Paul Surlis's Blog

PROFIT

The main stream media normally refers to profit incorrectly as “earnings”. “Earnings per share” is a standard way to track the performance of a corporation.

This approach, however, perpetuates an inaccurate understanding of profit as a mere mark-up and obfuscates the source of profit. It begs the question of who really earns the profit.

There are two ways to make a profit. Though they differ, both siphon profit from the same source.

 First, one can make a profit simply by “buying cheap and selling dear,” as Adam Smith pointed out. If you can sell something for a higher price than you paid for it, irrespective of where it was produced, you make a profit. This profit is usually referred to as commercial profit.

The second form of profit, capitalist profit, results from a labor process. Labor power and other inputs are purchased, production takes place and the output is sold for more money than was paid for the inputs. The excess of the selling price over the purchasing price of the inputs is the source of profit. Part of the excess is reinvested in further inputs and a second production process takes place and so on.

The excess of the selling price over the purchasing price is the secret of profit. If there were no excess the process would break down as the entrepreneur would eventually run out of funds while his competitors would forge ahead.

The crucial point to understand about this process is that the entrepreneur claims the profit because he owns the inputs. However, he did not generate the profit. It was generated in the labor process. Still, as owner of the inputs he is entitled, under law, to claim the profit.

The fact that profit is generated in the labor process is evident when one reflects on where economic power is currently moving. The economies of China, India and other Asian nations are given great attention because they are where manufacturing and other production is taking place on an increasing scale. Corporations move their production overseas because a higher rate of profit can be generated overseas due to lower input costs.

What does the stock market contribute to all this? It can raise some money for a corporation to purchase additional inputs in what’s called an Initial Public Offering or IPO. This, however, is a small part of corporate finance. The bulk of corporate finance is reinvested profit and other instruments, such as corporate bonds which, in turn, depend on profit.

The profit reported for Goldman Sachs and other “banks” in the second quarter was not generated in the stock market. It was generated in the labor process round the world but claimed by such “banks” when some of the profit was used to buy stock or other instruments currently prevalent in financial markets.

It is argued that the stock market allocates capital (money) efficiently and that this is its role. Can anyone seriously say that the stock market “allocated capital efficiently” in the years leading up to the economic a collapse of 2008?  Rather, capital is allocated efficiently and will flow to where the highest rate of profit is realized. The feedback mechanism by which this is done is called price.

This entry was posted on August 5, 2009 at 5:09 pm and is filed under Uncategorized. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.