Is Capitalism Monopoly?

Capitalism transforms monopoly

A reader recently send me a comment about whether there was some way to structure capitalism so that it doesn’t become the end game of Monopoly. By this, I think he meant capitalism eventually resulting in all the income generating assets belonging to a small subset of people with the rest of the population poor.

This question amused me, since Monopoly was originally intended to illustrate the evils of capitalism, but it’s also a good question, because I think even pure free-market capitalism isn’t as extreme as Monopoly.

Wealth accumulating to the few

Like Monopoly, capitalism does lead to gross wealth disparities. In essence, it’s easier for the rich to become richer than it is for the poor to become rich. This is true for several reasons. First, the poor are so focused on basics like food and shelter that it’s hard to find the resources to focus on wealth building. If you need two jobs to pay for food and shelter for your family, you don’t have the time or money to start your own business. In contrast, wealthier people only need focus a tiny portion of their time and money on subsistence, leaving the rest, potentially, for wealth generation.

Second, it’s easier to make money when you have money. For instance, the stock market might average 7% returns over the next year.  If are never likely to have more than $200 to invest in any year, it’s not really worth your time to learn how to invest in the market. But if you have $10,000 or $100,000 to invest, it’s worth your time to shoot for higher returns.  And this sort of reasoning is not limited to the stock market. In fact, many investments are literally unavailable to people of low net worth.

Third, companies that are successful are usually successful because they have a competitive advantage (e.g. a brand, a monopoly, dominance in a market that is too small to support more than one company).  Thus, companies that have become winners—and made their owners wealthy—are more likely to continue to succeed than some random new entrant without competitive advantages. The winners keep on winning. This is actually the core of Warren Buffett’s investment strategy.

Fourth, some business success is luck, but some is also skill. You’d expect the more skillful business people to have a greater chance of success in their business endeavors than less skillful people. So, you’d expect successful entrepreneurs to have a disproportionate number of skillful business people, and these entrepreneurs on average to have a better chance of continuing to accumulate wealth than a random selection of people. Again, winners are more likely to keep winning.

Why it’s not Monopoly

So, without any wealth redistribution, you’d expect wealth in a capitalistic society to naturally accumulate with a small minority. But, this model seems to assume that life gets worse and worse for the poor as a handful of rich dudes just get wealthier and wealthier. Nothing could be further from the truth because of a) the math associated with generational wealth transfers and b) capitalism’s creative destruction.

The most noteworthy thing about generational wealth transfers is that they don’t work. Almost everyone has a large number of descendants because population growth is geometric. If everyone averages 2.5 children, then, in a few generations, that billion dollar fortune will be spread across two children, sixteen grand children, 39 great-great-grandchildren. And not all those people will be prudent with the money, and certainly not all of them will have the business skills of the person who created the wealth. Thus, the wealth is diluted back into society. The wealthy will become unwealthy.

So, while the mechanics of capitalism ensure wealth is concentrated in the hands of the few, the few are constantly changing.

Creative destruction

An even more important factor is capitalism’s creative destruction. Competitive advantages are intended to ward off creative destruction, but destruction tends to happen anyway. Microsoft’s Windows monopoly was completely dominant in the 1990s. But, with the rise of the internet and smartphones, it’s much less important.  Bill Gates is still rich, but not nearly as rich as he’d been if Steve Jobs hadn’t started making iPhones.

Of course, this doesn’t result in the poor becoming wealthier relative to the rich, but it does result in the poor becoming wealthier in absolute terms. Competition drives down prices and leads to new innovations that benefit everyone, even the absolute poorest. Lower prices mean the poor get more bang for their buck. Innovations are often within the reach of everyone, even the poor. Very few people in first world countries don’t have telephones, TVs, and indoor plumbing.

And most people understand that. A few years back, NPR asked whether people would rather be rich in 1900, or middle-class now.  Over two-thirds would rather be middle-class now. To me, it’s a complete no-brainer. Would I rather have the Internet or servants? Would I rather have antibiotics or silk sheets?

The creative destruction of capitalism encourages those innovations, leading to better lives for both the rich and the poor. The fact that the decision is so easy shows how powerful capitalism is.  (Assuming you believe that making money is one of the driving forces behind innovation, which I do.)

While the poor are still relatively poor, they’re still much wealthier than the rich decades ago.

My bottom line

So, I think capitalism isn’t naturally a game of monopoly because the poor win even as they lose and because over generations, the winners change. That’s not to say that governments shouldn’t redistribute wealth to make the game more even, but rather that even with an unbalanced distribution of wealth, most people benefit from capitalism, even the poor. So, the real challenge is figuring out how to even out the game without destroying the benefits of capitalism. (Which, to be fair, is what the reader was asking in the first place.)

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