Why Socialism Fails

In 1995, Professor Mark J. Perry of the University of Michigan wrote a great article on why socialism fails. Prof. Perry goes through a number of concepts ignored by socialism including the lack of incentive, the role of price determination, private property rights, and the concept of profit or loss. All of these play a role in the motivation of not only workers but on the management of companies. In 2016, Prof. Perry updated the article which was published on the American Enterprise Institutes blog.

First of all, there needs to be an understanding that socialism is an economic theory more so than a theory of government. Under the theory of socialism, businesses are publically owned and are managed through a central planning authority. Prices are set by the central planning committee as well as the direction of the future of the production facility. Pricing and the concept of profit/loss is not taken into consideration under the socialist paradigm.

Under a capitalist system, pricing is based on cost but also on demand. Does anyone really believe the price of an electronic device from Apple is really based on the production costs alone? When items are popular, the price goes up under a capitalist system. True, it's often driven by greed, but it's a tricky thing to set a price based on popularity. Too much greed will result in customers thinking about the value of the product more so than the fact that they just want one. Under the socialist system, the price would be set and the product sells out then more will eventually be made available when the production facility has the opportunity to produce the item. This may result in products not being available for a period of time and when it does become available there will be long lines waiting to purchase the item. It's one thing if the item is that Apple electronic device, but what if it's a food item?

Profit and loss tell a company how they are doing. Companies that produce items that are needed or desired by customers are rewarded with profits. Companies that aren't providing the public needs or wants are punished with losses. This feedback to the company provides them with direction of what items need to be discontinued so the productive resources can be reallocated to making something useful. Without this feedback under the socialist planning, an unwanted or unused product may continue to be produced well past the time it was needed.

To me the largest failure of the socialist system is the failure to provide incentives. Why should I work harder when I get nothing for the increased effort? Under a capitalist system, increased effort is usually rewarded with higher wages and/or (eventually) promotions increasing the responsibility (and reward) of the employee. In essence, socialism kills the part of the human spirit that drives a person to make a better life for themselves.

Private property is tied in also. Under the socialist system, the production system is owned publically (i.e. by the government). Capitalism is often criticized for making company owners, you've heard of the 1%, rich at the expense of the workers. While small companies are usually owned by a single person or a small number of people in a partnership, large companies sell stock to anyone that wants to purchase part of the company. Stock ownership is not limited to the top 1% in the country. Anyone who has an IRA or a 401k that owns a mutual fund are part owners in companies. This goes well beyond the top 1% in the country.

Publicly owned property also falls subject to a phenomenon called the tragedy of the commons. This refers to a 16th century British experience in which public lands were made available to the public for grazing livestock. The common areas quickly became over grazed and became useless to those wishing to allow their livestock to graze. The theory is that if everyone owns something, no one expends the energy to take care of it. Those farmers from 16th century Britain certainly would not have overgrazed their own land.

An example of this today would be public parks. Almost every town or city has at least one public park. Land set aside by the local government for everyone's use. As a result, the local government has to employ someone, or maybe a group of people, to take care of these parks. Everyone owns the park but no one takes care of it. Now imagine the incentive for those managing a publically owned business. The company will have little direction other than what the central planning committee dictates. There's no leadership in the company to force a change of direction on a short term basis.

Give Professor Perry's articles a few minutes of your time to understand more about socialist systems. To be fair, socialist systems do provide more equality from top to bottom. There is less disparity between rich and poor. One the down side, everyone is just a miserable as everyone else, with the exception of those running the system who always seem to do very well.