Interest and Profit

John Smithin

York University

Purpose of the paper

This paper argues that it important to distinguish between the real rate of interest on money and the profitability of business enterprise.

The former is a monetary phenomenon (as claimed by Keynes) and the latter is in the nature of a surplus over and above the costs of production, including financing costs.

There must therefore be an inverse relationship between the real rate of interest and the average mark-up or profit share.

A synthetic theory of profit is presented to illustrate these points.

What is the relationship between interest and profit?

neoclassical theory seems confused on this issue due to ontological uncertainty about both concepts

there is no real theory of profit (as such) in neoclassical theory; we must therefore turn to (e.g.) the older Marxian theory and to the (still older) classical theory; then develop a new (synthetic) theory that avoids some of the problems found with the earlier theories

the synthetic theory has significant “Keynes/Kalecki” elements

Surplus value

(1) y = s + c + v

(2) s’ = s/v

(3) p = s/(c + v)

Equalization of profit rates?

Rima (1996)

“(e)conomy-wide equalization is brought about by inter-industry capital movements. If the rate of profit is above average in ... (some) ... industries ... capital will tend to be attracted from industries... where the rate of profit is lower than average, until the average is ... (the same) ... for all.”

But, how can this happen in reality? Only “money” can actually flow freely.

An alternative theory of profit

(5) ye = s + (1 + i)c + (1 + i)v

(6) ye = (1 + s’ + k’)(1 + i)v

s’ = s/[v(1+i) - analog to Marxian “rate of surplus value”

k’ = c/v - related to Marxian ‘organic composition of capital”

k = k’ + s’ - “gross” profit share (but net of interest charge)

In standard economic notation:

(7) P+1Y = (1 + k)(1 + i)WN

(8) Y = AN

take logs:

(9) lnP+1 = k + i + lnW - lnA

Reduce to simple “adding up” theory

(10) lnP+1 - lnP = k + i + lnW - lnP - lnA

(11) k = lnA + [i - (lnP+1 - lnP)] - (lnW - lnP)

(12) k = a - r - w

Fig 1: Distribution of income between wages, interest and profit

Figure 2: Decreasing returns to labor inputs

Figure 3: Increasing returns to labor inputs