Competition is a powerful stimulus to efficiency, innovation, and customer service. We can believe these things, and should, without feeling obliged to accept the political agenda of libertarian individualists. The language of inclusion provides the basis for doing so.
The Triumph of the New Right
In an extraordinary reversal of a hundred earlier years of history, the last two decades have seen the revival of faith in market forces. Deregulation and privatisation have become a universal agenda: the need to contract the economic role of government is almost a cliché: the centrally planned economies of Eastern Europe collapsed under the weight of their own incompetence.
This victory of systems has been paralleled in the battle of ideas. The intellectual apologists for markets – no longer apologetic – are mostly American, although the doctrines they preach are partly attributed to the Austrian Hayek and, implausibly, to Adam Smith, the eighteenth century Scot who founded modern economics. They include political philosophers such as Robert Nozick and Ayn Rand: aggressive free-market economists such as Gary Becker and George Stigler, both based at the University of Chicago: and another school of economists, led by James Buchanan of the University of Virginia, who have developed a sceptical view of government and government action labelled the theory of public choice.
These doctrines were popularised in Britain by the Institute of Economic Affairs. They found a ready hearing in the 1980s under radical right wing governments in both Britain and the United States. Ignoring considerable differences of expression and emphasis, I will label this collection of individualist philosophers, neo-classical economists and conservative politicians “The New Right”. Their missionaries range widely through the former Communist countries and the less developed world.
The premises of the New Right are austere. The most important of social institutions is private property. Self interest is the central human emotion, insecurity the engine of progress. Government is inherently coercive and corrupt. Fairness and justice mean respect for other people’s property. Trust is established by good attorneys and watertight contracts. If there is a role for nobler sentiments, like altruism, goodness, sincerity and confidence, it is in our family lives, not in commerce: the social responsibility of business is to maximise its profits.
Perhaps this harsh view of human nature is no more than a realistic one. There is ample unhappy experience to justify the New Right position. The dictators of Eastern Europe who seized economic power on behalf of the people mostly used it to maintain their own power and privileges. African politicians who took control of their economies frequently stole what they controlled. As we look at the many ecological disasters in the former Soviet Union, we understand that the environment is best protected when somebody owns it.
The New Right position is, however, self-reinforcing. People who are told there is no need to apologise for selfish behaviour tend to behave selfishly. Perhaps Ivan Boesky went too far in proclaiming that greed was good – or so the Courts though when they sent him to prison – but he captured the spirit of an age. Senior executives justify their large salaries and generous stock options by reference to fairness and market forces: which mean no more than that everyone else is doing it. Thirty years ago, such behaviour was constrained by unwritten codes of behaviour, and corporate managers were no more expected to use their positions to help themselves to the money which passed through their hands than were judges or policemen. Thirty years ago, high levels of unemployment, or homeless people sleeping in the streets, were assumed to be politically unacceptable. Today these things are not only politically acceptable but politically accepted.
Even if these New Right doctrines are persuasive, they remain unattractive to most intelligent and sensitive people. Perhaps economic efficiency, market forces, selfishness, insecurity and progress go hand in hand. Perhaps uncertainty, homelessness and growing inequality are the price we have to pay for high and rising output. We have to accept that the best way to protect our savings and get our cars and pot noodles is to satisfy the demands of greedy executives and financiers. We may wish it were otherwise; but experience has shown that appeals to nobler feelings are not enough to fill the shelves of the supermarket or load the video recorder. We must just be thankful that there is more to life than economics.
But these claims of the New Right are false. The association of market economics and philosophical individualism which is at the heart of the New Right argument is unnecessary. Libertarian philosophy needs to be defended in its own terms, and does not acquire legitimacy from the success of capitalism. It is possible to believe that competitive markets are an effective and efficient system of organisation and yet to reject the value system of the New Right, which applauds selfishness and glorifies private property.
The Social Context of Markets
Markets are essentially social institutions and operate within a social context. Yet we operate with models of markets which appear to deny that: even though by this denial we are quite unable to explain facts about the world of obvious and central significance. Switzerland and Japan, respectively the richest and the fastest growing of major economies, are not by any stretch of the imagination individualistic societies. Indeed, among the world’s most successful economies, individualism seems to be the exception rather than the rule.
And there is the awkward fact that the most important of modern economic institutions is the large corporation. We go through contortions to avoid confronting this. Economists describe companies by a principal agent model, in which shareholders, too numerous and too busy to manage the company themselves, hire salaried managers to mind the store. Business journalists treat huge large firms as extensions of the personalities of individuals: General Electric is Jack Welch, Microsoft is Bill Gates. Neither of these descriptions bears the faintest resemblance to the reality of corporate bureaucracies. Our schema has no room for the irrefutable fact that large companies are social institutions with character and personality of their own, and that it is on the nature of that character and personality that their performance depends.
The individualistic context is not the only social context within which markets can function and it is not at all apparent that it is one in which markets function well. Individualism as an economic system, centres around the establishment and exercise of private property rights. The costs of this form of organisation are high. Since the definition of property rights is of overriding importance, much time and effort is devoted to it. This means litigation, with the direct costs it imposes, and the indirect costs of attempting to write agreements that will protect against litigation. If rich individuals dispute property rights in the courts, poor people dispute them in the street. So individualism is associated with high levels of criminal behaviour, and this too has indirect costs as those who have property defend themselves against those who have not. Since trading in property rights is encouraged, individualistic societies have over extended financial services sectors in which considerable talent is devoted to activities of no real value.
And individualistic societies do not, in the main, manage well activities which either need to be undertaken collectively or which usually are undertaken collectively. Commodities like environmental services and education are inefficiently provided and inadequately supplied. Politics degenerates into a clash between conflicting economic interest groups. And individualistic societies are less successful in those commercial activities in which success depends on trust and co-operation between individuals and firms.
The individualistic model of markets implies too much litigation, high levels of crime, too much expenditure on financial services, an ineffectual and inadequate public sector, a political system structured around the representation of economic interest groups, and an absence of trust in commercial relationships. It is not an accident that this is a list of the principal social and economic problems confronting the United States.
It is also a list of areas in which non-individualistic market economies, like Japan, Norway, Singapore or Switzerland, perform markedly better. All have low crime rates. The absence of lawyers in the conduct of Japanese business is as marked as their obtrusive presence in America. Singapore and Switzerland have important financial services sectors, to be sure, but mainly because foreigners find their institutions more reliable than those of their home country. Public education operates to high standards, the streets are clean and, save in parts of Japan, the atmosphere unpolluted. And trust and co-operation in business yield hard-nosed commercial advantages. Above all, Japan, Norway, Singapore and Switzerland are rich.
There are two important qualifications to what can easily sound like an anti-American tirade. Once is that there are advantages as well as disadvantages to an individualistic model of capitalism. The US economy has its own extraordinary strengths. Its record of both technical and organisational innovation is far ahead of any other country, and that capacity for innovation is closely associated with its individualistic culture. American business is wonderfully open to new ideas and there is little social or behavioural resistance to change. Individuals and organisations are free to experiment, and there is no disgrace and little penalty in failure.
The second is that although the US is certainly the most individualistic of successful economies, it is still not very individualistic. Trust, co-operation, mutual respect and collective action are all important to US commerce. The most individualist of modern economies is probably Nigeria, and it does not work. The key point is that the United States is at one end of the spectrum of effective market economies. The mistake is to univeralise a stylised version of the US economic system into a general model of how markets do and should operate everywhere.
The Inclusive Economy
We need a label to attach to non-individualistic market economies like those of Japan, Norway, Singapore and Switzerland. There are several around, – social markets, stakeholding or communitarian societies, Rhenan or alpine economies. These have different nuances, different emphases. I shall describe them as inclusive economies.
This term captures best the essential differences between the New Right philosophy and its alternatives. The New Right stresses autonomy – the right of the individual to pursue freely his or her own interests and objectives. The alternative is to emphasise inclusion – the right, and also the requirement, to be part of a community. The injustice that most concerns the New Right is coercion – a term which is used to cover taxation and economic regulation as well as more direct restrictions on personal freedom. But another injustice is that of exclusion – the inability of some to participate in an economy and a society which they would dearly like to join. In practice, autonomy is often a synonym for poverty.
In inclusive economies, there is no incompatibility between the functioning of markets and the existence of shared values, collective activity and institutions, and broadly accepted concepts of fairness. The commercial behaviour of individuals and firms is judged by reference to outcomes, not just by legitimacy of process. The exercise of property and other economic rights is not absolute, but conditioned by prevailing social values. It is not just that there is no incompatibility between markets and fairness, shared values and collective activities. These things are of central importance in making markets work.
That makes it sound as though inclusive economies rely heavily on appeals to our better nature. They don’t. We have learnt, through hard experience, that altruism as a basis for business behaviour does not work. Inclusive economies impose sanctions on those who engage in inappropriate or unacceptable behaviour. These sanctions are social and commercial, not legal. They are not coercive, in the sense in which libertarians understand coercion. No-one puts you in prison if you fail to observe the conventions of Swiss or Japanese business behaviour. You simply aren’t very successful. The coercion is more subtle, but entirely real. Some people find it oppressive.
But inclusion encourages the developmental of trust, and confidence. Inclusive societies foster co-operative behaviour, which stimulates the acquisition of skills, the exchange of information and flexibility in response within firms and between firms and their suppliers Above all, inclusive societies provide security. They offer social security, in the narrow sense of the phrase. More importantly, they offer the security that comes from the stability of business relationships – in employment, as customer or supplier, in finance. It is in this rather indirect, but profound, sense that inclusive economies encourage long term behaviour and individualistic societies do not.
The result is not just that inclusive economies are kinder and gentler and altogether nicer places to live – although mostly they are. Trust, confidence, co-operation and security have tangible commercial benefits. These features of inclusive economies are the source of their international competitive advantage. They are the basis of high levels of product quality based on a combination of assembly line discipline and exceptional component reliability. They enable firms to undertake just-in-time inventory management. They enable information to be shared in trust-dependent areas of financial services. They allow fast and co-operative reactions to changing fashions or changing markets. It is the resulting close relationships along the chair of production which has enabled firms to shorten model cycles. These factors are the source of Japanese hegemony in automobiles and audio equipment and Swiss leadership in production engineering.
The Costs of Individualism
But security has direct as well as instrumental value. This is the most important political issue of the moment. In objective respects, the performance of the British economy today is remarkable – low inflation, falling unemployment, stable growth. The widely noted absence of a “feel-good factor” is a description of the sharply increased economic insecurity faced by individuals in Britain today: mainly the result of waves of “down-sizing” and restructuring by corporations and public agencies, partly the product of fluctuations in asset prices, especially in the housing market.
The conventional view is that such insecurity is an inevitable product of technological change and international competition. And indeed it is true, particularly in the public sector and privatised industries, that many job losses have been the result of the elimination of long term over-manning. But the widely expressed view that large companies “cannot afford” to provide job security any more fails to stand up to scrutiny. The period since the early 1980’s has seen a steady increase in stock prices, dividends, and in the share of profits in national income. It is not that companies cannot afford to provide job security. It is that in the face of changes in social attitudes, and pressures from the capital market, they have increasingly chosen not to.
At the same time, the social legitimation of individualistic behaviour has meant that the returns earned by successful organisations are concentrated on fewer people. ‘Lean and mean’ is the slogan. Its specific implication is that when companies create wealth, they are increasingly encouraged to distribute it to those who deem themselves to be responsible for that success. So the spread of rewards is widened: and in the economy as a whole we see well paid people working harder than they wish and others, not necessarily less able, unable to find jobs at the going wage or salary.
The effect of these changes has been to widen pre-tax and benefit income differentials and to transfer much of the cost of structural change in the economy from the shareholders of corporations to individuals. Much of that cost then falls, via the benefit system, to the state. Housing benefit, unemployment and social security expenditure directly or indirectly attributable to job losses have been the most significant elements of growth in public spending in the last decade. The rise in public expenditure is a direct and immediate consequence of the costs of individualism.
This seems paradoxical. The reason we find it so is that our thinking has been conditioned by a debate in which it is assumed that economic power can be exercised only by individuals or by the state. These are the terms of a traditional right-left, capitalist-socialist, liberalist-planner dichotomy. Both sides of the political spectrum have traditionally accepted this characterisation, disagreeing only on where the lines should be drawn: socialists finding the concentration of economic power in the hands of individuals offensive, the New Right believing that its exercise by the state is coercive.
Yet once we understand that most economic activity is conducted through intermediate institutions which are controlled neither by government or individuals, and that social values are a more important constraint on commercial behaviour than rules and regulations, this polarisation becomes inappropriate and the terms of the argument sterile. When we attack the social role of intermediate institutions in the name of individualism, as we have done, we may find that we increase rather than reduce the economic role of the state.
This is true of state regulation as of public expenditure. Are Switzerland and Japan more or less regulated economies than the United States? The answer to that question is not straightforward. Neither country has anything which resembles the rule book of the Securities and Exchange Commission. Both would find quite ludicrous the hundreds of pages of codes and protocols which have been produced as the basis for the deregulation (sic) of the American telecommunications industry. Yet this absence of formal regulation is accompanied by, and made possible by, extensive self-regulation – regulation by values rather than by rules.
For this reason, there may be, and frequently is, less state regulation of economic activity in inclusive societies than in individualistic ones. The British financial services sector is an obvious example of the substitution of an elaborate system of formal regulation for an older tradition of self-regulation based on tacit rules and shared values. It is by virtue of such substitutions that the present government has established more new agencies of economic regulation than any before it.
Thus, the pursuit of individualism, far from rolling back the frontiers of the state, may create a need for greater state expenditure and more extensive government regulation. In both Britain and the United States today, the right observes with anger and bewilderment that the role of government and its share of national income are no less than they were when the Thatcher and Reagan experiments began. They are angry because they do not realise what they have done. It does not follow that a greater emphasis on the rights of individuals diminishes the functions of government, and what has in fact happened is the opposite.
Governance in Inclusive Economies
The individualistic era in Britain, in particular, was a reaction to a period of corporatist excess: but the alternative to individualism need not be corporatism. There is a world of difference between a market in which economic behaviour is influenced by widely shared values, and a centralised economy which is directed by those who purport to determine what these values are. That is why even though corporatists may use the language of inclusion, their objectives are opposite. It is important that the values of an inclusive economy are emergent rather than directed.
If there are clear levers of economic power, ideologues and interest groups will devote resources to capturing them. Often they will succeed, and the market degenerates into the regulatory state of the New Right or the centrally planned economies of the old left.
All market economies are vulnerable to this. We need only look across the channel to Germany and France to see the negative influence of organised economic interest groups – the farming lobby, the managers of large public and private bureaucracies, the cheminots of SNCF – who advance their own aims using the rhetoric of social solidarity. But at least they use that rhetoric. In the individualistic United States there is no need even to pretend. Washington is the lobbying capital of the world, most of that lobbying is entirely shameless, and the success of a congressman is measured by how many goodies he brings home to his district – or simply by how much he can raise to finance his re-election.
The most effective of inclusive economies operate within a fuzzy governance structure. Switzerland and Japan achieve this same outcome, but in entirely different ways. The chaotic, multi-level Swiss democracy precludes the exercise of much economic power by any single authority. In Japan, most centralising institutions lost this authority as a result of the second world war and Allied occupation, thus allowing the strongly consensual nature of Japanese society to flourish at the level of the corporation and its keiretsu. The lack of clarity about how these societies are run proves to be an economic virtue, not a vice, requiring adherence to a widely accepted set of social values while preventing any group from taking control of their nature or evolution.
What these examples emphasise is the strongly path dependent nature of the evolution of market economies. The social contexts within which the successful market economies of the world operate are very varied – as between the United States and Japan, Norway and Korea, Singapore and Switzerland. The distinctive competitive success of each of these economies – the United States in international branding and technical innovation, the Japanese in reliable production line manufacturing, the Swiss in financial services and sophisticated engineering – are each associated with the specific context with which their markets operate. That variety is to the substantial economic advantage of the world as a whole.
Even if it were possible to identify one of these models as the most effective, the dependence of each model on its own history and culture means that the attempt to transplant it to other environments would be self-defeating. We see these problems of transplantation in the uneasy process of economic reform in Eastern Europe.
The Road to Reform
The objective is not simply to be more like Singapore, or more like Switzerland, or more like Japan. Rather we should observe that there are many different social environments within which market economies operate that aggressive individualism is not the only one, nor the best. While there are strong elements of individualism in British society, these are also very different strands of thought: a long recognition that property confers obligations as well as rights, a substantial tradition of public duty and public service, and an approach to political and economic crisis more often characterised by solidarity than recrimination. A free market economy does not require us to disparage these things, still less to discard them.
Governments cannot legislate for the social context of markets. But political debate can influence attitudes, and if the terms of that debate have contributed to the rise of selfish individualism in the last two decades the same mechanisms can be used in the opposite direction. One might begin, therefore, by asserting that unashamed self-interest is a vice, not a virtue, that the usefulness of an activity is not necessarily measured by its profitability: that what someone earns is not an indicator of the value of their talents, still less of their moral stature: and that no widely accepted body of economic doctrine (the works of Adam Smith included) has ever asserted otherwise.
Profit is central to a market economy, but not its object. If we admire Bill Gates as the most successful businessman of the 1980s, it is because he changed the world, not because he made several billion pounds: just as we admire the olympic athlete for the achievement that won the gold medal, not for her possession of it. Only if we dispose of the notion that the functioning of markets depends on base and contemptible aspects of human behaviour will we create a market economy that commands wide and continuing support.
If changing attitudes and expectations is long and difficult, there is much that government can do to promote the growth and legitimate the status of intermediate institutions – organisations which are not controlled by single individuals or small groups, but which are not directed by government.
Such intermediate institutions are of many kinds. Perhaps the most important are local governments and public companies. Then there are autonomous bodies engaged in welfare provision, like occupational pension schemes. Others are involved in the delivery of goods and services: housing associations, passenger transport executives, universities, training and enterprise councils. The fissuring of the traditional state has added to the number of such intermediate institutions, privatised utilities, NHS trusts and opted-out schools, public sector management functions spun off as “next steps” agencies.
We have done this without much systematic thought to the governance structures or the financial organisation of the new vehicles which have emerged. Nor, for that matter, do we have a coherent view of the governance of the old. Our approach to them is schizophrenic. We are not sure what local government is for: we try to pretend that public companies are private companies, even to the extent of using the two terms synonymously: we disparage other intermediate institutions as quangos. We applaud their lack of autonomy and complain about their lack of accountability, often failing to recognise that these may be opposite sides of the same coin.
What is needed is to define a clear but limited range of organisational forms. The central current problem is that we have only one robust organisational form other than direct state ownership and control, which is the plc. That has led to its adoption in contexts where the objective of greater autonomy from central government is desirable, but the plc form itself inappropriate, such as water supply businesses or Railtrack. It has created constitutional paralysis in activities for which the public at large finds private ownership unacceptable, such as the Post Office and the BBC.
Even historically successful commercial organisations which are not plc’s are finding themselves forced into that mould by the absence of adequate legal support for any other – as with mutual building societies and insurance companies, Lloyds of London, and accountancy partnerships. These structural issues are not very difficult to solve when we recognise that intermediate institutions are not anomalous, but central to modern economies. What we need is to develop a variety of structures which give them autonomy but achieve accountability and legitimacy.
The most effective means of accountability is the measurement of managerial or organisational performance relative to others engaged in similar activities. And the legitimacy of organisations which are manifestly delivering the goods and services which their customers want is rarely questioned. That is why competitive markets are often, though not always, sufficient answers to issues of accountability and legitimacy. The less it is possible, or desirable, for institutions to operate in competitive markets, the more extensive the need for accountability and legitimacy to be handled in other ways.
The Policy Agenda
The problems of individualistic societies help us to identify issues for inclusive economies. Richard Freeman’s article in February’s Prospect, described a US prison population proportionately five times higher than that of the UK, itself close to the top of the league for developed countries. That is a forceful reminder that it is the inclusion of potentially disaffected communities, not the vigorous enforcement of the right to private property, which is the only long term solution to crime.
And then there is the litigation disease which, having swept the United States, threatens us too. Commercial behaviour is often best governed by people’s need to go on doing business with each other, not by the terms of a formal contract. That is what facilitates speedy response and the sharing of information in inclusive economies. You do not have a right to do something merely because it is not against the law, and those liberal individualists who think that invite, and are getting, an extensive and intrusive legal system. The language of rights – perhaps because it has become the only political language available – has begun to be misused by the political left as well as the New Right. We are in danger of forgetting that if there is a problem of sexual harassment or of how we treat the disabled it is about values and behaviour, not about procedure, process, and entitlement to compensation.
The emphasis on trading in individualistic economies imposes a variety of costs. The problem is that we need to have markets in stocks, bonds, foreign currencies, even derivatives: but what we need is only a small fraction of the volume of trading in them which takes place. In inclusive societies, the main restraint on the growth of these activities is simply that they do not command very much respect. In individualistic societies this sanction has declined, and we are even encouraged to believe that what is profitable is demonstrated to be valuable by that fact alone. But it is quite difficult to justify market economies as a means of creating wealth when the largest rewards so obviously go to those who trade in existing assets.
This fever has spread back to the industrial and commercial companies, whose senior executives are increasingly obsessed with deal-making. Their constant concern is merging and de-merging, buying and selling bits of their corporate portfolios: the pre-occupation of German or Japanese managers is with the development of their operating businesses, and they expect that to be the principal source of their companies’ growth. We need to put sand in the wheels of these mechanisms – not to bring them to a halt, because there is no example of a successful modern economy without efficient financial institutions, but to slow the pace at which they revolve.
The privatisation of public utilities has produced substantial improvements in the efficiency of the firms concerned, by giving managers commercial freedom in the day to day management of the business. Yet their continuing unpopularity is evidence of a governance structure that lacks legitimacy. The attempt to establish a “regulatory contract”, under which firms maximise profit subject to an external constraint, is an unavoidable source of dissatisfaction, since under it companies succeed when they earn more profit than the regulator allowed. The right answer is to move away from the plc framework, and to retain the advantages of managerial autonomy and commercial discipline in a framework focused on customers rather than the capital market. Here, as so often, we suffer from confusion between the establishment of market discipline and the institution of private ownership has got in the way. London’s sewers are no more private property than its streets – but we ought to pay for both of them.
And we should recognise the central role which intermediate institutions can play in the provision of social security. The only major success of UK welfare policy over the past thirty years has been the occupational pension system, which has delivered for a minority, but what is becoming a substantial minority, effective security in old age. The system survived a vigorous attack from the New Right, who tried to return its assets to the control of individuals, rarely to their advantage. We need to learn the lessons from that: we need a public-private partnership to develop similar benefits for those who do not spend long periods with a particular employer, and in recognising that by far the most efficient provider of unemployment insurance is employers themselves.
I have chosen this small number, but wide range, of examples – crime, litigation, financial services, public utilities, social welfare – to demonstrate that there are many issues on which it is possible to take principled, market-oriented positions which differ radically from the New Right agenda. The merits of market organisation are clear. The price mechanism has been shown to be superior to central planning and direction in managing the information and control systems needed for the functioning of a complex modern economy. Competition is a powerful stimulus to efficiency, innovation, and customer service. We can believe these things, and should, without feeling obliged to accept the political agenda of libertarian individualists. The language of inclusion provides the basis for doing so.