Did you ever wonder how businesses first started? From scratch, I mean. I’m not talking about nowadays. That’s easy. I’m now contemplating the very first one to grace the planet.
There had to be some such occurrence. Companies did not always exist. There were no employers or employees zillions of years ago when our species was located in the trees, or in the caves. Yes, we then worked in groups, and there was typically a headman, but this was not at all the employer – employee relationship we are now defending.
Let us posit, then, that during this far off time, there were only individual proprietorships. Each person worked on his own, for himself. There was no such thing as anyone hiring anyone else. Employment was completely missing from humankind. Everyone was employed alright, but only working for himself.
We now simplify matters and assume equal productivity on the part of everyone. They could each produce 10 units each of apples, bananas and chicken. All their earnings consisted of 30 food units. No one saved anything for a rainy day, nor to enable him to hire anyone else. It was a hand to mouth existence.
Nevertheless, one day, someone got up on his hind legs; call him Charlie. He went to his buddy, Bob, and said, “Hey Bob, come work for me. You’ll be my employee. You’ll follow my orders (within reason). I’ll pay you 35 food units every day. Bob, no fool, took up Charlie on this offer. His mathematics ability enabled him to calculate that 35 was greater than 30.
On the basis of which economic phenomenon was Charlie able to make Bob this offer, and actually carry through on it? Out of which rock did he draw the blood, amounting to 5 food units? For the non-cognoscenti, it is called specialization and the division of labor. Two people, Charlie and Bob, working together, can produce more than double the amount that each could accomplish, working alone. Perhaps it is because Charlie is better at harvesting fruit, while Bob could preside over our clucking friends with greater efficiency. Maybe it is due to the fact that some stones or trees are impervious to the efforts of one man, while succumb to those of two, working together. In any case, the two of them, as a team, can produce 75 food units; Charles pays Bob 35 of them, and keeps 40 for himself.
Did Charlie exploit Bob? The Marxists, economic illiterates and lacking any shred of logic, would say yes, and necessarily so. Why? Well, capital always exploits labor. But there is no capital in our little scenario. (In any case, capital emanates from savings. In our example, Charlie either saved up to be able to hire Bob or borrowed it from someone else. The bottom line is that this enabled the productivity of both to rise. This can hardly justify the Marxist claim of exploitation.) There is just the Adam Smithian specialization and the division of labor. Yes, Charlies’ share was boosted by 10 (40-30) while Bob only benefited to the extent of 5 (35-30). Heck I would have awarded Charlie lots more; it is my numerical example. But no matter how you slice it, Charlie was Bob’s benefactor. Indeed, they each improved the economic welfare of the other. We can deduce this from “drop dead” theory. If Charlie had dropped dead, or for any other reason never made that employment offer to bob, would the latter be better or worse off. Obviously, worse off, by 5 units daily.
Let us generalize and ask what do all employers bring to the table in terms of contribution. The first is risk bearing. Charles is obligated to pay Bob 35 units whether or not the enterprise is a success. The employer cannot come to the employees and say, sorry, I’ve got bad news for you guys. That product we’ve all been working on for a year? Unfortunately, it didn’t sell. No one wants to purchase it. So give me back the wages I’ve been paying you for the last twelve months. No the employer is the residual income claimant. If there is anything left after the sale of the product, and all costs are paid, it is profit, and he gets to keep it all. If there is nothing left, that is his entire share; zero. And if the costs exceed the sales, he loses.
Secondly, he offers time to the enterprise. It will take one year before the first product rolls off the assembly line. During that time he must purchase or rent a factory, hire and pay the workforce, gather the raw materials, pay the electricity bill, get insurance, etc. For these twelve months, the workers are continually paid; the employer does not see dime one. The employees might have been able to do this on their own, but either they didn’t have the wherewithal to keep themselves going for this time period, with no income, or they didn’t want to, or were afraid to, mortgage their homes and other worldly possessions.
Third, the entrepreneur offers leadership and initiative. It is his idea to start off the process that will eventually see the product brought to market after one year. Possibly, but unlikely, a group of employees might have first had the idea, and approached the employer with it, so this is not a necessary characteristic of the employer, as are the other two. But as an empirical matter, this must be very rare.
Despite the virgin birth of the entrepreneur and his continued innocence (yes there are frauds, but this occurs in all callings), the business firm is held in ill repute by all and sundry. Why? Economic illiteracy it one reasonable hypothesis. Thankfully, readers of the present column will not suffer from that particular intellectual malady.
Originally published here.
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yes, true, good point
If Bob got tired of making half of what Charlie did, he could start his own sole proprietorship.