Indispensable Economics Saving the Free Market

Oct 24, 2008

The famous Austrian economist, Joseph Schumpeter, despaired for the future of the free market system. The reason for this despair was that the excess wealth of the system would create educated folks who would turn on the very system that created them. Their education would make them into anti-capitalist ideologues, who would then kill the goose that laid the golden egg. He did not think that those who participated in the creation of such enormous wealth would be in any position to fight back, and this for two reasons: firstly, business people do not tend to be men of letters, so they are unable to mount arguments defending the system; secondly, the job of the business executive is the survival of the company, and thus, he will concentrate on those things required to weather the storm, not be controversial.

 

The man who is probably the most famous Austrian economist, Ludwig von Mises, despaired for the future of the free market system due to envy. Various sectors of society, academic, non-productive, uneducated, etc., would envy the wealth of the producers in society, and end up by finding means to take away that wealth and give it to the lesser productive people, despite the fact that they did not earn it, and therefore, are not entitled to it.

 

Our present political situation has a combination of both of these views. Both presidential candidates are in favor of redistribution of wealth, albeit one is more open about it. And very few business people are saying “no!” to any of it with a few exceptions, such as the president of BB&T Bank, who wrote an open letter to Congress asking why his totally solvent bank should be punished for the stupidity of the others.

 

But there is another culprit in this maelstrom. This culprit is the business person. Why? With tongue-in-cheek apologies to neo-classical (mathematical) economic theory, the purpose of a company is not to make a profit. As John Paul II said in Centesimus Annus, a profit is a sign of the health of a company, and therefore is good and necessary. But anyone who has taken a management course knows that the purpose of the company, aside from producing what the customers want, is to increase the wealth of the stockholders. This is different than making a profit, although profit is an integral part of it. Wealth is different than profit. Profit is a short run measurement of the short run health of the company. Wealth by its very nature is long run. Profit appears on the financial statements of a company in mere money terms, and the accountants who produce those statements do not even take inflation into account. So a company could have an increase in profit, but not an increase in items sold, merely because they had to raise prices to accommodate the fall in the value of the dollar. But executives today are a slave to the profit line in the financial statements. They have a need to impress their boards and stockholders now by sacrificing the long term growth of the enterprise.

 

In order to avoid this misguided notion that one can sacrifice long run growth for short term profits, the executive must have something that is very lacking in our society—moral courage—the courage to do what the executive learned in business school, as opposed to going for short term profits and the ever-popular golden parachute when the guy takes too much risk and trashes the company, or makes a short run profit, but neglects product development and retires early, takes his millions, before it hits the fan.

 

What effect does this have on the free market? The other night, a news crew found the recently dismissed CEO of what used to be a great firm, Merrill-Lynch, walking down the street in a baseball cap with a cup of coffee. This dude bought risky mortgages from Fannie and Freddie, the company got in trouble, but he walked away with millions. When the news crew asked him if he could justify himself—he said nothing; he just kept walking as if they were not even there.

 

Let’s analyze this. If the former CEO thought that what he did was right, one would think he would try to explain the whole thing. But he did not utter one peep. Of course, we cannot read his mind or judge the state of his soul. But take myself, for instance. [Take my wife—please!] I have a reason for everything I do. Even if I misjudge the situation, I can explain what my thinking was. This is called taking responsibility for one’s actions. As the last few articles on this column demonstrated, one’s actions reveal one’s character—one’s words do not. Talk is cheap. We see the actions of these CEO’s, but they can’t or won’t explain them. Could this imply that their character flaws are showing? Could this mean that they did not have the moral courage to reject the short-term profit that might have been produced if these risky mortgages actually paid off, in favor of saving the company, the wealth of the investors? Did they trade this fiduciary responsibility for a cut and run golden parachute?

 

The outrage over all this might end up producing the socialism predicted by Schumpeter. I appeal to all executives—your actions affect not only yourselves and your firms, but the whole way ordinary people look at the economy. Lenin once said, “We [communists] will sell the capitalists the rope with which they will hang themselves!” Every time one of you reneges on his moral responsibility, you are putting a down-payment on that rope! Remember, under socialism everyone is equal—equally poor! Is that what you want?