The Firm as Economic Integrator

Postscript

I once got paid $18 an hour to edit graduate papers for a year. I had some rules. One rule was that the quality of a paper was usually inversely related to the number of times the word “modalities” was used. If you’re using “modalities” you’re likely trying too hard. There’s a better way to say what you need to say. Too many grad students mimic Foucault. They don’t understand that Foucault was a great thinker, but not a great writer, at least if writing is meant to be read. Unfortunately, most graduate students seem to write to show other graduate students and their professors how smart they are. If they were actually smart they would take the time to learn how to write well.

If I use my own rules to judge the quality of this paper it doesn’t do so well. In addition to being poorly written, it doesn’t give due care to the economic sociology literature despite attempting to be an economic sociology paper. Use it as an example of how not to write.

Abstract

I argue that the use of the phrase “the market” when defining and describing economic integration is both a rhetorical and logical mistake. That a more useful and accurate mode of thought is to envision the firm as the institution that generates exchange and acts as the epicenter of a broader, society-wide economic integration. I claim that this new theory allows for a better description of the real world. I conclude with a brief discussion of some applications.

Economic Integration

Traditional economic analysis has focused on “the market” as the name to describe the coming together and exchanging of goods by people throughout history, thereby subsuming economic integration within material exchange, what Mark Granovetter called “undersocialized” analysis (Granovetter 1985)[1]. Karl Polanyi reinterpreted the market process as what he termed, “instituted economic integration,” and attempted to extricate different types of integration across time and space that had become confounded by traditional analysis in the social sciences (Polanyi 1957). In doing so, Polanyi hoped to give a more nuanced view of the specific type of integration involved in the modern market, making analysis contingent on historical particularities.

Perhaps equally important as Polanyi’s primary argument that distinct modes of economic exchange have existed across time and space is the implication that economic exchange itself is a type of “integration.” It is a binding force that both carries with it a particular bundle of social relations and is itself embedded within an ongoing and evolving social context (for more on embeddedness see Granovetter 1985).

Whereas Polanyi’s project was an attempt at moving away from the market to a more macohistorical view that allowed for “the market” to become referable in a context outside of itself, I suggest moving to a more microeconomic-sociological context where the firm is viewed as the main actor in analysis of economic integration.

“The Market” – A Rhetorical (and Logical) Mistake

One key problem in traditional economic analysis is a rhetorical one: the variegated meaning of the term “market.” It wants to mean so many things. On one hand it is a higgle-haggle style bazaar; on another it is a once-a-week pop-up style gathering where people sell trinkets or flowers or banjos made of cigar boxes; on yet another it is the corner grocer (as in “I’m going to the market to buy some milk”); and on still another it is the “marketplace” of ideas. We could continue: labor markets, stock markets, commodity markets, currency markets. What all of these types of “markets” have in common is that they haven’t change much over time (aside from technology perhaps). Further, they all invoke images in which half of the parties have something to sell and the other half have the money to buy, and each is in a sort of dance looking to find their perfect partner and make an exchange.

It is no surprise then given these uses of the term “market,” that the phrase “Market Economy” or “Free Market” conjures visions of people moving freely about their daily business, at some times buying certain goods while neglecting others (thereby creating “demand crowds”) and at other times working in some business or another for production (thereby creating “supply crowds”). The problem is that what constitutes the economic component of one’s daily life has changed greatly over time, and so the term presuppose a certain generality that is at odds with particular historical episodes. This is not simply true across “modern” and “pre-modern” societies, but within modernity itself. One example is what Alfred Chandler chronicled in his book The Visible Hand (Chandler 1977).

Chandler outlines roughly two periods. The first, 1790 up until the 1840s, was a period of increased specialization—a movement from general merchants to specialized enterprises. “In the 1790s…[the merchant] carried out all the basic commercial functions. He was an exporter, wholesaler, importer, retailer, shipowner, banker, and insurer. By the 1840’s, however, such tasks were being carried out by different types of specialized enterprises (Chandler 1977 pg. 15).” In the second period, 1850 to the post-WWII era, Chandler recounts the rise of the managerial firm, starting with the railroads. “A small number of large, managerially administered enterprises replaced a large number of the small personally run transportation, shipping, and mercantile firms that had previously carried goods from one transshipment point to another (Chandler 1977 pg. 122).” This required “a type of cooperation between business enterprises [that] was an entirely new phenomenon (Chandler 1977 pg. 123).”

So by the late 1860’s there had emerged a type of managerial firm with new organizational structures, interfirm connections, and social relations. Chandler’s project is to show the significant ways in which these firms changed over time. Indeed, the types of firm structures, interfirm connections, and social relations that were present in 1860, or even in 1960, cannot be assumed in whole to describe the firms of 2011 because they simply do not. This profound evolution, however, is obfuscated by deference to “the market” as the main driver of economic integration. In each epoch, then and now, market mechanisms were at work determining prices and allocating resources (with varying degrees of government intervention). But this processes is quite different than the one of economic integration—the means by which one satisfies material wants within a social context because the social context itself has changed. So too has the variety and type of goods available for material want drastically increased. These two subjects—satisfaction of material wants and the social context in which it takes place—are the two components that make up economic integration.

Aggregation of economic integration to the market level can at most tell us that social relations are transmitted during exchange, but tells us very little about the nature of the specific relations involved or how they might have changed over time. It can tell us that reciprocity and redistribution involved different social relations than the modern system, but leaves to the imagination a richer description. Shifting the focus of economic integration from the aggregated marketplace to the firm level can solve this problem.

The Firm as Economic Integrator

Focusing on the firm as the economic integrator has two logical underpinnings. In the first place, firms are the engine of the market, fueling both the supply of, and demand for, the panoply of exchangeable goods and services. Whereas in past societies, as Polanyi demonstrated, forms of redistribution or reciprocity might have been the means to satisfy material wants, in a modern society individuals integrate via firms—they both purchase goods from firms and simultaneously act as producers for firms to earn income.

In the second, the parallel rise of capitalism and the managerial firm, has created a new component of identity that was previously nonexistent (or at least extant in a very different form). And so firms more clearly identify and delineate the social relations involved in economic exchange than does “the market.” In short, people don’t identify much with the statement, “I am an actor in the broader market economy.” However, they might very much identify with the statement, “I’ve been an engineer at The Boeing Company for twenty-five years.”

Along with the rise of capitalism (both pre- and post-industrial) there has been a parallel increase in the division of labor, in employment specialization, and, since 1850, in the proliferation of the managerial firm. One effect has been a perpetual increase in the choice of goods available to consumers (so great that it led psychologist Barry Schwartz to coin the term “The Paradox of Choice”(Schwartz 2004)). So while in 1790, as Chandler notes, families self-produced much of their own goods themselves, as the choice and complexity of goods has increased it is all but impossible to satisfy material wants alone, or even in a small group. Thus there has been a simultaneous increase in material wants and a decrease in the ability for self-production. This is not to say that the material well-being of consumers has suffered as a result—quite the opposite. It is simply to point out that this process has resulted in the rise of the firm as the central node of economic integration.

The Firm as the Engine

We can see the importance of the firm in satisfying material wants by briefly examining the broader context of the economy. First, let us turn our attention to the National Income Identity:

Y = C + I + G + (X-IM)

That is, the demand for aggregate products and services, and indeed any particular product or service, is given by the sum of the demand from consumers (C), from firms (here ‘I’ stands for firm Investment), and from government (G). The notation (X-IM) simply denotes the net sum of exports minus imports. Exports are generated at the firm level as supply to those outside a particular geo-political region, and imports are the demand for goods and services, themselves provided by outside firms. So ‘X-IM’ and ‘I’ clearly emanate from the firm, but so does demand from consumers (C) since their wages also originate at the firm level. Government may seem exempt from our calculation, but anything more than a cursory glance will reveal that: (a) much government spending redounds upon firms, and (b) government accrues tax revenue from wages, again paid by firms. This is not to say government has no part to play in the economy, indeed they are likely the institution with the most important role.

This is simply to say that firms are the dominant player in economic integration (a more complete theory will need to further examine the roll of government in economic integration, but this is a project for a later date).

Integration from the supply side is even more evident. If supply does not come from firms, from where does it originate? It is true that a very small number of individuals create products originating from their household and attempt to sell them at some sort of common marketplace shop. But the key is to recognize that these exchanges that are economically integrated outside of the firm-based market are but a patina of dust on the rich and gargantuan tapestry of exchange that takes place with the firm at its center. To imply that the amorphous “market” is the key economic integrating force is to overlook the firm as the very institutional social structure that acts as the engine of the market, providing both goods and services and the means to purchase them.

The Firm and Identity

The interconnectedness of firms and social identity is perhaps best demonstrated when discussing individuals who are economically disintegrated. Those with reduced economic integration define themselves, and are defined by others, by their exclusion from the firm. For example, the “unemployed”—the population that is looking to find a job. Where? With a firm. Discouraged workers—the group that has given up hope. Of what? Of finding a job with a firm. Retired persons—what have they retired from? From working for a firm. How do they live? From pensions, Social Security, 401Ks, or savings, all of which were accumulated during work with a firm. Informal workers—what do they do? The same sort of work that could be done by a firm, but usually for less money and often for friends or family.

We have touched thus far mostly on pecuniary matters, but it is important to remember that each of these transactions carry with them a set of social relations. This is the entire purpose of focusing on integration rather than simply exchange. The focus thus far has simply been to reconceive economic integration away from “the market” and to point out that while it may be a useful rhetorical device for discussing the mechanism of resource allocation, it is a silly way to discuss economic integration. We now turn our focus to the matter of social relations by embarking on two applications of our new theory.

Applications

Having severed our old definition and created a new one we must now discuss its implications.

Using this new theory we can make one immediate addendum to traditional economics and the so-called Theory of Value. Since the Marginal Revolution, traditional economics has theorized that value is determined when prices are transmitted back through the chain of production. Every purchase at the margin accrues with every other purchase, aggregately creating a demand for a good or service and imputing down through the chain of production the value of all resources required to render the good (in competition with all other final goods that require each of the same inputs). In this way the supply and demand for final goods also determines the value of both intermediate goods (including labor) and natural resources.

By analyzing economic integration at the firm level we see that an additional process is at work. Since social relations are also interconnected within the firm structure it is clear that along with price is a transmission of a dyad of social relations. First, an imputation of the value of both the resources and the social relations that acted together towards production. Since certain social structures within firms are more effective at producing particular goods than others, both act together towards production and so both are rewarded at purchase. This is one mechanism, but not the only, whereby social relations become embedded. Second, as Mark Granovetter referenced (see Granovetter 1985), empirical studies have shown that supplier-buyer relationships are often very social. These relationships, then, are also affected by imputation since interfirm contact is, at least to some extant, reliant on factors such as sales, new order shipments, and price changes. Consequently there is both an intrafirm and interfirm component of the social relation transmission when our new framework is applied to the traditional Theory of Value.

Let’s look more closely at the supply side social relations we just discussed, that is, the relations within firms. As economic integration has grown to be primarily instituted in the firm, and as firms have grown, it has engendered new types of social structures and redistributed power relations.

With the growth of larger firms dominated by managers power and obedience have evolved. The relations within firms are complex and cannot receive a full treatment here. However, it is clear that sometimes economic considerations dominate behavior within firms (as New Institutional Economics might predict) while at others they are subservient to social relations (as Economic Sociology argues). One obvious change chronicled by Chandler and illuminated by the latter field has been the increase in the types of organizational roles within firms. This process has redistributed power, but not in the way one might think.

In Why People Obey professors Gary Hamilton and Nicole Biggart use empirical data from organizational behavioral studies to argue convincingly that it is the organizational structures themselves that have power (Hamilton and Biggart 1985). Neither managers nor their superiors can act belligerently, not simply because of supervision and discipline from above, but because power and legitimacy themselves stem from gaining the respect of others within the firm. All employees, then, must role-play according to the requirements of their position. It is the structure and nature of these games where power and discipline originate.

But with the rise of the managerial firm there has also been a rise of rationality so that the roles to be played quite frequently impose a discipline of bureaucracy and ordinality: there must always be a process and steps must be taken in seriatim; all problems have solutions that can and must be solved, in one way or another. So there is an environment of achievement, of surpassing difficulties, of extraordinary reason. There are deep social norms that both reproduce those present in the larger society and are created emergently by the processes of the firm itself, projecting back upon society the logics of its inner culture.

The important factor is that these structures of power and obedience are markedly different than those that were present during the 1860s when the first managerial firms emerged. There were various types of firm arrangements in place as industrial capitalism began to develop and so too was there a method to satisfy material wants and an accompanying social structure—an economic integration. Importantly, though, these firm arrangements and their resulting forms of economic integration have been superseded since the rise of capitalism with the managerial firm and its new type of economic integration. But even these managerial firms have continued to change, along with society, itself and so the story continues. To say that “the market” was at work throughout this historical episode tells us nothing about the evolution of these social relations or the vastly different ways individuals have come to satisfy their material wants. A different model must be used, one centered on the firm itself.

Yet another application of our theory is to the drastic change in the way consumers purchase goods. Indeed, 2011 was a record setting year for online sales (BusinessInsider). As technology continues to usher in new methods of interfacing with firms, material wants will continue to be satisfied outside of traditional social settings. Standard economic analysis would examine this phenomenon only superficially, but a firm based theory of economic integration would allow an exploration of both the economic and sociological implications including the way firm structure, interfirm connections, and social relations might adapt to this change (again I leave this project for a later date).

Conclusion

We started by noting that economic integration is a particular view of exchange that is different than that normally analyzed by traditional economics. Some problems with this view were discussed, perhaps stemming from the mixed meaning of the word “market”, resulting in a poor framework if one wishes to discuss economic integration (as oppose to other types of economic analyses where the market level might be appropriate).

A new framework was proposed that uses “the firm” loosely defined as the main source of economic integration. We put to the side the interesting and larger question of how changes in firm structure that accompanied the rise of capitalism have influenced different types of economic integration over time. Instead, we focused only on the structure of managerial firms after the change has been “completed” (the process, of course, is ongoing).

Finally, two brief applications of the new theory were discussed. The first combined economic integration and the neo-classical Theory of Value, and showed that both value (in the monetary sense) and social relations were imputed with the purchase of goods. The second example demonstrated one area, power relations, where a change in economic integration has resulted in a change in power relations.

Herein has been a cursory treatment of this topic. The theory most certainly needs refined and must be subjected to a broader set of historical episodes and processes and must be examined to see if it holds up to more rigorous empirical analysis.

Endnotes

[1] As Granovetter demonstrates, even fields such as New Institutional Economics use a sort of robotic view of human behavior rooted in assumptions of behavior that stem from years of the economics discipline focusing on “the market.”

Bibliography

Anon. US Online Sales Reached A Record $6 Billion Last Week – Business Insider. http://articles.businessinsider.com/2011-12-05/news/30476321_1_comscore-chairman-gian-fulgoni-online-sales.

Chandler, Alfred. 1977. The visible hand: the managerial revolution in American business. Cambridge  Mass.: Belknap Press.

Granovetter, Mark. 1985. “Economic Action and Social Structure: The Problem of Embeddedness.” American Journal of Sociology 91 (3) (November 1): 481-510.

Hamilton, Gary G., and Nicole Woolsey Biggart. 1985. “Why People Obey: Theoretical Observations on Power and Obedience in Complex Organizations.” Sociological Perspectives 28 (1) (January 1): 3-28.

Polanyi, Karl. 1957. Trade and market in the early empires  economies in history and theory,. Glencoe  Ill.: Free Press.

Schwartz, Barry. 2004. The paradox of choice: why more is less. 1st ed. New York: Ecco.

 

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