Is Capitalism Broken?

“Capitalism is broken.”  — Rebecca Henderson, professor at Harvard Business School.[1]

“Capitalism is broken.” – Katrina Vanden Heuvel, columnist.[2]

“Capitalism is so broken it can’t be fixed.” – Paul B. Farrell, financial columnist.[3]

“Yes, the capitalist system is broken.”—Yanis Varoufakis, former Finance Minister, Greece.[4]

“American capitalism is broken.” – Robert Reich, professor, former US Secretary of Labor.[5]

“Capitalism is broken.” – Muhammad Yunus, Chief Adviser of the Interim Government of Bangladesh.[6]

“US capitalism has been shattered.” – Henry Kaufman, economic consultant.[7]

[American capitalism is] “breaking down before our eyes.” – Ken Griffin, hedge fund CEO.[8]

These comments emerged in the recent past at times of economic stress.  They are a sample of sentiments that reappear regularly, like the flowers that bloom every spring.  Though one might shrug them off today, the sentiment behind them raises at least three questions.

  1. What can claims of brokenness tell us about capitalism (and democracy)? True believers in capitalism usually discount the facts and views of critics.  One of the major lessons of leadership is the importance of listening to critics,
  2. What does the brokenness imply for “fixing” capitalism by government intervention in firms and markets? As I write this post, we are in the final days of a national election, the results of which may invite a great deal of “fixing.”  The sentiment among the public—especially those likely to vote—is that the economy is ailing and is the #1 issue in this presidential election.[9]  Ironically, economic conditions right now are good-ish.  Measures of growth, wages, unemployment, interest rates, inflation, and corporate profits are favorable and/or headed in a good direction.
  3. And third, what about democracy may have a part in any brokenness? A recent survey found that 45% of respondents believe that American democracy does not do a good job representing the people, and 76% believe democracy is currently under threat.[10]

In this longish post, I’ll offer some answers and highlight some of the many issues critics raise.  However, doing justice to these questions could fill volumes, way beyond the confines of a blog.  Space will not allow nuance and methodological detail.  And what we know today is bound to be superseded by research tomorrow.  But based on what we know now, let me summarize my argument for the busy reader: a) capitalism isn’t broken but it does have some consequences that b) have prompted government intervention, some of which helped, and others didn’t.  We are where we are because c) democracy itself is under considerable strain and less able to deliver the sensible work of government that capitalism needs.  A priority should be to strengthen democracy before “fixing” capitalism.  And before we tinker with either democracy or capitalism, we should deepen the public’s understanding of both systems.

Assessing the brokenness of capitalism

Judging the soundness of American capitalism raises the question, “compared to what?”  First, one could compare the performance of capitalism to the economic theory of how capitalism ought to work.  Second, we could compare it across countries.  And third, US capitalism could be compared to itself over time—has it gotten better or worse?  Let’s look at all three.

  1. American capitalism deviates from the theoretical ideal

In economic theory, prices in markets send information to participants motivate allocation of resources, resulting in the optimization of both individual and social welfare.  Does American capitalism meet this ideal?

This first assessment summons utopia. Economic theory makes assumptions so rarified that its conditions are unlikely to be met in reality.[11]  Economists make such assumptions to isolate useful insights, in the same way that natural scientists hold constant physical conditions to determine the effect of a small variation in the system.

In the perfect economic world, there are no financial market bubbles, crashes, bank runs, depressions, or business cycles.  Competition is perfect.  There are no externalities.   Everyone is a price-taker; there are no players with the power to set prices; there are no monopolies or ticket scalpers at rock concerts.  Crime is absent: no frauds, malfeasance or corruption. There are no information asymmetries.  Everyone is perfectly rational.  There are no fads and fashions (pet rocks or Beanie Babies anyone?)   The host of cognitive biases have no influence on behavior.  We would not prefer one consumer branded product over another.  You get the picture.

The real world of capitalism differs so sharply from the perfect world of economic theory that it strains credulity to suppose that actual capitalism can optimize social welfare.  Even so, the fact that economic reality violates all these assumptions matters for the purpose of assessing the performance of capitalism and setting public policy.  Isabel Sawhill of the Brookings Institution wrote, “Professional economists are well aware of the shortcomings of the basic model.  The problem is not so much with the “academic scribblers” as it is with the way the “Madmen in authority” have used these scribblings to create a market-based ethic that is not always consistent with human welfare.”[12]

Most thoughtful adherents of the market-based ethic would admit that capitalism does not function as smoothly as theory predicts.  For instance, Gregory Mankiw, professor at Harvard and former Chair of the Council of Economic Advisers in the Bush43 administration, outlines four necessary government interventions: enforcing property rights, correcting market failures, providing public goods (such as national defense and infrastructure), and redistributing income to help the poor.[13]

In short, capitalism is not perfect.  That the reach of utopia exceeds our grasp is the impetus for some critics who charge that capitalism is broken.   The perfect is the enemy of the good.

  1. Across countries, capitalism lifts human welfare

A second benchmark for comparison would be other economic systems.  As my recent post showed, there are many varieties of capitalism (and socialism), making it impossible to classify countries into a binary scheme of “capitalism” and “other.”  However, a reasonable proxy for the extent of capitalism in a country would be indexes of economic freedom[14] that allow for gradations of difference.  Higher values of such indexes suggest more economic freedom (such as stronger property rights, judicial effectiveness, freedom from undue regulatory constraints, financial repression, and confiscatory taxes; and freedom to negotiate labor agreements, to trade across borders, to make or liquidate investments, and to raise money for businesses).  These freedoms capture several of the attributes that define capitalism (see my previous post for a discussion).

Some critics would have us think that more capitalism punishes human welfare.  But if you array countries based on economic freedom and a measure of economic performance such as gross domestic product (GDP) per capita, you get the following.

Figure 1: The relation between gross domestic product per capita (GDP) and economic freedom.[15]

In the figure, the shape of the fitted (dotted) line shows a positive relationship between GDP per capita and economic freedom (for statistics buffs, the correlation coefficient is 78%, very high by social science standards).  An inference[16] is that the stronger are the institutions of economic freedom, the higher is the standard of living.  [Sidebar comment: GDP does not directly measure important dimensions of the quality of life such as health, literacy, artistic creativity, inventiveness, or the quality of the environment.  For the sake of brevity in what is already a longish post, I will defer further discussion of this to another day.  GDP at least gives us a start to a conversation.]

One might object that a sample of 175 countries includes lots of developing nations that are not comparable to the US.  But even limiting the sample to only the 36 developed countries in the Organization for Economic Cooperation and Development (OECD) yields a similar finding.

Various peer-reviewed research articles[17]  report that economic freedom is positively associated with welfare for people around the world.  Further assessment shows a strong negative relationship between economic freedom and unemployment, inflation, and public debt in proportion to the size of the economy.[18]

International poverty.  The World Bank reports global poverty trends annually.  One prominent measure is the population living in extreme poverty (less than US$2.15 per day), as displayed in the next figure.

Figure 2: World Bank estimates of global population living in extreme poverty (less than $2.15 per day, for different global regions shown in different colors)[19]

The good news is the dramatic decline in extreme poverty from 2 billion people in 1990 to 692 million in 2024—and this, during a period when world population increased from 5.3 billion[20] in 1990 to 8.1 billion[21] in 2024.   Certainly, some of these improvements are due to grants and foreign aid from developed nations and multilateral institutions.  It is also true that the 1990s, 2000s, and 2010s were an era of dramatic globalization: growth in foreign trade, cross-border investing, and technology transfer that created jobs in developing nations.  Of concern is the flattening of the trend after 2019, coincident with the Covid pandemic and the slow economic recovery in various regions.  But viewed over the 34-year period, the deepening of global capitalism is associated with the rising standard of living of billions of people.

In summary, the findings in Figures 1 and 2 suggest that capitalism has lifted human welfare dramatically.  We should not ignore lamentable labor practices (such as sweatshops in Bangladesh and forced child labor in the Democratic Republic of the Congo) or environmental degradation from industrialization.  Just as the US reduced such problems through research, laws, and regulations, the spread of democratic institutions is prompting other countries to do the same.

  1. The performance of US Capitalism—once strong—has subsided in recent decades

A third comparative test would be to assess trends over time.  Is capitalism performing worse than before?  Economic crises (2008, the Euro crisis, the Great Depression, and others), job loss in the US due to globalization, and failed attempts at economic liberalization (the former USSR in the 1990s) gave critics of capitalism plenty of ammunition—maybe markets aren’t always right.  But how do recent conditions compare to longer experience?  Are we in a time of extraordinary adversity compared to the past?  Or is the present adversity in line with the past and have public expectations of acceptable adversity changed?

U.S. economic growth has slowed.  It boomed for 23 years after World War II and sagged in the 1970s and 1980s. Since the Millennium, the growth rate has slumped.  Since the war, the linear trend is downward.

Figure 3: Average annual rate of growth in US Real Gross Domestic Product[22]

Periods of rapid growth enabled many (though not all) segments of society to experience a rising standard of living.  As President John F. Kennedy said, “A rising tide lifts all boats.”[23]  But as macroeconomic growth slows, redistribution of wealth and income through taxes and subsidies of various kinds becomes more necessary to sustain the sense of a rising standard of living for most people.

Total factor productivity fell in the 1970s and has not recovered.  Productivity is using existing resources more efficiently and effectively through innovations and better work processes.

Figure 4: Annual growth in total factor productivity (right-hand scale) and productivity index (left-hand scale).[24]

The figure shows large annual gains from productivity improvement between 1948 and 1971, and then lower gains thereafter.  The dotted line projects the trend of productivity after 1971, as if it continued to grow at the rate of 1948-71.  By 2020 the productivity gap between the actual and projected trends had accumulated to a shortfall of about 4%, which is huge.  The slowdown is puzzling, especially considering the information and communication technology revolution of the past 30 years.  The histories of capitalism that I surveyed in a previous post point variously to the absence of new revolutionary technologies, the dampening influence of government interventions, rising industrial concentration, cultural changes in the attitudes of the American workforce, and the sheer size of the US economy.

Economic inequality in the US is historically high by some measures, but not others.  Research by Thomas Piketty, Emmanuel Saez, and Gabriel Zucman (2018) (PSZ) finds that the share of income and wealth held by the top 1% of the population rose from 9% in 1960 to 15% in 2019.  This has fed assertions that the economic pie is increasingly sliced to the advantage of the well-to-do, and thus that the system is “rigged.”  Perceptions of rising inequality have fueled anti-elite protest movements (such as the Tea Party and Occupy Wall Street) and surprising election results.

More recently, work by Gerald Auten and David Splinter (2023)  (AS) finds that the same measure increased only slightly over the same time period, from 8% to 9%.  The following figure compares the trends of income measured both before and after taxes for the two studies.

Figure 5: Trend in income inequality: share of total wealth held by top 1% of the population, before and after taxes and transfer payments, and measured in two different studies.[25]

In short, PSZ find inequality to have increased, while AS find that it has changed but little.  William Gale and colleagues (2023) at the Brookings Institution explain the difference between the two studies as resulting from different, but valid, methodologies.[26]   In either study, as shown in the difference between before and after series, progressive taxation and social safety net payments have dampened the trend of inequality.

Piketty’s work is quite impressive: massively documented, analytically exhaustive and original, and thoroughly explained.  And his argumentation is forceful and tendentious—his latest book, Time for Socialism, lays his cards on the table.  As the debate between AS and PSZ unfolds, we will learn more about the extent of economic inequality. But so much has been made of Piketty’s findings that the narrative of rising inequality is now part of standard political discourse.

Industrial concentration.  Joseph Schumpeter, writing in 1942, noted that the tendency of capitalism is toward monopoly and that this would ultimately spell its doom as governments turned to socialism and took over the monopolists.  Measured by the Herfindahl-Hirschman Index (HHI), a workhorse of industrial analysis, concentration in the US appears to have risen materially since the late 1990s.

Figure 6: The HHI concentration index for US industries, from 1972 to 2014.[27]

One study shows that 75% of US industries experienced an increase in concentration, along with higher profit margins, higher returns to shareholders, and a rising volume of mergers and acquisitions.[28]  Researchers lack consensus on the causes, extent, and effects of concentration. Should we prosecute firms simply because they are large and are in concentrated industries?

Some firms—such as Walmart—may seem like monopolists but produce declining prices for consumers.  An influential book by Robert Bork (1978) argued that the challenge for public policy should be to serve the welfare of consumers by focusing on prices and costs, rather than focusing on measures of concentration.  As anti-trust enforcement absorbed this view over the 1980s, 1990s, and 2000s, it relaxed a bit and firms grew larger.

Now, the pendulum is swinging back toward challenging firms based on their size and market power.  A recent study by Matias Covarrubias, German Gutierrez, and Thomas Philippon (2019) concluded that rising concentration after 2000 is associated with “inefficient concentration, decreasing competition and increasing barriers to entry, as leaders become more entrenched and concentration is associated with lower investment, higher prices and lower productivity growth.”[29] Here too, recent research findings are divided: some find rising concentration, others find no change.  Kulick and Card (2022) find no increasing trend.

Active anti-trust enforcement may be useful to caution business leaders about why and how they seek to expand their market positions.  Where democracy fails is in using anti-trust enforcement to steer the design of industries and the allocation of capital.

Business cycles, financial instability, creative destruction. The classic criticism of capitalism is that economic performance varies over time, resulting in bouts of layoffs, bankruptcies, household financial stringency—or worse, in the form of occasional crises that rattle the entire financial system.  Since 1946, the US economy has endured 12 recessions and at least three systemic crises.  Recent crises at iconic corporations (such as Boeing, Intel, Starbucks, Credit Suisse, and China’s Evergrande Group) and epic corporate collapses in history (Insull Utilities (1932), PennCentral Transportation (1970), Long Term Capital Management (1998), Enron (2001) prompt critics of capitalism to say, “I told you so.”

The economist, Joseph Schumpeter described capitalism as a system of “creative destruction” that constantly changed, owing to the incessant commercialization of new products, processes, and forms of organization.  Firms that did not keep up with innovation and modernization fell by the way—one indication is that none of the original companies in the Dow Jones Industrials Index of 1896 (an index of leading companies in the US economy) remain in the index today.[30]  The mortality rate of small businesses is quite high–  almost a fifth of small businesses fail within their first year, while about 65% have failed by their tenth year[31]—much of which is due to cyclical effects.  Schumpeter described cyclical downturns as “good cold showers” for the economic system, that washed away mistakes and underperformers.  He argued that macroeconomic volatility may be costly, but that it also has benefits.

Research studies[32] find that for industrialized countries (like the US), the relationship between volatility and growth is positive as shown in the following figure.

Figure 7: Positive relationship between volatility and growth for industrialized countries.[33]

An inference from this figure is that industrialized countries seem to follow one of two sets of strategies: “eat well” or “sleep well.”  The sleep well strategy aims to reduce macroeconomic risk and accepts lower growth as the cost of that risk-reduction.  The eat well strategy accepts higher macroeconomic risk in hopes of realizing higher growth.  Arguably, the US has followed the latter strategy, in comparison to other countries.

As early as the Great Depression, President Franklin D. Roosevelt implemented policies to prevent or mitigate macroeconomic volatility.  Social safety nets, stabilization schemes, industrial regulation, currency adjustments, the rescues of financial institutions, and countercyclical fiscal policies have sought to dampen the impact of economic slumps.  Authors such as Greenspan and Wooldridge (2018) and Ruchir Sharma (2024) have argued that the effort to reduce macroeconomic risk has also had a dampening effect on growth and other macroeconomic indicators.

Climate crisis.  Critics of capitalism point to worsening climate conditions and the reluctance with which the business sector has responded.  At least four problems motivate such reluctance.

  • Problems of “sunk costs” and “stranded capital” are staples of business school education. Industries that are heavily reliant on fossil fuels have substantial investments in physical assets and business models consistent with those feedstocks.  Adapting to greener alternatives can be costly and disruptive, discouraging such transitions.
  • Myopia and turnover. The transition to green alternatives may take years—or even decades.  But the average tenure of public company CEOs is 8 years[34], well less than the time to bring a green strategy to fruition.  And financial markets’ demand for returns may prompt a focus on the short- rather than the long-term.
  • Regulatory uncertainty. Presidential administrations and congressional majorities come and go. Thus, laws and regulations vary through time, producing uncertainty for businesses.  A natural response to uncertainty is to hedge one’s commitments, delay actions, take half steps, and/or fiercely resist change through legislative lobbying and campaign contributions.
  • Market failure: the costs of pollution are not borne by the polluters. Pollution needs to be priced and traded through a cap-and-trade system.

Yet all private enterprises are not climate resisters.  Many companies have made significant strides in changing their practices and committing to combat climate change.  For instance, Tesla’s successful innovations in automotive vehicles and renewable energy solutions are motivating a revolution in the global automobile industry.  Patagonia, a major garment manufacturer, models reliance on sustainable materials, recycling, and the donation of some profits to environmental causes.  Unilever, a leading consumer products manufacturer, has committed to a zero-emissions supply chain by 2030.  Ørsted (Danish Oil and Natural Gas) dramatically shifted its investment focus to renewable energy and is now the world’s largest investor in offshore wind farms. Microsoft aims to be carbon negative by 2030.  Even ExxonMobil, once a prominent climate denier, started to shift its position in support of the Paris climate accord, committed to invest more in low emission technologies, and recently announced a plan to achieve net-zero emissions.

We should take seriously the climate crisis.  Trends have worsened: global temperatures are rising; ice sheets and glaciers are melting; the sea level is rising; the frequency of extreme weather events is increasing; oceans are warming, and their acidity is rising; snow cover in the northern hemisphere has decreased; and biodiversity is declining owing to changing habitats and ecosystems.

One of the overarching insights from economic research is that people respond to incentives.  The climate crisis is a natural arena for government to stimulate the transformational power of capitalism by means of incentives.  One can be skeptical of industrial planning approaches by government to allocate capital, such as subsidies, loans, equity investments, and sovereign wealth funds—too often such bets have political overtones or are a day late and a dollar short (see, for instance, Solyndra, Calisolar, Abound Solar, Fisker Automotive, A123 Systems).  It would be more productive to a) price pollution through cap-and-trade; b) streamline the permitting processes for private infrastructure projects; c) establish innovation awards as well as grants for R&D into radical technologies such as fusion power and hydrogen fuels.

Social costs.  Like the climate crisis, another crisis arrived at the doorstep of capitalism in the twenty-teens.  Research by Anne Case and Angus Deaton (2017 and earlier) found a sharp rise in the so-called “deaths of despair” (that is, suicide, drug overdose, and alcohol abuse) among white non-Hispanic men, which they attribute to “the labor market, globalization, and technical change as the fundamental forces” behind this development.  The Nobel Laureate Joseph Stiglitz (2015) argues that these deaths would have been smaller if economic income had been shared more equally.  Deaton and Case recoil from Stiglitz’s assertion, but it has been repeated as part of the larger claim against capitalism.  Other writers, such as Oren Cass, Yuval Levin, and Ross Douthat emphasize more social costs associated with policies intended to maximize economic growth. “Creative destruction” has destroyed manufacturing jobs through offshore outsourcing and automation and has devastated families and communities.  Cass decries “free market fundamentalism” and advocates tariff protection for domestic goods.  But research by Stephen Rose (2021) disputes a link of globalization and automation to these social ills.  As with other issues highlighted in this post, it will take years to reach a consensus on what is happening.  Yet these criticisms should be taken seriously since they have entered the mainstream of political rhetoric in the 2024 US federal elections.

Trust in economic institutions has declined.  The Gallup survey reported that the percentage of respondents expressing “Great Deal/Quite A Lot” of confidence in banks fell from 60% in 1979 to 27% in 2022; similarly, trust in big business fell from 34% in 1975 to 14% in 2022. [35]    The Gallup poll yields similarly alarming findings about the institutions of government.  Respondents expressing “Great Deal/Quite A Lot” of Confidence in Congress fell from a peak of 42% in 1973 to 7% in 2022; confidence in the presidency fell from 72% in 1991 to 23% in 2022; likewise, confidence in the Supreme Court declined from 56% in 1988 to 25% in 2022.[36]  Declining trust by the public is an equal opportunity menace for both democracy and capitalism.

Summing up.   In short, capitalism succeeds in creating wealth for societies and lifting standards of living, though its performance remains vulnerable to challenges of externalities (pollution), market failure (concentration), distribution of wealth, and winning the trust of the public:

  1. It has figured importantly in the reduction of global poverty.
  2. It has delivered sizable increases in the US standard of living in some periods, but less sizable in recent decades, attributable mainly to diminishing gains in productivity.
  3. Orthodox thinking is that economic inequality has increased in recent decades, though recent research disputes that.
  4. Industrial concentration has grown, though the extent of that depends on further research. However, more activist enforcement of antitrust laws and regulations has occurred along with major public investments in private enterprises and the call for development of a US sovereign wealth fund.  Together, these developments may signal a trend toward industrial planning, with important consequences for resource allocation in the private sector.
  5. Businesses have responded slowly to the emerging climate crisis, because of sunk costs, myopia, regulatory uncertainty, and the failure to price carbon.
  6. Rising social costs evident in “deaths of despair” and other trends seem associated with problems in the labor market (immobility, training etc.), globalization, and technological change—all have links to capitalism. These themes are prominent in the rhetoric of the current US federal elections.
  7. Trust in capitalist institutions (and institutions of democracy) has declined dramatically over decades.

From these trends, it is hard to conclude that capitalism is “broken.”  However, the trends since 2000 should warrant concern and more research.  It seems unlikely that private enterprise itself is the ideal instrument for remedying problems of inequality, concentration, climate, social costs, and trust.

So, why can’t democracy fix the imperfections in capitalism?

The persistence of the challenges to capitalism reflects a collective action problem for democracy—the difficulty of government setting the guardrails for capitalism in a way that still generates dynamism, growth, distribution of benefits, responses to crises outlined here.  Five symptoms describe the current problem.

  • Polarization and rancor. The US today has greater polarization in Congress than since measures began in 1880.  The following figure displays the change over time in the difference (or “distance”) in ideological scores between the Democratic and Republican parties in the US Senate and House of Representatives.  A higher value for “distance” indicates more polarization between the parties.

Figure 8: Polarization in Houses of the US Congress by year, 1880-2020.[37]  Higher (lower) numbers indicate more (less) polarization.

In parallel with rising polarization has been rising rancor in political discourse in the United States.  Demonization of political opponents, intentional dissemination of fake news, false facts, and misinformation, reliance on exotic conspiracy theories, and political violence (such as assassination attempts) make it harder for politicians to come together on common ground.

  • Delegation of authority for rulemaking from Congress to the executive branch. Increasingly, Congress has shifted authority to federal agencies to draft detailed regulations and rules.  Legislators justify this practice on grounds that many laws require specialized expertise to address technical issues.  For instance, when Congress enacted the Dodd-Frank “Wall Street Reform and Consumer Protection Act” in 2010, its 2300 pages mandated federal agencies to promulgate some 400 new rules and regulations that would have the force of law.[38]  Six years later, only 75% of the required rules had been codified according to one estimate.  Critics argue that delegation of Congressional authority violates basic checks and balances in the Constitution that guard against authoritarian rule and/or the rise of an “administrative state.”
  • Questioning the legitimacy of democratic institutions. Critics argue that structures created by the US constitution and laws are anti-democratic.  It is said that the Electoral College and equal representation by states in the Senate do not reflect the distribution of the US population and therefore deny equal representation.  A rule in the US Senate allows one or more members to delay legislation through endless speechmaking (the “filibuster”).  Lifetime tenure for Supreme Court judges slows the turnover rate for justices that ensures the average age on the court skews older—perhaps this slows the refresh rate for judicial orthodoxy.  It seems unlikely that these criticisms will gain traction soon.  However they do serve to undercut public faith in democracy.
  • Rule by executive order or failure to implement laws through executive discretion.  Executive orders are directions from the president to the executive branch of government that are viewed as equivalent to law.  Some presidents have relied aggressively on executive orders and others less so.  Since 1901 (the start of the Progressive Era) presidents have averaged 112 executive orders per year—this compares to only 12 per year for the presidents before 1901.[39]  There is no constraint (other than judicial review) on a president’s issuance of executive orders. In a recent instance, President Biden attempted to cancel $400 billion in student debts to the federal government.  But this was struck down by the Supreme Court, which ruled that the president had overstepped his authority.  It is general assent that gives authority to these orders, for there is no statutory or Constitutional provision for this presidential power.[40]
  • The Iron Triangle: alignment of interests in Congress, the bureaucracy, and industry.

Figure 9: Depiction of an “Iron Triangle”

Economist Mancur Olson (1982) has argued that interest groups in a society will tend to bend public policy in self-interested ways.  Triangles have existed in fields such as agriculture, defense, energy, finance, infrastructure construction, Social Security, Medicare, and transportation.  In agriculture, for instance, organizations of farmers bond with the Department of Agriculture and relevant committees in both houses of Congress to gain crop subsidies, price supports, and regulations that benefit farmers.  In return, the farm organizations may extend endorsements and campaign contributions to legislators, while the relevant federal agencies gain support for their annual budget requests.

The existence of Iron Triangles was one prompt for the advent of public choice theory, which holds that players in political arenas are motivated by self-interest: politicians want to be re-elected, agencies was to be sustained and enlarged, and voters support politicians, agencies, and policies that benefit themselves.  Iron Triangles strain the norms of democratic rule by rewarding particular interests at the expense of the general interest.

The big consequence of these five trends (polarization, delegation of authority, challenging legitimacy, rule by executive order, and Iron Triangles) has been a breakdown in the effectiveness, efficiency, and productivity of democratic rule.  For instance, the current Congress (the 118th) began in 2023 and looks likely to deliver the lowest volume of bills passed in modern history, under more gridlock than ever, with more internal conflicts and disrupted activities than before (e.g., the ouster of Speaker Kevin McCarthy).  To be sure, the US Congress is a microcosm of American society and reflects the larger turmoil.  But we elect these people to lead, and not merely to echo the greater noise.

Conclusion

So where does all this leave capitalism and democracy?  How broken are they?  In short,

  • Capitalism does well what it has always done: create wealth. However it has not been consistently effective in spreading wealth across society.  And its ups and downs create uncertainty, anxiety, and poverty for the parts of society that live on the margins. Crises challenge capitalism to respond.  Is capitalism “broken”?    But it needs monitoring, guardrails, and coaching.
  • Democracy is quite stressed today and seems to find it difficult to lend the guidance that capitalism needs. Is it broken?  No, but it seems to be bending rather far.  I don’t think that a general withdrawal of government out of the domain of capitalism would be helpful.  As I argued in a previous post, we need government institutions to function well for capitalism to yield the fruits of prosperity.
  • Strengthen democracy before trying to “fix” capitalism. Why before?  It is because capitalism relies on robust civil institutions to function well.  The two systems are linked.  If capitalism is broken, it is important to explore the role of democracy in that outcome.  And vice versa, what about capitalism has contributed to the brokenness of democracy?

I was a humble doctoral student in 1980 and happened to find myself in a cafeteria line next to Lawrence Fouraker, the eminent Dean of Harvard Business School.  The seventies had been a decade of economic and political nightmares (Vietnam, the weak dollar, two oil crises, stagflation, the Iranian embassy hostage crisis, and general “malaise” (as critics of Jimmy Carter put it)).  The presidential campaign that year was heating up, and candidates on the political left and right were raising the temperature.  To break the awkwardness of the slow-moving line, I turned to Fouraker, introduced myself, and asked what he thought of some economic proposals circulating in Congress. He replied, “They’ll destroy capitalism before they understand it.”   There was more to the conversation, but his one-liner came to my mind after this recent time of extraordinary political and economic turmoil.  I think understanding (or the lack of it) is a very big deal.

The American public needs to understand much better than it does what democracy and capitalism are, how they work, and how they can be made to work better for us.  People seem to disparage and distrust the systems that have delivered the goods (freedom and prosperity) on average and over time.  If you don’t like the systems of democracy and capitalism, with what would you replace them?  This is a moment for educators and others to recommit to teaching about democracy and capitalism, to which I will turn in the next blog post.

 

 

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  15. Kulick, Robert, and Andrew Card, 2022. “Industrial Concentration in the United States: 2002-2017,” NERA Economic Consulting.
  16. Mankiw, Gregory N., 2023. Principles of Economics, 10th, Cengage Learning.
  17. Olson, Mancur, 1982. The Rise and Decline of Nations, New Haven, CT: Yale University Press.
  18. Piketty, Thomas, Emmanuel Saez, and Gabriel Zucman, 2018. “Distributional National Accounts: Methods and Estimates for the United States,” Quarterly Journal of Economics, 133(2): 553-609.
  19. Raju, V.N. and Debashis Acharya, 2020. “Revisiting the Volatility-Growth Relationship: Some Cross Country Evidence, 1978-2017,” Cogent Economics & Finance, 8(1)  https://doi.org/10.1080/23322039.2020.1826655.
  20. Rose, Stephen, 2021. “Do Not Blame Trade for the Decline in Manufacturing Jobs,” Washington, DC: Center for Strategic and International Studies, downloaded November 1, 2024 from https://www.csis.org/analysis/do-not-blame-trade-decline-manufacturing-jobs.
  21. Sawhill, Isabel V., 2019. “Capitalism and the Future of Democracy,” Washington D.C.: Brookings Institution.
  22. Sharma, Ruchir, 2024. What Went Wrong with Capitalism, New York, NY: Simon & Schuster.
  23. Stiglitz, Joseph E. 2015. “When Inequality Kills.” Project Syndicate, December 7.
  24. Yang, Zengrong, Prince Asare Vitenu-Sackey, Lizhong Hao, and Yugi Tao, 2023. “Economic Freedom, Inclusive Growth, and Financial Development: A Heterogeneous Panel Analysis of Developing Countries,” PLosONE 18(7): 1-20.

 

End Notes

[1] Rebecca Henderson, November 17, 2020. “Capitalism is broken – but big business could actually help fix it,” Wired.  https://www.wired.com/story/fix-capitalism/.

[2] Katrina vanden Heuvel, December 10, 2019, “Capitalism is broken.  It’s time for something new,” Washington Post, https://www.washingtonpost.com/opinions/2019/12/10/capitalism-is-broken-its-time-something-new/.

[3] Paul B. Farrell, February 23, 2013, “Capitalism is so broken it can’t be fixed,” MarketWatch, https://www.marketwatch.com/story/capitalism-is-so-broken-it-cant-be-fixed-2013-02-23.

[4] Yanis Varoufakis, December 23, 2019. “Yanis Varoufakis: Yes, the capitalist system is broken,” https://nationalpost.com/opinion/yanis-varoufakis-yes-the-capitalist-system-is-broken#:~:text=Yanis%20Varoufakis:%20Yes,%20the%20capitalist%20system%20is%20broken.

[5] Robert Reich, May 22, 2014. “American Capitalism is broken,” Salon, https://www.salon.com/2014/05/22/robert_reich_american_capitalism_is_broken_partner/.

[6] Muhammad Yunus, (undated) “Capitalism is broken” Facebook video, https://www.facebook.com/ajplusenglish/videos/what-is-a-social-business/294407464508144/.

[7] Henry Kaufman, June 25, 2020. “US capitalism has been shattered,” Financial Times, https://www.ft.com/content/e7baaac4-b66e-4c87-8d77-ff5135a0f20c#:~:text=The%20writer,%20a%20former%20senior%20partner%20of%20Salomon%20Brothers,%20is.

[8] Harriet Agnew, Laurence Fletcher, and Patrick Jenkins, March 13, 2023. “US Capitalism is ‘breaking down before our eyes’, says Ken Griffin,” Financial Times.

[9] Nick Corasaniti, Ruth Igielnik, and Camille Baker, Oct. 27, 2024. “Voters Are Deeply Skeptical About the Health of American Democracy,” New York Times.

[10] Nick Corasaniti, Ruth Igielnik, and Camille Baker, Oct. 27, 2024. “Voters Are Deeply Skeptical About the Health of American Democracy,” New York Times.

[11] Such assumptions include: 1) perfect competition (no participant in the market is powerful enough to set prices; all participants are “price takers.”) 2) Perfect information (all participants know what is knowable; no one has a private information advantage, and information is costless).  3) Rationality. People use common sense; they are foresightful, alert, and serve their self-interest. 4) Individualism.  One exists separately from others; one’s welfare does not depend on another’s.  5) No externalities One’s actions do not generate costs for another. 6) Information efficiency in prices, which respond promptly and without bias to new information.  7) No “stickiness.”  Wages and prices are flexible. 8) Markets clear by the end of trading (meaning there is no unsatisfied demand or supply). And so on.

[12] Sawhill (2019) p. 9.

[13] See Mankiw (2023).

[14] The Fraser Institute writes “Individuals have economic freedom when (a) property they acquire without the use of force, fraud, or theft is protected from physical invasions by others, and (b) they are free to use, exchange, or give their property to another as long as their actions do not violate the identical rights of others.” (See Gwartney, et al, 1996).

[15] Data are from the Heritage Foundation Index of Economic Freedom, 2022, and the World Bank data bank for 2022.

[16] Strictly speaking, the data display correlation, not causality.  The reverse might also be true, that a higher standard of living causes more economic freedom.  It has been said that a growing middle class tends to demand more civil rights.  But the case of Hong Kong and high-growth authoritarian regimes, such as Vietnam and China, would challenge that alternative inference.

[17] See, for instance, Ayal (1998), Barro (1991), Barro (1996), Easton and Walker (1997), Gwartney et al, 1996), de Haan and Siermann (1998), and Yang et al. (2023).

[18] For the 36 members of the OECD, the correlation with economic freedom is -26% for unemployment, -41% for inflation, and -30% for public debt as a percentage of GDP.

[19] World Bank September 20, 2024. “September 2024 global poverty update from the World Bank: revised estimates up to 2024” downloaded October 30, 2024 from https://blogs.worldbank.org/en/opendata/september-2024-global-poverty-update-from-the-world-bank–revise.

[20] 1990 estimate of world population is from the United Nations World Population Prospects, 2024.

[21] 2024 estimate of world population is from the United Nations, https://population.un.org/wpp/Publications/Files/WPP2024_Release-Note.pdf.

[22] Data are from the St. Louis Fed’s Macro History Database.

[23] Quoted from a speech by then-Senator John F. Kennedy, in Cheyenne, Wyoming, September 23, 1960. See Donald Lazere, (undated).  “A Rising Tide Lifts All Boats: Has the Right Been Misusing JFK’s Quote?” History News Network, downloaded October 7, 2024 from https://www.historynewsnetwork.org/article/a-rising-tide-lifts-all-boats-has-the-right-been-m.

[24] The figure is based on data from the San Francisco Fed and was downloaded from https://www.bing.com/images/search?view=detailV2&ccid=CtdF%2fD%2bN&id=2B3D4F3DFF86D2C7CAEDBF18ED741BC02CE3E92B&thid=OIP.CtdF_D-N5bP-IfnAFmyLpAHaEw&mediaurl=https%3a%2f%2fwww.seeitmarket.com%2fwp-content%2fuploads%2f2016%2f06%2fus-productivity-index-vs-growth-rate-chart-70-years.png&cdnurl=https%3a%2f%2fth.bing.com%2fth%2fid%2fR.0ad745fc3f8de5b3fe21f9c0166c8ba4%3frik%3dK%252bnjLMAbdO0Yvw%26pid%3dImgRaw%26r%3d0&exph=452&expw=704&q=graph+of+productivity+growth+in+US&simid=608041308398046663&FORM=IRPRST&ck=9C2567E0B6160CDB6863208081D45147&selectedIndex=3&itb=0&ajaxhist=0&ajaxserp=0.

[25] The figure is from Brookings Institution, Gale et al., (2023).

[26] The differences have to do with measurement of income not reported on tax returns, either because it is not subject to taxes or because individuals avoid (or evade) paying taxes.  The two studies impute taxes and allocate them across individuals in different ways.

[27] Source of figure: Grullon, Larkin and Michaely (2019).

[28] See Grullon et al (2019).

[29] Covarrubias et al (2019) p 2.

[30] See https://www.investors.com/etfs-and-funds/sectors/dow-jones-heres-where-the-original-stocks-are-now-125-years-later/#:~:text=Not%20one%20of%20the%20original%2012%20members%20of,shows%20an%20analysis%20by%20S%26P%20Dow%20Jones%20Indices.

[31] See: https://www.chamberofcommerce.org/small-business-statistics/#:~:text=Many%20people%20think%20that%20small%20businesses%20have%20it,is%20as%20per%20the%20Bureau%20of%20Labour%20Statistics.

[32] Hnatkovska and Loayza (2003) and Raju and Acharya (2020).

[33] Source of figure, Raju and Acharya (2020) Figure 2.

[34] See Russell Reynolds’ Global CEO Turnover Index https://www.russellreynolds.com/en/insights/reports-surveys/global-ceo-turnover-index#:~:text=What%E2%80%99s%20the%20average%20tenure%20of%20CEOs%20at%20publicly,the%20average%20tenure%20of%20CEOs%20was%208.1%20years.

[35] Source: Author’s table based on data in Gallup News, “Confidence in Institutions,” downloaded November 9, 2022 from https://news.gallup.com/poll/1597/confidence-institutions.aspx.

[36] Source: Author’s table based on data in Gallup News, “Confidence in Institutions,” downloaded November 9, 2022 from https://news.gallup.com/poll/1597/confidence-institutions.aspx.

[37] Source of figure: Jeff Lewis, 2023. “Polarization in Congress” Voteview.com, UCLA Department of Politics.  downloaded October 29, 2024 from https://voteview.com/static/articles/party_polarization/voteview_party_mean_diff.png.

[38] See Michael J. Lyle, Heath P. Tarbert, and Sunny J. Thompson, 2011. “Dodd-Frank, One Year Later: A Primer on the Federal Rulemaking Process,” Corporate Counsel Business Journal, downloaded October 28, 2024 from https://ccbjournal.com/articles/dodd-frank-one-year-later-primer-federal-rulemaking-process.

[39] Source of figure: Author’s figure based on data from The American Presidency Project, UC Santa Barbara, downloaded October 29, 2024 from https://www.presidency.ucsb.edu/statistics/data/executive-orders.

[40] A book by my colleague, Saikrishna Prakash, a professor at UVA School of Law, closely examines executive orders and related appropriations of presidential power.  See: The Living Presidency: An Originalist Case Against Its Ever-Expanding Powers.