The Democratic Firm

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The Democratic


David P. Ellerman*

The World Bank

Washington, DC

The original book is long out-of-print. This is a revised version that was published in Chinese as: The Democratic Corporation 1997, Xinhua Publishing House, Beijing.

Introduction 1

Capitalism, Socialism, and Economic Democracy 1

Outline of the Approach 3

Chapter 1: The Labor Theory of Property 5

Property Rights and the Firm 5

The Fundamental Myth about Private Property 5

Ownership of a Corporation is not “Ownership of the Firm” 7

The Appropriation of Property 8

The Normative Question of Appropriation 10

“The Labor Theory” of Value—or of Property 10

Is Labor Peculiar? 11

Only Labor is Responsible 15

Juridical Principle of Imputation = Labor Theory of Property 16

What is Labor’s Product? 19

Property Theoretic Themes in Marxian Value Theory 21

The Employment Contract vs. de facto Inalienability 25

Chapter 2: Democratic Theory 30

Democracy in the Firm 30

The Enterprise as a Governance Institution 30

Stakeholders: the Governed and the Affected 30

Direct versus Indirect Control 31

The Affected Interests Principle 32

The Democratic Principle 33

“Shareholders’ Democracy” 33

Democratic Socialism is not Democratic in the Enterprise 35

The Public/Private Distinction in Democratic Theory 36

Personal Rights and Property Rights 36

Quarantining Democracy in the Public Sphere 37

Redefining “Social” to Recast the Public/Private Distinction 38

People-based versus Property-based Organizations 39

Democracy Denied by the Employment Contract, not Private Property 42

The Employment Contract 42

Democratic and Undemocratic Constitutions 43

Are Democracy and Private Property in Conflict? 44

The De Facto Theory of Inalienable Rights 46

Chapter 3: The Democratic Firm 49

Theoretical Basis for the Democratic Firm 49

The Democratic Principle and the Labor Theory 49

Implementing the Democratic Principle in an Organization 50

Implementing the Labor Theory in an Organization 52

The Democratic Labor-based Firm 53

Definition of the Legal Structure 53

The Social Aspects of Democratic Labor-based Firms 54

Capital Rights in Democratic Firms 56

What About the Net Asset Value of a Corporation? 56

Capital Accounts as Flexible Internal Debt Capital 58

The Internal Capital Accounts Rollover 59

A Collective Internal Capital Account 60

Financing Internal Capital Account Payouts 62

Participating Securities 63

Mutual Funds for Participating Securities 65

Chapter 4: Worker Cooperatives 67

Introduction: Worker Ownership in America 67

Worker Cooperatives in General 67

Traditional Worker Stock Cooperatives 68

Common-Ownership Firms in England 69

Mondragon-type Worker Cooperatives 71

The Mondragon Group of Cooperatives 71

Implementing the Mondragon-type Co‑op in America 72

Risk Diversification and Labor Mobility 73

Chapter 5: Employee Stock Ownership Plans 75

ESOPs: An American Phenomenon 75

Worker Capitalist Corporations 77

Origin of ESOPs 78

Structure of ESOP Transactions 79

Two Examples of ESOPs 81

Chapter 6: Model of a Hybrid Democratic Firm 82

Introduction: A Model for Transplanting 82

A Hybrid Mondragon-type Worker Cooperative 82

An Internalized Democratic ESOP 83

The Hybrid Democratic Firm 83

The ESOP Transactions with an Internal ESOP 87

The “Leveraged ESOP” Transaction 87

The “Leveraged ESOP” Buyout Transaction 88

The Simplified Internal ESOP 88

Implementation Questions 89

Management and Governance Structures 90

Chapter 7: Self-Management in Former Yugoslavia 94

Introduction 94

Yugoslavian Self-Management: Pitfalls of a Pioneer 94

A Decentralizing Model for Restructuring Large Firms 97

Chapter 8: Employee Sovereignty in the Japanese Model 99

The Hegemony of the American Model 99

The Japanese Model 100

Conclusion 108

Economic Democracy as a Third Way 108

First Principles 108

The Labor Theory of Property 108

Democratic Theory 110

The Democratic Firm 112

Worker-owned Companies in the USA and Europe 113

Employee Sovereignty in the Japanese Firm 113

The Democratic Firm and East/West Convergence 114

References 115


Capitalism, Socialism, and Economic Democracy

The socialism of state ownership—state socialism—is no longer considered a worthy goal in almost all the countries that used to be "socialist". Central planning has been abandoned in favor of the market. There are many types of market economy. The Anglo-American type of a capitalist market economy is one widely studied and highly acclaimed model. There are, however, alternative forms for a market economy. For example, the Japanese economy is today more and more recognized as representing an alternative to the Anglo-American model (rather than just an "imperfect" imitation of the Anglo-American model). China is currently evolving towards a model referred to as a "socialist market economy."

This book argues that the Anglo-American model of a capitalist economy is not an ideal type. Indeed, the book argues that Anglo-American capitalism (hereafter referred to simply as "capitalism") suffers from a deep-lying inconsistency wherein it violates the basic principles of democracy and private property—principles often but mistakenly thought to be fundamental to capitalism. There is an alternative form of a market economy based on democracy and justice in private property. This book is about that alternative form of a market economy.

A democratic firm (also “democratic worker-owned firm” or “labor-based democratic firm”) is a company “owned” and con­trolled by all the people working in it—just as a democratic government at the city, state, or national level is controlled by all of its citizens. In each case, those who manage or govern are ultimately responsible not to some absentee or outside parties but to the people being managed or governed. Those who are governed vote to directly or indirectly elect those who govern.

A market economy where the pre­dom­inant number of firms are democratic firms is called an economic democracy (see Dahl, 1985; Lutz and Lux, 1988; Ellerman, 1992).

This book is about the ideas, structures, and princi­ples involved in the democratic firm and in economic democracy. The book develops new concepts or, rather, applies old concepts to new situations—such as the “very idea” of applying democratic principles to the workplace. The material is not technically demanding in terms of economic theory but it may occasionally be conceptually demanding.

Old words may be used in new ways. For instance, “capitalism” is often taken as referring to a private property market economy—but an “economic democracy,” where most firms are democratic firms, is also a private property market economy. The distinguishing feature of a capitalist economy vis-à-vis an economic democracy is the employer–employee relation—the legal relation for the voluntary renting or hiring of human beings.
The commodity that is traded in the labor market is labor services, or hours of labor. The corresponding price is the wage per hour. We can think of the wage per hour as the price at which the firm rents the services of a worker, or the rental rate for labor. We do not have asset prices in the labor market because workers cannot be bought or sold in modern societies; they can only be rented. (In a society with slavery, the asset price would be the price of a slave.) [Fischer, et. al. 1988, p. 323]
In a democratic firm, work in the firm qualifies one for membership in the firm. The employ­ment relation is replaced by the membership relation.

In ordinary language, “capitalism” is not a precisely defined technical term; it is a molecular cluster concept which ties together such institutions and activities as pri­vate property, free markets, and entrepreneurship as well as the employer–employee relationship. There has also been a rather far-fetched attempt to correlate “capitalism” with “democracy.” But this does not result from any serious intellectual argument that the employer–employee relation (which used to be called the “master–servant relation”) embodies democracy in the work­place.

Our normative critique is not of “capitalism” per se but of the employment relation or contract, so it must be sharply distin­guished from a critique of private property (quite the opposite in fact), entrepreneurship, or free mar­kets. In an economic democracy, there would be private property, free markets, and entrepreneurship—but “employment” would be replaced by democratic membership in the firm where one works.

The more subtle point is that the abolition of the employ­ment relation does, nevertheless, make a change in property, markets, and entrepreneurship. This point can be illustrated by considering the related abolition of the master–slave relation­ship as an involuntary or voluntary relation. In a slavery system, “private property” included property in human beings and property in slave plantations. “Markets” included slave markets and it even included vol­untary self-sale contracts. “Entrepreneurship” meant devel­oping more and better slave plantations. Thus slavery could not be abolished while private property, free markets, and entrepreneurship remained un­changed. The abolition of slavery did not abolish these other institutions but it did change their scope and nature.

In the same fashion, we will see that the abolition of the employment relation in favor of people being univer­sally the owners/members of the companies where they work would not abolish private property, free markets, or entre­preneurship—but it would change the scope and nature of these institutions.

This leaves us with a linguistic problem. How do we refer to the economic system we are recommending to be changed in the direction of economic democracy? The word “capitalism” evokes private property, free markets, and entrepreneurship which are not being criticized here. Yet there is no other widely accepted word that focuses attention specifically on the employment relation. Expressions such as “wage slavery” or “wagery” are too rhetorical. “Wage system” is currently used to refer to fixed wages as opposed to so-called “profit-sharing.” But “profit-sharing” is only a variable wage rate geared to a measure of performance, and it, like a piece-rate, is well within the confines of the employer–employee relation­ship.

We will therefore use bland expressions such as “employ­ment system” or “employer-employee system”—when we are being careful—to refer to the system where work is legally organized on the basis of the employer-employee relation (with a private or public employer). Since the employment relation is so widespread (e.g., part of both capitalism and socialism), “employment” has also be­come synonymous with “having a job.” We assume the reader understands that when we argue against the employment relation (in favor of univer­sal membership in the firm) we are not arguing that everyone should be “unemployed”!

Linguistic habits die hard—for the author as well. When the word “capitalism” is nonetheless used in this book, it will be used not as a cluster concept to include private property, free markets, and entrepreneurship, but as a technical term to refer to an economy where almost all labor is conducted under the employment contract.

Outline of the Approach

This book takes a comprehensive approach to the theory and practice of the democratic firm—from philo­sophical first principles to legal theory and finally down to some of the details of financial structure. The topics covered include:

—  a descriptive analysis of the property rights involved in capitalist production, and a prescriptive application of the labor theory of property arguing for a democratic firm, since in such a firm people jointly appropriate the positive and negative fruits of their labor;

— a descriptive analysis of the governance rights involved in a capitalist firm, and a prescriptive application of democratic theory arguing for a democratic firm, since in such a firm people realize the right of democratic self-determination in the workplace;

—  an extended discussion of the legal structure of the democratic firm—particularly of the system of internal capital accounts which corrects one of the central flaws in existing worker self-managed firms as in the former Yugoslavia;

—  description and analysis of the system of Mondragon worker cooperatives;

—  description and analysis of the American phenomena of employee stock ownership plans or ESOPs;

— a description of a hybrid democratic firm that combines some of the best ideas from Mondragon-type worker cooperatives and from the American ESOPs in a simple form that can be transplanted to other countries; and

—  an analysis of the foremost example of firms today based on employee sovereignty, namely the large Japanese company.

The overall perspective is that a new type of eco­nomic enterprise, the democratic firm, is at last coming into clear focus. It is different from both the traditional capital­ist and socialist firms. Indeed, there are forces and principles at work in both systems that are pushing towards convergence on the common ground of economic democracy.

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