How Capitalism Can Work

Capitalism is under attack in many countries as I write this. Protesters are up in arms about the way in which the economy works, how it generates a flow of money to larger concentrations of money, helping the rich get richer. Capitalism is however the economic equivalent of evolution and a fantastic method of improving technology and quality of life. I have provided a complete yet relatively brief overview as to why wealth tends to aggregate in my series on economics which may provide useful reference. This essay will specifically detail some changes that societies can employ to remove the detrimental effects of capitalism. We have seen how nations which do not make use of the competition mechanism of capitalism frequently suffer economic collapse from stagnation in industry. China is of course a bit of an anomaly in this regard and for that reason I would love the chance to study the mechanics of their political and economic systems fully.

China aside, it is dangerous to remove the capitalist element from an economy and I believe unnecessary to do so. I will jump directly into the proposed changes and assume the reader can appreciate the advantages of retaining a capitalist element within the economy if the detrimental side effects are gone. I touched on many of these suggestion within the final part of the economics series but both in general terms and very briefly. They were also linked to a broader subheading, where as in this essay I will specifically detail how they allow for capitalism to function as it is more relevant in the current climate. This whole crux of this essay may be summarised as follows; the most significant problem posed by capitalist systems is that they contribute to the aggregating tendencies of wealth. This will help to continually widen the wealth gap and with that bring all the associated social and economic ramifications.

The argument that capitalism appropriately rewards people for their labours is inaccurate. It does stand to reason that people of certain professions will be paid relatively appropriate amounts compared to each other based on their skill within that industry, but not compared with the rest of society. The best few people will always be worth significantly more than the next ability group of people, the difference in pay between other skill levels will decrease as you lower the skill. If plotted on a graph it would look like the inverse of half a normal bell curve distribution. I expect a comparison of professional footballers would be a good example of an industry where pay does reflect natural variance better than others. The top end will still be skewed by the aggregating properties of wealth, but indirectly, so much less significantly than those investing capital. The argument breaks down when people are able to invest their excess earnings and gain a return on them. As capital aggregates, those who have it at their disposal will tend to obtain a greater return than is appropriate for their labours. This is where ability or usefulness to society are no longer appropriately rewarded by capitalist systems. Once a capital threshold is breached ability is no longer as relevant and wealth may be sustained or increased with significantly decreased aptitude. Inheritance is an example where wealth my come into the hands of unworthy ability. The only currently valid argument for capitalism is the incentive it places on industry to provide quality goods at low prices. This article will only be focusing on how to stop capitalism from contribution to the aggregation of wealth and so will be unable to provide a complete solution to the aggregation of wealth. As such I will not be able to demonstrate how capitalism could offer an appropriate and fair wage to all abilities and provide a further argument in capitalism's favour. The advantages of the evolutionary mechanism capitalism places on industry are so great that alone it would suffice to warrant retaining capitalism. Even so I believe it is possible to reach a point where capitalism provides fair wages, but you shall have to trust me on this for now if you require the extra persuasion.

The first and foremost idea is essentially a combination of capitalism and communism within an area of economics that allows for all the positives of both ideas with all drawbacks removed. With all the recent coverage of Qaddafi I have stumbled upon a commonality of our views in this area. I intend to read further on this topic as I am discouraged when I find I share views with those who are able to act immorally. The area to which a blend of capitalism and communism can best be applied is the business model within society, the difficulty is how this new model may be implemented. This was previously touched on in my economics series in terms of profit sharing in companies however the optimal mix of communism and capitalism within the business model is a more radical suggestion than the more commonly, and beneficially, practised profit sharing.

The optimal situation from the perspective of the whole society viewed as one entity is where company ownership is based entirely on the proportion of time spent working for that company. Wages would still be paid and still used to reflect the responsibility, difficulty, danger, unpleasantness and other non-monetary incentives/disincentives a role can offer. Wages would still provide the stable part of peoples income with minimum wages set so as to easily cover the costs of living. The equivalent of shares that are sold to those with capital would no longer exist, these shares would be allocated to the employees. Dividends would be paid on these shares and be comparable to profit sharing schemes. The company would decide how much of profit would be reinvested into the company and how much would be given out as dividends. Shareholder veto would empower the workforce yet infrequently tamper with the benefits of executive management. Instead it would act as an incentive to socially beneficial business practices.

An example may make this description easier so let us assume a company with one hundred employees, each of which works the same twenty five hour week. There is one managing director who earns $100,000 annually and eighty workers at the bottom of the organogram who each earn $20,000. The remaining workforce are in the middle of both the organogram and in their pay. After wages, running costs and other expenses for the year have been paid the company made a profit of $1,000,000. The company then elects to reinvest 80% of profits into the company leaving 20% to be paid as dividends to the workforce netting each employee an extra $2,000 bonus. This is only a 2% bonus on the pay of the managing director but it is a 10% bonus to the lowest paid. As you can see the way in which the capital is divided is a dispersing process on wealth, always giving relatively more to the least wealthy.

Forcing companies to adopt such systems may cause issues with workers forcing high dividend returns on profits thus lowering reinvestment leading to a stagnation and ultimately failure of the company. Companies would be forced into ensuring the entirety of the workforce was contented to deter from such things, which would lead to better working conditions. Money and capital would no longer be the only source of power in the business world – time investment would count as well. The natural equilibrium for such a system is one where wages vary although I suspect by rather less than they often do at present. At equilibrium people would mostly be content with their pay relative to others. Those getting less would be happy knowing their job was less stressful etc. Rich and poor would still exists, the super rich would however vanish. The poor would work for the rich, themselves and each other, but the rich would no longer work for the super rich as they do now. The profits of business tend towards the pockets of the capital owners and not towards those who perform the labour in the present system. In my proposed system the profits are directed back at those who perform the labour and not those who provide the capital.

Another advantage of this system is the way in which in aids the principle of the division of labour within industry. At present there are few incentives to the worker to do the best job they can. They work for others who will have full control over the returns on that labour. The workers performance has little baring on the overall performance of the company, which in turn has little baring on their income (unless the company fails and can no longer employ people). On the whole workers are offered incentive enough to work hard enough to avoid disciplinary action but not to do their best job. It is only a worker's ethics that will provide an incentive to do the the best work they can when they are paid a wage and have no steak in the company, and not all persons posses a work ethic. If, however the entire workforce stands to directly benefit from the performance of the company and effectively has a share of ownership of the company while working for them then they will be far more inclined to perform their role to the best of their ability. All the parts of the machine will work in harmony towards a common goal rather than antagonistically for their own ends. While bad eggs may still exist they will be less tolerated by their fellow worker as well as the management and as such far less common place. By having company ownership based on proportion of time worked for that company the detrimental effects of capitalism are reduced without losing any of it's merits and the efficiency of the division of labour is increased thus yielding greater advantage to society.

Such radical change would be disastrous if implemented over night and needs instead to be slowly integrated. The only sensible way to achieve these ends is by offering tax incentives to companies who adopt systems like those suggested or take steps towards those ends. These incentives could be strengthened gradually over time, perhaps even with additional taxes for non-compliance. An immediate solution is not possible if we wish to retain economic stability alongside social stability. The differing policies of nations in the global economy make such transitions even harder. If a nation is too extreme with it's commercial taxation and legal obligations they will scare away industry and seriously damage their economy. This is the problem faced by England in light of the recent financial collapse in that the public wish to impose heavily on the finance sector however that sector accounts for the most significant portion of our exports and economy. If we managed to scare away all the large financial companies to other lands with more favourable rules and tax then England would be well on it's way to becoming a poor nation on the global scene. The only real solution to enacting economic change within a global economy is to slowly lead by example. The German economy is one of the best of the western developed countries post financial collapse, this is because they have built up a manufacturing industry renown for good quality that creates real commodities (compared to the whimsical commodities produced by the labours of the finance sector). While improving social condition are unlikely to convince other nations to adopt similar business models, the improving quality and cost of goods produced by companies using these models offers more convincing persuasion as they gain market share. Some of the other suggestions I will make in order to fix capitalism will build on this business model, that is a blend of both communist and capitalist ideas, by continuing to divorce wealth from power, reduce the wealth gap and stop wealth aggregating.

Monopolies do not partake in the evolutionary mechanism of capitalism as there is no competition to force improvement. This was also discussed in the economics solutions essay but now that we have a new business model in which we can view potential changes, which I shall call the cooperative business model, we are able to show how the problems can be solved while aiding the new model. It was also noted that companies with significant market share begin to move away from the beneficial capitalist model, increasingly so as they tend towards monopolies. As companies grew beyond a determined percentage of market share it would be more pragmatic and democratic to begin to empower the employees of that company rather than have state purchase part of the companies in question or simply raising corporation taxes. There are issues with requiring companies to effectively give shares in the company to employees, such as the need to have a different approach to national companies and foreign ones, and also the need to vary the threshold of acceptable market share from industry to industry. The benefits of using market share as an excuse to increase employee ownership of companies include speeding up the process by which the cooperative business model is common place in society, affording non cooperative model companies the option of remaining set up as they are, removing extra administrative duties from state who lack expertise, and allowing change to occur without retarding the operations of the company.

Just for the sake of some numbers we shall say that for the industry of company A the threshold of socially beneficial market share has been set at 20% or less. Upon company A exceeding this they would be forced into ensuring that employees were all afforded an equal minimum of shares to give employee ownership (accounting for only the minima of shares, not those already owned) equal to the degree the threshold has been exceeded by. Let us say that company A grows by 1% annually for 5 years and began at 20% market share. If the company has 100 total employees and 1,000,000 shares then assuming no further shares are made in this period the company would need to ensure each employee received 100 shares per year for those 5 years. At the end of the 5 years the company would have 25% market share but 5% of the company would be owned by it's worker base. As these shares would necessarily be the same ones that are traded in the global economy and not the new labour shares I proposed in the cooperative business model, these shares would need to come with a clause requiring that they depend on the continued employment and that they may not be sold.

Monopolies are companies of significant market share are bad for society for two reasons; because they increase the aggregation of wealth and they evade the useful mechanisms of capitalism. The only way to remove them is with either legislation or incentive. Incentives cost society upfront and are offer the slowest transitions. Legislation is however dangerous while a society exists in a global economy and needs to be both gradual and sensible to avoid damaging repercussions. The suggestion offered in this article is a legislative one but as it is helping change in two required areas simultaneously it is half as damaging and thus can be enacted at up to twice the rate. The two birds with one stone saying applies well even in social engineering! Incentives should still be used alongside mild legislation towards the desired ends – an object one just pushes or just pulls requires more energy to move than one that is both pushed and pulled, unexpected changes to that object will be less disruptive too. This is easy to demonstrate when moving a desk across carpet but I believe applies just as well to social engineering.

One of the few redistributive mechanisms which exist in society today are taxes, of which not all redistribute so as to diminish the aggregation of wealth. I firmly believe in progressive income tax as one of the main solutions to the wealth gap. It also aids the efficacy of both democracy and capitalism, it does this by helping to divorce power from wealth. A progressive tax system is one which taxes a person proportionally more the more they earn and not just nominally more. In other words the more a person earns the higher the percentage of their total income will be paid in tax. When this is the case the income tax will serve to counter the aggregation of wealth to an extent dependant on the extremity of the tax.

I believe the free market in combination with a perfect democracy can in theory be used to determine an appropriate earnings that is very close to what could be called our natural inequality. A more practical way to understand this would be to say that each person would receive an appropriate income based on their value to society. This is achieved by setting up the manner in which progressive taxes are levied based on earnings. Placing an upper cap on income after tax that is based on a lower level of earning in society has a normalizing effect on earnings. A cap could be applied within a company or within society or both. In a company it would be sensible to require that the highest wages earned within the company were no greater than some factor of the lowest earnings. This is a cap the company has control over themselves in nominal terms and requires no taxation to implement. It would be as simple as democratically voting in a law by which no person could earn over say, one hundred times any other employee and then making small adjustments to that value over time while allowing the private sector to set wages within their company as they see fit.

A national cap on earnings would be based on a multiple of the national average rather than of the minimum. A minimum wage seems like a sensible measure to enforce within a society but not a sensible thing by which to limit the cap as it is a predetermined figure not a mathematically relevant figure. Much like a company cap, the factor by which a national earnings cap could exceed the national average would be democratically determined. A proportional tax would then be calculated so as to make this the case. For example, society vote together and the result is that the wage cap is ten times that of national average. A simple equation can be derived which graduates the percentage of tax paid to increase as earnings do so that earnings after tax tend towards the cap.

Say for example the minimum wage is set at £10,000 per year based on a full time week and that the average earnings per year across the society are £25,000. There would be no tax for earnings below the minimum wage. Between the minimum wage and the national average a flat percentage tax would be charged, say 20% in this case. Above the national average a proportional tax would then come into play. A simple equation to cause post tax earnings to tend towards a limit could be as follows;

Earnings / National average = Earnings as a multiple of national average (which we shall call X)

Where X > 1 the person is eligible for proportional taxation.

The graph below shows the proportional tax rate worked out by;

( X – 1 ) / X = Tax rate upon earnings over national average.

The upper cap is not even twice that of the national average if using the equation given but a variable factor could be added to the equation so as to retain the proportional increase of tax with earnings but raise the cap to higher multiples of the average. The shape of the total net pay graph would change so that the curve was slightly less steep but reached a higher point before it flattens. 

This method does not include the flat tax for earnings over the national average. To smooth the curve I would continue to apply the flat tax upon all earnings above minimum wage and only apply the proportional tax to the remainder of earnings over the national average. This would prevent a potential level of earning just above the national average from paying proportionally less tax than those just under the national average. Either way it serves the same ultimate purpose in continuing to tax the richest most.

By capping earnings at some factor of national average you ensure that half of the wealth within society is taxed proportionally. This forces a divide of opinion with those below the average happier to increase public spending and taxes and those above more interested in lowering public spending and taxes. While a wealth gap is high, as it is in most countries, there is far greater voting power, and therefore control over the tax rate, with those earning under the national average. When a system like the one suggested is in this state taxes will therefore rise alongside public spending which will rebalance the equilibrium point. By using the national average income as the point at which proportional taxes begin you ensure a feedback mechanism that can find a happy equilibrium point that offers both income based on usefulness and a narrow wealth gap.

This can also be demonstrated using game theory. The point is that people are willing to pay for something if what they are paying for is a bargain. Those under the national average earnings are paying significantly less tax than those above and therefore get a better deal on public public spending, even assuming equal usage throughout society which is rarely the case, the poorest tend to always get most from public spending.

In game theory it is hard to asses the util value of education or the health service, both to individuals and as an average for society or demographics within society. This does not particularly matter as the poor will always be able to obtain X utils for a fraction of the cost levied upon the wealthiest. This will create a tendency to improve the welfare systems while the wealth gap is high. The equilibrium point at which public spending on welfare plateaus due to a desire to retain wealth is the same (or very close to) as when equal numbers of people fall either side of the national average earnings. While the equilibrium point may never be reached having systems which tend towards those equilibria points is still very beneficial. If the equilibria were reached you could assert that the income for each person in society was in accordance to the benefit they bring to society without causing any detrimental effect. Removing the proportional tax and the minimum wage while at the equilibrium point would allow income to closer represent the benefits an individual brings to society but would also be more damaging to the society as a whole.

Inheritance is another area in which the aggregating tendencies of wealth are exacerbated. I believe a similar system to income tax should be employed upon inheritance to significantly reduce this issue. The upper cap on income through inheritance would reasonably be a bit higher than those for earnings as ensuring ones offspring have as good a chance in life as possible is a strong emotion and a good investment in the future. Removing incentive to save and invest in the future is unwise and so inheritance tax would need to allow for a reasonably decent sum to be relatively free from progressive taxation. In the current economic climate it is likely easier to raise inheritance taxes more rapidly than income taxes but ultimately I would suggest that the caps upon inheritance should allow for more income than could be earned in a year.

The above suggestions of progressive income and inheritance tax, more stringent control of companies with market share to a point of dominance and of the cooperative business model serve to remove most of the factors in capitalism which cause wealth to aggregate due to companies that deal in tangible commodities and services. What they are not able to fully resolve are the issues surrounding the trading of capital and other non-tangible goods. The cooperative business model alone goes along way to helping solve some of these issues by removing shares in company ownership from the markets. To solve the issues with asset allocation, interest and loans will require a dedicated essay and so we shall have to suffice with improving the mechanisms of capitalism alone for now. These suggestions enacted sensibly without any attempt to deal with the financial sector would be of much greater benefit to society than to address the problems and loopholes

in the finance sector and leave the rest of capitalism, industry and the economy unchecked.

There is one final problem with capitalism which does not relate to the aggregation of wealth. The aim of business is to make profit, most of the time the act of doing this overlaps well with what is in the best interest of society. This however is not always the case, particularly in the fast paced economic climate under inflation. There is little overlap, especially in the short term, between profit and effect on the environment. As such there is little incentive offered within the capitalist model to conserve the planet and operate sustainably. These incentives need to be created by state in forms of taxation and legislation on industry. These, while sensible, cannot be wholly effective when many nations with differing policy exist within one global economy and one environment. Incentives towards ethical, sustainable and environment business practices should be placed upon the consumer as well as the producer, returning again to the merits of pushing and pulling something one wishes to change.

Value added tax or VAT is an interesting concept which I feel in reality is far more onerous on the poorer members of society than the rich despite efforts to remedy this. While I think it is unwise for a government to raise general funds from taxation on the final purchase of goods I think it is wise to place financial disincentives on products that are less beneficial to society and the environment than they could be. I can suggest a number of different attributes of a product to which a socially beneficial tax incentive aimed at the consumer may be employed. A travel tax could be placed on goods based on the distance travelled to final destination. This would need to factor in size, weight and method of transport to have the desired effect in reducing energy loss in transit, and as such would be a somewhat fiddly tax to place on goods. Other areas than tax penalties could be applied to goods are based on the land area required to produce the goods, or based on how harmful the product is when discarded, or how long the product lasts when compared to similar goods on the market, or how much packaging the product comes with, or how damaging to public health the product is such as fatty, sugary and alcoholic foodstuffs and cigarettes. Certain purely luxury goods could be taxed more like VAT simply to encourage useful labour output in society. Finally if a suitably way to grade or measure sustainability were found it would be a good way to tax commodities. Revenue from taxes of this nature should be used directly to counter the negative effects of these products. Great care would also need to be taken in setting up how the taxes were levied and how goods were evaluated to ensure that the incentives placed were not in fact being detrimental due to loopholes etc. It would also be a reasonable step up in terms of paper work and general accounting to oversee a wide array of different taxes on goods yet still well worth the effort.

The public, like the businesses, are not guaranteed to have any incentives themselves to pay greater taxes on goods to protect things like the environment. The implementation of tax incentives to create a perfect overlap with capitalist businesses profitability and social advantage cannot rely on democratic regulation and must have some constitutional imperative alongside a functional system of implementation. Designing a system as such, complete with a constitution, is a tricky task to which I have some potential suggestions, yet none seem water tight and so I shall leave until a future time that is appropriate to discuss this problem.

That concludes the suggestions I have by which we can improve the efficacy of capitalism as mechanism to advance society. I have been as brief as I can so that I am able to reference these ideas in other areas of my utopia rather than offer a daunting and dull full examination of the mechanisms, problems and solutions. I hope therefore that there is loss in the ability to see how the suggestions offered would help with the problems in capitalism as they now stand. The ideas expressed here are particularly useful in combination with those expressed in my article “utopian democracy”. While either set of suggestions have merit when considered in isolation they are clearly more effective when considered in combination. This should continue to be the case as I add ideas to the utopian vision as some systems require others to function and some simply add to the effectiveness of others. This essay stands more as an introduction to some important prerequisites to realising utopia, it just so happens to be particularly topical in light of the current civil angst towards capitalism and the super rich, hence the particular angle.