Front Page Titles (by Subject) IV: Bureaucratic Management of Private Enterprises - Bureaucracy
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IV: Bureaucratic Management of Private Enterprises - Ludwig von Mises, Bureaucracy 
Bureaucracy, edited and with a Foreword by Bettina Bien Greaves (Indianapolis: Liberty Fund, 2007).
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Bureaucratic Management of Private Enterprises
How Government Interference and the Impairment of the Profit Motive Drive Business toward Bureaucratization
No private enterprise will ever fall prey to bureaucratic methods of management if it is operated with the sole aim of making profit. It has already been pointed out that under the profit motive every industrial aggregate, no matter how big it may be, is in a position to organize its whole business and each part of it in such a way that the spirit of capitalist acquisitiveness permeates it from top to bottom.
But ours is an age of a general attack on the profit motive. Public opinion condemns it as highly immoral and extremely detrimental to the commonweal. Political parties and governments are anxious to remove it and to put in its place what they call the “service” point of view and what is in fact bureaucratic management.
We do not need to deal in detail with what the Nazis have achieved in this regard. The Nazis have succeeded in entirely eliminating the profit motive from the conduct of business. In Nazi Germany there is no longer any question of free enterprise. There are no more entrepreneurs. The former entrepreneurs have been reduced to the status of Betriebsführer (shop manager). They are not free in their operation; they are bound to obey unconditionally the orders issued by the Central Board of Production Management, the Reichswirtschaftsministerium, and its subordinate district and branch offices. The government not only determines the prices and interest rates to be paid and to be asked, the height of wages and salaries, the amount to be produced and the methods to be applied in production; it allots a definite income to every shop manager, thus virtually transforming him into a salaried civil servant. This system has, but for the use of some terms, nothing in common with capitalism and a market economy. It is simply socialism of the German pattern, Zwangswirtschaft. It differs from the Russian pattern of socialism, the system of outright nationalization of all plants, only in technical matters. And it is, of course, like the Russian system, a mode of social organization that is purely authoritarian.
In the rest of the world things have not gone as far as that. In the Anglo-Saxon countries there is still private enterprise. But the general tendency of our time is to let the government interfere with private business. And this interference in many instances forces bureaucratic management upon the private enterprise.
Interference with the Height of Profit
The government may apply various methods in order to restrict the profits which an enterprise is free to earn. The most frequent methods are:
What is common to all these instances is the fact that the enterprise is no longer interested in increasing its profits. It loses the incentive to lower costs and to do its job as efficiently and as cheaply as possible. But on the other hand all the checks on improvements in the procedures and on attempts to reduce costs remain. The risks connected with the adoption of new cost-saving devices fall upon the entrepreneur. The disagreements involved in resisting the demand of the employees for higher wages and salaries are left to him.
Public opinion, biased by the spurious fables of the socialists, is rash in blaming the entrepreneurs. It is, we are told, their immorality that results in the lowering of efficiency. If they were as conscientious and devoted to the promotion of public welfare as the unselfish civil servants are, they would unswervingly aim to the best of their abilities at an improvement in service although their selfish profit interests are not involved. It is their mean greed that jeopardizes the working of enterprises under limited profit chances. Why should a man not do his best even if he may not expect any personal advantage from the most beneficial performance of his duties?
Nothing could be more nonsensical than to hold the bureaucrat up in this way as a model for the entrepreneur. The bureaucrat is not free to aim at improvement. He is bound to obey rules and regulations established by a superior body. He has no right to embark upon innovations if his superiors do not approve of them. His duty and his virtue is to be obedient.
Let us take as an example the conditions of army life. Armies are certainly the most ideal and perfect bureaucratic organizations. In most countries they are commanded by officers who are sincerely dedicated to one goal only: to make their own nation’s armed forces as efficient as possible. Nevertheless the conduct of military affairs is characterized by a stubborn hostility to every attempt toward improvement. It has been said that the general staffs are always preparing for the last war, never for the future war. Every new idea always meets with adamant opposition on the part of those in charge of the management. The champions of progress have had most unpleasant experiences. There is no need to insist upon these facts; they are familiar to everybody.
The reason for this unsatisfactory state of affairs is obvious. Progress of any kind is always at variance with the old and established ideas and therefore with the codes inspired by them. Every step of progress is a change involving heavy risks. Only a few men, endowed with exceptional and rare abilities, have the gift of planning new things and of recognizing their blessings. Under capitalism the innovator is free to embark upon an attempt to realize his plans in spite of the unwillingness of the majority to acknowledge their merits. It is enough if he succeeds in persuading some reasonable men to lend him funds to start with. Under a bureaucratic system it is necessary to convince those at the top, as a rule old men accustomed to doing things in prescribed ways, and no longer open to new ideas. No progress and no reforms can be expected in a state of affairs where the first step is to obtain the consent of the old men. The pioneers of new methods are considered rebels and are treated as such. For a bureaucratic mind, law abidance, i.e., clinging to the customary and antiquated, is the first of all virtues.
To say to the entrepreneur of an enterprise with limited profit chances, “Behave as the conscientious bureaucrats do,” is tantamount to telling him to shun any reform. Nobody can be at the same time a correct bureaucrat and an innovator. Progress is precisely that which the rules and regulations did not foresee; it is necessarily outside the field of bureaucratic activities.
The virtue of the profit system is that it puts on improvements a premium high enough to act as an incentive to take high risks. If this premium is removed or seriously curtailed, there cannot be any question of progress.
Big business spends considerable sums on research because it is eager to profit from new methods of production. Every entrepreneur is always on the search for improvement; he wants to profit either from lowering costs or from perfecting his products. The public sees only the successful innovation. It does not realize how many enterprises failed because they erred in adopting new procedures.
It is vain to ask an entrepreneur to embark, in spite of the absence of a profit incentive, on all the improvements which he would have put to work if the expected profit were to enrich him. The free enterpriser makes his decision on close and careful examination of all the pros and cons and on a weighing of the chances of success and failure. He balances possible gain against possible loss. Either loss or gain will occur in his own fortune. This is essential. Balancing the risk of losing one’s own money against the government’s or other people’s chance for profit means viewing the matter from a quite different angle.
But there is also something much more important. A faulty innovation must not only impair the capital invested, it must no less reduce future profits. The greater part of these profits would have flowed, if earned, into the treasury. Now, their falling off affects the government’s revenue. The government will not permit the enterpriser to risk what it considers to be its own revenue. It will think that it is not justified in leaving the enterpriser the right to expose to loss what is virtually the government’s money. It will restrict the entrepreneur’s freedom to manage his “own” affairs, which practically are no longer his own but the government’s.
We are already at the beginning of such policies. In the case of cost-plus contracts the government tries to satisfy itself not only as to whether the costs claimed by the contractor were actually incurred, but no less whether they are allowable under the terms of the contract. It takes every reduction in costs incurred for granted, but it does not acknowledge expenditures which, in the opinion of its employees, the bureaucrats, are not necessary. The resulting situation is this: The contractor spends some money with the intention of reducing costs of production. If he succeeds, the result is—under the cost plus a percentage of cost method—that his profit is curtailed. If he does not succeed, the government does not reimburse the outlays in question and he loses too. Every attempt to change anything in the traditional routine of production has to turn out badly for him. The only way to avoid being penalized is for him not to change anything.
In the field of taxation the limitations placed on salaries are the starting point of a new development. They affect, at present, only the higher salaries. But they will hardly stop here. Once the principle is accepted, that the Bureau of Internal Revenue has the right to declare whether certain costs, deductions, or losses are justified or not, the powers of the enterpriser will also be restricted with regard to other items of costs. Then the management will be under the necessity of assuring itself, before it embarks upon any change, whether the tax authorities approve of the required expenditure. The Collectors of Internal Revenue will become the supreme authorities in matters of manufacturing.
Interference with the Choice of Personnel
Every kind of government meddling with the business of private enterprise results in the same disastrous consequences. It paralyzes initiative and breeds bureaucratism. We cannot investigate all the methods applied. It will be enough to consider one especially obnoxious instance.
Even in the nineteenth century, in the prime of European liberalism, private enterprise was never so free as it once was in this country. In continental Europe every enterprise and particularly every corporation always depended in many respects on the discretion of government agencies. Bureaus had the power of inflicting serious damage upon every firm. In order to avoid such detriments it was necessary for the management to live on good terms with those in power.
The most frequent procedure was to yield to the government’s wishes concerning the composition of the board of directors. Even in Great Britain a board of directors which did not include several peers was considered not quite respectable. In continental Europe and especially in Eastern and Southern Europe the boards were full of former cabinet ministers and generals, of politicians and of cousins, brothers-in-law, schoolmates, and other friends of such dignitaries. With these directors no commercial ability or business experience was required.
The presence of such ignoramuses on the board of directors was by and large innocuous. All they did was to collect their fees and share in the profits. But there were other relatives and friends of those in power who were not eligible for directorships. For them there were salaried positions on the staff. These men were much more a liability than an asset.
With the increasing government interference with business it became necessary to appoint executives whose main duty it was to smooth away difficulties with the authorities. First it was only one vice-president in charge of “affairs referring to government administration.” Later the main requirement for the president and for all vice-presidents was to be in good standing with the government and the political parties. Finally no corporation could afford the “luxury” of an executive unpopular with the administration, the labor unions, and the great political parties. Former government officials, assistant secretaries, and councilors of the various ministries were considered the most appropriate choice for executive positions.
Such executives did not care a whit for the company’s prosperity. They were accustomed to bureaucratic management and they accordingly altered the conduct of the corporation’s business. Why bother about bringing out better and cheaper products if one can rely on support on the part of the government? For them government contracts, more effective tariff protection, and other government favors were the main concern. And they paid for such privileges by contributions to party funds and government propaganda funds and by appointing people sympathetic to the authorities.
It is long since the staffs of the big German corporations were selected from the viewpoint of commercial and technological ability. Exmembers of smart and politically reliable students’ clubs often had a better chance of employment and advancement than efficient experts.
American conditions are very different. As in every sphere of bureaucracy, America is “backward” in the field of bureaucratization of private enterprise also. It is an open question whether Secretary Ickes* was right in saying: “Every big business is a bureaucracy.”1 But if the Secretary of the Interior is right, or as far as he is right, this is not an outcome of the evolution of private business but of the growing government interference with business.
Unlimited Dependence on the Discretion of Government Bureaus
Every American businessman who has had the opportunity to become acquainted with economic conditions in Southern and Eastern Europe condenses his observations into two points: The entrepreneurs of these countries do not bother about production efficiency, and the governments are in the hands of corrupt cliques. This characterization is by and large correct. But it fails to mention that both industrial inefficiency and corruption are the consequences of methods of government interference with business as applied in these countries.
Under this system the government has unlimited power to ruin every enterprise or to lavish favors upon it. The success or failure of every business depends entirely upon the free discretion of those in office. If the businessman does not happen to be a citizen of a powerful foreign nation whose diplomatic and consular agents grant him protection, he is at the mercy of the administration and the ruling party. They can take away all his property and imprison him. On the other hand, they can make him rich.
The government determines the height of tariffs and freight rates. It grants or denies import and export licenses. Every citizen or resident is bound to sell all his proceeds in foreign exchange to the government at a price fixed by the government. On the other hand, the government is the only seller of foreign exchange; it is free to refuse ad libitum applications for foreign exchange. In Europe where almost every kind of production depends upon the importation of equipment, machinery, raw materials, and half-finished goods from abroad, such a refusal is tantamount to a closing of the factory. The final determination of taxes due is practically left to the unlimited discretion of the authorities. The government can use any pretext for the seizure of any plant or shop. Parliament is a puppet in the hands of the rulers; the courts are packed.
In such an environment the entrepreneur must resort to two means: diplomacy and bribery. He must use these methods not only with regard to the ruling party, but no less with regard to the outlawed and persecuted opposition groups which one day may seize the reins. It is a dangerous kind of double-dealing; only men devoid of fear and inhibitions can last in this rotten milieu. Businessmen who have grown up under the conditions of a more liberal age have to leave and are replaced by adventurers. West European and American entrepreneurs, used to an environment of legality and correctness, are lost unless they secure the services of native agents.
This system, of course, does not offer much incentive for technological improvement. The entrepreneur considers additional investment only if he can buy the machinery on credit from a foreign firm. Being a debtor of a corporation of one of the Western countries is deemed an advantage because one expects that the diplomats concerned will interfere for the protection of the creditor and thus help the debtor too. New branches of production are inaugurated only if the government grants such a premium that huge profits are to be hoped for.
It would be a mistake to place the blame for this corruption on the system of government interference with business and bureaucratism as such. It is bureaucratism degenerated into racketeering in the hands of depraved politicians. Yet we must realize that these countries would have avoided the evil if they had not abandoned the system of free enterprise. Economic postwar reconstruction must start in these countries with a radical change in their policies.
[* ][Editor’s note: Harold L. Ickes, U.S. secretary of the interior from 1933 to 1946.]
[1. ]The New York Times Magazine, January 16, 1944, p. 9.