The essence of capitalism is not free markets or free enterprise. The essence of capitalist is capital, the use of existing wealth to create new wealth and thereby increase the amount of wealth in the world.
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There have been enterprising merchants and traders in many cultures in many periods of history, but, according to my definition, they weren’t capitalists because they didn’t employ capital. The modern capitalist era is the first period of history in which capital investment was the driving force in society.
If capital investment is the essence and justification for capitalism, then the main criticism to be made of today’s bankers and corporate executives is that they are not true capitalists. Not all of them, but all too many of them use their wealth not for production of new wealth, but to extract wealth from others, by getting people into debt or by gaining control of organizations and milking them for their own advantage.
When I studied economics in college more than 50 years ago, I was taught that there are three factors of production: land, labor and capital, and three sources of income, the rent of land, the wages of labor and the interest or profit on capital.
Capital is a more subtle concept than land or labor. It can mean capital goods, the tangible things that increase the productivity of land and labor—steam engines, railroads, computers—and it can mean financial assets that could be used to purchase those goods.
These three factors are not equal. Landlords and other owners of natural resources do not, as such, create wealth. They merely collect tribute. It is no accident that “rent-seeking” is such a pejorative term among economists. Labor does create wealth, but there are limits to what can be produced by the hardest-working of individuals. It is capital that is the force multiplier—that turns a ditch digger into a steam shovel operator, a farmer behind a horse-drawn plow into a farmer on a tractor or petroleum from a noxious waste product into the basis of an industrial economy.
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There is such a thing as human capital. If you go to college and learn to be a chemist or an engineer, you become capable of creating more wealth than if you were a laborer or a cleck.
There is such a thing as state capitalism. Government investment in airports, bridges, canals, dams and other infrastructure can add to the ability of society to create wealth.
Business corporations are necessary as a mechanism for capital formation. The limited-liability public corporation provides a way for investors to turn their savings into capital with limited risk and potentially unlimited gain. Few would invest if their risk also was potentially unlimited. What this means is that the consequences of corporate failure are not limited to the investors, but are spread through all of society. I think this is justifiable when corporations generate economic growth that also benefits all of society.
The accumulation of wealth by corporations and wealthy individuals represents a concentration of power that is dangerous to democracy. But it is a necessary danger so long as we want to enjoy the advantages of economic growth. The alternative is state capitalism, which is an even more dangerous concentration of power.
Someday continued economic growth may not be possible, or it may not be desirable (two different things). Exhaustion of natural resources or the threat of global climate change may set limits on growth. Or people in rich countries may decide they have enough possessions and would rather have leisure. If and when such a day comes, a more cooperative form of economic organization may be desirable. Or it may be that someone will discover an engine of economic growth that works without all the problems generated by capitalism.
At present, it seems to me that you have to say of capitalism that which Winston Churchill said of democracy—that it is the worst system except for all the others.
So it seems to me. What do you think?
Phil Ebersole's Blog 