Last update: 8th September, 2018

Lecture 3
Objectives of lecture
 The lecture seeks to explain price and output in product markets from a
HETERODOX perspective.
 It seeks to show that price is fundamentally determined by the conditions of
supply and output by the conditions of demand.
 The analysis also aims to show there is no tendency towards equilibrium in
product markets for Heterodox economists.

Contents of lecture
 Most Heterodox economists also explain price and quantity in product markets in
terms of demand and supply, but their explanation of the nature of product
market demand, and especially supply, curves is different from that of
Neoclassicals.
 For Heterodox economists, there is no such thing as perfectly competitive product
markets, at least not in the sense of Neoclassical economists (with producers
maximising profits by allegedly selecting levels of output which equate marginal
cost with marginal revenue). For Heterodox economists product markets are
characterised by competitive market structures. The characteristics of such
product market structures are; a few dominant firms, firms set money prices, firms
operate with excess capacity, firms are allowed to enter and exit the sector freely,
and the average firm earn an economy average rate of profit allowing for risk and
difficulty in production.
o Some sectors can be classified as monopolistic or oligopolistic meaning
that there are certain barriers to entry allowing firms in these industries to
obtain above economy average rates of profit.
 Firms (in competitive sectors) set prices on the basis of average unit costs plus a
mark-up (given by the industry average). The average unit costs are calculated on
the basis of average operating capacity. Most firms typically operate with excess
capacity – at around 75%-80% of full capacity. It is argued that unit average costs
fall (or are perceived to fall) as output expands, due to the nature of fixed and
variable costs. Unit money labour costs are assumed to fall while unit material
costs are assumed to be either constant or fall.
 Unit money labour costs are assumed to fall due to continuous increases in
labour productivity. For a given or even rising money wage rate, unit labour
costs can be assumed to fall as labour productivity rises - especially since workers
will not be allowed to bargain for salary increases which exceed the increase in
the physical product they produce. For non-Marxist Heterodox economists unit
labour costs are assumed to be constant largely because wages are fixed at the
beginning of production for the entire production period (say one year) and labour
productivity is assumed not to fall with increases in labour employment due to the
existence of excess capacity.
 Unit material costs are assumed to be constant ( or possibly fall) due to the fact
that an increase in the quantity of outputs produced requires a corresponding
 increase in the physical inputs used. For non-Marxist Heterodox economists the
unit material costs comprise unit fixed costs (i.e., the costs of inputs that do not
vary with a change in the quantity of output) and unit variable costs (i.e. the costs
of inputs that vary with the quantity of output), with the unit fixed costs being
assumed to fall as capacity utilisation rises while the unit variable costs are
constant – hence total unit material costs being argued to fall as output rises.
However, it should be noted that what is also assumed is a certain level of excess
capacity – hence casting doubt on the logic of falling unit fixed costs.
 With costs falling and prices constant, the profit margin can be expected to rise
as output rises.
 That is to say, the firm’s product supply curve is flat such that demand has no
bearing on prices.
 Demand only has a bearing on the level of output. It is only in exceptional
circumstances (when output reaches the full capacity level and the economy as a
whole is in a economic boom) that demand has a bearing on prices.
 One of the implications of Heterodox product market analyses is that there is no
tendency for product market equilibrium. This is because the firm can always
make a larger profit by expanding production (given the existence of downward
sloping demand curves). Full capacity will never be reached because, as soon as
capacity utilisation exceeds a certain level, the firm will invest to expand capacity.
The incentive and finance for investment comes from the expanded profits.
 The value of money is given by the productivity of labour, prime costs that affect
all products (such as prices of raw materials), and, aggregate excess demand. If,
for example, productivity rises, there will be downward pressure on money prices
of commodities and, therefore, upward pressure on the value of money. If the
money prices of raw materials rise/fall there will be an upward/downward
pressure on unit money costs and, therefore, a corresponding upward/downward
pressure on the average money price level and a corresponding downward/upward
pressure on the value of money. If the government runs a large budget deficit or if
private credit is allowed to expand massively (in excess of the growth of nominal
GDP) then there will be upward pressure on the aggregate money price level and
downward pressure on the value of money.
o Note, upward pressure on the value of money means that a given unit of
money can buy more commodities (average money prices are lower), and
downward pressure on the value of money means that a given unit of money
can buy less commodities (average money prices are higher).