The Conceptual Foundations of Democratic Capitalism
by Dr. Edward Younkins
Professor of Accountancy and Business Administration at Wheeling Jesuit University in West Virginia and author of Capitalism and Commerce.
Democratic capitalism, the cornerstone of American society, is far more than an economic system: it is a dynamic complex of economic, political, moral-cultural, ideological, and institutional forces. This article provides an introduction to the fundamental concepts that inform American democratic capitalism, concepts that have evolved over centuries in such disciplines as philosophy, economics, law, history, political science and sociology. The survival of democratic capitalism may be in jeopardy unless we understand and appreciate its conceptual foundations.
In addition, the nations of Eastern Europe are engaged in revolutionary programs of economic, political, and social reform moving them toward the combination of democracy and market economics. An understanding of the concepts described herein will help to make sense of these developments.
The complex interaction among its various concepts would render a discrete analysis of democratic capitalism superficial. Thus, my approach is conceptual and stresses the complex, interrelated element of this politico-economic system.
DEMOCRATIC CAPITALISM: AN OVERVIEW
According to Michael Novak, democratic capitalism is an amalgam of three systems: (1) an economy based predominantly on free markets and economic incentives; (2) a democratic polity; and (3) a classical-liberal moral-cultural system which encourages pluralism. The free market creates an intricate web of supply and demand relationships and fosters economic growth, social mobility, and innovation. Political liberty allows for a constitutional system of government in which both individuals and groups are represented. The moral-cultural sphere, which includes values such as a work ethic, individual initiative, honesty, and respect for private property, is supported by the mediating institutions of family, church, and numerous other voluntary associations.(1)
Under this system of natural liberty, we are free to form innumerable voluntary associations such as the corporation and the labor union. Our political system assumes pluralism, recognizes that individuals have differing opinions and interests, and allows them to associate freely in order to further those interests. Pluralism's dynamic multiple groups function to balance and check power.
Capitalism is an economic system characterized by freedom of thought and voluntary action creatively applied to production; it is based on private property rights, economic justice, the profit motive, competition, a division of labor, and requisite social cooperation.
Democracy is based on the principles of consent and political equality, and may be defined as a political system in which governments are established by majority votes cast in regular, uncoerced elections. It is often argued that capitalism is a necessary but not a sufficient condition of democracy since democracy requires basic economic rights that are separate from the state.(2)
From a conceptual and deductive perspective, philosophy precedes and determines politics which, in turn, precedes and determines economics. For example, philosophers such as John Locke, David Hume, Baron de Montesquieu, and Adam Smith exerted a profound influence on the thinking of James Madison, John Adams, Thomas Jefferson, and other architects of the U.S. Constitution. The resulting political system allowed for the development of free-market capitalism. The Founders clearly understood that economic freedom is necessarily linked to political freedom. Competition turns self-interest toward efficiency, fosters voluntary social cooperation through mutually beneficial exchanges, and thereby maximizes social welfare. Thus, self-interest can, and frequently does, contribute to economic abundance, political liberty, and a free pluralistic culture. This, precisely, is Adam Smith's "invisible hand" in action.
FREEDOM - THE KEY CONCEPT
Integral to the American political ethos is the belief that human beings, by virtue of being human, possess the capacity to exercise free will and have an inalienable right to do so. We are free to own property, choose a career, worship, speak, travel, promote and protect our self-interest, contract, compete, create, associate with others, etc. But the American concept of freedom is not absolute. Our notion of ordered freedom, freedom under the law, derives the intelligibility of the free act from reason, law, duty, responsibility, reflection, and a rightly ordered conscience. Real freedom is the ability to do what is right-not the license to do wrong.(3)
Our conception of freedom is circumscribed by laws, regulations, and customs. In securing individual freedom, we find it necessary to restrict certain behaviors that impinge upon the freedom of others. In our society, freedom to act (i.e., substantive freedom) depends upon freedom from inhibiting factors (i.e., procedural freedom). When people are free to work and keep the fruits of their labor, they are being treated justly. Justice is the virtue of granting each person his due. As people recognize that rewards depend on their efforts and outputs, their incentives to produce grow stronger. The virtues of freedom, justice, and productivity cannot be separated.
True freedom of association is possible only in an open society. Natural associations, such as the family and the state, are necessary for civilized human existence. Other forms of association, such as the corporation and labor union, develop from the peculiar needs of their participants.(4)
THE CORPORATION AND THE LABOR UNION
In the United States, the power to incorporate is freely available under incorporation statutes that merely require the filing of information concerning the financing and intended activities of the new association. Corporations are granted special advantages over other forms of business organizations such as: (1) limited liability whereby owners are liable for corporate debts only to the extent of their investment; (2) the power to contract as a single agent under the law; and (3) continuity of organizational existence beyond the lives of the owners. These unique features of the corporation can alternatively be explained in terms of its contractual origins. They may be viewed as the product of a contract between shareholders and those who find these provisions acceptable. No one is forced to deal with the corporation. For example, limited liability is not a privilege that is necessarily guaranteed to a corporation. A would-be creditor can decline credit to a corporation unless one or more of its stock-holders assumes personal liability for the obligation.(5)
It is inconceivable that the tremendous technological and social progress Americans have witnessed over the past two hundred years could have occurred without the accumulation of large sums of capital directed at specific tasks. Without the ability to incorporate, large businesses would have the logistical nightmare of orchestrating thousands, perhaps millions, of individual investors toward the same economic goal. Our status as the world's leading economic power owes much to our ability to incorporate and to the respect for voluntary organizations on which this legal person is built.
As a form of free association, the labor union may be viewed as a rebuttal to the idea of self-reliance. According to this view, the industrial revolution required only specialized repetitive skills which led to workers loss of self-identification and self-respect. This view is especially pronounced among Marxian theorists.(6)
According to Walter Block, unionism consists of both voluntary and coercive elements. Voluntary unions restrict themselves to activities such as mass walkouts and boycotts. Coercive unions are those that promote their interests both by legitimate (non-rights-violating) behavior and by the illegitimate use of physical force aimed at nonaggressing individuals. For example, picketing must be viewed as illegitimate when its purpose is to coerce and physically prevent suppliers, customers, competing laborers, and others from dealing with the struck employer. Since both union and nonunion workers possess the same human rights, nonunion workers have every bit as much a right to compete for jobs as do union workers. Because a job is the embodiment of an agreement between two consenting parties, it cannot be "owned" by anyone person or group. If voluntary association and mutual consent are the legitimate foundations of employment, one group of workers forcibly preventing another from competing for jobs must be viewed as illegitimate.(7)
Libertarian economists view unions as labor monopolies whose primary impact is to raise members' wages at the expense of unorganized labor and the most efficient functioning of the economy. This perspective stresses the adverse effects of union work rules on productivity, the loss of employment in the organized sector due to union wages, and the resultant crowding of the nonunion sector with displaced workers. Others laud unions for increasing the development and retention of workers' skills, providing information about what occurs on the factory floor, improving worker morale, pressuring management to be more efficient, and providing workers with protection against arbitrary management decisions.(8)
The traditional view of the responsibilities of the corporation and labor union is that a corporation should use its resources and engage in legal activities intended to maximize stockholders' profits. Similarly, the sole responsibility of labor leaders is to represent the interests of their members. A more recent perspective is that corporate executives and labor leaders have a social responsibility that goes beyond serving the interests of their stockholders or members.
The idea of social responsibility gained adherents in the early twentieth century, when corporations were routinely criticized for being too large, too powerful, antisocial, and for engaging in anti-competitive practices. Cognizant of this growing antibusiness sentiment, some business leaders began to use their private wealth and power for community and social improvement. The stewardship principle was invoked to urge managers to view themselves as trustees of a larger public interest. According to this view, managers should act in the interest of all those who are affected by a firm's actions, not just stockholders and directors, but employees, customers, suppliers, communities, and society in general.(9)
Two general worldviews – individualism and communitarianism – are much debated in contemporary American society. One's position regarding social responsibility may depend, in part, on which side of this debate he or she finds most convincing.
Individualism involves the atomistic – some would say reductionist – idea that society is no more than the sum of the individuals who compose it. Corporations are thus viewed as expressions of individual freedom, do not derive their power from society, owe nothing to the community, and need only pay taxes and adhere to government regulations. In other words, management is accountable for the sole task of employing the stockholders' capital in the most profitable manner for the stockholders' benefit. Specialization of effort and promotion of group interests (e.g., stockholders, employees, creditors, etc.) are viewed as the best organizing mechanisms for society. When each group legally pursues its own self-interest the result is the greater good of society.(10)
Conversely, according to the tenets of communitarianism, a perspective championed by the sociologist Amitai Etzioni, individuals have certain social responsibilities to the larger community by virtue of their membership in that community. Thus, the corporation, as a "possession" of the community rather than of individuals, holds a social contract with society from which it derives its existence and, therefore, should serve a constellation of interests. According to the tenets of communitarianism, while managers have direct obligations to stockholders and employees, they should also address the needs of their customers, suppliers, creditors, and the larger community from which the corporation is said to derive its existence.(11)
The moral-cultural sphere provides values which give order, coherence, and moral direction to society. Values underlie the most important human concerns. The family, along with various religious, educational, social and cultural institutions, reflect and transmits these values intergenerationally. Some of the traditional values that allowed for the emergence of democratic capitalism include: enlightened self-interest; hard work and perseverance; self-reliance and self-control (deferred gratification); thrift and saving; the right to acquire and enjoy wealth; skepticism of centralized political power; and belief in justice, honesty, duty, and fair play, i.e., an objective moral order.
The most significant threat to American democratic capitalism may lie not in the economic or political spheres but in the moral-cultural sphere. Religious justification for wealth accumulation and self-restraint has been largely replaced by a rationalistic belief in material and secular progress as ends in themselves. The resulting tendency is to seek possessions rather than to develop personal character. This hedonism is further supported by a spiritual alienation that revolts against authority, reason, objectivity, and the idea of an ordered existence. Humans are no longer viewed as having fixed natures; rather, the emphasis has turned to the uniqueness of each individual, immediacy, emotion, unfettered self-expression, and a reflexive rejection of the "old" for the "new." But a hedonistic society will tend to expand its claims on government. Self-reliance inevitably gives way to a sense of entitlement. Luxuries become necessities, and necessities become rights. Ultimately, the political order is relied upon to provide social, political, and economic equality – both of opportunity and of outcome.(12) Representatives of this counterculture repudiate the possibility of any objective, eternal, absolute moral standards by which human deeds can be measured. Communitarians are especially strident in their desire to avoid debate of first moral principles, arguing that human nature is dynamic and plastic, and that we need only engage in "dialogue" and "consensus-building" within and across communities in order to locate shared values.(13)
Historically, respect for private property has been one of the most important and enduring values in American society. The protection of private property rights is generally viewed as essential for the preservation of individual freedom. According to John Locke the application of labor to land naturally results in privately held property. In Locke's view individuals form societies in order to gain the collective strength to secure and defend their privately held properties. The essence of Locke's "economic man" is that the ownership of private property is a natural right. The inalienable rights of life, liberty, and the pursuit of happiness included in the Declaration of Independence are Lockean in nature. Without protection of one's right to own property, these other rights would have little meaning.(14)
When property rights are both respected and protected a person is able to keep and enjoy the fruits of his or her labor. Private property is vital to free markets, maximum productivity, and political freedom. As communist regimes have made abundantly clear, when the state controls a society's productive resources, it also stifles liberty by suppressing dissent and enforcing conformity to the state ideology. Conversely, in systems that respect private property rights political power is more diffuse, and the people more free to pursue personal happiness.
Governance involves the exercise of authority and the right to direct, lead, and control. On the one hand, it implies a need to possess the requisite power and authority to achieve certain goals. On the other hand, in a free society there is a need to limit this power and authority to specific areas. Thus, governance includes the consideration of the interrelated topics of authority, power, justice, law, pluralism, and constitutionalism. Power is the force by means of which one can oblige others to obey him. Authority is the right to be obeyed by others. Power without authority amounts to tyranny. The central problem is thus one of legitimacy.(15)
Aristotle was fully aware of the close connection among property rights, the moral sphere, and constitutional government. The influence of Aristotle's ideal of an agrarian polity and belief that a large middle-class is vital to politically stability is obvious in the writings John Locke, and of the American Founders, especially Thomas Jefferson.
Over the past 200 years, the American political ethos has shifted from the Greek idea that the good society fosters justice and vice versa to the Roman idea that justice equals law and is concerned with personal rights, i.e., we have become legalistic. The Roman lawyers held that justice was not a function of the whole society, but rather a specialized function and the concern of the legal sphere. Contemporary positive jurisprudence is descended from this legal-moral dichotomy.(16)
Pluralism implies diversity and conflict, and requires both associationism and individualism. A pluralistic society diffuses power into many associations, thus assuring individual freedom from tyranny. The principle of subsidiarity holds that the state should restrict its activities to those that private associations cannot effectively perform. Our skepticism of state power favors the placement of as many voluntary groups as possible between the state and the individual.(17)
Pluralism and constitutionalism share a skepticism toward the concentration of power. In our society, each man finds himself with many competing loyalties, making it impossible to give his whole allegiance to anyone association or person. Constitutional governments are characterized by legal restraints imposed on power holders to ensure that individual rights will not be transgressed. As an instrument, the Constitution is a grant of powers; as a statement of the rights of the people, it is a limitation on the power of the state.
THE ROLE OF THE STATE
America was founded on an explicit philosophy of individual rights. The Founding Fathers held the view that government must be limited by the rights of the individual and that its purpose is to maintain a framework within which individuals can pursue their own self-interest within a competitive marketplace. Early in this century, however, attitudes toward limited government and judicial restraint changed, resulting in an increasingly large, intrusive federal government.
A new type of regulation, so-called "social" regulation, gained adherents after World War II. Unlike economic regulation, which focuses on market or economic variables and entry to or exit from markets, social regulation focuses on firms' impacts on people as employees, consumers, and citizens. Social regulations are aimed at providing protection from discrimination in employment; assuring safe and healthful workplaces; protecting consumers from unsafe products; and protecting citizens from environmental pollution.(18)
The growth in social regulation signaled an increasing role for government in the affairs of businesses of all sizes. This power shift from managers to government bureaucrats has led to a blurring of the distinction between private power and public power. The U.S. Constitution provides for various, minimal, forms of intervention such as: (1) the power to regulate interstate and foreign commerce; (2) the power to tax and spend; (3) the power to borrow; and (4) the power to promote the general welfare. Our goal ought to be to have a substantially free market system that is prevented by law from accumulating monopolistic or oligopolistic control of a given market. The addition of "social responsibility" to this equation is both unwarranted and unwise.
Democratic capitalism is a complex concept consisting of three dynamic and converging systems. The economy is based on a substantially competitive market system, private ownership, and economic freedom. The political system is based on consent by the people, limited government power, a reliance on checks and balances, and a legal order that protects individual rights and voluntary exchange. Economic and political freedom are inextricably linked in democratic capitalism. The ideas of a market economy and political democracy stem from the same reasoning and the same moral-cultural values, institutions, and assumptions. Both the economic sector and the political sector affect and are affected by the moral-cultural sphere, which reflects ideals such as freedom, justice, productivity, and hard work.
Critics of democratic capitalism reduce self-interest to greed, opportunism, or selfishness, and charge that the pursuit of self-interest intrinsic to the market system reinforces conspicuous consumption and emphasizes "having" rather than "being." While there are trade-offs between the efficiency values of the marketplace and the egalitarian values of democracy, democratic capitalism maximizes social welfare by making the market more humane and the government more efficient.
The author is grateful to the following individuals for their useful comments and suggestions:
Walter Block, James Buchanan, Kenneth G. Elzinga, Milton Friedman, Richard J. Klonoski, Tibor Machan,
Thomas G. Marx, Ron Nash, Michael Novak, Tom Rose. Murray Wiedenbaum, and Walter E. Williams.