Marginal Productivity Theory

Marginal productivity theory of wages is an important theory of wages. This theory was first of all propounded by Thunnen. Later on, economists like Wicksteed, Walras, J.B Clark etc. modified the theory. The marginal productivity theory states that labour is paid according to his contribution in production. A producer hires the services of labour because he possesses the ability to contribute in production. If worker contributes more to production he is paid more wages and if he contributes less, w ages also will be low.

“Marginal productivity of labour refers to change in total revenue by putting one more labourer, keeping all the other factors constant.” Dooley “As a result of competition between employees for labour and between workers for employment, a wage-rate is determined that is equal to the marginal productivity of the labour-force, the employers as a whole are willing to employ.” Prof. S.E. Thomas “The marginal productivity theory contends that in equilibrium each labourer will be rewarded in accordance with its marginal productivity”.

Assumptions:

The marginal productivity theory of wages is based on certain assumptions as stated below:

1. All labourers are equally efficient.
2. Constant technology
3. Perfect competition prevails both in factor and product markets.
4. There is full employment in the economy.
5. Law of diminishing marginal returns apply on the marginal productivity of labour.
6. Labour is perfectly mobile.

Explanation of the Theory:

Under the conditions of perfect competition, wages are determined by the value of marginal product of labour. Marginal product of labour in any industry refers to the amount by which output increases when one more labour is employed. Value of marginal product of labour is the price which the marginal product can fetch in the market. Under the conditions of perfect competition, an employer will go on employing more labourers but, due to the operation of the law of diminishing returns, the marginal product of labour will diminish until a point comes when the value of the increase in the product will be equal to the wages paid to that labourer.

Why Marginal Productivity Theory is Most Satisfactory:

Here we may compare the Marginal Productivity Theory with the earlier classical theories. The Marginal Productivity theory is an improvement over the earlier theories in the following ways:

(i) This theory is not as rigid as the subsistence level theory and other classical theories.

(ii) It takes into consideration the demand for labour by the employers and the supply of labour, although in an indirect form.

(iii) It shows why there are differences in wage rate. Wages according to this theory vary because of marginal productivity differences of different workers.

(iv) It gives importance to the productivity of labour.

Criticism:

The marginal productivity theory of wages also suffers from certain defects as:

1. Unrealistic Assumptions:

The foremost defect of the theory is that it is based on unrealistic assumptions like perfect competition, homogeneous character of labour etc. All these assumptions do not prevail in the real world.

2. Incomplete:

Again, this theory fails to take into account that labour is also a function of wages. Less productivity may be the effect of low wages which adversely affects the efficiency of labour and in turn reduces the labour productivity. Thus, the theory is incomplete in all respects.

3. Static Theory:

Lord J.M Keynes criticized the theory as it is based on static conditions. It is only true when there occurs no changes in the economy. But in real practice it cannot be so. Change is the law of nature, though it may come gradually.

4. One Sided:

The marginal productivity theory is one sided. It takes into consideration only the demand side and ignores the supply side.

5. Fails to determine Wages:

This theory only guides the employer to employ workers up to the level where their marginal productivity equals price. But, it does not tell how the wages are determined.

6. Long Period:

The theory concerns itself with the long run. It explains that wages will be equal to MRP and ARP in the long run but, the long run like tomorrow never comes. In other words, it does not deal with the short-run.