One of the enduring questions of historical debate is why Western Europe and North America so outperformed the rest of the world economically in the 1800s. Though some (notably Andre Gunder Frank) have argued that the ‘advance of the West’ was really an illusion created by the decline of the rest, it is generally agreed that Western Europe and America had or developed a number of advantages that took their growth forward and retarded the growth of other regions – sometimes through luck, sometimes through natural endowment and often through a combination of the two.
One aspect of these advantages has interested me recently: financial services and the organization of business. It’s now widely accepted that better financial services was part of the reason why Western European companies in particular prospered in this period. The Dutch pioneered the Joint Stock Company to mitigate the risks of long mercantile voyages, and the Dutch East India Company was an early example of the separation of ownership and management. In Britain and then in the rest of Western Europe, regional banks came to prominence and provided the means by which firms could raise capital for expansion. This was generally accompanied by a changing of the structure of firm.
Businesses had till this point been, by-and-large, enterprises that were run by families. The emergence of new forms of financing and capital made it easier to raise money and also made it easier to share risk, as the legal code governing how liability should be assigned to the ownership of a firm changed as different forms of financing became available and different types of company evolved to take advantage of financing which enabled them to exploit risky opportunities overseas.
At the time the East India Company was demonstrating the sheer size that could be achieved through the use of these new firm structures and through exploitation of financing (as well as war-like methods that were part of the ‘trading’ world at the time), almost all the successful Chinese companies were still keeping resources within the family. They were unable to access credit and unwilling to experiment with the new firm structures that expanded ownership and dispersed fiduciary risk to individual owners. Many historians now argue that the innovations in financing allowed the West to expand faster, while the changes in the structure of the firm and the accompanying legal code gave their private enterprises a massive advantage in expansion into new markets.
What I find particularly interesting about this is that the family-ownership pattern has persisted in much of Asia and Africa right to the present day, despite the massive expansion in financial services available. I’m not just talking about the small stalls and dukas which are run by families but major businesses, particularly in India, which are often owned by a patriarchal character, with senior posts in management distributed to sons, sons-in-law and other favoured family members. In South Asia and Africa family networks and even more broadly, ethnic or similar networks remain incredibly important for business. Go almost anywhere where there is an Asian business community – more often than not, you’ll find that there is a network of family run firms, and where they have links to each other, it’s common that they are from the same region or area.
Why has this structure of the firm persisted so long, despite legal and financial advances that should be encouraging larger, less risk-averse firms? The standard answer is ‘trust’. When family or strong ethnic ties bind the decision-makers in an enterprise, the argument goes, it is easier to persuade owners to part with new capital for the expansion of the firm, there are less likely to be financial disputes, theft, and liability can be enforced as it falls within a small circle – no shirking of responsibility is possible. Yet this doesn’t convince entirely. As the infrastructure surrounding firms improves, these issues are less and less binding. Financial institutions now provide far more opportunities for those with collateral, while insurance, commercial courts and dispute resolution all mitigate the risks that using family trust as a basis for commercial enterprises is supposed to leaven.
I think there are deeper motives at work here. These are societies defined by patrimonial networks, and not just recently. One powerful expression of this is the expectation that positions of influence should be used to support family, and in almost any sphere. Politicians routinely seek to channel support to their ethnic group or home region and equally frequently use their influence to secure jobs or contracts to family members. This pattern extents to sports. The Pakistani writer Osman Samiuddin recently wrote about the difficulties of captaining Pakistan’s cricket team. In remarking how two captains in particular had proven successful he also gives an example of how deeply entrenched this culture of using influence for the family gain goes:
[Abdul] Kardar dropped his brother-in-law Zulfiqar Ahmed before Pakistan set out to the West Indies in 1957-58, preferring unrelated youth. A quarter of a century later, Imran [Khan] dropped his cousin and boyhood idol Majid Khan in his very first Test as captain. Both decisions shook not only the sides but a country where nepotism is a way of life.This extends to business; rather than separating ownership and management, they are kept tightly intertwined to ensure that the benefits from success are kept as close as possible to the bounds of family.
There is, of course, nothing illegal or immoral about this, as far as private business goes at least. The bigger question is whether or not this hampers the prospects of economic progress. If the change in ownership patterns of European and North American firms was one of the reasons why they were able to expand so quickly and exploit new opportunities without delays, does this mean that the comparatively smaller, more less flexible family-business structure constrain the enterprises of parts of the developing world? The family structure of a company does not mean it can no longer access credit or even float on the stock market (though the latter undoubtedly becomes difficult, unless a majority is firmly kept within the family), but it does mean that liability is more tightly focused and risk more acutely felt. It may also mean that, while decisions can be made swiftly, the quality of leadership is variable. A company that draws its senior management from a smaller pool has fewer people of quality to choose from.
If it is a problem, the next big question is how to change it. It’s interesting that China is cited as an example where family-firms was the most frequent avatar of big businesses in the 17th and 18th Centuries, but that now it is characterised by a very different structure of enterprise. Of course, what China went through that most other countries didn’t was a profound change to the very basis of its cultural, economic and legal structures during the conversion to Communist rule. While the policy recommendation from this is clearly not that every country needs a revolution, it may be that in order for older less dynamic economic forms to lose their limpet-like grip on survival a fundamental change to the cultural basis of economic forms is required. Quite how this can happen short of war or revolution, normally the two most fundamentally disruptive events to social forms, is not readily apparent.
I’m not even sure if this is a question we should be asking. If there is a cultural or deeply rooted social basis for economic practices that may be retarding economic development, should we be seeking to change these or seeking to maximize the economic development possible despite these constraints? How deeply should the process of development change a society? These are valid questions that it doesn’t seem that many people ask, let alone answer.