The rise of finance and capitalism

Fostered by a growing incorporation into joint stock companies, the progressive adoption of limited liability, the development of capital markets and the use of fiat money, credit rose to become one of the main drivers of economic growth under capitalism.

Yet, from the beginning, this growth in credit and banking raised many concerns, because it would subordinate the production to money making, giving a special advantage to those with access to money and increasing the scope for speculation at the expense of entrepreneurship.

Before addressing these concerns, I shall give first an overview of today’s relative importance of financial and non-financial assets in global wealth.

According to estimates given in Wolf (2010), four economies (USA, Euro-Zone, UK and Japan) held 80% of the $140 trillion in world wealth held in financial assets in 2005. This amounted to 316 percent of world output, up from just 109 percent in 1980.

The breakdown of the global stock of financial assets was: equities ($44 trillion), private debt ($35), public debt ($23) and bank deposits ($38). A substantial share of these assets are held by households and nonprofit organizations.

For instance, in the USA they had 73.5% of all private sector financial assets, mostly in deposits ($6.1 trillion), debt securities ($3.1) and equity ($14.6 trillion in total, mostly directly $5.7 and indirectly through pension funds $4.9). If to this huge sum we add financial derivatives then the ratio between financial and tangible assets (mostly real estate) easily reaches more than 3 to 1.

Such a large degree of financialization, puts financiers at par with other leading groups associated with system change, like the merchants during the commercial revolution and industrialists in the industrial revolution.

So, many see this development as a symptom of financial capitalism rents dominating the economic motives and feeding a time-bomb of debt and speculation which will end in disaster. Before discussing its consequences one needs to assess first its true dimension.

In this regards, the obvious question, is: why do we need so many financial assets when they are often defined just as a pro rata share on a claim? If such claims were only on property titles on existing non-financial assets the ratio would be simply 1:1. However, claims may be also on future assets (financial or non-financial) and their income as well as on contracts (bets) on future events. This distinction is important because while the first is still linked to expectations about future economic growth contracts are mostly related to expectations about expectations and so can easily turn into a form of gambling.

Although speculation has a positive role in providing liquidity and risk sharing, when it goes beyond the needs of markets for goods and services one cannot distinguish between speculators and gamblers in a casino.

But, the fact that some investments are similar to casino games does not mean that financial assets do not have an utility per se. Financial assets are important for the safekeeping and accounting of non-financial assets, to facilitate the transfer, holding and hoarding of such assets (across space, through time and between asset holders) and for risk-sharing and part-ownership. This said, they may also have utility for entertainment, like a roulette in a casino.

However, since most financial assets are not collateralized by non-financial assets this turns them into promises, with a small cost of production, an easiness of transferability and volatile prices. Therefore, there are reasonable concerns that their growth may be subject to wide fluctuations and a cause of periodic crises. Such crises may arise in banking, in currency markets or in securities markets. Sometimes, these crises may even occur simultaneously, spread globally and may lead or lag the business cycle.

Some people are also critical of the growing collusion between financial and political elites. This is nothing new. Already during the emergence of banking in the XV century the bankers played a leading role in the financing of permanently indebted kingdoms. Even in periods of expansion, kings like D. Manuel in Portugal, Henry the VIII in England or Charles V the Holy Roman Emperor were permanently indebted to finance their wars and growing royal courts.

Such loans were frequently interest free and obtained against business concessions for tax farming and other monopolies. Default on such loans was frequent, but their impact in the economy was mitigated by the smaller size of governments and the fact that bankers mostly used their own capital. Then, like now, the obvious solution was to diversify by lending to other merchants and non-sovereign borrowers. Given the growing size of government and managerial capitalism now diversification can only be achieved by strengthening the market capitalism sector.

Another concern is whether the current system creates major global imbalances which favor some countries or are a threat to global stability. Indeed, in the past 25 years there was a major shift in the flows of international capital which now go from emerging and less developed economies to a handful of developed countries, whereas in the past they moved in the opposite direction. The table below shows the recent trend among four of the six major countries ( the other two are China and Saudi Arabia), which account for about 80% of global saving and borrowing.


The table shows that as a percentage of domestic GDP the current imbalances are around 3%, a value that can be sustained over a long period of time. However, it also shows that the UK and USA have had persistently negative savings which were largely financed by Germany and Japan (plus China and Saudi Arabia).

Moreover, it also shows that, with the exception of the USA, non-financial firms have become net savers which is a worrisome signal in terms of finding profitable investment opportunities domestically or reluctance to return capital to shareholders.

So why is investment being directed mainly to the UK and USA? This is a very complex issue. On one hand these two countries benefit from having the most sophisticated capital markets and from being perceived as the most politically stable countries. On the other hand the lack of investment by domestic firms suggests that they may be lagging in technological development and compromise their future competitiveness.

A negative view on this rising role of finance has traditionally been expressed through the so-called immorality of making money out of money, the waste of human talent and resources in non-productive activities (a claim also made in the feudal system against priests and soldiers) and the creation of firms that are too big to fail. This has led some to question the role of the firm, suggesting that instead of value creation to shareholders they should instead aim at maximizing customer satisfaction. For instance, Peter Drucker (1973) claimed that the “only valid purpose of a firm is to create a customer”.

As explained before, these claims are erroneous because the profit motive is one of the fundamental requirements for competition and customer satisfaction.

Indeed, the rise of finance is the inevitable consequence of economic growth and widespread private and institutional capital accumulation. It is therefore a positive feature of capitalism, despite the fact that from time to time some financial markets may get carried away causing some volatility in employment and economic activity.

Innovation, intellectual property and capitalism

Economic history shows a remarkable similarity between economic and technological long term cycles. By looking at a timeline of inventions one can easily detect many points of contact. Indeed, given the two-way causality between technical progress and economic growth it is inevitable that most of the controversies are about the direction in the virtuous circle between science and economic growth. At a microeconomic level, microeconomic textbooks usually explain how innovation benefits both trading parties.

However, the role of capitalism is not just to ease the sharing of the benefits from technical progress. A further advantage, and possibly more important, is the stimulation of innovation. In fact, it is no coincidence that capitalism and technical advancement go hand-in-hand driven by two of the basic principles of capitalism.

First, the pursuit of profit maximization is a major driver of innovation. For instance, all the fantastic new drugs that pharmaceutical companies produce every year are not the result of their concern for the patients but of their lush for profits. Moreover, if they lag in innovation, their competitors will take over their market share. Thus, the profit motive plays simultaneously the role of carrot and stick in the motivation of innovation.

Second, the protection of intellectual property for only a limited period of time provides innovators with enough protection to recover their investment in research, while preventing the undue state protection for incumbent producers. Obviously, the duration of such protection is subject to discussion and in the end its desirable extension is as much a result of political discussion as of empirical analysis.

While the role of profit maximization is often accepted, the legitimacy of intellectual property is at the origin of much heated debate, namely on whether it represents the granting of a temporary monopoly or the protection of a property right.

Many of the issues may be gauged by considering the following question raised by Paul H. Rubin and Tilman Klumpp (2011): “On the one hand, ideas, novels, or musical compositions are products of the mind, and if a man owns his mind as much he owns his body then it seems that, indeed, he would acquire property over what he conceives in his mind. On the other hand, ideas are vague and often conceived in similar form by many people. Since two persons cannot, independently of each other, have ownership over the same good, how can property be acquired over an idea that one conceives the day after it was conceived by somebody else?”.

Thus, the products of the mind are not easily treated within the traditional marginalist cost-benefit analysis. Moreover, the debate between supporters and opponents of intellectual property is often, but not always, aligned politically.

Take for instance the following libertarian views.

Among anarcho-capitalists we have some arguing for infinite copyright terms similar to those applying to non-intellectual property while others oppose them on the grounds that they divert resources from fundamental to patented research.

While amongst left-wing libertarians some oppose intellectual property because it represents an infringement of freedom of speech and the press.

In turn, some conservative libertarians advocate that a distinction should be made on the basis of who supported the costs of R&D and on the purpose of the invention. For example, Deepak Lal (2006) argues against granting copyrights to fundamental research on the grounds that it is mostly done at public financed institutions while supporting them in the case of pharmaceutical companies developing new drugs but not in the music industry selling a new song.

However, others agree with patent and copyright laws but oppose laws protecting trademarks or anti-counterfeiting laws.

Finally, others champion against patents and copyrights on moral grounds, namely arguing that is immoral to refuse to give new medicines for people in need.

The moral dilemma is especially difficult when dealing with life threatening diseases, as illustrated recently during the 2004-2005 Ebola epidemic or with the new Sovaldi drug for Hepatitis C.

The latter, involved a dispute over the price charged by Gilead, the company selling this drug capable of curing this previously incurable disease (priced at US$ 84,000 an amount not covered under most insurance schemes). The company argued that the price was needed to obtain a “fair profit” in the investment of $US 11 billion she had made to acquire the small company that had developed the drug.

This example illustrates another complexity with the regulation of intellectual property – the transferability of copyrights and patents.

Another problem is the enforceability of intellectual property rights on a global scale since some countries do not recognize or enforce such rights. This has led the USA and the European Union to negotiate bilateral agreements (the so-called TRIPS) to secure the protection of patents and trademarks, but these have been perceived as promoting protectionism rather than free trade.

Overall, if one accepts copyrights, patents and other forms of intellectual property protection as a necessary evil in the form of a temporary monopoly the shorter it will be the better. Because, being a form of censorship, it precludes the greater good that comes from sharing each other’s ideas and discoveries.

Moreover, the Internet has created a new tool to achieve the ancient dream of compiling all human knowledge and culture and to store it for free use by present and future generations. The benefits of this universal access to knowledge may outweigh those of granting temporary protection to intellectual property.

However, this requires a difficult judgement whose answer depends on whether free access would erase the profit motive and the rate of capital accumulation. So far, the so-called creative industries have continued to develop through a mix of conventional secrecy, intellectual property protection and new business finance models based on the winner takes all dream and crowd-funding. Whether these new business models will be more capitalist-friendly or not is still too early to know.

Capitalism and international free trade

Free trade is a foundation of capitalism not only at the national level but also at the international level. However, while locally it is easy to understand why free competition protects the capitalist system from capitalists who acquired a dominant position, when dealing with foreigners nationalist sentiments often win. For instance, it is common to find many arguments in favor of domestic producers using the infant industry argument, the notion of national champions or even a mercantilist ideology.

Yet, it is at the international level that societies may achieve better levels of specialization based on relative comparative advantage. This can be confirmed by looking at the link between exports and economic growth in the follow up to major reductions in international trade barriers.

The reduction of tariffs and non-tariff barriers started in 1947 with the signing in Geneva of the General Agreement on Trade and Tariffs (GATT). It continued through subsequent rounds of negotiations and played an important role in the extraordinary growth of international trade. For instance, between 1948-1968 the total volume of merchandise exports from non-communist countries grew 290 percent. Moreover, it outpaced the growth of world output. For example, from 1953 to 1963, trade in manufactured products increased by 83 percent, while manufacturing output rose by only 54 percent.

International trade liberalization was certainly a major driver of economic growth during the so-called Golden Age (1950-1973). Yet, although there are two virtuous circles associated with export-led growth (Marques-Mendes, 1988), one should not confuse the rising share of international trade in GDP as the direct cause of economic growth, because a faster rise in trade is not always associated with accelerating economic growth.

This can be easily confirmed by looking at two countries with high degrees of openness but significant differences in growth performance. For instance, Singapore and Hong Kong, classified ex aequo by ICC as the two most open economies in the world, were reported by the World Bank to have grown between 1966-2013, at market prices and 2005 $US, at an average annual rate of 7.8% and 5.8%, respectively. Meanwhile, during the same period their exports as a percentage of GDP rose 67 and 154 percentage points to reach 191% and 230%, respectively. That is, Hong Kong’s GDP grew less than Singapore’s despite a much faster growth in exports.

Likewise, the next two most open economies, Luxembourg and Belgium, grew in the same period at 3.7% and 2.5%, respectively, but their exports as a percentage of GDP grew 124 and 39 percentage points to reach 203% and 83%, respectively. Overall, in terms of economic growth over the past 47 year period Singapore outperformed Hong Kong by 162% and Luxembourg outpaced Belgium by 75%.

There are many factors explaining such disparate performances, including geography and sector specialization (both Singapore and Luxembourg are regional low tax financial centers) as well as demand factors (see Marques Mendes, 2011 and 2014, on why not all exports are the same), but the type of capitalism pursued is also a driving factor.

To understand the relation between exports and GDP it is useful to breakdown the latter in relation to the three identities used in GDP estimation – expenditure, income and production. For instance, the condition required for exports to exceed GDP under the expenditure approach is that the foreign trade balance (in ratio form) exceeds the ratio between domestic absorption (consumption and investment) and imports. This is more easily achieved in smaller countries and/or in countries where exports have a larger import content.

Likewise, using the income identity, we can see that the excess of exports over GDP requires that exports exceed wages by a factor equal to the wages/profits ratio. Thus, assuming a normal capital share of 40%, exports must exceed wages by 66% which is more easily achieved in low wage countries.

Finally, taking a production approach and splitting it into tradable and non-tradable we need exports to exceed non-tradable by a factor bigger than the tradable/non-tradable ratio. Since many non-tradable are produced in the non-capitalist sectors, it is easier for countries with a smaller state sector to achieve a high export/GDP ratio.

To understand the great advantage of capitalism in terms of capital accumulation and the deepening of the division of labor, one must bear in mind that the later can be achieved through rotation or specialization. These two distinct ways have substantial differences in terms of productivity impact as can be illustrated through a domestic example.

For example, my wife is much better than me at both cooking and doing the dishes, but her greatest advantage is in cooking. So, following the rule of relative comparative advantage she does the cooking and I do the dishes and we both gain by spending less time in the kitchen and having better meals. However, we could share the chores of preparing meals by alternating so that one day I would prepare dinner and she would do it the following day. This seems a more egalitarian division of labor but it would be much less efficient. For one, half of the week we would eat lousy food because it was me cooking. But I would also spend more time in the kitchen.

Obviously, capitalism relies on the division of labor through specialization and has a much greater scope in pursuing it through joint ownership, which facilitates accumulation and the unbundling of the production process.

Nevertheless, imagine that a washing machine is invented that reduced by 2/3 the time and skills needed to do the washing. Who would benefit? We could benefit both by, for example, me using half of the time saved to set the table a task previously done by my wife. But, what if I were a selfish person and insisted in doing only the dishes in exchange for the meal. Now my wife would have to consider to either forego the benefit of technical progress or to divorce me and find a more obliging husband.

Fortunately, in non-domestic activities we would not have such a dilemma because there would be many other suppliers competing to do the washing and those doing the cooking could play them to share on the gains from technical progress. That is why capitalist principles are better suited for non-family activities because one can contract and re-contract frequently.

So, to understand which are the most important drivers for international specialization and trade, one must examine the role played by each foundation of capitalism.

Starting with private property it is evident that the more this is protected the greater will be the level of private investment which accounts for the largest relative share of tradable goods and services. The profit motive is needed to increase the return on capital in a context of high wages. Free markets are indispensable to have a country specialization driven by dynamic comparative advantages needed to foster the benefits of export growth. Meanwhile, joint ownership and limited liability are needed to foster risk sharing and mitigation in international business. Yet, to prevent that these advantages are seized by protectionist interest groups, it is indispensable that the rule of law prevails.

The fundamental principle of the rule of law is that all be treated equal, regardless of sector of nationality. For instance, preference for national suppliers, price controls and distortionary taxes or subsidies are all in flagrant violation of the fair treatment principle required for a level playing field whether at the national or international level.

Cycles and fads in economic growth

The history of business cycles in capitalist economies shows many leading drivers depending on the duration and amplitude used. These range from those based on inventory theories (3-5 years), on fixed-investment (7-11 years), on infrastructure (15-25) or on technology (45-60 years). These cycles interact with credit and financial market cycles. They are often associated with specific events or policies. And, ever since Keynes, a discussion continues among economists and policy makers on whether cycles can be managed through monetary and fiscal policy.

Not surprisingly, the ascending sides of such cycles are often qualified as economic miracles or simply as fads if they take place in just a few regions or sectors. Likewise, one should note that fluctuations in economic activity (a better name than cycles, if one disagrees about their regularity) are not specific to capitalism. Indeed, we may find them in other economic systems, where often they are the result of natural or man-made disasters. For instance, droughts in Africa or Mao’s famine in China. And, it is important to remind, in long term stagnating economies business fluctuations are not always noticeable.

However, the notion that cycles of excess supply or shortages were inherent to capitalism, as claimed by Karl Marx, is not proved at the macroeconomic level. They happen at the level of individual businesses or industries who fail to react on time to the law of diminishing returns, but they rarely occur simultaneously to cause a macroeconomic cycle.

Others invoke temporary spurs in economic activity to support the idea that more centralized (often undemocratic) systems of state capitalism are more successful than a system of market capitalism. In fact, although such systems may have an initial advantage in terms of rapid capital accumulation this quickly transforms into a drag due to the rise of rent-seeking and the loss of competitiveness.

These fads (or economic miracles) are present in the history of almost any country (e.g. in Italy from 1963-74), but will subside whenever they fail to create enduring conditions such as – a high level of education, good governance, business culture and business elites supporting the six principles of market capitalism.

Business elites and culture are ephemeral whenever policies are dependent on a good ruler and not on a wise system, or when they rely excessively on foreigners or a few tycoons that sooner or later will be gone.

Leaders are important to mobilize people and resources, but if they stretch too much their power of persuasion soon their followers will be called down to earth by the correcting forces of the market. And the earlier these are allowed to work the smaller will be the cost of adjustment. This is a key reason why market capitalism is superior to managerial or state-controlled forms of capitalism.

Unfortunately, politicians on the left and the right often use such short-lived episodes to justify and perpetuate their anti-capitalist ideology.

It is therefore, crucial to assess all episodes of a sudden economic success in relation to their sustainability and reliance on an enduring system or a fad and passing leadership.

Subsistence economies and self-sufficiency

Many of the protectionist arguments against capitalism rely on the idea of self-sufficiency and independence as a safeguard for unforeseen events. This idea wrongly stems from confusing prudence with self-sufficiency and risk mitigation with protectionism.

It is normal that after being fustigated by so many natural and human-made calamities people seek safety in self-reliance. In the absence of markets for risk protection, subsistence economies may be seen as providing such safety. Yet, such safety is achieved at an enormous cost in terms of living standards.

I shall illustrate this through the personal experience of my ancestors. Before the 1930s, most of my ancestors lived for centuries in a remote village by cultivating small plots of land. They consumed almost all they produced except for the occasional goat that they would sell to buy clothing. If the wolves decimated part of the herd or the weather ruined the harvest they would have a rough year surviving on potatoes and without replacing their rags.

It was a tough life but they were self-sufficient and independent without a need to rely on others. The same happened with the other villagers, with the exception of the only specialized inhabitant (a carpenter) who had to walk to the neighboring villages to offer his services.

My family fortune changed only when, at the age of fifteen, my father and a friend migrated to Lisbon. He survived doing multiple jobs and later returned home to work in a textile mill in a neighboring village, where he also found jobs for his sister and two of his bothers. As a result I and my five sisters had the opportunity to study and to escape the self-sufficiency trap.

The problem with small self-sufficient communities is not that they do not know about division of labor. Indeed, for those with a romanticized view of such communities, my village had a well-developed communal way of herding, a communal bakery and a kind of labor exchange.

However, isolation and small scale prevented them from participating in trade with outsiders and achieve the necessary scale and specialization needed for capital accumulation.

However, the subsequent construction of roads and communication services did break isolation but it did not stop the village decline, why?

Because the lack of transport infrastructures is not the only obstacle to the development of remote areas. Unless they are a tourist hive or their inhabitants are writers or similar professionals able to work from home for a greater market, they will not be able to combine the profit motive with the joint ownership and limited liability needed to undertake risky ventures which are indispensable for the success of capitalism.

So for many millions trapped in small communities, like my ancestors were, the simplest way out is migration.

Yet, there are many still arguing for self-sufficiency or independence in large communities. They typically invoke the lack of scale and the need to safeguard the supply of goods and services considered essential, with an elastic definition that ranges from food, social services, environment and energy. Such calls for self-sufficiency contradict Ricardo’s law on comparative advantage, probably the only consensual law in economics formulated in 1817.

And, this law is not being ignored in non-capitalist societies alone, but also in Western countries at the core of capitalism. For instance, until recently the USA had a law banning the export of crude introduced in 1975 as a retaliation against the Arab oil embargo of 1973. Yet the ban was never lifted due to opposition from oil refineries and environmental groups. Only now, after a sharp increase in oil supply brought about by the new fracking technology and geopolitical considerations, did the refiners opposition eased and there is some hope for lifting the ban.

Obviously, whether to export crude or refined products should be a business decision not a political one. However, once a country tolerates special interest groups based on protectionism it becomes almost impossible to eradicate them. Thus the importance of free trade to control rent-seeking behaviour that undermines capitalism.

Production, income and welfare under capitalism

When we take a detached long term look at human history, it is impossible not to be impressed by the global economic growth experienced since the rise of capitalism in the early XIX century. This was achieved despite two destructive world wars and the subjugation of half of the world population under communism throughout most of the 20th century.

In his history of economic growth Angus Maddison (2005) shows that: “Over the past millennium, world population rose 23-fold, per capita income 14-fold, and GDP more than 300-fold. This contrasts sharply with the preceding millennium, when world population grew by only a sixth, with no advance in per-capita income”.

Yet, during the first eight centuries of the last millennium economic growth barely matched population growth, while life expectancy only rose from 24 to 36 years. However, from 1820 onwards, per-capita income rose twenty-four times as fast as in 1000–1820, population grew six times as fast and life expectancy increased to seventy-nine years in the West and sixty-four in the rest of the world.

Nevertheless, this was not an even process and it is interesting to recall the various phases identified by Maddison as:
1. The “golden age,” 1950–73, when world per capita income grew nearly 3 percent a year, by far the best performance.
2. Our age, from 1973 onwards (henceforth characterized as the neo-liberal order), is the second best.
3. The old “liberal order” (1870–1913) was third best, only marginally slower in terms of per capita income growth.
4. In 1913–50, growth was well below potential because of two world wars and the intervening collapse of world trade, capital markets, and migration.
5. The slowest growth was registered in the initial phase of capitalist development (1820–70), when significant growth momentum was largely confined to European countries, Western offshoots, and Latin America.

This historically unprecedented growth, the result of a combination of science and capitalism, was more pronounced in the West during the post-world war II period. However, since the collapse of communism we have more examples to show the power of capitalism as a production machine. In particular, when we compare the recent experiences of China, Russia and India, we note that Russia and India are lagging significantly largely because they have been more reluctant to endorse capitalism.

Nevertheless, the fact that large populations still live in poverty raises the question of whether they have been left behind by capitalism. This is not a failure of capitalism. On the contrary, it was often the result of misguided pursuits of alternative systems and the slow take-off under capitalism. Indeed, given the recent moves in Africa towards capitalism, one expects that this continent will progressively begin to recover and will accelerate its growth in the next decades.

Likewise, for those who expected the liberation of half the humankind from communism and the recent surge in technological developments to automatically create another era of unprecedented growth, the early history of capitalism from 1820 to 1870 is an important reminder that take-off is usually a slow process.

The transition to capitalism from subsistence, feudal or communist economic systems faces many resistances and the economic cycles of capitalism may slow down such transition. Both need to be assessed separately, as well as the risks of political turmoil. Otherwise, we risk letting such setbacks obscure the remarkable efficiency of capitalism to eradicate poverty and promote economic growth.

O ranking de Portugal na Europa: PIB ou PNB?

O Finantial Times de hoje
(http://blogs.ft.com/ftdata/2015/05/13/ireland-is-the-wealthiest-economy-in-europe-or-not/?ftcamp=published_links%2Frss%2Fhome_europe%2Ffeed%2F%2Fproduct )
traz um artigo interessante sobre a discrepância das duas medidas de riqueza na Irlanda, onde essa diferença já atinge quase 20% e tem vindo a aumentar enquanto nos restantes países oscila menos de 5%.

As razões para essa discrepância são bem conhecidas e refletem o peso do investimento estrangeiro e o nível da carga fiscal no país. Quanto mais elevado for o primeiro e mais baixo for o segundo maior será o nível de lucros reportados no país de acolhimento e, consequentemente, maior será a discrepância entre PIB (Produto Interno Bruto) e PNB (Produto Nacional Bruto).

É interessante notar que entre os países do Euro, excluindo o Luxemburgo, a Irlanda aparece em primeiro lugar no ranking do PIB per capita, enquanto Portugal aparece em antepenúltimo (15º lugar). Já no ranking baseado no PNB per capita, a Irlanda cai para o sexto lugar (com um valor próximo da média) enquanto Portugal sobe para 12º lugar (com um valor cerca de metade da média).

Qual será a forma mais rápida de Portugal imitar a Irlanda – atrair mais investimento estrangeiro, baixar a tributação ou ambas? Não parece difícil de perceber que reduzir a tributação dos lucros para portugueses e estrangeiros é pré-requisito e a melhor de conseguir ambas.

A nation of shopkeepers?

A reasonable concern about an economic system like capitalism that relies on a large number of (small) enterprises, is that it might degenerate into a society of small-minded people. To paraphrase the disdainful reference of Napoleon and French aristocracy to British merchants – the risk of becoming a nation of shopkeepers.

It is a fact that most of the infrastructure and cultural heritage of humankind was not decided on economic grounds, whether we think about the Pyramids or Mona Lisa. Indeed, some of the major feats of humanity require a level of capital accumulation that is not accessible to individual capitalists and have therefore been often promoted by political or military rulers and religious leaders regardless of any economic calculation.

In fact, Adam Smith had already tackled this question in relation to the British Empire, when he said that: “To found a great empire for the sole purpose of raising up a people of customers, may at first sight, appear a project fit only for a nation of shopkeepers. It is, however, a project altogether unfit for a nation of shopkeepers; but extremely fit for a nation whose government is influenced by shopkeepers.”

Indeed, it is possible that during their short existence, capitalists have already procured more palaces and works of art than the nobility that preceded them. To some they may seem less refined or nouveau rich but, given the nobility’s preference for horses and jewelry, capitalists certainly pushed the human heritage well beyond past forms of wealth accumulation.

The question of whether capitalism promotes conspicuous consumption at the expense of the poor and the arts is not specific to capitalism. Conspicuous consumption is a characteristic of all wealthy classes and new riches, whether obtained through inheritance, lottery or business.

On this matter, one relevant issue is to decide whether corporations should be patrons of the arts and similar aggrandizement or philanthropic endeavors, or if such role and its consequences should be left exclusively to their shareholders.

This decision is often influenced by the tax system which may favor one of the options. Likewise, supporters of managerial capitalism may advocate that company directors are more profligate with donations to the higher arts than individual shareholders would be.

Nevertheless, it is questionable whether governments and directors should impose their own preferences on shareholders. Indeed the shareholders tastes may be very diversified.

For instance, small shareholders are more likely to sponsor local sport teams and artists while the wealthy and corporate directors will sponsor national events and the higher arts. Likewise, the wealthy may be more conspicuous or social minded. For example, Bill Gates has chosen to spend his fortune to fight diseases while one of his co-founders of Microsoft has chosen to spend his money on a super-yacht. These are personal choices and have nothing to do with capitalism.

The role of capitalism is to produce wealth, and the more it produces, the greater the wealth at the disposal of governments, capitalists and foundations to procure the items that will constitute the heritage of future generations.

In this regard, a system of dispersed small enterprises typical of market capitalism is the most efficient to create wealth. So, after all, we may paraphrase Adam Smith and conclude that “a higher aim may be altogether unfit for a nation of small businesses; but extremely fit for a nation whose government is influenced by small business.”

Capitalist or consumer sovereignty

As it is in the nature of humans to protect acquired advantages by all possible means, we cannot expect leading capitalists to always uphold free competition and other fundamental principles of capitalism.

On the contrary, consumers do not face a similar conflict of interest. If they already have a good product or service they still look out to replace it with another even better. This has led some to view capitalism primarily as a system of consumer sovereignty, usually defined as “the power of consumers to determine what goods and services are produced”.

For instance, Mises argued that capitalists and entrepreneurs “are at the helm and steer the ship. But they are not free to shape its course. They are not supreme, they are steersmen only, bound to obey unconditionally the captain's orders. The captain is the consumer. (Bureaucracy, "Profit Management," p. 226 )

On the contrary, the opponents of capitalism see it as a threat to consumer sovereignty by claiming that for-profit firms will manipulate dispersed and unorganized consumers in order to maximize their profits. These critics substitute or supplement the old Marxist class struggle between labor and capital with a new divide between corporations and consumers.

The relative power of consumers and businesses is an empirical matter, but there is no doubt that one is limited by the other and vice versa. Nevertheless, as we move towards a system of market capitalism we know that we are getting closer to the libertarian ideal of consumer sovereignty. On the contrary, if we move towards managerial or state capitalism consumer sovereignty becomes more and more remote.

Two other important issues concern the role of capitalism in innovation and health safety in relation to new products and processes. In some areas, like fundamental research, it is obvious that consumers' demand cannot be at the helm. Here, the other two sectors – voluntary and state – are better placed to establish mundane or far-fetched objectives, even when they are contracted to the private sector (e.g. space science).

Regardless of whether such programs are promoted by special interest groups (namely the suppliers and producers of such items) or by public interest, there is a need for some sort of arrangement between consumers and capitalists.

So, overall, capitalism is better described as a system of shared consumer sovereignty. A system where the long term self-interests of capitalists work as an incentive to invest in businesses with strong consumer awareness.

The relative preference of consumers for material and spiritual wants can be influenced by the business, voluntary or the state sector, but in no circumstances should any of the three sectors have the power to unduly coerce individual consumer decisions. That is why the freedom of contract and the rule of law are two important principles to protect the capitalist system as a system of shared consumer sovereignty.

Wage devaluation: Why Brussels insists on this mistake

The Brussels consensus keeps insisting that to solve the external adjustment problems in the peripheral countries they need a major wage devaluation. They ignore both theory and experience showing that wage and currency devaluations are substantially different and that even the later has limited success in balance of payments adjustment. Moreover, they also ignore the macroeconomic debate and experience on money illusion concerning the differences between real and nominal wage declines.

They persist in their recommendation despite a failure of the current adjustment programmes to show the benefits of such policy. And, unfortunately, some of the countries are eager to accept them unquestionably. For instance, some supporters of the Irish Fine Gael – Labour coalition are calling for a €2 an hour cut (25%) in the minimum wage fixed since 2007 and which is paid to less than 5% of the labour force. Slovenia, has in place measures aimed at cutting the public sector wage bill. Likewise, in Portugal both the government and the main opposition party are disputing the next general election with a proposal to cut the taxes on wages (the so-called TSU).

Regardless of whether nominal wage costs are reduced through cuts in the minimum wage, public servants pay cuts or labour tax reductions, the relevant assessment is how wage cuts impact on take home pay and employer total labour costs, as well as in the government budget.

The following charts drawn from OECD data illustrate some of the misconceptions about nominal wages.



The chart above depicts the evolution of manufacturing hourly wages in Germany and the peripheral countries. It shows that, as expected, they have risen in all countries, except in Portugal.

Now, with rising wages, the so-called labour unit costs (the measure often used to assess competitiveness) will also rise unless productivity gains outpace such rise. The following chart shows that, except in Germany for the period before the 2008 crisis, none of the countries achieved the necessary rise in productivity.



The case of Portugal is especially noteworthy. Since it did not experience a rise in hourly wages, the rise in unit labour costs means that it had a serious decline in productivity. However, the link between hourly wages and unit labour costs does not work only through productivity. Two other factors – employment and nominal wages - also play an important role. Let me illustrate it through a numerical example for Germany and Portugal.

Imagine that the high wage sectors employ 30% and 40% in Portugal and Germany, respectively. Moreover, assume that wages and productivity are 50% higher in the high wage sectors and two times higher in Germany than in Portugal, so that both countries would have the same unit labour costs. What would happen under three different scenarios?

First, imagine that nothing changed in Portugal but in Germany wages continued to rise at 1% and 2% in the low and high wage sectors, respectively. In this case the unit labour costs would rise 1.5% in Germany but remained constant in Portugal.

Next consider the case where additionally 10% of the labour force in the Portuguese low wage sector migrates to Germany increasing the low wage labour market there by 3% without affecting the sector’s average wage and productivity. In this case unit labour costs would remain constant in Portugal and rise slightly less in Germany (1.49% against the 1.50% of the first scenario).

Finally, ponder the case where nominal wages and productivity are cut by 5% in the Portuguese high wage sector. In this case the result would be exactly the same as in scenario two. Only if productivity had not declined as much as wages would we have a reduction in unit labour costs. For instance, if productivity had declined by just half of the nominal wage cut the unit labour costs would be reduced by 1.05% continuing to assume that the labour force in the low wage sector had been reduced or just 0.99% if there was no change in its labour force.

This relationship between employment, wages and productivity depends on how much workers take home out of their salary and whether retained earnings are used to pay taxes or fund pensions. The following chart highlights once more the striking difference between Portugal and Germany in the aftermath of the 2008 crisis.



It can be observed that, on average, the Portuguese took home almost less than 10 percentage points while the Germans took home more than before (1 percentage point). Such a drastic reduction had a dramatic effect on nominal contracts (in particular mortgage loans) and on private consumption. If continued, this could degenerate in a vicious circle of reduced productivity, higher unemployment, higher public debt, higher taxes, lower take home pay and lower productivity, without achieving any significant reductions in relative unit labour costs.

Now, contrast this policy with a policy without nominal wage cuts. Using the numerical example given above and assuming that productivity declined by merely half a percentage, then the rise of unit labour costs would be barely noticeable (0.2%) and the negative impact on unemployment and fiscal consolidation would be much smaller.

In conclusion, the small gains in relative labour unit costs achieved through wage devaluation are too small to justify the large costs in terms of employment and fiscal consolidation.

Catholics against Soares dos Santos

Left-wing politicians are not alone in disliking capitalism for liberating the poor from their franchise on gloom and doom. Some religious leaders also dislike capitalism because they fear that it alienates the poor from their charities.

The charities’ attitude against capitalism is often based on an apparently solid ground. Namely, on the immorality of wealth and the charge that profit-seeking merchants abuse their power of influence to promote inappropriate patterns of consumption among the poor and vulnerable, be it booze, junk food or tobacco.

An illustrative episode on this rash analysis took place recently in Portugal, when a group of Catholics signed a manifest against the award by the Catholic University of the prize “Faith and Freedom” to a well-known capitalist - Soares dos Santos. We will use it to illustrate the issue.

Soares dos Santos is an outspoken and successful Portuguese retailer who recently came under strong criticism for causing a public run into his stores by offering a 50% rebate on all purchases made on labor day (the 1st of May). The Trade Unions were outraged when workers went shopping rather than attend their rallies.

The Union’s reaction was understandable, but the reaction of the protesting Catholics was centered on the grounds that: “he had amassed his colossal personal fortune, through capital gains and accumulation, labor exploitation, and tax dodging” in an economy that “kills, through poverty, massive unemployment, increasing inequality and serious environmental risks”.

This was clearly a mashup between Marxism and the Gospels maxim that: “blessed are the poor in spirit, for theirs is the kingdom of heaven” and that “it is easier for a camel to go through the eye of a needle than for someone who is rich to enter the kingdom of God”.

In fact, Soares dos Santos business success resulted from a strategy of deploying mid-sized supermarkets offering a choice, price and quality somewhere between the local shop and the large supermarket and had nothing to do with business malpractices. So, were his critics simply committing the deadly sin of envy or something else?

They were adopting a puritanical ideal that views wealth as an obstacle or offense to the Christian faith, the ideals of corporatism or the theology of liberation. Whatever the religious movement it is clear that the Church has always been reluctant to accept the liberating role of capitalism. Good Christians practice charity as a way of personal redemption and favor before God and not to eradicate poverty.

To some extent religious charities face the same problem as governmental agencies. If they eradicated poverty they would end up without a job. So, maybe unconsciously, they are more prone to accept economic systems that cause misery (like socialism) than to endorse the most successful system to reduce poverty (capitalism).

For instance, Pope Francis in his Apostolic Exhortation recovered the old criticism of capitalism that “Some people continue to defend trickle-down theories which assume that economic growth, encouraged by a free market, will inevitably succeed in bringing about greater justice and inclusiveness in the world”. Then he wrote that: “This opinion, which has never been confirmed by the facts, expresses a crude and naive trust in the goodness of those wielding economic power and in the sacralized workings of the prevailing economic system.”

Others, like Theos, a London-based religious think-tank, took a more friendly stance in their document: "Just Money: How Catholic Social Teaching can Redeem Capitalism".

Although advocates of capitalism do not see a need for redemption, one should consider whether the policies advocated to correct the excesses of market fundamentalism are market perfecting or another remake of social democratic policies for a managed capitalism.

In this regard, the document is vague and mixed. It takes its inspiration from the 1892 Rerum Novarum encyclical, which inspired corporatism, as well as on John Paul’s Centesimus Annus of 1991 and the 2013 exhortation Evangelii Gaudium of Pope Francis, which are critical of capitalism.

The proposed Blueprint for a Better Business based on Catholic Social Teaching offered the following five principles for an ethically based business: 1) a good business is honest and fair with customers and suppliers; 2) good business is a good citizen, in that it considers each person affected by its decisions; 3) has a purpose which delivers long-term sustainable performance, operates true to a purpose that serves society, respects the dignity of people; 4) has to be a responsible and responsive employer; and 5) is a guardian for future generations, because it honours its duty to protect the natural world and conserve finite resources, contributes knowledge and experience to promote better regulation to the benefit of society as a whole.

However, with the possible exception of principle five on externalities, ever since Adam Smith’s Wealth of Nations, all these principles have been shown to be better achieved through market competition rather than moral preaching.

To conclude, the Catholic Church has a legitimate part in calling for a greater role of the voluntary sector in capitalist economies, but these platitudes on business ethics add nothing to market perfecting policies and open a wide door for all kinds of wishful thinking aimed at diluting the fundamental principles of capitalism. Therefore, the Church is doing a disservice to its members by confusing reasonable concerns about the limitations of capitalism with a wide system failure.

The left bias against McDonald's

Given the ethics of capitalism and its closeness to a meritocracy it is a mystery why so many dislike it. Of course, the ruling classes in the alternative systems do not like having their position in the established social hierarchy challenged by the new capitalists. Nevertheless, since feudalism, corporatism and communism (partly) have disappeared some time ago it is surprising that so many still continue to dislike capitalism.

The reasons may be analyzed through different angles – social class, political divide, ideology and history. For instance, the left-wing opposition to capitalism can be illustrated through the frequent attacks on McDonald’s restaurants by anti-capitalists protestors.

Given that left wing ideologues are often driven by envy and a false-hearted love for the poor and aversion of the rich, it seems paradoxical that they choose to vent their ire on a restaurant that serves well the poor rather than on a luxury stores like Prada or Bugatti which serve the rich.

McDonald’s is a successful American company in the fast food industry, which now owns 30,000 franchised branches in prime sites in over 120 countries. Its success is mostly due to its ability to offer quality fast food at affordable prices in clean restaurants to a diversified, mostly young, clientele. So, it may be heralded as the symbol of the efficiency of capitalism.

Yet many in the left see McDonald’s as American, authoritarian, abusive of animals, exploitative of workers, unhealthy, unecological, and ruthlessly profiteering. Let me examine some of these claims.

The anti-Americanism endorsed by the left is largely a result of the cold war. And, because many in the left were on the communist side, they needed an American symbol to attack beyond the USA flag. Now, after the collapse of communism, its former supporters sought to rationalize their past ideology by turning to protectionism and anti-globalization. Again, McDonald’s, with its restaurants in every major city of the world, provided a visible symbol of globalization.

In the same way, the left sought new constituencies. For instance, by claiming that McDonald’s was authoritarian as it forced its franchisees to stick to the company brand. Afterwards, since they could not contest McDonald’s superior sanitary levels in the fast food industry, they turned to animal lovers by claiming that it was abusive of animals.

In fact they omit the fact that McDonald’s does not run any farms. However, because they are the main purchasers of some farm produce they want McDonald’s (not the governments) to force its suppliers to follow the demands of the animal rights groups.

The same tactic is used by environmental movements with arguments that are even more ludicrous. For instance, some blame McDonald’s rigorous demand for consistent ingredients for the existence of large chemical conglomerates like Monsanto or Cargill producing soil-damaging fertilizers.

The charge that an irresponsible marketing used by McDonald’s promotes unhealthy diets and obesity is also common.

It is true that kids today do not follow good diets. But can the Big Macs or Chicken Nuggets be blamed for that? Obviously not. The blame lies with their families and schools which, for financial and work reasons, have progressively replaced home-cooked food with cheap frozen meals and takeaways.

Indeed, one of the reasons why McDonald’s is so popular with kids is that they consider a meal there as better than the takeaway around the corner or the fish fingers they eat at school. If anything, the McDonald’s experience shows that it is possible to offer decent meals at an affordable price.

It is not necessary to be an economist to understand that in economies run on a pro-profit basis quality will take over cheap production, since a race to the bottom inevitably condemns its players to failure in a growing economy.

So, the left’s dislike of McDonald’s is fundamentally ideological. Because it epitomizes a living proof that profit-seeking benefits the poor, they see McDonald’s as a threat to their own propaganda.

O salário mínimo e o desemprego

Muitos economistas, especialmente entre os de inclinação libertária, colocam uma enfâse excessiva no contributo do salário mínimo para o desemprego, especialmente entre os jovens.

No entanto, uma simples leitura dos dados em dez países da zona euro deixa muitas dúvidas sobre a importância desse impacto.

Como podemos observar na seguinte tabela onde ordenamos os países em função do valor do salário mínimo, houve evoluções muito diferentes.



Entre os países com um salário mínimo elevado, a Irlanda diminui drasticamente o seu valor, enquanto Portugal o subiu significativamente. Entre os países com salário mínimo mais baixo, também a Eslovénia e a Estónia o aumentaram significativamente, enquanto a Grécia e a Espanha o desceram moderadamente.

Entretanto, a respetiva evolução em termos de desemprego apresentada na tabela abaixo mostra-nos o seguinte:


Entre os países que começaram o milénio com salário mínimo elevado e baixo desemprego (Irlanda e Portugal) o desemprego triplicou, enquanto nos países com salário mínimo baixo a Estónia começou com um desemprego muito elevado mas reduziu-o a quase metade mas já a Eslovénia começou com um desemprego moderado mas aumentou-o em cerca de 50%. Entretanto a Espanha e a Grécia que começaram com desemprego muito elevado ainda o aumentaram para mais do dobro.

É óbvio que a evolução dispare de países como Portugal e Irlanda ou da Estónia e Eslovénia questiona qualquer relação forte entre a evolução do salário mínimo e do desemprego.

E, em relação aos países com programas de ajustamento, também é evidente que a evolução pós-2010, foi fundamentalmente determinada pelas consequências da crise de 2008-2009, ampliadas pelos respetivos programas de ajustamento no caso da Grécia e de Portugal.

Note-se no entanto que apenas na Grécia ocorreu uma redução significativa do salário mínimo durante o programa de ajustamento, precisamente o país onde se atingiram níveis de desemprego mais elevados.

Em conclusão, se quisermos identificar as principais causas do desemprego é melhor procurar outras causas que não o salário mínimo.

Luck, merit and hard work

The ethics of capitalism can also be examined in relation to how it rewards individual luck, merit and hard work. Like in many other human activities, success in business results from a mix of luck, merit and work. There are always many that work hard and skillfully but who are unlucky in their ventures while many lazy and inept succeed through sheer luck.

Obviously capitalism does not determine luck. One either has it or not. However, capitalism raises the number of lucky opportunities available as well as our ability to profit from them when they come our way. Because capitalism is based on the principle of free entry (free markets), when one “strikes gold” nobody has the right to take it a away (private property rights) or to prevent its exploitation (rule of law). Moreover, if some do not have the necessary resources to dig it up they may use those of other passive capitalist.

One aspect about luck that cannot be corrected by capitalism is its reproduction and access. For instance, knowing the right people is often the best way to find the best opportunities. So, if one is born in a family of business people he or she is more likely to become aware of such opportunities. However, being rich also brings in many distractions and that partly explains why many business dynasties rarely go beyond the third generation. Overall, the small hereditary bias in luck it is not enough to deny the neutrality of capitalism in relation to luck.

Despite its few limitations capitalism is broadly a meritocratic system. Even if you do not have the required skills you may always bid for other people’s talent. And, should one fail to do so someone else will step in and force you out of the game.

However, capitalism is not a jungle where the strongest prevails in the fight for talent or hard work. By upholding the principle of free contracting, labor and capital usually negotiate long term work contracts rather than opting for piece rate pay. Indeed, this choice is based on calculated self-interest and is not necessarily the result of government imposition.

However, in the case of handicapped workers and less qualified workers there are circumstances when it would not be profitable to employ them even if they were willing to work as slaves. Such cases represent a market failure that needs to be corrected through subsidization or government employment.

With technical progress the number of tasks requiring high qualifications increases while those less demanding in skills are declining in relative terms. Thus access to education is of paramount importance in a capitalist system. The system can be trusted to produce efficiently the necessary qualifications but it cannot ensure equal opportunities in access to education, especially for advanced levels.

Given the importance that education has as a screening device for the top jobs it is normal that those with more resources use all kinds of aid to secure a top school for their children. This ranges from private tuition to crammer schools which are not available to the less favored. Nevertheless, provided that there is a market for student financing and that schools compete for bright students (whether they are poor or rich), those from disfavored families may still secure a place in top institutions.

In what concerns fair promotions and rewards for merit and hard work these are secured under capitalism by giving workers the freedom to change employers. Although there are many instances of nepotism in relation to family and favorites this cannot be extensive, otherwise firms will not be able to maximize profits and stay competitive.

There are however cases where in the short run it would be profit maximizing to lead workers to work to death. This was initially feared given the poor working conditions in the early days of the industrial revolution and because capitalists did not own the workers. However, history has shown that it would be counterproductive since in-the-job training and the costs of hiring would make such behavior untenable.

Indeed, a dramatic example of working slave labor to death was carried out in German and Japanese concentration camps during World War II and proved them to be both inefficient and resisted by some company managers. Obviously in a free labor market, as required by capitalism, workers themselves would not accept that.

Yet, there are industries (e.g. law, auditing and finance) where greed may lead professionals to accept overworking in return for a high compensation and the opportunity of retiring rich at an early age. It is interesting to note that such practices are more common on partnerships than on corporations. That is, the pursuit of profit under overworking conditions is not profitable in the typical capitalist firms - joint stock companies.

In conclusion, despite some early abuses, capitalism turned out to be the closest we got to a meritocracy, rewarding hard work and creating a level playing field to take advantage of one’s luck.

The ethics of capitalism

There is a never ending history of blaming capitalism for all evils in society. Vigilantes are always out there looking for market failures and externalities to "prove" the limitations or evils of capitalism.

The most recent accusation is that capitalism is responsible for obesity because the food industry is driven to profit from what Ken Rogoff called coronary capitalism.

The idea that capitalism promotes vice at the expense of virtue is historical nonsense. Otherwise, after 200 years of capitalism, western economies would now be dominated by casinos and brothels. Yet, these vice industries are still niche industries.

The ethic foundations of capitalism are not necessarily the same as the (protestant or other) ethics of the capitalist or the ethics in business. Business ethics is the study or practice of the good or right in a business setting. For instance, the responsibilities of a CEO in relation to the company’s stakeholders. Or whether in some industries managers need to preserve primitive hunting or predatory instincts.

The origins of freedom and individualism go back to Aristotle (384-322 B.C.), who argued that a human being uses his rational mind and free will to pursue his well-being and personal happiness. John Locke (1632-1704) extended these concepts to include the state of nature, natural law, natural rights, social contract, consent of the governed, and the right of property ownership. So, the ethics of capitalism must be discussed around the foundations of capitalism – namely, the ethics of private property, the profit motive and free competition - and not in terms of the social responsibilities of businessmen.

For Adam Smith and Hume the morality of capitalism resided mostly in the virtues of prudence and reciprocity, respectively. For Smith, the first to study capitalism, economics was still a moral science. Only after Marshall, did the prevailing view of economics as a positive science takes its roots based on the assumption that preferences are “given”. The assumption of utility maximization was replaced by wealth maximization and “greed” was adopted as an undisputable microeconomic assumption.

Despite Adam Smith’s demonstration that 'self-love', could be the greatest driver of wealth creation as long as it was restrained by market competition, law, and customary morals, today many sceptics still question either the morality of money-making or wish it to be unrestrained. Some qualify money-making as bad and enterprise as good, but these are truly the two sides of the same coin because the first measures the success of the second.

For Keynes, the distasteful aspects of capitalism would have to be endured until the accumulation of wealth loses its social importance. In his words: “Avarice and usury and precaution must be our gods for a little longer still. For only they can lead us out of the tunnel of economic necessity into daylight. (JMK, CW, IX, pp.329, 331)”.

Of course capitalism is not flawless. It is true that capitalism is affected by moral dilemmas, market failures and externalities, but these are the exception not the rule. It is also true that it may cause some unhealthy patterns in terms of consumption. But in market capitalism these imbalances are necessarily temporary; while they are bound to be perpetuated under other economic systems and government rule.

In fact the food industry provides a unique proof of this principle. As soon as the junk food became dominant and inefficient, a growing number of enterprising capitalists stepped in to offer all sorts of alternatives without any government intervention; ranging from the organic food industry to keep fit and health clubs.

Indeed if the fast-food industry still caters for so many people it is because of governmental failures rather than market failures. It is because of government failures that we have an ever growing number of families living on social security and low-cost dinners. It is because governments provide lousy school meals that children acquire unhealthy eating habits. And, it is also because of government´s inadequate funding for scientific research in food and health that we have so much voodoo science in what relates to healthy eating habits.

On the contrary, capitalism is part of the solution for these government failures. By competing to provide low income families with affordable and varied meals it facilitates the acquisition of good eating lifestyles.

That is really the beauty of market capitalism. Instead of raising regulatory barriers to protect the incumbents in the food industry competition ensures that they will be under permanent challenge. So, it corrects not only its own imbalances but also those created by devious as well as well-meaning paternalistic governments.

Mariana Mortágua vs. Maria João Marques

As televisões descobriram finalmente uma nova geração de jovens políticas talentosas. Ainda bem! Como a Mariana é uma jovem de esquerda e a Maria João de direita é interessante analisar o que as distingue dos outros jovens políticos e entre si.

Trata-se de duas jovens bloggers que se destacam por serem entusiastas, inteligentes, cultas, bonitas, femininas e simpáticas.

O seu empenhamento, perspicácia e saber não podiam contrastar mais com a perceção geral dos jovens políticos saídos das jotas - geralmente alunos medíocres de universidades igualmente medíocres, produto do nepotismo e intriga partidária, preletores dos lugares-comuns típicos do carreirismo nos jobs for the boys.

É também curioso contrastar a sua feminidade com a de outras jovens políticas. Por exemplo, o contraste da sua beleza natural com o pretensiosismo da beleza de Joana Amaral Dias. Ou, o contraste da sua feminidade, com a dureza de Catarina Martins a repetir a cassete do fanatismo revolucionário. E, ainda mais, o contraste da sua simpatia com o cinismo das not so young comentadoras do programa Barca do Inferno.

A Mariana e a Maria João são por isso duas jovens que podem e devem inspirar a juventude do nosso país. No entanto, o que é que as distingue politicamente?

De forma simplista podemos dizer que ambas se inspiram nos dois ideais do século XIX, a Maria João no liberalismo clássico e a Mariana no socialismo utópico. Por isso, podemos antecipar que a Maria João terá mais razão. De facto, a história e a teoria já nos mostraram abundantemente que o racionalismo da primeira criou liberdade e riqueza enquanto o idealismo da segunda gerou sempre tirania e miséria.

No entanto, isso não significa que no imediato a Mariana não seja mais atrativa para muitos jovens. Em primeiro lugar, porque a nossa comunicação social está excessivamente dominada pela esquerda, que não hesitará em transformá-la numa superstar se isso lhe der dividendos. Em segundo lugar, porque os jovens são naturalmente mais idealistas e impacientes e como tal mais atraídos pelos mitos revolucionários. Mas, e sobretudo, porque a substituição de um estado patriarcal todo-poderoso por uma mão invisível omnisciente despiu o liberalismo radical da empatia indispensável ao ser humano e em especial aos jovens.

Mas não precisava de ser assim. O radicalismo liberal é apenas uma doença infantil dos economistas que tendem a identificar os modelos baseados no mítico homo economicus com a realidade. Os modelos são apenas abstrações necessárias à análise dedutiva ou indutiva mas não podem incluir toda a complexidade humana, tanto mais que apenas agora começamos a saber um pouco sobre o cérebro humano. Por isso, o liberalismo tem de encontrar a sua própria humanidade e simpatia se quiser preencher os sonhos e idealismo da juventude.

Na verdade a renovação do espirito liberal talvez não seja suficiente numa fase de amadurecimento do capitalismo. As novas gerações não podem continuar prisioneiras das ideologias que resultaram das necessidades do século XIX. Têm de criar um idealismo para o século XXII, seja na economia, no papel do espiritualismo e convívio entre religiões, na bioética e na ciência ou em qualquer domínio.

Por isso não se trata apenas de deixar correr o tempo de acordo com o principio de Churchill de que “If you're not a liberal at twenty you have no heart, if you're not a conservative at forty you have no brain”, e desejar pacientemente que a Mariana chegue aos quarenta.

Para aqueles que, como eu, já iniciaram o crepúsculo, é particularmente gratificante ver o despontar de uma nova geração capaz de responder a esse desafio. Por isso, faço votos que a Maria João e a Mariana não se deixem corromper pela inevitável adulação dos media e que mantenham a sua frescura, irreverência, simplicidade e empatia para que o seu exemplo atraia cada vez mais jovens.

About managerial capitalism

Managerial capitalism is the sector comprised by public companies with such a high degree of capital dispersion that in practice shareholders have little or no control over management and the profit motive is often discarded.

Managers' capitalism developed not as the result of any specific ideology but from the natural growth of companies.

So, all non-stated owned big firms are by nature part of this sector as long as their capital grows beyond the resources of a small group of shareholders. For instance, even if the three wealthiest billionaires in the world were to invest all their fortunes to buy a large cap stock like Apple they would own only 30% of the company.

In the managerial sector it is often useful to distinguish three types of firms. Those that operate in regulated sectors and often resulted from the privatization of state monopolies, those that have grown to a dominant position in their sector and the conglomerates.

The emergence of big firms is not a new phenomenon and since the late XIX century there has been a fear that business concentration threatens free markets, the rule of law and the profit motive indispensable in a capitalist society. The concern has always been that business concentration would lead to the abuse of market power, the collusion with politicians would result in an uneven playing field and tax arbitrage for the benefit of a few and the separation between ownership and management would erode the profit drive and encourage waste and self-aggrandizement.

Today’s novelty resides solely on substantial transformations in the governance system. While in the age of the Trusts and the so-called “robber barons” these were still mostly capitalists who paid professional managers a salary of about 20 times that paid to the other professionals, nowadays there is a new layer of professional money managers between the ultimate owners and the managers and these now earn about 300 times the average salary in their companies. For example, it is now possible to find CEOs who earn more in compensation than what they pay in dividends to a shareholder who owns more than 2% of the business.

So, the modern day CEO-cracy has little capital invested in their companies and a strong incentive to maximize the company size and his compensation at the expense of profitability. Indeed, finance theory has contributed for such behavior by replacing profitability with a more ambiguous concept of shareholder value and by promoting a culture of stakeholders responsibility instead of stockholders.

Moreover, the average tenure of Fortune 500 company CEOs was 9.7 years in 2013, with many being recruited internally and going straight into retirement. That is, nominations often are the result of political and internal power struggles as in any bureaucracy rather than business performance.

In fact, the growing mix of business and politics is evident not only in the regulated sectors but also in the remaining sectors of managerial capitalism because of the role played by banks and institutional investors in corporate control. This places the managerial sector somewhere between the state enterprise sector and the market capitalism sector.

Through political favoritism and managers’ desire for size it is not surprising that managers' capitalism has continued to grow despite its inefficiency. For instance, in the two groups referred to below the top 50 managerial firms used twice as much capital as the bottom group.

This raises the question of knowing whether the managerial sector is beneficial for its investors. For this, one needs to know if returns are greater in the managerial sector. Using as a proxy for managerial capitalism the free float, we did a cursory analysis of the top and bottom 50 companies in the S&P500 Index. It revealed that last year firms in the managerial sector had a median return on equity which was lower than in firms with a lower float by three percentage points. Furthermore, the annualized return of stock prices over the past three years was also lower by two percentage points.

Surprisingly, managerial capitalism does not seem able to extract any rents for its own shareholders despite being protected by the political sector. Overall, the system endangers competition, the profit motive and social mobility necessary to keep capitalism a mild Darwinian system where the stronger takes over the weak for the benefit of both.

That is, although there is some truth in the statement that “when we have strong managers, weak directors, co-opted accountants, and passive owners, don’t be surprised when the looting begins (Bogle, J.C. (2003))”, the problem with managerial capitalism is not simply a question of generating some “bad apples”. It is really a cancer that sooner or later compromises free markets, the rule of law and the profit motive.

Yet this should not be the inevitable result of growth. One could still benefit from company size as long as the agency problems had been tackled head on. Unfortunately, the emergence of institutional investors who were supposed to represent a dispersed constituency of individual shareholders has aggravated the problem rather than solve it. For instance, in the USA the 100 largest managers of pension and mutual funds represent the ownership of about 50% of corporate America.

However, they hardly even attend annual meetings. And, quoting Bogle again: “the focus of the mutual fund industry has gradually shifted—from management to marketing, from stewardship to salesmanship, and—just as in the case of corporate America—from owners capitalism to managers capitalism”.

So, with the money managers riddled by conflicts of interest and governance problems similar or even worse than those of the corporations they are supposed to oversee a rising managerial sector can only end in inefficiency.

However, since the alternative to state owned enterprises is often its transformation into a managers’ corporation one has to assess their relative merits. Likewise, since size and job security often come together, for those employed in such firms the managerial model seems similar to many of the ideals of the XIX century utopian socialism.

Socialist state capitalism in Scandinavia

State capitalism is a form of capitalism in which the state holds a significant part of the means of production or regulates big companies, interfering directly or indirectly in the majority of the most significant businesses.

This interference is similar to that observed under the so-called crony capitalism, except that is carried out under the guise of the interest of the state. Another feature is that it rejects to be identified with the private sector and capitalism but does not disavow them in entirely. State capitalism exists in democratic or dictatorial regimes, as well as under right or left-wing governments.

In Western Europe there are two distinct forms of state capitalism - the Scandinavian and the Mediterranean. The first was made possible by the rise to power of social democratic parties in Sweden and England in the 1920s which would lead them to the government in the aftermath of World War II, with an extensive agenda of industry nationalization and social policies. The basic ideal of a broad welfare state was common to other political forces, including the Liberal and Conservative party in England, but has since been identified with social democracy.

The British experience with post-war nationalization was progressively abandoned after the Conservative electoral victory in 1951, but it continued in the Nordic countries with a golden age that lasted until the 1970s. For various reasons (namely windfalls) not all Nordic countries experienced a decline as pronounced as that of Sweden. However, we will use the case of Sweden to illustrate the initial success and subsequent decline of the Nordic model.

The Scandinavian initial success in combining strong equality with economic growth has been attributed to special features of their people, namely being ethnically homogeneous protestant societies, to their taxation policies and to a decentralized welfare system.

Some dismiss this golden era as being simply the result of the Western golden Keynesian period of the 1950-1960s compounded by a pragmatic continuation of the liberal policies that had transformed Sweden in a modern industrial country from 1870 to 1936. They reinforce this hypothesis by claiming that Sweden’s decline began in 1968 when the radicalised left wing Social Democrats attempted a ‘third-way’ approach trying to establish an economic system between a free market and a planned economy.

During this period the taxation of business financing was strongly discriminatory in favour of state pension funds and insurance companies. For instance, Henrekson (2007) estimated that in 1980 the maximum marginal tax rate on new share issues was 137% for private household investors but -12% for tax exempt public pension funds, while the rates for debt financed investments were 58% and -88%, respectively.

This attempt to create a market economy without individual capitalists and entrepreneurs proved disastrous. For instance, Axelsson (2006) points out that in 2004 among the top 100 Swedish firms in terms of revenue only 38 started as privately-owned businesses. Moreover, out of these 38, only 2 were created since 1970 while 21 were founded before 1913.

Not surprisingly, despite the initial success in upholding private property, free markets and the rule of law while avoiding the dependency culture often associated with extensive welfare systems, in the early 1990s Sweden went through a dramatic banking crisis with a cost for taxpayers equivalent to 2% of GDP. At the political level it also meant the break of the Social Democrats rule. Since 1991 the liberal conservatives have alternated in power and promoted the introduction of a liberalization program that initiated the end of the Nordic model of state capitalism in Sweden.

Personally, in 2012, I drove through Sweden to Gothenburg and could still feel an atmosphere of decay that was markedly in contrast with the energy I had felt in 1977 when I first visited the country. This was not an impression simply due to my aging. The OECD figures below for GDP per capita also confirm the relative decline until 2005 and a minor recovery thereafter.


There are two important lessons that one can draw from the Swedish experience. First, that there is a limit on how much the weight of the state in the economy can go. Using as an indicator the level of public expenditure as a percentage of GDP, that limit seems to set in when its value reaches 55%. Second, and probably most importantly, capitalism cannot dispense with the profit motive as a driver of innovation and entrepreneurship.

The attempt to socialize profits through state pension funds and the tax system might have contributed to a high level of equality in Sweden but its cost in terms of entrepreneurship was severe. In the end, the pursuit of profit motive always implies a certain degree of inequality. So, the challenge for Sweden, as it moves towards market capitalism, is to find a fair balance between a socially acceptable increase in inequality and the growth of the private sector initiative.

Wild west and “crony” capitalism

Capitalism without rules and capitalism with rigged rules are the two sides of the same coin. In fact, despite claiming to be capitalist, such economic systems violate its basic foundations, namely free markets and the rule of law.

The absence of any form of regulation, whether on working conditions or environment, is often associated with the early days of capitalism in XIX century England. However, Anderson and Hill in their “An American Experiment in Anarcho-Capitalism: The Not So Wild, Wild West”, re-interpreted the wild west history as an experimental libertarian society. They claim that “Private agencies provided the necessary basis for an orderly society in which property was protected and conflicts were resolved. These agencies often did not qualify as governments because they did not have a legal monopoly on "keeping order."”

This is a mistaken reinterpretation of facts. Indeed, all historical experiments quickly have shown that someone (the government) stepped in with a monopoly over law and its enforcement before the country collapsed from civil war or banditry. This has happened in all revolutionary processes as well as in the development of private law experiments (e.g. securities law in XVII century Amsterdam or the merchant courts in medieval Europe).

Presently we may find examples of wild west capitalism in failed states (e.g. Somalia or Libya) or in special territories enjoying reduced or non-existent regulation (e.g. the special enterprise zones in China).

However, the most common is to find situations where, although private property is protected from extortion by law, the law itself and its enforcement may be twisted in favor of the rulers and their acolytes. Like in “wild west” societies, business is carried out under the law of the jungle but this time the strongest is protected by the state. This type of “crony capitalism” is common in dictatorships but exists also in democratic societies.

The “cronies” typically use their control of the state to raid other people’s property, to get rid of competitors, to get favorable tax treatment, privileged access to financing and to secure government procurement contracts and concessions. Often, these advantages are also secured through protection against corruption charges.

Crony capitalism exists to some extent in most capitalist economies but only when favoritism is rampant can we talk of a “crony capitalistic” system.

Unfortunately, there are too many past and present examples of crony capitalism. Among the most extreme historical examples we may mention the Suharto and Mobutu families in Indonesia and Zaire, respectively. Presently, Putin’s Russia or Chaves’ Venezuela are also two of the most extreme examples, although the later would be better described as crony socialism. Obviously, the more regulated a sector is the greater the scope for crony capitalism. For instance, in sectors like banking, real estate, utilities, telecoms, natural resources and casinos. So, not surprisingly, in 2014 the Economist ranked Hong Kong, Russia, Malaysia, Ukraine and Singapore as the top five countries in terms of crony-sector wealth.

The antidotes to crony capitalism are the rule of law and free markets. Indeed, as long as these are upheld, as they should in societies with representative democracy and constitutional liberalism, market capitalism will never degenerate into “crony capitalism” as is frequently anticipated by Marxists and other anti-capitalist movements.

It is important to remember that in their initial stages countries under crony capitalism economies often experience substantial economic growth driven by public or speculative investment. However, when such levels of unsustainable investment comes to a halt due to losses and lack of financing the economic miracle always collapses with huge amounts of debt, abandoned investments and unemployment.

That is, even when apparently successful, one should not be fooled because in the end crony capitalism will always bring misery and a huge misallocation of resources.

Likewise, the frequent examples of crony capitalism under systems of state and managerial capitalism should not be used to confuse these systems with crony capitalism, because such systems have a deliberate policy to change the workings of capitalism.

The role of the voluntary sector

What we call voluntary sector is often referred to as NGOs, third sector, associative sector, non-profit sector, social economy and similar words aimed at differentiating it from capitalism. Non-profit sector would be a better label if it was not used by entities with special incorporation statutes (e.g. cooperatives) to claim preferential treatment under the pretence of being of general interest rather than for the self-interest of its members, promoters and sponsors.

It is important to understand the difference between self-interest and profit. The first can be achieved through cost minimization or service maximization for its members while the second is separate from the services delivered by the providing entity and can only be achieved through profit maximization.

Let me use as an example the motor associations we find in many countries. When I lived in the UK there were two such associations and I joined the AA after comparing the two in terms of their breakdown and other motor services. The price of these two services was bundled in a single annual fee. So, when assessing its value for money I had to weight simultaneously three different services the insurance premium for the cost of recovery and the quality of the recovery service and the extra services provided. The first I wanted it to be as low as possible and the other two as high as possible. So, the AA directors had no way of knowing how to maximize the members welfare except indirectly through their vote during elections. Indeed they probably did not know whether to maximize the number of members or the welfare of the existing members.

However, later on the AA decided to transform into a corporation and issued shares to its members. So I became a shareholder as well as a client subscribing to their services. Now, the directors had a clear mandate – to maximize my profits. Does it mean that they had an incentive to do it by charging me more or reducing the quality of my services. Quite the contrary. While they needed to focus on getting me profits they also had to keep me pleased to avoid losing a customer and attract more clients by offering a better value for money than AA’s competitors. I was also better off because, instead of being tied up to the AA, if I was not pleased with the profits I could sell my shares and still continue as a client as long as the service was worthwhile.

So, in general, whenever a service or product can be produced on a profit basis the capitalist option is preferable. The few exceptions usually involve cost-minimization situations where members are few and compete among themselves so that they may end up being served by a single monopolist service provider that they co-own. For instance, in the banking industry the banks in small countries may find it advantageous to set up a joint non-profit company to run a single national network of ATM machines. As long as this monopoly is not given any privileges by the state and can be challenged by anyone willing to set up a competing service free competition is preserved, despite the lack of profit-motive.

However, as the activity expands, sooner or later a profit-driven corporate will come to challenge the incumbent and non-corporate entities may find it necessary to transform into a profit-seeking corporation. This can be done overnight or through a long and tortuous process of transformation.

Due to economies of scale, bundling requirements and similar conditions, there is always a reasonable number of activities pursued for self-interest by non-profit entities which do not qualify as part of the capitalist sector. However, in a lively capitalist environment such organizations should aim to transform into corporations, instead of adopting an anti-capitalist stance and chasing state privileges. That is, like the informal sector, they should be a nursery for future capitalists.

Now, these non-profit self-serving entities should not be confused with truly altruistic (non-self-interest) organizations. We find these pursing activities where the state or the capitalist sectors are present and as well as in activities of no-interest for both. They use various institutional forms ranging from associations and clubs to charities and foundations. However, their real distinctive feature is whether they are self-serving or not, a differentiation that is not easy to define when they are active in the fields traditionally associated with the government or enterprise sectors.

From the middle ages we inherited charities and mutuals set up to aid the poor with medical, educational and financial services. Many remain to this day, even when their initial motivation has largely disappeared.

For instance, in the past the small savings of the children and poor were too meagre to be of interest for banks. So, when my first child was born I decided to open an account in a Portuguese mutual that gave children a nice money pig to save coins to deposit later with the bank and earn a little interest. Equally, it allowed its members to open a retirement savings account with as little as one Euro monthly and provides nice retirement homes for its members. All these services are subsided by sharing the profits obtained by a mortgage bank owned by the mutual.

However, a well-informed friend of mine, told me that the profits could be much higher if it was not for the fact the banking staff earned on average 30% more than their colleagues in the for-profit banking sector. Obviously, the staff and directors are strongly against the demutualisation of the institution, despite the fact that now all banks offer similar services to small savers. Moreover, I have noticed that many of the beneficiaries of the profit sharing products are indeed middle class. So, this institution is more properly qualified as an hybrid institution self-serving its employees and clients, but with a significant philanthropic activity.

Indeed, today there are an increasing demand for the state to outsource some of its functions to such hybrid organizations. This could be an alternative to the privatization of natural monopolies and other non-sovereign activities carried out by the state. However, this “third-way” has its own governance and agency problems. Although it is reasonable in aid programs one should be careful to avoid stimulating rent-seeking and anti-competitive behaviour.

In conclusion, there are a wide range of activities where cooperation may substitute market competition and humans may voluntarily mobilize to pursue selfless objectives. However, regardless of how well intended their objectives are, their activities and practices should be carefully scrutinized to avoid confusing self-interest with selfless organizations.

Notas preliminares sobre a evolução recente da despesa pública

No início do programa de ajustamento em Portugal alertei neste post para a necessidade de corrigir a trajetória da despesa pública, em especial no que diz respeito à evolução da segurança social.

Hoje podemos fazer uma avaliação preliminar do que mudou, pois já dispomos dos dados apresentados na tabela seguinte relativos aos dois primeiros anos 2011-2012.



Relativamente aos dados de 2009 tinha estimado que os cortes necessários em pontos percentuais do PIB seriam 6.0 na proteção social, 1.8 na saúde, 1.2 na educação e 0.7 nas forças de segurança. Como podemos ver na tabela acima a proteção social aumentou 0.8, a saúde reduziu apenas 0.6, a educação baixou 1.4 e as forças segurança tiveram uma diminuição de 0.2 pontos percentuais. Entretanto, o serviço da divida aumentou 1.6 pontos percentuais.

Isto é, nos sectores onde devia ter havido ajustamento, apenas na educação as reduções de despesa atingiram (e até superaram) a correção desejável. Outros sectores também contribuíram para o ajustamento, em particular os transportes com 1.4 e a defesa com 0.9 pontos percentuais, mas tais contribuições não foram suficientes para compensar a ausência de ajustamento nos restantes sectores.

Este ajustamento desequilibrado resultou da redução da despesa ter sido feita sobretudo através dos cortes salariais e do investimento e teve custos significativos em termos de crescimento e equidade. Por exemplo, o agravar dos desequilíbrios na despesa pública ocorreu num contexto em que o PIB caiu mais de 6 mil milhões de Euros em valor nominal.

Pior ainda, a ausência de ajustamento no peso do sector social não significou que os beneficiários deste sector tenham sido protegidos, antes pelo contrário. O crescimento das despesas sociais ficou a dever-se sobretudo ao aumento extraordinário dos beneficiários resultante do empobrecimento da classe média-baixa e do aumento das reformas antecipadas.

Uma das principais explicações reside na continuação do regime de incentivos às reformas antecipadas que foram utilizados por mais de 30 mil funcionários públicos nesses dois anos. Isto é, em vez de se optar por uma política de dispensa de funcionários que devidamente apoiados rapidamente se integrariam no mercado de trabalho privado, optou-se por comprometer de forma permanente a sustentabilidade da segurança social e não se fez qualquer reforma do Estado.

Em conclusão, a redução de 4.1 pontos percentuais no peso da despesa pública (ou 5.4 se considerarmos o efeito combinado do aumento da divida e da diminuição do PIB) foi excessiva para um período de apenas dois anos. Os 8 pontos que dissemos serem necessários podiam e deviam ter sido implementados ao longo dos três anos do programa. Mas, sobretudo, foram muito menos eficazes do que teria sido um corte generalizado de 5 pontos percentuais no orçamento de cada ministério, para já não falarmos numa política de cortes seletivos direcionada para uma verdadeira reforma do Estado.