Notes on Mill: Profits; Bacon: Riches and Usury
§ 1. Profits (John Stuart Mill)
Mill begins this chapter by turning from the labourer’s share of the produce to the capitalist’s share—the profits of capital or stock. The capitalist is the one who advances the expenses of production, pays wages, and provides buildings, materials, and tools or machinery. After indemnifying him for his outlay, a surplus remains—the profit, or the net income from his capital, which he can spend on necessaries or pleasures or save to increase wealth. He defines the profits of capital as, in John Senior’s words, the remuneration of abstinence: the gains earned by forbearing to consume capital and allowing it to be consumed by productive laborers. Mill emphasizes that the forbearance involved is not trivial; a person could gain from squandering capital in personal enjoyment, yet the capital remains available and yields income over time. The gains from possessing capital are thus divided into the portion that simply reflects abstinence (the return for not consuming capital) and additional compensation for risk and labor or management.
Mill asserts that only a part of the profits corresponds to the use of the capital itself; the remainder is what an interested and solvent lender would be willing to pay for the loan of that capital. This portion is what economists call interest. The “remuneration which is obtained in any country for mere abstinence” is measured by the current rate of interest on the best security that precludes a substantial risk to the principal. He then notes a crucial empirical point: the rate of profit generally exceeds the rate of interest. The excess is not just a risk premium; it is also compensation for the entrepreneur’s time and labor, and for bearing the dangers of undertaking business on one’s own account. When one lends capital on secure terms, the risk is minimal; the entrepreneur who actively engages in business exposes his capital to risks of partial or total loss and thus requires greater compensation. The entrepreneur must also be remunerated for the devotion of his time and labor to the venture.
To carry out productive activities, control of the operations typically rests with the person who supplies the majority of the capital, or who is most directly invested in the outcome. Efficient management in a large and complex enterprise requires great assiduity and skill, and that effort must be remunerated. The gross profits from capital, i.e., the gains returned to those who supply the funds for production, must cover three purposes: (i) an equivalent for abstinence, (ii) indemnity for risk, and (iii) remuneration for the labor and skill required for supervision. These three compensations may be paid to the same person or to different persons. The capital may be borrowed and owned by someone who does not undertake risks or labor; in that case the lender, who practices abstinence, is remunerated by interest, while the surplus between interest and gross profits pays for the undertaker’s exertions and risks. A sleeping partner may share risks but not the labor; such an arrangement gives the partner a stipulated share of the gross profits rather than a mere interest. Sometimes capital is supplied and risk incurred by one person while the business is conducted in his name but managed by another for a fixed salary. Management, however, is often inefficient if left entirely to hired servants who have no stake in the result beyond their salaries; Mill argues that prudence generally recommends giving a manager a portion of the profits, which effectively makes him a sleeping partner. In some structures, the same person may own capital and conduct the business, possibly adding to the management with additional capital if others are willing to trust him with it. Across all arrangements, the same three elements—abstinence, risk, exertion—must be remunerated from the gross profit. Profit may thus be analyzed as consisting of three parts: interest, insurance (a term Mill uses to signify compensation for risk), and wages of superintendence.
§ 2. The lowest rate of profit which can permanently exist is that which barely suffices to provide an equivalent for abstinence, risk, and exertion implied in the employment of capital. From the gross profit, one must first deduct a fund to cover average losses (the losses incidental to the employment). Then, the remaining amount must afford an equivalent for forbearing to consume the capital—i.e., the margin that motivates continued abstinence. The required amount for this equivalent depends on the comparative value placed on present versus future wealth in the given society (the strength of the effective desire of accumulation). After losses are covered and abstinence is remunerated, there must still be enough left to recompense the labor and skill of the person who devotes his time to the business. This remuneration must be sufficient to enable the owners of larger capitals to receive or to pay to a manager what will sufficiently induce him to undertake the labor. If the surplus is only this minimum, only large masses of capital will be employed productively; if it is even less, capital would be withdrawn from production and consumed unproductively until, by an indirect consequence to be explained later, the rate of profit rose. Hence, there is a minimum profit that is highly variable across time and place due to the variability of two of its three elements (abstinence and risk).
Mill highlights that the rate of necessary remuneration for abstinence (the effective desire of accumulation) varies greatly with state of society and civilization, and there is an even wider difference in the element that compensates for risk. He distinguishes between differences in risk in the same society and the very different degrees of security of property in different states of society. In Asia and other regions where property is continually endangered by tyrannical rulers or oppressive officers, the rate of profit required to forego immediate enjoyment for the sake of exposing wealth to risk must be very high. In such insecure contexts, mere lending on good security may still be risky for the lender, who may never be paid. In many native Indian states, even government loans carry terms so favorable that if interest is paid for a few years and the principal remains unpaid, lenders can still be reasonably indemnified. The accumulation of principal and compound interest is often compromised at a few shillings in the pound, yielding an advantageous bargain for the lender in insecure environments.
Reflections:
According to the text, what are the three components that gross profits from capital must cover?
How does the text differentiate between 'interest' and 'profit'?
Does the text recommend aligning manager compensation with company profits? Why? What downsides may arise from structuring the manager’s compensation in the suggested manner?
§ 2. The three components of profit and the minimum rate of profit (Mill)
In Mill’s taxonomy, the gross profit is resolvable into three components: interest (the return for abstaining from consuming the capital), insurance (a compensation for risk), and wages of superintendence (remuneration for the labor and skill expended in management). He frames this decomposition with the assertion that the lowest sustainable profit rate is the one just sufficient to cover losses, to reward abstinence, and to reward management labor. He emphasizes that the fund for losses must be large enough to absorb ordinary contingencies, that the abstinence component must be sufficient to motivate the intentional forgoing of current consumption, and that there must remain a surplus to pay for the manager’s labor and the high-level skill required to supervise the enterprise. The three elements and the corresponding compensation must be earned from the gross profit, and, as Mill notes, the distribution of these compensations can vary across arrangements (lender vs. owner-operator vs. sleeping partner vs. salaried manager). The surplus required for competition among capitalists will vary with how secure property is in a given society, and with the degree of risk associated with particular enterprises. The text emphasizes that in secure states, the risks borne by lenders are smaller, and lenders can expect a more modest return, while in insecure states (notably in parts of Asia and in medieval contexts) the risk premium must be large enough to compensate for potential expropriation, confiscation, or non-payment.
The question of how much profit is necessary to sustain capital accumulation is ultimately tied to the rate of accumulation and the society’s time preference for present versus future consumption. Mill therefore links profit to the effective desire of accumulation: the stronger the preference for accumulating wealth, the higher the minimum profit rate must be to reward abstinence. If the surplus above losses and abstinence is too small, only large-scale capital would be employed; if the surplus disappears, capital would be withdrawn, and production would shift toward consumption, reducing the capital stock and, indirectly, raising the profit rate. Mill notes that the minimum profit rate is highly variable across times and places due to differences in the elements of abstinence and risk, and because of varying degrees of property security.
In practical terms, Mill discusses how management structure can affect the allocation of profits. When capital is supplied by lenders (who do not participate in active management), the lender earns interest while the entrepreneur earns the excess that compensates for the entrepreneur’s exertions and risk. In arrangements with sleeping partners or with managers who share profits, the line between capital owners and operators blurs, and the incentive structure shifts toward aligning risk and labor with profit in varying degrees. Mill’s overarching point is that profits represent a bundle of rewards—abstinence, risk, and exertion—that must be balanced to sustain production and accumulation across different institutional contexts.
Reflections (revisited):
How do the different arrangements (lender, sleeping partner, manager with fixed salary, or owner-manager) affect the distribution of the three components of profit?
Why does Mill stress the security of property and the level of risk in different states as a determinant of the minimum profit rate?
How might the presence of a manager who is partly compensated on profits influence incentives and managerial behavior? What are potential downsides of profit-linked management compensation?
§ 3. Bacon: Of Riches (Francis Bacon)
Francis Bacon opens XLI. Of Riches by insisting that riches act as impedimenta—like baggage for an army—and that, though wealth is not useless, great riches have little real use except in distribution. He quotes Solomon to emphasize that the enjoyment of wealth by the owner is often illusory and that immense riches frequently invite others to consume them rather than empower the owner. The text argues against seeking proud riches; instead, one should seek wealth obtained justly, used soberly, distributed cheerfully, and left contentedly. Bacon urges discernment: riches acquired by fair means pace slowly, while riches gained through the death or misfortune of others (inheritances, wills, etc.) tend to arrive swiftly but are precarious.
Bacon suggests that the path to wealth includes the improvement of land and efficient husbandry—“the earth’s blessing”—and observes that wealth tends to accumulate most easily when one invests in productive land and diverse industries (grazing, timber, coal, iron, and related disciplines). He notes a paradox: the greatest gains can come from patient investment and steady enterprise rather than from sudden boon or fortune. He cites the example of a nobleman who becomes a powerful farmer and trader, accumulating wealth through steady practice across multiple agricultural sectors, turning the earth into a vast resource base. Yet he warns that while ordinary commercial gains come from diligence and reputation for fair dealing, the gains from speculative bargains can be risky, deceitful, and morally dubious.
Bacon highlights several modes of enrichment that are not morally praiseworthy: usury (the lending of money at interest) is labeled both certain and dangerous. Usury can be highly profitable, but it corrupts commerce, concentrates wealth, undermines the laboring classes, and can destabilize states by concentrating treasure in a few hands. He argues that usury can be beneficial in certain respects by enabling trade and credit; however, the disadvantages—reduced merchant numbers, impoverished merchants, erosion of stately customs, concentration of wealth, suppressed land prices, dampened innovation, and the potential ruin of estates—are significant. Conversely, he notes that there are commodities of usury: it can lubricate trade by providing the liquidity required by merchants and, by enabling borrowers to meet pressing needs, help prevent total collapse of markets in bad times. Mortgaging or pawning, too, has limited value since pawns and mortgages often come with stricter terms or higher costs. Bacon concludes with nuanced caution: it is folly to seek the abolition of usury outright, since all states have historically allowed it in one form or another, though he urges prudent consideration of its disadvantages and benefits.
Reflection prompts near the end of the Bacon section invite readers to assess: (1) the manuscript’s rationale for the existence of usury; (2) a policy proposal for modern economies that balances the pros and cons of usury; and (3) whether the text supports diversification as a portfolio strategy, given its discussion of risk distribution and profits.
§ 4. Bacon: Of Usury (Francis Bacon)
In XL I, Bacon explicitly defines usury as “the practice of lending money with an interest charge for its use,” and he frames it as a necessary concession (a “concessum propter duritiem cordis”) because people are unwilling or unable to lend freely. He argues that because borrowing and lending are unavoidable, usury must exist to facilitate credit. Yet he enumerates the discommodities and the commodities of usury. The discommodities include: (1) it makes fewer merchants because money sits idle rather than is put into productive trade; (2) it makes poor merchants since high rents and usury erode margins; (3) it leads to decay of customs of kings or states, as trade becomes dominant; (4) it concentrates treasure in a few hands, which undermines broader prosperity; (5) it lowers land prices because money is used in purchase and trade rather than productive land; and (6) it dulls and damps industries and innovations by diverting money from productive uses. The last discommodity is that usury can ruin many estates and foster public poverty. On the other hand, the commodities of usury include: (1) it can promote trade by enabling merchants to borrow, thus ensuring liquidity; (2) without usury, borrowers might be forced to sell their means far below market value during crises; and (3) mortgaging or pawning without usury would not completely fix the problem because pawns are often used for consumption rather than investment. Bacon notes the complexity of usury: it can both support and hinder commerce, and any policy must weigh its benefits against its harms.
Reflections (on Usury):
Usury is the practice of lending money with an interest charge for its use. What does the manuscript indicate as the primary reason for usury’s existence?
Considering the pros and cons (commodities and discommodities) of usury as outlined in the above text, what policy might you propose regarding its use in a modern economy?
Diversification is a portfolio management strategy where an individual spreads their investments around so that exposure to any one type of asset is limited. Is the text in favor of this strategy?