The Methods Of Capitalism

Mr. Fleming is a prominent writer on business and economics. Many readers will recall his earlier book, Ten Thousand Commandments: A Story of the Anti-Trust Laws. The article is an excerpt from a new book, States, Contracts and Progress: Dynam­ics of International Wealth (Oceana Publica­tions, Inc. 128 pages.) Copies of the book may be obtained from The Foundation for Eco­nomic Education, Irvington-on-Hudson, New York. $3.50 cloth; $1.50 paper.

The wastes that are natural to big government enterprises are not as serious as those that result from interferences by the same governments in the smaller busi­ness ventures of private citizens. The channeling of the main cur­rents of economic energy through the government, however wasteful, is not as wasteful as the repres­sion, by taxes and controls, of the currents of energy that would otherwise flow through the minds and hands of private citizens. What meets the eye is not as im­portant as what fails to meet the eye—the small business ventures that never get born, or that grow up stunted or die young. A lively birth rate for infant industries is the best offset to a high birth rate for infant humans. It has been said that some countries are so poor that their people cannot break out of the vicious cycle of poverty. It is safer to say that they stay poor because onerous taxes and fastidious controls will not let them pull themselves out. Free enterprise is the true "take­off point" for economic progress. Underdeveloped countries are more in need of a redistribution of opportunities than of goods. The latter will follow.

There seems to be a roughly inverse correlation between the degree of a nation’s economic de­velopment, and the scope of its government controls. The more controls, the less development.

Governmental resistances decrease the flow of economic energy.

American businessmen com­plain of excessive regulation and red tape in their own country. But in many South American countries they find these hurdles multiplied, and in some parts of Asia, multiplied again. In India a man must have a license to start a business, to build a factory, to expand it, to issue new shares, to change the board of directors, to buy steel, or even to ship goods from one Indian state to another. All the roads lead to New Delhi, and the regulators may not issue the license if they think the busi­nessman’s plan does not fit their plan for the nation. Heavy restric­tions, including some outright pro­hibitions, are laid down, for in­stance, on the manufacture of such staples as cotton cloth, cloth­ing, shoes, soap, and matches.’ Some of these bans are to protect cottage industry. The building of any industrial plan must be justi­fied to government officials, who may find the proposed plan is "unnecessary."


And, of course, the "public sec­tor" of the economy, which is flatly "reserved to the government," is thus put out of bounds for private business. It is called "the govern­ment’s responsibility." In one word, it is a monopoly.

The most notable government monopolies are in oil exploration and production; and it is here that the results of government monop­oly are soonest seen. The Mexi­can government has had such a monopoly since the nationalization in 1938. The great "A, B, C" coun­tries of South America—Argen­tina, Brazil, and Chile, have tried them.

Though Argentina had one of Latin America‘s best oil prospects, foreign capital was shut out dur­ing the Perón regime from 1946 to 1958. By 1958, Argentina was buying about $250,000,000 worth of goods more than it was selling; and by chance this was about the amount it was spending for im­ported petroleum products, de­spite its own large petroleum re­serves. The country owed about $1,100,000,000 abroad, and its gold reserves at home were approach­ing zero.

In Chile, oil development has been a government monopoly since 1928. The government found no oil until 1949. It still does not meet Chile‘s oil requirements. The Chil­ean legislature in 1959 defeated a proposal that the northern part of the country be opened to for­eign oil companies.

In 1953 Brazil locked the door on foreign capital and set up a government oil monopoly, "Petro-bras," to be financed out of taxes with an initial capital of $80,000,­000. In 1958 Brazil was importing four times as much oil as it was producing, and was, like Argen­tina, paying about $250,000,000 for these imports.

In 1959 Petrobras tried to ar­range with the Bolivian govern­ment for Petrobras to go into Bolivia and find oil. But the Boli­vians wanted no foreign govern­ment operating there. Then private Brazilian capital began negotiat­ing to go into Bolivia in partner­ship with private companies of other countries. But the Brazilian government would not permit this.

Long-Term Results

It is said that some poor nations cannot "get their heads above water" because they have nothing to spare for "capital formation," by which to raise their standards of living. But there is no country so poor that it does not have a wealthy class, and the inequalities of income are normally greater the poorer the country. Thus South America has its pensadores, and India its rajahs. The U. S. govern­ment’s Survey of Current Business recently published figures showing that Latin Americans had $560,­000,000 invested in the United

States in 1956. About $1,400,000,­000 of silver was imported into India between 1850 and 1890, and another $3,000,000,000 since then, figuring silver at $1.00 an ounce. About $6,000,000,000 of gold, or about 6,000 tons, is estimated to be held privately in India today; and gold is still being smuggled in at $70 an ounce, or twice the U. S. price. Most countries in the Middle East area do not lack capital at all; governments in that area get about a billion dollars a year in royalties and income taxes from foreign oil companies.

In a nation without a thriving business community, private wealth is generally stored in vaults, or used in conspicuous consump­tion, or invested in real estate, or placed with business communities abroad. But where a country’s pri­vate business is not subject to Procrustean measures of control, this private wealth is less likely to be shipped abroad, buried, or otherwise diverted into circuits of low economic potential. It is likely to come out of hiding or to be brought home from abroad, par­ticularly since the prospects of profit are normally higher in a poor country if the political en­vironment is good.

Private enterprise never expires, even under the most rigid controls. But much of it goes to surrepti­tiously conducting the current of economic energy under, round, and through the backdoor of the con­trol system, in such forms as smug­gling, black marketing, personal influence, and straight corruption.

Planned Repression

The fact that a high degree of control, and a low rate of energy flow, occur together, is explained by socialistic governments as nec­essary but temporary. The low energy flow, they say, requires controls so that what little there is shall not be wasted. But it does not seem likely to be temporary. The converse side of a Five-Year Program for planned growth is five prospective years of economic repression. The more the state plans, the less practice the private citizen gets in planning.

An economic "rule of succession" prevails in states where competi­tion is free. Imaginative and effi­cient managers are constantly ris­ing to the top, and being elected by customers to larger constituen­cies, while less imaginative and efficient managers are voted out. But the management of a nation’s economy by civil servants discour­ages imagination, and has no "built-in" mechanism for selecting the most efficient. The bestowal of honors, it is sometimes argued, takes the place of the money incen­tive of private gain. But there is a vast difference. Honors are be­stowed from above, by the "ins." They favor the conformist "organ­izational man."

Socialist governments lack an incentive system to match that of either capitalist or communist sys­tems. Each of these systems has its "stick and carrot"—a stick to beat the donkey and a carrot to lure him on. In the capitalist sys­tem the stick is the fear of loss and the carrot is the hope of gain. The communist carrot is promo­tion and special privilege; the stick is arrest and transfer to Siberia. A new socialist govern­ment takes over with enthusiasm, vigor, and new ideas. But it is likely to just keep on with the same idea. Government officials are sel­dom risk-takers, cost-cutters, or innovators. In business, they lean toward yesterday’s ideas.


Sooner or later, socialist and welfare governments usually end up with inflation. The degree of the inflation seems in fairly direct ratio to what they attempt and promise. Paper money and over­expansion of bank credit even­tually seem the easiest way out of government attempts to:

         Raise the maximum possible taxes;

         Go as far as possible into indus­trial ventures;

         Raise wages as high as possible;

         Sell goods below cost; and

         Control private business.

The British pound was devalued a third in 1949 to $2.88, and with it went the Egyptian pound to $2.88 and the Indian rupee to 20.5 cents. The Egyptian pound, still officially quoted at $2.88, sold in New York at the end of 1959 at around $2.00. The Indian rupee, still nominally worth 20.5 cents, sold in New York at 13.5 cents. Both these countries started the 1950′s with large balances in Lon­don, but these were drawn down sharply, like those of Argentina, in the last half of the 1950′s.

After World War II, inflation swept through almost all the Lat­in American countries (with such notable exceptions as Guatemala, Venezuela, Ecuador, and Cuba).

As a result, the cost of living in Argentina at the end of 1959 was about ten times what it was in 1929. In Brazil it was nearly 20 times as much, having risen 50 per cent in 1959. The Brazilian cru­ziero, which was worth about 12 cents in 1929 was down to about five cents in 1950 and to less than a half-a-cent (220 to the dollar) by the end of 1959.

Mexico, after going through a hyperinflation during the political troubles in 1916, started another inflation in the 1930′s. From then to 1959 the Mexican money supply was multiplied about 16 times and prices multiplied about 8 times. However, in the last half of the 1950′s Mexico‘s rate of inflation slowed down, and the Mexican economy became unprecedentedly prosperous.

Severe Cases

Inflation in Chile went much further. That country’s cost of liv­ing multiplied about ten times between 1929 and 1950, and then about 15 times during the 1950′s, for a total rise of about 150 times in 30 years. In the 1950′s prices averaged to rise nearly 40 per cent a year.

The Republic of Indonesia was established in August 1950. Be­tween then and the end of 1959, the free-market price of the In­donesian rupia dropped from 30 cents to less than half a cent, despite the fact that during this period the Indonesian government expropriated valuable Dutch prop­erties and through 1959 had not paid for them.

The world’s record for postwar inflation, however, was made by mountainous little Bolivia, which after the 1952 take-over of its foreign-owned tin mines, became more or less a financial out-patient of the U.S. government. Per-capita aid to Bolivia in the 1950′s was the highest to any country receiv­ing United States aid. But in four years the Bolivian boliviano dropped from 1/180th of a dollar to 1/6,000th of a dollar, and by 1958 it had dropped to 1/11,600th of a dollar.

Inflation a Symptom of Cultural Conflict

Inflation is a symptom of cul­tural conflict in a nation. Any de­valuation of a long-stable currency involves a crisis; and repeated de­valuations spell a chronic, unre­solved conflict of ideas. Inflation resembles alcoholism, which seems to some individuals the only escape from a hidden inner turmoil; for some nations, inflation appears as the only escape from an obscure but painful social turmoil.

Inflation looks like a stock dividend, but with a significant difference. Like a corporate divi­dend of additional shares, inflation "re-divides the same pie." But un­like the stock dividend, inflation cuts the pie in new proportions. It cuts a larger share for those whom the government wishes to favor.

But inflation eventually aggra­vates the conflicts that led to it. Governments generally try to dis­guise its meaning by imposing more and more complex controls on foreign trade. They keep most of the foreign exchange earned by their citizens, reserve for them­selves first call on imports, and sometimes subsidize the exports.

In each case these resistances to the international flow of wealth enhance the powers of civil serv­ants. But in the process, the coun­try’s foreign trade, including the potential inflow of foreign capi­tal, gets ensnared like Laocoön and his sons in the coils of gov­ernment rules, regulations, licen­ses, and priorities.

The effects on the domestic flow of economic energy are also harm­ful. The established mechanism of saving and investment is en­feebled; nobody wants to buy bonds. Private capital again tries to go abroad, or goes further into hiding, or turns again to specu­lation in land, or into a new field of quick profits—commodities.

The "self-generation" of capi­tal for new plant by corporations is retarded, because depreciation reserves kept in a currency of shrinking value will not pay for replacements.

Among the severely squeezed industries are the public utilities such as electric power and tele­phone services. In South America most of these are now govern­ment-owned but some are still in private hands (as in the United States). In either case inflation steadily pushes up costs. It also steadily increases demand. This last calls for extensive and costly additions to plant. But for polit­ical reasons, governments are reluctant to increase their own rates or to permit private com­panies to increase theirs. As a re­sult, the biggest cities in Argen­tina and Brazil are badly short on power, water, and phone serv­ices.

Inflation breeds its own vested interests. They are particularly strong in the form of uneconomi­cally high wages, uneconomically low prices, in unnecessary jobs, and in certain producing sectors of an inflation economy. The Frondizi return to a stabilized cur­rency has made hardship for many Argentinians. Stabilization has been blocked in Bolivia by the powerful mine-workers’ union. Mexico City had a strike in the late 1950′s against an increase in bus fares to paying levels. Those who gained by inflation in the first place need continued infla­tion to keep those gains.

Thus the International Mone­tary Fund, in its annual report for 1958-1959, said about infla­tion in "less-developed" countries:

"During periods of prolonged inflation, investment in certain sectors, which usually are less productive, tends to be over expanded, creating vested interests in inflation.

"Such (sectional) resistance ac­tually may be so strong as to make it difficult for the monetary au­thorities to enforce restrictive credit policies on private banks, or even on government agencies." [Italics added.]

What Is a "Less-Developed" Country?

No one seems satisfied with the term "less-developed country" or "under-developed country." It does not exactly mean "poor coun­try," for some comparatively poor countries are progressing rapidly and resent the term. It does not fit the meaning of "countries where development is going on apace," for it is scarcely applied, for in­stance, to Canada, and less and less to Mexico, which in 1959 was booming.

But among the "less-developed" countries, as the term is most often used, almost all have at least one thing in common. They are countries that desire capital but have not yet put into practice the methods of capitalism.                                     



Oliver Wendell Holmes

I have no respect for the passion for equality, which seems to me merely idealizing envy.