Yesterday, I had a diary, Four ways to set price. It got through the auction market of economic theory, and the seller-announced prices of most retail sales. It was running quite long before I got to wages. And that is a complex subject in and of itself.
It is so complex, that I'm going to assume that there is no union in the discussion after the jump. Unions add another whole complexity.
First, going back to the economic theory. An auction market would pay each worker something like the value he added to the product. If he added less, the employer would let him go or negotiate lower wages. If he added more, some other employer would bid for his work. (So, actually, the worker would be paid what he would add to the product of the employer to whom he'd add the next highest amount to the product.)
All that theory assumes, among other contra-factuals, perfect information. Both employer and employee should know how much value the employee adds to the product, other possible employers should know how much the employee could add to their product, and the employee should know the identy of the other possible employers.
In practical fact, what employers have is:
- Some knowlege of the wage prevailing in their area for like work,
and
- Minimum standards for perfomance of the task.
If you perform the task better than the minimum, they'll pay you the prevailing wage. If not, they'll let you go. (Whether or not they'll hire you in the first place is based on a guess of whether you'll perform well, but that's basically a guess.)
There is usually, but far from always, a longevity bonus (seniority raises) for employees who stay around. They, after all, have already performed above the minimum. And part of the compensation of the employee is his expectation of the longevity bonus.
If the employer pays the average employee more than the average employee adds to the value of the product, he makes a loss. So, we can safely assume that he pays somewhat less. How much less?
Nobody knows.
In the first place, when you medieval shoemaker assigned an apprentice to make a shoe, then the value that the apprentice added could be fairly-easily calculated. (It wasn't, but it could have been.) When a modern shoe factory has a worker operating the machine wich glues tops onto soles, who could calculate the additional value of the slightly-nearer completion shoe?
The entire contribution of labor is not all that much easier to calculate. Capital also makes a contribution, and economist consider that capital earns the "normal rate of return." But accountants compute capital to include not only plant and equipment, but "good will," that is to say the excess of the companies earnings over what can be attributed to tangible plant and equipment. So, capital only earns the normal rate of return on plant, equipment, inventory, and the extra ability of the company to earn over the normal rate of return on plant, equipment and inventory. All the rest goes to wages and raw materials. But -- as an examination of the previous sentences would confirm -- if the company picked up the raw materials on the street and the labor was provided free by elves, the rate of return on all capital -- including good will -- would still be at the expected level.