Wages Fund Theory

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Wages Fund Theory’.
This theory is associated with the name of J.S. Mill. “Wages.” wrote Mill, ‘depend upon the demand and supply of about, or, as it is often expressed, on the proportion between population and capital. By population is here meant the number only of the laboring classes or rather of those who work for hire, and by capital, only Circulating capital and not even the whole of that but the part which is expanded on the direct purchase of labor.” Mill asserted: “Wages not only depend upon the relative amount of capital and population, but cannot, under the rule of-competition, be affected by anything else.” According to this theory, therefore, wages depended upon two quantities, viz., (I) the wage fund or the circulating capital set aside for the purchase of labor and (ii) the number of laborers seeking employment. Hence. the level of wages can be ascertained by means of a simple arithmetical operation : by dividing the wages fund by the number of workers. In -other words, wages vary directly as the quantity of capital and inversely as the number of workers. Wages, thus, cannot rise unless either the wage fund increases or the number of workers decreases. But since the theory takes the wage fund as fixed wages could rise only by a reduction in the number of workers. It would appear, therefore, that according to this theory, the efforts of trade unions to raise wages are futile. If they succeeded in raising wages in one trade, it can only be at the expense of another, since the wage fund is fixed and the trade unions have no control over population. According to this theory therefore, trade unions cannot raise wages for the labor class as a whole.
Criticism. In contrast to the subsistence theory which represented a rigid view and attempted to provide deterministic long-term or static theory. the wages fund theory tried to explain movement of wages in a changing world.’ Instead of a single equilibrium to which wages must inevitably return. determined by ‘cost of production of labor,’ the wages fund theory provided a varying ‘natural Tate: determined by varying ratio of capital to population. The theory has been widely criticized and stands rejected now. Mill himself recanted it in the second edition of his “Principles of Political Mill thought that wages were paid out of circulating capital alone. Whether the source of wages is capital or the present products, has been the subject of a keen controversy in the past. The fact is that in some cases, where the process of production is short (e.g., final stages of the productive process. wages are paid out of the present production. On the other hand, when a process of production is long, the laborer obviously docs not obtain wages rom the product of his labor either directly or through exchange. In such cases, wages mainly come out of capital. Mill argued that wages were paid out of a certain fixed proportion of capital set aside for this purpose. This also is not true. There is no fixed wages fund in this sense. The fund, if we can at all call it so. is elastic. Its volume changes according to the prospects of profits. The productivity of lab our at a given time is an important factor in determining these prospects. Further. the theory is a mere truism. It does not tell us about the sources of the wages fund and the method by which it is estimated. It simply tells us what is self-evident. namely, that the wage can be ascertained by dividing the wages fund by the number of workers.

Again, the theory assumes a degree of antagonism between labor and capital that does not actually  exist. According to this theory, wages can increase only at the expense of profits. But this is not necessarily so. In times of business prosperity, both wages and profits can go up.
It is also wrong to assume that the forcing up of the wages will drive capital abroad. Capital is not so sensitive, not are the profits so inelastic. The theory fails to show why wages cannot be increased at the expense of rent and profit. We cannot accept its ‘corollary that the trade unions are powerless to increase wages and that any measures which hindered the accumulation of capital, e.g .• heavy taxation. were bound to lower wages by reducing the wages fund. The theory is too unsympathetic to labor when it says that “the only hope of improvement for the workers lay in limiting the size of  heir own families and helping to increase the prosperity of their masters” (Dobb).
It is difficult to subscribe to the implication of the theory, viz., that if any section of labor wrested a higher wage. it will be at the expense of other workers who must receive less or face unemployment. It also looks absurd that low wages paid to a certain section of workers would benefit  it left larger wages fund available for them. The theory ignores the principle of Economy of High-Wages. We know that a rise in wages would improve lab our efficiency and increase the demand for Limitations of the Marginal Productivity Theory. We have already studied in detail the various limitations and criticisms of the Marginal Productivity Theory as a general principle of distribution. J With reference to its application to wages, we may repeat that the theory is true only under certain assumptions such as perfect competition perfect mobility of labour from employment to employment, homogeneous character of all labour, constant rates of interest and rent and given prices of the product.

It is a static theory. The actual world is dynamic. All the factors assumed to be constant arein fact constantly changing. Competition is never perfect; mobility of labour is restricted for various reasons; all labour is not of the same grade; remuneration to other factors of production doesn’t remain constant; and the prices of the products of labour vary. All these changes modify the theory when applied to actual conditions. The theory, however, as an assertion of a tendency, is true and is valuable in understanding the basic forces that determine wage rates.In the real world, owing to the absence of the above assumptions, there is no single late of wages that may be applicable to all labour of a particular type. Wages differ from place to place, from person to person and from employment to employment. TIle following further points of criticism may now be noted:

Firstly, the theory has little applicability to reality. Labour is not perfectly mobile. Workers of the same skill and efficiency may not receive the same wages at two different places. Secondly, though the condition of a large number of independent buyers of labour is fulfilled for a few industries of all countries and for  t industries of some countries, the employers usually combine to the disadvantage of the worker. It is a case of monopsony, i.e., one buyer and many sellers. The employers succeed in pulling down the wages below the value of tile marginal net product of labour. If employees are also collectively organised, the wage rates 1113) or may not be equal to the values of marginal net product of labour in the occupations or industries concerned. The wages arc determined by the relative bargaining strength of the two parties, but cannot exceed the value of the marginal net product of labour. Thirdly the market for goods is in general characterised by imperfect competition, this also unsettles the theory. Fourthly, the productivity of workers is also dependent on factors such as the quality of capital and efficient management. These factors are outside the control of workers. Fifthly, it should be borne in mind that the marginal net product of labour depends not merely on the supply of labour but also on the supply of all other factors of production. If other factors are plentiful and labour relatively scarce, the marginal net product of labour will be high, and vice-versa. . Finally, productivity is alsq a function of wages. Low productivity may be the cause of low wages, which may tell on the efficiency of the worker, lower his standard of living and ultimately check the supply of labour. The theory takes the supply of labour for granted.

Conclusion. In short, the marginal productivity theory ignores the effect of wage changes on the supply of labour, bargaining strength and monopoly conditions, etc. Rejecting the marginal productivity theory, Marshall said: “This doctrine has been put forward as a theory of wages. But there is no valid ground for any such pretension … Demand and supply exert equally important influences on wages; neither has a claim to predominance; any more than has either blade of a scissors, or either pier of an arch  (but) the doctrine throws into clear light one of the causes that governs wages.

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