Coordination, Cooperation, and Control: The Evolution of Economic and Political Power [1st ed.] 9783030486662, 9783030486679

Table of contents :
Front Matter ....Pages i-xii
The Concept of Power (Randall G. Holcombe)....Pages 1-20
Political Power (Randall G. Holcombe)....Pages 21-44
Economic Power (Randall G. Holcombe)....Pages 45-68
The Separation of Economic from Political Power (Randall G. Holcombe)....Pages 69-94
Power in Pre-Agricultural Societies (Randall G. Holcombe)....Pages 95-121
Power in Agrarian and Feudal Societies (Randall G. Holcombe)....Pages 123-147
Institutions That Support Commerce and Industry (Randall G. Holcombe)....Pages 149-168
Power in Commercial and Industrial Societies (Randall G. Holcombe)....Pages 169-191
Politics as a Vocation (Randall G. Holcombe)....Pages 193-217
The Social Contract (Randall G. Holcombe)....Pages 219-237
Ideology, Politics, and Power (Randall G. Holcombe)....Pages 239-254
Clouds on the Horizon: The Recombination of Political and Economic Power (Randall G. Holcombe)....Pages 255-279
Progress and Power (Randall G. Holcombe)....Pages 281-305
Back Matter ....Pages 307-328

Citation preview

Randall G. Holcombe

Coordination, Cooperation, and Control The Evolution of Economic and Political Power

Coordination, Cooperation, and Control

Randall G. Holcombe

Coordination, Cooperation, and Control The Evolution of Economic and Political Power

Randall G. Holcombe Department of Economics Florida State University Tallahassee, FL, USA

ISBN 978-3-030-48666-2    ISBN 978-3-030-48667-9 (eBook) https://doi.org/10.1007/978-3-030-48667-9 © The Editor(s) (if applicable) and The Author(s), under exclusive licence to Springer Nature Switzerland AG 2020 This work is subject to copyright. All rights are solely and exclusively licensed by the Publisher, whether the whole or part of the material is concerned, specifically the rights of translation, reprinting, reuse of illustrations, recitation, broadcasting, reproduction on microfilms or in any other physical way, and transmission or information storage and retrieval, electronic adaptation, computer software, or by similar or dissimilar methodology now known or hereafter developed. The use of general descriptive names, registered names, trademarks, service marks, etc. in this publication does not imply, even in the absence of a specific statement, that such names are exempt from the relevant protective laws and regulations and therefore free for general use. The publisher, the authors and the editors are safe to assume that the advice and information in this book are believed to be true and accurate at the date of publication. Neither the publisher nor the authors or the editors give a warranty, expressed or implied, with respect to the material contained herein or for any errors or omissions that may have been made. The publisher remains neutral with regard to jurisdictional claims in published maps and institutional affiliations. This Palgrave Macmillan imprint is published by the registered company Springer Nature Switzerland AG. The registered company address is: Gewerbestrasse 11, 6330 Cham, Switzerland

For Lora

Preface

When Thomas Robert Malthus published his Essay on Population in 1798, his main claim—that because population grows faster than the resources to support it, most people would remain stuck at a subsistence level of income—seemed very plausible, because for all of human history up to that point, most people lived on a subsistence level of income. A subsistence level of income is just sufficient for the population to maintain its current size. Any less and the population will have to shrink, whereas an income above subsistence would allow more people to survive and reproduce, causing population growth to push income back to the subsistence level. Population size was determined by the availability of resources to feed it, Malthus said. Malthus envisioned not just that most people would be poor, but that they would be living on the brink of starvation. While standards of living did rise as a result of the Industrial Revolution, until the twentieth century, the economic history of humankind was the search for enough calories to survive. In advanced economies in the twenty-first century, one of the biggest nutritional problems people face is obesity. This would have been unimaginable in Malthus’s day, when obesity was a sign of wealth, because only the wealthy could afford to overeat. One fact of economic history on which everyone will agree is that the world has grown immensely wealthier in the few hundred years since Malthus wrote. In 1800, the world’s population was about one billion. In the early twenty-first century it exceeds seven billion, and almost all of those seven-plus billion people have standards of living well above subsistence. But while everybody will agree that this substantial increase in vii

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economic well-being has occurred, there is much less agreement on why it has occurred. A one-word answer is: capitalism. This leaves open the question of why capitalism emerged in Western Europe in the seventeenth and eighteenth centuries, and looking ahead, whether capitalism is a stable economic system. Perhaps, as Karl Marx suggested, capitalism is just a temporary stage in the historical evolution of economic systems. Twentieth-century neoclassical economic theory, the type of analysis developed by Nobel laureates John R. Hicks and Paul Samuelson, describes the way a market economy works so that the forces of supply and demand lead an economy toward an equilibrium, but that theory assumes the basic institutions of capitalism. People engage in production and exchange based on well-defined property rights, but this system, which has produced such remarkable prosperity in a few centuries, relies on certain a set of institutions for its existence and continued survival. The present volume looks into the origin of those institutions. Many factors have contributed toward that remarkable prosperity, including technological advances and the development and widespread acceptance of Enlightenment ideas. This volume focuses on another factor that is not often clearly articulated: the institutions that convey political and economic power. An analysis of the institutional sources of power is not often undertaken by economists because power relationships fall outside the bounds of economics, as those bounds have been defined in the twentieth century. In the nineteenth century, economics and politics were studied within the same discipline of political economy, but the discipline divided into economics and political science around the beginning of the twentieth century. Twentieth-century neoclassical economics was remarkably institution-free. Toward the end of the twentieth century and into the twentyfirst, economists increasingly recognized the importance of institutions, but even then, the institutional origins of power were rarely the main focus of institutional analysis. This analysis looks at the evolution of those institutions over human history, ultimately showing how the evolution of institutions that allocated power laid the foundation for capitalism, and showing how those same institutions have evolved to threaten capitalism. While the book uses historical and anthropological evidence to understand the evolution of political and economic power, the subject matter in the book falls under the heading of political economy, not history or anthropology. It uses the contributions of scholars in those areas to provide an understanding of

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power relationships in political economy, supported by historical and anthropological evidence. The book puts forward some conjectures about power relationships which appear to be consistent with the historical development of economic and political institutions. A number of individuals have offered helpful comments as I have developed this book, including Nigel Ashford, Roger Congleton, Peter Leeson, Ennio Piano, and Dennis Ridley. I know that by mentioning a few names, I am leaving out many others. I also must give much credit to Lora, my wife and also an economist, for her support as I have worked on the book. Tallahassee, Florida

Randall G. Holcombe

Contents

1 The Concept of Power  1 2 Political Power 21 3 Economic Power 45 4 The Separation of Economic from Political Power 69 5 Power in Pre-Agricultural Societies 95 6 Power in Agrarian and Feudal Societies123 7 Institutions That Support Commerce and Industry149 8 Power in Commercial and Industrial Societies169 9 Politics as a Vocation193 10 The Social Contract219 11 Ideology, Politics, and Power239

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12 Clouds on the Horizon: The Recombination of Political and Economic Power255 13 Progress and Power281 References307 Index321

CHAPTER 1

The Concept of Power

In his presidential address to the American Economic Association, John Kenneth Galbraith said “[E]conomics divorced from consideration of the exercise of power is without meaning and certainly without relevance.”1 The main conclusion of this volume is that when economic and political power are held by the same people, the result is stagnation; when those who hold economic power are not the same people who hold political power, the result is progress. The remarkable increase in prosperity the world has seen since the beginning of the Industrial Revolution a few hundred years ago has been the result of the separation of economic from political power. For readers who are immediately inclined to agree with this conclusion, the policy challenge is to see how economic power can be separated from political power in cases where they are combined, and once separated, how they can remain separated. People seek power, so preventing people who have one type of power from using it to acquire another is not a trivial issue. Institutions must be in place to keep those types of power separated, and those institutions must be robust enough to resist attempts by the powerful to combine economic and political power. These institutional challenges cannot be addressed without understanding the concept of power. After considering the nature of power in abstract terms, this volume looks at the historical evolution of institutions of power. In pre-agricultural clan-based societies, power is undifferentiated. Powerful people in those societies have social power, which encompasses all types of power, so political and economic power are combined © The Author(s) 2020 R. G. Holcombe, Coordination, Cooperation, and Control, https://doi.org/10.1007/978-3-030-48667-9_1

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with all other types of power in those societies. In agricultural societies, political and economic power also tend to be held by the same people. Power in agrarian societies comes from control over land, which brings with it control over the people who work the land. Commerce and industry can facilitate the development of institutions that allow economic power to exist independently from political power because capital and entrepreneurship are more significant factors of production, and they are mobile so they can escape the abuse of power. The chapters that follow explain why economic and political power tend to be held by the same people, describe factors that can lead to their separation, and explain why stagnation occurs when they are combined and progress occurs when they are separated. People do not willingly give up the power they have, and economic power became separated from political power not by taking economic power away from the powerful, but through institutional innovations that allowed people without political power to accumulate economic power by creating more of it. A clear example of this is the economic power that was accumulated by American industrialists in the late 1800s. Rockefeller, Carnegie, Vanderbilt, and others gained economic power not by taking it away from those who previously held it, but by creating new economic power through the growth of the businesses they owned. This example suggests several important issues. One stems from the fact that an almost immediate response to the rise of those industrialists was an attempt by those with political power to control the economic power of those new industrialists, through regulation, antitrust laws, and taxation. Those with political power often use it to try to control and confiscate economic power. A second issue is that those with economic power have an incentive to use it to obtain political power, both to protect themselves from the predatory use of political power, and to further their business interests by using the force of government to protect their businesses from competitive pressures. One way those with economic power can keep their economic power from being subordinated to political power is to buy off those who have political power. Issues such as these suggest the value of undertaking a more thorough study of economic and political power.

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Types of Power Economic power is institutionalized control over resources. Political power is institutionalized control over the actions of people through threats of coercion. Political power provides its holders with the institutionalized ability to make people comply with their mandates because of the threat of sanctions to be imposed on those who do not comply. In early societies, and even in many societies up into modern times, there has been little difference between these two types of power. Control over resources was maintained by force, and was one component of the ability to force people to act as the powerful wanted. To control people’s actions meant to control their use of resources. In advanced societies, economic power and political power are more clearly distinct. One important question is how those two forms of power, nearly indistinguishable in earlier times, and even combined in some twenty-first century societies, became differentiated through the development of economic and political institutions that enabled them to be separated. Not all power fits neatly within these two categories. People may have social power, military power, religious power, and other types of power they can use to influence people, all of which are supported by institutions. The concepts of economic and political power, as used in this volume, always have an institutional foundation. An example of a robber threatening a victim with physical harm shows that not all uses of power are supported by institutions, and indeed, most societies have institutions that are designed to prevent robbery. Not all uses of force by one person against another are exercises of political power. But economic and political power—and all types of power considered in this volume—are supported by institutions. Another type of power, emphasized by John Kenneth Galbraith, is conditioned power, which is exercised by changing the beliefs of individuals so that they act as the holder of conditioned power wants because they find it the natural, proper, or right thing to do.2 It is not force, nor exchange, but a form of persuasion based on the beliefs of those subject to the power. Political power, religious power, social power, and all institutionalized power can be enhanced by conditioned power. All of these types of power interact with each other, and all will be considered in the chapters that follow. The volume focuses primarily on economic and political power, however, because when those who have economic power are not the same people who have political power, so

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they can use their economic power without being coerced by other types of power, economic progress results. The remarkable prosperity that the world has seen since the beginning of the Industrial Revolution is the result of that separation, something that has been underappreciated by economists and social scientists more generally. And, economic power has almost always been dominated by political power throughout the history of humankind.3 The causes of the economic progress that has occurred since the beginning of the Industrial Revolution cannot be completely understood without understanding how economic power was able to develop separately from political power. As modern social science has advanced, the study of the institutions of economic and political power has evolved from the nineteenth century study of political economy, where both were studied together, into the separate disciplines of economics and political science. There is value in examining economic and political power together, and studying their historical evolution lends insight into their current relationships. Even in the twenty-first century, when economic power and political power are obviously two different things, the two are intimately connected, as suggested by accusations of cronyism, corporatism, and corruption. Economic and political power have common origins, and an understanding of how they have evolved illuminates the institutional innovations that facilitated their separation, explains why economic progress depends on their separation, and emphasizes the evolving relationship between these two types of power in the twenty-first century.

The Concept of Power Kaushik Basu says “Power and influence are complex concepts, and it is quite likely that these concepts have so many facets and nuances that it will never be possible to capture them in a single definition.”4 The claim of the present volume is not that it offers the indisputably correct definitions of political and economic power, but that this way of defining those concepts provides useful insights for understanding some of their features. Political power is the ability to use the institutional framework to credibly threaten to impose costs on people so they will act as those with political power want them to act. Economic power is institutionalized control over resources. Control over resources, in all but rare cases in which people can maintain physical control of everything they own, requires an institutional framework that defines and enforces property rights. This institutional

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framework is created by those who have political power. Economic power can be protected by those who have political power, which is reflected in the concept of rule of law, but it can also be appropriated by those who have political power, when they use that power to forcibly transfer resources from others to themselves. There is a complex interrelationship between economic and political power. Defined this way, political power enables its holders to force people to act in ways they might otherwise choose not to. Coercion underlies political power. Economic power—the control over resources—does not enable its holders to force others, but rather gives them an opportunity to entice others to engage in voluntary exchange for their mutual benefit. Some readers will be skeptical, and the next two chapters are devoted to fleshing out more fully the properties of political and economic power. But because readers may not be used to thinking in these terms, it is important to clarify these important characteristics of the way economic and political power are defined here. Political power, exercised through formal institutions, is always based on force. If people would voluntarily pay for publicly provided goods and services, there would be no need to force them to pay taxes. If people would voluntarily act as regulations require, there would be no reason to impose penalties on people who do not comply. This is true no matter how much people agree with the activities of their governments. If the law requires that automobile drivers fasten their seatbelts when driving, the threat of force lies behind that requirement even for those who would always voluntarily choose to fasten their seatbelts, and even for those who agree that this is a desirable law.5 Political power is founded on the institutionalized ability to use force. In saying this, there is no judgment as to whether the exercise of political power is harmful or beneficial. A government’s use of force to prevent some people from assaulting others creates a more orderly society, based on the threat of force against those who do not comply with the government’s rules. Robert Dahl defines power in this way: “A has power over B to the extent that he can get B to do something that B would not otherwise do.”6 This corresponds with this chapter’s concept of political power, but not economic power. Two parties engage in an exchange because both want to do it. Nobody is forced. Both parties have control over resources the other party wants in exchange, and they both agree that they benefit from the exchange. When separated from political power, economic power—control over resources—only gives its holders the ability to entice

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others to engage in voluntary exchanges. Kenneth Boulding says “power is the ability to get what one wants.”7 People who have political power can threaten the use of force to get what they want; people who have economic power can entice others to engage in voluntary exchange to get what they want. In a manner similar to Dahl, Steven Lukes defines power by saying that “A exercises power over B when A affects B in a manner contrary to B’s interests.”8 One difference between Dahl’s and Lukes’s definitions is that Lukes is more clear in noting that the person who exercises power does so in a manner that adversely affects the person who is subject to power. One might quibble by saying that when the robber says “Your money or your life,” it is in your interest to give up the money, but one can see that the encounter is contrary to the victim’s interest, as opposed to a voluntary exchange in which both parties agree to something that they would not otherwise do were it not for receiving compensation. One also might also quibble by saying that it is in everyone’s interests to obey certain laws—even those who find it in their narrow interests to break them. But the fact that coercion stands behind the enforcement of laws indicates that obeying them is likely to be against individuals’ interests, narrowly defined. People like for others to be constrained by laws—at least the ones that produce an orderly society—but often they would prefer to be unconstrained themselves. They “agree” to pay taxes with the idea that everybody is forced to pay, even when they want the goods and services those taxes finance, but the “agreement” is based on coercion— the idea that everyone is forced to pay. Readers might question the assertion that economic power differs from political power in this way on several grounds. First, some firms have market power that leaves individuals with little choice other than to deal with them. Still, in the absence of political power, nobody is forced to transact with firms, even if they have substantial market power. For the skeptical reader, the distinction between economic power as defined here—control over resources—and market power is discussed further in Chap. 3. Market power is not economic power, as economic power is defined here. Even firms with monopoly power cannot compel people to transact with them unless they also have political power. This leads to a second reason for skepticism: those with economic power often can use their power to obtain political power, which does enable those with economic power to force people to deal with them. Consider two examples. First, most electric utilities in the United States

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are privately owned firms that are granted monopoly franchises from government, leaving those monopolies as the only suppliers of electricity. Two observations on this: one is that people are still not forced to buy from the monopoly, if they choose to go without electricity (admittedly, not a desirable choice); a second is that it is political power, not economic power, that conveys the monopoly.9 There is good reason to be uneasy about allowing economic and political power to combine in this way. A second example is the requirement by the United States government that motor fuels contain 10 percent ethanol. People who want motor fuel are forced to buy ethanol even if they would rather not. But again, buyers are forced into this transaction due to political power, not the economic power of ethanol producers. Adolf Berle observes, “Power is invariably personal. There is no such thing as ‘class power,’ elite power,’ or group power,’ though classes, elites, and groups may assist processes of organization by which power is lodged in individuals.”10 Some individuals, as Dahl describes, are able to get people to do things they would not otherwise do, and some individuals have control over resources. Groups do not seek and maintain power; individuals do, although they use their status as group members to facilitate their accumulation of power. Berle reiterates, “Power is invariably personal. However attained, it can be exercised only by the decision and act of an individual.”11 Berle goes on to say, “When one speaks of the power of a collective group—a state, a corporation, a political party, a trade union— the phrase is short-hand. It conceals the fact that the group had achieved an organization, had conferred decision-making power upon, or at least its exercise by, certain individuals formally or informally recognized as power holders.”12 Berle is observing that the power individuals hold because of their group membership is institutionalized power. Kenneth Boulding, categorizing different types of power, says “I distinguish three major categories, which I have called threat power, economic power, and integrative power—the stick, the carrot, and the hug. These are closely related to another tripartite division: the power to destroy, the power to produce and exchange, and the power to integrate, that is, the power to create such relationships as love, respect, friendship, legitimacy, and so on.”13 Boulding’s first two categories correspond closely with the way this volume views political and economic power. Political power is threat power, the power to destroy. Economic power is control over resources, the power to produce and exchange. Economic power entices people to recognize it, rather than threatening them to obey it.

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Boulding emphasizes the importance of integrative power, which suggests the power to persuade along the lines of what Galbraith called conditioned power. This integrative power is beyond a doubt an important element in obtaining and maintaining both political and economic power. Political power cannot be maintained without a group of adherents who stand ready to defend those who have it, and to support its legitimacy. Economic power cannot be maintained unless people can be persuaded that those who hold it have a legitimate right to control the resources they claim. This brief introduction is not intended to convince skeptical readers— that will be attempted in the following two chapters—but rather to clarify what is meant by political and economic power. As Basu noted, the concept of power is elusive enough that there may not be a single definition of it that will satisfy everyone. But defining economic and political power as is done here provides some insights into their evolution, into the mechanisms that have allowed their separation, and toward an understanding about why that separation is important for human progress.

Institutions and Power Both political and economic power are exercised within formal institutions. The role of institutions is slightly different for these two types of power. Political power is always exercised within socially recognized institutions. Economic power is almost always maintained through institutions, though to a limited degree might be able to exist without them. Political power is the institutionalized ability to use force to get others to comply with the demands of the holder of the power. As noted earlier, a robber might forcibly take someone’s property, but this use of the robber’s power is not political power because it is not institutionalized. Indeed, institutions generally are designed to prevent robbery, so not all uses of force by one person against another qualify as the use of political power. This does not deny that there may be ambiguities as to where to draw the line. For example, if a Mafia sets up shop in a location and threatens local businesses with harm unless they pay up, is this institutionalized power or is it robbery? If a Mafia does this, how are its actions different from a government that threatens to imprison those who do not pay their taxes? One way to draw the line would be to examine whether there was a general recognition that a payment was expected, with generally

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recognized sanctions if the payment was not made. If so, that would appear to be institutionalized and therefore would constitute political power. This is an interesting question, but one that does not matter much for the analysis that follows, because the political power that is important for the analysis below is exercised by governments, and there is little debate that governments wield institutionalized power. Economic power is (almost always) institutionalized control over resources. People could protect a very limited amount of resources for their own use without any institutionalized reinforcement, but beyond that—and beyond just personal use of resources—some institutions are required. If one wants to engage in exchange, both parties must recognize that they have ownership rights and the right to transfer ownership. Some institutions, however rudimentary, would be necessary to define ownership rights and the right to exchange ownership rights. Beyond resources that individuals can keep under their own physical control, institutions are necessary to maintain and protect economic power. Institutions are necessary to keep others from stealing resources individuals own, but even more fundamentally, institutions define what individuals can own and what they can do with what they own. Private versus communal property is defined by institutions, and limits on what people can do with resources under their control all are defined by institutions. Zoning laws provide an example of institutional limits on how people can use their property; they are but one example of the regulatory environment in which people may be required to use their property in some ways and prohibited from using it in others. The definition and enforcement of rights to intellectual property opens up deeper questions about what people are entitled to own and exchange. Control over resources is a more complex concept than at first it appears. One complication in considering political and economic power is that economic power by itself often is insufficient to exclude others from resources people control. Political power does that. Without some outside enforcement, people might trespass on the property of others, or might steal the property of others. While people can hire security services on their own, government institutions are designed to discourage these actions. So, political power is necessary to protect economic power in most cases. In twenty-first century market economies, those two types of power are separated, so that someone’s control over an automobile, or a house, or a factory, constitutes economic power, but it exists only because political power stands ready to enforce that claim. For the most part, the

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control owners exercise over their automobiles, homes, businesses, and ideas is maintained only because those who have political power threaten the use of force against people who would violate those ownership rights. One question that presents itself is why those with political power use it to protect the economic power of those who have limited political power. Another question is how political power and economic power can remain separated when those with political power can use it to take control of resources by force from those who have economic power. Indeed, much human history recounts those who have a comparative advantage in the use of force taking resources from those who ultimately were unable to defend their resources, and lost control over them.

Consent Versus Coercion One of the premises on which some of this volume’s arguments are built is that political power is based on coercion while economic power is exercised through consent between transacting parties. Kaushik Basu gives an example to suggest that it is not always easy to differentiate consensual from coercive interactions among people.14 Suppose that in a feudal society, a feudal lord commands a serf to do something, saying that if the serf does not do it, the lord will not give the serf any food. This appears to be coercion, but it might also be viewed another way: the lord is offering to exchange food for the serf’s doing what the lord asks. The reason this example appears ambiguous is that the person who holds economic power also holds political power: the lord has both. Basu’s example is complicated by the broader institutional structure of feudalism. If serfs had the option of leaving their current lord to deal with another, this would look more like an economic transaction, which the serf would be free to refuse, but because serfs are bound to their lords, feudal lords are able to exercise political power over their serfs.15 One way to identify coercion is that if two people have no connections with each other, and one person shows up to make an offer to the other, would one of those people be worse off as a result of their interaction? If so, the relationship is coercive. If a thief shows up to make an offer to a victim—your money or your life—the victim is worse off than if they had no interaction, signifying coercion. If a vendor shows up to a customer and offers the customer the option to make a transaction which the customer could turn down, the customer is no worse off whether or not the transaction takes place, so there is no coercion. The complicating factor in

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Basu’s serfdom example is that the serf cannot survive outside the protection of the services of the lord, giving the lord both economic and political power over the serf. The serf would be better off had the lord not made the offer, so the interaction is coercive.16 Consider an extreme example of someone lost in a desert and dying of thirst, when another person comes by with water and offers to sell the lost and thirsty individual a gallon of water for a million dollars. This seems unethical, and it appears that the person with the water is taking advantage of a monopoly position with someone in desperate circumstances. But looking at coercion as described above, the lost individual is no worse off than had the person with the water not come by, so while the person with the water might be condemned for unethical and exploitative behavior, no coercion is involved because the offer can always be declined, and the thirsty individual is no worse off because of the encounter with the person offering to sell water. What is at issue is not whether the person with the water is acting ethically, but whether that person is acting coercively. The person with the water in this example has an extreme amount of monopoly power—control over resources—but no political power to force an exchange. Is this the best way to view coercion? Despite the unrealistic example, if the person with the water is its rightful owner, institutions that define property rights would imply that it would be coercive to force the owner of the water to give it up under conditions to which he did not agree. However, this conclusion brings with it the assumption that there are institutions that define property rights, and that assign property rights to the person who has the water. What if prevailing institutions specified that water is owned in common, requiring people with the water to share it? What if prevailing institutions set a maximum price that people could charge for water? Taxi fares are often regulated this way, specifying the price taxi services can charge. Many other prices are similarly regulated, specifying minimum or maximum allowable charges. This is coercive because it restricts what people who control resources can do with them. It stands in the way of mutually agreeable voluntary exchange. A minimum wage law, for example, prohibits voluntary transactions of labor for wages at a price below the specified minimum. It prevents low-skilled workers from exercising their economic power at a mutually agreeable price. The minimum wage law shows how political power can be used to prevent people from using their economic power—in this case even though those who want to use their economic power have very little of it. All regulations are based on force.

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They either require people to do things they would otherwise choose not to, or prohibit people from doing things they otherwise would choose to do. Basu suggests that there are cases in which it is difficult to differentiate consensual from coercive interactions among individuals, and there is no need to dispute this. In what follows, interactions are considered consensual if parties to them are no worse off than had the interaction not occurred, and are coercive if (at least) one of the parties would be better off had the interaction not occurred. Galbraith distinguishes condign and compensatory power. “Condign power threatens the individual with something physically or emotionally painful enough so that he forgoes the pursuit of his own will or preference in order to avoid it. Compensatory power offers the individual a reward or payment sufficiently advantageous or agreeable so that he (or she) forgoes the pursuit of his own preference to seek the reward instead. In less abstract language, condign power wins submission by the promise or reality of punishment; compensatory power wins submission by the promise or reality of benefit.”17 Condign power thus corresponds with cases in which one party would be better off had the interaction not occurred, whereas compensatory power corresponds with interactions in which both individuals choose to participate. Condign power is coercive, and is descriptive of the use of political power; compensatory power is not coercive, and is descriptive of the use of economic power. Galbraith offers as an example of compensatory power employees who agree to take a wage or salary in exchange for pursuing the goals of the employer rather than the employees’ own preferences. But he also notes that people submit to both types of power because they think it is the proper thing to do. People obey laws because they think they should, and take jobs because they want to lead productive lives. Echoing the ambiguities suggested by Basu, Galbraith says, “The problem of understanding power, as always, is the absence of pure cases.”18 What about taxes that are used to provide public goods? People may value the public goods more than the taxes they pay to finance them, but the taxes are still coercive because people are threatened with harm if they do not pay the taxes the government says are due. Even if they are better off paying taxes and consuming public goods, many people might choose to be free riders and not pay taxes if they had the choice. Yes, people might be worse off as a result, but all this shows is that coercion can sometimes be socially beneficial, which one would hope to be the case for all laws. But

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saying people are better off with institutions that coerce them is not the same as saying that coercion is really consent. People coerce others when they threaten to impose costs on those others if they do not comply with the demands of the people doing the coercing. People engage in consensual relationships when they offer benefits to others, which can be accepted or declined.

Power and Persuasion Beyond a doubt, all types of power are more effectively used when people are persuaded that their best course of action is to do what the holders of power desire. Being able to persuade people this way is what Galbraith calls conditioned power.19 The use of the power of persuasion is most clear in the case of social power, in which sanctions for nonconformance are informal. Disapproval of family and friends and even strangers for rude or obnoxious behavior are examples. In some cases people may have an expectation that individuals will volunteer toward a group effort, whether it is helping someone who has suffered a misfortune or contributing something toward a group outing. People are expected to comply with social norms, and are persuaded to so that they can avoid the disapproval of those with social power. The power of persuasion is most effective in small groups where all members know each other and want to avoid disapproval. In larger groups, social norms may have to be enforced legally. People risk social disapproval for littering, for example, but sometimes disapproval of strangers is an insufficient deterrent, so formal rules along with formal sanctions may be required. The point is that those who hold social power are able to exercise it only because those over whom they wield that power are persuaded that they should act in ways that meet with the approval of the holders of power. Religious power is another example of power based on persuasion. Religious authorities lay out rules and people comply because they are persuaded that they will be punished, perhaps even in an afterlife, by an abstract deity if they violate the rules of their religion. Religious power may be reinforced by social power in that people do not want others who share their religion to see them violate religious doctrine. Again, the key point is that religious power is effective because people are persuaded that they should yield to it.

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Political power also rests heavily on persuasion. As previously noted, political power is based on the threat of force against those who do not comply, but those who hold political power will rarely be in a position to force everyone to comply. The threat of force intimidates most people into compliance, but the actual use of force expends resources, so those with political power have an incentive to convince people that they should comply voluntarily with their demands. While governments could not collect much in the way of taxes without threatening those who do not comply with tax laws, if those with political power can persuade taxpayers that it is their duty to pay, and that they should appreciate the process by which those taxes finance government goods and services they consume, enforcing compliance will be less costly and resistance to government mandates—whether taxation or regulation—will be lower. People might be persuaded by being bribed. As Bertrand de Jouvenel notes, “The king employs a considerable part of the tribute in grants of largesse, bestowed by way of banquets or presents, to those whose support consolidates his authority, whereas their defection would endanger it. Do we not see modern governments as well using the public funds to endow social groups or classes, whose votes they are anxious to secure? Today the name is different, and it is called the redistribution of incomes by taxation.”20 Support can be bought, but the forces of propaganda and patriotism can both solidify power and leave more of the benefits of power in the hands of those who hold it. Those with political power use a combination of propaganda and patriotism to persuade people to yield to their demands. The next chapter fleshes out these ideas more fully. Again, the point is that political power, which is based on the threat of force, is greatly facilitated by persuading people that they should comply with the demands of those who hold it, so that the threat of force is sufficient and actual force does not have to be used. Economic power also is enhanced through persuasion. While people engage in economic exchange only if they voluntarily agree to do so, sellers often try to encourage buyers by persuading them of the merits of their wares. Some argue that advertising subliminally creates desires for things people would not otherwise want,21 but regardless of whether those who have economic power use it to take advantage of others,22 it is clear that advertising is an example of people using persuasion to enhance their economic power.

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Even military power, which obviously is based on force, relies heavily on persuasion. The actual use of force is costly, so military power is a more effective method of control when the threat of force is sufficient to convince those subject to military power to submit. Military conflict imposes costs on both the victors and the losers, so military power is most effective when the display of potential force is sufficient to accomplish the goals of those who hold it. If military power can intimidate those subject to it into compliance, persuasion can take the place of costly physical conflict. All power is more effective when those who hold power can persuade others to yield to it, whether that persuasion involves convincing buyers to make a purchase, convincing citizens to be law-abiding, convincing adversaries that armed conflict would be disadvantageous to them, or convincing parishioners to follow Church rules.

The Desire for Power People desire power for instrumental reasons. It can help them achieve their goals. But people also enjoy having power for its own sake. Power provides utility to its holders beyond just its instrumental value. John Kenneth Galbraith says, “In all societies, from the most primitive to the ostensibly most civilized, the exercise of power is profoundly enjoyed. … power is pursued not only for the service it renders to personal interests, values, or social perceptions, but also for its own sake, for the emotional and material rewards inherent in its possession and exercise.”23 Bertrand de Jouvenel remarks, “ “Power… can only maintain the ascendancy necessary to it by the intense and brutal love which the rulers have for their authority.”24 Adam Smith observed, “The pride of man makes him love to domineer, and nothing mortifies him so much as to be obliged to condescend to persuade his inferiors.”25 Max Weber says “the career of politics grants a feeling of power. The knowledge of influencing men, of participating in power over them, and above all, the feeling of holding in one’s hands a nerve fiber of historically important events can elevate the professional politician above everyday routine even when he is placed in formally modest positions.”26 People want to hold power because it can help them accomplish their goals, but the acquisition of power is also a goal in itself. Bertrand Russell, in his Nobel lecture “What Desires Are Politically Important?” offered these insights on the desire for power.27 “Man differs from other animals in one very important respect, and that is that he has

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some desires which are, so to speak, infinite, which can never be fully gratified.” Russell lists acquisitiveness, rivalry, vanity, and love of power as four examples. Regarding rivalry, Russell says, “The world would be a happier place than it is if acquisitiveness were always stronger than rivalry. But in fact, a great many men will cheerfully face impoverishment if they can thereby secure complete ruin for their rivals.” Just as rivalry often trumps acquisitiveness, the quest for power often trumps vanity. “Power, like vanity, is insatiable. Nothing short of omnipotence could satisfy it completely. And as it is especially the vice of energetic men, the causal efficacy of love of power is out of all proportion to its frequency. It is, indeed, by far the strongest motive in the lives of important men. … Love of power is greatly increased by the experience of power, and this applies to petty power as well as to that of potentates.” The implication of Russell’s observation, related to political and economic power, is that desire for political power will dominate the desire for economic power. He says that people are willing to impoverish themselves to crush their rivals, and that the quest for power is “the strongest motive in the lives of important men,” but that this quest for power “applies to petty power as well as to that of potentates.” As Smith said, “the pride of man makes him love to domineer.” Russell continues, “In any autocratic regime, the holders of power become increasingly tyrannical with experience of the delights that power can afford. Since power over human beings is shown in making them do what they would rather not do, the man who is actuated by love of power is more apt to inflict pain than to permit pleasure.” If Russell’s observations are accurate, there is good reason to take Galbraith’s admonition that economics cannot be fully understood without considering the effects of power—both the political power of those who define and enforce economic rights, and the economic power of those who have control over resources.

Coordination, Cooperation, and Control Thomas Hobbes argued the merits of a government that defined and enforced rules of social interaction, saying that without it people would live in an anarchy where life would be solitary, poor, nasty, brutish, and short.28 Hobbes was not quite accurate on at least one point: humans have always been social creatures and have always lived and worked in groups. Those groups all have had institutional structures that have allowed them

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to interact together productively. Those institutions have varied over time, and from place to place, but they have all served the purpose of coordinating the behaviors of group members. Some institutional structures are more productive than others. There was a great debate in the twentieth century about whether central economic planning was a more efficient method for coordinating the economic activities of individuals than allocating resources through markets.29 This debate points toward the main issue of this volume: the combination of economic and political power. With central economic planning, economic power is exercised by those who have political power; in market economies the two types of power are separated. One question is: what are the implications of using these two different methods of coordinating the activities of individuals? The collapse of the centrally planned economies at the end of the twentieth century points toward the advantages of decentralized markets over central economic planning. Markets work on the basis of cooperation between buyers and sellers. While the market process is often referred to as competition, competitors, defined in this way, do not interact directly with each other. Rather, they are competing for customers; that is, they are competing to entice individuals to cooperate with them to make voluntary transactions. Employers cooperate with employees, offering them wages in exchange for their labor, and businesses cooperate with customers, offering them goods and services in exchange for payment. The transactions are voluntary, and in markets people interact with others only if they choose to. Market activity is cooperative behavior. Governments operate by control, demanding that those subject to their power act as they command, or bear costs imposed on them by government institutions. People are required to pay taxes and abide by regulations, and are threatened with penalties if they do not. As already noted, this is not necessarily undesirable. Everybody can benefit from a society in which people obey laws and in which government provides public goods. Cooperation and control are two different principles which can guide individuals as they coordinate their interactions with each other, and societies have elements of each. In all societies, individuals interact with each other based on power. Economic activity is based on control over resources—economic power— and political power gives some people the authority to mandate the activities of others, relying on the threat of force should people choose not to comply. Control over resources—economic power—does not give some

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people control over others, whereas political power does give some individuals control over others through the threat of force to coerce others to comply. This discussion of the concept of power reveals that there are many ways of looking at power, and many different types of power. Thus, the definitions of power used here are not offered with any suggestion that other definitions are wrong, or that there are not other productive ways to analyze power. And while recognizing many types of power, this volume focuses on political and economic power because of its thesis that prosperity and progress result when those two types of power are held by different groups of individuals. If modern prosperity rests on the separation of economic from political power, a major question is how they can be separated when they are joined, and how they can remain separated when they are separated. Political power, which is built on the ability to coerce others into submission, tends to dominate economic power, which is gained only through mutual agreement. There is no need to persuade people when they can be forced. Looking at the historical evolution of power, economic power has separated from political power when advances in economic institutions have enabled the creation of new economic power which slips outside the control of pre-existing political institutions. With this introduction, the next two chapters look more specifically at economic and political power.

Notes 1. John Kenneth Galbraith, The Anatomy of Power (Boston: Houghton Mifflin Company, 1983), p. xiii. In this quotation, Galbraith is summarizing the message of his American Economic Association presidential address, “Power and the Useful Economist,” American Economic Review 63, no. 1 (March 1973), pp. 1–11. 2. Galbraith, The Anatomy of Power, ch. 3. 3. Other types of power have imposed constraints on economic power. For example, during the Middle Ages the doctrines of the Church which disapproved of usury and established a concept of just price limited the exercise of economic power. Similarly, Galbraith’s concept of conditioned power can constrain economic power. 4. Kaushik Basu, Prelude to Political Economy: A Study of the Social and Political Foundations of Economics. (Oxford: Oxford University Press, 2000), p. 164.

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5. This idea is emphasized by Leland B. Yeager, “Rights, Contract, and Utility in Policy Espousal,” Cato Journal 5, no. 1 (Summer 1985), pp. 259–294, and Ethics as a Social Science: The Moral Philosophy of Social Cooperation, (Cheltenham, UK: Edward Elgar, 2001). 6. Robert A.  Dahl, “The Concept of Power,” Behavioral Science 2, no. 3 (1957), pp. 202–203. 7. Kenneth E.  Boulding, Three Faces of Power, (Newbury Park, CA: Sage, 1989), p. 15. 8. Steven Lukes, Power: A Radical View (London: Macmillan, 1974), p. 34. 9. While there is some thought among economists that the production of electricity is a natural monopoly in which market forces ultimately lead to a single firm in the industry, Gregg A.  Jarrell, “The Demand for State Regulation of the Electric Utility Industry,” Journal of Law & Economics 21, no. 2 (October 1978), pp.  269–295, shows that the electric utility monopolies were the result of competing utilities asking government to allow them to combine in exchange for government regulation. More generally, it is difficult to think of any monopoly that is not either the result of some government protection, or the government itself. 10. Adolf A. Berle, Power (New York: Harcourt, Brace & World, 1967), p. 37. 11. Berle, Power, p. 62. 12. Berle, Power, p. 63. Berle uses this individualistic view of power to argue against a concept such as “ruling class,” which suggests that power rests with a group rather than with individuals. Individuals can be members of a ruling class, but it is the individuals, not the class, who hold the power. 13. Boulding, Three Faces of Power, 1989), p. 10. 14. Basu, Prelude to Political Economy, pp. 134–135. 15. Another complication of this example is that serfs actually produce the food that both they and their lords eat. If the lord were unable to exercise political power over the serf, it would be the serf who could threaten to withhold food from the lord. 16. The assumption is that the serf is bound to the lord and has no alternative. In actual feudal systems this may not be the case, and serfs often could migrate to cities, but this is a complication beyond Basu’s example, which assumes the serf is bound to the lord. 17. Galbraith, The Anatomy of Power, p. 14. 18. Galbraith, The Anatomy of Power, p. 23. 19. Galbraith, The Anatomy of Power, ch. 3. 20. Bernard de Jouvenel, On Power: Its Nature, and the History of Its Growth (New York: The Viking Press, 1949), p. 115. 21. See, for examples, Vance Packard, The Hidden Persuaders (New York: David McKay, 1957), and John Kenneth Galbraith, The Affluent Society (Boston: Houghton Mifflin Company, 1958).

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22. For a counterargument to the idea that these wants created by advertisers lower the welfare of those who buy things to satisfy those wants, see Friedrich A.  Hayek, “The Non Sequitur of the ‘Dependence Effect,’” Southern Economic Journal 27, no. 4 (April 1961), pp. 346–348. 23. Galbraith, The Anatomy of Power, p. 10. 24. de Jouvenel, On Power, p. 120. 25. Adam Smith, An Inquiry Into the Nature and Causes of the Wealth of Nations (New York: Modern Library, 1937 [orig. 1776]) p. 365. 26. Max Weber, “Politics as a Vocation.” In H.H. Gerth and C. Wright Mills, eds., From Max Weber: Essays in Sociology (New York: Oxford University Press, 1946), p. 115. 27. All quotations from Russell were found at www.nobelprize.org/prizes/ literature/1950/russell/lecture 28. Thomas Hobbes, Leviathan, (New York: E.P. Dutton, 1950 [orig. 1651]). 29. On the side of central economic planning, see Oskar Lange and Fred M.  Taylor, On the Economic Theory of Socialism (Minneapolis, MN: University of Minnesota Press, 1938) and Abba Lerner, The Economics of Control: Principles of Welfare Economics (New York: Macmillan, 1946). The debate was initiated with the publication of Ludwig von Mises, Socialism (New Haven, CT: Yale University Press, 1951), originally published in German in 1922, which argued that rational economic planning could not take place without markets and market prices. See Lawrence H.  White, The Clash of Economic Ideas: The Great Policy Debates and Experiments of the Last Hundred Years (Cambridge: Cambridge University Press, 2012) for a discussion of this debate.

CHAPTER 2

Political Power

Political power, the institutionalized ability to control people’s behavior by using the threat of force against those who do not comply, is exercised primarily through the institutions of government. Bertrand de Jouvenel observes, “The differences between forms of government in different societies and the changes of form within the same society are but the accidents, to borrow the terminology of philosophy, of the same essence. The essence is power.”1 There are other institutions outside of government that can convey political power to individuals, some of which are discussed in this chapter and some of which will be considered in later chapters (Chap. 5 in particular). But consistent with the way political power is commonly perceived in modern societies, it resides mainly with those who are governmental decision-makers. Political power is institutionalized. As noted in the previous chapter, a person who robs another at gunpoint uses the threat of force to get the victim to comply, but robbery is not an example of the use of political power because it is not supported by institutions. Consider the statement that taxation is theft. One difference between taxation and theft is that taxation is institutionalized. In all societies, there are institutions designed to limit theft, although institutions that define property rights, and therefore what can be stolen, vary from one society to another. Robbery is not an example of the exercise of political power. Taxation is. This does not imply that taxation is in any way better or worse than theft; just that taxation is not theft. © The Author(s) 2020 R. G. Holcombe, Coordination, Cooperation, and Control, https://doi.org/10.1007/978-3-030-48667-9_2

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Because political power is institutionalized, it emanates from the socially ascribed characteristics of the people who have it. Douglass North, John Joseph Wallis, and Barry Weingast note that people have both individual characteristics, which are independent of institutions, and socially ascribed characteristics, which are the characteristics they have because of positions they hold.2 Someone might be tall, handsome, and intelligent, which are personal characteristics, but might also be a purchasing agent, or a bank teller, a tax collector, or a legislator, which are socially ascribed characteristics. People exercise political power based on their socially ascribed characteristics. Legislators can pass legislation, and police can arrest people, based on their socially ascribed characteristics, independent of their personal characteristics. It is certainly the case that people can gain political power because of their personal characteristics. Charismatic individuals can use their personalities to convince others to give them political power. Adolf Hitler was democratically elected, and from there was able to use his personal characteristics to gain additional political power. Fidel Castro seized political power through force, but in both Castro’s and Hitler’s cases they were able to take control of institutions to give themselves institutionalized power over others. They were not just powerful by virtue of the positions they held. They were able to redesign institutions so that they rose to the socially ascribed positions of Fuehrer or dictator. Their personal characteristics gave them power beyond the socially ascribed characteristics of the positions they held, and at the same time enhanced the socially ascribed power of the positions they officially held. Personal characteristics can enable people to use political power more effectively, and can enable people to gain more of it, but the political power they exercise is institutionalized and based on their socially ascribed characteristics, even when those socially ascribed characteristics came about because of their personal characteristics. To varying degrees, people’s personal characteristics can determine the extent to which socially ascribed characteristics of political power can be exercised. In the United States, some presidents, such as Franklin Roosevelt, were able to use the socially ascribed position of president to exercise more power than others, such as Jimmy Carter. Hitler, Stalin, Mao, and Putin are examples of people who were effective at using their personal characteristics to enhance the political power of their socially ascribed characteristics. Political power comes from the socially ascribed characteristics of a

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person’s position, but personal characteristics can influence the degree to which institutional power can be exercised. Because political power is institutionalized, and emanates from the socially ascribed characteristics of a person’s position, the political power can last beyond the current holder of that power. It did not, in Hitler’s case, but it did in Roosevelt’s. One consequence is that because of Roosevelt’s ability to increase the political power held by the president, all subsequent presidents have had more political power than if Roosevelt had not been so effective at enhancing the political power of the presidency. The institutionalized character of political power means that people can acquire political power that has been built up by others. The institutionalization of political power can give people much more political power than they could acquire on their own. A person who is elected to the legislature, or hired to join a police force, acquires the power of that position, which was established by those who preceded the current occupants in those positions.

The Hierarchy of Political Power Because political power gives some individuals the ability to control the behavior of others, political power is inherently hierarchical. Some people have political power over others; others are subject to the power of those above them in the hierarchy. This is consistent with Robert Dahl’s concept of power, which is “A has power over B to the extent that he can get B to do something that B would not otherwise do.”3 Thus, A stands above B in the power hierarchy. Members of a parliament or legislature can use their political power to pass laws that are binding on everyone—or, selectively binding on some people—using the threat of force to coerce those subject to political power into complying with their mandates. Police officers can use their socially ascribed status to use force against citizens who may be in violation of the law. Building inspectors can use their socially ascribed status to halt construction projects if they deem that the projects are not in conformance with building codes. This institutionalized power can be abused. Police officers can use force against citizens by claiming they are suspected of violating the law, even if in fact they are not, and can even use institutionally justified force if the officers know they are not. Similarly, building inspectors can use their power to halt construction projects for political reasons, even if they do not know of any violations associated with the projects they are stopping.

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Governments are often defined as those organizations that are recognized as having the institutionalized right to use force to carry out their operations. They engage in institutionalized coercion to enforce their mandates.4 Legislators, police, building inspectors all use the threat of force, institutionalized through government, to exercise political power over others. One can see, within governmental organizations, the hierarchical nature of political power. The executive branch of the United States government provides an excellent example. The president is at the top of the hierarchy, with members of the cabinet (Secretary of State, Secretary of Defense, and so on) next in the hierarchy, with under-secretaries below them, and so forth on down. People higher in the hierarchy have more political power than those below, who are supposed to follow the orders of those above. People at higher up in the hierarchy have more political power than those below them, but those at the top do not necessarily exercise political power over those below them. They exercise their political power over those outside the hierarchy. The police chief is above the police officer in the hierarchy, so the police officer nominally follows the orders of the chief, although in any position there is not complete oversight, which allows underlings some discretion. But the reason the police chief does not exercise political power over the police officer is that the officer can quit that job if the officer becomes dissatisfied. The police officer follows the orders of the chief only as long as the officer voluntarily agrees to stay in that job. The president of the United States stands above all others in the hierarchy in the executive branch of government, but the president does not exercise political power over those below, because they can quit if they do not want to follow the president’s mandates. Those in the executive branch exercise power over citizens outside the executive branch chain of command. Those in the Federal Trade Commission can bring charges against businesses who they accuse of violating antitrust laws, for example, and can use the powers of government to enforce their mandates. The American Founders, seeing the dangers of unchecked political power, designed a system of checks and balances to control political power. In this example, antitrust laws are passed by the legislative branch, enforced by the executive branch, but with judicial branch oversight in cases where those accused of violations of the law dispute the accusations. Thus, there must be some degree of agreement among the legislative, executive, and judicial branches to use political power. Saying, in shorthand, that the

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government uses force often describes a more complicated set of political institutions in which that force ultimately requires the cooperative effort of several individuals with political power for that political power to be exercised. The government does not have power. People who have positions within the government have power. There are different and often non-intersecting hierarchies of political power. Police officers can use institutionalized coercion against citizens who are suspected of violating laws, and legislators can use their political power to pass laws, both using the institutionalized threat of force to back up their actions. Building inspectors can enforce building codes, but not take action against those suspected of assault; meanwhile, police do not have the power to enforce building codes. Political power—the institutionalized ability to control people’s behavior, backed up by the threat of force—does not normally give those who hold it the unlimited ability to compel people to do anything. The political power of legislators is constitutionally limited, and the political power of police officers and building inspectors is limited by institutions that specify their scope of authority. One can imagine a system in which a dictator seizes absolute power, and those lower down in the hierarchy only carry out the mandates of those above them, but more typically, everyone in the process holds political power that is institutionally constrained to be exercised only in certain ways. There are checks and balances that constrain the ability of those with political power from exercising it indiscriminately. Again thinking about the structure of the United States government, it was constitutionally designed so that the powers of the legislative, executive, and judicial branches all check and balance each other. While some police officers, and some building inspectors, may abuse their power, there are institutional checks that threaten to punish those who do. Political power is hierarchical, but often there are multiple hierarchies. In the United States, the legislative, executive, and judicial branches of government are different hierarchies which are designed so that the power within one hierarchy can be used to check and balance the power of others. Those higher in the hierarchy have limited power over those below as long as those below are free to leave. The real exercise of power takes place when those within the hierarchy of political power impose mandates on those outside—those who have political power require compliance by those who do not. Adolf Berle says, “Power is vested in holders by delegation from the supporting institutions. The will of the power holder is transmitted and

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executed by delegation to subordinates.”5 Berle’s observation reinforces two aspects of political power. First, it is institutionalized, and second, it is hierarchical. The hierarchical nature of political power differentiates it from economic power. While political power is hierarchical—some people have power over others—the same is not true of economic power. Exchange that occurs in the marketplace is the result of voluntary transactions of both parties: it is the product of agreement rather than command. This distinction, noted for now, is discussed further in the following chapter.

Political Power Is Segmented and Often Dispersed Multiple hierarchies in the structure of political power means that someone at the top of one hierarchy does not necessarily hold power over someone in another hierarchy. But political power is also segmented so that people who hold it may be able to use the threat of force to coerce people to do some things but not others. People employed by the Securities and Exchange Commission can use their political power to pursue people for securities fraud, but not for traffic violations. People employed by the Environmental Protection Agency can prevent people from engaging in development activity on their own land if it threatens the environment in ways defined by law, but cannot use their political power to keep potentially dangerous drugs from being marketed. Political power gives those who hold it control over some aspects of people’s actions, but often not all aspects. This division of power is often deliberately designed into institutions to provide checks and balances to discourage people from abusing that power. But it can be overridden if someone at the top of the hierarchy—a Hitler or a Stalin—is able to claim power over all hierarchies. Another feature of checks and balances is that they can require the cooperation of several positions of power to actually mobilize the force of government. The legislature can pass a law, but requires outside police powers to enforce it, and often an outside court system to agree before actual force can be applied. Checks and balances work because the political power of some can be used to check the political power of others. The police and the courts are hierarchical, but they are different hierarchies. Because the police chief and the judge are in different hierarchies, neither stands above the other.

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The segmentation and dispersion of political power aids in controlling it from being abused; that is, from being used for the benefit of those who hold power at the expense of others. In the Hobbesian ideal, political power creates order to displace anarchy. But those who have little power are not in a good position to check those who have lots. Productive institutions segment and disperse political power to control the ability of the powerful to abuse the power they have.

Political Power Produces a Class-Based Society Political power, being hierarchical, produces a class-based society because those higher up in the hierarchy rank above those who are lower down. Some people rank above others in the hierarchy, but more significantly, some people have the power to enforce their decisions on others outside the hierarchy. Some people are members of the political elite who have the power to make and enforce rules that other people must follow. A substantial literature in sociology and political science describes the division of members of society into elites and masses. How clear the dividing line is between elites and masses is subject to debate. Some social scientists would argue that power is highly concentrated while others see power as widely diffused.6 Gaetano Mosca says, “In all societies… two classes of people appear—a class that rules and a class that is ruled. The first class, always the less numerous, performs all political functions, monopolizes power and enjoys the advantages that power brings, whereas the second, the more numerous class, is directed and controlled by the first, in a manner that is now more or less legal, now more or less arbitrary and violent, and supplies the first, in appearance at least, with the material means of subsistence and with the instrumentalities that are essential to the vitality of the political organism.”7 The key element of power, looked at in this way, is not the hierarchy of power but the fact that some people have it—the power elite—while others are subject to it.8 Bertrand de Jouvenel observes that “the state is in essence the result of the successes achieved by a band of brigands who superimpose themselves on small, distinct societies; this band, which itself is organized in a society as fraternal and as full of thieves’ justice as you please, behaves towards the vanquished and the subjected as Power in the pure state.”9 De Jouvenel goes on to say, “The parasitic domination of a small society over a collection of other societies—that is everywhere the mark of the big formation,

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the state.”10 The state is a manifestation of a hierarchical society in which some people have power over others. The business world also establishes a hierarchy in which some people within a firm report to others, and often their jobs require them to follow the instructions of those above them. The big difference is that in government, those within the hierarchy have the power to coerce those outside of their organizations, whereas in business, people deal with others outside their hierarchies through voluntary cooperation. Those with political power deal with others by mandating compliance with their demands— through control. Those who are subject to political power are required to obey those who have political power. Those with economic power deal with others as equals, through mutually advantageous cooperation. The difference between economic power and political power is the difference between cooperation and control. Political power leads to a class-based society, both because some people rank above others in the political hierarchy and because those with political power can use it to coerce those who are subject to that power. The hierarchy is real, but the more significant aspect of political power is that a few people have a substantial amount of it, while most people have almost none.

Elites and Masses Even the most ruthless autocrat needs a group of supporters to maintain political power. The state must maintain the support of at least a subset of its citizens in order for those with political power to keep their hold on it. That support may be popular approval, or it may come from intimidating its subjects so that they are afraid to challenge those in power. As de Jouvenel remarks, “To suppose that majority rule functions only in democracy is a fantastic illusion. The king, who is but one solitary individual, stands far more in need of the general support of society than any other form of government.”11 Political power must be supported by institutions and legitimized in order to be maintained. The power elite support the political hierarchy, and must be in a position to maintain it through a combination of threats and persuasion.. People do not necessarily have to hold government positions to have political power, even though that is where political power is exercised. Robert Putnam lists examples of people with political power, including the president of General Motors and the chairman of the Swedish Labor

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Federation. They hold political power because they are able to affect government policy. Putnam says “by power here I shall mean the probability of influencing the policies and activities of the state…”12 which includes members of the economic as well as political elite. The president of General Motors, in Putnam’s example, who exercises substantial economic power—control over resources—also exercises political power to the extent that the position brings with it the ability to access the coercive powers of government. The group of people who can influence the policies and activities of the state is necessarily small, because high transaction costs limit the number of people who are able to negotiate to create public policy. Legislatures are small enough that individual legislators have the power to negotiate and bargain with each other to create public policy. The United States Congress consists of 435 Representatives and 100 Senators, a small enough group that each member can have some bargaining influence. But even that number makes for cumbersome bargaining, so Congress divides its membership into committees that have oversight over particular areas, giving each committee member substantial influence over a segment of the policy agenda.13 Legislators bargain among themselves, but they also bargain with lobbyists who are well-connected and have access to the bargaining process. The leaders of concentrated interest groups are able to negotiate to produce public policy favorable to their groups. They are able to bargain to use the political power of legislators to their advantage. They can do so because, to use economic terminology, they face low transaction costs.14 Most people face high transaction costs, so they have no ability to affect the public policy process. Anthony Downs argues that voters tend to be rationally ignorant because they know their single vote will have no effect on the outcome of an election.15 This concept of rational ignorance, well-accepted among political scientists, is a manifestation of the fact that voters recognize they have no political power. If they had the power to change public policy, they would have the incentive to collect information to make informed decisions, just as they do when they shop for consumer products. Rational ignorance of voters is one of the manifestations of the lack of political power held by the masses. The elite make public policy because they can bargain among themselves—to do so, they face low transaction costs, whereas the masses face high transaction costs and so, as individuals, have no political power and no incentive to become informed about

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public policy issues. Some citizens are informed just because they are interested in politics, just as some individuals are well-informed about professional sports, but the masses have no incentive to become informed beyond just their own curiosity. Daron Acemoglu and James Robinson overserve that “The elite, by virtue of their smaller numbers and their greater expected returns from controlling politics, have a comparative advantage in investing in de facto power.”16 Because members of the masses must recognize that their single vote will not be decisive, even if they will not always admit it, they have no incentive to avoid voting for candidates and policies that may not be in their own interests.17 The election outcome will be the same regardless of how they cast their vote, so they vote expressively rather than instrumentally, and Bryan Caplan persuasively claims they often vote irrationally.18 They may vote for candidates who are charismatic over those who appear to have unlikeable personalities, and they may vote for candidates who advocate “feel good” policies, even when they would not choose those policies if the choice were theirs alone.19 Democratic oversight is often viewed as a method of keeping political power in check, but because individual voters have little incentive to become informed and as individuals have essentially no political power, oversight by the masses unlikely acts as much of a constraint on those who hold political power. The elite make public policy; the masses are subject to those policies that are created by the elite.20 People who have no power are not in a good position to exert control over people who have power; even of those with no power are far more numerous than those who have power.

Transaction Costs and Political Power Only a small subset of the population is able to have any input into the design of public policy. Legislators are in this group, along with well-­ connected lobbyists and influential business people. They negotiate among themselves to determine public policy. Most people are not in a position to engage in political negotiations. They must comply with the policies that are determined by the well-connected. In economic jargon, those well-connected people face low transaction costs, enabling them to negotiate with each other to enact the public policies that are most favorable to themselves.21

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There is a discontinuity in political power that does not exist with economic power. Some people have more economic power than others, to be sure, but someone with $20 has twice the economic power as someone with $10, and someone with $10 million has ten times the economic power as someone with $1 million. Economic power is continuous, in that sense. If someone with little economic power wants more, that person can work some overtime, or take a second job, or develop improved skills to get a higher-paying job, and get more economic power. If someone has no political power, that person can donate to a political candidate or political party, or can volunteer to work for a candidate, but that person still will have no political power—no ability to influence public policy. There is a discontinuity in political power. Some people have essentially none, while others—those who are able to enter the bargaining process to influence public policy—have a lot. And those who have little political power have no good way of gaining more. To gain more political power, they would have to buy their way into the low transaction cost group, something that most people do not have the resources to accomplish. This discontinuity in political power has long been recognized by social scientists. Marx and Engels referred to the bourgeoisie and the proletariat, sociologists and political scientists have referred to elites and masses, and in the twenty-first century, the Occupy Wall Street movement that began in 2011 classified people as in the 1 percent or the 99 percent. The bourgeoisie, the elite, the 1 percent are the people in the low transaction cost group. They make public policy. The proletariat, the masses, the 99 percent are the people in the high transaction cost group. They are forced to comply with the policies designed by the low transaction cost group. Whereas economic power is continuous, there is a discontinuity that divides people into two groups based on their political power. One might argue that the masses could work together to organize and exercise political power through interest groups. Look at the power that the National Rifle Association and the AFL-CIO, two of many influential interest groups, have in American politics. Individuals can donate money to those organizations or volunteer to work for them to collectively exercise their influence. But individual donors and volunteers still have no influence. All they can do is boost the influence of the groups’ leaders, who are members of the elite and who do face low transaction costs. An individual member of the National Rifle Association can either support or not support the organization, but has no influence over what the

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organization does. By supporting the organization, every member adds to the power of the organization’s leaders, who do have political power. Individual members may want to do this, but they must recognize that as individuals, they have no power to influence the organization’s activities.

Military and Political Power While the subject matter of this volume is political and economic power, military power plays a crucial role. It has been the essential foundation for political power throughout most of human history, and in most places around the world. Robert Putnam observes, “One fundamental basis of elite power has always been violence or coercion. The stronger man or tribe or nation defeats the weaker, and victor becomes ruler. Particularly in simple, weakly institutionalized political systems politics is a game in which clubs are trump.”22 Political power can be discussed separately from military power only because relatively recently in human history, military power has sometimes and in some places become subordinated to political power. Those with political power have been able to maintain institutions that subordinate the military hierarchy to the political hierarchy. This separation has occurred because those who held both political and military power have contracted out to hire military power from others, freeing those with political power from having to defend it themselves, and allowing them to focus on their exercise of political power while relying on others to provide the threat of force to maintain it. Those who have been hired to exercise military power must believe they are better off being paid to be military personnel than using their military power to take control of their governments, and in most cases they are correct in thinking that way. Chapter 9 discusses the separation of military and political power in more detail. Even so, those who hold political power must remain on their guard to keep military power subordinated to their own power. Military coups are one way those with political power can lose it. The result is that political and military power become recombined as those with military power seize political power using their comparative advantage in the use of violence. Keeping in mind that those who have power like to use it, the fact that those who have political power have been able to maintain control over those who specialize in the exercise of violence is remarkable. The threat military power poses to political power requires an institutional structure that minimizes incentives for those with military power to use it to seize

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political power. Adequate income is one method of effectively bribing those with military power, but other institutional features can be employed. The subordination of military to political power is a recent development. For most of human history, those with a comparative advantage in the use of violence used that advantage to claim political power.

Religious Power Political power and religious power have become more separated due to advances in science since the Enlightenment. Even people who are deeply religious tend to understand events in the world around them as conforming to laws of nature, rather than being directed by supernatural causes. Prior to the Enlightenment, religious power rivaled political power, and in medieval Europe when feudal lords were the local holders of military, political, and economic power, the Roman Catholic church was the primary check on that power. At the same time that religious power checked political power, it also sanctioned political power. Rulers who were approved by the church gained legitimacy in the eyes of their subjects, who were also subjects of the church. Steven Pinker notes that the Enlightenment ideas that emerged in the seventeenth and eighteenth centuries displaced belief with science.23 Increasingly, people viewed events as driven by cause and effect, by the laws of science, rather than from supernatural sources. This lessened the hold that religious power had on the masses, but perhaps more important, it lessened the hold that religious power had on those who held political power. In a bold challenge to religious power, King Henry VIII of England declared himself to be the head of the Church of England in 1534. Before his declaration, the Church of England fell under the authority of the Pope. In the twenty-first century many nations support churches with tax revenues, including Spain, Italy, Denmark, Sweden, Germany, and Switzerland. Although in some cases taxes are levied only on those who declare themselves to be church members, the fact that the government aids churches in collecting revenue creates a mechanism that makes churches dependent on government institutions and subordinates religious power to political power. Religious power can rival political power in nations that have an official state religion. Twenty-first century Iran is a prime example. While exceptions can be found, the increasing spread of the ideas of science since the Enlightenment has enabled those with

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political power to free themselves from control of those who have religious power.

Coercion and Power The least-cost way of maintaining political power is by exercising what Galbraith called conditioned power. As Galbraith explains, “The acceptance of authority, the submission of the will of others, becomes the higher preference of those submitting. This preference can be deliberately cultivated—by persuasion or education. This is explicit conditioning. Or, it can be dictated by the culture itself: the submission is considered to be normal, proper, or traditionally correct.”24 Some people abide by the mandates of others because they believe that is what they should do. Institutions of political power have evolved to embody this conditioned power, which leads people to comply with the demands of those who hold political power because they think they should. If people adhere to some higher religious power, like the Catholic Church in medieval Europe, and if the church lends its authority to the political leadership, then citizens submit to political power because those with religious power tell them they should. If people accept an ideology that characterizes citizens as subjects of their king, they accept their roles and carry out the will of the king without having to be forced to do so. While it goes without saying that people could not exercise political power if they had to use actual physical force to get people to comply, the threat of force stands behind all mandates emanating from political power. People who do not pay their taxes will be prosecuted, as will people who violate the government’s regulations. But if most people agree that they should pay their taxes and do what government mandates require, little actual force is needed. If a few do not comply, force can be used against them to provide an example of what can happen to those who do not yield to political power. But if people believe they should comply, not only will that reduce non-compliance, it also will provide support for political actors to punish those who do not. Those who do not comply will be viewed as free riders. They do not follow the rules that everyone is obligated to follow, and the masses will support those with political power punishing those who do not comply. Robert Putnam observes, “Every elite tries to transform coerced obedience into willing obedience, to convert its power into authority, by making its rule legitimate in the eyes of the nonelite.”25

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Ultimately, as Chap. 10 argues, those who do not obey are violating the social contract and should be sanctioned for their transgressions.

Propaganda and Patriotism Only a few hundred years ago, people did view themselves as subjects of their governments, making it easier for those who held political power to exercise it. Thomas Hobbes wrote in Leviathan in 1651 that a social contract required that people abide by the rules of their sovereign. Otherwise, society would devolve into anarchy, in which life would be a war of all against all, and would be solitary, poor, nasty, brutish, and short.26 The commonly accepted view at the time was that people had an obligation to submit to political power. Ideas changed over the next century, partly due to the influence of John Locke and other Enlightenment writers who argued that individuals naturally have rights, and that the role of government is to protect those rights.27 The old way of thinking was that citizens served their governments. The Enlightenment way of thinking was that governments served their citizens. This Enlightenment way of thinking about government led to a world-­ wide move toward democratic government, beginning with the American Revolution in 1776, which was based substantially on Locke’s ideas.28 The widespread acceptance of Enlightenment ideas significantly weakened the ability of those in government to exercise political power, which was one factor that facilitated the separation of economic from political power.29 The old ideology, typified by Hobbes, was that economic power was subordinate to political power. The new ideology, typified by Locke, was that political power was subordinate to economic power. The ideological forces of propaganda and patriotism have provided sources of conditioned power to the holders of political power. As anthropologist Lotte Hedeager observes, “The function of ideology is first and foremost to legitimize the political power of the dominant groups.”30 While not quite as powerful as the idea that citizens are subjects of their rulers, patriotism pushes people to want to serve their governments, and propaganda is useful for cultivating patriotism. In his inaugural address in 1961, President Kennedy famously said, “ask not what your country can do for you; ask what you can do for your country.” The suggestion, coming from the nation’s chief executive, is that people should be the servants of their government, rather than expecting government to be their servant.31

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After the Enlightenment, which overturned the idea that citizens are subjects of their rulers, a democratic ideology emerged in which citizens nominally were in control of their governments through democratic political institutions. The ideology of democracy has legitimized the actions of those who hold political power in democratic governments by making it appear that their actions have been democratically chosen by their citizens, through a democratic political process. The institutions of democratic government provide this symbolic support to those with political power.32 David Kertzer observes, “Through symbolism we recognize who are the powerful and who are the weak, and through the manipulation of symbols the powerful reinforce their authority.”33 Most democratic governments—the United States provides a good example—have written constitutions that explicitly give those who hold political power specific powers they are constitutionally authorized to exercise. Constitutions also specify a democratic decision-making process by which those who exercise the powers of government are chosen. Thus, those with political power legitimately hold those powers because they acquired them through a constitutionally mandated process, and they are able to exercise those powers because the constitution authorizes them to. Because of this institutional support for the ideology of democracy, even those who might disagree with the specific actions of government still may see those actions as legitimate, because the people who took them had the legitimate power to do so. The actions of a democratic government can appear justified by viewing that when it makes decisions through a democratic decision-making process, those decisions are an expression of popular opinion. In a sense, this ideology is even more powerful than the Hobbesian view that the sovereign makes the rules, because it suggests that government is not imposing its will on its citizens, but rather implementing the will of its citizens. Citizens who accept this interpretation of the exercise of political power should need only a very limited amount of coercion to push them to comply. Citizens should, as President Kennedy said, ask what they can do for their country. Propaganda and patriotism push people to obey their government because they think they should. After noting that ideology stands in the way of arguing new ideas, Hedeager says, “A second essential element in ideology is its complex relationship to social reality. At the same time as it helps to legitimize power and influence, it obscures reality by ritual mystification that makes the social world appear in an organized and unchallengeable form—as a

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part of nature.”34 This is evident in a major way in World War II atrocities like the Nazi slaughter of Jews, or the American internment of American citizens of Japanese descent. In war more generally, soldiers on each side attempt to kill those on the other side because the patriotic ideology of their respective countries pushes them to do so.

Can People Agree to Be Coerced? A common line of reasoning, consistent with this social contract view of government is that people agree to government coercion. Think of this as Hobbes presented it. Without a government to enforce order, life would be a war of all against all. So the social contract says that we all benefit when we agree to abide by the laws set out by government. Steven Pinker lays out an impressive amount of evidence showing how strong governments have reduced human violence in every dimension and laid the foundation for peace and prosperity.35 We are all better off, the argument goes, if we agree to follow the dictates of those with political power, under the condition that everyone else is also bound by those dictates. The argument that we would agree to be coerced by those with political power has been extended much further than just protecting our rights, as Hobbes suggests, to agreeing that we should be coerced into giving our money to people poorer than us.36 As the argument goes, people who are better off financially want to help out those who are worse off, and would be willing to give to charity to do so, but the problem is that each individual will only make a small contribution that by itself will not have much impact. Meanwhile, if others give, the poor will be better off because of the charity of others, without that individual giving anything. So, those who are well-off have an incentive to free-ride off the charitable contributions of others, resulting in a suboptimal amount of charitable activity. Through government-enforced redistribution, everyone is better off because it prevents some people from free-riding off the contributions of others, all of whom would agree to give if others also were forced to give. The fact that the argument is made with regard to redistribution is secondary to the argument that we could agree to be coerced to avoid others free-riding off our other-regarding behavior. We could be talking about redistribution, or funding highways, or laws that prohibit physical assault. The argument that we would agree to be coerced justifies government coercing us whether or not we have agreed. Would we all agree to pay our taxes as long as everyone else is forced to? There is no way to actually

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answer this question in the affirmative, because people do not agree to pay their taxes, they are forced to pay their taxes. Even if they like paying taxes, they are still forced and any argument that they agree to it is purely hypothetical.37 The argument that under hypothetical circumstances, we would agree to the coercion imposed by those who exercise political power is another element of propaganda that can help legitimize the exercise of political power, so that people will voluntarily agree to acquiesce to it rather than having to be actually forced.

Incentives Facing Those with Political Power Joseph Schumpeter described economic development as a process of creative destruction.38 Entrepreneurs destroy the old order to replace it with a new one. Political entrepreneurship works the same way. Whether through coups, revolutions, elections, or more gradual shifts that result from political appointments, those who have political power risk losing it when the status quo changes. Daron Acemoglu notes that this desire on the part of those who hold political power to maintain it prevents the political leadership in countries with poor institutions from improving those institutions.39 A change in the status quo that might improve the well-being of most people can destroy the political power of those who currently hold it. The argument applies equally well to all countries, not just those with poor institutions. People who have political power want to retain it; people who have less political power want to displace those above them in the hierarchy. Stability is the goal of those who have political power; change is the goal of those who want to gain political power. Those who have it want to avoid the creative destruction that comes with change. Those who hold power—power of any kind—do not want to give it up, and if possible would like to acquire more of it. Political power is maintained by the threat of the use of force, or as a last resort, the actual use of force. The hierarchical nature of political power is an important characteristic. Some people have power over others. Those who have it want to maintain it; those who are subject to the political power of others want to escape it. Partly the desire is instrumental. Power enables people to accomplish their goals. But partly it stems from the innate desire of everyone to control their own lives.40 People want power for its own sake, so they can exercise it over others, and so they can be free of the demands of others.

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This creates the desire among those with little or no power to unleash the forces of creative destruction by upsetting the status quo, and creates the desire among those who hold power to use it to maintain the status quo, and to maintain their power with it. But, the people who hold political power can use it to maintain their power, whereas those who want to gain political power rarely have the power to upset the status quo. Even if all the powerless want to upset the status quo, there is a free rider problem that holds people back from acting on their desires for change. If change is to occur outside the current institutional structure by overthrowing those in power, an unsuccessful uprising can result in punishment for those acting outside the institutional order—and even those acting within the institutional order. Unsuccessful revolutionaries can expect to face serious penalties, to say the least, and even those who mount electoral challenges in democratic regimes might find the victors looking for ways to penalize their challengers.41 Thus, even if there is widespread support for change, people will be reluctant to lead a challenge against those who hold political power because costs will be imposed on them, whereas success will bring benefits for all who want the change. People will sit back, willing to free ride off potential leaders, and the incentive to free ride may prevent anyone to step up and challenge those in power.42 People with political power want to maintain it, which means they want to preserve the status quo—unless it can be changed to give them more power. But upsetting the status quo brings with it the risk that they will lose any power they have. The more concentrated power is, the more likely it is that upsetting the status quo will cause a loss of power for those who have it. If political power is concentrated in a few hands, any change in the status quo is likely to bring with it a loss of power to the power elite.43

Political Power Resists Change Those who have political power want to keep it, and upsetting the status quo risks unleashing the forces of creative destruction that will undermine their hold on political power and shift that power to the political entrepreneurs who challenge them. Productive activity can increase economic power, as the next chapter explains, but an increase in the political power of some means that others will be subject to that power, giving up some control over their lives to the holders of political power. That is the hierarchical nature of political power—some people have political power over

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others. People who have political power find it in their interest to maintain the status quo so they can retain their places in the political hierarchy. People can aspire to upset the status quo so they can move up the hierarchy and gain more political power, but the problem they face is that those above them in the hierarchy have more political power, which they can use to hold back those below them. Unlike economic competition, which creates value, political competition uses up resources and destroys value. Political power is used to maintain control of others, in contrast to economic power, which is enhanced by creating value for others. Political power resists change. William Baumol observes that in markets, entrepreneurial individuals have an incentive to create value for others, whereas when entrepreneurial efforts are oriented toward politics, they tend to be destructive.44 Even the maintenance of political power uses up resources, which are allocated to keep government’s subjects in their place and in conformance with government mandates. The clear evidence of the value that is consumed by political power is the taxation that is required to finance it. Resources are forcibly transferred from those with economic power to those with political power to maintain an orderly hierarchy of political power. Because political power is hierarchical—some people have power over others—it has the characteristics of a zero-sum game. Any gain in political power by one person is a loss to someone else. Institutional changes can change the amount of political power in the aggregate. There was a greater ability to exercise political power in the former East Germany, for example, than there was in the former West Germany. The fact remains that freeing some from the political power of others reduces the political power of those who once held it. Ultimately, those who have political power use it to maintain control over others. They want to maintain the status quo, which maintains their political power. Challengers who want to upset the status quo are at a disadvantage, because they have less political power—less of an ability to use force—than those whose political power they want to challenge. Those who have it use it to keep those under them in compliance with their demands. If they cannot do this, their political power is lost. Because those higher up in the hierarchy have more power, and use it to prevent those below them from challenging their place in the hierarchy, political power resists change. When people’s actions are coordinated by those who have the power to use the threat of force to control others, the politically powerful use their

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power to retain the status quo—to avoid the creative destruction that can threaten their places in the hierarchy. For this reason, when the same people hold both political and economic power, political power tends to trump economic power. The tendency of the powerful to rely on political over economic power facilitates social coordination through control.

Notes 1. Bertrand de Jouvenel, On Power: Its Nature and the History of Its Growth (New York: Viking Press, 1949), p. 17. 2. Douglass C. North, John Joseph Wallis, and Barry R. Weingast, Violence and Social Orders: A Conceptual Framework for Interpreting Recorded History (Cambridge: Cambridge University Press, 2009). 3. Robert A.  Dahl, “The Concept of Power,” Behavioral Science 2, no. 3 (1957), pp. 202–203. 4. Sometimes governments are defined as having a monopoly over the legitimate use of force, but this definition does not fit well within a federal system of government in which multiple levels of government can use force, so no one level of government has a monopoly. 5. Adolf A. Berle, Power (New York: Harcourt, Brace & World, 1967), p. 108. 6. Peter Bachrach and Morton S. Baratz, “Two Faces of Power,” American Political Science Review 56, no. 4 (December 1962), pp. 947–952, debate the two faces of power that disagree on whether power is concentrated or diffused. 7. Gaetano Mosca, The Ruling Class (New York: McGraw-Hill, 1939), p. 50. 8. That phrase comes from C.  Wright Mills, The Power Elite (New York: Oxford University Press, 1959). 9. de Jouvenel, On Power, p. 100. 10. de Jouvenel, On Power, p. 102. 11. de Jouvenel, On Power, p.106. 12. Robert D. Putnam, The Comparative Study of Political Elites (Englewood Cliffs, NJ: Prentice-Hall, 1976), p. 6 (emphasis in original). 13. A more detailed analysis of the committee system appears in Randall G.  Holcombe and Glenn R.  Parker, “Committees in Legislatures: A Property Rights Perspective,” Public Choice 70, no. 1 (April 1991), pp. 11–20. 14. The ability of concentrated interests to organize for their benefit, at the expense of the masses, is discussed by Mancur Olson, Jr. in The Logic of Collective Action: Public Goods and the Theory of Groups, (Cambridge, MA: Harvard University Press, 1965). Details of that bargaining process are described by Peter Schweizer, Extortion: How Politicians Extract Your

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Money, Buy Votes, and Line Their Own Pockets (Boston: Houghton Mifflin, 2013) and Peter Schweizer, Profiles in Corruption: Abuse of Power by America’s Progressive Elite (New York: HarperCollins, 2020). 15. Anthony Downs, An Economic Theory of Democracy (New York: Harper & Row, 1957). 16. Daron Acemoglu and James A. Robinson, “Persistence of Power, Elites, and Institutions,” American Economic Review 98, no. 1 (March 2008), p. 268. 17. This is explained by Geoffrey Brennan and Loren Lomasky, Democracy and Decision: The Pure Theory of Electoral Preference (Cambridge: Cambridge University Press, 1993). 18. Bryan Caplan, The Myth of the Rational Voter: Why Democracies Choose Bad Policies (Princeton: Princeton University Press, 2007). 19. See, for example, Gordon Tullock, “The Charity of the Uncharitable,” Western Economic Journal 9, no. 4 (December 1971), pp. 379–392. 20. I discuss this further in Randall G. Holcombe, Political Capitalism: How Economic and Political Power is Made and Maintained (Cambridge: Cambridge University Press, 2018), Ch. 10. 21. The transaction cost framework is explained by Ronald H.  Coase, “The Problem of Social Cost.” Journal of Law & Economics, 3 (1960), pp. 1–44. This transaction cost framework is applied to government decision-making in Randall G. Holcombe, “The Coase Theorem, Applied to Markets and Government,” The Independent Review 23, no. 2 (Fall 2018), pp. 249–266. 22. Putnam, The Comparative Study of Political Elites, p. 135. Timothy Besley and Torsten Persson, “The Origins of State Capacity: Property Rights, Taxation, and Politics,” American Economic Review 99, no. 4 (September 2009), pp. 1218–1244, give evidence that the building of military power leads to an increase in political power. 23. Steven Pinker, Enlightenment Now: The Case for Reason, Science, Humanism, and Progress (New York: Viking, 2018). 24. John Kenneth Galbraith, The Anatomy of Power (Boston: Houghton Mifflin Company, 1983), p. 24. 25. Putnam, The Comparative Study of Political Elites, p. 136. 26. Thomas Hobbes, Leviathan (New York: E.P. Dutton, 1950 [orig. 1651]). See, in particular, Chapters 13 and 17. 27. John Locke, Two Treatises of Government (Cambridge: Cambridge University Press, 1960 [orig. 1690]). 28. Bernard Bailyn, The Ideological Origins of the American Revolution (Cambridge: Harvard University Press, 1967) describes the influence of Locke’s ideas on the Revolution. 29. Some arguments along these lines are given by Deirdre N. McCloskey in her trilogy, The Bourgeois Virtues: Ethics for an Age of Commerce (Chicago:

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University of Chicago Press, 2006), Bourgeois Dignity: Why Economics Can’t Explain the Modern World (Chicago: University of Chicago Press, 2010), and Bourgeois Equality: How Ideas, Not Capital or Institutions, Enriched the World (Chicago: University of Chicago Press, 2016). Further support is offered by Steven Pinker, Enlightenment Now: The Case for Reason, Science, Humanism, and Progress (New York: Viking, 2018). 30. Lotte Hedeager, Iron-Age Societies: From Tribe to State in Northern Europe, 500 BC to AD 700 (Oxford, UK: Blackwell, 1992), p. 28. 31. President Kennedy’s statement is somewhat vague, which is often desirable in political statements. He did not refer to the government directly, but to the country, and only suggested that people ask what they can do for their country rather than saying they had an obligation. The tone, however, is more Hobbesian than Lockean. 32. See Murray Edelman, The Symbolic Uses of Politics (Urbana: University of Illinois Press, 1964) for good arguments along these lines. 33. David I. Kertzer, Ritual, Politics, and Power (New Haven: Yale University Press, 1988), p. 5. 34. Hedeager, Iron-Age Societies, p. 28. 35. Steven Pinker, The Better Angels of Our Nature: Why Violence Has Declined (New York: Viking, 2011). 36. Harold M.  Hochman and James D.  Rodgers, “Pareto Optimal Redistribution.” American Economic Review 59, no. 4 (September 1969), pp. 442–557 make this argument. 37. Arguments along these lines are forcefully made by Leland B.  Yeager, “Rights, Contract, and Utility in Policy Espousal.” Cato Journal 5, no. 1 (Summer 1985), pp.  259–294, and Ethics as a Social Science: The Moral Philosophy of Social Cooperation (Cheltenham, UK: Edward Elgar, 2001). 38. Joseph A.  Schumpeter, Capitalism, Socialism, and Democracy, 2nd ed. (London: George Allen & Unwin, 1947). 39. Daron Acemoglu, “Why Not a Political Coase Theorem? Social Conflict, Commitment, and Politics,” Journal of Comparative Economics 31, no. 4 (December 2003), pp. 620–652. 40. James M. Buchanan, “The Soul of Classical Liberalism,” The Independent Review 5, no. 1 (Summer 2000), pp. 111–119, notes that everyone wants to control their own lives, and be free of control by others. 41. Peter Kurrild-Klitgaard, Rational Choice, Collective Action, and the Paradox of Rebellion (Copenhagen: Institute for Political Science, University of Copenhagen, 1997) and Mark Irving Lichbach, The Rebel’s Dilemma (Ann Arbor: University of Michigan Press, 1995) both discuss how the free rider problem discourages people from leading rebellions. Meanwhile, anecdotal evidence suggests that those with political power in

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democratic regimes ranging from the United States to Singapore use their political power to impose costs on challengers. 42. Discussing the oppressive Iranian regime with some Iranians in the 2010s, they told me that while there was widespread opposition to the incumbent regime, Iranians were afraid to demonstrate against it or even openly show any opposition because of the regime’s reputation of coming after its opponents. This is anecdotal evidence, to be sure, but suggests the ability of those with power to maintain the status quo through the threat of force even when there is widespread opposition. 43. Acemoglu, “Why Not a Political Coase Theorem? Social Conflict, Commitment, and Politics,” offers this as an explanation for the persistence of low-quality institutions in underdeveloped countries. The political leadership fears that any institutional change will weaken their hold on power. 44. William J.  Baumol, “Entrepreneurship: Productive, Unproductive, and Destructive,” Journal of Political Economy 98, no. 5, Part 1 (October 1990), pp. 893–921, and Entrepreneurship, Management, and the Structure of Payoffs (Cambridge, MA: MIT Press, 1993). See also Randall G. Holcombe, “Political Entrepreneurship and the Democratic Allocation of Economic Resources,” Review of Austrian Economics 15, nos. 2/3 (June 2002), pp. 143–159.

CHAPTER 3

Economic Power

Political power coordinates the activities of individuals through control. Economic power coordinates people’s activities through cooperation. People exchange resources they own through mutually agreeable transactions that benefit everyone who engages in them. If this were not the case, they would not agree to the exchange. Markets have existed for thousands of years, but market economies in which people obtained most of what they consume through market exchange have only existed for a few centuries. Robert Heilbroner argues that the distinguishing feature of capitalist economies is the existence of markets for factors of production.1 Prior to the Industrial Revolution, with rare exceptions land was owned as a part of people’s estates, with complex rights to use. It was difficult to sell, ownership was often transferred through conquest, and owners were reluctant to give it up because land ownership was their main source of power. Labor was allocated through complex institutions of serfdom, slavery, and apprenticeship, and only within the past few hundred years has it become common for hours of labor to be sold as a commodity with no other obligations imposed on buyers or sellers. Capital markets, perhaps the most important characteristic of capitalism, too are a recent phenomenon. Bas van Bavel supports Heilbroner’s observation, while recognizing the rare existence of market economies prior to the Industrial Revolution, saying “Societies that use the market as the dominant system of exchange and allocation, not only for output, but also for land labour, and capital— labelled market economies here—are quite rare in history.”2 Later, van © The Author(s) 2020 R. G. Holcombe, Coordination, Cooperation, and Control, https://doi.org/10.1007/978-3-030-48667-9_3

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Bavel says “Capitalism could be defined by the dominance of markets in the exchange and allocation of land, labour, and capital.”3 In market economies, economic power is exercised through market exchanges, but when most resources are allocated in other ways, economic power cannot be exercised independently of other forms of power, because other forms of power determine who has control over resources. Mostly, those who have had political power have been able to use it to command economic power, in pre-agricultural societies, in feudal societies, and in centrally planned economies. In societies where the church can use its power to convince people to tithe, some economic power can be controlled by religious power. The previous chapter noted that political power strongly favors maintaining the status quo, so when political power and economic power are held by the same people, stagnation tends to result. Heilbroner characterizes economic systems as three types: traditional, command, and market, with the possibility of mixtures of the three.4 Within this taxonomy of economic systems, traditional economies clearly favor the status quo. Each generation engages in the same activities as the generation before. Command economies also tend to cling to the status quo. Political power controls economic power, and those who hold political power correctly see that the creative destruction that comes with progress threatens their places in the political hierarchy. A market economy permits the exercise of economic power independent of political power, which brings with it the creative destruction that leads to progress. This chapter focuses on the nature of economic power, independent of other forms of power. The next chapter considers the interactions between political power and economic power.

Institutions That Protect Economic Power Kenneth Boulding says, “Economic power is mainly a combination of productive and exchange power, mostly embodied in power over objects in the form of goods and services.”5 Boulding’s conception of economic power is consistent with the definition used in this volume: that economic power is control over resources. To hold any significant amount of economic power requires a set of economic and political institutions to protect it. For people to own more than they can physically monitor and protect by themselves requires the help of others to maintain control over what they own. Those who hold economic power may use some of the

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resources they control to hire the services of others to protect their property, but more commonly, governments both define and enforce property rights. For those with political power to protect the economic power of others requires that the holders of political power see more advantage to taxing and regulating economic power rather than confiscating it, or that they see an advantage to collaborating with those who hold economic power for their mutual benefit, perhaps because they are unsure that they would profit from conflict. Chapter 12 deals with these issues more directly. Political power not only protects economic power but also defines its scope. In a society in which most assets are physical assets, defining property rights is fairly straightforward. Cattle ranchers can see their cattle, count up the number in their herds, and brand their cattle to identify their property. In advanced societies where a substantial share of wealth is held as intangible assets, defining and protecting property rights becomes more complex. When people own shares of a corporation, they will not be able to identify any physical property they own, even though physical property may stand behind their intangible property. Their rights as owners will be defined by corporate law which, among other things, limits the ability of the managers, who control the corporation, to confiscate the assets nominally owned by the stockholders. Intellectual property offers additional challenges. While it is possible that intellectual property rights could be assigned contractually through private agreements rather than by government mandate, in fact they are defined to a large degree by government mandate. The degree to which government-granted rights to intangible financial assets differ from what might be agreed to contractually could be viewed as an indicator of the degree to which political power influences economic power. Rights to intellectual property are defined and enforced by government. Individuals would be hard-pressed to defend their rights to intellectual property without the ability to patent and copyright their ideas, and government defines what, exactly, those rights are. Patents and copyrights give people temporary monopoly power over their ideas, but patents and copyrights expire, erasing that monopoly power. The length of copyrights has been extended by government, giving more value to the copyright. Debates over whether intellectual property should be protected by government, and in what ways, indicate the somewhat arbitrary nature of intellectual property protection. As John R.  Commons suggested a

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century ago, capitalism rests on a legal foundation that can shift over time, shifting economic power from some individuals to others in the process.6 What people are allowed to own, and what the right of ownership actually conveys, is defined by economic and political institutions. Consider a company like Microsoft. One can own stock in that company, which is an intangible asset in itself, which gives stockholders limited ownership rights to some fraction of Microsoft’s profits, but most of what Microsoft itself owns is intangible property, and its property rights would be difficult to claim or defend without government setting out parameters of ownership of intellectual property and then enforcing those rights it has defined. As economic progress generates an increasing share of wealth in intangible property, government actions defining what can be owned and enforcing those claims of ownership become increasingly significant. Economists have suggested privatizing the radio spectrum, giving people rights to particular frequencies and allowing them to buy and sell those rights in markets, just like any resource.7 While this has been done in some cases, it is difficult to imagine how rights to broadcast on a specific frequency could be protected without government enforcement, and even if such enforcement could be imagined, in all nations today the government defines and enforces the rights to use particular frequencies. In some cases broadcast rights are communal, such as the rights of aircraft operators to broadcast on aviation frequencies, or the right to use citizen band (CB) radio frequencies. The right to access aviation frequencies is limited to aircraft and air traffic controllers, so the communal rights are limited to a particular community. The rights to broadcast on a particular frequency might in theory be marketable, but in some cases government prevents markets while at other times allows them, and those rights are protected and enforced by government. Most economic analysis begins with the assumption that ownership rights are clearly defined and that resources are transferred through voluntary exchange, but does not examine how ownership rights are defined and enforced. Hernando de Soto discusses the differences between developed and less developed economies and emphasizes that the big differences across countries are the results of differences in the institutions that define and enforce property rights.8 While individuals can defend their ownership claims to a limited degree themselves, in most cases government defines and enforces ownership rights. In other words, it takes political power to maintain economic power. This does not mean that people who have economic power must have political power. Rather, those with

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political power find it in their interest to protect people’s economic power, or at least find themselves unable to place economic power under their control. One can see the possibility of an exchange: those with economic power can use their resources to benefit those with political power, and in exchange those with political power use it to protect the economic power of their benefactors. This possibility of exchange is one reason why any separation of economic from political power can erode over time. One can also see the possibility that those with political power can use it to confiscate the resources held by those with economic power. Interactions between these two types of power are the subject of the next chapter.

Economic Power Versus Market Power People can gain market power when there are limited numbers of buyers or sellers. Market power is control over a large-enough share of a market to be able to affect the market price. Market power, whether it is monopoly or monopsony power, is different from economic power as defined here. Economic power is control over resources, but that control does not give anybody the ability to force others into an exchange. Even those who hold market power (in the absence of political power) can only obtain resources from others if those others agree to enter into a voluntary exchange. People are not forced to buy from a monopolist or sell their labor services to a monopsonist. Transactions with those who hold market power will only occur when both buyers and sellers agree to them. This does not deny the existence of market power, but rather differentiates it from control over resources, which is this book’s definition of economic power. The exercise of market power is worth studying in its own right,9 but the distinction between market power and economic power as defined here is worth making. Market power emanates from economic power—from the resources controlled by those who have market power— which in turn is determined by those institutions that define and protect property rights. John Stuart Mill, considering alternative institutional arrangements, discussed the institutions of capitalism relative to communism, and did not view favorably what he saw as the result of capitalism. In what may be one of the more moving passages in political economy, Mill said,

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If, therefore, the choice were to be made between Communism with all its chances, and the present state of society with all its sufferings and injustices; if the institution of private property necessarily carried with it as a consequence, that the produce of labour should be apportioned as we now see it, almost in inverse ratio to the labour—the largest portions to those who have never worked at all, the next largest to those whose work is almost nominal, and so in a descending scale, the remuneration dwindling as the work grows harder and more disagreeable, until the most fatiguing and exhausting bodily labor cannot count with certainty on being able to earn even the necessaries of life; if this or Communism were the alternative, all the difficulties, great or small, of Communism would be as dust in the balance.10

There are several observations that can be made about this passage beyond just noting the plight of laborers in the mid-1800s in London. First, there is an indirect reference to the market power held by those who owned capital relative to those who were employed by them that gave a bargaining edge to the employers over the employees. This was widely perceived at the time, which led to efforts to form labor unions to shift some bargaining power away from employers toward employees. Second, there is a recognition that economic outcomes are dependent on the institutions that define and enforce property rights. Mill recognizes this directly, both by comparing capitalism with communism, and (in passages not quoted) arguing that institutions could be changed without doing away with private property to create an outcome Mill viewed as more just. One thing that nineteenth century socialists championed was the creation of labor unions to provide workers with a more equal bargaining position relative to their employers. The degree to which employers and employees can bargain for wages and working conditions depends substantially on institutions. In the United States, unions can organize labor within an industry and bargain with many companies, but because of antitrust laws (which do not apply to unions), firms within an industry cannot organize to bargain collectively. The 1930s and 1940s saw much legislation that was favorable to unions, enhancing their market power. Peter Schaeffer notes that more recently, the rules of the game have changed to take bargaining power away from organized labor.11 Some US states require workers who are represented by a union to pay union dues, while other “right to work” states allow workers to choose not to join the union, even if their terms of employment are determined by a union contract.

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Looking back at the quotation from John Stuart Mill, one can see how institutional changes in the bargaining power given to labor could increase the well-being of those who are least well-off. The broader point is the way that institutions influence outcomes. Market exchange can be viewed as a voluntary transaction between buyer and seller, but the degree of market power that buyers and sellers have is institutionally determined. Market power is real, but it is not the same thing as control over resources. One could imagine in a rural setting someone owning the only pharmacy within a 100 mile radius, giving the owner substantial market power but not much economic power. Giant corporations might also have substantial control over resources—economic power—but little market power if they compete in markets with other large corporations. The automobile industry provides an example. John Kenneth Galbraith discussed countervailing power, in which the substantial economic power of some participants in a market is checked by the substantial economic power of their competitors.12 Firms like Ford, General Motors, Toyota, and Honda have substantial economic power—control over resources—but their countervailing power keeps them from having substantial market power. At the same time, Galbraith saw the potential of large firms to collude with each other, dampening the effects of competition when compared with markets in which there are many competing firms. Economic institutions can give rise to market power, but more fundamentally, those institutions define who has control over resources, and what they may do with the resources they control. That is what this volume means by economic power, as distinct from market power.

Economic Power in Neoclassical Economics Control over resources by itself does not bring with it the ability to coerce others to comply with the demands of the resource owner. Conceptually, economic and political power are separate things. Economic power conveys to its holders the ability to use those resources under their control, but more significantly, it conveys to them the ability to transact with others for their mutual advantage. In the absence of political power, such transactions occur only if all parties to the transactions agree. For parties to agree, the transactions must create value for all of them, so people who want to increase their economic power have an incentive to create value for others. Economic power does not bring with it the ability to force people to do things, as does political power. It does bring with it the

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ability to persuade people to engage in mutually advantageous exchanges, if all parties to those exchanges agree. This is exactly the way neoclassical economics depicts economic power. Neoclassical economics depicts equilibrium conditions in markets and economies as the result of mutually advantageous exchanges between suppliers and demanders, so economic power conveys only the ability to engage in mutually agreeable transactions with others. In the neoclassical framework, institutions are implied but not explicitly represented. The assumption that resources are exchanged through voluntary and mutually agreed-upon exchanges implies that property rights are defined and protected, but the actual institutions that define and protect property rights are rarely specified. The assumption is that suppliers have ownership rights over the goods and services they are offering for sale and have the right to sell them; meanwhile, buyers have both the right to buy them and the ownership right over sufficient purchasing power to do so. Economic power in this context means ownership and control over economic resources. Owners of those resources have the right to use them, to exchange them with others, and to give them away. In the context of neoclassical economics, market power can exist when firms have some degree of monopoly or monopsony power. Regardless of the existence of market power, the neoclassical framework depicts individuals who have well-defined and enforced property rights engaging in voluntary exchange with others. The way this volume defines economic power corresponds exactly with the way it is depicted in neoclassical models. Monopoly and monopsony power are often the product of government policies that create barriers to entry in markets. The rent-seeking literature initiated by Gordon Tullock and Anne Krueger, and the regulatory capture literature initiated by George Stigler, integrate the analysis of economic and political power to explain why.13 This literature illustrates that market power as depicted within the neoclassical framework is missing an explanation for how it was acquired. The neoclassical monopoly model assumes that monopolies are single firms in an industry with no close substitutes and barriers to entry. The model does not explain the origin of barriers to entry, which in many cases are the result of political power: government regulations that make it costly for competitors to enter, and in some cases outright prohibit firms from competing with the monopolist. Just as neoclassical economics does not depict the source of market power, it rarely considers the degree to which economic power arises from

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political power. Economic power is simply defined as control over resources, regardless of the origin of that control. But whereas the neoclassical framework leaves the source of that control outside the model, the framework presented here explicitly notes that control over resources relies on political power to define and enforce property rights. More than that, there are alternative ways in which rights can be defined and enforced, so economic power is heavily dependent on political power. Consistent with neoclassical economics, there may be market failures, so no claim is being made that these voluntary transactions lead to an optimal allocation of resources. Externalities involve either poorly defined property rights or a violation of property rights—one party unilaterally imposing costs on another—while other market failures due to public goods, market power, or informational asymmetries may prevent mutually advantageous transactions from being made, or may result in transactions that in hindsight make one party worse off. Still, transactions take place only when all parties to those transactions agree. Neoclassical economics assumes property rights are clearly defined and enforced, but rarely with an explicit explanation of how. Political power defines and enforces property rights—the control over resources—which neoclassical economics takes as given as it proceeds to model the process by which production and exchange takes place. A complete understanding of what people have a right to own and exchange requires a recognition of political power. Neoclassical economics takes that political power as exogenous to the model.

Economic Freedom and Economic Power The Fraser Institute publishes an annual Economic Freedom of the World (EFW) index that is designed to quantify the amount of economic freedom in most nations around the world.14 The motivation for creating the index was to test the idea that desirable social outcomes are associated with greater economic freedom. To provide quantitative evidence that this is the case requires some measure of economic freedom. The index was designed to do this. The components of the EFW index provide a good measure of the degree to which economic power is independent of political power. The EFW index is divided into five major areas: size of government, rule of law and protection of property rights, sound money, freedom to trade internationally, and the degree of economic regulation. Looking at each of these

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components, they measure the degree to which economic can be exercised separately from political power. The Fraser Institute’s EFW index was designed to measure the degree of economic freedom in nations around the world, but it also is a good measure of the degree to which economic power is controlled by political power. More government spending, more regulation, and more arbitrary protection of property rights all give those with political power more control over economic power. The similarity between the EFW index’s components and the degree to which economic power can be exercised independently of political power suggests that those concepts of power can be quantified and examined empirically. This relationship between economic freedom and political power is discussed more fully in Chap. 10.

Economic Power and Persuasion The previous chapter noted the ways that propaganda and patriotism can be used to solidify political power. Persuasion can also be an effective way of enhancing economic power. Advertising has an obvious ability to entice customers into economic exchanges—in some cases exchanges that might, by some measures, be opposed to the best interests of the purchasers. That idea goes back at least to Thorstein Veblen, who identified conspicuous consumption, the snob effect, and the bandwagon effect as frivolous reasons people buy goods.15 The utility they get comes from the fact that others see them consuming the goods, rather than from the consumption itself. Vance Packard argued that advertising contained subliminal messages, leaving viewers of advertising unaware of the ways that their behavior was being altered.16 Building on Veblen’s ideas, John Kenneth Galbraith described a dependence effect that resulted from advertising and the creation of new goods.17 People had no desire whatsoever for those goods until producers created and advertised them. Friedrich Hayek argued that this is not necessarily a bad thing.18 Music, literature, and other works of art are examples of goods for which there was no demand before they were created, and one might view inventions such as the smartphone the same way. People did not realize they would gain utility from the good until it was created and made available. Robert Frank argues that once people’s basic needs are satisfied, goods tend to become positional and people get utility from having better goods then their peers.19 Thus, the owner of a Ferrari gets utility from the car

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because her neighbor only has a Corvette. But Frank argues that because the good is positional, the first person would get just as much utility from a Corvette if the neighbor only had a Mustang. Frank sees luxury fever as making people less happy and less healthy. If people make bad choices— choices they themselves should regret—that opens the door to the argument that others should make choices for them. Richard Thaler and Cass Sunstein stop short of recommending a nanny state that compels people to make certain choices, but suggest that incentives can be designed to nudge people toward making better choices.20 The purpose of this discussion is not to argue the merits of such intervention—the Thaler and Sunstein nudge sounds a lot like Packard’s hidden persuaders, but intended to do good—but rather to point out that conditioned power can work to the advantage of those with economic power. One might argue whether transactions are really voluntary if pushed by advertising and subliminal messages, but the key point is to recognize that while sellers may use various methods to persuade people to buy what they are selling, at the same time those people who engaged in economic transactions voluntarily choose to make them. They are not coerced, in the sense of being forced to do something against their will.

Incentives Facing Those with Economic Power People obtain economic power—the control over resources—through voluntary exchange. With the resources under their control, which may be only their labor, they seek out exchanges in which they can receive more value than they give up. While people can produce things by themselves for their own consumption, humans have always worked in groups and taken advantage of the comparative advantages of others in their group to cooperate for the benefit of everyone. In the first sentence of The Wealth of Nations, Adam Smith says “The greatest improvement in the productive powers of labour, and the greater part of the skill, dexterity, and judgment with which it is any where directed, or applied, seem to have been the effects of the division of labour.”21 To engage in exchange, people must have something others want, which gives people an incentive to look for ways to create value for other people. This may simply be offering their labor, or products they produce with their labor and other the resources they control, with the idea that they can exchange their production to receive greater value back in exchange than they had to give up to produce what they offer to exchange.

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In the absence of political power, economic power can be used only to entice others to deal with them through voluntary exchange. People acquire economic power by creating value for others. Everybody needs some economic power—control over resources—to survive. Beyond the bare necessities of food, clothing and shelter, people can increase their consumption beyond subsistence levels, or can invest to accumulate economic power. By forgoing consumption, people can use their economic power to gain more, but only if the resources they control are used to create value for others. People gain economic power by using the economic power they have entrepreneurially. Even if they have only their own labor to offer, they gain economic power by looking for ways to produce value for others, which gives them income and control over resources. The quest for economic power is the engine of economic progress. While people’s primary motive is not to improve the lives of others, Adam Smith observed that they are trying to use resources under their control as productively as possible, and are led by an invisible hand to act in the interest of everyone. Their motivation is to maintain and increase their own economic power, and they do so by creating more value for others.

Creative Destruction Joseph Schumpeter described a market economy as a process of creative destruction, in which new goods and services and new production methods are constantly introduced and displace the old way of doing things. Schumpeter says, “The essential point to grasp is that in dealing with capitalism we are dealing with an evolutionary process. … Capitalism, then, is by nature a form or method of economic change and not only never is but never can be stationary.”22 In a market economy, people earn their incomes by providing value to other people. With voluntary exchange, people can gain economic power only to the extent that others are willing to compensate them for what they have to offer in exchange. One way to increase what one earns in exchange is to discover a way to create more value than their competitors who are vying for the same customers. Workers who find ways of being more productive can earn higher incomes. Entrepreneurs who are offering goods and services on the market can gain more economic power by improving the quality of the goods they are producing, lowering the cost of producing the goods they are currently producing, or bringing new types of goods and services to the

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market. If a producer can offer more value to customers than those customers can receive elsewhere, they will become the customers of that producer, and the entrepreneurial producer will gain economic power. This evolutionary market process means that everyone has to be innovative and entrepreneurial. Those who have found a profitable niche in an economy who stick with the old way of doing things will eventually be displaced by innovators who have found better ways. Even businesses that are currently profitable must be entrepreneurial to remain so. Because others in a market economy are entrepreneurial, everyone must be, to keep from falling behind the innovators. In this sense, students of economics must recognize that the neoclassical model of competitive equilibrium is not a good guide for running a business. The competitive firm is depicted as maximizing profit within a production function in which output is a function of the inputs of capital and labor, or as often depicted in textbooks, Q = f(K,L). Output, Q, is assumed to be homogeneous across firms, the production technology f is given to the manager, and the manager is left to choose the quantities of K and L to maximize profit. In a market economy, none of those parameters are given to the firm, and the entrepreneur who runs the firm must constantly look for innovations in each element of that production function.23 The neoclassical competitive model assumes that output, Q, is homogeneous across firms, but one of the most effective methods of competition is modifying the firm’s output to better satisfy consumers. Product differentiation, often depicted in microeconomics textbooks as a deviation from competition, in fact is a commonly used method of competition. Product differentiation drives economic progress.24 It is the source of new and improved goods and services. Firms do not differentiate their products to make them different; they differentiate them to make them better, and more desirable to potential customers. The goal of product differentiation is to create more value for others. Firms also look for more effective production technologies, f, and for better types of capital equipment, K, to enable them to produce better-­ quality output at lower cost. And, they look for different types of labor, L, to increase their effectiveness. Unlike the neoclassical model of competition, all components of the production function are targets for entrepreneurial improvement. Sometimes this means hiring laborers with more human capital who can be more productive, but other times it means augmenting capital so

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that less-productive labor can be more effective. The development of cash register technology is an example. In the mid-twentieth century, cashiers had to manually enter prices into a cash register, and after totaling up the amount due, had to calculate the change received by customers themselves. (This in itself was a significant advance over using pencil and paper to calculate charges.) Modern cash registers allow cashiers to scan items rather than manually enter prices, and the cash registers calculate the change, so cashiers in the twenty-first century need less human capital than those in the twentieth. Technological advances mean that even with lower-skilled labor, the price of purchases can be calculated more rapidly and with less chance of error. A manager who tried to run a firm by following the guidelines of the neoclassical theory of the firm would become less and less profitable and eventually go out of business. The combinations of Q, f, K, and L that are most profitable today will become increasingly less profitable as competing firms improve their products and production methods, so all firms have to be entrepreneurial if they are to survive. The result is new and improved goods and services and more efficient production methods. The quest for economic power generates economic progress.25 The creative destruction of the market process means that to gain, or even maintain, economic power, people must constantly be on the lookout for more productive ways of doing things, and for new and improved goods and services to entice others to engage with them in voluntary exchange. Because people in markets gain economic power through voluntary exchanges, individuals who want to gain more economic power for themselves must look for ways to create value for others. Economists, thinking within a well-established equilibrium framework, often perceive Adam Smith’s invisible hand as leading individuals in markets toward an equilibrium, but recognizing the evolutionary nature of creative destruction, that invisible hand pulls people toward being innovative and entrepreneurial so that they at least can keep up with, and ideally stay ahead of, competitors. Market forces pull individuals toward actions that upset the status quo. In this sense, the concept of equilibrium that underlies so many economic models is misleading. The idea, to think of a competitive equilibrium in neoclassical economics, is that if something disturbs the existing equilibrium there are market forces that tend to pull the economy back to that equilibrium. But many forces that disturb an existing equilibrium change underlying conditions so that markets never return back to where they

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were previously. When the development of automobiles disrupted the markets that provided horse-drawn transportation, the market for stables, stable hands, and wagons declined as the market for gasoline and auto mechanics increased. There was no equilibrium, in the sense of markets returning to their previous state. A better term for what economists call equilibrium is market-clearing. There are market forces that tend to make the quantity supplied equal the quantity demanded in all markets. That is what economists tend to refer to when they use the word equilibrium. But it is not an equilibrium in the sense that if present conditions are disturbed, the economy will return to its previous state. The economy is continually evolving and will never return to an earlier state. Innovations, once made, remain until they are improved upon. That is how the market process works, and because market participants have an incentive to seek economic power, if only for its value in consumption, market participants have an incentive to disrupt the status quo by seeking ways of producing more value for others, which is how they gain more economic power for themselves.

Welfare Economics Resting on the foundations laid by A.C. Pigou, welfare economics looks for ways to improve the economic well-being of people by reallocating resources more efficiently.26 In this framework, welfare is maximized by reaching a Pareto optimum, which is an allocation of resources in which nobody could be made better off without making someone else worse off.27 This static view of welfare remains at the foundation of welfare economics into the twenty-first century. When one reflects on the actual economic well-being of people, this notion of Pareto optimality as a welfare maximum is severely misleading. Think about why people are better off today than they were a century ago, or even 50 years ago or 20 years ago. It is not because the economy is closer to a Pareto optimal allocation of resources, it is because of the continual economic progress that has brought people new and improved goods that can be produced by more efficient production methods. Improvements in welfare are almost entirely the result of economic progress, and not the result of rearranging resources so they can be used more efficiently in a static sense. Yes, it is always welfare-enhancing to use resources more efficiently, but this has a minor effect on welfare compared to the continual march of economic progress. One reason it is a minor

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effect is that market incentives push people toward using resources efficiently in any event. Welfare maximization is not an outcome, as it is depicted in neoclassical welfare economics, but a process of continual innovation that leads to continual improvements in welfare.28 This process disrupts the status quo, because the incentive to create value is also the incentive to improve economic conditions.

Market Failure This chapter depicts market economies in a very favorable light, and with good reason. When one reflects on the remarkable increase in material well-being people enjoy in the twenty-first century when compared to a century or two ago—which has been the product of capitalism and markets—it should be surprising that so many people do not see market economies in a favorable light. Critics of market economies rightly note that governments have always played a strong role in the economy, starting with protecting property rights so markets can work, and extending to addressing many problems that have appeared as a result of resource allocation through markets. When markets do not allocate resources Pareto optimally—that is, as efficiently as they could possibly be allocated in theory—economists refer to this as market failure. Market failure, defined this way, has many possible causes.29 For present purposes, the sources of market inefficiencies are irrelevant to the argument at hand. Market failures are irrelevant because this chapter does not argue that markets work great in the absence of government oversight. Maybe they do; maybe they don’t. But the remarkable economic progress that has occurred in the few hundred years since the beginning of the Industrial Revolution has not occurred in the absence of government, and economic power has not been exercised without being protected by political power. Economic power has been separated from political power, but it is not exercised in the absence of political power. Perhaps capitalism would not have been able to work its magic in the absence of government oversight. Even if that is true, it does not diminish the remarkable prosperity that market economies have produced. One can hardly avoid crediting market economies for creating this prosperity, even if government played a role, because prosperity has occurred in market economies, and stagnation has occurred when other economic systems were used. A comparison of the Eastern bloc centrally planned dictatorships with the Western bloc capitalist democracies in the

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twentieth century provides some evidence. The difference between the economies of North and South Korea in the twenty-first provides similar evidence. Recognizing this does not deny the existence of market failure, as economists describe it, and does not say that markets are perfect. Surely government has played a role in taming market failures, if only by enforcing property rights, which limit externalities.30 The argument being made here is not that markets are good and government is bad. It is that when economic and political power are held by the same people, the result is stagnation, and when the people who hold economic power are not the same people who hold political power, the result is progress.

Inequality One of the most frequent complaints about capitalism is that it creates inequality in income and wealth—that is, inequality in economic power. It is true that economic power is unequally distributed in capitalist economies, although it is not clear whether the inequality in economic power is greater in capitalist economies than in other types of economic systems.31 But again, this criticism is irrelevant to the arguments made here. Perhaps greater economic equality should be a goal in itself, which would mean subjecting economic power to political power to create more equality. If one is concerned about the well-being of the least well-off in a society, casual observation shows that those with the least economic power are better off in market economies than in the alternatives. Mostly, this is because of income-earning opportunities that exist in market economies. It is also due to market economies being productive enough that there is income that can be redistributed. If a reason the least well-off fare relatively better in market economies is partly due to government redistribution, that raises the question about the efficacy of subordinating economic power to political power, at least to some degree, which will be considered below. Redistribution of income and wealth is possible only if those who are productive are both willing and able to share what they produce with others. As far as being able, a subsistence economy produces no surplus that can be redistributed, so redistribution requires a certain level of productivity, and the more productive an economy is, the more it has available to redistribute. But those who are producing must also be willing enough to allow redistribution that they will not rebel at having resources transferred

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from them. In a productive economy, those with charitable inclinations may even support government-enforced transfer programs, but again, this depends on the economy being productive enough that those who have resources transferred away from them do not have such strong opposition that they are willing to disrupt the system. This chapter has placed the market allocation of resources in a very favorable light, deservedly so when considering the prosperity that market economies have produced. The purpose of these last three sections is to note that there are many reasons to be critical of the market allocation of resources, and to recognize that government intervention may play a role in addressing some of these criticisms. Recognizing that does not invalidate the main argument this chapter makes, which is that when economic power is held independently of political power, people have an incentive to create value for others, to be entrepreneurial and innovative, and the result is economic progress.

Competition or Cooperation? The interactions of individuals in a market economy are often referred to as competition, but market activity is more cooperation than competition. In some sense, one restaurant competes with other restaurants, and one automobile manufacturer competes with other automobile manufacturers, but those businesses do not directly interact with one another. Rather, they interact with their customers. Businesses may compete with each other in the sense that they try to attract customers from other businesses, but the actual economic activity that takes place is cooperation between suppliers and demanders. Market activity takes place through the cooperation of individuals who voluntarily agree to engage in mutually beneficial exchange. Market activity, because of its voluntary nature, involves individuals who are looking for ways to help each other, not to harm each other. A business that wants to take customers away from its competitors does so by creating value for those customers, so that both the business and the customers are better off because of their transactions. Market activity is cooperative, as it must be because it is voluntary. If people do not believe the benefit from engaging in market exchange, they are not forced to do so. This cooperation for the mutual benefit of those who transact in markets contrasts with the competition that occurs in politics. While one might talk about cooperation in politics, democratic institutions that rely

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on majority rule pit one group against others. A majority wins, and is able to impose costs on the minority. In market exchange, all participants are winners. In politics, one side wins and another side loses. Market activity is cooperative activity, because it is voluntary, so people have an incentive to entice people to exchange with them by offering the other party value beyond what that party can receive elsewhere. Market activity encourages cooperation, and encourages economic progress as people search for ways to provide more value to others as the way to generate more economic power for themselves. In politics, one set of policies applies to everybody, so people have an incentive to focus on areas in which they disagree, to try to get others to come over to their side, or to try to build a majority so that those who disagree are left in the minority—the political losers. People can agree on almost everything, and yet in politics end up battling each other over the remaining areas where they disagree. The opposite is true in markets. When shopping at a store, few customers will even know whether the store clerk agrees with them on most things. Customers may have different religious views, political views, and philosophical differences with those they deal with in market transactions, but except in rare instances those disagreements are irrelevant because they never come up. How many people ask their servers at restaurants about their religious or political views before they agree to do business with them? The key issue is that the restaurant customer wants the food and the server wants to provide good service to earn more income, and they get along, conflict-free, because they deal with each other in areas where they have an incentive to exchange and never consider areas in which they might disagree. The restaurant server and the restaurant patron might happily transact with each other one evening, even if the next day they will find themselves on opposite sides of a political demonstration. Despite frequent reference to competition in markets, markets work on cooperation between willing buyers and sellers who have the incentive to find ways to create value for each other. That incentive leads innovative and entrepreneurial individuals to disrupt the status quo, to produce more value, which leads to economic progress.

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Factors of Production and Political Power Economic power is control over resources, and the degree to which those with political power can appropriate economic power depends on the relative importance of different factors of production. Economists typically identify four factors of production: land, labor, capital, and entrepreneurship. The relative significance of each factor will vary depending on the state of economic development. In pre-agricultural societies, labor is the predominant factor of production, so political power—control over people—brings with it economic power because those with political power control individuals, and therefore their labor. In agricultural societies, land is the predominant factor of production and people are attached to the land they cultivate, so for those with political power to also control economic power, they must control the land. Feudal societies provide an example. In commercial and industrial societies, capital is the predominant factor of production, and capital is more mobile than land or labor, making it more difficult for those with political power to control economic power in commercial and industrial societies. Even when a specific piece of physical capital is immobile, capital depreciates and investments can be made elsewhere, which gives capital its mobility. Without incentives to preserve it, the value of most capital will depreciate to zero in a matter of decades, if not sooner. So, the ability of political power to dominate economic power will vary depending on the type of economy. Entrepreneurship is the most volatile of all factors of production. Without the right environment, entrepreneurial individuals will engage in destructive rather than productive activities, so one challenge, from a social standpoint, is to design institutions so that entrepreneurial individuals have an incentive to engage in productive activities rather than plunder.32

Institutions Define the Scope of Economic Power The exercise of economic power depends on institutions that define and protect property rights. The analysis in this chapter has depicted market activity as occurring among individuals who have property rights that are clearly defined and protected, so that they unambiguously have the right to use and exchange their property with others, and can use their economic power in markets only if those they transact with agree. But the

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rights that people have are defined by institutions—typically, government institutions—and are protected by institutions—again, typically government institutions. As noted earlier in the chapter, rights to intellectual property, to intangible property like financial assets, rights to broadcast on the radio spectrum, and more are defined and enforced by governments. So, political power ultimately defines and protects the rights that give rise to economic power. Setting aside the complex cases just mentioned, even the most basic types of physical property are protected by government institutions. If squatters invade and occupy someone’s house, a government land registry identifies who owns the house, and government courts and police enforce those ownership rights. In some places, like the United States, rights to a home can be purchased in a market exchange, and the rights are protected and defined by government. In other places, like Cuba, if someone is living in a large house with extra rooms, the government can command that person to allow additional people to occupy what the government defines as extra space. The point of this example is not to say one system is better than another (though it may be), but to point out that institutions define and protect rights, and different institutions can shift economic power from some to others. People have economic power to the extent that they have control over resources, and institutions determine what resources people can control, and what they can do with resources under their control. Zoning laws, for example, may allow a homeowner to live in a house, but may prevent that homeowner from opening a retail store in the home she owns. While such institutions limit the homeowner’s economic power, if homes can be bought and sold, the homeowner has the right to engage in a transaction to sell the home, and may have an incentive to devote resources toward improving the home both for the homeowner’s satisfaction and to enhance its value on the market. Economic power—control over resources—can only be exercised when protected by political power. Daron Acemoglu and James Robinson note that “Prosperity and economic growth originate from a few basic principles. These include incentives for people to invest, experiment, and innovate.”33 Because opportunistic individuals will always be ready to appropriate anything of value that is not protected from appropriation, some form of force must always stand behind the control of resources. A frail grandmother can walk down the street without being mugged because opportunistic muggers realize they stand a good chance of getting caught

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if they engage in a mugging. This is true on some streets, and some times of day, but not true on other streets in the dark of night, when a mugger is more likely to escape. The same is true of all resources, whether one is talking about ownership of an automobile, ownership of a patent on a medical drug, or owner of a copyright on a musical composition. A complete understanding of economic and political power requires that both be analyzed together.

Notes 1. Robert L. Heilbroner, The Making of Economic Society (Englewood Cliff, NJ: Prentice-Hall, 1962). 2. Bas van Bavel, The Invisible Hand? How Market Economies Have Emerged and Declined since AD 500 (Oxford: Oxford University Press, 2016), pp. 1–2. 3. van Bavel, The Invisible Hand?, p. 273. 4. Heilbroner, The Making of Economic Society. 5. Kenneth E.  Boulding, Three Faces of Power (Newbury Park, CA: Sage, 1989), p. 58. 6. See John R.  Commons, The Legal Foundations of Capitalism (Madison: University of Wisconsin Press, 1924), and Institutional Economics: Its Place in Political Economy (New York: Macmillan, 1934). 7. Thomas W. Hazlett, The Political Spectrum: The Tumultuous Liberation of Wireless Technology, from Herbert Hoover to the Smartphone (New Haven, CT: Yale University Press, 2017). 8. Hernando de Soto, The Other Path: The Invisible Revolution in the Third World (New York: Harper & Row, 1989), and The Mystery of Capital: Why Capitalism Triumphs in the West and Fails Everywhere Else (New York: Basic Books, 2000). 9. See, for example, Naomi R. Lamboreaux, “The Problem of Bigness: From Standard Oil to Google,” Journal of Economic Perspectives 33, no. 3 (Summer 2019), pp. 94–117. 10. John Stuart Mill, Principles of Political Economy With Some of Their Applications to Social Philosophy (London: Longmans, Green, and Co., 1920 [orig. 1848]), p. 208. 11. Peter V. Schaeffer, “The Rules of the Game,” Review of Regional Studies 48, no. 3 (2018), pp. 271–277. 12. John Kenneth Galbraith, American Capitalism: The Concept of Countervailing Power (Boston: Houghton Mifflin Company, 1952). 13. Gordon Tullock, “The Welfare Cost of Tariffs, Monopolies, and Theft,” Western Economic Journal 5 (June 1967), pp. 224–232; Anne O. Krueger,

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“The Political Economy of the Rent-Seeking Society,” American Economic Review 64 (June 1974), pp. 291–303; and George J. Stigler, “The Theory of Economic Regulation,” Bell Journal of Economics and Management Science 2, no. 1 (Spring 1971), pp. 3–21. 14. James Gwartney, Robert Lawson, and Joshua Hall, Economic Freedom of the World 2018 Annual Report. (Vancouver, BC: Fraser Institute, 2018). 15. Thorstein Veblen, The Theory of the Leisure Class: An Economic Study of Institutions (New York: Macmillan, 1899). 16. Vance Packard, The Hidden Persuaders (New York: David McKay, 1957). 17. Galbraith, The Affluent Society. 18. Friedrich A.  Hayek, “The Non Sequitur of the ‘Dependence Effect,’” Southern Economic Journal 27, no. 4 (April 1961), pp. 346–348. 19. Robert H. Frank, Luxury Fever: Weighing the Cost of Excess (Princeton, NJ: Princeton University Press, 2000). 20. Richard H. Thaler and Cass R. Sunstein, Nudge: Improving Decisions about Health, Wealth, and Happiness (New Haven, CT: Yale University Press, 2008). 21. Adam Smith, An Inquiry Into the Nature and Causes of the Wealth of Nations (New York: Modern Library, 1937 [orig. 1776]), p. 3. 22. Joseph A.  Schumpeter, Capitalism, Socialism, and Democracy, 2nd ed. (London: George Allen & Unwin, 1947) p. 82. 23. I elaborate on this idea in Randall G.  Holcombe, Entrepreneurship and Economic Progress (London: Routledge, 2007). 24. Randall G. Holcombe, “Product Differentiation and Economic Progress,” Quarterly Journal of Austrian Economics 12, no. 1 (Spring 2009), pp. 17–35. 25. A further elaboration appears in Randall G.  Holcombe, Producing Prosperity: An Inquiry Into the Operation of the Market Process (London: Routledge, 2013). 26. A.C. Pigou, The Economics of Welfare (London: Macmillan, 1920), Pigou, an economics professor at Cambridge, used to tell his students, “It’s all in Marshall,” referring to Alfred Marshall, Principles of Economics (London: Macmillan, 1890), so taking Pigou at his word, we should at least say this line of reasoning rests on Marshall. 27. Francis M.  Bator, “The Simple Analytics of Welfare Maximization,” American Economic Review 47, no. 1 (March 1957), pp. 22–59, explains this neoclassical concept of welfare maximization. 28. Randall G. Holcombe, “A Reformulation of the Foundations of Welfare Economics,” Review of Austrian Economics 22, no. 3 (September 2009), pp. 209–224, elaborates on this idea.

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29. A theoretical analysis of market failure appears in Francis M. Bator, “The Anatomy of Market Failure,” Quarterly Journal of Economics 72, no. 3 (August 1958), pp. 351–379. 30. James M. Buchanan, “Public Finance and Public Choice,” National Tax Journal 28, no. 4 (December 1975), pp. 383–394, notes that the concept of market failure compares the real-world performance of markets with a theoretically perfectly efficient allocation of resources, rather than the way resources would be allocated if government were to try to fix those market failures. In the real world, governments do not allocate resources perfectly efficiently either, which can cause government failure that may be worse than any market failure. Buchanan says that the correct comparison is between real-world markets and real-world government, a topic that could be discussed in detail but that is only tangentially related to the ideas in this section. 31. A critical analysis of the inequality created by capitalist economies appears in Thomas Piketty, Capitalism in the Twenty-First Century (Cambridge, MA: Harvard University Press, 2014). 32. This challenge is discussed by William J.  Baumol, “Entrepreneurship: Productive, Unproductive, and Destructive,” Journal of Political Economy 98, no. 5, Part 1 (October 1990), pp.  893–921, and Entrepreneurship, Management, and the Structure of Payoffs (Cambridge, MA: MIT Press, 1993). 33. Daron Acemoglu and James A.  Robinson, The Narrow Corridor: State, Societies, and the Fate of Liberty (New York: Penguin Press, 2019), p. 144.

CHAPTER 4

The Separation of Economic from Political Power

People seek power both because it can be a means to help them accomplish other ends, and because people value power as an end in itself. This is true of economic power, political power, and all types of power. Because of the hierarchical nature of political power, those who have it tend to use it to preserve the status quo, which preserves their places in the hierarchy and makes it more difficult for those below them to displace them in the hierarchy. They can do this because political power is based on the threat of force. To keep economic power, in contrast, typically requires disturbing the status quo through the entrepreneurial process Schumpeter so aptly labeled creative destruction. Those with substantial economic power often would like to preserve the status quo, and often try to create barriers to entry to prevent others from displacing them and eroding their economic power, but the differences between economic and political power typically mean that while those with political power can best preserve it by preserving the status quo, those with economic power can best preserve and enhance it by disrupting the status quo. Those with political power can use the threat of force to maintain the status quo. They coordinate the activities of those below them through control. Economic power coordinates people’s actions through voluntary cooperation. In the absence of political power, those with economic power cannot force others to cooperate with them, so their incentive is to use their economic power to entice others to cooperate, which means finding ways to offer people more value, which means disrupting the status quo. © The Author(s) 2020 R. G. Holcombe, Coordination, Cooperation, and Control, https://doi.org/10.1007/978-3-030-48667-9_4

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The successful exercise of political power generates stability. The successful exercise of economic power generates progress. Political institutions that create a stable and orderly society can also be designed to create a productive society, an observation that goes back at least to Thomas Hobbes.1 But those with political power are not the producers. They can create an environment within which those with economic power can be productive, but will do so only when they perceive it to be advantageous to themselves. Those with political power have an incentive to use it to maintain and enhance their positions within the political hierarchy, and to use it to transfer economic power—the control over resources—to themselves. Even in the poorest societies, those at the top of the political hierarchy are materially well-off, so any incentives to create productive institutions are secondary to the incentives they have for maintaining their positions at the top of the hierarchy. One of the challenges in constitutional design is finding ways to constrain those with political power from using it to engage in predation over those with economic power. Political power enables holders to control people’s behavior, coercing them into acting in ways they may not view as being in their narrow interests. Economic power is exercised by giving others the incentive to engage in mutually advantageous exchange. All parties to an exchange agree, so coercion is not a factor when people exercise economic power in the absence of political power. The idea behind political power is to force those subject to it to comply, whereas the idea behind economic power is to entice those subject to it to cooperate. This is the difference between economic institutions that enable cooperation and political institutions that enforce control. Political power removes the incentive for innovation, both for those who hold political power and for those who are subject to it. Those who hold political power have the incentive to maintain compliance so that they can continue to reap the rewards of their ability to threaten the use of force. Those who are subject to political power have the incentive to comply, so as not to bear the cost of being sanctioned for noncompliance. Economic power gives people the incentive to search for ways to create value for other people, because people can gain more economic power through mutually advantageous exchange. Political power creates the incentive to maintain the status quo; economic power creates the incentive to disrupt the status quo to create more value.

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Maintenance of the status quo is not always undesirable. Rule of law and protection of property rights, key elements that facilitate the exercise of economic power, are based on a set of objective and predictable laws, and on the security of ownership rights—both of which require that legal and political institutions change only slowly if at all, and in a predictable manner. Political power, which values stability, provides a good foundation for institutions to enforce property rights and rule of law.

Political Power Is Hierarchical; Economic Power Is Egalitarian While it is true that some people have more economic power than others, economic transactions are based on the exchange of similar values such that all parties benefit. When a shopper buys a loaf of bread from a grocery store, for example, it may be that the owner of the grocery store has more economic power in total than the purchaser (or, the purchaser may have more economic power than the store owner), but that is irrelevant for that particular transaction. The loaf of bread is exchanged for an amount of money having roughly the same value, with a gain to both sufficient that they both voluntarily agree to the exchange. Both parties engage in the transaction because they both believe they benefit. If Warren Buffett shows up at that same store to buy a loaf of bread, he will have more economic power in the aggregate than the store owner, but the transaction occurs the same way whether the buyer is Warren Buffet or a janitor who works for Buffet’s Berkshire Hathaway Corporation. Both exercise the same amount of economic power in that particular transaction. Warren Buffett’s $10 has the same economic power as the janitor’s $10. Political power is hierarchical. Some people exercise political power over others. Those who stand above others in the hierarchy exercise more political power than those who are below, and their interactions are based on this inequality of power. Those who have political power can give orders to those who do not, but the reverse obviously is not true. Looked at in this way, while some people exercise political power over others, people do not exercise economic power over others, and economic power is egalitarian. As noted above, one person’s $10 brings with it the same economic power as another person’s $10, even though some people have more economic power in the aggregate. People engage in exchange as equals,

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trading value for value, even if in the aggregate one of them has much more power than the other. Keep in mind the distinction between economic power and market power made in the previous chapter. People may have monopoly or monopsony power, but this by itself does not give them the power to force other people to engage in transactions with them. Absent political power, all people with market power can do is to present those with whom they deal offers that both parties believe are beneficial to themselves. People do not exercise economic power over others the way people exercise political power over others. In the absence of political power, economic power is exercised through mutual consent. If people have market power, they can use it to extract more of the gains from trade, but not all the gains from trade, because there is no reason for anyone to enter into transactions without getting some benefit. Political power enables its holders to force others into transactions in which those who are coerced are net losers, unlike with market power alone. Engaging in market exchange, $10 from Warren Buffett brings with it the same amount of economic power as $10 from anyone else, which illustrates the egalitarian nature of economic power.

Economic Progress The previous chapter laid the foundation for understanding why when those who hold economic power do not also have political power, the result is economic progress. In economic competition, competitors do not compete directly with each other. Rather, they cooperate with people to engage in mutually advantageous exchanges. Suppliers can be said to compete with other suppliers, and demanders can be said to compete with other demanders, but suppliers do not interact directly with other suppliers and demanders do not interact directly with other demanders. Suppliers and demanders cooperate with each other for their mutual benefit. People can enhance their economic power if they are able to increase the volume of their mutually advantageous transactions, and they can increase the volume of their transactions by offering those on the other side of the market a better deal. This is most often depicted as a supply side activity, with suppliers offering new products, improvements in existing products, and more efficient production techniques to lower cost. Demanders also might offer a better deal in the form of agreeing to make bulk purchases or agreeing to a steady stream of purchasers. As the

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previous chapter noted, innovators can increase their economic power by offering others more value to those with whom they transact. As Schumpeter noted, capitalism is an economic system that is always evolving, and is never stationary. The incentives people have when they hold economic power independent of political power push them to upset the status quo to produce an outcome that not only is different but also is better. It is better because those with economic power enhance their power by increasing the value of what they have to offer in the market. Looking at the evidence, the conclusion that the exercise of economic power leads to economic progress should not be controversial. Since the beginning of the Industrial Revolution, economic progress has been increasingly rapid, enough so that it is visible to everyone. After automobiles replaced horse-drawn transportation, the steady improvement in automobiles, decade by decade, is obvious to even the casual observer.2 The smartphone, a twenty-first century invention, is evolving fast enough that few people expect to keep their current phones as long as five years before replacing it with an improved model. Improvements in television, both in terms of the physical televisions and the programming available, offers another example. In just about every area of life, economic progress is readily observable—in places where economic power is exercised independently of political power. Per capita incomes have been steadily rising in places that allocate resources through market economies, but increases in incomes are a side effect of economic progress. Thinking about economic progress, people tend to focus on increases in income because income is more easily measurable, but incomes could not grow as much as they have without progress in the availability of new goods and services. In the United States, per capita income increased seven-fold during the twentieth century, but people at the end of the twentieth century did not demand seven times as many horses as they did at the beginning of the century. The demand for horses declined as other transportation options appeared. The shift from horse-drawn travel to automobiles and jet aircraft requires entrepreneurs who upset the status quo and bring innovations to market. While innovation is more apparent in high-tech markets, crop yields per acre have steadily been increasing thanks to innovations in agricultural technology, and in other areas of the food market, compare a twenty-first century McDonalds restaurant with the original McDonalds that started that chain in the 1950s. There is only a slight resemblance.

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This economic progress occurs because a market economy gives people the incentive to look for ways to create more value for others. People have the incentive to upset the status quo to replace it with something that is not just different, but better. It is better because successful innovative disruptions create more value—they must, to entice people to shift from their old ways of doing things to take advantage of new opportunities. Progress necessarily disrupts the status quo, and when people hold economic power without political power, the result is economic progress.

Political Power and Stability Chapter 2 noted the inherent tendency for those who hold political power to use it to maintain stability. They use their power to prevent others from taking it. People would like to move up the hierarchy, but those above them have more power, making it risky for those lower in the hierarchy to use any power they have to try to displace those above them. While coups and revolutions do occur, they are likely to fail absent some obvious weakness in those who are targeted. The distinction between people who have power and positions of power is worth noting. People who have power can move up in the hierarchy when those who hold positions of power above them vacate those positions. The death of holders of power can create very competitive and perhaps violent power struggles among those who aspire to the vacated position. Democratic elections offer an alternative to violence, and a more stable way of allocating political power. Positions of power are regularly up for grabs. Stability tends to be in the position of power, rather than the holders of power. Casual observation shows that incumbents have a substantial advantage in democratic elections, but the advantage of incumbency goes with the position, not with the individual incumbent. As societies advance, stability in political power tends increasingly to be associated with socially ascribed characteristics rather than personal characteristics. Reelection rates for members of the US House of Representatives typically exceed 90 percent, and in the Senate typically exceed 80 percent. The most effective way to gain political power is to wait for a position of power to be vacated, and compete for that position. The stability associated with political incumbency indicates that those who hold positions of power have been successful at designing institutions such that those who currently hold them have an advantage in retaining them.

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Institutions are the major determinant of the degree to which individuals can maintain their political power, in addition to determining the amount of political power that goes with positions of power. Reelection rates are higher in the US House of Representatives than in the Senate partly because House districts can be gerrymandered, whereas Senate districts cannot. House districts have been designed as single-member districts, even though there is no constitutional requirement to do so, which limits competition between incumbents and effectively establishes a political cartel.3 Senate terms are staggered so that incumbent Senators also never compete against each other. The seniority system is another institution that enhances the power of incumbents, because incumbents always have more seniority than challengers, giving incumbents an advantage in elections, and allowing them to move up the power hierarchy as they gain seniority.4 The committee system allows those with political power to exercise more power in areas their committees oversee.5 These specific institutions are worth emphasizing because they were created by the people who already had political power, to enhance the power they had. Meanwhile, institutions such as term limits reduce the power of individuals who have political power, partly because they must vacate those positions and partly because toward the end of their terms, political opponents may have an opportunity to wait them out rather than yield to their power. Term limits limit the power of individuals but do not limit the power of the positions those individuals hold. They simply allow for a less confrontational method of power transfer. People with political power have never imposed term limits on themselves. Individuals who have political power do not willingly choose to give it up. Although some exceptions can be cited, political power is most often voluntarily given up when its holder sees that it is vulnerable and prefers giving it up voluntarily to being forced to relinquish it. Daron Acemoglu notes that even when there are obvious institutional improvements that could provide benefits for everyone, those with political power are reluctant to pursue them because they recognize that a disruption of the status quo could bring with it a reshuffling of political power.6 People value power for its own sake, so even if the holders of political power could be materially better off, they might still prefer the security of the status quo, with their hold on power. Those with political power, even in the poorest of nations, find their material needs well-met, so an increase in the general standard of living will be of minimal value to

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them. Economic progress takes a second seat to political stability for those who hold political power.

When Economic and Political Power Are Combined When the people who hold economic power also hold political power, the result is stagnation. Those who hold power want to retain it, and they can do so by maintaining the status quo. A disruption of the status quo can threaten the political power of those who hold it. The same is true of economic power. The process of creative destruction that characterizes economic progress not only replaces old goods and services and old production processes with new ones, it also reduces the economic power of those who were wedded to the old way of doing things. The rise of the automobile early in the twentieth century created economic power for the owners, managers, and employees of firms in that industry, but eroded the economic power of those whose livelihood was associated with horse-drawn transportation. The rise of the auto industry in Japan created economic power for the owners and managers of Honda and Toyota, while threatening the economic power of the owners and managers of General Motors and Ford. Creative destruction, in economics and in politics, shifts power to innovators and entrepreneurs. When economic and political power are held by the same people, those who hold power want to maintain the status quo to prevent others from taking their power. This resistance to change that is inherent in political power means that when both of these types of power are held by the same people, the result is stagnation. When the same people have both, they use their political power to maintain their control over resources. If they can use force to maintain control, they do not have to persuade others to cooperate. The use of economic power, by itself, leads to progress, but when they are held by the same people, political power dominates economic power. Consider an example from the computer industry, that was dominated by IBM in the 1960s. Their market power eventually eroded as other competitors entered their niche, and more significantly, as the minicomputer was developed as an alternative to the mainframe, which was the result of economic progress that improved computing technology generally. The leading minicomputer firm was Digital Equipment Corporation (DEC), and economic power in that industry shifted from IBM to DEC. Many readers may not remember DEC, which had its best years in the 1980s,

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but eventually was eclipsed by the development of more powerful PCs. Microsoft rose to prominence in the 1990s and economic power shifted to them. By 2020, Apple had become a major player in the industry, largely because users shifted from PCs to smartphones. These companies did not want to give up their economic power, but because they lacked the political power to stifle competitors, they were unable to prevent entrepreneurial competitors from entering their markets, and attracting customers because these entrepreneurial innovators provided greater value to customers. Surely, the IBM veterans from the 1960s would have liked to have maintained their economic dominance, but with economic power alone they were unable to keep their customers from moving to other vendors. This story is simplified and stylized to illustrate a point, partly because IBM remains a going concern, although not the dominant firm it once was, and partly because IBM (like most firms) did attempt to use their economic power to gain political power through lobbying for benefits and protections from competitors. But in a market economy, IBM was unable to use its economic power to maintain its dominant position, and the same is even more true for DEC, which eventually was bought by Compaq, which in turn was bought by Hewlett-Packard. When those who hold economic power also hold political power, they use their political power to maintain the status quo, so they can keep their economic power and their political power. The coercive force of political power enables them to maintain their position in the political and economic hierarchy. When economic and political power are combined, the result is stagnation.

When Economic and Political Power Are Separated To examine the situation where economic and political power are held by different people, this section begins with the assumption that those who hold political power use it to clearly define and enforce property rights, so those with economic power have secure title to the resources they control, and those with political power enforce those rights. That must be the case; otherwise, people’s claim over resources would be subject to predation— individuals would not be able to hold more than just a minimal amount of economic power. One question is why those who hold political power would do this, and that question is addressed in Chap. 7. Another question is whether the

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assumption is plausible, which is discussed later in this chapter. But that assumption is not completely implausible as an approximation, because in advanced capitalist economies, governments do define and enforce property rights, and rarely confiscate economic power from those who have it. The previous chapter explained why economic power, exercised by those who do not have political power, leads to progress. Because people who have economic power gain more power through mutually advantageous exchange, they have an incentive to be entrepreneurial and look for ways to create value for others. This sets into motion a process of creative destruction that leads to new and improved goods and services, and more efficient production processes. Thus, separated from political power, economic power generates progress. The substantial economic progress that has occurred since the beginning of the Industrial Revolution is the result of economic power being exercised independently of political power. Chapter 2 explained why those who have political power want to use it to maintain the status quo. Stability enables them to maintain their power, whereas the creative destruction that occurs with progress threatens their position in the power hierarchy. But when separated from economic power, political stability is beneficial. The concept of rule of law means that there is a stable and predictable legal system. The protection of property rights requires well-defined and unchanging rights to ownership. The stability that lays the foundation for economic progress is not stability in individuals who hold political power, but stability in the institutional structure of political power. Stability in political institutions enables the creative destruction in a market economy that disrupts the economic status quo. Economic power can be separated from political power only when those who have political power protect property rights and enforce rule of law. People cannot control resources without their ownership rights being protected, and effective protection must be sufficient to keep predatory individuals from confiscating the resources of others. While people can and do hire their own protection services, government has a comparative advantage in the use of force, so government must recognize and respect private property rights, and act to protect them. Institutions that separate economic from political power are necessarily institutions in which those with political power use that power to define and enforce property rights, to allow people to use economic power without having political power. Those with political power do this because they can collect tribute in

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exchange for protecting those with economic power, an idea that is discussed further in Chap. 9.

The Knowledge Problem The economics literature has pointed out other reasons why stagnation results from the domination of economic by political power. Early in the twentieth century, shortly after the Russian revolution led to the creation of the Soviet Union, Ludwig von Mises claimed that markets and market prices are required for the rational allocation of economic resources.7 Central planning could not allocate resources rationally in the absence of markets to determine the value of goods. Much of the economics profession disagreed with Mises. Among the more vocal were Oskar Lange and Fred M.  Taylor, who offered a theoretical mechanism that would allow central planners to allocate resources at least as efficiently as the market by mimicking the process by which markets determined prices.8 Abba Lerner offered a more sophisticated presentation of the way that government planners could run a centrally planned economy.9 Friedrich Hayek argued that Mises’s critics based their arguments on an incomplete understanding of the role that markets and market prices play in an economy. He noted that in a stagnant economy, central planners probably could calculate market prices, but the larger function of the market is to coordinate all of the decentralized and ever-evolving knowledge held by all participants in an economy.10 The economy is always evolving, new knowledge is always being developed, and everyone in an economy has knowledge that is not held by anyone else. That knowledge is often incomplete, and often contradictory. Not only do different people think different things, sometimes a single individual will have contradictory information that will have to be reconciled for the individual to decide the best course of action. Much of the knowledge in an economy is tacit knowledge, which means that it cannot be articulated to others and can only be used by the individuals who have the knowledge. To understand the commonsense of this, consider why corporations hire experienced people to be their CEOs (and other corporate officers) rather than hiring MBAs fresh out of Harvard Business School, who are smart and who have all the latest technical knowledge needed to run a business. The reason is that they do not have the experience that creates the tacit knowledge that cannot be taught in school. An important part of what a market economy does is to coordinate

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all of the decentralized knowledge held by people throughout the economy so that everyone can make best use of the knowledge held by others, without having to acquire that knowledge. Hayek’s argument was that central economic planners could never make use of all of this knowledge. Not only would it be a lot of knowledge to aggregate, but people’s tacit knowledge, by its very nature, could never be communicated to planners, so planners could never use it. That is why the rational use of economic resources requires markets and market prices to coordinate everyone’s economic activity and make best use of the knowledge everyone has. The arguments of Mises and Hayek were viewed with skepticism in the mid-twentieth century when the Soviet Union, with its centrally planned economy, was perceived as catching up with the United States. But after the collapse of the Berlin Wall in 1989 followed by the breakup of the Soviet Union in 1991, economists saw more merit in Mises’s and Hayek’s arguments. The previous section argued that when economic power is controlled by those with political power, stagnation is the result, because those with political power want to maintain the status quo. Augmenting that line of reasoning, even if those who had political power wanted to generate economic progress, they would be unable to because of this knowledge problem. Central planners cannot obtain the knowledge necessary to generate economic progress. This is a persuasive argument, but it sets aside the incentives of those with political power to maintain the status quo. Even if there was no knowledge problem, those with political power still would favor institutions that lead to stagnation. What if the dictators both understood the knowledge problem and wanted to create economic progress? They would still maintain their grip over economic power, to prevent the creative destruction that could cost them their positions in the political hierarchy. There is no denying that the dictators who ran the former Soviet Union wanted economic progress. They thought they could get it through central economic planning, partly because reputable economists were telling them that central economic planning was a superior system. But, as Daron Acemoglu argues, if the choice is either to give up their grip over economic resources to allow economic progress or maintain the status quo to retain their political power, they will choose the latter.11 The knowledge problem, while real, is not as relevant to the reason centrally planned economies do not perform well as at first it appears.

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Even if those who hold both political and economic power understood the knowledge problem, they would not give up their grip on economic power to allow economic progress. They prefer the status quo, because they are at the top of the political hierarchy. Those at the top of the hierarchy are more concerned about maintaining their grip on power and less concerned with overall economic conditions, because they fare very well, economically, even if most of those under them do not.

Institutional Power and Personal Power Douglass North, John Wallis, and Barry Weingast note that individuals in a society possess both individual characteristics and socially ascribed characteristics.12 Individual characteristics, like a person’s height, intelligence, and sense of humor, are associated with specific individuals. Socially ascribed characteristics come from the social positions people hold, such as legislator, bank teller, or janitor. Socially ascribed characteristics are defined by institutions. Personal characteristics may help determine a person’s socially ascribed characteristics, but socially ascribed characteristics are determined by the positions people hold. Power associated with socially ascribed characteristics goes with the positions people hold rather than with the people themselves. Individuals who have political power want to maintain it, and if their political power comes from their individual characteristics, that gives them the ability to use that political power in arbitrary ways. With sufficient power, they, as individuals, can confiscate property, order their rivals to be put to death, and rearrange the institutional structure of those elements of society over which they have power. Economic power becomes subservient to political power. When people hold political power because of their socially ascribed characteristics, institutions define the scope of power individuals have. Institutional constraints on those who hold political power can limit their abilities to engage in arbitrary actions. Political leaders such as Joseph Stalin, Adolf Hitler, Mao Zedong, and Vladimir Putin assumed socially ascribed positions of power, but from there were able to aggrandize their holds on power because of their personal characteristics. They were able to expand their power beyond the institutional constraints of their positions when they first occupied them, because their power became based on personal characteristics that went beyond the institutional power of their positions.

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The personal power they were able to exercise gave them the ability to redefine institutions, undermining institutional stability even as they solidified their personal positions atop the political hierarchy. Presidents of the United States have been much more constrained because of the stronger institutions (probably not weaker personalities) that have held personal power in check. That meant that their political powers were defined by the institutions of the office—the socially ascribed characteristics of a president—rather than their personal characteristics. In this case, institutional stability solidifies their hold on political power. Personal power is discretionary, and allows its holders substantial leeway in how it will be used. The use of institutional power is constrained by the institutions that define its limits. The holders of power seek stability because they want to retain their positions in the power hierarchy, but when political power comes from personal characteristics, stability in the power structure can create instability in the institutional structure. The holders of power use it in whatever way aids them in maintaining control. Conversely, when political power comes from the socially ascribed characteristics determined by institutions, those who hold power seek to maintain their positions by maintaining institutional stability. When political power is institutional in origin, political stability is the result. Certainly, people who hold political power will try to maintain and expand it by shifting their power base toward their personal power. J. Edgar Hoover, Director of the FBI from 1924 to 1972, is an example. And, they have every incentive to expand their power by increasing its institutional component. So, there is not a hard division here between the personal and institutional components of political power, but the difference between them is important. When political power is personal, the possibility of institutional instability remains open. Hoover reportedly kept files detailing various aspects of the personal lives of others who had political power, creating an implied threat that people who opposed Hoover could be blackmailed by personal information they would rather keep secret. The personal power Hoover had enhanced his socially ascribed power. When political power is institutional in origin, and people hold political power because they have assumed institutionalized positions of power, institutional stability is the result. They want to preserve their power, which comes from existing institutions. With stable institutions, the most likely way to gain power is to move up the institutional power hierarchy, as opposed to trying to gain more power in one’s current position.

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Political stability is the result of strong institutions in which people hold political power because of their socially ascribed characteristics. Stable and predictable legal and political institutions that protect property rights mean that those with economic power can be assured that their profits are secure if their innovations are successful. Increasing prosperity results when the people who hold economic power are not the same people who hold political power. Stable legal and political institutions provide the foundation for economic progress.

Political Confiscation of Economic Power This simple conclusion—that the separation of economic from political power creates progress and prosperity—points toward a more complicated question. How can political power, which is based on force, be prevented from confiscating economic power? One answer is that in many cases it cannot. For most of human history, and in many parts of the modern world, political power dominates economic power, and the result is stagnation. In many places around the world, the two have been tolerably separated, and the result has been progress and increasing prosperity. Several factors can serve as a check on the ability of those with political power to confiscate economic power. One factor is economic compensation to those who hold political power sufficient for them to see it as a risky bet—a threat to their wealth— to try to confiscate economic power. Those with economic power can fight back, and if those with political power try to use the force of government to confiscate economic power, they may lose that battle. It may be better to settle for the power and prestige they currently have than to try to upset existing institutions to get more. This implies stable institutions that would have to be changed for those with political power to confiscate economic power. When institutions are unstable, uncertainty about the future suggests to those with political power that they have less to lose by trying to use their power now to make themselves better off in the face of an uncertain future. This points to a second factor: stable institutions. When political power emanates from personal characteristics, those with power have the discretion to use it for their personal benefit. When institutions determine the boundaries of power, so political power comes from the socially ascribed characteristics of the positions they hold, individuals are constrained in the power they can exercise. The president of the United States, as powerful

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as he is, is constrained by the institutions of the office from confiscating economic power beyond the institutional powers of the office. This line of reasoning is further explored in Chap. 7. In the absence of institutional constraints, a power grab by those with political power could push the masses to opposition. With democratic institutions, the result might be that the incumbent loses the next election to someone who opposes the confiscation. Violent uprisings against those who have a comparative advantage in the use of force are risky, though they can occur when people view that they have more to lose by giving in to the current power holders than trying to go outside the current institutional bounds to replace them.13 One factor that influences the degree to which those with political power can confiscate economic power is the relative importance of factors of production. As the previous chapter noted, the relative importance of land, labor, capital, and entrepreneurship in the production process affects the ability of those who have political power to control economic power. Capital is more mobile than labor and land, and entrepreneurship is even more mobile, which makes it more difficult for those with political power to dominate those with economic power when capital and entrepreneurship are more important factors of production.14 Some evidence on the changes in the relative importance of factors of production comes from looking at the way David Ricardo framed issues related to economic growth in 1817 and the way that Robert Lucas did in 1988.15 Ricardo, like Lucas, took a production function approach to analyzing economic growth, but unlike Lucas, the most important factor of production in Ricardo’s model was land.16 Ricardo, like his friend Thomas Robert Malthus,17 thought that economic development would be limited by the relative scarcity of land. As the population grew, that would produce more labor, and investment could produce more capital, but the availability of land was limited, putting a check on economic growth. While land was the key factor of production as Ricardo viewed things in the early 1800s, Robert Lucas’s frequently cited article on economic development does not even include land in his model.18 Lucas models output as a function of capital and labor, and notes the importance of human capital.19 Capital is a mobile factor of production, and human capital is even more mobile. While individual people may encounter barriers to moving, the application of human capital only occurs when the people who have it have an incentive to use it productively. Human capital is most evident in entrepreneurship, but entrepreneurs will take the risks to be

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innovative only when they see a reward for doing so. Political power cannot confiscate entrepreneurship, because any attempt to do so will make entrepreneurship disappear. If entrepreneurs themselves cannot move, they will cease being entrepreneurial, or worse, will turn their entrepreneurial ambitions in unproductive directions.20 Land and labor can be confiscated through force, but capital can only be confiscated in the short run, and entrepreneurship not at all. Whereas labor reproduces itself and land is durable and immobile, capital depreciates, so confiscated capital eventually will become worthless without reinvestment, and while people can be forced to work, they cannot be forced to be creative, as is required for entrepreneurship. When those who hold economic power do not hold political power, there are economic forces that can keep political power in check. When economic power is mobile, those with political power have an incentive to protect it rather than confiscate it. But moving always entails some costs. The forces that check the ability of economic power to remain independent of political power are often insufficient, and political power does sometimes confiscate economic power.

The Power Elite Along with the rise of capitalist economies that have led to unprecedented global prosperity has been the rise of democratic governments that have given unprecedented oversight of political power to the government’s citizens. Francis Fukuyama has referred to these institutional changes as the end of history, in the sense that market economies represent the final step in the evolution of economic systems and democratic governments represent the final step in the evolution of political systems.21 One would not want to minimize the power of democracy to give citizens a way to peacefully replace those who hold political power, and it certainly limits the ability of those who occupy those institutions of power to abuse them. At the same time, the ideology of democracy overstates the ability of the masses to use democratic institutions to constrain the political elite. Despite the appearance that democratic institutions give the masses the ultimate say over the actions of their governments, social scientists have long observed that public policy is made by an elite few and imposed on the masses. C. Wright Mills observes, “The powers of ordinary men are circumscribed by the everyday world in which they live… But not all men are in this sense ordinary. As the means of information and of power are

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centralized, some men come to occupy positions in American society from which they can look down upon, so to speak, and by their decisions mightily affect, the everyday worlds of ordinary men and women.”22 Mills calls those people the power elite. Along the same lines, political scientists Martin Gilens and Benjamin Page undertake an empirical study of public policy and conclude, “When the preferences of economic elites and the stands of organized interest groups are controlled for, the preferences of average Americans appear to have only a miniscule, near-zero, statistically non-significant impact on public policy.”23 They go on to note, “To be sure, this does not mean that ordinary citizens always lose out; they fairly often get the policies they favor, but only because those policies happen also to be preferred by the economically-elite citizens who wield the actual influence.”24 This line of reasoning carries with it an implication that the type of economic system influences the structure of the political system.25 The idea that the views of millions of people can be aggregated through a democratic decision-making process to determine public policy is an illusion. Voters can only vote on the options that are offered to them, and those options are controlled by the elite. Voters realize this, and so are, in the words of Anthony Downs, rationally ignorant.26 Most voters are very uninformed on political matters, because they realize their one vote will have no effect on an election outcome. The rational political ignorance of the masses is a consequence of the fact that as individuals, they have no political power. Daron Acemoglu and James Robinson observe, “By virtue of their smaller numbers and greater expected gains, the elite is more likely to invest in their de facto political power than the more numerous citizens.”27 One consequence of the fact that their individual votes make no difference is that they are inclined to vote expressively for outcomes that make them feel good, rather than instrumentally, for outcomes that would make them better off.28 For example, voters may choose to vote for candidates who campaign on platforms to help the poor, because they feel good about themselves when they do. If they gave money to charitable causes that help the poor, those charitable donations would cost them real money. But when they vote for redistribution, they do so with the realization that their one vote will have no effect on the election’s outcome, so will cost them nothing, but give them good feelings.29 Because there is no negative feedback from making a bad choice at the ballot box—the same outcome results no matter how an individual voter

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votes—voters have no incentive to modify their irrational beliefs.30 A bad choice in a market purchase has negative consequences for the individual who makes the bad choice. A bad choice at the ballot box makes no difference. Of course, in the aggregate, all the votes determine the outcome of an election, but because each individual vote has no influence, an election does not necessarily result in an outcome that individual voters would have chosen if the choice were theirs alone. Expressive votes and irrational votes could lead to an outcome that makes most voters worse off. Regardless of the form of government, ultimately it is the elites who determine public policy. The idea that democratic oversight of those with political power can constrain those with political power is an illusion. People who have no power are not in a good position to control the actions of those who have power.

Checks and Balances Because the powerless cannot control the powerful, the power of some can only be controlled by others who have power. This is the logic behind the design of a political system with checks and balances. Institutions are designed so that nobody has the power to unilaterally use their power, and so that there are incentives for some of the power elite to control the use of power by others. The separation of power is not sufficient. If some have power to act unilaterally in one area and others have the power to act unilaterally in others, there is no check on how those people use their power in those spheres where they have control.31 A check on power requires that those with power need the cooperation of others with power for them to use their power, and that those who collectively have the power to act have conflicting interests.32 The Constitution of the United States provides a division of powers among the legislative, executive, and judicial branches of government, giving each branch the chance to check and balance the others. If the elites in the three branches guard their powers to prevent the others from encroaching on them, public policy will only result from a consensus among those three groups who find it in their own interests to guard their own spheres of power. James Madison, in Federalist No. 51, also notes that the political power of the states was intended as a check on the power of the federal government. These checks and balances have worked tolerably well over more than two centuries, although with some erosion in the division of power.

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States have lost much of their power to the federal government, partly because the federal government used its military power to claim supremacy but also partly because states could limit intergovernmental competition among themselves by ceding some power to the federal government.33 Partly as a legacy of the Cold War, capitalist democracies have promoted the ideology of democracy as a counter to the dictatorships they were opposing. The idea that people should be free to choose their political leaders is a powerful one, but it does not imply that the masses who choose those political elites have any control over them. Ultimately, power can only be constrained by power, which is why checks and balances in institutional design are more effective than democratic oversight of political power.

The Problem with Democracy Popular opinion places a high value on democracy because it offers the illusion that ultimately, citizens control their governments. Because of this illusion, citizens willingly turn over more power to the political elite, with the mistaken idea that citizens have ultimate control over this power and that government will act in their interest. Consider how this works within the language of the Occupy Wall Street movement that began in 2011. The movement was caused by the government policy response to the bursting of the housing bubble in 2008, as the economy fell into a recession. People lost their jobs in the recession and could not make their mortgage payments. Housing prices declined substantially, so they could not sell their houses to pay off their mortgages because their houses were worth less than what they owed on their mortgages. So, they were foreclosed and evicted from their homes. Meanwhile, Wall Street firms were holding mortgage-backed securities that were plummeting in value because some of the mortgages backing them were in default. The government’s policy response was to bail out the Wall Street firms that held the securities, while ignoring homeowners who were in default on their mortgages and losing their homes. The government’s policy bailed out the elite—the 1 percent—rather than helping the 99 percent—the masses. The masses—the 99 percent—were demanding more government oversight and control of the Wall Street elite, to curb what they saw as policies that benefited the elite 1 percent at the expense of the 99 percent. But it is the elite—the 1 percent—that designs public policy.

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So, using this Occupy Wall Street language, the 99 percent were upset that government policy favored the 1 percent over the 99 percent, and their demand was to give the 1 percent even more power, with the hope that this time the 1 percent would use it to benefit the 99 percent. This amounts to wishful thinking: the hope that if the people who abuse their power are given even more power, they will use it for the public good. The point is not that the Wall Street bailout was either good or bad, but rather that the masses—the 99 percent—have the illusion that the elite policy makers in government use their power for the benefit of the masses. Often, policies that are good for the elite are good for everyone, but when the interests of the elite are opposed to those of the masses, and when the elite necessarily determine public policy, giving more power to the powerful is not likely to benefit the powerless. Nobel Laureate Joseph Stiglitz described the institutional structure well when he said “It’s one thing to win a ‘fair’ game. It’s quite another to be able to write the rules of the game—and write them in ways that enhance one’s prospects of winning. And it’s even worse when you can choose your own referees.”34 The people with political power write the rules and choose the referees. Democratic institutions serve the useful purpose of allowing a peaceful mechanism for replacing those who have political power, but they also create the illusion that voters control the political system. This benefits those with political power, because they are able to claim that their actions are carrying out the will of the people, as revealed through the democratic decision-making process. Democracy has the symbolic value to the political elite of making their actions appear to be furthering the demands of the masses.35

Economic and Political Power These first four chapters have laid out the framework for understanding the relationships between economic and political power. When the people who hold economic power do not have political power, the result is prosperity and progress. When economic and political power are held by the same people, the result is stagnation. Economic power, by itself, gives people an incentive to be innovative and entrepreneurial, and to create value for others. Political power, by itself, gives people an incentive to maintain the status quo, so they do not fall prey to the creative destruction that characterizes progress. When the same people hold both types of

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power, political power trumps economic power because it allows the powerful to use force to maintain their positions in the hierarchy. In that case, coordination occurs primarily through control rather than cooperation. The division of power within a society has important implications for the welfare of society’s members. Often, the division of power is viewed as one-dimensional, with some people having more power than others. Elite theory, with its division of individuals into elites and masses, is an example of a one-dimensional view of power. Power is often viewed as a matter of equity, with the thought that everyone should, in some sense, have the same amount of power. The democratic principle of one person, one vote, is an example of this norm. Every person’s vote counts the same. But while lip service is paid to this notion of an egalitarian distribution of political power in a democracy, political power can never be even close to equally divided, because once groups become too large for people to interact directly with one another, a subset of the group must ultimately make the political decisions, and exercise political power over the whole group. The hierarchy of political power has important implications for social coordination, but so does the division of the different types of power. While the unequal power relations between the elite and the masses often define interpersonal relationships—some people are serfs; others are royalty—the distribution of different types of power—political power, economic power, religious power, military power, and more—is an equally significant determinant of social relationships, if less recognized. Political and military power are exercised through the threat of force—their object is to control—whereas economic power is exercised through mutually agreed-upon exchanges—through cooperation. The volume’s conclusion that when political and economic power are held by the same people, the result is stagnation, and when the people who have economic power do not have political power, the result is progress, raises a host of additional questions. Why do economic and political power tend to be held by the same people? How did economic and political power come to be separated? From a historical viewpoint, the Industrial Revolution and the resulting global increase in prosperity might be viewed as the result of those two types of power, which were combined under the feudal system that preceded the Industrial Revolution, becoming separated and held by different groups of people. Once separated, how can economic and political power remain separated? Chapter 12 discusses the tendencies for those with one type of power to try to use it to gain other types of power.

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These questions paint a simplified picture of more complicated social relationships, in the sense that those with political power always have some economic power, and those with economic power always have some political power. But looking at things through a simple lens often helps to isolate the important aspects of more complex phenomena. Henry Ford had much more economic power than political power. Franklin D. Roosevelt had much more political power than economic power. People who have political power do use it to acquire economic power, and people with economic power do use it to acquire political power, which points toward the last question in the previous paragraph: how can these two types of power remain separated? It is useful to think of them as having the potential to be separated—to separate the Henry Fords from the Franklin Roosevelts— for purpose of analysis, just as a simple supply and demand diagram in economics can isolate key factors in an issue, even though much else may be going on.36 The next four chapters examine the evolution of economic and political power from a historical perspective. With the background of the first four chapters, the history of power becomes clearer. That history shows why economic and political power tend to be held by the same people, and how they actually did become separated.

Notes 1. Thomas Hobbes, Leviathan (New York: E.P. Dutton, 1950 [orig. 1651]). 2. Just as an anecdote to try to persuade those who are charmed by “classic” cars, I have owned only three cars, because I keep them a long time. My first car required a tune-up every 3000 miles or it would quit running. (I can attest to that because it happened more than once. The points and condenser had to be replaced, back before the days of electronic ignition.) My second car required tune-ups every 30,000 miles, and my current car goes more than 100,000 miles between tune-ups. While there are many other improvements in the newer cars, this one is easily quantifiable. 3. This idea is developed by W. Mark Crain, “On the Structure and Stability of Political Markets,” Journal of Political Economy 85, no. 4 (August 1977), pp. 829–842. 4. This is discussed in Randall G.  Holcombe, “A Note on Seniority and Political Competition,” Public Choice 61, no. 3 (June 1989), pp. 285–288. 5. This idea is discussed in Randall G.  Holcombe and Glenn R.  Parker, “Committees in Legislatures: A Property Rights Perspective,” Public Choice 70, no. 1 (April 1991), pp. 11–20.

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6. Daron Acemoglu, “Why Not a Political Coase Theorem? Social Conflict, Commitment, and Politics,” Journal of Comparative Economics 31, no. 4 (December 2003), pp. 620–652. 7. Ludwig von Mises, Socialism (New Haven, CT: Yale University Press, 1951), originally published in German in 1922. 8. Oskar Lange and Fred M.  Taylor, On the Economic Theory of Socialism (Minneapolis, MN: University of Minnesota Press, 1938). 9. Abba Lerner, The Economics of Control: Principles of Welfare Economics (New York: Macmillan, 1946). 10. Friedrich A.  Hayek, “The Use of Knowledge in Society,” American Economic Review 35 (1945), pp. 519–530. Milton Friedman, “Lerner on the Economics of Control,” Journal of Political Economy 55, no. 5 (October 1947), pp. 405–416, made a similar observation in his review of Lerner’s book. 11. Daron Acemoglu, “Why Not a Political Coase Theorem? Social Conflict, Commitment, and Politics,” Journal of Comparative Economics 31, no. 4 (December 2003), pp. 620–652. 12. Douglass C. North, John Joseph Wallis, and Barry R. Weingast, Violence and Social Orders: A Conceptual Framework for Interpreting Recorded History (Cambridge: Cambridge University Press, 2009). 13. Mark Irving Lichbach, The Rebel’s Dilemma (Ann Arbor: University of Michigan Press, 1995) and Peter Kurrild-Klitgaard, Rational Choice, Collective Action, and the Paradox of Rebellion (Copenhagen: Institute for Political Science, University of Copenhagen, 1997) discuss issues with violent uprisings against the government in more detail. 14. This idea is developed by Richard B.  McKenzie and Dwight R.  Lee, Quicksilver Capital: How the Rapid Movement of Wealth Has Changed the World (New York: Free Press, 1991). 15. Robert E.  Lucas, Jr., “On the Mechanics of Economic Development,” Journal of Monetary Economics 22, no. 1 (July 1988), pp. 3–42. 16. David Ricardo, Principles of Political Economy and Taxation, 3rd ed. (London: John Murray, 1821 [1st ed. 1817]). 17. Thomas Robert Malthus. An Essay on the Principle of Population (London: J. Johnson, 1798). 18. Lucas, “On the Mechanics of Economic Development,” pp. 3–42. 19. Paul Anthony Samuelson, Foundations of Economic Analysis (Cambridge: Harvard University Press, 1947), is even less specific in differentiating factors of production, perhaps in an attempt to make his framework completely general. Samuelson’s production function (see, for example, p. 57) simply depicts output in a market as a function of n inputs, allowing n to be any number of inputs but not distinguishing land, labor, and capital, let alone entrepreneurship. This is not intended as a criticism of Samuelson,

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but rather as evidence that while land was viewed by economists as the most important factor of production in the early 1800s, it was viewed as not important enough to mention by the late 1900s. 20. William J.  Baumol, “Entrepreneurship: Productive, Unproductive, and Destructive,” Journal of Political Economy 98, no. 5, Part 1 (October 1990), pp. 893–921. 21. Francis Fukuyama, The End of History and the Last Man (New York: Free Press, 1992). 22. C.  Wright Mills, The Power Elite (New York: Oxford University Press, 1959), p.  3. Far predating Mills, Arthur F.  Bentley, The Process of Government: A Study of Social Pressures (Chicago: University of Chicago Press, 1908), notes the same division between elites and masses, as does David B. Truman, The Governmental Process: Political Interests and Public Opinion (New York: Alfred A.  Knopf, 1951). More recently, this same theme appears in Jacob S.  Hacker and Paul Pierson, Winner-Take-All Politics: How Washington Made the Rich Richer—And Turned Its Back on the Middle Class (New York: Simon and Schuster, 2010), Larry M. Bartels, Unequal Democracy: The Political Economy of the New Gilded Age (Princeton, NJ: Princeton University Press, 2008), and Martin Gilens, Affluence and Influence: Economic Inequality and Political Power in America (Princeton, NJ: Princeton University Press, 2012). 23. Martin Gilens and Benjamin I.  Page, “Testing Theories of American Politics: Elites, Interest Groups, and Average Citizens,” Perspectives on Politics 12, no. 3 (September 2014), p. 575. 24. Gilens and Page, “Testing Theories of American Politics,” p. 576. 25. This idea is explored in Masanobu Ido, ed., Varieties of Capitalism, Types of Democracy, and Globalization (London: Routledge, 2012). 26. Anthony Downs, An Economic Theory of Democracy (New York: Harper & Row, 1957). 27. Daron Acemoglu and James A. Robinson, “Persistence of Power, Elites, and Institutions,” American Economic Review 98, no. 1 (March 2008), p. 287. 28. Expressive voting is analyzed in detail by Geoffrey Brennan and Loren Lomasky, Democracy and Decision: The Pure Theory of Electoral Preference (Cambridge: Cambridge University Press, 1993). 29. Gordon Tullock, “The Charity of the Uncharitable,” Western Economic Journal 9, no. 4 (December 1971), pp.  379–392 explores this line of reasoning. 30. This is the thesis of Bryan Caplan, The Myth of the Rational Voter: Why Democracies Choose Bad Policies (Princeton: Princeton University Press, 2007).

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31. Torsten Persson, Gerard Roland, and Guido Tabellini, “Separation of Powers and Political Accountability,” Quarterly Journal of Economics 112, no. 4 (November 1997), pp. 1163–1202, discuss this idea. 32. Geoffrey Brennan and Alan Hamlin, “A Revisionist View of the Separation of Powers,” Journal of Theoretical Politics 6, no. 3 (1994), pp. 345–368, note the importance of conflicting interests. 33. This idea appears in Randall G. Holcombe and DeEdgra W Williams, “The Cartelization of State Governments,” Public Choice 149, nos. 1/2 (October 2011), pp. 65–74. 34. Joseph E.  Stiglitz, The Price of Inequality: How Today’s Divided Society Endangers the Future (New York: W.W. Norton, 2012), p. 59. 35. This idea is developed by Murray Edelman, The Symbolic Uses of Politics (Urbana: University of Illinois Press, 1964). 36. Along these lines, I recall that during the “energy crisis” in the 1970s, most people blamed lines at gas stations and shortages of gasoline on the OPEC cartel’s restriction on the amount of oil they were exporting, whereas most economists, using that simple supply and demand framework, blamed the shortages and gas lines on the government’s price controls. Simple models help to clarify key causal factors in real-world situations that are more complex. The methodological advantages of using simple models to facilitate the understanding of complex phenomena are discussed in Randall G. Holcombe, Economic Models and Methodology (New York: Greenwood Press, 1989).

CHAPTER 5

Power in Pre-Agricultural Societies

For most of human history, people “lived in small, mobile, dispersed, relatively egalitarian, hunting-and-gathering bands.”1 These societies had relatively simple institutional structures that relied on all members of the group having personal knowledge of all others, so that individual reputation could provide the mechanism that enforced conformance with the society’s norms. In societies where everyone knows everyone else, individuals cannot hide a bad reputation, so have an incentive to conform with the norms of the group. These pre-agricultural societies often have been called primitive societies, but that term has fallen out of favor, and referring to them as clan-based is more descriptive of their institutional structures. Institutions are clan-based when they rely on everyone in the group having personal knowledge of everyone else. In most cases, clan-based societies are also pre-agricultural societies, meaning that they do not cultivate crops, do not keep livestock, and do not recognize private ownership of land. They live off the land, but are not tied by agriculture to specific plots of land. Following the agricultural revolution that began about 12,000 years ago, people began settling in communities and shifted to agriculture from hunting and gathering as their primary means of food production, but some hunter-gatherer societies remain at the beginning of the twenty-first century, and clan-based institutions are applicable to organizations like families, communes, and clubs. The examination of power relationships in pre-agricultural clan-based societies, interesting in its own right, also sheds light on the evolution of © The Author(s) 2020 R. G. Holcombe, Coordination, Cooperation, and Control, https://doi.org/10.1007/978-3-030-48667-9_5

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power more generally. One reason is that the simpler institutions of these societies enable a closer focus on the exercise of power, but clan-based pre-­agricultural societies also differ from agricultural and commercial societies in more ways than just having less complex institutions. Because relationships among individuals in clan-based societies rely on individuals having personal knowledge of all of the other members of society, this constrains the size of these societies. In agricultural and commercial societies, institutions have been developed to allow people engage with many others every day without knowing them personally. The first four chapters provided a foundation for thinking about political and economic power. This and the following three build on that foundation by looking at the way that power relationships have evolved throughout human history. This chapter examines how the characteristics of clan-based pre-­agricultural societies affect the distribution of power in those societies, both in past pre-agricultural societies and in the few that remain in the twenty-first century. An analysis of institutions in these societies sheds some light on factors that enable the development of more complex institutions that facilitate interactions with a larger group of people, including many who they do not know personally, and sheds some light on how economic and political power can become separated and held by different groups of individuals. Every pre-agricultural society is different in certain specific ways, just as is the case with agricultural and commercial societies. Still, general characteristics can be analyzed in both cases. One can analyze Western democracies as a group, for example, even while recognizing that Sweden is different from the United States, and in a similar manner, this chapter analyzes pre-agricultural societies as a general category, even while recognizing that there are differences among them. The chapter draws heavily on anthropological and historical evidence, so the generalizations that describe these clan-based societies are based on the characteristics of actual societies, even though the general type of society discussed here is not intended to be descriptive of one particular society. In pre-agricultural societies, where the different types of power are not clearly differentiated, the same people hold economic, political, and all other types of power. But clan-based societies are not all alike, and institutional differences among them provide insights into how power is distributed among members of a society, and how economic power can develop independently of political power.

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Law and Order in Clan-Based Versus Larger Societies Thomas Hobbes described a state of anarchy in which life was solitary, poor, nasty, brutish, and short, but this is partly a fiction.2 Humans are social animals who always have lived in groups, so life was never solitary. Pre-agricultural societies were (and still are, in the rare locations where they remain)3 made up of small groups in which all members of the group knew each other personally. Hobbes was slightly more accurate when he described life without government as a war of all against all. In hunter-­ gatherer societies, people within the same group, who know each other personally, cooperate for their mutual benefit, but strangers are viewed with hostility. The reliance on institutions that require all members of a society to know each other personally limits the size of these societies. Jared Diamond, a professor of geography who has lived with hunter-­ gatherer societies to do field research, explains that these groups occupied mutually exclusive territories, because strangers were perceived as threats who could steal resources from group members, and injure or kill them.4 At the same time, strangers could be a possible source of resources that could be taken by force to enrich their group. Strangers were viewed both as potential predators and potential prey. Describing the predatory approach that hunter-gatherer societies had toward strangers, anthropologists Larry Neal and Rondo Cameron say, “The logic was to seize the assets of strangers while eliminating any threat of future reprisals.”5 This is a characteristic of societies in which individuals trust only people they know personally. Many others have made similar observations. Bertrand de Jouvenel, discussing individuals in hunter-gatherer societies, says “within the limits of the small circle to which he belongs, he displays a good measure of sociability, though, anyone, no doubt, who is outside his circle is a stranger, which is as much as to say an enemy.”6 Samuel Bowles and Herbert Gintis note that “humans became extraordinarily group-minded, favoring cooperation with insiders and often expressing hostility toward outsiders.”7 They note that group identification among group members produces cooperative behaviors such as concern for others, fair-mindedness, and trust toward other group members, but also results in vengeance, bigotry, and hostility toward those who are not members of an individual’s group. Adam Smith began his celebrated book The Wealth of Nations by saying “The greatest improvement in the productive powers of labour, and the

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greater part of the skill, dexterity, and judgment with which it is any where directed, or applied, seem to have been the effects of the division of labour.”8 But he also noted that the division of labor is limited by the extent of the market. The larger the trading group, the greater would be the division of labor, and therefore productivity, which means that larger groups would gain advantages over smaller groups. This gives an evolutionary advantage to groups in which cooperative norms emerged that would enable larger groups. Clan-based societies can have only a very limited division of labor, because their size is limited to include only individuals who all know each other personally. Steven Pinker provides good evidence that for most of human history, encounters with strangers were overwhelmingly violent,9 and both Pinker and Diamond note that it has only been with the development of strong governments that individual rights have been respected sufficiently that people can walk amongst strangers without fear of assault. Whether one views government as an oppressive Leviathan designed to maximize benefits to itself or as the product of a social contract in which individuals cooperate for their mutual gain, government’s primary goal in either case—and its social function—is to create order. An orderly society, free of violent encounters among its citizens, maximizes the benefits to everybody—to the ruling class of a Leviathan government and to ordinary citizens bound by a social contract. Government’s role as the source of order within a society is often overlooked in the twenty-first century because order is taken for granted in societies with strong governments, where state-imposed order is accepted as a norm.10 Diamond says the modern world has a state-imposed peace providing “personal security, less violence, and less danger from other people.”11 Pinker says “But organisms that have evolved by natural selection always have something to fight about (which doesn’t, or course, mean that they will always fight). Hobbes noted that humans in particular have three reasons for quarrel: gain, safety, and credible deterrence. People in nonstate societies fight about all three.”12 Strong government allows orderly interaction among strangers. Without it, people have good reason to view strangers with suspicion and hostility. In clan-based societies, where all members know each other, cooperative behavior among group members overcomes many problems that, in theory, can undermine the group’s success. The tragedy of the commons, in which people overuse common resources,13 and prisoners’ dilemma situations in which people have individual incentives to act in ways that

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make all members of the group worse off, are minimized when individuals act in ways that put the group’s interests ahead of their own narrow interests. This cooperative behavior, evident within families, extends to clan-­ based societies more generally, but not much beyond, because it is based on trust that comes from personal knowledge, along with the ability to sanction uncooperative group members because they cannot retreat into anonymity. Institutions that work in societies where everyone knows everyone else do not scale up because that personal knowledge is lost as group size increases. There are good reasons for societies to expand beyond a size in which everyone knows everyone else. As Adam Smith observed, larger societies are more productive. Also, in an environment in which encounters with strangers are likely to be violent, a larger and more productive society has an advantage in winning violent encounters. For societies to grow beyond a small size, institutions must develop to enable cooperative behavior among people who do not personally know each other. Diamond and Pinker see strong government as one such institutional development, but there is surely more than just this. Strong governments can enable cooperative behavior, but they also can be very oppressive. The Soviet Union, Nazi Germany, and North Korea are examples of strong governments that have produced orderly societies. But they are also examples of nations in which economic power was controlled by political power, and in which oppressive governments ruthlessly dealt with people who the politically powerful viewed as potential adversaries. The control of economic power by those who have political power has been the norm through most of human history. An examination of institutions in hunter-­ gatherer societies can shed some light on the way that economic power can gain independence from political power.

Power in Clan-Based Societies In clan-based societies there is little distinction among various types of power. Social power encompasses political, economic, and religious power, and is associated with specific individuals. Lotte Hedeager says “political power, ideology, exchange and social organization are not autonomous institutions in pre-state societies. It is only in capitalist societies that the difference between functions falls together with differences between institutions—in which economy, politics, religion, kinship, art and so on are separated.”14 Joseph Strayer notes that in primitive societies “There was a

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strong sense of reciprocal obligation among those who knew each other personally, but this sense of obligation faded rapidly with distance.”15 People can gain power by accumulating obligations from other members of their society. One distinction between clan-based and state-based societies is that state-based societies have institutions that allocate power beyond just the personal obligations that some individuals have to others. One factor that tends to concentrate all types of power in the same individuals is that pre-agricultural societies live close to a subsistence level of existence. In order to have a separate political class, or separate religious authorities, or even a separate military force, individuals who specialize in those types of activities would have to be supported by others who produce food, clothing, and shelter for the classes of people who do not produce those items themselves. This means that productive individuals would have to produce enough of a surplus to support those whose social functions did not include contributing to the group’s subsistence. And, productive individuals would have to be willing to devote some of their production to support those other classes of people, unless those who had power could force them to do so. But either way, this can happen only when productive individuals produce more than is required for their subsistence. When productivity is low, resources are insufficient to support a separate political, religious, or military class. The result is that all power is concentrated into social power. People have individual characteristics that are specific to themselves, and socially ascribed characteristics associated with positions they hold.16 Personal characteristics include people’s physical characteristics, intelligence, wit, social skills, and other characteristics they have as individuals. Socially ascribed characteristics are those that go with the social positions they hold, such as legislator, cashier, or club member. In pre-agricultural societies, and even in many contemporary societies that have advanced well beyond a hunter-gatherer economy, people interact with each other based on their personal characteristics. They deal with specific individuals, as individuals, rather than with whomever happens to occupy some specific position within a society. Imagine going to a store to buy something from a salesman, Mr. Smith. In some situations, the purchaser will only want to deal with Mr. Smith, and not just a salesman. The purchaser wants to buy from Mr. Smith because the purchaser trusts Mr. Smith. In other situations, the purchaser simply wants to buy from a salesman, who in this case happens to be Mr. Smith. In this second case, the purchaser deals with Mr. Smith based on

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his socially ascribed characteristics rather than Mr. Smith’s personal characteristics and would be just as happy to deal with another salesman if Mr. Smith were not there. In the first case, the purchaser wants to deal with Mr. Smith, the salesman, because of his personal characteristics. Diamond traders in the New York City diamond market offer an example of people who deal with each other based on individual characteristics. They are a small group so individuals know and trust others within the group. They trade with people they know personally, without the need for formal contracts and potential legal difficulties or conflicts, because they know and trust each other. If someone in that small group deals with someone else in a way that violates group norms, that person risks shunning or ostracism, so that social pressure provides the incentive for trustworthy behavior. This lowers transaction costs for those in the group, facilitating exchange, but limits the size of the group to a small number who know and trust each other. They deal with specific individuals, rather than with someone who happens to hold the position of diamond trader. Most economic interactions among individuals in developed economies take place between people based on their socially ascribed characteristics rather than their personal characteristics. Someone who buys groceries at a supermarket pays the individual who holds the position of cashier, not based on the cashier’s personal characteristics, but based on the socially ascribed characteristics the person acquires by being hired as a cashier. A New York diamond trader will be reluctant to do business with someone that trader does not already know and trust. The customer at the supermarket trusts the cashier, and the cashier trusts the customer, based on their socially ascribed characteristics.17 Many institutions facilitate dealing with people who are not known to each other personally. The customer at the supermarket, who is unknown to the cashier, is able to present money, or a credit card, to assure the cashier that the customer is a trustworthy person with whom to trade. Institutional development ultimately determines how power is allocated and how it can be used. Social characteristics in clan-based societies are directly attached to people’s personal characteristics. In larger societies, people deal with many others they do not know personally (and even those they do know personally) based on their socially ascribed characteristics. When individuals accumulate power in clan-based societies, that power remains with the individual. In larger societies, people accumulate power primarily because they have socially ascribed characteristics, such as those associated with

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prime minister, purchasing agent, judge, or cashier. Power goes with the position rather than with the specific individual who holds that position. In the same way, economic power in developed economies goes with resources under a person’s control. Those resources can be passed on from one generation to the next, and positions of power such as legislator and corporate officer can survive beyond the lifetimes of people who temporarily hold those positions, and who have power because of the socially ascribed characteristics of the positions they hold. In larger societies, institutions that assign power based on the socially ascribed characteristics enable the power of the position to last beyond the tenure of those who hold them. In clan-based societies, some individuals can gain power over others, but that power remains with the individual and is dissipated when that person dies. In larger societies, where everyone does not know everyone else, people gain power primarily by assuming institutionally defined positions of power. In most cases, the power of the position existed before the present holder of the position assumed that position. The institutionalization of power allows people to gain more power more rapidly. Individuals can ascend to become kings, or be elected as legislators and presidents, and exercise power that has been institutionalized by others—much more power than they could accumulate on their own. The same is true of economic power. An individual could be appointed the CEO of a corporation and exercise much more control over resources than without the institutionalization of power. And, individuals can inherit economic power. While over time different people could occupy the positions of king or CEO, the power that goes with the positions remains. Thus, an important aspect underlying the evolution of power is the way institutions develop to embody power based on socially ascribed characteristics rather than on individual characteristics. Individual characteristics may be important determinants of who gains those socially ascribed positions of power. Intelligence is one individual characteristic that can facilitate gaining socially ascribed characteristics that are associated with power. Charisma and attractive physical appearance are other personal characteristics that can facilitate obtaining political (and economic) power. Referring to hunter-gatherer societies, Keith Otterbein says “Leaders, generally, have characteristics that set them apart from others. They are likely to be strong and healthy, to be excellent hunters, to be knowledgeable about the territory, and to be intelligent.”18 Kinship is another personal characteristic that can aid individuals in acquiring socially

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ascribed characteristics. Hereditary monarchies provide an excellent example. But outside of such formal institutions, children can inherent economic power from their parents, which often can bring with it socially ascribed characteristics. William Clay Ford, Jr., the great-grandson of Henry Ford, was appointed Chairman of the Board of Directors of the Ford Motor Company in 1999. Mr. Ford likely was elected Chairman of the Board of Directors because of his family connection to the company’s founder—a personal characteristic—but the economic power he holds comes from his socially ascribed characteristic as Chairman of the Board. This is a good example of the way a socially ascribed characteristic can be passed on from one person to another because of that person’s personal characteristics. However, the person’s power comes from the position that person holds, rather than from the person’s personal characteristics.

Premonetary Economies Marshall Sahlins explains that individuals in pre-agricultural societies did not have exclusive ownership over resources because there was no good way to claim or enforce exclusive ownership.19 Resources in general were shared among all members of the group. If hunters brought back a kill, everyone had a right to consume it.20 Rabindra Chakraborty says “Sharing rules prescribe that the prey is redistributed eventually to all members of the community while everybody receives an (approximately) equal share.”21 This makes sense in a society that has no good way to store food to keep it from spoiling, or to protect it from insects, rodents, and other threats. Resources were shared because they would rapidly lose their value if not immediately consumed. Sahlins refers to hunter-gatherer societies as the original affluent society, saying that people can be affluent either by producing much or wanting little.22 People in hunter-gatherer societies worked little, enjoyed much leisure time, and produced just enough to support themselves, making it appear that if they wanted more, they could work more to get more. Similarly, James Suzman describes the Namibia’s bushman society as affluence without abundance.23 But, Daryll Forde and Mary Douglas note, “Preoccupation with the daily or seasonal food supply, the frequency of hardship, and the risks of hunger are obvious characteristics of a primitive economy.”24 This leads to questions about their affluence, not only as

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perceived by outsiders but also as perceived by members of pre-­agricultural societies themselves. Pre-agricultural societies shared resources in one of two ways: pooling or reciprocity. With pooling, any resources obtained by group members were equally available to all members of the group. With reciprocity, when a member brought resources to the group, that member would share with others, with the expectation that others then incurred a debt to the member who shared the resources. If resources are shared by pooling, group members have an incentive to shirk and free ride off the production of others. Rabindra Chakraborty describes this sharing method as a type of tax.25 The incentives people in such societies faced may be a better explanation for their subsistence standard of living than Sahlins’ conjecture that they wanted little. Social norms in hunter-gatherer societies often enforced pooling. Bowles and Gintis cite cases of clan-based societies in which sanctions were imposed on group members who were lazy, but also who were stingy and attempted to hoard resources rather than share them with other members of the group.26 The norm of generosity points toward pooling, in which resources obtained by one member of the group were equally available to all. Forde and Douglass observe, “In such a setting, economic relations have not separated out from other social relations. There is no question of one man working for another whom he knows only as an employer.”27 There was no distinction between political and economic power, or any other type of power. People accumulated power by accruing obligations from others in their group. In a society based on pooling, power is difficult to accumulate, resulting in a more egalitarian society. In a society based on reciprocity, people can accumulate power by sharing what they have with others, with those others accumulating obligations in return. Pre-agricultural economies have little in the way of durable assets, so little can be owned, which limits the amount of economic power. Food is perishable, so if a hunter brings in a kill with no good way to save what cannot be immediately consumed, the hunter is better off sharing it with the group, with the expectation that when others bring resources into the group, that hunter will then be able to consume what others have produced. Pooling and reciprocity are methods of risk-sharing when saving is not possible.

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Pooling Versus Reciprocity Reciprocity embodies a more productive incentive system than pooling, because with reciprocity the person who brings resources into the group then has a right to claim future compensation from those who consume those resources. In a group in which all members know each other, people can keep track of their debts, and just as significant, they can keep track of the debts of everyone else in their group. Those who do not make good on their debts can face social sanctions from other group members. Reciprocity gives group members the incentive to produce resources for the group, to accumulate obligations from others, and in that way to accumulate power. Pooling gives productive members nothing in exchange for their contributions to the group, giving members of a pooling society the incentive to shirk. The sanctioning of shirkers in a pooling economy is a public good, because individual contributions are available to all. The incentive to sanction those who shirk exists, but it is diluted because if an individual acts successfully to limit shirking by another individual, the benefits of that act are spread across the entire group. The sanctioning of shirkers works because people in the group want the approval of their fellow group members. People want to be thought well-of by others, and want to be respected. So, disapproval can go a long way toward policing shirking, because people will work to avoid it. Thus, families work well as economic units based on pooling and reciprocity rather than trade because family members want to avoid the disapproval of others in their family. One can see how the incentive to sanction shirkers becomes rapidly diluted as the size of the group increases. Consider a married couple. With only two people, if one is able to reduce the shirking of the other, 100 percent of the benefit of that reduction in shirking goes to the one who polices the behavior of the other. In a family of five individuals, only 25 percent of the benefit goes to any family member who successfully sanctions shirking by another member.28 In a group of 101 individuals, the person attempting to sanction the shirker would receive only 1 percent of the benefit. But, attempting to sanction a shirker will likely impose a cost on the sanctioner. Most readers will recognize that if they call someone out for shirking, the shirker is likely to react negatively to that person. Weighing the costs and benefits of policing shirking, one can see why an economy based on pooling creates the incentive for everyone to shirk.

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In an economy that operates based on reciprocity, individuals who have accumulated obligations from others have a private incentive to see that those obligations are met. Reciprocity operates like barter, except that it creates a future obligation rather than a simultaneous exchange, and it relies on the group’s recognition that an obligation has been created. It overcomes one of the disadvantages of barter, because it does not require a mutual coincidence of wants, but it brings with it another disadvantage in that there is often ambiguity as to what constitutes a complete and acceptable repayment of the debt. Those who do not pay their debts can face disapproval, shunning, or even expulsion from the group. But this requires that group members are able to identify those who do not make good on their debts. Robin Dunbar notes that because of the cognitive limits of the human brain, people are only able to maintain stable social relationships with about 150 others, an idea that has been well-enough received that 150 is sometimes referred to as Dunbar’s number.29 One consequence is that the upper limit for the size of cohesive groups tends to range from 100 to 230 individuals, Dunbar concludes. This limits the size of groups with institutions that rely on personal knowledge of all group members to enforce group norms. Reciprocity is a method of extending credit in a clan-based economy. With credit transactions, the party extending the credit requires some form of assurance that the debtor will repay, and without sophisticated credit institutions, that method in a clan-based economy is the personal knowledge of debts by everyone in the group. Reciprocity works as a credit institution because not only does the creditor know who the debtor is, everyone else in the group also knows, so that the group can sanction those who do not repay their debts. This works because if individuals acquire a reputation for not repaying their debts, others in the group will be reluctant to extend them credit. People can only collect what they are owed if they can enforce their claims, which is why formal institutions beyond reciprocity are required to for extending credit in larger societies.30

Reciprocity and Power An economy based on reciprocity creates the opportunity for some individuals to acquire power over others. Debts have to be repaid, so those who have accumulated debts have an obligation to those they owe. Productive individuals can gain power over others in the group by becoming a creditor to many others, accumulating many debtors. This power is

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both political and economic. As Manning Nash observes, “The functional interdependence of economy and society stems from the fact that the same persons are actors in the economic, the kinship, the political, and the religious spheres.”31 The accumulated obligations of other group members give the debt-holder both a claim on future resources—economic power— and power over the future actions of those individuals—political power. In non-monetary economies, there is no distinction between economic power and political power. In an economy based on reciprocity, Forde and Douglas say “There is no such thing as a free gift. Every act of generosity is expected to be repaid by an equivalent deed at some later date.”32 People who accumulate obligations from others can gain a group of supporters. Forde and Douglas observe, “A man can best satisfy his drive for power and prestige by attaching to himself a group of adherents: to them he affords protection and a lavish board; they give him status and authority. Competition, in a primitive economy, is not specifically economic, but social.”33 Forde and Douglas go on to note, “It is not through control of production that political advantages and privileges in consumption can be acquired; rather, it is that distribution can be controlled only by building up social status and gaining political authority.”34 This authority separates some from others; it creates a distinct elite group within clan-based societies. Forde and Douglas observe, “An ordinary man may be afraid of amassing riches for fear of seeming to aspire beyond his station, or be deterred by knowing that he will have to hand over a great part of his gains to the chief.”35 Keith Otterbein says, “Hunting and gathering societies are not egalitarian—it is a myth that they are. Bands have leaders, leaders make decisions. Leveling mechanisms do not bring leaders down to the level of their followers.”36 Economies based on reciprocity represent a significant advance over pooling economies, because the institution of reciprocity creates an incentive for people to be productive, so they can accumulate power. The advantage of an economy based on reciprocity is greater productivity; the incentive for productivity is the quest for power.37 In pooling economies where all resources belong to the group, there is no personal advantage to productivity. One can see how pooling economies could evolve into reciprocity economies, if group members observe that some in the group make larger contributions to the group’s resources than others. However, reciprocity economies have a more hierarchical structure because they allow people to

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accumulate more power. This means that less productive individuals might want to retain pooling over reciprocity, because less productive individuals would have lower status in a reciprocity economy when compared to a more egalitarian pooling economy.38 More productive individuals might be reluctant to push for institutional changes that would give them advantages. As sociologist Helmut Schoeck observes, “The guilt-tinged fear of being thought unequal is very deeply ingrained in the human psyche.”39 Schoeck argues that envy is a powerful and underappreciated force in the design of social institutions, and people strive to avoid being envied because the envious often will act against those they envy. In hunter-gatherer societies, less productive individuals might resist a move toward reciprocity even if they recognize it could improve everyone’s material well-being, because they place a higher value on preserving their status in the power hierarchy. Meanwhile, more productive individuals might not push toward reciprocity to avoid resentment from other members of the group. As Christopher Boehm points out, one reason everyone might resist reciprocity is that the unequal power relationships it creates can encourage those with power to become aggressors.40 More egalitarian pooling institutions can be a method of controlling aggression. Ronald Cohen presents a darker picture of the factors that might push a society toward reciprocity, and the unequal power relationships that go with it. “The political economy of the early state was many things, but above all it was fearsome and destructive. Equilibrating forces flourished, and widely distributed benefits were indeed part of ordinary life. But—and this is my point—only in circumstances in which hierarchical loyalty and obedience were required for the stability of the state and its power vis-à-vis its neighbors and its periphery. One of the primary characteristics of such states was the capacity for, and the ready delivery of—terror.”41 More productive individuals could be in a position to claim political power, and to intimidate others into yielding to it. More productive individuals find themselves in a strong bargaining position for insisting on repayment for their contributions to the group, while less productive individuals are in weaker positions because they have less to offer in return. If physical prowess is associated with productivity, as is likely the case in hunter-gatherer societies, intimidation and coercion of those reluctant to reward people in proportion to their contributions to the group can be another factor pushing pooling societies toward reciprocity.

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The maintenance of a more egalitarian pooling society requires the active suppression by the group of aggressive individuals who try to accumulate power. Boehm says “that it is fear of group opinion—and fear of active group sanctions—that keeps more accomplished men at this level of humility.”42 Pooling societies keep from becoming reciprocity societies because members of the group actively work to enforce the more egalitarian institutions that accompany pooling. Describing the egalitarian nature of hunter-gatherer societies, Boehm says that “such people are guided by a love of personal freedom. For that reason they manage to make egalitarianism happen, and do so in spite of human competitiveness—and in spite of innate human tendencies to dominance and submission that easily lead to the formation of social dominance hierarchies.”43

The Role of Money Economists have recognized the crucial role that money plays in facilitating exchange by eliminating the need for a mutual coincidence of wants. An economy based on reciprocity can go part-way toward eliminating the need for a mutual coincidence of wants, in that providing resources to one person today creates an obligation for repayment in the future, and repayment can take many forms. Money serves several other functions that are less-recognized. One is that money creates a way to save, even in an economy without durable goods. Forde and Douglas observe that “Saving is abstaining from consuming in the present, in order to consume in the future. If wealth is in the form of perishable goods, a community cannot save. … The existence of a monetary system, however rudimentary, gives the individual member of the economy an opportunity of saving.”44 People can accumulate money even if they cannot accumulate goods, so individuals can save even if in the aggregate, the community cannot have net saving. Saving can also occur with reciprocity. The previous section showed how people can accumulate obligations under a system of reciprocity that yields economic and political power for the holder of the obligations. Money has some characteristics it does not share with reciprocity. One is that it provides a precise unit of account, a feature well-recognized by economists. As Forde and Douglas observe regarding pre-agricultural societies, “As to the reward of labor, there is little attempt to count the contribution of each unit, and to give it a corresponding share of the product.”45 In practice, this has often meant that people who have

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accumulated obligations have been able to convert them into power beyond the goods originally provided. Those with power can act as middlemen, Forde and Douglas note, enabling them to take a share of each exchange to further enhance their power.46 With money, a precise accounting of obligations is created because of money’s function as a unit of account. Another advantage of money over reciprocity is that money can be used to transact with anyone, not just the person who tendered the money in an exchange. With reciprocity, one specific person owes another specific person; money offers the opportunity to provide goods to one person and claim goods from another. Money allows exchange with anyone in the economy, not just those who have incurred an obligation to a specific individual. Money facilitates exchange, and it provides a vehicle for saving, even in economies with no durable goods. William Goetzmann observes, “When everyone had the same profession and skills, neighborly help could always be repaid in kind. But when people developed different professions, it must have been difficult to maintain neighborly reciprocity. Urban societies still needed cooperation, but limits to familiarity with fellow inhabitants and difficulty with quantifying the units of such cooperation meant that people required more formal ways to ensure a return on their helpful efforts.”47 Money is a more formal way of enabling such exchanges. Money is a medium of exchange, so can be anything that is readily accepted in trade. Carl Menger observes that money is the most saleable of commodities, and he describes the evolution of money as a spontaneous order: the result of human action but not of human design.48 People become more willing to take in trade commodities they will not consume themselves but accept because they are confident they can trade them away to others, and those commodities that are easiest to trade away become money. One can envision how an economy based on reciprocity can evolve into a monetary economy as individuals find it advantageous to immediately discharge their debts rather than remain obligated to another individual. Debtors relieve themselves of debts, while creditors do not have to be concerned about reneging, and can use the medium of exchange to buy from anyone, not just the debtor. In its earliest form, money tended to be commodities. Menger describes how livestock once provided a common medium of exchange, but as people emigrated to cities, keeping livestock became more problematic and precious metals often evolved into money. Larry Neal and Rondo Cameron

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note that coined money was probably created around the seventh century BC in Greece.49 Norman Ault reports that money had migrated into Britain a few hundred years later. “About 200 B.C. gold coins, bearing unmistakable signs of foreign derivation, began to appear in the south-­ eastern districts.”50 Prior to that, cities already had standards for weights and purity of precious metals used as a medium of exchange, but coinage further facilitated exchange by lowering transaction costs associated with a medium of exchange. Another advantage of money is that it facilitates exchange with people who are not well-known to each other. Without money, people who have little knowledge of each other can barter, but reciprocity or pooling will not work well because they depend on personal knowledge that will allow social sanctions to be placed on those who do not live up to their obligations. Money allows those who have accumulated it to immediately discharge their obligations to those with whom they exchange, so parties to the exchange only have to be familiar with the money, not with the party with whom they are trading. Adam Smith observed that the main factor that drives economic productivity is the division of labor, but that the division of labor is limited by the extent of the market. Money allows an increase in the extent of the market beyond those who are personally known to the trader. Clan-based societies must remain small because they are based on institutions which require everyone to know everyone else personally, so they can keep track of obligations and limit shirking. One of the contributions of money to economic progress is that it enables the expansion of the economy beyond those who know each other personally, allowing for larger economies and therefore a greater division of labor. With money, the extent of the market can expand beyond Dunbar’s number. The increased productivity that results from increasing the extent of the market provides an incentive for people to engage in monetary exchange with people they do not know personally. As William Goetzmann says, “Financial markets allow strangers to exchange value through time more efficiently than traditional reciprocity arrangements do.”51 By increasing the extent of the market, another advantage of money is that it enables the peaceful interaction of people who do not know each other personally. Rather than viewing strangers as potential predators or potential prey, they can be viewed as potential trading partners.52 Jared Diamond marvels at his ability to walk through the streets of Los Angeles among strangers without feeling threatened by them—something people

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tend to take for granted in most twenty-first century societies but is not characteristic of clan-based societies.53 While that ability is not solely due to modern economies being monetary economies, the possibility of economic gain from interacting with strangers plays an important role. Money is a natural extension of the norm of reciprocity, because if provides a mechanism for repayment, but it is not sufficient for an expansion of a society’s membership beyond Dunbar’s number, because personal knowledge of all others in the group serves purposes beyond just repayment of debts. When people engage in violation of social norms, by engaging in fraud, theft, assault and other violations, institutions must be created to sanction violators, so growth beyond Dunbar’s number requires at least rudimentary institutions of government to maintain an orderly society.

Property Rights, Money, and Economic Power Money can only evolve as an institution when reciprocity is the norm for sharing resources. As a potential claim on resources, money can play no role in a pooling economy, because all resources belong to the group. If reciprocity is the norm, people are entitled to be rewarded for their contribution to the group’s welfare. Money goes one step further, allowing those who provide resources to others to not just incur an obligation from those specific others, but to gain a claim of generalized purchasing power that can be used to acquire resources from all individuals who accept that medium of exchange, including those outside the group of people who are personally known to the holder of the money. Money allows debtors to immediately eliminate their obligations to others, and enlarges the opportunity set of those who receive it. As an institution, it is likely to evolve out of a reciprocity economy because it provides benefits to everyone. For reciprocity to work as the norm for allocating resources, a society must have a mechanism for recognizing and protecting property rights. In clan-based economies based on reciprocity, everyone in the group recognizes the contributions of others, and acknowledges that those who consume what others have produced for the group incur an obligation to the producer. The norm of reciprocity is enforced through social sanctions like shunning, ostracism, and other actions that impose costs on those who do not pay their debts. Reciprocity works only when creditors are able to claim and enforce their rights to be repaid.54 Reciprocity as an institution relies on the group’s recognition of property rights.

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Once institutions are established to enforce reciprocity norms, it is a small step to recognize property rights in money and any other assets that individuals might acquire. Rights to money and physical property are more concrete and easier to identify than obligations incurred under reciprocity. Where reciprocity is the norm, it is perhaps easier to see that if an obligation is paid in money, the recipient of the money has the right to exchange it with others in a mutually agreed-upon trade. And, it is easy to see that until a trade is made, the person who has the money has a right to possess it. Thus, the possession of money gives its holder economic power—a claim over resources. In the interplay between economic and political power, those with political power may be able to make some claim on the economic power of those who have it, through taxation, for example. But this claim cannot be confiscatory, or it would eliminate the value of economic power independent of political power. If 100 percent of people’s money were taxed away, there would be no reason to acquire money. Money only has value because it gives its holder purchasing power, so the value of money is dependent on institutions that preserve the property rights to own it, and to exchange it for real goods. The existence of a medium of exchange allows societies to expand their size, but expansion requires other supporting institutions to protect property rights, which facilitates the expansion of political power held by those the group relies on to protect their rights. All societies have institutions that assign ownership over resources. Institutions in a pooling economy assign ownership collectively, to everyone in the group. An economy based on reciprocity recognizes obligations some people have to others, and a monetary economy can function only because institutions protect the right to own money and other assets. As Thomas Hobbes observed, there would be no incentive to accumulate assets if they could not be protected from predation, and government serves this role.55 Reciprocity works only if those with political power protect the right of creditors to collect on a debt. Money functions in an economy only if political power protects the rights of the holders of money to use it to acquire resources, and then protects the ownership of those resources. The institutions that facilitate and enforce reciprocity arrangements are essentially the same as those that enforce property rights more generally. But because money facilitates a larger trading group, its use pushes toward the development of more formal institutions of governance to protect the right to accumulate economic power.

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Moving from a pooling economy to a reciprocity economy may meet with resistance from some because it has the potential to lower the status of low-productivity people, who would find themselves in the debt of higher-productivity people. Pooling economies give all their members equal claim to the group’s resources, and therefore relatively equal status. With reciprocity, higher-productivity people can gain status and power over those who are less productive. In a society that already has a reciprocity economy, the emergence of money is likely because its introduction makes nobody worse off.56 James Woodburn divides pre-agricultural societies into the categories of immediate returns and delayed returns, where delayed return societies are characterized by the ability to accumulate wealth.57 Woodburn’s classification approximately corresponds with pooling societies, where wealth cannot be accumulated, and reciprocity societies, where it can. He says that immediate return societies “Systematically eliminate distinctions— other than between the sexes—of wealth, or power, and of status.”58 Delayed return societies, in contrast, “depend for their effective operation on a set of ordered, differentiated, jurally-defined relationships through which crucial goods and services are transmitted. They imply binding commitments and dependencies between people.”59 When institutional arrangements allow individuals to accumulate assets—economic power— societies become less egalitarian, which can be a source of conflict and create resistance toward adopting those institutions. Chakraborty observes that “Sharing serves to prevent the accumulation of wealth in the hands of few individuals who could then use it to dominate others.”60 Pooling results in a more egalitarian society; reciprocity generates inequality.

The Separation of Political and Economic Power People who hold power do not want to give it up, making it unlikely that those who hold both political and economic power will give up any of it. They can use their political power to maintain control of both. But when institutions based on reciprocity evolve to incorporate money as a store of economic power, this creates an opportunity for economic power to become separated from political power. People who have no political power can acquire money, which gives them economic power independent of political power. People do not need political power to spend money, if institutions are in place to protect property rights.

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Political institutions to protect people’s assets must be in place for a monetary economy to emerge. Otherwise, accumulation of assets, rather than making one wealthy, would make one a bigger target for predators. But such institutions naturally evolve from an economy based on reciprocity. Monetary institutions allow an increase in the extent of the market, to use Adam Smith’s phrase, beyond those who know each other personally, which allows an increase in the division of labor and an increase in productivity. Productivity spurs economic development. One consequence of economic development is that it creates new wealth, so those who have power do not have to be put in a position of giving up the power they hold for others to acquire economic power. New economic power—new resources—can be created through entrepreneurship and innovation, facilitated by the ability to increase the division of labor. But economic development will occur only when political institutions are already in place to protect people’s property from predation. By accumulating money, and as institutions further evolve, accumulating other financial assets, people can accumulate economic power—the control over resources—even if they have little political power. The institutions that evolve from a reciprocity economy are designed to use political power to protect economic power. Much has been written about institutions that protect property rights, enforce rule of law, and limit regulatory takings and taxation so that those who create value in an economy have an incentive to be productive. When those institutions exist, this creates the ability of economic power to exist independently of political power. Entrepreneurs like John D.  Rockefeller, Henry Ford, and Bill Gates were able to accumulate economic power not by taking it away from other people but by creating new value. When economic institutions advance rapidly enough that existing political institutions do not allow those with political power to control newly created economic power, economic and political power become separated. They can remain separated as long as those with political power perceive that they can profit more from taxing the productivity of economic power than from using their political power to confiscate it. The separation of economic from political power is not inevitable. Pre-­ agricultural economies can remain pooling economies, and even sedentary economies can retain feudal institutions in which the political power controls economic power.

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Power and Control in Pre-Agricultural Economies In pre-agricultural economies, labor is the most important factor of production. While those societies live off the land, individuals do not have ownership rights over specific plots of land, and societies as a whole do not have exclusive territorial rights. Hunting and gathering means going where those resources are. Animals can migrate and fields can be depleted. Other groups might challenge a hunter-gatherer society’s use of land, pushing the group to migrate to a different location. But pre-agricultural societies also have little capital, making moving a feasible alternative to fighting for territory. With no clear property rights to land, and with little capital and entrepreneurship, labor is the primary factor of production. Those with power in hunter-gatherer societies have power over other individuals, and therefore, power over labor. Political power and economic power are held by the same people. The degree of control those with power can exercise over others is limited by the ability of group members to leave the group. Individuals will find it difficult to leave on their own, but groups can split, and regularly do when the group size reaches the Dunbar number. Because clan-based societies rely on personal knowledge of all members by all others, and because groups are not tied to a specific location, the inclination of larger groups to divide reduces the control those with power can exercise over the group. In clan-based societies, where all power is power over people and economic power comes from control over labor, political power easily translates into economic power, but that power is limited by the ability of exit, because people in those societies have the ability to leave should those with power abuse it.

Coordination in Pre-Agricultural Societies Pre-agricultural societies, like all societies, organize the coordination of their members through institutions that provide the rules for social interaction. In societies that use pooling to allocate economic resources, coordination is based mainly on cooperation. Individuals who produce value share what they produce with the group. Resources are owned in common and everyone has a right to the production of others. Reciprocity is also based on cooperation, but allows a greater degree of control, because some people can gain power over others when those others incur debts. Power accrues to those who have many people indebted

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to them. Within a hierarchy of power, productive people fare better with reciprocity, because they can accumulate power, whereas less productive people fare better—in a relative sense anyway—under pooling, because power is more equally distributed. Ultimately, reciprocity provides an incentive structure that can make everyone materially better-off, but material well-being is not the only thing people consider when looking at institutional alternatives, and less productive people may resist an institutional shift from pooling to reciprocity as a means of allocating resources, because they would lose status and power in that shift. If institutions of reciprocity are established, the establishment of a medium of exchange is relatively straightforward, because it enables everyone to be better off. People can choose to engage in monetary transactions, and will do so only if both buyer and seller perceive it to be to their advantage. Money, and its extension, financial assets, enable economic power to become separated from political power, which provides the incentive for entrepreneurial individuals to create new value. Seeing the way that institutions can develop within pre-agricultural societies lends some insight into the way economic and political power can become separated, which leads to economic progress. But this separation is not inevitable, and is not irreversible once it occurs. People with political power often use it to acquire economic power, and people with economic power often use it to acquire political power. The incentives for these two types of power to recombine if they become separated are discussed in Chap. 12.

Notes 1. James C.  Scott, Against the Grain: A Deep History of the Earliest States (New Haven, CT: Yale University Press, 2017), p. 5. 2. Thomas Hobbes, Leviathan (New York: E.P. Dutton, 1950 [orig. 1651]). 3. See, for example, Jared Diamond, The World Until Yesterday: What Can We Learn from Traditional Societies? (New York: Viking, 2012), who describes life in twenty-first-century pre-agricultural societies. 4. Diamond, The World Until Yesterday. 5. Larry Neal and Rondo Cameron, A Concise Economic History of the World: From Paleolithic Times to the Present, 5th ed. (New York: Oxford University Press, 2016), p. 24. 6. Bertrand de Jouvenel, On Power: Its Nature and the History of Its Growth (New York: The Viking Press, 1949), p. 78.

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7. Samuel Bowles and Herbert Gintis, A Cooperative Species: Human Reciprocity and Its Evolution (Princeton: Princeton University Press, 2011), p. 4. 8. Adam Smith, An Inquiry Into the Nature and Causes of the Wealth of Nations (New York: Modern Library, 1937 [orig. 1776]), p. 3. 9. Steven Pinker, The Better Angels of Our Nature: Why Violence has Declined (New York: Viking, 2011). 10. There is a literature on libertarian anarchy built on the ideas of David D.  Friedman, The Machinery of Freedom: Guide to Radical Capitalism (Chicago: Open Court Publishing Company, 1973), and Murray N.  Rothbard, For a New Liberty: The Libertarian Manifesto. New  York: Macmillan, 1973), that explains how private institutions can do everything government does, and through voluntary agreements rather than relying on coercion. The anthropology literature on hunter-gatherer societies casts some doubt on this conclusion. 11. Diamond, The World Until Yesterday, p. 455. 12. Pinker, The Better Angels, p. 46. 13. Garrett Hardin, “The Tragedy of the Commons,” Science 162, Issue 3859 (December 13, 1968), pp. 1243–1248. 14. Lotte Hedeager, Iron-Age Societies: From Tribe to State in Northern Europe, 500 BC to AD 700 (Oxford, UK: Blackwell, 1992), p. 87. 15. Joseph R. Strayer, On the Medieval Origins of the Modern State (Princeton: Princeton University Press, 1970), pp. 3–4. 16. This idea is developed by Douglass C.  North, John Joseph Wallis, and Barry R.  Weingast, Violence and Social Orders: A Conceptual Framework for Interpreting Recorded History (Cambridge: Cambridge University Press, 2009). 17. Personal characteristics can play a major role in relationships that are based primarily on socially ascribed characteristics. People purchase the services of a doctor or a financial advisor based primarily on the socially ascribed characteristics of those positions, but in both cases the purchaser of the services may develop a trust in a particular doctor or financial advisor. Few people would insist on buying only from a particular cashier at a retail store, but many people have a strong preference for their own doctor or financial advisor. 18. Keith F.  Otterbein, How War Began (College Station: Texas A&M University Press, 2004), p. 80. 19. Marshall Sahlins, Stone-Age Economics (Chicago: Aldine-Atherton, 1972), pp. 92–93. 20. Sahlins, Stone-Age Economics, p.  125, does note that sometimes hunters and others who possessed food would hide it so they did not have to share with the group.

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21. Rabindra Nath Chakraborty, “Sharing Culture and Resource Conservation in Hunter-Gatherer Societies,” Oxford Economic Papers 59, no. 1 (January 2007), p. 63. 22. Sahlins articulated this idea of the original affluent society at a conference in 1966. His presentation is published as Marshall Sahlins, “Notes on the Original Affluent Society,” In Richard B Lee and Irven DeVore, eds., Man the Hunter: The First Intensive Survey of a Single, Crucial Stage of Human Development—Man’s Once Universal Hunting Way of Life (Chicago: Aldine Publishing Company, 1968), pp. 85–99. 23. James Suzman, Affluence Without Abundance: The Disappearing World of the Bushmen (New York: Bloomsbury, 2017). The larger story in Suzman’s book is how economic development around them is crowding out the way of life that the bushmen had maintained for thousands of years. 24. Daryll Forde and Mary Douglas,. “Primitive Economics,” ch. 2 in George Dalton, ed., Tribal and Peasant Economies: Readings in Economic Anthropology (Garden City, NY: Natural History Press, 1967), p. 15. 25. Chakraborty, “Sharing Culture and Resource Conservation in Hunter-­ Gatherer Societies.” 26. Bowles and Gintis, A Cooperative Species, p. 107. 27. Forde and Douglas, “Primitive Economics,” p. 17. 28. This simple calculation assumes the shirker bears a cost from reducing the shirking, and that the benefit to the group is spread equally among the remaining members. 29. Robin I.M.  Dunbar, “Neocortex Size as a Constraint on Group Size in Primates,” Journal of Human Evolution 22, no. 6 (1992), pp. 469–493. 30. This idea is developed in Randall G. Holcombe, “The Economic Theory of Rights,” Journal of Institutional Economics 10, no. 3 (September 2014), pp. 471–491. 31. Manning Nash, “The Organization of Economic Life,” ch. 1 in George Dalton, ed., Tribal and Peasant Economies: Readings in Economic Anthropology (Garden City, NY: Natural History Press, 1967), p. 9. 32. Forde and Douglas, “Primitive Economies,,” p. 23. 33. Forde and Douglas, “Primitive Economies,” p. 21. 34. Forde and Douglas, “Primitive Economies,” p.22. 35. Forde and Douglas, “Primitive Economies,” p.26. 36. Otterbein, How War Began, p. 78. 37. Dean Lueck, “Common Property as an Egalitarian Share Contract,” Journal of Economic Behavior & Organization 25, no. 1 (September 1994), pp.  93–108, makes the case that in some cases, common property may generate greater wealth than private property—a suggestion that pooling may be a more efficient way to allocate resources than reciprocity in some cases.

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38. One can see a similar tension in contemporary societies. The modern welfare state amounts to a pooling of some of society’s resources based on an ability to pay principle, with the extreme case being Marx’s dictum “From each according to his ability, to each according to his needs!” Marx’s statement is from Marx, Karl 1970 [orig. 1875]. “Critique of the Gotha Programme,” in Marx/Engels Selected Works, vol. 3. Moscow: Progress Publishers, 1970 [orig. 1875], pp. 13–30. These examples show that it is not necessarily only low-productivity individuals who may favor pooling. Support for the welfare state, and socialism, is much broader. 39. Helmut Schoeck, Envy: A Theory of Social Behavior (New York: Harcourt, Brace & World, 1969), p. 257. 40. Christopher Boehm, Hierarchy in the Forest: The Evolution of Egalitarian Behavior (Cambridge, MA: Harvard University Press, 1999). 41. Ronald Cohen, “Paradise Regained: Myth and Reality in the Political Economy of the Early State,” ch. 4 in Henri J.M. Claessen and Pieter van de Velde, Early State Economics (New Brunswick, NJ: Transaction Publishers, 1991), p. 110. 42. Boehm, Hierarchy in the Forest, p. 61. 43. Boehm, Hierarchy in the Forest, p. 65. 44. Forde and Douglas, “Primitive Economies,” pp.24–25. 45. Forde and Douglas, “Primitive Economies,” p. 19. 46. Forde and Douglas, “Primitive Economies,” p. 22. 47. William N.  Goetzmann, Money Changes Everything: How Finance Made Civilization Possible (Princeton: Princeton University Press, 2016), p. 40. 48. Carl Menger, Principles of Economics (Glencoe, IL: Free Press, 1950 [orig. 1871]), ch. 8. 49. Neal and Cameron, A Concise Economic History of the World, p. 33. 50. Norman Ault. Life in Ancient Britain: A Survey of the Social and Economic Development of the People of England from Earliest Times to the Roman Conquest (Freeport, NY: Books for Libraries Press, 1920), p. 202. 51. Goetzmann, Money Changes Everything, p. 9. 52. Peter Singer, The Expanding Circle: Ethics, Evolution, and Moral Progress (New York: Farrar, Straus & Giroux, 1981) argues that moral progress consists of a continual expansion of beings regarded by members of a group as persons. 53. Jared Diamond, The World Until Yesterday. 54. Holcombe, “The Economic Theory of Rights,” notes that people are only able to exercise rights to the extent that they can claim and enforce them. 55. Thomas Hobbes, Leviathan (New York: E.P. Dutton, 1950 [orig. 1651]). While Friedman, The Machinery of Freedom, Rothbard, For a New Liberty, and others have argued that private organizations would protect rights more effectively than government, Douglass C.  North and Robert Paul

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Thomas, The Rise of the Western World: A New Economic History (Cambridge: Cambridge University Press1973), p. 7, provide a counter-­ argument, and “observe that governments were able to define and enforce property rights at a lower cost than could voluntary groups, and … these gains became even more pronounced as markets expanded.” But there is no need to engage in a debate on the issue, because the fact is that government undertakes this role everywhere, even if it does so through its use of force. 56. While this analysis emphasizes the institution of money, the development of financial institutions more generally has also played a substantial role, especially in establishing capital markets—the key market in capitalism. A good discussion appears in William N.  Goetzmann, Money Changes Everything: How Finance Made Civilization Possible (Princeton: Princeton University Press, 2016). See also Richard Sylla, “Financial Systems and Economic Modernization,” Journal of Economic History 2, no. 2 (June 2002), pp.  279–292, who offers a good discussion, with emphasis on financial markets in the United States and Japan. 57. James Woodburn, “Egalitarian Societies,” Man 17, no. 3 (September 1982), pp. 431–451. 58. Woodburn, “Egalitarian Societies,” p. 434. 59. Woodburn, “Egalitarian Societies,” p. 433. 60. Chakraborty, “Sharing Culture and Resource Conservation in Hunter-­ Gatherer Societies,” p. 66.

CHAPTER 6

Power in Agrarian and Feudal Societies

The agricultural revolution, which began about 10,000 BC, placed a different set of requirements on political and economic institutions, because agricultural societies are tied to their land. The up-front costs of clearing and preparing land makes moving a costly proposition, and agricultural production cannot continue year-round in many locations, requiring physical capital to store food produced during the growing season for consumption later. Steadman Upham says, “Around the world, the agricultural revolution produced dramatic changes in human cultural systems. … The familial relations of the kin-oriented band were no longer adequate to accommodate the interaction between increasingly sedentary agriculturalists, and new forms of intergroup political relationships began to develop. The emergence of these new political systems proved to be the first step toward evolution of the state in the classic civilizations of the world.”1 Agricultural societies have (at least) two evolutionary advantages over hunter-gatherer societies. First, by intensively cultivating the land, agricultural societies can be more productive than pre-agricultural societies, which may push pre-agricultural societies toward agriculture if population pressures threaten to lower a society’s income below subsistence. Second, increased productivity provides an advantage in the event that groups come in conflict with each other. While there is some reason to expect that agrarian societies can out-compete pre-agricultural societies, the displacement of hunter-gatherer societies by agrarian ones was a long process. At © The Author(s) 2020 R. G. Holcombe, Coordination, Cooperation, and Control, https://doi.org/10.1007/978-3-030-48667-9_6

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the height of the Roman Empire 2000 years ago, only a small fraction of people lived in societies where they were subject to government control, and even by 1600, a third of humans lived in pre-agrarian societies.2 The shift toward agrarian societies was slow, despite the apparent evolutionary advantages, because people living in pre-agrarian societies preferred that way of life, and perhaps for good reason. James Scott says, “Pastoralists and hunting-and-gathering populations have fought against permanent settlement, associating it, often correctly, with disease and state control. … Most peoples practicing mobile forms of subsistence—herding, foraging, hunting, marine collecting, and even shifting cultivation … have bitterly fought permanent settlement.”3 Scott notes that “farming was far more onerous than hunting and gathering. … there is no reason why a forager in most environments would shift to agriculture unless forced to by population pressure or some form of coercion.”4 In addition to the more onerous work, the spread of disease came from higher population density, not only of people but also of domesticated animals. While agrarian societies may have been more productive overall, the resistance of those in pre-agricultural societies to join them was not based on ignorance.

Agriculture and the State Keith Otterbein observes, “Agriculture and village life are inextricably linked—one cannot exist without the other.”5 Being tied to a specific location meant having to protect that location from predation, and the accumulation of physical assets meant that those in agrarian societies were more attractive targets for predators. The agricultural revolution could not have occurred without substantial changes in institutions to facilitate the protection of both individuals and assets in a society tied to the land. These institutions facilitated the exercise of political power. James Scott asks, “What constitutes a state in this context? … The answer is not cut and dried; I am inclined to see ‘stateness’ as a more-or-­ less proposition rather than either/or. There are many plausible attributes of stateness…”6 With Scott’s continuum in mind, it is not necessary to identify a dividing line beyond which the institutions that enable people to exercise political power can be called a state. The agricultural revolution facilitated the development of institutions of governance, and the exercise of political power. Pre-agricultural societies, which live close to a subsistence level of existence and have few assets, are not prime targets for predation, because

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there is little to gain from looting them. Predation in pre-agricultural societies might be a way to gain territory or to preemptively prevent attacks from outside groups, but the potential for material gain from conquering or eliminating a group that lives on the edge of subsistence is limited. There would be little reason to try to conquer and rule a pre-agricultural society because they produce little surplus beyond what they need to survive. In addition, it would be easy for the conquered to escape their rulers. They are not tied to a specific area of land, and if they left they would take their labor with them. Harry Turney-High observes that “the primitive warrior has been more concerned with his kin than his land.”7 The cost of retreat for members of a pre-agricultural society is low, as long as there is some place to go. In the absence of the ability to retreat, the likely outcome for males on the losing side is death. Females could be taken by the winning side as spoils for the victors. The agricultural revolution brought with it a different set of incentives. One group could conquer and rule another, and gain not only the productivity of the land they conquered but also the productivity of the individuals who worked the land. The agricultural revolution made conquest of other groups more attractive relative to elimination of other groups. This, in turn, made it more important for societies to develop institutions to protect their members against external threats, laying a foundation for the development of the state, which further differentiates economic from political power. The agricultural revolution made the building of military power more advantageous. In pre-agricultural societies, resources devoted toward military power would be taken away from resources devoted to providing sustenance, and even successful military operations had little to gain. Beyond personal protection, military power had minimal defensive value too, because pre-agricultural societies had minimal assets to protect. That changed with the advent of agriculture. With fixed assets that could be taken over and ruled, groups had the incentive to build military power both to protect their own assets and use it to conquer others and get those they ruled to produce for them, rather than directly producing sustenance for themselves. Keith Otterbein says, “once city-states arose, a mode of warfare based upon battles and siege operations sprang forth.”8 The advantages of conquering and ruling people brought with it the necessity of agrarian populations to build their own defenses to protect themselves from invasion.

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Military power exhibits strong economies of scale and advantages due to specialization. A larger army will defeat a smaller one of equal ability, so societies must grow to protect themselves, or be taken over by larger societies. And societies that specialize in military technology and training will defeat societies of equal size that do not. The agricultural revolution required societies to expand their populations so that they would be able to protect themselves from invaders. It required them to devote specialized resources toward defending themselves, which required a different type of organization. Harry Turney-High argues that the requirement that societies develop a military—at least for defense, and often for offense—led to the development of the state. He concludes “that active agriculture and herding not only have provided the economic basis (and cause) of warfare, but linked with metals, have been the great builders of the state. They have contained the seeds of destruction of kin societies and the building of civil governments.”9 Coordination among members of pre-agricultural societies is based primarily on cooperation. Norms of pooling and reciprocity rely on social pressures among group members rather than the threat of force. Resources are shared based on cooperative institutions. As agrarian societies had to grow or be taken over by invaders, institutions that relied on all members of society personally knowing all others were insufficient, requiring an element of command to create order and protect society’s members. Institutional development in agrarian societies was necessarily slow, because the development of agriculture relied on the development of military and governance institutions, while the development of those institutions depended on the production of a surplus in excess of subsistence to finance separate military and political institutions. James Scott says that small states did not appear until about 3100 BC, thousands of years after the beginning of the agricultural revolution.10 When most other people were hunters and gatherers living at a subsistence level, the need for protection would have been limited, and as other societies increased their wealth, and therefore resources that could be devoted to plunder, military and political institutions became more important. In pre-agricultural societies, all power was social power, so there was minimal distinction between economic power, political power, military power, and other types of power. The agricultural revolution required societies to expand beyond Dunbar’s number, so required more formal and sophisticated institutions to govern interpersonal interactions. Lotte Hedeager discusses political, economic, religious, and other institutions,

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and says “The liberation and institutionalization of these functions characterize the transition from tribal to state society, a process which, as has been stated, is believed to have begun in the course of the Iron Age.”11 As more formal institutions of governance developed to oversee a larger population, leaders became rulers. Cooperation was supplanted by command and control. The development of political institutions, which separated political power from other types of power, developed simultaneously with agricultural society. One did not cause the other. Agricultural societies require political (and military) power to protect them from invaders. Meanwhile, political and military institutions require sufficient production above subsistence to support a political and military class. The separation of political power from other types of power also requires a sedentary population to limit the ability of those subject to political power to escape from it. Agriculture cannot develop without government, and government cannot develop without agriculture.

Political Power and the Agricultural Revolution In pre-agricultural societies, where people are unable to accumulate physical assets, differences in productivity among individuals are less obvious than in agricultural communities where people settle for long periods in fixed locations, so asset accumulation is possible. Those assets can be passed on from one generation to the next, further enhancing the asset holdings of individuals. Keith Otterbein says, “Once a settled way of life became established, such differences in abilities between individuals became apparent; some individuals and their families accumulated not only surplus crops but also material goods with lasting value.”12 This, Otterbein argues, is what gives rise to the state. “Government emerged to suppress open conflict between the classes, but government sided with the rich at the expense of the poor.”13 Otterbein’s explanation, going back to the agricultural revolution, is consistent with the elite theory developed in the twentieth century by social scientists.14 A few people rise in the hierarchy to become the elite who make public policy, and design and enforce the rules. Most people belong to the masses, who live under the rules imposed by the elite and who have no say in the rules. Referring to the twentieth-century United States, this gives rise to what C. Wright Mills called the power elite.15 As societies grow, it becomes infeasible for everyone in the society to have a

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say in making policies that govern interactions among members of the group. Transaction costs are too high, to use the terminology of economists, so a subset of the group must make those decisions about institutional design that apply to everyone.16 Those who have power are able to bargain among themselves to use it to their advantage, while the masses find it too difficult to organize effectively.17 Otterbein says “The village leader became a headman, then a chief, and finally a despot at the maximal chiefdom state. The inchoate early state was born. Coercion resulted in the loss of freedom for the ‘lower class.’”18 The agricultural revolution made people dependent on those who held political power; that is, the state. Norman Ault concludes, “The change in man’s existence from hunter to farmer, while obviously of incalculable importance for all subsequent civilisation, was the result of economic pressure alone.”19 An agricultural society can support a larger population than a hunter-gatherer society, providing the economic incentive for pre-­ agricultural societies to engage in agriculture. When they do so, the larger population that agriculture can support is tied to the land, and any move back would result in starvation. A pre-agricultural economy could not support the larger post-agriculture population. Any increase in a population dependent on hunting requires a proportionate increase in available game, but eventually the common-pool nature of wild game will lead to depletion of wild game as a source of food. Adding to the economic forces pushing a shift toward agriculture, “Another point arises, the extensive clearings of the forest-land inevitably brought about a growing scarcity of game.”20 In a process that continues into the twenty-first century, clearing more land for agriculture leaves less in its natural state to provide an environment for the wild game that feeds a hunter-gatherer society. In the twenty-first century, the issue is seen as environmental preservation, which while not unimportant, has less immediate consequences than in hunter-­ gatherer societies where clearing the land reduces the supply of food from hunting.21 As the institutions of political power co-evolve along with economic conditions, two important distinctions between wealth in the form of land and wealth in the form of capital are that land is immobile whereas capital can move, and land is durable, whereas capital depreciates relatively rapidly. Those with political power have often been able to compel people to work on the land, as serfs or as slaves, because land retains its productive power and even if the people are able to move, they cannot take land with them. Capital is often mobile, and even when it is locationally fixed is not

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as durable as land. Unless people have an incentive to invest to replenish depreciating capital, within a few decades that capital will become worthless. Economic power is control over resources, but the form those resources take influences the ability of those with political power to exercise control over economic power. Just as the shift from hunter-gatherer to agricultural societies brought with it a shift in institutional structure, the differences between land and capital also imply differences in institutions between agricultural versus commercial and industrial societies. The immobility of land makes agricultural societies much more susceptible to political control than either pre-agricultural societies or commercial societies. The result was that those who had a comparative advantage in the use of violence were able to use that advantage to subordinate others who did not have the power to fight back or the ability to flee. This often occurred through conquest, as a stronger society was able to subdue and rule over a weaker one. But it was also true within a society. Those with military power were able to command the masses to work the land for them, partly because military power brought with it the threat of force, but also because the military power of rulers was able to protect the ruled from foreign invaders. There was an exchange of protection for tribute. Those who worked the land were protected by the military-political elite, and in exchange they paid tribute to the elite. This exchange of protection for tribute provides the foundation for the belief on the part of the masses that the government that rules over them has the legitimate right to do so.22 People in agricultural societies are tied to the land because land is necessary for agricultural production, but they also need protection from predation. Those who have the ability to use force can use it to force them into servitude, and also can marshal force to protect them from invaders. The same force that protects those tied to the land also keeps them in serfdom and slavery. James Scott says “bondage appears to have been a condition of the ancient state’s survival.”23 Maintaining control over the land brings with it control over the people in agricultural societies, because land is the primary factor of production. In pre-agricultural societies, where labor is the primary factor of production, people can move and take their labor with them. In agricultural societies, where land is the primary factor of production, people cannot move and take their land with them.

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Economic power—control over resources—originates in control over land in agricultural societies. In pre-agricultural societies where labor is the primary factor of production, if people decide to leave a society because those who have power are abusing it, they take their labor with them and can engage in economic activity in the same way as before they left. In agricultural societies, where the key factor of production is land, people cannot take land with them if they decide to leave, which makes exit a costly option and gives those with power more leeway to use it. The sedentary nature of agricultural societies gives those who hold political power a stronger hold over those without it. Christopher Boehm links the development of a political hierarchy to immobility, saying “Extant foragers seem to be invariably egalitarian, as long as they remain basically nomadic. As foragers become sedentary and collect in larger groups that continue to depend on foraging, a hierarchical lifestyle sometimes will arise, with leadership that is relatively strong.”24 Political power can solidify as people become more tied to the land, regardless of agriculture, and as sedentary groups grow larger than Dunbar’s number, requiring institutions that do not rely on personal knowledge of everyone by everyone else. But he does note that “in areas favorable to agriculture, socially stratified, strongly led chiefdoms predictably arise because land ownership stabilizes material differences among households.”25 Control over land leads to the establishment of a political hierarchy. The previous chapter emphasized the importance of money and financial markets to facilitate the separation of economic from political power. In agrarian societies, those with political power have kept control over economic power by using force to subordinate the masses, overseeing institutions in which the masses pay their tribute in-kind, as serfs or slaves. Rather than using economic power to try to persuade people to cooperate, those with power can use the threat of force to control them. Agrarian societies lend themselves to feudal organization, in which the same people control both political and economic power, because economic power comes from control over the land, subjugating people to those who control the land.

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Military and Political Power Political power, based on the ability to control people’s behavior using the threat of force against those who do not comply, is closely related to and often based on military power. Harry Turney-High concludes that “adequately logistic, competently strategic, and completely tactical warfare is the external force arm of the political state.”26 Hedeager makes a similar point: “Elite control of military organization plays a decisive role in the establishment of an early state structure.”27 Timothy Besley and Torsten Persson present evidence that an increase in military power leads to greater political power.28 In this volume that focuses primarily on political and economic power, it is important to note that since the beginning of the agricultural revolution, military power has almost always been the basis of political power. Those who had military power were able to use it to seize political power. John Keegan notes the contemporaneous development of “intensive agriculture, urban life, long-distance trade, hierarchical society, and warfare”29 around 9000  BC.  The agricultural revolution brought with it a major change in social organization—a hierarchical society—because of the need to increase a society’s population to develop the military strength to protect itself from invasion. Referring to archeological excavations, Keegan observes, “it was clear that warfare at least—for what would be the point of walls, towers and moats without a purposeful, well-organized and strongly armed enemy?—had begun to trouble man long before the first great empires arose.”30 When people are tied to the land, they need to be protected from invaders, which gives rise to a hierarchical society in which those who have the comparative advantage in the use of violence use it both to protect the masses and to control them. Military power also brings with it the ability to conquer other less powerful societies, providing a source of additional personnel to increase military power. Political power was increasingly associated with military power as economic activity evolved from hunting and gathering toward agriculture. “The power and prestige of the nobility in all countries had derived originally from their role as a mounted fighting force; for the nobles to be effective it was necessary for them to possess enough land to sustain themselves and, in the case of the greater nobles, their retainers as well and to provide weapons, armor, and horses for their military enterprises.”31 John Kenneth Galbraith says, “It was not by persuasion or purchase or even by marriage but by condign military action that the feudal lord

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sought to impose his will on those beyond his immediate territory.”32 Deborah Shepherd observes, “At some point in the process of transformation from tribe to kingdom, the warrior moved from the fringes of society to its very centre, and ultimately to the top of the hierarchy.”33 Joseph Schumpeter states, “Warfare in the Middle Ages was a very personal affair. The armored knights practiced an art that required lifelong training and every one of them counted individually by virtue of personal skill and prowess. It is easy to understand why this craft should have become the basis of a social class in the fullest and richest sense of that term. But social and technological change undermined and eventually destroyed both the function and the position of that class.”34 The agricultural revolution led to economic conditions that fostered feudal power relationships. These feudal relationships enabled those with political power to control and subordinate economic power to political power. At the same time, political power was based on military power. The modern concept of government, in which military power is subordinated to political power, is very recent in human history. Before about 1100, rulers ruled by force, and their subjects submitted to that force. Basu notes that until recently a “tax was a symbol of oppression rather than of belonging. Slaves and conquered people were routinely plundered to finance the ruling classes and the kings. Taxes were naturally viewed as a transfer from the oppressed by the rich and powerful.”35 Joseph Strayer says, “The modern state, wherever we find it today, is based on the pattern which emerged in Europe in the period 1100 to 1600.”36 Prior to that time Strayer, explains, there were large empires, as in Rome and China, that had little direct participation in the lives of most of those they ruled over. There were also small city-states that had substantial political participation by their residents, but that governed small jurisdictions. Rome is an example of a government that began as a city-state and expanded into an empire. The challenges of maintaining an empire can lay the foundation for feudal institutions, even as feudal institutions can lead to nations when individual feudal lords seek collective protection for their estates. Strayer says, “In fact feudalism is apt to appear whenever the strain of preserving a relatively large political unit proves to be beyond the economic and psychic resources of a society. And early feudalism can relieve the strain only by simplifying institutions and personalizing loyalties. It must start by working against state-building, even if at the end it can become a basis for state-building.”37

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Power in Rome Civilization advanced slowly for thousands of years after the start of the agricultural revolution, but saw major advances in political institutions in ancient Greece and Rome: Athens adopted a form of direct democracy around the fifth century BC and Athenian scholars including Aristotle and Plato wrote on political philosophy, taking a major leap beyond political systems that were controlled by powerful individuals to political systems based on formal institutions that determined who held positions of power. Despite the development of democratic institutions, the Greek city-states were ruled by an elite. Gideon Sjoberg says, “Early Athens was ruled by a king and a body of nobles, and even during the Classical age a small, select group held the reins of government, the ranks of the commoners being unlettered.”38 Institutional development continued in Rome, where a republic with a Senate and elected consuls exercised political power from 509 to 27 BC. Despite this development in political institutions, political and economic power in these societies remained in the same hands. Sjoberg goes on to conclude, “authoritarian oriented industrial orders evince a more pervasive democratic ideology than did the Greek city-states.”39 In ancient Greece, Athens was one of many city-states that often found themselves at war with each other, making military power supreme, and both the Greek and Roman economies were supported by slave labor. Warriors held the positions of power in both cases. Economic power in the Roman Empire was controlled by those who had political power, and political power was held by those with military power. Gaetano Mosca remarks that when most production is agricultural, “warriors either are the owners of the land, which they force others to cultivate, or else extort heavy tribute from those who do not own land. This was the situation in the early period of Greco-Roman antiquity, when the dominant military element in the city was made up exclusively of landed proprietors, and the same phenomenon recurs more markedly still in all countries that are feudally organized.”40 H.  St. L.B.  Moss, discussing the evolution of power in the Roman world, says, “The peasants were the basis of the state. They must therefore be coerced and yet protected. Most small farmers (coloni) were no longer freeholders; they had become, partly by contract or legislation, but more by economic necessity, tenants on the estates of big landowners. Their personal freedom was curtailed. They and their sons were bound to the

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soil; if they contemplated flight, there were to be put in fetters.”41 The elite, who held political power based on their military status, used it to maintain economic power. The expansion of the Roman Empire also required advances in financial institutions. William Goetzmann says, “Rome became an empire through conquest. The conquest itself was a financial feat. Armies were paid, fed, transported, and garrisoned across three continents. Rome had to develop a monetary economy that could compensate her armies. Once provinces were conquered, they had to be taxed and administered.”42 Thus, Goetzmann concludes, “Rome’s financial system was more complex than anything that preceded it, and by some accounts it was as sophisticated as anything that appeared until the Industrial Revolution.”43 When the state acquires resources through the collection of tribute, the development of financial institutions capable of facilitating the payment of that tribute goes hand-in-hand with the development of the state. Roman civilization brought with it so many advances, in political institutions, in financial institutions, in military tactics and technology, and in public works such as the roads, aqueducts and other infrastructure developments, to mention just a few things, that it is worth noting that the structure of power in ancient Rome was much the same as in the agrarian societies that preceded it by thousands of years. Economic and political power were held by the same people, and political power was based on military power. Goetzmann says, “The salient feature of Roman society throughout its history was a sharp division into classes and the dependence of political rank on wealth. … Over the course of Roman history— from monarchy, to republic, to empire—Rome was ruled by a small, self-perpetuating oligarchy defined by heredity and property.”44

Feudal Institutions Feudal institutions are a natural development in agrarian societies. Agrarian societies, based on cultivation of land, remain attached to that land. While it is possible for individual members of an agrarian society to leave, if they have somewhere to go, migration of the entire society is not possible, because the reduced productivity of a migratory society relative to an agrarian one would not allow the survival of many of the society’s members. Members of an agrarian society are tied to the land they occupy. While they often have no right to leave—they are obligated to the

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landowner to stay—they also have no ability to leave because their survival depends on the land they live on and cultivate. Locational immobility of an agrarian society combined with the accumulation of assets, the most important of which is the land they occupy, makes agricultural societies attractive to invaders. Successful invaders can take over and rule not only the land but the people who live on it, because fleeing is not a viable alternative. This gives power to the members of society who protect it from invasion, and in the case of successful invasions, gives power to the conquerors. Those who rule agrarian societies have political power because of their military power, and they have economic power because their military power gives them control over the society’s territory. Power in feudalism comes directly from control of land, which is why agricultural societies tend to have feudal institutions. Ancient Rome had many of these feudal characteristics, in that the land was controlled by those with military and political power, and Rome’s economic productivity relied on slave labor. But Rome had refined the institutions of control by developing sophisticated political institutions and effective military tactics that allowed the power that was centralized in Rome to extend well beyond its center. Turney-High notes that “the Romans gradually realized that a conquered people was a source of tax income, of sequestration of consumption goods, and, since the Romans’ technological ambition exceeded their ability to harness natural energy, of slaves needed for their mighty works. Yet, after the conquest of Gaul, it dawned on them that an empire could be built upon the willing service of formerly independent people.”45 This is the exchange of protection for tribute that allows those with political power to subordinate those without it. In ancient Rome, political power was based on military power, and the wealth of Rome came from military conquest and slave labor. As the Roman Empire gave way to feudalism in Europe, Gaetano Mosca describes the feudal state as “that type of political organization in which all the executive functions of society—the economic, the judicial, the administrative, the military—are exercised simultaneously by the same individuals, while at the same time the state is made up of small social aggregates, each of which possesses all of the organs that are required for self-sufficiency. … the medieval baron was simultaneously the owner of the land, military commander, judge, and administrator of his fief, over which he enjoyed both a pure and a mixed sovereignty…”46 The same people hold economic and political power in feudal systems.

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In the absence of a monetary economy, feudal lords used their political power to control the economic power vested in their estates, but they also provided protection for their serfs when they were threatened by the military power of other estates. “In times of war he defended them against the enemy and sheltered them within the walls of his fortress, and it was clearly to his own advantage to do so, since he lived by their labour.”47 As the Roman Empire expanded, it used the power structures that already existed in its conquered territories, relying on local authorities to collect revenue to send to Rome. As the Empire disintegrated and the political and military control of Rome broke down, those local power structures formed the basis of the feudal estates in the Middle Ages. J.T.  Abdey says feudalism “was a confederation of little sovereigns, of small despots, unequal among themselves, and possessing and owing each towards the other rights and duties, yet invested in their own domains, over their own immediate subjects, with absolute arbitrary power.”48 Abdey continues, “But the feudal form of government was not, strictly speaking, an aristocratic form. It was not a council or a senate of kings. It was a collection of individual despots, aristocrats, it is true, but aristocrats isolated each from the other, each supreme as sovereign and legislator in his own demesne, but each entirely independent of the other, and answerable for his conduct towards his subjects to no one.”49 John Keegan says, “The arrangement known to us as feudalism (from the beneficiary feudium, or fief, that the patron granted to the vassal), became the general basis on which kings raised armies and the military class held land in Carolingian Europe from the middle of the ninth century onward; by then it was also established custom that fiefs were heritable within families as long as service continued to be done.”50 Moss, describing the situation around 800 AD remarks, “Making allowances for variety, one may justly term the prevailing system in Western Europe a ‘closed house-economy’ … in which the needs of life were supplied by the labour of self-sufficient communities, and ‘exchange of goods takes a subordinate place to production.’ Long-distance trade, broadly speaking, is confined to luxuries for Court and Church—spices, jewels, ivories, incense, works of art.”51 Moss further remarks, “the early medieval period shows no regular commercial activity in the West which can be called indispensable to the maintenance of society.”52 Henri Perenne says, “Thus, each estate devoted itself to the kind of economy which has been described rather inexactly as the ‘closed estate economy,’ which was really simply an economy without

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markets.”53 The feudal lord, who held political power because of his military power, controlled the land and all of the resources associated with it. Political power was the source of economic power. While trade of some goods took place, economies were self-sufficient in that they were not dependent on trade or markets beyond their own local economies. Perenne continues, “Thus, the manor was not only an economic but a social institution. It imposed itself upon the whole life of its inhabitants. They were a good deal more than merely tenants of their lord; they were his men in every sense of the word, and it has been justly observed that seigneurial authority rested more on the attributes of chieftainship which it conferred on its possessor than on his attributes as a landed proprietor.”54 John Kenneth Galbraith notes, “In the Middle Ages there could have been little talk or thought of power. It was massively possessed only by the prince, the baron, and the priest. For the citizenry in general, submission to it was natural, automatic, and complete.”55 Political and economic power were held by the same individuals, balanced only by the religious power of the Church. Henri Perenne observes that a feudal economy “was not an exchange economy; it was deprived of markets and thus operated in a closed sphere, without communications with the world outside, bound to a traditional routine and producing only for its own consumption.”56 The significance of money and financial institutions to the separation of economic and political power was noted in the previous chapter. The feudal economy, with obligations exchanged in-kind, lacked this institutional foundation and so stood in the way of the separation of these two types of power. The use of money far predates medieval feudalism, of course, but the economic relationships among those who lived in feudal societies were not based on monetary exchange. John Kenneth Galbraith notes, “The external power of the baronage depended extensively on the number of the feudal lord’s internal subordinates, and their number was in direct proportion to the extent and quality of his landed property. For this reason virtually all feudal conflict, unless at religious behest, was over land. … The result in Europe was nearly continuous territorial conflict between contenders for feudal power.”57 Power in feudal societies rests on control over land, which is the primary economic resource in agricultural societies.

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Religious Power The feudal power arrangements in medieval Europe placed economic and political power in the same hands, but religious power was also important and has had a countervailing influence on political power through much of human history. When people believe that earthy phenomena are directed by the gods, those who are recognized as having contact with the gods gain religious power that is able to counterbalance, and sometimes even usurp, other types of power. John Keegan remarks regarding the Sumerians, who thousands of years ago relied on irrigation for their agriculture, that the distribution of water rights among linked irrigation channels was an important social issue. “The organization of linkages and the regulation of disputes fell to those with traditional priestly functions and, because the timing and volume of the flood’s annual arrival was ascribed to the favour or disfavour of the gods (who may have been new gods), mythic intercession with the divine by the priests progressively invested them with political power.”58 Deborah Shepherd says, “Prehistoric kings—if kings we may call them—had a sacred function quite different from political leadership. It may be that the sacral kingship outweighed the political role in importance. The sacral king, like the shaman, served as a link between human society and the gods.”59 When people believe that their well-being is affected by the gods, those who can credibly claim a connection with the gods gain power over those who want good things from the gods. The decline of the Roman Empire left a power vacuum in Europe, but John Keegan notes that the disintegration of Rome’s military power was partly mitigated by its religious power. Drawing a parallel between military and religious power, Keegan observes, “In retrospect, how easy it is to see that Rome’s principal contribution to mankind’s understanding of how life may be made civilized was its institution of a disciplined and professional army. … The successor kingdoms in the west did not learn how priceless was the institution they had destroyed and how difficult to replace. Yet moral authority in post-Roman Europe did not altogether lose a home; it migrated to the institutions of the Christian church.”60 Keegan continues, “A post-Roman Europe without the Roman church would have been a barbarous place indeed; the remnants of Roman civil institutions were too weak to provide a framework for a reconstitution of order, and in the absence of disciplined armies, the whole continent might have fallen back below the ‘military horizon’ into endemic conflict over

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territory and tribal rights. … Successor to Rome and seated in Rome, the papacy sought from the moment of Rome’s fall to establish the distinction between worldly and religious authority and to justify the subordination of the former to the latter.”61 Feudal serfs, who faced worldly challenges, accepted the Catholic faith in an afterlife far better than their harsh life on Earth. Feudal lords were able to lean on approval from the Church to give them legitimacy, but this required that the Church approve their activities and enabled religious power to provide a countervailing source of power to the political power of the feudal lords. Moss observes, “The increasing power of the Papacy is shown by the growth of the estates of the Church, which not only assured the revenues of the See of Rome, but also provided a means of exerting moral and material influence throughout Italy.”62 The Church’s influence throughout Europe spread under the reign of Pope Gregory around 600 AD, and Moss notes that “the personal influence of Gregory was recognized throughout France, and a still further extension of his activities is shown in Augustine’s mission to England, which was destined to have such important consequences.”63 Ultimately, Moss remarks on “the Papal domination of the West, the temporal power of the Church, the peculiar blend of legalism and Mystic doctrine which characterizes medieval thought.”64 Moss says, “The two centuries which followed the death of Gregory the Great [in 604 AD] witnessed the development, slow, uncertain, and obscure even to its authors, of papal influence in Western Europe.”65 Geoffrey Greatrex remarks, “The importance of ecclesiastical affairs and the numerous servants of the church across the empire cannot be underestimated. The conduct of secular and religious politics went hand in hand; high-ranking generals and courtiers exchanged letters with bishops on issues from taxation to doctrine.”66 Henri Perenne observes, “In this strictly hierarchical society, the first place, and the most important, belonged to the Church, which possessed at once economic and moral ascendancy.”67 Harry Miskimin notes, “The Pope could excommunicate a recalcitrant monarch and thereby deny him the sacraments. This would jeopardize his access to heaven and, at least as significantly, deny him the loyalty of his subjects, since the excommunication of the king freed them from their oaths of homage and fealty.”68 In medieval Europe, economic and political power were held by the same people, but political power was based on military power, and was reinforced through the cooperation of those who held religious power.

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Miskimin notes, more generally, that the ideas of the Church supported those with political power by asserting that their role was to act in the public interest, that they had a positive duty to care for their subjects, and that there is a limit of the self-aggrandizement of the royal class. “When these political ideas, theoretical though they may be, were sustained by an institution with such power and prestige as the thirteenth-century Catholic Church possessed, they constituted a significant force in the organization, structure, and contemporary conceptions of economic activity and fiscal policy.”69 The Church also supported political power and promoted the maintenance of the status quo by justifying military activity that allowed feudal lords to maintain their estates. “Theologians reluctantly conceded the morality of combat when conducted to impose or restore a sovereign’s lawful rights.”70 But this would require that those sovereigns maintain the support of the Church to keep those with religious power from using it against them. J.T. Abdey remarks, “If the clergy required the countenance of the conquering invaders of Europe, these conquerors, in their turn, required the help of the clergy.”71 In medieval Europe, the Church was the countervailing power to the feudal lords who held political power. Robert Jones notes, with regard to military campaigns, “Church and monarch sought to ensure that the clergy were involved in the preparation for campaigns through special liturgies, prayers, alms and fasting, and also at the conclusion of the campaign, with prayers and masses for the fallen and thanks for victory. Such involvement sought divine aid and support for the cause and acted as propaganda advertising the rightness of the cause for which the battle was fought.”72 The Church supplied propaganda to legitimize the military actions of the feudal lords, and reassured those involved in battle of their rewards in the afterlife. The Church also aided the feudal society, based on in-kind exchanges, in resisting advances in commercial activity that could threaten the feudal order. The doctrine of just price declared it a sin to sell goods for more than the just price, and the Church’s objection to usury stood in the way of the establishment of credit markets. As Perenne remarks, “What was more natural than the reprobation of usury, commerce, and profit for profit’s sake, in those centuries when each estate was self-supporting and normally constituted a little world of its own?”73 Robert Latouche says, “From the fourth century onward Christianity definitely took root in Western Europe in the form of Roman Catholicism. The authority of the Church was no longer in question.”74 The Church

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provided a source of power to temper the ability of those with political power to use it to control economic power, but the Church also had controls of its own: the condemnation of usury and the doctrine of just price. But, van Bavel notes, “The campaigns of the Church against usury mostly concerned the activities of pawnbrokers and the sale of rents, not merchant bankers and commercial loans.”75 Meanwhile, various contractual methods were developed to circumvent the Church’s objections to usury. “This was a revolutionary period in the development of Italian financial techniques.”76 The doctrine of the Church helped reinforce the hierarchical nature of feudal society. “The object of labour was not to grow wealthy, but to maintain oneself in the position in which one was born, until mortal life should pass into life eternal.”77 Strayer says, “The fact that churchmen were deeply involved in secular politics, that no ruler could function without their advice and assistance, meant that the political theories and the administrative techniques of the Church had a direct impact on lay government.”78

Cities and Commerce Population pressures laid the foundation for the emergence of cities and commerce in medieval Europe. Feudal power was inherited, with the first-­ born son taking over after the death of the feudal lord, leaving later-born sons with no power. Some serfs would also leave their estates, despite legal obligations that tied them to the land. But in agricultural societies, people cannot just leave without having somewhere to go. They could not survive on their own. This gave rise to cities that were engaged in commercial and manufacturing activities. In the medieval cities that emerged after about 1050, residents needed a mechanism to protect themselves from predation. Perenne notes, “The most pressing was the need for defence. The merchants and their merchandise were, indeed, such a tempting prey that it was essential to protect them from pillages by a strong wall. … There were no unfortified towns in the Middle Ages.”79 Military power remained an important aspect of political power, although the rise of commerce and its associated use of money rather than in-kind exchange opened opportunities to accumulate economic power independent of political power. Bas van Bavel says, “The urban governments replaced the town militias of citizens that were used in the twelfth and thirteenth centuries with

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professional soldiers hired in the market.”80 Feudal lords also began hiring mercenaries rather than using their own subjects as soldiers, and this shift toward market transactions led to a weakening of the power held by nobility. These monetary transactions allowed economic power separate from political power. Larger centralized governments developed when those with political power lacked the ability to retain it by force themselves. They joined forces with others, leading to the formation of larger states.81 The following two chapters pick up the story at this point, describing how commerce and industry affected the distribution of political and economic power.

Communism The evolution of economic and political power does not follow a straight line, or even a predictable course. The following two chapters describe how commercial and industrial economies displaced feudal economies, but those feudal institutions that were displaced can reappear, and have reappeared often in history. Commercial societies are characterized by a separation of economic from political power, but in some places feudal societies evolved into communist societies, and in others commercial societies turned to communism. Communism, in its modern variant, is an institutional structure that attempts to bring economic power under the control of political power. An essential characteristic of communism, according to Karl Marx and Friedrich Engels, is state ownership of the means of production. They say, “the theory of the Communists may be summed up in the single sentence: Abolition of private property.”82 The institutions that subordinate economic power to political power are the common element in feudalism and communism. Control of land is important in both systems, though perhaps for different reasons. Land is the primary economic resource in feudalism and serfs are attached to the land. Capital is a more significant resource in communist societies than in feudal ones, and the population is more mobile, so historically, communist societies have tried to prevent citizens from exiting. Another common element is that many communist societies established themselves through the use of military force. Military power establishes political power, which is then able to subordinate economic power. Chapter 12 considers the emergence of communist institutions in more detail. A simple definition of communism would be collective ownership of the means of production, which in practice has meant government

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ownership of the means of production. Communism shares with feudalism the characteristic that economic and political power are held by the same people. If feudalism is viewed as based on power derived from control of land, communism might be viewed as a natural extension of feudal institutions when capital rivals or surpasses land in its significance as a factor of production.

Power and Land After the agricultural revolution, economic power—control over resources—rested on the possession of land. Because land is immobile, those who have a comparative advantage in violence—military power— can use that power to forcibly gain control of land, and because an agrarian population is immobile, to also gain control over the people who work the land. This creates a hierarchical society—the rulers and the ruled—in which the ruled have little alternative but to remain subject to the power of their rulers. The power of the ruling class is legitimized in several ways; perhaps by the support of religious power, but more directly because the ruled depend on the ruling class to protect them from invaders. In agrarian societies, those who are subject to power find it difficult to escape from the domination of the powerful. People can move, but unlike in pre-agricultural societies where labor is the primary factor of production, people who try to move from agrarian societies cannot take the primary factor of production with them, so in most cases, moving is not a viable alternative. In agrarian societies, control over land—economic power—also brings with it control over its occupants—political power. So, agrarian societies tend to be feudal societies in which economic and political power are combined. In these societies, power is hierarchical and social coordination is accomplished through control. Those with political and economic power tend to rely on their political power to force others to comply with their mandates, rather than using economic power to persuade them. The domination of economic power by political power means that feudal societies tend to be stagnant societies, and from the demise of the Roman Empire until the beginning of the Industrial Revolution, economic progress was barely perceptible.

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Notes 1. Steadman Upham, “Decoupling the Processes of Political Evolution,” ch. 1 in Steadman Uphan, ed., The Evolution of Political Systems: Sociopolitics in Small-Scale Sedentary Societies (Cambridge: Cambridge University Press, 1990), p. 3. 2. James C.  Scott, Against the Grain: A Deep History of the Earliest States (New Haven, CT: Yale University Press, 2017), p. 14. 3. James Scott, Against the Grain, p. 8. 4. James Scott, Against the Grain, p. 20. 5. Keith F.  Otterbein, How War Began (College Station: Texas A&M University Press, 2004), p. 94. 6. Scott, Against the Grain, pp. 117–118. I have addressed this question in The Economic Foundations of Government. New York: New York University Press, 1994), ch. 5, where I argue that there is no clear dividing line between voluntary organizations—clubs—and governments. I offer a definition there: Government is an organization that has the ability to finance its activities by compulsory contributions from all individuals within a given geographic area. While there is a clear relationship between this definition of government and political power, there is no need to use that definition here. The focus in this work is political power rather than government and the present line of analysis can be completely comfortable with the idea that there is no clear dividing line beyond which the institutions within which political power is exercised can be called the state. 7. Harry Holbert Turney-High. Primitive War: Its Practice and Concepts, 2nd ed. (Columbia: University of South Carolina Press, 1971), p. 243. 8. Otterbein, How War Began, p. 11. 9. Harry Holbert Turney-High, Primitive War, pp. 243–244. 10. Scott, Against the Grain, p, 7. 11. Lotte Hedeager, Iron-Age Societies: From Tribe to State in Northern Europe, 500 BC to AD 700 (Oxford, UK: Blackwell, 1992), p. 87. 12. Otterbein, How War Began, p. 91. 13. Otterbein, How War Began, p. 100. 14. See, for examples, Arthur F. Bentley, The Process of Government: A Study of Social Pressures (Chicago: University of Chicago Press, 1908) and C. Wright Mills, The Power Elite (New York: Oxford University Press, 1959). More recently, Larry M.  Bartels, Unequal Democracy: The Political Economy of the New Gilded Age (Princeton, NJ: Princeton University Press, 2008) and Martin Gilens, Affluence and Influence: Economic Inequality and Political Power in America (Princeton, NJ: Princeton University Press, 2012) express the same ideas. 15. Mills, The Power Elite, p. 3.

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16. The importance of transaction costs was emphasized by Ronald H. Coase, “The Problem of Social Cost.” Journal of Law & Economics, 3 (1960), pp. 1–44, in one of the most widely cited articles in economics. Randall G.  Holcombe, “The Coase Theorem, Applied to Markets and Government,” The Independent Review 23, no. 2 (Fall 2018), pp. 249–266, discusses the application of Coase’s ideas to political decision-making. 17. This is explained in more detail by Mancur Olson, Jr., The Logic of Collective Action: Public Goods and the Theory of Groups (Cambridge, MA: Harvard University Press, 1965). 18. Otterbein, How War Began, p. 91. 19. Norman Ault, Life in Ancient Britain: A Survey of the Social and Economic Development of the People of England from Earliest Times to the Roman Conquest (Freeport, NY: Books for Libraries Press, 1920), p. 74. 20. Ault, Life in Ancient Britain, pp. 122–123. 21. James Suzman, Affluence Without Abundance: The Disappearing World of the Bushmen (New York: Bloomsbury, 2017), notes the effect on the food supply of African bushmen from the clearing of increasing amounts of land for agriculture, making their primitive lifestyle increasingly unviable. 22. This idea that the exchange of protection for tribute forms the economic foundation for government is developed in Randall G.  Holcombe, The Economic Foundations of Government (New York: New  York University Press, 1994). 23. Scott, Against the Grain, p. 30. 24. Christopher Boehm, Hierarchy in the Forest: The Evolution of Egalitarian Behavior (Cambridge, MA: Harvard University Press, 1999), p. 88. 25. Boehm, Hierarchy in the Forest, p. 104. 26. Harry Holbert Turney-High, Primitive War, p. 254. 27. Hedeager, Iron-Age Societies, p. 90. 28. Timothy Besley and Torsten Persson, “The Origins of State Capacity: Property Rights, Taxation, and Politics,” American Economic Review 99, no. 4 (September 2009), pp. 1218–1244. 29. John Keegan, The History of Warfare (New York: Alfred A.  Knopf, 1993), p. 125. 30. Keegan, The History of Warfare, p. 125. 31. Harry A. Miskimin, The Economy of Early Renaissance Europe: 1300–1460 (Englewood Cliffs, NJ: Prentice-Hall, 1969), p. 8. 32. John Kenneth Galbraith, The Anatomy of Power (Boston: Houghton Mifflin, 1983), p. 95. 33. Deborah J.  Shepherd, “The Elusive Warrior Maiden Tradition: Bearing Weapons in Anglo-Saxon Society,” ch. 14 in John Carman and Anthony Harding, eds., Ancient Warfare: Archeological Perspectives Phoenix Mill, UK: Sutton Publishing, 1999), p. 221.

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34. Joseph A.  Schumpeter, Capitalism, Socialism, and Democracy (London: George Allen & Unwin, 1943), p. 133. 35. Kaushik Basu, Prelude to Political Economy: A Study of the Social and Political Foundations of Economics (Oxford: Oxford University Press, 2000), p. 183. 36. Joseph R. Strayer, On the Medieval Origins of the Modern State (Princeton: Princeton University Press, 1970), p. 12. 37. Strayer, On the Medieval Origins of the Modern State, pp. 14–15. 38. Gideon Sjoberg. The Preindustrial City: Past and Present, (New York: The Free Press, 1960), p. 235. 39. Sjoberg, The Preindustrial City, p. 236. 40. Gaetano Mosca, The Ruling Class (New York: McGraw-Hill, 1939), p.223. 41. H. St. L.B. Moss, The Birth of the Middle Ages: 395–814 (Oxford: Oxford University Press, 1935), p. 26. 42. William N.  Goetzmann, Money Changes Everything: How Finance Made Civilization Possible (Princeton: Princeton University Press, 2016), p. 103. 43. Goetzmann, Changes Everything, p. 103. 44. Goetzmann, Changes Everything, p. 105. 45. Harry Holbert Turney-High, Primitive War, p. 262. 46. Gaetano Mosca, The Ruling Class (New York: McGraw-Hill, 1939), p. 81. 47. Henri Perenne, Economic and Social History of Medieval Europe (New York: Harcourt, Brace and Company, 1937), p.64. 48. J.T. Abdey, Feudalism, p. 114. 49. J.T. Abdey, Feudalism, pp. 116–117. 50. Keegan, The History of Warfare, p. 285. 51. Moss, The Birth of the Middle Ages, p. 244. 52. Moss, The Birth of the Middle Ages, p. 245. 53. Henri Perenne, Economic and Social History of Medieval Europe (New York: Harcourt, Brace and Company, 1937), p. 9. 54. Henri Perenne, Economic and Social History of Medieval Europe (New York: Harcourt, Brace and Company, 1937), pp. 63–64. 55. John Kenneth Galbraith, The Anatomy of Power (Boston: Houghton Mifflin, 1983), p. 181. 56. Henri Perenne, Economic and Social History of Medieval Europe (New York: Harcourt, Brace and Company, 1937), p.106. 57. John Kenneth Galbraith, The Anatomy of Power (Boston: Houghton Mifflin, 1983), pp. 95–96. 58. Keegan, The History of Warfare, p. 127. 59. Deborah J. Shepherd, “The Elusive Warrior Maiden Tradition,” p. 221. 60. Keegan, The History of Warfare, p. 283. 61. Keegan, The History of Warfare, p. 289. 62. Moss, The Birth of the Middle Ages, p. 132.

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63. Moss, The Birth of the Middle Ages, p. 134. 64. Moss, The Birth of the Middle Ages, p. 136. 65. Moss, The Birth of the Middle Ages, p. 207. 66. Geoffrey Greatrex, “Governments and Mechanisms of Control, East and West,” ch. 2 in Michael Maas, ed., The Cambridge Companion to the Age of Attila (Cambridge: Cambridge University Press, 2015), p. 49. 67. Henri Perenne, Economic and Social History of Medieval Europe (New York: Harcourt, Brace and Company, 1937), p. 13. 68. Harry A. Miskimin, The Economy of Early Renaissance Europe: 1300–1460 (Englewood Cliffs, NJ: Prentice-Hall, 1969), p. 2. 69. Miskimin, The Economy of Early Renaissance Europe: 1300–1460, p. 3. 70. Keegan, The History of Warfare, p. 290. 71. J.T. Abdey, Feudalism (London: George Bell & Sons, 1890), p. 101. 72. Robert W.  Jones, Bloodied Banners: Martial Display on the Medieval Battlefield (Woodbridge, UK: Boydell Press, 2010), p. 146. 73. Henri Perenne, Economic and Social History of Medieval Europe (New York: Harcourt, Brace and Company, 1937), p. 14. 74. Robert Latouche, The Birth of Western Economy: Economic Aspects of the Dark Ages (London: Methuen & Co. Ltd., 1961), p. 303. 75. van Bavel, The Invisible Hand? p 109. 76. van Bavel, The Invisible Hand? p 109. 77. Perenne, Economic and Social History of Medieval Europe (New York: Harcourt, Brace and Company, 1937), p. 13. 78. Strayer, On the Medieval Origins of the Modern State, p. 16. 79. Henri Perenne, Economic and Social History of Medieval Europe (New York: Harcourt, Brace and Company, 1937), p.54. 80. van Bavel, The Invisible Hand? p 120. 81. Miskimin, The Economy of Early Renaissance Europe, p. 9. 82. Marx, Karl, and Friedrich Engels. The Communist Manifesto (New York, International Publishers, 1948), p. 23.

CHAPTER 7

Institutions That Support Commerce and Industry

Commerce provides a mechanism for economic power to be created independently of political power, and thereby to be separated from political power. But commerce can exist only when institutions protect people’s right to own property. If property rights are not protected by those with political power, opportunistic individuals will find it more advantageous to steal from others rather than trade with them, and people engaged in commerce would be at enough of a disadvantage that commerce could be only a small fraction of overall economic activity. Commerce requires the institutionalized recognition and protection of property rights, and one impediment to the rise of commercial societies throughout history has been that those with political power have used it to confiscate economic power. Because commercial societies can be more prosperous than agrarian societies, there are incentives for institutions that protect property rights to emerge. Commerce allows a greater division of labor, to use Adam Smith’s terminology, which enhances the wealth of nations. People are naturally inclined to engage in commerce to benefit from gains from trade, so commerce will expand if institutions can evolve in such a way that nobody—or at least, nobody with power—is made worse off in the process. When institutions protect property rights, people have an incentive to work to acquire property. Commerce produces value, which allows the creation of economic power. Commerce does not take resources—economic power—away from anybody. It creates new value and offers the © The Author(s) 2020 R. G. Holcombe, Coordination, Cooperation, and Control, https://doi.org/10.1007/978-3-030-48667-9_7

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opportunity for those who do not have political power to acquire economic power. The division of labor is limited by the extent of the market, as Adam Smith explained, and commerce provides a mechanism for increasing the extent of the market, enabling a greater division of labor and greater productivity. The development of commerce then provides an incentive to develop industry, because industrial activity produces goods that can be traded. An economy based on commerce requires that those who have political power credibly commit to protecting ownership rights to economic assets. They must make a credible commitment not to engage in political predation themselves, and must also commit to using their political power to protect economic power from outside predators. If their commitment to protect the economic power of those who have it is credible, they can claim the right to tax those with economic power in exchange, creating an exchange of protection for tribute that makes everyone better off. Recognizing that such protection is necessary for a commercial society to emerge raises the question of how these institutions that allow economic power to grow independently of political power can emerge. What keeps those with political power from simply confiscating economic resources? Many historical examples, even into the twenty-first century, show the real possibility that people with political will use it to confiscate economic resources. What conditions must exist to prevent this from happening, and to create institutions that protect property rights? A commercial society allows economic power to be created and accumulated by individuals who do not have political power, but institutions must be supportive for this to happen.

Labor, Land, Capital, Entrepreneurship, and Power There are four factors of production: labor, land, capital, and entrepreneurship.1 Different factors play the dominant role in different types of societies. In pre-agricultural societies, the dominant factor of production is labor. In agricultural societies, the dominant factor of production is land. In commercial and industrial societies, capital and entrepreneurship are the dominant factors. These differences bring with them major differences in power relations in the different types of societies. In pre-agricultural societies, where the primary factor of production is labor, members apply their labor to land, but there is no well-defined individual ownership of land. Hunters and gatherers hunt and gather resources

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that naturally occur on the land, using their labor. They do not invest in improving the land, and there is little capital in pre-agricultural societies. As Chap. 5 described, power is not differentiated in pre-agricultural societies. All power is social power—power that some individuals have over others. With little capital, little innovation and entrepreneurship, and no private claims over land, labor is the only factor of production over which those in pre-agricultural societies can have direct control. Power in pre-agricultural societies gives some people control over others. Economic power is in power over labor. People gain power in pre-­ agricultural societies when they acquire social power over others, but the power some have over others is limited, because people can leave, and when they leave they take their economic power—their labor—with them. While single individuals will find it difficult to leave, pre-agricultural societies do regularly divide as their populations grow, making exit an option that can control the abuse of power. In agrarian societies, economic power is tied to land, and because individuals are tied to the land that they work, those who exercise control over land also exercise control over those who occupy it. In agrarian societies, power over individuals accrues to those who are able to control the land. The exit option is often not feasible for those in agrarian societies, because people who might choose to exit cannot take the most significant factor of production—land—with them. This gives those with power in agricultural societies more control over people than is the case in pre-agricultural societies, where exit is more viable. Those with power in agrarian societies use political power to maintain their dominant positions by threat of force, and economic power cannot escape the control of political power. People who control land also control the lives of those who occupy it. David Ricardo noted the economic importance of land even into the 1800s. Because there is a fixed quantity of land, as population grows, Ricardo envisioned that the rent on land would continue to grow, squeezing profits and keeping wages at a subsistence level. Before population peaks because of the limited resources to support it, Ricardo says that “the very low rate of profits will have arrested all accumulation, and almost the whole produce of the country, after paying the labourers, will be the property of the owners of land and the receivers of tithes and taxes.”2 Economic power comes from control of the land, Ricardo says, and the passage just quoted also notes the economic power that can be claimed by those who have religious and political power. Ricardo’s observation reinforces the previous chapter’s conclusions about power in agrarian societies.

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In commercial and industrial societies, the primary factors of production are capital and entrepreneurship. Capital differs from land in two important respects: it is mobile, and it depreciates. This limits the ability of those with political power to exercise control over economic power. The owners of capital can move themselves and their capital to a different political jurisdiction, and if moving is not possible in the short run, such as when capital is in the form of a factory, attempts on the part of those who have political power to confiscate economic power will cause the capital on which it is based to depreciate. Those who have economic power will lose it if those with political power attempt to confiscate it, but those who have political power cannot appropriate it, except in the short run. Without new investment, the capital on which economic power is based will depreciate until it becomes worthless. In commercial and industrial societies, economic power accrues to those who control capital, but the mobility of capital gives commercial and industrial societies characteristics that make it more feasible for economic power to exist separately from political power. Entrepreneurship is even more mobile and more volatile than capital. Entrepreneurship consists of action based on ideas, and the people with those ideas tend to be very mobile.3 Even if they are forcibly prevented from moving, their entrepreneurial activities will cease to exist, or will be channeled in unproductive directions, if those with political power attempt to appropriate it. Entrepreneurship thrives in places that protect the right of entrepreneurs to profit from their entrepreneurial activities, but only in those places. Venezuela in the early twenty-first century is an example of a society in which economic power once could exist independently of political power, until those with political power moved to appropriate that economic power. One of the more prosperous Latin American countries in the twentieth century, largely based on its petroleum reserves, the election of Hugo Chavez in 1999 led to an explicitly socialist government that appropriated economic resources, which depreciated and led to an erosion of economic power. Those with political power tried to confiscate economic power, but instead eliminated a substantial proportion of it and plunged the country into poverty and chaos in only a few decades. The same story has unfolded in many other countries—Cuba, North Korea, and China, to name a few. When political power tries to seize economic power, the resources it tries to control disappear. China offers an example in both directions. China under Mao led to mass starvation as

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political power exercised control over economic power. After Mao, a shift to market institutions that allowed economic power to be accumulated resulted in substantial economic growth in the 1990s and into the twenty-­ first century. When political power controls economic power, the result is stagnation, and if a society shifts from institutions that allow economic power to exist independently of political power to one in which political power controls economic power, the result is economic decline. The capital that was the basis of economic power depreciates. There is no guarantee that institutional changes that allow for economic development are permanent, or that they will not reverse themselves.4 Different types of societies foster different types of power arrangements because of the relative importance of different factors of production. In pre-agricultural societies, where labor is the primary factor of production, power comes from social control and there is no differentiation among types of power. Those who have social control have political, economic, religious, and all types of power, because of the control they have over others in their society. Power in pre-agricultural societies is power over people. In agricultural societies where power comes from control of the land, those who control the land control those who occupy it and have both political and economic power. Political and economic power come from military power—the ability to use force to control the land. Economic power, concentrated in land, is immobile, and those who have political power want to maintain their status at the top of the hierarchy, so do not want economic power to escape from their control. Economic power can separate itself from political power in commercial and industrial societies because capital is mobile. The maintenance of a commercial society requires that the property rights of those with economic power be protected, or commercial societies will regress. Pre-­ agricultural societies, agrarian societies, and commercial societies have different institutional power structures because of their differences in the relative importance of different factors of production. When labor is the primary factor of production, all power emanates from social power. When land is the primary factor of production, those with political power use it to maintain control over economic power. Capital can become the primary factor of production only when political institutions protect the property rights of those with economic power, allowing economic power to separate from political power.

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The Rise of Commercial Society Commercial societies were rare, but not completely unknown, prior to the Industrial Revolution. Babylonia had a substantial commercial society around 2000 BC, in which wage labor was a significant part of the labor force, in which land was often leased for cultivation, and in which money was lent for interest. Iraq in the sixth century BC also was extensively urbanized, had a monetized economy, and had a large degree of labor specialization. China from 400 to 200  BC also had a market-oriented economy and was extensively monetized. Records indicate that buying and selling was sometimes done on credit. Athens in the fourth century BC also had a monetary economy with market transactions occurring among individuals with whom they had no personal knowledge. The Roman economy after the second century BC provides another example, despite the widespread use of slave labor and income resulting from military conquest. Commercial societies face organizational challenges that go beyond agrarian societies. Agrarian societies produce everything they need for their own consumption, and while some commercial activity may exist, the production of food, clothing, and shelter tend to lie outside the bounds of commerce. Commercial societies must develop mechanisms for supplying food (and other goods) to people who are engaging in commercial activities. Gideon Sjoberg remarks, “Unquestionably, for cities to expand and diffuse, the level of technology had to be such as to ensure the surplus of food and raw materials necessary to sustain non-agricultural specialists.”5 Agricultural workers must produce more than their subsistence to support those who are engaged in commerce. The increased division of labor that commerce enables is a major factor that allows this type of productivity increase. One of the things commercial societies did was overcome the lack of labor mobility that was a characteristic of feudalism. M.M.  Postan says, “Medieval towns were … non-feudal islands in the feudal seas: places in which merchants could not only live in each other’s vicinity and defend themselves collectively but also places which enjoyed or were capable of developing systems of local government and principles of law and status exempting them from the sway of the feudal regime.”6 Those governments and principles of law include protecting those who have economic power from having it confiscated by those who have political power.

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Sjoberg continues, “But we can hardly comprehend urban growth simply in technological terms. Power operating through the social structure accounts for many urban developmental configurations.”7 Commercial societies require both the technology and the social structure to provide food, clothing, and shelter to people who are not producing those things for themselves. Those people include both those who are engaged in commercial activity and the ruling elite who exercise political power in commercial societies. Those with economic power—control over resources—cannot protect themselves from predation in the absence of political power. That is why economic and political power are so often combined. But when governmental institutions protect property rights and enforce rule of law, economic power can develop independent of political power. Robert Latouche notes the breakdown of governmental institutions after the decline of the Roman Empire as a factor leading to feudal organization. “Without claiming to rewrite history, we believe that a system of small estates similar to that prevailing in contemporary France would gradually have established itself in Western Europe from the ninth century onwards, had not the growing feudal anarchy of the middle years of that century changed institutions as well as its economic structure. The word anarchy is here used in its strict etymological sense: absence of authority and the bankruptcy of the sovereign state.”8 Similarly, Henri Perenne says “The feudal system simply represents the disintegration of public authority in the hands of its agents, who, by reason of the very fact that each one of them held a portion of the soil, had become independent and considered the authority with which they were invested as a part of their patrimony.”9 Without governmental institutions to protect economic power from predation, people could not have economic power without political power. Sjoberg concludes that “large-scale economic enterprise is highly dependent upon an effective power structure.”10 But not just any power structure. Those who have political power must protect the right of everybody to exercise economic power, to provide the incentive to be productive, secure in the knowledge that those with economic power will not have their property forcibly confiscated. Iraq from 700 AD to 1000 AD and China from around 1000 AD to 1400  AD are other examples of commercial societies.11 Examining the emergence of a market economy in Iraq, Bas van Bavel notes the importance of a number of social upheavals in the two centuries from 500 AD to 700  AD, saying “each of those revolts profoundly shook up society,

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broke the ancient power elite of top noblemen, and brought new groups to the fore.”12 Consistent with Mancur Olson’s framework explaining the rise of nations, the old power structure was disrupted, shifting the emphasis from political power to economic power as the way to get ahead.13 Van Bavel continues his description of Iraq, saying, “The rural economy was highly market-oriented, communal agriculture was relatively unimportant, social differentiation highly developed… most labour was performed within forms of tenancy or as free or semi-free independent labour, while wage labour was also used.”14 Van Bavel says, “When taking stock of developments in factor markets in the seventh and eighth centuries, we can thus see a clear growth in freedom and mobility of production. … This is a period in which many more coins came into use…”15 providing further evidence of the increased importance of market transactions and a mechanism through which economic power could be expanded independent of political power. This separation allowed serfs to claim more freedom. “Without liberty, that is to say, without the power to come and go, to do business, to sell goods, a power not enjoyed by serfdom, trade would be impossible.”16 That mobility that enables trade also limits the ability of political power to dominate economic power, because those with economic power can migrate to different jurisdictions. Aiding the development of commercial society was the development of commercial law. As Perenne relates, “It was a collection of usages born of business experience, a sort of international custom, which the merchants used among themselves in their transactions. Devoid of all legal validity, it was impossible to invoke it in the existing law courts, so the merchants agreed to choose among themselves arbitrators who had the necessary competence to understand their disputes and settle them promptly. … Soon this ad hoc jurisdiction became permanent and was recognized by public authority.”17 Bruce Benson describes in detail how commercial law, originally developed independently of government as a spontaneous order, was taken over by government once its success had been recognized by those with political power.18 Bruce Campbell notes increasing trade and commerce beginning in the eighth and ninth centuries AD, and observes, “Over the ensuing centuries, the institutions, codes of behavior, mental attitudes, knowledge and trust upon which market exchange depended evolved and became embedded in society.”19 Commercial societies depend on institutions that allow economic power to exist independent of political power.

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Sjoberg says, “The governmental apparatus in preindustrial civilized societies—on the local, provincial, and societal levels—fulfills three primary functions: social control of the maintenance of order, the provision of services, and the exaction of tribute from the populace to finance the operations of government and to underwrite the elite, or more narrowly the ruling group.”20 Government amounts to an exchange of protection for tribute.21 But to do this, those who are governed must produce enough to cover their subsistence plus a surplus that can be tendered to those who command political power. This is why those with political power protect the productive capacity of those with economic power. To confiscate it would provide a one-time gain that would destroy its productivity and its ability to pay tribute.

Commerce and Borders Agrarian societies are for the most part economically self-sufficient. Its residents grow their own food and make most of what they consume, which allows them to maintain an economy based mainly on in-kind exchanges. This, in turn, allows those with political power to maintain their economic power. Commerce brings with it not only the benefits of gains from trade but also an economic reliance on trade, so people’s well-­ being hinges on not only protecting their own property but also protecting their ability to trade. As an economy grows in scope and people become more economically interdependent, borders that define jurisdictions become more important for several reasons. One is protecting the economic power that exists within those borders. Economies of scale give rise to alliances that produce national governments, promoting closer ties among formerly independent feudal barons. When armed combat is the mechanism those with political power use to defend their territories and acquire new ones, larger jurisdictions provide more capital and more labor to the military enterprise. Feudal manors cooperate to form nations. A second reason for cooperation is the need to finance military protection for those who live within those national borders, which also benefits from economies of scale. A straightforward way to do finance the protection of one’s borders is to impose tariffs on goods that cross those borders. Referring to medieval Britain, M.M. Postan says “The kings of England learned quite early how to tax the goods crossing their frontiers, and in the later middle ages greatly relied on the revenue of their custom duties.”22 By controlling

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borders, those with political power have a mechanism to raise revenues to finance governmental activities. Until very recently in history, waterborne commerce was by far more economical than shipping goods over land, which meant that the most significant economic borders were ports, where commercial activity was easily monitored, and was therefore relatively easy to tax. Ports provided commercial access, but by funneling commercial activity through a narrow zone, also provided a mechanism for state revenue collection. One can see the relevance of natural borders, determined by geography, not only because oceans, mountains, and other geographic borders can hinder invasion, but also because they lower the cost of collecting revenues for government finance.

Monetization and the Creation of Economic Power The development of monetary and financial institutions are key elements in the creation of commercial society. Bas van Bavel observes that institutional evolution occurred as “the systems of exchange and allocation connected to these old elites were undermined or even done away with, whether they were systems of serfdom and manorialism, arbitrary levies by lords, or heavy taxation by state elites.”23 William Goetzmann says, “In fact, finance has been an integral part of the development of human society over the past 5,000 years. Finance played a key role in the development of the first cities, the emergence of classical empires, and the exploration of the world.”24 The feudal institutions that characterize agricultural societies are based heavily on in-kind exchanges and mutual obligations among the society’s members. Feudalism eroded and allowed the development of commercial societies when these in-kind obligations were displaced by monetary transactions. Serfdom evolved into sharecropping and tenant farming, because both the nobility and the serfs saw advantages to moving toward monetary exchange. But at the same time, that institutional evolution undermined feudal relations. Bas van Bavel says, “When serfs succeeded in shaking off their compulsory labour services and their ties to the land and their lord, for instance, they also gained a better position to become involved in flexible, competitive labour markets.”25 As serfs resisted their ties to their lords and increasingly fled to cities, that “made it more attractive to former lords to switch either to leasing out the land in competitive lease markets or to hiring wage labourers in the labour market.”26 The shift from in-kind exchanges

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to monetary exchanges enabled commercial societies to evolve from feudalism. A decline in the value of money was another factor that could hasten the separation of economic from political power. “The tendency of landowners to allow the substitution of monetary rent for the labor services due from their peasants had been continuous from the thirteenth century and had left the nobles vulnerable to price inflation that could reduce the real value of their rents.”27 Rents could be raised, but only to the extent that the market would bear higher rents. As monetary exchange opened opportunities for former serfs to engage in commercial activity, the competition for labor was a factor that could keep rents in check. The increasing importance of money goes hand-in-hand with the growth of commercial activity, but other financial institutions have been similarly significant. Richard Sylla discusses the significance of financial institutions for economic development, focusing on the historical development of financial institutions in the United States and Japan28 Money provides a store of value, allowing people to accumulate economic power, but financial assets enable individuals to invest that money so it will grow with the value of capital. Entrepreneurial individuals who have ideas for creating value for others but lack the resources with which to do so can obtain money from those who want to invest in those entrepreneurial ventures. Simple loans provide a starting place, and lead to the development of more sophisticated financial assets that allow investors to take an equity interest in promising projects. Capital markets facilitate the allocation of resources toward projects that will be the most productive. Robert Heilbroner, while noting that trade has been going on for thousands of years, says that it is only recently that people have relied on markets for most of what they consume, and identifies capitalism as an economic system in which factors of production are allocated through markets.29 Bas van Bavel agrees, saying “Societies that use the market as the dominant system of exchange and allocation, not only for output, but also for land labour, and capital—labelled market economies here—are quite rare in history.”30 Those market institutions allow economic power to develop independently of political power, and result in economic progress.

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Natural Factors That Influence Institutional Development Commerce developed in various places in the world, at different times, and commercial societies have emerged and then reverted back to institutions in which political power came to dominate economic power. History does not draw a straight line in which one institutional structure evolves into another, and shows frequent reversals in institutional structures. Commenting on the development of commercial societies, Bruce Campbell says, “Institutional and organizational innovation bore fruit in a veritable commercial revolution, during which more people became dependent for more of their livelihoods upon engagement with increasingly active commodity, land, labour and capital markets.”31 One characteristic of commercial and industrial societies is that people become dependent on commerce for their survival. Campbell notes an increasing reliance on markets, which facilitates the separation of economic from political power, but also places heavy emphasis on climate and disease. The bubonic plague resulted in a decline in Europe’s population of about a third in the mid-1300s, increasing the value of labor and thus giving serfs and other working-class individuals more bargaining power. Meanwhile, a cooling climate beginning around 1400 hindered agricultural production and may have held back economic development because of reduced productivity.32 Jared Diamond similarly argues that geographical factors led to differences in economic development in various regions around the globe.33 Climate factors that affected the spread of disease, the availability of different types of domesticatable plants and livestock in different areas, in addition to institutional differences that emerged because of natural conditions, affect the abilities of societies to adopt more economically productive institutions. While looking at institutional changes that affect political and economic power, natural factors like climate and disease must be recognized for their impacts on institutional change. Campbell places heavy emphasis on these natural factors, but also recognizes the significance of institutional development—of the influence of the Church, the development of Western legal traditions, the emergence of guilds, and international fairs that facilitated commerce. Campbell says, “It was these institutions that shaped European development for centuries to come.”34 Similarly, Daron Acemoglu and James Robinson also place heavy emphasis on institutional

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differences across countries as an explanation of cross-country differences in prosperity.35 Campbell echoes Diamond’s emphasis on natural factors when he says, “To do justice to a complex past and the dynamism of the natural world in which people lived, worked and reproduced it is necessary to understand how climate and society, ecology and biology, microbes and humans, acting separately and in combination with each other, shaped the course of history.”36 Natural factors are largely beyond the control of individuals, whereas institutions are the result of human action, and often the result of human design. Institutional development occurs when changing conditions require more sophisticated institutions. The agricultural revolution provides an example, and institutional development advanced more rapidly in areas where agricultural communities increased their dependence on commerce. Commerce can exist within a society, but commerce advances more rapidly when trade occurs among societies, over longer distances. As Adam Smith said, the division of labor is limited by the extent of the market. For this reason, commercial activities tended to advance in specific locations that had advantages that lowered the cost of transporting goods, mostly over water, because waterborne commerce was least expensive method of transporting goods over long distances until very recently in human history, but commerce also developed when more accessible overland routes were available. Gideon Sjoberg says, “The prerequisites for the emergence of cities are: 1) a favorable ‘ecological’ base, 2) an advanced technology (relative to pre-urban forms) in both agricultural and non-agricultural spheres, and 3) a complex social organization—above all, a well-developed power structure.”37 The power structure Sjoberg refers to is a well-established political elite. The ecological base includes climate and soil conditions, but also includes a location that makes it accessible to a larger transportation network. Until the twentieth century, major commercial cities were located on navigable waterways, with rail and highway networks assuming increased importance since then. Commerce at any but the smallest scale requires access to markets beyond just local markets. Another advantage, Sjoberg goes on to say, “essential for urban development is an ecological situation conducive to repeated contacts among peoples of divergent cultures, in turn permitting a constant accretion of social and technological skills in an area.”38 People learn from each other, and societies can imitate institutions that appear successful in other

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societies. Feudal societies, which are largely self-contained, create an impediment to institutional evolution. Commercial societies, which interact with others through commerce, are exposed to a wider variety of ideas. While the emphasis of this volume is on institutions, many factors underlie differences in institutions in different places and different times. But institutions provide the key link to economic development. As van Bavel observes, “Markets for land, labor, and capital emerged in north-­ central Italy as early as the twelfth to fourteenth centuries, probably as both a cause and an effect of economic growth.”39 A more detailed look at the emergence of market institutions shows both how they developed, and factors that led to their erosion.

Finance and Development The use of money offers individuals the opportunity to save without having to store physical commodities. Money can be saved instead of commodities and used in the future to buy commodities. Rather than have the money sit idly, savers can charge a fee for lending money to those who want to invest, enabling investors to gain access to resources in the present in exchange for giving up resources in the future. In a monetary economy, lending provides an opportunity for both borrowers and lenders to gain. The opportunity brings with it complications. Should the repayment to the lender be a fixed amount, or should the lender share in the proceeds of the investment? Either is an option, giving rise to both debt and equity markets. Then there is the risk that the investment does not pan out, or the borrower is unable to repay the debt, so this type of finance requires that people develop ways to account for risk. Financial transactions also make intertemporal tradeoffs explicit. Individuals who control resources can consume them now, or engage in financial transactions that sacrifice some present consumption to give them the possibility of consuming more later. Financial assets provide a method for individuals to transfer resources from the future to the present. Someone who has an idea for a profitable investment, but no resources to invest, can issue stock or bonds to acquire resources now, to be repaid to stockholders or bondholders in the future, as a result of the productivity of the investment. This allows much more rapid development than would be the case if the entrepreneur had to accumulate the resources to invest ahead of the investment rather than using resources others make available right away. It also creates more economic

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power for those who own the financial assets. Money can be held as a form of economic power, but financial assets, when they pay off, multiply the value of the money set aside and create additional economic power. There is a risk, but there is also a return. The development of financial markets transformed the way that people perceived of economic activity. Goetzmann says, “Europe after the year 1000 became the crucible for a financial system that completely reconfigured society’s relationship with time and money.”40 In non-monetary economies, people produced for present consumption, or stored produced goods to consume later. Financial markets offer readily available opportunities to forego present consumption to consume even more in the future, albeit with the risk that investments may not pay off. Complex financial instruments can mitigate the risk—insurance is a prime example—but stocks, bonds, and more sophisticated financial contracts all arose because of the opportunity money provides to shift control of resources over time. Goetzmann goes on to say, “The fragmented political economy of Europe fostered the development of investment markets; the reinvention of the corporation; extra-governmental banking institutions; complex insurance contracts on lives, property, and trading ventures; and a sophisticated tradition of financial mathematics, reasoning, and analysis. These innovations, in turn, changed human behavior. I argue that they altered attitudes toward risk and chance, leading on the one hand to probabilistic thought and calculation and on the other hand to unbridled speculation that fueled the world’s first stock market bubbles.”41 Banks and other financial institutions, insurance companies, and stock markets were necessary developments to provide the foundations for economies based on commerce rather than agriculture, and the forward-looking mind-set that is an integral part of finance provides the foundation for economic progress.

Public Finance and Law The development of private financial institutions went hand-in-hand with the development of public finance, because governments borrowed substantial sums to finance their wars. The state that used its military power to protect (and expand) its political power led to the development of bond markets, but also led to the development of law, and more formal institutions for the division of political power.42 By providing protection from outside aggressors to the rulers of estates, royalty was able to establish

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some legitimacy for their political power, but at the same time, as a condition for raising revenue from those estates, it was pushed into establishing formal institutions for sharing political power. Roger Congleton describes the formation and evolution of European parliaments as a result of kings being pushed into giving estate holders some political oversight in exchange for their providing funding and manpower to engage in warfare.43 The requirements that central governments had for financing their activities—largely, military activities—meant they needed to collect revenues from localities. As cities based on commerce developed, those cities became a direct source of revenue for national governments. Postan says cities gained financial independence, which gave “the townsfolk the right to discharge their financial obligations to the king collectively, by a fixed annual sum which they levied on themselves. This right to tax themselves was, in its turn, a step towards fuller and more general self-government.”44 Central governments provided law in addition to military protection. By taking over the court system that in part had been at the discretion of feudal rulers, but also had been privately developed as a common law system, the state gained legitimacy by treating its residents more as citizens who lived under an objective set of laws rather than subjects who were ruled by the mandates of their lords.45 The establishment of law, and the establishment of public finance, required a more educated citizenry to formalize both systems, and the formalization of government finance and law made governments appear more legitimate. They operated under clear rules and procedures, rather than having disputes settled by the sole judgment of the holders of political power, and revenues were increasingly viewed as legitimate taxes to finance a protective state that was in everyone’s interest, rather than being viewed as appropriation from the subjects of political power. Stayer says, “These basic elements of the state appeared almost everywhere in Western Europe during the twelfth and thirteenth centuries.”46

Political Power and Control The ability to exercise political power—control over people—is related to the degree to which those people can escape power they view as oppressive. In pre-agricultural societies, where the most important factor of production is labor, and in which different types of power are not clearly

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differentiated, all power is social power. All relationships—economic, political, social—are based on personal knowledge of group members, making it difficult for individuals to leave their societies. Their reputations exist only within their current societies. Economic power comes with political power because both are power over the activities of individuals in a society. But while single individuals can find it difficult to exit pre-­ agricultural societies, groups of individuals can split off to create separate societies with different power structures. This ability to exit provides some check on the abuse of power in pre-agricultural societies. Land displaces labor as the most important factor of production in agricultural societies, and people are tied to the land so control over land brings with it control over the people who live on and cultivate that land. Military and political power control land in agricultural societies, so economic and political power are held by the same people. Because people are tied to the land on which they work, exit is rarely a viable option for individuals in agricultural societies, so there are fewer checks on the use of power by those who hold it. Capital and entrepreneurship are the most important factors of production in commercial and industrial societies. Unlike land, capital is mobile and depreciates, so requires continual investment for its maintenance. Commercial and industrial societies have the advantage of being more productive than pre-agricultural and agricultural societies, but for investment to take place, and for capital to remain in a jurisdiction, those with political power must protect economic power, and allow people to accumulate economic power independent of political power. Long run incentives pull those with political power to do so, but sometimes those with political power have short time horizons, and use their political power to confiscate economic power. This can prevent feudal societies from developing into commercial and industrial societies, and can also undermine existing commercial and industrial societies. There is no guarantee that market-oriented commercial societies will not revert back to a more feudal set of institutions.

Notes 1. In the first economics course I took, I learned that there are these four factors of production. By the time I got to graduate school, the production function had become Q=f(K,L) and a serious question is, what happened to those other two factors of production? This section provides half an

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answer. In capitalist economies, land becomes of secondary importance as a factor of production. Note that Thomas Piketty, Capital in the TwentyFirst Century (Cambridge, MA: Harvard University Press, 2014), lumps land in with capital. But entrepreneurship has perhaps become even more important, and it is unrecognized not only by Piketty but by neoclassical economics more generally. 2. David Ricardo, Principles of Political Economy and Taxation, 3rd ed. (London: John Murray, 1821), p. 79. 3. Israel Kirzner, Competition and Entrepreneurship (Chicago: University of Chicago Press, 1973) depicts entrepreneurship as alertness. It consists of recognizing profit opportunities that have gone previously unnoticed. But if those with political power use it to confiscate economic power, there will be no profit opportunities. 4. Along these lines, see Douglass C. North, John Joseph Wallis, and Barry R.  Weingast, Violence and Social Orders: A Conceptual Framework for Interpreting Recorded History (Cambridge: Cambridge University Press, 2009), who explain that advanced societies, which they call open access orders, can revert to more primitive limited access orders. 5. Gideon Sjoberg, The Preindustrial City: Past and Present (New York: The Free Press, 1960), p. 64. 6. M.M. Postan, The Medieval Economy and Society: An economic History of Britain, 1100–1500 (Berkeley: University of California Press, 1972), p. 212. 7. Sjoberg, The Preindustrial City, p. 67. 8. Robert Latouche, The Birth of Western Economy: Economic Aspects of the Dark Ages (London: Methuen & Co. Ltd., 1961), p. 199. 9. Henri Perenne, Economic and Social History of Medieval Europe (New York: Harcourt, Brace and Company, 1937), p. 8. 10. Sjoberg, The Preindustrial City, p. 76. 11. These examples come from Bas van Bavel, The Invisible Hand? How Market Economies Have Emerged and Declined since AD 500 (Oxford: Oxford University Press, 2016), pp. 31–32. 12. van Bavel, The Invisible Hand?, p. 49. 13. Mancur Olson, Jr., The Rise and Decline of Nations (New Haven: Yale University Press, 1982). 14. van Bavel, The Invisible Hand? p. 57. 15. van Bavel, The Invisible Hand? p. 60. 16. Perenne, Economic and Social History of Medieval Europe (New York: Harcourt, Brace and Company, 1937), p. 51. 17. Perenne, Economic and Social History of Medieval Europe, p. 53. 18. Bruce L. Benson, The Enterprise of Law: Justice Without the State (Oakland, CA; Pacific Research Institute for Public Policy, 1990). 19. Campbell, The Great Transition, p. 85.

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20. Sjoberg, The Preindustrial City, pp. 244–245. 21. This idea is developed in Randall G. Holcombe, The Economic Foundations of Government (New York: New York University Press, 1994). 22. Postan, The Medieval Economy and Society, p. 186. 23. van Bavel, The Invisible Hand? p. 252. 24. William N.  Goetzmann, Money Changes Everything: How Finance Made Civilization Possible (Princeton: Princeton University Press, 2016), p. 1. 25. van Bavel, The Invisible Hand? p. 252. 26. van Bavel, The Invisible Hand? p. 252. 27. Harry A. Miskimin, The Economy of Early Renaissance Europe: 1300–1460 (Englewood Cliffs, NJ: Prentice-Hall, 1969), pp. 9–10. 28. Richard Sylla, “Financial Systems and Economic Modernization,” Journal of Economic History 2, no. 2 (June 2002, pp.: 279–292. 29. Robert L. Heilbroner, The Making of Economic Society (Englewood Cliff, NJ: Prentice-Hall, 1962). 30. van Bavel, The Invisible Hand? pp. 1–2. 31. Bruce M.S. Campbell, The Great Transition: Climate, Disease, and Society in the Late-Medieval World (Cambridge: Cambridge University Press, 2016), p. 31. 32. Campbell, The Great Transition, p. 37, presents data to show that global temperatures peaked around 900, after which a downward trend bottomed out around 1600, after which global temperatures began rising again. The decline steepened after about 1400. 33. Jared Diamond, Guns, Germs, and Steel: The Fates of Human Societies (New York: W.W. Norton & Co., 1997). 34. Campbell, The Great Transition, p. 33. 35. Daron Acemoglu and James A. Robinson, Why Nations Fail: The Origins of Power, Prosperity, and Poverty (New York: Crown Business, 2012). 36. Campbell, The Great Transformation, p. 396. 37. Sjoberg, The Preindustrial City, p. 27. 38. Sjoberg, The Preindustrial City, p. 27. 39. Bas J.P. van Bavel, “Markets for Land, Labor, and Capital in Northern Italy and the low Countries, Twelfth to Seventeenth Centuries,” Journal of Interdisciplinary History 12, no. 4 (Spring 2011), p. 528. 40. Goetzmann, Money Changes Everything, p. 203. 41. Goetzmann, Money Changes Everything, p. 203. 42. Goetzmann, Money Changes Everything, discusses the importance of the development of public finance to the establishment of modern state institutions. 43. Roger D.  Congleton, Perfecting Parliament: Constitutional Reform, Liberalism, and the Rise of Western Democracy (Cambridge: Cambridge University Press, 2011).

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44. Postan, The Medieval Economy, p. 213. 45. Benson, The Enterprise of Law, describes how private common law evolved into a well-recognized and well-accepted private legal system that was then taken over by the state. 46. Stayer, The Medieval Origins of the Modern State, p. 35.

CHAPTER 8

Power in Commercial and Industrial Societies

The development of commercial and industrial societies requires that those with political power assure those with economic power that their control over resources will be protected from predation. Predators could be outsiders, opportunistic fellow citizens, or those with political power within their own society. This leads to a natural exchange in which those with political power provide protection to those with economic power in return for tribute paid to their protectors—the people with political power. Those with political power have an incentive to provide that protection because they are protecting their source of tribute, and those with economic power benefit because the exchange gives them secure ownership of their economic resources.1 Even if those with economic power would prefer not to be forced to pay tribute, the forced payment takes on an air of legitimacy because of the protection they are given in return.2 Everybody benefits from this exchange. The continued payment of tribute provides an incentive for those with political power to continue to protect people’s economic power, which provides some assurance that the protection will continue into the future. This exchange of protection for tribute explains why governments provide national defense, police protection, and a court system that peacefully settles disputes when they arise. Individuals who have disputes with each other can have them settled by an objective third party, and when individuals run afoul of the rules established by those with political power, a © The Author(s) 2020 R. G. Holcombe, Coordination, Cooperation, and Control, https://doi.org/10.1007/978-3-030-48667-9_8

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court system provides some assurance that those who are accused are being dealt with fairly. One issue is fairness to the accused, but perhaps a larger issue for those with political power is the creation of a system that appears to be fair to all who are subject to the government’s authority. People will be less resistant to that authority when they believe it is a part of that mutually beneficial exchange of protection for tribute, and that those with political power are treating everyone fairly. Economists frequently justify the production of national defense, police protection, and other government activities by saying they are public goods, but this justification does not explain why those with political power would produce public goods. While it is possible that free riding might lead to an underproduction of public goods, and for various other reasons private production might be inefficient, this does not explain why people with political power would have any incentive to overcome any inefficiencies and act in the public interest rather than in their own interests.3 But recognizing that the economic foundation of government is this exchange of protection for tribute reveals why government does these things. Those with economic power benefit from the security the exchange of protection for tribute provides for them, and those with political power benefit because they receive the tribute. While that continued exchange of protection for tribute is in the long-­ run interest of everyone, often short-run interests dominate the actions of those who have political power. Short-turn interests may take precedence when those with political power view their power as threatened, pushing them to take all they can in the short run, while they still have power. Even if they feel secure in their positions of power, they may view their continued hold on political power as more important than looking out for the economic well-being of everyone. They may confiscate the resources held by those with economic power, even if they recognize the negative effect it will have on productivity, if they feel threatened by those with economic power. Political power can be destructively intoxicating. Or, those who hold political power may miscalculate the amount of tribute they can collect without eroding the productive capacity of those over whom they exercise their power.4 Political instability threatens both the political elite and the economic elite because it brings with it uncertainty about the security of property rights. But even with political stability, those who hold political power sometimes overestimate the amount of tribute they can extract without harming economic productivity, or think that if they confiscate economic

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power, they can manage the allocation of resources better than those whose resources are confiscated. Friedrich Hayek called this the fatal conceit, using twentieth-century socialism as an example.5 Miscalculations like these lead to the erosion of commercial society. But another possibility is that the political elite may not care about productivity at all, because those at the top of the political hierarchy can use their political power to maintain material comfort (and even excesses) for themselves.6 Throughout history, commercial societies have arisen only to regress to a more rudimentary type of economic organization. The previous chapter noted the rise of commerce in Babylonia around 2000 BC, in China from 400 BC to 200 BC, in Iraq from 700 AD to 1000 AD, and again in China from around 1000 AD to 1400 AD. This chapter looks at more recent cases in which commercial societies have emerged, leading up to the Industrial Revolution.

Italian City-States Economic power became separated from political power in the city-states that emerged in central and northern Italy from around 1000 to 1500. Power was relatively decentralized within these city-states when compared to the European feudal manors in what is now Germany, France, and Britain. “Each town in Italy had an elite composed of aristocratic families, who were also landowners and held secular and ecclesiastical office, but often were also active in trade. … These aristocrats were prosperous, but not extremely wealthy. Likewise, they nearly all possessed some land, but few owned very large estates.”7 Power was decentralized in these city-­ states, unlike the hierarchical power structure that existed in feudal manors that existed at the same time. Goetzmann notes, “The emergence of Europe in the Middle Ages was not the reemergence of a unified empire built on the ashes of Rome, but instead the appearance of small, aggressive, trade-oriented mercantile city-­ states.”8 “Compared to other parts of Western Europe, the Italian elites were fairly modest and clearly urban-oriented.”9 Two factors that facilitated the separation of economic from political power were the distribution of power among several members of the elite, as opposed to one feudal lord, and their emphasis on commerce which increased the rewards to using economic power for personal advancement. During this period, “power in the towns became distributed more broadly… [leading to] the removal of all forms of arbitrary decision

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making based on feudal privileges.”10 Ferdinand Schevill attributes institutional changes to the growth of commerce. “The sap which in the eleventh century began to fill the Italian towns was the revival of commerce; and it no sooner ran, magically multiplying both private and public activities, than it was sluiced into numerous appropriate channels. In other words, as has been the case from the beginning of time, the quickening of social energies called into being the new economic, juridical, and political forms they needed in order to function.”11 When people have to be enticed to engage with others through their use of economic power rather than forced to engage with others through the use of political power, they have the incentive to look for ways to create value for others rather than looking for ways to keep others from challenging their positions in the power structure. The growth in commerce was driven at least in part by technological innovations in seagoing ships that enlarged markets. William McNeill says, “Between 1280 and 1330, under the management of capitalists and entrepreneurs domiciled mainly in cities of northern Italy, a series of important inventions drastically cheapened transport. This allowed trade in articles of common consumption to attain previously unequaled volume.”12 Economic productivity increased as a result of an increase in the extent of the market, to use Adam Smith’s phrase. But financial innovations were also crucial to the development of commerce in the city-states. Goetzmann proclaims, “The creation of a market for financial securities in Venice in the twelfth century represents a watershed in European history. … Finance became one of Venice’s key instruments of power in its rise as a mercantile empire.”13 The technological and financial advances that occurred during this time were both a cause and an effect of the separation of economic from political power. People have the incentive to look for more profitable ways to allocate resources when they can profit from innovation. When, as under feudalism, those with power are more concerned with maintaining their status in the power hierarchy, they have no interest in unleashing the forces of creative destruction. Feudal lords sought stability, and progress can be destabilizing. “In this context of relative freedom, equity, and self-organization, and the removal of older restrictions on the exchange of land, labour, and capital, factor markets expanded.”14 “The road to dynamic land markets in northern and central Italy was further opened up by the disappearance of manorial, communal, and lordly restrictions on the exchange of land

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during the high Middle Ages. This happened in a context of thriving output markets and commercialized, market-oriented production, with the markets found especially in the towns.”15 The spontaneous order of a decentralized market system allows individuals to use the knowledge they have to best advantage, resulting in economic progress.16 In hierarchical feudal systems, by contrast, people follow the orders of those above them in the power structure and have no incentive to be creative, or to make use of any knowledge they have that might generate progress, because they cannot profit from doing so. The easiest way to get along in those systems is for people to do as they are told, and to avoid disrupting the status quo. Schevill says, “Working with unabated but capricious energy, the commercial revival brought into being such institutions of law and government as were capable of serving its ends.”17 Those ends were not always in the best interest of the working class, who had migrated into the cities from the countryside. Schevill observes, “The masters alone determined the wages of the workers and, in order to keep them at minimum level and the workers themselves in secure subjection, declared every attempt of their subordinates for form a gild of their own a punishable crime.”18 Workers could be blacklisted and removed from a list of eligible employees, placing them in dire economic straits, which discouraged workers from organizing to counteract the market power of the guild masters. “As all the labor-employing gilds boasted similarly repressive legislation, and as the government of Florence lay entirely in gild hands, we should feel no surprises to learn that the gild enactments against every sort of association or collegium of workers had been incorporated in the public law of the land.”19 Economic power was decentralized, but still held by an elite few who were able to use their economic power to enforce rules that gave themselves market power. While commerce was thriving, the benefits went disproportionately to the economic elite rather than the masses who made up the working class. “Classical-type manors with large demesnes and extensive labour services were rare in early medieval Italy.”20 “The commons and communal rights to land, too, were gradually dissolving in this period and gave way to private, alienable property rights… Sometimes, towns and urban elites pursued a deliberate policy to this end, at times even enclosing, privatizing, and selling off common lands in order to solve their financial problems and lack of liquidity… In the later Middle Ages, what remained of the commons in these regions was further parceled out, privatized, or sold.”21 Institutions evolved to make land, like labor, a marketable factor

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of production, and along with the development of capital markets laid the foundation for a commercial society. The institutions that facilitated ownership and transfer of property rights to land laid a more general foundation for the protection of resource ownership, enabling people without political power to control resources— in this case, land. Land is more amenable to market exchange in a commercial society where capital takes on greater importance as a factor of production. Giving up land in a feudal economy would mean giving up power. Giving up land in a commercial economy is a means by which people can finance investment in capital. “In Italy, registration of land transactions was well developed and mainly carried out by public notaries. … The clear property rights to land and their legal protection in turn paved the way for the introduction of short-term, contractual leasing.”22 Land was leased either for a fixed lease payment, or was sharecropped. In either case, commercial transactions to allocate the use of land replaced the power relationships that characterized feudal societies. “Labour markets in this period also developed in central and northern Italy.”23 Serfdom declined because cities did not recognize feudal labor relationships and allowed wage labor. “In turn, this widened the opportunities of the rural population to hire themselves out for wages.”24 “Freedom became the legal status of the bourgeoisie, so much so that it was no longer a personal privilege only, but a territorial one, inherent in urban soil just as serfdom was in manorial soil. In order to obtain it, it was enough to have resided for a year and a day within the walls of a town.”25 The expansion of markets went hand-in-hand with the expansion of money, primarily in the form of gold and silver coins, to facilitate commerce.26 The development of financial markets also facilitated the freeing of political and economic power from the constraints of religious power. Goetzmann says, “The invention of bonds in Venice led to a philosophical crisis in Europe. The Catholic Church’s proscription against usury put Venetian investors in a morally ambiguous position as lenders to the state. This problem led in turn to a deeper analysis of the use of capital and changed the way Europeans conceptualized and quantified time.”27 Financial markets formalized the repayment of debts so that it was clear that the longer into the future a debt was to be repaid, the greater would be the payment. Without a clearly structured debt contract, an obligation could be incurred to be repaid later, as might be the case with reciprocity relationships in pre-agricultural societies, or even among friends and family in the

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twenty-first century. Without financial markets, time is divided into now and later. A debt is incurred now to be repaid later. With financial markets, “later” becomes a continuum in which how much later makes a difference in how much must be repaid. Schevill comments that “from the earliest days the destiny of Florence had been shaped by its merchants prompt to take advantage of the economic opportunities springing from the revival of trade and industrial enterprise.”28 Markets unleash entrepreneurship, and entrepreneurship creates progress. Production in Florence was regulated by guilds, and one result of the economic power the largest guilds held was that they were able to gain political power, and to separate political power from military power. But this separation was temporary. As Schevill explains. “The national army of the early days of the republic had gone to pieces during the rule of the greater gilds and, as we have seen, beginning with the early decades of the fourteenth century, Florence, yielding to a general Italian precedent, had wholeheartedly committed itself to a system of professional soldiers. When these professionals, organized in so-called companies of adventure, became aware that they were less the servants than the masters of the rich cities of Italy alike estranged from the use of arms, they flaunted their power through the length and breadth of the peninsula, levying ransom on every community in their path and, in case money was denied, stripping the country like a plague of locusts. … Disgusting as this submission to blackmail was, it constituted no specialty of the Florentine democracy and, if contemptible, may be declared to have been unavoidable under the military conditions which had come to prevail in the Italy of that age.”29 Italian city-states, while they thrived on commerce, also engaged in nearly continuous military conflict. One issue for the city-states themselves was the desire to enlarge their territories. Those who had the power to do so used it to conquer and rule over other cities that lived on commerce. John Julius Norwich says “Tyrants though they might all be in the strict classical sense, their rule was not normally oppressive; more often than not they were popular with their subjects, for whom life was a good deal more peaceful and secure than it had ever been in their fathers’ and grandfathers’ day.”30 Those with military power found it more profitable to exchange protection for tribute than to use their power to plunder. Military activities led to financial innovations. Government bonds, as a method of public finance, were developed in Venice in the 1100s. Rather than completely appropriating assets through taxation to finance a war

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with Byzantium, which might have faced too much political opposition, the government forced debt upon its citizens with the promise to repay, including five percent annual interest until the debt was retired. The bond obligations could be transferred to other citizens, creating a market for the bonds. The invention of bond finance was the result of political weakness. Taxation was not feasible, so repayment of the money assessed for military purposes was promised.31 The availability of bonds created a way of accumulating economic power without the requirement of holding physical assets. Goetzmann observes, “Venetian citizens could take the economic value saved up from past labor or trade and convert it into future cash flows. In this way, it was possible to economically hedge against the depletion of earnings capacity as the body and mind grow old; it was possible to create a perpetual stream of benefits to endow a charity. It was also a way to pass along an asset that did not have to be managed.”32 Bonds are attractive economic assets because they generate a return on investment with little oversight on the part of the investor. The return they earn is contractual, and repayment only depends on the ability of the issuer to repay. Commercial societies emerged in Italy because the city-states had favorable locations that enabled low transportation costs for traded goods, and because they developed monetized economies that allowed individuals to accumulate economic power independent of political power. Their prosperity allowed them to hire military power to both protect their borders and enlarge their territories. While those city-states were able to retain a substantial amount of independence, eventually economies of scale in military activities led to increasingly centralized political power. Rather than fight with each other, they could agree to recognize as a unifying national leader someone with sufficient military power to protect them all. The advantage of such a federation is that it creates a more cooperative environment. A disadvantage is that it lessens intergovernmental competition through centralization of political power, and so lowers the barriers to a recombination of economic and political power.33

The Low Countries Prior to the Industrial Revolution that began in Britain, commerce flourished in present-day Netherlands and Belgium, with Amsterdam being a prime example of commercial development. One reason that economic power was readily separated from political power in that area is that land

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quality was poor, making cultivation difficult, so those who owned land had to offer favorable terms to attract residents, reducing the power of landowners. “The territorial lords, most notably the count of Holland, had to lure people from outside by granting them favourable conditions for settlement. … Rural nobles, urban patriciates, and territorial lords held each other in check, while peasants, village communities, and urban craftsmen and guilds also all held secure positions in society and participated in legal and political decision making.”34 Natural factors were important determinants of institutional development in the low countries. These natural factors produced a division of power rather than a hierarchical power structure, and competing power bases enabled people to hold economic power independent of political power. Rietbergen and Seegers note that around the year 1000 “there was no production of goods specifically for trading purposes on a regional level. During the eleventh and twelfth centuries Europe renewed and stepped up its contacts with promising sources overseas. Trade with the Near East, so rich in luxury goods, was resumed after the first crusade in 1096.”35 “All this happened in the context of market exchange: not only of goods, but also of land labour and capital. Factor markets thrived in the Low Countries in this period.”36 Prior to the twelfth century, land tended to be allocated within families, leading to feudal economic relationships, but around that time a market for land emerged. “Rights to land became more absolute and exclusive, with restrictions and non-market mechanisms for distributing land being gradually replaced by market transactions. … The erosion of these non-­ market systems was accelerated by the rise of factor markets. The emerging labour and capital markets made social actors less dependent on the land as a binding element, as a form of security, or as an instrument of power or coercion.”37 Jean Gimpel observes that “the textile workers of the industrial cities in Flanders and in Italy formed a real proletariat bound to a capitalist system.”38 From the standpoint of landowners, “they could now avail themselves of the dynamic product markets for their provisioning, and they no longer needed the manors to provision them directly.”39 At a time when land played a large role in accumulation of economic power, government title registration provided a mechanism whereby those with political power stood ready to protect the economic power of landowners. “Proof and accessibility of registration at a central and public place greatly enhanced transparency and security for potential buyers.”40

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Markets for factors of production are a key ingredient for moving societies from feudal to commercial institutions. “From the fourteenth century onwards, the Low Countries saw a marked rise in wage labour, both in the towns and in the countryside.”41 Towns played a role in this “by giving freedom to former serfs residing for a year and a day in the town, thus offering the rural population an alternative to serfdom. … Holland, and several other parts of the Low Countries, had become thoroughly market-dominated societies by the mid-sixteenth century, with high mobility of land, labour, and capital in competitive and flexible markets, and ample opportunities for accumulation and increases in scale of production, more than anywhere else in Europe.”42 The creation of economic power through commerce gave local jurisdictions more political independence. Rietbergen and Seeger say, “The wealth and the independence afforded by their privileges enables the towns to assume political power along with the ruler, the aristocracy and the church. In the fifteenth century many of the towns operated as virtually independent communities, also forming strong political factions in the many party feuds.”43 Those engaged in commerce were a minimal direct threat to feudal lords around them, and because capital can rapidly depreciate if not maintained, towns were not an attractive target for conquest by feudal lords. Political divisions tended to be internal to the commercial towns rather than presenting an external threat to the old order. “In the field of public debts and other financial transactions, Amsterdam became the main international centre. … the first stock exchange in permanent session, the Amsterdam Bourse, was developed in this city and was housed in a new, grand building, erected in 1611. … Amsterdam also offered the most advanced and secure business instruments, including all kinds of insurances, instruments for commodity trading, and price quotations, all this on a permanent basis”44 It almost goes without saying that the development of capital markets is a key ingredient in capitalism. “One of the most conspicuous steps was the foundation of the United East India Company, the VOC, in 1602. The VOC possessed various characteristics of the modern corporation, including permanent, shielded capital, a clear-cut separation between ownership and management, transferability of shares, and limited liability of the shareholders.”45 It also provides an example of the interaction between political and economic power, as “it was granted the monopoly in the Netherlands trade to the Indies, or Asia, for a period of twenty-one years; this was later automatically

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prolonged.”46 Those with economic power were able to use it to shield themselves from domestic competitors. Commerce led to industry. “The flourishing of Dutch trade encouraged the rise of various industries in the seventeenth century. Shipbuilding boomed in the Zaan region and supply companies such as rope-yards and sailmakers did a roaring trade.”47 The industries related to seaborne commerce in turn fostered other industries that produced goods destined for trade. Commercial economies are based on trade. Industrial societies are based on production. But the potential for production is limited without trade, so commercial societies lay the foundation for the development of industry.

Britain The emergence of commercial economies in Italy and the low countries predates the Industrial Revolution. The commercial economies that emerged in Italy and in the present-day Netherlands were based on commerce more than industry, although as incomes rise above subsistence in commercial societies, that share of labor that is freed from agricultural activity needed to feed the population can be redirected toward manufacturing. In Britain, as in the cases discussed earlier, economic advance was enabled because of a separation of economic from political power. In Britain, there were a number of rebellions that occurred prior to Britain’s Glorious Revolution of 1688, attempting to free peasant labor from the political domination of landowners. Van Bavel notes, “Even despite suppression and defeat, the arbitrary and lordly dues and services in the areas where these revolts had taken place were often abolished or converted into fixed monetary payments, thus extending the opportunities for the market exchange of land and labour.”48 Markets for factors of production are the foundation of a capitalist economy. Campbell says, “In England labour was already being exchanged for wages paid in cash and in kind by the late twelfth century.”49 However, production was controlled by guilds, restricting the ability of individuals to apply their labor without guild approval. Referring to Britain in the 1300s, L.F. Salzman says, “Apprenticeship was from quite early times the chief, and eventually became practically the only, path to mastership.”50 With production limited to guild members, restrictions occurred on what products individuals were able to produce. Leather tanners were

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forbidden to make shoes, and fishermen were not allowed to be fish mongers, for example. Those with political power cooperated with those who had economic power to limit commerce for their mutual benefit. Charlotte Waters says, “Thus all retail trade was in the hands of the gild, competition and underselling were eliminated, and, it was supposed, a ‘just price’ was reached.”51 Prior to the nineteenth century, there remained a close relationship between political and economic power as those with economic power, derived from their commercial activities, were able to influence government policy to protect them from competition. In the emerging mercantilist society, Galbraith notes, “the merchants had another major source of support and a major defense against competition. This was the emerging state, which protected them against competition, especially from foreign sources, and undertook the regulation of trade in general. … There could be no serious tension between the merchants and the state; essentially they were the same.”52 Arnold Toynbee says, “The essence of the Industrial Revolution is the substitution of competition for the medieval regulations that had previously controlled the production and distribution of wealth.”53 T.S. Ashton remarks that the Industrial Revolution “may with some justice be maintained that it was an age of laissez-faire. This unhappy phrase has been used as a missile in so many political controversies that it now appears battered and shabby. But there was a time when it was employed, not as an epithet of abuse, but as an inscription on the banners of progress.”54 As government-imposed constraints on economic activity were relaxed, markets provided the incentive for innovation that led to the Industrial Revolution. Galbraith remarks, “Few matters have been more debated by historians than the nature and sources of the Industrial Revolution. … What is not in doubt is that the Industrial Revolution involved a large, even spectacular, shift in the sources of power and, in lesser measure, in the instruments of its enforcement.”55 Galbraith notes that property remained the source of power, but rather than property in land, as was the case in feudal systems, it was property in the form of goods—capital goods and inventory. The benefits of those goods to their owners came from commerce, in which they exercised economic power independent of political power. The mobility and lack of durability of capital and entrepreneurship when compared to land provides more potential for economic power to escape the

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grip of political power in commercial when compared to agricultural societies. Waters observes that “during the fifteenth century a profound change had begun in the organization of industry and of town life. The gild system was breaking down, the day of the capitalist had already dawned.”56 Douglass North notes that Britain had more clearly specified property rights than other nations at the time, which led to more efficient economic organization.57 The clearer delineation and protection of property rights enabled those with economic power to use it more effectively, and to exercise their economic power without having to have political power. In the language of contemporary economics, institutions developed that reduced transaction costs, which allowed a more efficient allocation of resources.58 Joel Mokyr observes that “Compared with Prussia, Spain, or the Habsburg Empire, Britain’s government generally left its businessmen in peace to pursue their affairs subject to certain restraints and rarely ventured itself into commercial and industrial enterprises.”59 The Industrial Revolution was enabled in Britain by a set of institutions that allowed economic power to be exercised independent of political power. John Kenneth Galbraith, describing the rise of trading companies like the Dutch East Indies company, says, “It was their singular advantage that, almost everywhere, they moved into what rather precisely could be called a power vacuum. The term, though rarely if ever defined in modern usage, aptly describes a community or territory where all the sources of power— effective personality, property, and organization—are feeble or absent, as also, in consequence, are all the instruments of its enforcement.”60 People engaged in commerce were able to trade in places where there were power vacuums because they could do so unencumbered by any oppression from political power, and those places welcomed commerce because they shared in the gains from trade. As ocean-borne commerce grew, traders gained economic power by creating more of it, not by taking existing power from those who held it. Political decentralization in Britain also facilitated the separation of economic from political power. If those who controlled resources were having difficulties using them for business purposes, they could move to another jurisdiction, and intergovernmental competition limited the ability of those who had political power from using it to stifle the exercise of economic power. Discussing the distinctive institutional features of Britain, Mokyr says, “Another political difference between Britain and most other European countries was the lack of centralization of political power.”61

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Mokyr notes that “The central government was left to control foreign trade, but most other internal administration was left to local authorities.”62 David Landes echoes this idea that political institutions in Britain were designed to protect economic power, by securing the rights of private property, securing personal liberty against crime and corruption, and enforcing both explicit and implicit contracts.63 Institutional changes went hand-in-hand with technological advances to power the Industrial Revolution. Prior to the Industrial Revolution, most manufacturing was performed by human labor, which limited the amount of manufacturing that could take place and required substantial coordination of labor to undertake large-scale projects. Sjoberg observes that “typical of preindustrial cities over the world, large construction projects can be realized only through the combined efforts of an enormous number of human beings. How divergent is the industrial city, where machines perform the work of hundreds, yea thousands, of men!”64 The advance from commercial to industrial societies came with technological developments that substituted other forms of energy for man-power. Referring to James Watt, Waters notes, “Thanks to the extraordinary patent privileges bestowed on him by Parliament in 1769 and 1775, which secured his invention to him for twenty-five years, he was able to prevent any one else making steam-engines, while he perfected his own and incidentally made a large fortune.”65 The development of the steam engine literally powered the Industrial Revolution, but at the same time its development was the result of the profit opportunities that were enabled by institutions that allowed people to create new economic power and keep the rewards. Without the lure of profit, the incentive to increase productivity is absent. Prior to the Industrial Revolution, slave labor and other types of forced labor were used for large-scale construction projects. Sjoberg notes that “Although the use of forced labor on a massive scale persists in many industrializing societies, the very need for this diminishes with advanced mechanization.”66 Not only is the need for forced labor reduced, the human capital necessary to operate the mechanization that comes with industrialization increases, so that laborers become more than just source of muscle power; they also need some skills—human capital—to be productive. Waters refers to an Englishman observing the beginnings of the Industrial Revolution, saying “Looking back some fifty years from 1830 he seemed to see the triumph of humanity over matter, a marvelous

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increase in the power of mankind to surround itself with that material wealth that is the basis of civilization. The productive power of the human unit had grown tenfold, riches seemed to be pouring forth in a never slackening stream, with endless supplies of clothes, furniture, ornament, of everything that differentiated the outward life of a civilized man from that of a savage.”67 Technological advances played an obvious role in the increasing productivity of industry, but Joel Mokyr observes that “Many of the inventions that made the British Industrial Revolution were, in fact, adaptations of inventions made overseas.”68 Joseph Schumpeter distinguished invention from innovation, identifying innovation as the entrepreneurial use of invention to make profitable products. As technology advanced and was used profitably, that innovation provided the incentive for more invention. Technology advanced the Industrial Revolution, while the profitability of industry encouraged the continued development of technology. Regarding the interplay between political and economic power that drove the Industrial Revolution in Britain, Mokyr said “it seems hard to disagree with the proposition that the specific form of government that had emerged in Britain created an environment that was more conducive to economic development than elsewhere.”69 A more decentralized government, the development of common law legal institutions, and a division of power at the national level with the development of the House of Lords and later the House of Commons all facilitated the protection of rights that enables economic power to develop independently of political power. The development of commercial and industrial activity further facilitates that separation, because capital and entrepreneurship are more mobile than land. If those with political power abuse it, economic power can move elsewhere when economic power comes from commerce and industry. The same is not true in agrarian societies.

Primitive Accumulation This idea that the increased reliance on monetary exchange enabled the separation of economic from political power fits well within Karl Marx’s analysis of the capitalist system. Marx says “The economic structure of capitalistic society has grown out of the economic structure of feudal society. The dissolution of the latter set free the elements of the former.”70 Based on the labor theory of value that was well-accepted when he wrote, Marx argued that the value of goods was equal to the value of the labor

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embodied in them. Therefore, when goods were sold, the entire proceeds should be received by the laborers who produced them. That did not happen in a capitalist society because goods and factors of production were monetized. Capitalists hired labor for money and sold goods they produced for more than they paid the labor that made them, keeping the difference as surplus value that rightly should have been paid to the laborers. Capitalists used this surplus value to buy capital, the means of production, and were able to exploit labor because the capitalists controlled the means of production. This left Marx with an issue: “the accumulation of capital presupposes surplus-value; surplus-value presupposes capitalist production,”71 so what is the origin of the original capital that allows capitalists to get their start? That original capital is what Marx calls primitive accumulation. Marx describes two sources of primitive accumulation. The first is “expropriation of the agricultural population from the land.”72 Rather than the in-­ kind transactions of feudal societies, in which serfs had a right to remain on the land they tended, feudalism broke down as monetary transactions displaced serfdom, and the sharecropping and leasing of farmland gave the owners of land money that they could use to buy capital. The second is the colonizing of foreign lands, allowing the colonizers to take value from those colonies to create capital. Marx observes that primitive accumulation occurs as a result of “brute force.” “But they all employ the power of the State, the concentrated and organized force of society, to hasten, hothouse fashion, the process of transformation of the feudal mode of production into the capitalist mode, and to shorten the transition. Force is the midwife of every old society pregnant with a new one. It is itself an economic power.”73 Marx was, of course, a critic of that process of transformation, but note how closely his account corresponds with the historical account presented above. Capitalism evolved from feudalism because economic power was separated from political power, and the state—those with political power—protected the economic power of those who had control over resources.

Commerce and Industry Commercial societies require a more sophisticated set of institutions than the agricultural societies that preceded them. People are more economically interdependent in commercial societies, because those who are engaged in trade and industry rely on others to produce their food,

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clothing, and shelter. Whereas feudal societies are a top-down social order, where those lower-down in the order are subject to the power of those above, commercial societies are decentralized and spontaneous social orders in which there is no overall design or plan, but rather, individuals make their own plans and their activities are coordinated by the cooperation of those within the society. The emergence of commercial society requires an institutional structure that allows people to hold and exercise economic power without also having to hold political power. The use of money, and eventually other financial assets, facilitates commerce because it acts as a medium of exchange. If the right to hold such assets is recognized and protected, people can accumulate control over resources without having to have political power. The cases discussed in this chapter all conform with this idea. Causation goes both ways. As economic relationships increasingly are based on monetary exchange, commerce is facilitated, but commerce also encourages the development of financial markets to facilitate exchange. Commerce makes it more difficult for those with political power to control economic power, because unlike agrarian societies in which economic power is tied to immobile land, capital is the primary factor of production in commercial societies. Capital is mobile and capital depreciates, so attempts on the part of those who have political power to confiscate economic power will cause economic power to migrate away from political power. Commercial societies rely on that separation of political from economic power. Commercial societies existed at a number of times and in many places prior to the Industrial Revolution, but in many cases the wealth produced by commerce provided too tempting a target for those with political power. Those with political power used the force of government to confiscate resources, and even when resources were not appropriated, those with economic power found it advantageous to conspire with those who had political power to engage in protectionist policies that reinforced the status quo and stifled the progress that results when economic power exists independently of political power. Commercial societies in ancient Babylon, China, and Iraq provide examples in which economic and political power, at one time working independently, were recombined, along with more recent commercial societies in Italy in the eleventh through sixteenth centuries. Feudal societies do not necessarily evolve into commercial societies, and when they do, there is no guarantee that they will not revert back to feudal

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organization. Daron Acemoglu and James Robinson say that the shackling of political power in Europe, “lies in a unique series of historical events 1.500 years ago that created a fortuitous balance between the powers of central authority and those of common men (not women, unfortunately)”74 There is not an orderly or unidirectional institutional evolution that leads inevitably from one type of society to another. Commerce tends to give rise to industry. The profitability of commerce provides both the resources to invest and the demand for manufactured products—both for transporting commercial goods (ship building, for example), and for producing goods for sale. Revenues from commerce provide a source of tribute for those who hold political power, and give them an incentive to protect that source of tribute. But the economic power produced as a result of gains from trade is always at risk to be appropriated by those with political power. This is one way in which commercial societies can revert to less productive institutions. In agricultural societies, where land is the primary factor of production, those who have control over land also have control over the people who are tied to that land, but in commercial and industrial societies, where capital is the primary factor of production, political power—control over people—is more clearly separated from economic power—control over resources. Because capital is more mobile than land, and because it depreciates if not maintained, political domination of economic power in commercial and industrial societies is more difficult than in agricultural societies. If those with political power attempt to appropriate the resources of those with economic power in commercial and industrial societies, it will, over a period of decades, erode, resulting in economic stagnation. There is a long-run incentive in commercial and industrial societies for those with political power to protect economic power rather than appropriate it. Those who have economic power are always inclined to use it to buy political power, which can protect them from rivals and competitors. That type of mercantilist system is another path that can lead to the recombining of political and economic power. Cooperation between those with political power and those with economic power threatens to undermine progress because the economic and political elite both have an incentive to preserve the status quo. Industry provides a mechanism for continually increasing economic power as it continually adds to productivity. One limitation in Marx’s vision of the capitalist system is that he did not see the potential for

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entrepreneurship and innovation that would lead to continual economic progress. For Marx, capitalists were merely the owners of the means of production who received a return on their capital, rather than the initiators of the creative destruction that underlies economic development.75 If those who hold political power see things as Marx did, there is no reason for them not to confiscate economic resources. They see no social benefit to the private ownership of the means of production. Because commerce and industry produce continually greater economic power, those with political power have some incentive to protect and tax it, for their own long-term benefit, rather than to plunder it for short-run gain. The economic progress that characterizes industrial societies promises economic progress and continual gains in benefits, year after year. The exchange of protection for tribute that lays the foundation for the interaction of those with political power and economic power promises growing tribute as a result of continual progress. That depends, of course, on protecting the economic power of the entrepreneurial class from appropriation, and also depends on limiting the degree to which political power protects those with economic power from competitors. The widespread separation of economic from political power is relatively recent in world history. The examples discussed in this chapter illustrate the importance of the decentralization of political power—a characteristic shared in common by the Italian city-states, the low countries, and in Britain leading up to the Industrial Revolution. As commerce developed as the basis for economic power in each of those cases, those with political power faced the risk that economic power might migrate or dissipate if they abused their political power. That threat separates commercial from agrarian societies in which economic power is associated with immobile and durable land. The separation of economic from political power led to the remarkable economic progress the world has experienced since the beginning of the Industrial Revolution, but examples throughout history up into the twenty-first century show that economic and political power, once separated, can recombine, which results in economic stagnation. The first step, to maintain progress rather than stagnation, is to recognize that progress relies on institutions that maintain a separation of economic from political power.

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Notes 1. Randall G.  Holcombe, The Economic Foundations of Government (New York: New  York University Press, 1994), develops this idea that the exchange of protection for tribute lays the foundation for perceiving the legitimacy of government. 2. See Robert Nozick, Anarchy, State, and Utopia (New York: Basic Books, 1974), for a philosopher’s argument that the forced exchange of protection for tribute is legitimate and ethical. 3. Furthermore, whether there really are inefficiencies that result from the existence of public goods is debatable. See Harold Demsetz, “The Private Production of Public Goods,” Journal of Law & Economics 13, no. 2 (October 1970), pp.  293–306, and Fred Foldvary, Public Goods and Private Communities: The Market Provision of Social Service (Cheltenham, UK: Edward Elgar, 1994). 4. Dwight R. Lee and James M. Buchanan, “Tax Rates and Tax Revenues in Political Equilibrium: Some Simple Analytics,” Economic Inquiry 20, no. 3 (July 1982), pp. 344–354, and James M. Buchanan and Dwight R. Lee, “Politics, Time, and the Laffer Curve,” Journal of Political Economy 90, no. 4 (August 1982), pp.  815–819, explain how such a miscalculation could occur. 5. Friedrich A. Hayek, The Fatal Conceit: The Errors of Socialism (Chicago: University of Chicago Press, 1988). 6. This is the conjecture of Daron Acemoglu, “Why Not a Political Coase Theorem? Social Conflict, Commitment, and Politics,” Journal of Comparative Economics 31, no. 4 (December 2003), pp. 620–652. 7. Bas van Bavel, The Invisible Hand? How Market Economies Have Emerged and Declined since AD 500 (Oxford: Oxford University Press, 2016), pp. 98–99. 8. Goetzmann, Money Changes Everything, p. 226. 9. van Bavel, The Invisible Hand? pp. 98–99. 10. van Bavel, The Invisible Hand? pp. 99. 11. Ferdinand Schevill, History of Florence from the Founding of the City through the Renaissance (New York: Harcourt, Brace and Company, Inc., 1936), p. 63. 12. William H.  McNeill, Venice: The Hinge of Europe, 1081–1797 (Chicago: University of Chicago Press, 1974), p. 48. 13. Goetzmann, Money Changes Everything, p. 221. 14. van Bavel, The Invisible Hand? p. 101. 15. van Bavel, The Invisible Hand? p 102. 16. This idea is explained by Friedrich A.  Hayek, “The Results of Human Action but not of Human Design,” Chapter 6  in Studies in Philosophy,

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Politics, and Economics (Chicago: University of Chicago Press, 1967). See also Hayek’s Individualism and Economic Order (London: Routledge and Kegan Paul, 1944) and especially his essay, “The Use of Knowledge in Society,” American Economic Review 35 (1945), pp. 519–530. 17. Schevill, History of Florence, p. 63. 18. Schevill, History of Florence, p. 265. 19. Schevill, History of Florence, p. 265. 20. van Bavel, The Invisible Hand? p 102. 21. van Bavel, The Invisible Hand? p 103. 22. van Bavel, The Invisible Hand? pp. 104–105. 23. van Bavel, The Invisible Hand? p 107. 24. van Bavel, The Invisible Hand? p 107. 25. Perenne, Economic and Social History of Medieval Europe (New York: Harcourt, Brace and Company, 1937), p. 52. 26. See John Day, The Medieval Market Economy (Oxford, UK: Basil Blackwell, 1987), chs. 7 & 8. 27. Goetzmann, Money Changes Everything, p. 221. 28. Schevill, History of Florence, p. 261. 29. Schevill, History of Florence, p. 263. 30. John Julius Norwich, A History of Venice (New York: Alfred A.  Knopf, 1982), p. 181. 31. The development of bond finance is described by Goetzmann, Money Changes Everything, pp. 229–232. 32. Goetzmann, Money Changes Everything, p. 232. 33. The classic article on intergovernmental competition is Charles M. Tiebout, “A Pure Theory of Local Expenditures,” Journal of Political Economy 64, no. 5 (October 1956), pp. 416–424. On the cartelizing effects of centralization, see Randall G.  Holcombe and DeEdgra W. Williams, “The Cartelization of State Governments,” Public Choice 149, nos. 1/2 (October 2011), pp. 65–74. 34. van Bavel, The Invisible Hand? p 147. 35. P.J.A.N. Rietbergen and G.H.I. Seegers, A Short History of the Netherlands From Prehistory to the Present Day (Amersfoort, Netherlands: Bekking Publishers, 1992), p. 41. 36. van Bavel, The Invisible Hand? p 146. 37. van Bavel, The Invisible Hand? p 155. 38. Jean Gimpel, The Medieval Machine: The Industrial Revolution of the Middle Ages (New York: Holt, Rinehart and Winston, 1976), p.  99, describing the thirteenth century. 39. van Bavel, The Invisible Hand? p 155. 40. van Bavel, The Invisible Hand? p 157. 41. van Bavel, The Invisible Hand? p 159.

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42. van Bavel, The Invisible Hand? pp. 160 and 188. 43. Rietbergen and Seegers, A Short History of the Netherlands, p. 42. 44. van Bavel, The Invisible Hand? p 191. 45. van Bavel, The Invisible Hand? p 191. 46. Rietbergen and Seegers, A Short History of the Netherlands, p. 90. 47. Rietbergen and Seegers, A Short History of the Netherlands, p. 92. 48. van Bavel, The Invisible Hand? p 212. 49. Campbell, The Great Transition, p. 96. 50. L.F.  Salzman, English Industries of the Middle Ages (Oxford: Oxford University Press, 1923), p. 340. 51. Charlotte M.  Waters, An Economic History of England: 1066–1874 (London: Oxford University Press, 1925), p. 60. 52. John Kenneth Galbraith, The Anatomy of Power (Boston: Houghton Mifflin, 1983), pp. 101–102. 53. Arnold Toynbee, The Industrial Revolution (Boston: The Beacon Press, 1956), p. 58. 54. T.S.  Ashton, The Industrial Revolution: 1760–1830. London: Oxford University Press, 1948) p. 138. 55. Galbraith, The Anatomy of Power, p. 107. 56. Waters, An Economic History of England, p. 195. 57. Douglass C. North, Structure and Change in Economic History (New York: W.W. Norton, 1981), and Institutions, Institutional Change, and Economic Performance (Cambridge: Cambridge University Press, 1990). 58. The importance of transaction costs is the central element in Ronald H. Coase, “The Problem of Social Cost,” Journal of Law & Economics, 3 (1960), pp. 1–44. 59. Joel Mokyr, “Editor’s Introduction: The New Economic History and the Industrial Revolution,” ch. 1  in Joel Mokyr, ed., The British Industrial Revolution: An Economic Perspective, 2nd ed. (Boulder, CO: Westview Press, 1999), p.49. 60. Galbraith, The Anatomy of Power, p. 105. 61. Mokyr, The British Industrial Revolution, p. 55. 62. Mokyr, The British Industrial Revolution, p. 50. 63. David S. Landes, The Wealth and Poverty of Nations: Why Some Are So Rich and Some So Poor (New York: W.W. Norton, 1998) pp. 217–218. 64. Sjoberg, The Preindustrial City, p. 196. 65. Waters, An Economic History of England, p. 343. 66. Sjoberg, The Preindustrial City, p. 199. 67. Waters, An Economic History of England, pp. 356–358. 68. Mokyr, The British Industrial Revolution, p. 19. 69. Mokyr, The British Industrial Revolution, p. 57.

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70. Karl, Marx, Capital: A Critique of Political Economy (New York: Modern Library, 1906), p. 786. 71. Marx, Capital, p. 784. 72. Marx, Capital, p. 788. 73. Marx, Capital, pp. 823–824. 74. Daron Acemoglu and James A.  Robinson, The Narrow Corridor: State, Societies, and the Fate of Liberty (New York: Penguin Press, 2019), p. 153. 75. The same is true of Thomas Piketty, Capitalism in the Twenty-First Century (Cambridge, MA: Harvard University Press, 2014), who assumes that capital earns a certain rate of return rather than associating that rate of return with the entrepreneurial decisions made by the owners of capital.

CHAPTER 9

Politics as a Vocation

The title of this chapter is taken directly from the title of a lecture by sociologist Max Weber, in which Weber identifies the state as the organization that claims the monopoly of the legitimate use of physical force within a given territory.1 Weber says, “the state cannot be defined in terms of its ends. There is scarcely any task that one could say has always been exclusive and peculiar to those associations which are designated as political ones: today the state, or historically, those associations which have been the predecessors of the modern state. Ultimately, one can define the modern state sociologically only in terms of the specific means peculiar to it, as to every political association, namely, the use of physical force.”2 In characterizing the state this way, Weber draws a close association between political and military (and police) power. Weber’s characterization of the state is consistent with the way that political power is defined here. Weber says, “If the state is to exist, the dominated must obey the authority claimed by the powers that be.”3 Those “powers that be” are the holders of political power. Weber is interested in the ways that people are able to claim and maintain political power. Beyond that key question, though, are two related subordinate questions that lay the foundation for understanding politics as a vocation. One question is how some individuals are able to devote their full-time activity to politics. Because politics does not produce food, clothing, or shelter, those who practice politics as a vocation must have the power to compel (or perhaps, entice) others to provide for their material © The Author(s) 2020 R. G. Holcombe, Coordination, Cooperation, and Control, https://doi.org/10.1007/978-3-030-48667-9_9

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well-being so that they can devote their time to the exercise of political power. This requires, on the one hand, that those who produce goods and services provide a surplus beyond what is required for their own subsistence, and on the other hand, institutions that channel goods and services from those who produce them to those who hold political power. A second question is how, if political power is based on force, those with military power have found their power subordinated to those with political power. The subordination of military power to political power is relatively recent in human history, and military power has not been completely subordinated to political power everywhere, even in the twenty-first century, although this is easy to overlook from the vantage point of democratic governments in which the subordination of military to political power is almost taken for granted. It would seem that if political power is based on force, those who have a comparative advantage in the use of force, and who are most heavily armed, would have the upper hand in controlling political power, and indeed, it has been that way through most of human history. Weber says, “The decisive means for politics is violence.”4 The modern concept of government, in which military power is subordinated to political power, and in which people view government as the servant of the people rather than viewing themselves as subjects of their governments, is very recent in human history. After the agricultural revolution, which tied people to their land, and up until about 1100, rulers ruled by force, and their subjects submitted to that force. Kaushik Basu notes that until recently a “tax was a symbol of oppression rather than of belonging. Slaves and conquered people were routinely plundered to finance the ruling classes and the kings. Taxes were naturally viewed as a transfer from the oppressed by the rich and powerful.”5 Those who had a comparative advantage in the use of physical force were able to use it to acquire and maintain political power. Joseph Strayer says, “The modern state, wherever we find it today, is based on the pattern which emerged in Europe in the period 1100 to 1600.”6 Steven Pinker says, “Early states were more like protection rackets, in which powerful Mafiosi extorted resources from the locals and offered them safety from hostile neighbors and from each other.”7 While it is easy to view states in exactly those terms today,8 those with political power have every incentive to give that exchange of protection for tribute the appearance of legitimacy, because an air of legitimacy makes it easier for those with political power convince those without it to pay them tribute. This

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exchange can take place as long as governments act as stationary bandits, to use Mancur Olson’s term.9 Although people who have a comparative advantage in the use of physical force are able to use it to place themselves at the top of the hierarchy of power, they are often able to also represent themselves as public servants, even as they use the threat of force to compel those they “serve” to comply with their mandates. The view that the state is a powerful stationary bandit that is able to plunder those under it has evolved so that people often view the state as a cooperative enterprise in which people work together for the common good.10 Along with this view of the state, people view those who hold political power as chosen, often by their subjects through a democratic process, to use their power for the benefit of all. As Chap. 2 described, the institutions of the state are designed to convey the aura of legitimacy that leads its subjects to not only believe they have an obligation to follow the mandates of those with political power but also to believe it is in their best interests to do so.

Productivity and the Political Class People cannot practice politics as a vocation in societies in which people only produce enough to provide for their subsistence, because there is no surplus to support a class of people who are not economically productive. A distinct political class is possible only when the working population can produce more than they need to subsist, so that there is some surplus to provide for the material support of the political class. The more productive the working population, the greater the share of their productivity can be taken by the political class. Those with political power have an incentive to see that those with economic power are as productive as possible, because more productive societies can be taxed more heavily. Only the output beyond a worker’s subsistence can be taxed without killing off the working population. Even here, a revenue-maximizing government cannot tax away everything above a worker’s subsistence income, because that would take away any incentive of workers to produce more than they needed to survive. While one could imagine a system in which those with political power worked laborers to their deaths—and there is some historical evidence that this has happened11—such systems tend to fall apart because eventually they eliminate the working population, and even before that, eliminate any incentive workers have to be productive. Still, there is a short-run

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incentive facing those in the political class to tax at a rate higher than the revenue-maximizing tax rate. In the short run, revenues may come in because it is difficult to escape taxation, but high taxes deter investment and rates that maximize short-run revenues will be higher than those that maximize the long-run revenues flowing to the political class.12 The shorter the time horizon of the political class, the more their policies turn to plunder to maximize their short-run gains rather than productivity to maximize their long-run gains.13 So, the masses have an incentive, along with the elite, to provide some level of security to the status of those who hold political power. Any recognition that their power is legitimate gives the political class a longer time horizon, which creates institutions more favorable to the masses—institutions that work against turning tribute into plunder. The idea that government is a cooperative endeavor finds itself solidly embedded in social contract theories of the state. Thomas Hobbes argued that without a government to prevent people from harming others in their societies, life would be solitary, poor, nasty, brutish, and short, and a war of all against all. Hobbes’s roadmap for an escape from the terrible state of anarchy was for everyone to abide by a social contract in which they agree to obey the rules set by the political elite, which could be a dictator or king, a democratically elected government, or whomever held the reigns of political power.14 Setting aside whether Hobbes was right in his conjectures about the conditions of life in the absence of government,15 Hobbes’s reasoning points toward the legitimacy of the use of force by the members of the political class. State institutions form a cooperative enterprise in which everyone works together to enable everyone to be more prosperous. James Buchanan and Gordon Tullock offer a more recent view of government action similar to that of Hobbes. They say “Men co-operate through exchange of goods and services in organized markets, and such co-operation implies mutual gain. … At base, political or collective action under the individualistic view of the State is much the same. Two or more individuals find it mutually advantageous to join forces to accomplish certain common purposes.”16 Government, as they describe it, is a cooperative venture in which individuals work together for their mutual benefit. A more productive society is beneficial to the masses, but also to the elite, because it gives them an opportunity to collect more in tax revenues— more tribute. To have a separate political class that is able to engage in politics as a vocation, society must be productive enough to support them with a standard of living at least as great as those who are producing

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economic goods and services. Otherwise, the incentive to choose politics as a vocation would be limited, although not completely absent. The incentive to seek power over others remains in any case.

Commerce, Industry, and Power Hunter-gatherer societies are difficult to rule, even though some people have more power than others, because they produce a minimal amount of surplus that can be appropriated by rulers, and because they own little in the way of physical assets that tie them to a particular location. It would be difficult for a single individual to leave such a society, but less difficult for a group of individuals to break off and form a new group. Indeed, there is an increasing tendency for them to divide as size of their group approaches Dunbar’s number.17 This limits the ability of those with power in hunter-gatherer societies to abuse it.18 This changed with the agrarian revolution because, as Chap. 6 described, members of agrarian societies are tied to their land, allowing those who have a comparative advantage in the use of force to conquer and rule over those who were unable to marshal sufficient force to defend themselves. Agriculture leads to an increase in output per worker, which provides a surplus that those with political power can confiscate. But the fact that agrarian populations are tied to the land creates conditions that support feudal institutions under which political and economic power are held by the same individuals, and in which political power is based on military power. In agrarian societies, those who have a comparative advantage in violence exercise political power based on that comparative advantage. Those with military power use it to take control of land, which gives them political power over those who were tied to the land. Economic and political power are held by the same people, who use their comparative advantage in the use of violence to maintain their positions as rulers at the top of the hierarchy of power. The growth of commerce changed the balance of power because commercial activity enabled the creation of new economic power that could be accumulated by people who did not have political power, and because commercial activity is not tied to a particular location, unlike agriculture. For commerce to grow, economic power had to be protected by political power to provide those who were engaged in commerce an incentive to create value. Those with political power had an incentive to protect the

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economic power of those who had it, because it led to a growth in income, which in turn led to a greater surplus that could be taxed away. Despite those incentives, the development of commerce was slow-­ going, and rare, in feudal societies that were dominated by agriculture. Partly this was a result of geography. Areas with natural ports and harbors were much more conducive to commerce because of lower shipping costs. Partly, it was a result of the reluctance of those who held political and economic power to give up their absolute holds on power. Feudal institutions were designed to maintain a concentration of power, and the development of economic power independent of those who held political power could upset the hierarchy of power. When a government’s subjects view their lower status as a consequence of the coercive power of the elite, the elite have an incentive to keep those subjects from obtaining independent power.19 Where commerce gained a foothold, the incentives of those who had political power to protect it were clearer. The higher incomes brought about by commercial activity could easily—and obviously—be destroyed should those with political power decide to plunder it. It could be subject to gradual erosion by institutional developments that became increasingly unfriendly, as Bas van Bavel argues happened in Iraq in the Middle Ages, in Italy and the Low Countries, and more recently in England and the United States.20 Despite incentives for those with political power to protect and nurture economic power, they often did not, perhaps to prevent those with economic power from threatening their positions in the political hierarchy. In the United States, one might look at Detroit as an example of a formerly prosperous city that declined because of government policies. Auto manufacturing has moved out, even as new auto factories have opened in the American South.21 While confiscation of economic power would seem to be especially counterproductive, the twentieth century Soviet Union and Cuba, and twenty-first century Venezuela, offer examples to show that in some cases, those with political power view it as their best option. The short-run policy decisions of those who hold political power often have, as the saying goes, killed the goose that lays the golden eggs. Commerce, with its basis in transportation, is an especially mobile form of economic activity, in contrast with agriculture, which is not. This goes a long way toward explaining why commercial activity has facilitated the separation of economic from political power. Rather than holding economic power directly, those with political power can use it to take a share

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through taxation, and because economic power by itself is subject to plunder, both by those in government and by opportunistic individuals outside government, those with economic power have an incentive to pay tribute to those with political power in exchange for their protection. Considering the potential threat that those with a comparative advantage in the use of violence pose to those who produce economic value, even if one views government as no more than an extortion racket, those with economic power have an incentive to pay up. The exchange of protection for tribute is the fundamental transaction underlying government.22 Industry has an even greater potential to create wealth than commerce, but at the same time relies on commerce to generate income. Commercial societies can evolve into industrial societies because people in commercial societies have an incentive to produce goods to trade. Commercial societies already have the institutional foundation in place to protect economic power, generating the incentive for people to be entrepreneurial, to look for ways they can create value for others. In hunter-gatherer and agricultural societies, people work primarily to produce value for themselves and others in their immediate vicinity. In commercial and industrial societies, people work almost exclusively to produce value for others, and in exchange consume goods and services that have been produced by others. The interdependence among the members of commercial and industrial societies means that their lives depend on the protection of the economic power that allows them to survive. They depend on those with political power to maintain an orderly society, so not only does the increased productivity of commercial and industrial societies provide the means for some to engage in politics as a vocation, it also provides the incentive for those with economic power to support those who specialize in protecting their productive capacity. That interdependence between those with political and economic power, embodied in the exchange of protection for tribute, enables some people to specialize in politics as a vocation.

The Separation of Political and Military Power Only recently in human history has military power been subordinated to political power. Throughout most of history, those who had a comparative advantage in the use of violence used it to command political power, and to control resources—to maintain economic power. Tribal chiefs held

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power of all types. The ancient Greek democracy was overseen by the military class while production was undertaken by slaves. Ancient Rome was controlled by military power, and feudal lords maintained control of political and economic power because they controlled military power. Machiavelli, writing in the 1500s, saw military and political power as inseparable. Richard Preston and Sydney Wise say, “Whereas medieval writers had stressed that political affairs were subject to overriding moral considerations, Machiavelli divorced politics from morality altogether and claimed that success was based on force. Peace within the state was maintained by police power; and war was a natural condition in the relations between states.”23 As cities developed, based on commercial activity, those with economic power were able to use it to pay for protection, enabling them to separate military from political power, and to subordinate military power to political power. If one were to think of this as a game with three players, one with economic power, one with political power, and one with military power, the player with the comparative advantage in the use of violence would seem to have the means necessary to subordinate the other two, and indeed, that has described the organization of power through most of human history. But the real world is more complex than this. No one individual is able to exert sufficient force alone to force everyone else into submission. The people who control military power have done so by organizing warriors under their command with the promise that the plunder will provide sufficient reward to those warriors to continue buying their loyalty. Team sports offer an analogy, and one can think of coaches as military leaders. For those who follow American college football, few if any college coaches have had the success enjoyed by Nick Saban at the University of Alabama. His reputation as a winner helps him recruit the best athletes to join his team, which further enhances his ability to win. Similarly, military leaders with successful records of conquest are able to recruit the most able warriors and promise them higher payoffs. Decades before Saban’s coaching tenure at the University of Alabama, Bear Bryant coached there and also was one of the most successful college coaches in the history of the sport. After Bryant’s departure, the team’s performance remained good, though not as stellar as under his tenure. Saban was joining a football program that already was one of the most storied in the sport. Individuals can build successful organizations that remain successful after the individuals who built their success leave them.

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The Roman Empire offers an example that flourished for centuries. Such success requires competent leadership that can maintain control of the institutions that paved the road to past successes. As commerce supplanted agriculture as the engine of economic success, the use of military power to confiscate resources from the productive class became a less effective strategy, because commercial activity is more mobile than agricultural activity. Mosca notes that “as soon as economic development has advanced somewhat and war ceases to be the most lucrative occupation, we find a special class devoting itself to the bearing of arms and making its living not so much by plundering its adversaries as by levying tribute in some form or other on the peaceful toilers of the country which it polices and defends.”24 The collection of tribute works best when those paying believe it is a legitimate payment rather than a confiscation of their resources. So, military leaders are most successful when they take on the role of protectors and statesman. The king becomes less of a commander of military forces and more of a political leader whose power comes from the consent of the governed rather than from forced submission. Through most of human history, those who held political power did so because they held military power, but their shift in roles, from warriors to statesmen, enabled the two types of power to become separated. As they become distinct, citizens find themselves better-placed to share in political power. The political history of Europe provides a good example. In England, the crown was pushed to cede increasingly more of its power, first to the House of Lords and then to the House of Commons, and this negotiation of compromise in political power characterizes European political history more generally.25 In cases where the crown did not recognize its weakening power and tried to hold on too long, it was deposed, as in England’s Glorious Revolution in 1688. As those with power shifted more toward exercising political rather than military power, they subcontracted their military activities. Military organizations are rigid hierarchies, so for those who hold political power to be able to place military power in a subordinate position is a tricky proposition, and occasional military coups show that those with political power are not always able to maintain control of those with military power. Somehow, both political and military leaders must convince the troops that their role is to carry out the missions of those who have political power, so that troops remain loyal to their governments.

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The primary mechanism for doing so is reinforcing the legitimacy of political leadership, as Chap. 2 noted. But another big part of this is offering the rank-and-file military personnel a reward structure that makes it appear more advantageous for them to side with their government, rather than with military commanders who might want to overthrow the government. The United States military has developed institutions that make supporting the government appear to have a high payoff when compared to joining a revolutionary movement. One is that after 20 years of military service, military personnel can retire with generous pensions and health care benefits. Those benefits would be threatened if the incumbent government were to be replaced, or even more so if soldiers participate in a failed coup.26 Another feature of military organization that inhibits coups is that military personnel are reassigned to new positions in new locations every few years. This makes it more difficult for a small clique of military leaders to conspire among themselves to lead a coup, because military leaders do not have long-standing personal relationships with each other, and because they may be likely to tip off past friends in the military with whom they have had longer relationships. The idea of military discipline is indoctrinated into military personnel from the time they enter the service, and it appears that that discipline, coupled with the rewards of a successfully completed military career and the risks involved in attempting a power grab, is often sufficient in modern times to keep military power subordinated to political power. These reassignments are a type of checks and balances where one group within the military can have its power checked and balanced by others. Combined with the generous retirement benefits to those who complete their military service, which might be lost if the status quo were upset, attempting to organize a coup is risky, whereas the payoff to the status quo is great. The threat of a military take-over is lessened when the payoff for current loyalty does not all come immediately, but is deferred until that loyal service is completed. Another factor that has enabled those with political power to subordinate those with military power is the development of modern weaponry that lessens the amount of skill and natural ability necessary to be a warrior. When warriors fought with swords, arrows, and spears, and engaged in hand-to-hand combat, their physical abilities ultimately determined their potentials as warriors. When weaponry consists of rifles, missiles, aircraft, and other technologically advanced weapons, less in the way of

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natural skills and abilities is necessary to be a warrior. This not only broadens the pool from which those with political power can recruit soldiers but also erodes the notion of a warrior class. People can be trained to be effective warriors just as they can be trained to be effective accountants, and indeed, many of the same people could have equal success in either profession. Prior to the advent of firearms, the skills of warriors would be along the lines of the skills of modern-day professional athletes. They had to be physically gifted and also well-trained to be effective in battle. Modern warriors still require training, as do modern accountants, but people with ordinary physical abilities can be very effective warriors when armed with modern weapons.27 Modern weaponry has greatly diminished warriors as a special class of people. Those with political power can recruit soldiers from the general population and compensate them out of the tribute they collect for the protection they provide. J.F.C. Fuller observes, “With the discovery of gunpowder, war passed into its technological phase. Valour gave way to mechanical art: he who could wield the superior weapon was the more formidable fighter, irrespective of his social status or courage.” Fuller continues, saying gunpowder “democratizes fighting.”28 When special abilities were required of military personnel, those with political power often recruited mercenaries to fight for them, because of their specialized skills. When the skills of warfare could be learned by a broader group of people, it became more feasible to recruit soldiers from the subjects of political power, rather than from outside. Since the advent of gunpowder in warfare, military power has become dependent on the quality of weaponry rather than the quality of warriors. Weapons alone will not win wars. Especially when battles are found in foreign territories, logistics also plays a crucial role. Troops must be provisioned, and providing a supply chain to troops requires substantial organization and planning. Successful military organizations require skilled administration in addition to effective weapons.29 This is yet another reason why political power has been able to subordinate military power. Warriors require the support of those who provision them, and thus are dependent on the organizational structure within which they operate. A few cannot go it alone, and absent dire circumstances, a few will not be able to take control of a military bureaucracy that has incentives built into it that enable those with political power to keep control. The subordination of military to political power has its foundation in the shift from agricultural to commercial societies, because commerce is

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more mobile than agriculture. Those who want to reap the benefits of stationary bandits must do so without damaging the source from which they hope to collect tribute. Success comes from depicting military power as protecting citizens, not plundering them, and convincing citizens that the exchange of protection for tribute is both legitimate and fair. Meanwhile, those with military power must see their best strategy as collecting tribute, rather than engaging in violence to increase their take, and the elimination of a special warrior class makes it more difficult for those with military power to unite against those with political power, when effective soldiers can be hired out of the general population and the quality of weapons is more important than the quality of those who use them. Threats that could work well when made by a skilled warrior class on a relative immobile agricultural population will not be as effective against those engaged in commerce, who can take their commercial activities elsewhere, and who can provide resources to the political class to purchase protection for themselves.

Plunder Versus Taxation and Regulation The development of commercial society increased the return to being a stationary bandit relative to a roving bandit. The profitability of being a stationary bandit depends in part on the degree to which a society’s productivity is above the subsistence level. Commerce produces income growth, which makes it more profitable for those with power to remain in control of commercial societies so they can collect regular tribute, rather than engaging in productivity-sapping plunder. In a society that has little surplus to spare, it makes some sense for the powerful to take all they can and move on, because they can get more than if they stay and take only the small increment above subsistence. But because commercial activity is mobile, stationary bandits must present their activities to their subjects as beneficial to them to preserve their source of tribute. In a world of roving bandits and states intent on conquest, this may not be a difficult sell. The powerful use that power to protect their subjects from outside conquest, and have some incentive to design institutions such that those who are producing wealth have an incentive to keep doing so. The longer the time horizon of those with military and political power, the greater is their incentive to maintain institutions that protect productivity, rather than plunder it. This sets up what amounts to an exchange

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model of government, in which the fundamental exchange is protection for tribute. This idea is at odds with the prevailing public goods theory of national defense. Why does government produce national defense? The typical textbook answer is that national defense is a public good that will be undersupplied if left to the market. While one might question the degree to which people have an incentive to free ride on goods they would be willing to pay to have produced,30 look at the incentives implied in that public goods model. Self-centered citizens are too selfish to pay for a public good they want to consume, so they are free riders, to the detriment of themselves and their fellow citizens. So, public-spirited people who populate government step up and selflessly produce the public good to improve the welfare of the selfish citizens who will not produce it themselves. The public goods theory of national defense rests on assuming narrowly self-­ interested people in the private sector who are helped by the public-­ spirited people who are in government. A more reasonable way to frame human behavior is to assume the same types of people in both the private and public sectors, who act to further their own interests.31 In a potentially dangerous world, citizens are willing to pay tribute to those who have a comparative advantage in the use of violence in exchange for the protection of their productive capacity. This exchange of protection for tribute depicts the production of military protection as a mutually advantageous exchange rather than a response to market failure.32 In commercial society, those who control military power have the incentive not only to give the appearance of protecting property rights and promoting commercial activity, but an incentive to actually do so. The potential tribute that can be collected is dependent on the productivity of the economy over which they exercise power, so economic growth increases the revenues that go to the state, and by supporting a military class, also makes the future flow of those revenues more secure. As commerce grows, those who hold military and political power have an increasing incentive to shift their activities toward managing the affairs of the state, and to contract out for military activity. This works, as noted in the previous section, when those with military power believe they will profit more from supporting the mission of those with political power, rather than using their comparative advantage in violence to seize political power themselves. Military and political power separate because those who have both find it more profitable to specialize in exercising political power, and hiring

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others to specialize in military activity. As societies become wealthier, they are able to afford to pay a political class that adds no economic value to people’s incomes, and do so because they recognize that there is value in protecting the income-earning potential of those who have economic power. Both political and military power become institutionalized, such that those who go into the military or into politics are constrained by the institutions that both channel and limit their exercise of power. The development of commercial society thus lays a foundation for the emergence of a political class that is able to subordinate military power to political power. Commercial society creates conditions such that people can engage in politics as a vocation.

The Evolution of Law Humans are social animals who have always lived in groups and have always been governed by the laws of their groups. Norms of conduct evolve within groups, and group members who violate those norms are sanctioned by other group members. In close-knit societies this may range from disapproval to shunning to ostracism, depending on various circumstances. As societies grow beyond the size where these institutions are effective, more formal institutions naturally evolve so that if someone violates the group’s rules and harms another person, the harmed individual can access those institutions to be compensated for the harm. Bruce Benson describes how common law courts in Britain evolved independently of government to arbitrate disputes among individuals and to provide justice, which means, to provide compensation for those who have been harmed.33 As Benson describes, the key principle of justice in these courts was restitution. Those who are harmed should be made whole by being compensated by those who harmed them. Legal institutions developed as communities devised mechanisms for hearing all sides of a dispute and passing judgment using procedures that people viewed as fair. Legal institutions naturally become more formalized as societies grow past the size in which everyone knows everyone else. Legal institutions arose spontaneously as people found ways to peacefully settle their differences, later to be taken over by government. Over time, government courts have displaced private law, although international trade law remains outside government law, because it extends beyond any one government’s jurisdiction. Parties agree to arbitration to settle their disputes when they extend beyond the reach of government,

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and private arbitration is often used to settle disputes even when parties to the disputes have access to government courts. Two reasons for skirting government courts in favor of private arbitration to settle disputes are that parties to the disputes might feel they will get a fairer decision with private arbitration, which will be determined by people who are experts, rather than a citizen jury of non-experts, and they may also get a faster decision, which is important in commercial activity. But another reason is that the principles underlying the two types of law have diverged over time.

Justice Versus Order One should expect that institutions will tend to further the interests of those who have control over their design. Individuals who are parties to disputes want a legal system that administers justice. This implies providing restitution to those who have been harmed by the actions of others, whether the harm falls within the realm of civil or criminal activity. When parties to a commercial contract make an agreement, they want the contract carried out fairly, in the manner that both sides agreed to at the outset. Every contract will have ambiguities, and sometimes parties to contracts are unable to complete what they agreed to due to circumstances beyond their control. So, they agree ahead of time, either explicitly or implicitly, to methods of adjudicating disputes when they arise. Often, parties to commercial contracts will agree to settle any disputes through private arbitration, even when they otherwise would have access to government courts. Private arbitration often provides the fairest method of providing restitution to a harmed party, in the eyes of both sides to a dispute. The same principles hold for criminal activity. If someone is the victim of a robbery or an assault, the victim will want restitution from the person responsible. Thus, as common law courts became established independently of government, one should not be surprised to find that those legal systems developed with a heavy emphasis on rulings that provided restitution to make victims whole. As the reach of government power grew, privately developed legal norms and institutions were taken over by government and those with political power declared themselves to be the ultimate authority in disputes between citizens. As government took over these legal functions, the incentives of those who created laws changed. Legislatures were created to design the law, and government courts applied it. The people who

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populated legislatures and courts were engaging in politics as a vocation. A professional political class was given the power to design the law. A primary motivation of those in the political elite is to design institutions in such a way as to maximize their ability to retain their places in the political hierarchy. The political elite have the incentive to look out for the economic interests of the economic elite, because the economic elite are the primary source of the tribute paid to the political class. In that sense, the interests of the political and the economic elite are closely aligned, and the protection of property rights works to the interests of both groups. Adam Smith noted that the division of labor is limited by the extent of the market, so economies will be most productive when people feel comfortable transacting and interacting with large groups of people they do not know personally. Consider your own situation. When you go into a store to shop, you do not expect to see people you know personally and are not bothered if you do not. You feel safe interacting with strangers because there are effective legal sanctions that discourage opportunists from activities like robbery, assault, and fraud. This may not be true for all readers, but those readers who say “not in my case” likely live in countries that have low per capita incomes. When the division of labor is limited by the extent of the market, those with political power have an incentive to design a governmental system in which people feel safe in the vicinity of strangers. The political class has an incentive to create an orderly society in which individuals obey the mandates of the state, follow the government’s rules, and do not violate the rights of their fellow citizens. When people violate the state’s rules, the government contains organized institutions to track down the violators and punish them. Steven Pinker argues that the emergence of a strong state has had the substantial positive impact of reducing all types of interpersonal violence, which he documents with substantial and convincing data.34 Pinker’s claims have met with a libertarian backlash, because he has not accounted for the violence that governments have used on their own citizens. Governments imprison their citizens, confiscate their property, and threaten their citizens with violence should they not comply with the mandates of the political class. In the early twenty-first century, the United States, sometimes referred to as the land of the free, has imprisoned a greater percentage of its population than any other nation in the world. The threat of violence, potentially followed up by actual violence, is the

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method by which strong government has reduced violent acts among its citizens. Both Pinker and his critics make valid points. State violence has substituted for, and reduced the incidence of, interpersonal violence. The state has used its comparative advantage in the use of violence to create a more orderly society in which individuals have much less reason to fear violence from their fellow citizens, even as they have substantial reason to fear the violence of the state, should they violate the rules laid down by the political class. This comes with the advent of a group of people who practice politics as a vocation. Legislators who make laws are not the people who have seen their rights violated, and therefore want justice. Legislators want to retain their political power by designing legal institutions to produce a compliant population who see a system that gives them an incentive to follow the rules, or face punishment. In designing a legal system, the goal of the political class is to create order, not justice. If an individual engages in assault, robbery, rape, or murder, the state legal system goes after the perpetrator using its police powers, tries the individual in a government court, after which the individual, having gone through due process, will be imprisoned. The element of due process is important to the political class, because it gives the impression of objectivity. There are laws, and if the court system determines through an objective procedure that someone has violated them that person will be penalized. If the process results in a determination that there is not sufficient evidence to determine that the accused is guilty, the individual is released. This sends the message that if people obey the government’s mandates, they will be safe from government’s sanctions. If, by an objective process, they are determined to have violated those mandates, they will be punished. The lesson is clear. Obey the government’s mandates to avoid the government’s institutionalized punishment. Meanwhile, victims of assault, robbery, rape, or murder gain nothing from the government’s criminal law system. Often, victims have additional costs imposed on them when they are required to go to court to testify against their assailants, and for the guilty, the end result is institutionalized punishment, while those who have had their rights violated get nothing. Those who practice politics as a vocation have an incentive to design a legal system that produces order, not justice.

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Incumbent Advantages The Political elite design not only the law, but all government institutions. In many ways, legislative institutions are designed to give advantages to incumbent politicians. While politicians are subject to reelection, reelection rates are high (typically above 90% in the US House of Representatives), providing some evidence that institutions favor incumbents. Most obviously, incumbents not only collect a salary from government but also have government-paid staff and office space, along with government funds to cover expenses. In plurality elections, challengers must raise funds on their own, and often are limited by campaign finance laws on their ability to do so. Because incumbents are already in office, they garner free publicity because their activities are often newsworthy, and they make efforts to attract press coverage, which often succeeds precisely because they are office-holders. Seniority often plays a big role in the way political power is allocated, so constituents who want powerful representatives who can target benefits to them have an incentive to vote for representatives with seniority, and in an election, the incumbent always has more seniority than the challenger.35 In addition, the committee system assigns representatives to committees based partly on seniority, and once committee assignments are made and committee chairs are assigned, an implied property right is created to those assignments, which is another benefit of seniority. Even if newer members of a committee are more qualified to chair it, the incumbent chair has an implied right to keep that assignment. This is not by law, but because the institutions of seniority and committee assignment have evolved that way, because those institutions are designed by incumbents for their benefit.36 Even elections of representatives from single member districts favor incumbents, because they give incumbents monopoly power within their districts, and prevent incumbents from competing with each other. Single member districts create a cartel of incumbents.37 There is nothing in the Constitution of the United States that specifies that representatives be elected through single member districts, and historically, different methods have been used (multi-member districts, at-large elections). But single member districts have become firmly established because incumbents design the institutions, and single member districts favor incumbents over challengers. This is even more true when districts are gerrymandered to favor incumbents.

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Gerrymandering (drawing district boundaries to create safe districts for incumbents) is done by drawing district boundaries to increase the likely majority that will vote for the incumbent. It is easy to see that the party in power, which can control the way district boundaries are drawn, can benefit from creating safe districts for the party’s members. But it is also the case that when boundaries are drawn to put more of the majority party’s members in one district, that also shifts more of the minority party’s members into other districts, creating safe districts for not only members of the majority party but also the minority party. Gerrymandering benefits incumbents generally, regardless of their party affiliations. The examples above apply mostly to plurality systems like the type that exists in the United States, but proportional systems also favor incumbents, if they are among the party’s powerful members. In proportional systems, voters vote for parties and parties are represented in the legislature (parliament) in proportion to the votes they receive. A party that receives 30% of the votes receives 30% of the seats. Parties submit party lists of candidates, and if the party receives enough votes to elect one candidate, the first on the list is chosen. If the party receives enough votes to elect five candidates, the first five are chosen. If the party receives enough votes to elect 50 candidates, the first 50 on the list are elected. This system obviously favors those people who are at the top of the party list—those elite members who have the most power in the party. Even if the party loses seats, those at the top of the list are likely to remain in power. With plurality elections, candidates whose vote margins slip so that a challenger gets more votes will lose the election, but with proportional voting, even if a party loses seats, the power elite in that party—the people at the top of the list—will retain their power. Political institutions are deliberately designed to enhance the ability of those who have political power to keep it. People who practice politics as a vocation use the political power they have to design institutions to enable them to continue to maintain their grip on power.

Dimensions of Political Competition Before thinking directly about political competition, consider an example from the private sector. Business firms often hold competitions among their employees, with prizes going to the winners. For example, a firm might set sales targets for their sales managers and offer a prize to the sales manager whose sales do best relative to the target. (This is not a

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hypothetical example; it is descriptive of an actual competition in a major corporation.) Sales managers compete with each other, and the top manager wins a not-insubstantial prize, such as a vacation for two in the Bahamas. Who are the competitors in this example? At first, it appears that the company’s sales managers are competing with each other to win the prize, and this is not incorrect. But this contest obscures the fact that the larger dimension of competition is between this firm and other firms that are trying to sell into the same market. In fact, the sales managers who are competing with each other for a prize are in a larger competition in which those sales managers are on the same side, competing against other firms in the same market. While the sales managers are competing with each other, in the more significant dimension of competition, they are on the same side, working to increase their firm’s sales relative to other firms vying for the same customers. Now consider the theme of the previous section, which described many ways in which incumbent politicians devise rules and institutions that increase the security of incumbency; that is, that facilitate those with political power retaining their positions in the political hierarchy. In a typical election in the United States, a Republican will run against a Democrat, and it appears that political competition is between candidates of different parties. This competition is real, just as the competition among sales managers in the same firm for the contest prize is real, but in addition to a Republican competing against a Democrat, in the typical election an incumbent will be competing against a challenger, and the factors presented in the previous section indicate that the more significant dimension of political competition is not party competition, but the competition of incumbents against challengers. In this more significant dimension of competition, all incumbents are on the same side, regardless of their party affiliations. Incumbents work to design institutions to retain their hold on power, even if it prevents more members of their own parties from gaining power. The interests of an incumbent Republican have more in common with an incumbent Democrat than with another Republican who is challenging a Democrat in an election. The most significant dimension of political competition is between the political elite who have political power and challengers who are trying to get it. Incumbents from the same party have more in common with each other than they do with incumbents from different parties, but that dimension of political competition is overestimated relative to the

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rarely recognized competition that pits incumbents who have political power against challengers who want it. Incumbents from one party have more in common with fellow incumbents in other parties than they have with challengers in their own party. The most important order of business for those who have political power is to design institutions that enable them to retain it. The most significant dimension of political competition is not between one party and another, but between those who have political power, regardless of their party affiliations, and those challengers who do not.

The Evolution of Political Power Formal institutions that allocate political power have become increasingly oriented toward positions of power rather than people with power, so that those who exercise it do so because they hold socially ascribed positions that convey that power to them. Political power that hinges on the personal characteristics of individuals who hold it is always potentially threatened when those individuals die. Hereditary monarchies offer an institutional mechanism for maintaining political power across generations, but a weak one because there is no guarantee that the descendants of a monarch will have the political skills necessary to maintain the power they inherit. Dictatorships offer a little more in this regard, in that there is a competitive process for replacing the dictator, but without clear institutions for succession, the winner of that competition is often the most ruthless competitor. Democratic elections offer not only a selection process for assigning the right to exercise political power, but also a system that conveys legitimacy to those who are selected by making it appear those who have political power are the choice of the voters. The Roman Empire offers a remarkable example of institutionalized political power that was not matched, in Europe anyway, for more than a thousand years after the Empire’s collapse. Political power went to those who were able to use their military power to claim it. There was a close relationship between political and military power in the Roman Empire, as noted earlier, but the Empire was able to build a political class because they accumulated sufficient wealth to support a political and military class that did not contribute (directly) to economic prosperity. The positions occupied by the political and military elite lived on beyond the individuals who occupied them at any particular moment in time.

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Notwithstanding any benefits produced by the political and military classes, they do not produce food, clothing, or shelter, so those who are producing material goods must be able to produce enough to meet both their own needs, and to feed, clothe, and shelter the political and military classes. The advent of commercial society facilitated both a separation of military from political power, and created a separate class of people who practiced politics as a vocation. Commerce brings with it income growth, providing the resources to support those who produce nothing that can be consumed directly. But commercial activity is also more fragile than agricultural activity. People have an incentive to produce food, clothing, and shelter for themselves, even if some of what they produce is taken from them. They have no incentive to produce profit if that profit is confiscated. If the political class does not organize institutions that protect profit, commercial activity will vanish, perhaps moving to another jurisdiction, but in any event, not remaining in a jurisdiction where it is not profitable. An increasingly wealthy society will require increasing military and police protection because its growing wealth makes it an increasingly attractive target to potential predators both inside and outside its borders. Thus, the skill to both manage and subordinate military power is essential. And, the state itself must not appear excessively predatory, lest it lose its most productive residents, who typically will also be its most mobile. The increased demands associated with running the state, along with the increased resources available to finance it, lead to institutions that support politics as a vocation. A subset of the population can specialize in political activity because the society can afford it, and because the society demands it. The power those individuals wield has a tendency to become increasingly institutionalized, so that the power is associated with the position rather than the person holding it. Those engaging in politics as a vocation thus do not try to create power for themselves, but rather step into positions of power that were created by others. When they work to maintain and reinforce their power, they work mostly to reinforce the power of the position, because that is the most effective way for them to build their own power.

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Notes 1. Max Weber, “Politics as a Vocation.” In H.H. Gerth and C. Wright Mills, eds., From Max Weber: Essays in Sociology (New York: Oxford University Press, 1946), p. 78. 2. Weber, Politics as a Vocation, pp. 77–78, emphasis in original. 3. Weber, Politics as a Vocation, p. 78. 4. Weber, Politics as a Vocation, p. 121. 5. Kaushik Basu, Prelude to Political Economy: A Study of the Social and Political Foundations of Economics (Oxford: Oxford University Press, 2000), p. 183. 6. Joseph R. Strayer, On the Medieval Origins of the Modern State (Princeton: Princeton University Press, 1970), p. 12. 7. Pinker, The Better Angels of Our Nature, p. 42. 8. See, for example, Murray N.  Rothbard, The Ethics of Liberty (Atlantic Highlands, NJ: Humanities Press, 1982). 9. Mancur Olson, Jr., Power and Prosperity: Outgrowing Communist and Capitalist Dictatorships (New York: Basic Books, 2000). 10. That view lies at the foundation of the classic public choice volume, James M.  Buchanan and Gordon Tullock, The Calculus of Consent: Logical Foundations of Constitutional Democracy (Ann Arbor: University of Michigan Press, 1962). 11. See Ronald W. Batchelder and Nicolas Sanchez, “The Encomienda and the Optimizing Imperialist: An Interpretation of Spanish Imperialism in the Americas,” Public Choice 156, no. 1/2 (July 2013), pp. 45–60, for a discussion of the institutions that led Spanish conquerors in the Americas enslave and work the native population to death. They explicitly note the peculiar institutions that led to this result: an incomplete property right of slave owners over their slaves. 12. The logic behind this conclusion is explained in James M., and Dwight R. Lee, “Politics, Time, and the Laffer Curve,” Journal of Political Economy 90, no. 4 (August 1982), pp.  815–819, and Dwight R.  Lee and James M.  Buchanan, “Tax Rates and Tax Revenues in Political Equilibrium: Some Simple Analytics,” Economic Inquiry 20, no. 3 (July 1982), pp. 344–354. 13. This is the idea that motivates Margaret Levi, Of Rule and Revenue (Berkeley: University of California Press, 1988). 14. Thomas Hobbes, Leviathan, (New York: E.P. Dutton, 1950 [orig. 1651]). 15. Murray N. Rothbard, For a New Liberty: The Libertarian Manifesto (New York: Macmillan, 1973) and David D.  Friedman, The Machinery of Freedom: Guide to Radical Capitalism (Chicago: Open Court Publishing

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Company, 1973) argue that people would enjoy more freedom and prosperity without the coercive institutions of government. 16. James M. Buchanan and Gordon Tullock, The Calculus of Consent (Ann Arbor: University of Michigan Press,1962), p 19. 17. This idea, discussed in Chap. 5, is associated with Robin I.M.  Dunbar, “Neocortex Size as a Constraint on Group Size in Primates,” Journal of Human Evolution 22, no. 6 (1992), pp.  469–493, who notes problems that arise in primitive societies after they reach a membership of around 150—Dunbar’s number. 18. For example, Bruce E. Johansen, Forgotten Founders: Benjamin Franklin, the Iroquois, and the Rationale for the American Revolution (Ipswich, MA: Gambit, 1982), argues that the native American population during colonial times was very egalitarian, in comparison with the hierarchical class system that existed in Europe at that time. 19. This theme is found in Daron Acemoglu, “Why Not a Political Coase Theorem? Social Conflict, Commitment, and Politics,” Journal of Comparative Economics 31, no. 4 (December 2003), pp.  620–652, and Daron Acemoglu and James A. Robinson, Why Nations Fail: The Origins of Power, Prosperity, and Poverty (New York: Crown Business, 2012). 20. Bas van Bavel, The Invisible Hand? How Market Economies Have Emerged and Declined since AD 500 (Oxford: Oxford University Press, 2016). 21. Unions also contributed to the higher costs faced by Detroit’s auto makers, but they were at least partially enabled by Michigan’s government requiring union membership. See James D.  Gwartney and Randall G. Holcombe, “Unions, Economic Freedom, and Growth,” Cato Journal 30, no. 1 (Winter 2010), pp. 1–22. 22. This theme is explored in more detail in Randall G.  Holcombe, The Economic Foundations of Government (New York: New  York University Press, 1994). 23. Richard A. Preston and Sydney F. Wise, Men in Arms: A History of Warfare and Its Interrelationships with Western Society, Second Revised Edition (New York: Prager, 1970), p. 100. 24. Gaetano Mosca, (The Ruling Class. New York: McGraw-Hill, 1939), p. 223. 25. Roger D.  Congleton, Perfecting Parliament: Constitutional Reform, Liberalism, and the Rise of Western Democracy (Cambridge: Cambridge University Press, 2011) gives a good accounting of European political history along these lines. 26. As Randall G. Holcombe, From Liberty to Democracy: The Transformation of American Government (Ann Arbor: University of Michigan Press, 2002), Ch. 6 notes, after the war between the states in the 1860s, the winning side paid pensions to veterans injured in battle, but those who fought for the Confederacy were deemed traitors and received no pensions.

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27. There are elite military units, like the Navy SEALs and the army Green Berets in the United States, but these make up a minority of military personnel, and for typical military operations, are not more effective than other military personnel. After the advent of firearms, ordinary people with the right training can be effective in battle without any remarkable physical abilities. Still, members of these elite military units do seem to acquire status beyond other military personnel. 28. J.F.C. Fuller, A Military History of the Western World (New York: Funk & Wagnall’s Company, 1954), p. 470. 29. The importance of logistics is emphasized by Charles Tilly, “States, State Transformation, and War,” chapter 10 in Jerry H. Bentley, ed., The Oxford Handbook of World History Oxford: Oxford University Press, 2011), p.184. 30. See, for examples, Murray N. Rothbard, For a New Liberty: The Libertarian Manifesto. New York: Macmillan, 1973) and Fred Foldvary, Public Goods and Private Communities: The Market Provision of Social Service (Cheltenham, UK: Edward Elgar, 1994). 31. This is the approach recommended by James M.  Buchanan in “Public Finance and Public Choice,” National Tax Journal 28, no. 4 (December 1975), pp. 383–394. 32. For a critique of the public goods theory of national defense along these lines, see Randall G.  Holcombe, “Why Does Government Produce National Defense?” Public Choice 137, nos. 1/2 (October 2008), pp. 11–19. 33. Bruce L. Benson, The Enterprise of Law: Justice Without the State (Oakland, CA; Pacific Research Institute for Public Policy, 1990). 34. Steven Pinker, The Better Angels of Our Nature: Why Violence Has Declined (New York: Viking, 2011). 35. I discuss this further in Randall G. Holcombe, “A Note on Seniority and Political Competition,” Public Choice 61, no. 3 (June 1989), pp. 285–288. 36. This idea is elaborated in Randall G.  Holcombe and Glenn R.  Parker, “Committees in Legislatures: A Property Rights Perspective,” Public Choice 70, no. 1 (April 1991), pp. 11–20. 37. This idea is developed by W. Mark Crain, “On the Structure and Stability of Political Markets,” Journal of Political Economy 85, no. 4 (August 1977), pp. 829–842.

CHAPTER 10

The Social Contract

Any claim that there is an actual social contract is obviously false, in that most members of a society did not make any contractual agreement with all the other members about anything. Yet people’s group identities do extend to the societies within which they reside, people do feel some sense of obligation to others, and they also feel that others have some obligations toward them. An easy example because it is so universal is that we agree that we should not kill each other. Even killers recognize that when they kill, they are violating a social norm. On that basis one might argue that a prohibition on homicide is a part of the social contract. Even here there are ambiguities. There may be cases of justifiable homicide, and in many nations the state itself administers a death penalty for certain violations of the state’s law. Seeing the social contract this way depicts it not as an abstract theory, but rather as a set of generally recognized rights and obligations for members of a society.1 Even if most people are not familiar with the term, they understand the concept and act as if there is a social contract. That is, the act as if they have obligations to others in their society, and others have obligations toward them. Another way to view the social contract is that it defines the role of the state relative to its citizens. It mandates a set of rules with which subjects of the state must comply, but also lays out restrictions on the state’s own activity. Those with political power will find it advantageous to reassure those with economic power that they will not use their political power to plunder those with economic power, for reasons given in the previous © The Author(s) 2020 R. G. Holcombe, Coordination, Cooperation, and Control, https://doi.org/10.1007/978-3-030-48667-9_10

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chapter. An economically prosperous society both increases the pool of resources from which the political elite can be compensated, and provides the political stability which enhances the chances that the political elite will be able to maintain their power. Viewing those with political power as designing and offering a social contract to the masses can be a useful fiction for two reasons. First, those with political power do have an incentive to find credible ways to promise that their use of political power will be constrained and limited, and that it will protect the economic power of those who have it. The exchange of protection for tribute is embodied in the social contract, meaning that even though those with economic power have to pay tribute to those with political power, the social contract will limit the amount of tribute to retain the incentive for productive activity. The very notion of a contract implies that all parties will agree to any change in its terms. Those with political power have an incentive to promise a state that creates an orderly society, and that protects its subjects as long as they follow the state’s rules. Second, if those with political power are able to pass their mandates along as something to which citizens have agreed, they are more likely to get compliance, and less likely to face threats to their power. Acemoglu and Robinson argue that constraints on state power enable the state to gain more power. They say that constraining government power is “a source of strength too. … It has also constantly reassured actors to cede power to the federal state, safe in the belief that it would remain constrained.”2 Convincing citizens that the political elite are acting within a social contract—something to which citizens have agreed—legitimizes their power and makes it easier to exercise that power. Social contract theory goes back hundreds of years, and has more recently seen in increased interest due to developments toward the end of the twentieth century by John Rawls and James Buchanan.3 How can one say that people are bound by a social contract when they did not actually agree to one? Rawls and Buchanan offer similar but slightly different answers to this question, as discussed later in this chapter. What are the terms of the contract to which people would agree? Again, Rawls and Buchanan offer slightly different answers. A strong similarity between Rawls, Buchanan, and earlier social contract theorists is that they view the social contract as an agreement that provides benefits to all members of society. The social contract is, in this sense, a set of desirable constitutional

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rules that constrain government, and that protect the rights of those subject to it. As long as those with political power view it as advantageous to engage in this exchange of protection for tribute, real-world economic and political institutions are likely to closely resemble the type of institutions that twentieth-century contractarians like Rawls and Buchanan argued would emerge from a social contract.4 Both the rulers and the ruled have an incentive to design institutions to make a society as productive as possible, which is the way rulers maximize their take. The most prosperous nations are those in which political and economic power are most clearly separated.

The Mythology of the Social Contract Thomas Hobbes’s 1651 treatise, Leviathan, is a good place to start to evaluate the mythology of the social contract. Hobbes believed that there is a social contract that requires everyone to obey the government’s rules, to create an orderly society. Otherwise, the result is anarchy, where life is “a war of every man against every man,” and as a result, “the life of man, solitary, poor, nasty, brutish, and short.”5 To escape from anarchy and create an orderly society, the sovereign, which could be a king, dictator, or democratically elected assembly, imposes rules on the government’s subjects, which the social contract obligates them to obey. Hobbes says, The only way to erect such a common power, as may be able to defend them from the invasion of foreigners, and the injuries of one another, and thereby to secure them in such sort as that by their own industry and by the fruits of the earth they may nourish themselves and live contentedly, is to confer all their power and strength upon one man, or upon one assembly of men, that they may reduce all their wills, by plurality of voices unto one will, which is as much to as to say, to appoint one man, or one assembly of men to bear their person, … and therein to submit their wills, every one to his will, and their judgments to his judgment. … every man should say to every man: I authorise and give up my right of governing myself to this man, or to this assembly of men, on this condition that thou give up, thy right to him, and authorise all his actions in like manner. … This is the generation of that great LEVIATHAN. … to the end he may use the strength and means of them all as he shall think expedient for their peace and common defence.6

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What if the sovereign enforces some bad rules? Hobbes’s social contract still requires citizen obedience. Otherwise, the society will devolve into anarchy. Can citizens choose to obey only the good rules and disregard the bad? No, when people can pick and choose which rules they obey, they are headed down the road of lawlessness toward anarchy. The social contract mandates that everyone agree to abide by the sovereign’s rules. Hobbes, living in an earlier era, thought that the sovereign had the right to put to death those who did not follow the government’s rules. That is one way to assure unanimous agreement: kill all who do not agree! Consistent with the observation in the previous chapter, Hobbes perceives that the purpose of his social contract is to produce an orderly society, but not necessarily a just one. The government is not a party to Hobbes’s social contract: the contract is among the government’s subjects, who are obligated to abide by the government’s rules to preserve order and prevent the society from degenerating into a war of all against all. One key feature of Hobbes’s social contract is that it obligates citizens to obey the mandates of those who have political power. The theory legitimizes political power and lowers the cost of gaining citizen compliance if citizens buy into the argument Hobbes makes. As Hobbes depicts it, all of the obligations in his social contract are borne by citizens; the government has no obligations. Slightly more than a century later, Jean Jacques Rousseau made an even stronger argument that applies to democratic government. The citizen gives his consent to all the laws, including those which are passed in spite of his opposition, and even those which punish him when he dares break any of them … When in the popular assembly a law is proposed, what the people is asked is not exactly whether it approves or rejects the proposal, but whether it is in conformity with the general will, which is their will. When therefore the opinion that is contrary to my own prevails, this proves neither more nor less than that I was mistaken, and that what I thought to be the general will was not so.7

As with Hobbes’s social contract, Rousseau’s legitimizes the actions of those with political power by saying they are carrying out the will of the people, as revealed through a democratic decision-making process. In both cases, citizens are not in a position to question the demands of those with political power. For Hobbes, their demands further the public interest because they create order out of anarchy; for Rousseau the demands of

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those with political power are actually the citizens demands—even if those citizens disagree. In 1690, a few decades after Hobbes wrote, and well before Rousseau, John Locke envisioned a social contract that did not give the same latitude to the actions of those with political power. In a frequently cited passage, Locke says, Though the earth, and all inferior creators, be common to all men, yet every man has a property in his own person; this no body has any right to but himself. The labour of his body, and the work of his hands, we may say, are properly his. Whatsoever then he removes out of the state that nature had provided, and left it in, he has mixed his labour with, and joined to it something that is his own, and thereby makes it his property. It being by him removed from the common state nature hath placed it in, it hath by this labour something annexed to it, that excludes the common right of other men; for this labour being the unquestionable property of the labourer, no man but he can have a right to what that is once joined to, at least where there is enough, and as good, left in common for others.8

For Hobbes in particular, people get their rights from government, and government determines what rights its subjects have. For Locke, people naturally have rights, starting from their right to their own person, and from that to their labor, which gives them a right to property that they produce with their labor. People have rights, according to Locke, and the social contract requires that people do not violate each other’s rights. But there will always be opportunistic people who may try to violate the rights of others, along with the threat of foreign invaders, and the role of government is to protect people’s rights. Locke argued that if the government does not fulfill its part of the social contract, its subjects have the right to overthrow and replace their government with one that lives up to its obligations under the social contract. The social contract, as Hobbes and Rousseau depict it, requires citizens to obey the mandates of those with political power. Locke’s revolutionary idea was that those with political power also have obligations under the social contract, and that citizens can replace those who abuse their political power. Locke’s idea was, quite literally, revolutionary. Prior to the Revolutionary War that formed the United States, pamphleteers who were advocating independence often cited Locke as an intellectual foundation in their arguments for independence.9 The Declaration of Independence is

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largely a list of grievances against the King of England. He has violated people’s rights—violated the social contract—and therefore the people had the right to replace his authority with a new government designed to protect people’s rights. While Locke’s view of the social contract places a greater burden on those who hold political power, the general idea behind the social contractarian paradigm is that the masses have an obligation to follow the rules of those who have political power, at least as long as they do not abuse that power. The theory provides legitimacy to government by depicting an obligation on the part of the government’s subjects to abide by the terms of this contract. The idea that somehow citizens are obligated to a social contract has been discussed and debated for centuries, but setting aside any academic debates, many people do believe they have some obligation to obey the laws and to pay their taxes, and that when government takes action, especially in democracies, the democratic decision-making process does legitimize those actions. This is more than just a theory. There is a mythology that surrounds the idea which is (perhaps vaguely) accepted by many citizens, even if they have not heard of the social contract theory as such.

Twentieth-Century Contractarians The idea of a social contract has been developed into the twentieth and twenty-first centuries. Two twentieth-century contractarians, John Rawls and James Buchanan, have developed their own ideas about what it means to have a social contract. As is appropriate with a contract theory, the ideas of Rawls and Buchanan rest heavily on the concept of agreement. The terms of the social contract are those terms to which everyone would agree. In fact, almost nobody has agreed to a social contract (naturalized citizens may be an exception), so one challenge facing the theory is determining what it means to say people are in agreement with a social contract when, in fact, people did not actually agree. Rawls invents a veil of ignorance, behind which the terms of a social contract are negotiated.10 Behind this hypothetical veil of ignorance, people know nothing about their own personal characteristics. They do not know their race or gender, their physical or mental abilities, or any other characteristics. Once the veil is lifted, they could be anybody. This mechanism prevents people from taking their own personal interests into account as they negotiate the terms of the social contract. The terms of the social

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contract are those terms to which everyone would agree from behind a veil of ignorance. Buchanan offers a similar device by hypothetically sending everyone back to a state of Hobbesian anarchy, where life is a war of all against all, and from anarchy people negotiate the social contract that lifts them from anarchy to an orderly society.11 There are some differences between these two devices. One is that when Buchanan sends everyone back to a hypothetical anarchy, they lose their socially ascribed positions—there are no kings, or legislators, or corporate CEOs—but they retain their personal characteristics. They know their gender, race, height, and so forth. While one could analyze the differences and nuances in these theories at length,12 they both have a common idea behind determining agreement. Rawls and Buchanan both say that people are in agreement with the terms of the social contract if they would agree under hypothetical circumstances in which they do not take their own personal interests into account.13 The idea is that there are some rules governing social interaction that everybody agrees with in principle, at least when they do not take their own interests into account more heavily than the interests of others, and that those rules constitute a social contract—a set of rules that govern social interaction in such a way as to make everyone better off.

Problems with the Theory Is there a social contract? Nearly everybody would agree that people should not kill each other, unless perhaps an individual poses a threat to others or has violated social norms to the degree that that person no longer is a part of the social contract. People should not assault each other, or take each other’s property (although there may be disagreements as to what constitutes the legitimate right to own property). Essentially, these are the ideas expressed by Locke in his view of the social contract. Looking at things this way, one might argue that there is, in fact, a set of rules for social interaction that commands widespread agreement, and so can be thought of as a social contract. But social contract theory is not without its critics. Ernest Gellner points out a problem with social contract theory. “The objection to the social contract theory is of course that it is patently, brazenly, obviously circular. It presupposes the very thing which it is meant to explain, namely the existence of a being capable of a contract, a being, that is to say, with the ability to conceptualize a situation distant in time and abstractly

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specified, and effectively to bind himself to behave in a certain kind of way if and when that situation arises.”14 Leland Yeager argues that saying people would hypothetically agree to a social contract amounts to saying that there is no actual agreement.15 The contractarian’s defense is that the idea of hypothetical agreement is to search for social rules that would be good for everybody, but Yeager’s criticism is that by promoting this framework of hypothetical agreement, contractarians are depicting government as a product of agreement, when in fact all government is based on force and coercion. Even if people approve of the government’s rules, they did not agree to them, but are forced to comply. Social contract theory, as an academic theory, faces serious challenges, but if people actually do view that they have obligations to others and that others have obligations to them, they will act as if there is a social contract and their actions will affect public policy.

The Age of Reason and the Social Contract The Age of Reason, also called the Enlightenment, is probably best identified as the eighteenth century. Prior to the Enlightenment, people tended to view their positions in society as assigned at birth, and their rights were those rights given to them by the political elite. Much as the social contract described by Hobbes, people were obligated to abide by the government’s rules. Meanwhile, natural events often were attributed to supernatural causes. The order of life was a part of God’s plan. This gave substantial power to the Church, which acted as the intermediary between ordinary people and their God, and it gave substantial power to the political elite, who ruled with the support of the religious elite—and thus with the support of God—and who were entitled to their privileged positions because the social contract gives them the power to make the rules. Following Hobbes, the rights people have are the rights government gives them. Isaac Newton’s Principia Mathematica, published in 1687, provided a good foundation for thinking scientifically about natural phenomena, and as science advanced, people increasingly came to understand natural phenomena as following natural laws rather than being determined by supernatural causes. A scientific understanding of the world was displacing a religious understanding. John Locke’s 1690 publication of his Two Treatises of Government, was meanwhile displacing the view that people’s

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rights were limited to those the government gave them with the view that people naturally had rights, and the role of government was to protect them. Rather than accepting the authority of the Church or the state, scientists, philosophers, and political theorists were pushing people to use reason rather than to bow to authority. Toward the end of the Enlightenment Era, Emanuel Kant said in 1784, that Enlightenment means using one’s own reason rather than submitting to authority,16 and Thomas Paine, while retaining a belief in God, argued against any belief in miracles, and said the Christian Church’s attempt to push a belief in the supernatural had every mark of fraud.17 Paine wanted to push mythology aside, displacing it with scientific reasoning. Many other writers promoted reason and science over belief and obedience, including Descartes, Spinoza, Hume, Montesquieu, Voltaire, and Adam Smith. The advances of science along with the development of commerce led to a vision of progress that displaced older ways of thinking about things. Enlightenment ideas undermined the authority of the Church, and of the political elite. Just as people saw science and reason as the way to understand the physical world, they also saw science and reason as the way to understand the social world. This led to the development of social contract theories as a way to understand, and perhaps even improve, the social order. From Hobbes’s reasoning that a social contract was necessary to escape the horrors of anarchy to Locke’s reasoning that a social contract was necessary to protect people’s natural rights, to Rousseau’s reasoning that democratic institutions were able to identify the general will that would promote everyone’s welfare, social contract theories of social organization were based on reason. They were not meant to be taken on faith, or on authority, but to make a logical case for the allocation and use of political power. The various theories of the social contract share the common element that the social contract is a set of rules that everyone would agree to, at least in principle, to enhance everyone’s well-being. If the Age of Reason sets aside arguments that people should obey political and religious authority; those who want to retain their authority need logical arguments to support it. Religious authority has waned since science has increasingly displaced metaphysical explanations for the workings of the world. Meanwhile, social contract theory has provided some support to legitimize political authority. The twenty-first-century understanding of the social contract is that it is the set of rules and institutions to which everyone would agree under

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certain hypothetical circumstances in which they set their narrow self-­ interests aside to consider everyone’s well-being. Academics can debate the theory, but the practical political implication is that if most people view that the hypothetical condition of agreement is met, then they will view the actions of those with political power are legitimate and believe that citizens should obey government’s mandates, not because they are forced to but because they are obligated to. If everyone does so, everyone benefits. This twenty-first-century social contractarianism provides an indication of what government should do to benefit its citizens, not what government actually does do.

Is the Stationary Bandit a Contractarian? Mancur Olson has depicted government as a stationary bandit, who wants to set up a system in which the bandit’s take from its victims is maximized.18 Olson contrasts this stationary bandit with a roving bandit who plunders one group of people and them moves on to plunder others. The roving bandit has the incentive to take everything and leave its victims with nothing, but then must move on because the bandit will have damaged if not destroyed the productive capacity of its victims, so they will not be able to produce much if anything for the bandit to take in the future. Even if some productive capacity remains, the victims will have no incentive to produce, knowing that whatever they produce will be taken from them by the bandit. The stationary bandit, who wants to maximize the present value of present and future plunder, has an incentive to limit the amount of plunder, and to protect the productive capacity of those it is plundering. This view of the stationary bandit points toward that fundamental exchange in an exchange model of government; the exchange of protection for tribute. Those with economic power want their resources to be protected from predation, and those with political power want to receive tribute from those with economic power, so the exchange of protection for tribute makes both parties better off. Those with economic power are better off paying tribute and receiving protection of their assets, and those with political power are better off receiving the tribute and using some of it to protect their future source of income. Those with political power also have the incentive to enhance the productive capacity of their subjects if the increased tribute they can collect is sufficient to compensate them for doing so. Thus, those with political

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power will support the development of infrastructure to enhance the productivity of their subjects because it also benefits those with political power by increasing potential tribute. Infrastructure, police and military forces, and legal systems may be what economists call public goods, but this is only peripherally relevant to government production. Those with political power have an incentive to produce them for their own narrow interests, because they can tax any resulting productivity gains. Those with political power have similar incentives to produce education. If it increases the human capital of students so they are more productive, income taxation essentially makes the government a co-owner of people’s human capital. Those with political power want to invest in education because they share in the productivity gains. And, by controlling the education system, they also are able to propagandize students to convince them of the legitimacy of government’s activities. The educational system tells students how governments act in the public interest, how governments produce public goods that would be underproduced otherwise, and indoctrinate them into the idea that a part of the social contract is the obligation to comply with government’s mandates. The importance of the appearance of legitimacy has been discussed previously. Those with political power lower their enforcement costs if they can convince those who pay tribute that the payment is legitimately owed to those who collect it.19 But those with political power must also convince those over whom they rule that they will not, at some time in the future, change their operation and confiscate the assets of those with economic power. Not only must they limit their take to retain the incentive to produce, they must offer a credible promise that they will not ratchet up the tribute they demand at some time in the future. They have an incentive to design a set of institutions that can credibly constrain their own behavior. Stationary bandits have the incentive to appear to those they plunder that they are contractarians, bound by a social contract to act in the best interest of their subjects. This line of reasoning suggests that the rules imposed by plunder-­ maximizing stationary bandits will closely resemble the types of rules that a social contractarian would say would command unanimous agreement from its citizens. Looking at the issue from the viewpoint of those who are subjects of that government, Geoffrey Brennan and James Buchanan have argued the importance of constitutional rules that constrain Leviathan government.20 The arguments offered here suggest that both the rulers and the ruled would agree on many of the same rules.

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The interests of the rulers and the ruled are not entirely congruent. As Margaret Levi emphasizes, the shorter the time horizon of those with political power, the more their incentives lean toward the plunder of a roving bandit.21 And, as the previous chapter noted, those with political power have an incentive to use the legal system more to create order than to carry out justice. An orderly society is a productive one, as Steven Pinker has argued.22 Credible constraints come from institutions that limit the discretionary power of those who have power. They prevent those individuals who have power from engaging in opportunistic behavior. They preserve the power of institutions, not the power of individuals. The constitutional/contractarian challenge is to design a set of institutions that can separate political from economic power. If this can be done, the stationary bandit—the party with political power—will have the incentive to establish rules that meet with general agreement. If the two types of power are combined, more oppressive institutions are likely: institutions that would not be agreed to from behind a veil of ignorance, or in a renegotiation from anarchy. James Buchanan and Roger Congleton argue that when institutions are relatively permanent and apply the same rules to everyone, the result is welfare-enhancing institutions.23 People can be more confident about their immediate interests than what their personal interests might be further into the future, so over the longer run, rules that treat everyone fairly will have better expected outcomes for all. A long time horizon has an effect similar to a veil of ignorance. With a sufficiently long time horizon, those with political power will find it in their interest to support institutions that are similar to those that would be agreed to from behind a veil of ignorance, or in a renegotiation from anarchy. The social contract is a fiction, to be sure. But when one looks at the interests of both those with political power and those subject to political power, the incentives they face push both groups to favor the types of institutions suggested by the hypothetical agreements described by Rawls and Buchanan. The creation of an orderly society, emphasized by Hobbes, the protection of individual rights, emphasized by Locke, the production of public goods, emphasized by Buchanan, programs to help the least fortunate, emphasized by Rawls, take on the appearance of legitimacy emphasized by Rousseau, when undertaken by those with political power.

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Measuring the Separation of Economic from Political Power Chapter 3 mentioned the close relationship between the Fraser Institute’s Economic Freedom of the World (EFW) index, designed to provide a numerical measure of the level of economic freedom in nations around the world,24 and possible measures of the degree to which economic and political power are separated. The concept of economic freedom as embodied in the EFW index can comfortably be viewed as measuring the degree to which people are free to exercise economic power independent of political power. Economic freedom means people are free to engage in voluntary exchange with others as they see fit. Government protects property rights and enforces contracts, but leaves the allocation of resources to the decisions of those who own them. The idea that motivated the construction of the index was to make it a measure of the degree to which people are able to make their own economic choices without interference by others. This differentiates economic freedom from political freedom and other freedoms, such as freedom of speech, freedom to vote to determine who will hold political power, freedom of religion, and so forth. The most common source of interference with economic freedom is government, so the fundamental idea underlying the EFW index is that people are able to exercise their economic power independent of the mandates of those who have political power.25 The index has five major components. The first component, size of government, as measured by government spending, taxation, and redistribution, measures the degree to which people are free to allocate their incomes as they see fit rather than have those with political power allocate resources. Regardless of any benefits of government spending, the greater the share of resources allocated by those with political power, the smaller will be the share left for others to exercise their economic power. The second component, rule of law and protection of property rights, is an essential characteristic that is required for the separation of economic from political power. Economic power—control over resources—can only be exercised if people have clearly defined rights over those resources and assurance that their ownership rights will be protected. In the absence of rule of law and protection of property rights, those with political power will also have economic power.

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Sound money, the third component, is perhaps the area of the index least closely related to the separation of economic from political power, but unsound money is the result of government’s inflationary policies, which allow government to spend inflated currency first and so amounts to a form of taxation because it results in a decline in the value of money. Earlier chapters have emphasized the role that money and more sophisticated financial assets have played in economic development. Without a stable medium of exchange, people are handicapped in their abilities to use the resources they control. The fourth component, freedom to trade internationally, when violated, imposes government restrictions on economic power. From an economic standpoint, trade with foreigners provides the same gains from trade as trade with those in the same country, but from a political standpoint, some of the gains from trade accrue to those outside a country’s borders. Trade restrictions typically are imposed to protect domestic producers from foreign competition—a direct combination of economic and political power. They lead to resources being allocated more by political power and while intended for the economic benefit of some, place the use of economic power under the direction of those with political power. The fifth component of the index, regulation of credit, labor, and business, is the imposition of political power to restrict the exercise of economic power. The point here does not hinge on whether regulation is beneficial or harmful, but rather recognizes that in any case, regulation places economic power under some degree of control by those who have political power. Economic freedom, as defined by that index, means that those who have economic power are able to exercise it as they see fit; a lack of economic freedom means that those with political power are able to exercise some control over how economic resources are allocated. The EFW index is a good empirical measure of the degree to which those who have economic power are able to exercise it independently of those who have political power. That was the intent of the intent of the index by those who developed it, although it was not explicitly stated that way. The EFW index makes a valuable contribution because it quantifies the degree to which economic power can be exercised independently of political power, but while it identifies the institutional structure that enables that separation, it does not identify how economic and political power can come to be separated, and what forces are at work to lead to their

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combination. The ideas in this volume can, in that sense, be viewed as providing some insight regarding how economic freedom, as measured by that index, can be cultivated.

When Economic and Political Power Are Separated Taking the EFW index as a measure of the degree to which economic and political power are separated, a large number of academic studies have looked at how the separation of economic and political power affects prosperity and other indicators of human progress.26 These studies consistently show that per capita income is higher in countries that have a greater separation of economic from political power; that is, countries that have higher EFW scores; and that when the separation of economic from political power is increased, the rate of economic growth increases. The empirical evidence using the EFW index is overwhelming. When economic and political power are separated, the result is prosperity; when the same people exercise both economic and political power, the result is stagnation. The Fraser Institute report shows that the 25 percent of countries in which economic power can be exercised most independently from political power have, on average, per capita incomes that are more than seven times greater than in the 25 percent of countries in which economic power is most heavily controlled by political power.27 The separation of economic from political power leads to a number of other positive effects on human progress. The poorest 10 percent of individuals have substantially higher incomes in countries where those two types of power are separated, and income inequality appears unaffected by the degree to which those two types of power are separated. Higher incomes in general lead to higher incomes for everyone. Life expectancy is higher in countries that have greater separation of economic from political power, literacy is higher, and people have more political rights and civil liberties when economic and political power are separated. The separation of economic from political power produces many desirable outcomes, in addition to increasing the material well-being of individuals. When the two forms of power are held by separate groups of people, the result is progress in many dimensions. When the same people hold both, the result is stagnation.

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The Fragile Social Contract The social contract theory of the state is a useful fiction for those who hold political power. It posits, at a minimum, that members of society have obligations to respect each other’s rights and not to harm each other. One of the objectives of those with political power is to rule over an orderly society, and social contract theory argues that citizens have a moral obligation to behave in an orderly manner. Social contract theory specifies that the state’s role is to enforce that order, giving legitimacy to the use of force by those who hold political power. While most citizens will be unfamiliar with social contract theory as such, those with political power still push its ideas—that people have an obligation to pay their taxes, to abide by government regulations, and to refrain from violating the rights of their fellow citizens, and that when people violate those obligations, the state is justified in punishing them. Even though people may not be familiar with social contract theory in any formal or academic way, they do have the idea that they should not harm others, and that those who do deserve to be punished. And, they believe that the state should undertake this role of enforcing those obligations people have to each other. Even if most people are not familiar with social contract theory as such, they believe its basic tenets, maybe because they were indoctrinated to believe by government authorities or religious leaders or family members. Think back to the description of hunter-­ gatherer societies discussed in Chap. 5. Group norms acted as a social contract. The ideas in the theory became a part of social behavior well before they were formally expressed by social philosophers. While recognizing that there is no explicit social contract to which everyone has agreed, it is not unreasonable to perceive an implied social contract in which most people recognize that they depend on the social structure for their very existence and that there are many aspects of that social structure that command widespread agreement and support from almost everyone. This tends to be as true for those who hold substantial political power as it is for those who hold little or none. The institutional support for political power requires general agreement for that power to be viewed as legitimate, That general agreement resembles a social contract. The idea behind a social contract is that everybody is better off if everybody abides by it, even though everybody might advance their own interests by violating it. It is a mechanism to escape a prisoners’ dilemma

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situation in which every individual would benefit by violating the contract, even though they all would be better off if nobody did. But when power is unequally divided in a society, those with power can benefit by violating the social contract, even as they force most people to comply. When the same people hold both political and economic power, the hope that the stationary bandit will act according to a generally agreed-upon social contract breaks down. The myth of the social contract can have the beneficial effect of preserving an orderly society when, as Hobbes noted, everyone abides by the rules of the sovereign. But this myth also opens the door for those with political power to use it to confiscate economic power because, drawing on Rousseau, the myth asserts that government action represents the general will.

Notes 1. This idea is the basis for Adam Smith’s The Theory of Moral Sentiments (Salt Lake City, UT: Gutenberg Press, 2011 [orig 1759]). 2. Daron Acemoglu and James A.  Robinson, The Narrow Corridor: State, Societies, and the Fate of Liberty (New York: Penguin Press, 2019), p. 320. 3. John Rawls, A Theory of Justice (Cambridge, MA: Belknap, 1971), and James M. Buchanan, The Limits of Liberty: Between Anarchy and Leviathan (Chicago: University of Chicago Press, 1975). 4. This idea is developed in Randall G. Holcombe, The Economic Foundations of Government (New York: New York University Press, 1994). 5. Thomas Hobbes, Leviathan (New York: E.P. Dutton, 1950 [orig. 1651]), from Ch. XIII. 6. Hobbes, Leviathan, ch. XVII. 7. Jean Jacques Rousseau, The Social Contract, Or Principles of Political Right, translated by G.D.H.  Cole (London: J.M.  Dent and Sons, 1923 [orig. 1762]) Book IV, Ch. 1, no. 2. While this is a translation, note that Rousseau refers to people in the singular, in keeping with the idea that there is a general will that applies to the whole society, beyond the individual interests of its members. 8. John Locke, Two Treatises of Government (Cambridge: Cambridge University Press, 1960 [orig. 1690]), ch. 5, sec 27. 9. Bernard Bailyn, The Ideological Origins of the American Revolution (Cambridge: Harvard University Press, 1967), describes Locke’s influence. 10. John Rawls, A Theory of Justice (Cambridge, MA: Belknap, 1971). 11. James M. Buchanan, The Limits of Liberty: Between Anarchy and Leviathan (Chicago: University of Chicago Press, 1975).

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12. See, for example, Randall G.  Holcombe, “A Public Choice Analysis of James M. Buchanan’s Constitutional Project,” in Richard E. Wagner, ed., James M. Buchanan: A Theorist of Political Economy and Social Philosophy (London: Palgrave Macmillan, 2018), pp. 539–576. 13. This is not quite true in Buchanan’s case, because people could take their personal characteristics into account, even though the return to anarchy eliminates any socially ascribed characteristics. This, intelligent people could favor rules that benefit the intelligent, and physically strong people could favor rules that give advantages to the strong. 14. Ernest Gellner, Anthropology and Politics: Revolutions in the Sacred Grove (Oxford, UK: Blackwell, 1995) p. 30. 15. Leland B. Yeager, Ethics as a Social Science: The Moral Philosophy of Social Cooperation (Cheltenham, UK: Edward Elgar, 2001), and “Rights, Contract, and Utility in Policy Espousal,” Cato Journal 5, no. 1 (Summer 1985), pp. 259–294. 16. Emmanuel Kant, “What Is Enlightenment?” in Marvin Perry, ed., Sources of Western Tradition, 3rrd Ed., Vol. 2 (Boston: Houghton Mifflin, 1995), pp. 56–57. 17. Thomas Paine, Age of Reason: The Definitive Edition (Grand Rapids, MI: Michigan Legal Publishing, 2014). 18. Mancur Olson, Jr., “Dictatorship, Democracy, and Development,” American Political Science Review 87, no. 3 (September 1993), pp.  567–576. See also Olson’s Power and Prosperity: Outgrowing Communist and Capitalist Dictatorships (New York: Basic Books, 2000). Similar ideas are found in Margaret Levi, Of Rule and Revenue (Berkeley: University of California Press, 1988) and Dan Usher, The Welfare Economics of Markets, Voting, and Predation (Ann Arbor: University of Michigan Press, 1992). 19. Along these lines, note the argument of Robert Nozick, Anarchy, State, and Utopia (New York: Basic Books, 1974), that in the anarcho-capitalism advocated by Murray Rothbard, For a New Liberty: The Libertarian Manifesto (New York: Macmillan, 1973) and David D.  Friedman, The Machinery of Freedom: Guide to Radical Capitalism (Chicago: Open Court Publishing Company, 1973), larger protective firms would have a cost advantage so the larger firms would put the smaller firms out of business until only one firm remained. This monopoly protection firm, Nozick argues, would have the right to force people to pay for its services to avoid a free-rider problem. Nozick offers a libertarian argument that the exchange of protection for tribute is legitimate and ethical. 20. Geoffrey Brennan and James M. Buchanan, The Power to Tax: Analytical Foundations of a Fiscal Constitution (Cambridge: Cambridge University Press, 1980), and Brennan and Buchanan, The Reason of Rules:

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Constitutional Political Economy (Cambridge: Cambridge University Press, 1985). 21. Margaret Levi, Of Rule and Revenue. 22. Steven Pinker, The Better Angels of Our Nature: Why Violence Has Declined (New York: Viking, 2011), and Enlightenment Now: The Case for Reason, Science, Humanism, and Progress (New York: Viking, 2018). 23. James M.  Buchanan and Roger D.  Congleton, Politics by Principle, Not Interest: Towards Nondiscriminatory Democracy (Cambridge: Cambridge University Press, 1998). 24. A recent edition of the report is James Gwartney, Robert Lawson, and Joshua Hall, Economic Freedom of the World 2018 Annual Report (Vancouver, BC: Fraser Institute, 2018). 25. The Heritage Foundation also publishes an economic freedom index similar to the Fraser Institute’s index, and the rankings of countries in the two indexes are very similar. See Terry Miller, Anthony B.  Kim, and James M.  Roberts, 2019 Index of Economic Freedom, 25th Anniversary Edition (Washington, DC: Heritage Foundation, 2019). 26. Literature reviews describing this extensive literature can be found in Niclas Berggren, “The Benefits of Economic Freedom: A Survey,” Independent Review 8, no. 2 (Fall 2003), pp. 193–211, Jakob de Haan, Susanna Lundstrom, and Jan-Egbert Sturm, “Market-Oriented Institutions and Policies and Economic Growth: A Critical Survey,” Journal of Economic Surveys 20, no. 2 (April 2006), pp. 157–191, and Joshua Hall and Robert Lawson, “Economic Freedom of the World: An Accounting of the Literature,” Contemporary Economic Policy 32, no. 1 (2014), pp. 1–19. 27. Gwartney et al., Economic Freedom of the World, p. 18.

CHAPTER 11

Ideology, Politics, and Power

Prior to 1600, the general understanding among most people was that those who held political power made the rules, decided what rights people had, and used their police and military power to enforce those rules for the benefit of the state. Viewed as a social contract, it was Hobbesian, in that the social contract obligated everyone to abide by the rules of the sovereign, rather than Rawlsian—a set of rules agreed to in a situation where nobody accounted for their own specific situation and circumstances in society. The benefit to the masses, Hobbes, argued, was an orderly society that prevented a war of all against all, but the actual outcome was a “social contract” that gave special privileges and special status to an elite few: those who held political power. The masses were subjects of the state, and their obligation was to support the state as their political leaders directed. By 1800 this Hobbesian view of social order was being displaced by the Lockean view that began with the assertion that people have rights and that the role of government is to protect those rights. Citizens had the right to overthrow and replace governments that did not uphold their obligations. The American Revolution in 1776, followed in short order by the French Revolution of 1789, provided visible evidence of the power of this view of government, and in other places, without revolution, governments evolved to give more power to ordinary citizens through institutions of democracy, and institutional changes provided more constraints on the arbitrary use of political power by those who held it.1

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Enlightenment ideas about government posed a threat to those who held political power, and were a constraint on their use of political power. The idea that the natural social order was that the masses were subjects who were obligated to carry out the mandates of those with political power was being displaced by the idea that governments should be servants of the people rather than the other way around. Those at the top of the political hierarchy had to tread more carefully. Prior to the Enlightenment, the legitimacy of their actions was more readily accepted as a part of the natural social order, even if this was at least partly because those with political power were able to marshal the threat of force to maintain that order. Enlightenment thinking drew a line that categorized some actions of those with political power as illegitimate. This evolution of political ideology had antecedents predating 1600. One might cite the democracy of ancient Greece, or the Magna Carta agreed to by King John of England in 1215. It also continued beyond 1800. The rapid transformation of Communist dictatorships toward democracy in the 1990s is an example.2 But the general observation is valid. In the two centuries from 1600 to 1800, there was a substantial change in the way that most people thought about the relationship between themselves and their governments. Prior to 1600 the common view was that people were the subjects of their governments. After 1800 the common view in Europe and America was that the role of government was to serve the people rather than the other way around. In the next two centuries this new view of government continued to spread around most of the globe, and in the twenty-first century it is almost universal.

Enlightenment and the Erosion of Power In medieval Europe, political and military power was wielded by Kings and feudal lords, tempered by the religious power of the Church. Change in all areas of life was slow enough prior to the 1600s that there was no concept of progress, and the world someone was born in would have been only imperceptibly different from the world in which that person died. Although civilization had advanced well beyond primitive living, someone living in 600 AD would have found life in 1600 AD to be very familiar. People consumed the same types of goods and produced them the same way. Farmland was cultivated using animal-drawn plows, and the types of goods people would have had available when they died would have been the same types of goods available when they were born. In the twenty-first

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century, people expect technological advances improving options for transportation, communication, and just about everything else. In the sixteenth century, progress was a foreign idea. From the 1600s on, so many things changed that it is difficult to attribute the resulting progress to any one cause. Advances in the sciences came along with advances in social science, as philosophers like Hobbes and Locke, along with Descartes, Voltaire, Spinoza, Pascal, Montesquieu, and others pushed people to think logically rather than mystically about natural and social phenomena, which eroded both religious power and political power. Just as natural phenomena were perceived as having scientific rather than metaphysical causes, the social order was no longer thought of as divinely supported, but rather subject to change by those who were a part of the society. Technological developments also led to an erosion of power. The development of the printing press in the fifteenth century led to the production of millions of books by the sixteenth century. Knowledge was no longer available to just a select few. The Bible was translated from Latin into German, English, and other languages in the 1500s, making it accessible to a wider audience than just the clergy who read Latin, further eroding the power of the Church. Martin Luther’s founding of the Lutheran Church in 1526 was another chip in the Church’s foundation. Meanwhile, the development of firearms leveled the military playing field. No longer was physical prowess the major determinant of the effectiveness of a soldier. With firearms, ordinary citizens were in a position to effectively defend themselves from attack, and people with ordinary physical abilities could be as lethal in combat as the most physically gifted. The oldest continuously operating company at the beginning of the twenty-first century is the firearms manufacturer Beretta, which was founded in 1526. Since the sixteenth century, those with military power have become those with the most formidable weapons rather than those with the greatest physical abilities. Military power has more become a function of economic power, as the Cold War demonstrated. Despite the amassing of weaponry on both sides, the Cold War ultimately was won by the superior economic strength of the West over the East. Although technological developments undermined the foundations of political and military power, and scientific knowledge undermined the perception of divine power controlling earthly affairs, Enlightenment ideas about the right of citizens to hold their governments accountable for

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furthering the public interest were perhaps most directly responsible for the erosion of political power. The American Revolution, fought by citizen soldiers, could not have been won without firearms to go some way toward leveling the playing field against the professional British army, but it also could not have been won, or even begun, without those Enlightenment ideas regarding the role of government finding their way to the general population. The printing press helped spread those ideas in the American colonies and throughout the world. The perception of progress also had an influence. As the Industrial Revolution began in the 1700s, for the first time in human history people could actually perceive economic progress occurring in their lifetimes. One result was that even those with political power who saw themselves as stationary bandits could see that by encouraging productivity and economic progress, they would be able to enhance their future collections of tribute. This pushed them toward favoring institutions that protected economic power—toward institutions more like what Rawls would envision as the result of agreement from behind a veil of ignorance. For those with long time horizons, progress aligns the incentives of the elite with those of the masses. But there was a more direct influence that progress had on the incentives of those with political power. European governments were continually at war with each other, and fighting wars requires resources. Increasing productivity generates more resources, for fighting wars and for projecting power so that the threat of violence can suffice and resources do not have to be consumed by resorting to actual violence. One of the concerns of the French physiocrats during the 1700s was that the French economy was lagging behind Britain’s, and they searched for policies that might help them catch up. Meanwhile, Adam Smith’s The Wealth of Nations, published in 1776, promoted free markets and freedom more generally as policies that would enhance a nation’s wealth. Smith’s defense of free trade is well-known, but in several places Smith is critical of the institution of slavery. Smith notes that in hiring servants or owning slaves, in either case the master must pay to support that individual. He continues, “But though the wear and tear of a free servant be equally at the expense of his master, it generally costs him much less than that of a slave.” After some discussion he continues, “It appears, accordingly, from the experience of all ages and nations, I believe, that the work done by freemen comes cheaper in the end than that performed by slaves.”3 Why, then, would people choose slave labor over hiring freemen?

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Much later in the book, Smith says, “The pride of man makes him love to domineer, and nothing mortifies him so much as to be obligated to condescend to persuade his inferiors. Whenever the law allows it, and the nature of the work can afford it, therefore, he will generally prefer the service of slaves to that of freemen.”4 In these passages one can see Smith’s support not only of free markets but of freedom in general, and purely on utilitarian grounds (in these passages, anyway). Freedom leads to greater productivity, consistent with the argument that the institutions people would agree to from behind a veil of ignorance or in a renegotiation from anarchy have much in common with those that would be favored by a forward-thinking stationary bandit with a long time horizon. These institutions constrain the ability of those who have political power. There are two sides to Smith’s observations on slavery, however. The one is that from an economic standpoint, freedom for all enhances the economic well-being of everybody. The other is that even if this is true, people love to domineer, and when they can afford it, will choose to coerce others to bend to their will rather than to act to persuade them. Enlightenment ideas had a substantial impact on limiting the ability of the political elite to exercise their political power.5 Those ideas were reinforced by technological developments and demographic changes,6 but regardless of the source of the factors that had the greatest impact, the two centuries from 1600 to 1800 saw a substantial change in the way that people viewed their relationship with their governments. The idea that people were subjects of their governments, obligated to act in the best interests of the state—that is, in the interests of the political elite—gave way to the view that the state is the accountable to its citizens, and that citizens have the right to replace those with political power when the state places the interests of the political elite ahead of the interests of the masses.

Enlightenment and Democracy The advantages of using democratic elections to select those who hold political power should appeal to both the elite and the masses when there is widespread belief that citizens have the right to replace their governments. The Glorious Revolution in England in 1688 which overthrew King James II, followed by the American Revolution in 1776 and the French Revolution in 1789 that sent King Louis XVI to the guillotine, were clear demonstrations that citizens were willing and able to replace

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unpopular governments, often with very bad consequences for the former rulers. Democratic elections provide a mechanism for allowing the peaceful transition of those with political power, saving both the economic cost of destructive violent action and allowing the old political leadership to exit without the fear of exile or death. Democratic accountability of those with political power increased gradually. In England, the power of Parliament increased during the 1300s, when it divided into the House of Lords and the House of Commons, and was eventually recognized by statute in 1569—a statute passed by Parliament itself. The Crown retained power, but as the Glorious Revolution showed, popular demand could replace the holder of the Crown. Eventually, democratic accountability eroded the power of the Crown, shifting power to the House of Commons, the democratically elected body.7 The use of democratic elections to determine who holds political power evolved as a result of Enlightenment ideas. If political power was not assigned by divine forces or the result of historical determinism, citizens could question the legitimacy of those who held political power, pointing toward a selection process that was controlled by those citizens.

Two Views on Democracy Democracy can be viewed in two different ways. The first way, consistent with the arguments given in the previous section, is that democracy is a mechanism for determining who holds political power. It enables citizens to peacefully replace those who exercise the power of the state, if they desire to do so. The second view, expressed by Jean Jacques Rousseau in 1762 and discussed in the previous chapter, is that democracy is a form of government that carries out the will of the people, as determined through a democratic political process. The first view is consistent with the views of the American Founders, who designed a government with constitutionally limited and enumerated powers. Elections were viewed as a process by which government officials were chosen to carry out those limited powers given to government by the Constitution. As the American Founders designed it, the powers of government were deliberately limited in scope and constitutionally defined. Elections were not intended to be a referendum on what policies government should enact, but rather a referendum on who should be entrusted

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to exercise those limited and constitutionally enumerated powers given to government.8 This second view of democracy depicts a government that is unconstrained in its scope. Rather than the limited and enumerated powers envisioned by the American Founders, this second view legitimizes the policies of democratic governments as furthering the general will, which is revealed through a democratic decision-making process. This second view of democracy depicts democracy as an ideology for revealing the public interest rather than a process for selecting those who hold the power of government.

The Ideology of Democracy The ideas of the Enlightenment, typified by Locke, eroded political power because they declared that those with political power are accountable to those who were subject to political power. The ideology of democracy, as expressed by Rousseau, has the opposite effect. It enhances political power because it depicts the actions of a democratic government as carrying out the will of its citizens. If the role of government is to carry out limited and enumerated activities, as envisioned by the American Founders, citizens could identify those who used their political power to overstep those specified boundaries. If the role of government is to carry out the will of the people as revealed through a democratic decision-making process, this almost tautologically means that whatever a democratic government does advances the general will. The quotation from Rousseau in the previous chapter says essentially that. This ideology of democracy gives back to those who hold political power what the Enlightenment ideas took away. Prior to the Enlightenment, those who held political power in feudal Europe did so with the blessing of the Church, and ordinary citizens could hardly object to those who held political power because it was divinely given. This did provide some balance of power, in that those who held political power had to retain the support of the Church or risk being replaced by someone who had that support. But older views depicted a class system that was ordained by forces beyond citizen control, and depicted a social system in which citizens were subjects of their governments so that their roles were to further the interests of the state. Even as the Enlightenment advanced, Hobbes made this argument in 1651.

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Enlightenment ideas pushed citizens to question the legitimacy of those with political power, with Locke making a powerful argument that if those with political power used that power to violate the rights of citizens, those citizens had the right to replace their political leaders. But if, as Rousseau argued, democratic governments further the general will, all that any disagreement with government shows is that the people who disagree are mistaken about what is the general will. In this view, the actions of those with political power have legitimacy not because they are ordained by God or nature, but because they are ordained by a democratic process that itself produces legitimate public policy.

The Ideology of Progressivism Despite Rousseau’s early advocacy of the ideology of democracy, the scope of democratic government was largely constrained by an ideology of liberty until the late 1800s. This was especially apparent in the United States, which was founded on an explicitly Lockean vision of limited government, but was also true throughout Western Europe. The nineteenth century saw increased constraints on the scope and power of government, powered by Enlightenment ideas. In the economic realm, the ideas of Adam Smith and David Ricardo lowered trade barriers, lowered taxes, and lowered regulatory interference with business activity, and the result was growing prosperity as the Industrial Revolution advanced. The founding of the United States was based solidly on an ideology of liberty in the tradition of Locke. The Declaration of Independence is mostly a list of grievances against the King of England, listing the many ways that he had violated the rights of the colonists. Thus, following Locke, the Declaration of Independence uses these rights violations as a justification for replacing that government with a new one dedicating to protecting individual rights. The Constitution, as already noted, created a government of limited and enumerated powers, designed to protect the rights of its citizens. From its founding, Americans had different opinions about the appropriate scope of government, and these disagreements were often categorized as Jeffersonian versus Hamiltonian views. Jefferson, the nation’s third president, advocated a government very limited in scope, dedicated to protecting individual rights. Hamilton, the nation’s first Secretary of the Treasury, envisioned a more activist government that aided economic development. As the nineteenth century progressed, debate on these views

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intensified. Supporters of the Hamiltonian view argued that Jefferson’s vision might have been appropriate in 1800 when the nation was largely agricultural and rural, but that in the industrializing nation that was increasingly urban, more government intervention and oversight of the economy was warranted.9 One consequence of industrialization is that individuals were able to amass huge amounts of economic power over the course of their lives. Prior to the Industrial Revolution, people acquired wealth slowly over many generations, or acquired it through conquest. In the second half of the nineteenth century, for the first time in history, people who began their lives in poverty were able to transform their ideas about managing a business into unprecedented fortunes. Widespread opinion was that those who had amassed substantial economic power were using it to oppress those who had less. Industrialists and financiers like Rockefeller, Vanderbilt, Carnegie, and Morgan were often referred to as Robber Barons, and there was political pressure to rein in their economic power for the benefit of the masses. Whereas when the United States was founded, people viewed the role of government as protecting the rights of individuals, the Progressive ideology that developed in the late 1800s had a broader and more Hamiltonian view of the role of government. Not only should government protect individual rights, it should also look out for people’s economic well-being. In the context of the late 1800s, that meant imposing constraints on those with concentrated economic power to prevent them from using their economic power to oppress those with less economic power. In 1877, the Supreme Court case, Munn v. Illinois, allowed the state of Illinois to regulate grain elevator rates. Farmers viewed that they often had little choice about where to ship and sell their grain because it was infeasible to transport it anywhere except to the nearest grain elevator, where it would then be shipped by rail. The Court’s siding with the State of Illinois and allowing it to regulate grain elevator rates was a major decision because for the first time, the court said that it is legal for the government to set the terms of a private exchange between two individuals.10 The Court was taking an early step in implementing the Progressive idea that in addition to protecting individual rights, the government also should look out for people’s economic well-being. But note that in this decision, the Court also was allowing the government to enact a policy that benefits some at the expense of others. A higher price benefits sellers,

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but imposes a cost on buyers. Progressivism was redistributive from its beginning. This Progressive principle was extended in 1887 when the Interstate Commerce Commission was established to regulate railroads. Again, the thought was that many locations were served by only one railroad, which gave that railroad the ability to set higher fares at the expense of shippers. This regulation of rail rates was intended to look out for the economic well-being of those who shipped by rail, but lower rates for shippers meant less income for the railroads. Again, the policy is redistributive, providing economic benefits for some at the expense of others.11 In 1890 the Sherman Antitrust Act was passed, again for the purpose of controlling concentrated economic power for the benefit of those with less economic power. The Clayton Act, passed in 1914, expanded the scope of antitrust law, applying it not just to existing monopoly power but also to actions that could lead to the future accumulation and concentration of economic power.12 The Progressive ideology which viewed one role of government as looking out for people’s economic well-being was, from its beginning, redistributive, and justified imposing costs on some— those with concentrated economic power—for the benefit of others. As the ideology of Progressivism became more firmly entrenched throughout the twentieth century, its redistributive element cast an increasingly wider net over those upon whom costs might be imposed for the benefit of others. The progressive income tax, established by the Sixteenth Amendment in 1913, originally taxed only the wealthiest Americans, and when established, the highest income tax bracket was seven percent. Over the decades, rates have risen and exemptions lower so that more incomes were subject to tax. By the time World War II arrived, the tax that originally applied only to the wealthiest Americans applied to all Americans, and for high income individuals, rates at times exceeded 90 percent. The Social Security program, passed in 1936, taxed all workers to provide pension benefits to elderly Americans. The program was looking out for the economic well-being of the elder population, which indeed often did find itself in poverty and unable to work to earn income. The cost of financing the program was imposed on all workers without any thought that those workers might be abusing their economic power. The ideology of Progressivism justifies government actions that impose costs on some for the benefit of others. In the twenty-first century, the elder population is financially more secure than in the 1930s, and recipients of Social

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Security benefits are often better-off than those who are being taxed to pay those benefits. The program remains popular and is a good example of the redistributive element of Progressivism. The Social Security program provides an example to illustrate that it is acceptable to impose costs on some for the benefit of others, even if some of those bearing the costs are in economically more precarious situations than some of those receiving the benefits. Government programs can be justified on other grounds. The costs and benefits may be monetary transfers, but often, as was the case with Progressive Era regulation, are regulations that impose costs on some for the benefit of others. If programs and policies are viewed as in the public interest, Progressivism has always viewed imposing costs on some as acceptable and legitimate.

Political Power and Progressive Democracy Enlightenment ideas constrained the ability of those with political power to use it at their discretion, because those ideas depicted political power as originating with a nation’s citizens rather than with its rulers. Political power did not originate with God or nature, as was often the pre-­ Enlightenment view, but rather was granted by citizens who had the right to replace their political leaders if they did not act in the public interest. The ideology of Progressive Democracy transferred back to those with political power some discretion in its use that they lost with the advance of the Enlightenment. The ideology of Progressivism justifies imposing costs on some for the benefit of others. The ideology of Democracy says that when this is done by a democratic government, it is carrying out the will of the people, as determined through a democratic decision-making process. Thus, with democratic elections, those with political power can legitimately use it as they see fit, because they are furthering the general will, as Rousseau argued centuries ago. These policies pass the ideological test posed by Progressive Democracy even if they impose costs on some for the benefit of others, because they were designed and implemented within a democratic political process. Thus, the ideology of Progressive Democracy conveys legitimacy to the actions of those who hold political power. Before the Enlightenment, democratic government was a rare historical curiosity. Enlightenment thinking promoted democracy partly because those ideas supported citizen control of their governments. But those ideas also undermined the ability of those with political power to use it,

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questioning the legitimacy of a monarch, for example, as the final authority for public policy. If those who held political power were selected through a democratic process, the ideology of Democracy provided the legitimacy that Enlightenment ideas took away.13 Elections have been held in many dictatorships, not to select the dictator but to make a show of citizen support for their only candidate—a demonstration of legitimacy. The legitimacy of political power extends beyond just those who are democratically elected to those who hold appointed positions and to civil servants who are hired to act for the government. Indeed, the civil service reform that occurred during the Progressive Era and afterward was designed to insulate government workers from political influence so they could act in the public interest rather than be accountable to political interests. Recognizing that those with economic power could use that power to buy political influence, one motive for establishing a civil service independent of political influence was to retain the separation of economic from political power. It was not that those with political power were particularly interested in maintaining that separation, but that those with political power did not want to give it up to those with economic power.14 The idea of civil service reform was to create a government managed more by scientific principles than by political power. This was the Progressives’ idea of Progressive Democracy.15 The civil service was insulated by several degrees from any direct democratic accountability, but nonetheless—and even for that reason—was viewed by Progressives as in a good position to carry out the public interest rather than be a pawn for political power. The ideology of Progressivism justifies policies that impose costs on some for the benefit of others, and the ideology of Democracy says that when these policies are implemented through a democratic political process, they are furthering the will of the citizens, as identified by that democratic process. The ideology of Progressive Democracy conveys the appearance of legitimacy to the exercise of political power.

Elites and Masses The ideology of Progressive Democracy shifts power from the masses to the elite, because it legitimizes the actions of those who have attained political power through a democratic process. One way to think about this is to use the language of the Occupy Wall Street movement that began in 2011 in response to government policy during the economic downturn

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that began in 2008. The elite, in the terminology of the Occupy Wall Street movement, is the 1 percent, and the masses are the 99 percent. The early 2000s saw a bubble in housing prices that pushed housing prices rapidly higher until the bubble burst and housing prices collapsed in 2008, as the economy sank into a major recession. The movement was protesting policies that they perceived favored the 1 percent over the 99 percent. When housing prices are rising, homeowners who are unable to pay their mortgages can sell their houses, pay off their mortgages, and have money left over. But after the housing bubble burst in 2008, many homeowners owed more on their mortgages then their houses were worth. Furthermore, because the economy entered a major recession, people lost their jobs and were unable to pay their mortgage payments, so they defaulted on their mortgages and were foreclosed as lenders evicted them and took control of their houses. Lenders then found themselves holding mortgages that were non-performing and therefore greatly reduced in value, and many of those mortgages had been bundled into mortgage-­ backed securities that were held by banks and other financial institutions. Just as many former homeowners—the 99 percent—suffered during that time, those financial institutions—a part of the 1 percent—holding those mortgage-backed securities also found themselves suffering financial losses.16 The federal government’s response was to bail out the Wall Street financial firms holding those mortgage-backed securities, that is, bail out the 1 percent, while offering no relief to those in the 99 percent who had lost their homes and their jobs due to the recession and the bursting of the housing market bubble. The Occupy Wall Street movement was protesting these policies that bailed out the 1 percent while leaving the 99 percent to fend for themselves. Thinking about the nature of political power, it is easy to understand why the political elite would orient their policies to support the economic elite. The economic and political elite have an incentive to work together to further their mutual interests. The political elite supports the economic elite, and in exchange the economic elite supports the political elite, enabling both to maintain their status. The economic elite has resources it can use to support the political elite, whereas the masses can offer only minimal support, and this is particularly true of those who have lost their jobs and been foreclosed on their mortgages. The Occupy Wall Street protesters, basing their ideas on a Progressive ideology, were arguing that the government should take action to support the 99 percent rather than the 1 percent. They wanted more regulatory

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oversight and increased government intervention to counteract what they saw as unjust public policy. While it is easy to sympathize with their assessment of the situation, their call for more government intervention would only exacerbate the problems they perceived. After all, it is the 1 percent that makes public policy. To use their language, they were arguing that the 1 percent had designed government policy to favor themselves over the 99 percent, and were advocating giving the 1 percent even more power with the hope that this time, they would use it to favor the 99 percent rather than to benefit themselves. Those in government were abusing their power; therefore, they should be given even more power. The actual policies of bailing out the Wall Street financial institutions could claim legitimacy based on the ideology of Progressive Democracy. Progressivism justifies conveying benefits to some at the expense of others, and the ideology of Democracy says that when this is done by a democratic government, it is carrying out the will of the people. In this case, the justification for the Wall Street bailouts was that the entire economy would suffer from a further financial collapse, so it was in everyone’s interest to bail out the one percent. Not every expert would agree that the bailout was in the public interest,17 but regardless of the merits of the policies, it is an easy argument to make that one should expect the people who design public policy to do so in a manner that preserves their own interests. Those who have political power want to use it for their own benefit, and when those who are subject to political power buy into the ideology of Progressive Democracy, they legitimize the ability of those with political power to do so. Ironically, the ideology of Progressive Democracy, designed in the late 1800s to impose costs on the economic elite for the benefit of the masses, in the early 2000s would justify imposing costs on the masses for the benefit of the economic elite. The ideology of Progressive Democracy justifies the public policies produced by those who have political power, even when those policies benefit themselves at the expense of the masses. The political power that was lost as a result of Enlightenment ideas that spread in the 1700s and 1800s has been replaced by the ideology of Progressive Democracy that spread during the 1900s and into the twenty-first century. Whereas the ideology of the Enlightenment depicted a social contract in which the role of government is to protect individual rights, the ideology of Progressive Democracy depicts a social contract that legitimizes the actions of the political elite as carrying out the will of the people.

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Thomas Hobbes argued that citizens were bound by a social contract to abide by the rules of their government. John Locke depicted a social contract that subordinated the actions of control by the citizenry. The ideology of Progressive Democracy is a move back from Locke’s Enlightened vision of government toward Hobbes’s view, as explained by Rousseau, that legitimizes any actions of a democratic government and obligates citizens to comply.

Notes 1. A good discussion of the evolution of power relationships in European governments is found in Roger D.  Congleton, Perfecting Parliament: Constitutional Reform, Liberalism, and the Rise of Western Democracy (Cambridge: Cambridge University Press, 2011). 2. The example was dramatic enough that Francis Fukuyama called it the end of history in The End of History and the Last Man (New York: Free Press, 1992). 3. Adam Smith, An Inquiry Into the Nature and Causes of the Wealth of Nations (New York: Modern Library, 1937 [orig. 1776]), pp. 80–81. 4. Smith, The Wealth of Nations, p. 365. 5. While an extensive argument could be made to support this assertion, it should suffice to reference Deirdre N. McCloskey, Bourgeois Dignity: Why Economics Can’t Explain the Modern World (Chicago: University of Chicago Press, 2010) and Steven Pinker, Enlightenment Now: The Case for Reason, Science, Humanism, and Progress (New York: Viking, 2018), who make a strong case regarding the influence of Enlightenment ideas. 6. One demographic change sometimes associated with the beginning of modern progress was the Black Death in the 1300s, which reduced the population of Europe by half and thereby increased the capital/labor ratio, leading to economic development. 7. A good history of the increasing role of democracy in England and throughout Europe appears in Roger D. Congleton, Perfecting Parliament. 8. Randall G. Holcombe, Liberty in Peril: Democracy and Power in American History (Oakland, CA: Independent Institute, 2019), chapter 4 discusses in detail how the American Founders designed a government clearly intended to be limited in scope to those enumerated powers given to it in the Constitution. 9. This tension between the Jeffersonian and Hamiltonian visions of government is discussed in more detail in Randall G. Holcombe, From Liberty to Democracy: The Transformation of American Government (Ann Arbor: University of Michigan Press, 2002), chapter 8.

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10. The significance of this case is discussed in detail by Terry L. Anderson and P.J. Hill, The Birth of a Transfer Society (Stanford, CA: Hoover Institution Press, 1980). 11. Regulation may also have limited competition among railroads, protecting them from competition. This idea is developed by Gabriel Kolko, The Triumph of Conservatism: A Reinterpretation of American History, 1900–1916 (New York: The Free Press, 1963). See also Kolko’s Railroads and Regulation: 1877–1916 (Princeton: Princeton University Press, 1965) for a further development of the idea, and Richard White, Railroaded: The Transcontinentals and the Making of Modern America (New York: W.W. Norton, 2011). The case that railroad regulation cartelized the railroads to their benefit is also made by Murray N. Rothbard, The Progressive Era (Auburn, AL: Ludwig von Mises Institute, 2017). 12. See Benjamin J.  Klebaner, “Potential Competition and the American Antitrust Legislation of 1914,” Business History Review 38 (1964), pp. 163–185. 13. Murray Edelman, The Symbolic Uses of Politics (Urbana: University of Illinois Press, 1964) emphasizes the symbolic value of elections. 14. This argument is made by Richard Hofstadter, The Age of Reform: From Bryan to F.D.R. (New York: Alfred A. Knopf, 1969). 15. This was the idea of Herbert Croly, prominent Progressive and cofounder of The New Republic. His work promoting Progressivism include The Promise of American Life (New York: Macmillan, 1909) and Progressive Democracy (New York: Macmillan, 1915). Woodrow Wilson, often referred to as a Progressive president, was a professor of public administration prior to being elected. See his The State: Elements of Historical and Practical Politics, revised edition (Boston: D.C. Heath, 1898). 16. More background on the financial crisis can be found in Randall G.  Holcombe, “The Economic Crisis: Causes and Considerations,” in Eugene Heath, Byron Kaldis, and Alexi Marcoux, Routledge Companion to Business Ethics (London: Routledge, 2018), pp.  293–309, and Stan J.  Liebowitz, “Anatomy of a Train Wreck: Causes of the Mortgage Meltdown,” Ch. 13 in Randall G. Holcombe and Benjamin Powell, eds., Housing America: Building Out of a Crisis (Oakland, CA: Independent Institute, 2009). 17. See, for example the arguments of University of Chicago professor Luigi Zingales, A Capitalism for the People: Recapturing the Lost Genius of American Prosperity (New York: Basic Books, 2012).

CHAPTER 12

Clouds on the Horizon: The Recombination of Political and Economic Power

The separation of economic from political power was enabled by a set of institutions that protected property ownership, which allowed people who had no political power to amass economic power through entrepreneurship and innovation. Power was not taken from anyone. New economic power was created by people who had no political power, and the massive increase in wealth generated by those entrepreneurs resulted in the two types of power becoming separated. Institutions were designed so that those who had political power used their comparative advantage in the use of force to protect the property rights of those who had economic power. These institutions designed that system of protection for tribute that provides the economic foundation of government. Those with political power and those with economic power both gain from this exchange, which enables those two types of power to remain in separate hands. Those who have political power view it as more beneficial to use their power to protect the property rights of those with economic power rather than to use it to confiscate that economic power. Once separated, these two types of power threaten to recombine for several reasons. Most obviously, those with political power, which operates based on the threat of force, can forcibly confiscate resources from those who claim them. But, as Chap. 8 explained, in commercial and industrial societies, the capital and entrepreneurship which are the prime producers of wealth in those societies will erode over the long run. Confiscation trades off a long run revenue stream for temporary short run benefits. © The Author(s) 2020 R. G. Holcombe, Coordination, Cooperation, and Control, https://doi.org/10.1007/978-3-030-48667-9_12

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Nevertheless, this is a trade-off that those with political power will sometimes judge worth accepting, in particular if they view their hold on political power as temporary. The economic trade-off is only part of the equation. Those with political power often will value solidifying their hold on power more highly than maximizing any economic benefit. Those with political power will use it to maintain their own material well-being regardless of the economic well-being of the masses. A second reason why these two types of power threaten to recombine is that those with economic power often try to use it to buy political power, to protect the resources they control from economic competition. The long-run economic interests of everyone are furthered when these two types of power remain separated, as the economic history of the world since the beginning of the Industrial Revolution clearly illustrates. Because those with political power do not produce wealth, although they might protect the wealth produced by others, those with political power rely on the productivity of those with economic power for their material well-­ being. Because their wealth comes from taxing those who have economic power, those with political power an incentive to maintain institutions that are conducive to productivity. Chapter 10 suggested that the incentives facing a revenue-maximizing Leviathan government are very consistent with the maintenance of institutions that might be agreed to in a social contract that includes both elites and masses. Everybody stands to gain from a more productive economy, so everyone has the incentive to support institutions that give those with economic power the incentive to use resources under their control as productively as possible. Greater economic freedom and greater independence from the mandates of political power create a more entrepreneurial and more prosperous economy. The evidence is apparent in the economic progress during the nineteenth and twentieth centuries in places where those two types of power were separated. Meanwhile, the Soviet experiment in which economic and political power were combined disintegrated after seven decades, because the resulting stagnation led the masses those in societies to rise up and demand institutional change. The Cold War ultimately was won not by military might but by the productivity of capitalism. The people in nations with centrally planned economies and dictatorial governments wanted the type of life that those in capitalist democracies had. Two factors have limited the successes of those nations that have tried to make that transition. One is the drive among those who have power to

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maintain and increase it. The most direct way is to gain control of the government—to use the force behind political power to gain control of resources. But a second stumbling block is that while those trying to transition from communist dictatorships saw the results they wanted in the capitalist democracies, they had limited understanding of the factors that produced those results. Their emphasis was more on transitioning from dictatorship to democracy than from a centrally planned economy to a market economy—an emphasis that was reinforced by political leaders in Western democracies. The emphasis on political reform by Western political leaders was understandable. They cared more about international relations than the economic well-being of people in transitioning economies, so they emphasized political reforms more than economic reforms. And, it is also likely that political leaders themselves had a limited understanding of the causes of Western prosperity. Even in market economies, the economic elite—those with the most economic power—support “pro-business” policies like subsidies, tax breaks, regulatory barriers on competitors, and import restrictions that are anti-free market, and that call for the combination of political and economic power to protect the assets of those with economic power from market competition. When Charles Erwin Wilson, then CEO of General Motors in 1953, said that what was good for General Motors was good for the country, he was expressing this pro-business idea that it is in the interest of the political elite to use their power to support the interests of the economic elite.1 The opposing view was that government regulation was needed to control the abuses of those who had economic power. So, both views embodied a call for those with political power to exercise control over those with economic power. One view advocated this to support the ends of the business community; the other advocated this to redirect those ends. Despite the long run prosperity that results from keeping these two types of power separated, those who have power of any kind are prone to seek ways to solidify and increase their grasp on power, and one way to do that is for those with political power to cooperate with those who have economic power for their mutual benefit. Even when there is popular demand for more government oversight to control the abuse of power, to do so gives more power to the powerful, and their natural inclination is to use that power for their own benefit. The long-run interests of a society are not always consistent with the short-run interests of its members. One reason is that the current elite

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could find themselves displaced by others who are working to replace them. Democratic elections encourage challengers to try to displace the political elite, and entrepreneurs who find better ways of satisfying consumer preferences contribute to the process of creative destruction that threatens to displace the economic elite. Progress is good for everyone in the long run, but in the short run, stagnation preserves the status quo, and so preserves the positions of the elite in the hierarchy of power. The elite make public policy, and often are more concerned about protecting their positions from challengers than they are in promoting progress and prosperity.

Economic Incentives to Use Political Power Those with economic power can use it to engage in productive activities, but they can also use it to buy political power to protect their positions in the economic hierarchy. When business lobbyists approach legislators, they do not ask for freer markets to allow for greater competition. Rather, they want the legislature to give them competitive advantages through regulatory protections, subsidies, tax breaks, tariffs to impose costs on foreign competitors, and in general, policies that will give their companies advantages while protecting them from competition from their rivals. When people advocate “pro-business” policies, those policies are almost always anti-free market policies. Joseph Schumpeter says that capitalism “tends to wear away protective strata, to break down its own defenses, to disperse the garrisons of its entrenchments. And we have finally seen that capitalism creates a critical frame of mind which, after having destroyed the moral authority of so many other institutions, in the end turns against its own… The bourgeois fortress thus becomes politically defenseless. Defenseless fortresses invite aggression, especially if there is rich booty in them.”2 Schumpeter argues that those who benefit most from a capitalist system of free markets and the separation of economic from political power do not step up to defend that system. Rather, they engage the political process to acquire “pro-­ business” special interest benefits for themselves, undermining the system that has brought them—and everyone else—unprecedented prosperity. Even the most innovative entrepreneur can be tempted to bargain with those who have political power to gain some advantage over rivals. Steve Jobs, who rightfully deserves to be recognized as one of history’s most entrepreneurial individuals, was not above using the political process to

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hold back rivals. In his biography of Jobs, Walter Issacson relates, “President Clinton’s Justice Department was preparing a massive antitrust case against Microsoft. Jobs invited the lead prosecutor, Joel Klein, to Palo Alto. Don’t worry about extracting a huge remedy against Microsoft, Jobs told him over coffee. Instead simply keep them tied up in litigation. That would allow Apple the opportunity, Jobs explained, to make an ‘end run’ around Microsoft and start offering competitive products.”3 Naomi Lamoreaux observes that “companies that grow large through innovation are no less likely than those that grow large by merger to turn to anticompetitive practices to maintain their advantages.”4 In the long run, innovative firms like Apple benefit greatly from a separation of economic from political power because they can stay ahead of their rivals, and indeed, under Jobs, Apple did just that with one innovative product after another. But interacting with political power, Jobs’ request was not for freer markets, but for legal action that would hold back a rival to provide Jobs with a competitive advantage. When one looks at the regulation of business, it often appears that those with economic power are being constrained for the benefit of those who have less power, but many scholars who have examined the effects of regulation have concluded that its primary result has been to enable those who have economic power to solidify their positions against potential competitors. Historian Gabriel Kolko, looking at Progressive Era regulation, concluded that while the conventional wisdom was that regulation was designed to constrain those with substantial economic power to keep them from taking advantage of people with less economic power, the actual result of those regulations was to solidify the economic power of those who had the most, and insulate them from competition. Kolko said, Progressivism was initially a movement for the political rationalization of human and industrial conditions, a movement that operated on the assumption that the general welfare of the community could be served by satisfying the concrete needs of business. But the regulation itself was invariably controlled by leaders of the regulated industry, and directed toward ends they deemed acceptable or desirable. … It is business control over politics (and by “business” I mean the major economic interests) rather than political regulation of the economy that is the significant phenomenon of the Progressive Era.5

Murray Rothbard expresses the same sentiment, saying,

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…the Progressive Era re-created the age-old alliance between Big Government, large business firms, and opinion-molding intellectuals—an alliance that had most recently been embodied in the mercantilist system of the sixteenth through eighteenth centuries. … power was shifted out of the hands of the masses and into the hands of a minority elite of technocrats and upper-income businessmen.6

The cooperation between those who have economic power and those who have political power is an example of George Stigler’s capture theory of regulation.7 Regulation typically works for the benefit of those who are subject to the regulation. Most people have little knowledge about the regulatory process, and little interest in getting involved, whereas regulated businesses have both substantial knowledge about the process and a substantial interest in regulatory outcomes. It stands to reason that the people who design, implement, and enforce regulations will be more responsive to those who are being regulated—those who have substantial interests in regulatory outcomes and substantial economic power behind their interests—than to a general public that has little interest or knowledge. As Anthony Downs explains, most people are rationally ignorant about politics in general. They have no incentive to become informed because nothing they do will have any effect on political outcomes.8 While all votes taken together determine the outcome of an election, no one vote will be decisive except in very rare situations. When thousands (or more) people are voting, the outcome of an election will be the same regardless of how any one individual votes. Therefore, individuals have little incentive to become informed, and are likely to cast their votes based on emotions, charisma of candidates, and in general what makes them feel good rather than what is in their narrow interests. They know when they vote that the outcome will be the same regardless of how they cast their individual votes.9 This means that with the masses relatively uninformed, those with concentrated economic power can effectively organize to gain benefits for themselves.10 This activity, commonly referred to as rent-seeking, is the process by which those with economic power use it to persuade those with political power to use the force of government to give them economic benefits at the expense of others.11 Entrepreneurs can benefit themselves and the economy more generally by engaging in innovative activity. But innovation brings with it the creative destruction that Joseph Schumpeter described, and after they have accumulated economic power, they often use it to try to buy political power to insulate themselves from competitive pressures.

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Political Incentives to Use Economic Power Political power is more hierarchical than economic power, so those with political power are more motivated to seek ways to maintain or increase their political status. For most of human history, political power came from military power, but as military power was subordinated to political power, political power relies more on economic power for its maintenance. There are substantial advantages to incumbency for those who have political power, giving those who hold it the ability to maintain their positions in the political hierarchy. One advantage of incumbency is that those who have political power can offer to convey advantages to those with economic power in exchange for financial support, and can threaten to impose costs on those with economic power unless they are willing to pay to avoid those costs. Peter Schweizer notes that when those with economic power offer financial support to those with political power, this is often viewed as bribery, but Schweizer says that often it is more accurate to view it as extortion.12 While there is not always a clear line between bribery and extortion, Schweizer describes actual political “exchanges” in which those who hold political power obtain resources from those who have economic power in exchange for either promoting legislation to help those with economic power, or preventing legislation that would harm those with economic power. Those with political power agree to help those with economic power, as long as they pay for the help. In one type of political exchange, which is well-established in Washington, D.C., a lobbyist approaches a legislator asking for political action on the legislator’s part, either to help pass legislation to further the interests of the lobbyist’s client or to stop legislation that would harm the lobbyist’s client. The legislator tells the lobbyist that the issue will be taken up soon by the legislator’s committee and he will see what he can do on the issue. Oh, and by the way, in a few days the legislator’s reelection committee, or political action committee, or party is having a reception, and the legislator hopes that the lobbyist will be able to attend. The lobbyist knows, by the unwritten and never explicitly stated rules of Washington politics, that attendance is mandatory if he wants his clients’ interests to be taken into account, and that when arriving at the reception there will be a bowl in the middle of the room and the lobbyist is expected to deposit a check in the bowl. Lobbyists who do not “donate” a check can expect that their client’s interests will not be furthered. Is this bribery, or is it extortion?

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This is how real-world political exchange takes place in Washington, D.C.  Payment often is in terms of money, but can also come in other forms. A legislator might tell a lobbyist that, by the way, he has a nephew who is looking for a job in the industry of the lobbyist’s client, with the thought that if the lobbyist uses his connections to find the nephew a job, the wheels will be greased for legislation favorable to the lobbyist. Meanwhile, political contributions, which are not intended to go directly into politicians’ pockets, can be used to hire politicians’ family members or to rent facilities that are owned by family members. In one case Schweizer recounts, a politician lent money to her campaign at an extremely high interest rate, and rather than having the campaign repay the loan, the politician continued to collect interest from the campaign organization. While political contributions are not supposed to go directly into the pockets of politicians, politicians are clever enough to have figured out ways around that restriction. In another case, a city commissioner in my hometown of Tallahassee, Florida, helped his girlfriend set up a lobbying firm. When developers would approach the commissioner about projects they wanted to pursue in the city, the commissioner would tell them that the best way to win approval for their projects was to hire that lobbying firm to help them. If money went to the lobbying firm, the commissioner was on board to help the developer; otherwise, the project would be stopped by the city. An FBI investigation determined that this was a case of extortion and brought charges against both the commissioner and his girlfriend. After seeing the evidence that would be presented against them, both pled guilty to the charges. Perhaps this commissioner was too overt in his requests for payment, but everyone must recognize that the substantial payments that go to election campaigns come primarily from firms and organizations that interact with government, and that want legislation that will further their interests. The political class has the power to collect taxes to finance its activities, and political power is often exercised through the allocation of revenues toward expenditures that for various reasons are favored by those with political power. Expenditures directed toward particular constituents can be a method of buying support—buying votes—so that those who have political power can retain it. In dictatorships it may be even more important to buy off supporters to prevent a coup. But favors dispensed this way provide only an indirect financial benefit to those with political power, in

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contrast with campaign contributions, business deals with companies run by friends and relatives, and other methods of direct payment. When those with political power target budgetary benefits such as subsidies and tax cuts to those with economic power, they tend to receive some scrutiny because of the public nature of government budgeting. Furthermore, any budgetary benefits can be diluted through rent-seeking by others who seek the same treatment. Often, regulatory benefits to those with economic power are easier to facilitate and are better shielded from rent-seeking. George Stigler says “that an industry with power to obtain governmental favors usually does not use this power to get money: unless the list of beneficiaries can be limited by an acceptable device, whatever amount of subsidies the industry can obtain will be dissipated among a growing number of rivals.”13 They prefer regulatory favoritism, which has the additional advantage that it can often be justified using some public interest argument.14 Indeed, specific businesses and industries are often targeted for regulation to protect the general public, even though, as Kolko, Stigler, and Rothbard note, those regulations are often designed for the benefit of those who are regulated. The people with political and economic power are, after all, the ones who design the regulations. Regulation provides opportunities for those with political power to collect direct payments because it is less visible than expenditures and because it tends to be targeted toward specific individuals or businesses who are willing to pay for regulatory protection, or to escape regulatory oversight. If the functions of government are divided between budgetary functions and regulatory functions, the regulatory state offers greater opportunity for political gain than the budgetary state, so those with political power who want to use it for their own benefit tend to favor increased government regulation. For this reason, one sure way to reduce cronyism and corruption is to reduce government regulation.15

The Decline of Nations Mancur Olson argued that over time, people with concentrated economic interests develop increasingly closer relationships with those who hold political power, so that profitable economic activity becomes increasingly be tied to political connections.16 This cooperation between economic and political power leads to the decline of nations. Olson uses as examples Japan and Germany after World War II.  In both cases the old political networks were destroyed, so entrepreneurial individuals engaged in

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productive activity that resulted in strong economic growth. People amassed economic power through entrepreneurship. As their political systems matured, connections between the economic and political elite were solidified, which resulted in slower growth because those with economic power were increasingly able to get political protection to prevent competitors from encroaching on their markets, rather than having to rely on entrepreneurial activity to stay ahead of potential rivals. Over time, profits become increasingly tied to political connections rather than producing value for consumers. Along the same lines, Bas van Bavel observes that the process of economic development “engenders growing political inequality, as new market elites translate their economic wealth into political leverage, and it leads to institutional sclerosis. As the organization of factor markets thus becomes less favourable, and more skewed towards the interests of market elites, economic growth stagnates and turns into decline. Also, people start to retreat from the market, and factor markets shrivel again. The process thus ends in the decline of the market economy.”17 Van Bavel concludes that “dominant groups increasingly use their revenues to acquire status and political leverage and to obtain means of coercion, and less to make productive investments—for instance in new technology—and they also leave other groups fewer opportunities and means to make these investments themselves, the economy stagnates or even declines.”18 Bas van Bavel examines several cases in which market economies rose and brought prosperity to those who participated in them, and observed “a similar pattern in the interaction of society, market institutions, and economy. In this pattern, an originally positive feedback cycle—between increasing freedom, growing factor markets, and economic growth—turns into a negative one, with increasing social polarization, institutional sclerosis, markets that become increasingly skewed towards the interests of market elites, and economic growth stagnating and turning into relative or absolute decline.”19 Van Bavel’s observations are very consistent with Mancur Olson’s hypothesis about the rise and decline of nations. Bas van Bavel observes, “The political leverage acquired by the market elites led to a deterioration of the institutional organization of markets. … At this point, elites then became tempted, or even forced, to develop more non-economic, coercive instruments often integrated into the market or linked to it, in order to maintain their position in society, even at the expense of economic growth.”20 When business profitability becomes increasingly determined by political decisions, those with economic power

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have little alternative other than to cooperate with the political elite, if they want to remain profitable. Gabriel Kolko and Murray Rothbard look at Progressive Era regulation in the United Sates and arrive at a similar conclusion. While regulation is often viewed as designed to rein in the economic power of the economic elite, its effects often provide government protection for the elite positions those individuals held. Economic regulation often makes it more difficult for newcomers to enter and compete in the regulated markets, reducing the productivity of the economy.21 Having examined the rise and decline of a number of market economies, van Bavel finds that “all the cases of market economies discussed, became translated into inequality in political influence and decision-­ making power, which in its turn was used to adapt the institutional organization of factor markets to the interests of the wealthy.”22 Those with economic power conspired with those who held political power to their mutual benefit, solidifying their elite positions in society. Van Bavel concludes, “The state did not offer a check on developments, but instead it became an essential part of them.”23 Discussing the thirteenth century Italian economy, van Bavel says, “The wealthy merchants and merchant bankers who came to prominence as a result of these developments gradually acquired more political weight, as can be observed in Venice, Pisa, and elsewhere. … In all respects, we can see how economic power was transformed into, or merged with political power.”24 Referencing a growing concentration of economic power in thirteenth century Italy, van Bavel says “These were the rising urban elites, who were the main victors in acquiring property and market dominance, and who subsequently translated their economic position into political leverage.”25 Commenting on mercantilist policies that were expanding in the fourteenth and fifteenth centuries, Henri Perenne says, “However divergent their professional interests might be, all industrial groups were united in their determination to enforce to the utmost the monopoly which each enjoyed and to crush all scope for individual initiative and all possibility of competition.”26 When people gain economic power, there is always the threat that they will use it to try to buy political power to protect their positions in the economic hierarchy. One can look at cronyism in the twenty-first century, as Joseph Stiglitz does,27 and lament the political influence exerted by the economic elite, but van Bavel provides evidence that this is not new, and that in places where economic and political power have separated in the past, they have

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always recombined, leading to stagnation. This should serve as a warning about potential threats to progress and prosperity in the twenty-first century.

Political Activity and Economic Power Few people would be surprised to find that those with economic power would try to use some of their power to influence the political process. The academic subdiscipline of public choice provides substantial support for this idea, and explanations for the mechanisms those with economic power use to gain political support. Political and economic power interact through rent-seeking, regulatory capture, and more generally, the incentives inherent in interest group politics. Rent-seeking occurs when people engage in the political process to try to get government to force a transfer from others to themselves. The term rent-seeking was coined by Anne Krueger, but it would be more descriptive to call it transfer-seeking.28 Gordon Tullock, who introduced the concept in an earlier article, uses the examples of monopolies and tariffs.29 He notes that most monopolies are the result of outright grants of monopoly privileges by government, or the creation of barriers to entry by government regulation. Similarly, most tariffs are imposed for protectionist purposes, to raise the cost of imported goods to protect domestic companies from foreign competition. Government does not think up these ideas for government-protected monopolies or tariff barriers to competition on its own. The firms that get those protections expend resources to convince those with political power to enact them. The result is a transfer from buyers who then pay higher prices to the firms that have protected monopolies, or who are sheltered by tariffs. While rent-seeking is economically inefficient, for present purposes it is more relevant to observe that it involves the cooperation of those with economic power and those who have political power to use the force of government to transfer more economic power to those who are successful rent-seekers, which imposes costs on those who have resources transferred away from them. Yes, rent-seeking results in a less efficient allocation of resources, but it also results in a transfer of economic power to those who get the rents.30 Those with political power transfer those rents to people who offer them support in exchange. These rent-seeking transfers can come in many forms, including outright subsidies, targeted tax breaks, import restrictions, and regulatory

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barriers to entry that prevent others from competing against the successful rent-seeker. A good example is the ethanol mandate in the United States that requires sellers of motor fuels to include ethanol in the motor fuel. Most ethanol comes from corn, which provides a transfer from purchasers of motor fuels to the growers and processors of corn. If motorists wanted ethanol in their fuel, there would be no reason for the government to mandate it, but the corn lobby was able to convince the federal government to impose the mandate, raising their profits at the expense of motorists, giving that industry more (government-enforced) economic power.31 Another mechanism by which government policies enhance the economic power of some is regulatory capture. The idea is that over time, regulatory agencies tend to act in the interests of the firms they regulate rather than acting in the general public interest.32 Even when regulation has strong public support, most people will be rationally ignorant of the government’s regulatory activities, because there is little they can do to affect them. Meanwhile, those who are being regulated will be well-­ informed about the regulation. They have every incentive to see that regulations are interpreted in ways favorable to themselves, and modified to preserve their interests. They will have personal connections to those in the regulatory agencies, because regulators will have to interact with those they regulate to enforce the regulations. The interests of those who are regulated are well-represented in the political process; the interests of the general public are not. The result is that over time regulatory activity increasingly favors those who are being regulated.33 These public choice theories explain how it is that some people are able to use the political process to gain economic power at the expense of others, but they do not explain who those people are. Mancur Olson’s theory of interest group activity goes some distance toward identifying those who are able to successfully use the political process this way as small concentrated groups are better able to organize than larger and more diffuse groups.34 When groups are larger, individuals have a greater incentive to free ride off the efforts of others, and the larger the number of individuals in a group, the greater will be the transaction costs of organizing them. Further, the benefits to individual group members will be smaller when the group is larger. The ethanol mandate offers a good example. The smaller more concentrated corn growers and processors have an advantage in organizing, whereas the buyers of motor fuels are a larger group that find it difficult to organize to oppose the ethanol mandate. Beyond the organizational costs,

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the concentrated benefits and diffused costs of policies like these give an advantage to the smaller group. If a policy would place a cost of $1 each on 100 million consumers, for the benefit of a concentrated interest group with 100 members, that $1 from each member of the larger group would result in a transfer of $1 million on average to the members of the smaller group. The members of the smaller group have a large financial incentive to support the policy; the members of the larger group have only a very small financial incentive to oppose it.

Political Bargaining Political power is necessarily concentrated and rests with a small group. The making of public policy involves a process of bargaining and negotiation that precludes a large number of people being involved. In democratic societies, the legislature or parliament is the central group involved in that bargaining process. The group is small enough that members are able to negotiate and bargain with each other through a process of political exchange that generates public policy.35 Once laws are written, government agencies may become involved in designing policy, but again this is a small group of people—and people who can sometimes act independently of the legislature because transaction costs are high enough that it is difficult for legislators to become directly involved in agency rule-making. Readers will certainly be aware that legislators negotiate among themselves and frequently engage in political exchange, either by directly trading votes (I will vote for your bill if you vote for mine) or by more complex political bargains (I will vote for your bill if you include in it funding for a project in my district). Sometimes exchanges are made on credit. A legislator solicits the vote of a colleague with the implied understanding that an IOU is created, and the holder of the IOU can later come back to call it in (I voted for your bill in the past; now I want your support on my bill). This type of bargaining relies on personal knowledge of those who engage in the bargaining process, not only by the parties to the bargain but to everyone else in the decision-making group. If a legislator does not pay up on IOUs, that legislator’s reputation in the group will be harmed and the legislator will find it difficult to engage in future exchanges. But for this reputational effect to work, the group must be small enough that people are aware of each other’s reputations. As with the hunter-gatherer societies discussed in Chap. 5, this limits the size of the group. Bargaining

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is facilitated when groups are small so transaction costs are low, and is prevented when groups are large, resulting in high transaction costs.36 Political power is centralized. Rules are made at the top and applied to those below, and the result is that only a small group, who are able to transact with each other, exercise it. Economic power is decentralized. Thousands of people can enter a store every day, each making their own decentralized transactions. No individual transaction determines the total day’s transactions. Nobody decides, for example, how many pairs of pants a store will sell or how many shirts it will sell. Those outcomes are the result of decentralized decisions made by the store’s customers and the store’s own policies. If they want to sell more shirts, they can lower the prices they charge for shirts, but still, the total sold will be the result of all the decentralized decisions of buyers and sellers. Political decisions, in contrast, are centralized. Those with political power bargain to produce public policies, which then, top-down, apply to everyone subject to those policies. As noted in Chap. 2, there is a discontinuity in political power that does not exist with economic power, because the size of the bargaining group is necessarily limited. C. Wright Mills expressed this nicely in his book, The Power Elite, saying “The powers of ordinary men are circumscribed by the everyday world in which they live … But not all men are in this sense ordinary. As the means of information and of power are centralized, some men come to occupy positions in American society from which they can look down upon, so to speak, and by their decisions mightily affect, the everyday world of ordinary men and women.”37 For those who aspire to acquire rents and engage in regulatory capture, the challenge is to find a way to lower transaction costs between themselves and those with political power, so they can negotiate to get the rents and capture the regulatory agencies. Those with economic power can use some of that power to buy their way into the bargaining process—buy their way into the low transaction cost group and negotiate for benefits for themselves. Elite theory developed by sociologists and political scientists explains who benefits from the political bargaining process. The public choice theories discussed in the previous section explain how they benefit. This bargaining process naturally leads toward a recombination of economic and political power. As the economic and political elite become increasingly engaged in negotiations to direct public policy, economic interests become increasingly dependent on the political system for their profitability, and political interests become increasingly dependent on the

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support of the economic elite to retain their positions in the political hierarchy. As policymakers expand their regulation of business activity, economic power becomes more dependent on the policies made by those with political power and political power becomes more dependent on financial support from those with economic power. Profitability increasingly depends on political connections rather than productively satisfying consumer demands, leading to the stagnation that comes with the combination of economic and political power.38 When profitability depends on political connections, people who have economic power find themselves in a situation where they have to cooperate with the political elite to remain profitable. Hunter Lewis says, “There is a common saying on Capitol Hill that those who do not come to the table will become the lunch.”39 While one might find fault with business people who lobby to collect rents and capture regulatory agencies, businesses that do not engage in that type of political bargaining will find themselves bearing the costs of a tax system and regulatory regime that is designed to impose costs on those who do not cooperate with the political elite, for the benefit of those who do.

Seize Economic Power, Or Cooperate with It? Economic progress occurs when economic resources escape political control, but this has been rare in human history. It requires an institutional structure in which government protects property rights and enforces rule of law to enable the creation of new economic power. To do this, the institutional structure must also constrain government from using its power to appropriate resources and transfer the economic power of others to those who hold political power. This is one component of rule of law. The government that is necessary to protect economic power must be constrained from appropriating it.40 In feudal Europe, institutions evolved as those who held power increasingly moved toward the use of market institutions to exercise their economic power. As they moved toward sharecropping and leasing of farmland, those who owned the land wanted to design an institutional structure that protected property they obtained through commerce as they increasingly shifted their interactions toward market transactions rather than in-kind relationships. Those institutional protections for the elite provided protection for all. They had to protect property rights for buyers and sellers; otherwise, the elite would not have anyone with whom

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they could trade. Those institutions enabled entrepreneurial individuals with no political power to engage in productive activity to create and accumulate economic power, protected by political power but not controlled by it. Once people without political power gain economic power, those with political power can be tempted to use the coercive power of government to confiscate resources. When institutions were developed to protect economic power, they were done with the intention of solidifying the hold on private property that was controlled by those with political power. Their intention was not to promote the development of new economic power independent of political power; that was just the result. The creation of new economic power led those with political power to look for ways they could benefit from it and control it. Simply seizing it, as was done with the formation of the Soviet Union in 1917, or occurred in Cuba in 1959, is one option if those with political power have sufficient power to do so. Confiscation is risky and destructive. Revolutionaries literally risk their lives should they fail, but they may not care much about any destructive effects of their acts, partly because they care about their positions in the hierarchy rather than overall prosperity, and partly because revolutionaries are outside the political power hierarchy to begin with, They want to replace the existing hierarchy with one of their own making, and if doing so reduces overall prosperity. if the revolutionaries are able to claim a position at the top of the hierarchy, they will be materially secure even if those below them are not. In the cases of the Soviet Union and Cuba, economic power was not confiscated by those who held political power; rather, a group of revolutionaries outside the existing political hierarchy seized both political and economic power at the same time. Confiscation of economic power works better (for those who have political power) when those who have their property confiscated are not in a good position to fight back. Civil asset forfeiture laws are a good example. They allow governments to seize property they claim was used to commit a crime, even if no crime was proven. If police accuse someone of buying or selling illegal drugs out of a car, for example, they can seize the car under civil asset forfeiture laws, even if nobody is convicted or even arrested for a drug crime, and it is up to the owner of the car to prove that the car was not used in an illegal activity.41 If the police find someone with a large amount of cash, they might seize the cash, claiming that they suspect that it came from drug sales. The

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person whose cash was seized does not have to be charged with a crime; it is up to that person to prove that the money was acquired legally. Within a legal system that is designed to assume people are innocent until proven guilty, civil asset forfeiture presumes a person is guilty until proven innocent. Police have an incentive to engage in civil asset forfeiture because often, the assets they seize are given to their departments. Typically, people who have their assets seized are relatively poor, and have had previous run-ins with law enforcement. The general public will have limited sympathy with drug dealers and habitual criminals and will figure they are not at risk, so there will be little opposition. Even though police are not at the top of the political hierarchy, they have enough political power that they can use it to seize economic assets. Civil asset forfeiture works because it is used against those who have relatively little power to fight back. Civil asset forfeiture is small-scale confiscation compared to government nationalization of productive assets, but it suggests that those with political power will look for ways to seize economic assets when they have the opportunity, and suggests that one reason those with political power do not simply use it to confiscate greater amounts of economic resources is that they weigh the costs and benefits and only confiscate resources when it appears cost-effective. Another mechanism those with political power use to confiscate economic power is regulatory takings. Through land use policies, governments force people to allocate their private property to public uses, perhaps by declaring them to be environmentally sensitive lands, or perhaps by mandating public access to private property. Regulatory takings apply more broadly than just to taking of land. For example, many state public service commissions require telephone companies to provide below-cost service to certain customers, and common carriers may be required to offer their services below cost for some customers.42 The general public is often sympathetic to regulatory takings, facilitating the ability of those with political power to engage in them. Those who have political power have the incentive to use it to gain economic power. The less-confrontational way to do so is to cooperate with those who have economic power, trading their political favoritism for economic resources. Taxation—collection of tribute in exchange for government goods and services—is often viewed as a legitimate way for transferring economic power to those who have political power. In many cases, attempts to directly confiscate economic power will fail. For those willing

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to take the risk, outright confiscation may be their preferred route. Even those holders of political power whose main method is cooperation with those who have economic power might engage in outright confiscation from a subset of the population who do not have sufficient power to prevent it.

Maintaining Separation Despite the benefits that come from the separation of economic from political power, there are always forces that threaten to recombine them. When they are separated, the result is progress. But progress brings with it the creative destruction that upsets the status quo, threatening the relative status of the individuals who are most powerful. Daron Acemoglu argues that the reason low-quality economic institutions persist despite the opportunity for productive reform is that there is no good way to assure the current holders of political power that they will not be displaced as a consequence of the creative destruction that would come with reform.43 People desire power for its own sake—both political power and economic power—and when they have it, they want to preserve it. Even when there is the prospect of gaining power, or gaining wealth, people tend to be risk-averse and will seek to preserve the status quo rather than take a gamble that could result in a negative outcome.44 Those with economic power want institutions that insulate them from competition. Those with political power seek institutions that give advantages to incumbency, pushing away from democratic toward dictatorial political institutions if they can get away with it. In volatile political situations, those with political power may perceive that their power is threatened and will want to take as much as they can in the short run, even recognizing the damage that will be done to long-run prosperity. Maintaining the separation between economic and political power depends in large part on maintaining an institutional structure that prevents people with political power from acting to grab short-run gains. Individuals who have power will always grab more if it is available to them. Even if not all individuals have this thirst for power, those who do will compete to displace the less power-hungry. That is why Friedrich Hayek says that the worst get on top.45 Because individuals cannot be counted on to maintain this separation of economic from political power, the best way to maintain it is with institutions that create checks and balances so that some individuals with power have the incentive and ability to

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check the power of others. The best chance for maintaining separation is to vest power in institutions rather than individuals.46 In the framework of Douglass C. North, John Joseph Wallis, and Barry R. Weingast, the exercise of power should come from people’s socially ascribed characteristics rather than their personal characteristics.47 Democratic political institutions vest political power in the socially ascribed characteristics of the people who hold it. A president or prime minister holds power by virtue of that position, rather than the person’s personal characteristics. When people leave those offices, they leave behind the political power of the offices, which is transferred to the subsequent holder of the office. Individuals who hold positions of political power still work to increase the power of those positions, but their efforts are tempered by the fact that they are working to increase the power of the position rather than their own personal power. Personal characteristics still come into play, partly because people’s personal characteristics are a large factor in gaining positions of power. They again come into play because people try to transfer the socially ascribed power of their positions to themselves as individuals. Examples like Hitler, Putin, and J. Edgar Hoover, all of whom assumed power within democratic political institutions, show that this can be done, and when they were able to shift the socially ascribed power they acquired through their positions to personal power associated with them as individuals, they faced lower constraints to the use of their power. Twenty-first century Russia shows that democratic elections are not sufficient safeguards to prevent the recombination of political and economic power. Despite being democratically elected, Vladimir Putin has been able to establish himself as the individual at the top of the political hierarchy, giving him as an individual more power than comes with the institutional power of his position. He has used his political power to control economic power, resulting in the stagnation that occurs when those two types of power are combined. Political and economic power stand a better chance of remaining separated when power rests with the positions of power rather than with the people who hold those positions. To constrain the abuse of power, institutions must also divide power to create checks and balances among those positions of power. People with no power cannot control people with power, even if there are many more people who have no power. The idea that democratic oversight can check the abuse of political power rests on this questionable notion.48 Acemoglu and Robinson make a persuasive argument that the power of strong

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government can only be checked by a countervailing strength in civil society, but this appears to say that the powerless can check the power of the powerful.49 If the people who have power are the ones who makes the rules and design the institutions, a system of checks and balances—in which some people with power have the incentive to check abuses of power by others—is necessary to maintain the separation of political from economic power. The three branches of government—legislative, executive, and judicial—designed into the Constitution of the United States were intended to check and balance each other, and the American Founders also viewed the state governments as a check on the power of the federal government. Meanwhile, the countervailing power of economic interests can compete with each other to check and balance the abuse of economic power. But if checks and balances are important, there must also be mechanisms that allow political and economic power to check and balance each other. The fundamental exchange of protection for tribute goes part way to establishing these checks. Those with economic power rely on those with political power to protect them and their assets, while those with political power rely on the continued productivity of those with economic power to produce that tribute. But history shows that this check is not sufficient to keep those two types of power separated. Ideas also play a pivotal role. Ideas, filtering down to popular ideologies, also play a role. On a small scale, one can see the Reagan and Thatcher revolutions of the 1980s as a result of the triumph of those ideas of free markets and limited government. Regardless of one’s views on their particular policies, surely supporters and critics alike would recognize the influence of the ideas of Milton Friedman, Friedrich Hayek, and others that advocated laissez faire policies. On a larger scale, the ideas of Enlightenment thinkers like Locke, Hume, and Smith had a substantial influence on the institutional reforms that laid the foundation for the Industrial Revolution.50 The recombination of political and economic power is not solely due to self-interested holders of power who act to benefit themselves at the expense of others. The ideology of socialism advocates this recombination. Similarly, the cooperation between political and economic elites is encouraged by capitalism’s critics who argue that more government oversight is necessary to control the abuses of economic power. Government oversight conveys more power to those elites who—critics themselves charge—use it to benefit themselves rather than the masses. If the Enlightenment ideas supporting democracy and free markets were

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instrumental in enabling the economic progress that came with the Industrial Revolution, growing support for the ideology of socialism and its relative, government oversight of business, should be viewed as a threat, because they advocate a recombination of economic and political power. When resources are allocated through cooperation, the result is progress; when resources are allocated through control, the result is stagnation.

Notes 1. The statement Wilson actually made was in a congressional hearing when he was still CEO of General Motors but had been nominated by President Eisenhower to be Secretary of Defense. When asked whether if he was Secretary of Defense he could make a decision that would be adverse to General Motors, he replied that he could not conceive of such a situation “because for years I thought what was good for our country was good for General Motors, and vice versa.” 2. Joseph A.  Schumpeter, Capitalism, Socialism, and Democracy, 3rd ed. (London: George Allen & Unwin, 1950), p. 143. 3. Walter Isaacson, Steve Jobs (New York: Simon & Schuster, 2011), p. 323. 4. Naomi R. Lamboreaux, “The Problem of Bigness: From Standard Oil to Google,” Journal of Economic Perspectives 33, no. 3 (Summer 2019), p. 111. 5. Gabriel Kolko, The Triumph of Conservatism, pp. 2–3. 6. Murray N. Rothbard, The Progressive Era, pp. 318–319. 7. George J. Stigler, “The Theory of Economic Regulation,” Bell Journal of Economics and Management Science 2, no. 1 (Spring 1971), pp. 3–21. 8. Anthony Downs, An Economic Theory of Democracy (New York: Harper & Row, 1957). 9. This idea is explored further by Geoffrey Brennan and Loren Lomasky, Democracy and Decision: The Pure Theory of Electoral Preference (Cambridge: Cambridge University Press, 1993) and Bryan Caplan, The Myth of the Rational Voter: Why Democracies Choose Bad Policies (Princeton: Princeton University Press, 2007). 10. This is explained by Mancur Olson, Jr., The Logic of Collective Action: Public Goods and the Theory of Groups (Cambridge, MA: Harvard University Press, 1965). 11. The theory of rent-seeking, originally described by Gordon Tullock, “The Welfare Cost of Tariffs, Monopolies, and Theft,” Western Economic Journal 5 (June 1967), pp.  224–232, was given its name by Anne O.  Krueger, “The Political Economy of the Rent-Seeking Society,” American Economic Review 64 (June 1974), pp. 291–303.

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12. Peter Schweizer, Extortion: How Politicians Extract Your Money, Buy Votes, and Line Their Own Pockets (Boston: Houghton Mifflin, 2013). For more examples, see also Schweizer’s Clinton Cash: The Untold Story of How and Why Foreign Governments and Businesses Helped Make Bill and Hillary Rich (New York: Harper, Broadside Books, 2015). 13. Stigler, “The Theory of Economic Regulation,” p. 5. 14. On this idea, see Bruce Yandle, “Bootleggers and Baptists: The Education of a Regulatory Economist,” Regulation 7, no. 3 (May–June 1983), pp. 12–16. 15. For some supporting evidence, see Boudreaux, Christopher J. Boudreaux and Randall G. Holcombe, “Regulation and Corruption,” Public Choice 164, no. 1 (July 2015), pp. 75–85. 16. Mancur Olson, Jr., The Rise and Decline of Nations (New Haven: Yale University Press, 1982). 17. Bas van Bavel, The Invisible Hand? How Market Economies Have Emerged and Declined since AD 500 (Oxford: Oxford University Press, 2016), p. 2. 18. Bas van Bavel, The Invisible Hand? How Market Economies Have Emerged and Declined since AD 500 (Oxford: Oxford University Press, 2016), p. 21. 19. van Bavel, The Invisible Hand? p. 251. 20. van Bavel, The Invisible Hand? pp. 257–258. 21. Kolko, The Triumph of Conservatism, and Rothbard, The Progressive Era. 22. van Bavel, The Invisible Hand? p. 264. 23. van Bavel, The Invisible Hand? p. 271. 24. van Bavel, The Invisible Hand? p. 110. 25. van Bavel, The Invisible Hand? p. 112. 26. Henri Perenne, Economic and Social History of Medieval Europe (New York: Harcourt, Brace and Company, 1937), p. 210. 27. Joseph E.  Stiglitz, The Price of Inequality: How Today’s Divided Society Endangers the Future (New York: W.W. Norton, 2012). 28. Krueger used the term in her article, Anne O.  Krueger, “The Political Economy of the Rent-Seeking Society,” American Economic Review 64 (June 1974), pp. 291–303. 29. The concept of rent-seeking was described by Gordon Tullock, “The Welfare Cost of Tariffs, Monopolies, and Theft,” Western Economic Journal 5 (June 1967), pp.  224–232, but Tullock did not use the term rent-seeking. 30. The public choice literature likely overstates the amount of inefficiency in rent-seeking, because those with political power do not have an incentive to create rents unless they can get something in exchange, and the greater the resource cost of rent-seeking, the less there is for the rent-seekers and the rent-creators to divide among themselves. I develop this idea further in

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Randall G.  Holcombe, “Political Incentives for Rent Creation,” Constitutional Political Economy 28, no. 1 (March 2017), pp. 62–78. 31. There were public interest arguments made to support the mandate, including reducing the reliance on foreign sources of oil and protecting the environment. Lobbyists for rent-seekers never argue that a government policy should transfer resources from some people to the lobbyists’ clients. Rather, they argue that doing so furthers the public interest. Thus, the transfers are supported on the one hand by a public interest argument and on the other by the actions of those who stand to gain themselves from the transfers. This two-legged support is explained well by Bruce Yandle, “Bootleggers and Baptists: The Education of a Regulatory Economist,” Regulation 7, no. 3 (May–June 1983), pp. 12–16. 32. Regulatory capture is explained by George J.  Stigler, “The Theory of Economic Regulation,” Bell Journal of Economics and Management Science 2, no. 1 (Spring 1971), pp. 3–21. 33. While Progressive Era regulation has typically been depicted as reining in the economic power of industrialists who had concentrated power, Gabriel Kolko, Railroads and Regulation: 1877–1916 (Princeton: Princeton University Press, 1965) and Murray N.  Rothbard, The Progressive Era (Auburn, AL: Ludwig von Mises Institute, 2017) make a persuasive case that those regulations served to protect those with concentrated economic power from entry by potential competitors. 34. Mancur Olson, Jr., The Logic of Collective Action: Public Goods and the Theory of Groups (Cambridge, MA: Harvard University Press, 1965). 35. Even there, powerful lawmakers may get involved in facilitating political exchanges to lower transaction costs. See Kenneth J. Koford, “Centralized Vote Trading,” Public Choice 39, no. 2 (1982), pp. 245–268. 36. This is an application of the Coase theorem, explained by Ronald H. Coase, “The Problem of Social Cost,” Journal of Law & Economics, 3 (1960), pp. 1–44. See also Randall G. Holcombe, “The Coase Theorem, Applied to Markets and Government.” The Independent Review 23, no. 2 (Fall 2018), pp. 249–266. 37. C.  Wright Mills, The Power Elite (New York: Oxford University Press, 1956), p. 3. 38. This is the main point of Mancur Olson, The Rise and Decline of Nations. See also Randall G. Holcombe, Political Capitalism: How Economic and Political Power Is Made and Maintained (Cambridge: Cambridge University Press, 2018) for a further discussion of the effects of cronyism. 39. Hunter Lewis, Crony Capitalism in America: 2008–2012 (Edinburg, VA: AC2 Books, 2013), p. 273. 40. Not everyone would agree that government is necessary to protect economic power. The Progressive view, discussed in Chapter 10, is that the

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proper role of government is to constrain economic power, while others argue that government is unnecessary and pernicious. See, for examples, Murray N. Rothbard, For a New Liberty: The Libertarian Manifesto (New York: Macmillan, 1973) and David D.  Friedman, The Machinery of Freedom: Guide to Radical Capitalism (Chicago: Open Court Publishing Company, 1973). 41. For a discussion and critical analysis of civil asset forfeiture laws, see Dick M. Carpenter II, Lisa Knepper, and Jennifer McDonald, Policing for Profit: The Abuse of Civil Asset Forfeiture, 2nd ed. (Arlington, VA: Institute for Justice, 2015). 42. This is discussed by Richard A.  Posner, “Taxation by Regulation,” Bell Journal of Economics and Management Science 2, no. 1 (Spring 1971), pp. 22–50. 43. Daron Acemoglu, “Why Not a Political Coase Theorem? Social Conflict, Commitment, and Politics,” Journal of Comparative Economics 31, no. 4 (December 2003), pp. 620–652. 44. This idea is developed by Daniel Kahneman and Amos Tversky, “Prospect Theory: An Analysis of Decision Under Risk,” Econometrica 47, no. 2 (March 1979), pp. 263–292. 45. Friedrich A. Hayek, The Road to Serfdom (Chicago: University of Chicago Press, 1944), ch. 10. 46. This is the theme of Geoffrey Brennan and James M.  Buchanan, The Reason of Rules: Constitutional Political Economy (Cambridge: Cambridge University Press, 1985). 47. Douglass C. North, John Joseph Wallis, and Barry R. Weingast, Violence and Social Orders: A Conceptual Framework for Interpreting Recorded History (Cambridge: Cambridge University Press, 2009). 48. Hans-Hermann Hoppe, Democracy: The God that Failed (New Brunswick, NJ: Transaction, 2001) advocates hereditary monarchy over democracy because the monarch, as residual claimant over the monarchy, has the incentive to maximize its value. 49. Daron Acemoglu and James A.  Robinson, The Narrow Corridor: State, Societies, and the Fate of Liberty (New York: Penguin Press, 2019). 50. Their importance is supported by Deirdre N.  McCloskey, Bourgeois Dignity: Why Economics Can’t Explain the Modern World (Chicago: University of Chicago Press, 2010) and Steven Pinker, Enlightenment Now: The Case for Reason, Science, Humanism, and Progress (New York: Viking, 2018).

CHAPTER 13

Progress and Power

Adam Smith begins The Wealth of Nations by saying that the productivity of the economy is the result of the division of labor. The remarkable progress that has occurred since Smith wrote in 1776 has only been possible because of the coordination of the different economic activities of individuals from all over the world. In all but the most primitive settings, most of what people consume is produced by others, and most of what they produce is consumed by others.1 An economic system coordinates the activities of people to enable this to occur. People’s activities are coordinated in two different ways: cooperation and control. People cooperate by choosing to work with each other to accomplish their goals. Trade is one way, but not the only way, that people cooperate. In other situations there is a hierarchy in which those higher in the hierarchy control the activities of those who are lower. Coordination occurs through cooperation and control. All societies coordinate activities through a combination of both cooperation and control. Even the cooperation that occurs through voluntary market exchange occurs within institutions where property rights are defined and enforced through government control. In the twenty-first century, when intangible property such as financial assets, patents, and copyrights have become increasingly important, government definition and protection of property rights has an increasingly larger impact on economic activity. For all goods, government definition and enforcement of property rights—government control—enables markets to work, so that © The Author(s) 2020 R. G. Holcombe, Coordination, Cooperation, and Control, https://doi.org/10.1007/978-3-030-48667-9_13

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people acquire goods through voluntary exchange rather than through theft and fraud. Exchanges are voluntary, but the enforcement of property rights that enables an exchange economy to work is imposed by government control. The remarkable economic progress that has occurred in the past several hundred years since the beginning of the Industrial Revolution stands in stark contrast with the economic history of the world before that time. Prior to the 1700s people would not have noticed any economic progress in their lifetimes. They would have consumed the same goods, produced the same way, and most people would have seen no improvement in their standard of living, which was close to subsistence. Scientific and technological advances certainly played a role in jump-starting economic progress, but the essential ingredient was a social change: the separation of economic from political power. Only recently have social scientists recognized the ability of institutions to generate a spontaneous order that enables people to interact productively with each other without any centralized plan.2 Friedrich Hayek called that order, accomplished by cooperation rather than control, a result of human action but not of human design.3 The cooperation that occurs through countless decentralized market exchanges produces an aggregate result that nobody planned, and that would be difficult for even the most insightful futurist to envision. The progress that has been produced by the decentralized decision-making by all individuals, each making their own plans, has been enabled by the separation of economic power from those who hold political power. Social scientists, including economists, have often underappreciated those institutions that enable cooperation rather than mandating control. For most of the twentieth century, many economists argued that central economic planning of the type used in the Soviet Union was more productive than the decentralized market economy in the United States.4 Philosophically, the ideas behind those centrally planned economies came from Karl Marx, but Marx was a critic of capitalism, and did not lay out a blueprint for the operation of an economy under communism.5 That void was eventually filled by academic economists who developed theoretical models that could be used to design and guide a socialist economy.6 Economic theory notwithstanding, the political leaders who pushed central economic planning were motivated by factors other than wanting to design an equitable and efficient economic system.

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As Friedrich Hayek pointed out, the economists who promoted central economic planning left out the very important aspect of the coordinating function of markets that produces economic progress: the coordination of all of the decentralized, often tacit, and often contradictory knowledge that is held by each individual in an economy.7 Economic models are always simplified depictions of reality. That is the purpose of the model.8 If reality could be understood on its own, without the model, the model would serve no purpose. But the economic models of both the critics and the supporters of central economic planning—the economics of control— had little to say about power relationships in a society. That remained the domain of political science. Twentieth-century economic analysis was often institution-free. It assumed that suppliers had the right to produce and sell the goods and services they were supplying, that buyers had the right to buy, and that the transfer of resources occurred through voluntary exchange, but without explaining how those rights came to be established and enforced. Twenty-­ first-­century economists are increasingly aware of the importance of institutions to economic prosperity,9 but still rarely look at the power relationships that create those institutions. The road toward implementing institutions that produce prosperity becomes clearer when one sees that the essential element is an institutional framework that allows people to exercise economic power independent of political power. While a substantial body of research identifies those institutions that facilitate prosperity, it has not drawn a clear connection between those institutions and power relationships. One consequence is that policy recommendations sometimes lean toward more government control over market activity, even among those who generally support free markets and limited government.10 The common element that links the individual components of market institutions and economic freedom with prosperity is that they separate the control of economic power from political power. As John Kenneth Galbraith said, a complete understanding of economics is not possible without taking account of power relationships.11

Looking Ahead: Prosperity or Calamity? Anyone living in the twenty-first century should be astounded at the remarkably high standard of living enjoyed by most people in the world, yet because this is the world people know by experience, it is easy to take the prosperity they enjoy for granted. Even among the poorest, extreme

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poverty has rapidly declined in the twenty-first century. When Thomas Robert Malthus published his Essay on Population in 1798, his thesis that population growth will always outstrip the growth of resources to support that population seemed very plausible, and to many in the twenty-first century still seems plausible.12 Jared Diamond’s 2005 book, Collapse, gives the same warnings, which Diamond explicitly recognizes have been wrong in the past—but says that just because those dismal projections did not materialize in the past does not mean they will not occur in the future.13 The Club of Rome published The Limits to Growth in 1972, which received substantial publicity at the time and projected a catastrophic decline in the world’s population in the mid-twenty-first century for just the reason Malthus cited—resources would no longer support the world’s growing population.14 A few years earlier, in 1968, Paul Ehrlich published The Population Bomb, with the same thesis: that population growth was outstripping resources available to support that population, leading to a “race to oblivion.”15 A century earlier, prominent economist William Stanley Jevons echoed Malthus and foreshadowed the Club of Rome with his book, The Coal Question, in which he foresaw an end to Britain’s economic progress because of the depletion of supplies of coal.16 Those books were all well-known and were taken seriously when they were published. While Malthus was observing the poverty he saw during his time in London, those later writers saw the remarkable economic progress that has occurred since Malthus wrote, but remained pessimistic about the future, for the same reason that Malthus was pessimistic. Resources to support a growing population are limited. But economist Julian Simon saw things differently and called people the ultimate resource. Simon argued that human creativity and innovation not only produced the sustained progress and prosperity that the world—those places in the world that had market economies—has enjoyed since Malthus wrote, but would continue to produce progress and prosperity in the future.17 Simon’s thesis echoed Adam Smith, who argued that the prosperity that came with the Industrial Revolution was the result of the division of labor, and that the division of labor is limited by the extent of the market.18 As markets expand, the division of labor increases, resulting in greater productivity and increased wealth. In principle, there is no limit to this process, as income growth expands markets, which results in a greater division of labor, which increases income, and so on into the future. Simon and Smith are not alone on their optimistic vision of the world’s economic

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future,19 but at the same time, there continue to be Malthusian arguments from educated people warning about harder times ahead because of unsustainable resource use. As Jared Diamond noted, just because those dismal forecasts have not been realized in the past does not mean they will not come true in the future. Whether prosperity or calamity lies ahead depends, at least in part, on the policies implemented by those who have political power. One only need revisit the Cold War ideological divide between capitalism and socialism to see the effects that different economic institutions can have on outcomes. Prosperity for the masses, something very recent in human history, has been the result of institutions that separate economic and political power. Those dismal forecasts could indeed materialize if institutions evolve to allow the recombination of political and economic power. Twenty-first-century Venezuela offers a dramatic example of the effect that a domination of economic power by political power can have on prosperity. Perhaps more ominously, those who forecast calamity ahead propose policies that would place economic power more under the control of political power.

Control over Factors of Production The history of power relationships shows that economic power—control over resources—is heavily dependent on the ability of people to gain control over factors of production. People increase their economic power through production and exchange. Through most of human history, exchange relationships were defined by those who held political power. In feudal societies, for example, exchange relationships were in-kind rather than through markets, with those at the bottom of the power hierarchy producing goods those above them consumed, in exchange for protection and security provided by those above. Economic relationships were based on control by those at the top of the hierarchy, which gave those at the top of the power hierarchy control over factors of production. Dividing factors of production into land, labor, capital, and entrepreneurship, in hunter-gatherer societies the key factor of production is labor. Political power gives its holders power over the actions of individuals, which extends to the labor of those individuals, so in hunter-gatherer societies political power also brought with it economic power. With little in the way of durable goods, the economic resources people were able to control consisted of labor and consumption goods, which were produced

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primarily with labor. Control of labor was control over all economic activity. While economic and political power were combined in hunter-gatherer societies, a check on the abuse of power is the ability of individuals to leave the society, and when they leave, take their economic power—their labor— with them. As Chap. 5 noted, while it might be difficult for single individuals to leave a society, it was common for hunter-gatherer societies to split, which provided a ready exit option in the event that a subset of the group thought that those who held power abused it. Nonetheless, economic, and political power are held by the same individuals, and the result when those two types of power are held by the same people is stagnation—an obvious characteristic of hunter-gatherer societies. The agricultural revolution that began about 10,000 years ago brought with it change in the relative significance of factors of production, and a corresponding change in power relationships. Agriculture ties individuals to the land, so the people who control the land also gain control over the people who are tied to it. Military power became more important, because individuals who had a comparative advantage in the use of force could use it to control land, and so gain control over those who occupied it. The exit option is less readily available in agricultural societies than in hunter-­ gatherer societies because people could not leave and take their land with them. The agricultural revolution gave those who had political power the ability to use is much more oppressively. Power became more difficult to escape, more absolute, and therefore more authoritarian. The agricultural revolution brought with it other changes in the acquisition of power and the value of power. In hunter-gatherer societies that live close to a subsistence level of income, there is little benefit to be gained from some groups to conquering and ruling over others because there is no surplus production they can confiscate for their own use. Groups may fight to eliminate competitors or chase them away, but there would be no value in conquest. The additional productivity of agricultural societies, coupled with people being tied to their land, makes it profitable for some to conquer and rule over others, which is not the case in pre-agricultural societies. While some people have more power than others in pre-­ agricultural societies, those societies did not have rulers in the same sense that agricultural societies had a ruling class. The growth of commerce made capital and entrepreneurship the more important factors of production, and while land is an immobile factor of production, capital and entrepreneurship are mobile. If those with

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political power attempt to confiscate them, they will vanish, either by moving to a different location or depreciating, in the case of capital, or lying inert in the case of entrepreneurship.20 Commerce gives rise to industry, because industry produces goods that can be traded. Commerce and industry rest on an institutional foundation that allows people without political power to accumulate economic power. This facilitated the Industrial Revolution, which has brought unprecedented progress to much of the world—that part of the world that has adopted institutions that separate political power from economic power. The rising importance of capital relative to land as the most significant factor of production has facilitated the separation of economic from political power, but has not guaranteed it. History shows that an evolution from pre-agricultural to agricultural to commercial society is not inevitable, and can be reversed. Once separated, there are forces that pull economic and political power to recombine which are rooted in the desire of people to acquire, maintain, and increase their power. Those with political power can use force to confiscate economic power, but at the risk of destroying its value. Those with economic power have an incentive to use it to buy favorable treatment from those who have political power. Both can benefit if they cooperate with each other for their mutual benefit. When they do so, this recombination of political and economic power undermines productivity in commercial and industrial societies. Despite the tendency for political and economic power to combine, commerce provides an opportunity for them to remain separated that does not exist in agricultural societies, because capital is mobile and land is not. Because trade brings with it mutual gain, people have an incentive to look for ways to cooperate with each other through exchange, and if commercial activity becomes eroded by political power in one area, there are incentives for entrepreneurial individuals to engage in commerce somewhere else. The prosperity that commerce brings with it provides an incentive for those with political power to protect commerce so they can collect increasing tribute from it—as long as they resist the temptation to plunder and thereby destroy it, and as long as they do not view those with economic power as a threat to their political power. Productivity increased so remarkably after the Industrial Revolution because commerce and industry make it more difficult for those with political power to maintain control over economic resources. The oppressive use of political power in commercial societies makes commerce and capital disappear, in contrast to agrarian societies in which the oppressive

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use of political power is more difficult to escape, giving those with political power greater ability to control economic power.

The Asian Century In the second half of the twentieth century, economic progress was most rapid in the Asian countries along the Pacific rim, leading some observers to envision that the twenty-first century would be “the Asian century.” Christopher Lingle writes, “Beginning in the early 1990s, the flood of references to an impending ‘Asian Century’ has prompted various responses. On the one hand, a mountain of statistical and anecdotal evidence has been offered to support the popular notion of steadily rising fortunes in East Asia. … On the other hand, an equally voluminous number of publications has heralded the demise and imminent collapse of the economies and the culture of the West.”21 Bold talk about the Asian century subsided after the Asian financial crisis in 1997, in which Thailand, Indonesia, and South Korea were among the countries that were hard-hit, but economic progress continued in the Pacific rim after that crisis. Those Asian tigers, as they are often called, represent major economic success stories. Many of those East Asian countries conform with the thesis that separating economic power from political power results in economic progress. The Fraser Institute’s Economic Freedom of the World index has consistently ranked Hong Kong and Singapore at the top of economically free countries,22 and both have prospered despite a lack of political freedom.23 China and India have both moved increasingly toward giving economic power more independence from political power since the late twentieth century, and have enjoyed increasing prosperity as a result.24 But Japan and South Korea are two Pacific rim countries that have prospered even as they have employed industrial policies that can be characterized as government oversight of their capitalist economies. At first glance, they seem to suggest that having economic power directed, or at least guided somewhat, by political power can result in substantial economic growth. Japan’s economy grew at an average of 10 percent a year during the 1960s, and South Korea grew at an average annual rate of 9.6 percent in the 1970s followed by 7.8 percent from 1980 through 1995.25 The industrial policy used by Japan and South Korea, often viewed as government management of economic development, clearly is a policy in which government favors some firms over others, so profitability depends

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in part on political connections. Those political connections were bought through bribes and other payments to the political elite in Japan, where Jacob Schlesinger draws a parallel between the post-World War II Japanese government and the political machines in US cities like New York and Chicago dating back to the 1800s.26 The story is much the same in South Korea, where David Kang describes the economic system during the period of rapid Korean development as crony capitalism.27 Industrial policy in both countries was a system of cronyism and corruption in which certain firms were given preferred access to credit, regulatory protection from competitors, and favorable access to inputs in exchange for their political support of the ruling elite. Corruption is, overall, undesirable, but in the face of inefficient institutions, bribes and other forms of corruption can sometimes open doors to allow efficient activity that otherwise would be prevented by inefficient institutions.28 The Fraser Institute’s initial Economic Freedom of the World study placed both Japan and South Korea in the middle group of nations for their economic freedom: not at the top, but also not among the worst in the index.29 Inflation was an issue in both countries, which lowered their rankings, but both countries had small governments as measured by government spending as a share of GDP. Government control over the economy did not extend to substantial government ownership or direct government control over resources. In economies characterized by cronyism and corruption, one threat is that those with political power will act as stationary bandits, maximizing their take from producers, but that did not happen in Japan and Korea. One possible reason in Japan is that political power was sufficiently institutionalized that those who held it were only able to extract resources to the extent that institutional constraints allowed. The political machine was based on institutions that would enable its long-term survival. Much like the nineteenth and twentieth century political machines in the United States, the time horizon built into strong institutions extends beyond the time horizon of the individuals who temporarily hold that power. Power was based on the socially ascribed rather than personal characteristics of those who held it. Powerful individuals were constrained by the institutions of the political machine, which depended for its long-term survival on efficient leadership by its present leaders. Checks and balances within the system prevent excessive extractive activities by those who presently hold political power.30

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South Korea is an interesting case, because rapid economic development began under the military dictatorship of Park Chung Hee, who held power from 1963 until he was assassinated in 1979. General Park acted as if he had a long time horizon, and he would have held power longer had he not been assassinated. The institutional constraints developed under his rule remained even as the political system democratized, allowing growth to continue. Economic policy in both Japan and South Korea was focused on government support for firms that could be competitive in international markets. This was facilitated in Japan because the economic elite came from firms that were trying to be globally competitive, and because there were no entrenched special interests that had the power to oppose the economic elite.31 Meanwhile, South Korea was extremely poor when General Park assumed power, so there was widespread support for economic development, and there were no strong economic interests that could oppose his focus on global competitiveness. Larry Westphal and Kwang Suk Kim document a host of Korean policies that subsidized exporting firms, but that restricted imports of consumer goods and artificially lowered the exchange rate to give exporting firms a competitive advantage in global markets, albeit by making goods more expensive for Korean consumers.32 In both cases, the firms they supported had already demonstrated the ability to compete in world markets. Industrial policy was not a matter of those in government trying to identify potentially successful firms, but rather providing additional support to those firms that were already successful. In the short run, these policies pay off because they give leading firms an even bigger lead. In both Japan and Korea, the political elite were sufficiently secure in their positions that their interests were focused on the long-run benefits they could gain from their power. The political elite includes not only those who are at the top of the hierarchy at any point in time but also those below them who maintain political institutions—in these cases, the political machine. The economic elite want to increase their economic power, which in both cases—for the benefit of the political elite and the economic elite—meant expanding their reach into global markets. The resulting economic growth increased the size of the economic pie, allowing both the economic and political elite to gain. There was some thought, in Korea in particular, that institutions were designed so that the bulk of the gains from economic growth were going

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to the elite and shortchanging the masses.33 The Korean economic miracle was built partly on the lower wages that Korean workers received relative to their global competition. That, coupled with regulatory and financial assistance to Korea’s large conglomerates, the chaebols, provided cost advantages to Korean firms that enabled them to expand, perhaps by limiting the gains to the Korean working class. One prerequisite for the coexistence of cronyism and progress is that those with power must be secure in their positions, so that they do not stand in the way of changes in the status quo.34 Those with political power considered their positions secure, especially during General Park’s regime in Korea, and those with economic power also had the security of support from those with political power to maintain their privileged status at home. But global competition meant that those with economic power, both in Japan and Korea, could not rest on preserving the status quo in international markets. They had to keep up with their global competitors, which they did at least in part through cost advantages given them by those with political power. Even so, over time, economic interests find themselves increasingly dependent on political favoritism, eventually leading to an economic slowdown.35 Those with economic power want to leverage it to create barriers to entry for possible domestic competitors. Japan’s remarkable economic growth slowed dramatically in the 1990s, leading observers to refer to the 1990s as Japan’s lost decade. Economic growth in South Korea has slowed in the twenty-first century, suggesting that policies that led to the jump-­ starting of those economies may not be sustainable in the long run. Spurring growth by supporting those firms that are already successful can work in the short run, as both Japan and South Korea demonstrated, but in the long run stands in the way of new entrepreneurial firms that have to compete against firms that receive government support.36 Meanwhile, policies that favor the economic and political elite create resentment among the masses, who argue that they are the ones who have worked to create prosperity but the elite are the ones reaping the rewards. This has led to a political backlash, especially in Korea, where there has been a movement supporting policies resembling the European welfare states.37 The Asian tigers provide some evidence that economic progress can occur along with cronyism and corruption, which is surely more the case in twenty-first-century China than in either Japan or South Korea. In these cases those with political power are not controlling those with

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economic power, but rather have a system of mutual support. That system enables economic progress, in particular when nations have an advantage of low-cost labor and can grow based on technology borrowed from more advanced economies. Those advantages eventually run out, however, and entrenched economic interests prevent new entrepreneurial firms from emerging.

Georgia, Venezuela, and Other Examples Two straightforward examples of the effects of political and economic power are found in the Republic of Georgia and Venezuela.38 Georgia was a part of the Soviet Union until that union dissolved in 1991, making Georgia an independent nation. As was the case with many of the former Soviet Republics, Georgian politics was dominated by people who held power in the former Soviet Union, and the continuation of that power structure led to cronyism and corruption. The president of Georgia from 2000 to 2003, Eduard Shevardnadze, Minister of Foreign Affairs in the Soviet Union from 1985 until the union’s dissolution in 1991, was deposed in 2003 after claims of fraud in Georgia’s parliamentary elections, and Mikheil Saakashvilli was elected president in 2004. The Saakashvilli government rapidly eliminated corruption, separated economic power from the grip of political power, and Georgia began a decade of remarkable economic growth. A major part of President Saakashvilli’s reform was deregulation. Under the former regime, corruption and bribery of government officials was required to navigate the government’s regulatory apparatus. Elimination of regulation eliminated that source of corruption. He also fired all of the traffic police, who had a reputation for extorting citizens by demanding bribes to avoid legal charges. The tax code was simplified, and Georgia’s taxes on income, including all payroll taxes, fell from 33 percent to 20 percent. Georgia went from 56th highest in the Fraser Institute’s Economic Freedom of the World Index in 2004 to eighth in 2017—a remarkable turnaround.39 The separation of political power from economic power transformed the Georgian economy from stagnation to progress. While that increasing prosperity was evident, Saakashvilli lost his election in 2013, partly because of opposition claims of cronyism in his government. Without passing judgment on those charges—because Georgians themselves have divided opinions—it may be that once in power, even those

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who use their power for productive reforms are tempted to use it for the benefit of their comrades as time goes on.40 The evidence from Venezuela shows what happens when change goes in the other direction. Once one of the most prosperous Latin American nations, Venezuela elected socialist President Hugo Chavez in 1999, an office he held until his death in 2013. Chavez oversaw the adoption of a new constitution in 1999, nationalized many industries, and expanded the government’s regulatory powers. The extension of political power to control economic power led to declining income, shortages of goods, and rampant inflation. Venezuela ranked tenth in the Fraser Institute’s Economic Freedom of the World Index in 1970, and fell all the way to last place by 2017, and its economic decline has followed its decline in the index.41 Taking that index as a good measure of the separation of economic power from political power, in these two contrasting cases, when in Georgia economic power was released from the control of political power, stagnation turned to progress; in Venezuela, when political power was used to control economic power, progress reverted to stagnation. The two most dramatic examples of this contrast are Germany and Korea, following World War II. Both nations were divided, forming East Germany and North Korea that had centrally planned economies in which those with political power directed the allocation of resources, and West Germany and South Korea that relied primarily on markets to allocate resources. The market economies thrived while the government-planned economies withered. While it is true, as the previous section noted, that the South Korean government did play a substantial role in its economy, that role was oriented toward reinforcing market successes rather than government planning of economic activity. Using the Fraser Institute’s Index of Economic Freedom as a measure of the degree to which people are able to exercise economic power independent of political power, nations that score higher on that index are consistently more prosperous than those with lower scores.42 Britain provides another example of the effects of political control over economic power. Following World War II, Britain’s government exercised increasing control over its economy, nationalizing many industries so that the government sector of the economy, including publicly owned firms in steel, automobiles, oil, and other industries, rose to nearly 60 percent of Britain’s GDP. Britain’s progressive income tax rates rose to as high as 98 percent for income from capital, and economic growth slowed to the point where Britain was being referred to as “the sick man of Europe.” A

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reversal in Britain’s decline began in 1979 when Margaret Thatcher rose to become Prime Minister. Thatcher oversaw the privatization of government corporations, a substantial reduction in tax rates, an end to “closed shop” rules that required workers to join labor unions, and as a result, a substantial reduction in the ability of those with political power to control economic power. Britain’s economy went from stagnation to progress. India offers another example. After its independence in 1947, the preamble to India’s constitution begins, “We, the People of India, having solemnly resolved to constitute India into a Sovereign Socialist Secular Democratic Republic…” and the newly independent nation followed through by exercising substantial political control over economic power— preventing foreign direct investment, maintaining price controls, restricting imports, and shielding small firms from competitive pressures. Firms were issued government licenses to produce, and producers who exceeded their quotas were subject to imprisonment. The government nationalized 14 banks in 1969 and another six banks in 1980. Meanwhile, more than half of India’s citizens were living in poverty. Around that time, India began a gradual retreat from government control over the economy, allowing firms to increase output and encouraging more private investment, and India’s economic growth increased as a result. India progressed from stagnation to become one of the world’s fastest-growing economies by the beginning of the twenty-first century. Israel provides another example. Created as an independent nation in 1948, its agricultural sector was organized as collective farms—kibbutzim—where there was no private property, and where any money earned outside the kibbutz was given to the group. Most non-agricultural workers had state-guaranteed jobs, and almost all workers were unionized. The government controlled housing, health care, transportation, banking, and education. Initially, the system worked well, but a recession in 1965 began a period of stagnation and rising inflation, which led to a change in 1977 away from political control over economic power. Reform proceeded slowly, partly aided by US government support in the 1980s. By the beginning of the twenty-first century, economic growth took off as market institutions replaced government controls. In Georgia, in Britain, in India, and in Israel, when economic power became more independent of political power, stagnation gave way to progress. In Venezuela, when those with political power used it to confiscate economic power, progress turned into stagnation.

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In the twentieth century, economists debated the merits of central economic planning relative to allowing markets to allocate resources. This debate, known as the socialist calculation debate, was initiated by Ludwig von Mises, who argued that rational economic planning requires markets and market prices, so central economic planning is doomed to fail.43 In response, a number of economists offered models to show how central economic planning can work.44 The socialist calculation debate, seen in the context of this book, is about whether economies perform better when economic power can be exercised independently of political power or whether the control of economic power by political power leads to better economic performance. While the end of the Cold War around 1990 appeared to answer that question for some,45 the idea that economic power should be controlled by political power retains popular appeal into the twenty-first century.

Political Stability and Progress Political stability is a prerequisite for progress for two reasons. Instability creates uncertainty about future regimes and future institutions, which discourages people from making long-term investments. Productivity suffers when people are uncertain about whether they will be able to profit from what they produce. A second reason, more closely related to the analysis in this volume, is that stable political institutions create the incentive for those with political power to protect the productivity of those who have economic power. Political instability shortens the time horizons of those who have political power, giving them an incentive to plunder while they can rather than cultivate long-term productivity. When political leaders have long time horizons, they have the incentive to encourage institutions that support economic growth.46 At first glance, monarchy or dictatorship would seem to be the political systems that best satisfy the stability criterion, because those at the top of the political hierarchy remain there.47 But history shows that those at the top of the hierarchy in these types of governments often feel insecure enough that they devote resources toward maintaining their positions in the hierarchy rather than encouraging progress, which may destabilize the political hierarchy.48 Progress would give additional power to those who might challenge the sovereign. As an example, Kim Jong-un, who took power as the hereditary supreme leader of North Korea in 2011, has been

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insecure enough in his position that he had both his uncle and his half-­ brother killed to prevent them from threatening his power. Political stability requires stable institutions in which people gain political power through their socially ascribed characteristics—through the positions they hold—rather than through their personal characteristics. If political power goes with the person rather than with the position, the simple fact that people have finite lives creates a source of instability. A transition will have to occur. When power goes with the person, as with Adolf Hitler, Josef Stalin, Vladimir Putin, and Kim Jong-un, the preservation of their personal power becomes paramount and political power dominates economic power. Institutions erode when personal power displaces institutional power. When power goes with the position rather than the person, as in Western democracies, the powerful have the incentive to build institutional power rather than personal power. In the United States, for example, individuals in Congress can increase their power by improving their committee assignments, gaining seniority, and getting elected to higher office. Their incentive is to gain power by moving up within the institutions already in place rather than (or maybe in addition to) making their current positions more powerful. At the top of the hierarchy, those who are elected president know that they can exercise that institutional power for only two terms at most, so they know going in that after a decade, their institutional power will be handed off to someone else. The people who hold positions of power will change. The stability of the status quo is in the institutions, not in the people who hold those positions of institutional power. Augusto Pinochet in Chile and Park Chung Hee in South Korea offer examples of military dictators who, unlike Putin and Kim, appeared secure enough in their holds on power that they protected and encouraged the development of economic power. History shows that there is not a simple rule that describes the form of government that enables the separation of economic power from political power. But Pinochet and Park notwithstanding, it appears that dictators are often more concerned about maintaining their personal positions at the top of the hierarchy rather than letting progress upset the status quo. From a personal standpoint, they will be well taken care of as long as they can maintain their positions, even if the masses do not fare well. The stable democracies in the United States and Western Europe show that stability in power means the stability of the political elite as a group rather than the stability of any one individual’s power. Presidents and

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prime ministers need the support of parliaments and legislatures to retain their positions, and members of the political elite tend to retain their elite status. Reelection rates for members of Congress in the United States (and for state legislators) are very high—an example of the overall stability of the political elite. But they still must be reelected, providing a check on their ability to abuse their powers. When those who hold political power find their positions in the hierarchy threatened, their incentives are to preserve their positions in the hierarchy—that is, to preserve the status quo. In the extreme, that may mean killing rivals, as Kim Jong-un has done, partly to eliminate those rivals and partly to send a message about possible consequences to others who might challenge the hierarchy. Those with political power seek security and certainty in their holds on power. If they feel secure, they have an incentive to enact policies that increase the welfare of everyone, because their shares also grow. If they feel insecure, institutions may be stable, but in a way that protects the political hierarchy rather than protecting economic power. Emphasizing that institutional stability is important, when stable institutions enforce transitions in power—elections and term limits are examples—those who hold power must work within those institutions to retain their power. Institutional power trumps individual power. Should individuals feel powerful enough themselves to challenge institutions like elections and term limits, the institutional constraints break down, leading to the domination of political power and as a result, stagnation.

The Division of Power When the same people who hold economic power hold political power, the incentives to maintain political power dominate economic incentives. This is just as true whether those who hold political power confiscate economic power or if those who hold economic power are able to gain political power. Those with economic power want to maintain and increase it, and without political power that means being entrepreneurial to profit through voluntary exchanges. But if they also hold political power, they will use it to prevent others from creating new economic power that might displace existing holders of economic power. As Schumpeter noted, the creative destruction that accompanies economic progress threatens to undermine the economic power of those who currently hold it, replacing it with new economic power generated by entrepreneurs who disrupt the status quo. So, Schumpeter goes on to

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observe, those with economic power try to use the political process to provide targeted benefits to themselves—subsidies, targeted tax cuts, regulatory barriers to entry, tariffs on foreign production—to solidify their positions in the economic hierarchy, rather than promoting free markets and competition. Those with economic power want to stifle competition, not encourage it. If those who have economic power are the same people who have political power, the powerful will have the ability to use the force of government to prevent economic rivals from emerging, and history shows that they do just that. Progress occurs when those with political power protect the economic power of those who have it, not when those who have economic power acquire political power. When those with economic power acquire political power, they are more motivated to maintain their positions on the power hierarchy than to try to increase their wealth.49 The progress that has occurred since the beginning of the Industrial Revolution has been facilitated by a division of power that has enabled elites with different types of power to check and balance abuses of power. While military power has been subordinated to political power, abuse of political power can result in those with military power using it to take over political power. Those with religious power provide some check on other types of power, although the influence of religious power has been fading for hundreds of years, as scientific understanding has replaced divine intervention as an explanation of events. Different types of power check and balance each other. Public policy is designed and controlled by an elite few, so the masses are not in a position to check the power of the elite. The masses fare best when some elites use their power to check and balance the power of others. In this context, the separation of economic from political power is an important determinant of the well-being of the masses. Checks and balances are typically discussed in the context of government, but economic and political power can also check and balance each other. Progress occurs when political power protects economic power, but is prevented from confiscating it. Progress occurs when those with economic power can use it to engage in mutually advantageous exchanges with others, but cannot use it to force people into transactions, or use it to prevent others from engaging in exchanges. People who have no power are not in a good position to check the power of those who have it, which means that the masses are not in a good position to check the power of the elite.50 As a result, democratic oversight

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of government power is unlikely to be an effective check on the abuse of government power. Effective checks on power come from others who have power and jealously guard it. This idea is embodied in the three branches of government outlined in the Constitution of the United States, but a separation of economic from political power is also crucial, although rarely explicitly recognized. The Enlightenment ideas of the seventeenth and eighteenth centuries were instrumental in creating an institutional structure that has enabled the progress that has occurred since then.51 The twenty-first-century challenge is to keep those ideas alive.

Concluding Remarks The ideas developed here are on the one hand familiar, as shown by the substantial list of references that have discussed various aspects of these issues already, but on the other hand, are presented looking through the unfamiliar lens of power. Economists in particular, while they have analyzed the implications of market power, have not paid as much attention to power as representing the control over resources, and have paid almost no attention to the exercise of political power that is necessary for markets to function. Markets operate through voluntary and mutually advantageous exchange, but for such exchanges to occur, there must be a mutual recognition that individuals have the right to exchange the goods and services they are offering. There also must be a mechanism in place to enforce those rights. Government performs these functions. Rights are defined and protected by those who have political power. Economists almost always just assume that rights exist, with no explicit recognition that those who have political power use the force of government to define and enforce them. The most important conclusion that emanates from this analysis is that when the same people hold both political and economic power, the result is stagnation, and when those who hold economic power are not the same people who hold political power, the result is progress. The merits of a free market economy have long been recognized—by Adam Smith, by Friedrich Hayek, by Milton Friedman, and so many more—but with an orientation toward the appropriate role of government in a market economy rather than with a direct reference to a separation of political from economic power. Viewing these ideas through the lens of power focuses attention on the threats to progress and prosperity. Those who have economic power alone must rely on the cooperation of others to advance

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their interests, and they are dependent on those who have political power to protect their economic power. Those who have political power are able to use it to control others, regardless of whether those others agree. The focus on power points toward the importance of commerce and industry in facilitating the separation of economic from political power. Commerce and industry raise the importance of capital as a factor of production relative to land and labor. Commerce and industry are more than just economic activities that create wealth. They are also economic activities that have the potential to check the abuse of political power. Because capital depreciates, and because it is mobile, economic power has a better chance of escaping the control of political power in commercial and industrial societies, and this is even more true when one considers the importance—and mobility—of entrepreneurship. In commercial and industrial societies, those with political power do best in the long run by protecting economic power rather than plundering it. In exchange for that protection they collect tribute, and progress leads the amount of tribute they can collect to increase over time. The Industrial Revolution was more than just an economic revolution. It was also a constraint on the exercise of political power. Its impact on economic institutions has been widely recognized; its impact on political institutions has been mostly overlooked. The focus on power also points toward reasons why, when those two types of power are separated, they have a tendency to recombine. Because political control is based on force, those who have political power can use it to confiscate economic power. But more insidiously, those who have economic power can buy the cooperation of those who have political power, so those two types of power recombine as a result of the cooperation of the political and economic elite. While the proponents of free market economies see the threat of confiscation by those with political power, as happened in Russia in 1917, in Cuba in 1959, and in twenty-first-­ century Venezuela, economic freedom is being eroded from within by cronyism and corruption. A look through history shows that in some cases when economic and political power were held by the same people, they separated as institutions allowed people with no political power to gain economic power. In other cases, when economic power was separated from political power, the two recombined. One reason for optimism that they might remain separated is that as commerce and industry become increasingly important, economic power can more easily escape the control of political power. But

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history shows that there is no inevitable end state toward which the institutions of power are converging. While mobility of factors of production has been an important facilitator of the separation of political from economic power, perhaps the most important facilitator is public opinion. Public opinion, in turn, is shaped by the producers of ideas. In his concluding remarks in his General Theory, John Maynard Keynes said, “the ideas of economists and political philosophers, both when they are right and when they are wrong, are more powerful than is commonly understood. Indeed the world is ruled by little else.”52 The Enlightenment ideas of John Locke, David Hume, Adam Smith, and others laid the foundation for the Industrial Revolution and the economic progress that followed. The ideas of Karl Marx had a profound influence throughout the world in the twentieth century and into the twenty-first. Keynes’s ideas were very influential, as were the ideas of Friedrich Hayek and Milton Friedman. But, as Keynes observed, ideas can be very influential even when they are wrong. This volume reinforces a substantial academic and popular literature that supports free markets as the driver of progress and prosperity. That literature emphasizes protection of property rights and rule of law as the foundation for a market economy, but those prerequisites happen when economic power can be held and exercised independently of political power.

Notes 1. This is even true in hunter-gatherer economies of the type discussed in Chap. 5, where through pooling or reciprocity, people consume what others produce and others consume what they produce. 2. Ludwig von Mises, Human Action: A Treatise on Economics, Scholar’s Edition (Auburn, AL: Ludwig von Mises Institute, 1998) begins his treatise by saying “Economics is the youngest of the sciences,” and explaining that it was only in the past few hundred years that people began to understand that there are laws that govern social interaction, just as there are physical laws. 3. See, for examples, Friedrich A. Hayek, Individualism and Economic Order (London: Routledge and Kegan Paul, 1944) and Studies in Philosophy, Politics, and Economics (Chicago: University of Chicago Press, 1967). 4. See, for example, Paul A.  Samuelson, Economics, 9th ed. (New York: McGraw-Hill, 1973), p. 883. Samuelson, a Nobel laureate in economics, says that while the per capita income in the Soviet Union was about half

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that of the United States, because the Soviet Union had a more efficient economic system of central planning, its economic growth was greater, and Samuelson projects that because of that, the Soviet Union would catch up to the United States in per capita income perhaps as soon as 1990 and almost surely by 2010. Samuelsson’s ideas on central economic planning were well within the mainstream in the 1970s. 5. Marx’s biggest scholarly work, Capital (Chicago: Charles H.  Kerr & Company, 1906), was entirely an analysis of capitalism, explaining how capitalism is able to exploit labor. When Lenin took charge of the Soviet Union after the 1917 revolution, he had no guidance from the works of Marx on how to implement a socialist economy. 6. See, for examples, Oskar Lange and Fred M.  Taylor, On the Economic Theory of Socialism (Minneapolis, MN: University of Minnesota Press, 1938) and Abba Lerner, The Economics of Control: Principles of Welfare Economics (New York: Macmillan, 1946). Other economists might be mentioned who offered guidance to central planners, but these works are good illustrations because they so clearly base their analysis on mainstream economic thinking. 7. Friedrich A.  Hayek, “The Use of Knowledge in Society,” American Economic Review 35 (1945), pp. 519–530. Along these lines, see Randall G. Holcombe, Producing Prosperity: An Inquiry Into the Operation of the Market Process (London: Routledge, 2013), which owes a substantial debt to Hayek’s insights. 8. This idea is discussed further in Randall G. Holcombe, Economic Models and Methodology (New York: Greenwood Press, 1989). 9. One leading scholar in this regard is Daron Acemoglu. See, for example, Daron Acemoglu and James A. Robinson, Why Nations Fail: The Origins of Power, Prosperity, and Poverty (New York: Crown Business, 2012). But Acemoglu is pessimistic that the institutions he recommends can be implemented, as he explains in “Why Not a Political Coase Theorem? Social Conflict, Commitment, and Politics.” Journal of Comparative Economics 31, no. 4 (December 2003), pp. 620–652. 10. See, for example, Richard A.  Posner, “The Chicago School of Antitrust Analysis,” University of Pennsylvania Law Review 127, no. 925 (1979), pp. 925–948. 11. Galbraith was more forceful in his statement quoted at the beginning of Chap. 1: Economics divorced from consideration of the exercise of power is without meaning and certainly without relevance. 12. Thomas Robert Malthus, An Essay on the Principle of Population (London: J. Johnson, 1798). 13. Jared Diamond, Collapse: How Societies Choose to Fail or Succeed. New York: Viking, 2005), pp. 509–511.

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14. Donella H. Meadows, Dennis L. Meadows, Jorgen Randers, and William W Behrens III, The Limits to Growth (New York: Universe Books, 1972). 15. Paul R. Ehrlich, The Population Bomb (New York: Ballantine Books, 1968). 16. William Stanley Jevons, The Coal Question: An Inquiry Concerning the Progress of the Nation, and the Probable Exhaustion of Our Coal Mines (London: MacMillan, 1865). 17. Julian L.  Simon, The Ultimate Resource (Princeton, NJ: Princeton University Press, 1981). 18. Adam Smith, An Inquiry Into the Nature and Causes of the Wealth of Nations (New York: Modern Library, 1937 [orig. 1776]). 19. See, for examples, David S.  Landes, The Wealth and Poverty of Nations: Why Some Are So Rich and Some So Poor. (New York: W.W. Norton, 1998) and Joel Mokyr, The Lever of Riches (Oxford: Oxford University Press, 1990), which credit the emergence of market capitalism as the source of economic progress. 20. An elaboration of this idea is found in Richard B. McKenzie and Dwight R.  Lee, Quicksilver Capital: How the Rapid Movement of Wealth Has Changed the World (New York: Free Press, 1991). 21. Christopher Lingle, The Rise and Decline of the Asian Century: False Starts on the Path to the Global Millennium (Barcelona: Editions Sirocco, 1997), p. 1. 22. James Gwartney, Robert Lawson, and Joshua Hall, Economic Freedom of the World 2018 Annual Report (Vancouver, BC: Fraser Institute, 2018). 23. Christopher Lingle, Singapore’s Authoritarian Capitalism: Asian Values, Free Market Illusions, and Political Dependency (Fairfax, VA: Locke Institute, 1996), comments on Singapore’s lack of political freedom and suggests that its authoritarian government will run into citizen resistance in the twenty-­first century. Hong Kong was a British colony up through 1997, when its governance was transferred to China. 24. Still, corruption is rampant in China. See Minxin Pei, China’s Crony Capitalism: The Dynamics of Regime Decay (Cambridge, MA: Harvard University Press, 2016). 25. These figures are from Lingle, The Rise and Decline of the Asian Century, p. 2. 26. Jacob M. Schlesinger, Shadow Shoguns: The Rise and Fall of Japan’s Postwar Political Machine (Stanford, CA: Stanford University Press, 1999). See also Steven R. Reed, “Political Corruption in Japan,” International Social Science Journal 48, Issue 149 (September 1996), pp. 395–405 for a discussion of rampant corruption in the post-World War II Japanese government. 27. David C. Kang, Crony Capitalism Corruption and Development in South Korea and the Philippines (Cambridge, UK: Cambridge University Press, 2002). See also Mark L. Clifford, Troubled Tigers: Businessmen, Bureaucrats and Generals in South Korea (London: Routledge, 1994).

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28. Andrei Schleifer and Robert W. Vishny. “Corruption,” Quarterly Journal of Economics 108, no. 3 (1993), pp. 599–617. 29. James Gwartney, Robert Lawson, and Walter Block, Economic Freedom of the World: 1975–1995 (Vancouver, BC: Frasier Institute, 1996), p. 64. 30. Daron Acemoglu and James A. Robinson, Why Nations Fail: The Origins of Power, Prosperity, and Poverty (New York: Crown Business, 2012) conclude that nations fail because they have extractive institutions rather than inclusive institutions. 31. As Mancur Olson, The Rise and Decline of Nations (New Haven: Yale University Press, 1982) explains, one effect of World War II was to break up the pre-war political interests in Japan, which limited the power of individuals to seek political favors. 32. Larry E. Westphal and Kwang Suk Kim, “Industrial Policy and Development in Korea,” in Bela Balassa, Ed., Development Strategies in Semi-Industrial Economies (Baltimore: Johns Hopkins University Press, 1982), pp. 212–279. 33. This is discussed in Randall G.  Holcombe, “South Korea’s Economic Future: Industrial Policy or Economic Democracy?” Journal of Economic Behavior & Organization 88 (April 2013), pp. 3–13. 34. Daron Acemoglu, “Why Not a Political Coase Theorem? Social Conflict, Commitment, and Politics,” Journal of Comparative Economics 31, no. 4 (December 2003), pp. 620–652, says that this is the reason why those with political power in nations with poor institutions resist institutional improvements. 35. Olson, The Rise and Decline of Nations, makes this argument. 36. Young Back Choi, “Industrial Policy as the Engine of Economic Growth in South Korea: Myth and Reality,” in Peter J. Boettke, ed., The Collapse of Development Planning (New York: New  York University Press, 1994), pp. 231–255, argues that industrial policy was not the primary driver of South Korea’s economic miracle. A similar argument is made by Jungho Yoo, “Myth About Korea’s Rapid Growth,” presented at the International Conference on Institutions and National Competitiveness, Seoul, Korea, August 2009. 37. See Randall G.  Holcombe, “South Korea’s Economic Future: Industrial Policy or Economic Democracy?”. 38. The recent history of both of these countries is covered in Benjamin Powell and Robert Lawson, Socialism Sucks: Two Economists Drink Their Way Through the Unfree World (Washington, DC: Regnery Publishing, 2019). 39. Powell and Lawson, Socialism Sucks, pp. 109–111. 40. My information on the divided opinions of Georgians comes from talking with Georgians about their government. I visited Georgia six times from 2012 to 2017 to teach seminars on economics.

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41. Powell and Lawson, Socialism Sucks, p. 21. 42. James Gwartney, Robert Lawson, and Joshua Hall, Economic Freedom of the World 2018 Annual Report (Vancouver, BC: Fraser Institute, 2018). 43. Mises fist made this argument in German shortly after the Russian revolution that created the Soviet Union in 1917. It was translated into English as Socialism (New Haven, CT: Yale University Press, 1951). 44. See, for examples, Oskar Lange and Fred M.  Taylor, On the Economic Theory of Socialism (Minneapolis, MN: University of Minnesota Press, 1938) and Abba Lerner, The Economics of Control: Principles of Welfare Economics (New York: Macmillan, 1946). 45. For examples, Robert L. Heilbroner, “The Triumph of Capitalism,” The New Yorker (January 23, 1989), pp. 98–109, and Francis Fukuyama, The End of History and the Last Man (New York: Free Press, 1992). 46. Margaret Levi, Of Rule and Revenue (Berkeley: University of California Press, 1988) and Mancur Olson, Jr., Power and Prosperity: Outgrowing Communist and Capitalist Dictatorships (New York: Basic Books, 2000) are examples. 47. See, for example, Hans-Hermann Hoppe, Democracy: The God that Failed (New Brunswick, NJ: Transaction, 2001). 48. Acemoglu, “Why Not a Political Coase Theorem?” says this is the case. 49. Robert H. Frank, Luxury Fever: Weighing the Cost of Excess (Princeton, NJ: Princeton University Press, 2000) concludes that once people’s basic necessities are secured—food, clothing, and shelter—they evaluate their well-being relative to how well off they are compared to their peers. If this is the case, those at the top of the political hierarchy will have little desire to improve their material well-being. They are already doing better than everyone else. 50. Daron Acemoglu and James A.  Robinson, The Narrow Corridor: State, Societies, and the Fate of Liberty (New York: Penguin Press, 2019) present a different view, which is that a strong civil society not only can check the power of strong government, but is necessary to check the power of strong government. 51. The importance of Enlightenment ideas is emphasized by Deirdre N.  McCloskey, The Bourgeois Virtues: Ethics for an Age of Commerce (Chicago: University of Chicago Press, 2006) and Steven Pinker, Enlightenment Now: The Case for Reason, Science, Humanism, and Progress (New York: Viking, 2018). 52. John Maynard Keynes, The General Theory of Employment, Interest, and Money (New York: Harcourt Brace and Company, 1936), p. 383. Also on this theme, see Dani Rodrik, “When Ideas Trump Interests: Preferences, World Views, and Policy Innovations,” Journal of Economic Perspectives 28, no. 1 (Winter 2014), pp. 189–208.

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Index1

A Abdey, J.T., 136, 140 Acemoglu, Daron, 30, 38, 65, 75, 80, 86, 160, 186, 220, 273, 275, 302n9 Advertising, 14, 54, 55, 140 AFL-CIO, 31 Age of Reason, 226–228 Agricultural revolution, 95, 123–133, 143, 161, 194, 286 Amsterdam, 176, 178 Apple Computer, 258–259 Arbitration, 206, 207 Ashton, T.S., 180 Asian tigers, 288, 291 Ault, Norman, 111, 128 B Babylonia, 154, 171 Bartels, Larry M., 93n22, 144n14 Basu, Kaushik, 4, 8, 10–12, 19n16, 132, 194

Batchelder, Ronald W., 215n11 Bator, Francis M., 68n29 Baumol, William J., 40 Belgium, 176 Benson, Bruce L., 156, 206 Bentley, Arthur F., 93n22, 144n14 Bentley, Jerry H., 217n29 Beretta, 241 Berle, Adolf, 7, 19n12, 25, 26 Besley, Timothy, 131 Boehm, Christopher, 108, 109, 130 Boulding, Kenneth E., 6–8, 46 Bowles, Samuel, 97, 104 Brennan, Geoffrey, 93n28, 229, 276n9 Bryant, Bear, 200 Bubonic plague, 160 Buchanan, James M., 68n30, 196, 215n10, 220, 221, 224, 225, 229, 230, 236n13 Buffett, Warren, 71, 72

 Note: Page numbers followed by ‘n’ refer to notes.

1

© The Author(s) 2020 R. G. Holcombe, Coordination, Cooperation, and Control, https://doi.org/10.1007/978-3-030-48667-9

321

322 

INDEX

C Cameron, Rondo, 97, 110 Campbell, Bruce M.S., 156, 160, 161, 179 Capital, depreciation of, 64, 85, 128, 129, 152, 153, 165, 185, 186, 287, 300 Caplan, Bryan, 30 Carnegie, Andrew, 2, 247 Carolingian Europe, 136 Carter, Jimmy, 22 Castro, Fidel, 22 Chakraborty, Rabindra Nath, 103, 104, 114 Chavez, Hugo, 152, 293 Checks and balances, 24–26, 87–88, 202, 274, 275, 289, 298 Chicago, 289 Chile, 296 China, 132, 152, 154, 155, 171, 185, 288, 291, 303n23, 303n24 Choi, Young Back, 304n36 Circular reference, see Reference, circular Cities, development of, 158 Cities, medieval, 141 Civil asset forfeiture, 271, 272, 279n41 Civil service, 250 Clayton Act, 248 Climate, 160, 161 Clinton, Bill, 259 Club of Rome, 284 Coase, Ronald H., 42n21, 145n16, 190n58, 278n36 Coercion, 3, 5, 6, 10–13, 24, 25, 32, 34–38, 70, 108, 118n10, 124, 128, 177, 226, 264 Cohen, Ronald, 108 Cold War, 88, 241, 256, 285, 295 Common law, 164, 168n45, 183, 206, 207

Commons, John R., 47 Commons, privatization of, 173 Communism, 49, 50, 142–143, 282 Competition, in markets and politics, 62 Congleton, Roger D., ix, 164, 230, 253n7 Constitution of the United States, 87, 210, 275, 299 Croly, Herbert, 254n15 Cuba, 65, 152, 198, 271, 300 Customs duties, 157 D Dahl, Robert, 5–7, 23 Day, John, 189n26 de Jouvenel, Bertrand, 14, 15, 21, 27, 28, 97 de Soto, Hernando, 48 Declaration of Independence, 223, 246 Demsetz, Harold, 188n3 Descartes, Rene, 227, 241 Detroit, Michigan, 198, 216n21 Diamond, Jared, 97–99, 111, 160, 161, 284, 285 Diamond traders, 101 Douglas, Mary, 103, 104, 107, 109, 110 Downs, Anthony, 29, 86, 260 Dunbar, Robin I.M., 106, 116 Dunbar’s number, 106, 111, 112, 126, 130, 197, 216n17 E East India Company, 178 Economic freedom, 53–54, 231–233, 237n25, 256, 283, 289, 293, 300 Economic power confiscation of, 198, 271

 INDEX 

definition of, 4–6, 8, 46, 47, 49, 52, 53 egalitarian nature of, 72 Economics, neoclassical, viii, 51–53, 58, 166n1 Edelman, Murray, 43n32, 94n35, 254n13 Ehrlich, Paul R., 284 Electric utilities, 6, 19n9 Engels, Friedrich, 31, 142 Enlightenment, viii, 33, 35, 36, 226, 227, 240–246, 249, 250, 252, 253n5, 275, 276, 299, 301, 305n51 Envy, 108 Ethanol, 7, 267, 268 Exit, as a check on power, 116, 130, 151, 165, 244, 286 Expressive voting, 93n28 F Factors of production, and political power, 2, 64, 84 Feudalism, 10, 132, 135–137, 142, 143, 154, 158, 159, 172, 184 Financial assets, 47, 65, 115, 117, 159, 162, 163, 185, 232, 281 Florence, 173, 175 Foldvary, Fred, 188n3, 217n30 Ford, Henry, 91, 103, 115 Ford, William Clay, Jr., 103 Forde, Darull, 103, 104, 107, 109 Frank, Robert H., 54, 55 Fraser Institute, 53, 54, 231, 233, 237n25, 288, 289, 292, 293 Free riders, 12, 34, 39, 43n41, 205, 236n19 Friedman, David D., 118n10 Friedman, Milton, 275, 299, 301 Fukuyama, Francis, 85, 253n2 Fuller, J.F.C., 203

323

G Galbraith, John Kenneth, 1, 3, 8, 12, 13, 15, 16, 18n1, 18n3, 34, 51, 54, 131, 137, 180, 181, 283, 302n11 Gates, Bill, 115 Gellner, Ernest, 225 General Motors, 28, 29, 51, 76, 257, 276n1 Georgia, Republic of, 292–295, 305n40 Germany, Nazi, 99 Gerrymandering, 211 Gilens, Martin, 86 Gimpel, Jean, 177 Gintis, Herbert, 97, 104 Glorious Revolution, 179, 201, 243, 244 Goetzmann, William N., 110, 111, 121n56, 134, 158, 163, 171, 172, 174, 176 Greatrex, Geoffrey, 139 Greek city-states, 133 Guilds, 160, 173, 175, 177, 179 Gwartney, James D., 67n14, 216n21, 237n24, 237n27, 303n22, 304n29, 305n42 H Hall, Joshua, 67n14, 237n24, 237n26, 303n22, 305n42 Hamilton, Alexander, 246 Hardin, Garrett, 118n13 Hayek, Friedrich A., 54, 79, 80, 171, 273, 275, 282, 283, 299, 301, 302n7 Hazlett, Thomas W., 66n7 Hedeager, Lotte, 35, 36, 99, 126, 131 Heilbroner, Robert L., 45, 46, 159 Hitler, Adolf, 22, 23, 26, 81, 274, 296

324 

INDEX

Hobbes, Thomas, 16, 35, 37, 70, 97, 98, 113, 196, 221–223, 226, 227, 230, 235, 239, 241, 245, 253 Holcombe, Randall G., 41n13, 42n20, 42n21, 67n23, 67n25, 145n22, 278n30 Hong Kong, 288, 303n23 Hoover, J. Edgar, 82, 274 Hoppe, Hans-Hermann, 279n48, 305n47 Hume, David, 227, 275, 301 I IBM, 76, 77 Incumbency, advantages of, 74, 261, 273 India, 288, 294 Indonesia, 288 Industrial policy, 288–290, 304n36 Industrial Revolution, vii, 1, 4, 45, 60, 73, 78, 90, 134, 143, 154, 171, 176, 179–183, 185, 187, 242, 246, 247, 256, 275, 276, 282, 284, 287, 298, 300, 301 Inequality, 61–62, 68n31, 71, 114, 233, 264, 265 Institutions, and power, 8–10, 283 Intangible property, 47, 48, 65, 281 Intellectual property, 9, 47, 48, 65 Interstate Commerce Commission, 248 Iraq, 154–156, 171, 185, 198 Isaacson, Walter, 276n3 Israel, 294 Italy, 33, 139, 171, 173–177, 179, 185, 198, 265 J Japan, 76, 121n56, 159, 264, 288–291, 304n31

Jefferson, Thomas, 246, 247 Jevons, William Stanley, 284 Jobs, Steve, 258, 259 Johansen, Bruce E., 216n18 Jones, Robert W., 140 K Kang, David C., 289 Kant, Emanuel, 227 Keegan, John, 131, 136, 138 Kennedy, John F., 35, 36, 43n31 Kertzer, David, 36 Kim Jong-un, 295–297 Kirzner, Israel, 166n3 Klein, Joel, 259 Knowledge problem, 79–81 Knowledge, tacit, 79, 80 Kolko, Gabriel, 259, 263, 265 Korea, North, 61, 99, 152, 293, 295 Korea, South, 61, 288–291, 293, 296, 304n36 Krueger, Anne O., 52, 266 Kurrild-Klitgaard, Peter, 43n41, 92n13 Kwang Suk Kim, 290 L Lamboreaux, Naomi R., 66n9, 276n4 Landes, David S., 182 Lange, Oskar, 79 Latouche, Robert, 140, 155 Lawson, Robert, 67n14, 237n24, 237n26, 303n22, 304n29, 304n38, 304n39, 305n41, 305n42 Lee, Dwight R., 92n14, 188n4, 215n12, 303n20 Lerner, Abba, 79, 92n9 Levi, Margaret, 230 Lewis, Hunter, 270 Lichbach, Mark Irving, 43n41, 92n13

 INDEX 

Lingle, Christopher, 288 Locke, John, 35, 223–227, 230, 241, 245, 246, 253, 275, 301 Lomasky, Loren, 42n17, 93n28, 276n9 Lucas, Robert E., 84 Lukes, Steven, 6 Luther, Martin, 241 M Machiavelli, Niccolo, 200 Madison, James, 87 Magna Carta, 240 Malthus, Thomas Robert, vii, 84, 284 Mao Zedong, 81 Market failure, 53, 60–61, 68n30, 205 Market power, 6, 49–53, 72, 76, 173, 299 Marx, Karl, viii, 31, 120n38, 142, 183, 184, 186, 187, 282, 301, 302n5 McDonalds, 73 McKenzie, Richard B., 92n14, 303n20 McNeil, William H., 172 Menger, Carl, 110 Microsoft, 48, 77, 259 Military pensions, 202 Military power, 3, 15, 32, 33, 88, 90, 125–127, 129, 131–139, 141–143, 153, 163, 175, 176, 194, 197, 199–206, 213, 214, 239–241, 261, 286, 298 Mill, John Stuart, 49–51 Mills, C. Wright, 85, 86, 127, 269 Mises, Ludwig von, 79, 80, 295, 305n43 Miskimin, Harry A., 139, 140 Mokyr, Joel, 181–183 Money, role of, 109–112 Monteqquieu, Charles-Louis de Cecondat, Baron de, 227, 241 Morgan, J.P., 247

325

Mosca, Gaetano, 27, 133, 135, 201 Moss, H. St. L.B., 133, 136, 139 Munn v. Illinois, 247 N Nash, Manning, 107 National defense, 169, 170, 205 National Rifle Association, 31 Neal, Larry, 97, 110 Netherlands, 176, 178, 179 Newton, Isaac, 226 New York, 101, 289 Norms, and power, 99 North, Douglass C., 22, 81, 181, 274 Norwich, John Julius, 175 Nozick, Robert, 188n2, 236n19 O Occupy Wall Street, 31, 88, 89, 250, 251 Olson, Mancur, Jr., 156, 195, 228, 263, 264, 267 Otterbein, Keith F., 102, 107, 124, 125, 127, 128 P Packard, Vance, 54, 55 Page, Benjamin I., 86 Paine, Thomas, 227 Park Chung Hee, 290, 296 Pascal, Blaise, 241 Patents, 47, 66, 182, 281 Patriotism, 14, 35–37, 54 Perenne, Henri, 136, 137, 139–141, 155, 156, 265 Persson, Torsten, 131 Physiocrats, 242 Pigou, A.C., 59

326 

INDEX

Piketty, Thomas, 68n31, 166n1, 191n75 Pinker, Steven, 33, 37, 98, 99, 194, 208, 209, 230 Pinochet, Augusto, 296 Political power definition of, 4 discontinuity in, 31, 269 and force, 8, 21, 23, 25, 26, 32, 34, 38–40, 77, 85, 90, 130, 143, 185, 194, 234, 244, 287, 299 hierarchical nature of, 24, 26, 38, 39, 69 stability of, 38, 70, 74–76, 78, 296 Pooling, 104–106, 108, 109, 111–117, 119n37, 120n38, 126, 301n1 Postan, M.M., 154, 157, 164 Power in business, 28 conditioned, 3, 8, 13, 18n3, 34, 35, 55 and institutions, 65 military, 3, 15, 32, 33, 42n22, 88, 90, 125–127, 129, 131–139, 141–143, 153, 163, 175, 176, 194, 197, 199–206, 213, 214, 239–241, 261, 286, 298 religious, 3, 13, 33–34, 46, 90, 99, 137–141, 143, 174, 240, 241, 298 Power elite, 27, 28, 39, 85–87, 127, 156, 211 Preston, Richard A., 200 Primitive accumulation, 183–184 Prisoners’ dilemma, 98, 234 Pro-business policies, 257, 258 Product differentiation, 57 Progressive Era, 249, 250, 259, 260, 265, 278n33 Progressivism, 246–250, 252, 259 Propaganda, 14, 35–38, 54, 140

Proportional voting, 211 Public goods theory, 205, 217n32 Putin, Vladimir, 22, 81, 274, 296 Putnam, Robert, 28, 29, 32, 34 R Radio spectrum, rights to, 65 Rational ignorance, 29 Rawls, John, 220, 221, 224, 225, 230, 242 Reagan, Ronald, 275 Reciprocity, 104–117, 119n37, 126, 174, 301n1 as a credit institution, 106 Reference, circular, see Circular reference Regulatory takings, 115, 272 Religious power, 3, 13, 33–34, 46, 90, 99, 137–141, 143, 174, 240, 241, 298 Rent-seeking, 52, 260, 263, 266, 267, 277n29, 277n30 Revolution, American, 35, 239, 242, 243 Revolution, French, 239, 243 Ricardo, David, 84, 151, 246 Rietbergen, P.J.A.N., 177, 178 Robber Barons, 247 Robinson, James A., 30, 65, 86, 160, 186, 220, 275 Rockefeller, John D., 2, 115, 247 Roman Empire, 124, 133–136, 138, 143, 155, 201, 213 Roosevelt, Franklin D., 22, 23, 91 Rothbard, Murray N., 236n19, 259, 263, 265 Rousseau, Jean Jaques, 222, 223, 227, 230, 235, 235n7, 244–246, 249, 253 Rule of law, 5, 53, 71, 78, 115, 155, 231, 270, 301 Russell, Bertrand, 15, 16

 INDEX 

S Saakashvilli, Mikheil, 292 Saban, Nick, 200 Sahlins, Marshall, 103, 104, 118n20, 119n22 Salzman, L.F., 179 Sanchez, Nicolas, 215n11 Schaeffer, Peter V., 50 Schevill, Ferdinand, 172, 173, 175 Schlesinger, Jacob M., 289 Schoeck, Helmut, 108 Schumpeter, Joseph A., 38, 56, 69, 73, 132, 183, 258, 260, 297 Schweizer, Peter, 261, 262 Scott, James C., 124, 126, 129 Seegers, G.H.I., 177 Sharecropping, 158, 184, 270 Shepherd, Deborah J., 132, 138 Sherman Antitrust Act, 248 Shevardnadze, Eduard, 292 Simon, Julian L., 284 Singapore, 44n41, 288, 303n23 Sixteenth Amendment, 248 Sjoberg, Gideon, 133, 154, 155, 157, 161, 182 Smith, Adam, 15, 16, 55, 56, 58, 97, 99, 111, 115, 149, 150, 161, 172, 208, 227, 242, 243, 246, 275, 281, 284, 299, 301 Social contract, 35, 37, 98, 196, 219–235, 239, 252, 253, 256 Socially ascribed characteristics, 22, 23, 74, 81–83, 100–103, 118n17, 236n13, 274, 296 Social power, 1, 3, 13, 99, 100, 126, 151, 153, 165 Social Security, 248–249 Soviet Union, 79, 80, 99, 198, 271, 282, 292, 301–302n4, 302n5, 305n43

327

Spinoza, Baruch, 227, 241 Spontaneous order, 110, 156, 173, 282 Stalin, Josef, 22, 26, 81, 296 Stationary bandit, 195, 204, 228–230, 235, 242, 243, 289 Steam engine, 182 Stigler, George J., 52, 260, 263 Stiglitz, Joseph E., 89, 265 Strayer, Joseph R., 99, 132, 141, 194 Sunstein, Cass R., 55 Surplus value, 184 Suzman, James, 103, 119n23 Sylla, Richard, 159 T Tabellini, Guido, 94n31 Tallahassee, Florida, 262 Taxation, 2, 14, 21, 40, 113, 115, 139, 158, 175, 176, 196, 199, 204–206, 229, 231, 232, 272 as theft, 21 Taylor, Fred M., 79 Thailand, 288 Thaler, Richard H., 55 Thatcher, Margaret, 275, 294 Thomas, Robert Paul, 120–121n55 Tiebout, Charles M., 189n33 Tilly, Charles, 217n29 Toynbee, Arnold, 180 Tragedy of the commons, 98 Tullock, Gordon, 52, 196, 266, 277n29 Turney-High, Harry Holbert, 125, 126, 131, 135 U Upham, Steadman, 123

328 

INDEX

V van Bavel, Bas, 45, 46, 141, 155, 156, 158, 159, 162, 179, 198, 264–266 Vanderbilt, Cornelius, 2, 247 Veblen, Thorsten, 54 Venezuela, 152, 198, 285, 292–295, 300 Venice, 172, 174, 175, 265 Voltaire, 227, 241 W Wallis, John Joseph, 22, 81, 274 Waters, Charlotte M., 180–182 Watt, James, 182 Weber, Max, 15, 193, 194 Weingast, Barry R., 22, 81, 274

Welfare economics, 59–60 Westphal, Larry E., 290 Williams, DeEdgra W., 94n33, 189n33 Wilson, Charles Erwin, 257 Wise, Sidney F., 200 Woodburn, James, 114 World War II, 37, 248, 264, 293, 304n31 Y Yeager, Leland B., 226 Z Zingales, Luigi, 254n17 Zoning, 9, 65