Quiet Revolution in Welfare Economics- by Michael Albert and Robin Hahnel
OUR PRINCIPAL AIM in this chapter is to use our new welfare theory to examine
the effects of private enterprise on the production process. We analyze weaknesses
in previous criticisms of the traditional analysis and focus our attention on
how the "conflict theory" of privately owned firms can be better formulated
using our new paradigm. But before tackling that agenda, we have some unfinished
business from chapter 7 on markets. In our discussion of overzealous defenses
of PuEMEs we mentioned that some claim PuEMEs would be immune to income distribution
"problems" that plague PrEMEs. While set in a market environment, the question
is what, if any, are the implications for income distribution of public as opposed
to private ownership. We treat income distribution in conjunction with ownership
in this chapter.
Opponents of private enterprise economies frequently object that PrEMEs generate
unacceptable distributions of income. Of course, the third fundamental
theorem of welfare economics is the ultimate defense against this charge.
As we saw in part 1, this theorem is traditionally interpreted as guaranteeing
that private enterprise market economies are completely flexible with regard to
income distribution. However, critics have refused to accept these assurances
on grounds that while this may be the case in theory, there is little reason to
believe it will be so in practice.
Besides the difference between income flexibility in theory and practice, we believe
there has been some confusion regarding exactly what the third fundamental theorem
of welfare economics means and what cond*tions guarantee income flexibility even
in theory. Since our new paradigm highlights complications infrequently considered,
we will treat them here as well.
Broadly speaking, critics argue it is hard to imagine a private enterprise market
economy with a highly inegalitarian income distribution undergoing a radically
egalitarian redistribution of income. Critics reason this would first require
a successful "revolution" in which the "have nots" succeed in expropriating the
property of the "haves." Then, if private enterprise market institutions were
maintained after such an upheaval, the vagaries of luck and talent in combination
with ample opportunities to accumulate assets would require that lump-sum redistributions
be repeated over and over again to maintain an egalitarian outcome. As conservative
opponents of such practices hasten to point out, even should sufficient political
"will" be forthcoming repeatedly, 1
predictable redistributions necessarily affect incentives when "rational
expectations" catch up to redistributive manipulations.
In our view, egalitarians' intuitions are sound. To expect real, private enterprise
market economies to generate acceptably equitable income distributions that are
stable over time is naive. 3
But some who criticize private enterprise market economies on these grounds claim
their public enterprise counterparts are not plagued by similar problems. We will
end by disagreeing, but let us reexamine income distribution in private and public
market economies step by step.
and Income Distribution
Returning to the level of pure theory, it is important to distinguish between
"initial endowments" that prove to be income generating assets that are transferable
and those that are. not. The difference between alienable and nonalienable productive
assets is hardly highlighted by the traditional paradigm.
4 In fact, our ready acceptance of the meaningfulness of the third
fundamental theorem of welfare economics for PrEMEs
results in no small part from the fact that the traditional paradigm blurs this
distinction. The third theorem states only that any Pareto outcome can be achieved
as the equilibrium of an appropriate PrEME. The translation of this theorem into
the language of "under an appropriate redistribution of initial endowments" presumes
that all initial endowments can be transferred. Shares of ownership in firms and
stocks of physical goods can obviously be transferred, in theory. But productive
initial endowments in the form of human talents and skills presumably cannot be
so easily transferred, even in theory.
It appears the existence of productive assets that are inalienable even in theory
casts a new light on the most common interpretation of the flexibility theorem
for PrEMEs. But at first sight the implications for public enterprise market economies
are more striking. If PrEMEs are only flexible to the extent that alienable productive
assets can be transferred, how are PuEMEs to have any flexibility since individuals
gain no income through ownership of nonhuman productive assets in public enterprise
While the dilemma is only temporary in both cases, it does highlight common misperceptions.
Even if we imagine private enterprise ' market economies achieving income flexibility
by arranging transfers of alienable assets to compensate for differences in nonalienable
assets, strictly speaking this does not guarantee complete income flexibility.
Complete income flexibility requires that we be able to reduce an individual with
aproductive nonalienable asset to zero income. In other words, in PrEMEs complete
income flexibility requires more than reshuffling alienable assets in the presence
of nonalienable assets. It must be possible to reduce peoples' income through
negative lump-sum assessments.
But once the existence of inalienable productive assets forces us to recognize
that full income flexibility of PrEMEs ultimately rests on the possibility of
lump-sum assessments, some of which may be negative, the appearance of income
inflexibility in PuEMEs vanishes as well. For while there are no alienable productive
assets that can be transferred to compensate for differences in nonalienable assets
in PuEMEs, complete income flexibility can be achieved via an infinitely flexible
system of positive and negative lump-sum assessments. In fact, complete income
flexibility in both private and public enterprise market economies hinges on an
infinitely flexible system of positive and negative lump-sum assessments.
6 The "redistribution of initial endowments" is neither a sufficient
nor necessary mechanism for complete income flexibility in either system.
So rather than think in terms of redistributing initial endowments, it is more
appropriate to think of income flexibility via a system of handicapping. The pre-race
potential of all the horses is determined by preferences, technology, and economic
as well as noneconomic institutions, which combine to determine the "productivities"
of the different inalienable human assets each possesses. With no handicapping,
free labor markets will translate this into a particular pattern of income distribution.
If we wish to be able to achieve all conceivable income distributions, we must
be able to supplement or subtract from individuals' incomes to whatever extent
necessary to alter how our "horses" finish. That is, we must have a free hand
in handicapping that does not affect how fast our horses try to run. If we handicap
once, for races in all periods, prior to any races taking place, all horses must
run to their full potential in every race to maximize their income. The only remaining
subtlety is that as soon as we change the income distribution by our handicaps
we change the weights attached to different individuals' preferences, which affects
the "productivities" of assets (the "natural speeds" of our steeds). But this
merely complicates the job of handicapping, and perfect knowledge on the part
of our handicapper was already required in order to handicap all races before
any were run.
Of course, in PrEMEs individuals can be permitted to receive income from alienable,
nonhuman assets-whose "productivities" are determined by the same interaction
of preferences, technologies, and institutions that determine the "productivities"
of human assets. But this is just a particular kind of handicapping. Positive
and negative assessments are like starting horses ahead and behind the starting
line. Doling out inalienable assets is like pulling weights out of saddlebags
or giving injections of drugs. In general, in either a PrEME or PuEME would be
a prehandicapped outcome. In PuEMEs the prehandicapped outcome is determined only
by the natural speeds of steeds. In PrEMEs, weighted saddlebags and drug injections
modify "natural potentials." In either case, to get any other outcome we must
have flexible handicapping that does not induce horses to perform below their
capabilities in hope of influencing their handicap. In either case, to have complete
income flexibility we must be able to start some horses ahead and others behind
the starting line. In theory, a one-time-only system of lump-sum positive and
negative assessments calculated with perfect knowledge will do the trick for both
public and private enterprise market economies.
To recapitulate, what the third fundamental theorem
of welfare economics says for PrEMEs is that a particular initial endowment will
generate any possible Pareto optimum. What the third fundamental theorem says
for PuEMEs is that a particular initial endowment will generate any possible Pareto
optimum. But once we recognize that incomegenerating assets in PuEMEs are almost
entirely inalienable, it is obvious that it may be impossible, even in theory,
to achieve a particular Pareto optimum as the equilibrium of a PuEME via a reshuffling
of existing endowments. But the presence of inalienable productive assets in PrEMEs
implies that reshuffling is incapable of generating the endowments necessary to
generate some Pareto optima as the equilibria of PrEMEs as well. Fortunately (or
not) a substitute flexibility Theorem 6.5 saves the day for both kinds of economy-at
least in theory.
8.1.1 The Flexibility Theorem Reconsidered
|ALTERNATIVE FLEXIBILITY THEOREM
6.5. An appropriate one-time-only system of lump-sum (positive and negative)
assessments will give us any Pareto optimum we desire as the equilibrium
of any PrEME or PuEME under all traditional assumptions with either exogenous
or perfectly informed endogenous preferences. In other words, under any
set of initial endowments in either PrEME or PuEME we can still get any
Pareto optimum by appropriate handicapping.
This leaves us with the following
conclusion: at the purely theoretical level, in a world of perfect knowledge
and "Debreuvian" rather than "real" time, PuEMEs and PrEMEs are both completely
flexible-although not via the mechanism usually presumed. On what basis, then,
might one argue that PuEMEs would be less likely to generate "unacceptable"
income distributions in practice than PrEMEs?
There are two issues here:
8.1.2 Income Distributions in Practice
1. While both PrEMEs and PuEMEs are completely flexible regarding income distribution
in theory, as we have just verified, are there reasons to believe that in practice
each system has tendencies to "gravitate" toward a particular pattern of income
2. What income distributions are deemed "acceptable," "approved," or "appropriate,"
and what distributions are deemed "objectionable," or "inappropriate"?
If one adopted the view that income differentials based on differences of human
productive assets were appropriate, whereas income differences resulting from
unequal ownership of nonhuman productive assets were objectionable, one would
have every reason to conclude that PuEMEs have "practical" immunities to income
distribution "problems" that plague PrEMEs. In other words, under this definition
of appropriate and inappropriate, while theoretically PuEMEs could deviate from
the "approved" distribution by "inappropriate" handicapping, there would be little
reason to expect them to do so.
In PuEMEs "inappropriate" handicaps in the form of privately held alienable assets
are ruled out by the substitution of public for private enterprise. And the translation
of economic wealth into political power should work against the possibility of
establishing "inappropriately" egalitarian handicaps in the form of redistributive
lump-sum assessments that modify the "natural" outcome of the "free" labor market
as those with greater wealth exert greater political influence to block such initiatives.
Moreover, the complications of real time and uncertainty impose the practical
necessity of continual reassessments if more egalitarian distributions were to
be preserved. This would necessarily affect incentives and efficiency, which opponents
of redistribution would presumably explain in very convincing ways. In any case,
in the real world "inappropriately" egalitarian redistributions would require
unlikely repeated political victories of "have-nots" over "haves." So those who
approve of income differentials based only on differences in productive human
assets have every reason to expect the practical conditions of PuEMEs to militate
against handicaps they deem "inappropriate." 7
But on what basis are unequal incomes that result from unequal distributions of
human productive assets deemed appropriate? Just because the operation of a "free"
labor market generates differential wages and salaries due to differences in talent,
training, and/or education, why are these considered acceptable?
At this point, especially those who have "invested" in more than the average number
of years of education would likely remark on the importance of differentiating
between inherited talent and training/education, insisting that time and effort
(of trainee and trainers alike) spent in training and education should be compensated.
It is certainly a common view that this is fair, as well as an important incentive
for people to "better" themselves. Feelings run so strong on this subject we prefer
to defuse the situation through a device. Let us stipulate that all training and
education is paid for at public expense, that the time spent in such endeavors
is time that otherwise would be spent working, 8
and that time spent in training/education is at least as pleasurable as time spent
on the job. 9
Under these circumstances we see no reason to accept the proposition that unequal
incomes deriving from unequal endowments of human productive assets are justified.
In our view, genetic advantages and education or training that were in no sense
obtained through individual sacrifice are no more justifiable excuses for differential
economic well-being than inheritance of property. In neither case is there anything
particularly fair about the birth lottery.
The view that differential income based on differential genetic endowments is
justified is the PuEME analogue of Nozick's thesis that historical initial endowments
of alienable productive assets give rise to just distributional outcomes in PrEMEs.
That is, Nozick and supporters of PrEMEs implicitly defend the maxim:
DISTRIBUTIVE MAXIM 1. From each according to genetic inheritance, to each
according to genetic and property inheritance.
Supporters of PuEMEs implicitly
defend the maxim:
In our view, both maxims are arbitrary and unjustifiable. In theory they merely
rationalize the outcome of different random lotteries. In actual historical settings
they rationalize the status quo which serves the interest of those who benefit
from obstructing redistributions that would benefit the disadvantaged. For us,
equal effort is a sufficient and necessary condition alike to merit receiving
an equal share of whatever the economy has to offer, while in the long-run it
is desirable if people become sufficiently trusting and empathetic to adopt distribution
according to need. To put it in terms of alternative maxims that have received
some attention and, in our opinion, have much to recommend them:11
DISTRIBUTIVE MAXIM 2. From each
according to genetic inheritance, to each according to genetic inheritance.
DISTRIBUTIVE MAXIM 3. From each
according to genetic inheritance, to each according to effort.
DISTRIBUTIVE MAXIM 4. From each
according to genetic inheritance, to each according to need.
The point here is not to debate the relative philosophical merits of different
distribution maxims. We merely seek to identify the maxims implicit in different
distribution outcomes, and determine whether there are practical reasons to expect
different maxims to be achieved by different economies. The "practical" considerations
to which most allude reduce to: (1) a positive correlation between economic and
political power, (2) uncertainty requiring continual readjustments to preserve
any of the "infinitely possible" income distributions other than the one that
would prevail without "assessments," and (3) the undeniable incentive implications
of predictable readjustments. We have discovered that these same practical considerations
imply: PrEMEs' "natural tendency' -although we hesitate to use the terminology
-is to "gravitate" toward an income distribution expressive of the maxim for which
Nozick sought to provide a philosophical justification (distributive maxim 1).
While PuEMEs' "natural tendency" is
to "gravitate" toward an income distribution expressive of distributive maxim
Moreover, the link between economic institutions and ideology is strong. While
this is not a matter of concern in the traditional paradigm, it is something our
new paradigm takes more seriously. Private enterprise market economies induce
people to maximize return on all their assets. That is what competition in PrEMEs
enforces. But people have a strong propensity to rationalize what they do. In
people's minds, the outcome of what they strive for must be justified, and they
tend to ensure that it is by molding our thoughts and values accordingly. Hence
private enterprise market economies are likely to generate an ideology for which
the likes of Nozick have merely provided refined philosophical elaboration, i.e.,
historic endowments of productive assets are nothing more than fruits of prior
efforts and are thereby justified. Further, to be constantly "expropriating" those
fruits is unjustifiable--except, perhaps, in cases of extreme humanitarian concern.
Similarly, public enterprise market economies induce people to maximize return
on their human productive assets. That is what competition in PuEMEs enforces.
And once again, people have a strong tendency to justify the distributional outcome
of what they strive for. In this case, the fruits of maximizing return on one's
stock of "human capital" in the labor market come to be seen as justified, and
arguments for egalitarian "compensating differentials" come to be seen as "expropriation."
All of which simply adds to the list of reasons to doubt that sufficient political
will could be mobilized in stable PuEMEs in practice to generate outcomes we would
consider sufficiently egalitarian.
In conclusion, if opponents of private enterprise who claim public enterprise
market economies would not be subject to income distribution "problems" that plague
private enterprise market systems mean that PuEMEs can be expected to gravitate
toward distributions expressive of maxim two rather than maxim one, we are in
agreement. Moreover, it is obvious the number of income-generating assets that
can lead to inegalitarian outcomes is greater in private than public enterprise
market economies. And since inalienable assets must be "embodied" in mere mortals,
the possibilities of vastly inegalitarian distributions of "initial endowments"
through accumulation is far greater in the case of private enterprise economies
as well. So PuEMEs may well prove less likely to yield distributions as inegalitarian
as their PrEME cousins, thereby lending credence to claims of greater egalitarianism
on their part. 12
Systems and Implicit Maxims
But if supporters mean that PuENIEEs
will not be plagued by distributional "Problems'~--specifically inegalitarian
tendencies that in practical terms would be most difficult to overcome-we do
not agree. For we personally do not accept the definitions of "appropriate,"
and "objectionable" implicit in distributive maxim 2, and see no reason to expect
real PuEMEs to generate distributions that are sufficiently egalitarian to be
expressive of distributive maxim 3, much less sufficiently humanitarian to be
expressive of maxim 4. 13
In chapter 2 we reviewed criticisms by a number of authors of the traditional
treatment of production under private enterprise. According to the traditional
theory of production, profit maximization under the restraining influence of competitive
labor and product markets should lead to: (1) choice of efficient production techniques,
(2) job design in accord with the principle of "producer sovereignty," and (3)
wage differentials reflective only of differences in marginal productivities and
desirabilities of jobs. What has come to be known as the "conflict school" has
challenged these conclusions as we elaborated in chapter 2. We begin our efforts
to strengthen the theoretical argument of the "conflict school" by discussing
weaknesses in previous formulations.
Weaknesses in Conflict Theory
A traditional theorist might respond to criticisms based on the distinction between
"labor power" and "labor done" along the following lines.
Granted the labor market in PrEMEs is formally a market for "labor power" rather
than actual labor services, but this is of no practical consequence. Just as employees
whose expectations about working conditions are unfulfilled will find out soon
enough, and move on to anotherjob where their expectations are realized, employers
have a clear enough idea of the work services they expect to receive, and should
those expectations go unfulfilled the employer will change employees soon enough.
In other words, while the market is formally a market for labor power, it is implicitly
a market for labor services. Of course, all this assumes competitive, anonymous,
labor markets. But in any other context traditional theory has always admitted
"all bets are off."
Similarly, if critics want to insist on labeling the decision-making process under
private enterprise "dictatorial," and point out that the labor exchange leaves
important aspects of the situation unsettled by binding contract, so be it. But
to imply that "dictatorial" employers can settle such matters entirely to their
own satisfaction after employees show up for work, without taking employee preferences
into account, is to ignore the fact that competitive labor markets permit unsatisfied
employees to vote with their feet if their expectations are unmet. Competition
for labor means that employers must offer a wage/work effect package that continues
to attract employees in the context of uncountable other employers' demand for
workers. Likewise, competition for jobs means that employees must abide sufficiently
by the implicit integrity of the labor contract not to be replaced by uncountable
others looking for the best wage/work effect package they can find.
In general, a plausible traditional rebuttal is to appeal for a reasonable assessment
of "expectations." Especially in a "steady state" model there is no reason the
full consequences of decisions and actions that are repeated over and over again
would not become fully known to all involved. Hence we have the traditional conclusion
that the formal distinction between labor and labor power disappears in a full
8.2.1 Rebuttal to "Labor Power" versus "Labor"
This same line of defense can be used to good effect against theorists who base
their "conflict theory" of the firm entirely on asymmetrical information sets
of employees and employers. In a steady state model there is no answer to the
question why the "principal" would not find out anything he or she did not know
at first. To put it in Coase/Simon terms: the worker who disappointed the boss'
expectations by shirking or disobeying orders would be sent packing after two
or three periods. And if the problem is that the employer does not know what expectations
to have regarding capabilities of employees, competitive labor markets will take
care of that problem over the long run. With enough competition among workers
for jobs, employers will be able to discover what employees are capable of doing,
if not through repeated observation of performance in their own firm, from studying
the results other employers are able to elicit.
In this context it is worth noting that those who have treated the employment
situation in a multiperiod, principal-agent model have been very careful not to
assume that the principal comes to full knowledge as time goes on.
14 If this were the case one of the conditions requiring principal-agent
modeling in the first place would disappear. But in any case, the final rebuttal
to this line of criticism is that traditional welfare theory never claimed that
organization of the production process via private enterprise institutions would
be efficient if one of the contracting parties was systematically and continuously
deprived of information available to the other.
So while any conclusions of inefficiency deriving from asymmetrical information
are perfectly interesting to the extent that employers and employees do have asymmetrical
information in a real world characterized by continual changes in productive possibilities,
they do not contradict the conclusions of traditional welfare theory under a perfect
In our introduction we warned the reader we would not be reviewing a considerable
new literature in welfare theory on uncertainty, because we did not believe progress
in this area required a major shift in paradigm. This is an appropriate place
to clarify this issue. Many have remarked on the extent to which the "real" world
of uncertainties diverges from the "steady state" world, which implies full and
symmetrical knowledge within which traditional welfare theory has long operated.
In the last decade many have responded by reworking traditional welfare theory
under assumptions of uncertainty. But this work has yielded few "surprises." Reworking
welfare theory under assumptions of uncertainty has proved to be "normal science"
in Kuhnian terms-reaffirming the original vision and conclusions in slightly more
complex settings, requiring no substantial change in paradigm.
At the risk of oversimplifying, if uncertainty is symmetrical, agents who maximize
the expected value of utility or profits replicate the welfare theoretic results
of traditional theory. If uncertainty is asymmetrical, certain traditional welfare
theoretic conclusions no longer hold, but the social inefficiencies are intuitive
rather than surprising, and principal agent theory is well suited to elaborating
these complexities. Moreover, these results contain few critical implications
for major economic institutions because they apply generally to all economic systems.
Rather than clarify fundamental characteristics and/or weaknesses of economic
institutions, such work demonstrates that welfare losses can be diminished in
any economic system by diminishing uncertainty in general and by eliminating any
asymmetrical uncertainties that grant some agents "uncompetitive" advantage over
others. But work on this frontier of welfare theory neither requires nor compels
a major change in welfare paradigm, whereas work on other frontiers does. It was
for this reason we ignored the numerous recent advances in this area and not because
we do not appreciate the advances that have been made.
8.2.2 Rebuttal to Asymmetrical Information
The criticism that private enterprise production dooms most to the status of "alienated
labor" has not moved traditional theorists to respond. While putting words into
people's mouths is always of questionable value, we might hypothesize that traditional
theorists find this charge naive. They might argue the criticism stems from a
romantic comparison of modern economies to the presumed "golden age" of craft
production in which self-sufficient, independent producers could conceive and
direct their own work activities. And they might argue that what seems to be "formal"
alienation from control over work process, product, and whatever else, upon more
sophisticated analysis, turns out not to be a "practical" alienation at all.
In the traditional view, workers have control over the work process through their
supply of labor function that will be different for activities whose "process"
or "products" the workers evaluate differently. If the work is debilitating or
boring, presumably workers will insist on a sufficient wage premium to exactly
"compensate" the differential displeasure. If the work "product" is deemed less
worthy than average, presumably here as well employers will demand compensating
differentials." 15 In the traditional view,
as long as labor markets are competitive, the worker has "practical" control in
the same sense that the consumer has "practical" control over what products private
employers "choose" to produce.
As a matter of fact, traditional theory suggests the influence permitted workers
over the work process and product through their supply of labor functions backed
by their freedom to "vote with their feet" is all they should be permitted. Even
within the framework of working for an employer, different kinds of jobs and occupational
categories permit varying degrees of self-direction over one's laboring efforts.
Carpenters engage in more self-directed work than assembly-line workers, and if
"self-determination" is important to people this should be reflected in compensating
differentials between jobs that differ in this respect.
Moreover, contrary to what traditional Marxist analysis implies, the dividing
line between employer and employee in private enterprise economies is not completely
impermeable. 16 Presumably, if self-directed
labor were sufficiently important to individuals they would work, as many do in
all private enterprise economies, as self-employed, accepting compensating differentials
in income. And if the desire to conceive and coordinate activities involving more
than one's own efforts is strong enough, perfectly competitive capital markets
permit people to take out loans and start their own businesses. In any case, in
the traditional view to allow any greater control over the product by individual
workers would rob consumers of their say over what they will consume. One might
even say that if we "de-alienate" workers from their products we necessarily "alienate"
consumers from the objects of their consumption!
In fact, as soon as one concludes that private entrepreneurs' freedom to manuever
is nil within the "black box" because they are completely hemmed in by competitive
labor and product markets, the "problem" of "alienation" vanishes. In this traditional
view, producer and consumer sovereignty are the appropriate concepts concerning
influence over decision making, and the Marxist concept of alienation, which focuses
exclusively on an individual worker without reference to other workers or consumers,
is seen as an inappropriate concept for evaluating effective influence over decision
making in modern, integrated economies.
8.2.3 Rebuttal to Alienated Labor
As we saw in chapter 2, Bowles argued
that private enterprise aggravates the problem of malfeasance. But this amounts
to the claim that there are alternative ways to organize production that either
alleviate the problem of malfeasance or reduce the costs of combating it. A skeptic
might counter that people will shirk unpleasant work under all organizations of
production. More specifically, a skeptic might ask why a worker would shirk less
in a publicly owned, employee-managed enterprise than in a privately owned and
The skeptic's point is not that malfeasance is independent of surveillance, punishment,
and reward, but precisely that these are the factors, and the only factors, that
affect the amount of shirking a rational, self-interested actor will engage in.
Consequently, the rebuttal to Bowles' critique would be that under the same system
of surveillance, punishment, and rewards, malfeasance would be the same under
either private or public ownership. In which case, the social costs of combating
malfeasance would be equal in both systems of ownership-provided individuals behave
as rational, self-interested actors.
Of course, this is precisely the position Bowles, to his credit, identified as
the "Neo-Hobbesian" view. And in fairness to Bowles, he did not so much intend
to rebut the Neo-Hobbesian view in his American Economic Review article
as to clarify and contrast that view with what he called the "Marxian" class conflict
view. But if what we prefer to call the "radical" class conflict school is to
have anything to contribute beyond a "Neo-Hobbesian" analysis of malfeasance,
it must explain why workers would not be just as likely to "cheat" on one another
as on a private employer. While Bowles hints at the answers, we show below how
our new paradigm helps clarify the reasons. Of particular interest is whether
or not the reasons given by the radical conflict school assume that workers behave
other than as rational, individual maximizers in public enterprise, employee-managed
environments. For if this is the nature of the explanation, no matter how reasonable
the argument, traditional theorists would be justified in concluding that it lies
outside welfare theory proper, that a Neo-Hobbesian view of malfeasance is sufficient
in welfare theoretic terms, and that Bowles' critique of private enterprise rests
on the assumption that workers' behavior in some environments is influenced by
factors other than rational, individual maximization.
8.2.4 Malfeasance Is Universal
As we saw, Michael Reich's model responds directly to the traditional objection
to "divide and conquer" theories of racially motivated employer behavior that
they are, ultimately, "conspiracy theories." As Kenneth Arrow explained, while
employment discrimination may well be in the interests of employers as a class,
one must provide compelling reasons for why it would not be profitable for individual
private employers to cheat on the discriminating employer cartel in order to avoid
concluding that competitive private enterprise economies tend to alleviate, rather
than aggravate, racial and sexual discrimination. 17
put differently, if class-dividing effects of individual employer actions
are merely positive externalities for an employer's classmates, then traditional
theory teaches us not to expect such effects to be taken into consideration. And
if there is one point on which our new theory agrees with traditional theory it
is that effects external to a decision-making process will not be taken into account!
But Reich provides a reason why the effects are not external to the individual
If an employer could get the same work done by paying whites no more skilled than
blacks the same wage rate, it would be unprofitable to pay whites more. And if
an employer could get the same work from an equally capable all black work force
as employing more than a proportionate share of whites, it would be unprofitable
to hire whites at a higher wage rate. But Reich voices a reason to doubt the assumption
that an employer can get the same work done in both situations and, therefore,
gives a reason employers might do just what traditional theory suggests they will
not, except at the expense of their own individual profits. What Reich's argument
boils down to is that since wage discrimination and employment discrimination
increase the amount of work an employer can extract from labor hired, doing so
up to the point where the increased costs equal the benefits is part and parcel
of profit-maximizing strategy for individual employers, rather than contrary to
profit maximization, as traditional theory would have us believe.
In our view, Reich's argument succeeds in overcoming the "conspiracy theory" rebuttal
of traditional theory. Moreover, Reich points the way toward a more general view
of how the conflict of interests between employers and employees works itself
out in ways that are not necessarily socially efficient. But we believe his model
fails to suggest the extent to which employers have an individual profit incentive
to engage in discriminatory actions. Nor does his model enable us to assess all
the factors that play important roles in the battle between employers and employees
as each pursues individual interests.
By treating the issue in a single time period model, Reich limits the extent of
benefits that accrue to discriminating employers regarding extracting labor from
labor power and fails altogether to show how such actions can benefit employers
in wage negotiations as well. A traditional theorist might well respond to Reich's
argument by admitting the logic of his demonstration, but challenging the significance
of the effect. If the only benefit to the employer of what Reich admits is cost-increasing
behavior is to make employees more manageable in the present, one might wonder
just how much extra cost would be warranted. 19
What Reich's model, which should be seen as a pathbreaking first step, fails to
indicate is that by far the most important beneficial effects to employers of
discriminatory actions today are greater divisions among their employees throughout
By choice of technology and reward structure employers can affect the human and
group characteristics their employees will have in the future, thereby affecting
what they must pay their employees in many future time periods in addition to
the effort they can extract from the labor they hire during many time periods.
Choice of technology and manipulation of reward structures that affect the individual
and group characteristics of employees in ways that weaken their ability to resist
future efforts to extract greater work effort are also likely to permit employers
to pay less for that labor power in many future time periods. In sum, Reich's
model correctly identifies the "wage increasing effect" of employer discrimination
since this is the effect on the wage bill in the period in which the discriminatory
actions are taken. But his model is blind to the "wage diminishing effect" of
employer discrimination since this effect occurs in periods after the discriminatory
Moreover, expanding our view of what is at stake for employers and employees alike
in discriminatory behavior clarifies the importance of factors not highlighted
in Reich's model. Most obviously, the importance of the rate of labor turnover
becomes immediately apparent. A multiperiod view of what is at stake in discriminatory
behavior is no different from a single period view if there is 100 percent labor
turnover in each time period! For with 100 percent turnover all future "beneficial"
effects of discriminatory behavior that employers might carry out would vanish
for those employers and accrue only to their classmates as "positive" externalities.
But the traditional claim that discriminatory actions only generate positive externalities
for other employers is most certainly not valid if labor turnover is less than
100 percent each time period and if employers compete for profits over the long
haul rather than simply in the present. In the far more realistic case of competition
for profits over the long run and less than 100 percent labor turnover, the benefits
of discriminatory behavior to individual employers are far greater than suggested
by Reich's limited model, as we will see when we embed Reich's logic in the formal
model we developed in chapter 6. In our model it is much easier to see why the
total future profit-enhancing effects can provide a powerful incentive capable
of outweighing substantial present costs. Moreover, the critical nature of labor
turnover on employer incentives is readily apparent in our formulation, while
it was invisible in Reich's model without a future.
8.2.5 Limitations of Single Period Models
More fundamental is the importance of the individual and group characteristics
of employees. What is really at stake is nothing less than the fact that employers
and employees have directly opposed interests not only with respect to the real
wage, but also with regard to the human characteristic transforming effects of
the production process. 20
Without a paradigm and welfare theory that explicitly identifies individual and
group characteristics as "state variables" for which private employers have important
interests in determining values quite different than those employees would choose,
the generality of the problem, the critique of "producer sovereignty," and the
profit-enhancing logic of economic discrimination are not apparent. The conflict
between employer and employee in private enterprise economies is a complicated
battle waged over time. In any period what is at stake is not only the present
outcome in terms of wage rates and effort extracted, or "real wage," but changes
in employee characteristics that powerfully affect the terrain of future battle.
While implicit in Reich's reasoning, he never defines the key variables-the human
characteristics of the employees.
In other words, while it is an important response to the "conspiracy theory" rebuttal
to "divide and conquer" theories of discrimination, Reich's model is not sufficient
for our purposes. But by embedding his idea in a more general framework we strengthen
the conclusions he drew.
In sum, as previously formulated, many challenges to the traditional analysis
of production under private enterprise are subject to rebuttal. Criticisms based
on the distinction between "labor power" and "labor performed," on the formally
dictatorial nature of entrepreneurial prerogatives, and on asymmetric information
sets for employers and employees are less than compelling in steady state models
with their full information implications. And the ethical imperative to eliminate
"alienated labor" appears less than categorical upon closer inspection, leaving
in doubt whether or not private enterprise misapportions decision-making influence
regarding production. Reich's critique can be greatly strengthened and expanded
in a multiperiod model in which the critical role of changing human characteristics
can become apparent. The same might be said for the pioneering work of Gintis.
While Gintis' critique loses bite in a steady state world in which employers and
employees learn what to expect from one another, it gains significance in a multiperiod
model where the batt e over the human characteristic transforming effects of production
is waged for higher stakes.
8.2.6 The Importance ofHuman Characteristics
What, after all, is really at stake in the conflict between private employer and
employee? From the employer's perspective, division of the net product, or the
wage rate, is of great importance, as is the degree of effort and diligence employees
exert in concert with their capabilities. From the employees' perspective, their
wage rate is important, as is the extent to which they receive positive or negative
satisfaction from their work. All of which can be summarized as a direct conflict
of interest over the "real wage." What we might call the human fulfillment effect
of their work is a function not only of the meaning and interest the activity
holds for them, but of the extent to which they are compelled to exert greater
or lesser effort. This implies a "double" conflict of interest between employer
and employee over division and extraction, which can be usefully summarized as
a "struggle" over the "real wage." 21
8.3 Reformulating Conflict Theory
But the struggle over division and extraction is waged over time. And both the
individual and group characteristics of the employees in each time period play
a critical role in the outcome of that struggle. Moreover, the characteristics
employees will have in future periods 22
are influenced by the nature of their productive activity in this time period.
So, while the -conflict of interest is ultimately over division and extraction,
there is also an all-important conflict of interest over the human characteristic
transforming effects of laboring activity, since these will largely determine
the advantages and disadvantages of employees and employers in their future struggles
over division and extraction. 23 So the
double conflict of interest over division and extraction implies a third conflict
over the human characteristic transforming effects of the labor process.
We might pause to consider how traditional theory missed such an obvious conflict
of interest. While the traditional paradigm ignores the human development effects
of economic activities, under some circumstances this is justified. And the labor
process under private enterprise has some of the markings of just such a situation.
In traditional theory employers had no interest in opposing organizations of work
that fulfilled employees' preferences provided they did not diminish productivity.
As a matter of fact, the conclusion of "producer sovereignty" hinged on the assumption
that * employers would seek such improvements in working
8.3.1 Human Characteristics and Conflict of Interest
conditions in their efforts to pay lower wages, which competitive labor markets
would provide in the form of compensating wage differentials. Had the traditional
paradigm permitted traditional theorists to see the preference development effect
of work activity, they no doubt would have come to the same conclusion: employers
have no reason to oppose, and a wage-reducing reason to seek, changes in work
that generate ftiture preferences that employees prefer.
Moreover, traditional theorists are quite aware of the difference between PrEMEs
and slavery. While slave owners have every reason to concern themselves with the
effects of the work process on their slaves since they may sell their slaves as
well as the products they produce, private employers do not own and cannot sell
the workers who bear the imprint of the work activity they carry out under their
employers' direction. Herein lies temptation to conclude that employers have no
axe of their own to grind regarding the human characteristic transforming effects
of labor activity, but only an incentive to search for arrangements employees
But as we have just explained, employers have a very big axe to grind in this
matter because their employees' characteristics will have an important impact
on their ability to lower wage bills and extract greater effort from these employees
in the future. Private employers cannot "cash in" on the extent to which they
organize production in ways that enhance the attractiveness of those who have
worked for them to other employers by selling their employees to other private
employers; in PrEMEs workers must sell themselves and only for a limited time.
But individual employers can benefit from producing transformations of human characteristics
advantageous to employers simply by rehiring those they employ today, tomorrow!
The qualitative economic model we developed in chapter 5 facilitates a careful
analysis: any economic activity, including production, can be characterized by
its material and human inputs, by the transformations in the "state" of the physical
productive machinery and the individual and group human characteristics of those
who carry out the activity, and by the material and human outputs of the activity.
Beyond caring about the wage they receive, employees are also logically concerned
with (1) the number of hours of different kinds of work as well as the degree
of effort exerted, or what we have called the human inputs of the production process,
the transformation of their human characteristics, or what we have called
the difference between the beginning and final values of the "state" variables
representing their individual and group human characteristics, (Pf-Pb),
(Sf-Sb), (Kf-Kb), (Vf-Vb),
and (3) the degree to which their needs are met or unmet, or they are satisfied
or unsatisfied by their work activity, which we have called the human outputs
of the production process, U0.
matter to employees because the kind of work affects their well-being
and because the time spent and degree of effort expended affects their well-being.
Changes in human characteristics matter to employees both because (1) changes
in individual characteristics parameterize their preferences and earnings functions
and, therefore, future abilities to enjoy different activities and earn labor
income, and (2) because changes in individual and group characteristics
affect their future bargaining strength regarding division and extraction vis-a-vis
their employer. U0
represents the obvious direct preference fulfillment (traditionally termed the
"disutility of work") effects of their work activities.
Beyond caring about how much they pay for inputs, including labor time, and how
much they are paid for material outputs, employers are also logically concerned
with (1) the quantities of inputs used, Ri
(2) the number of hours and the degree of effort employees put forth,
(3) the transformation of their employees' human characteristics, (Pf-Pb),
(Sf-Sb), (Kf-Kb), (Vf-Vb),
and (Gf-Gb), that occurs
at work; and (4) the quantities of material outputs produced, X0.
Since employers pay positive prices for inputs they wish to minimize quantities
used. Because the labor contract does not guarantee the effort that employees
will exert, employers must seek to induce employees to exert maximum effort. Since
changes in the individual and group characteristics of their employees will affect
their future bargaining strength regarding division and extraction, employers
wish to maximize the erosion in future bargaining strength among their employees.
And because employers gain revenues only from the sale of material outputs, they
wish to maximize the quantities of material outputs produced.
We can assume that the prices of nonhuman inputs and outputs are fixed exogenously
if they are bought or sold on competitive markets. But to some extent the price
of human inputs, or wages, is endogenous to the production process in the sense
that future wage rates may be affected by present decisions provided labor turnover
is not 100 percent. This is not to deny that competitive labor markets place limits
on wage rates. Competitive labor markets presumably guarantee, among other things,
compensating wage differentials for work that generates different degrees of satisfaction,
which in turn implies that employers will have an interest in the kinds of work
employees do and the degree to which they garner satisfaction from that work to
the extent such factors are translated into market wage differentials. But traditional
theorists are correct to see this kind of interest as being in harmony rather
than conflict with the social interest. However, to some extent the wages an employer
must pay are not totally determined by labor market conditions, no matter how
competitive they may be. To some extent, wage determination is endogenous to the
organization of the production process.
Interestingly enough, the relation between extraction and competitive labor markets
is totally analogous. Competitive labor markets place both lower and upper limits
on the degree to which employers can extract effort from their employees, just
as they place limits on wage rates. As a matter of fact, competitive labor markets
place limits on the wage/effort package, or real wage, since just as even the
most competitive labor markets permit a degree of indeterminacy in payments that
can be affected by the organization of production in previous periods, they permit
a degree of indeterminacy in the degree of effort that can be extracted as well.
Which means in a multiperiod model in which the possibility of influencing payments
emerges along with the possibility of affecting extraction, Reich's assumption
of exogenous payments (to which employers can add a discriminatory bonus for whites
if they choose) but endogenous degrees of extraction was arbitrary. The two are
equally exogenous, to the extent that competitive labor markets hem employers
in, and equally endogenous, to the extent that present choices of technology and
reward structure can transform the human "state" variables in ways that affect
the relative bargaining strengths of employees and employers in the future.
Our model allows us to pinpoint the difference between a fully elaborated "conflict
theory" and the traditional analysis of the production process. In the traditional
view, employers do not care about transformation of the human "state" variables.
(Private employers are not, after all, slave owners.) And it is precisely this
omission in traditional theory that renders the real wage just as exogenous as
the prices employers must pay (and receive) for nonhuman inputs and outputs under
the assumption of competitive markets. In complete information worlds, competitive
markets do limit decision making Within the black box so severely as to eliminate
all room for maneuver. In other words, perfect information, competitive models
generate determinate solutions. But recognition of the human characteristic transforming
effects of production changes our view of what decisions are eliminated by competitive
labor markets and what decisions are "predestined" for employers who are to succeed
in competition with others.
The decision that is compelled by competitive labor markets takes into account
the degree to which future profits can be enhanced by diminishing the bargaining
power of one's employees through appropriate choice of technology and reward structure
today. And, of course, the definition of appropriate choice is precisely the technology
and reward structure whose marginal loss of present profits from lost output or
higher costs is exactly as great as the discounted marginal gain in future profits
from enhanced leverage over division and extraction. The decision that is eliminated
by competitive labor markets is precisely the one traditional theory believes
is compelled: a decision in which the employer abides entirely by employee preferences
regarding human characteristic transforming effects of the production process
eschewing the possibility of expanding profits by contributing toward human characteristics
that weaken employees' bargaining power.
Ultimately the issue reduces to the question of the relative power of employers
and employees-something traditional theory implies is irrelevant under competitive
circumstances. So it is important to clarify the relation between competition
and power and exactly what we are arguing here. A traditional theorist might formulate
the following rebuttal to our argument, similar to the rebuttals to previous contributors
to the conflict theory we reviewed previously.
8.3.2 Competition and Power
We wish to respond to this line of reasoning explicitly and precisely, because
in our view this is the "bottom line" to the debate over the welfare theoretic
properties of private enterprise. 26
Suppose the competition among employers for employees was so strong that
the answer to all of the above questions was "yes." In our view, this amounts
to stipulating that circumstances are such that the balance of power between employers
and employees over all the conflicts of interest between them is entirely in the
employees' favor. It amounts to assuming labor markets are so "tight" that employees'
threats to vote with their feet are sufficient to extract any and all concessions
from employers short of ones that would literally bankrupt them. Of course, if
this were the case we would expect employees to leave employers no part of the
net product 27 and insist that the work-roles/payment/effort
trade-off be entirely in accord with employee preferences. As a matter of fact,
if this were the case, there would be no difference between a private enterprise
market economy in which employers hired employees and one in which employees hired
But this could not be the case unless, among other conditions favoring employee
power, the human characteristics of the work force were such as to maintain a
monopoly of power in employees' hands. So we logically expect such a situation
to coincide with a condition in which employees have whatever individual and group
characteristics guarantee them advantage in their negotiations with employers.
And if this situation is to persist as a steady state, we naturally assume employees
are taking care to reproduce these characteristics as reproductive transformations
of human characteristics that are "empowering" for employees.
So our answer to the question, "Isn't this what competitive labor markets imply?"
is, "Yes, this could be what competitive labor markets imply
29 but they might imply something very different." Let us pose the
If an employer offers lower payment
than other employers, don't competitive labor markets imply workers will seek,
and find, better employment elsewhere? If an employer tries to extract more
effort than other employers without paying a wage premium, don't competitive
labor markets imply workers will seek, and find, better employment elsewhere?
If an employer structures work roles in ways that have less desirable preference
fulfillment and/or development effects for employees thanjobs offered by other
employers, don't competitive labor markets imply workers will seek, and find,
better employment elsewhere? 25 And finally,
if an employer manipulates choice of technology and reward structure to affect
employee characteristics in ways that diminish their ability to secure favorable
employment circumstances in future negotiations, don't competitive labor markets
imply workers win seek, and find, better employment elsewhere?
If an employee tries to insist
on higher payment than other employees, don't competitive labor markets imply
employers will seek, and find, lower cost workers? If an employee tries to
get away with less effort than other employees without accepting a wage reduction,
don't competitive labor markets imply employers will seek, and find, more
willing employees? If employees insist on work roles that have more desirable
human consequences than those offered by other employers, don't competitive
labor markets imply employers will seek, and find, more reasonable employees?
And finally, if employees only tolerate technologies and reward structures
that affect employee characteristics in ways that maximize their ability to
secure favorable employment circumstances in future negotiations, don't competitive
labor markets imply employers will seek, and find, less combative employees?
If the competition among employees
for employers were sufficiently strong, wouldn't the answer to all these questions
have to be "yes"? And doesn't this amount to saying that circumstances are such
that the balance of power between employers and employees over the conflicts
of interest between them lies entirely in employers' favor? Haven't we simply
stipulated that the competition for jobs is so fierce that the threat of unemployment
is sufficient to extract any and all concessions from employees short of ones
that would not permit them to sustain themselves and their families? And if
this were the case, couldn't we expect employers to leave employees no part
of the net product beyond subsistence needs and insist that the work-roles/payment/effort
trade-off be entirely in accord with employer preferences?
But, once again, this could not be the case unless the human characteristics of
the work force were such as to maintain a monopoly of power in employer hands.
And we would logically expect such a situation to coincide with a condition in
which employees have whatever individual and group characteristics are required
to grant their employers full negotiating advantage. If this situation were to
persist as a steady state, we would have to assume employers are taking care to
reproduce these human effects of the production process. In other words, all this
is also consistent with "competitive" labor markets.
The issue here is the same as the issue of the normal rate of profit to which
traditional theory has not exactly provided a clear-cut answer. IMn most traditional
treatments, the long-run normal rate of profit is zero on the assumption that
any activity that generates positive profits will be expanded until those profits
are "competed away." But traditional theorists seldom consider competitive circumstances
under which long-run profits may not be "competed away." If financial capital
is sufficiently scarce, 31 and inputs must
be financed in advance, activities may not be expanded to the point that normal
profits are competed away. If employers have been accustomed to earning a positive
normal rate of profit and labor's bargaining strength does not increase, productive
potentials may go unleashed unless they continue to generate positive profits.
While "Sraffians" expend little more effort than neoclassical theorists analyzing
the particular circumstances that generate higher or lower rates of profit, they
do not presume the long-run rate of profit will be zero. Instead, the normal rate
of profit in Sraffian models is seen as determined jointly with the wage rate
by the relative bargaining strengths of employers and employees. What we are arguing
here is implicit in Sraffian theory, namely that many wage rates and normal rates
of profit are consistent with -competitive" labor (credit) markets. Moreover,
we claim the individual and group characteristics of the work force go far toward
establishing the relative bargaining power of employers and employees and that
they are, therefore, important determinants of what the "competitive" wage rate
and "normal" rate of profit will be. More to the point, unless labor holds a complete
upper hand, the kind of employer tactics envisioned by the conflict school which
we have attempted to clarify are part and parcel of the employer behavior that
is compelled by competition among them. 32
The point is that stipulating "competitive labor markets" does not answer the
question of relative power between employers and employees.
33 Instead the "assumption" of "competitive labor markets" neatly sidesteps
this question-which in some situations is highly ingenious! If we are examining
a situation where the relative bargaining strengths of an employer and his or
her employees does not matter, then sidestepping an admittedly ticklish but irrelevant
issue is totally justified. 34 But the problem
here is we are dealing with a situation in which the issue at stake depends precisely
on the balance of power between employer and employees. And since stipulating
"competitive labor markets" merely sidesteps the question rather than answering
it, the "assumption" of competitive labor markets has nothing to contribute whatsoever.
To proceed we employ a different, but productive simplifying assumption.
For the unproductive assumption of "competitive labor markets" we substitute the
explicit assumption that employees have something less than a complete upper hand
in their bargaining with employers. 35 For
in a private enterprise economy, under any of the infinite possible relative bargaining
strengths between employers and employees consistent with competitive labor markets,
other than the extreme case in which employees have employers entirely at their
mercy, the conclusions drawn by traditional welfare theory do not hold. Instead,
as we demonstrate next, the conclusions of the "conflict theory" obtain'
In sum, if employers rehire at least some of their employees, and if employers
are not completely at the mercy of their employees, employers will be able to
achieve a positive normal rate of profit. 37
And in doing so they will choose technologies and,reward structures that equalize
the (long-term) profit gains from influencing employee characteristics in ways
that reduce their bargaining power with the (short-term) profit losses of less
productive technology and higher cost wage bills. All of which sustains the conclusions
of the conflict theory that we cannot rely on private employers to choose the
most productive technologies available, nor can we trust them not to engage in
discriminatory systems of rewards. Competition among profit-maximizing employers
will drive them to search out ways to transform the human characteristics of their
employees in ways beneficial to employers. And there is every reason to believe
this will be, to some extent, at the cost of social efficiency.
But before examining what human characteristics we can expect employers to foster
to promote their interests in the conflict over division and extraction, we reconsider
the conclusions of Gintis and Katzner concerning sufficient conditions for profit
maximization to coincide with social efficiency. At first glance they seem to
contradict the conclusions we have just drawn.