceptof land an d th e social policy of land te nu re . T h e latter is perhaps

more interesting but I will leave that to be discussed by theagricu ltural economists who a re to follow m e, an d shall limit mydiscussion to the theoretical aspect of the question.

T h e largest theoretical proposition presen ted, the great t ru th,is tha t land as an economic category is not simple or u nified. It

Reprinted from American Economic Review, Supp. 7 (March 1917). Thepaper to which Fetter refers is by Richard T. Ely and is entitled"Landed Property as an Economic Concept and as a Field of Research"(ibid., pp. 18-33). Other discussants included E. Dana Durand, B. H.Hibbard, Roy G. Blakey, R. R. Bowker, and John A. Ryan (ibid., 36-47).

356



Landed Property 357

never has been, is not now, and cannot be, a truly scientificconcept. Science only in its cruder stages has to do with theclassification of concrete objects. As the truly scientific stage isreached, the concern of the thinker is with the qualities andaspects of things, rather than with the concrete objects them-selves.

Consider the different things that are called land. T h e concep tland includes nearly all of our material environment. Whatcom m on ch aracter have a tract of desert sand, an Iowa farm, a

forest, an iron m ine, a coal m ine, a m ou ntain side, attractive forresidence because of the beautiful scenery, a waterfall, or a sho reline suitable for docks and terminal facilities for railways? Forwhat possible purpose could these different kinds of materialthings be grouped together into one logical economic categoryan d con trasted w ith the economic agents? Ricardo from the firstfailed in his attem pt to do so; his doctrine was limited to the useof soil for ag ricultu re. H e did no t know what to do with the oth er

kinds of land un de r his ren t law. H e took Adam Smith to task forusing the expression "the rent of mines"; then he used thatphrase as the h eadin g of his own next cha pter. H e said never aword about urban sites. We must recall that at that time thereason for the rent of land was assured to be the peculiarchemical qualities of the soil used for the production of food.The modern conception of a general principle of proportional-ity in the use of economic agents seems not to have been

glimpsed. Professor Ely's discussion ably shows that there is nofinal resting point in the analysis of the land concept until wecome to the concept of the separable uses of material things.

Bu t it may be said tha t the distinction between land an d capitalby the old er econom ists was no t m ade w ith respect to thepurposesfor which agents of production were used, but with respect totheir origin, their naturalness, or artificiality. Observe that theolde r gro up ing of concrete goods into land an d capital was not a

continuity classification of goods which have more or less ofartificiality. Land and capital were sharply defined and con-trasted . Th ose goods which were called natu ral were treate d (or




were supposed to be treated) under the land and rent concept,and those that were artificial were treated under the capital

concept. The material of everything in the world was once"natural." W hen did it becom e "artificial?" At what mom ent didthe bit of iron ore, the piece of coal, the piece of w ood, the pieceof "land," miraculously become capital? Was it at the first touchof m an's hand? The n is every cultivated bit of land artificial, andby that token is capital? This difficulty was recognized by J. S.Mill and troubled him greatly. But at this point the answer isgiven that the iron ore becom es capital when it is removed from

the land while the land surface remains. Here the reason as-signed for distinguishing capital from land is changed fromartificiality to transportability. W e have not time to discuss thisfurther as a theoretical question. It has been already sufficientlythreshed out,

1and there can be no doubt as to the verdict to be

rendered.N o wonder then , that many econom ists have lost their faith in

the old Ricardian theory of rent and the land concept. This

accounts in large measure for the great dissatisfaction amongmany teachers with the status of economic theory. The Ricardiantheory of distribution having broken down, the economists ofthe older school are left without any unifying philosophy ofeconom ics such as is given by a general theory of distribution.

The theoretical aspect and the social-policy aspect of the landquestion are closely connected in thought. At whichever end w ebegin to study land we find ourselves necessarily approaching,

after a time, the other aspect. Professor Ely was primarily in-terested in the social reform aspects of the land question. H e hasdone a service in pointing out that the crudity and lack of logic ofthe old land concept is on e o f the great obstacles in the way of abetter understanding of the practical problems involved inlegislation in respect to the subject of property in land.

NOTE

1. See the discussion on "The Relations between Rent and Interest,"still significant, though now appearing in some respects undeveloped,at the New Orleans meeting, 1903, Publications, Third Series, Vol. V.



Comment on Rent underIncreasing Returns

A reawakening interest in problems of theory has beenevidenced in recent years by an increasing nu m be r of thoug htful

essays in the leading economic journals. Several articles andcomm unications in the last num ber of the REVIEW prese nt a goodAmerican example; but the tendency since the war is probablyworld-wide. Even in G ermany, so long und er the dom ination of ahistorical school most inhospitable to the logical, formative type oftheory, may be seen renewed efforts to attain more generalized,logical statemen ts of economic tru ths. Professor Adolph W eber ofthe University of M unich in th e preface to his systematic text has

recently expressed his full agreement with H. Herkner in thebelief that the unde rst an din g of economic relationships is best tobe attained by a timely rebirth of the methods an d do ctrines of theclassical economists. Weber adds that "Herkner makes this con-fession at the en d of his self-biography (in 1924), which he himselfcalls 'the life of a socialist of th e chair,' an d the refore it comes outof a camp in which for decades many of our best minds have feltcompelled to combat the classicists with passionate zeal." Inter-

pr ete d in the light of well-known circum stances in G erm any , thisis not a plea for the revival in its details of an antiqu e R icardianism,but rather is evidence of the growing influence of the Austrianpsychological school which the G erm an historical economists longembraced in one sweeping condemnation of every attempt toutilize deductive, logical and formative methods of study.

Reprinted from American Economic Review 20 (March 1930). The com-ments refer to a paper by Albert Benedict Wolfe entitled "Rent underIncreasing Returns," American Economic Review 19 (December 1929):580-604.

359




The article in the December REVIEW on "Rent under Increas-ing Returns" serves a useful purpose at this time in stimulating

interest in the older rent doctrine. That grim ghost still is"doomed to stalk the night till the foul deeds done in its days ofnature are burned and purged away." But, despite the earnestan d laudab le pu rpo se of the article in question, it may co ntributeto further misunderstanding if it is accepted uncritically andwithout amendment.

Its thesis is pe rha ps best expressed in its final senten ce: "It maybe questioned w heth er theory has not assumed a m ore invariableand certain relation between rent and diminishing returns thanthe facts entirely justify" (p. 604). More specifically, the articledenies what "most textbooks state that rent does not emergeunti l the point of diminishing returns . . . . is reached, andthereby imply that rent does emerge immediately that point ispassed" (p. 581).

T h e results arrived at in this article are pre sen ted modestly as

"of doubtful applicability to actual conditions in a settled andmature country," but as probably having a "practical bearing"un de r the co nditions th at will be necessitated by an "indefinitelycontinued growth of world population."

However, a careful reading of the article raises doubts as toeven these very qualified claims, inasm uch as the results seem tobe ded uce d from mutually contradictory assumptions, and froma mistaken interpretation of some of the very essentials of the

doctrine that the author is seeking merely to revise in minordetails. Let us consider the t rea tm en t in the article: first, of coston the marginal no-rent land, and secondly, of the concept ofincreasing returns. The one question relates to the interpreta-tion of the m ost valid feature of the R icardian do ctrine , the o th erto certain points of more modern theory.

(1) In the classical rent doctrine, cost (which Professor Wolfenot inaptly prefers to call input) is always held to equal, or to

absorb, the whole product on the no-rent land. The Ricardianrent doctrine was really a study in the valuation of complemen-tary agents by the residual method; the costs on the rent land



Comment on Rent under Increasing Returns 361

being reckoned from those on the no -rent land where ther e wasno surplus above costs—on the marginal land, as it has been

called recently. B ut in the article before us it is at once (see Figu re3) assumed as a fixed condition that the B land is and remainsfree, or no-rent, land and at the same time that no matter howintensive the cultivation o r how large the su rplus pro duct, eachdose of "in pu t" (cost) con tinues to absorb (or equal in value) lessthan the product on the free land. When cultivation extends toand stops at 5 doses on the B land, as is assumed, total return,acco rding to the illustrative table (p . 584), is 50 units of prod uc t,

costs are only 25 units (5 doses each equal to 5 units of p rodu ct) ,and there is a surplus over input of 25 units of product. Theauthor repeatedly indicates such a situation as a possible andconceivable static equ ilibrium . But is this true? If B is free land,the re can be no surplus pro du ct (physical or value) above inp utexcept on the extreme condition that the product itself is a freegood, and in that case evidently ther e would be no ren t on the Aland or on any other. If B land is free when cultivated with 5

doses of inpu t, the n, in a static equilibrium, the input would havea value of 10 units of produ ct per dose and absorb all the prod uctof 50 units on B, and similar agents would "cost" 10 units a dose ifbought for use on A (and a similar "opportunity" cost).

T h e erron eous m ethod yields equally bad results as applied tothe A land in its interrelation with the B land . A fleeting glimpseof the truth is given in the following words (p. 584): "If therewere no free land productive enough to yield a surplus overexpen se of input, tract A would be given 16 doses of inpu t." T ha tis in accord with a feature of the old Ricardian rent doctrinefrequently misunderstood in the old days,f¿z., it is not necessaryto have an extensive margin of no-rent land from which to meas-ure the rent on good land; an intensive margin of no profit onadditional doses of input is an equally effective no-rent margin.Professor Hollander away back in 1895 (Quarterly Journal ofEconomics, vol. ix, p. 175) corrected this then current misun-derstanding. But immediately after the recognition above thatcultivation on the A land (logically) stops at the point whereadditional costs produce no surplus above the added costs (and




not until then ), the arg um en t tu rns to the assum ption that "sinceland B is free, cultivation of A " stops at 13 doses, althou gh the

accom panying table shows that the total net su rplus above costson A can be maximized by going on to the fifteenth (or sixteenth)dose.

The error just noted is magnified in elaborate tables, calcu-lations and diagram s (pp . 585-596), by which it is made to appearthat under certain conditions, when the individual cultivatoremp loys the eq uivalent of 13 doses, he will apply eight of themon the A land yielding a re nt , and five on B , free land (p. 596).

Observe that this all relates to what an individual will do inadapting himself to a general rent level and situation deter-mined by broad, general forces beyond his control. This leavesthe cultivation sto pp ing (see Table II I) whe re an additional doseof inp ut (claiming 5 units of prod uct) w ould'yield 11.5 units ofprod uct o n A and 12 units of produ ct on B . T he absurdity liesnot in the slight inequality between the two surpluses— that isprobably a m ere accident of the arbitrarily chosen figures—but

in the lack of correspondence at the margins in both cases be-tween the inputs (costs) and the products.At this point (p. 596), the true limiting factor being lost to

sight, the curious suggestion is made that the rent on A is de-termined by the difference between the gross product whichcould be secured by first, distributing between A and B the 13doses of inpu t, and secondly, applyin g all 13 doses of inpu t u ponB (to wit, 164 minus 107, leaving 57). But this assumes a most

irrational proc edu re and two err ors . First, if B is really free la nd ,the n the 5 doses of inp ut a pplied to it m ust have a value of, or berew arded by, the whole physical produc t, that is, each d ose by 10units of p rod uc t. Call this, if you will, the m argin al valuation ofinput doses. If, then, 8 doses of input (costing 80 units of prod-uct) are used on A to secure a total return of 114, the remain-der, 34, is the surplus on the better land and indicates them axim um possible ren t un de r these conditions. It is still an othe r

error in this connection to assume, as is done, that if all the 13doses were used on B land the y would be app lied intensively onone piece and give a gross product of only 107 units; whereas




Table I, containing the assumed data, shows that by sp read ingthe 13 doses of input over two pieces of free land (6½ doses on

each or 6 and 7 respectively) an average re tu rn of 10.3 units p erdose or a total of 134 units of products could be secured.(2) The second great source of difficulty in the argument is

that e lusive term "increasing returns." In the history ofeconomic thought increasing returns (also its converse, de-creasing returns) has been conceived of chiefly in connectionwith long-time dynam ic changes in the whole national econom y,accompanying changes in the state of the arts, etc., and in the

pressure of population— long thus intimately related with theMalthusian doctrine. But sometimes ambiguously it has beenused in connection also with the smaller problem of a singleenterprise and the static situation in which the user of agents(tenan t of land) seeks individually to adjust the pro po rtion of thefactors w hich h e controls to the larger situation and equilibriumof which he is an almost negligible part. The former, a socialwelfare concept, is on historical and logical grounds, the

better—indeed the only defensible usage in the study of rentlevels. The other pertains only to the problem of individualprofit. Professor W olfe, if he is aware of this alternative, prefersand follows the second meaning and (as above indicated) isconcerned throughout his discussion with this smaller problemof the individual enterpriser who is trying to adjust his ownoperations as best he can to a prevailing norm, or to improveup on it, and who, when he succeeds, gets the m aximum profit

from his agents. In this epoch of still divided and ambiguoususage of term s, an a ut ho r is of course w ithin his rights an d stillhas respectable company when he thus chooses; but his choiceentails certain illogical consequences now pretty generallyrecognized.

Some of these results ap pe ar in connection with the tr ea tm en tof increm ental an d average ret ur ns in the article before us. It issaid (p. 580) that "most writers mea n by the p hra se 'diminish ingreturns' diminishing average returns," though, as is addedcritically, "some do no t take the troub le to say what they m ean ."This statement, in which "returns" pretty evidently refers to




individual profit-returns, is doubtless right. The sufficientexplanation of the preference for average rather than incre-

mental lies in this simple fact, that in any comparison betweentwo average retur ns resulting from the use of one dose mo re o rless of input, there is contained and expressed all that is sig-nificant of an incremental nature. The question which the in-dividual cultivator has to decide is not whether another dose ofinpu t will give a gross result gre ater or less tha n d id a pre ced ingdose, but w hethe r it will increase the gross result by m ore tha nthe am ou nt (or value) of the add ed dose of inp ut. If it thu s gives

any n et gain, it is economically justified. Most of the com parisonsin the article between the gross results of successive incre m entsof input are thus beside the mark. As Ricardianism they areunorthodox, and as marginalism they are misconceived.

A crucial difficulty in the a rticle is thu s in the way of think ingof th e alternative choices of levels of r etu rn s as giving increa singre tu rn s. Th e a uth or professes to be using the term s "successive,"etc., in a logical and no t a tim e sense (p. 581). He declares tha t in

his analysis he is assuming "static conditions." But the variousaverage and increm ental re tur ns in all the invented tables an d inthe figures could not possibly exist contemporaneously. Them om ent that a new gen eral re nt level is reached (in imaginationor in reality) as a result of technological changes causing a dif-ferent proportion of input to be generally the more economic,the other points and levels become impossible choices for theindividual. To think otherwise is an error of interpretation of

marginal valuation curves once almost universal, and sti l lcommon. It is involved in the notion of consumers' and pro-duc ers' surpluses. H ere it is erro neo us to think of each dose ofinp ut beyond the first as having a separable am ou nt of retu rn s.When, say, 8 doses are used in combination, no single dose hasthe separate or distinctive return that it had when used sepa-rately, bu t only iíspro rata now of the new total re tu rn . M oreover,in the prob lem trea ted in this article, the most profitable m od e of

use by an individual of a valuable (rent bearing) agent, therent—either as contractual or as an alternative valuation—is apart of the "costs" of the cultivator, as is now conceded by




neo-Ricardian enlightened economists such as Marshall andTaussig. Truly competitive rent implies the use of land by

methods and to the degree of intensiveness abreast of currenttechnology and practice. That being so, the attempt of the in-dividual to use only 7 or 6 or fewer doses when 8 was the pr op eror best dosage, would simply mean loss or utter bankruptcy.T he se options do not exist in fact or in sound theory . T he answerthat Professor F. M. Taylor would give, which appears to befairly stated (p. 596), is conceded by Professor Wolfe to be "inpu re static theory . . . . unassailable." In seeking to weaken itsforce, he patently shifts to dynamic conditions which are notthose of the problem he has been discussing. In sum, the staticincreasing returns, the effects of which upon rent it is the pur-pose of the article to elucidate, have no existence excep ting in thewhimsical sense of the corre ction by an en terpr ise r of successivecostly blunders. This has been accepted doctrine in the newertheory for well-nigh a third of a century.

In the p reced ing comm ents Professor W olfe's use of the word"re nt" as the yield or income m erely from agricultural land hasbeen followed, although I cannot but look upon such a concep-tion as passé in the light of a past generation of constructivecriticism in this field. Can it now be doubted that the idea of amost profitable proportion of complementary inputs is equallyapplicable to all kinds of agents , or th at the most useful aspect ofthe old rent concept is applicable as well to the du rative separableuses of any kind of goods? I trust therefore that no reader willinfer from certain expressions above, regarding the consistentinterpretation of Ricardian doctrine, that I mean to signify myown adherence to it . Gott bewahre!



RentREN T. Th e word rente occurred in old French of the twelfth

century, derived from the vulgar Latin rendita, from reddita,meaning return or yield. In the same century it occurred inEnglish in the sense of an item of revenue or income (OxfordDictionary). W ith varied spellings and shades of m ean ing it hasbeen used in all the m od ern Eu rop ean languages ever since. Stilltoday in the law "the word . . . may be generally defined as acompensat ion or re turn" (Corpus jum). In popular speech it isnow, and possibly always has been, used generally as the sumpaid for the h ire of anyth ing to be retu rn ed in the same physicalform, as tools, machinery, houses and so forth. Both ineconomics and in law, however, the word has been most fre-quently associated with the payment for the use of land, espe-cially of agricu ltura l lan d; an d Alfred M arshall's basic d efinitionis representative of widespread economic usage: "the incomederived from the ownership of land and other free gifts ofnature is called rent." It is true that Marshall adds: "theeconomist must stretch it much further," leaving the reader indo ub t as to his exact me an ing . In law the technical sense of th eword is said to be "the com pensation received by a landlo rd for

the use of land leased" (Corpus juris).This association, both in economics and in law, of rent withincome derived from land resulted from the shifting of a moregeneric meaning to a specific use which happened to be mostfrequent in practise. T hr ou g ho ut the M iddle Ages the cases offixed contractual income which most often came before thecourts in such matters as settlement of estates, and in moderntimes those which have attracted the attention of economic

studen ts were derived from lande d pro perty . A similar result of

Reprinted from Encyclopedia of the Social Sciences, s.v. "Rent."

3 66



Rent 367

habit seems to account for the m ore rec ent peculiar use of rentesin French in the sense of incomes from investmen ts in the con-

solidated g overnm ental debt, rentier thus denoting a person w holives from the proceeds of coupon s on public bo nd s. T h e use ofrent in the special sense of an income derived from land whilethe more general meaning has persisted still contributes, nodoubt, to the confusion of the whole concept.

English writers from the sixteenth to the eighteenth centuryused the word ren t as m eaning "interest" on a loan which is "only

Rent for Stock," as Sir Dudley North said (Discourses upon Trade,Lo nd on 1691), an d also in the m ore special sense of an incom efrom land. Repeatedly too they touched upon the relationshipbetween comm erce and land values and the rents of agriculturalland. The history of the modern rent doctrine, however, asessentially connected with land may be said to begin midway inthe eighteenth century. Although the French physiocratscen tered their w hole system of the or are naturel abou t land an d its

peculiar pow ers, they pr efe rred to call the yield, or th e incom e,from land not rent but theproduit net, the "disposable reve nu e"o r "the cu rre n t price of leases." But the physiocratic concep tionsof the thr ee main classes in the nation , of the suppo sed exclusivepower of land to yield a surplus above labor costs and of theassumed non-shift ing quali ty of taxes on cult ivated landdoub tless influenced English economic thou gh t in the pe riod ofRicardo and subsequently.

Adam Smith's views on rent were far less affected by hisphysiocra t ic contemporar ies than were those of Engl i sheconom ists a gen eration later, for S mith saw in the m agic powerof division of labor rather than in the powers of land thebountiful source of the wealth of nations. His preliminaryanalysis of the price of commodities into its "component parts"of wages of labor, profits of stock an d ren t of land was m uch in

the spirit of the psychological school of a century later. Hisfurther treatment of rent nevertheless was the most confusedand unsatisfactory part of his imperfect scheme of value anddistribution . H e gro pe d for a "natural ra te" of ren t as well as of




wages an d of profits but got no furthe r tha n the suggestion tha tit is the "ordin ary o r average rate of ren t, which is regulate d . . .

par t ly by the general c i rcumstances of the socie ty orneighborhood in which the land is situated, and partly by thenatural or the improved fertili ty of the land"—a solutionsatisfying to the most eclectic m ind . H e the n attem pte d to find aline of distinction between one class of "pro du ce of land (food)which always affords and necessarily affords some rent to thelandlo rd," and o the r sorts of produ ce which sometimes may an dsometimes may no t, according to circumstances (m entioning as

examples fur, wool, stone, coal, wood and a variety of othernatural materials) . He glimpsed the modern conception ofm arginality in the latter case bu t ignored it in the form er. T h eeasy disproof of this hazy do ctrine of the two classes of pro du ctshelp ed to convince the R icardians of their superiority over Smithan d to confirm their belief in their own false views of land re nt .

Adam Sm ith's inexact ideas of a ba re subsistence as the na tura lwage and of the power of land ordinarily to "produce a greaterquan tity of food tha n what is sufficient to m ainta in all the labournecessary for bringing it to market" bloomed into the Malthus-ian principle of popu lation ne ar th e close of the centu ry (1798).The peculiar circumstances of the next two decades, withcontinued war, excessive taxation, curtailment of food imports,unprecedented prices for wheat in England and inflated ag-ricultural rents , served to magnify to abno rma l im portanc e thesubjects of population growth and land rents. The so-calledRicardian doctrine of rent was independently formulated byseveral other writers—West, Malthus, Torrens and othersbetween 1813 an d 1815— when wheat prices were at their peak.It was destined to play a do m ina nt role in economic theory untilafter the middle of the nineteenth century and thereaftergradually to lose its prestige.

It is not possible accurately to compress into a single proposi-tion the w hole Ricardian ren t d octrine for in it several criteria ofrent were combined and confused. Even the following analysisdoes not exhaust the minor details and differences. In the firstplace, the source of rent was deemed to be distinctly and



Rent 369

peculiarly land, used as a mere geographic or geological term.Along w ith labor an d capital land was on e of the th ree factors ofproduction, paralleled by the three incomes—rent, profits(including interest) and wages—and by the three classes ofincome receivers—landlords, capitalists and laborers. Thistripartite arrangement corresponded fairly well with the maindivisions in politics an d in Eng lish society at tha t tim e. Secondly,land was reg ard ed as un pro du ce d, it being conceived as essen-tially a na tu ra l not an artificial agent, having there fo re originallyno psychic cost, in con trast with th e psychic sacrifice involved inmaking, improving and modifying other things, which werethought to be ruled by the labor theory of value. Again land,even agricultural land, was considered as durable by its verynature, and its useful and fertile qualities were taken to bepermanent. As a corollary the rent income was assumed tocontinue without limit and without impairment of its source, incontras t with physical capital. La nd was looked u po n as peculiarin that it alone a m on g econom ic agents was subject to the law ofdiminishing returns, a doctrine which confused the idea ofproportionality between two or more complementary agentswith the idea of a historical trend toward less productive landand land uses. Fu rthe r, land ren t was assum ed to be of a peculiarresidua l, or d ifferential, na tu re , in contrast to wages, profits an dinterest, in which no differential quality was seen at that time.Closely related was the idea that land rent was peculiarly asurplus above cost (practical business cost), and moreover theone income that "formed no part of price." Th is was a me re playon w ords and was not m ean t to deny tha t the actual prices of allproducts where scarce land was used contained rents as well aswages and profits, or that rent formed part of the necessarycompetitive expenses of the en terpris er. T he phras e involved agarbled marginality theory, which am end ed the words "formedno part of price" by the addition: of that portion of the supply

which fixes (or determ ines) the price of the w hole. Recent criti-cism has pretty effectually disposed of the fallacious idea of acertain marginal un it fixing the price of the whole or of the o th erunits in the marketing of any sort of goods or uses.




Land rent in the Ricardian doctrine was further regarded aspeculiar in that taxes on la nd , agricultural as well as oth er, were

not shiftable. Land being deemed to be not only unproduciblebut indestructible, it was concluded that the quantity of usableland and the m ode of its use could not an d w ould not be alteredin any degree through the taxpayers' choice as a result ofchanges in land taxes. Finally, all land values and all ren ts w ereheld to be of a monopolistic nature, no matter how widely dis-tribu ted la ndo w nership m ight be; this was palpably a confusionof the idea of "natural" scarcity and that of monopoly in its

pro per sense as con trol an d artificial m anipu lation of supply an dof prices through unified ownership or by agreement.

T h e subsequent history of the re nt do ctrine is largely a reco rdof hostile criticism of these inconsistencies in the Ricardiantheory and of the attempts of Ricardian apologists, such as J. S.Mill, J . E . Cairnes and othe rs of the neoclassical school, to qua l-ify, reconcile an d evade its logical consequences. Most ingen iousand elusive of the attempts of this sort were those of AlfredMarshall . He conceded that the dist inction between land(natural) and oth er wealth must be aban don ed from the point ofview of the individual investor (the original problem) butsuggested retain ing it from the point of view of society. He thenhopefully set forth still an oth er pro pe rty of land as "the ultimatecause of the distinction . . . between land and oth er things"; thatis, the attribute of extension, or its geometric relations. Notsatisfied with this, he further suggested making the distinctionbetween rent and interest (and between land and capital) turn"on the length of the period which we have in view."

Since the w ord r en t etymologically m eans any incom e or yieldfrom an economic agent, its limitation to a more special senseinvolves something of the arbitrary. This can be justified ul-timately only by a general consensus of opinion and usage.Modern theoretical criticism has not only quite effectually in-validated the crude tripartite division of the economic factors(based on th e labor theory of value) which linked r en t with lan dbut has also in varying degrees exploded all of the other sup-posed peculiarities of land and of land re nt . Proportiona lity, for



Rent 371

example, varying on either side of an optimum, is seen as auniversal phenomenon in the use of all kinds of goods, where-

as a historical law of diminishing returns finds no support inactual conditions or in statistical trends in any of the advancedcountries.

To the writer it seems that the most useful and tenable def-in i t ion of the word ren t today must turn upon the oneeconomico-legal criterion of the n atur e of the contrac t by whichthe uses of any m ore o r less dura ble agent of prod uction may bebought or sold. The content of such a concept would include

nearly all of the cases which in practice have ever been inclu dedunder rent, but the concept would be essentially different.Capital in the f inancial sense and i ts yield—profi ts andinterest—are fully within the price system, both the principalsum and the am ount of the income being expressed in m onetaryterms; rent is ordinarily only half way within the price system,that is, in respect to the periodic pay m ent; wh ereas the borrow edagent is returnable in kind or as nearly as may be in identical

form (i.e. the criterion is physical or technological rather thanfinancial). In de ed some cases of ren t contracts, as, for instance,ren tin g on shares, retain the still m ore primitive form of contrac tin which both the borrowing and lending and the payment are"in kind"; tha t is, not expressed in m onetary term s. Rent wouldthu s be defined as: the am oun t paid by con tract for the use of thedurative (separable) uses of a more or less durable agent (usebearer), entrusted by an owner to a borrower for a limited

period, to be returned in equally good condition except forordinary wear and tear.

Consult: Joh ns on , Alvin S., "Ren t in Mo dern Econom ic Th eo ry"in American Economic Association, Publications, 3rd ser., vol. iii(1902) no. 4; T ur n er , J. R., The Ricardian Rent Theory in EarlyAmerican Economics (New York 1921); W alker, F. A.,LandandltsRent (Boston 1883); Hobson, John A., "The Law of the ThreeRents," Clark, Jo h n B., "Distribution as De termin ed by a Law ofRe nt," an d Ho llander, J. H ., "T he C oncept of Marginal Re nt" inQuarterly Journal of Economics, vol. v (1890-91) 26 3-88 , 289 -318 ,




an d vol. ix (1894-95) 175-87; Fe tter, F . A., "T h e Passing of th eOld Rent Concept" in Quarterly Journal of Economics, vol. xv

(1901-02) 416-55, and "The Relations between Rent and In-terest" in Am erican Econom ic Association, Publications, 3rd ser.,vol. v (1904) 176-240; Carlton, Frank T., "The Rent Concept,Narrowed and Broadened," and Orchard, Jo hn E., "T he R ent ofM ineral La nds" in Quarterly Journal of Econom ics, vol. xxii (1907-08) 48-61, and vol. xxxvi (1921-22) 290-318; Inama-Sternegg,Karl T., "Theo rie des Grundbesitzes und d er G run dre nte in d erdeutschen Literatur des 19. Jahrh und er ts" in Die Entwicklung derdeutschen Volkswirtschaftslehre im neunzehnten Jahrhundert (Leipsic1908) vol. i, ch. v; Schumpeter, Joseph, "Das Rentenprinzip inder Verteilungslehre" in Schmollers Jahrbuch, vol. xxxi (1907)31-65, 591-634; Weiss, F. X., "Die Grundrente im System derNutzwertlehre," Weber, Adolf, "Die städtische Grundrente,"and Ely, R. T., "Kosten und Einkommen bei der Bodenver-wertung" in Die Wirtschaftstheorie der Gegenwart, ed. by HansM ayer, F. A. Fe tter, a nd R. Reich, 4 vols. (Vienna 1927-28) vol.

iii, p. 210-58; Beren s, E., Versuch einer kritischen Dogmengeschichteder Grundrente (Leipsic 1868); Adler, A.,Ricardo und Carey in ihrenAnsichten ù'ber die Grundrente (Leipsic 1873); Die hi, Karl, "DieG rund rente nthe orie im ökonomischen System von Karl M arx"in Jahrbücher für Nationalökonomie und Statistik, vol. lxxii (1899)433-80; Bortkiewicz, L. von, "Die rodbertus'sche Grundren-ten theor ie und d ie marx ' sche Lehre von der abso lu tenGrundrente" in Archiv für die Geschichte des Sozialismus und derArbeiterbewegung, vol. i (1910-11) 1-40, 391-434; Spitz, Philipp,"Das Prob lem der a l lgemeinen Grundren te be i Ricardo ,Rodbertus und Marx" in Jahrbücher für Nationalökonomie undStatistik, vol. cvi (1916) 492-524, 593-629; Diehl, Karl, Sozial·wissenschaftliche Erläuterungen zu David Ricardos Grundgesetzen derVolkswirtschaft und Besteuerung, 2 vols. (3rd ed . Leipsic 1921-22)vol. i, ch. ii; Oppenheimer, Franz, David Ricardos Grundrenten-theorie (2nd ed . Jena 1927) ; Ot te , Gerhard , Das Differen-tialeinkommen im Lichte der neueren Forschung, Volks-wirtschaftliche Studien, vol. xxviii (Berlin 1930); Samsonoff,

B., Esquisse d'une theorie generate de la rente (Lausanne 1912);



Rent 37 3

Lebreton, Andre,Essai sur la thêorie ricardienne de la rente (Rennes

1926); Loria, Achille,L<z rendita fondiaria e la sua elisione naturale

(Milan 1880); Sensini, Guido, La teoria della "rendita" (Rome1912); Ferri, Carlo E., La concezione energe tica della rendita, Col-

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by Georg Schanz, Journal of Political Economy, 6 (March, 1898),277-79.

-. Review of The Bargain Theory of Wages, by John Davidson,Political Science Quarterly, 13 (September, 1898), 566-69.

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. Review of The Early History of English Poor Relief by E. M.Leonard Journal ofPolitical Economy, 9 (March, 1901), 308-11.

. Review ofA History of the English Poor Law, Vol. 3, by Thom asMackay, Journal of Political Economy, 9 (March, 1901), 308-11.

. Review of La protection ouvriere au Japon, by Kashiro Saito,Journal of Political Economy, 9 (M arch, 1901), 307-308.

. Review of Le travail aux points de vue scientifique industriel etsocial, by Andre Liesse, Political Science Quarterly, 16 (March,1901), 170-71.

. Review of Distribution of Wealth, by John Bates Clark, TheInternational Monthly, 4 (July, 1901), 127-33.

. Review of Einige strittige Fragen der Capitalstheorie (DreiAbhandlungen), by Eugen von Böhm-Bawerk, Political Science

Quarterly, 17 (March, 1902), 169-73.

. Review of Natural Econom y: An Introduction to PoliticalEconomy, by Arthur H. Gibson, Journal of Political Economy, 10(March, 1902), 289-91.

. Review of Social Control, by Edw ard A lsworth Ross, Charities, 8(March, 1902), 212-1 3.

. Review of The Last Days of the Ruskin Co-operative Association, byIsaac Broom e, Journal of Political Economy, 11 (December, 1902),175-77.

. Review of The New Harmony Communities, by George Brown-ing Lockwood,Journal of Political Economy, 11 (December, 1902),175-77.

. Review of Positive Theorie des Capitals (Zweite Auflage), byEugen von Böhm-Bawerk, Journal of Political Economy, 11 (De-cember, 1902), 145.

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477-79.. Review of Interest and Saving, by E. C. K. Gonner, PoliticalScience Quarterly, 12 (March, 1907), 160-62.

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-. Review of The Iron Heel, by Jack London , Economic Bulletin, 1(December, 1908), 328-29.

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employed, by G. E. Raine, Economic Bulletin, 3 (March, 1910),178-79.

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ingman, by J. St. Loe Strachey, Economic Bulletin, 3 (March,1910), 179.

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terly, 25 (June, 1910), 340-42.

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E\lwood, International Journal of Ethics, 21 (July, 1911), 500-501.. Review of The Theory of Distribution and Consumption, byT. Lloyd, Political Science Quarterly, 27 (December, 1912), 706-707.

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. Review of Die Bedeutung des Einkaufs und Verkaufs aufFractgrundhge bei bergbaulichen und industriellen Erzeugnissen, by

Emil Geisler, American Economic Review, 21 (September, 1931),531-34.

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by Era ldo Fossati, Weltwirtschaftliches archiv Schrifttum, 49 (1939),24-26.

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888-890.. Review ofOrigins ofAcademic Economics in the United States, byMichael J. L. O'Connor, Journal of Economic History, 5 (May,1945), 88-90.

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INDEXAbstinence theory, 40, 41, 87, 223,

238, 260, 266-268, 270, 274Accounting practices, 93-94 ,151-170 ,

274Accumulative savings, 164Acquisition/production distinction,

133Acquisitive capital, 146

Adams, H. C , 125Agio theory, 222, 269, 273Aldrich plan, 295Allotropism, 216American economists, 121-123Annuity, 103-104Appliance production, 347-348Appreciation, 103Arbitrage, 18"Are Savings Income?" (Fisher),

114-118"Are Savings Income?—Discussion"

(Fetter), 8, 114-118Artificial goods capital concept, 267-

269Ashley, W. J., 275Assets, 161, 166Austrian school, 2, 75, 274

capital theory, 6, 159, 160

land/capital distinction, 10Auxiliary capital, 131Average production period, 10-11,

176, 178-183

Bank credit, 292-294business needs and, 302-304

Bank credit expansion, 19, 20, 300-302

Bank credit-price relation, 294-296Bank of England, 304-305Barter, 276, 278-279Bastiat, F., 126

rent theory, 79Böhm-Bawerk, Eugen von, 17, 130,

131capital theory, 5, 8, 34-40, 42, 47,49, 50, 56, 57, 60-66, 87-91, 128-129, 147, 159-160, 183fructification theory, 313income concept, 53

interest theory, 7-12, 17, 34, 36-37,51-53, 90, 92, 172-188, 228, 231,232, 239, 256, 258, 260, 263, 265,266, 269-273, 279, 282subsistence fund, 29works—C apital und Capitalzins, 3, 84-86,146-147Einige strittige Fragen der Cap-italstheorie, 7, 87-91Positive Theorie des Capitals, 34, 36,84, 86, 92, 172, 187

Recent Literature on Interest, 222-225

Boucke, O. F., 137Brown, H. G., interest theory, 226,

230, 236, 248-250, 256-259Buck, N. S., 136Business calculation, 117, 132, 133,

137, 138

Business cycle theory, 19-20, 295interest theory and, 261, 275

Business needs, bank loans and, 302-304

Bye, R. T\, 137

Cairnes, J. E., 370Cannan, Edwin, 48, 49, 96, 275

income theory, 100

interest theory, 272"Capital" (Fetter), 9, 143-150Capital; see also spec ific classifications

acquisitive (private) vs. productive



Index 391

(social), 35, 36cost-of-production theory of, 246,

247, 250definition of, 94-95, 122, 143, 149,154-160interest-bearing, 50 , 51land as, 57-62marginal productivity of, 11nature of, 94-100synchronizing function of, 42-44value vs. physical productivity of,

10wealth and, 46, 135Capital accumulation (increment), 41,

115, 116, 131Capital and Interest (Böhm-Baw erk), 3Capital and Its Earnings (Clark), 119,

147Capital as investment, 145Capital as product, 57-65

Capital/capital goods distinction, 10Capital concept, 7, 27, 29, 33-73,76-78, 82, 106, 109-110., 120, 139,270Clark's reformulation, 119-142industrial development and, 80-81interest theory and, 245-248, 267-269reformulation of, 119-142,151-161restatement of, 65-69

Capital fund, 6-8, 41, 42, 120, 136,143, 147

Capital gains, 8Capital genesis (origin), 40 ,4 5,5 7, 77 ,

160Capital goo ds, 6-9, 1 1, 38, 44-45, 47,

65-69, 120-122, 124, 128, 129, 131,147, 158-160

Capital-income distinction, 9, 94-97

Capital-income ratios, 106-107, 110Capital-income relation, 34, 106-108Capital increase, 322, 323, 324

roundaboutness and, 177-180

Capital investment, 128, 132Capital/land distinction, 7-10, 63,

159, 201-204, 211-212, 216, 250,357-358Capital/land relation, 132Capital measurement, 66-68, 130Capital production means vs. capital

possession, 124Capi ta l p roduc t iv i ty , roundabout

process and, 173-177Capital-property, 99

Capital stock, 48, 49, 143, 144, 156-158Capital sum, 99-100, 116, 129, 143,

144Capital supply, 175Capital theory, 5-9, 33-73, 87-91, 93-

113, 128-130, 158-161eclectic, 131-133

Capital und Capitalzins (B öhm -Bawerk), 84-86, 146-147

Capital value (valuation), 5, 65-69,121, 124, 127-129, 131, 132, 134,137, 138, 146, 156, 159-161, 164,176, 178-180, 183,208,271

Capital value-income value relation,103-104, 107, 108

Capital/wealth distinction, 99, 160,205-207

Capitalism, 148

Capitalization theory, 5, 7, 14, 16, 18,66, 67, 90-91, 93, 108, 136, 148,161, 179, 208, 209, 212, 218, 230-236, 240, 242, 245, 246, 248, 249,251, 256-259, 264-266, 268-270,273, 275-289durable agents pricing and, 282-285normal range of profits and, 285

"Capitalization versus Productivity:Rejoinder" (Fetter), 256-259Carey, H., 122, 126Carver, Thomas Nixon, 14, 85, 210,



392 Index

212,214,216,223,275

Cassel, Gustav, Nature and Necessity of

Interest, 2 2 2 - 2 2 5Circulating capital, 145, 148, 158

Clark, Jo hn B., 86, 90, 109, 130, 131 ,217 ,274cap i ta l concep t re formula t ion ,119-142capital theory, 5,6,8,37-46,49,50,65-66, 110, 147, 160

distribution theory, 127

income concept, 53

influences, 122-128interest theory, 14, 196, 224, 260,

270-273, 290

rent theory, 8, 14, 79

value concept, 99

works—Capital and Its Earnings, 119, 147

Distribution of Wealth, 147

Philosophy of Wealth, 119-120,

123, 126, 127"Clark's Reform ulation of the Capital

Concept" (Fetter), 119-142"Comment on Rent under Increasing

Returns" (Fetter), 22, 359-365Commodity production, 347-348Communist theory, 148, 260

Conservative savings, 164

Consumer goods prices, 2, 15

Consumer loans, 17Consumer surplus (rent), 332

Consumption, 76

income as, 8

Consumption capital, 131

Consumption concept, 69

Consumption goods, 35, 36, 42-44,4 7 , 4 8 , 5 0 , 5 1 , 5 5

Consumption loans, 17, 251

Consumption/production distinction,54

Consumption tax, 105

Consumption theory, 109

Consumptive expenditure, 117

Continuity concept, 215

Contract interest, 52-53, 198, 218,234, 235, 242, 243, 249, 275

Contract loans, 246

Contract rent, 198

Contractual income, 198

Cardoza,J . N. , 122

Corporation assets, 161

Corporation capital, 149, 156-158,161

Corporation income, 162, 163

Cost concept, 166

Cost of product ion-rent re la t ion,333-343

Cost-of-production theory, 75 ,77 ,78 ,81, 90, 91, 161, 183, 203, 246, 247,250, 333-334

Cotgrave, 144

Crusoe model, 17, 235

Cunningham, W., 275

Daniels, W.M., 217

Das Geld (Knies), 124

Davenport, 133, 275

Depreciation, 103

Dietzel, H., 87

Differential income, 2

Differential rent, 2

Discount rate, 241-243,246,247,249,

250, 292-294, 300-302Discount theory, 14-15,218, 305-308Distribution of Wealth (Clark), 147

Distribution theory, 1-3, 8, 31 , 121,

125, 127, 203, 204, 208, 267, 319Dunbar, C, 123

Durable goods, 208-209

Earned income, 103

East India Company, 144, 157

Econometrics, 11, 261

Economic classes, 369

Economic concepts in accounting,



Index 393

151, 170Economic income, 198

Economic interest, 52, 53, 55, 198,209, 232, 234, 235Economic Principles (Fetter), 1Economic rent, 198Economic satisfaction, 54Economic theory, 74-83Economics (Hadley), 49, 134Edie, L. D., 138Effective social utility, 38, 120, 127Einige strittige Fragen der Cap-

italstheorie (Böhm-Bawerk), 7,87-91

Ely, Richard T., 125, 137, 356Entrepreneuria l earnings , in teres t

and, 87Entrepreneurship, 16Evaluation, 209Exploitation theory, 87, 223

Factor maintenance, 206Factor prices and pricing, 2, 3Factor rent, 3Factors of production, 77, 82, 121,

136, 205-206, 319, 369Fairchild, F. R., 136Federal Reserve System, 295Fetter, Frank Albert

biographical data, 1business cycle theory, 19-20capital theory, 9interest theory, 9, 13-21, 230-233,275on monopoly, 1rent theory, 13works—

"Are Savings Income?—Discussion," 8, 114-118"Capital," 9, 143-150

"Capitalization versus P roductiv-ity: Rejoinder," 256-259"Clark's Reformulation of theCapital Concept," 119-142

"Comment on Rent under In-creasing Returns," 22, 359-365

Economic Principles, 1"Interest Theories, Old andNew," 14, 226-255"Interest Theory and PriceMovements," 17, 260-316"Landed Property..., Discus-sion," 356-358Masquerade of Monopoly, 1"Nature of Capital and Income,"

7"Next Decade of EconomicTheory," 74-83"Passing of the Old Rent Con-cept, 2 1 , 318-355Principles of Econom ics, 1"Recent Discussion of the CapitalConcep t," 5, 33-73"Reformulation of the Conceptsof Capital and Income...," 151-

170"Relations between R ent and In-terest," 13, 192-221"Rent," 22, 366-373" 'R oun dabo ut Process' in the In -terest Theory," 9-11, 172-191

reviews:Capital und Capitalzins (Böhm-Bawerk), 84-86Einige strittige Fragen derCapitalstheorie (Böhm-Bawerk),7, 87-91Nature and Necessity of Interest(Cassel), 222-225Nature of Capital and Income(Fisher), 93-113Positive Theorie des Capitals(Böhm-Bawerk), 92

Recent Literature on Interest(Böhm-Baw erk), 222-225Wages and Capital (Taussig),26-32



394 Index

Fisher, Irving, 86, 133, 134capital theory, 5-9, 46-49, 93-113,

134-135distribution theory, 8income concept, 53interest theory, 14, 17, 19, 92, 224,

226-230, 236-240, 246, 248, 275,290

on savings, 8works—

"Are Savings Income?" 114-118Nature of Capital and Income, 7,93-113Rate of Interest, 6, 14, 236-238

Fixed capital, 148, 158

Fructification theory, 265, 266, 269,

313Fund concept, 135-136Fund/flow dichotomy; see Stock/flow

dichotomyFurniss, E. S., 136

General rent, 204George, Henry, 123, 260

Progress and Poverty, 126, 127

rent theory, 126German economists, 123-125Giddings, F. H., 122Government loans in wartime, 308-

311

Greenback movement, 262Gross rent, 6, 9

Hadley, A. T., 133-135Economics, 49, 134

Hayek, Friedrich A., 6business cycle theory, 19

Held, Adolph, 194Herkner, H., 359

Hermann, F. B. W., 35, 124Hobson, John A., 203-204rent theory, 79

Hollander, J. H., 210, 211, 214, 361

Hum e, David, 261-264, 299

Impatience theory, 227, 236-239,249, 250

Income, 155; see also specific classifica-tionsconsumption as, 8definition, 8, 94-95, 161-164nature of, 100-106price-determined vs. price-determining, 205as service, 135services as, 101as surplus, 164

Income-capital distinction, 9, 94-97Income-capital relation, 103-104,

106-108Income-capital ratios, 106-107, 110Income categories, 102Income concept, 7, 48, 53, 110, 114-

118, 161-166

reformulation of, 161-170Income-production relation, 213Income tax, 8, 104-105Income theory, 100-106, 146Increasing returns, rent and, 359-365Individual capital, 131-133, 137,149,

156, 203Individual income, 162-163Industrial development, capital con-

cepts and, 80-81Industrial equipment, 291-292Industrial process, 27Industrial sectors, interest rate and,

88-89Inflation, 298-300

interest rate and, 19Instruments of production, 129In teres t , 129; see also specific classifica-

tionsdefinition of, 218entrepreneurial earnings and, 87

Interest bearer (source), 196-197



Index 395

Interest-capital relation, 34Interest co ncept, 5 5, 60, 78, 80, 120,

121, 132, 133, 147, 192-201Interest contract, 198, 199, 207Interest expression, 207Interest-price relation, 276, 279-285,

287-314Interest rate, 4, 5, 91, 180, 234-239,

244, 246, 247, 249, 250, 256, 259,269, 272, 276business cycle an d, 19

discount factor, 14-15industrial sectors and, 88-89market, 14monetary metals and, 262-263natural, 11, 16price level and, 19

Interest rate determination, 19Interest rate inflation, 298-300Interest rate-loan type relation, 296-

297Interest rate-price change relation,

290-314Interes t ra te-prof i t ra te re la t ion,

285-287Interest/rent distinction, 130Interest-rent relation, 13, 14, 121,

192-221"Interest Theories , Old and New"

(Fetter), 14, 226-255Interest theory, 3, 7-21, 34, 36-37,

51-53, 55, 82, 87, 90, 92, 93, 148,172-316abstinence, 223 , 238, 260, 266-268business cycle and, 261, 275capital concept in, 245-248, 267-

269capitalization, 230-236, 264-266eclectic, 17, 223 , 256, 272

exploitation, 223fructification, 265, 266, 269impatience, 22 7,236-239 ,249,250labor-cost, 223

money supply and, 261-262physical-productivity, 239-245

postwar recovery and, 311-312price movements and, 260-316productivity, 3, 15-17, 34, 37, 50,

147, 148, 160, 185-187, 223,226-230, 237, 239-249, 256-259,263-264, 269-273 , 286-287

psychological, 227, 228, 232, 235,256, 263

roundabout process and, 7, 10, 12,

89, 172-191, 223technical productivity an d, 187-188time-preference, 3, 7, 9-15, 17, 18;

see also Tim e preference use, 263value-productivity, 239-245

" In t e r e s t T he o ry a nd P r i c eMovements" (Fetter), 17, 260-316

Invention, 88Investment, 66, 133

Jevons, William Stanley, 75, 274capital theory, 35, 159Theory of Political Economy, 146

John Bates Clark Festschrift, 8Joint stock company, 144, 157Just price, 260, 276

Kleinwächter, F., 35Knies, Karl, 123-125, 134

capital theory, 35Das Geld, 124

Knight, Frank H., 6Risk, Uncertainty, and Profit, 16

Laborproductive vs. unproductive, 54"true fruits," 42-43

Labor theory of value, 8, 10, 41, 43,

48, 57-65, 69, 77, 78, 81, 82, 90,126, 128, 129, 146-148, 158, 160,176, 178-180, 268, 269, 271

Labor units, 82



396 Index

Landas capital, 57-62

labor value, 126Land and Its Rent (Walker), 126

Land as fixed stock, 322-323Land/capital d istinction, 7-10, 2 1 , 63,

1 3 6 , 159, 201-204, 211-212, 216,2 5 0 , 320-322, 325, 357-358

Land-capital relation, 132Land capitalization, 16, 90, 246 , 265-

2 6 6 , 268-269Land concept, 6-8,120 ,122,129 ,131,

2 1 4 , 319-324, 350, 356-358, 369Land extension, 325-330, 350Land improvement, 202-203Land investment, 127Land rent, 14, 22, 79, 193-195, 198-

1 9 9 , 260-261, 269, 319-320, 360,369-370

Land value, 128, 178-179"Landed Property..." (Ely), 356-358

"Landed Proper ty . . . , Discuss ion"(Fetter), 356-358Laughlin,J. L., 123Law of diminishing returns, 211Law of rent, 81Legal factor, 153Lexis, W., 87-89Loan marke t s in te r re la t ionsh ips ,

297-298Loan type- in te res t ra te re la t ion ,

296-297Long-run normal profit, 3

Macfarlane, C. W., 204, 215-216rent theory, 79

Machlup, Fritz, 6MacLeod, H. D., 35Macvane, 85, 123Malthus, Thomas, 195, 368Marginal principle, 127Marginal product, 3 3 3 , 335,343,360,

3 6 1 , 369

Marginal productivity, 2-5, 11, 274M arginal utility, 2, 13, 76, 183, 208

Marshall, Alfred, 85, 130, 214, 215,2 2 3 , 365capital theo ry, 9, 95 , 129, 131-133,1 5 9 , 160income theory, 95, 100interest theory, 17, 133, 272, 290P r i n c i p l e s o f E c o n o m i c s , 2 1 , 1 3 1 , 3 1 8

rent theory, 21-22, 79, 195, 318-3 5 2 , 366, 370

Marx, Karl, 45, 85, 86, 124capital theory, 35, 146

Masquerade of Monopoly (Fetter), 1

Medieval economy, 80-81, 154-155,1 9 7 , 199, 366

Menger, Carl, 147capital theory, 35

Mill, John Stuart, 79, 85, 122, 123,311capital theory, 62, 145, 158

land concept, 358Principles of Political Economy, 145

rent theory, 82, 370Mises, Ludwig von, 19Mixter, C. W., 85Monetary metal, 262-263Money, 199Money capital, 147, 155Money concept, 66Money cost, 348-349Money incom e, 8, 102, 105, 106, 115,

162Money measurement, 134Money supply, 19-20

interest theory and, 261-262Money wages, 28, 30, 31Monopoly, 1, 81, 215-216Motives, 76

Napoleonic W ars, 309National Monetary Commission, 295Natural agents, 47, 64, 69, 177, 194-



Index 397

195; see also Land entriesNature and Necessity of Interest (Cassel),

222-225Nature of Capital and Income (Fisher), 7 ,

93-113Neoclassical school, 2Net rent, 6, 9Net worth, 165Newcomb, Simon, 49, 108, 131, 134"Next Decade of Economic Theory"

(Fetter), 74-83

No-cost-of-production theory, 195,203-204No-cost rent concept, 343-351, 360-

361Nominal capital, 148Normal rate of profits, 285North, Dudley, 367Note issuance, 295

Objective services, 102

"Passing of the Old Rent Concept"(Fetter), 21, 318-355

Patten, S. N., 109, 122Perry, A. L., 122Philippovich, Eugen von, 87Phillips, C. A., 122Philosophy of Wealth (Clark), 119-120,

123 ,126 ,127

Physical measurement, 47, 134Physical productivity, 106, 239-245Physical return, 106Physiocrats, 367Populist movement, 262Positive Theory of Capital (Böhm-

Bawerk), 34, 36, 84, 86, 92, 172,187

Present-future goods dis t inc t ion,

38-39, 184-185Price-bank credit relation, 294-296Price changes

of industrial equipment, 291-292

interest rate relation, 290-314long-time, 290-291

short-time, 292-294Price inflation, 298-300Price-interest relation, 276, 279-285,

287-314Price level

interest rates and, 19rediscount policy and, 304-305

Price movem ents, interest theory and,260-316

Principles of Economics (Fet ter) , 1Principles of Economics (Marshall), 21,

318Principles of Political Economy (Mill),

145Principles of Political Economy (Ricar-

do), 145Private (acquisitive) capital, 35 ,40 ,4 7 ,

49-57, 69Produced agents, 69Producer's surplus (rent), 332Production/acquisition distinction,

133Production capital, 146Production concept, 69Production/consumption distinction,

54Production costs, 21-22Production loans, 17, 251

Production period, 88-90, 176-183Productive goods, 55Productivity theory, 3, 15-17, 50, 87,

89-90, 129, 147, 148, 160, 173,185-188, 223, 226-230, 237, 239-249, 256-259, 263, 269-273, 286-287

Profit, 162, 163, 165capitalization theory and, 285-286

long-run normal, 16normal (natural) rate of, 18short-run, 16

Prof i t ra te- interes t ra te re la t ion,



398 Index

285-287Progress and Poverty (George), 126,

127Property, 133in capital concept, 124

Property concept, 68Property tax, 105Psychic incom e, 8, 94, 101 , 102, 115-

117,233Psychic states, 56Psychological school, 146, 159Psychological theory, 109-110, 117,

227, 228, 232, 235, 256, 263-264,274

Pure capital, 47, 120, 121, 127, 128,147, 270

Quasi-capitalist, 40, 41Quasi-rent , 21,79,195,204,344-350,

352

Ra e , Jo hn ,85 , 86 , 222Rate of Interest (Fisher), 6,1 4, 236-238Raymond, D., 122Real cost, 348-349Real wages, 27, 28 , 30, 31 , 42Realized income, 103Recapitalization, 18"Recent Discussion of the Capital

Concept" (Fetter), 5, 33-73Recent Literature on Interest ( B ö h m-

Bawerk), 222-225Recession, 19, 20Rediscount policy, 295

of Bank of England, 304-305"Reformulation of the Concepts of

Capital and Income.. ." (Fetter),151-170

"Relations between Rent and In-

terest" (Fetter), 13, 192-221"Rent" (F etter), 22, 366-373Rent, 129

definition of, 2-3, 207, 217, 366

increasing returns and, 359-365relation-to-cost concept, 214

time factor, 330-332, 351Rent as surplus, 332-333Rent bearer (source), 196-197, 206Rent concept, 78-82, 120, 121, 128,

192-201,343-351,360-361Rent contract, 197-199, 207, 371Rent-cos t of product ion re la t ion,

333-343Rent expression, 207

Rent/interest distinction, 130, 330-332Rent-interest relation, 13, 14, 121,

192-221Rent measurement, 77Rent theory, 2-3, 8, 13, 21-22, 79,

187-188, 318-373Revenues, 165Ricardian capital theory, 145, 146,

159, 160Ricardian rent theory, 21, 82, 126,

192, 195, 198-199, 202, 360-361,368-370

Ricardian tradition, 122-123Ricardo, David, 80, 122, 210, 268

interest theory, 290land concept, 357, 358Principles of Political Economy, 145

Risk, Uncertainty, and Profit (Knight),16Rodbertus, Carl, 62, 124Roscher, W., 53Roundabout process, 39, 62, 88-91,

147, 257capital increase and, 177-180in interest theory, 7, 10, 12, 89,172-191, 223

productivity and, 7, 173-177valuation and, 184-185"'Ro un dab ou t Process' in the In terest

Theory" (Fetter), 9-11, 172-191



Index 399

Satisfactions, 53-55Savings concept, 8, 40-41, 114-118,

164Scarcity factor, 81-82Seager, Henry R., 15

capital theory, 130, 245, 246interest theory, 226-229, 236, 237,239-245, 247

Seligman, E.R.A, 137Senior, Nassau, 260, 266-267, 274Services, 48 , 54, 95, 98 , 100-102, 136Single tax doctrin e, 7 9, 123 , 126-128Situation rent, 329Slavery, 2, 17Smith, Adam, 122, 267, 268

capital theory, 34, 35, 144, 158income theory, 194rent theory, 367-368Wealth of Nations, 144

Social (productive) capital, 35, 36,39-40,47,49-57,69, 131,132, 139,

203Social classes, rent-interest relationand, 194, 199-201

Socialistic exploitation theory ofinterest, 87-88

Stock concept, 96-97, 143-146, 158Stock/flow dichotomy, 7, 9, 46, 94-

100, 108-111, 134-136Subjective income, 101-102, 105

Subjective value theory, 159Subsistence concept, 146, 147Subsistence fund, 29Sumner, W. G., 123, 126Supply-utility relation, 76Synchronous production, 6

Taussig, Frank W., 365capital theory, 8-9, 129Wages and Capital, 5, 26-32

Taxation, 104-105, 114, 204Taylor, Fred M., 137, 214-216, 365Technology, 187-188, 239, 247

Theory of Political Economy (Jevons),146

"Third ground," 10-12Thornton, H., interest theory, 290Thrift, 17Time factor, 269-271, 273 , 330-332,

351Time market, 18Tim e prefere nce, 3-18, 164, 237-239,

2 5 0 , 2 5 1 , 2 5 6 , 2 5 9 , 2 7 3 , 2 7 8Time-price markets, 287-289Time-valuation theory, 87 , 234, 235,

273-289barter and, 278-279in monetary price regime withoutloans, 279-280time-shifts of goods and, 280-282

Torrens, R., 368Total income, 29Total wages, 26-27Toynbee, A., 275

Trading companies, 156-157True (pure) capital, 38, 44-45, 160True realized income, 105Tucker, W.J., 122Turgot, 17, 34, 264-266Turner, J. R., 137,275

Unearned increment, 40, 114Use-bearer, 51-52

Use theory, 263Usury, 154, 260Utility principle, 75Utility-supply relation, 76Utility value theory, 75, 76, 78

Value analysis, 215Value (valuation) concept, 99, 115-

117, 121, 124, 127-130, 132, 134,

136-138, 156, 159-161, 164, 176roundaboutness and, 184-185Value measurement, 47-48Value-productivity theory, 15, 106,



400 Index

107, 239-245Value return, 106, 107

Value summation, 99Value theory, 53, 55, 75-76, 81, 90,91,93,159,160,201,209,233,257,2 58 , 268 , 270 ; see also T i m e -valuation theory

Veblen, Thorstein, 124, 133-134,275 ,283

Vethake, H., 122

Wage fund, 5, 26-32, 98Wage rates, 5Wage theory, 5, 26-32Wages and Capital (Taussig), 5, 26-32Wagner, Adolf, 124Walker, Amasa, 122, 123W alker, Francis A., 85, 123,126,274

Land and Its Rent, 126

Walras, Leon, 35Wants, 76, 208

Wartime, 20-21,308-311

Wayland, F., 122Wealth, 95, 96, 100-101, 131, 134,

135, 139, 155Wealth-capital relation, 46, 48, 160,205-206, 207

Wealth classification, 201Wealth concept, 67, 100, 133Wealth income, 200Wealth o f N ations (Smith), 144

Wealth/property distinction, 100Wealth/services distinction, 95Webb, Sydney, 122Weber, Adolph, 359West, Sir Edward, 368Wicksell, Knut, 20, 305-308Wieser, F. von, 22 3, 260, 272Wilson, M., 122Wolfe, A. B., 360, 363, 365World War I, 309

Yale economists, 133-136

capital, interest, and rent essays in the theory of distribution

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