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Saturday, December 12, 2009

Can Large Corporations Exist in a Free Market?

In this thread on, someone was asking about free markets and corporations. Can large corporations exist in a really free market?

The argument against corporations is that they receive massive direct and indirect State subsidies.

If I want to borrow $1M to start a business, I can't borrow at all or I'll pay extortionate interest rates.

If the CEO of a large corporation wants to borrow $1B, he can borrow on very favorable terms. This distorts the market in favor of large corporations.

A pro-State troll says "That's because FSK is uncreditworthy!", but it's more than that. Executives at a large corporation have a State-backed monopoly/oligopoly. That's collateral for the loan. As an individual, the loan is only backed by my own future labor.

Real interest rates are negative. The CEO of a large corporation receives a huge subsidy when he borrows $1B at a real interest rate of -10% or less. The central bank credit monopoly and paper money concentrate economic power in the hands of people who print and spend new money. I can't avoid subsidizing the CEO of a large corporation unless I also boycott the State's paper money.

Regulations also subsidize large corporations. The cost of regulation compliance is usually fixed rather than per-unit. Suppose it costs $1M to comply with a regulation. If I sell 1000 units, my regulation cost is $1000 each. If I sell 10M units, my regulation cost is $0.10 each. "Economies of scale" are an illusion. The "economy of scale" myth derives from "Larger businesses can more easily lobby the State for favors!" Large corporations squeeze out smaller competitors, because there's a terrorist organization that harasses all small business owners.

It'd be very hard to have a business larger than 100-200 without State restriction of the market. That's the natural maximum size of a human social group.

Suppose that someone is a brilliant manager and can oversee a 100 person factory. Why should he work for a large corporation? Instead, he should raise capital and start his own factory.

In a free market, anyone who's a really good worker would be able to start his own competing business, rather than work for a large corporation or work as an employee. Without a central bank credit monopoly, a skilled worker could raise money borrowing from friends. In the present, it's be foolish for a non-bank to lend me money. Either they would charge me an extortionate interest rate, or receive a return far less than true inflation.

In order to have large corporations, you need State restriction of the capital market, making it hard for individuals to start new businesses. You need State regulations, which impose extra costs on small business owners.

As another example, suppose a small business owner has $100k in revenue. He probably has to spend $5k on accountants, just to make sure he's in compliance with the tax laws. That's effectively a tax of 5%. A large corporation with $10B in revenue might spend $10M on accountants. That's a tax of only 0.1%.

Large corporations can most effectively lobby the State for favors. That's completely unrelated to any efficiency gains. If you own a $100k business, you can't afford to bribe a Congressman. If you control a $10B corporation, then a $10M lobbying budget is a negligible expense.

A large corporation is not genuinely efficient. A large corporation is most efficient at overcoming the overhead costs imposed by the State. A large corporation is most effective at lobbying the State for favors.

In a really free market, would a business be able to impose a "limited liability" clause on its customers? Suppose you sat down in a restaurant, and the waiter made you sign a limited liability agreement, waiving damages if you get food poisoning. Would you really sign it?

Suppose a bank required a "limited liability" clause in its deposit contract. Would you really deposit your savings there? If you got a higher interest rate than other banks, it would only be because you're risking the loss of your savings due to the "limited liability" clause.

Also, a fair free market court would probably not enforce a "limited liability" clause that is obviously misleading. A customer sitting in a restaurant doesn't expect to get food poisoning. Therefore, the restaurant has no right to demand the customer waive that liability.

As another example, suppose a business is incorporated. It pollutes and leaks oil into groundwater at a cost of $100M to cleanup. The business has only $1M in assets. The owners declare bankruptcy when the pollution is discovered. Even though the victims had no contractual relationship with the polluter, limited liability incorporation protected the polluter from his misconduct.

In the present, State incorporation allows business owners to force limited liability clauses on all customers. Limited liability incorporation protects management of a corporation from liability even by people who have no relationship with that corporation. When you limited liability incorporate, you're contracting with the State and not your customers.

"Corporations naturally exist in a really free market" is a mistake that pro-State (L)libertarians often make. Corporations are an artificial creation of the State. Large corporations only exist because of direct and indirect State subsidies. In a really free market, no customer would agree to a limited liability clause.

It's unlikely that you would see businesses larger than 100-200 people in a really free market. There may be several cooperating businesses, but no mega-conglomerates. "Limited liability incorporation is a necessary perk for doing business!" is a common pro-State troll mistake. All limited liability incorporation accomplishes is that it allows management to immune from the negative consequences of misconduct and failure. Limited liability incorporation gives management a free put option to declare bankruptcy and cheat their creditors.

Contrary to what most pro-State troll (L)libertarians say, limited liability incorporation won't occur in a really free market.


Anonymous said...

There was a case in the United Kingdom. A business was about to go bankrupt, but the owner employed a builder to fix some problems in the company's warehouse.

The builder left his tools in the warehouse. The company went under and the builder couldn't get his tools out of the warehouse. The builder never got paid for his work.

The business owner just walked away. It was his bust company that owed the builder, not him.

Anonymous said...

What makes you to contract with an LLC today? Just skip them in favor of other forms of incorporation. Yet, people do buy goods and services from LLC. This means that some people will sign a LLC waiver in a poison food restaurant even in a free market.

Efficiency is not a subsidy from state. In your article, you have shown several points that are efficiency related, not subsidy. You example of accounting department for instance, shows higher efficiency rather than a subsidy. Why did you bunch all of the points together? If you had separated all your points into "efficiency" group and the "subsidy" group, you'd get your point across better.

The borrowing of 1 million is not a subsidy. Yes, you're correct that because of the subsidy, there is a better chance of repaying, but even in a completely free market, someone with going production plant that receives profits will get a lot more credit than some dude from a block. Thus, this example is not indicative of a difference between free market and a today's regime as it pertains to corporations.

You keep making a mistake of supposing that a really good worker should be able to start his own business. Yes, no-one should hold him from being to do so, but most of "really-good workers" are simply good at doing what they are told, frequently AT A LOSS, which is what they will repeat in their own business, driving it into bankruptcy.

Just so that you know, oil comes from the ground. This is where we get it from. If you wish to classify oil in the ground as pollution, you would require an oppressive state to help you do so, because to most people oil in the ground is a resource, not a pollution.

What does this mean: "Contrary to what most pro-State troll (L)libertarians say, limited liability incorporation won't occur in a really free market."?

How do you know? You only know that you, personally, won't shop at LLC. So what? There are whole countries much worse than LLC, such as Russia, North Korea, United Kingdom, Cuba, etc. The inhabitants of those horrific countries do not have to put up with being such slaves they are. And yet, they do. They freely chose to remain under the influence of their corrupted and despotic governments.

There is no limit to human stupidity. You can not guarantee that an LLC or even worse wouldn't happen in a really free market.

Where did you take the limit of 100-200 from? I am not arguing this, simply curious.

Finally, since you titled the post as about large corporations, not LLC, I have to say something about that. Large corporations will not profitably exist in a really free market. This is for the same reason that a state can not compete with an equally large collection of free market players. No human being or computer can know and plan for the multitude of subjective desires that market represents. Humans can not do it because their brain is limited in it's parallel processing capabilities, and computers can not do it, because they can not understand subjectivity.

So, a large corporation will probably appear from time to time only to fail and be engulfed by thousand of small competitors.

Sid said...

I do agree with some of the comments above, but i disagree with many. I think getting a loan on negative interest is definitively a subsidy. Oil deep in the ground, okay for me but FSK talks about oil in the groundwater, off course this is pollution.
"They freely chose to remain under the influence of their corrupted and despotic governments." This is just wrong. First of all they are not always aware that there is a better alternative so how can they choose freely? Then there are huge costs and risks involved in leaving or changing their governments. If you are less stupid, in what paradise are you living by now?

I am also curious where FSK gets the number 100-200

Malcolm Gladwell, in his book "the tipping point" speaks about the "Rule of 150"

he gives different references for this:

Robin Dunbar, British antropologist calculated from our brain size relative to primates that for a group size of maximum 148 people, we can still handle all the different relationships between them.
Still according to Dunbar, for 21 different hunter-gatherer societies for which we have solid historical evidence the average number of people in their villages was 148.4. (it would be helpful if we had information about the mean deviation)
The same holds true for military organization. "There has evolved a rule of thumb that a functional fighting unit can be no larger than 200 men."

A relligious group, The Hutterites (who came out of the same tradition as the Amish and Mennonites) have a strict policy that every time their colony approaches 150, they split in two.

A business example is Gore Asscoiates, a privately held multimillion-dollar high tech firm, known for making gore- tex.
Quote from founder Wilbert Gore: "People used to ask me, how do you do your long-term planning?"
"that's easy, we put a hunderd and fifty parking spaces in the lot, and when people start parking on the grass, we know it is time to build a new plant."

I recommend the book.

FSK said...

100-200 is the "Dunbar Number". If you have a social group larger than 100-200 people, it will probably split into two cooperating/competing groups.

One example is organized crime (drugs, prostitution). They tend to not have organizations larger than 100-200 people. Larger than that, they split into cooperating/competing groups.

In the present, State restriction of the market subsidizes large corporations over small businesses.

In a really free market, I couldn't own a 10,000 person business. I can't manage 10,000 people directly myself. In a really free market, any really skilled manager would be better off starting his own business and working with me as a customer/vendor, instead of working as an employee.

The key points are "State restriction of the capital market." and "State regulations subsidize large corporations at the expense of small businesses." A large corporation can more profitably lobby the State for favors than a small business.

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