IAN McAULEY. Reclaiming the ideas of economics: Capitalism

Economics and public policy are influenced by a nineteenth century model of capital, and therefore of capitalism, that is no longer fit for purpose.

We all know what capitalism is, don’t we? It’s “a system under which the means of production, distribution and exchange are in large measure privately owned and directed” according to the Macquarie Dictionary. Similar definitions are almost universal.

People’s feelings about capitalism, however, are spread over a huge range: it may be the system that ruthlessly appropriates all economic surplus to the owners of those means of production, distribution and exchange, or it may be the system that has unleashed humanity’s productive potential, making everyone better off, even if some have done better than others.

But even people holding these polarities of opinion tend to have shared ideas of what comprises those means of production, distribution and exchange – “capital” in other words. “Production” conjures up images of factories, building sites and kitchens in restaurants; for “distribution” we might think of ships, trucks and warehouses, and for “exchange” we might think of shopping malls and trading stock. All these images are about physical capital – “things that hurt when you drop them on your toes” to quote Barry Jones.

Capital that hurts when you drop it on your toes

The 18th and 19th century economists who laid down the foundations of economic thinking, such as Adam Smith and David Ricardo, developed a framework of three “factors of production” – land (including natural resources), labour and capital, each clearly-defined and distinct from the other two. It was a reasonably good classification for its time, when all these things were expensive.

A moment’s reflection convinces us that today there is a lot of capital that has no physical presence – software, patents, trademarks, and what firms term “intangibles”. If we look at how assets held by public companies are valued we almost always find that the value placed by shareholders (the share price) is much higher than the value recorded onn the firm’s balance sheet, which is largely confined to valuation of physical capital.

As production, distribution and exchange have become less dependent on physical capital, and more dependent on ways that capital is arranged, economists have added another term, “entrepreneurship”, which helps cover this difference in value.

Even with this refinement, however, we are still stuck with classifications that are becoming further detached from reality. Using this old classification we talk about the labour/profit shares of GDP: the multimillion dollar base salary paid to a CEO is a return to labour, while the bit of extra money made by an Uber driver using her own car is a return to capital. We have trade unions representing the interests of miners paid $200 000 and “employers’” organisations claiming to represent the interests of struggling small businesses. The divisions belong to another age.

That is not to deny the clear evidence of widening gaps between the rich and the poor, or to deny evidence of a growing disconnection between one’s contribution to society and one’s reward. But it is to suggest that our traditional classifications of labour and capital may be impeding the way we think about how the benefits of economic activity are distributed.

And as with other ideas, the issue is not just a semantic one. The “trickle down” theory favoured by right-wing governments, particularly the Coalition Government in Australia, rests on an idea that there are “workers” whose wages have to be suppressed so that worthy and wise capitalists can afford to create jobs for them. Quite apart from forty years of demonstration of the failure of this policy, it is based on a paternalistic model of social classes that belongs more to the age of Ricardo, Smith and Jane Austen than to contemporary Australia.

There are two shortcomings in our classifications. One is that they are too categorical – “labour” and “capital” are not separable. The other is that they are inadequate because they ignore a great deal of capital that is collectively-owned.

The new capitalists: embodied capital

To deal with the labour-capital separation I can use an example which, I believe, will resonate with many readers’ own experiences. The factory where I took my first job after graduation had a state-of-the-art IBM 360 computer. It was housed in a special climate-controlled and secured room where at any one time several people were employed feeding punch cards into its readers, loading and unloading tapes, and taking huge wads of paper from its printer. This was all controlled by the operator, who manipulated a bewildering array of switches and rheostats, guided by banks of indicator lights. So costly was this piece of equipment – around $300 000, or 100 years of an engineer’s salary – that it was operated on a three-shift basis.

Had Karl Marx walked into that factory he may not have known what a computer was, but he would have easily fitted it into his model of capitalism. Just like the presses and lathes on the shop floor, it was another piece of capital, and its operation was supported by several workers. It would have confirmed his model of labour as an adjunct to capital.

If Marx were to walk into a workplace now he would see people with computing machines on their wrists or in their pockets – machines many times more powerful, and affordable on a few hours of an engineer’s salary. He would have to go back to the British Library and re-write large portions of Das Kapital to deal with a situation where increasingly the machine is an adjunct to the worker. The model of labour as an adjunct to physical capital was adequate in Marx’s time but now it is quite detached from reality.

Jerry Muller of the Catholic University of America goes back to economic basics, considering “capital” as anything that brings future benefits (a basic definition with which Smith and Ricardo would almost certainly agree.) That means we need to consider embodied capital – often called “human capital” – including one’s education, capacity to learn and adapt, experience, and ability to relate to others.

To Muller the capitalists of today include those who are well-endowed with human capital and are connected into social networks. They don’t fit the old stereotypes of “capitalists”: they are more likely to be wearing casual clothes than business suits, more likely to be driving a Prius rather than a Jaguar, and are more likely to be voting for a left or green party than a party of the right. They don’t see themselves as exploiters of others, but they benefit from the efforts of those who have nothing but grunt labour to offer – the people who clean their hotel rooms, the people in distant sweatshops who make their clothes, the hardscrabble farmers who grow their food.

This doesn’t mean they lead the lives of plutocrats: their material conditions are akin to those of the petite bourgeoisie of Marx’s time. But they are generally able to cope with, or even thrive on, the disruptions of globalisation and technological change, and have little geographical or social contact with the people to whom these disruptions are so threatening.

Perhaps Marx would understand the conflicts of today, between the so-called elites and those “left behind”, to use the terms around phenomena such as Brexit and Trump’s election, as a struggle between those who have and control of “capital” and those who lack such ownership or agency. Maybe his re-write of Das Kapital could be achieved with a “find and replace”, and a foreword explaining why he is abandoning Ricardo’s classification.

Stakeholder capitalism

The other deficiency in the traditional understanding of capital its omission of a lot of what contributes to the wealth of nations. Natural resources get a look in, but only as something to be dug up or harvested. As with labour and capital, separate classification of natural resources is too simplistic as we come to realise we live in and are part of complex ecosystems.

Then there is shared institutional capital – the rule of law, traditions of scholarship in independent universities, independent and diverse media, to name some aspects. Shared but not necessarily “owned”.

And there is social capital, a large part of which is in terms of trusting relationships between strangers. Trust that contracts, including implicit social contracts, will be honoured. Trust in lawmakers. Trust that the economic system as a whole is fair – that hard work that contributes to society, in the public or private sector, rather than rent-seeking and speculation – will be rewarded. Trust that there are means to solve pressing collective problems, such as global warming.

Our economic system – call it capitalism – is in crisis, because all of these forms of trust are giving way to mistrust and division. These divisions aren’t on the old labour-capital lines, but they are at least partly explained by Muller’s model.

In brief, we are carrying around a notion of capital – and therefore of capitalism – that is no longer fit for purpose.

Some economists, such as Joseph Stiglitz, promote a model known as “stakeholder capitalism”, which sees businesses as collections of people who come together to create value and to share the proceeds between customers, those who contribute finance, those who contribute labour, and the community more broadly. In recent times Klaus Schwab, Founder and Executive Director of the World Economic Forum, has become an advocate of stakeholder capitalism. That’s significant, because the WEF has been the global focal point for capitalism’s champions, who for 50 years have been gathering every January in Davos, Switzerland, for what may be described as an upmarket Club Med celebration of capitalism. Even the US Business Roundtable, America’s most influential business lobby group has embraced stakeholder capitalism.

The idea of stakeholder capitalism isn’t new: it developed in the 1930s as the Great Depression wrought its damage. Its promoters, such as Chester Barnard saw it as a means to save capitalism from its own destructive forces. It went out of fashion in the 1980s wave of Thatcher-Reagan neoliberalism, but as that model is losing its legitimacy it’s hardly surprising to see stakeholder capitalism making a comeback, now that capitalism as we have known it over the last forty years is losing its social licence.

Conclusion

The class struggle may still be between capitalists and others who have nothing to offer but their labour, but if we are to understand that class struggle we must re-think what we understand by “capital”. If we can reach that understanding we may be able to understand the class struggles of our time – struggles that have drawn people to false prophets and shallow populists such as Trump, Johnson and Morrison.

 

This is the thirteenth of a series of articles in Pearls and Irritations  on reclaiming the ideas of economics. Others so far have been:

General introduction (September 19)

Aspiration (September 26)

Jobs and Growth (October 3)

Society, economy and the environment (October 10)

Regulation and deregulation (October 17)

Taxes (October 24)

Globalisation (October 31)

Debt and deficits (November 7)

Wealth (November 14)

Competition (November 21)

Socialism (November 28)

Privatisation and prices (December 5)

 

Ian McAuley  is a retired lecturer in public finance at the University of Canberra and a Fellow of the Centre for Policy development.

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5 Responses to IAN McAULEY. Reclaiming the ideas of economics: Capitalism

  1. michael lacey says:

    Capitalism provides one solid element as to why we get instability that is alienation.

    A population alienated from its work process because of the lack of meaningful jobs, a society where we have to renew constantly or update, workers are forced into a lifestyle of disillusion and that disillusionment follows through to the political process as they realise that big money really buys it

    Alienated societies do not always act in rational ways and when you look at the people on the left they shout! Give me someone or something that looks different and Trump turned up to be their voice and the Brexit vote in Britain is another example alienated populations in the small towns and an evolving neo-fascist right wing which provide a different answer.

    Capitalism has a plethora of crimes this is one of them!

  2. Ian McAuley says:

    Rob,

    Thank you. Piketty looks at capital from a finance perspective, while Ricardo, Smith and Marx are look at capital in terms of real resources. Different perspectives, same conclusions.

    Wayne,

    Interesting. Of course “land” implies finite resources — soils, iron ore — stuff that can be owned. “Energy” – wind, sun – is more like a free good, and is not so physically bound. Does this help explain the fear of the big fossil fuel companies — nothing so threatening as competition from a free resource, particularly when the physical capital required to harvest it si so cheap?

    John,

    I’m grappling with MMT.

  3. Rob Stewart says:

    Another interesting piece. Enjoyed the analysis about the shifting nature of, and definitional issues surrounding, capital. Certainly the world is a very different place to that described by Smith, Riccardo and then Marx and so on. It has always puzzled me why economists seem desperate to defer to knowledge from elders of centuries past as if their views and findings represent immutable laws of nature – like gravity. I think this practice may at least in part be due to the deluded notion that there is a central core scientific underpinning to economics and “laws” of economics.

    Pikkety’s recent work on capital has drawn reasonable criticism on how he handles the classification of capital, but I don’t think the key finding of R > g in his empirical work is completely undermined by the criticism. And if R > g in the long term then I think that would help to explain a significant amount about growing inequality, discontent and capitalism’s mounting failures, particularly under neoliberal models over the past 40 years. And to the extent it is true the notion of capitalism being a clash between profit and wages, capital and labour, remains sound, with capital winning, and ultimately it will destroy itself in the process.

  4. Wayne McMillan says:

    Nice article Ian. The emphasis in today’s world seems to be only on two factors of production, Capital and Labour. Land seems to have fallen by the wayside but is still very important for survival. I would like to suggest that there is a 4th factor of production energy, particularly renewable energy. How we utilise it will be critical for our future. in conjunction In addition, scarce water supplies could mean Australia will be in trouble in 25 years time.
    Steve Keen brought this 4th factor of production to my attention.

  5. John Doyle says:

    Good article to see. As a non economist I need to know what terms like Capital actually means.
    Be good if Ian could write down his thoughts on MMT.

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