The Next Economy
How to Fix Capitalism:
Part One

This is the second post in a short series on purpose. If you missed the first one, you should start here.

I’m not going to pretend to have all the answers, but I think I’ve at least become better at understanding the problem. Capitalism has lost sight of its original purpose and is too narrowly focused on profit at the expense of society. There are very simple things we can do as citizens to help get things back on track, but we’ll need the help of policy for the heavy lifting.

We often hear a lot of doom and gloom in the media that capitalism is ‘broken,’ that our current system doesn’t work, and that we need new solutions. I agree that capitalism isn’t functioning at its full potential, but I also believe that the proper use of efficient markets is one of the best inventions of modern civilization.

After living in a mud hut in rural Uganda I decided to go to business school, above all other graduate programs, to figure out how to solve the problems I saw all around me. Maybe it was because I grew up in a pro-business home or because I saw how inefficient most non-profits and government agencies operated, but something told me that business was the best lever for change.

I’m also not oblivious to the current health of our economic system. I was unemployed like many others when the last global financial crisis hit, and I’ve been watching my investment accounts erode over the past few weeks as the world turns anxiously towards China. I know that we can do better.

If you look at its roots, capitalism began as a potential solution to society’s moral failings, not as a means to get people rich. Adam Smith, the father of capitalism, was as you might recall a moral philosopher, not an economist (that profession didn’t yet exist). He thought of his studies as a solution to the inefficient distribution of resources that was common during his time. The purpose of capitalism then was to create a more equitable society, not to increase profits as many people view it today.

That is the religion we bought into — that our government, economy, society is built on. That is also what I personally believe to be true. Unfortunately, in reality that has not been our focus — instead it has been on the exclusive drive for profit at the expense of all else. And there is enough research to fill a library of books to support that our singular focus on profit is not helping to achieve the original goal: the fair distribution of resources in society.

To further highlight this, it’s important to remember that America, one of the most capitalist cultures in the world, is also one of the most unequal societies. The growing research shows that the more equal a society, the better its citizens fare. On this measure, America is worse off than almost all other OECD nations. In fact, if you account for taxes and other transfers, the US ranks #31 of #34 countries in terms of income inequality. Only Mexico, Chile and Turkey are below us. That’s pretty pathetic for a ‘world leader.’

So what?

One of my all time favorite books is The Spirit Level by sociologists Richard Wilkinson and Kate Pickett. They go through major social ills — such as mental health and drug use, teenage pregnancy rates, violence and crime stats — and compare how it correlates to income inequality. And when they combine them all to create a single metric, this is what we see:

It’s pretty shocking if you’re an American, but not if you have ever traveled extensively to the rest of these countries. You’ll be hard pressed to find a homeless person on the streets in Japan or Sweden. We’ve all heard the rumors that life in Europe’s north (outside of the weather) is pretty easy, and those of us that put on a backpack during or after college find out pretty quickly how ‘unfair’ it is that we’re stuck paying hundreds of dollars a month in student loan fees when few of our traveling cousins on this map pay a dime for their educations.

This is the problem I’ve been grappling with after traveling to over 40 countries: America might be home to the world’s most innovative companies, producing the world’s favorite products and services, but we’re doing so at the cost to our society.

Let’s take a look at the main elements of capitalism: supply and demand, utility and price, and the key measurement tools of success (profit) and see if we can figure out where we’ve strayed from capitalism’s original purpose and how we might try to get back on track.

Supply and Demand

The entire ‘invisible hand’ theory that Smith is famous for is mostly related to supply and demand. The basic idea being that the price of anything in a market will stabilize when we produce the optimal amount to reach the amount of people that want it. This means that in theory, diamonds are expensive because there are few of them, but many people want them. Whereas, your water bill is low because we have a seemingly endless supply of water and so the price is cheap.

But neither of the above statements is actually true. The few companies who monopolize the diamond industry actually have been stockpiling diamonds in a vault to artificially reduce supply for years, creating the illusion of scarcity and the increase in price. In reality, diamond production is estimated at about 130 million carats per year! I couldn’t find out what percentage of this is stored vs. sold, but we do know that the retail diamond industry is currently around $72 billion / year, and many recent fiancés can tell you that the going rate is not about $550/carat. When you compound that over the years it becomes obvious that there are plenty of diamonds intentionally not in the market.

As for water? Every living thing on the planet requires it to survive. Demand could not possibly be higher. But no one ‘owns’ water (in theory). It is a natural resource and thus most of our local governments sell it directly, or via a privately held utility, to its citizens. And because it’s so necessary, they keep the price low, often subsidized so that everyone can have as much as they want.

But the truth is, that in many parts of the world and a growing number of locations in the American West, are starting to run out of water. If this were a true capitalist market, then the price for water would go up with scarcity, which would cause us to use less, and the problem would fix itself. But that’s not happening. Instead, we take advantage of a cheap resource, waste it, and then complain at the very thought of the price of our food going up.

Capitalism in these markets is completely broken. We are overvaluing something with very little utility in the world (diamonds) and undervaluing one of the most essential things in our world (water). How do we fix this?

Well to start, if you have a problem with supporting an industry that has been tied to government corruption, murder, rape and the stockpiling of billions… THEN DON’T BUY A DIAMOND [Full disclosure: I own a few diamonds and love them all, don’t judge]! Need a symbol of love and fidelity in an exchange for a lifetime of happiness? Buy a garnet, topaz or any other arbitrary gemstone. The reality is that our collective demand is contributing to the problem, and I admit, I’m a part of that problem.

As citizens, our greatest tool to help fix capitalism is to spend our money on the things we want to support. Does it upset you that organics cost more than traditional produce? Buy more organics and tell your friends to do the same. The sooner more of us buy organic (increased demand), then the sooner more companies will enter the market and create more (increased supply to meet demand), and the sooner the price will drop (due to increased competition and economies of scale). Don’t enjoy the pollution in your local stream from the chemical company down the road? Don’t buy products that contain the chemicals they produce (reduce demand).

Yes, I know that is easier said than done. And no, I don’t expect anyone to perfectly align their values and their shopping habits, but I do expect everyone who cares to try and improve where and how you spend your money. In a system where everything is driven by supply and demand and when you can’t control the supply, vote with your dollar and control the demand. It’s your best weapon.

Now on to water: This one is a little trickier because there are ethical concerns involved with increasing the price of water to the point that low-income people can’t afford it. But low-income people aren’t the biggest users of water — industry is. So increase the price of water to the companies who need it to cool their buildings, grow produce, make paper, and keep their machines from overheating. Yes, that will result in higher prices for nearly everything at the store, but that is the true price of those goods that are produced in areas with a limited supply of water. It’s more likely that a company would move (if possible) to an area where water is plentiful and cheap and solve the problem that way.

My point is that some government regulation is necessary.

Government is the only institution with enough power to prevent companies from artificially adjusting the market, from having monopoly power, to ensure that everyone can afford the basics in life, to preserve our natural resources for generations to come. There always have been and always will be certain situations where agents in the economy have an opportunity to pursue their own self-interest at the expense of society, not to its benefit. It is then government’s role to step in and artificially correct the market so that it operates again in the best interest of society. Will our GDP suffer as a result? Likely. Will the CEOs of the companies involved make less money? Probably. Will that mean smaller returns for those companies that are publicly held? Possibly. Will be better off as a society? Absolutely.

This brings us to our next point … utility and the price of everything. But I think I’ve reached your attention span for the day so we’ll pick up this lesson in Part Two.

This post first appeared on Medium on September 2, 2015.