More Methodological Considerations

Worker cooperatives can be found throughout the world and are not a new phenomenon. Two that are most prominently mentioned in the socialist lit­erature are the self-managed firms in what used to be Yugoslavia and the collection of cooperatives near the town of Mondragon in the Basque region of Spain.

In the years since World War II and prior to the country’s dissolution in the 1990s, the Yugoslav economic system underwent a number of profound and dramatic changes.¹ Indeed, the constitution changed so often that the suggestion has been made that it should have been kept, along with the French constitution, in the periodicals section of libraries. In its least Stalinist incarnation, most of the firms in the Yugoslav economy were (and at this writing, still are) self-managed cooperatives. The workers do not have unrestricted rights of self-management: not only are they required to maintain the value of their capital, but they have also had to share ultimate decision-making authority with political officials. Local government officials (and especially the Communist party) have had significant influence in choosing the managers. However, through their workers’ councils, workers have also had a say about who the managers are and about other matters (e.g., work rules) that directly affect them.

In the Yugoslav cooperative, the workers have been the residual claimants—after a fashion and subject to various restrictions (Sire 1979, 18-19, 45). The economy is a market economy, which means that firms are free to set prices at whatever the traffic would bear, subject to state veto and other forms of state interference. In point of fact, the state has often intervened and set prices that reflected various other economic and, indeed, political concerns (Estrin and Bartlett 1982, 88-89). So although it has been officially a free market economy as far as prices are concerned, in point of fact, it has been a regulated market with many prices set outside of the market process. New investment has been funded by the cooperatives and the state in varying proportions over the years, with some funds gener­ated by a tax on the cooperatives’ capital assets. This tax is analogous to the capital usage fee of market socialism. When these funds are disbursed by political organizations, both market and nonmarket decision-making crite­ria have been used.

Despite some similarities, there are four substantial differences between this system and the type of market socialist system described in chapter 2. First, unlike the Yugoslav system, in a market socialist system only those who work in the firm have ultimate decision-making authority. This means that the enterprises cannot be state-controlled. Second, the price system is supposed to work relatively unhampered—about as unhampered as it does in existing free enterprise systems. Proponents of market socialism implicitly recognize that the market has important information-transmit­ting capabilities that are seriously impeded by various forms of adminis­tered prices, so widespread interference with the pricing mechanism is not supposed to happen in a market socialist system, as it did in Yugoslavia. Third, the extent of state control of new investment has varied consider­ably over the years in Yugoslavia, whereas under market socialism, the state is supposed to control most new investment.

The fact of communist political control of the economy (not to mention the smoldering ethnic hostilities) obviously had something to do with the various economic disasters that befell Yugoslavia before its dissolution. Perhaps one of the most harmful aspects of communist rule was their unwillingness and inability to stabilize property rights. This manifested itself in two ways: (1) the basic constitution, which specified how property rights in the means of production were to be specified and distributed, was frequently revised; and (2) residual rights of control in the firm (as well as rights to the firm’s residual income) have never been clearly defined. The party always reserved the right to intervene in the affairs of firms and entire industries in arbitrary and unpredictable ways. Even a cursory study of the Yugoslav economy makes it evident that considerable time and effort were devoted to trying to anticipate, encourage, and/or thwart various forms and manifestations of state intervention. This resulted in a situation in which the question, Who is really in charge of the means of production? had no answer. At least in theory, these problems are not supposed to afflict a market socialist system. Property rights are assumed to be stable and the role of the state is assumed to be relatively clearly defined, that is, about as clearly defined as the state’s role in existing free enterprise systems.

The evidence from Mondragon is also likely to be of limited usefulness but for rather different reasons.² The Mondragon experiment is a collec­tion of interrelated cooperatives, including an investment bank, in the Basque region of Spain. These cooperatives have enjoyed some measure of success over the years and are often pointed to as real-world exemplars of socialist ideals. There are some important similarities and differences between them and the Yugoslav cooperatives. As in the case of the latter, the workers in Mondragon have decision-making authority in the cooperatives, which means that they elect a supervisory board, which appoints manage­ment. However, unlike the situation in the former Yugoslavia, only the workers have ultimate decision-making authority. This means that political authorities have no representation on the supervisory board. Another dif­ference is that the workers of Mondragon have an equity stake in the firm. They are required to pay an entry fee roughly equivalent to one year’s pay when they join a cooperative in the system. Some of this goes into a collec­tive equity account for the cooperative, and some goes into their own indi­vidual equity accounts. Each year, individual equity accounts are credited with 6 percent interest. This represents a “normal” rate of return on capi­tal and is a way of taking account of the scarcity value of capital. The firm pays out these accumulated individual equity accounts when the worker leaves the firm or retires. Equity accounts cannot be sold to outsiders or to other workers. Each year, some funds, including part of any entry fees col­lected in that year, go into a collective equity account, which is never paid out.

One obvious and important difference between Mondragon and market socialism concerns the ownership of capital. In the Mondragon coopera­tives, the ultimate decision-making authorities (the workers) are the owners of the firm’s capital (subject to certain limitations and restrictions). Although the workers are also the ultimate decision-making authorities in a market socialist system, they do not own the capital their firms employ; the state does. This means that in such a system it is at least possible for those who control the means of production to exploit the capital providers. This possibility is foreclosed in Mondragon by the fact that the workers are the capital providers. A second important difference between market socialism and Mondragon is that the external economic environment for Mondragon consists of conventional firms (open corporations, classical capitalist firms, etc.). If the cooperatives do not perform well, either for their clients or for their workers, they will lose business and workers to these more traditional organizations. The latter provide an actual or potential disciplinary force of alternative organizational forms for the Mondragon cooperatives that would be absent in the one-organization environment of market socialism. This is especially important for assessing the potential for exploitation in the system because if someone has real alternatives to his situation, then he is not being exploited, even if he is receiving less than the monetary value of his contribution (something to which he might acquiesce because of other, nonmonetary benefits that attend membership in the cooperative).

These points touch on an issue that goes beyond the scope of this book but have a bearing on the broader question of the material relevance of Mondragon for modern industrial economies.

Basque ethnicity per se does not appear to be so major a factor as to pre­vent the replication of Mondragon. More problematical are linkages with local communities and limited labor mobility: first, these two factors appear to contribute to the maintenance of consensus; second, they partially insu­late the cooperatives from competitive pressures from the external labor market, permitting a more compressed payments scale; third, limitation of the cooperateur horizons helps to retain capital by reducing the desire to remit savings to distant areas while working. Fourth, low labor turnover is vital for the maintenance of cooperative equity capital. Cooperative survival may not be easy in a fluid labor market with general labor mobility and technology changes. (1982, 168)

The authors also point out that various screening procedures adopted by the cooperatives, including a substantial entry fee, produce an unrepresen­tative sample of workers, even when contrasted to a control group of Basques in the Mondragon region (1982, 163-67). This type of cooperative might be hard pressed if it had to take on the highly heterogeneous and mobile labor force (not to mention some of the charmers from capitalism’s underclass) that exists in the rest of the world. These three factors—differ­ent organizational structure, a different external economic environment, and a selection bias that shapes the membership of the Mondragon cooper­atives—should serve as a warning about making inferences from what has happened in the Mondragon experiment to what would happen in a mar­ket socialist system. And, as noted, similar considerations apply in the case of the Yugoslav experience. In contrast to free enterprise systems, which exist in many versions around the world, market socialism is a fundamen­tally different type of economic system that has never existed anywhere in the world before. Of course, this does not mean that the empirical records of Yugoslavia and Mondragon are irrelevant, but those records do not tell us as much as one might initially suppose.

How, then, shall we proceed in the absence of significant empirical evi­dence that has a direct bearing on what would happen in a market socialist system? Fortunately, the theoretical apparatus developed in chapter 4 and deployed in chapter 5 is well suited to providing a basis for reasonable and informed speculation, at least about the incidence of exploitation in a mar­ket socialist system (the main concern of chapters 6-8). Recall from the end of chapter 4 that there are four general features of any market economy that make exploitative exchange possible: (1) assets that support many exchanges are specialized and thus have quasi-rents associated with them, (2) these assets get locked into transactions in the sense that they are costly to redeploy once they are committed, (3) the owners of these assets suffer from bounded rationality and make agreements in an environment in which not all future contingencies can be foreseen, and (4) transactors are some­times given to opportunism on behalf of themselves or on behalf of others (e.g., the firms they represent). This penchant for opportunism is variable across individuals and is not easily knowable. Chapter 5 makes it clear that organizational forms, by virtue of their transactions cost attributes, deal with this potential for exploitation more or less satisfactorily.

This provides the basis for an evaluation of a market socialist system on the question of exploitation because the predominant organizational form—the worker cooperative—has been specified in enough detail in chapter 2 to permit an identification and discussion of its transactions cost attributes and thus its potential for exploitation. This is the topic of chap­ters 6 and 7. Specifically, it will be argued that the organizational structure of a market socialist economy would permit and encourage forms of exploitation that a free enterprise system precludes or minimizes. Before developing that argument, some objections to the approach being taken here need to be ventilated and discussed. This will simultaneously address some legitimate concerns about the essentially theoretical approach to these questions advocated here and permit a better appreciation of the argument that is to come.

The four background conditions identified, which make exploitative exchange possible, are assumed to hold for any market economy. But sup­pose this is not true. Then it would not matter whether the organizational structure of a market socialist system is vulnerable to exploitation, since it would be vulnerable to a problem that would not arise. This means that it is important to verify that these conditions would, in fact, hold. The first and second—that many assets are fairly specific and costly to redeploy— are noncontroversial. Any economic system will face that fact. The third assumption—that people suffer from bounded rationality and limited fore­sight—is also fairly obvious. Trotsky once said that the average new com­munist human being would be capable of the intellectual achievements of Aristotle and Marx and that new peaks would rise above these heights. But even if that were true of market socialist men and women, it would not be of much help in, say, negotiating the merger of two firms. Not only would each side have their Marxes and Aristotles, but some third party might have a razor-sharp mergers-and-acquisitions lawyer who would take both sides to the cleaners. This brings us to the only controversial assumption— the assumption about opportunism. Is it plausible to assume that the peo­ple in a market socialist economy would be about as opportunistic as peo­ple in free enterprise systems? This, I suspect, is an assumption most pro­ponents of market socialism would be reluctant to grant. And unless it is granted, the problem of the potential for exploitation in a market socialist system simply goes away.

To evaluate this concern, it is important to be clear about exactly what is being assumed. First, the assumption is not that people would be about as opportunistic in a market socialist system as they are in any existing free enterprise system. There are a number of reasons for this. One is that the incidence of opportunistic behavior (including exploitation) in any actually existing economic system, whatever its type or subtype, is likely to be a function of a number of factors, some of which have little or nothing to do with the economic system. For example, popular wisdom has it that Japanese workers are much less given to shirking than their American counterparts. In addition, executive pay scales in Japan seem to indicate that corporate managers are less opportunistic in their dealings with share­holders than are many American executives whose pay seems to bear little relation to their contributions. If these two observations are correct, then the incidence of exploitation differs in these two actually existing free enterprise systems. However, it is likely that historical and cultural factors explain much of these differences in the incidence of exploitation. The basic point underlying this illustration is important for understanding the nature of the main argument of chapters 6 and 7 and so warrants further elaboration.

The discussion that follows does not predict how much exploitation (or, more generally, opportunistic behavior) would take place in a society with a market socialist economic system. The reason for this is that a society with this type of economic system, like any other society, would have other social institutions in addition to its economic system. Moreover, other noninstitu- tional social forces would also be at work in such a society. These other institutions and forces interact with the economic system in unimaginably complex ways. The actual incidence of exploitation in any society will be a function of many factors, some of them extraeconomic. What chapters 6 and 7 focus on are opportunities for and methods of exploitation in a mar­ket socialist economic system, considered in abstraction from these other factors or disturbing influences. Proponents of market socialism might want to argue that other institutions (notably, the political system) or other forces in a socialist society would preempt the exploitation that would otherwise take place because of the nature of the economic system. However, this is not an argument that market socialists, qua socialists, are in a good position to make. As chapter 2 indicates, most of the motivation for a market socialist economic system is to be found in a widely shared diagnosis of the ills of capitalist society. What makes them ills of capitalist society is that the economic system is to blame for these problems. The promise of market socialism is that the favored type of economic system would preclude, extinguish, or significantly reduce these social ills. The problems are alleged to be in the economic system, and that is where the solution is supposed to be found as well. After all, this is why radical change in the economic system is being advocated. Independent of these ad hominem considerations, it would be implausible to maintain that the actual incidence of economic exploitation would not be significantly determined by factors intrinsic to the economic system, even though it is difficult to say exactly how important other factors might be in fostering or inhibiting exploitation.

Returning to the assumption of opportunism, what is being assumed, from chapter 4 on, is that people are given to opportunism and that the extent to which they are so given is both variable across individuals and not easily known. Nothing else is assumed about this tendency to act oppor­tunistically, except that it is nontrivial. To achieve a better understanding of this assumption, it would be useful to consider the various ways in which it could be false. One way it could be false is that everyone’s penchant for opportunism, whatever its strength, could be easily discovered. It is hard to imagine how that could be the case, since behavioral dispositions are unob­servable, and the behaviors in question necessarily involve deception and/or failure to disclose relevant information; also, reputation effects are not perfect (i.e., sometimes people get away with it). Besides, even if the strength of people’s propensities were well known, organizations would still have to deal with those propensities. It is just that the problems occasioned by the penchant for opportunism would be more tractable.

Another part of the assumption is that people’s propensity to act oppor­tunistically is variable across individuals. This means two things: some indi­viduals are more inclined than others to seize a chance to act opportunisti­cally if and when such a chance presents itself, and some are more inclined than others to take maximum advantage of whatever chances do present themselves. It is difficult to imagine that people would all be about the same along either or both of these dimensions, since all manner of contin­gencies would have an influence on where people ended up along these dimensions (e.g., the propensities of one’s parents). Even if people were about equal along either or both of these dimensions, however, this, too, would only mitigate the problem of opportunism that institutions would have to cope with, because, once again, the behaviors are necessarily unan- Ucipated and masked by a cloak of ignorance. Even at a pickpocket’s con­vention, it is necessary to take steps to protect one’s wallet.

The one part of the assumption whose falsity would make the problem of opportunism (and thus the potential for exploitation) go away is the assumption that most people do have at least some disposition to act opportunistically. Actually, a slightly weaker—and equally vague—assump­tion will do, namely, that at least a substantial minority of people have this disposition. Suppose this were false. This would mean that at most a small minority would be given to opportunism and a substantial majority (i.e., most people) would not. In short, suppose that most people simply have no propensity to act opportunistically. To understand how implausible this proposition is, recall from chapter 4 the range of behaviors that fall under the heading of opportunism: in the provision of labor services, oppor­tunism includes not only IoaHng on the job (except to the extent that it is expected) but also pursuing any other interests or activities on company time that are not explicitly or implicitly permitted by the formal or infor­mal rules of the firm. This includes (1) redirecting the organization to serve private interests (hijacking), (2) exacting private benefits in exchange for doing one’s job or not interfering with others doing their jobs (“pirating” or “tax collecting”), (3) engaging in any other activity that misrepresents the nature or value of one’s contribution (i.e., credit stealing, blame shift­ing) and (4) colluding in any form of opportunism practiced by friends and coworkers. To assume that most people in a market socialist system have no propensity to do any of these things is to assume that these behaviors would almost never occur, no matter what the monitoring arrangements. In other words, the following Counterfactual conditional would have to be true: “If the cooperative engaged in no monitoring at all (including so-called hori­zontal monitoring by coworkers), then opportunistic behavior on the part of the workers would be negligible.” This is an implication of the disappear­ance of the propensity to act opportunistically, which is not to be confused with the disappearance of the behavior; the behavior might disappear because of effective monitoring even if the propensity remains. Of course, defenders of market socialism may well want to claim that monitoring arrangements within the cooperative would be likely to make this happen or at least that those arrangements would be superior to monitoring arrangements in capitalist firms, but to make that claim is to presuppose that there is some penchant for opportunism on the part of the workers that monitoring arrangements would check. To take this approach is to concede that the problem of the potential for exploitation cannot be avoid­ed and indeed must be engaged as it has been framed in chapters 4-6.

The assumption that most people in a market socialist system have no penchant for opportunism is more implausible still when one considers how individuals in this system will act as agents for their cooperatives in dealing with organizations and individuals across the boundaries between the firm and the market and between the firm and the state. Someone is going to have to be the central contracting agent with input suppliers, someone is going to have to be in charge of the firm’s product (including advertising!), and someone is going to have to deal with the state on the issues surrounding the maintenance of capital goods and the payment of the capital usage fee. To assume—or even to entertain seriously—the pos­sibility that most of these individuals, acting in their capacity as agents for their cooperatives, would refrain from acting opportunistically if and when opportunities present themselves is truly heroic. Once again, if the propen­sity does not exist, the corresponding Counterfactual conditional would have to be true, namely, that if no steps were taken to prevent opportunis­tic behaviors on the part of these agents (e.g., the appropriation of a suppli­er’s quasi-rents), those behaviors still would not occur.

Finally, as pointed out in chapter 4, the extent of people’s opportunism is in part a function of how they view the situation in which they find them­selves. If a worker believes she is not getting paid the full value of her con­tribution and has nowhere else to go, then shirking would seem to be both a rational and moral response to the situation. If a purchasing agent believes she is overpaying for some input and has no real alternative, then she would surely take advantage of her supplier if the opportunity present­ed itself. Since people are notorious for being biased in judging in their own cases, to take seriously the possibility that the penchant for oppor­tunism will disappear is to assume that biases that are responsible for mis­taken beliefs such as these will also disappear. This is simply not credible.

But (a socialist might respond) might not a market socialist economic system foster trust and solidarity among all the workers in such a way that the penchant for opportunism would be extinguished? This is certainly a possibility and will be investigated in due course. However, while the sys­tem is removing this stain from the human soul (so to speak), its institu­tions—and, in particular, its organizations—need to do a good job at pre­venting, precluding, or minimizing opportunities for people to act oppor­tunistically. The reason for this has to do with the dynamics of adverse selection and moral hazard.

To understand these dynamics, consider the following hypothetical example. Suppose a law is passed prohibiting a certain form of monitoring of employees in a certain type of business—say, surveillance cameras in retail clothing stores. Suppose this seriously impedes employers’ ability to detect employee theft of merchandise. Employees in these stores who are antecedently given to stealing from their employers would reap a bonanza in the form of stolen clothes. This is the moral hazard problem. As losses mount, employers would try to cut costs, and at some point (probably very early on), they would cut all workers’ wages or perhaps not increase them at the rate of inflation. This does not restore the status quo ante, however, because not all employees are stealing the same amount, and some are not stealing at all. The latter begin to feel taken advantage of, as indeed they are. Their wages have been cut to compensate for the theft engaged in by their fellow employees. Some would begin to steal to offset their lower wages, and others would leave the retail clothing business for other jobs. Who would be hired to replace them? The answer is obvious—clothes- horses with weak consciences. These are the people who most want the job and would be willing to work for the lower wages, which, of course, they will supplement. This is the adverse selection problem, and it is especially difficult in this case because one’s love of clothes (and, indeed, the size of one’s wardrobe), are private information, as is the strength of one’s con­science. Let us suppose, then, that there is no cost-effective way to screen these people out. After a time, all retail clothing stores will be staffed by people who either were antecedently, or had become, Clotheshorses with weak consciences.

This example shows how the dynamics of adverse selection and moral hazard systematically alters people’s behavior and behavioral dispositions. The same considerations apply if the object of discussion is organizational form. If a type of organization is vulnerable to opportunistic behavior, it will attract those whose penchant for opportunism is greatest. Because of its vulnerability, it will not effectively punish the opportunistic behavior, which puts the nonopportunists at a distinct and noticeable (to them) disad­vantage. As time goes on, they begin to feel like “chumps” for passing up— or taking less than full advantage of—the opportunities with which they are presented. As a result, if they do not leave, their resistance to acting opportunistically wears down, which means that their penchant for oppor­tunism increases. Differences among individuals in their dispositions to act opportunistically may still exist, but those differences are not as significant because the institutional environment has systematically promoted oppor­tunism at the expense of more honorable behavior. In this way, the inci­dence of opportunistic behavior tends to be set by the limits imposed by the institutional environment.

In response to these observations, it might be pointed out that although the unjust have always prospered at the expense of the just, the latter have not disappeared. This is true, and it is true because of the differential action of other institutions and noninstitutional forces. For example, if some people really do believe that opportunists will go to hell when they die, that is likely to have a significant effect on their penchant for oppor­tunism.³ The force of this objection is to raise once again the question of the ultimate significance of economic factors as determinants of social life. As was suggested, while no precise and general answer to that question may be forthcoming, few doubt that economic forces are very important, both now and as far into the future as it makes sense to look. This means that people’s penchant for opportunism in the economic realm is signifi­cantly shaped by the vulnerability to opportunistic behavior of the eco­nomic system (specifically, the economic organizations) in which they find themselves.

These considerations indicate that it is necessary to take seriously the potential problem that the penchant for opportunism and the other three background conditions pose for a market socialist economic system. It is appropriate to investigate the relevant organizations and the way they structure exchanges, including the transaction costs of these exchanges. It follows that there is no way to preempt an investigation into how well the organizations of a market socialist system handle the potential for exploita­tion that faces market economies generally.

The same point can be approached from a slightly different angle. According to the terms of the debate defined in chapter 1, market socialism is supposed to be the successor to existing free enterprise systems, and it is supposed to be inaugurated within the next few generations. This means that individuals who inhabit this system will be close lineal descendants of existing individuals, with all the psychological continuities that entails. These continuities do not rule out significant changes in consciousness as a market socialist system takes hold. However, proponents of market social­ism seek (or at least should seek) to eschew the utopianism of nineteenth- and early twentieth-century socialist thought and practice—a utopianism that has led to serious credibility problems for socialism in the late twenti­eth century. Thus, they must not assume that the people who inhabit this type of system are at the outset radically different from existing individuals, especially in their propensity to act opportunistically or, more generally, in their self-interestedness. Indeed, some of the appeal of market socialism trades on motivational continuities between the current system and market socialism. If one assumes that at least at the outset, people in a market socialist system have a nontrivial penchant for opportunism, then the potential for exploitation would be found in the hearts of the inhabitants of this type of systems; accordingly, it would be apposite to investigate how the organizational forms of a market socialist economy handle that poten­tial. It is to this task that we now turn.