In the first post on this subject, published last week, we took on the classic Marxian argument that capitalism exploits workers by paying them a subsistence wage, allowing the capitalist to extract surplus value. We argued that capitalism is in fact an engine for higher wages, not lower and the gig economy is not exploitative, a claim that is borne out by statistics but struggles in the face of conspicuous protests from unskilled gig workers like delivery drivers.
We now turn to the claim that unfettered capitalism allows business to exploit consumers. In the public debate, what is seen as public utilities, like railways, water and electricity is routinely being accused of exploitative behaviour and of extracting excess profits and Labour has successfully brought nationalisation back on the political agenda.
This critique is based on businesses enjoying monopolistic control. Even anti-capitalists more often than not accept what we can define as perfect competition – a situation where the market is characterized by numerous buyers and sellers and where prices of goods and services are beyond the control of market participants, who are all price takers. This is the vision of the small, independent business engaging in fruitful competition to the benefit of the consumer. Even the hard left often understand the value of this form of capitalism and habitually take the side of the small business owner. The villain is Big Business.
This is the argument we need to take on. In reality, Big Business plays a vital role in functioning capitalist economy. It is often large corporations who drive innovation because they have the scale to reap the benefits of new products, technology or production methods, whereas smaller enterprises will see their innovation imitated without having had the time and opportunity to capitalize and hence have less incentive to innovate. This is the argument put forward by the economist Joseph Shumpeter in his 1943 book Capitalism, Socialism and Democracy. Some industries are especially suited for monopolistic control because they require large capital investments which necessitate a subsequent period of prices above the marginal cost of production. This does not mean that these monopolies will have the opportunity to become price makers in perpetuity. Shumpeter, who coined the phrase Creative Destruction, sees capitalism as a dynamic process, where monopolies are temporary until new innovations disrupt the incumbents.
Shumpeter’s argument is often overlooked by politicians, who find convenient scapegoats in Big Business. This despite the fact that government itself of course often grants monopolies. Companies who operate a government granted franchise, like for example the much maligned UK rail sector, are not facing free competition. AT&T enjoyed a legal monopoly on US telephone services for 70 years. Few would now regard telephone as a natural monopoly. The sector has of course thrived under free competition, to great benefit of consumers. Government also indirectly institutes monopolies or oligopolies, for example by granting licenses to e.g. banks and by enforcing patent regimes. The argument in favour of patents is precisely that to justify large capital investments (in research and development) there needs to be an expected large payout, only possible under monopoly-like conditions. Why would government instituted monopolies be a boon but those arising naturally in the free market be a detriment to economic development? In reality it is of course exactly the reverse (we explain why patents do in fact not encourage innovation here).
To defend capitalism, we need to counter the perception that the system allows private corporations to exploit their position. We should emphasise that damaging monopolies are not those arising spontaneously due to the economic necessity of a particular industry. We should point to those companies who gain monopoly-like control through superior products and services (like Google, Apple or Amazon) and to those who enjoy such positions only temporarily, eventually succumbing to the process of creative destruction (like Yahoo! or Nokia or Sears). The truth is that few companies have ever been able to eliminate all competition, putting themselves in a position to dictate prices and supply levels. Those who have, have always been sanctioned and protected by government. In a free market, any position of dominance can only be maintained by delivering superior products at competitive prices. The only monopoly which is never subject to competition is of course government itself.
Standing up for capitalism has taken on a new urgency as collectivist ideas have experienced a resurgence in the aftermath of the Global Financial Crisis. But collectivists often get their thinking muddled up, demonising the private sector based on lazy and simplistic arguments. But that doesn’t mean we should not try to understand what those arguments are. Only if we appreciate the basis of our opponents’ faulty thinking can we win the battle of ideas.