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Saturday, November 29, 2008

The Free Market Labor Arbitrage Process

For some reason, people have a mental block regarding the Labor Theory of Value. I've received more hate mail for that post than any other. I should have called it "The Free Market Labor Arbitrage Process". Viewed this way, it's a free market concept and not a communist concept.

In a free market, labor is usually the largest cost of manufacturing something.

If labor is underpaid (relative to its fair value), then workers will form competing businesses, arbitraging away the difference.

If labor is overpaid (relative to its fair value), then new workers will enter the industry, again arbitraging away the difference.

Capital is entitled to its fair return. The fair return is the free market interest rate plus a risk premium.

In the present, State restrictions of the market prevent this arbitrage from occurring. Either there are State restrictions preventing people from starting new businesses, or there are State licensing requirements preventing people from entering an industry. For example, I can't say "Lawyers are overpaid! I'll go work as a lawyer!" I can't work as a lawyer unless I have a State lawyer license. I can't easily start my own company, because raising capital is hard due to the Federal Reserve credit monopoly.

Here's a sample calculation. Suppose a worker produces 1 unit per hour, using equipment provided by his employer. The unit sells for 3 ounces of silver. The worker is paid 2 ounces of silver per hour. The employer makes a profit of 1 ounce of silver per hour. Assume 2000 hours worked per year. This is a profit of 2000 ounces of silver per year for the employer. The fair free market interest rate is 2% per year. What is the value of the employer's equipment?

The value of the equipment is 50x the profit. In other words, the equipment is worth 100,000 ounces of silver. If it was worth less than that, it would pay for the worker to raise capital (paying 2%) and start his own business. If it was worth more than that, then the employer should sell his equipment and invest the proceeds elsewhere (earning 2%).

In the present, this arbitrage does not occur, due to State restrictions of the market. The Fed Funds Rate is an artificially negative rate. Only insiders may borrow at a preferred rate. A small business owner must suffer the burden of regulation compliance. A small business owner must pay taxes, and the proceeds of those taxes subsidize his large corporate competitors.

This is the way I understand the Labor Theory of Value, although this isn't the common definition. I should call this by a different name, "The Free Market Labor Arbitrage Process".

You'll never have absolutely perfect competition. Skilled workers will always earn more than unskilled workers. Skilled workers will enter fields with the greatest disparity between price and cost.

The problem is State distortion of the market. In a free market, the trend is for interest rates and return on capital to converge. If returns on capital exceed interest rates, then workers will borrow and start new businesses. In the present, the power of the Federal Reserve credit monopoly and State restrictions of the market is greater than the power of workers to arbitrage away the difference.

You can't cite historic examples of free markets. There aren't any.

You can add the cost of raw materials to the above calculation. I'll leave it to you as an exercise.

It isn't clear how big the gap has to be before workers profitably exploit it. I don't know whether the "edge" required to start a business in a free market is 1%, 2%, or 5%. Right now, the "edge" for starting an agorist business is over 50%, which is the direct savings you get when you avoid taxes. If you include the benefit of avoiding restrictive regulations, then the edge is even higher.

You should reduce the edge by the risk of a State raid. If you're careful, the reward exceeds the risk. The cost of State restrictions is *SO HIGH* that the edge is huge. Suppose I have a legal on-the-books business with profits of $50k. The State demands I keep records and do proper accounting. This is a cost of $2500-$5000, or I must do it myself. Even if my accountant makes a mistake, I am still personally liable for his error. The cost of compliance with accounting regulations costs me a further 5%-10%. If have an agorist business, I don't need compliance with accounting rules; I can merely track my unit profit and approximate units sold.

For example, suppose an agorist risks a 5% chance of 2 years in jail, but makes a profit of 50%. In this case, over 20 years, you'll get caught once. In the remaining 18 years, your productivity is doubled. Therefore, your agorist activity was profitable. If you include the possibility of insuring your risk or dodging conviction via a sui juris "jury nullifcation" defense, then the risk is even more favorable. The State attempts to disrupt this equation with ridiculously high penalties for tax evasion.

In the present, the Federal Reserve keeps interest rates artificially low. This guarantees that capital and tangible assets will always outperform cash/bond investments.

In a free market, the trend is for interest rates and return on capital to converge. If the disparity is too great, then workers will borrow and start new businesses. In a free market, the trends is for workers' salaries to be proportional to the true economic value of their work. If it were different, then workers would enter/leave that industry or start/close businesses. In the present, this arbitrage does not occur, due to the huge State distortion of the credit market and market in general.

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