INTRODUCTION

CREATING HIGH-PERFORMANCE CAPITALISM

There are scores of books on capitalism, most of them defending it, several criticizing it, and many just trying to explain it. Why would anyone want to write another book on capitalism?

I have five reasons for doing so.

First, I want to understand it myself. My family, friends, and acquaintances around the world live in a market economy run on a system called capitalism. They tell me they want to understand capitalism better.

Second, I believe capitalism is better than any other system. But I also believe that it has fourteen major shortcomings. I wanted to examine these shortcomings and their ramifications.

Third, I want to examine and propose solutions to each of the fourteen shortcomings that would help make capitalism perform better and benefit more people.

Fourth, many readers want a shorter book on capitalism to get their thinking started. Thomas Piketty’s book, Capital in the Twenty-First Century (Belknap Press, 2014), has sold over 200,000 copies, but most book buyers did not read the 500 or so pages beyond the first couple of chapters. In this busy age, we need more concise accounts of social and economic systems that deeply affect our lives. Piketty focused only on income inequality, which is only one of fourteen shortcomings of capitalism that need to be examined.

Fifth, I believe that my background provides an opportunity to develop some special insights into the workings of capitalism. I am a classically trained economist who studied under three great and opposite-thinking Nobel Prize–winning economists, namely, Professor Milton Friedman of the University of Chicago, who represented free market thinking, and Professors Paul Samuelson and Robert Solow of MIT, who represented Keynesian thinking. My goal was to apply macro- and microeconomic theory to understand company decision making aimed at winning market share in highly competitive markets. I feel that economists have neglected the role and power of marketing to shape and influence markets. Marketing is one of the bedrock concepts in a capitalist society. As a behaviorally oriented market economist, I focus my attention on the functioning of the five major players in a market economy: business enterprises, nonprofit organizations, financiers, households, and government. Capitalism, management, and marketing must be joined into a comprehensive framework to understand marketplace developments and impacts. I hope this book achieves that goal.

You’ll read in today’s media about other ideas proposing improved forms of capitalism, including Compassionate Capitalism, Inclusive Capitalism, Humane Capitalism, Humanistic Capitalism, Healthy Capitalism, and Neo-Capitalism. These are all efforts to improve both the image and the functioning of capitalism. There is a broad swath of public opinion suggesting that people want to end “Cowboy Capitalism”—where anything and everything is acceptable in the pursuit of profits. They want to save capitalism from itself as it continues to disenfranchise and disenchant many citizens.

In 2014, the Harvard Business School surveyed its alumni and reported this finding: “The United States is competitive to the extent that firms operating here do two things: win in global markets and lift the living standards of average Americans. The U.S. economy is doing the first of these but failing at the second.” Recently, Harvard professor Michael Porter went on to say: “This is a critical moment for our nation. Business leaders and policy makers need a strategy to get our country on a path towards broadly shared prosperity.” Professor Jan Rivkin added, “Firms can escape the weaknesses in the U.S. business environment by moving abroad, but workers can’t.”¹

Capitalism is still morphing. Today we are living in an era of globalized capitalism. While it has improved since the era of the 1900s when exceedingly harsh working conditions were the norm, we still have sweatshops and migrant workers living on starvation wages in many parts of the world today. Capitalism has been improving, but there is some distance to go.

People tend to think of capitalism as consisting of large corporate multinationals and financial organizations. Some have called this Corporate Capitalism. But we should not forget that one-man firms, mom-and-pop stores, and small businesses with five to ten workers account for a great number of enterprises in developed economies. (In less developed economies, they account for up to 90 percent of the economy.) We hope they can adopt modern business practices and improve their productivity and performance and grow their businesses.

Most countries have chosen capitalistic concepts to run all or part of their market economy. The market economy is divided into five specific markets: (1) businesses, (2) nonprofits, (3) financiers, (4) government, and (5) households. Countries differ in how they treat these five markets. China doesn’t have a free financial market, but it does have a private business market. The United States has a large government market, while Ireland has a small government market. The U.S. has a very large household credit market; many countries don’t. The U.S. also has a large nonprofit organization market; most countries don’t.

Some countries prefer to describe their market economy as socialistic rather than capitalistic. For example, India designates its system as socialist, not capitalist. China calls its system socialism, but it’s really a market economy with Chinese characteristics. Sweden formerly said it operates a “mixed economy,” but now calls it a “welfare economy.”

The term “welfare economy” suggests that the market economy tries to balance private enterprise with social purpose. The Nordic countries are a prime example. They want their business enterprises to pay living wages and provide good working conditions for their employees and their families. They put a high premium on education and health for all. Their companies provide long vacation time and generous time off for working mothers who give birth. They cannot fire workers without cause and must compensate those who have been dismissed. These market economies have been called “capitalism with a conscience” or “capitalism with a heart.”

Britain’s Labour Party also takes a “public welfare” point of view. Its new leader, Ed Miliband, recommended the following policies at Labour’s annual conference in September 2014: Increasing the minimum wage and reverting the income tax of the highest earners back to 50 percent as well as “a new tax on ‘mansions’; a freeze on electricity prices; special taxes on hedge funds and tobacco companies; further taxes on bankers’ bonuses; and yet another increase in the levy that banks pay according to the size of their balance sheet.”² This supplies a picture of the reform measures that “free market” critics want to introduce to improve the conditions of average workers.

Strict socialist economies tend to go further in controlling the business of the economy. The leaders of Cuba, Venezuela, Bolivia, and Ecuador prefer state-operated businesses and tend to be anticapitalist. They dismiss the profit motive and claim that the state is able to run businesses efficiently. They focus on raising the living standards of the poor. They spend effort on developing a good education and health system. Too often, however, they lose the support of those inside and outside of the country who have capital to invest. This limits their ability to grow their gross domestic product, and the danger is that their anticapitalist stand will make more of their people poorer. Politically, they prefer to import from those countries that have the same ideology, and their citizens don’t end up with much product choice. Critics see these countries as having less competition, less freedom, and less consumer choice.

Citizens of a country face a choice between three types of economic systems. At one extreme is “unregulated capitalism.” In the middle is “capitalism with a heart.” At the other extreme is “strict socialism.” My own choice, dear reader, lies in the middle.

In different countries, citizens will vary in their ability to start and own their own businesses. The degree of ease in starting a business, growing it, and handling regulations and licenses will differ from country to country. Many countries never realize the full power of capitalism to improve the lives of their citizens because they require too much licensing or regulation, not to mention widespread corruption or criminality in some cases. Clearly, we need to moderate taxes and burdens on capitalism so that capitalism will be allowed to work its wonders.

THE SUCCESSES OF CAPITALISM

Today capitalism rules supreme. But capitalism was at war with another system, communism, for over seventy years, from 1917 to 1989. On November 9, 1989, the Berlin Wall started to come down. Symbolically, this event represented the crumbling of the Union of Soviet Socialist Republics (USSR). The Soviet Union’s economy was wholly state-owned and state-controlled. The economy in the USSR operated on a succession of five-year plans, spelling out how much food, steel, consumer goods, capital goods, highways, electrical grids, waste treatment systems, and other items of material value would be produced. It was a command-and-control economy.

The Soviet Union was supposed to produce a worker’s paradise. Instead, Soviet citizens faced long lines and frequent shortages of bread, meat, and potatoes. Their washing machines, radios, and television sets were of poor quality, very little innovation occurred, and worker productivity was pathetically low. As Soviet workers assessed their situation: “They pretend to pay us. We pretend to work.”

What’s more, communism took on the markings of a tyranny with little freedom of speech, no independent newspapers, and dissidents sent to jail. The USSR’s major newspaper was called Pravda, which means “Truth” in Russian—an ironic national joke and disgrace. The number of people killed under the regime of Joseph Stalin, the dictator who ruled the Soviet Union from 1922 until his death in 1953, has been estimated at between 20 million and 60 million by some scholars and historians.³

Soviet communism finally crumbled and the Soviet Union disintegrated into several independent countries, leaving Russia to determine its own fate. Each of these new countries needed to develop its own version of an economic system, relying mostly on its past communist heritage.

China, too, began as a communist regime under Chairman Mao Zedong with the creation of the People’s Republic in 1949. Its worst tyrannical period was during the Cultural Revolution, starting in 1966 and running ten years until the death of Mao in 1976. Economic reforms were finally introduced in 1978. Now China is one of the world’s fastest-growing major economies. By October 2014, China became the world’s largest economy and the world’s largest exporter and importer of goods. China has become the world’s factory. More Chinese people were moved out of poverty in a shorter time period than ever before. Today China reports that it has 350 million people who are millionaires, which would amount to a numerically larger middle class than found in the United States. The irony is that China still views itself as running a communist system, but its miracle performance occurred after it adopted what can be called “authoritarian capitalism.”

The common opinion is that virtually all nations now run a capitalist-oriented market economy. Laissez-faire capitalists, such as Milton Friedman and Allan Meltzer, would argue, “Capitalism has won. Capitalism has been a success story in improving the lives of people. Capitalism has delivered more growth and freedom than any other system.”⁴ But we need to understand that there are many different national versions of capitalist theory and practice.

WHAT IS CAPITALISM?

Capitalism assumes a constitutional legal system based on three fundamental concepts: private property, contracts, and the rule of law. People have the right to own private property. People are free to enter contracts with others over the use of products, services, and property. Contracts are honored and governed by the rule of law. Note that every country, even tyrannies, claim to have a legal system. But in many cases, the system is riddled with privilege, politics, corruption, and inefficiency.

Capitalism assumes that there is a constitutional government with legislative, executive, and judicial powers and the force to carry out the rule of law. The sovereign power can enforce laws and back them with penal power.

Capitalism also begins with the idea that some members of the society own capital in the form of money, property, equipment, and goods. These capital owners are free to start any business. They can ask for loans from banks or others who believe in their business idea. Some of these new businesses will grow and create new jobs. Others will flounder. But the basic idea is that there is freedom to start and to operate a business. Owners are free to promote their products and seek customers. If they attract enough customers who are satisfied and who recommend their goods and services to other customers, they are on their way to growth and profits.

When business creators face relatively few encumbrances, we call it free market capitalism. This is a largely self-regulating system without excessive regulation or government subsidies. Businesses succeed if they can attract, keep, and grow customers. The customers decide which businesses succeed. Much depends on the ability of a business to know its customers well, to monitor their changing needs and expectations, and to generate continuous and new value for its customers.

As companies grow bigger, they usually benefit from economies of scale: Their unit costs fall because their fixed costs are spread over more units of production. With lower costs than smaller competitors, and a stronger brand name, they can increase their market share. Often they grow by buying smaller competitors who lack scale. They can also grow by exploiting economies of scope, namely, by expanding the number of items and product categories they handle. If a consumer packaged-goods company sells its product to supermarkets, it would benefit from selling additional products to the same supermarkets. This way it gains economies of scope because of lower transaction costs per product with supermarkets. Thus Procter & Gamble, which sells over a hundred different products to supermarkets, has a distinct power advantage over companies that sell only one product to supermarkets.

The combination of economies of scale and scope has led to the growth of giant multinational firms. The 200 largest industrial corporations—multinationals such as Wal-Mart, Royal Dutch Shell, Toyota, and Samsung Electronics—account for 28 percent of the world’s gross domestic product (GDP).⁵ Several industries operate as oligopolies, where a few large firms account for the major market share in a product category. Thus, there are a limited number of large aircraft manufacturers—Boeing and Airbus (actually a duopoly)—and a limited number of large airlines in a nation—United, American, and Delta in the United States. The U.S. remains a nation with a huge number of small businesses ($0 to $10 million revenue or employing fewer than fifty people) and 197,000 medium-size businesses ($10 million to $1 billion annual revenue), but it also has oligopolies that generate a good percentage of their revenue from overseas, maybe approaching a 50 percent share of the U.S. GDP.

The U.S. economy is increasingly run by a “visible hand” instead of Adam Smith’s “invisible hand.” Large sectors of the economy are guided by a few powerful companies. The question is whether the visible hand runs these sectors with Smith’s “enlightened self-interest” or with just “self-interest.” (The issue of social justice will be examined later.)

In our market economy, companies know their competitors. If they aren’t the leader in their industry, they aspire either to follow the leader or compete with the leader in search of more profit and growth. Competition today is hypercompetitive. During a recession many businesses go under, with their assets often bought by surviving competitors. The intense competition keeps prices low (in the absence of collusive activity) and keeps quality and innovation high—three highly desirable traits of a capitalistic economy. The entrance of foreign competitors with still lower costs also keeps domestic companies on continuous alert lest they should be overwhelmed and lose their domestic customers.

In the best cases, capitalism is powered by individualism, ambition, a competitive spirit, collaboration, and good management systems.

Capitalism is a system in which businesses search for latent or unsatisfied needs that they can satisfy and make a profit by satisfying. Profit is the reward for creating satisfied customers. Successful businesses can use the profit as pay to the owners and investors, or pay more to the other stakeholders, or retain the profit to grow their business bigger.

The major issue regarding capitalism is: How free should it be from government regulation and spending? At one extreme are those who hold that government should be minimal in its interventions and regulations (laissez-faire). This is the position articulated by Friedrich Hayek and Milton Friedman, whose writings influenced Ronald Reagan and Margaret Thatcher to push forth the neoliberalist position, much in line with classical economics of minimal government, low tax rates, deregulation, free trade, open markets, and privatization.

At the other extreme is the welfare view, which holds that government should play an active regulatory role, a social welfare role, and an intervention role in times of economic distress. On this issue of the role of government, capitalist countries differ from one extreme to the other, with everything in between.

CRITICS OF CAPITALISM

Capitalism has its share of eminent critics. The famous British economist John Maynard Keynes wondered whether capitalism could ever benefit everyone. He said: “Capitalism is the extraordinary belief that the nastiest of men for the nastiest of motives will somehow work for the benefit of all.” Meanwhile, the great British leader Winston Churchill saw capitalism as better than socialism. His assessment: “The inherent vice of capitalism is the unequal sharing of blessings; the inherent virtue of socialism is the equal sharing of miseries.”

Proponents of capitalism often act as if it is the Shining City on the Hill that all other people should look up to and admire, but capitalism has plenty of shortcomings. In spite of the accomplishments of capitalism in raising the standard of living of so many people around the world, critics will point to specific problems, such as companies failing to pay living wages, not covering full social costs, neglecting the environment, and overpaying a few at the expense of the many.

Other critics specifically target laissez-faire or crony capitalism. Jerry Mander, author of The Capitalism Papers: Fatal Flaws of an Obsolete System (Counterpoint, 2013), sees capitalism as destroying our environment, our communities, our well-being, and our very humanity. Naomi Klein, in her book The Shock Doctrine: The Rise of Disaster Capitalism (Picador, 2008), sees laissez-faire or Cowboy Capitalism as destroying the middle class; making the rich richer and the poor poorer; reducing economic growth; eliminating the union movement; introducing privatization, deregulation, and cutbacks in social welfare spending; giving special favors to large multinationals; and creating a form of capitalism marked by instability and frequent booms and busts. She sees capitalism as run by a government/business/finance/military complex designed to withhold help from the workers and the poor.

In examining capitalism’s entry into different countries such as Chile, Argentina, Russia, Poland, and others, Klein documents what privatization is doing. Because city, state, and national governments are cash poor, they are selling normal government functions to private firms. Many American communities have privatized garbage collection, water treatment, and parking meter tax collection. Schools and hospitals are being privatized. Klein describes how privatization has led to higher food prices, an exponential rise in the number of destitute persons, and a decline in human rights. She claims that privatization often is accompanied by using fewer workers or paying lower wages, rather than increasing efficiency in other ways. She labels all of this “disaster capitalism.” She and other critics point to the United States having the world’s highest divorce rate, very high maternal and infant mortality rates, an extremely high rate of childhood poverty, the highest rate of adult obesity, the highest prison incarceration rate, and the second-highest murder rate.

In Das Capital, Karl Marx was unrelenting in his criticism of capitalism. He postulated that capitalism exploited the working class and dispossessed them of any property. He saw the workers as wage-slaves without any chance to improve their condition. To Marx, the capitalist economy consisted of two classes: those who owned property and the proletarians who didn’t. Those who owned property would hire those without property, pay them as little as possible, and keep them in a state of virtual slavery, working long hours and seven days a week in some cases. The reserve army of the unemployed assured continuous pressure for low wages. The anticapitalist rhetoric that arose from Marx and Friedrich Engels’s writings lasts to this day in some critics’ minds.

Much has improved in modern capitalism. Consider how contemporary business management practices have improved efficiency and productivity. Consider the many technologies that innovation-driven capitalism has created for better living. Consider the rise of legislation and regulations to reduce or correct potential consumer and business abuses.

Yet a book with the intriguing title How Much Have Global Problems Cost the World?⁶ examines and estimates the actual costs, between 1900 and 2050, from such problems as air pollution, armed conflict, climate change, ecosystems/biodiversity, education, gender inequality, human health, malnutrition, trade barriers, and water/sanitation. Capitalism is not to blame for all of these problems. Although the estimates can be questioned, the point is well made that these problems have imposed a very high cost, almost always exceeding the cost of remedying or removing them.

THE FOURTEEN SHORTCOMINGS OF CAPITALISM

Here are what I consider to be the fourteen serious shortcomings of capitalism that need to be addressed and remedied to whatever extent possible. I believe that capitalism:

1. Proposes little or no solution to persisting poverty
2. Generates a growing level of income and wealth inequality
3. Fails to pay a living wage to billions of workers
4. May not provide enough human jobs in the face of growing automation
5. Doesn’t charge businesses with the full social costs of their activities
6. Exploits the environment and natural resources in the absence of regulation
7. Creates business cycles and economic instability
8. Emphasizes individualism and self-interest at the expense of community and the commons
9. Encourages high consumer debt and leads to a growing financially driven rather than producer-driven economy
10. Lets politicians and business interests collaborate to subvert the economic interests of the majority of citizens
11. Favors short-run profit planning over long-run investment planning
12. Should have regulations regarding product quality, safety, truth in advertising, and anticompetitive behavior
13. Tends to focus narrowly on GDP growth
14. Needs to bring social values and happiness into the market equation

My aim is to examine each of these shortcomings and the underlying forces and causes and propose possible solutions. Hopefully, capitalism can do a better job of reducing poverty. Hopefully, capitalism can constrain income disparity from growing more severe. Hopefully, capitalism can be more careful and caring in its impact on the environment. And so on.

This book discusses how capitalism plays out in the United States as well as in many other countries of the world. As more countries move to a higher level of economic development, their problems will resemble more closely the problems, and the solutions, that play out in the United States. It is important that the citizens in each country examine the same questions and shortcomings about capitalism in their country. What role does capitalism play? How does the form of capitalism in their country relate to the form of democracy in their country? What are the major shortcomings of capitalism in their country? What are the available tools and solutions that will improve the performance of capitalism in their country?

The great composer Igor Stravinsky once said, “There is no problem without a solution.” If an individual or group wants something strongly enough, then the very existence of the problem guarantees that a solution also exists somewhere. We persisted and ended slavery, we established women’s voting rights and their right to make decisions involving their own bodies, we legislated gay rights, and so on. Victor Hugo put it so well: “There is one thing stronger than all the armies in the world, and that is an idea whose time has come.”

I’m not looking for an alternative to capitalism. Remember Winston Churchill’s famous defense of democracy: “Democracy is the worst form of government, except for all those other forms that have been tried from time to time.”⁷ I accept the possibility that capitalism may be a poor way to run an economy, except for all the other forms that have been tried and failed.

At the same time, it’s true that the capitalism that grew out of the West is beset with problems. The West is losing its relative power and influence in the world and is saddled with slow economic growth, high unemployment, huge government deficits, heavy public debt, low savings rates, a declining work ethic, and rampant drugs and crime.

I don’t believe, as some do, that a further decline in the West is inevitable. I remain optimistic about the world’s countries improving the lives of their people. There are many business and other groups at work trying to create a stronger capitalism that serves consumers, workers, and citizens better and improves the environment rather than destroys or neglects it.

As one example, consider the capitalist reform movement called Conscious Capitalism (www.consciouscapitalism.com), which includes the CEOs of companies such as Whole Foods, Panera Bread, The Container Company, and others. It has four tenets:

1. Companies should embrace a higher purpose for their business than just profits.
2. Companies should seek to benefit not only the investors but all the involved stakeholders in shared prosperity.
3. Company leaders need to be committed to the community responsibilities of their company.
4. The company’s culture should place a strong value on trust, authenticity, caring, transparency, integrity, learning, and empowerment.

Another movement is called the New Economy Movement. Its aim is to place more business and capital in the hands of the 99 percent rather than the one percent. It offers a different model, worker-owned-and-managed enterprises, than Corporate Capitalism. Gar Alperovitz, one of its leaders, describes the range of organizations under cooperative ownership and operation:

More than 130 million Americans, in fact, already belong to one or another form of cooperative—and especially the most widely known form: the credit union. Similarly, there are some 2,000 municipally owned utilities, a number of which are ecological leaders . . . Upwards of 10 million Americans now also work at some 11,000 employee-owned firms (ESOP companies).⁸

Movements such as the New Economy and Conscious Capitalism are designing new models of capitalism that aim to create more citizen ownership and participation and more stakeholder benefits. They are searching for a more enlightened and constructive capitalism.

Let’s now move to consider the fourteen shortcomings of capitalism, one described in each of the following chapters, and their potential solutions.