The Theory of Business Enterprise/Chapter 7
Before business principles came to dominate everyday life the
common welfare, when it was not a question of peace and war,
turned on the ease and certainty with which enough of the means
of life could be supplied. Since business has become the central
and controlling interest, the question of welfare has become a
question of price. Under the old regime of handicraft and petty
trade, dearth (high prices) meant privation and might mean famine
and pestilence; under the new regime low prices commonly mean
privation and may on occasion mean famine. Under the old regime
the question was whether the community's work was adequate to
supply the community's needs; under the new regime that question
is not seriously entertained.

But the common welfare is in no less precarious a case. The
productive efficiency of modern industry has not done away with
the recurrence of hard times, or of privation for those classes
whose assured pecuniary position does not place them above the
chances of hard times. Distress may not be so extreme in modern
industrial communities, it does not readily reach the famine
mark; but such a degree of privation as is implied in the term
"hard times" recurs quite as freely in modern civilized countries
as among the industrially less efficient peoples on a lower level
of culture. The oscillation between good times and bad is as wide
and as frequent as ever, although the average level of material
well-being runs at a higher mark than was the case before the
machine industry came in.

This visible difference between the old order and the new is
closely dependent on the difference between the purposes that
guide the older scheme of economic life and those of the new.
Under the old order, industry, and even such trade as there was,
was a quest of livelihood; under the new order industry is
directed by the quest of profits. Formerly, therefore, times were
good or bad according as the industrial processes yielded a
sufficient or an insufficient output of the means of life.
Latterly times are good or bad according as the process of
business yields an adequate or inadequate rate of profits. The
controlling end is different in the present, and the question of
welfare turns on the degree of success with which this different
ulterior end is achieved. Prosperity now means, primarily,
business prosperity; whereas it used to mean industrial
sufficiency.

A theory of welfare which shall account for the phenomena of
prosperity and adversity under the modern economic order must,
accordingly, proceed on the circumstances which condition the
modern situation, and need not greatly concern itself with the
range of circumstances that made or marred the common welfare
under the older regime, before the age of machine industry and
business enterprise.(1*) Under the old order, when those in whose
hands lay the discretion in economic affairs looked to a
livelihood as the end of their endeavors, the welfare of the
community was regulated "by the skill, dexterity, and judgment
with which its labor was generally applied."(2*) What would mar
this common welfare was the occasionally disastrous act of God in
the way of unpropitious seasons and the like, or the act of man
in the way of war and untoward governmental exactions. Price
variations, except as conditioned by these untoward intrusive
agencies, had commonly neither a wide nor a profound effect upon
the even course of the community's welfare. This holds true, in a
general way, even after resort to the market had come to be a
fact of great importance in the life of large classes, both as an
outlet for their products and as a base of supplies of consumable
goods or of raw materials, - as in the better days of the
handicraft system.

Until the machine industry came forward, commerce (with its
handmaiden, banking) was the only branch of economic activity
that was in any sensible degree organized in a close and
comprehensive system of business relations. "Business" would then
mean "commerce," and little else. This was the only field in
which men habitually took account of their own economic
circumstances in terms of price rather than in terms of
livelihood. Price disturbances, even when they were of
considerable magnitude, seem to have had grave consequences only
in commerce, and to have passed over without being transmitted
much beyond the commercial houses and the fringe of occupations
immediately subsidiary to commercial business.

Crises, depressions, hard times, dull times, brisk times,
periods of speculative advance, "eras of prosperity," are
primarily phenomena of business; they are, in their origin and
primary incidence, phenomena of price disturbance, either of
decline or advance. It is only secondarily, through the mediation
of business traffic, that these matters involve the industrial
process or the livelihood of the community. They affect industry
because industry is managed on a business footing, in terms of
price and for the sake of profits. So long as business enterprise
habitually ran its course within commercial traffic proper, apart
from the industrial process as such, so long these recurring
periods of depression and exaltation began and ended within the
domain of commerce.(3*) The greatest field for business profits
is now afforded, not by commercial traffic in the stricter sense,
but by the industries engaged in producing goods and services for
the market. And the close-knit, far-reaching articulation of the
industrial processes in a balanced system, in which the
interstitial adjustments are made and kept in terms of price,
enables price disturbances to be transmitted throughout the
industrial community with such celerity and effect that a wave of
depression or exaltation passes over the whole community and
touches every class employed in industry within a few weeks. And
somewhat in the same measure as the several modern industrial
peoples are bound together by the business ties of the world
market, do these peoples also share in common any wave of
prosperity or depression which may initially fall upon any one
member of this business community of nations. Exceptions from
this rule, of course, are such periods of prosperity or
depression as result from local (material) accidents of the
seasons and the like, - accidents that may inflict upon one
community hardships which through the mediation of prices are
transmuted into gain for the other communities that are not
touched by the calamitous act of God to which the disturbance is
due.

The true, or what may be called the normal, crises,
depressions, and exaltations in the business world are not the
result of accidents, such as the failure of a crop. They come in
the regular course of business. The depression and the exaltation
are in a measure bound together. In the recent past, since
depression and exaltation have been normal features of the
situation, every strongly marked period of exaltation
(prosperity) has had its attendant period of depression; although
it does not seem to follow in the nature of things that a wave of
depression necessarily has its attendant reaction in the way of a
period of business exaltation. In the recent past - the last
twenty years or so - it has been by no means anomalous to have a
period of hard times, or even a fairly pronounced crisis, without
a wave of marked exaltation either preceding or following it in
such close sequence as conveniently to connect the two as action
and reaction. But it would be a matter of some perplexity to a
student of this class of phenomena to come upon a wave of marked
business exaltation (prosperity) that was not promptly followed
by a crisis or by a period of depression more or less pronounced
and prolonged. Indeed, as the organization of business has
approached more and more nearly to the relatively consummate
situation of to-day, - say during the last twenty years of the
nineteenth century, - periods of exaltation have, on the whole,
grown less pronounced and less frequent, whereas periods of
depression or "hard times" have grown more frequent and
prolonged, if not more pronounced. It might even be a tenable
generalization, though perhaps unnecessarily broad, to say that
for a couple of decades past the normal condition of industrial
business has been a mild but chronic state of depression, and
that any marked departure from commonplace dull times has
attracted attention as a particular case calling for a particular
explanation. The causes which have given rise to any one of the
more pronounced intervals of prosperity during the past two
decades are commonly not very difficult to trace; but it would be
a bootless quest to go out in search of special causes to which
to trace back each of the several periods of dull times that
account for the greater portion of the past quarter of a century.
Under the more fully developed business system as it has stood
during the close of the century dull times are, in a way, the
course of nature; whereas brisk times are an exceptional
invention of man or a rare bounty of Providence.

What current economic theory has to say on the common welfare
is more frequently found under the caption of crisis and
depression than in any other one connection. And the theory of
crisis and depression has, as is well known, been one of the less
happy passages in the economists' repertory of doctrines. It has
been customary to approach the problem from the side of the
industrial phenomena involved - the mechanical facts of
production and consumption; rather than from the side of business
enterprise - the phenomena of price, earnings, and
capitalization. This untoward accident of a false start is
probably accountable for the fact that no tenable theory of these
phenomena has yet been offered. The solutions attempted have
commonly proceeded by an analysis of industrial life apart from
business enterprise; that is to say, they have sought to explain
the occurrence of crises under that old-fashioned "natural
economy" or "money economy" under which crises did not normally
occur.(4*)

Taking as a point of departure the patent fact that crises,
depressions, and brisk times are in their first incidence
phenomena of business, of prices and capitalization, an
explanation of their appearance and disappearance, and of their
bearing upon the common welfare, may be sought by harking back to
those business principles that underlie modern capitalistic
enterprise. An analysis of the current, common-sense business
views of price and investment should indicate the genesis and
manner of growth of these mass movements of the business
community, as well as the character of those circumstances which
may further or inhibit such movements. Business depression and
exaltation are, at least in their first incidence, of the nature
of psychological fact, just as price movements are a
psychological phenomenon.

The everyday circumstances which condition the modern
business management of industry are sufficiently well known, and
they have already been reviewed in some detail in earlier
chapters; but they may perhaps advantageously be outlined again
in so far as they bear immediately on the question in hand.

(1) Industry is carried on by means of investment, which is
made with a view to pecuniary gain (the earnings). The business
man's endeavors in managing the affairs of the concern in which
investment has been made look to the same end. The gains are kept
account of as a percentage on the investment, and both they and
the industrial plant or process through the management of which
they are procured are counted in terms of money, and, indeed, in
no other terms. The plant or process (or the investment, whatever
form it takes) is capitalized on the basis of the gains which
accrue from it, and this capitalization proceeds on the ground
afforded by the current rate of interest, weighted by
consideration of any prospective change in the earning-capacity
of the concern. The management of the concern is effected by a
more or less intricate and multifarious sequence of bargains. The
decisive consideration at every point in this traffic of
investment and administration is the consideration of price in
one relation or another.

(2) The industry to which the business men in this way resort
as the ways and means of gain is of the nature of a mechanical
process, or it is some employment (as commerce or banking) that
is closely bound up with the mechanical industries. Broadly, it
is such industry as lies under the dominion of the machine, in
that it is involved in that comprehensive quasi-mechanical
process of modern industrial life that has been discussed in an
earlier chapter. This implication of each industry in a
comprehensive system, or this articulation with other branches of
industry, is of such a nature as to place each industrial concern
in dependence on one or more other branches of industry, from
which it draws its materials, appliances, etc., and to which it
disposes of its output; and these relations of dependence and
articulation form an endless sequence. That is to say, the
interindustrial relations into which any branch of industry
necessarily enters do not run to a final term in any direction;
within the process of industry at large there is no member that
stands in the relation of an initial term to any sequence of
processes. The ramification of industrial dependence is without
limits. The method of these relations of one concern to another,
or of one branch of industry to another, is that of bargaining,
contracts of purchase and sale. It is a pecuniary relation, in
the last resort a price relation, and the balance of this system
of interstitial relations is a price balance.

(3) These interstitial pecuniary relations, between the
several concerns or branches of industry that make up the
comprehensive industrial system at large, involve credit
relations of greater or less duration. The bargaining, by means
of which industry is managed and the interstitial relations
adjusted, takes the form of contracts for future performance. All
industrial concerns of appreciable size are constantly involved
in such contracts, which are, on an average, of considerable
magnitude and duration, and commonly extend in several
directions. These contracts may be of the nature of loans,
advances, outstanding accounts, engagements for future delivery
or future acceptance, but in the nature of the case they involve
credit obligations. Credit, whether under that name or under the
name of orders, contracts, accounts, and the like, is inseparable
from the management of modern industry in all that concerns the
working relations between businesses that are not under one
ownership, or between which the relations resting on separate
ownership have not been placed in abeyance by some such expedient
as lease, pool, syndicate, trust agreement, and the like. Credit
relations of one kind and another are also found expedient and
profitable at many points where their employment is not precisely
unavoidable. These extended credit relations are requisite to the
most expeditious and profitable conduct of business, and so to
the highest degree of success of the business. Under the regime
of the machine industry and modern business methods it is
probably fair to say that the use of credit, apart from loan
capital and leases, unavoidably goes to the extent required to
cover all goods in process of elaboration, from the raw material
to the finished goods, in so far as the goods change hands (in
point of ownership) during the process.

(4) The conduct of industry by competing business concerns
involves an extensive use of loan credit, as spoken of in Chapter
V above.

The four conditions recited are characteristic features of
that recent past during which brisk times, crises, and
depressions followed one another with some regularity as
incidents of the normal course of business.(5*) Certain
qualifications of this characterization are necessary to fit the
immediate present. These will be indicated presently.

In brisk times the use of credit is large; it may be as a
cause or an effect of the acceleration of business; most commonly
it seems to be both a cause and an effect. No appreciable
business acceleration takes place without an extension of credit,
at least in the form of contracts of purchase and sale for future
performance, if not also in the form of loans. In times of
protracted depression the use of credit seems on the whole to be
somewhat restricted, at least such is the current apprehension of
the case among business men. Still, it cannot confidently be said
that seasons of protracted depression are due solely to an
absence of credit relations or to an unwillingness to enter into
credit relations. A comparison of the course of interest rates,
e.g., does not warrant the generalization that the readiness with
which loans can be negotiated need be appreciably different in
brisk and in dull times.(6*) The readiness with which contracts
of purchase and sale are negotiated is appreciably greater in
brisk times than in times of depression; that, indeed, is the
obvious difference between the two.

Of the three phases of business activity, depression,
exaltation, and crisis, the last named has claimed the larger and
livelier attention from students, as it is also the more
picturesque phenomenon. An industrial crisis is a period of
liquidation, cancelment of credits, high discount rates, falling
prices and "forced sales," and shrinkage of values. It has as a
sequel, both severe and lasting, a shrinkage of capitalization
throughout the field affected by it. It leaves the business men
collectively poorer, in terms of money value; but the property
which they hold between them may not be appreciably smaller in
point of physical magnitude or of mechanical efficiency than it
was before the liquidation set in. It commonly also involves an
appreciable curtailment of industry, more severe than lasting;
but the effects which a crisis has in industry proper are
commonly not commensurate with its consequences in business or
with the importance attached to a crisis by the business
community. It does not commonly involve an appreciable
destruction of property or a large waste of the material articles
of wealth. It leaves the community at large poorer in point of
market values, but not necessarily in terms of the material means
of life. The shrinkage incident to a crisis is chiefly a
pecuniary, not a material, shrinkage; it takes place primarily in
the intangible items of wealth, secondarily in the price rating
of the tangible items. Apart from such rerating of wealth, the
most substantial immediate effect of a crisis is an extensive
redistribution of the ownership of the industrial equipment, as
noted in speaking of the use of credit.

The play of business exigencies which lead to such a period
of liquidation seems to run somewhat as follows: Many firms have
large bills payable falling due at near dates, at the same time
that they hold bills receivable also in large amounts. To meet
the demand of their creditors they call upon their debtors, who
may in their turn have bills receivable or may hold loans on
collateral. The initial move in the sequence of liquidation may
be the calling in of a call loan, or a call for additional
collateral on a call loan. At some point, earlier or later, in
the sequence of liabilities the demand falls upon the holder of a
loan on collateral which is, in the apprehension of his creditor,
insufficient to secure ready liquidation, either by a shifting of
the loan or by a sale of the collateral. The collateral is
commonly a block of securities representing capitalized wealth,
and the apprehension of the creator may be formulated as a doubt
of the conservative character of the effective capitalization on
which it rests. In other words, there is an apprehension that the
property represented by the collateral is over-capitalized, as
tested by the current quotations, or by the apprehended future
quotations, of the securities in question. The market
capitalization of the collateral has taken place on the basis of
high prices and brisk trade which prevail in such a period of
business exaltation as always precedes an acute crisis. When such
a call comes upon a given debtor, the call is passed along to the
debtors farther along in the sequence of liabilities, and the
sequence of liquidations thereby gets under way, with the effect,
notorious through unbroken experience, that the collateral all
along the line declines in the market. The crisis is thereby in
action, and the further consequences follow as a wellknown matter
of course. All this is familiar matter, known to business men and
students by common notoriety.

The immediate occasion of such a crisis, then, is that there
arises a practical discrepancy between the earlier effective
capitalization on which the collateral has been accepted by the
creditors, and the subsequent effective capitalization of the
same collateral shown by quotations and sales of the securities
on the market. But since the earlier capitalization commonly, in
the normal case, comes out of a period of business prosperity,
the point of inquiry is as to the ground and method of this
effective capitalization of collateral during the period of
prosperity that goes before a crisis, and this, in turn, involves
the question of the nature and causes of a period of prosperity.

The manner in which the capitalization of collateral, and
thereby the discrepancy between the putative and actual
earning-capacity of capital, is increased by loan credit during
an era of prosperity has been indicated in some detail in Chapter
V above. But it may serve to enforce the view there taken, if it
can be shown on similar lines that a period of prosperity will
bring on a like discrepancy between putative and actual
earning-capacity, and therefore between putative and eventual
capitalization of collateral, even independently of the expansion
effected by loan credit.

A period of prosperity is no more a matter of course than a
crisis. It has its beginning in some specific combination of
circumstances. It takes its rise from some traceable favorable
disturbance of the course of business. In such a period the
potent fact which serves as incentive to the acceleration of
business is a rise of prices. This rise of prices presently
becomes general as prosperity progresses and becomes an habitual
fact, but it takes its start from some specific initial
disturbance of prices. That is to say, prices rise first in some
one industry or line of industries.(7*)

By new investments, as well as by extending the operations of
the plants already employed, business men forthwith endeavor to
take advantage of such a rise. The endeavor to market an
increased supply of the things for which there is an enlarged
demand, brings on an increased demand and an advance of prices in
those lines of industry from which the concerns that had the
initial advantage draw their supplies. In part by actual increase
of demand and in part through a lively anticipation of an
advanced demand, aggressive business enterprise extends its
ventures and pushes up prices in remoter lines of industry. This
transmission of the favorable disturbance of business
(substantially a psychological phenomenon) follows very promptly
under modern conditions, so that any differential advantage that
accrues at the outset to the particular line of industry upon
which the initial disturbance falls is presently lost or greatly
lessened. In the meantime extensive contracts for future
performance are entered into in all directions, and this
extensive implication of the various lines of industry serves, of
itself, to maintain the prosperity for the time being. If the
original favorable disturbance of demand and prices, to which the
prosperity owes its rise, falls off to the earlier level of
demand, the era of prosperity has thereby a term set to its run;
although the date of its termination is always at some distance
in the future, beyond the time when the original demand has
ceased to act. The reason for this retardation, whereby the close
of an era of prosperity is always delayed, other things equal,
beyond the lapse of the cause from which it has arisen, is (1)
the habit of buoyancy, or speculative recklessness, which grows
up in any business community under such circumstances, (2) the
continued life of a considerable body of contracts for future
performance, which acts to keep up the demand for such things as
are required in order to fill these contracts and thereby keeps
up prices in so far. In general it may be said that after the
failure of the favorable price disturbance to which it is due, an
era of prosperity will continue for that (indefinite) further
period during which the fringe of outstanding contracts continues
to dominate the business situation. Some further, new contracts
will always continue to be made during this period, and some
unfilled contracts will always be left standing over when the
liquidation sets in; but, broadly speaking, the wind-up comes,
not when this body of outstanding contracts have run out or been
filled, but when the business of filling them and of filling the
orders to which they give rise no longer occupies the attention
of the business community in greater measure than the rest of
current business.

The run of business exigencies on which an era of prosperity
goes forward may be sketched in its general features somewhat as
follows: Increased demand and enhanced prices, with the large
contracts which follow from such a state of the market, increase
the prospective earnings of the several concerns engaged. These
prospective earnings may eventually be realized in full measure,
or they may turn out to have been putative earnings, only. that
is largely a question of how far in the future the liquidation
lies. The business effect of increased prospective earnings,
however, is much the same whether the event proves the
expectation of increased earnings to have been well grounded or
not. The expectation in either case leads the business men to bid
high for equipment and supplies. Thereby the effective (market)
capitalization is increased to answer to the increased
prospective earnings. This recapitalization of industrial
property, on the basis of heightened expectation, increases the
value of this property as collateral. The inflated property
becomes, in effect, collateral even without a formal extension of
credit in the way of loans; because, in effect, the contracts
entered into are a credit extension, and because the property of
the contracting parties is liable to be drawn into liquidation in
case of non-fulfilment of the contracts. But during the free
swing of that buoyant enterprise that characterizes an era of
prosperity contracts are entered into with a somewhat easy
scrutiny of the property values available to secure a contract.
So that as regards this point not only is the capitalization of
the industrial property inflated on the basis of expectation, but
in the making of contracts the margin of security is less closely
looked after than it is in the making of loans on collateral.
There results a discrepancy between the effective capitalization
during prosperity and the capitalization as it stood before the
prosperity set in, and the heightened capitalization becomes the
basis of an extensive ramification of credit in the way of
contracts (orders); at the same time the volume of loan credit,
in set form, is also greatly increased during an era of
prosperity.(8*)

An era of prosperity is an era of rising prices. When prices
cease to rise prosperity is on the wane, although it may not
promptly terminate at that juncture. This follows from the fact
that the putative increase of earnings on which prosperity rests
is in substance an apprehended differential gain in increased
selling price of the output over the expenses of production of
the output. Only so long as the selling price of the output
realizes such a differential gain over the expenses of
production, is the putative increased rate of earnings realized;
and so soon as such a differential advantage ceases, the era of
prosperity enters on its closing phase.

Such a differential advantage arises mainly from two causes:
(1) The lines of industry which are remote, industrially
speaking, from the point of initial disturbance, - from which,
that is to say, the lines of industry first and chiefly affected
by the rise draw supplies of one kind or another, - these remote
lines of industry are less promptly and less acutely affected by
the favorable disturbance of the price level; this retardation of
the disturbance affords the industries nearer the seat of
disturbance a differential advantage, which grows less the
farther removed the given enterprise is from the point of initial
disturbance.(9*) (2) The chief and most secure differential
advantage in the case is that due to the relatively slow advance
in the cost of labor during an era of prosperity. Wages
ordinarily are not advanced at all for a considerable period
after such an era of prosperity has set in; and so long as the
eventual advance of wages does not overtake the advance in prices
(which in the common run of cases it never does in full measure),
so long, of course, a differential gain in the selling price
accrues, other things equal, to virtually all business
enterprises engaged in the industries affected by the prosperity.

There are, further, certain (outlying) lines of industry, as,
e.g., farming, which may not be drawn into the movement in any
appreciable degree, and the price of supplies drawn from these
outlying industries need not rise; particularly they need not
advance in a degree proportionate to the advance in the prices of
the goods into which they enter as an element of their expenses
of production. To an uncertain but commonly appreciable extent
there is also a progressive cheapening of the processes of
production during such an era, and this cheapening, particularly
in so far as it affects the production of the goods contracted
for, as contrasted with the appliances of production, serves also
to maintain the differential advantage between the contracted
sale price and the expenses of production of the goods contracted
for.

In the ordinary course, however, the necessary expenses of
production presently overtake or nearly overtake the prospective
selling price of the output. The differential advantage, on which
business prosperity rests, then fails; the rate of earnings falls
off. the enhanced capitalization based on enhanced putative
earnings proves greater than the earnings realized or in prospect
on the basis of an enhanced scale of expenses of production; the
collateral consequently shrinks to a point where it will not
support the credit extension resting on it in the way of
outstanding contracts and loans; and liquidation ensues, after
the manner frequently set forth by those who have written on
these subjects.(10*)

At some point in the system of investment and business
extension will be found some branches of industry which have
gradually lost what differential advantage they started out with
when they entered on the era of prosperity; and if these are
involved in large contracts and undertakings which are carried
over into the phase of the movement at which this particular
branch of industry has ceased to have a differential advantage in
the price of its output over the cost of its supplies of material
or labor, then what may have been a conservative capitalization
of their holdings at an early phase, while their earning-capacity
rested on a large differential advantage, will become an
excessive capitalization after their earning-capacity has
declined through loss of their differential advantage. Some
branch or branches and some firms or class of firms necessarily
fall into this position in the course of a period of phenomenally
brisk times. A business concern so placed necessarily becomes a
debtor, and its liabilities necessarily become, in some degree,
bad debts. It is forced by circumstances to deliver its output at
prices which preclude its obtaining such a margin as its
extension of business presupposed. That is to say, its
capitalization becomes excessive through shrinkage of its
earning-capacity (as counted in terms of price). A concern of
this class which is a debtor is precluded from meeting its
obligations out of its current earnings; and if, as commonly
happens in an appreciable proportion of cases, its obligations
have already been augmented to the extent which its recent
earning-capacity would warrant, then the concern is insolvent for
the time being. If the claims against it are pressed, it has no
recourse hut liquidation through forced sales or bankruptcy.
Either expedient, if the case is one of considerable magnitude,
is disastrous to the balanced sequence of credit relations in
which the business community is involved. The system of credit
relations prevailing at such a time has grown up on the basis of
an earning-capacity transiently enhanced by a wave of
differential price advantage; and when this wave has passed, even
if it leaves prices higher all around, the differential advantage
of at least most concerns is past. The differential price
advantage has come to the several branches or firms in
succession, and has, in the typical case, successively left each
with an excessive capitalization, and has left many with a body
of liabilities out of proportion to their subsequent
earning-capacity. This situation may, evidently, come about in
this manner, even without lowering the aggregate (pecuniary)
earning-capacity of the business community to the level at which
it stood before the wave of prosperity set in.(11*)

But when such a situation has come, all that is required to
bring on the general catastrophe is that some considerable
creditor find out that the present earning-capacity of his debtor
will probably not warrant the capitalization on which his
collateral is appraised, In self-defence he must decline the
extension of a loan, and forced liquidation must follow. Such a
liquidation involves cutting under the ruling prices of products,
which lessens the profits of competing firms and throws them into
the class of insolvents, and so extends the readjustment of
capitalization.

The point of departure for the ensuing sequence of
liquidation is not infrequently the failure of some banking
house, but when this is the case it is pretty sure to be a bank
whose funds have been "tied up" in "unwise" loans to industrial
enterprises of the class spoken of above.(12*)

The abruptness of the recapitalization and of the
redistribution of ownership involved in a period of liquidation
may be greatly mitigated, and the incidence of the shrinkage of
values may be more equably distributed, by a judicious leniency
on the part of the creditors or by a well-advised and discreetly
weighted extension of credit by the government to certain
sections of the business community. Such measures of alleviation
were had, with happy effect, in the case of a recent stringency
which is sometimes spoken of as an averted crisis. But where the
situation answers the specifications recited above, in respect of
a large and widely prevalent discrepancy between earning-capacity
and capitalization, a drastic readjustment of values is
apparently unavoidable.

The point has already been adverted to once or twice that the
most substantial immediate outcome of such a liquidation as is
involved in a crisis is a redistribution of the ownership of the
property concerned in the liquidation, whereby creditors and
similar claimants gain at the expense of the solvent debtors.
Such being the case, it would logically follow that the large
creditors should see and follow up their advantage by concertedly
pushing the body of debtors to an abrupt liquidation, and so
realizing as large a gain as possible with the least practicable
delay, whenever the situation offers.

Such may be the logic of the circumstances, but such is not
the course practically taken by the large creditors under the
circumstances. For this there is more than one reason. It is not,
apparently, that human kindness overrules the creditors' impulse
to gain at the expense of the debtors. The ever recurring
object-lessons afforded by operations in the stock and money
market enforce the belief that when one business man gets the
advantage of another he will commonly use the advantage without
humanitarian reserve, if only the advantage is offered hIm in
terms which he can comprehend. But short-sightedness and lack of
insight beyond the conventional routine seem to be fairly
universal traits of the class of men who engage in the larger
business activities. So that, while it would be to the
unequivocal advantage of the large creditor, in point of material
gain, to draw in his debtor's property at such a reduced
valuation as comes in a period of abrupt liquidation, yet he does
not ordinarily see the matter in that light; because the
liquidation involves a shrinkage of the money value of the
property concerned, and the business man, creditor or debtor, is
not in the habit of looking beyond the money rating of the
property in question or beyond the most immediate future. The
conventional base line of business traffic, of course, is the
money value, and a recognition of the patent fact that this base
line wavers incontinently, and that it may on occasion shift very
abruptly, apparently exceeds the business man's practical powers
of comprehension. Money value is his habitual bench-mark, and he
holds to the conviction that this bench-mark is stable, in spite
of the facts.(13*)

It is true, cases occur, from time to time, of transactions
of some appreciable magnitude in which some degree of recognition
of this fact is met with. Some large business man may yet rise to
the requisite level of intelligence, and may comprehend and
unreservedly act upon the fact that the money base line of
business traffic at large is thoroughly unstable and may readily
be manipulated, and it will be worth going out of one's way to
see the phenomenal gains and the picturesque accompaniments of
such a man's work. Parenthetically it may be remarked that if
such a degree of insight should become the common property of the
business community, business traffic as now carried on might
conceivably collapse through loss of its base line. What is yet
lacking in order to such a consummation is perhaps nothing more
serious than that business capital be reduced to a somewhat more
thorough state of intangibility than it has yet attained, and
that does not seem a remote contingency.(14*)

There is, however, another and more constraining circumstance
which hinders the large creditors from wilfully pushing the
debtors to a reckoning when things are ripe for liquidation. As
was indicated above, the sequence of credit relations in an era
of prosperity is endlessly ramified through the business
community; whereby it happens that very few creditors are not
also debtors, or stand in such relation to debtors as would
involve them in some loss, even if this loss should not be
commensurate with their eventual gain at the cost of other
debtors. This circumstance by itself has a strong deterrent
effect, and when taken in connection with what was said above of
the habitual inability of the men in business to appreciate the
instability of money values, it is probably sufficient to explain
the apparently shortsighted conduct of those large creditors to
seek to mitigate the severity of liquidation when the liquidation
has come due.

The account here offered of the "method" of crises and eras
of prosperity does not differ greatly from accounts usually met
with, except in explaining these phenomena as primarily phenomena
of business rather than of industry. The disturbances of the
mechanical processes of industry, which are a conspicuous feature
of any period of crisis, follow from the disturbance set up in
the pecuniary traffic instead of leading up to the latter. While
industry and business stand in a relation of mutual cause and
effect, in this as in other cases, the initiative in such a
movement belongs with the business traffic rather than with the
industrial processes.

Industry is controlled by business exigencies and is carried
on for business ends. The effects of a wide disturbance in
business, therefore, reach the industrial processes pretty
directly, and the consequences, in the way of an expansion or
curtailment of industrial activity and an enlarged or shortened
output of product, are, of course, both immediate and important.
As a primary effect, on the industrial side, of an era of
prosperity, the community gains greatly in aggregate material
wealth. The gain in material wealth, of course, is not equably
distributed; most of it goes to the larger business men,
eventually in great part to those who come out of the subsequent
liquidation on the credit side. To some extent this aggregate
material gain is offset by the unavoidable waste incident to the
stagnation that attends upon an era of prosperity. It is further
offset by the fact that good times carry with them an
exceptionally wasteful expenditure in current consumption. Also,
the usual and more effectual impetus to an era of prosperity,
when it is not an inflation of the currency, is some form of
wasteful expenditure, as, e.g., a sustained war demand or the
demand due to the increase of armaments, naval and military, or
again, such an interference with the course of business as is
wrought by a differentially protective tariff. The later history
of America and Germany illustrates both these methods of
procuring an era of prosperity. These methods, it will be
noticed, are, in their primary incidence, of the nature of a
waste of industrial output or energy; but the prosperity achieved
is, none the less, to be recognized as a beneficial outcome in
point of heightened industrial activity as well as in point of
increased comfort for the industrial classes.

To the workmen engaged in industry, particularly, substantial
benefits accrue from an era of prosperity. These benefits come,
not in the way of larger returns for a given amount of work, but
more work, fuller employment, at about the earlier rate of pay.
To the workmen it often means a very substantial gain if they can
get a fuller livelihood by working harder or longer, and an era
of prosperity gives them a chance of this kind. Gradually,
however, as prosperity - that is to say, the advancing price
level rises and spreads, the increased cost of living neutralizes
the gain due to fuller employment, and after the era of
prosperity has been under way for some time the gain in the
amount of work obtainable is likely to be fairly offset by the
increased cost of living. As noted above, much of the business
advantage gained in an era of prosperity is due to the fact that
wages advance more tardily than the prices of goods. An era of
prosperity does not commonly bring an increase of wages until the
era is about to close. The advance of wages in such a case is not
only a symptom indicating. that the season of prosperity is
passing, but it is a business factor which must by its own proper
effect close the season of prosperity as soon as the advance in
wages becomes somewhat general. Increasing wages cut away the
securest ground of that differential price advantage on which an
era of prosperity runs.

Periods of crisis or of prosperity are, after all, relatively
simple phenomena with strongly marked features, and a passable
explanation of them is correspondingly easy. They have also the
ad vantage of having received much attention at the hands of the
students of economic history. On the other hand, protracted
depression, not traceable to widespread hardship or calamity
arising from circumstances outside the range of business
transactions, is a relatively new and untried subject for
economic theory. Newer, more obscure. with less pronounced
features and less definite limits than movements of speculative
advance or speculative crises, this phenomenon has to a less
extent engaged the steady attention of students. An inquiry into
the life history and the causes and effects of depression, from
the point of view of a theory of business, may therefore scarcely
be expected to yield concise or secure conclusions.

Since industry waits upon business, it is a matter of course
that industrial depression is primarily a depression in business.
It is in business that depression is felt, since it is on the
business side of economic activity that the seat of economic
sensibility may be said to lie; it is also in business
(pecuniary) terms that the depression is measured whenever a
measure or estimate of the matter is attempted. In so far as
there is an attendant derangement of the mechanical processes and
of the mechanical articulation of processes in industry, the
derangement follows from the pecuniary exigencies of business.
Depression and industrial stagnation follow only in case the
pecuniary exigencies of the situation are of such a character as
to affect the traffic of the business community in an inhibitory
way. But business is the quest of profits, and an inhibition of
this quest must touch the seat of its vital motives. Industrial
depression means that the business men engaged do not see their
way to derive a satisfactory gain from letting the industrial
process go forward on the lines and in the volume for which the
material equipment of industry is designed. It is not worth their
while, and it might even work them pecuniary harm. Commonly their
apprehension of the discrepancy which forbids an aggressive
pursuit of industrial business is expressed by the phrase
"overproduction." An alternative phrase, intended to cover the
same concept, but less frequently employed, is
"underconsumption."(15*)

The controversial question as to the tenability of any given
"overproduction" doctrine may, for the present purpose, be left
on one side; it lies outside the theory of business and it has no
merits or demerits for the purposes of a theory of business. The
point of interest here is rather the ground of its acceptation
among business men and the meaning which this notion has for
them; that is to say, it is chiefly of interest here to inquire
into the habits of thought which give cogency and effect to the
dogma of "overproduction" as practically held by the body of
business men, - what it practically means, why the dogma is held,
and what is its effect on the course of business enterprise.

"Overproduction," or "underconsumption," as it is met with in
the views of business men, is neither a vacant dogma nor a shifty
apology wherewith to cover their own delinquencies, but a very
concretely real state of affairs. It is a state of affairs that
prevails when business is persistently dull; and the concept
covered by the term comprises the sufficient cause of the
dulness, in the apprehension of the business community, even
though they may not always speak of the difficulty by that name.
It may be worth while, even at the risk of tedium, to point out
that this concept of "overproduction" applies, not to the
material, mechanical bearing of the situation, but to its
pecuniary bearing. The notion is never seriously entertained that
there is or may be an embarrassing excess of goods, or of the
appliances for their production, above what would be of some
human use if the business situation permitted them to be turned
to use.

(1) The supply of consumable goods is, practically, never
greater than the community's capacity for consuming them. An
embarrassing excess in any line is practically a remote
contingency at the most.(16*) There are many eloquent passages in
the economic manuals which may be called in witness of this
truism, where much pains is taken to show that human wants are,
in the nature of the case, indefinitely extensible. Nothing
stands in the way, we are told, but "difficulty of attainment" of
the goods with which to satisfy these wants. (2) In times of
depression, or "hard times," there is, under the modern
industrial system at least, no overproduction in the sense of a
production so large as to overtax the working capacity of the
industrial appliances and processes employed, nor so large, even,
as to overtax the normal powers of the force of workmen or
require them to work overtime and holidays. Quite the contrary.
That sort of thing happens only in brisk times, when there is no
overproduction. Seriously to recite such platitudes as these may
seem like a trifling with the patience of the printer, or it may
be taken for a light-headed excess of "wissenschaftlicher
Methode"; but these two formulations appear to cover all the
conceivable ways in which overproduction may occur, so long as
the term is construed from the point of view of the mechanical
facts of the case. Seen from this side a period of depression is
a period of underproduction; mills tun on half time or none, and
the supply of goods that finds its way into the hands of
consumers is sensibly scant for the demands of comfort.

The difficulty is, of course, a pecuniary one, and the phrase
is used by business men in that pecuniary sense in which it has
an immediate bearing on business. "Excessive competition" is an
alternative phrase. There is an excess of goods, or of the means
of producing them, above what is expedient on pecuniary grounds,
- above what there is an effective demand for at prices that will
repay the cost of production of the goods and leave something
appreciable over as a profit. It is a question of prices and
earnings. The difficulty is that not enough of a product can be
disposed of at fair prices to warrant the running of the mills at
their full capacity, or running them at a rate near enough to
their capacity to yield a fair profit. Or, to turn the
proposition about, as business men are in the habit of doing,
there is more of an output offered than will be carried off at a
fair price, such a price as will afford fair or ordinary profits
on the investment and the running expenses. There is too large a
productive capacity; there are, too many competitive producers
and too much industrial apparatus to supply the market at
reasonable prices. The matter reduces itself to a question of
fair prices and ordinary profits.(17*)

If there is a large volume of outstanding credit obligations,
that will complicate the situation. There is always a
considerable amount of interest bearing securities outstanding,
and the claims of these securities have to be satisfied before
dividends can be paid on stock, or before profits accrue to
industrial ventures which have issued the Securities. These fixed
charges, together with others of a like kind, narrow the margin
from which profits are derived and increase the handicap which a
season of dull times brings to the business men in charge of
industry. At the same time fixed charges preclude shutting down,
except at a sure and considerable loss. The business men involved
are constrained to go on, and in the absence of wide combinations
in industry they are constrained to go on at such competitive
prices as to preclude reasonable profits.

The question of fair prices and reasonable profits has some
reference to current rates of interest. A "fair" rate of profits
is such a rate as bears a reasonable relation to the current rate
of interest, although this relation of profits to interest rates
does not appear to be a strict one. Still, there undoubtedly is
some reference to the current rate of interest as a sort of zero
line to which profits should not decline. New investments are
made on the basis of current rates of interest and with a view to
securing the differential gain promised by the excess of
prospective profits over interest rates.

In a period of depression the aggregate industrial equipment
is, notoriously, not running at its full capacity; there are many
idle and half-idle plants and many idle workmen. The concerns in
question find themselves unable to do a full run of business at
reasonable profits. Still, unless the depression is of
exceptionally short duration, there is always some new investment
going on. More or less of new capital continues to find its way
into industrial business in competition with the concerns that
are already in the field.(18*) In case of a protracted depression
the aggregate of new investments so made may, in the course of
years, amount to a very considerable addition to the industrial
outfit, and the production of the new establishments may very
appreciably increase the aggregate output. Indeed, the output of
the new establishments is a notable factor in swelling the supply
and keeping down prices. But the new investments made during the
depression are profitable, at least at the start. Or even if this
should be questioned when stated in this broad way, it will at
least hold true that they are commonly entered upon with a
well-advised expectation of their being profitable if the
situation does not materially change between the time when the
new venture was entered upon and the time when the new equipment
has got under way. If the interval between the inception of the
new enterprise and its completion is a long one, the situation
may so change in the meantime as to leave it unprofitable even if
it has been conservatively planned. There are also, of course,
fraudulent enterprises which are not expected by their promoters
to pay a profit on the investment; and there are probably, also,
always some ventures entered upon during dull times with a view
to being beforehand in preparation for better times. But after
all has been said in qualification of the main proposition, it
remains true that some new investment is going on with a
well-advised expectation of reasonable profits on the basis of
current costs, prices, and rates of interest.(19*) The rate of
interest in times of depression may be unsatisfactory to lenders;
it may be discouraging by comparison with the customary range of
interest rates during better times. Still, the obstacle to
business is not to be sought in an effectual discouragement of
lenders, for in point of fact money is readily to be had on good
security during any protracted depression.(20*)

There is also the fact that investment is continually going
on, which argues that the difficulty is neither that capital
cannot be found for investment, nor that investment has no
prospect of reasonable profits. Practically, no exceptional
amount of fluent funds is withheld from the market, - except in
time of panic, which is another matter. It may be added that the
rate of interest need not be notably low in time of depression,
just as, on the other hand, a period of business exaltation is
not uniformly accompanied by a notably high rate of interest.

But a low or declining rate of interest is effective in the
way of depressing the business situation, even though a
depression may go on without it. The line of its bearing upon
business depression, or at least one line, is as follows:
Established business concerns (particularly corporations) engaged
in industry have some appreciable fixed (interest) charges to
meet - on leases, mortgages, and interest-bearing securities
(preferred stock and bonds). These outstanding obligations and
securities may have been negotiated, "floated," at an earlier
period of higher interest rates and higher profits, or they may
have been carried over through a period of higher interest rates.
In the former case these interest charges are excessively high as
compared with the present capitalized value of the property on
which they rest, computing the capitalization on the basis of the
present cost of replacing this property and the present interest
charge which this cost of replacement would bear. In the latter
case the original capitalization of the corresponding items of
property will have undergone a practical (effective)
recapitalization at a lower figure to correspond with the higher
rate of interest prevalent during the interval in question; and
in the subsequent period of low interest, the fixed charge on
this recapitalization is excessively high as compared with the
current effective capitalization of the property. The liabilities
are excessive, in respect of their interest charges, as compared
with the present earning-capacity of the property represented by
them.(21*)

What gives effect to this drawback for the business
enterprises which have such fixed interest charges to meet is the
fact that the new investments, and those concerns that have gone
into bankruptcy or receivers' hands, come into competition with
the old. These new or rejuvenated concerns are not committed to a
scale of fixed charges carried over from a higher interest level;
and these are therefore carrying only such interest charges as
the current effective capitalization of their property will
warrant, whether effective capitalization be taken to mean cost
of production of the equipment, earning-capacity of the concern,
or market quotation of its securities. These unincumbered
competitors are presumed to be making reasonable profits at
current prices, and their presence in the competitive market
therefore precludes an advance of prices to such a scale as would
afford a reasonable profit to the other establishments after
paying their interest charges on what is, in effect,
over-capitalized property.

This tentative explanation of depression applies only so far
as the period of depression is a time of relatively low rates of
interest. But depression does not uniformly coincide with low
interest rates; besides which, there are other facts in the case
which limit the applicability of the explanation formulated
above. To explain protracted depression, e.g., this line of
argument would be convincing only on the supposition of a
progressively falling rate of interest, - a condition not
commonly met with in a protracted period of depression.

But this explanation, applicable within a limited range of
the phenomena that make up a period of depression, points the way
to another class of considerations that go far toward explaining
the rest. It appears that the phase of the difficulty covered by
this explanation is traceable to a discrepancy between the
accepted capitalization, the interest charges, and the
earning-capacity. And it appears equally plain that the only
remedy applicable to the case (barring a speculative exaltation
of business) is a recapitalization of the concerns affected on a
lower basis, to fit the lowered cost of production of the
equipment and its lowered earning-capacity. But under existing
conditions of law such a remedy cannot be applied to the interest
bearing securities, - except by process of insolvency, - and it
is very reluctantly applied to other capitalized wealth; besides
which it is, practically, very difficult to effect such an avowed
recapitalization as applied to the stock of incorporated
companies, particularly in the case of those whose stock is
ostensibly the capitalized value of their plant.

Such a readjustment of nominal value to actual value as shown
by the facts of earning-capacity is continually going on, in some
measure; but it does not cover the entire range of facts
involved, and it is nearly always of the nature of a reluctant
concession, following only after the need of it has become
somewhat pressing. It can, therefore, in the common run of cases,
not catch up with the progressive difficulty which it is designed
to meet, in so far as the difficulty is of a progressive
character.

A discrepancy between accepted capitalization and current
earning-capacity, similar to the discrepancy discussed above but
of a progressive character, arises under modern conditions apart
from a fall in the rate of interest. The discrepancy pointed out
and provisionally disposed of above, due to a fall in interest
rates, is a discrepancy between the nominal value (accepted
capitalization) of the older establishments, computed on their
earlier earning-capacity or on the original cost of their
equipment, on the one hand, and their present actual value on the
other hand, computed on their current earning-capacity in
competition with rivals that have the advantage of a lower cost
of equipment, or, in other words, a lower interest charge per
unit of earning-capacity. Under the regime of the later, more
fully developed machine production, a discrepancy having a
similar effect arises out of a persistent divergence between the
past cost of production of a given equipment and the current cost
of a like or equivalent equipment at any subsequent date, -
supposing that there intervenes no inflation of prices and no
extraneous cause making for a speculative advance.(22*)

Suppose prices of finished goods to be stable or to vary by
inconsequential fluctuations, negligible for purposes of the
argument, and suppose the rate of interest to be in a similarly
negligible position. In other words, suppose such a condition as
the business community would recognize as ordinary, normal,
sound, without ground for pronounced hopes or fears. Under modern
circumstances, dominated as the modern situation is by the
machine industry, such a state of affairs is unstable, even apart
from any disturbance of an extraneous kind. It is unstable by
virtue of the forces at work in its own process, and these
forces, on the whole, make for a progressive change in. the
direction of depression.

It has appeared above that the depressing effect which a
relatively low (declining) rate of interest has upon industrial
business is due to its setting up a discrepancy between the
accepted capitalization of older establishments and the cost of
new establishments of an equivalent earning-capacity. Now, under
the circumstances of the more fully developed machine industry,
such as it has stood for a couple of decades past, a similar
discrepancy results from the gradual but uninterrupted
progressive improvements of industrial processes. "The state of
the industrial arts," as the older economists are in the habit of
calling it, is no longer to be conceived as stationary, even for
the time being. No "statical" theory of the industrial arts or of
business prosperity is tenable, even for the purposes of a
"statical" theory of the industrial situation. Progressively
increasing efficiency of the processes in use is a pervading
trait of the industrial situation. No two successive years are
now on the same, or virtually the same, plane in respect of the
efficiency of the industrial arts; indeed, the "period of
production" can no longer safely be construed to begin and end on
the same level in this respect. At the same time the
progressively wider and more close-knit articulation of the
several industries in a comprehensive process is also going
forward, and this also affects all branches of industrial
business in some degree and in the same direction, as will appear
presently.

The items of the equipment (plant, materials, and in a
measure even good-will) in which any industrial enterprise
invests, and by the use of which the business men in industry
turn out their output of vendible goods, are themselves products
of the machine industry. Machine processes, ever increasing in
efficiency, turn out the mechanical appliances and materials with
which the processes are carried on, at an ever decreasing cost;
so that at each successive step the result is a process having a
higher efficiency at a lower cost.(23*) This is now no longer a
sporadic effect of ingenious contrivances having a local and
limited application, to be handled as trade secrets and exploited
as an enduring differential advantage.

The cost of production of "capital goods" is steadily and
progressively lowered, as counted in terms of the processes
involved in their production. In a competitive market this is
reflected, with greater or less promptitude, in the prices of
such capital goods to all buyers. But the buyers whose purposes
this lower scale of prices particularly subserves are chiefly the
new investors who go into business in the way of new industrial
establishments or extensions of the old. Each new venture or
extension goes into the competitive traffic of producing and
selling any line of staple goods with a differential advantage,
as against those that have gone before it, in the way of a lower
scale of costs. A successively smaller aggregate value of new
equipment will turn out a given volume of vendible product. In so
far as there is no collusive control of the output or the prices,
this means that the newcomers will cut under the scale of prices
at which their predecessors have been content to supply the
goods. The run of competitive prices is lowered; which means that
at the new competitive prices, and with their output remaining on
its old footing as regards expenses of production, the older
establishments and processes will no longer yield returns
commensurate with the old accepted capitalization.(24*) From the
inherent character of the machine industry itself, therefore, it
follows that the earning-capacity of any industrial enterprise
enters on a decline from the outset, and that its capitalization,
based on its initial putative earning-capacity, grows
progressively antiquated from the start. The efficiency of the
machine process in the "instrumental industries" sets up a
discrepancy between cost and capitalization. So that a
progressive readjustment of capitalization to correspond with the
lowered earning-capacity is required by the nature of the case It
is also, in the nature of the case, impracticable.

In so far as the process of investment and business
management involves the use of credit, in the way of
interest-bearing securities or loans equivalent to such
securities, this element of credit retards the readjustment by
force of the fixed charges which it involves. This retardation
(aided as it is by the reluctance of business men to lower their
capitalization) is of sufficient effect to hinder
recapitalization, on the whole, from overtaking the progressive
need of it, with the result that a fair or "ordinary" rate of
profits on industrial investments is not permanently attainable
in the field of open competition. In order that the rate of
interest should effectually further business depression in this
way, therefore, it is not necessary that the rate should rise or
fall, or that it should be relatively high or low, or th at it
should be uniform over the field, but only that there should be a
rate of interest in each case, and that there should be some
appreciable volume of credit involved in industrial investments.
Credit is, in fact, a ubiquitous factor in modern industrial
business, and its effects in the way indicated are therefore to
be counted in as a constant force in the situation.

However, even apart from the presence of this ubiquitous
credit element, a similar effect would probably result from the
progressive enhancement of industrial efficiency when this
enhancement proceeds at such a rate as has been the case for some
time past. As has been shown in an earlier chapter, business men
keep account of their wealth, their outgo and their income, in
terms of money value, not in terms of mechanical serviceability
or of consumptive effect. Business traffic and business outcome
are standardized in terms of the money unit, while the industrial
process and its output are standardized in terms of physical
measurements (mechanical efficiency). In the current habits and
conventions of the business community, the unit of money is
accepted and dealt with as a standard measure. The stability of
the standard unit cannot be effectually questioned within the
scope of business traffic. According to the practical metaphysics
of the business community, the money unit is an invariable
magnitude, whatever may be true of it in fact. A man imbued with
these business metaphysics and not given to fine-spun reflection,
as business men commonly are not, is richer or poorer in his own
apprehension, according as his balance sheet shows a greater or
less number of these standard units of value. Investment,
expenses, vendible output, earnings, fixed charges, and
capitalization run in terms of this value unit. A reduction of
earnings or of capitalization, as rated in terms of the value
unit, is felt as an impoverishment. The reduction of
capitalization in these terms is, therefore, a hardship, which is
only reluctantly and tardily submitted to, even if it carries no
hardship in the way of a reduced command over the material means
of production, of life, or of comfort. A business man's rating in
the business community likewise rests on the pecuniary magnitude
of his holdings and his transactions, not on the mechanical
serviceability of his establishment or his output; and this
business rating is a large part of the business man's everyday
ambition. An enhancement of it is a source of secure
gratification and self-respect, and a reduction of it has a very
substantial contrary effect.(25*) A reduction of the pecuniary
showing is submitted to only reluctantly and tardily, after it
has become unavoidable, and only to the least feasible extent.
But under conditions, such as now prevail, which involve the
requirement of a progressive rerating of this kind, this
reluctant concession never overtakes the need of readjustment, -
and the discrepancy between capitalization and earning-capacity
is therefore chronic so long as no extraneous circumstances come
in temporarily to set aside the trend of business affairs in this
respect. It may, therefore, be said, on the basis of this view,
that chronic depression, more or less pronounced, is normal to
business under the fully developed regime of the machine
industry.(26*)

This deplorable trend given to business by the excessive
prevalence and efficiency of the machine industry can, however,
be set aside by several factors more or less extraneous to the
industrial system proper. Even within the mechanical system of
industry there is at least one factor of some consequence that
consistently acts to mitigate the trend indicated, and that may
even put it in abeyance from time to time. As has been pointed
out above, questions of business are fundamentally questions of
price. A decline of prices which widely touches business
interests brings depression. Conversely, an appreciable advance
in prices, from whatever cause, means improvement in business.
Such an advance in prices may come of a speculative movement;
which in turn may arise from a variety of circumstances, for the
most part circumstances extraneous to the industrial process. For
the present, however, the question of a speculative movement is
best left on one side. Another factor touches the case more
intimately. As has more than once been the case, prices may be
advanced through a freer supply of the precious metals, or by an
inflation of the currency, or a more facile use of credit
instruments as a subsidiary currency mechanism. Now, the growing
efficiency of industry has an effect in lowering the (material)
cost of production of the precious metals and so increasing the
ease with which they are supplied, after the same manner as it
affects the supply of goods for industrial or consumptive use.
But the increased supply of the precious metals has, of course,
an effect upon prices contrary to that exerted by the increasing
supply of goods. In so far as this effect is had, it acts to
correct or mitigate the trend of business toward chronic
depression.(27*)

But certain circumstances come in to qualify the salutary
effect of a lowered cost of the precious metals. Improvements in
the industrial processes affect the (industrial) cost of
production of the precious metals in a less degree than the cost
of other goods; at least, such seems to have been the case
recently. But beyond this, and of graver consequence, is a
peculiarity affecting the value of the money metals. The annual
product of the money metals is not annually consumed, nor nearly.
The use of them as money does not consume them except
incidentally and very slowly. The mass of these metals in hand at
any given time is very considerable and is relatively
imperishable, so that the annual accretion is but a small
fraction of the aggregate supply. The lowered cost of the annual
supply has therefore but a relatively slight effect upon the
aggregate value of the available supply.

The case is different as regards the annual output of
vendible products, whether for industrial or consumptive use. In
this case, and particularly as regards this matter of new
Investments and extensions of Industrial equipment, the annual
output counts for by far the greater factor in making the current
value of the available supply, if indeed it is not to be regarded
as substantially the only factor that comes in question here.
Accordingly, it is only under very exceptional circumstances, at
times when the precious metals are supplied with extraordinary
freedom, that the in creased output of these metals can offset
the trend of business toward depression. Ordinarily this factor
can count for no more than a mitigation of the "tendency of
profits to a minimum." And even this mitigating effect, it may be
remarked, appears to be of less radical consequence for the
general situation of business now than it was during the earlier
phases of the machine industry's regime. The most telling effect
of an increased supply of the precious metals seems to be the
incitement which it gives to speculative inflation.(28*)

It will be noted that the explanation here offered of
depression makes it a malady of the affections. The discrepancy
which discourages business men is a discrepancy between that
nominal capitalization which they have set their hearts upon
through habituation in the immediate past and that actual
capitalizable value of their property which its current
earning-capacity will warrant. But where the preconceptions of
the business men engaged have, as commonly happens, in great part
been fixed and legalized in the form of interest-bearing
securities, this malady of the affections becomes extremely
difficult to remedy, even though it be true that these legalized
affections, preconceptions, or what not, centre upon the
metaphysical stability of the money unit.

But while it is true that depression is primarily a business
difficulty and rests on emotional grounds, that does not hinder
its having grave consequences for industry and for the material
welfare of the community outside the range of business interests.
Business enterprise, it is true, proceeds on metaphysical grounds
and is swayed by considerations of nominal wealth rather than by
considerations of material serviceability; but, none the less,
business enterprise and business metaphysics control the course
of industry.

Dull times in business means dull times in industry, of
course. But a caution is necessary on this head. The yearly
output does not usually vary extremely between brisk and dull
times, except as measured in price. As measured in material terms
the discrepancy in the volume of output between brisk and dull
times is much less. The gross output as measured by weight and
tale is less in dull than in brisk times, other things equal; but
the deficiency as measured in these terms is much less than the
price returns would indicate. Indeed, the output as measured by
weight and tale need not average very appreciably less during a
protracted depression than during a preceding period of good
times.(29*) The volume of business as well as the volume of
output (by weight and tale) of industry may increase during a few
years of depression at nearly if not quite as high a rate as
during a corresponding period of good times. A transition from
dull to brisk times, however, commonly if not invariably involves
a rapid increase in values, while a converse transition involves
a corresponding shrinkage of values, though commonly a slower
shrinkage, - except where a crisis intervenes.

The primary hardship of a period of depression is a
persistent lesion of the affections of the business men; the
greatest secondary hardship is what falls upon the workmen, in
the way of partial unemployment and a decline in wages, with
consequent precariousness and reduction of their livelihood.(30*)
For those workmen who continue to find fairly steady employment
during the depression, however, even at reduced wages, the loss
is more apparent than real; since the cheapening of goods offsets
the decline in wages. Indeed, the cheapening of the means of
living is apt to offset the fall in wages fully, for such workmen
as have steady work. So that in the case of the workmen also, as
well as in that of the business men, the distress which dull
times brings is in some part a spiritual, emotional matter.

To the rest of the community, those classes that are outside
of business enterprise and outside of the industrial occupations
proper, that is to say, those (non-industrial) classes who live
on a fixed salary or similar fixed income, dull times are a
thinly disguised blessing. They suffer in their affections from
the reflected emotional detriment of the business community, but
they gain in their ease of livelihood and in their savings by all
the difference between the price scale of brisk and of dull
times. To these classes an era of prosperity brings substantially
nothing but detriment.(31*)

Depression is primarily a malady of the affections of the
business men. That is the seat of the difficulty. The stagnation
of industry and the hardships suffered by the workmen and other
classes are of the nature of symptoms and secondary effects. Any
proposed remedy, therefore, must be of such a nature as to reach
this emotional seat of the trouble and restore the balance
between the nominal value of the business capital engaged and the
earnings of the business; that is to say, a remedy, to be
efficacious, must restore profits to a "reasonable" rate; which
means, practically, that prices must be brought to the level on
which the accepted capitalization has been made. Such a remedy,
to offset the disastrous cheapening of products through
mechanical improvements, has been found in business coalitions
and working arrangements of one kind and another, looking to the
"regulation" of prices and output. Latterly this remedy is
becoming familiar to the business community as well as to
students of the business situation, and its tangible, direct, and
unequivocal efficiency in correcting this main infirmity of
modern business is well recognized. So much so, indeed, that its
urgent advisability has been formulated in the maxim that "Where
combination is possible competition is impossible." What is
required is a business coalition on such a scale as to regulate
the output and eliminate competitive sales and competitive
investment within a field large enough to make up a
self-balanced, passably independent industrial system, - such a
coalition of business enterprises as is loosely called a "trust."

Such a business coalition, if it is comprehensive and closely
controlled, can adjust the output of goods and services to the
market with some nicety, and can maintaIn the balance of the
ruling prices, or the price scale agreed upon, with such effect
that the received capitalization need not become obsolete even in
the face of very radical improvements in the processes of
industry. Its effect, in the case of ideal success, is to
neutralize the cheapening of goods and services effected by
current industrial progress. It offsets industrial improvements
in so far as these improvements affect the cost of goods more
than they affect the value of the money metals. It might seem at
first sight that by thIs inhibitory effect of the trust the
entire advantage derivable from industrial improvements within
the scope of the trust should inure to the gaIn of the business
men in the combination, but such does not appear to be the
practical outcome. The practical outcome appears more nearly to
be that material advantage inures to no one from industrial
improvements under the control of the trust, in so far as the
trust successfully carries its point. This feature of trust
management will be taken up again in a different connection.

In addition to its prime purpose of checking the decline of
earnings on past investments, such a business coalition is also
enabled to distribute any unavoidable effect of the progressively
reduced cost of production of the productive goods employed,
somewhat equably over the entire field of industry comprised in
the coalition, and so obviate the pressure of this untoward
industrial progress falling with exceptional severity at any
given point. Economies effected are at the same time made to
accrue to the collective business organization, showing
themselves in the way of increased dividends and increased
effective (market) capitalization of the coalition's property,
instead of being dissipated in competitive selling, and so going
to the body of consumers or to the industrial system at large.

To return to a point temporarily set aside above. By
supposition, in what has just been said, anything like a
speculative inflation has been excluded from the discussion of
business depression; and necessarily so, since the two do not
come at the same time. But at one point the two show a feature in
common. Under both of these two widely different conditions of
the business situation there is a discrepancy between the
accepted capitalization and the actual earning-capacity.(32*) But
the two differ even at this point in that, in the case of
inflation, the discrepancy is not felt until the climax, when a
widespread realization of the discrepancy brings on an abrupt
readjustment, in the crisis which follows inflation; whereas in a
period of depression the sense of this discrepancy and the
protest against it is the most striking circumstance of the case.
The discrepancy between capitalization and earning-capacity in a
period of speculative movement comes of an inflation of
capitalization; whereas in time of depression the discrepancy is
due to a shrinkage of earning-capacity, - both capitalization and
earning-capacity being, of course, counted in terms of money
values. A speculative movement offsets or checks the trend to
depression whenever it occurs; and for some appreciable time
past, such speculative movements appear to have been the only
force which has from time to time broken the otherwise
uninterrupted course of business depression. Under the regime of
a perfected machine industry and a perfect business organization,
with active competition throughout, it is at least probable that
depression would not be seriously interrupted by any other cause.

But it has been a point of economic dogma in modern times -
not to call it a point of theory, since it is not held on
reasoned grounds - that depression and inflation, followed by
crisis, succeed one another with a rough periodicity,
interminably and in the nature of the case. The periodicity (with
an interval of some ten to twelve years from phase to phase) has
not been established with any cogent show of evidence, except for
the period from 1816 to 1873; and even within that period the
evidence has not been convincing to all students of these
phenomena. A tentative explanation of the periodicity, such as
there may have been within that period, as well as of its absence
before and after the period in question, may be offered on the
basis of the views here set forth. keeping in mind the point that
the disturbance, both in the case of inflation and in that of
depression, is a discrepancy between capitalization and
earning-capacity, and also the manner in which this discrepancy
arises, it may be said that prior to the earlier date mentioned
the modern industrial system was not such a comprehensive and
articulate process that a disturbance in one part or one member
of the system need be transmitted forthwith through the channels
of business to all the rest. A speculative movement need not
spread forthwith throughout the industrial system. The great
episodes of speculation and collapse that occurred during earlier
modern times were not of the nature of speculative inflation
affecting the entire business community occupied with industry.
They are rather of the nature of commercial speculation verging
on gambling.(34*) So also, the crises of that earlier time, when
they were not collapses of gambling ventures, were commonly
produced by some great disaster which brought an absolute
material loss upon the community, such as crop failures,
invasions, or heavy war expenditures. On the other hand, as
regards periods of depression prior to the early years of the
nineteenth century, they were also rare if not unknown, except
when due to failure of resources or the burdens of government.
The conditions out of which depression could come, as a
persistent disturbance of business through a divergence between
the capitalization and the earning-capacity of investments, were
not had. The developed machine system was absent, and without
this the cost of production of productive goods could not be
progressively lowered at a rate large enough to set up and
maintain a persistent divergence between capitalization and
earning-capacity in industrial enterprises.

At some uncertain point in the first half of the nineteenth
century the system of machine industry, and the business system
based upon it, attained such a breadth and consistency that
business disturbances of appreciable magnitude in any part would
affect values throughout the system. It had then grown so large
and was so closely articulated a structure that the relations of
its members to one another and to the system as a whole were of
greater moment for the fortunes of these members and for the
orderly process of the whole than were the relations of the
members to industrial factors lying outside the system of the
machine industry and the business community. Hence industrial
crises in the proper sense of the word seem well at home in this
period. They spread with great force and facility whenever they
came; and they had the true character of business crises, in that
they ran with great severity without involving an appreciable
aggregate loss of material wealth, except in terms of price. They
commonly meant a cancelment of values, without appreciable
aggregate loss of goods. They seem also to have been true to the
staple definition of crises in that they followed upon a period
of speculative inflation in industrial investments.

Chronic depression, however, does not seem to belong, as a
consistent feature of the course of things, in this
nineteenth-century period, prior to the eighties or the middle of
the seventies. The usual course, it is commonly held, was rather:
inflation, crisis, transient depression, gradual advance to
inflation, and so on over again.(35*)

On the view of these phenomena here spoken for, an attempt at
explaining this circuit may be made as follows: A crisis, under
this early nineteenth-century situation, was an abrupt collapse
of capitalized values, in which the capitalization was not only
brought to the level of the earning-capacity which the
investments would have shown in quiet times, but appreciably
below that level. The efficiency and the reach of the machine
industry in the production of productive goods was not then so
great as to lower the cost of their production rapidly enough to
overtake the shrinkage in capitalization and so prevent the
latter from rising again in response to the stimulus of a
relatively high earning-capacity. The shock-effect of the
liquidation passed off before the cheapening of the means of
production had time to catch up with the shrinkage of
capitalization due to the crisis, so that after the shock-effect
had passed there still remained an appreciable
under-capitalization as a sequel of the period of liquidation.
Therefore there did not result a persistent unfavorable
discrepancy between capitalization and earning-capacity, with a
consequent chronic depression. On the other hand, the
earning-capacity of investments was high relatively to their
reduced capitalization after the crisis. Actual earning-capacity
exceeded the nominal earning-capacity of industrial plants by so
appreciable a margin as to encourage a bold competitive advance
and a sanguine financiering on the part of the various business
men, so soon as the shock of the liquidation had passed and
business had again fallen into settled channels. But such a bold
competitive advance means the beginning of an extension of credit
and a speculative movement in industry, such as has been
discussed some pages back in connection with crises. This
movement has a cumulative character, after the manner there
indicated, and its outcome is an inflation of capitalization and
a large extension of credit, which normally ends in a period of
liquidation.

Within the period spoken of (1816-1873) this liquidation is
apparently always brought on by some extraneous disturbance. But
it seems that the theory would require us to say that the
extraneous disturbance requisite to bring such a speculative
movement to a head will be slighter the farther the movement has
gone; so that in the earlier stages of a given period of
inflation a liquidation could be brought on only by some
relatively violent disturbance, whereas at a higher phase of
speculative inflation a relatively slight disturbance would
suffice.

Now, it takes some time for such a speculative movement to
bring on so large a discrepancy between capitalization and
earning-capacity as may not be adjusted by other means than a
widespread and severe liquidation.(36*) Hence a rough periodicity
in the recurrence of these seasons of buoyancy and of collapse in
capitalized values. Other factors, and varying ones, have, no
doubt, been present in each of the historic crises of the
nineteenth century, and these other factors would have to be
taken due account of in any history of crises, and even in any
theory of crises, which aimed at anything like an exhaustive
treatment; but the factors here pointed out seem to be the
characteristic and constant ones in the sequence of crises within
this period, at the same time that they are the factors which are
in a peculiar degree connected with that process of business
management in modern industry which is the objective point of the
present inquiry.

Since the seventies, as an approximate date and as applying
particularly to America and in a less degree to Great Britain,
the course of affairs in business has apparently taken a
permanent change as regards crises and depression. During this
recent period, and with increasing persistency, chronic
depression has been the rule rather than the exception in
business. Seasons of easy times, "ordinary prosperity," during
this period are pretty uniformly traceable to specific causes
extraneous to the process of industrial business proper. In one
case, the early nineties, it seems to have been a peculiar crop
situation, and in the most notable case of a speculative
inflation, the one now (1904) apparently drawing to a close, it
was the Spanish-American War, coupled with the expenditures for
stores, munitions, and services incident to placing the country
on a war footing, that lifted the depression and brought
prosperity to the business community. If the outside stimulus
from which the present prosperity takes its impulse be continued
at an adequate pitch, the season of prosperity may be prolonged;
otherwise there seems little reason to expect any other outcome
than a more or less abrupt and searching liquidation.

What would be an adequate pitch of the stimulus making for
prosperity is, of course, not easy to say, but it is probably
safe to say that in order to keep up the season of prosperity for
a considerable number of years the stimulus would have to be
gradually increased. That is to say in other words, the
absorption of goods and services by extra-industrial
expenditures, expenditures which as seen from the standpoint of
industry are pure waste, would have to go on in an increasing
volume. If the wasteful expenditure slackens, the logical outcome
should be a considerable perturbation of business and industry,
followed by depression; if the waste on war, colonization,
provincial investment, and the like, comes to an abrupt stop, the
logical consequence, in the absence of other counteracting
factors, should be a crisis of some severity. (37*)

It was said above that since the seventies the ordinary
course of affairs in business, when undisturbed by transient
circumstances extraneous to the industrial system proper, has
been chronic depression. The fact of such prevalent depression
will probably not be denied by any student of the situation
during this period, so far as regards America and, in a degree,
England.(38*) For the Continent of Europe this characterization
would have to be materially qualified. But the reply is ready to
hand that governmental interferences with trade have been so
ubiquitous on the Continent, particularly in the German-speaking
communities, that their case is fairly to be thrown out of any
general theory. It may also be questioned whether the industrial
system of Germany, e.g., throughout this period conforms to the
requirements of the theory in respect of the degree of
development of the machine industry which such a state of affairs
supposes.(39*)

The explanation of this persistent business depression, in
those countries where it has prevailed, is, on the view here
spoken for, quite simple. By an uncertain date toward the close
of the seventies the advancing efficiency and articulation of the
processes of the machine industry reached such a pitch that the
cost of production of productive goods has since then
persistently outstripped such readjustment of capitalization as
has from time to time been made. The persistent decline of
profits, due to this relative overproduction of industrial
apparatus, has not permitted a consistent speculative expansion,
of the kind which abounds in the earlier half of the nineteenth
century, to get under way. When a speculative movement has been
set up by extraneous stimuli, during this late period, the
inherent and relatively rapid decline of earning-capacity on the
part of older investments has brought the speculative inflation
to book before it has reached such dimensions as would bring on a
violent crisis. And when a crisis of some appreciable severity
has come and has lowered the capitalization, the persistent
efficiency and facile balance of processes in the modern machine
industry has overtaken the decline in capitalization without
allowing time for recovery and consequent boom. The cheapening of
capital goods has overtaken the lowered capitalization of
investments before the shock-effect of the liquidation has worn
off. Hence depression is normal to the industrial situation under
the consummate regime of the machine, so long as competition is
unchecked and no deus ex machina interposes.(40*)

The persistent defection of reasonable profits calls for a
remedy. The remedy may be sought in one or the other of two
directions: (1) in an increased unproductive consumption of
goods; or (2) in an elimination of that "cutthroat" competition
that keeps profits below the "reasonable" level. If enough of the
work or of the output is turned to wasteful expenditures, so as
to admit of but a relatively slight aggregate saving, as counted
by weight and tale, profitable prices can be maintained on the
old basis of capitalization. If the waste is sufficiently large,
the current investment in additional industrial equipment will
not be sufficient to lower prices appreciably through
competition.(41*)

Wasteful expenditure on a scale adequate to offset the
surplus productivity of modern industry is nearly out of the
question. Private initiative cannot carry the waste of goods and
services to nearly the point required by the business situation.
Private waste is no doubt large, but business principles, leading
to saving and shrewd investment, are too ingrained in the habits
of modern men to admit an effective retardation of the rate of
saving.(42*) Something more to the point can be done, and indeed
is being done, by the civilized governments in the way of
effectual waste. Armaments, public edifices, courtly and
diplomatic establishments, and the like, are almost altogether
wasteful, so far as bears on the present question. They have the
additional advantage that the public securities which represent
this waste serve as attractive investment securities for private
savings, at the same time that, taken in the aggregate, the
savings so invested are purely fictitious savings and therefore
do not act to lower profits or prices. Expenditures met by
taxation are less expedient for this purpose; although indirect
taxes have the peculiar advantage of keeping up the prices of the
goods on which they are imposed, and thereby act directly toward
the desired end. The waste of time and effort that goes into
military service, as well as the employment of the courtly,
diplomatic, and ecclesiastical personnel, counts effectually in
the same direction. But however extraordinary this public waste
of substance latterly has been, it is apparently altogether
inadequate to offset the surplus productivity of the machine
industry, particularly when this productivity is seconded by the
great facility which the modern business organization affords for
the accumulation of savings in relatively few hands. There is
also the drawback that the waste of time involved in military
service reduces the purchasing pow er of the classes that are
drawn into the service, and so reduces the amount of wasteful
consumption which these classes might otherwise accomplish.(43*)

So long as industry remains at its present level of
efficiency, and especially so long as incomes continue to be
distributed somewhat after the present scheme, waste cannot be
expected to overtake production, and can therefore not check the
untoward tendency to depression. But if the balance cannot be
maintained by accelerating wasteful consumption, it may be
maintained by curtailing and regulating the output of goods.

"Cutthroat" competition, that is to say, free competitive
selling, can be done away by "pooling the interests" of the
competitors, so soon as all or an effective majority of the
business concerns which are rivals in the market combine and
place their business management under one directive head. When
this is done, by whatever method, selling of goods or services at
competitively varying prices is replaced by collective selling
("collective bargaining") at prices fixed on the basis of "what
the traffic will bear." That is to say, prices are fixed by
consideration of what scale of prices will bring the largest
aggregate net earnings, due regard being had to the effect of a
lower price in increasing sales as well as to the reduction of
cost through the increase of output. The outcome, as regards the
scale of prices, may easily be a reduction of the price to
consumers; but it may also, and equally readily, be an increase
of the average price. But the prices of the output which is in
this way brought to a monopoly basis are nearly certain to run
more even than prices of the like output while sold competitively
by rival concerns.

What has been said in the last paragraph supposes that the
combination of business enterprises is so comprehensive as to
place the resulting coalition in a position of practical
monopoly. Such a result is not always attained, however,
especially not in the earlier attempts at coalition in any
particular branch of industry; although the endeavor is commonly
related until at last a virtual monopoly is achieved. But even
where no effective monopoly is achieved, a coalition of this kind
has a salutary effect, at least temporarily. In almost all cases
a consolidation of this kind is able to effect considerable
economies in the cost of production, as pointed out in an earlier
chapter, and such economies bring relief through enabling the
combined industrial ventures to earn a reasonable profit at a
lower price for their product than before. They are therefore
able to go on on a scale of prices which was not remunerative
while they stood on their old footing of severalty. But the
relief which comes of such measures, so long as competitive
selling goes on in rivalry with concerns standing outside the
coalition, is only transient. The declining cost of production,
and the consequent competitive investment and extension in the
industry, presently catches up with the gain in economy; the
margin of advantage in the competition is lost, and depression
again overtakes the consolidated enterprises on their new
footing. The remedy again is a wider coalition, making possible
farther economies, and making some approach to a position of
secure monopoly.

It is only on a footing of monopoly that this grinding
depression can be definitively set aside. But the monopoly need
not be absolute in order to afford a somewhat enduring relief.
What is necessary is that the monopoly should comprehend all but
a negligible fraction of the business concerns and the equipment
engaged in the field within which competition has kept profits
below a reasonable level. What is a negligible quantity in such a
case is not to be determined on general considerations, since it
depends in each case on circumstances affecting the particular
industry. But, in a general way, the more nearly complete the
monopoly, the more effectually is it likely to serve its
purpose,(44*)

Such business coalitions have the effect of bringing profits
to a reasonable level, not only by making it possible to regulate
output and prices, but also by the economies which are made
practicable on this footing. Coalitions of a less comprehensive
character, as spoken of above, also effect economies in the cost
of production. But the larger coalitions which bring the business
to a monopoly basis have not only the advantage which comes of
the large-scale organization of the industrial process, but they
also enjoy peculiar advantages in the matter of cost, due to
their monopoly position. These added advantages are more
particularly advantages in buying or bargaining for all goods,
materials, and services required, as well as in selling the
output. So long as the coalitions are not comprehensive enough
effectually to eliminate competition, they are constrained to
both buy and sell in competition with others. But when the
coalition comes effectually to cover its special field of
operation, it is able, not only to fix the prices which it will
accept (on the basis of what the traffic will bear), but also in
a considerable measure to fix the prices or rates which it will
pay for materials, labor, and other services (such as
transportation) on a similar basis, - unless it should
necessarily have to do with another coalition that is in a
similar position of monopoly.

The rule which governs the fixing of rates on this side of
the business dealings of a monopolistic coalition is similar to
that which guides its transactions in the matter of sales. Prices
and rates, as, e.g., for materials and labor, are not depressed
to the lowest possible point, but to the lowest practicable
point, - to the point compatible with the largest net profits.
This may or may not be a point below the rates necessary under a
regime of competitive buying. It may be added that only in rare
cases does a coalition attain so strong a position in respect of
its purchases (of materials or services) as to lift this side of
its business entirely above the reach of competition.(45*)

Wherever this expedient of coalition has been found
practicable, the chronic depression of recent times and the
confusion and uncertainty which goes with a depressed competitive
business situation have been obviated. The great coalitions do
not suffer acutely from the ills of depression, except in cases
where their industrial processes are to a peculiar degree in the
position of intermediaries within the range of the competitive
industries, as is the case, e.g., with most railroads. But even
in such a case the coalition which has a monopoly is more
fortunate as regards the stability of its balance sheet than the
same traffic would be without the advantage of monopoly.

Barring providential intervention, then, the only refuge from
chronic depression, according to the view here set forth, is
thoroughgoing coalition in those lines of business in which
coalition is practicable. But since this would include the
greater part of those lines of industry which are dominated by
the machine process, it seems reasonable to expect that the
remedy should be efficacious. The higher development of the
machine process makes competitive business impracticable, but it
carries a remedy for its own evils in that it makes coalition
practicable. The ulterior effects of thoroughgoing monopoly, as
regards the efficiency of industry, the constancy of employment,
the rates of wages, the prices of goods to consumers, and the
like, are, of course, largely matter of surmise, and cannot be
taken up in this inquiry, the present purpose being merely to
give in outline an economic theory of current business
enterprise.

A further consideration hearing on the later phases of the
business situation may be added. The great coalitions and the
business manoeuvres connected with them have the effect of adding
to the large fortunes of the greater business men; which adds to
the large incomes that cannot be spent in consumptive
expenditures; which accelerates the increase of investments;
which brings competition if there is a chance for it; which tends
to bring on depression, in the manner already indicated. The
great coalitions, therefore, seem to carry the seed of this
malady of competition, and this evil consequence can accordingly
be avoided only on the basis of so comprehensive and rigorous a
coalition of business concerns as shall wholly exclude
competition, even in the face of any conceivable amount of new
capital seeking investment.

What has made chronic depression the normal course of things
in modern industrial business is the higher development of the
machine process, given, of course, the traits of human nature as
it manifests itself in business traffic. The machine process
works this effect by virtue, chiefly if not altogether, of these
two characteristics: (1) a relatively rapid rate of increasing
efficiency; and (2) the close interdependence of the several
lines of industrial activity in a comprehensive system, which is
growing more comprehensive and closeknit as improvement and
specialization of industrial processes go on. The last-named
factor counts for more in proportion as the interdependence grows
closer and more comprehensive. Disturbances are progressively
transmitted with greater facility and effect throughout the
system, and each line of industrial business comes to stand in
relatively intimate relations to an ever increasing range of
other lines with which it carries on a traffic of purchase or
sale. A consequence of this state of things is that any business
coalition, in order effectually to serve its purpose of
maintaining earnings and capitalization, is required to be of
larger scope and closer texture. As the exigencies which enforce
the resort to coalition uninterruptedly gain in scope and
urgency, the "trust" must take the same course of growth to meet
these exigencies; until, with some slight further advance along
the accustomed lines, the trust which shall serve the modern
business situation must comprehend in one close business
coalition virtually the whole field of industry within which the
machine process is the dominant industrial factor.(46*)

To this there is a broad exception, given by the
circumstances of the industrial organization. This organization
rests on the distinction between business management and
ownership. The workmen do not and cannot own or direct the
industrial equipment and processes, so long as ownership prevails
and industry is to be managed on business principles. The labor
supply, or the working population, can therefore not be included
in the ideally complete business coalition suggested above,
however consummate the machine system and the business
organization built upon it may become. So that when the last step
in business coalition has been taken, there remains the
competitive friction between the combined business capital and
the combined workmen.

From the considerations recited above it appears that the
competitive management of industry becomes incompatible with
continued prosperity so soon as the machine process has been
developed to its fuller efficiency. Further technological advance
must act to heighten the impracticability of competitive
business. As it is sometimes expressed, the tendency to
consolidation is irresistible. Modern circumstances do not permit
the competitive management of property invested in industrial
enterprise, much less its management in detail by the individual
owners. In short, the exercise of free contract, and the other
powers inhering in the natural right of ownership, are
incompatible with the modern machine technology. Business
discretion necessary centres in other hands than those of the
general body of owners. In the ideal case, so far as the machine
technology and its business concomitants are consistently carried
through, the general body of owners are necessary reduced to the
practical status of pensioners dependent on the discretion of the
great holders of immaterial wealth; the general body of business
men are similarly, in the ideal outcome, disfranchised in point
of business initiative and reduced to a bureaucratic hierarchy
under the same guidance; and the rest, the populace, is very
difficult to bring into the schedule except as raw material of
industry. What may take place to accentuate or mitigate this
tendency is a question of the drift of sentiment on the matter of
property rights, business obligations, and economic policy. So
far as the economic factors at play in the modern situation shape
this drift of sentiment they do so in large part indirectly,
through the disciplinary effect of new and untried circumstances
of politics and legal relation to which their working gives rise.

NOTES:

1. Such a discussion as Patten's Theory of Prosperity applies to
the regime of "natural economy", and passably also to that of
handicraft and petty trade, but does not seriously touch the
modern situation. The like is true generality for current
discussions of this topic.

2. Wealth of Nations, Introduction.

3. This means, in concrete terms, prior to the regime of the
machine industry. Since the coming in of the machine, modern
business enterprise has taken over the management of industry;
that is to say, industry has come to be managed by the method of
investment for a profit by what is in aim and animus essentially
the commercial method. As has been remarked above, capital has
become vendible in a decisive degree. The material factors
engaged in industry , particularly in the machine industry
proper, are vendible in about the same (perhaps on an average in
a higher) degree as the material items handled by commercial
traffic are vendible. This is true of raw materials, labor power,
and industrial equipment, but it is peculiarly true of the
industrial equipment - the mechanical factors in the stricter
sense. It is in these mechanical appliances primarily, but in the
other factors of the machine industry in only a slightly lower
degree, that the traffic of investment, and of purchase and sale
connected with investment, is particularly active. Within these
wider limits a further limitation may be made. "Vendibility" of
all items involved is, as a broadly general rule, carried to the
highest pitch in those branches of industry that have to do with
the production of "producer's goods." These branches are at the
same time, and partly in consequence of this fact, more widely
and intimately related to other branches of industry than are any
other group of industrial processes that might be named. It seems
to be this extreme prevalence of vendibility, together with this
more far-reaching and more exacting articulation with the
industrial process at large, that chiefly gives substantial
significance to a classification of these lines of industry as
"Produktivmittel-Industrien" by late German writers. There is,
for business purposes, a difference of degree, in both of the
respects named, between this (ill-defined) group of industrial
processes on the one hand, and the contrasted group occupied with
the production of consumption goods on the other hand. The
"productive-goods industries" show the modern industrial and
business traits in an accentuated form and force, and they are,
by consequence, in a strategically primary position in the
business situation.

4. Cf., e.g., A. Spiethoff, Jahrbuch f. Gesetzgebung Verwaltung
u. Volkswirtschaft, vol. XXVI. Heft 2 . "Vorbemerkungen zu einer
Theorie der Uberproducktion." and vol. XXVII, pp. 348-353;
Turgan-Baranowsky, Theorie und Geschicte der Handelskrisen in
England, pp. 16-28; L. Pohle, Periodische Wirschaftskrisen,
especially sec. II, with subjoined notes.

5. This is well exemplified in Tugan-Baranowsky (Handelskrise),
who declares at the outset (p. 17) that money and price are
negligible factors for the purpose in hand. He thereby commits
himself to the position that these crises are phenomena of the
material processes of economic life (production and consumption),
not of business traffic. Hence the ultimate failure of this acute
observer and theoretician to reach a tenable solution to the
question. Substantially the is true of Marx, whom Tugan follows,
though with large reservations. (Cf. Marx, Capital, vol. III, ch.
XV)

6. The "cycle" of exaltation, crisis, and depression has
frequently been describe. Perhaps as effective a description and
analysis as any is that of Tugan-Baranowsky, Handelskrisen, chap.
VIII.

7. Cf., however, Cassel, "Om Kriser och Daliga Tider," Ekonomisk
Tidskrift, vol. vi, no. 2, pp. 69-78.

8. As, e.g., the era of prosperity 1897-1902 took its start from
the demand for supplies caused by the Spanish-American War,
though other favorable circumstances acted to give it volume. Mr
Carver, possibly following suggestions given by Spiethoff's
discussion, has suggested that the lines of business in which the
favorable initial disturbance arises are necessarily those
engaged in the production of "producer's goods"; the reason for
this being that, in the nature of the case, "the value of
producer's goods tends to fluctuate more violently than the value
of consumer's goods," inasmuch as the value of producer's goods
varies somewhat as the magnitude of the margin of profits, while
that of the consumer's goods varies somewhat as the magnitude of
the entire demand on which this margin of profits rests as an
increment. (The value of producer's goods = f(delta), that of
consumer's goods = f(demand + delta).) From the like line of
argument it should follow that the initial break in time of
crisis must come in some line of business occupied with
producer's goods. Cf. Quarterly Journal of Economics, May 1903,
pp. 497-500. See also foot-note on p. 181 above.

9. Cf. Sombart, Kapitalismus, vol II, ch. I, on the motive forces
at work in advancing business enterprise.

10. The "intitial disturbance" here spoken of may of course be of
a progressive or recurring character, and so may keep the
differential advantage going in a progressive manner, as, e.g.,
in the case of a progressive demand for supplies due to a
protracted war or to a period of continued preparation for war,
such as has occurred in America during the last few years.

11. There is a point or two of further detail in what may be
called the method of prosperity and crisis, which are best
discussed in connection with the phenomena of depression. These
will, therefore, be taken up presently. The above
characterization of an era of prosperity and the manner of its
exhausting itself will serve as a description of the course which
such an era takes under the regime of the more highly developed
business methods of the high tide of the nineteenth century. For
the earlier, less fully developed, business situation of the
early nineteenth century the corresponding course of events runs
somewhat different, owing, chiefly at least, (1) to a slower rate
of transmission of any price disturbance, and (2) to the greater
range and value of "outlying" industries which are very tardily
if at all drawn into the exuberant movement of prosperity. In
this connection it is worth noting that during this earlier
period of the nineteenth century the production of specifically
productive goods had not been carried to the point afterward
attained, either in the differentiation and specialization of
industries occupied with this class of goods or in the relative
volume of this class of industries.

12. The several phases of this sequence of exaltation and
depression for any given business concern, may be stated as
follows: -

Let ea = earnings; pr = sale price of output; exp = expenses
of production of output; mar = margin of gain on output = pr -
exp; cap = intitial effective capitalization; yp = year's
purchase at (current rates = int) = 1/int, disregarding risk; cr

normal credit extension on given cap = cap/n  f(cap/int).

Then at the initial phase,
ea = (mar = pr -exp)outp,
cap = ea x yp = ea/int,
cr = cap/n,

At the subsequent phase, of exaltation,

ea' = ea + delta ea = mar' x outp
= [(pr' = pr + delta pr) - exp] outp
=(mar + delta mar) outp > ea,
cap' = ea'/int = (ea + delta ea)/int > cap,
cr'  = cap'/n = (cap + delta cap)/n > cr.

At the concluding phase, of depression,

ea`` = ea' - delta ea' = mar`` x outp
= [pr' - (exp' = exp + delta exp)] outp < ea'
cap`` = ca``/int = (ea'- delta ea')/int < cap',
cr`` = cap``/n = (cap' - delta cap')/n < cr'.

For simplicity of statement, in all this no account is taken of
the element of risk, nor of the fluctuations of discount rates or
the variations of volume of output. If these be included in the
calculation as variables, the result is much the same. They are
functions of the variables already included, and their inclusion
would, on the whole, accentuate the oscillations shown by the
computation as it stands.

13. A crisis may take its rise from credit extension in other
than properly industrial business. Such, e.g., was in great
measure the American crisis in l837, when the most obvious and
disastrous inflation was in speculative land values and the
credits based on them. But it is no stretch of the concept to say
that in that case the situation out of which the crisis arose was
an overcapitalization of the land values in question. Capitalized
land is, of course, "capital" for business purposes as truly as
any other body of values that are capitalized and drawn into the
money market.

14. It is, in great part, through or by force of fluctuations of
this base line of money values that large accumulations of wealth
are made. One might almost say that this is the "normal" method
by which saving are made and capitalized in later modern times.
Fluctuations in the stock market, of course, are of this
character, as are commonly also large variations of the course of
prices outside the stock market, as well as fluctuations of the
money market. The great gains of successful promoters of
corporations and the like come in this manner usually. They are
due to enlargement of the money value of a given block of
industrial equipment independently of any change in the physical
character of the equipment which comes near saying that the large
fortunes originate in such changes of the base line, - from which
it follows that the larger accretions to the volume of capital
are of this origin. The large profits are made in the form of
capital, which is acquired by virtue of a price variation. See
foot-note, pp. 168-170.

15. A substantial move in this direction would be that advocated
by Mr F.S. Stetson before the New York Bar Association, and
reiterated before the United States Industrial Commission: "To
permit the formation of a distinct class of business stock
corporations whose capital stock may be issued as representing
proportional parts of the whole capital without any nominal or
money value." The market value of such shares would be the only
value assigned them, and little of a base line in the way of a
legally imputed value would remain. The de jure value would no
longer hinder a free recognition of the facts. - Report of the
Industrial Commission, vol. I. p. 976.

16. Cf. Hobson, Problem of the Unemployed, ch. V., Vialles, La
consommation et les crises economiques, especially "Introduction"
and ch. III.

17. Something that might bear such a construction occurs, e.g.,
locally, when a run of fish exceeds the ability of the workmen to
take care of them. The fatuity of appealing to such an example is
plain.

18. Cf. Smart, Studies in Economics, ch. VII.

19. For the present purpose a concern which passes through a
liquidation and reappears with a rerated and reorganized
capitalization and body of liabilities also has much of the
character of a new investment.

20. Cf. L. Pohle, Bevolkerungsbewegung, Kapitalbildung und
periodische Wirtschaftskrisen, who concludes that depression is
due to a scarcity of capital as compared with population; the
rate of increase of capital is conceived to fall short of the
rate of increase of population, hence periodical depression.

Cf., on the other hand, Macrosty, Trusts and the State, p.
133, who finds, by recourse to the testimony before the Royal
Commission on the Depression of Trade and Industry, that there is
at such times capital constantly seeking investment and entering
into competition with what is already invested. Cf. Final Report
of the Royal Commission on Depression of Trade and Industry
(1886). "The replies received from Chambers of Commerce to the
inquiries we addressed to them confirm the statements made by the
witnesses who appeared before us. Those replies testify to the
general maintenance or increase of the volume of trade,
accompanied in many cases by a shrinkage in its value, and in all
cases by a serious diminution of profit. They also show how
general is the belief in commercial circles that overproduction,
the fall of prices, and more effective foreign competition,
assisted by high tariffs, go far to account for the existing
position of trade and industry in this country." (pp. ix-x). Cf.
also pp. xi-xv of the Report.

21. Cf., e.g., Burton, Crises and Depressions, ch. IV, especially
pp 113-115.

22. More in detail, what happens in connection with
interest-bearing securities carried over an interval of high
interest rates and business activity may be formulated as
follows: When current interest rates advance, securities bearing
a fixed rate (of dividends or interest) decline on the market.
That is to say, the effective capitalized value of the claim to
these fixed rates of income, as shown by the market quotations,
shrinks. At the same time, since the period during which this
readjustment occurs is a period of acceleration in business, the
earning-capacity (actual or putative) of the property on which
these securities rest has increased over what it was at the time
the securities were floated. Hence this property (industrial
equipment) is also recapitalized, in the market quotations, at a
higher value than it had when the securities were floated. The
effective recapitalization carried out by the market quotations
acts, for the present purpose, to the same effect upon the value
of both of the items considered, this effect being to leave a
margin of the property previously covered by the securities
uncovered and available as collateral on which to float a new
extension of credit, in the form of mortgage loan or
interest-bearing security. In the common run of business
procedure this available margin, between the current (higher)
capitalized value of the property (collateral) and the current
(lower) capitalized value of the securities resting upon it is
promptly covered by a fresh credit extension ; whether this
extension takes the set form of loan, bonds, preferred stock, and
the like, or the less patent form of a larger volume of
obligations in the way of contracts and the like, - the result,
as touches the securities and their basis, being that the same
nominal volume of securities with the same aggregate interest
charge rests on a (materially) smaller block of the industrial
equipment after this readjustment of capitalization is had than
it did when the securities were placed. When depression ensues,
and the rate of earnings and interest declines, the effective
capitalization of the securities with a fixed rate of income is
increased (if the securities are felt to be secure) to correspond
with the lower rate of interest; whereas the capitalized value of
the block of industrial equipment on which these securities (plus
whatever may have been added in the interval) rest shrinks to
correspond with the same facts. A discrepancy, such as was
adjusted by a recapitalization during the interval of high rates,
reappears, but in the inverse sense. And this discrepancy cannot
be corrected, since the margin on which the previous adjustment
was made has disappeared, and no corresponding margin on the
other side emerges. Business accounts do not deal in negative
quantities, except under stress of a necessity that violates the
premises on which business accountancy proceeds.

Recurring to the notation employed on page 153, and letting l

par value of securities with fixed charges, r  rate per annum
of fixed charges, l' = market value (effective capitalization) of
these securities,

cap' = ea(yp = 1/int), l' = lr/int,

but if int becomes int' (= int + delta int), l' becomes

l`` = lr/(int + delta int = int') < l',

cap' at the same time becomes cap`` = (ea + delta ea)/(int + delta int) = ea'/int';
whereas in a period of falling interest,

int' = int - delta int, and i`` = lr/(int' = (int - delta int) > l'.

23. Compare Hobson, Problem of the Unemployed, ch. V, and
Tugan-Baranowsky, Handelskrisen, ch. I and VI. In his criticism
(pp. 191-193) Tugan has quite missed the point of Hobson's theory
as well as of his illustration, having apparently not understood
Hobson's exposition, which is, in effect, very similar to his
own. See also Hobson, Modern Capitalism, ch. VII, especially
secs. 8 and 16.

24. The typical form taken by this acceleration in the machine
production of machinery, but in fact it involves the production
of other material factors as well as the mechanical apparatus,
notably the materials used in industry.

25. The established concerns having been capitalized on the basis
of past cost, we can say that in the older establishments, cap -
f(cost), but in the new establishments with an equal earning
capacity, cap1 = f(cost1 = cost - delta cost); hence the rate of
earnings [ = f(ea/cost)] will be progressively higher as cost
decreases:

f(ea/cost) < f(ea/(cost - delta cost)) < f(ea/(cost - 2 delta cost), etc.

26. Recurring to the notation employed in note 2, page 168, and
letting Um = unit of material efficiency, then a given
established concern, A, with a given equipment Um(cap)a = Ue(cap)

Um(cap)  Ue(ea/int), presently finds itself in competition
with a younger concern, B, having an equivalent material
equipment = Um(cap)b procured at a lower cost and requiring lower
earnings (=ea') and lower fixed charges.

Um(cap)b = Uc(ea'/int = (ea - delta ea)/int) = Ue(cap' = cap - delta cap).

But Um(cap)a = Um(cap)b as competitors in the market. Hence, with
the competitive lowering of earnings, and therefore of effective
capitalization, A's account comes to stand:

Um(cap)a = Uc(cap') - Uc(cap - delta cap) < Un(cap).

In effect A is overcapitalized by Uc(cap - cap'). A's nominal
capital, Un(cap)a = Uc(cap' + delta cap), while A's effective
capitalization

Uc(cap')a = Uc(cap - delta cap).

The business man's sensibilities in the case, therefore, suffer a
lesion

= f[Un(ea/int) - Uc((ea - delta ea)/int)],

which is a monotonic function. The discrepancy between Un(cap)z
and Uc(cap') is, in large part, embodied in securities with fixed
charges; which makes a readjustment very difficult even apart
from A's reluctance.

27. With the above analysis may be contrasted Marx's discussion
of the declining rate of profits and the manner in which he
conceives overproduction, speculation, and crises to arise out of
the tendency of profits to a minimum. (Kapital, vol. III, ch. XV)
In the same connection, see Tugan-Baranowsky's criticism of Marx,
Handelskrisen, ch. VII.

28. In point of direct material serviceability, no doubt, a fresh
supply of the precious metals is one of the least useful forms of
wealth to the production of which industrial effort can be
directed, but for the purposes of business prosperity at large it
is probably the most serviceable solution that can be made to the
aggregate wealth. Rapidly increasing efficiency in the production
of other forms of wealth is detrimental to the business
interests, in that it brings depression; but a rapid increase of
the precious metals is the most fortunate material circumstances
for the business interests that industrial activity can bring,
because it puts off depression by keeping up prices.

29. Cf. Smart, Studies in Economics, Essay VI, "Must Prices
Fall?" Distribution of Incomes, bk. II, ch. III.

30. Work goes on during dull times, though at a slackened pace,
and extensions and improvements are continually being made. The
volume of output consequently increases, so that, even if there
has been a setback to production at the beginning of the
depression, the aggregate output presently again reaches the
volume which it had when the dull times set in. It may be added
that the rate of consumption is also appreciably lower during
dull times, particularly in the more wasteful forms of
consumption. This lowered aggregate consumption offsets the
lowered intensity of production during dull times to such an
extent that it is probably safe to say that the net surplus
product, measured by weight and tale, is at least not appreciably
smaller during depression than during prosperity. Cf. Carroll D.
Wright, Testimony in Report of the Industrial Commission, vol.
VII. p. 25.

31. The reduced scale of living of the working population is the
chief factor that counts as an offset against the reduction of
the gross production during dull times, as indicated above. 

32. Cf. articles by G. Cassel, "Om Kriser och Daliga Tider," now
running in Ekonomisk Tidskrift (1904, Nos. 1 and 2), for a
parallel discussion of the topics here dealt with. Mr Cassel's
exposition connects more closely with the received notions of
Capital, Production, etc. and goes more into detail at certain
points, particularly on Saving, Investment (Kapitalbildning), and
Pecuniary Expectancy (Vantandet). His exposition is not yet
completed, but so far as may be gathered from what has come to
hand he should reach substantially the same outcome as that given
above. 

33. In the case of a speculative inflation,

cap = ea/cost x 1/int < cap' = (ea + delta ea)/cost x 1/int;

in the case of depression,

cap' = ea/(cost x int) > cap`` = (ea - delta ea)/(cost x int)

In the former case the current capitalization during
inflation, being cap', exceeds the bona fide capital value as
proved by events, cap; while in the same of depression the
nominal capital, being cap', exceed the capitalization warranted
by current earning capacity, cap``.

34. So impressive a fact has the gambling character of early
periods of inflation and crises been that it has led economists
to look for gambling as a matter of course in later phenomena
that have been classed as inflation and crises, even when no
gambling element has been obviously present. It has been felt
that gambling must presumptively be present whenever there is
inflation or crises, because the showing of earlier history runs
that way. 

35. Cf., e.g., Burton, Crises and Depressions, ch. VIII, for a
succinct account of depressions and crises in the United States
during this period.

36. The speculative movement requires time, because the inflation
is a cumulative one and is carried out unintentionally and in a
sense unconsciously.

37. These extra-industrial expenditures that have brought
prosperity are here spoken of as wasteful, not thereby implying
that they may not be beneficial to the community even in respect
to their effect upon the aggregate income or the aggregate
accumulation of wealth in the community. They are called wasteful
simply because these expenditures directly, in their first
incidence, merely withdraw and dissipate wealth and work from the
industrial process, and unproductively consume the products of
industry. Indirectly they have a beneficial aggregate effect upon
industry by inducing an employment of the fill productive
efficiency of the industrial apparatus; so that in a very short
time, it is at least conceivable, the aggregate net output of the
industrial process may be as large and serviceable as before the
wasteful expenditures were entered upon, even with the
destruction of that portion of the product which goes to maintain
the wasteful expenditures. At the same time, the effect upon
business must be held to be patently favorable. The wasteful
expenditures enhance demand and so increase the vendibility of
the output, - they increase profits and raise capitalization.
They therefore act unequivocally to advance the values of the
business men's holdings and increase their gains, as counted in
business terms. The wasteful expenditure is good for trade. It is
only in the eventual liquidation that a disadvantageous business
consequence comes in view. 

It will be seen that on this view of the effect of wasteful
expenditure the position occupied by some early economists, as
Malthus, Lauderdale, Chalmers, and others, as well as by some
later ones, as Robertson, Hobson, is substantially well taken,
although the defence of waste which these economists offer may be
incomplete. Waste seems necessary to keep trade brisk, and
therefore to keep the industrial processes working at their full
capacity. The ulterior reason for this state of the case being
the fact that the decisive ground which determines the margin of
activity in business, and therefore in industry, is the business
men's reluctance to accept a reduction of profits as measured in
terms of price. The opponents of the Malthusian view failed to
appreciate the decisive importance of price, as contrasted with
serviceability, among the motives on which business proceeds. 

38.  The objection would not come unexpected that this state of
the case is not to be taken as normal, - a point of opinion not
readily to be decided, since it rests on a difference in the
point of view. 

39. Cf. Sombart, Kapitalismuc, vol. I, ch. XVIII-XX.

40. Cf. Hobson, Problem of the Unemployed, Appendix to ch. V.

41. Cf. Hobson, Problem of the Unemployed, ch. VI. Mr Hobson does
not use the term "waste" in this connection. Also Vialles,
Consommation, final chapter.

42. "Saving" at the same time takes place automatically in the
current operations of coalition and incorporation, as indicated
above, pp. 166-176. 

43. Hobson (Problem of the Unemployed), whose analysis of
overproduction and its relation to depression goes farther than
any other, reviews and criticises (ch. VIII) the palliative
measures that have been advocated. He finds them, all and
several, inadequate and inconsequent, in that they do not touch
the root of the evil - oversaving or "underconsumption." They do
not touch this because they do not mitigate the automatic saving
and investment process that necessarily goes with the possession
of large private incomes. But in point of practical efficiency
his own proposed remedies must also be scheduled under the head
of "palliatives." These proposed remedies are measures looking to
a "Reformed Distribution of Consuming Power" (ch. VI), such as
taxation of "unearned" incomes, higher wages, shorter working
day. The aim is "to increase the proportion of the total wealth
of the community, which falling to them as wages shall be spent
in raising the general standard of working-class consumption."
The contemplated move is manifestly chimerical in any community,
such as the modern industrial communities, where public policy is
with growing singleness of purpose guided by business interests
with a naive view to an increase of profits. 

Cf. also Smart, Studies in Economics, Essay VIII, On
"Overproduction"; also Essay IX, "The Socializing of
Consumption," particularly sec. 8, on "The Limits of
Consumption," pp. 293-298. 

44. The obvious remark may be added, for completeness of
statement, that the various branches of industry lend themselves
to management by monopoly in extremely varying degrees, some,
e.g., farming, as an extreme instance, not being amenable to this
method of management under existing circumstances; others, again,
as, e.g., retail merchandising, can be managed by this method
only to a very restricted extent; while at the other end of the
scale, in such industries as railroading, monopoly management,
more or less unqualified, is fairly unavoidable. 

45. Hitherto probably none of the American coalitions have
succeeded in freeing themselves from the inconveniences of
competitive bidding for labor, and very few have achieved a
purely monopolistic buying, either of materials or of any of the
various kinds of services which they require. With regard to raw
materials alone have some, as, e.g., the Standard Oil Company,
been able to compass an effectual monopoly. Something approaching
this position has been accomplished by a very few other
coalitions, as, e.g., the Sugar Refineries, the Cotton Seed Oil
Company, the United States Steel Corporation, and in a local way
certain coal, railway, lumber, and warehouse companies. 

46. It is, e.g., already apparent that the general railway system
of America must presently come under one management, and it must
fall into a coalition with the group of industries that are
occupied with the supply and elaboration of iron, coal, and
lumber.