Capitalism as a Theoretical Concept

Capitalism as a Theoretical Concept

This chapter will describe the theory of capitalism as it was developed by Adam Smith and other classical economists. This description may seem remote from today's world, but its major purpose is to present the con­cept in its purest theoretical form so that we can assess its relevance to modern capitalist societies. That was the goal of the classical economists: Their theoretical model, though based on the historical situation they per­ceived in the aftermath of the British Industrial Revolution, is an abstract ideal rather than a portrayal of some economic golden age that disappeared with the passage of time.

The pure theory of capitalism has two parts—an institutional stage and a repertoire of economic scenarios that are acted out upon that stage.

Economic theorists have at times been so fascinated by the dramatic ac­tion of capitalism that they have taken for granted the elaborate institu­tional arrangements that make the action possible. Economic institutions, as the previous chapter argued, are the building blocks from which eco­nomic systems are constructed; we must therefore take a thorough look at the economic institutions of capitalism in this chapter. Paradoxically, they are so familiar that we are largely ignorant of their operational sig­nificance.

First, however, we need a few definitions. It is especially important to distinguish between capital and capitalism. Capital means tangible things that are not used directly for consumption but, instead, assist in the pro­duction of other goods. The distinguishing feature of capital is the use to which it is put—a bicycle used for pleasure is a consumption good, but used by a delivery service it is a capital good. Machines, tools, factory buildings, and farm equipment are all examples of capital. In recent years economists have begun to talk about human capital formation—that is, the investment of resources in training and education of people who utilize their human capital in the production of other goods and services.

The essential point about capital is its usefulness in "roundabout" methods of production. Economics textbooks will probably always use the example of Robinson Crusoe sacrificing a day's fishing to acquire capital in the form of a fish trap yielding more fish than the old method; modern factories, in effect, divert labor from current production to build machines, which likewise increase the yield of whatever the factory turns out. Since all modern production requires at least some use of capital, "roundabout-ness" is a relative concept. More capital-intensive methods are usually as­sumed to be more productive as well, but those who have tried to straighten out an error by a computerized billing service or to place a call when automated equipment is malfunctioning will question the universal validity of that assumption.

The economic system of capitalism is not distinguished by the mere physical presence of capital or the use of relatively capital-intensive meth­ods of production. The Soviet Union would qualify under those criteria. Capitalism can be defined and distinguished from other economic systems only with reference to its institutions. Capitalism is a system of economic organization in which individual persons, singly or in groups, privately own the factors of production and possess the right to use those economic resources generally in whatever manner they choose.

It should be noticed that in defining capitalism we required all factors of production to be privately owned and controlled instead of just capital. Thus an economic system in which the government owns all land and rents it to the highest bidder is theoretically plausible, but this institutional arrangement would not fit within our definition of capitalism. Implicit in the definition of capitalism is the right of the individual to employ his tal­ents and energies in the manner he deems best to promote his personal interests. Slavery is inconsistent with capitalism because the slave does not control the use of the labor resources he possesses. The organization and management of economic activity is such an essential part of capitalism that entrepreneurship is sometimes considered a factor of production dis­tinct from other forms of human labor.

Our concept of capitalism emphasizes economic aspects. This does not imply that noneconomic institutions have no significant bearing on capi­talism or its development. The process of economic change described in the introductory chapter applies to capitalism as well as to other economic systems. Likewise, one should not identify capitalism exclusively with such noneconomic institutions as freedom of speech or religion, a free press, or democratic government; these noneconomic institutions can be associ­ated with other types of economic systems. We shall focus our attention on the economic institutions of capitalism considered separately, remem­bering that the relationships between economic and noneconomic institu­tions are both complex and important.