Consumption and value added

When we speak of consumption, what is it that we think of as being consumed? Alfred Marshall reminded us of the laws of conservation of matter/energy and the consequent impossibility of consuming the material building blocks of commodities:

Man cannot create material things - his efforts and sacrifices result in changing the form or arrangement of matter to adapt it better for the satisfaction of his wants - as his production of material products is really nothing more than a rearrangement of matter which gives it new utilities, so his consumption of them is nothing more than a disarrangement of matter which destroys its utilities. (Marshall, 1961, pp. 63-64.)

What we destroy or consume in consumption according to this view is the improbable arrangements of those building blocks, arrangements that give utility for humans, arrangements that were made by humans for human purposes. This utility added to matter/ energy by human action is not production in the sense of creation of matter/energy, which is just as impossible as its destruction by consumption. Useful structure is added to matter/energy (natural resource flows) by the agency of labor and capital stocks. The value of this useful structure imparted by labor and capital is what economists call "value added." This value added is all that is "consumed," i.e., used up in consumption. New value needs to be added again by the agency of labor and capital before it can be consumed again. That to which value is being added is the flow of natural resources, conceived ultimately as the indestructible building blocks of nature. The value consumed by humans is, in this view, no greater than the value added by humans, which in turn is equal to the sum of all value added. In this standard economist's vision we consume only that value which we added in the first place. And then we add it again, and consume it again, etc. This vision is formalized in the famous diagram of the isolated circular flow of value between firms (production) and households (consumption) found in the initial pages of every economics textbook.

With all this focus on value added one would think that there would be some discussion of that to which value is being added. But modern economists say no more about it than Marshall. It is just "matter," and its properties are not very interesting to economists. In fact they are becoming ever less interesting to economists as science uncovers their basic uniformity. As Barnett and Morse (1963) put it:

Advances in fundamental science have made it possible to take advantage of the uniformity of matter/energy - a uniformity that makes it feasible, without preassignable limit, to escape the quantitative constraints imposed by the character of the earth's crust.

In such a view, that to which value is being added are merely homogeneous, indestructible building blocks - atoms in the original sense - of which there is no conceivable scarcity. That to which value is added is therefore inert, undifferentiated, interchangeable, and superabundant - very dull stuff indeed, compared to the value-adding agents of labor with all its human capacities and capital that embodies the marvels of human knowledge. It is not surprising that value added is the centerpiece of economic accounting, and that the presumably passive stuff to which value is added has received minimal attention. (Daly and Cobb, 1994, Chap. 10)

Three examples will show how little attention is given to that to which value is added, which for brevity I will refer to as "resources." Some Philistines ("noneconomists" as they are now called) have questioned whether there are enough resources in the world for everyone to use them at the rate Americans do. This ignorant fear is put to rest by Professor Lester Thurow (1980, p. 118), who points out that the question assumes that the "rest of the world is going to achieve the consumption standards of the average American without at the same time achieving the productivity standards of the average American. This of course is algebraically impossible. The world can consume only what it can produce."

In this comforting view, you can only disarrange matter (consume) if you have previously arranged it (produced). Resources are totally passive recipients of form added by labor and capital. Value added is everything, and it is impossible to subtract value that was never added. So if you are consuming something you must have produced it, either recently or in the past. More and more high-consuming people just means more and more value was added. Where else could the arrangements of matter have come from? It is "algebraically impossible" for consumption to exceed value added - at least in the economist's tight little abstract world of the circular flow of exchange value.

A second example comes from Professor William Nordhaus (1991), who said that global warming would have only a small effect on the U.S. economy because basically only agriculture is sensitive to climate, and agriculture is only three per cent of total value added, of GNP. In this perspective, it is solely the value added to seeds, soil, sunlight, and rainfall by labor and capital that keeps us alive. Older economists might have asked about what happens to marginal utility, price, and the percentage of GNP going to food when food becomes very scarce, say, due to a drought? What about the inelasticity of demand for necessities? Could not the three percent of GNP accounted for by agriculture easily rise to ninety per cent during a famine? But these currently unfashionable considerations give mere stuff a more than passive role in value, and diminish the dogmatic monopoly of value added by human agents of labor and capital.

The importance of mere stuff is frequently downplayed by pointing out that the entire extractive sector accounts for a mere five or six per cent of GNP. But if in reality the ninety-five per cent of value added is not independent of the five per cent in the extractive sector, but rather depends upon it - is based on it - then the impression of relative unimportance is false. The image this conjures in my mind is that of an inverted pyramid balanced on its point. The five or six per cent of the volume of the pyramid near the point on which it is resting represents the GNP from the extractive sector. The rest of the pyramid is value added to extracted resources. That five per cent is the base on which the other ninety-five per cent rests: that to which its value is added. Value cannot be added to nothing. Adding value is more like multiplication than addition - we multiply the value of stuff by labor and capital. But multiplying by zero always gives zero.

Indeed, since the value of the extracted resources themselves (the five or six per cent of GNP) represents mostly value added in extraction and processing, practically the entire pyramid of value added is resting on a tiny point of near zero dimension representing the in situ value of the resources (user cost). This image of a growing and tottering pyramid makes me want to stop thinking exclusively about value added and think some more about that to which value is being added. What, exactly, is holding up this pyramid of value added?

A third example comes from the theory of production and the customary use of a multiplicative form for the production function, the most popular being the Cobb-Douglas. Frequently production is treated as a function of capital and labor alone - resources are omitted entirely. But now economists have taken to including resources. However, the welcome step toward realism thus taken is very small, because, although resources are now admitted to be necessary for production, the amount of resources needed for any given level of output can become arbitrarily small, approaching zero, as long as capital or labor are substituted in sufficient quantities. Georgescu-Roegen referred to this "paper and pencil exercise" as Solow's and Stiglitz's "conjuring trick."*

*N. Georgescu-Roegen deserves to be quoted at length on this point because so few people have understood it. He writes the "Solow-Stiglitz variant" of the Cobb-Douglas function as:

Q=K^a1R^a2L^a3

(1)

"where Q is output, K is the stock of capital, R is the flow of natural resources used in production, L is the labor supply, and a₁ + a₂ + a₃ = 1 and of course, a_i > 0.

From this formula it follows that with a constant labor power, Lo, one could obtain any Q0!!!, if the flow of natural resources satisfies the condition

(2)

This shows that R may be as small as we wish, provided K is sufficiently large. Ergo, we can obtain a constant annual product indefinitely even from a very small stock of resources R > 0, if we decompose R into an infinite series

, with Ri ®0. use Ri in year i, and increase the stock of capital each year as required by (2). But this ergo is not valid in actuality. In actuality, the increase of capital implies an additional depletion of resources. And if K ® inf, the R will rapidly be exhausted by the production of capital. Solow and Stiglitz could not have come out with their conjuring trick had they borne in mind, first, that any material process consists in the transformation of some materials into others (the flow elements) by some agents (the fund elements), and second, that natural resources are the very sap of the economic process. They are not just like any other production factor. A change in capital or labor can only diminish the amount of waste in the production of a commodity: no agent can create the material on which it works. Nor can capital create the stuff out of which it is made. In some cases it may also be that the same service can be provided by a design that requires less matter or energy. But even in this direction there exists a limit, unless we believe that the ultimate fate of the economic process is an earthly Garden of Eden.

"The question that confronts us today is whether we are going to discover new sources of energy that can be safely used. No elasticities of some Cobb-Douglas function can help us to answer it."

(N. Georgescu-Roegen, "Comments ..." in V. Kerry Smith, ea., Scarcity and Growth Reconsidered, Baltimore: Resources for the Future and Johns Hopkins University Press, 1979, p. 98.)