Democracy and Efficiency in the Economic Enterprise

Ugo Pagano, Bob Rowthorn, Ugo Pagano, Bob Rowthorn

• Publisher: Routledge
• Year: 2002
• ISBN:
  9781134800483
• Edition: 1
• Topic: Business
• Subtopic: Business General
• Index: Business

The collapse of central planning was hailed as evidence of the economic and moral superiority of capitalism over any possible alternative. The essays in this book challenge that claim.
The case for more democratic forms of enterprise management is considered from a variety of viewpoints. One chapter deals with the philosophical justification for enterprise democracy. The remaining chapters are devoted to the question of efficiency, which has been central to economic debates about ownership and control. The orthodox belief amongst economists is that any shift to more democratic forms of enterprise control would be unworkable. The essays in this book provide a thorough theoretical and empirical critique of this orthodoxy.

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INTRODUCTION: Ugo Pagano and Robert Rowthorn

Central planning of the Soviet type is now in disrepute. Throughout Europe and Asia, the dominant economic model of socialism has been abandoned or is being radically transformed. The old command system is being dismantled and the tasks of economic co-ordination and discipline are being increasingly performed by the market. In some countries this process has been accompanied by widespread privatization of state assets. In others, public ownership may remain important for the indefinite future, but even in these countries the private sector is growing rapidly and expanding its share of total production. Thus, in terms of property rights and the role of markets, the formerly centrally-planned economies are taking on many of the features traditionally associated with the rival capitalist model.

These developments have been widely hailed as evidence of the economic and moral superiority of capitalism, not just over socialism of the centrally-planned variety, but over any conceivable alternative. The essays contained in the present collection are sceptical of this claim. These essays were conceived at a time when Western triumphalism was at its height following the collapse of communism in Europe. Their authors accept that comprehensive central planning has been a failure and that markets have an important role to play in any well-functioning economy. However, they do not adopt the Panglossian view that capitalism, as we know it, is the ‘best of all possible worlds’, nor do they accept the view that free elections and the establishment of capitalism complete the democratic agenda in Eastern Europe and the former Soviet Union. On the contrary, they believe that contemporary capitalism has many undesirable features and is by no means an ideal model of how democracy and the market can be combined.

The essays in this volume were presented in January 1993 at a small conference convened under the auspices of UNU/WIDER (World Institute for Development Economics Research).¹ The theme of the conference was the achievement of economic democracy in a market economy. Economic democracy has, of course, many different dimensions and is too large an area to cover adequately in one conference. To provide a clear focus and prevent a diffusion of effort, it was decided to locus on one particular aspect, namely democracy within the enterprise, above all on the issue of workers’ participation in decision-making.

The traditional capitalist enterprise, like its Soviet-type counterpart, is hierarchical and the bulk of the work-force has very limited control over its operation. To the extent that democracy exists in capitalist economies it is located primarily in the wider society and is largely absent within the enterprise itself. In the old Soviet-type economies restrictions on democracy were, of course, even more severe. Many economists argue that democracy within the enterprise is inefficient and they defend the hierarchical model on the grounds that anything else is unworkable. Others disagree with this view. They argue that in some areas, such as the Basque country in Spain or Emilia Romagna in Italy, co-operatives have been very successful and have shown themselves capable of competing effectively in world markets. They also point out that capitalist enterprises themselves are organized in many different ways; for example, the Japanese model of capitalism typically involves more worker participation than its US counterpart.

The case for enterprise democracy can be considered under the following headings: philosophical, theoretical and empirical.

Philosophical: Under this heading come moral and political considerations. The moral justification for enterprise democracy derives from the idea that the normal type of employment contract in modern society is undesirable because it involves the surrender by the individual of his or her capacities for decision-making and creative activity. One extreme view holds that such contracts are immoral and should be outlawed altogether. A more realistic position is to accept the necessity of certain kinds of hierarchy, but to encourage—through legal, financial and other means—the development of property relations and forms of work organization which increase the scope for control and creativity on the part of ordinary workers.

The moral case assumes that enterprise democracy is a good thing in itself. An alternative justification is concerned with its ramifications elsewhere in society, especially in the political sphere. A well-functioning political democracy, it may be argued, requires an active, informed and involved citizenry. Present-day hierarchical forms of production breed passivity, apathy and ignorance. Enterprise democracy would give workers a more creative role in decision-making, thereby helping to breed the capacities and attitudes required for active citizenship in the society at large. This might be described as the educational case for enterprise democracy.

Theoretical: The topic of enterprise democracy raises many different theoretical issues. What are the possible forms such democracy might take: co-operatives, self-managed public enterprises, formal participation in the management of public or private enterprises, or simply an extension of workers’ rights of job security and consultation? What are the different forms of co-operation which are feasible? How do they function? What is the relationship between unions and co-operatives and other forms of democratic enterprise? Does ownership matter? Are large enterprises much the same whoever owns them, or does ownership make a significant difference to the way they function internally and to their economic performance? Is economic democracy only meaningful in small enterprises?

Is there a conflict between efficiency and enterprise democracy? Or are they complementary, as some would claim? What are the implications of enterprise democracy for income distribution and other forms of equality? Does it reduce vertical inequality, but only at the expense of greater horizontal inequality resulting from unequal access to more successful enterprises. Does the democratization of enterprises create a new class of fortunate ‘insiders’ whose benefits are at the expense of excluded outsiders? This is a traditional trade union criticism of co-operatives and self-management.

An important complex of questions is concerned with the efficiency and survival capacity of more democratic forms of enterprise. What kinds of incentive systems and monitoring are required for such enterprises to operate efficiently? What are the obstacles to the formation and survival of democratic enterprises? Does the capital market discriminate against them and, if so, how might the situation be altered? What are the long-term survival prospects of democratic enterprises? Is there a critical proportion in the population of firms below which democratic enterprises are too isolated and gradually die out in the evolutionary competition with more hierarchical enterprises?

Empirical: Workers rights to control and influence at work have been realized in many different ways with very different results, depending on time and place. In Italy and Spain, for example, there have been ambitious experiments with producer co-operatives. In some Third World countries, together with Yugoslavia and more recently Poland, there has been some experience of self-management in public enterprises. In capitalist economies there have been a variety of measures to increase the influence of workers over enterprise decision-making or to devolve management downwards. These measures range from Wage Earner Funds in Sweden—which have apparently been a failure, to worker involvement in production decisions in large Japanese enterprises, which have been more successful but are also less ambitious in scope. These various experiences must be taken into account when considering the future prospects for greater enterprise democracy.

The essays in this book are classified under the three main headings described above. This is a very loose classification intended for general guidance only, and there is a considerable overlap between the various sections.

PART I—THE PHILOSOPHICAL CASE

Robin Archer’s paper is entitled ‘The Philosophical Case for Economic Democracy’. The case he presents is based on the principle of equal liberty, which asserts that individuals should have the maximum freedom that is compatible with an equal freedom for all other individuals. Where individuals co-operate in associative institutions, such as firms, equal liberty implies a second principle which he calls the ‘all-affected’ principle. This asserts that control over an association must be shared by all who are affected by its decisions. Archer argues that those affected can be divided into two groups: subjects and non-subjects. The former are the individuals who are subject to the authority of the association and whose behaviour is, within limits, bound by the rules and decisions of the association. In the case of a firm, the ‘affected subjects’ are those who work in it. In addition, there are ‘affected non-subjects’ such as shareholders, consumers, suppliers, financial institutions and local residents. Whilst accepting that all those affected by an association should share in its control, Archer draws a distinction between subjects and non-subjects with regard to the type of control they exercise. Subjects should have a direct control, through some democratic procedure, over the decisions of the association. In the case of non-subjects, control should be levied indirectly through ‘environmental’ pressures such as market forces or a general regulatory framework. He concludes that firms should be directly controlled by the ‘subjects’ who work in them, while other affected parties should exert their legitimate control at arm’s length through indirect mechanisms.

PART II—THEORETICAL ISSUES

Winfried Vogt examines the nature of work under private ownership. He contrasts two types of enterprise, the ‘capitalist’ firm and the ‘liberal’ firm. In each case, the workers are hired by private owners, but the degree of autonomy they are allowed, and choose to exercise, is radically different. In the capitalist firm, work is organized in the traditional, hierarchical fashion and workers are given little control over the pace and nature of what they do. In the liberal firm, by contrast, production is organized within a loose framework of conventions and rules, hierarchies are attenuated and employees enjoy considerable autonomy in their work. Vogt argues that the liberal firm may be potentially more efficient than the conventional capitalist firm. If this is the case, why is it that so few liberal firms exist’? Vogt identifies a number of externalities which operate to the disadvantage of liberal firms in a population already dominated by capitalist firms. If the proportion of liberal firms could be increased sufficiently, these disadvantages would disappear—and the true potential of liberal firms could be achieved. To reach this threshold, Vogt suggests that liberal firms may require temporary protection until they are sufficiently numerous to overcome their current disadvantages. His proposal is analogous to the ‘infant industry’ argument familiar in the development literature, where temporary protection enables domestic producers to reach some critical threshold where they become strong enough to compete on equal terms with outsiders.

Samuel Bowles and Herbert Gintis have two papers in the present volume. In their paper, ‘Is the Demand for Workplace Democracy Redundant in a Liberal Economy?’, they argue that enterprise democracy can increase the control which people have over their working lives and thereby foster personal autonomy and a democratic culture. Many liberal theorists have claimed that there is no point in seeking to democratize the workplace, since workers’ autonomy is already secured by the existence of competitive labour markets and political democracy. According to Bowles and Gintis, this claim is wrong because it ignores the existence of power in the employment relationship. This power derives from an asymmetry between employers and workers in the enforcement of contracts. Although the law plays some part in the enforcement of contracts, the primary mechanism is the threat of economic sanctions. If either side believes that the other has violated the terms of the employment contract, they are free to terminate this contract. Workers can leave their jobs, whilst employers can dismiss their workers. For reasons which Bowles and Gintis explain, termination of employment is normally more costly for workers than employers. This is true even when labour markets are competitive. Thus, although both sides enter the employment contract as equals, the cost of termination is greater for workers, and it is this asymmetry which gives employers genuine power over workers. Since this asymmetry exists even when labour markets are competitive, the liberal claim is refuted and there is room for increasing workers’ autonomy by democratizing control of the enterprise.

One objection to enterprise democracy is that workers are unwilling to invest heavily in their own firm, because they are relatively poor and it is too risky for them to sink the bulk of their wealth into a single firm. The issue of workers’ risk aversion is explored at length by Bowles and Gintis in their second paper, ‘The Distribution of Wealth and the Viability of the Democratic Firm’. This paper argues that workers are reluctant to invest in their own firms because they are poor and wish to reduce their exposure to risk by diversifying their asset holdings. This inhibits the growth of worker-controlled enterprises, by increasing their dependence on external loan finance, thereby increasing the risk of bankruptcy and raising the cost of borrowing. Bowles and Gintis argue that this disadvantage can be reduced by making workers richer through a more egalitarian distribution of wealth. If they had more wealth, workers would be less risk averse and more willing to invest in their own firms, thereby increasing the proportion of democratic firms in the economy. The same outcome could be achieved by extending credit to democratic firms at an interest rate comparable to that enjoyed by capitalist firms.

Geoffrey Hodgson devotes his paper to the issue of evolution and economic efficiency. Objections to more democratic forms of production are often based on a particular version of evolutionary reasoning. Economic competition is assumed to be a powerful selection process for weeding out the inefficient and fostering the general advance of productivity. The very fact that so few democratic firms exist is taken as strong evidence that such firms are less efficient than their conventional, hierarchical counterparts. Hodgson rejects this ‘survival of the fittest’ argument as merely a crude application to the economic sphere of outdated biological thinking. He points out that the modern theory of biological evolution establishes that natural selection may lead to forms of behaviour which are harmful to the species or group as a whole. There may also be several possible evolutionary equilibria and the one we actually observe may be simply a result of historical accident. The relevance of these modern biological ideas for the debate on economic efficiency is obvious. We should be sceptical of the argument that some particular type of firm is most efficient simply because it is numerically dominant in reality. The predominance of this type of firm may be merely a historical accident or the result of factors unrelated to efficiency.

Ugo Pagano and Robert Rowthorn examine the interrelationship between technology and property rights. Their aim is to synthesize two opposing approaches to the theory of the firm. The New Institutional economists take technology as given and seek to explain how property rights evolve so as to utilize this given technology most efficiently. Radical economists, by contrast, take property rights as given and seek to explain how technology is shaped by these given property rights. To examine how these two approaches can be combined, Pagano and Rowthorn introduce the concept of an ‘organizational equilibrium’. This concept is closely related to what Marx called a mode of production. In an organizational equilibrium, existing property rights are the most efficient for utilizing the existing technique of production. Moreover, this technique is also optimal from the point of view of existing property owners.

As a general rule, there will be more than one feasible organizational equilibrium. There will be a capitalist equilibrium, with its own specific technique of production and property rights. There will also be a labour equilibrium, with a different technique of production and with ownership in the hands of the workers. Each equilibrium will have an intrinsic stability derived from the fact that techniques of production and property rights are mutually reinforcing. To shift from one equilibrium to another will require a simultaneous change in both technology and property rights, which is likely to be more difficult and riskier than merely altering one component at a time. This may help to explain why a certain mode of production may persist for a long time even though it is inefficient.

The authors conclude by comparing their analysis with the biological theory of speciation. They argue that organizational equilibria can be seen as the counterpart of distinct species, which do not readily ‘breed’ with each other. Mixed property rights/technology combinations (e.g., capitalist property rights and labour technology) are inferior in efficiency to pure combinations, just as in biology hybrids may be inferior in fitness to pure species. Moreover, to undermine the dominance of an existing organizational equilibrium may require a period of protection for the potential rival, just as in biology the emergence of a new species may require a period of isolation from the original population. The economic and biological mechanisms are very different, but the parallel is interesting.

Matti Pohjola explores the impact of production flexibility on wage bargaining. In recent times, there has been a shift towards more flexible production systems in the advanced capitalist countries. Many commentators have argued that this shift entails increased worker autonomy in production and heralds a new era of cooperation between workers and management. However, as Pohjola points out, the empirical evidence suggests that flexible technology is frequently associated with more intense monitoring and increased conflict over wages. Using a simple mathematical model based on efficiency-wage theory, he analyses why this might be the case. His paper demonstrates that certain kinds of flexibility polarize bargaining between workers and employers and reduce their ability to compromise. He shows how the firm in his model is likely to benefit from flexible technology only if its work is easy to monitor. This helps to explain why the introduction of new production methods often seems to be associated with more intense monitoring and control of workers.

Benedetto Gui provides a general overview of the factors influencing the performance of worker-managed firms. His paper is mainly theoretical, although it does present some evidence on the major issues. He argues that the main characteristic, and strength, of worker-managed firms concerns their fundamental motivation, which is to satisfy workers’ own preferences with regard to employment, conditions of work, pay and the like. Capitalist firms must also take these preferences into account, but they do so in a purely instrumental fashion, and the satisfaction of workers’ preferences is subordinate to their main objective of maximizing shareholder profits. However, worker-managed firms suffer from two main weaknesses. First, they are at a disadvantage in attracting capital and entrepreneurial skills. Second, the success of worker-managed firms depends to a great extent on their achieving a satisfactory ‘social performance’. This is due to the high expectations which these workers hold as to the quality or meaning of working life, and also to the great importance that collective decision-making plays in their governance. To help worker-managed firms, Gui suggests the establishment of specialized agencies which can offer non-conventional forms of finance, together with advice on organizational matters and the design of work.

Dominico Mario Nuti’s paper, ‘Efficiency, Equality and Enterprise Democracy’, analyses the capitalist labour contract and its various modifications, ranging from worker participation in income or control through to worker-managed firms and co-operatives. A number of papers in the present volume argue that full enterprise democracy, combining worker participation in both decisions and results, is economically efficient. Nuti disputes that worker participation in both decisions and results is economically efficient. He argues that conventional forms of self-management have a number of defects stemming from the fact that they operate primarily in the interest of the existing work-force. At times of full employment in the economy as a whole, they hoard labour which would be more efficiently deployed elsewhere, while restricting the employment of new workers when there is unemployment. They also have an extreme propensity to indulge in monopolistic output and pricing policies, a propensity to distribute rather than reinvest profits and a bias towards labour-saving investment. Nuti’s assessment of conventional self-management is thus very different from the favourable views expressed by other contributors to this volume. However, he also suggests modifications which can overcome significantly and ameliorate the defects of conventional self-management. These include altering the reward system to give workers an incentive to invest for the future and to encourage flexibility in employment, so the firm absorbs or releases labour as the interests of the wider economy require.

PART III—EXPERIENCE AND EVIDENCE

Avner Ben-Ner, Tzu-Shian Han and Derek C.Jones provide an extensive review of the econometric evidence on the impact of employee participation on economic performance in the advanced capitalist countries. They distinguish between employee participation in economic returns and participation in control. The empir...