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Why Capitalism Works so Well and How We Can Make It Better

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Why Capitalism Works

Written by: Nicolas Colin | The Family

Today, I’d like to try and explain why capitalism works so well—even if it’s always in need of adjustments and fine-tuning.

Here’s one thing I would do differently if I were to publish my book Hedge again: I would include the word “capitalism” on the cover.

The book’s current subtitle is “A Greater Safety Net for the Entrepreneurial Age”. But really I should have opted for “Reinventing Capitalism in the Entrepreneurial Age”. After all, the book covers topics that are way broader than just social policy: it’s about entrepreneurship, corporations, government, social insurance, consumer finance, education, housing, and trade unions—that is, the economy as a whole. Also, I should have been more opportunistic, since these days people are more interested in reinventing capitalism in general than in the social safety net in particular.

Want proof that “capitalism” sells in a title? This (otherwise compelling) Wiredarticle about Mariana Mazzucato is titled This economist has a plan to fix capitalism, and yet there is NOT ONE single occurence of the word “capitalism” in the entire article! You get it: stick “capitalism” in the title of anything, and it becomes instantly successful 🤔.

Anyway, today’s issue is really about capitalism, and I promise, the word appears many times. Read along 👇

What is capitalism, why it works so well, and how we can make it better

1. A recent example of the reinventing capitalism craze is the Business Roundtable’s declaration that shareholder value is no longer their main objective. It caused quite a stir, with many applauding the move by America’s most prominent CEOs, while others have called them out for hypocrisy. I must say that although I’m a true believer in the societal benefits of capitalism (see below), I tend to side with the latter. I don’t believe anyone who says they’ll unilaterally harm their own interests for the sake of the common good. I’ve always thought that corporate social responsibility is bullshit. And I’m not moved by either Marc Benioff’s grand statements about the need to “move to a new capitalism”, or Unilever’s Paul Polman’s ideas about “reinventing capitalism”. For me this is all naive and complacent—at best.

2. Another example is a recent podcast discussion between Marc Andreessen, Sonal Chokshi, and Andrew McAfee, author of the newly published More from Less. I’m a fan of all three of them, yet the part about capitalism left me a bit puzzled. Like many in the US, McAfee is taken aback by the attraction of socialism for young Americans. But all he has to offer is the argument that “Capitalism works, while socialism doesn’t—just look at the Soviet Union!”. To which I’m tempted to reply, “Everyone knows that the Soviet Union was a mess, thank you. In any case, most self-proclaimed “socialists” don’t care because they’re merely using “socialism” as a synonym for “f*** you”—and it clearly has the intended effect. Plus, you can’t change anyone’s mind with a rational argument—not that you’re really putting one forward about why capitalism works so well.”

3. So here’s the key: Capitalism works better because it’s a dynamic system involving three unrelated yet mutually dependent parties—workers, consumers, and capitalists. A socialist system simply pits workers against consumers, with the Communist Party as a referee—a game that tends to end with a race to the bottom (filed under: Soviet Union). Capitalism, on the other hand, brings a true third party to the table: capitalists. Because those have a vested interest in expanding the pie, they can tip the balance and invite both workers and consumers to reposition themselves within the game. Like in the three-body problem in Newtonian physics (thanks Bill Janeway for the reference!), capitalism tends to be unstable, unpredictable, and in constant need of self-correction. But given proper checks and balances, it really can deliver.

4. As it happens, our recent economic history gave birth to three different versions of capitalism:

  • The post-war boom gave workers the upper hand. The rise of mass production in a fast-growing economy convinced everyone to embrace a pro-worker social contract, and workers had powerful unions to defend their interests. It all gave birth to the middle class as we know it.
  • Then the post-1968 slowdown and wave of globalization contributed to switching power toward capitalists. Workers began their long slide into low wages and precarious working conditions, while not much changed for consumers.
  • Finally the 2008 crisis triggered the process of empowering consumers. Thanks to computing and networks, those started to wield real power while a new generation of tech CEOs had already decided to ally with consumers rather than capitalists (like in the 1980s-1990s) or workers (like in the 1950s-1960s).

Might I add that most executives are just pawns in this game. Good CEOs excel at strategy, leadership, and culture. But at any given moment, they’ll simply side with the most powerful party at the corporate table, and are usually rewarded for it.

5. Technology explains why consumers have the upper hand these days. They’re equipped with ever more powerful computing devices. They’re connected to one another through ever wider networks. In more and more industries, they are catered to by entrepreneurs pursuing ever higher quality at scale, thus providing an ever broader range of better and cheaper options. This is why consumers form a multitude that retains more power than the most powerful organizations. They’re free to move around, access information, exchange with their peers, voice their concerns, explore alternatives, and eventually reach better purchasing decisions. In sum, they are now a force to be reckoned with. As Tyler Cowen recently wrote, “Protests of workers seem to be becoming less important, and protests of consumers are becoming more important.”

6. Meanwhile, both workers and capitalists are in a bind. The former are crushed by a widespread tech-driven “Walmart Effect” that destroys jobs and brings wages down. They’re also prevented from asserting their power by obsolete labor laws based on the principles of subordination and division of labor. No wonder why more and more workers are deciding to leave employment behind and become freelancers. For this vanguard, being a freelancer is the only way to recover agency and use technology to defend their interests. Meanwhile, capitalists are wandering in despair, in a never-ending search for elusive returns in today’s low-interest-rate environment.

7. Beyond the macro-trends, however, the equilibrium between the three parties tends to remain very different from one industry to the other. There are some, like groceries and apparel, where consumers have the upper hand. In this case, capitalists can only make money at a very large scale, and workers tend to be on the losing end. In other cases, like housing, healthcare, and higher education in the US, consumers are forced to pay ever higher prices for a continually degenerating value proposition. This suggests that those industries’ microeconomics distort the production function in favor of capitalists and workers at the expense of consumers, and clearly institutions must exist to nudge everyone toward a better equilibrium.

8. Indeed capitalism has never existed on its own. It works only because institutions are here to tame the powerful interests that collide within capitalist organizations. Indeed the current imbalance in capitalism is the reason why so many people are passionate about institutional innovation these days. Some tout the ideas of co-determination, employee ownership, or co-operatives because they think that the most important battle is the one pitting workers against capitalists. But I think they’re wrong. For me, the key is realizing that it’s now superior consumer power that needs to be tamed. I reckon it turns many things on their head: Since when are consumers the bad guys? And if that is now the case, what can we do about it?

9. Economic historian Mary O’Sullivan has a great piece of advice: “If you want to understand capitalism, look to capitalists—not economists”. I’ve been doing that for almost ten years now, and I’ve come across many telling cases indeed. Take Henry Ford’s key contribution to capitalism in the 20th century. Rather than seeing his employees crushed by ever more demanding consumers, he decided to raise wages so as to increase loyalty and productivity. Then he compensated for the higher cost by deploying even more capital so as to increase volume and optimize the supply chain. Along with a new social contract, his contribution created a new equilibrium in which more consumers had more value for their money while more workers enjoyed higher wages, more social benefits, and better working conditions. What was there not to like? And who’s the Henry Ford of the Entrepreneurial Age? (Is it Jeff Bezos?)

10. If you want more details as to how we can tip the balance in today’s capitalism, read my book Hedge: Reinventing Capitalism in the Entrepreneurial Age 😉. Also let me point out interesting ideas about capitalism from thinkers related to the tech world:

Related: Does Manufacturing Matter Anymore?

 

 

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