We Americans have emphasized capitalism more, and allowed it to penetrate deeper into our economy and politics, than people in other countries. That’s despite a variety of challenges over the country’s 400-plus year history, starting with English colonization. Why is that?
We can start by discounting the obvious reason for capitalism’s triumph, and instead concentrate on the past several decades. (For details on that triumph, click here.) Yes, capitalism has performed well in bringing affluence to a great many Americans. Instead of wealth to a tiny few and poverty for the rest, which is how society worked before capitalism, a majority of Americans reached a basic level of affluence by the mid-20th century. The question is why we have continued to rely on capitalism, rather than embrace the socialism that many critics called for and that Europeans began to accept.
As some critics have pointed out, capitalism is fundamentally undemocratic. Instead of letting majorities decide on investments, operations, and the distribution of output, we leave most of that to small groups in the private sector, often working in a decentralized, competitive way. Companies decide what to produce based on the returns they’ll receive on capital invested. Wouldn’t it be better to have economic decisions made closer to what people actually want?
To answer that fundamental question, let’s start with a clear definition of capitalism as a kind of political economy. That definition has two vital points. First, it centers on the investment of saved-up resources for future returns. Capital is thus the scarce factor relative to labor and political participation. Second, most of the capital invested comes from decisions in the private sector, not from governments or non-profit organizations. In democratic socialism, by contrast, labor is the key factor, and most investment decisions come from the elected public sector.
These two aspects can go together. Socialist economies, for example, are less likely to replace labor with capital equipment. They also direct more of the returns to employees and communities, and less to those contributing the capital.
No society is purely capitalist, in the sense of relying entirely on the private sector’s investment to address all needs. With rising affluence governments everywhere provide basic schooling, health care, food, and retirement pensions. Governments vary greatly in size and programs, but all of have grown over the past century.
Some Europeans countries have set up mixed economies, with governments controlling the “commanding heights” of economies through either limited nationalization or intense regulation. Even the United States sought a large role for government in the middle of the twentieth century, though it eventually retreated in the 1970s and ’80 with the neoliberal push for renewed capitalism.
China experimented with “state capitalism” in the early 21st century, where government-run companies in one province competed with those from elsewhere along with private-sector firms. It now seems to be retreating from this approach, but in any case, we won’t consider it here.
Given Americans’ commitment to democracy, and capitalism’s reliance on the private sector, we need to explain why we have persisted with capitalism. Here are three reasons why.
1) Rising expectations demand continuing innovation: Some critics, and leaders, say we Americans are wealthy enough, and mainly need to distribute our wealth better. This is the thinking behind progressive taxation, which puts a heavier burden on rich people than others, even though the benefits of that taxation go mainly to the non-rich. The problem is that most people don’t think they are wealthy enough. Their expectations rise with each improvement in living standards, and they want the economy to produce more and better. Compared to how people lived a few centuries ago, we now live in a kind of material utopia, but that’s now we actually experience our lives. And if socialism can’t deliver greater wealth, most of us will prefer to stay with capitalism.
James Patterson’s Grand Expectations, a history of the United States during the supposed golden years of 1945 to ’72, points out this tendency in a dramatic way. In late 1945, flush from victory in World War II but with worries of returning to the Great Depression, people were polled about their sense of the present. On the whole, despite those difficult circumstances, they were surprisingly positive – and they turned out to be right. Almost three decades later in 1974, after unprecedented economic growth and stability, when the middle class had expanded broadly and put the majority of Americans in much improved circumstances, people were amazingly negative about the present. A brief recession, coupled with the energy crisis and the Watergate scandal, made them miserable. They had taken basic affluence for granted and wanted something better.
That negativity, along with rising competition from rebuilt war-torn economies, had a lot to do with the revival of capitalism under neoliberalism in the 1970s and ‘80s. Especially at the federal level, the people’s representatives dropped regulatory regimes developed in the New Deal and Great Society. Instead of relying on government agencies to decide the proper management of a company or industry, they appealed to the “magic of the market” from decentralized private actors.
That effort got a boost from the failure of outright socialist political economies, most clearly the Soviet Union and Maoist China, but also socialist India and Israel. Even many European economies pulled back from socialism by the end of the 20th century. People weren’t starving under socialism, but their economies were falling behind countries that had relied less on socialism and more on the private sector. The basic goods delivered under socialism weren’t enough.
2) Governments aren’t democratically responsive on economic development: While democracy has worked reasonable well in politics, it has done poorly in economics. That’s the message of Jane Jacobs’ suggestive Systems of Survival, and it has held up well since publication in 1992. Economic activity works better in a decentralized way, while political activity can be effectively centralized. Remarkably, even many left-leaning Democrats, including Senator Ted Kennedy of Massachusetts, came to believe in the 1970s that governments had failed to deliver economic benefits to consumers. In freeing transportation and other industries from government-determined structures, they hoped to help most people with lower prices and expanded service – and they succeeded.
That’s partly because even in a democracy, translating the will of the people into economic action usually requires heightened intervention by government agencies. That work almost inevitably gets captured by organized groups who stand disproportionately to gain or lose from policies. The interventions serve the interests of established companies, labor unions, or the educated policymakers themselves, who believe they know better than unorganized entrepreneurs how to run an economy. In trucking regulation, for example, the detailed rules served the interests of the large truckers, the trucking unions, and the agency staffs, while running counter to the interests of dispersed entrepreneurs, independent truckers outside of unions, and freight customers. Groups that lose from decisions tend to be less organized, so their votes count less.
This wasn’t just a problem of oligopolistic exploitation. Regulations tend to undermine experimentation and disruption in an industry. It becomes less dynamic and innovative, failing to advance as we expect, getting back to the first problem.
A related problem is that every agenda gets taken to unexpected extremes. That’s especially likely when policymakers and intellectuals capture a process. Those who call for expanded democratic oversight may be appalled at the results of “bureaucrats” managing an industry, but their power gave these extremists an opening.
Political decisions get captured too, but the winners and losers are usually better matched. As Barry Karl has argued, the United States has evolved a pluralist governance with rivals on most major issues. There’s enough fighting spirit to keep any side from exploiting federal and local governments, so we see far less capture there than in the economy.
3) We want liberalism as well as democracy: More than any other people, Americans are committed to individual achievement. Over time, as immigration matters less to the settled generations, this instinct may change, but for now, we insist on granting a lot of individual freedom. And decentralized capitalism encourages and thrives on individual freedom, unlike socialism. We therefore insist on liberal democracy, with weak governments that refrain from encroaching on the freedoms of individuals and minority groups, regardless of what majorities say.
A competitive, open private sector also has the advantage of drawing out the energies of many people. This is clearest in startups, where Americans often work many longer hours than as employees of big organizations. In volunteering, Americans typically put in far more hours than Europeans, who usually rely on paid employees in government to carry out services.
Undemocratic socialism, everyone knows, was and is a disaster. As the old joke goes, the Soviet Union achieved impressive equality – almost everyone lived in poverty. Soviet journalists scoffed at Vice President Nixon’s 1959 talk about middle class affluence, because they thought it impossible. Yet democratic socialism also falls short, because people rely on the efforts of paid government workers rather than their own effort.
The great error of Marx and other 19th century thinkers was to see capitalist industries tending to monopoly and becoming as illiberal as socialism. Even in the early 20th century, Schumpeter and other critics assumed capitalism would become hyper-rational and controlling. In fact, capitalism has proven much more competitive, disruptive, and creative than expected. As a result, dominant companies in one era falter in another. With continued economic development, the innovator’s dilemma often keeps big firms from undermining their current business by investing in the next, which gives small firms an opening to future success. Actual capitalism is just more liberal (and liberating) than many people expected.
As a result, capitalism stimulates more extra effort than democratic socialism. Competitive threats draw not just effort, but also more excitement from participants. They arguably even find more personal meaning in a competitive economy than in one administered by policymakers. Partly because of that extra effort, under capitalism, the American economy is about 20% more productive per capita than most European economies. The latter don’t mind, because they favor the well-being of the collective, but the widespread protests this fall suggest many Europeans are chafing at the limitations of socialism.
As some critics point out, capitalism has made some people so wealthy that their money can corrupt the political process. As we saw in the recent elections, however, money cannot overcome popular preferences. Capitalism does lead to more material inequality within a society, and at some point that inequality could undermine capitalism’s liberalism, but America doesn’t seem to be there yet.
American culture depends not just on democracy, the will of the majority, but liberalism, the freedom of some groups to do things differently. Capitalism, it turns out, draws out that liberalism and thus extra effort better than democratic socialism.
The Democratic party is now divided between the Abundance wing of centrists who seek mainly just greater public investment to improve well-being and reduce poverty, and the Progressive wing of leftists who seek extensive public involvement in the economy. Some of the latter even declare themselves to be “Democratic Socialists,” and they are winning elections around the country. After fifty years of the neoliberal resurgence of capitalism, with restored international competitiveness and rising wariness around artificial intelligence, Americans may once again experiment with stepped-up, democratic interventions in the economy. Yet the three fundamental problems described here will likely limit their efforts toward socialism.