Profit-sharing versus interest-taking in the Kaldor–Pasinetti theory of income and profit distribution

Abstract

This paper reformulates the Kaldor–Pasinetti model of income and profit distribution by introducing the interest rate from the very outset of the model but maintaining other Kaldor–Pasinetti assumptions intact. It is shown that the profit rate and the share of profits in national income are not independent from either the capitalists' or workers' propensity to save. Many contributors to the theory of income and profit distribution have erred in attributing a potentially positive impact of the interest rate upon profits. The interest rate is always and everywhere a tax on functional and personal incomes together. This result explains Schumpeter's observation that ‘Interest acts as a tax upon profit.’ In an alternative model, workers receive a share of profits instead of fixed contractual interest. It is shown that the profit rate and share are not independent from either propensity to save. Furthermore, the workers' share of profits has a positive impact on the rate and share of profits. This implies that a profit sharing regime could be more conducive to capital accumulation and job creation. It is found that Pasinetti's Cambridge Equation is more akin to a profit sharing regime.

Acknowledgments

I am grateful to King Fahd University of Petroleum & Minerals for funding this Project, No. FIN/PROFIT/189. I also thank Luigi L. Pasinetti and several anonymous referees for useful comments on the proposal of the project. The usual disclaimer applies.

Notes

¹Among the early extensions and refinements of Kaldor's model are Tobin (1960), Chiang (1973) and Moore (1974). Baranzini (1991) reviews a long list of authors who abandoned the assumption of long-run equality between the interest rate and the profit rate. Further extensions of the growth and distribution theory relax the full-employment assumption, e.g. Dutt (1992), Dutt & Amadeo (1993) and Lavoie (1995). In this paper we maintain both assumptions.

²Pasinetti (1962) introduces the interest rate only about halfway into his discussion of the model; we shall see that this modification has significant implications.

³We will not be concerned with evaluating the soundness of the so-called anti-Pasinetti theorem of Samuelson & Modigliani (1966).

⁴The complete derivation of the model is available upon request from the author.

⁵Balestra & Baranzini (1971) are among the very few economists who come close to recognizing interest income as a deduction from total profits. Unfortunately, that insight is lost when, later in the paper, they simply assume that the interest rate is a fraction of the profit rate.

⁶Moore (1974) shows the irrelevance of the long-run equality of the two rates of return. Assuming that workers receive a lower rate of return than capitalists, so that capitalists earn a higher rate of return than the profit rate for the economy as a whole: P _c  = λP, where λ > 1. The share of profits received by capitalists will then exceed by the same proportion (λ) their share of total capital and saving:

Since S = λS _c P, we have:

This confirms Pasinetti's result about the irrelevance of S_w . It brings the additional result that the higher capitalists' rate of return (λ) relative to the workers', given g and S_c , the lower are the profit rate and the share of profits in income. Our model is more general than Moore's, as we establish the negative impact of a higher capitalist share of profits on the overall profit rate without imposing the condition of a higher rate of return to capitalists as a starting assumption.

⁷Balestra & Baranzini (1971, p. 242) present an interesting discussion as to why the assumption of long run equality of the interest and profit rates must be relaxed. They argue that this assumption is the reason behind why Pasinetti's result and its dual of Samuelson and Modigliani are not realistic. On the latter, they argue that if a higher workers' propensity to save will cause ‘the workers’ capital to grow indefinitely, the workers' paradise should not be far away' (Balestra & Baranzini, 1971, p. 241).

⁸Actually, if we examine the profit-saving ratios in both systems, we see that W is another contractual variable that causes fluctuations in savings and leads to an indeterminate workers' profit rate. But since W is common to both systems, the interest-based system has one more volatile variable – the interest rate. Moreover, one can assume, and experience confirms, that the wage rate is less volatile than the interest rate. Hence, the interest-based system is prone to be less conducive to investment and growth.