Matt Yglesias

42 Responses to “Two Views of Capitalism”

1. right Says:
   November 22nd, 2008 at 11:16 am

   There’s too much in here to respond to, but I’ll just note that your core claim — “The basic business outlook is very focused on the key role of the executive. Good, profitable, growing firms are run by brilliant executives. And the ability of the firm to grow and be profitable is evidence of its executives’ brilliance. And profit ultimately stems from executive brilliance.” — is not at all how I would interpret the WSJ, FT, Economist, and other business publications, but you have provided no examples to persuade me that I am incorrect.

   There’s plenty more in here to fisk, but I don’t have the energy just now.

2. kafka Says:
   November 22nd, 2008 at 11:17 am

   “The point is that nobody is all that brilliant. Nobody really has a reliable method of surveying the scene and accurately gauging What Is To Be Done. But in a market economy, we don’t need anyone to have such a method. Instead, a bunch of people get to do some inquiries into the issue and then give it their best shot. And the ones who are wrong will fail. And the ones who are right will succeed.”

   How true, but it’s the reason why government shouldn’t try picking winners and losers with bailouts, regulations, etc. Something I hope Obama keeps in mind as he moves forward.

3. RWB Says:
   November 22nd, 2008 at 11:35 am

   This strikes me as kind of a dumb post, for two reasons. First, it defines the capitalist system as being either one thing or the other, two opposite extremes. Doesn’t it seem more likely that the truth is somewhere in between? That well-run companies are not well-run just by luck, but that luck has a lot to do with the success of companies? That luck and skill go hand in hand? That luck sometimes offers a company an opportunity, but it requires a certain deftness to take advantage of the opportunity? Etc.

   The second reason this post seems a bit dumb is that this is hardly a new thought–economists and management theorists have been pondering for years the fact that companies exist in competitive economic environments, but internally act as centrally planned economies. These tensions are why companies work so hard to “align the interests” of their employees (from the CEO down) with the interests of the firm. The fact that they are at best only partially successful merely demonstrates how hard it is to make the inside of a corporation act like it is in a competitive market as opposed to a bureaucracy.

4. David Says:
   November 22nd, 2008 at 12:02 pm

   I think you’re right with one caveat. And that is that part of what fuels success is that amorphous quality called “confidence”. Not self-confidence, but others confidence in you.

   The reason CEOs are paid ridiculous salaries isn’t because they’ll make great decisions, but because the Board thinks that stock market analysts will have confidence in their choice, favorably respond to the CEO pick and recommend the stock to their clients causing the stock to climb and everyone to make money.

   So, this puts the incentive in the wrong place. They start to seek after celebrity and even deliberately perpetuate the myth of “wisdom” around certain people because that’s where the money is.

   This is the same reason the Red Cross will pay someone $400K to be the president of their San Diego operations. Because he has rich friends who will donate $3million because he asked them to. It doesn’t matter if he’s good at running the chapter or not, because a substantial part of such an evaluation is whether his fund raising is successful.

   This is also the bizarre relationship Hollywood has with the tabloids. Heck it’s even how they calculate your car insurance. Getting into an accident is an incalculable combination of your skills as a driver and the random idiots you share the road with and the bad luck that something mechanical somewhere will fail at the wrong time. But if you can convince an insurance company via their model that you reduce their risk, they’ll charge you less money.

   Confidence.

5. Yankee Frankee Says:
   November 22nd, 2008 at 12:02 pm

   In defense of a solid post (which it apparently requires) Matt is discussing a pervasive attitude amongst the business press and business-types — not that there are never brilliant CEOs that turn companies into diamonds (Steve Jobs anyone?) — but that in general, the market is the anti-demagogue, and so less attention should be paid to business demagogues, and heaven forfend! — they shouldn’t be paid quite so much damned money.

6. praxis Says:
   November 22nd, 2008 at 12:09 pm

   The world is just too complicated and too weird, the future too uncertain, for economic decision-making to be put in the hands of planners and visionaries.

   The laws of physics are just too complicated and too weird, the nature of gravity too uncertain, for building projects to be put in the hands of architects and engineers.

   The human body is just too complicated and too weird, the aging process too uncertain, for medical decision-making to be put in the hands of doctors and nurses.

   And so on. We’re all too stupid, or not smart enough. Flip a coin. And when the lucky take your coin away, let them decide.

7. ask2 Says:
   November 22nd, 2008 at 12:09 pm

   OK, I have to jump in here because this is a very insightful and important point that most people do not get.

   RWB: (1) Of course there is some mixture of luck and skill. Matt mentioned that. The relevant thing is that it’s hard to tell which is which, even after the fact. (2) The alignment of interests question is really distinct from the “are CEOs smart enough to make a big difference?” question. Matt is not talking about agency issues here; his comments apply equally well to an economy of individual proprietors.

   Kafka: your point is well taken, but be clear that the weakness of government action (in the absence of outright corruption) is not that government is inept, or can’t foresee the market as well as private entities, or fundamentally inefficient, but just this: with government action you generally get no competition. In areas where the government is a monopoly buyer (monopsony) on behalf of the consumer, as opposed to a monopoly producer selling to the consumer, this can actually be a benefit. Think negotiated drug prices.

   right: You’re right that there is a case to be made here, but I think it’s a fairly commonplace strand of business-school and business-press thinking (if not serious economic theory) as well as part of the standard premise-package for the tax-cuts-for-the-rich approach to economic growth. I remember an embarrassingly breathless cover of a business publication a few years ago: “Is John Chambers the world’s best CEO? Is it too late to buy his stock?” I’m sure we could come up with a bunch more examples…see covers of Forbes, Fortune, Fast Company, and advertising materials for all your major business schools. (And listen to Jack Welch talk about how brilliant he is, because I’m sick of him.)

   The economic optimization produced by market capitalism is the kind of optimization produced by any genetic algorithm; it is not a magical producer of wisdom. The market does not produce visionaries; it just wipes out those who for whatever reason got it wrong. But these reasons, even when not luck, tend to be details and specifics and one-off cases that don’t generalize well, rather than some genius understanding of “the market”, which is why the “Jeff Immelt runs everything” plan won’t work.

8. Steve M. Says:
   November 22nd, 2008 at 12:22 pm

   I suspect massive CEO pay is also meant to motivate the people one or two levels below the CEO. Objectively, the CEO probably isn’t all that different than then his direct subordinates, or their direct subordinates. But the people close to, but not quite at, the top can have a huge effect on an organization’s performance. If those people think, “Hey, if I work really hard and make my little corner of the corporation efficient and profitable, then I’ll have a better chance of climbing up to the next level, where I’ll get massively increased compensation,” then they’re likely to work that much harder. This isn’t even close to the whole story. Huge CEO pay serves many functions — of course it would in any medium-to-large size organization — many of them having to do with investor relations, attracting talent, and the like. Sometimes, the CEO just beats the corporation’s negotiators and get a good compensation package. The point is, the CEO is a beneficiary of a lot of factors that have led a lot of corporations to think that paying the CEO a gazillion dollars is in the corporation’s interest. Not all of them have to do with the CEO (or with the ability of plutocrats to extract more money from the economy), and I think that being the reward in the tournament of executives is a fairly important one.

9. robertdfeinman Says:
   November 22nd, 2008 at 12:27 pm

   Matt is making a useful point, that we need competition in ideas as well as products. Where he goes wrong is in thinking that competition has something to do with “capitalism”.

   Capitalism is a way to raise capital, by selling shares or borrowing money. Those providing the funds expect to get back their money plus a portion of the profit. This means that the firms must find a way to generate a profit. For most firms (until recently) this has meant by exploiting the natural environment in some fashion. The profit comes about because the cost borne by the environment is not factored into the cost paid for the resources. This is the famous problem of “externalities”.

   One can have a marketplace in ideas as well as products, but how these are produced is independent of how they are financed. For example, in the US, we have competitions in ideas using funds provided by the NSF or NIH. Grants are allocated to rival groups all working on some scientific endeavor. This is seen as more likely to produce results rather than leaving all the work to one group.

   Socialized industries are not prevented from developing new ideas as can be seen from the work done is such states. Sputnik was the most dramatic example for the US.

   The defect in the US is that big industries all belong to shared monopolies and they collude (formally or informally) to keep out innovation and competition. One of the ways they do this is by keeping the pool of executives small and inbred. There is a total lack of democratic governance as well, since stockholders (the nominal owners) have no say in how firms are run or who runs them. Incestuous boards of directors pick their own successors and serve on each other’s firms. They also rotate in and out of government.

   They set their compensation packages subject to no oversight.

   The failure is a lack of democratic governance. “Capitalism” has nothing to do with it.

10. Jeff H. Says:
    November 22nd, 2008 at 1:18 pm

    Matt needs to read Coase on the theory of the firm.

11. Cranky Observer Says:
    November 22nd, 2008 at 1:47 pm

    In my 30-some year business career I have encountered owners, managers, leaders, and even executives who have made a real difference to their company, their market, their technology/product/service, even to the world. But they are not very common and become less common as one goes up the ranks. Probably 1% or less of today’s big-dollar CEOs fall into this category; the vast majority are just money-extractors.

    And in the case of self- or family-owned businesses the people who make a real difference often don’t pay themselves that much compared to the agent/employee chair warmers: $200/$400k is a typical salary for the owner of a very successful mechanical specialty firm - plus dividends /when the business can afford them/. Quite a contrast to the big swinging dorks today who extract $5 million/year PLUS $20 million bonuses whenever things don’t totally collapse (and on Wall Street, even when they do).

    Cranky

12. LittleMac Says:
    November 22nd, 2008 at 1:50 pm

    The laws of physics are just too complicated and too weird, the nature of gravity too uncertain, for building projects to be put in the hands of architects and engineers.

    Of course, economic forces are actually uncertain, whereas the force of gravity is always 9.8m/s/s. So this is kind of stupid.

13. dj moonbat Says:
    November 22nd, 2008 at 2:16 pm

    We have capitalism not because it’s a way to manage complexity. We have capitalism because the wealthy and powerful made it the law. And because guys like Matt come up with seemingly sophisticated post hoc rationalizations. (Also known as “ideology.”)

14. Ramesh Says:
    November 22nd, 2008 at 2:48 pm

    success != brilliance. As the wise sage Woody Allen said, 80% of success is showing up. Most people that I worked with during dot com boom assumed their financial success came from their brilliance. So, this character flaw that Matt is pointing out is not just limited to corporate executives.

15. praxis Says:
    November 22nd, 2008 at 3:08 pm

    Of course, economic forces are actually uncertain, whereas the force of gravity is always 9.8m/s/s. So this is kind of stupid.
    

    Ah, yes, Pigou: “Even if the constants which economists wish to determine were less numerous, and the method of experiment more accessible, we should still be faced with the fact that the constants themselves are different at different times. The gravitation constant is the same always. But the economic constants – these elasticities of demand and supply – depending, as they do, upon human consciousness, are liable to vary.”

    Now what was it that Keynes had to say about Pigou in The General Theory? A debate, I suppose, that continues. Even though the gravitational constant — stupidly enough — stays the same.

16. Sherry Says:
    November 22nd, 2008 at 3:50 pm

    The problem is that profit of the business enterprise itself has become collateral to what motivates boards and CEOS. For the last 30 years, and maybe longer, they have been motivated by stock price as determined by quarterly reporting.

    Stock price is affected by “profit” but “profit” as measured by accounting standards can hide a lot of sins. There are a myriad of ways to hide losses. Two simple ones are expansion and acqusition. In both cases, losses can be pro forma-ed out of existence or at least well hidden. Also, there are many ways to play with timing and revenue recognition. People in the executive suite spend their time figuring out how to move these numbers around and present a story to analysts to get the best possible stock price. It has little to do with the actual production of the business or real profit coming as essentially gain from sales. As a lawyer and an executive I’ve seen pretty well inside the executive suite of a number of Fortune 500 and 100 companies, and for years I’ve worried that too much of what I’ve seen is phony. Far too many executives have no passion (or even interest) for their products or ther customers (let alone workers who are disposable objects).

    CEO and top executive salaries have been a pernicious,destructive force in American business. The higher the salaries have gotten the more energy has gone into gaming the system to get higher salaries too and the less has gone into actually running the companies.

17. Herb Says:
    November 22nd, 2008 at 4:50 pm

    Tell that to Megan McArdle.

18. Jack Says:
    November 22nd, 2008 at 5:18 pm

    The view of free market capitalism put forward here has a lot in common with basic evolution theory. On this analogy, then, the average business is like an Intelligent Design supporter who sees, or tries to see, forethought and planning in everything. Are you saying business people are hopelessly backwards in their understanding of the economy? And how are we supposed to justify the disgusting salaries of CEOs, which is the first priority of any economist?

19. Gene Says:
    November 22nd, 2008 at 7:41 pm

    I certainly do not want to argue in favor of either CEO briliance or to justify in any way the current groteswue level of CEO pay, but this is a stunningly uninformed post that reflects zero appreciation of the distinction between how markets work in theory vs. the enormous variation in how markets work in practice, and the even more important distinction between those two and how firms work.

    One of the major criticisms of the economic theory of the firm (i.e., the free market model), is that it treats the firm as a black-box, a purely impersonal input-output function, and ignores the social and behavioral aspects of how a large complex organization actually functions. To take a parallel, Clausewitz was a brilliant military strategist but running an army takes much more than strategy.
    \
    There are dozens and dozens of studies that try to parcel out what part of firm success is due to the industry it’s in versus what part is due to the particularing positioning (i.e., strategy) the firm has chosen. Both matter. Similarly, there are disctinct approaches as to how the latter (the approach or stragey) comes into being: a conscious plan implemented or via more incremental enactment that seizes on opportunities as they arise.

    Etc. etc. etc.

    This post really is Palin-quality thinking: take a few bromides, through in a half-truth or two, and pop out some larger conclusion and broad characterization that might apply to 0.05 per cent of real people’s actual thoughts on the subject.

    Matt: you don’t have a fucking clue. You read a few business newspapers and magazines once in while and you post. That’s fine. But when I read something this naive and frankly stupid, it really calls into question all the other posts on foreign policy and transportation et al where I assume you might actually be talking from some basis of knowledge.

    There’s the famous story of your fellow Harvard alum McGeorghe Bundy getting up and do a brilliant job of winging a supposedly prepared presentation from a blank page that supposedly contained his notes. You ain’t no McGeorge Bundy. This is more at the level of one of those old Mike Barnicle Globe columns,when he clearly was too tired and bored to do the work, and so just used quotes from a whole lot of unnamed sources.

20. Derek Says:
    November 23rd, 2008 at 5:01 am

    “but this is a stunningly uninformed post that reflects zero appreciation of the distinction between how markets work in theory vs. the enormous variation in how markets work in practice, and the even more important distinction between those two and how firms work.”

    I’d imagine that Matt’s point is that business press doesn’t reflect these distinctions

    Of course that would by why it’s “business press” and not academic economic journals.

21. Fenria Inculanta Says:
    November 23rd, 2008 at 7:28 am

    I think what we should do is to avoid idolatry—of men and of systems, material and ideological and notional.

22. Andrew Says:
    November 23rd, 2008 at 11:55 am

    I’ve been a “business person” with multiple large firms for over twenty years, and a consumer of business publications for about the same period of time.

    I think Matt’s first premise - that the business press (in the form of magazines like Fortune, Business Week, Forbes)typically focus on companies from the perspective of CEO X and Senior Executive Y is sustainable.

    It’s entirely unsustainable to then generalize from that observation to say “[I]t’s noteworthy that the business class, as a set, has a curious and somewhat incoherent view of capitalism and why it’s a good thing.”

    From the trenches, the vast majority the folks I’ve talked to, including managers at the second and third rungs, know that the C level has an influence on company performance and the stock price, but are only rarely (and in rare circumstances) the defining influence. Most of us don’t subscribe to the idea that CEO pay levels are justified by performance.

    There’s lots of reasons why CEOs are paid what they’re paid, but being the brilliant thinkers and decision makers behind strategy and product development isn’t one of them.

    Luck and circumstance plays a large role in why managers are seen as getting things right. See, for example, Robert Rubin - or even Alan Greenspan.

23. Aatos Says:
    November 23rd, 2008 at 12:01 pm

    Internally, corporations are socialist dictatorships. If you gave them a paramilitary force and a big island, they might as well be Cuba.

    Thus the genre of dystopian futures governed by evil corporations. It’s not that big a stretch to imagine them just as they already are, only with combat shotguns and high explosives.

24. elle loco Says:
    November 23rd, 2008 at 1:55 pm

    Gee, I thought Matt’s main point here is that the business press is beholden to a Great Man theory of executive leadership, which is about as truthful and veridical as Great Man theories of history.

    As someone who has worked in the business press and reads it every day, I feel I’m on solid ground in averring that this point is undeniably and obviously true.

    What a bunch of assholes on this thread. Can a blogger elect a new republic of commenters? I guess not, and too bad.

25. Kevin Carson Says:
    November 24th, 2008 at 5:01 am

    Great minds think alike. This was also the general theme of an article I wrote called, with apologies to Mises, Economic Calculation in the Corporate Commonwealth. I incorporated it into a longer manuscript chapter applying the Austrian calculation argument to the corporation.

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