What Libertarianism Is

Mises Daily by Stephan Kinsella

Peace Sign by Justin Gaffrey, GaffreyArt.com

[This essay is adapted from a contribution to Property, Freedom, and Society]

Property, Rights, and Liberty

Libertarians tend to agree on a wide array of policies and principles. Nonetheless, it is not easy to find consensus on what libertarianism's defining characteristic is, or on what distinguishes it from other political theories and systems.

Various formulations abound. It is said that libertarianism is about individual rights, property rights,[1] the free market, capitalism, justice, or the nonaggression principle. Not just any of these will do, however. Capitalism and the free market describe the catallactic conditions that arise or are permitted in a libertarian society, but do not encompass other aspects of libertarianism. And individual rights, justice, and aggression collapse into property rights. As Murray Rothbard explained, individual rights are property rights.[2] And justice is just giving someone his due, which depends on what his rights are.[3]

The nonaggression principle is also dependent on property rights, since what aggression is depends on what our (property) rights are. If you hit me, it is aggression because I have a property right in my body. If I take from you the apple you possess, this is trespass — aggression — only because you own the apple. One cannot identify an act of aggression without implicitly assigning a corresponding property right to the victim.

So capitalism and the free market are too narrow, and justice, individual rights, and aggression all boil down to, or are defined in terms of, property rights. What of property rights, then? Is this what differentiates libertarianism from other political philosophies — that we favor property rights, and all others do not? Surely such a claim is untenable.

After all, a property right is simply the exclusive right to control a scarce resource.[4] Property rights specify which persons own — that is, have the right to control — various scarce resources in a given region or jurisdiction. Yet everyone and every political theory advance some theory of property. None of the various forms of socialism deny property rights; each version will specify an owner for every scarce resource.[5] If the state nationalizes an industry, it is asserting ownership of these means of production. If the state taxes you, it is implicitly asserting ownership of the funds taken. If my land is transferred to a private developer by eminent domain statutes, the developer is now the owner. If the law allows a recipient of racial discrimination to sue his employer for a sum of money, he is the owner of the money.[6]

Protection of and respect for property rights is thus not unique to libertarianism. What is distinctive about libertarianism is its particular property assignment rules: its view concerning who is the owner of each contestable resource, and how to determine this.

Property in Bodies

A system of property rights assigns a particular owner to every scarce resource. These resources obviously include natural resources such as land, fruits of trees, and so on. Objects found in nature are not the only scarce resources, however. Each human actor has, controls, and is identified and associated with a unique human body, which is also a scarce resource.[7] Both human bodies and nonhuman, scarce resources are desired for use as means by actors in the pursuit of various goals.

Accordingly, any political theory or system must assign ownership rights in human bodies as well as in external things. Let us consider first the libertarian property assignment rules with respect to human bodies, and the corresponding notion of aggression as it pertains to bodies. Libertarians often vigorously assert the "nonaggression principle." As Ayn Rand said, "So long as men desire to live together, no man may initiate — do you hear me? No man may start — the use of physical force against others."[8] Or, as Rothbard put it:

The libertarian creed rests upon one central axiom: that no man or group of men may aggress against the person or property of anyone else. This may be called the "nonaggression axiom." "Aggression" is defined as the initiation of the use or threat of physical violence against the person or property of anyone else. Aggression is therefore synonymous with invasion.[9]

In other words, libertarians maintain that the only way to violate rights is by initiating force — that is, by committing aggression. (Libertarianism also holds that, while the initiation of force against another person's body is impermissible, force used in response to aggression — such as defensive, restitutive, or retaliatory/punitive force — is justified.)[10]

Now in the case of the body, it is clear what aggression is: invading the borders of someone's body, commonly called battery, or, more generally, using the body of another without his or her consent.[11] The very notion of interpersonal aggression presupposes property rights in bodies — more particularly, that each person is, at least prima facie, the owner of his own body.[12]

Nonlibertarian political philosophies have a different view. Each person has some limited rights in his own body, but not complete or exclusive rights. Society — or the state, purporting to be society's agent — has certain rights in each citizen's body, too. This partial slavery is implicit in state actions and laws such as taxation, conscription, and drug prohibitions.

The libertarian says that each person is the full owner of his body: he has the right to control his body, to decide whether or not he ingests narcotics, joins an army, and so on. Those various nonlibertarians who endorse any such state prohibitions, however, necessarily maintain that the state, or society, is at least a partial owner of the body of those subject to such laws — or even a complete owner in the case of conscriptees or nonaggressor "criminals" incarcerated for life. Libertarians believe in self-ownership. Nonlibertarians — statists — of all stripes advocate some form of slavery.

Self-ownership and Conflict-avoidance

Without property rights, there is always the possibility of conflict over contestable (scarce) resources. By assigning an owner to each resource, legal systems make possible conflict-free use of resources, by establishing visible boundaries that nonowners can avoid. Libertarianism does not endorse just any property assignment rule, however.[13] It favors self-ownership over other-ownership (slavery).

The libertarian seeks property assignment rules because he values or accepts various grundnorms such as justice, peace, prosperity, cooperation, conflict-avoidance, and civilization.[14] The libertarian view is that self-ownership is the only property assignment rule compatible with these grundorms; it is implied by them.

As Professor Hoppe has shown, the assignment of ownership to a given resource must not be random, arbitrary, particularistic, or biased, if it is actually to be a property norm that can serve the function of conflict-avoidance.[15] Property title has to be assigned to one of competing claimants based on "the existence of an objective, intersubjectively ascertainable link between owner and the" resource claimed.[16] In the case of one's own body, it is the unique relationship between a person and his body — his direct and immediate control over his body, and the fact that, at least in some sense, a body is a given person and vice versa — that constitutes the objective link sufficient to give that person a claim to his body superior to typical third party claimants.

Moreover, any outsider who claims another's body cannot deny this objective link and its special status, since the outsider also necessarily presupposes this in his own case. This is so because, in seeking dominion over the other and in asserting ownership over the other's body, he has to presuppose his own ownership of his body. In so doing, the outsider demonstrates that he does place a certain significance on this link, even as (at the same time) he disregards the significance of the other's link to his own body.[17]

Libertarianism recognizes that only the self-ownership rule is universalizable and compatible with the goals of peace, cooperation, and conflict-avoidance. We recognize that each person is prima facie the owner of his own body because, by virtue of his unique link to and connection with his own body — his direct and immediate control over it — he has a better claim to it than anyone else.

Property in External Things

Libertarians apply similar reasoning in the case of other scarce resources — namely, external objects in the world that, unlike bodies, were at one point unowned. In the case of bodies, the idea of aggression being impermissible immediately implies self-ownership. In the case of external objects, however, we must identify who the owner is before we can determine what constitutes aggression.

As in the case with bodies, humans need to be able to use external objects as means to achieve various ends. Because these things are scarce, there is also the potential for conflict. And, as in the case with bodies, libertarians favor assigning property rights so as to permit the peaceful, conflict-free, productive use of such resources. Thus, as in the case with bodies, property is assigned to the person with the best claim or link to a given scarce resource — with the "best claim" standard based on the goals of permitting peaceful, conflict-free human interaction and use of resources.

Unlike human bodies, however, external objects are not parts of one's identity, are not directly controlled by one's will, and — significantly — they are initially unowned.[18] Here, the libertarian realizes that the relevant objective link is appropriation — the transformation or embordering of a previously unowned resource, Lockean homesteading, the first use or possession of the thing.[19] Under this approach, the first (prior) user of a previously unowned thing has a prima facie better claim than a second (later) claimant, solely by virtue of his being earlier.

Why is appropriation the relevant link for determination of ownership? First, keep in mind that the question with respect to such scarce resources is: who is the resource's owner? Recall that ownership is the right to control, use, or possess,[20] while possession is actual control — "the factual authority that a person exercises over a corporeal thing."[21] The question is not who has physical possession; it is who has ownership.

Thus, asking who is the owner of a resource presupposes a distinction between ownership and possession — between the right to control, and actual control. And the answer has to take into account the nature of previously unowned things — namely, that they must at some point become owned by a first owner.

The answer must also take into account the presupposed goals of those seeking this answer: rules that permit conflict-free use of resources. For this reason, the answer cannot be whoever has the resource or whoever is able to take it is its owner. To hold such a view is to adopt a might-makes-right system, where ownership collapses into possession for want of a distinction.[22] Such a system, far from avoiding conflict, makes conflict inevitable.[23]

Instead of a might-makes-right approach, from the insights noted above it is obvious that ownership presupposes the prior-later distinction: whoever any given system specifies as the owner of a resource, he has a better claim than latecomers.[24] If he does not, then he is not an owner, but merely the current user or possessor. If he is supposed an owner on the might-makes-right principle, in which there is no such thing as ownership, it contradicts the presuppositions of the inquiry itself. If the first owner does not have a better claim than latecomers, then he is not an owner, but merely a possessor, and there is no such thing as ownership.

More generally, latecomers' claims are inferior to those of prior possessors or claimants, who either homesteaded the resource or who can trace their title back to the homesteader or earlier owner.[25] The crucial importance of the prior-later distinction to libertarian theory is why Professor Hoppe repeatedly emphasizes it in his writing.[26]

Thus, the libertarian position on property rights is that, in order to permit conflict-free, productive use of scarce resources, property titles to particular resources are assigned to particular owners. As noted above, however, the title assignment must not be random, arbitrary, or particularistic; instead, it has to be assigned based on "the existence of an objective, intersubjectively ascertainable link between owner" and the resource claimed.[27] As can be seen from the considerations presented above, the link is the physical transformation or embordering of the original homesteader, or a chain of title traceable by contract back to him.[28]

Consistency and Principle

Not only libertarians are civilized. Most people give some weight to some of the above considerations. In their eyes, a person is the owner of his own body — usually. A homesteader owns the resource he appropriates — unless the state takes it from him "by operation of law."[29] This is the principal distinction between libertarians and nonlibertarians: Libertarians are consistently opposed to aggression, defined in terms of invasion of property borders, where property rights are understood to be assigned on the basis of self-ownership in the case of bodies. And in the case of other things, rights are understood on the basis of prior possession or homesteading and contractual transfer of title.

This framework for rights is motivated by the libertarian's consistent and principled valuing of peaceful interaction and cooperation — in short, of civilized behavior. A parallel to the Misesian view of human action may be illuminating here. According to Mises, human action is aimed at alleviating some felt uneasiness.[30] Thus, means are employed, according to the actor's understanding of causal laws, to achieve various ends — ultimately, the removal of uneasiness.

Civilized man feels uneasy at the prospect of violent struggles with others. On the one hand, he wants, for some practical reason, to control a given scarce resource and to use violence against another person, if necessary, to achieve this control. On the other hand, he also wants to avoid a wrongful use of force. Civilized man, for some reason, feels reluctance, uneasiness, at the prospect of violent interaction with his fellow man. Perhaps he has reluctance to violently clash with others over certain objects because he has empathy with them.[31] Perhaps the instinct to cooperate has is a result of social evolution. As Mises noted,

There are people whose only aim is to improve the condition of their own ego. There are other people with whom awareness of the troubles of their fellow men causes as much uneasiness as or even more uneasiness than their own wants.[32]

Whatever the reason, because of this uneasiness, when there is the potential for violent conflict, the civilized man seeks justification for the forceful control of a scarce resource that he desires but which some other person opposes. Empathy — or whatever spurs man to adopt the libertarian grundnorms — gives rise to a certain form of uneasiness, which gives rise to ethical action.

Civilized man may be defined as he who seeks justification for the use of interpersonal violence. When the inevitable need to engage in violence arises — for defense of life or property — civilized man seeks justification. Naturally, since this justification-seeking is done by people who are inclined to reason and peace (justification is after all a peaceful activity that necessarily takes place during discourse),[33] what they seek are rules that are fair, potentially acceptable to all, grounded in the nature of things, and universalizable, and which permit conflict-free use of resources.

Libertarian property rights principles emerge as the only candidate that satisfies these criteria. Thus, if civilized man is he who seeks justification for the use of violence, the libertarian is he who is serious about this endeavor. He has a deep, principled, innate opposition to violence, and an equally deep commitment to peace and cooperation.

For the foregoing reasons, libertarianism may be said to be the political philosophy that consistently favors social rules aimed at promoting peace, prosperity, and cooperation.[34] It recognizes that the only rules that satisfy the civilized grundnorms are the self-ownership principle and the Lockean homesteading principle, applied as consistently as possible.

And as I have argued elsewhere, because the state necessarily commits aggression, the consistent libertarian, in opposing aggression, is also an anarchist.[35]

How Stimulating Is Stimulus?

Lee E. Ohanian

Not very. (Sorry, Paul Krugman.)

Last week's column elicited strong opinions from readers about government stimulus programs as a tool for promoting recovery, and led some to ask for another column on this topic. Strong opinions are held not only by Forbes readers, but seem to be the norm when it comes to stimulus.

There are a number of economists who strongly object to even the basic idea that government spending is a useful tool during this crisis. For example, 1995 Nobel Laureate Robert Lucas called multiplier estimates from Economy.com "schlock economics"; John Cochrane of the University of Chicago has called government spending stimulus "a fallacy"; Robert Barro of Harvard called one version of the American Recovery and Reinvestment Act (ARRA) "the worst bill that has been put forward since the 1930s."

Other economists say stimulus proponents are basing their arguments on the economics of yesteryear. Thomas Sargent of New York University and the Hoover Institution remarked that the support for the ARRA "ignore[s] what we have learned in the last 60 years of macroeconomic research," while 2004 Nobel Laureate Edward Prescott has said, "Stimulus is not part of the language of economics. There is an old, discarded theory that's been tried and failed spectacularly. The stimulus bill is likely to depress the economy."

On the other side of the debate, however, Nobel Laureate Paul Krugman has written that "first-rate economists keep making truly boneheaded arguments against [stimulus]." Others, like Robert H. Frank of Cornell, have also come out punching for stimulus.

So what are the sources of these strong differences of opinion? The arguments in favor of government spending stimulus, including the majority of those discussed in the media, come from the traditional Keynesian view that government spending increases aggregate demand--the sum of consumer, business, government and net foreign expenditure--and that increasing aggregate demand increases real output and income.

Now whether this actually works or not depends largely on the impact of higher public spending on private consumption and investment. In the Keynesian model, private spending rises in response to higher public spending, which leads to the controversial multiplier effect--one dollar of government spending increases real GDP by more than one dollar.

Spending skeptics regard the impact of government spending on private spending very differently, as the Keynesian model was replaced many years ago, at least among research economists; and many of the presumptions of the Keynesian model have changed as well. The central message from new research on fiscal policy is that the impact of government spending depends critically on what the spending is on, and how it is ultimately financed.

For these reasons, there is no simple answer to the question of how spending affects the economy, but what new research does tell us is not supportive of spending stimulus programs. Studies that include the important requirement that higher spending must be ultimately financed with higher tax rates find that government spending expansions do not expand the economy.

In some cases, higher spending can raise GDP for a short period of time if tax increases are delayed, but the greater the delay, the greater the long-run decline in employment and output that ultimately swamps the temporary gain. These findings are summarized in a new paper by Harald Uhlig of the University of Chicago, who writes that "the analysis here may lead one to conclude that the long-term consequences of massive expansions in government stimulus come at substantial costs."

And if public spending is a very close substitute for private spending, there may well not be even temporary gains from higher spending.

Edward Prescott's research presents evidence that an important reason hours worked in Northern and Western Europe are 30% lower today than in the 1960s is because of higher government spending that substitutes very closely for private spending in conjunction with large tax increases that were required to pay for this spending.

The key reason recent studies don't find a Keynesian-level multiplier is because the higher taxes on incomes or expenditures that ultimately accompany higher spending depress economic activity. And the depressing effect of these tax increases is the largest when government spending closely replaces private expenditures. Ironically, the largest temporary gains of higher spending occur when the spending is on items that have little direct value to consumers, such as military spending.

Recent military episodes are too small to cleanly detect this in the data, but my recent work with Ellen McGrattan of the Federal Reserve Bank of Minneapolis presents evidence that one reason the World War II economy boomed was because the level of war expenditures--which represent a pure drain of resources from households--was off the chart. Consequently, it is not surprising that economic activity was high during the war. If employment hadn't increased significantly in wartime, there would have been very few resources available with with households could consume.

The bottom-line thinking among many economists specializing in this area is that the current body of research doesn't warrant a $787 billion package with the goal of spurring the economy. But this doesn't imply government should never consider increasing spending during economic declines.

The standard approach for judging government spending is cost-benefit analysis, which judges a project to be worthwhile if the costs--including impact on future taxes--are less than the benefits it provides. It may be useful for government to consider accelerating spending on worthwhile programs during a downturn, since the cost of some initiatives, such as construction projects, may indeed be lower.

A more modest fiscal program founded along cost-benefit lines would have engendered support from at least some of the most vocal critics of the ARRA. And at least some of the programs within the ARRA would pass a cost-benefit test. But anecdotes from the ARRA indicate that not all would pass this test. For example, the Minneapolis City Council voted to spend $2 million in ARRA funds for developers to convert a vacant theater into a dance center. The city estimated the project would create about 48 permanent jobs, far fewer than a solar energy panel manufacturing plant that the city estimates would create 360 jobs. But that manufacturing plant was awarded just $300,000, which wasn't sufficient to warrant the plant being opened. Councilman Paul Ostrow, in a dissenting vote, said the theater wasn't creating enough jobs to justify stimulus investment, but the solar-energy plant "clearly fit the president's goals ... It was a home run."

As I noted last week, most of the ARRA funds have yet to be spent. The Minneapolis example raises questions about whether reasonable cost-benefit analysis is being used in calculating where to invest ARRA money. Let's hope cost-benefit analysis is used sensibly as the ARRA moves forward.

Lee E. Ohanian is a professor of Economics and director of the Ettinger Family Program in Macroeconomic Research at UCLA. (Forbes columnist Thomas F. Cooley returns next week.)

What Business Management Is and What It Is Not

Mises Daily by Ludwig von Mises

The entrepreneurs are not omnipresent. They cannot themselves attend to the manifold tasks which are incumbent upon them.

Economic calculation as practiced in the market economy, and especially the system of double-entry bookkeeping, make it possible to relieve the entrepreneur of involvement in too much detail. He can devote himself to his great tasks without being entangled in a multitude of trifles beyond any mortal man's range of sight.

He can appoint assistants to whose solicitude he entrusts the care of subordinate entrepreneurial duties. And these assistants in their turn can be aided according to the same principle by assistants appointed for a smaller sphere of duties. In this way a whole managerial hierarchy can be built up.

A manager is a junior partner of the entrepreneur, as it were, no matter what the contractual and financial terms of his employment are. The only relevant thing is that his own financial interests force him to attend to the best of his abilities to the entrepreneurial functions which are assigned to him within a limited and precisely determined sphere of action.

It is the system of double-entry bookkeeping that makes the functioning of the managerial system possible. Thanks to it the entrepreneur is in a position to separate the calculation of each part of his total enterprise in such a way that he can determine the role it plays within his whole enterprise. Thus he can look at each section as if it were a separate entity and can appraise it according to the share it contributes to the success of the total enterprise.

Within this system of business calculation each section of a firm represents an integral entity, a hypothetical independent business, as it were. It is assumed that this section "owns" a definite part of the whole capital employed in the enterprise, that it buys from other sections and sells to them, that it has its own expenses and its own revenues, that its dealings result either in a profit or in a loss which is imputed to its own conduct of affairs as distinguished from the result of the other sections. Thus the entrepreneur can assign to each section's management a great deal of independence. The only directive he gives to a man whom he entrusts with the management of a circumscribed job is to make as much profit as possible.

$20 $16

Murphy's Guide to Mises

An examination of the accounts shows how successful or unsuccessful the managers were in executing this directive. Every manager and submanager is responsible for the working of his section or subsection. It is to his credit if the accounts show a profit, and it is to his disadvantage if they show a loss. His own interests impel him toward the utmost care and exertion in the conduct of his section's affairs. If he incurs losses, he will be replaced by a man whom the entrepreneur expects to be more successful, or the whole section will be discontinued. At any rate, the manager will lose his job. If he succeeds in making profits, his income will be increased, or at least he will not be in danger of losing it. Whether or not a manager is entitled to a share in the profit imputed to his section is not important with regard to the personal interest he takes in the results of his section's dealings. His welfare is at any rate closely connected with that of his section. His task is not like that of the technician, to perform a definite piece of work according to a definite precept. It is to adjust — within the limited scope left to his discretion — the operation of his section to the state of the market.

Of course, just as an entrepreneur may combine in his person entrepreneurial functions and those of a technician, such a union of various functions can also occur with a manager. The managerial function is always subservient to the entrepreneurial function. It can relieve the entrepreneur of a part of his minor duties; it can never evolve into a substitute for entrepreneurship. The fallacy to the contrary is due to the error confusing the category of entrepreneurship as it is defined in the imaginary construction of functional distribution with conditions in a living and operating market economy. The function of the entrepreneur cannot be separated from the direction of the employment of factors of production for the accomplishment of definite tasks. The entrepreneur controls the factors of production; it is this control that brings him either entrepreneurial profit or loss. It is possible to reward the manager by paying for his services in proportion to the contribution of his section to the profit earned by the entrepreneur. But this is of no avail. As has been pointed out, the manager is under any circumstances interested in the success of that part of the business which is entrusted to his care. But the manager cannot be made answerable for the losses incurred. These losses are suffered by the owners of the capital employed. They cannot be shifted to the manager.

"A manager is a junior partner of the entrepreneur, as it were, no matter what the contractual and financial terms of his employment are."

Society can freely leave the care for the best possible employment of capital goods to their owners. In embarking upon definite projects these owners expose their own property, wealth, and social position. They are even more interested in the success of their entrepreneurial activities than is society as a whole. For society as a whole the squandering of capital invested in a definite project means only the loss of a small part of its total funds; for the owner it means much more, for the most part the loss of his total fortune. But if a manager is given a completely free hand, things are different. He speculates in risking other people's money. He sees the prospects of an uncertain enterprise from another angle than that of the man who is answerable for the losses. It is precisely when he is rewarded by a share of the profits that he becomes foolhardy because he does not share in the losses too.

The illusion that management is the totality of entrepreneurial activities and that management is a perfect substitute for entrepreneurship is the outgrowth of a misinterpretation of the conditions of the corporations, the typical form of present-day business. It is asserted that the corporation is operated by the salaried managers, while the shareholders are merely passive spectators. All the powers are concentrated in the hands of hired employees. The shareholders are idle and useless; they harvest what the managers have sown.

This doctrine disregards entirely the role that the capital and money market, the stock and bond exchange, which a pertinent idiom simply calls the "market," plays in the direction of corporate business. The dealings of this market are branded by popular anticapitalistic bias as a hazardous game, as mere gambling. In fact, the changes in the prices of common and preferred stock and of corporate bonds are the means applied by the capitalists for the supreme control of the flow of capital. The price structure as determined by the speculations on the capital and money markets and on the big commodity exchanges not only decides how much capital is available for the conduct of each corporation's business; it creates a state of affairs to which the managers must adjust their operations in detail.

The general direction of a corporation's conduct of business is exercised by the stockholders and their elected mandataries, the directors. The directors appoint and discharge the managers. In smaller companies and sometimes even in bigger ones the offices of the directors and the managers are often combined in the same persons. A successful corporation is ultimately never controlled by hired managers. The emergence of an omnipotent managerial class is not a phenomenon of the unhampered market economy. It was, on the contrary, an outgrowth of the interventionist policies consciously aiming at an elimination of the influence of the shareholders and at their virtual expropriation.

In Germany, Italy, and Austria it was a preliminary step on the way toward the substitution of government control of business for free enterprise, as has been the case in Great Britain with regard to the Bank of England and the railroads. Similar tendencies are prevalent in the American public utilities. The marvelous achievements of corporate business were not a result of the activities of a salaried managerial oligarchy; they were accomplished by people who were connected with the corporation by means of the ownership of a considerable part or of the greater part of its stock and whom part of the public scorned as promoters and profiteers.

"It is the system of double-entry bookkeeping that makes the functioning of the managerial system possible."

The entrepreneur determines alone, without any managerial interference, in what lines of business to employ capital and how much capital to employ. He determines the expansion and contraction of the size of the total business and its main sections. He determines the enterprise's financial structure. These are the essential decisions which are instrumental in the conduct of business. They always fall upon the entrepreneur, in corporations as well as in other types of a firm's legal structure. Any assistance given to the entrepreneur in this regard is of ancillary character only; he takes information about the past state of affairs from experts in the fields of law, statistics, and technology; but the final decision implying a judgment about the future state of the market rests with him alone. The execution of the details of his projects may then be entrusted to managers.

The social functions of the managerial elite are no less indispensable for the operation of the market economy than are the functions of the elite of inventors, technologists, engineers, designers, scientists, and experimenters. In the ranks of the managers many of the most eminent men serve the cause of economic progress. Successful managers are remunerated by high salaries and often by a share in the enterprise's gross profits. Many of them in the course of their careers become themselves capitalists and entrepreneurs. Nonetheless, the managerial function is different from the entrepreneurial function.

It is a serious mistake to identify entrepreneurship with management as in the popular antithesis of "management" and "labor." This confusion is, of course, intentional. It is designed to obscure the fact that the functions of entrepreneurship are entirely different from those of the managers attending to the minor details of the conduct of business. The structure of business, the allocation of capital to the various branches of production and firms, the size and the line of operation of each plant and shop are considered as given facts and it is implied that no further changes will be effected with regard to them. The only task is to go on in the old routine. In such a stationary world, of course, there is no need for innovators and promoters; the total amount of profits is counterbalanced by the total amount of losses. To explode the fallacies of this doctrine it is enough to compare the structure of American business in 1945 with that of 1915.

But even in a stationary world it would be nonsensical to give "labor," as a popular slogan demands, a share in management. The realization of such a postulate would result in syndicalism.[22]

There is furthermore a readiness to confuse the manager with a bureaucrat.

Bureaucratic management, as distinguished from profit management, is the method applied in the conduct of administrative affairs, the result of which has no cash value on the market. The successful performance of the duties entrusted to the care of a police department is of the greatest importance for the preservation of social cooperation and benefits each member of society. But it has no price on the market, it cannot be bought or sold; it can therefore not be confronted with the expenses incurred in the endeavors to secure it. It results in gains, but these gains are not reflected in profits liable to expression in terms of money. The methods of economic calculation, and especially those of double-entry bookkeeping, are not applicable to them. Success or failure of a police department's activities cannot be ascertained according to the arithmetical procedures of profit-seeking business. No accountant can establish whether or not a police department or one of its subdivisions has succeeded.

It is precisely when a manager is rewarded by a share of the profits that he becomes foolhardy because he does not share in the losses too.

The amount of money to be expended in every branch of profit-seeking business is determined by the behavior of the consumers. If the automobile industry were to treble the capital employed, it would certainly improve the services it renders to the public. There would be more cars available. But this expansion of the industry would withhold capital from other branches of production in which it could fill more urgent wants of the consumers. This fact would render the expansion of the automobile industry unprofitable and increase profits in other branches of business. In their endeavors to strive after the highest profit obtainable, entrepreneurs are forced to allocate to each branch of business only as much capital as can be employed in it without impairing the satisfaction of more urgent wants of the consumers. Thus the entrepreneurial activities are automatically, as it were, directed by the consumers' wishes as they are reflected in the price structure of consumers' goods.

No such limitation is enjoined upon the allocation of funds for the performance of the tasks incumbent upon government activities. There is no doubt that the services rendered by the police department of the City of New York could be considerably improved by trebling the budgetary allocation. But the question is whether or not this improvement would be considerable enough to justify either the restriction of the services rendered by other departments — e.g., those of the department of sanitation — or the restriction of the private consumption of the taxpayers. This question cannot be answered by the accounts of the police department. These accounts provide information only about the expenses incurred. They cannot provide any information about the results obtained, as these results cannot be expressed in money equivalents. The citizens must directly determine the amount of services they want to get and are ready to pay for. They discharge this task by electing councilmen and officeholders who are prepared to comply with their intentions.

Thus the mayor and the chiefs of the city's various departments are restricted by the budget. They are not free to act upon what they themselves consider the most beneficial solution of the various problems the citizenry has to face. They are bound to spend the funds allocated for the purposes the budget has assigned them. They must not use them for other tasks. Auditing in the field of public administration is entirely different from that in the field of profit-seeking business. Its goal is to establish whether or not the funds allocated have been expended in strict compliance with the provisions of the budget.

In profit-seeking business the discretion of the managers and submanagers is restricted by considerations of profit and loss. The profit motive is the only directive needed to make them subservient to the wishes of the consumers. There is no need to restrict their discretion by minute instructions and rules. If they are efficient, such meddling with details would at best be superfluous, if not pernicious in tying their hands. If they are inefficient, it would not render their activities more successful. It would only provide them with a lame excuse that the failure was caused by inappropriate rules. The only instruction required is self-understood and does not need to be especially mentioned: seek profit.

"The emergence of an omnipotent managerial class is not a phenomenon of the unhampered market economy. It was, on the contrary, an outgrowth of the interventionist policies…"

Things are different in public administration, in the conduct of government affairs. In this field the discretion of the officeholders and their subaltern aids is not restricted by considerations of profit and loss. If their supreme boss — no matter whether he is the sovereign people or a sovereign despot — were to leave them a free hand, he would renounce his own supremacy in their favor. These officers would become irresponsible agents, and their power would supersede that of the people or the despot. They would do what pleased them, not what their bosses wanted them to do. To prevent this outcome and to make them subservient to the will of their bosses it is necessary to give them detailed instructions regulating their conduct of affairs in every respect. Then it becomes their duty to handle all affairs in strict compliance with these rules and regulations. Their freedom to adjust their acts to what seems to them the most appropriate solution of a concrete problem is limited by these norms. They are bureaucrats, i.e., men who in every instance must observe a set of inflexible regulations.

Bureaucratic conduct of affairs is conduct bound to comply with detailed rules and regulations fixed by the authority of a superior body. It is the only alternative to profit management. Profit management is inapplicable in the pursuit of affairs which have no cash value on the market and in the nonprofit conduct of affairs which could also be operated on a profit basis. The former is the case of the administration of the social apparatus of coercion and compulsion; the latter is the case in the conduct of an institution on a nonprofit basis, e.g., a school, a hospital, or a postal system. Whenever the operation of a system is not directed by the profit motive, it must be directed by bureaucratic rules.

Bureaucratic conduct of affairs is, as such, not an evil. It is the only appropriate method of handling governmental affairs, i.e., the social apparatus of compulsion and coercion. As government is necessary, bureaucratism is — in this field — no less necessary. Where economic calculation is unfeasible, bureaucratic methods are indispensable. A socialist government must apply them to all affairs.

No business, whatever its size or specific task, can ever become bureaucratic so long as it is entirely and solely operated on a profit basis. But as soon as it abandons profit — seeking and substitutes for it what is called the service principle — i.e., the rendering of services without regard as to whether or not the prices to be obtained for them cover the expenses — it must adopt bureaucratic methods for those of entrepreneurial management. (For a detailed treatment of the problems involved, see Bureaucracy.)

Is Silicon Valley a Systemic Risk?

Treasury decides to treat venture capitalists like hedge funds.

JAMES FREEMAN

The Obama administration wants to regulate venture capital firms to prevent systemic risks. Silicon Valley residents are scratching their heads and asking: What risks? The rest of us should ask why Washington is targeting a jewel of the American economy that had nothing to do with the housing bubble.

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The confusion began when Treasury Secretary Timothy Geithner recently told Congress that large venture capital (VC) firms should be forced to register with the Securities and Exchange Commission (SEC), and submit regular reports on their investors and portfolios. Data collected by the SEC would then be shared with a new risk regulator to ensure that VCs aren't "a threat to financial stability."

Since then, venture investors have been trying to solve the mystery of how they could possibly threaten the financial system. Their work involves very little banking. Venture firms raise equity from wealthy investors to buy ownership stakes in small companies. The VCs and the companies in which they invest use little or no debt.

"I cannot imagine any venture fund being of a size to pose 'systemic risk,' so they either don't understand the nature of the business, or by including this provision they are sharing that their agenda is not the overt one disclosed," says Jack Biddle of Novak Biddle Venture Partners. What Washington needs to understand is that bank-style regulation could destroy the culture that created the microprocessor.

In justifying new SEC registration requirements, Mr. Geithner said that Bernie Madoff's Ponzi scheme demonstrated that investors need more protection. He didn't mention that Madoff's firm was registered with the SEC as an investment adviser and had also been regulated by the SEC for decades as a broker-dealer. Also, Madoff was not running a venture firm.

The entire venture capital industry is smaller than the Madoff fraud. VCs invest a total of $30 billion each year, far less than one-tenth of 1% of U.S. financial transactions. Venture investors -- affluent individuals and institutions -- are putting up equity and know that they can lose it all. SEC regulation could have the same negative impact on them that it had on Madoff's investors: creating an illusion of safety in what is an inherently risky endeavor. Or the regulation could become so severe that it actually does eliminate risk from venture investing, killing the innovative ideas that can only be funded by risk-takers.

The fact that VC money is small potatoes compared to Wall Street money doesn't mean we wouldn't notice if the industry were regulated out of existence. Venture investments helped build Intel, Apple, Google, Amazon and Cisco, to name just a few. Is Mr. Geithner sure that he has a better model?

Since the Treasury secretary lumped venture capital into a category with hedge funds, there's a question of whether something has been lost in translation between Washington and Silicon Valley. Mr. Geithner says that he needs to make sure that private investment firms are not overleveraged. But leverage is such a small factor in the venture world that the trade association for venture capital firms doesn't even collect data on it. Responding to the Treasury plan, the National Venture Capital Association is now seeking more information. Will they discover dangerous levels of debt piled on such shaky foundations? Don't bet on it.

Greg Becker is the president of Silicon Valley Bank, a leader in providing financing to venture-backed companies. He says a typical start-up client will raise perhaps $10 million in equity investments from VCs. His bank will lend perhaps $1 million or $2 million at high rates on a short-term basis only if the bank expects the young company to get another round of venture investment. Every dollar loaned is secured against all of the assets of the start-up. Most of these loans are paid back, and even when a start-up goes bust, he reports that the $10 million equity investment has usually created enough enterprise value for his bank to recover its principal.

At the next level of growth, when companies have perhaps $20 million of annual revenues but still negative cash flow, he'll loan perhaps $4 million or $5 million for working capital, equal to the company's quarterly accounts receivable, if he thinks the entrepreneurs will be able to use the funding to win a big client. Even when venture-backed firms become cash-flow positive, his bank is still only loaning limited amounts of money based on the firm's accounts receivable, and always secured by the firm's assets. Loans to venture-backed firms never account for more than 10%-11% of the bank's business.

For anyone concerned about systemic risk, the dot-com bust of 2000-2002 has already provided the ultimate stress test. Mr. Becker says his firm was never threatened, and neither were the other banks that provide such financing.

Many start-ups don't use debt at all. After all, how many people want to lend to a business without stable cash flows? For the ventures that do use debt, many of them use less than Mr. Becker's clients. Steve Harrick of Institutional Venture Partners says that even companies in his portfolio with $50 million in revenues will typically limit borrowing to $2 million or $3 million for working capital. And at the level of the venture firms, there's a reason they raise equity instead of debt. Who would lend large sums to somebody investing in firms without profits or even revenues?

The only people threatened when a start-up goes bust are its small group of employees and investors, and they wouldn't have it any other way. Says Mr. Harrick, "You've got people willing to take risks. In fact, they need to have a tolerance not just for risk, but for the potential of outright failure."

If our economic system is to thrive, venture capital is exactly the place where we have to encourage risk. In pursuit of innovations that will enrich themselves and the world, employees at start-ups accept low pay and reputational risk, while well-heeled investors accept the possibility of losing every nickel of their investment.

Attempts to limit risk pose a systemic threat to American technology. Venture capitalists, mainly veterans of the tech industry, are deeply involved in the companies they back, often helping to recruit each of the key employees at a start-up. This hands-on feature of venture investing means that innovative companies and their backers tend to cluster in areas like Silicon Valley. If the VCs move offshore, that's probably where the next generation of companies will be born.

Even if one wishes to be paranoid about systemic risks, it's hard to imagine how tiny tech companies could be ground zero in a future credit bubble. The politicians aren't driving capital into this business. Fannie Mae and Freddie Mac don't provide cheap financing to VCs. Major credit-ratings agencies don't grade start-ups, so there will be no government-distorted judgments of creditworthiness. Neither VCs nor the companies they fund issue bonds or CDOs or CLOs. There's no Technology Community Reinvestment Act. Moral hazard? Not in Silicon Valley. No tech-company founders or VCs could possibly believe they are too big to fail.

Washington-created failure is what riles Cypress Semiconductor CEO T.J. Rodgers. In a recent email, he notes that this isn't the best moment in history to add another burden to America's tech industry. Very few start-ups have gone public in recent years, thanks in part to the multimillion-dollar compliance costs imposed by the Sarbanes-Oxley law in 2002, the last time Congress sought to re-regulate corporate finance.

Says Mr. Rodgers, "First, Sarbanes-Oxley mandated byzantine corporate bureaucracy to 'protect' investors. Then, the SEC damaged the Silicon Valley economy by forcing companies to count stock options twice, both as dilution and as expense. As a result, Silicon Valley, for decades the bright spot of the American economy, produced only one [initial public offering] in all of 2008. Now, Geithner wants to regulate venture capital firms to protect us some more. It's like watching children deface an economic work of art."

Mr. Freeman is assistant editor of the Journal's editorial page.

Who is Barney Frank?

By Vasko Kohlmayer

"As Congress grapples with solutions for a faltering economy, Barney Frank sits at the center of power."

Thus wrote John Gallagher in The Advocate as our government officials desperately struggled to limit the fallout from the unfolding financial crisis.

Gallagher is right. As Chairman of the Financial Service Committee in the US House of Representatives, Barney Frank plays a crucial role in determining in what ways much of the bailout and stimulus money is spent. This is because the committee over which he presides oversees the housing and banking sectors, two industries that are at the center of the current economic crisis. But Frank's power and influence extend beyond his chairmanship of the important Financial Services Committee. Outspoken, smart and forceful, Frank has emerged as one of the heavyweights in the Democrat-led House and as such instrumental in shaping its course and agenda. There are some who think that his behind-the-scenes influence exceeds even that of Nancy Pelosi. Whether or not this is so, there can be no doubt that Barney Frank is currently one of the most powerful politicians in the country.

Given his present position of influence, taxpayers may want to learn more about the background of the man who directs how hundreds of billions of dollars of their money is spent.

Barnett "Barney" Frank was first elected to Congress in 1981 at the age of forty-one from Massachusetts' 4^th district. Six years later he made national news when he publicly declared his homosexuality. By that admission he became the first openly gay member of the House of Representatives.

In 1991, Barney Frank received an official reprimand for reflecting "discredit upon the House." The reprimand came as a result of his relationship with a man named Steve Gobi, a male prostitute whom Frank initially paid $80 for sex. Frank later took Gobi to live with him in his home, making him a personal aide. He paid him $20,000 in compensation (unreported to the IRS) and let him use his car. Subsequent investigation revealed that in the course of their relationship, Frank used his congressional office and stationary to fix Gobi's 33 parking fines. Frank also used his congressional letterhead to write a reference letter to Gobi's probation officer -- Gobi was under court supervision as a convicted felon with a prison record -- in which he gave false information. Most damningly, the investigation found that Gobi ran a prostitution ring from Frank's home. In his defense, Frank asserted he knew nothing of Gobi's illicit enterprise.

The Democrat -controlled House voted 408-18 to reprimand Frank after a heated debate during which some Republicans demanded expulsion. They pointed out that the claim that Frank did not know of Gobi's criminal activities was incredible to say the least.

Jeff Jacoby of The Boston Globe summed up their sentiments when he wrote: "Most pathetic of all was Frank's claim that he'd been 'victimized' -- that he was a just a 'good liberal' who was 'trying to help' Gobie, but got 'suckered.'"

Frank's Democrat colleagues, however, insisted that this was precisely what happened. During the debate, his friend Thomas Foglietta (D-PA) said, "Barney Frank is accused of being stupid and, my friend, if being stupid were grounds for expulsion, there'd be very few of us left here."

Although the latter part of Foglietta's statement may well be true, the first part is decidedly not. Whatever else he may be, Barney Frank is certainly not stupid. A former Harvard instructor, Barney Frank twice won the title "brainiest", "funniest," and "most eloquent" member of the House in a survey of Capitol Hill staffers. It truly strains the bounds of credulity that Frank, an accomplished congressman and a former Ivy League lecturer, could be deceived under his own roof by a street hustler.

After Gobi, Barney Frank become involved in another questionable -- and possibly criminally tainted -- relationship with a man called Herb Moses. Moses, whom Frank called his "spouse," was a high-level executive at Fannie Mae from 1991 until 1998. Dubbed a "mortgage guru" by the National Mortgage News, Moses boasted that he helped develop "many of Fannie Mae's affordable housing and home improvement lending programs." It was, of course, these kinds of programs that ultimately led to the collapse of the subprime mortgage market that wiped out trillions dollars from the economy and produced the economic turmoil that we now face. Even though there were those warning against the precarious nature of the enterprise, Barney Frank -- whose committee oversees Fannie Mae and Freddie Mac -- kept resisting reforms and besmirching those voicing concerns.

When the Bush administration proposed that oversight of Fannie and Freddie be transferred to the Treasury Department, Frank strongly opposed the plan, claiming:

"These two entities... are not facing any kind of financial crisis... The more people exaggerate these problems, the more pressure there is on these companies, the less we will see in terms of affordable housing."

Frank continued to claim almost until the day of the collapse that the two mortgage giants were financially sound. If we lived in a sane world, Barney Frank would be compelled to testify about his culpability in the current crisis and what role his romantic involvement with Herb Moses -- as well as the campaign contributions he received from Fannie and Freddie -- played in his shilling for these two moribund institutions.

Commenting on his shenanigans, Jeff Jacoby observed that under normal circumstances Frank's questionable relationships could have well landed him in prison. Voters in his very liberal congressional district, however, have awarded him with a string of easy re-elections.

In his public life Barney Frank is known as a civil rights hawk. A feisty progressive activist, Frank has poured much of his energies into the area of lesbian, gay, bisexual, and transgender (LGBT) issues. One of his great achievements was the founding of the National Stonewall Democrats, a gay activist arm of the Democrat Party that brought under one umbrella previously unaffiliated LGBT clubs across America. Describing itself as "a grassroots force for social change," the organization is headquartered in Washington, D.C. and currently oversees more than 90 local chapters. The organization's website states that its activities focus primarily on "mobilizing the LGBT [Lesbian, Gay, Bisexual and Transgender] community to get out to vote on Election Day for fair-minded Democrats; and standing up when Republicans attack our families..."

As could be expected from the founder of the National Stonewall Democrats, Barney Frank voted ‘no' on constitutionally defining marriage as one-man-one-woman. During the debate he praised the progressive leaning of his own state's body politic: "I believe the political community of Massachusetts is prepared to say, if two men love each other and are prepared to be committed to each other legally as well as emotionally, that is rather a good thing and we will say it's okay." In 1999 Frank voted ‘no' on a bill which would ban gay adoptions in Washington, D.C. Needless to say, Frank's voting record has earned him a 97% lifetime rating from the ACLU.

Throughout his career Frank has pushed for the decriminalization of medical marijuana. He recently extended the scope of his efforts to the public at large. Last year he introduced a bill called the Personal Use of Marijuana by Responsible Adults Act of 2008, which would have removed federal penalties for the possession of up to 100 grams (3.5 oz) of the drug. Although Frank often talks about the "silliness" of jailing people for possessing small quantities of the substance, 100 grams is actually a large amount, which, by most accounts, makes for more than 200 doses. According to a recent analysis by High Times magazine, 100 grams of most marijuana strands goes for more than $1000 at street prices. Defending his bill, Frank said that it was "time for the politicians to catch up with the public on this." Frank words almost make it look like it is a common thing for Americans to walk around with $1000 worth of cannabis in their pockets.

In 2006, Frank voted against the Respect for America's Fallen Heroes Act, a bill aimed at restricting protests and demonstrations at soldiers' funerals. The measure passed unanimously in the Senate with Frank being one of only three legislators in the House who voted against the Act.

In 2003 Barney Frank voted against the Partial-Birth Abortion Ban Act, a brutal procedure during which a baby -- often viable -- is killed in the birth canal by having its skull pierced and its brain sucked out. In addition, Frank also voted against the Unborn Victims of Violence Act and against the criminalization of taking of minors across state lines by non-family members to circumvent abortion laws. Not surprisingly, Frank's voting record earned him a 100% rating from NARAL.

In the area of national defense, Barney Frank has for years advocated a 25 percent reduction in the overall military budget of the United States. Earlier this month, he wrote in a piece that ran in the Nation,

"[I]f we do not make reductions approximating 25 percent of the military budget starting fairly soon, it will be impossible to continue to fund an adequate level of domestic activity even with a repeal of Bush's tax cuts for the very wealthy."

He then challenged those who call for fiscal responsibility to first look "where our spending has been the most irresponsible and has produced the least good for the dollars expended - our military budget."

All those who care about the future of this country should be greatly concerned that Barney Frank, a leftist radical who publicly flaunts his homosexuality, is presently one of the most powerful politicians in America. His recent actions and statements make it amply clear that he will seek to use his present influence to implement as much of his extreme agenda as he possibly can. Given his party's hold on the White House and Congress his efforts may meet with much success.

What Capitalism Is

What Capitalism Is
• Moral Foundations

Capitalism begins with the individual as the primary unit of political, social, and economic life. It recognizes that each individual has moral sovereignty over his own life. Each man must choose his own course of action—whether he becomes a CEO or a day laborer—according to some moral code. In a capitalist system, it is morally proper for individuals in general, and businessmen in particular, to pursue their own self-interest. Underlying the system of capitalism is a morality of egoism.

From the inventor who designs a new factory tool to save human labor power to the financier who devises a new method for allocating capital to worthy ventures, those who produce material goods—the lifeblood of capitalism—do so because it serves their own interests. These producers produce not because it serves others or helps the poor; they do so because they have a deep selfish motive for doing so—it advances their own well-being. Each individual faces the same basic choice, he must either act to produce or labor for the values he needs to survive and, ultimately, to flourish, or he faces poverty, sickness, and, ultimately, death. Each must choose to produce the material values necessary for his survival. From the primitive tools used for hunting to advanced factories that create computers, human beings have had to produce in order to survive. Man’s needs—winter coats, MRI machines, apartment homes, televisions, etc.—are not provided by nature, they must be created.

All of these goods came about because some individuals acted in their own interest in pursuing their own survival. Every great producer, from Thomas Edison to Henry Ford to Sam Walton, has been driven by what most satisfies and fulfills his own life. Although each of these men has greatly benefited humanity by providing it with light bulbs, cheap automobiles, or cheap consumer retailing, his motive in working toward these ends must be his own satisfaction and fulfillment. Each of these men, and the millions of producers throughout history, have enjoyed a personal and selfish reward in the act of production itself. The uncountable hours of labor, mental energy, and effort that each put into the act of production could only have been possible if the work itself was personally rewarding. It was for their own lives, first and foremost, that they acted, not for the social consequences of their work.

The act of pursuing one’s goals does not come automatically; these goals must be discovered and chosen. Likewise, the means of pursuing those goals is not built into human nature; they, too, must be discovered. Scientists, businessmen, inventors, and other creative individuals throughout history have had to confront their circumstances and figure out what things are good for human life and what things harm it. They have ascertained, for example, that some foods provide optimal nutrition and others cause disease or even death. They have learned that building homes with good airflow and light promote human life whereas dank and dark hovels do not. At a deeper level, though, their process of establishing these basic requirements for survival points to a deeper truth—that certain methods of making one’s choices and pursuing one’s values leads to success and happiness and that other methods lead to pain, suffering, and death. The method that leads to human flourishing is the method of reason.