[OPE-L] Re: Historical Costs

John R. Ernst (ernst@PIPELINE.COM)
Sat, 24 Jan 1998 15:43:21 -0500 (EST)

Hi Michael:

Good to hear from you.

Here's my response to your query.

John wrote:

> One of the difficulties in following the discussion
> between Andrew and Fred is my lack of understanding
> of Marx's notion of "moral depreciation." If we
> define the total depreciation between any two periods
> as the difference in the present values of the fixed
> capital, I do think we can gain greater clarity.
> Further, while this allows us to look at the rate of
> profit, it will also enable us to consider what the
> capitalists of today use to measure profitability --
> the rate of return.
> _____________________

Michael then commented:

John's explanation is somewhat different than what I read in Marx,
although it might come to the same thing. For Marx, I understand moral
depreciation to be the difference between the historical cost and the
reproduction cost of an equivalent unit of capital.

Present value can change for a number of reasons other than technology.

John responds:

Yes. I'd be the first to admit it is different. Why? First,
"moral depreciation" aside, how are we to treat depreciation
itself? That is, if we assume that the technical lifetime of
fixed capital is equal to its economic lifetime, how can we
measure the amount of depreciation that takes place, say, over
a year? As we know, accountants furnish a variety of methods
for reckoning depreciation. Which one is "right"? And, more
important, how would you decide? Why not look at what the
new machine originally costs and look at its cost after 1 year
of production? But how can we determine this latter cost?
Clearly, if there is a market for 1 year old machines, we
would simply note the price of the used machine and subtract
that from the original cost. Let's assume that that situation
exists. On what is that price based? (Note that this is
the ideal method for the BEA as they compute depreciation.)

Clearly, capitalists buying the used machine feel that they
can garner returns equal to or greater than those purchasing
new machines. How can they make the comparison? They would
look at the expected rate of return on the new machine and
the rate on the used machine. In other words, they are forced
to compare the present values of each Thus, in the ideal case
when there is a market for used machines, we have not only a
simple way to determine depreciation but also a method we can
use when there is no market for used machines.

Since we have assumed no moral depreciation and hence no
technical change, we have only determined the actual depreciation
and assumed moral depreciation to be 0. But, for Marx, moral
depreciation is estimated by the capitalist and included in his
overall depreciation charge. As he invests in the new machine,
he estimates not only the lifetime of the machine but also the
annual payments he will receive (depreciation and profit) for
the economic lifetime of the machine. The profitability of the
new machine will be greater should he be able to assume that there
is no moral depreciation. But given that such an assumption would
be unrealistic, he's forced to estimate the profitability of the
machine with the idea that more profitable techniques will be
introduced during the lifetime of his machine. Given that
all goes as expected, his reckoning will be the same for the
used machine. Here, then, the difference in the original cost
of the machine and the cost of a 1 year old machine would
include moral depreciation.

What is interesting here is that using economic depreciation
rather that accounting depreciation allows us to make use of
Marx's concept of moral depreciation. The measure of profitability
is based upon the historical cost of the machine whether it is
purchased new or used. Further, we can readily see, as Marx
pointed out, that capitalists may hesitate to invest because
of excessive amounts of moral depreciation.

Are there other factors that can effect the present value of new
and used machines? Surely, you're right. But in attempting to
use economic depreciation to understand Marx, I am not yet at
a level of abstraction where their roles are significant. Rather
I am merely attempting to figure overall depreciation costs
prior to an examination of the accumulation process. My suspicion
is that many of those other factors may well be created by
the process of accumulation itself -- for example, changes in
the interest rate.

Take care,