How to make things

Where to start? Here, there, or how to get from here to there?

The natural place to start is of course here, because we can observe it. Unfortunately, merely observing is not understanding. Someone once said that, “All science would be superfluous if the outward appearance and the essence of things directly coincided”.

So to understandย we need to analyse, which means breakingย reality into smaller, more intelligible bits, and then combining those bits back together. We hope to split and combine in the right sortย of way so that we recreate our observations (or something close). Only then might we feel justified in claiming some understanding.

But this processย is far from easy, especially asย economic systems are very complex, and consist of lots of different kinds of things (people, material stuff, markets, institutions, property laws, contracts, money etc.) interacting in lots of different ways.

So we will need to be patient. Weย need to break down and simplify, before we can build up and start talking about the phenomena we really care about.

The first bit of economic reality we’ll examineย isย the production of commodities.

Most commodities are made by people combining their skills and expertise to transform material inputs into material outputs. For example, to produce 1 acreย of corn typically requires at least some of the following: fertile land, seed corn, fertiliser, lime, herbicides, fuel, tractors, insurance and hired labour. Allย these inputs combines in definite proportions.

corntechnology
Figure 1. How do you make 1 acre of corn? You need certain material inputs in definite proportions.

 

Theย precise proportions may change over space and time, for a variety of reasons. But at any given time and place we find a specificย technology ofย corn production.

The number of inputs used-up to produce any commodity is typically very large (even Figure 1 is an immense simplification). Butย without loss of generality let’sย simplify and, for the moment, say that producing 1 unit of corn requires some corn (in the form of seed), some iron (which represents hard tools) and labour.

 

 

 

simplecorntechnology
Figure 2. A simplified technology graph: to produce 1 unit of corn as output uses-up 0.5 hours of labour, 0.32 unitsย of corn, and 0.02 units of iron.

Let’s also say that to produce 1 unitย of iron requires 0.1 iron and 0.2 hours of labour.

simpleirontechnology
Figure 3. Aย technology thatย produces iron.

We can also use the language of inputs and outputs to describe how labour is “produced”. Workers consume aย collection of goods and services called the real wage, which normally includes such things as food, clothing, housing and so forth. This consumption “produces”, or rather reproduces, their living being and their ability to supply labour services to the economy. To keep things really simple, we’ll assume that the workers only consume corn (in the form of bread).

simpleworkertechnology
Figure 4. A technology that “produces” labour services. Workers consume 0.01 units of corn to “produce” 1 hour of labour services.

We can combine the corn, iron and worker technologies to form a single composite technology:

 

simpleeconomytechnology
Figure 5. A compositeย technology graph, where labour produces iron and corn, and consumes corn.

This composite technology, although simple, captures an essential feature of real economies: commodities are produced using other commodities. Making things involves aย circular flowย of materials, where those materials get repeatedly transformed and reproduced. (Many materials, sadly, do not get reproduced, but are simply extracted without replacement or maintenance, such as natural resources).

In theory, we can observe theย composite technology that includes all the goods and services produced by a real national economy. We’d need to measure what goes in and what goes out of all the “factory gates” over a period of time, say a month or a year. That’s a tall order. Nonetheless, economists compile such data, although they aggregate firms into distinct industrial sectors. For example, you can download the input-output table for the USA economy from 1997-2014 from the US Bureau of Labor Statistics.

We’ve definedย a technology, which describesย how things can be made from specific proportions of inputs. But so far this is a mere static specification. In a subsequent post, we’ll look at the nextย chunk of economic reality, which isย how a production process dynamically transforms inputs into outputs according to a technology.

 

1 Comment

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s