1. Why write this essay?

There are many things the average person blames for short-term corporate behaviour or stupid decision making companies make.

Hedge funds. Wall Street. Greed. MBAs. CEOs and CEO pay. And much, much, more.

These are all a little bit right. But also all sort of wrong at the same time.

And this is a problem. Because if you wish to critique the current modern system of capitalism, you need to first actually understand how it works in detail

Vaguely waving your hands and screaming “But CEOs!” isn’t helpful and you won’t actually be taken seriously by people who do understand the system.

It also means that many of the solutions you might propose will be extremely wrong. Because while capitalism has many problems, it also solves many important problems that should stay solved.

So this is going to be the first of many essays looking at capitalism as a system, how modern corporations interact with this capitalism, the obsession over quarterly profits, and much much more.

I will include a list of all of the essays in this series below as they are released.

For this first essay, I want to start with answering two basic questions. Why do we even have capitalism? And when we look at large systems and do things at scale, why does this cause problems?

2. What’s the original purpose of capitalism?

The fundamental problem that all economic systems need to address is scarcity. This is commonly expressed as the problem where humans have unlimited wants, but only limited resources.¹Another way of putting it: There’s always something you’d be happy to have more of. Humans can become satiated for some specific things (e.g. you might want 1 apple but you don’t need 200 apples). So wants aren’t unlimited in isolation. But there’s always something else you might choose to want instead.

This creates a natural problem: How do you decide where the limited resources should be allocated?

The problem with answering this question is that how you might want to allocate resources changes over time. So your system needs feedback loops that allow the system to naturally change itself over time. How do you do this?

The answer capitalism offers is “just use human greed”. Afterall, if the problem is unlimited wants due to human greed, why not use human greed as the solution?

Here’s a simple example. You own a company manufacturing pens. There’s a lot of questions you need to answer when it comes to resource allocation such as:

• How many red pens versus blue pens should you make?
• How many people should be hired to make pens? What is the right balance of people vs machines in the factory?
• New technology is invented that makes packing pens into shipping boxes more efficient but it will cost a lot of money to install in the factory. Should you buy it?

Your self-interest in profit determines the answers to these questions.

And at the same time, everyone else is making similar decisions. Collectively, these influence how resources are allocated within the economy at a larger scale. For example:

• If the new box packing technology is very successful, then lots of factories (not just pen factories) might buy it;
• Money being spent on box packing technology also acts as a signal within the system to show how important and useful this technology is;
• So the increased spending also means more of the resources in the overall economy is being allocated to box packing technology compared to alternative products / services / research.

This is an extremely simplistic example. And you might already begin to spot some of the problems that could arise from a system like this!²For example, what happens to people if they lose their jobs due to technology? What happens if we allocate resources to goods or services which have a negative effect on other people? Can’t pricing systems also have distorted signals (e.g. spending more on male baldness than AIDs research because rich people have more resources to signal importance with)?

But what has made capitalism so durable is that solving the resource allocation problem is extremely difficult. So just having a solution containing powerful feedback loops to keep updating itself is extremely valuable.

3. Modern capitalism is resource allocation at a massive scale

This gets us into our next problem: Today’s economies are massively inter-connected.

If you’re trying to solve problems at a small scale or local level, then solutions can be more tailored and customized for the problem at hand. But doing things at a large scale is hard.

Let’s use bank loans to illustrate the problem.

If you are a small local bank that serves only a small village, then screening loan applications can be done in a highly personalized way. For example:

• The bank employees likely live in the village so they will likely be familiar with many of the village residents;
• You can use additional factors such as social reputation to help evaluate how likely the person is to pay back their loan;
• Social bonds within the community also create a network of trust that can influence the likelihood of loan repayment (e.g. do you want your neighbours to know you reneged on the local bank’s loan?);
• If someone wants to use the loan to buy a house or expand their business, you can actually physically travel to the house or the business to inspect it in person. This means you can personally judge the quality of the investment the loan is used for;
• Because you know the customer very well, you can create much more customized contracts and conditions (e.g. irregular loan repayment schedules, or collateral).

This approach can’t be replicated by a large global bank. If you’re a mega-bank making large loans every day in multiple cities, currencies, industries, etc. then you need industrialized processes to keep things consistent and orderly.

Industrialization means standardization. And standardization means legibility:

• “Just trust me bro” is something your neighbour can say to you when you’ve known each other for 36 years, your kids go to the same school, you have lunch with them every Friday, and you trust each other with your deepest darkest secrets.
• “Just trust me bro” is not something you care about when a random person you’ve never met before walks into your bank asking for a small loan of a million dollars.

To make our decision, we instead need to make this applicant “legible” to the bank. By making the applicant legible, this allows the bank to evaluate the application, the risk to the bank, and determine how the application fits within its loan portfolio.

But for this to happen, standardization and legibility demand that we reduce people into piles of numbers and data. (e.g. Income, collateral, credit score, age, etc.)

This is one of the reasons why global capitalism feels like it doesn’t care about individuals and people.

In order to solve large problems, everything has to be reduced to numbers that can be entered into a spreadsheet. And to do this, it requires legibility.

4. So what are the key ideas?

• Key Idea 1: Capitalism is about resource allocation. Instead of trying to solve human greed, capitalism co-opts human greed to help determine how resources should be allocated.
• Key Idea 2: Doing things at scale requires legibility. Legibility erases individuality and forces standardization.

In the next essay I will tackle a question which comes up a lot online: Why do companies care so damn much about their quarterly performance?

Spoiler warning: It’s about legibility and resource allocation.

• 1
  Another way of putting it: There’s always something you’d be happy to have more of. Humans can become satiated for some specific things (e.g. you might want 1 apple but you don’t need 200 apples). So wants aren’t unlimited in isolation. But there’s always something else you might choose to want instead.
• 2
  For example, what happens to people if they lose their jobs due to technology? What happens if we allocate resources to goods or services which have a negative effect on other people? Can’t pricing systems also have distorted signals (e.g. spending more on male baldness than AIDs research because rich people have more resources to signal importance with)?