The Monetary Circuit & Compatibility of Marx, Kalecki and Keynesian Macro

There appears to be a considerable degree of compatibility between Marx and various Kalecki- and Keynes-influenced approaches to macroeconomics. Compatibility, of course, does not imply that all these theoretical approaches stand or fall together. It simply suggests, to the extent that the compatibility exists, that it is possible to see them all as fitting within an overarching, open analytical framework. In this post, the compatibility is considered in relation to the private-sector monetary circuit of a capitalist economy.

The compatibility flows partly from the following three similarities in analytical approach:

  • Marx’s approach is arguably macro-founded. Rather than his macro being built upon micro-foundations, it is his micro that is subject to macro constraints and built upon macro-foundations. His micro analysis still plays a prominent role, but is consistent with certain realities operating at the aggregate level. A notable example is his argument that total surplus value, once created in production, is unaffected in magnitude by its distribution into various component parts. Kalecki- and Keynes-influenced approaches can also be considered macro-founded.
  • Marx analyzes a monetary production economy. This is true, also, of Kalecki and Keynes and their followers.
  • Marx’s analysis of the private monetary circuit of capital, as explored further by circuit theorists, is highly consistent with private-sector causation in Kalecki and Keynes and readily amenable to endogenous money (theorized in Post Keynesian Economics, or PKE) within a state money system (analyzed in Modern Monetary Theory, or MMT).

The Private Monetary Circuit

Marx, in volume 2 of Capital, characterized the private monetary circuit as:

At the beginning of the process, capitalists advance a sum of money (M) (where ‘money’ can be taken to be in the form of cash and commercial bank deposits) to purchase means of production and labor power, both of which are available for sale as commodities (C). For Marx, money used specifically for the purposes of acquiring means of production and labor power is ‘capital’. Capital, in this view, first exists as a sum of money that is transformed into commodities to be used in production (P) to produce new commodities for sale (C’). Provided the amount of socially necessary labor performed in the sphere of production exceeds the value of labor power, there is surplus value which, if realized, results in capitalists receiving a monetary amount (M’) that is in excess of the initial advance of money capital (i.e. M’ > M).

The source of the money initially advanced could be created through private lending. Or it could be drawn from past savings. But if it is past savings, we know from MMT and PKE that these savings must be the result of previous money creation, whether through government spending or commercial bank lending. This entry point seems highly amenable to the integration of Marx with Kalecki- and Keynes-influenced macroeconomics.

Initiating the Monetary Circuit

The MMT and Post Keynesian analyses of state money and endogenous money, respectively, shed light on the initiating action that creates M, to be used as ‘money capital’ in the initial phase of the private monetary circuit.

In today’s state money systems, commercial bank deposits are promises to make available at par ‘government money’ (defined as cash plus reserves) either on demand or after some duration of time. The account holder may access the government money personally, in the form of cash, or require the bank, acting on his or her behalf, to possess sufficient reserves to ensure the final settlement of transactions.

If, in the past, government has spent more into the economy than it has withdrawn in taxes, there is an accumulation of net financial assets, which in aggregate amount to the sum of cash, reserve balances and outstanding government bonds.

Commercial banks can obtain reserves from the central bank in exchange for government bonds, and can obtain cash in exchange for reserves. If the banking system as a whole is short of reserves, the central bank stands ready to act as lender of last resort, on terms of its choosing.

The ultimate source of M, in other words, is government spending or lending, since this is what ensures commercial bank access to cash and reserves.

But the immediate source of M – the initiating phase of the private monetary circuit – is commercial bank lending.

The germination process begins something like the following:

1. Firms attempt to identify potentially profitable lines of production.

2. The production can be financed out of prior savings (e.g. retained earnings or new share issues) or by borrowing from a bank.

Prior savings, however, are the result of previous government spending or bank lending, so they don’t really explain M. Here, it will be assumed that the firm intends to take out a bank loan.

3. Firms apply for bank loans.

4. Banks evaluate the risks and rewards of prospective loans.

5. Banks lend in the cases deemed profitable by simultaneously creating a loan (the bank’s asset and firm’s liability) and a deposit (the bank’s liability and firm’s asset).

The newly created deposit does not constitute saving. Saving is the part of income not spent, and at this point no spending has occurred, and so no income has been created.

6. Firms draw down their deposits to purchase means of production and labor power (represented by C in Marx’s characterization of the monetary circuit). The spending goes to other firms and workers, simultaneously creating income and saving of an amount equal to the spending.

7. Banks that find themselves short of reserves either borrow from surplus banks or obtain the necessary funds from the central bank by exchanging government bonds for reserves or incurring an overdraft on their reserve accounts.

The rest of the circuit can now play itself out in the way envisaged by Marx. Living labor and material inputs are combined in production (P) to produce commodities (C’) of greater value than those that went into their production with the hope of selling the output for a greater monetary sum (M’) than was initially advanced.

Some Macro Correspondences Between Marx and Kalecki

The whole purpose of the monetary circuit, when viewed from the perspective of capitalists, is to profit from the exercise. In Marx’s terms, this requires both the creation of surplus value in production and its realization in exchange. The main difference between Marxists and non-Marxists is that non-Marxists have in mind only money and physical quantities, whereas Marx and Marxists consider not only these but also monetary value as an equivalent for an amount of socially necessary labor time. So, while in non-Marxist economics there is a physical surplus (in Kalecki’s simplest two-sector model, it consists of investment goods and capitalist consumption goods), and a corresponding monetary surplus, there is no presumption that the monetary amount of total profit is connected to surplus labor (in fact, usually at least a tacit rejection of the idea).

But it seems clear that Marx’s theory of value provides a possible explanation of the real basis of profit. We only have to consider some of Kalecki’s macro ratios to get a sense of this compatibility.

Assume, for simplicity, a closed economy without fixed capital in which the government’s fiscal balance is always zero and all labor is performed in the private sector and ‘productive’ in Marx’s sense. These assumptions enable us to abstract from the distinction between ‘productive’ and ‘unproductive’ labor. (A brief note on how to account for this distinction can be found in the final section of an earlier post.) Assume also for simplicity that productivity is constant. This removes the need to date the various value and monetary magnitudes with time subscripts. Relaxing these assumptions would slightly complicate, but not alter, the basic macro correspondences about to be highlighted.

One aggregate measure considered by Kalecki is the markup:

This is easy to translate into Marx’s terms. Under our simplifying assumptions, nominal income is equal to net value added (variable capital plus surplus value) measured in monetary terms ($v + $s). The money wage bill is the monetary outlay on variable capital $v. Therefore:

In words, Kalecki’s measure for the aggregate markup is one plus the ‘rate of surplus value’ (also called the ‘rate of exploitation’).

A broader measure of the markup, which Kalecki called the ‘degree of monopoly’, takes account of the cost of raw materials:

In Marx’s terms, proceeds are total price. Materials cost is constant capital excluding depreciation. So, in the absence of fixed capital:

Kalecki’s degree of monopoly is therefore equivalent to one plus the rate of profit. The correspondence is somewhat modified once fixed capital is included because of different treatments of depreciation. (Kalecki includes it in surplus value, Marx in constant capital.)

Despite Kalecki’s eschewal of value theory, there is no reason, in principle, that the markup and degree of monopoly cannot be explained through Marx’s value analysis. For instance, Kalecki argues that the degree of monopoly reflects various institutional factors. These factors include the concentration of industry, the development of marketing and advertising strategies, the strength of trade unions and the ratio of overheads to prime cost (also known as variable cost). These institutional factors can just as easily be regarded as influencing the rate of surplus value (s/v) and the organic composition of capital (c/v). This becomes clear by decomposing Marx’s definition of the rate of profit as follows:

Since the degree of monopoly is one plus the rate of profit, we have:

As the above expression makes clear, Kalecki’s institutional influences on the degree of monopoly could be argued to work through their effects on the rate of surplus value and the organic composition of capital.

Lastly, consider Kalecki’s aggregate distributive relation, in which the wage share in income ω depends on the degree of monopoly k and the ratio of materials cost to money wages j:

It has already been observed that k, the degree of monopoly, is equal to one plus the rate of profit. The ratio j, materials cost divided by money wages, is the monetary equivalent of the organic composition of capital. Noting that the share of money wages in nominal income is the monetary equivalent of the share of variable capital in net value added, Kalecki’s distributive identity can be expressed in Marx’s notation as:

or, after cancellations:

To summarize Kalecki’s insights in Marx’s terms:

  • The aggregate markup depends on the rate of surplus value (s/v), sometimes expressed as the ratio of surplus labor to necessary labor.
  • The degree of monopoly depends on the rate of profit, which in turn reflects the ratios of surplus to necessary labor (s/v) and dead to living labor (c/v).
  • The distribution of value between workers and capitalists depends on the rate of profit (or degree of monopoly) and the organic composition of capital (or ratio of materials cost to money wages).

In short, the markup, degree of monopoly and distribution can all be analyzed in terms of Marx’s two key value ratios – the rate of surplus value and organic composition of capital.


12 thoughts on “The Monetary Circuit & Compatibility of Marx, Kalecki and Keynesian Macro

  1. Pete

    Great post, as usual! One question: how does Kalecki derive his equations? To wit

    Markup = Nominal_Income/Money_Wage_Bill

    Degree_of_Monopoly = Proceeds/(Money_Wage_Bill+Materials_Cost)


    omega = 1/(1+(k-1)*(j+1))

  2. Hi Magpie. Kalecki is starting from accounting identities. In particular, in the simplest model:

    Income = Wages + Gross Profit
    Income = Consumption + Gross Investment
    Proceeds = Prime Cost + Wages + Gross Profit

    His measures for the markup and degree of monopoly are really just definitions that he finds useful.

    Kalecki’s reason for defining the degree of monopoly seems to stem from his treatment of pricing. He assumes that a firm will set its price as a markup over unit prime cost. So, for the individual firm, he starts with:

    p = mu + np*

    where p is the firm’s price, u is unit prime cost and p* is the average price of all firms. The coefficients m and n are positive constants. Kalecki argues that n must be less than 1.

    The idea is that a firm’s markup over unit prime cost is moderated by competition from other firms (the np* term). If a firm has more market power, n will be larger and enable a bigger markup.

    For the economy as a whole: p = p*; m and u would be averages, m* and u*; and n would be zero. [Ed. No, this is incorrect. n is not zero, and the rest of this paragraph and the next two equations are incorrect. See later comments.] Kalecki, to my knowledge, doesn’t explicitly state this last observation [nor should he have … Ed.], but it is clear that in aggregate n = 0 because there is no way to mark up the economy-wide average price above itself. So, for the economy as a whole:

    p* = m*u*


    m* = p*/u*

    [Comment okay again from here – Ed.] The ratio of the average price p* to average unit prime cost u* is equal to the degree of monopoly for the economy as a whole. Multiplying average price by the index of total real output gives ‘proceeds’ and multiplying the average unit prime cost by the index of total real output gives ‘total prime cost’.

    Proceeds are defined as the sum of materials cost M, wages W and profit P. Prime cost is defined as wages plus materials cost. The degree of monopoly is defined as the ratio of these two sums:

    Degree of Monopoly = (M + W + P) / (M + W)

    The narrower markup is simple enough to derive, although I can’t find it in the materials of Kalecki that I have to hand. Start with:

    Y = W + P

    Multiply and divide the right-hand side by W:

    Y = W[(W + P)/W]

    and note that W + P = Y:

    Y = W.(Y/W) = Wages x Narrow Markup

    This is just saying that income can be thought of as a mark up over wage costs. (We could have just gone Y = W(Y/W), but the above “checks” that W, and also P, are part of Y by reference to the identity Y = W + P.)

    Kalecki arrives at the distributive relation by rearranging his definition of the degree of monopoly (i.e. proceeds divided by prime cost) to get an expression for profit. Then he plugs the expression for profit into the ratio of wages to income.

    k = (M + W + P) / (M + W) = 1 – P / (M + W)


    k – 1 = P / (M + W)


    P = (k – 1) (M + W)

    The wage share in income is:

    ω = W / Y = W / (W + P)

    Substituting the expression for P:

    ω = W / Y = W / (W + (k – 1)(M + W))


    ω = 1 / (1 + (k – 1)(j + 1))

    where j = M / W.

  3. Incidentally, Magpie, (or maybe it is not incidental but the point you were actually getting at), Kalecki was clearly most influenced by Marx and Luxemburg. The distributive relation, in particular, is very much Marx, who often discussed the distributive effect of a change in raw materials prices. The prominent role for ‘proceeds” and not just ‘income’ in Kalecki’s analysis also mirrors Marx’s prominent role for ‘total price’ and not just net value added.

  4. Pete,

    Thanks for the reply. Everything is clear and up to the point.

    I, however, am having a little difficulty with the passage from the firm’s price equation:

    (1) p = m.u + n.p*

    To the price equation for the economy as a whole:

    p* = m*.u*

    Particularly with the definition of m* and u*.

    Suppose the economy has two firms producing (i) identical blue widgets, (ii) in the same quantity. Firm 1 is Lil’ Rock Widgets Co. and its price equation is (1).

    Firm 2 is Big Apple’s Widgets P/L and its price equation is:

    (2) P = M.U + N.p*

    The markup term in both equations is the second term on the RHS (n.p* and N.p*).

    Because of assumptions (i) and (ii), p* the average price, is

    (3) p* = (p + P)/2 = (m.u + M.U)/(2 – n – N)

    As you say, there is no second term because there is no way to mark up the economy-wide average price above itself..

    But it’s not clear to me how one defines m* or u* in (3).

    Note that even if we assume (iii) both firms are identical (therefore m = M, u = U, and n = N) we still have:

    p* = m.u/(1 – n).

  5. Actually, Magpie, I’ve botched things up there completely! Sheesh. Going well lately … Sorry about that. Thanks for checking.

    It was wrong (so wrong!) of me to say n = 0 in aggregate. For starters, m and n are defined as *positive*. As Kalecki puts it, “… both m and n are positive …” 🙂

    And although it is true that all firms in aggregate can’t mark up above the average price of themselves, that is not what n* > 0 means. The relation between p and p* for each firm obviously depends on both terms, mu and np*. (Well, I say “obviously”, but apparently it was not obvious to me.) If m* is not too large, then n* > 0 will not violate the dictum that firms can’t outdo all of themselves …

    So … (takes deep breath) … let’s try again, this time not winging it (even if unknowingly) but sticking religiously to the set text.

    We shall now consider the general case where the coefficients m and n differ from firm to firm. It appears that by a procedure similar to that applied in the special case the formula p* = [m*/(1 – n*)] u* is reached. m and n are weighted averages of the coefficients m and n.1

    That “1” at the end is a footnote, to follow shortly. I think you have already worked this out, judging from your comment, but the formula in the quoted passage comes from solving p* = m*u* + n*p* for p*.

    The footnote:

    1 m* is the average of m weighted by total prime costs of each firm; n* is the average of n weighted by respective outputs.

    All of which means … the equation for the economy as a whole is not the rather outlandish p* = m*u* that I incorrectly sent out into the world, but the more responsible looking p* = [m*/(1 – n*)] u*, where the average economy-wide degree of monopoly is p*/u* = m*/(1 – n*).

    Honestly, this week … — offline also — has been one howler after another. I did manage to whip up a kick-ass coffee though. I am sipping it now. Delicious.

  6. Thanks, Pete, and no worries.

    Just don’t get me started about howlers. I managed to hit my fingers with a hammer, as people often do when nailing something to the wall.

    The difference is that I wasn’t holding a nail. I had only my fingers in place.

    That was a howler – literally! -, an obscenity laden one. 🙂

  7. “Living labor and material inputs are combined in production (P) **to produce a greater quantity of commodities (C’)**”

    Peter, can you elaborate on that, please? What is the ‘unit of measurement’ of “quantity” whereby the ‘commodity output(s) represent a “greater **quantity** of commodities” than the commodity inputs (“living labor and material inputs”)?

    As best as I can ‘think this through’, Marx’s C’ is/are simply qualitatively different than C.

    Unless C and C’ are ‘denominated’ in ‘necessary labor time’ or ‘value’, as it were. In that case, the unit of measurement would be a unit of time.

    I don’t know enough physics to be able to claim that C and C may also represent ‘energy’ and thus the unit would be a unit of energy.


  8. Yes, good comment. Thanks, Stavros. I have corrected the text accordingly. C’ needs to be of higher value than C, not necessarily a greater quantity of use values.

    Incidentally, it is possible to consider quantities of use values, though this is not relevant to the monetary circuit. Quantities of use values would be measured using a price index, similar to how ‘real’ GDP is estimated by deflating the nominal figure by the GDP price deflator. In other words, the ‘real’ measure that results from this procedure is still monetary. It is just that the monetary measure is adjusted to take account of the estimated movement in prices.

    But, in the monetary circuit, C and C’ would be expressed in real value terms as amounts of socially necessary labor time.

    I don’t have much familiarity with the energy theory of value. I think it could well have applications for some purposes. My own view is that labor time is the more relevant unit when specifically trying to understand behavior under capitalist social relations. But this is contestable, no doubt.

  9. Just a further comment on expressing C and C’ in terms of labor time.

    This is done by making use of the ‘monetary expression of labor time’ (MELT).

    When M is used to purchase commodities C, we can calculate the value of C in labor-time terms by dividing M by the MELT.

    Once production is complete, the value of C’, expressed as an amount of labor time, can be multiplied by the MELT to calculate the amount M’ that will be received if all value is realized in exchange.

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