The Third Pillar: How Markets and the State are Leaving Communities Behind

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Perhaps more than anyone else, the Reverend Thomas Robert Malthus epitomised the heartless side of liberalism, when taken to its extreme. In the various editions of his Essay on the Principles of Population published in 1798, he emphasised the tendency of man to reproduce faster than food supply. Man could restrain himself through self-imposed checks like delayed marriage or sexual abstinence, but Malthus did not believe these would work. Instead, disease, war, and famine would be the natural checks on mankind’s lack of self-control. No wonder historian Thomas Carlyle termed economics ‘the dismal science’! Malthus was wrong. Humans do not have an uncontrollable urge to reproduce. Indeed, prosperity has been a powerful contraceptive, with people becoming less willing to have children, even as they can afford more of them. Fertility rates for women are now below population replacement rates, not just in rich countries but in a number of emerging markets. Nevertheless, his views offered those who opposed even humanitarian government aid a theoretical rationale. Any relief schemes for the unemployed or the poor only encouraged them to reproduce more, and thwarted natural checks and balances. The indigent should be left free to starve, for only through a market-induced cull would succeeding generations have a better life.

Even if such callous theorising was never actually translated into action, it did help harden policies toward the poor and the destitute. As the eminent historian and sociologist Karl Polanyi pointed out, the Poor Law in England, which mandated parish support for the indigent, was made harsher in 1834, especially for able-bodied males. This was just as difficult economic times and the new machines of the Industrial Revolution were putting thousands out of work.9 (#litres_trial_promo) Some tried to put a better light on these policies, arguing they placed the community back in charge of any voluntary support, others claimed rich farmers were misusing Poor Law subsidies. There was some truth to these explanations. It was also true that Parliament was dominated by the propertied well-to-do, who had been complaining about the high taxes they had to pay before the Poor Law was reformed. Clearly, they were also voting for their pecuniary interests.

With the demise of feudal institutions, the powerful no longer had an obligation to the weak in the community, while market fluctuations and automation left workers, especially those who had left their traditional communities, utterly exposed. Something between the extreme individualism of unregulated markets and the enforced collectivism of an authoritarian, overweening state had to be rebuilt on the ashes of feudalism. Before getting to that, though, what did a market freed from all restraint look like?

THE UNBRIDLED MARKET

Initially, it resembled the perfect competition of textbooks, with producers competing with one another to give the consumer the best deal, but this did not last. For as Adam Smith recognised, competition drove down profits, making any producer’s life greatly uncertain. The inexorable political tendency of a free, unfettered, unregulated market was for the producers, after experiencing the rigors of competition, to attempt cartelisation.

John D. Rockefeller, the richest man in the world in his time, made his money in rock oil or petroleum, in the early days of the industry when oil’s primary uses were for fueling lamps and lubricating steam engines. Rockefeller was not attracted to the risky business of prospecting for oil. Not only was unscientific drilling more likely to unearth dry wells than oil, excess production whenever oil was found in a locality could bankrupt producers as prices plunged.10 (#litres_trial_promo) Rockefeller wanted a more stable business, and he found it in oil refining in Cleveland, the urban portal to Oil Creek, Pennsylvania, where oil had been discovered first. As Rockefeller worked to make his refinery the lowest-cost producer – at one point reducing the number of drops of solder on the tin cans used to carry kerosene from forty to thirty-nine after checking that any further reduction would cause the can to leak – he managed to drive out the truly incompetent and gained market share.11 (#litres_trial_promo) Yet many, having sunk money in their investments, and having debts to pay, refused to quit, and kept the price of refined products low – so long as the price was a little more than their incremental cost of refining, the zombie producers staggered on. At one point in the 1870s, refining capacity was three times greater than demand.12 (#litres_trial_promo)

Rockefeller wanted to bring order to refining, and his first target was the twenty-six remaining independent Cleveland refiners. In 1872, as Ron Chernow details in his biography of Rockefeller, Rockefeller struck a deal with the railroads serving Cleveland, whereby Rockefeller and his cartel would get discounts (from the posted transport price) for the crude and refined oil they shipped. More egregious, the railways agreed to pay the cartel for every barrel shipped by the competing independent non-cartel refiners. Effectively, this meant the railways would face a higher cost to transport non-cartel products, and thus would have to charge the cartel’s competitors more.13 (#litres_trial_promo) In addition, the cartel was to get full information about the oil shipped by competitors. In exchange, the three participating railroads each got a fixed share of the oil that the cartel shipped, and fixed transport fees, thereby eliminating the cutthroat competition they otherwise engaged in. The arrangement would bring stability to their revenues. Rockefeller’s keen business sense helped him recognise that both refiners and railroads might want to cartelise, and the combination would be deadly to those not in the cartel.

With no alternative methods of transport, the angry oil drillers along Oil Creek decided to boycott the cartel and sell only to local independent refiners. Protesters attacked the railroads, emptied oil cars and spilled their contents on the ground, and ripped up tracks. Even as the industry was in turmoil, though, Rockefeller bought up twenty-two of his twenty-six Cleveland competitors. As an owner recounted, ‘There was a pressure brought … that if we did not sell out we should be crushed out … It was said they had a contract with the railroads by which they could run us into the ground if they pleased.’14 (#litres_trial_promo)

In the face of prolonged public protests, legislators eventually withdrew the charter for the shell company at the center of Rockefeller’s cartel, while Congress started investigations. The railroads, who were much more dependent on government favour and public opinion for their activities, backed down, and instituted uniform rates for all shippers once again. In the meantime, Rockefeller had created a refining monopoly in Cleveland, as well as a strategy that would serve him well going forward – cost efficiency was good, but monopoly on top of it was even better. Five years after what became known as the Cleveland Massacre, Rockefeller’s company, Standard Oil, controlled 90 per cent of oil refined in the United States. There were about a hundred struggling small independent refiners still in existence at that time in the United States, which allowed Rockefeller to maintain the pretense of competition in the refining industry.

In Rockefeller’s mind, he had only helped his inefficient competitors end their misery by taking them over – in many cases, he closed their plants.15 (#litres_trial_promo) The surviving refiners would enjoy greater economies of scale and more stable prices, their workers would be more secure in their jobs, and customers would benefit in the long run. This argument for cooperation among producers – coordinated by Rockefeller – instead of competition, while not entirely implausible, was entirely self-serving. Competition was the only guarantee in a free market that a producer would be solicitous to customers, whether through innovation, better customer service, or low prices. Faced with a refiner monopoly, customers were dependent on Rockefeller’s benevolence. How much could it be trusted?

Rockefeller was a superbly efficient businessman in the Calvinist mode; he saw his work as his calling. His confidence in his own capabilities blinded him to alternative paths. He saw unfettered competition as greed, causing unnecessary booms and busts, and impoverishing the entire industry. What he tried to restore were cooperative structures such as trusts, pools, and monopolies that brought order to markets – and he had no hesitation in bribing entire legislatures or misleading public hearings with fake testimonials to get his way.16 (#litres_trial_promo) Manipulating government was just another means to business success. Many successful businessmen of the time thought similarly – Rockefeller was just more successful at executing plans. Many at the receiving end saw the kind of order he brought, which was spreading to a number of industries in the United States such as railroads and steel, as monopoly capitalism, perhaps the worst form of calculated greed. For essentially, the capitalists at the center of these cartels insisted that they, not the free market, knew what was best for the public.

The free market was not perfect. Bouts of euphoria, fuelled by easy money, undoubtedly led to overexpansion and industry hangovers. However, eliminating these wasteful and volatile episodes would also eliminate the innovation, dynamism, and creative destruction of the free market. What the cartels called waste was in fact the constant experimentation fostered by the market, energized by competition. In a sense, the magnates of the late-nineteenth-century Gilded Age in the United States wanted to restore the aristocracy, where they decided what was best for the public, but without the explicit responsibilities of the feudal manor.

In many ways, Rockefeller’s personal life was exemplary. He lived in the Gilded Age but was not of it. In the latter part of his life, he did take public responsibility seriously, figuring out how to spend his enormous fortune on the well-being of society. Among the extraordinarily successful institutions he founded are the University of Chicago, where I teach. His dismal view of competition had less resonance with Adam Smith, though, than with another insightful economist, Karl Marx.

THE MARXIST RESPONSE

The Industrial Revolution that started in Britain in the late eighteenth century created tremendous new possibilities as well as widespread despair. I have already referred to workers displaced by new machines like the power loom. In addition, though, the promise of new technologies, as well as new lands, especially in the Americas, made accessible by railways and the steamship, prompted waves of euphoria fuelled by finance. The business cycle, with its production booms and busts, emerged in many industrialising countries, as did the financial cycle, with sustained booms in lending and euphoric rises in land and stock prices, followed by crashes. In the United States, there were serious financial panics about once every twenty years between 1819 and the start of the Great Depression in 1929. Among these were the Long Depression, a series of global downturns between 1873 and 1896, bookended by financial crises. The seventy years or so of relative financial calm between the bank failures of the Great Depression and the Global Financial Crisis in 2007–2008 were an aberration, not the norm.

Barring a few at the top of the societal pyramid, people in preindustrial times had experienced collective poverty. While industrialisation, transmitted through the competitive market, lifted average living standards steadily over generations, what was also new was great dispersion in incomes across society at any particular point in time, and great volatility over time. The market offered bountiful rewards and merciless punishment, which was both its greatest economic strength and its greatest political weakness. Economic security, not physical security, was now the primary public concern in industrialising countries.

Karl Marx was wrong in some ways, especially in his economic theories, but he was one of the greatest social thinkers of modern times. He recognised that society adapts to, and is therefore shaped, by the underlying production technologies of the time. ‘The hand mill gives you society with the feudal lord; the steam mill society with the industrial capitalist,’ he wrote.17 (#litres_trial_promo) Subsistence agriculture bred feudal arrangements, while industrialisation and machines facilitated capitalistic corporations run by the emerging bourgeoisie. The technology of production did not fully determine the nature of society, of course, but Marx was right in that it was influential.

Unlike Rockefeller, who wanted capital to be left alone to create its mon-opolies, or utopian socialists like Robert Owen who, touched by the plight of the worker, called for a responsible, sharing, capitalism, Marx and his long time coauthor, Frederick Engels, were convinced that capitalism itself was fundamentally flawed and would collapse because of its own contradictions. Moreover, instead of appealing to the social conscience of the elite, Marx wanted to eliminate them. He believed that it was both morally right and economically beneficial for property to be commonly owned. Marxists did not look for crumbs off the capitalist’s table, they wanted the whole table itself to belong to those they thought were its rightful owners, the community of workers.

In their view, the industrialist exploited the worker through his ownership of the fixed plant and equipment of the factory, its capital, which was also why capitalism contained the seeds of its eventual downfall. Marx believed labour was the source of all value, and the only reason the industrialist made a profit was because the industrialist’s ownership of the means of production gave him bargaining power over workers. Any worker could go off on her own and become self-employed, but without the machines she would be unproductive. The industrialist would pay her a better wage than the self-employment alternative, but less than the value she produced for him. The difference between the value she produced working for the industrialist and her wage was the surplus value accruing to the industrialist, the source of his profits.

The more unemployed workers there were – the so-called reserve army, set adrift as enclosures rendered agricultural labour redundant and better machines rendered industrial workers redundant – the lower would be the employed worker’s alternative options, her bargaining power, and hence her wage. The industrialist’s profits would rise. By emphasising labour as the only source of value, Marx was wrong, but not out of line with economic thinkers of his time. This theorising also meant that all profits ought morally to belong to labour, and the profits accruing to the industrialist were mere exploitation, made possible by his property rights over capital.

But Marx went further to say that the capitalist structure of ownership was economically unsound, and the world should change for this reason only, even if it was not convinced by the moral argument. Essentially, competition would force the profit accumulated by the industrialist to be reinvested in yet more productive machines, forcing more workers out of the labour force, pushing wages further down. Crises, where product prices collapsed and industrial losses exploded, could arise for a variety of reasons. Along the lines of Rockefeller’s thinking, it could stem from the myopic greed or irrational exuberance of industrialists, pushing to get a greater share of the market, and ending up overinvesting and overproducing. It could arise when overindebted industrialists, pressed by bankers to repay, dumped their excess inventory and machines on the market. Most important, it could arise because the true source of industrial profits was appropriating the surplus value of labour. As the quantity of labour fell relative to accumulated capital machinery, Marx believed it was inevitable that the rate of profit would also fall, and hence the susceptibility of the system to accidents and crises would rise. A more modern version would be that as labour’s wages were squeezed, the ability of workers as consumers to buy what was produced would fall, leading to overproduction and crises.18 (#litres_trial_promo)

When crisis hit, the Rockefellers of the industrial world would buy up failing competitors, close them down and fire their workers, and eventually restore equilibrium between supply and demand, but with much distress for all. The collapse of capitalism was not inevitable – it might be stuck in perpetual torment. As the Russian revolutionary Leon Trotsky wrote, ‘capitalism does live by crises and booms, just as a human being lives by inhaling and exhaling. First there is a boom in industry, then a stoppage, next a crisis, followed by a stoppage in the crisis, then an improvement, another boom, another stoppage, and so on…. The fact that capitalism continues to oscillate cyclically … merely signifies that capitalism is not yet dead, that we are not dealing with a corpse. So long as capitalism is not overthrown by proletarian revolution, it will continue to live in cycles, swinging up and down. Crises and booms were inherent in capitalism at its very birth; they will accompany it to its grave.’19 (#litres_trial_promo)

The Marxist solution to the problem – ending competition – resembled Rockefeller’s, except Marxists wanted to replace the monopolist capitalist with the dictatorship of the proletariat. Since they argued capital was essentially accumulated profit extracted by squeezing labour (or amassed from other dishonorable activities buried in a typical family enterprise’s past like smuggling, bootlegging, usury, war profiteering and outright theft), the capitalist should be expropriated. All property would be held by the state in the name of the working proletariat, and a centralised bureaucracy would make production decisions. As Frederick Engels wrote, ‘If the producers as such knew how much the consumers required, if they were to organise production, if they were to share it out amongst themselves, then the fluctuations of competition and its tendency to crisis would be impossible.’20 (#litres_trial_promo)

Therefore, instead of the benevolent Rockefeller directing production and prices, it would be the benevolent revolutionary turned bureaucrat. Once again, what would prevent the benevolent from becoming self-interested? No amount of idealistic Marxist literature prevented the chosen elite, the nomenklatura, a superclass that had access to the best shops and the choicest luxuries, from emerging in every Marxist country, even as the fundamental inefficiencies of centralised monopolistic production slowed growth. Without competition to show up inefficiencies and penalize the merely greedy, and without the decentralized decision making that Adam Smith and later Friedrich Hayek thought was essential to make best use of local information, centralised monopolies eventually ended up as a sclerotic mess, as exemplified by the former Soviet Union.

In a sense, though, revolutionary Marxism had the potential to be much worse than monopoly capitalism, for it eliminated political competition explicitly, concentrating political power and economic decision making in the same hands. Anarchists like Mikhail Bakunin fought against the centralized state implied by Marxism, and argued for decentralised self-governing structures, only to see their influence in radical Left circles diminish. The communists, like Rockefeller, wanted to retain all the power to decide for themselves.

Fortunately, neither Rockefeller’s nor Marx’s vision was realised in the industrialising West. Democracy preserved market competition, and market competition preserved democracy. That is what we will examine in the remainder of this chapter, and in the next one, focusing on the special role played by the community.

EXTENDING THE FRANCHISE

Early in their industrialisation, most market economies concentrated economic and political power in the same hands – even in the middle of the nineteenth century, British cabinets were dominated by the landed peerage. However, as the dissatisfaction of the working classes mounted, the elite recognised that while their explicit responsibility for the rest had evaporated with the end of feudalism, some accountability had to be restored for the nation as a whole to function with more cohesion. The centralised government of the nation-state had stripped the community of some of the powers to determine local policies, even while the Industrial Revolution and the changing market brought many new pressures that the community needed addressing. Those lower down on the economic pyramid demanded a political say – else their plight would simply be dismissed, as it always has been, as the unpleasant but unavoidable consequences of progress. Undoubtedly, if the state was weak and ineffective, a coup or revolution from below was always a possibility. If it was stronger, though, the underprivileged had to stay broadly within the system to change it. In nascent democracies, this meant pushing for broader enfranchisement.

In feudal England, the right to vote was reserved for male ‘freeholders’, that is, those who had independent ownership of land.21 (#litres_trial_promo) Ostensibly, these would have a long-term interest in the well-being of the community.22 (#litres_trial_promo) More plausibly, property holders believed that by keeping the vote restricted to people like themselves, they would protect their property from the poor. They would also prevent the state from expropriating their wealth to finance imprudent spending. Indeed, despite a war of independence against the British in which Americans from all economic strata participated, the newly independent colonies of the United States typically restricted the right to vote to those men with property, with only Pennsylvania and South Carolina going further to allow all men who paid taxes to vote. In all these would-be states, women and slaves were excluded.

Over time, the vote was extended. None of the states that joined the Union after the original thirteen had property requirements restricting voting eligibility. Even the majority of the original thirteen colonies that entered the Union eliminated the property requirement by the middle of the nineteenth century, with the battle over economic-based restrictions on franchise waged seriously only in the older states like Massachusetts, New York, and Virginia, where land or wealth inequality was more pronounced, and populations more diverse.23 (#litres_trial_promo) Even in venerable old England, suffrage steadily expanded during the nineteenth century as property requirements for eligibility were whittled down, in 1832 to include the middle class, in 1867 the urban worker, and in 1884 rural workers.24 (#litres_trial_promo)

The expansion of the suffrage was typically followed, both in the United States and the United Kingdom, by an increase in local public spending: on local schools open to all, on health care and public heath necessities like sewerage systems and public toilets in urban areas, and on local support systems for the indigent and elderly.25 (#litres_trial_promo) Thus community powers and activity centering on local spending strengthened as the voting franchise broadened.

The expansion of the suffrage was rarely linear. For instance, in the United States, at the same time as economic-based restrictions on voting eligibility were abandoned under the populist president Andrew Jackson, groups that were deemed unsuitable for participation in community decisions, such as blacks, women, Native Americans, the mentally incompetent, criminals, and the newly resident, were explicitly excluded.26 (#litres_trial_promo) Indeed, on the eve of the Civil War, only the five New England states where blacks were few, and New York, which had a $250 property requirement applied only to blacks, still allowed blacks to vote. When Southern blacks obtained the right to vote after the Civil War, they started being excluded again through a variety of targeted measures such as literacy and residency tests.

Latin America also followed a similar pattern, starting with strict property requirements, followed by an extension of the franchise as pressure on landowners came from other citizens of European descent, and eventually a replacement of economic restrictions with literacy tests so as to specifically exclude workers and the poor, especially Native Americans. By the end of the nineteenth century, suffrage was still far from universal in much of Western Europe and North America, with women and minorities generally excluded (New Zealand was the first modern country to let women vote in 1893). However, there had been a substantial expansion in the electoral franchise to nearly all white men, a significant broadening of the franchise since the minuscule electorates at the beginning of the century. Why did this happen?

WHY WAS THE FRANCHISE EXTENDED?

As markets became more integrated, both nationally and internationally, economic adversity from far away could affect a community, and disproportionately the less well-to-do. In the same way that a free market decentralised economic decision making, a more democratic structure would allow many more voices to be heard, allow the local community to influence their representatives and the federal government, and allow people to feel more in control of their destinies. Political empowerment could compensate, in a small way, for the lack of economic empowerment.

Why did legislators, whose allegiance was to those who already had the vote, extend the franchise? After all, few who have power want to share it. We can dismiss the possibility that the legislators suddenly absorbed the spirit of the Enlightenment, believing that in the interests of fairness, suffrage should become universal, and in the interests of legitimacy, every one among the ruled should have a voice in government. While the rallying cry of the American Revolution was ‘no taxation without representation’, it said nothing about the representation of those who did not pay taxes. In fact, the franchise was typically extended in steps, not in one go (as might have been the case if legislators became suddenly enlightened). Therefore, we have to look elsewhere for explanations.

Fear

Economist Daron Acemoglu and political scientist James Robinson argue that an important reason for the elite to extend the franchise was perhaps the fear that if it were not extended, the unwashed masses might revolt.27 (#litres_trial_promo) The French Revolution was a warning to those in power that if they were not careful, many of their heads could end up mounted on pikes. And yet the Revolution could also be read as a cautionary tale of what could happen if revolutionaries were given a role in government. The archconservative Edmund Burke warned ‘the occupation of a hair-dresser … cannot be a matter of honour to any person … Such descriptions of men ought not to suffer oppression from the state, but the state suffers oppression if such as they … are permitted to rule. In this you think you are combating prejudice, but you are at war with nature.’28 (#litres_trial_promo) This then was the dilemma that tormented the guardians of political power: Should the masses be kept outside the gate, with the hope that the gate would withstand their anger, or should they be let inside with the hope that they would be tamed?

Widespread economic adversity did certainly precipitate violent political agitation for greater inclusion. For instance, after the failure of the harvests of 1829 and 1830 in England, agricultural labourers burned the fields of the gentry under the orders of a mysterious Captain Swing and destroyed threshing machines.29 (#litres_trial_promo) Some argue that this led to the first voting Reform Act of 1832. Yet the state repressed the agitation fiercely, with over two thousand people arrested, five hundred transported to Australia, six hundred imprisoned, and nineteen executed. Moreover, the Reform Act gave the vote to those with property having a rental equivalent of 10 pounds a year, a sum far outside the reach of the labourer. It was widely alleged that the elite were buying off the middle class. At any rate, the newly enfranchised certainly were not in the crowd with pitchforks.