The Human Condition:

Capitalism and Civics – December 31, 2011

The tenor of discourse in American conversation1 has run so far into the anti-capitalist, anti-free market vein that we seem to have reached a kind of rhetorical dead end. People in the private sector are now generally viewed as some kind of primitive, unteachable, gibbering ape—with apology to all living apes—who cannot be trusted to know right from wrong, refrain from messing in the house, or even recognize their own best interest. If capitalists were driving down a mountain road, they would be laughing maniacally and steering for the cliffs. They are thought to be people really too ridiculous to be believed.

Now, I am the old-fashioned sort who believes that any group is made up of individuals. While groups as a whole may advocate and pursue mad, impulsive, categorically imperative courses,2 individuals tend to take actions that seem reasonable and justified in terms of their own worldview. That is, I will credit people with the ability to think, reflect, change their minds, and act accordingly.

So, in this context of individual enlightenment, what is a capitalist? As the concept has developed over time, he or she is anyone with liquid resources—that is, wealth not locked up in a house and land, jewelry, or some class of transportation hardware—available to invest. The time value of money3 suggests that leaving dollars under the mattress, where inflation can gobble them up, is pretty stupid. And putting them in a bank savings account, where they earn about 0.02 percent per year under current Federal Reserve policies, is foolish. Of course, the mattress and the savings account are the most risk-free, thought-free, and care-free ways to treat money. Any other use requires more risk, thought, and personal responsibility. And generally, the more risk and thought required, the greater the return that use of the money will command.4

A capitalist invests his or her spare money so as to get the greatest growth, or return, consistent with an acceptable level of risk. Of course, some people see huge returns to be made by guessing into which numbered pocket on a spinning wheel a little ball will bounce, or which horse out of eight or nine can run the fastest, or what string of numbers will come up together in a random drawing. For most of us, however, the risk of losing the principal altogether in these ventures is too great. We prefer a lower level of risk and a more modest return.

Capitalists buy stocks in companies that they think will do well, grow, and tend to increase in value.5 Or they buy the bonds of companies that have a good reputation for honoring their debts and will pay back the principal with interest. In this sense, the mass of employed Americans who participate in 401(k) savings plans and individual retirement accounts (IRAs) are capitalists. They look ahead ten, twenty, or forty years to a time when they will not be able or want to work, and they expect their money to grow on the way to meeting them there. Let’s call these passive capitalists, because they are making investment decisions that will ride the coattails of those who manage the companies in which they invest.

Active capitalists, then, are people who take this money that’s borrowed through bonds or raised through stock sales—plus, usually, some of their own money—and invest it actively in a business. They use the money to buy productive and logistical capabilities such as manufacturing equipment and trucks. They hire workers to use the machinery and drive the trucks. They rent or purchase property for their factories and warehouses. And they hire or contract for support in areas like accounting, advertising, or human resources. If it’s a new business, the stock and bonds usually go to paying the costs of starting up. If established, they may pay for an expansion. Eventually, however, the business has to pay its own way plus a bit more—through profits and sales growth—to reward investors in terms of stock growth and dividends or bond yields and interest.

All of this is basic Microeconomics 101. What seems to have gone off the rails in recent discourse is the expectation that active and passive capitalists will act rationally. The presumption seems to be that, without intense government supervision, goal-setting, and micromanagement, capitalism will explode, poison the earth, ravage people, and destroy society. The sum of all the good things that government management is supposed to achieve through regulation and policy setting is usually described as “sustainability.” By that is meant encouraging or forcing capitalists to adopt social, environmental, and governmental goals that stand above and beyond the basics of earning a profit by providing goods and services that people want at a price they will pay—that is, by satisfying a demand in the marketplace.

Now, granted, the focus of business managers has shrunk over the past couple of decades. I can recall from the early years of my career when corporations rewarded employee loyalty and spent extra time cultivating community values. Companies used to see their role as balancing the natural tensions among four groups: customers, shareholders, employees, and community. Then, in the 1980s, a hardball style of stock analysis came into vogue and the words “shareholder value” became the cry. The term usually meant that a company worked to meet “the Street’s” expectations for stock price, earnings per share, and dividends each quarter. It made American managers less inclined to invest in growth and stability over the long haul. But any company that doesn’t keep one eye on the horizon will die in the long term anyway.6

It is my view that social goals, environmental goals, and government goals (except those represented by actual laws) are all secondary and pretty much unnecessary. If the intent of a business is to maximize its profits, then you do that by obeying the law (i.e., not paying fines or spending idle time in jail) and operating efficiently (i.e., not losing money to waste). Does it pay to treat your workers fairly? Of course. That way, you attract the best talent and generally avoid losses due to theft, obstruction, negligent damage, and downtime. Does it pay to be a good corporate citizen? Of course. If you do bad and hurtful things—such as ignoring social norms relating to racial equality, ethical and humane treatment, or respect for people and the environment—then someone will observe and report it. Then you'll lose money to competitors with a better name, because you’ll have to lower your prices to attract a less thoughtful class of customer.

As a case in point of operating efficiently, I once worked at a large oil refinery and commented to my supervisor that it didn't smell like the refineries I remembered from afar in the New Jersey of my youth. He said that this was by design. In fact, if I did smell anything, the company would pay me to report it. This wasn't simply a case of conscientious environmentalism. The plant’s chemical technology was tuned to such a degree that any odor meant a leak—“and that means we're losing product,” he said. The management’s self-interest made it a more vigilant environmental watchdog than any EPA investigator dropping in for the annual inspection.

Similarly, modern approaches to systems engineering, operating methods, data management, and people management mean that the modern company will run efficiently and effectively by choice, or suffer negative consequences. The focus of public attention in a transparent and open information environment means that a company will operate ethically by choice, or suffer the consequences of lost sales and lawsuits.

Is this approach—through self-interest—better than trying to write a law that covers all cases? Not always, because people are not uniformly smart or thoughtful, and the outcome is not certain. But with a law, the outcome is not certain, either. Laws must always be enforced through continual observation, routine apprehension, and credible penalties operating as deterrents.

If you doubt this, consider the California highways. With a speed limit of 65 mph, the average speed is usually above 70 and often closer to 80. Drivers go with the flow, and the California Highway Patrol usually cruises right along with them. The officers are more concerned with reckless and aggressive driving than trying to control the actual speed of the flow. This may be supremely sensible, but it’s not strict enforcement of the speed laws.

But making it in the capitalist’s best interest to undertake a course of action is more likely to have results, because capitalists are very good at looking out for their own interests. They are also very good at finding loopholes and workarounds when a law is not in their interest. And any enforcement strategy must obey another economic principle: the law of diminishing returns.

Simply put, pushing too hard on any one factor in a process reaches a point where more emphasis on that factor won’t achieve much. If you try to improve adherence to or compliance with a rule by enforcement alone, without addressing other incentives, you reach a point where a hundred patrol cars—in the example above—are no more effective than ten in reducing traffic speed. That may be why the California Department of Transportation has resorted to speed control by other, passive, physical means—like narrowing lanes, limiting lines of sight, and designing “weaves” between adjacent on and off ramps. When people have to slow down or risk breaking their necks, they usually comply.

Regulations that work through natural processes and the self-interest of the operator simply have a better chance of achieving their goals.

1. By “conversation,” I’m referring to what I hear from the mainstream media, bandied about in the blogosphere, and readily subscribed to by friends in the social media.

2. Think of the sort of fixation on a single principle that turns a zero-tolerance policy toward drugs or weapons into a scavenger hung for baby aspirin and butter knives in school backpacks, or an abortion rights advocate into an enthusiast for infanticide at the moment of birth.

3. Basic economics: everything is moving; everything is changing. Anything that is not growing is dying. The economy is like an ecology, always growing in one area by dying somewhere else. In such a dynamic environment, any asset that isn’t finding a productive use and growing is going to shrink and die. Money over time should grow in value. Otherwise, why did God give you eyes to see and a brain to think?

4. See Risk Free from December 4, 2011.

5. Speculators, day traders, and others who take a temporary position in a stock, believing it will go up or down in the short term, are less like capitalists and more like gamblers.

6. Managers who intentionally ride their companies to the block and chop them up for the current value of the parts are not really managers. They are corporate undertakers, and the business is already in a terminal state.