Veblen Effect Capitalism Economic Change

Economic Change, Capitalism, and the Future, Veblen Effect

In a number of studies, including the Theory of Business Enterprise (1904) and a set of essays entitled The Engineers and the Price System (1921), Veblen enlarged upon his theory of institutional change under capitalism. In the process, he spelled out a theory of the business cycle and a prognosis for the capitalist system.

Veblen saw economic and social change as the result of the interaction of tech­nological and ceremonial institutions. This interaction is made more concrete by iden­tifying the two institutions with certain groups in the process of change. Specifically, Veblen identified absentee owners, "captains of industry," corporate financiers, in­vestment bankers, and businessmen as part of the ceremonial process, while techni­cians, engineers, and certain workers were part of the technological process. Origi­nally, the functions of directly overseeing the "machine process" and the management of the firm were one. This melding of functions created the preconditions for max­imum production, which was Veblen's goal. The two functions were divorced, how­ever, as the pecuniary aspects of culture became predominant and as specialized knowledge grew apace. Veblen described this process:

... a new move in the organization of business enterprise has come in sight, whereby the dis­cretionary control of industrial production is shifting still farther over to the side of finance and still farther out of touch with the requirements of maximum production. The new move is of a twofold character: (a) the financial captains of industry have been proving their industrial in­competence in a progressively convincing fashion, and (b) their own proper work of financial management has progressively taken on a character of standardized routine such as no longer calls for or admits any large measure of discretion or initiative. They have been losing touch with the management of industrial process .. . (Engineers and the Price System, p. 41).

At bottom, then, the businessman (financier, captain of industry, etc.) is interested in keeping aggregate profits as high as possible. In order to accomplish this objec­tive, he or she may either restrict output in monopoly fashion and/or lower produc­tion costs. According to Veblen, businessmen had in the main followed the former practice because (among other reasons) it required less familiarity with the work­ings of the machine process.

Business interests thus have chosen to restrict output rather than to reduce the amount of income flow to the "vested interests" (stockholders, investment bankers, etc.). They are interested in "making money" rather than in "making goods," which should be the end of economic activity in Veblen's scheme of things. Due to the sole interest of making money, businessmen mismanage resources and even sabotage the technological-productive process to keep profits high.

Technicians, engineers, and workers "close to the machine process" are generally imbued with a different habit of mind. Their goal is to encourage and devise means and machines for maximizing real output. Though they work for the businessmen-corporate financiers, Veblen argued that they were becoming increas­ingly aware of the utter wastes of business enterprise. Veblen pointed to several de­velopments affecting this state of affairs. But it was the industrial experts, not the businessmen, who finally began to criticize this businesslike mismanagement and neglect of the ways and means of industry:

. . . two things have been happening which have deranged the regime of the corporation fi­nancier: industrial experts, engineers, chemists, mineralogists, technicians of all kinds, have been drifting into more responsible positions in the industrial system and have been growing up and multiplying within the system, because the system will no longer work at all without them; and on the other hand, the large financial interests on whose support the corporation fi­nanciers have been leaning have gradually come to realize that corporation finance can best be managed as a comprehensive bureaucratic routine . . . {Engineers and the Price System, pp. 44-45).

Engineers and other industrial experts were thus to assume a role in reordering the system of production, a role that may be better integrated into Veblen's theory of the business cycle.

Veblen, like Marx, believed that business cycles were endoge­nous to capitalism and for many of the same reasons. While Veblen did not attempt to juxtapose business cycles with a labor theory of value, he explained recession and prolonged depressions in much the same way as Marx. There were two basic factors leading to recession, according to Veblen: (1) banker uncertainty after a period of expansion and new capitalization of industry and (2) technological displacement by new and more efficient inventions and processes. In the course of a business boom, businesses accumulate debt as business capitalization continues apace. The banker-lender becomes uncertain as to repayment and begins to "call in" loans (or not renew them). The underlying capital structure (possibly due to maturity structure) is un­able to meet banker demands, and as more and more uncertainty develops, the en­tire system proves unsound and recession takes hold of the economy.

A second recession scenario involves the technological displacement of old firms by new firms. Business firms capitalize at some point in time, but new cost-lowering inventions are later adopted by new competing firms. Rates of return are thereby dri­ven down on the older assets, causing lower-than-anticipated profits or, at the limit, bankruptcies. Investment is reduced, and the psychology of recession leads to a downturn of business activity.8 Thus, depression results both from instabilities in the financial system and from technological displacement caused by new invention. After a depression phase, the cycle "bottoms out" as the overhead burden is "worked off." Financial expansion takes place along with increases in employment and new capital investment. Rising prices and overexpansion occur, once more precipitating a new cycle.

A number of aspects of the Veblenian cycle are of interest. In the first place, Veblen characterized the expansion phase of the cycle as one of overproduction and overcapitalization. Overproduction is the result of an explicit underconsumption ar­gument in Veblen's conception of the cycle. Joining such underconsumptionists as Malthus before him and J. M. Keynes after him, Veblen believed that the business cycle was exacerbated by the saving and investment motives of fi­nanciers and owners of business enterprises. Though the instinct to emulate and to consume conspicuously was operative in all classes, Veblen apparently thought it insufficient to maintain aggregate demand. Underconsumption and the psychologi­cal effect of falling prices and redundant capital were the factors leading to prolonged recession.

A second interesting feature of the recession phase of the Veblenian cycle is the nature of the businessman's attempt to avert the crisis. Veblen believed that declin­ing profit rates led to business concentration and to other forms of "sabotage." Con­solidations of industry took place in order that reductions in total capitalization could be avoided. Thus, after progressive cycles, capitalist industry became more and more consolidated in exactly the same manner as premised in Marx's laws of "in­creasing concentration" and the "declining rate of profit".

Still other forms of sabotage take place. In an argument that is clearly anticipa­tory of an important contemporary idea (see Chapter 21) Veblen charged that busi­nessmen would attempt to "capture" the government's regulatory apparatus and use it for orderly and organized sabotage against the public. Veblen saw through the in­cestuous relation between government and business in the matter of external trade restrictions and tariffs:

Where the national government is charged with the general care of the country's business interests, as is invariably the case among the civilized nations, it follows from the nature of the case that the nation's lawgivers and administration will have some share in administer­ing that necessary modicum of sabotage that must always go into the day's work of carry­ing on industry by business methods and for business purposes. The government is in a po­sition to penalize excessive or unwholesome traffic. So, it is always considered necessary, or at least expedient, by all sound mercantilists, as by a tariff or by subsidies, to impose and maintain a certain balance or proportion among the several branches of industry and trade that go to make up the nation's industrial system (Engineers and the Price System, pp. 18-19).

In a brilliantly incisive passage Veblen turned his "capture theory" loose on inter­nal regulation and restrictions:

Of a similar character, in so far that in effect they are in the nature of sabotage—conscientious withdrawal of efficiency—are all manner of excise and revenue-stamp regulations; although they are not always designed for that purpose. Such would be, for instance, the partial or com­plete prohibition of alcoholic beverages, the regulation of the trade in tobacco, opium, and other deleterious narcotics, drugs, poisons, and high explosives. Of the same nature, in effect if not in intention, are such regulations as the oleomargarine law; as also the unnecessarily costly and vexatious routine of inspection imposed on the production of industrial (denatured) alcohol, which has inured to the benefit of certain business concerns that are interested in other fuels for use in internal-combustion engines; so also the singularly vexatious and elaborately imbe­cile specifications that limit and discourage the use of the parcel post, for the benefit of the express companies and other carriers which have vested interest in traffic of that kind (Engineers and the Price System, pp. 20-21).

Veblen thus saw, correctly, that the aim of much regulation was the protection of vested interests at the expense of the public interest.9 That is, the formation of le­galized cartels legitimized monopolies at the public expense.