‘Cost Of Production’ And The Theory Of The Rate Of Profit

Adam Smith set economists an examination question: what determines long-run normal prices (he called them ‘natural prices’) and the associated rate of profit. In neoclassical theory, equilibrium prices of produced commodities are equal to their costs of production. But to avoid being trapped in a circular argument this requires that no commodity is used in its own production. The definition of commodities in intertemporal general equilibrium theory ensures that this is the case, since commodities at different times are defined as different commodities and production takes time. A simple intertemporal general equilibrium model is used to demonstrate that the consequent characterisation of equilibrium eliminates the possibility of answering Smith’s question – it is not possible to determine the rate of profit and associated normal prices. The definition of equilibrium has been changed and a different question answered. Given the well-known failings of attempts to determine the rate of profit by the marginal product of ‘capital’, the lack of a theory of profit in Debreu’s Theory of Value, the locus classicus of neoclassical theory, leads to the conclusion that there is no neoclassical theory of the rate of profit.