Creative Capitalism: A Starting Critique

by Michael Kinsley

When I asked Greg Mankiw, former chief economic adviser to our current president (now safely back at Harvard) to join this discussion of “creative capitalism,” he said, “I thought capitalism WAS creative.” So problem number-one may be linguistic. The term “creative capitalism” was coined, or at least popularized, by the most successful capitalist in the history of the world. But in a way it’s an insult to capitalism just as George W. Bush’s legendary “compassionate conservatism” is an insult to other conservatives. If George Bush is a “compassionate” conservative, what are all the other conservatives? If there is something called “creative” capitalism, does that mean that ordinary capitalism isn’t creative?

Obviously, BillG does not mean that. But he obviously does mean to say that capitalism can be improved upon. And specifically, a new, improved capitalism could address some problems that neither today’s capitalism nor philanthropy nor government are dealing with adequately. And he sees capitalism as potentially superior to the other two because it is limitless. Or certainly our own capitalist system is far bigger than either the government or the philanthropic sector. And neither of these, he says, is big enough to do the job.

Left unsaid is a second point: Participation in the system of free market capitalism is voluntary. And even where “creative capitalism” appeals to people’s higher motives, such as caring for others, it doesn’t make the same kind of demands or expect the same level of generosity that formal philanthropy does.

But is creative capitalism actually a new kind of capitalism? Or is it just a grab bag of proposals that bear some relationship to the theory of free markets? Consider, for example, school choice, vouchers, charter schools, etc. These policies use market forces as a way to make schools better. But the basic principle involved is more socialist than capitalist: that society has an obligation to provide a decent public primary and secondary education to everyone, whether they can afford it or not. (Almost no one contests this principle in theory, although it is widely violated in practice.)

Capitalism as a “system” isn’t a set of rules that was enacted once upon a time and now can be easily amended. It is an arrangement that has grown organically from roots deep in human nature. Truly amending it would be more than just a matter of changing the rules.

So one big question raised by The Speech is whether we are talking about an actual change in the nature of capitalism, or just about a series of techniques that require non-capitalist motivations to work. In other words, Bill G says he wants to move beyond government and philanthropy and use capitalism itself to solve the world’s problems. But maybe most of his specific ideas are at bottom philanthropic, and are ultimately dependent on and limited by generous instincts, which are not bottomless, or government, which has its own disadvantages.

Selfishness is so built into the concept of free-market capitalism that the idea of making a role for selflessness seems nearly hopeless. For that reason, I thought the most interesting and original notion in Bill’s speech was the concept of “recognition” as something that can be a substitute for self-interest as an incentive under capitalism. It is a possible answer to people who say that the purpose of capitalism is profit maximization--who say that there is a very nice theory of how this is a good thing for everybody whether they benefit directly or not, and that notions like creative capitalism, and some of the specific policies behind it, could kill the goose that laid this golden egg. Furthermore, there is some ambiguity in this concept of “recognition,” as BillG describes it. Is recognition an actual alternative to self-interest or simply another route to getting there? In other words, is the idea that companies should devote some fraction of their profits to good works because the shareholders crave recognition, or is it because being recognized as a company that does good works will lead people to buy more of the company’s product, will make it easier to hire top-notch employees, and so on, leading to a payoff to shareholders of the traditional sort?

And in either case, other questions arise. If hunger for recognition is a natural force inside all of us that is equivalent to self-interest of the traditional sort, where has it been for the past few centuries? And why do we now have to amend the capitalist system in order to exploit this force? (This is, I suppose, just a version of the old joke about the rational-expectations economist who doesn’t pick up a $10 bill he sees on the sidewalk because if it were really there someone would have picked it up already. If “recognition” can be such a powerful force, why isn’t it a powerful force already?)

If, on the other hand, “recognition” is just a branding strategy--companies can profit from a reputation for valuing other things besides profits--we are in the world of the catch-22. Companies spend their stockholders’ money in ways other than maximizing profits for the shareholders because a reputation for not maximizing profits is the best way to maximize profits. And yet if they are actually maximizing profits, then the “recognition” for not maximizing profits is undeserved and is basically a con.

Before there was “creative capitalism,” there was “corporate responsibility.” This came in two flavors. The right-wing version was also called “shareholders’ rights” and was the ideological justification for the corporate raiders of the 1980s with their leveraged buy-outs and such. They argued that corporate management was pursuing its own interests and not those of the shareholders. (This was the same argument made years earlier by the left-wing economist, John Kenneth Galbraith, to no acclaim in the business world.) The left-wing version of “corporate responsibility” was an argument that corporations had responsiblilities beyond those to its shareholders. This is where the concept of “stakeholders” came from: a group that included employees, members of the communities where the company was located, and ultimately all those affected by the company’s behavior. The notion that a company owed a responsibility of good behavior (however defined) to all these people was a close predecessor of “creative capitalism,” which assumes that companies owe a responsibility of some sort to everyone on the planet.

But where does this responsibility come from? Why isn’t it best if corporations concentrated on maximizing profits, allowing capitalism to perform its alchemy of turning profit maximization (aka “greed”) into social good, and allowing government and voluntary private charities to fill in the gaps? BillG’s answer is that the gaps are too big--more like chasms. The problems are too formidable for governments and private charities to handle. Only the private capitalist economy is big enough to handle it. But this doesn’t really explain WHY the private economy should tackle these problems. “Recognition” is a good crack at an answer, because it fits right into the familiar mechanisms of capitalism.

In his speech, BillG offers five reasonably specific examples of creative capitalism in action, each of which raises some questions.

1. Simple corporate philanthropy: corporations giving away money--or software or hardware--to people who desperately need it. The main objection to this is that corporate managers have no right to be giving away the shareholders’ money. The answer to that complaint is that if the corporate policy is clear, people who object don’t have to buy the stock in the first place. At Berkshire Hathaway, as Warren discusses in his conversation with Bill, shareholders used to be allowed to designate the charity that would get their share of corporate philanthropy. (The program had to be discontinued when some stockholders’ choices became too controversial, as Warren explains.)

I once stupidly asked Warren what the point of that was: why not just pay out the money in dividends and let the shareholders do what they want with it? He pointed out that this would add a layer of taxation. The corporation would pay income tax and then the stockholder would have to declare the income before taking a deduction for it if it is given away. Whereas under the Berkshire method, the corporation takes the deduction and there are no tax consequences for the shareholder. Still, free-market purists would say that this is a faulty arrangement and that there is no reason the government should be promoting corporate philanthropy over individual philanthropy. It denies individuals the freedom to spend their own money as they wish. And also, much of the payoff in “recognition” goes to the corporate managers--Medicis and Rockefellers with other people’s money--rather than to the stockholders. Is there a better answer to this complaint?

2. Corporations should look harder for existing but underserved markets in poor countries. Or, a bit later, corporations should look harder for ways that firms in poor countries can market their products in advanced countries. In other words, there is profitable business to be done--profitable in the traditional, non-creative capitalist sense--that is not done because “we don’t spent enough time studying the needs and limits,” as Bill says? The question is: why not? There is profitabled business just sitting there, but nobody picks it up because of...what? Racism? Lazy thinking? Protectionism? If so, this is truly the low-hanging fruit of creative capitalism and it’s hard to imagine anyone objecting to it. The objection would have to be that it can’t be this easy, or someone would have done it already. (That ten-dollar bill again.) Or maybe that finding and developing these markets is disproportionately expensive and can’t be justified on a straight traditional capitalist basis even if the effort would ultimately pay off. In that case, we’re back at example one, asking what justifies using the shareholders’ money in this way?

3. “Tiered pricing.” That is, selling your product (typically, pharmaceuticals) for one price in the developed world and a much lower price in poor countries. It is easier to justify this for some products than for others. Products of the “new economy”--pharmaceuticals, software, and so on--share the characteristic that they are very expensive to develop and very cheap to produce. It may cost a billion dollars to get to the first pill, and a penny to produce the second, the third, and so on. Pricing products like this rationally is difficult-to-impossible. If you charge the marginal cost, as we are taught in Ec 1, you will never recover your development expenses. If you set a price that will enable you to recover those expenses, you will be leaving piles of money on the table (from people who could afford to pay more than the marginal cost of production, but not the higher price reflecting the cost of development). You also will be denying the benefit of your drug to people who need desperately need it.

“Tiered pricing” is a genteel name for price discrimination, which is ordinarily frowned upon. In theory it’s even impossible. And even in practice, there is leakage. (When you cross the border from Canada to the United States these days, the customs officials are looking for prescription drugs more than for recreational ones.) But giving poor countries a price break on software and pharmaceuticals can be good creative capitalism even as it solves a problem for capitalism of the traditional kind.

With more traditional products, the question in example one arises again. What is the justification for using the stockholders’ money in this way? And what is so “creative” (or, for that matter, “capitalist”) about it? Isn’t it just charity?

4. The government creates market incentives for companies to help poor people and poor nations. Example: for every drug a pharmaceutical company develops to treat some neglected disease of the poor, the FDA gives the company expedited approval for some other drug of their choice.

This one is really problematic. Why does drug #2 need “expedited” review? Is it because there is a logjam of new drugs waiting for FDA approval? Then surely the answer is either (a) triage the waiting list and give “expedited” slots to the drugs that promise to do the most good, not ones that happen to be made by companies with neglected drugs awaiting approval; or (b) expand the resources of the FDA so that people can reap the benefit of newly developed drugs as soon as possible. Or, if the problem is that the FDA drug-approval process is overly cautious and risk-averse, it seems nuts to start making unrelated exemptions to that process rather than reforming it. And if there is nothing in particular wrong with the normal FDA review process, granting “expedited” review must mean lowering safety standards. One way or another, this example seems like govenrment using its own incompetence as a weapons of blackmail.

5.The Bono model: charge people a premium for the “recognition” value of products associated with worthy causes (such as Bono’s “Red” campaign), and use the money for projects that help the world’s poor. In the bad old days of antitrust, this would have been called a “tying arrangement”--forcing you to buy one product in order to buy another--and was thought to promote monopoly, but that notion is pretty well discredited now. Still, questions arise. In particular: How much is being spent on advertising and promotion in order to create the “recognition” value that is being sold to customers? How much is being spent on administration of the campaign ? How much is being spent on self-congratulation by the executives of the participating companies? When you net all that out, how much is left for the programs to help the world’s poor? And what kind of supervision and discipline is there to make sure that the money is well spent?

In fact underlying all these questions is the big question whether what is called “creative capitalism” is just charity in disguise. And whether the beneficiaries might prefer to take their charity straight.

For many years Bill Gates gave very little to charity. When asked about this, he always said that he was waiting for a time when he could devote as much attention and brainpower to giving away money as he had to making it. Many people didn’t believe him, but of course he and Melinda have proven the skeptics fantastically wrong. The basic question for Creative Capitalism is: Why shouldn’t the entire capitalist system do what Bill did, rather than what he now advocates? That is, why shouldn’t capitalism go about its business--enriching some people, benefitting many more through its famous transformation of greed into social gain, and generating a surplus that can be applied to worthy causes?

One final thought about the ten-dollar bill problem. Maybe nobody picked up the bill because it wasn’t there. Capitalism does evolve. People do make new discoveries, and not all of them are technological or medical.  It’s not at all impossible that, for example, the potential power of recognition as a motivator in the free market system is waiting to be exploited simply because no one ever thought of it before. Isn’t it?

Comments

[William Heber]

I think that a better way forward would be "sustainable capitalism". This doesn't require depriving shareholders of anything or require altruism of management. It would simply be the recognition that getting all you can as quickly as you can will in the end giving you less than what you can get by simply realizing that non-sustainable capitalism eventually dries up the wealth at its source. Sustainable capitalism would recognize this fact.

[Ryan Kauffman]

There are distinct benefits to corporations who seek to help the underprivileged, especially if the corporation is large and should be planning strategically instead of tactically. In the 21st century economies in the developed world are dependent on innovation and new ideas to keep them ahead of their competitors. To get this cutting edge corporations should look to invest in educating people who have a different point of view. Imagine how much innovation we are losing out on by ignoring all those voices in the South Hemisphere.

[Tim]

I think one thing is missing in describing "creative capitalism", and the fact that it's missing is surprising, given Mr. Gates' career.

Schumpeter wrote extensively on the role of the entrepreneur in the market-driven capitalist economy. He also wrote about the conditions or institutions that allow or encourage entrepreneurial activity. Entrepreneurial activity then results in creative destruction - new ways of doing old things, as well as new products. Both of them displace the old ways, unsettling the old order - but they do create solutions to problems that people feel are important to them. They can create a want, but the void the products and services fill must also create true value to be long-lasting.

If I missed something, I will gladly admit my error.

[Entprof]

As North and others informed us capitalism exists within the confines of the institutions established by governments. Changes to these institutions dramatically impact the incentives that drive resource allocation. Capitalism is currently struggling with institutional inertia - the world has grown smaller and moves faster and corporations have grown larger and more powerful than many governments. This condition has lead to the erosion of the power of many nation state based institutions, such as SEC in the US. We have never had nor is it possible given the intertwining of politics and economics in human life to have pure capitalism, so the question BillG raises is can we create or recreate a better institutional environment that creates incentives to serve the bottom 1/3 of the world's population? As you see the changes in India, China, even Ireland the answer is indisputable yes, but the challenge is to manages the power at the interface of economics and politics. Business has no desire to compete in free and fair markets, the way to make money, as BillG knows well, is the real old fashion way, create and sustain a monopoly position. So any attempt to change institutions opens the door to businessmen to enter the system and use their power, wealth and employees, to rig the system to their advantage. Start talking about institutional changes to promote vaccines and Pfizer, Merck, etc. will be right in the middle of it bringing their expertise and guarding and promoting their own interests. Success of this endeavor requires the bright light of full disclosure, focused efforts of NGO's like the Gates foundation and a shift in the values of the voters of the developed world. All of which are possible, but not probable.

[chloe]

First point: "where does the responsibility come from?" The answer is simple: when corporations act, they affect others. In some cases they impose costs on others. This is what economists call "externalities". Corporations that generate externalities have an obligation to compensate for them.

Second point: the distinction between selfishness and selflessness is in a sense one of degree rather than kind. Corporations may not serve the poor today because they don't see the return, but the problem may simply be that the *time* to return is longer than private corporations can usually contemplate.

Clearly corporations would have bigger markets if more of the world's people were middle-class, but who's responsibility is it to elevate poor populations into the middle class?

[Michael F. Martin]

So long as we cooperate with other people, our need for recognition does not diverge from our self-interest. No man is an island unto himself.

The problem is not with profit maximization per se, but with the way that we're doing it. Since the 1930s, our system of accounting (and thus managing firms) has been predicated on a static theory -- i.e., the balance sheet reports what the firm would be worth theoretically in a bankruptcy liquidation.

To me, "creative capitalism" means a return to the capitalism once practiced in the United States during the era of industrialization -- a capitalism that focuses broadly on sustainable growth, rather than narrowly on the maximization of wealth for one set of stakeholders. As the United States is now learning the hard way, you can only wring so much profit out of a business without reinvesting in the people and things that are necessary to its growth.

The method for making a transition should be to focus on the account rules. What we measure is what we manage. If financial statements included even a little bit more information about the relationship between profits and growth, then both managers and investors would be more interested in sustainable growth.

[Jeff Mowatt]

What's in a name, one might ask. As I read it, it might also be described as social capitalism. Then again, that might be considered politically unpalatable.

Over the past decade, I've seen roots in Jed Emerson's Blended Value, John Mackey's Conscious Capitalism and not least the work of Muhammad Yunus with his Social Business Enterprise.

Collaboration and cooperatives are long established principles, so this is more than John Nash and the Rochdale Pioneers.

Capitalism to-date has offered the most effective mechanism for economic development. Our perception is one of an intrinsic link between between democracy and free market capitalism in which our economic and social rights are discrete from the profits returned from our corporations. This applied in a trickle down approach, at best reaches 75% of population and a single hurricane may be enough to prise out this reality.

Capitalism in the absence of democracy, on the other hand, returns 100% electoral support and manure for the workers. As we'll find anywhere in the world where democracy is 'managed' and political opposition cowed by brutality.

Now if we create business whose stakeholders are the most disadvantaged that can operate alongside existing business and within our free-market system of economics, we've created capitalism which is social.

Social capitalism then, may be a little too radical to utter, but I do know that a paper on this very concept reached the White House on 16th September 1996 and I'm hoping to encourage the author to join us here.

Jeff

[Nate Stearns]

I wonder if one model might be the Google Capitalism Philanthropy model (http://www.nytimes.com/2006/09/14/technology/14google.html?_r=1&oref=slogin) in which companies are created to make things or do things which are good but which also make money. These companies would be willing to do things which might result in a lower ROI but would still turn a profit. Shareholders in these companies would be expecting shareholder value while also understanding that the value might be less than available at other more rapacious companies.

There should be a way to quickly designate these hybrids so that people could invest or choose to do business with these companies and have a handy, easily recognized brand to attach too. I guess the question would be whether such a set up would be more efficient or attack more or fewer contributions. It's a t least worth a chance.

[Ian]

How about this reinterpretation of the economist and the $10 bill: An economist, before
leaving the house, would not expect to find a $10 bill on the ground as he walks to work. The reasons are two. Most people hang onto their
$10 bills carefully, so few are dropped. Of the few that are dropped, chances are that someone else will pick it up before the economist sees it -- particularly if there are many others traversing the same route.

[MG Subramanian]

There are very interesting and inspiring examples of change and change agents that are beginning to emerge and are, thankfully, getting documented and publicized. See http://indiatoday.digitaltoday.in or the print edition of the magazine devoted to Spirit of India:50 Pioneers of Change, for many grass root examples of development and delivery of services to local communities and small regions. A majority of them are responses of concerned individuals. The diversity of the change agents reported covers business school graduates, pure technologists, re-interpreters of religion and, in one case, an illiterate woman from one of the most backward regions of India. A striking commonality of many of these case studies is the readiness of people everywhere to organize themselves outside the mainstream political and administrative systems in helping themselves.

There is much compassion, courage and wisdom in ordinary people everywhere. To ensure that this resource works and delivers we do not need some newly minted version of capitalism. Capitalism, in simple terms, is an economic system that incentivises its participants towards the most efficient use of resources through processes that we collectively designate as markets. That unrelenting focus of efficiency has done much good but also left much that is worth doing undone. True, there are unexplored opportunities to design and deliver products and services to the Bottom of the Pyramid, using the learning and successes and failures that the world as a whole has had in running free markets, not-so-free markets and non markets. But it is futile to seek a welfare role for capitalism that has no structural basis or demonstrated competence to deliver socially desirable and broad based welfare.

But that does not mean that the world can not use the creative compassion of capitalists! What rich philanthropists like Bill Gates can do is to so refine ways of organizing philanthropy as to be a massive resource support to the struggles of local groups and initiatives, even as they seek to leave legacies of global significance like eradication of specific diseases that may have a personal meaning for them.

[Go]

Here's some creative capitalism: Establish an international limit on how much assets a family could possess and let the government confiscate everything above that limit. The confiscated assets would then be redistributed to governments around the world based on how many people live in that country.
The problem is not all governments are democratic and not every country would agree to participate.

[Mike Martin]

The great myth about capitalism is that it drives executives to do things to maximise profit. In rare cases of (creative?) capitalists, this may be the case, but most are satisficers, not maximisers.

Most recent demonstration of this fact occurred when InBev launched a takeover bid for Anheuser-Busch. Suddenly, AB management found an extra $500 million in expense cuts it could make in addition to an already identified $500 million. As Samuel Johnson acerbicly remarked, "Depend upon it sir, when a man knows he is to be hanged in a fortnight, it concentrates his mind wonderfully."

I wonder how many years ago AB could have made those savings, and for how many years it has wasted hundreds of millions of shareholder dollars. Yet AB is far from unique in this regard.

As much as anything it is a satisficing mind set that accounts for general corporate neglect of what C K Prahalad called, "The Fortune at the Bottom of the Pyramid: Eradicating Poverty Through Profits".

A capitalist needs to be creative to realise that setting up a profitable telco is actually easier in a country that has no government at all, than one that has a democratic, stable one.

The BBC reports from Somalia, where there is no state-run monopoly to compete against and a company doesn't even need a government license - because there is no government to issue one, http://news.bbc.co.uk/2/hi/africa/4020259.stm

[Jake]

Low hanging fruit #1: The BillG Foundation demonstrated that philanthropies are horribly inefficient and run by incompetent boobs. If we simply hired (and paid for) smart managers to run philanthropies we'd see a quick and profound improvement in their effectiveness.

[jb in pa]

The millionaire/billionaire who finds himself with an incurable illness doesn't sell out and use the cash to build a state-of-the-art research facility. Instead, he updates, tightens, his will.

The wealthy in this country--all of them presumed to be gifted and surely having friends who'd give them top dollar--didn't get to be the way they are by using their own money to pay for anything that would be considered a common good, and they aren't going to start now, when they're sick, and not even if doing so would allow them to save their own lives.

Am I right or am I wrong, Kinsley: We gave you too many tax breaks and writeoffs for anyone's good.

[Carlos Suchowolski]

It's this promoting sometihing like a "intelectual capitalism", that can be... one kind of "new capitalism" redesigned by... "experts"?

[Dr.Ramesh Chandra Das Janardanan]

Do you have any belief in the healing of even incurable disease by healers graced with the power of healing acquired through uninterrupted meditation in the early hours everyday sitting under medicinal plants and trees at most famous such places in the various parts of India. If so contact e.mail: janrcdas@gmail.com

[Nathan Ketsdever]

Perhaps Gates does need to clarify what creative capitalism is...but this concept is relatively new in the history of capitalism. As creative capitalism takes more shape it will be easier to define what it is and how it operates--to set hard limits on it now might calcify the movement in a detrimental way.

I don't see how the empirical examples of companies like Whole Foods, Tom Shoes, and the Grameen Bank don't prove that Bill's idea is a good one.

Capital should fill the gap, because if it doesn't it may just collapse under the weight of its own gluttony. The recent crash of the market certainly shows that short term greed drilled a hole the size of Texas in our economy and our collective economic welfare.

Inevitably, in such a scenario government officials must act because of the crisis nature of media and politics, which is a net increase in either spending or regulatory apparatus--which most businesses would argue is on balance harmful)

There's another argument to be had from a "bottom of the pyramid" perspective which says that the market as left product voids which smart (and entrepreneurial) capitalists should help solve.

Une commission se réunit ce lundi pour examiner les résultats...