.comment-link {margin-left:.6em;}

Mutualist Blog: Free Market Anti-Capitalism

To dissolve, submerge, and cause to disappear the political or governmental system in the economic system by reducing, simplifying, decentralizing and suppressing, one after another, all the wheels of this great machine, which is called the Government or the State. --Proudhon, General Idea of the Revolution

My Photo
Location: Northwest Arkansas, United States

Saturday, February 03, 2007

What Can Bosses Know?

Absolutely nothing--say it again! (apologies to Edwin Starr). Seriously, that's the provocative title of Chris Dillow's excellent post at Stumbling and Mumbling.

Is it possible for bosses to really know about their own businesses and markets? How much foresight can they have? What tools do they have for acquiring such foresight? To what extent are bosses prone to the problems of bounded rationality, inherently limited knowledge or cognitive biases, as proposed by Herbert Simon, Friedrich Hayek and Kahneman and Tversky, among many others?

Journalists systematically avoid these questions. Every management failure is presented as an exception to a general pattern of competence. But is this really the case? Could it be that bosses have less control and foresight than they pretend, and that success often results not from management's deliberate interventions but simply from force of habit or the fact that success breeds success? Could it be that the power, importance and money we give chief executives is therefore unmerited?

I don't know the answers to these questions. But I do know that the dead trees rarely ask them. But then, you wouldn't expect journalists to challenge hierarchies, would you?

I believe the problems are inherent in hierarchy. As Samuel Edward Konkin III (SEK3) of the Movement of the Libertarian Left said somewhere (I can't find it--little help?) organizational inefficiency starts when you have one supervisor taking orders from another supervisor: that is, the point at which hierarchy replaces market contracting.

Under such circumstances, problems of moral hazard and imperfect knowledge, internal transaction costs, principal-agent issues, etc., become unavoidable. I've already written at length on the problems of incentives (or even tracking the effects of individual decisions in the first place) in large organizations, and the effects of hierarchy on information flow (see "On the Irrationality of Large Organizations" and "On the Superior Efficiency of Small-Scale Organization").

The central problem is that, since the costs of tracking the results of individual decisions becomes prohibitively expensive in a large organization, market incentives must be replaced by administrative ones. Milton Friedman pointed out long ago that people do a better job of spending money on themselves than on other people, and do better spending their own money than other people's money. That's the standard, and correct, libertarian argument for why government is so inefficient. It's spending other people's money on other people; and unlike a private firm not only can it not go out of business for inefficiency, it gets rewarded with more money. Well, the very same incentive problems apply to the decision-maker in a corporate hierarchy. He's a steward of other people's money, and the costs and benefits of any decision he makes can be determined only badly, if at all. Unlike a self-employed actor whose relations with others are mediated by the market, he is motivated by purely administrative incentives.

Internalization of costs and benefits of decisions is further hampered by the fact that administrative authority is separated from the actual performance of productive work. As a result, labor is likely to bear all the costs and inconveniences of increased efficiency, while owners and senior management recieve the rewards. A speedup or layoff, or combination of attrition and added workloads for the surviving employees, is likely to be followed by a big bonus to the CEO for "increasing productivity." The workers on the shop floor, on the other hand, are likely know the most about how to improve the work process. But they have no authority to restructure it on their own, and no reason to do so when somebody else will benefit at their expense.

And the flow of information within a hierarchy means that senior managent receives distorted or falsified information, and as a result the people doing the work receive irrational orders from above. As Kenneth Boulding put it, those at the tops of large hierarchies live in almost completely imaginary worlds. The only thing keeping the average large corporation going is that it coexists, in a cartelized industry, with a handful of other firms that share the same organizational culture and whose "competing" managements base decisions on the "industry trend." Market entry barriers enable a "Big Three" or "Big Five" to maintain a shared, pathological organizational culture without significant competition. Rather, the cartelized corporate firm and the large government agency become the hegemonic norm in society at large, so that even non-profits and mutuals adopt the standard form of management featherbedding, prestige salaries, mission statements, and a senior management dominated by resume carpetbaggers).

So what are the alternatives? There are two ways of internalizing the costs and benefits of every decision in an individual actor, and thus achieving rationality: 1) Replace administrative relationships with contractual ones within the organization, effectively dissolving the outer walls of the firm and replacing it with an internal market; 2) make authority within the organization flow from the bottom up.

The first alternative, the one that (as mentioned above) SEK3 found more congenial, also has a venerable history in the socialist strand of individualist anarchism.

Josiah Warren, in Practical Details in Equitable Commerce, proposed (in James Martin's words) "a system based on voluntary cooperation, but at no place rising above any individual within its structure..."

Society must be so converted as to preserve the SOVEREIGNTY OF EVERY INDIVIDUAL inviolate. That it must avoid all combinations and connections of persons and interests, and all other arrangements which will not leave every individual at all times at liberty to dispose of his or her person, and time, and property in any manner in which his or her feelings or judgment may dictate. WITHOUT INVOLVING THE PERSONS OR INTERESTS OF OTHERS.

As he developed the idea further in Equitable Commerce,

If governments originate in combined interests, and if government and liberty cannot exist together, then the solution of our problem demands that there be NO COMBINED INTERESTS TO MANAGE. All interests must be individualized--all responsibilities must be individual, before men can enjoy complete liberty or security, and before society can be completely harmonious....

When one's person, his labor, his responsibilities, the soil he rests on, his food, his property, and all his interests are so disconnected, disunited from others, that he can control or dispose of them at all times, according to his own views and feelings, without controling or disturbing others; and when his premises are sacred to himself, and his person is not approached, nor his time and attention taken up, against his inclination, then the individual may be said to be practically SOVEREIGN OF HIMSELF....

He proposed a system for labor accounting within the enterprise, based on the severability of all individual interests and the coordination of all internal transactions by contract or exchange. This was, in part, supplemental to a point made by Thomas Hodgskin in Labour Defended Against the Claims of Capital. Hodgskin raised the question of how the labor-product could be apportioned among laborers engaged in work which was, by its nature, collective. The answer lay in the ability of each to withdraw his labor from the collective enterprise if his pay did not compensate the perceived toil and trouble of his labor. The lesson for worker self-management is that wages will be apportioned among workers within the enterprise through the "higgling and bargaining of the market." Warren supplemented this with the caveat that the problem should be avoided as much as possible by de-aggregating work units as much as feasible.

Of course, Warren's model applies mainly to an artisan economy in which the largest work units are small shops. It's of limited relevance for capital-intensive forms of production with larger work units, in which some steps in the production process by their nature involve collective work. At some points, in such a process, contractual relations must be supplemented by worker self-management as alternatives to traditional managerial hierarchies. But, as I will discuss in greater detail below, there's no reason that contracting and self-management can't coexist within a single production process.

It's something Jane Jacobs touched on in The Economy of Cities. Contrary to what technocratic liberals like Schumpeter and Galbraith had to say, the large corporation isn't much good at innovation. It's possible for an organization to do essentially the same functional job within a larger production process, either as a division within a vertically integrated corporation or as an independent firm contracting to supply a higher stage of production. For example, 3M might just as easily been an abrasive sand division with a larger metal castings corporation, rather than an independent firm doing the same thing. But it would have been a lot less likely to attempt sandpaper production as a sideline, or to use its failed experiments with sandpaper backing as the basis for a new venture in adhesive tape. Such side ventures would have been shelved as irrelevant to the larger organization's goals. For purposes of innovation, the ideal economy is one of small, specialized firms related contractually in a free market.

The second alternative, workers' control of production, internalizes the costs and benefits of decisions in the same people by making decision-makers directly responsible to those doing the work. It has a long track record of success stories, with worker self-management resulting in steep increases in productivity and morale, and decreases in absenteeism and scrap rates.

Unfortunately, the increased productivity is outweighed by the imperatives of social control within the workplace. For one thing, a self-managed work unit has a lot more bargaining strength: it's considerably harder to replace your workforce with unskilled labor in the event of a walkout when production is planned by blue collar workers on the shop floor. This was one of the central attractions of automated control systems, like numeric control technology in the machine tool industry. It shifted control of production from master machinists on the shop floor to white-collar engineers in the managerial hierarchy. Numeric control technology was developed largely by Army Air Corps/USAF money in the 1940s, by the way, and first introduced in the aircraft industry and its suppliers. For more on this, read Forces of Production, by David Noble.

And once workers get a taste of deciding the how, there's always a danger they might get the idea that they can decide the what and why just as well. If they can do a better job managing production without the foreman, they might start wondering whether they can do the jobs of the CEO, the vice presidents, and the Board of Directors better, as well. For that matter, they might decide they can do a better job than the wankers at Gosplan, in the Ministry of Non-Ferrous Metallurgy, and the branch ministry for copper. Experiments in worker self-management met the same reaction in the corporate West, as in the Leninist East (Lenin quoted Taylor to justify his suppression of the factory committees), for largely the same reasons.

Of course, there's no reason the two approaches can't be combined in a decentralized, bottom-up economy, with self-managed work units functioning both as firms in a market economy (producer co-ops), and as contractors carrying out each separate stage of production in what used to be vertically integrated corporations. In both approaches, the idea is to decentralize decision-making to the smallest feasible units; to replace hierarchical relations between such units with market relations; and thus to unite decision-making authority, responsibility for results, and direct experience of the consequences in the same persons.


presto wrote
: Excellent post, Kevin. I spent nearly two decades working in the corporate world in quality control analysis, where my job was (supposedly) to gather data and analyze consequences of management decisions regarding the production process, and have found that in addition to the difficulties in gathering good information regarding management decisions, they tended to shoot the messenger (me) regarding bad news than using the information to make better decisions.

I later realized that there is a significant difference in a corporation between what your job description says and what your job actually is. My job was to tell middle management what they wanted to hear, and middle management's job was to do the same to senior management. Senior management's job is to do whatever it takes to have stock prices go up every quarter, including manipulation of data to make things look better than they are. Outright falsification is not that common, but picking the right measures to guarantee a rosy picture is. Accurate information was not wanted, especially if it interfered with the yarn that senior management was trying to spin to stockholders and major customers. I couldn't do that and look myself in the mirror, and so have quit working in a field that I was very good at. Gave up a lot of money, too.

Enron wasn't an unnatural oddity, it was the natural outgrowth of the corporate structure. CEO's are not rewarded for making good business decisions for the long-term health of the company if they hurt the stock short term, because the majority of large stock-traded corporations are owned primarily by institutional investors, who are only interested in short term stock price.

For one example, look at mergers. Mergers rarely benefit the companies involved in the long run, so why do they happen? Because the news of the merger boosts the short-term stock price of the acquired company and bonuses are paid to the senior management of both companies. Long term effects on the companies health are not an issue.

You are right, Kevin, that managers are not able to make informed decisions regarding the workings of the business, but that is not their real job in a large corporation. Their real job is pumping the short-term stock price. Stock price manipulation has been perfected into an art form, and the CEO's who are best at it are rewarded handsomely.

Sorry about being so long winded, but this goes to the heart of why I started the journey from Republican to Mutualist. Seemingly irrrational decisions are actually quite rational (but often immoral)if seen in their proper context.

thebhc wrote: "Such side ventures would have been shelved as irrelevant to the larger organization's goals."

I am immediately reminded of the history of the nascent company, Apple. Jobs, et al., had discovered that the Xerox PARC had developed a GUI for their operating system, which also made use of "mouse" that had been developed at Standford Research Center. Much to the chagrin of Xerox engineers (the low level workers), Xerox granted Apple access to this technology in exchange for some pre-IPO Apple stock. Xerox managers had little understanding or appreciation for what was being developed on their own research floor and obviously had no idea what it might mean in the long term. To them, a quick million in Apple stock for what was no doubt considered the worthless product of indulged geeks was a "no-brainer."

thebhc wrote: I quite agree with presto that, if Enron is anything, it is an excellent example of the inherent problems with the modern market. And the modern market is now considerably more volatile in the short term and it certainly no coincidence that the raft of enormous corporate accounting scandals that have taken place lately have occurred within such an environment. Pressures on stock gains now exist at the minute, or less, level. No one is thinking about six days down the road let alone six months. And years? Ha. This creates a very irrational climate with little or no thought in the long run. I always find it amusing that retirement investors will tell everyone to keep calm and take the long view when Wall Street itself can't do that.

[Note--This originally appeared in September of 2005 in Uncapitalist Journal. Since that blog is unfortunately offline, I decided to reproduce it here.]


Blogger Unknown said...

"Pressures on stock gains now exist at the minute, or less, level. No one is thinking about six days down the road let alone six months. And years? Ha. This creates a very irrational climate with little or no thought in the long run. I always find it amusing that retirement investors will tell everyone to keep calm and take the long view when Wall Street itself can't do that."

And this in turn is fueled by the modern "banking system" which needs more and more money to keep the ponzi scheme going.

February 03, 2007 2:35 PM  
Anonymous Anonymous said...

The long view doesn't look too promising. The US is heavily indebted, and it's rapidly expanding both welfare and warfare. Moreover, the largest generation in world history is about to retire, crashing headlong into state pension and healthcare plans. And the dollar is starting to slip as the world's reserve currency.

Moreover, the largest generation in world history has just entered the capital liquidation phase. Tens of millions of people who hold stock for retirement savings are going to sell that for living expenses.

I don't honestly see how anyone can be confident in the long view of American capital markets. The next 25-30 years look very bleak.

- Josh

February 03, 2007 5:49 PM  
Anonymous Anonymous said...

I worked in a group that did performance testing in a large software corporation. Our goal was to provide the programmers/engineers as well as our support techs with hard data that they could use to respectively improve code performance and give advice to customers on how to tweak their installation to obtain optimal performance.

Of course, marketing and management learned of our existence, and after that half our work consisted in finding ways to measure performance to give those people nice talking points.

February 03, 2007 6:09 PM  
Anonymous Anonymous said...

My personal anectdote on how information travels in a corporate hierarchy:

I was a line supervisor (first level) in an R&D lab. One day near fiscal year end, my immediate supervisor, the lab director, came and asked all the line managers to draw up budget proposals for each project we had. So I went to each chemist, spent several hours with each figuring out what was needed for the next year. They always padded a little on to each project, just for unforeseen problems.

I took all their data, aggregated it, and added 10%, to (a) address unforeseen circumstances and (b) allow them to cut some without it really hurting. I took my numbers to the director and left them there. He aggregated my numbers with the other supervisors and was getting ready to submit them to our V.P., when he was called to an emergency at a lab in another state.

Amazingly enough, even though I was the junior supervisor, I was the one with the best people skills, so everyone "volunteered" me to go to the meeting with the V.P. in the director's place. I sat there with five other directors and looked at the summary my boss had given me - all of my projects where approximately 10% more than I had given to him.

The V.P. aggregated those numbers and took them to present to the Senior V.P. and President/CEO. I have no direct knowledge of what happened there, but we got a memo several weeks later, outlining the budget for the next fy. The CEO "regretted that some cuts had to be made, across the board, in the R&D budget, yadda, [inspirational "git 'r done" speech}" - but then I looked at my numbers and they were all 5% higher than what our director had presented to the V.P.

There are many more that all track with what this post talked about, but that's the easiest to explain. And be assured, this was one of the world's largest pharmaceutical companies I was working at, with plants around the globe, which has only grown bigger since I left almost 10 years ago, and most of the same people are still in the same management positions.

February 05, 2007 5:50 AM  
Anonymous Anonymous said...

Kevin, would it be accurate to summarize this post by saying that trade is free to the extent that the workers own and control the means of production?

February 05, 2007 11:03 AM  
Blogger Mike said...

Interesting how us software and IT types experience this every day...the folks on the floor know exactly what needs to be done, because they are face to face with customers and users. The "Adminsphere" buggers it all up - with a healthy markup of course. And when the going gets rough, its rarely the managers that get a package.

At least it is relatively easy for us in software to control the means of production, which consists of a laptop and fingers.

Great post.

February 05, 2007 7:29 PM  
Blogger Kevin Carson said...

Adem and quasibill:

Your comments are relevant to an article I'm working up on the calculation debate. None of this stuff reflects very well on Mises utopian picture of central planning by double-entry bookkeeping, with the "entrepreneur" single-handedly solving agency and information problems by sacking the head of every division with red ink. The internal cost-plus markup system also ties in to Rothbard's discussion of corporations as islands of "calculational chaos," the further removed their internal pricing systems are from genuine markets in intermediate goods.

Wild Pegasus,

I agree that things look bad, especially with negative net savings rates. For the past decade, middle class purchasing power has been kept afloat with mortgaged home equity. When the housing deflation gets going in earnest and those ARMs come home to roost, the economy is going in the tank big time.


That sounds so Dilbert--one of the strips where the marketing types demand a price estimates from the engineers before they'll give them specs for the product. Nice to know how closely it reflects reality.


Well, the post wasn't so much about free trade as about internal administrative rationality. I think a good summary would be that the production process is organized efficiently to the extent that workers own and control the production process.


Your comments also touch on the themes I'm developing in the calculation piece. Mises wrote about the uselessness of technical knowledge, without entrepreneurial knowledge of the relative costs of production inputs by which to assess alternative production possibilities in economic terms. What he neglected to mention was that it works the other way, too. "Entrepreneurs" who understand finance and marketing, but view the internal details of the production process as a black box, are likewise acting in a calculational vacuum. The problem is that the divorce of ownership from control, and the divorce of management from production, result entrepreneurial and production knowledge being stovepiped in entirely different groups of people. And neither body of knowledge lends itself very well to being distilled into an "executive summary" for the other group to consider as an afterthought. Both considerations need to be applied to the same data on a continuing basis.

February 06, 2007 9:49 AM  
Anonymous Anonymous said...


I'm as negative as the next person about how our state capitalist ('mercantilist', if you prefer that term) will perform in the near future, but the key is to see it as an opportunity.

Noone wants to know about alternatives when things are booming - why should they? It's when the chickens come home to roost that people will start wondering - "how did we get here?" "what went wrong?". Those of us who have the answers, to whatever extent we do, will have an opportunity to really educate people and create change.

The problem will be that we'll have to be prepared and somewhat organized for it. Others will continue to sell statist snake oil, and we'll have to be in a position to out-compete them.

February 08, 2007 5:40 AM  

Post a Comment

<< Home