Class Warfare: When Should it Happen?
I'm not an advocate for the uneducated classes just taking to the street and rioting whenever they get the whim. But what are some practical, observable indicators of when the tables should be overthrown in the marketplace? I feel that if you truly believe in the marketplace you should resist "too big to fail" rationalizations. Failures and bankruptcies are fertilizer for new growth. Social welfare is a necessity for individuals, we can't just have people starve to death on the street, it would probably lead to a new outbreak of a plague of some kind. But corporate welfare is robbing us of the balance we claim as an essential good in the laissez-faire system. So, when and how do the companies "too big to fail" get forced into failing?
when we have true capitalism. US is missing the essence of true capitalism in a few areas where it really counts. True capitalism means a wall between big business and their cozy government relations. Too big to fail and financial support through easy discount window lending with no fed reserve oversight = russian style capitalism- the type that only benefits the powerful and connected. This is why I've always said that Republicans do not represent Capitalism in the true sense of the word.
I've said this before but I'll repeat it here: True capitalism doesn't have big business. In a pure (theoretical) capitalist system, corporations would not exist. This is because corporations, in order to exist, NEED the state to issue a charter. Corporations derive their very existence from the state. Unlike a partnership or sole proprietorship, which are formed through voluntary cooperation by involved parties, a corporation is created because the state threatens to use force against those who don't acknowledge said corporations existence. This point is often overlooked in discussions on free markets. A true, pure, free market would have only partnerships/proprietorship, since these entities are formed through voluntary cooperation, which is necessary in a capitalist system.
Building on that, no partnership/proprietorship would be willing to take on the massive amounts of risk that big corporations today take (because of the idea of unlimited liability). Thus, corporations ARE already a ward of the state, since their existence is dependent on the state.
After it's too late.
I'm not really sure what good class warfare would be. People take to the streets all the time in France for selfish and ludicrous reasons (train drivers upset they can no longer get their pension at the age of 40, etc..).
The closest we have had to class warfare have been the occasional riots in LA. I think that if you had to put your finger on anything indicating societal unrest you could say what is happening right now would be pretty telling.
The USA has been slowly moving towards a have and have not type society. The middle class has slowly eroded. IMO you are seeing a backlash, although very far from open warfare. The poor will always be a little disgruntled, but the middle class was docile with the belief that with education and hard work you could progress and move up a rung. Now with their homes in the toilet, credit destroyed, student loans coming due with the promise and dream of well paying jobs evaporating and continual news of big business getting bailed out you are seeing a lot of anger. I think the Tea Party movement is an indication of this.
Lets face it, most of the wealth of middle class citizens is tied up in their houses. Wealthy families also have real estate wealth, but a lot more in liquid or invested assets. All that time, money and hard work the good little soldiers of our society put into building up their houses and savings just vanished very fast. I really think all the Wall Street hate is really hating the wealthy also. This feeling happened during the great depression. Carnegie hid his yacht in the small harbor in order to be sensitive to the unemployed masses.
very well said......you are spot on
LIBOR, you're attacking semantics. By your reasoning, partnerships need the State too (to uplift laws against fraud, robbery, etc) and thus wouldn't exist in your definition of a true capitalist (e.g. sans-state) world. I believe "true capitalism" still needs a strong democratic state. But in true capitalism the state would not interfere to assist or hinder. (e.g. would, for instance, provide corporate charters where deserved and would almost never revoke a corporate charter- why? because the rights of the corporation are made up of the rights of the individuals who make up the corporation (less than eloquent but I hope you understand what I mean). And these rights of individuals are (as I'm sure you would agree!) inalienable)
Alright, that came off wrong. We need a state for the very reasons you said.
However, I still maintain my original position. A partnership is formed through voluntary cooperation. Any two people who write up an agreement to form a partnership can do so. Obviously, they need the State to a)enforce that contract in the courts if one partner were to violate it, b)enforce contracts that business might enter into with other parties, and c) protect the business' assets with police/army/navy. If the partnership is unable to pay its creditors, then the personal assets of the partners (or at least one partner) that do not belong to the partnership could be confiscated to pay off those debts.
A corporation does not have this unlimited liability. This is because a corporation, in the eyes of the law, is a separate legal entity from its owners. Because of this, the owners can only lose what they invest in the business (I'm sure you picked this up somewhere but I am reiterating for the sake of my argument). In order for the owners to create this entity where the liability is limited to the amount invested in the business, the owners must incorporate. To do that, the state needs to issue a charter. This charter 'creates' a separate entity, independent of the owners.
What I am saying, is that this power the state has to create new entities is counter-intuitive to the philosophy of thefree market. The State, like you said, should exist to regulate. It should enforce contracts, and maintain peace (ie no crime, attacks from abroad) to allow market participants to engage in transactions. The state should threaten to use force (detain criminals, enforce contracts) only against those who violate the rules.
The State should not have the ability to create. When a corporation is created, the State is basically saying to the constituents "Acknowledge this corporations right to exist, because we say so, and we promise not to use force against you".
Scenario 1 is consistent with the ideals of a free market. Here, the role of the State is to enforce the rules. The state will only intervene when a constituent acts in a way that violates the rights of another (breaches a contract, steals from a business, etc).
Scenario 2 is not consistent with these ideals. In scenario 2, the State acts before the actors. The state steps over the line of enforcer or regulator, and into its new role of creator. In this scenario, the state threatens to use force BEFORE a constituent acts, in any manner.
This distinction of when the state threatens to use force (in scenario 2, before a constituent acts; in scenario 2, after a constituent acts) is important. Because of this, I personally believe (and have argued), that the existence of corporations is inconsistent with free market philosophy.
(Side note: I love corporations. My picture is from the Dutch East India company, one of the first and most successful companies of all time)
I fundamentally disagree on this. Extending your argument would lead us to agree that limited liability entities would not exist without interference from the state. However this is debatable and would ulitmately be settled in the marketplace. If, indeed, market participants found such entities untrustworthy they could simply refuse to conduct business with them. And Drexel - any footnotes with regards to Coase you brought up? This is actually a fascinating topic.
Wow. So far these comments are far more interesting than my original posed question, thanks all for your responses.
Nozick - Anarchy, State, and Utopia.
By the way Seigniorage, I don't know what a democratic state has to do with true capitalism. I'd say, generally speaking, that democracy is opposed to capitalism --- at least as it has so far manifested itself. I think the only issues that can be decided democratially are ones of very little significance. Individual rights should never be put up to a vote, and in the US nearly all new legislation is based on further limiting the scope of individual rights.
I love how a general statement on this board always boils down to a splitting hair argument. Everybody arguing of minutia and the most pure definition of capitalism and democracy is completely missing the point. True Capitalism does not exist, only hybrids. America thrives on the idea that this is a place where caste, status, blood lines, etc do not mean shit. Anyone can make it, can become rich, etc if they are smart and hard working. When we start becoming a divided nation, when hard work and smarts mean nothing, then you will have class warfare.
Well yeah, that's the crux of my argument: since pure capitalism cannot have corporations (At least thats what I argued), and our system has thousands of corporations, than any argument that tries to claim that the government is infringing on the rights of free market participants is irrelevant, since that has been going on since corporations have been around.
And yes, America does thrive on those things you mentioned (that hard work and smarts beat blood lines and status). Yet, I think the reason things have been so tumultuous lately is because (as you also said) that the crisis has exposed the fact that this might not be the case any more. Regular people (tea party people) are starting to think that the Wall Street/K Street/Washington elite are preventing the American dream from coming true. (this is debatable).
During the boom years I doubt anyone on this forum talked about class warfare. Things have changed.
See, thats the thing. It is brought up repeatedly on this board. People from normal backgrounds trying to break into WS. We all readily say that investment banking is not that mentally challenging. It is really just about working long hours and breaking in. Problem is, unless you went to specific schools breaking in is a bitch. Not impossible, but still a bitch.
Going to Harvard makes you a have in the eyes of a have not. Doesn't matter if you came from the slums, you are the "enemy". Well Washington and Wall Street are full of "enemies" for these working people. Personally, I think Washington is full of worthless individuals, but they are the ones on camera shaping the story. Besides, people love to hate financial institutional and individuals. When was the last time a senator denied you a loan or jacked up your credit card rate?
The American Dream is the belief (or lie) that keeps this thing running. The minute people start thinking that there are two classes this place is fucked.Thats why the middle class is so important. It is comfortable, allows people to say "at least I am not those people". A study just came out saying how middle class and lower class people spend more money on brands than rich individuals. Found the psychological benefit of buying the brand was much higher. When you are a multi millionaire it doesn't matter if you have a croc on your polo.
We need the middle class, shit, most of us are aspiring to be middle class or above. The government shouldn't be against rich people or anything like that, but they sure as hell should not be obviously in their pocket. People need to be able to and believe that they can progress and move up the ladder.
They had class warfare in France in 1789. Do you know what they did for the next 100 years? Stagnated while the British industrialized and blew past them. They had class warfare in Russia in 1917. Do you know what they did for the next 80 years? Stagnated while the West blew by them. They had class warfare in Venezuala in 1998, and it sure seems like the past in its way to repeating itself there.
Anyone who argues that corporations don't exist in free markets needs to reread their Coase.
Government should ideally be de minimus, and designed chiefly to alleviate market failures, rather than exacerbating them. You can argue that the government should not have bailed out the financial sectors, as it is an abortion of capitalism, but that would ignore the historical precedent from the 19th century of what happens when government does not stabilize the financial sector. The reason democracy is efficient is because it evenly distributes de jure power, meaning that the rules are credibly established a priori, and credibly adhered to; that is the same reason France, Russia, and Venezuala failed, and that is the same reason we will fail if we surrender to class pressure or short term incentives 1.
By the same token, if government is captured by wealthier actors, we can expect that a sub-optimal steady state equilibrium will be maintained, discouraging investment and innovation among the disenfranchised 2.
However, neither of these situations characterize government failure in modern democracies; rather, government failure is generally the result of small groups overcoming the collective action problem. Because de facto power is inherently transient, they alter the de jure rules so as to benefit their interests 3; this situation can be seen today with corporations (eg BP) and unions (eg AFL-CIO). Those who lose are those who are not members of the protected class, and to that extent class warfare may be desirable if it represents an improvement of the status quo (eg, allowing prisoners to vote would likely lead to an improved criminal system). However, to the extent that class warfare is likely to replace one set of rent seekers with another, it is decidedly undesirable.
I very much believe the latter condition is what characterises most of the invective in government today, as demonstrated by the increasing marginalization of American politics (eg the "Tea Party"). The correct response to times of stress is reasoned calm; unfortunately, as the recent experience of President Obama vis a vis BP will testify, calm does not placate angry voters.
1 Roe & Skeel, "Assessing the Chrysler Bankruptcy." 2010. http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1426530 2 Acemoglu, Johnson & Robinson, "Institutions as the Fundamental Cause of Long-Run Growth." 2001. http://elsa.berkeley.edu/~chad/handbook9sj.pdf 3 Stigler, "The Theory of Economic Regulation." 1971. http://faculty.msb.edu/murphydd/CRIC/Readings/Stigler--Th%20of%20Econ%2… ; see also, Acemoglu, Johnson & Robinson, and Posner, "Theories of Economic Regulation." 1974. http://www.sbf.unisg.ch/org/sbf/web.nsf/0/11db6e43d8a47a5cc1256db0003e7…
I'm not saying that it is uneconomical to create a corporation. The conclusion I drew from that paper was that the firm exists to realize certain benefits in terms of cost-efficiency, etc. My argument is that the existence of a corporation, from a legal standpoint, is not consistent with the philosophy of free markets. As mentioned above, free markets require voluntary cooperation between individuals/firms. Corporations, however, are created by the state, and their existence is established by the State with the threat of force.
Apologies, I misunderstood your argument. The problem with arguing that the existence of corporations is inconsistent with a free market is that you will become trapped in a Catch-22. Liability is a construct of government, and thus should not exist in a completely free market. If liability can not exist, then how can something that is non-existent be limited?
Your argument is prone to a normative view of the free market as a superior good per se, rather than considering the end result of utility maximization as the objective; only to the extent free markets maximize utility are they preferable. Your argument is also subject to a naive belief that a free market, composed of willing buyers and sellers, exist in vacuo. In fact, the free market consists of neither willing sellers nor willing buyers, but merely rational actors. Given the choice between parting with his labour or his life, the serf will choose the former.
Had I understood your point better, rather than citing Coase, I should have referred you to Olson's work on Stationary Bandits to explain why the state's use of superior violence can represent an optimal equilibrium.
In the end, competence and pragmatism always wins in class warfare.
If we wind up fighting another civil war, I don't know whether the engineers and accountants will be on the side of the Proletariat or the Aristocracy, but you can be sure they're the ones who'll win. :D
This dude Drexel wrote a damn thesis in a message board post, props to you.
When it comes down to it, the poor will always hate the rich in any type of economic system. The thing about America is that anybody can become rich just the majority prefer to be lazy and not take advantage of the opportunities that this country gives us and that many people risk their lives for. So if the chick who works in a cubicle at Anthem Blue Cross says how shitty Wall Street is, explain to her how CDSs are keeping the lights on in her office.
Can you expand on this a little bit buddy?
@Ortsman1
Oprah Winfrey is possibly the best example. Lloyd Blankfein, his father was a mailman. There are so many Americans that are born with nothing but they become something in life.
Foreigners are perhaps some of the best examples. Do you know how many foreigners come to this country and start their own business? My father came to this country, he couldnt even speak English, now he owns his own business, he doesnt work for anybody.
Then look at it on the flip side. How many people are born into rich or well-off families and grow up to be losers? They live paycheck by paycheck wondering how the fuck is anything fair in America.
People want fair they just don't want to do the work.
Thanks! Turns out I actually know this one, thought he had something on the limited liability issue.
I agree with LIBOR that the ability to create a limited liability entity (e.g. corporation, LLC) is part of the issue. The reason being the risk taking that goes on in the American capitalist system is generally taken not personally by the risk taker but on behalf of another entity, which distorts the risk reward equation. We have an economy built on leverage because corporations (i.e. managers on the behalf of corporations) are much less concerned than individuals about financial ruin. Exacerbating the problem, common shareholders in a corporation are generally extremely passive in this system and have very little input, thus creating an agency issue. It sounds cliche, but I believe that without corporations or other limited liability entities we would have a more stable system with more personal responsibility and would be closer to a pure form of capitalism.
Well put LIBOR.
I’ve read what you posted and I think I covered your argument quite well. Limited liability makes sense since, the shareholders are very rarely the managers of the business. When a management makes an error/commits fraud it is they who should be held responsible for the issue, and the shareholders are left vicariously responsible through the loss of shareholder value. The problem is very rarely is white collar crime ever punished with severe financial penalties, even remotely a fraction of the pain caused by the perpetrators, as such there is a moral hazard that is the root cause of excessive risk taking, not the legal structure of the business. You create an effective legal system that penalizes managers for wrong behavior both financially and through prison terms and you’ll see a dramatic shift in good management without the pricey ethics course or the silly MBA oath.
Actually, in the case of BP, the issue is of negligence, if BP were a partnership the partners would only be responsible for their partnership share as well so it would be a moot point (think limited partnerships). The fact that a corporation committed the crime doesn’t change the fact that those responsible, management will be punished directly. The government isn’t granting power, it is merely separating legally, the exposure an owner has in a business he or she doesn’t have control over. At the end of the day one can keep repeating the issue of legal liability, but to a certain extent there are always legal ways of limiting exposure. An easy trick is to have 2 businesses, one who owns the assets and leases them, the other performing the business operation and leasing them. In the event of a lawsuit, the operating business would be held responsible but, even if it were declared bankrupt it wouldn’t have any assets to liquidate. Many con artists use this strategy to hide immense wealth with their spouses while their machinations prey on the weak minded.
The last point goes to one of the issues I was talking about, how we define the role of government. I can see how it can be interpreted as a contradiction that I would suggest limiting the role of government to creating/enforcing laws while giving them the ability to grant corporate charters. However as businesses become more complex and the line between owners, managers, suppliers and competitors becomes increasingly complex, part of creating laws is to define the rights and obligations of each party. In this case the corporate charter is part and parcel of creating laws and then enforcing them, by defining an owners share of the risk and managements share of the risk.
I just think you have a different perspective. You are looking at it from a management perspective. I'm thinking a little more theoretically. My point is that corporations are not theoretically consistent with the philosophy of a free market. Now that they have been established, yeah, we need to approach this more pragmatically. But that is because the system has progressed so much to the point where corporations are enormous entities, far beyond what state governments that issued charters in the 1800's ever imagined. Now that we have a system in place, we do need to think 'how might we make it so that corporations can help us achieve maximum utility'.
I think this is a completely different concept then what I am trying to address. Free market theory was established long before corporate charters were issued on a permanent basis (before that, most corporations were issued charters that dissolved the entity after a set amount of time, particularly with merchant vessels). Basically, my main argument is that if the governments that established this idea of permanent corporate charters really believed in free market theory, they would not have continued to perpetuate the idea of permanent corporate charters, since the literature on free market theory was widely available at the time (around the 1820's is when corporate charters began to be issued on a more permanent basis).
I don't know why this happened. Perhaps these governments did not agree with these ideas. Perhaps it was just a fad to issue charters to your friends that owned businesses. Who knows.
As for your other comment about the role of government in issuing licenses, I think Friedman addressed this in Capitalism and Freedom. I tend to lean libertarian, so I usually approach the role of government from that angle. However, I extend my original argument when I approach the issue of regulation of corporations. As I argued above, the state shouldn't have the ability to issue charters in a free market system. However, this is not the case in our society. My argument then is thus: If the government has the power to create corporations, then it also has the power to regulate such corporations. Thus, governments should be able to create regulations to prevent the costs from externalities (such externalities include pollution, or the costs associated with unlicensed workers performing a task that should be licensed, thus providing poor quality/service).
I'm not really biased in any direction, I just get annoyed when people worship free markets and are like "oh yeah the government should never regulate a company its tyranny" (see WSJ comment boards which I used to frequent before I got addicted to this site). I'm trying to approach this rationally and argue that the free markets that everyone worships are not as 'free' as they proclaim.
As for BP, I read Davidoff's article on this on DealBook yesterday, and he made the same argument you made about the liability being limited to the BP North American entity, thus protecting the parent company from an even greater potential liability (no idea about why they decided to go with the 20 billion fund thing today)
Wow, guys, first of all - I am loving this discussion. With references to Kant and Stationary Bandits (which, I admit, I have never heard of) this just keeping getting better and better.
But lets get back to our corporations. LIBOR, as much as I enjoy your puritan laissez-faire world of view which I also share, I remain unconvinced. That is because I have no problem imagining limited liability under free market conditions without any kind of government intervention whatsoever. By doing business I mean not only buying (consumers), but also selling, lending, borrowing, and any other kind of contract imaginable. Limited liability is also a contract, as is liability itself. If all interested parties accept this contract and willingly do business with a limited liability entity, then it needs no government to protect it. Corporations make bigger ventures, not viable for partnerships to pursue, possible. Because those ventures are wellfare enhancing and everybody is made better off - they will willingly embrace the corporations existence. In the Walmart example where you see unfair competition I see efficiency gain and progress. The Walmart scenario would play out just the same without a government to protect it.
Down on the upside - I second everything you said. With the only difference being that I view governments as part of the free market system, their existence based on controlling one vital resource - violence:) When I think about it it makes perfect sense that there are economies of scale in... well, 'providing' violence. However there are also diseconomies at some point as an optimum clearly exists. Otherwise we would all live in a superstate, stretching all over the globe. And as in every market, there are incumbents and new arrivals - hence coup's, wars, the mob and all other kinds of fun. I should know, I live in the former second world.
The problem is a time-inconsistency problem between ex ante and ex post commitments. Contracts are only credible if the enforcement mechanism is. There's substantial literature on the idea of credible commitment mechanisms, but essentially, one of the functions of government is to create a system of law in which contracts can be written and adhered to.
For instance, if I lend you $100 at 5%, you can promise to repay me ex ante, but your ex post incentive is to default. Therefore, simple game theory shows that I shouldn't lend to you. I can get around this by holding your children as collateral, as they are of little intrinsic value to me, but presumably worth more than $105 to you, and thus you will pay for their return; however, this is a rather inefficient way of enforcing contracts. There are two ways around this, and this is again a subject much of the institutional literature touches on. One option is an infinitely repeated game, which creates a stable equilibrium in which ex ante and ex post incentives are aligned, and there are variants on this - reputational mechanisms are generally considered a good example. The other choice is for government to be used as a contract enforcement mechanism, which is generally contended to be cost-minimizing and welfare-maximizing.
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