Wednesday, December 3, 2008

How About Really Going Capitalist?

Adam Smith (1723-1790) {{he|דיוקנו של אדם סמית}}Image via Wikipedia

Why is capitalism more productive than centralized economic systems? Perhaps its because people have incentives to make decisions that benefit the system as a whole.

Most companies make their decisions from the top down, making them more like the Soviet Union than a free market economy. But could they make a change?

I would like to see companies be more like startups internally. Employees know an enormous amount about the markets, technology and other employees that goes unleveraged when decisions are made from the top down.

I'd like to see people rewarded for the risks they take and for making decisions when their own compensation is at stake in the projects on which they work.

An important strength of capitalism is its decentralization of decision making, with commensurate risks and rewards. But traditionally companies are run from the top down, which makes slower to react and much more inaccurate when they do.

Startups do a much better job at taking risks and responding to the market. But there are advantages to scale that they cannot benefit from at the same time. But a large company could combine both with the right philosophy and information systems.

Interestingly, part of the appeal of scale comes from the tax code. Transactions between companies are taxed, but transactions between employees in a company are not, so the tax burden is lower per transaction. But often the loss of effectiveness more than swamps the advantages in size.

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Al Brown said...

It might be a good idea to change taxation so that it does not favor large organizations over small ones.

Perhaps the tax rate for corporations should increase gradually as a corporation gets larger, offsetting the tax savings for internal transactions.

If there are no tax advantages to getting big, companies would tend to only get big when there are other real advantages.

Over all, organizations would get more efficient, as the tax advantages by themselves would no longer be subsidizing the inherent inefficiencies of getting large.

Anonymous said...

I don't think it's fair to characterize top-guided management as per se the equivalent of Soviet-style central planning, which is all about coercion. It is somewhat valid to the extent to which governmental regulation imposes regimentation on a nominally market enterprise. In a free or relatively free market, there are means of enabling and assessing autonomous decision-making of lower-tier employees even with mundane managment techniques, and employees whose excellence is under-valued can leave at any time. I've been in offices where employees tend to be treated like automatons expected to merely follow routine, others where they are expected to show initiative. But some companies do experiment more radically with expanding the decision-making leeway of employees along lines that might emulate aspects of the wider market. Examples include Google and, as a mathematician once explained to me (in the 1990s), Kodak. The department in which this guy worked was able to charge other departments within Kodak for what it provided. But such emulation of non-institutionally-bounded vendors can only go so far, since there is a difference between profit-making action ultimately for the sake of the same overall unit (the company) and both competition and cooperation in the larger economy. In the absence of market-emulating accounting, other accounting is used. In any case, without at least some general boundaries ensuring commonality of purpose within a firm, members of the firm would be working at cross purposes the cost of which would be greater than the benefits of competitive fermentation. But I agree with the insight that many companies can go further in the direction of internally emulating wider-market models and that this may be especially productive in certain cases.