Thanks to my good pal Keith (Check out his cool Travel blog about the Tuvaluan Island of Nanumea ) I’m directed once again to the capitalist controversies.
A letter to capitalists from Adam Smith
To: Capitalists of the World
From: Adam Smith
What has become of my beloved capitalism? Countries teeter, protests rage, unemployed multiply, deficits abound the virtues of capitalism are questioned. Based on a few hundred years of observation, I have some fresh thoughts on how to sustain this system for a few hundred years more, or at least do better in 2012 than it did in 2011.
…. CONTINUED at FT – free registration required.
My (Joe’s) take on that article:
I like the first part – the setup – by far the most.
In my opinion Adam Smith would be fine with the ups and downs and wealth disparities as long as the poor keep getting richer – which is in simple terms what is happening now, esp. when one does not (absurdly) remove Chinese and Indians from the equation.
The disparity controversies remind me of the OWS ranting against the big system, and I remain somewhat unmoved by that until I can find better data about money flows. There may be some merit for the case that wealth is flowing “too disproportionately” to the wealthy, but we need a LOT more than simply observing disproportion, which is the cornerstone of smart markets. Without it you tend to get a race to the bottom, where the lack of incentive makes it hard to get folks to work “harder” than others. Simplification? Yes of course, but if we are ever going to improve the disparity issues we need the American left to recognize how brilliantly the American system has worked over a long history to *improve* things using the architecture of entrepreneurial incentive, combined with a very progressive federal and state taxation system where those with the most pick up most of the tab for those who don’t have as much.
Obviously about 99 % of us would like to see the extra wealth flow to US more than the 1 percenters who are reaping more than what some would call a “fair share”, but …
Let’s try to figure this out by simplifying: Let’s say if you have a single very clever woman who builds a company that eventually consists of 101 people, the founder (who took risk, mortgaged her house in process, and developed a brilliant idea into a business) and 100 other folks who were hired after the company was a success, all 100 of now make a living wage of $50,000 per year plus benefits. Let’s also reasonably assume that the founder remains clever, and her departure would hurt the company to the tune of many millions in profits.
Question: What is a “fair amount” for the founder to make in this example? 0 because she loves her work and she has no boss ? 50,000 because everybody else makes that? 100% of the extra profit she account for? Very few would argue for any of these. Obviously she should make MORE than the others, and LESS than the total extra profit.
Really, the only smart issue on the big economics table is HOW MUCH MORE?
VERY IMPORTANTLY note this. Assume she’s been making 50k, same as the wage of her workers. Then, after a great year that she single handedly engineers that give the company an extra 5 million in profits – profit from accounts that are likely to continue into the future – she raises her pay to 500k (a 900% raise) and doubles all her worker’s pay to 100k (100% raise). How do we interpret that action?
OWS is incensed – the new wealth was distributed VERY disproportionately. She got 900% the raise she gave her workers.
I, on the other hand, think she’s great and would love to work for her. That’s GREAT pay when you have so little risk, and she’s the architect of the innovations. Both in fairness terms and in pragmatic terms I want her to get more. I want SOME of that extra profit, after all, I’m part of the company, but the architects of the wealth creation “should” be disproportionately compensated.
There are exceptions to this simplification, such as CEOs that preside over lowered valuations yet make big money, but in simple terms this is pretty much how things work, and we change that at our enormous peril, because you can bet dollars to yuan that China will choose that model over the OWS more socialistically inspired model.
Key questions are this: HOW do we optimally distribute and redistribute (tax) “new wealth”? and “old wealth”, such as inheritance money?