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In Culture Trumps Everything, I spend several pages describing the difference between classic capitalism and social capitalism. In brief, classic capitalism was codified in Wealth of Nations, by Adam Smith, published in 1776. Classic capitalism believes it is the responsibility of owners and investors to create a machine of business using the “factors of production” (labor, land, and capital), in which capital is run through the machine of business and profit is created. That profit is then returned to owners and investors, otherwise known as shareholders.
Social capitalism was codified in a book called Firms of Endearment by Raj Sisodia, published in 2006. Social capitalism believes it is the responsibility of owners, investors, and leaders in an organization to build a culture that: 1. Balances the needs of all of its complex constituencies, otherwise knows as stakeholders, and 2. No one stakeholder should be allowed to profit at the expense of another.
Did you know that the differences between classic capitalism and social capitalism also have historical and geographical roots?
In medieval times, in a feudal society, labor was controlled. In a feudal system, labor (peasants and serfs) could not be free to leave employers (vassals and nobility) or the entire feudal system would collapse. Similarly, in classic capitalism, labor is simply a factor of production that must be controlled with few options to depart at will. Without labor controls, owners and investors would be at risk of losing control over one of your factors of production – labor itself. In classic capitalism, it is desirable to keep your employees’ wages low for a couple of reasons. First, it is perceived to add to profit and second, employees have fewer resources to exercise, making them more dependent on the employer. How? Individual employees who are dependent on a company, living paycheck to paycheck because of a low wages, dependent of healthcare and other benefits, are less likely to challenge authority, the status quo and/or any poor working conditions. This culture or system of beliefs dates back to medieval times and survives today in many areas that display an absolute faith to classic capitalism, particularly the South.
In colonial times, the North was primarily settled by middle-class farmers and small business owners. The vast majority of Southern states, particularly Virginia and South Carolina, were settled by British aristocracy. These aristocrats would purchase large tracts of land, making efforts to recreate a feudal system (where they would be able to treat workers like peasants), whose time had long passed.
In the late 1600s, prior to the boom in the slave trade, Southern plantation owners experimented with white indentured servants as farm workers. Only later did they gradually begin enslaving blacks as they were seen as being easier to identify when they ran away.
During the South’s period of slavery, the South grew economically through slavery, its ability to treat humans like property without a need to pay for human labor beyond the cost of human sustenance. This took the cost of one of the factors of production (labor) to nearly zero.
After slavery ended, Southern leaders and business owners were content to exploit child laborers. During the late 1800s and early 1900s, millions of children across the U.S. were forced to work in factories, textile mills, and mines. This resulted in an uneducated workforce, as children were kept out of school in order to work and for many children in the workforce, resulted in stunted growth. Factory owners often preferred children as workers because they were cheaper, more submissive, and less likely to organize and strike.
This was not only desirable for factory owners, it was accepted in our culture in a period that supported classic capitalism. In the early 1900s, a national movement began to end child labor. In 1916, Congress passed a law to end child labor. Southern industrialists became so invested in child labor that a group of Southern textile mill owners challenged the law in the court system. Their challenge went all the way to the Supreme Court which declared the law passed by Congress unconstitutional in Hammer v. Dagenhart. As a result, child labor remained legal in the U.S. for another 25 years until child labor was outlawed by another Supreme Court case, U.S. v. Darby, in 1941.
These are just a few examples of how classic capitalism believes that much can be overlooked in the interest of profit. Classic capitalism is a system that requires a vast differential in power between owners and investors, and employees. Employees need to be controlled (through low wages and benefits – reducing their power) as a factor of production or the system fails. It is the shareholder that is a priority and the return to the shareholder that must be protected, even if it comes at the expense of others involved in the system. Social capitalism sees employees as a collaborative stakeholder. As a collaborative stakeholder, employees choose to stay with an employer because of the culture that is created and how they are treated, not because of their financial need or dependence. Classic capitalism states, explicitly, that no one stakeholder should be allowed to profit at the expense of another.
A stark contrast between these two models of capitalism can be seen in a cross-border, state-by-state, comparison of two Northern states. PLEASE NOTE: What follows is NOT a political statement. It is simply a direct comparison of two similar states whose governors have chosen to follow two very distinct paths (one aligning more with classic capitalism, the other aligning more to social capitalism). The results, I believe, speak for themselves. The states I will compare are: Minnesota and Wisconsin.
In Wisconsin, Gov. Scott Walker has followed a script identified by classic capitalism. Walker reduced taxes for the wealthy (allowing the wealthy to retain more capital – a factor of production), refused to create healthcare exchanges (making employees more dependent on employers for benefits), and opposed raising the minimum wage (keeping employees wages as a major lever for employers to wield over employees – increasing employee dependence).
In Minnesota, Gov. Mark Dayton took a social capitalism approach. Dayton raised taxes on the wealthy (increasing revenue for the state – expanding services for the underprivileged, increasing their independence), raised the state's minimum wage (increasing the financial independence of employees), and expanded healthcare (allowing employees greater independence regarding benefits if changing jobs).
Both men were elected in 2010 in the wake of the Great Recession. Walker in Wisconsin was facing a $3.6 billion deficit and 9.8% unemployment. Dayton in Minnesota had a $4.7 billion deficit and 7% unemployment.
Today, Minnesota has a $1.3 billion surplus; Wisconsin has an estimated $2 billion deficit. Minnesota has the fifth lowest unemployment rate at 3.8%; Wisconsin's is ranked 17th at 4.6%.
Social capitalism outperforms classic capitalism on its own metrics. This is the meteor strike. Sixty-five million years there was a meteor strike that wiped out the dinosaurs – most of them. Birds, alligators, and frogs are descendants of dinosaurs that have survived – because they were able to adapt to the change in the environment.
Similarly, social capitalism is the meteor strike within the system of capitalism. Companies that hold onto classic capitalism are bound for extinction. Only those companies that can adapt to social capitalism in our new business environment, in our culture, will survive.