Binary economics is a theory of economic growth that places emphasis upon the distribution of capital, rather than the quantity of capital or the productivity of labor. Its roots are found in the late 1950s, in the work of Louis Kelso, originator of the Employee Stock Option Plan. Regarded as a paradigm shift by its proponents, binary economics maintains that capital is productive independent of the labor input, and that most economic growth occurs as a result of capital accumulation, exclusive of increases in the knowledge or skills of humans. As binary economists Robert Ashford and Rodney Shakespeare explain,

[Binary analysis] says that while humans undoubtedly make contribution to the growth, the capital assets such as machines and technological processes are making an even bigger, ever-increasing, contribution…. So, from a binary perspective, growth is primarily a function of increasing capital productiveness rather than increasing labor productivity. (Ashford and Shakespeare 1999, p. 7)

Those who rely exclusively on their labor input as a means to earn income are therefore consigned to increasing poverty, since labor productivity is shrinking in importance relative to capital productivity.

Interestingly, binary economists assert that growth is best promoted by spending on consumer goods, and that investment in capital by existing capital owners "sterilizes" the production of that additional capital. If the typically wealthy capital owners have a lower marginal propensity to consume (as the binary economists argue) than the laboring poor, then distributing capital more evenly would produce greater spending and therefore growth.

Binary growth is a distribution-based growth that is presently impeded by the prevailing pattern of concentrated capital acquisition. Thus the binary paradigm reveals a potent distributive relationship between capital ownership and economic growth, a growth which is not comprehended by conventional economics and which is suppressed by conventional economic practices and institutions. (Ashford and Shakespeare 1999, p. xi)

Binary economists may be few but they are prolific writers (Kelso and Adler 1958, 1961; Kelso and Hetter 1967; Kelso and Kelso 1986; Ashford 1990, 1996; Gauche 1998; Ashford and Shakespeare 1999; Kurland 2001), and have at least two active "think-tanks" devoted to promoting their work.[1] Though binary economists are not highly influential among orthodox economists, they do have a following (particularly among legal scholars, and other non-economists interested in economics). Recently binary economists have attempted to establish links between binary economics and the social justice, environmentalist, and corporate social responsibility movements. It is in these areas that binary economists have enjoyed most of their recent success. Some economists have taken an interest,[2] but few criticisms of binary economics have appeared (there is a significant "sympathetic" criticism in Roth [1996], discussed below). However, given the persistence of the theory, and its resurgence under the umbrella of "socio-economics," it deserves enough attention to expose its shortcomings.

This paper examines the basic assertions of binary economics, and suggests that the proposed paradigm shift is plagued with theoretical difficulties. In the second section, the binary concept of independent capital productivity is discussed. The third section covers the binary view of savings and consumption, and the implications of Say's Law for binary economics. The fourth section evaluates the binary economists' plan for capital distribution. The fifth section contends that binary economics is fundamentally incompatible with a free market economic system, despite binary economists' declarations to the contrary. The sixth section concludes the paper with an assessment of the claims of binary economists as to the potency of their new paradigm.

The Independence of Capital Productivity

Binary economics relies heavily on the idea that capital is "independently productive." The productivity of labor is viewed as being independent of the availability of capital. Additional capital, therefore, is entirely responsible for the increase in output that results from it. Thus, binary economists argue that additional capital does not increase the productivity of labor but "displaces" it. Ashford writes,

assume that in a pre-tool age, a person could dig a hole in four hours by hand. After the invention of a shovel, she can dig the same hole in one hour…. In binary terms, the productiveness has changed from 100% labor … to 25% labor and 75% capital … the worker contributes only one-fourth as much input, so her labor productiveness … has been reduced to only one-fourth of its former value. (Ashford 1996, p. 10)

Because binary economists fail to recognize that labor productivity has increased with additional capital, and insist that gains in productivity have accrued solely to capital owners, they argue that the only way for laborers to reliably and consistently increase their income is to acquire capital as owners. If wages are related to the value of the marginal product of labor, merely to use another's capital as an employee would not increase income.

As the production of goods and services changes from labor intensive to capital intensive, it is clear that the way in which every household participates in production and earns income must similarly change from labor to capital intensive. The workability of the economy — the continued democratization of its economic power and the continuous economic autonomy of its consumers — requires that capital ownership of undercapitalized consumers be progressively enlarged. This is the only alternative to income redistribution for providing consumer demand. (Kelso and Kelso 1986, p. 17)

Roth has effectively pointed out some of the salient problems with this view of productivity (Roth 1996, pp. 58–59). Referring to Ashford's hole digger example, Roth argues that someone with human capital had to invent the shovel before it could be used, so the presence of the shovel is not independent of human capital. Also, Roth notes the presumption that the hole digger has no role in the "productiveness" of the shovel. Yet, absent the acquisition of the requisite knowledge — human capital — the hole digger could not use the shovel. Moreover, if the hole digger did not use the shovel, its "productiveness" would be zero. The labor and the capital together produce far more than the two factors could produce separately. Thus, it is not at all clear that "capital productiveness" replaces "labor productiveness." It seems clear that the stocks of human and nonhuman capital are — even in this simplified example — mutually interdependent; that the use of the shovel increases the value of the hole digger's human capital; and that use of the shovel by the hole digger enhances the shovel's value (Roth 1996, p. 60).

The binary economists have failed to recognize the importance of labor and innovation in the development of capital.

What will happen to most workers as ever more work is done by robots, computers and other forms of capital? … Unfree market theorists allege that it does not matter if capital assets substitute for labor in the productive process because, in some unspecified way, service and other jobs will increase and everyone will benefit. However, most of those service jobs are hardly likely to pay good wages (assuming there will be sufficient jobs). (Ashford and Shakespeare 1999, p. 60)

This entirely ignores those jobs that are necessary to make capital, not consumer goods. While some labor might be replaced by a machine, new opportunities for labor will appear in the creation of that capital equipment.

It is often said that the skills required to enable workers to use modern technology are higher skills that command higher competitive prices simply because a longer formal education is required to qualify such persons for these skills. These alleged "higher" skills are really only different skills and generally involve less overall knowledge, less effort, less risk, and less learning time than the skills they displaced. For example, the modern jet pilot requires less skill than the original bush pilot, even though he navigates with far more sophisticated and expensive capital instruments. A modern production line worker requires vastly less skill than the craftsman who preceded him in the marketplace; he may be needed only to check the behavior of robots. The function of human intellect in the economic world is to push the burden of production off labor and onto capital workers with their machines, that is, to "save work." (Kelso and Kelso 1986, p. 17)

What of the value of the innovative labor that produced the jet engine, the satellite navigation system, or the robots? The operators may not need more skill, but the inventors are exhibiting quite a bit of skill.

"Capital Workers"

Binary economists have developed the term "capital worker" to describe someone who manages, or allocates, capital to its most valuable uses. Kelso and Kelso define a capital worker as "One who engages in economic production and earns income through his or her privately owned capital. A capital worker is not generally required to be personally present at the scene of production, although astute management of the ownership interest in capital is constantly required" (Kelso and Kelso 1986, p. 165). How is this different from someone described as a labor worker: "An individual who engages in economic production and earns income by employing his or her physical and mental abilities" (p. 168)? Of course, "astute management of the ownership interest in capital" would be impossible without employing "physical and mental abilities." As Ludwig von Mises wrote,

[C]apital or capital goods [do not have] in themselves the power to raise the productivity of natural resources and of human labor. Only if the fruits of saving are wisely employed or invested, do they increase the output per unit of the input of natural resources and of labor. If this is not the case, they are dissipated or wasted. (Mises 1956, pp. 84–85)

Thus, the distinction between the labor worker and the capital worker, which is critical to binary economics, is not at all clear. Binary economists roll the "astute management" of capital into their concept of "ownership" and do not consider it to be labor at all. Ashford and Shakespeare state that people "can … be productive merely by owning capital" (Ashford and Shakespeare 1999, p. 28). And, "from the binary perspective, the whole point of private property in capital is to enable people to earn without personally laboring" (p. 30; emphasis in original). Perhaps the absence of physical labor might be considered a distinguishing characteristic of a "labor worker." Yet even a person who sits in a chair trading stocks is laboring physically, if only to think and communicate by voice or keystrokes. To base the definition on the degree of physical exertion required would miss the point of the distinction.

As we have seen, to be a successful capital worker requires labor in the form of insight and skill. Like physical abilities, insight and skill are not uniformly distributed across the population, and that is why capital is not uniformly distributed across the population. Not everyone is well-qualified to be a "capital worker." Yet binary economists perceive a great injustice in the failure of market economies to distribute capital evenly.

Independent Productivity in Nature

Binary economists frequently allege that there are many examples of independently productive nonhuman factors. In an example similar to the hole-digging example above, Ashford and Shakespeare write,

A man carries a heavy sack on his back for a mile and is exhausted. But with the help of a donkey, five sacks can be carried twice as far in half the time, leaving the man with enough energy to go dancing. From the conventional viewpoint, human productivity has increased by a massive 2000%.

However, from the binary viewpoint, the great increase in per-capita output is not caused by an increase in human productivity. Rather it is caused by the fact that the nonhuman factor (the donkey) is doing most, if not all, of the extra work. Indeed, the man is doing less work by employing the donkey rather than doing the carrying himself. The productiveness of the donkey has both replaced and vastly supplemented the former labor productiveness of the man so that the donkey is doing approximately nineteen times as much work. (Ashford and Shakespeare 1999, p. 23. See also Ashford 2002b, p. 1540)

A donkey is part of nature, and in its state of nature should be considered a natural resource rather than nonhuman capital. Humans together with only natural resources will have a very low standard of living indeed. Capital is necessary to have economic growth, and for a donkey to be considered capital instead of a natural resource, it must be "modified" in some way. Certainly, a donkey will move around independently of any action taken by humans. Yet it is still necessary for a human to alter the donkey from its natural state to make it useful for doing work. It must be domesticated, fenced in, and guided about for any cargo transportation to be accomplished. Humans thus convert, through their labor, a natural resource to capital and contribute to the productivity of that capital.

Labor's Income Share

Binary economists confront serious problems in attempting to determine the shares of income that can be attributed to the different inputs to production. In discussing similar attempts by the Marxists, Mises criticized "the illusion that it is possible to determine the shares that each of the various complementary factors of production has physically contributed to the turning out of the product" (Mises 1956, p. 86).

If one cuts a sheet of paper with scissors, it is impossible to ascertain quotas of the outcome to the scissors (or to each of the two blades) and to the man who handled them. To manufacture a car one needs various machines and tools, various raw materials, the labor of various manual workers and, first of all, the plan of a designer. But nobody can decide what quota of the finished car is to be physically ascribed to each of the various factors the cooperation of which was required for the production of the car. (Mises 1956, pp. 86–87)

Binary economists must also deal with the obvious fact of the increase in real wages over the last several centuries, that has coincided with the increase in capital. Roth presents data indicating that human income's share of aggregate personal income has been fairly stable over several decades. Furthermore, contrary to the binary economists' claims that only existing capital owners have been able to acquire new capital, Roth shows that capital asset ownership has increased consistently with the aging of the workforce, indicating that the workforce has not had any trouble adding new capital owners (Roth 1996, pp. 61–62).

Roth concludes that there is "no unambiguous, 'scientifically correct' way to determine the effect of changes in the stock of nonhuman capital on human capital's income share (or vice versa)" (1996, p. 59). Even the binary economists recognize this difficulty: "there is great dispute … as to how to measure and understand the separate inputs of capital and labor" (Ashford 1996, p. 8). If the increase in real wages is not linked to the increased productivity of labor (made possible with additional capital and improved technology), then it must be artificial. Kelso and Kelso write,

[Technological] advance does not generally make labor, as such, more productive. In fact, the opposite is true. As capital work supersedes labor work, the demand for labor work diminishes, and the value of labor tends to fall. Free-market forces no longer establish the "value" of labor. Instead, the price of labor is artificially elevated by government through minimum wage legislation, overtime laws, and collective bargaining legislation or by government employment and government subsidization of private employment solely to increase consumer income. (Kelso and Kelso 1986, p. 17)

In addition, binary economists cite labor's decreasing productiveness as the primary reason for poverty and state redistribution programs (Roth 1996, p. 61). "The myth of the 'rising productivity' of labor is used to conceal the increasing productiveness of capital and the decreasing productiveness of labor, and to disguise income redistribution by making it seem morally acceptable" (Kelso and Kelso 1986, p. 8).

It would seem, then, that binary economists are begging the question. With no real evidence that capital productivity is increasing relative to labor productivity, binary economists assume that this shift is in fact occurring. We are then asked to believe that government intervention is masking the labor-to-capital shift they claim, and that market valuations showing an increase in real labor incomes are misleading.

Binary Economics on Savings and Consumption

Binary economists tend to see savings in the Keynesian sense as detrimental to economic growth. In a remarkable disconnect in their system, binary economists fail to see the link between savings and the availability of funds to finance capital acquisition. Thus, the borrowing that they see as key to dispersed capital acquisition must occur without anyone having to postpone consumption and make those funds available. Kelso and Kelso write, "The business genius tightens his belt only in the first stage of his quest for real capital riches. Not thrift but his ability to finance capital acquisition out of the wages of his capital is the secret of almost all of his impressive fortune" (Kelso and Kelso 1986, p. 114). Ashford and Shakespeare say that "the patience and abstinence of the owner who may invest or consume" is not needed for "efficient capital acquisition" (Ashford and Shakespeare 1999, p. 128). This contrasts sharply with Mises's explanation of capital accumulation and of the source of the "impressive fortune" of the "business genius":

The accumulation of new capital, the maintenance of previously accumulated capital and the utilization of capital for raising the productivity of human effort are the fruits of purposive human action. They are the outcome of the conduct of thrifty people who save and abstain from dissaving, viz., the capitalists who earn interest; and of people who succeed in utilizing the capital available for the best possible satisfaction of the needs of the consumers, viz., the entrepreneurs who earn profit. (Mises 1956, p. 85)

"Sterile" Savings

The Kelsos see savings as a leakage out of the economy and therefore "sterile."

A market economy is essentially a double-entry bookkeeping system based on the fact that each household in market economies has a double role of consumer and producer. Costs paid for production on one side of the ledger become personal incomes earned for consumption on the other. The economy itself is a vital organism engaged primarily in the current production of consumer goods and services for current consumption. Any sustained accumulation of capital-produced income in excess of that actually used to pay for things consumed will inevitably be channeled into the ownership of progressively greater capital-earning power. At the time when such capital-earning power exceeds the demands of a household's consumer lifestyle, it becomes sterilized and unusable, so far as the economy is concerned; it also actively violates the common law of individual property rights. (Kelso and Kelso 1986, p. 20)

Because investing in more capital does not contribute to growth (in the binary view), any use of income for nonconsumptive purposes slows the economy. To some binary economists, apparently, capital is useless ("morbid," in their terms) if the owner decides to reinvest any income from it. Kelso and Kelso (1986) make this plain: "The earnings of morbid capital — capital in excess of that which can or will be used to support the consumer lifestyles of the owners — are altogether diverted out of the market economy for useful goods and services" (p. 128).

Thus, anyone who owns such capital — who fails to spend every dollar earned through capital ownership and management, is being irresponsible and selfish: "A participant in production who, through his or her superproductive power (normally excess capital accumulation), earns more income than he chooses to devote to consumption, necessarily beggars his neighbors" (pp. 35–36). And, "[morbid capital] beggars others by depriving them of the economic opportunity to increase their earnings as capital workers" (pp. 36–37).

To some binary economists, there is a ceiling on consumer "needs," above which a person will choose only to invest in "morbid capital." Ashford and Shakespeare go so far as to say that existing capital owners "generally have little or no unsatisfied consumer needs and wants" (Ashford and Shakespeare 1999, p. 39). Of a household earning $10 million a year on "capital-earned income," Kelso and Kelso write,

The family may live luxuriously indeed on a modest part of these earnings, spending $1 million or possibly as much as $5 million. But the rest will most certainly be invested in the most productive capital assets (and tax shelters) that skilled advisers can find. This will further increase the owner's excess capital income rather than channel it back into the system as payment for consumer goods and services. Such excess income has thus been sterilized with regard to the production-consumption market. It can only be used to acquire more producer goods. (Kelso and Kelso 1986, pp. 34–35)

For binary economists, then, the key to economic growth is the increasing of demand for consumer goods, à la Keynes, rather than the increasing of the capital stock to allow greater production of consumer goods at lower cost. Yet capital goods must be produced if the capacity to produce consumer goods is to increase, and increases in the capital stock are actually integral to Kelso's "general theory" plan for capital dispersion and growth.

Somehow, binary economists have even managed to conquer the capital/consumption tradeoff that has been with us from time immemorial.

In a mature capitalist democracy, labor-earned income ordinarily would not be needed or used for capital asset acquisition. Commercially insured capital credit would be used instead. The costs of a capital asset would be defrayed in the financing process before its income yield would become available for personal use. Thus the economy would no longer have to choose between current consumption and capital investment — an artificial necessity that has long depressed market demand in Western industrial societies. (p. 37)

Again, it seems that binary economics is missing a critical link between "capital credit" and the postponing of consumption. For someone to borrow for the purpose of acquiring capital, someone else must ultimately reduce current consumption. Through money creation by a central bank, that link can be temporarily stretched, but only at the cost of a subsequent recession. As Section IV indicates, this money creation is in fact the means by which binary economists hope to put their plans into effect.

Ashford and Shakespeare go on to confuse the reason for the gains that occur from choosing capital accumulation over current consumption. "[I]n the conventional analysis, the rich are being productive by waiting. But, in the binary analysis, the rich are being productive by owning, not waiting" (Ashford and Shakespeare 1999, p. 126n). Capital owners do not prosper because they own, or because they wait. In addition to postponing consumption, they must do something requiring considerable skill — evaluate alternative uses for the unconsumed resources they own and choose the most productive. This task of evaluation may be contracted out to professionals, but the risk belongs to the capital owner alone. Also, capital owners still must evaluate the professionals they put in charge of allocating their capital.

Binary Economics and Say's Law