Column : Phony capitalism

Bibek Debroy
Posted: Monday, Jan 12, 2009 at 2231 hrs IST
Updated: Monday, Jan 12, 2009 at 2231 hrs IST

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: The novelist William Makepeace Thackeray was born in Calcutta and his father worked for British East India Company. Should we read something into this? The word capitalism was first used by Thackeray, though not in the sense of a production system. That usage is due to Werner Sombart and notwithstanding critiques of capitalism (not just from Left), it’s the most efficient system for resource allocation. Alternatives are worse, reminiscent of what Churchill said about democracy. “It has been said that democracy is the worst form of government except all the others that have been tried.” What is a textbook definition of capitalism? Means of production are privately owned. Production, consumption and distribution decisions are taken by market through price signals and there is minimal intervention by government. In establishing superiority of the market, one invokes perfect competition, with stringent assumptions rarely satisfied. Is there really free entry or exit? Does everyone have access to complete and perfect information? Don’t unfair and restrictive business practices exist? When has one actually seen a world with a large number of undifferentiated and homogenous producers? Isn’t the world one of monopolies and oligopolies? What happens if there are increasing returns to scale?

Theory requires approximations and indeed, theoretically, capitalism is the best system possible. However, stringent assumptions required to establish this do smack of fiction. (In all fairness, Economics Nobel Prizes have been awarded to those who established this superiority and also to those who highlighted warts and blemishes) As taught, theory describes what historians would call merchant capitalism, though after the 1929 Wall Street crash and after World War II, there has been plenty of research into the modern corporation. Together with double-entry book-keeping, the concept of limited liability has probably done the most towards development of modern capitalism and one is therefore playing around with someone else’s capital, not one’s own. Fancy words like corporate governance aren’t needed to understand there might be conflicts of interest between the chief executive officer, board of directors, management and share-holders, with additional conflicts between institutional investors (pension funds, hedge funds, mutual funds, insurance companies, banks, brokers) and small investors. It wasn’t that many years ago that Enron was described as America’s most innovative company or one of the best to work for. Arthur Andersen was a respectable accounting and consultancy firm. True, Kenneth Lay would have been imprisoned had he not...

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