Warning: This blog does not refer to any well established economic theory. If you look for some Keynesian economics, comments on Marx or Supply and Demand – please leave. No behavioral market models. (Although some game theory could be fun…) Nothing of interest here. Go away. Try this one.
Actually I am a quite simple minded person. Usually I watch the world turning and rarely I try to understand why certain things are just the way they are. Still, the question “Why do we have companies?” hangs around for a long time. For entities governed by the law of nature a completely valid explanation would be “Because it is possible.” So “Why do we have solar flares?” could be answered on a holistic level with “Because the laws of nature support such an event.” Sure you could make a deep dive into plasma dynamics but who cares about the ugly details. Hordes of scientists did this for us and they confirm: Take electrodynamics, pep it up with mechanics (relativistic or classical) and bind it with thermodynamic laws. No one asks if it is legal to have solar flares, if there are ethical implications, if flares are sustainable, if they observe gender equality or if it makes sense to have them at all. This class of effects or objects I call NL-generated – being a consequence of natural laws. (Interesting idea: Let’s start an NGO “People against solar flares. Stop that Waste of Energy!” and see how much support we get. Different story.)
This catch-all explanation for NL-generated effects does not work if the “laws” on which the effect or thing is based on is self-made. If you invent a game you can set the rules. Everything imaginable is possible within a game, no matter if it would work in our real world or not. My minecraft character can carry 36 stacks of 64 pieces of Block of Gold. Makes 2304m³ of solid gold which would weigh about 44000 tons, close to the 46830 GRT of the RMS Titanic. (Metric tons, of course. And on the surface of Earth.) No problem for Steve, he even runs with this load. When I try to apply my “because it’s possible”-explanation it evaporates and looses all of its power. Everything is possible here. Such an effect (or process or object or thing) I’d like to call rule-generated.
So there must be another mechanism for rule-generated things. Why aren’t there all imaginable rule sets? There are too many. Since the complexity is not limited the number of possible rule sets is about the same as the number of all possible sets of natural numbers in set theory. Let’s call it quite a bunch (take-off point for a deep dive could be here), more than anyone could ever handle. Most of them are either boring or nonsensical or just too complex to be handled. But even if we exclude all the uninteresting rule sets it is still way too much. We need a stronger filter. Why do I play minecraft although it makes such nonsensical assumptions for bodily strength? Because it is fun. Is it fun because of or despite the crazy rules? If Steve had to work 10 real hours for breaking about 2cm into the mountain, yielding 140kg of cobblestone, a 25th of a block (see here [german site] for the estimation of real world manual mining speed) no one would build mines in minecraft. Creating real mines with manual labor only is incredibly arduous. (Side task: Estimate how many working hours it took to excavate the ancient quarry in Syracuse. Sure, much of the stone was extracted instead of broken down, but still…)
To cut is short: Rule sets are created because the emergent effects based on these rules gives something desirable to the user of the rules. Please note that the creator and the user neither have to be the same person (e.g. minecraft) nor be single persons at all. Most of our cultural rules are created, maintained and enforced by community instead of single persons. Well, we are getting closer to the headline. Most if not all of our economy is rule-generated. No, there is no natural law about supply and demand. The assumption of unlimited natural resources sounds similar to our 44000 ton carrying Steve. No, there is no balance law for money as there is for mass, although from an accounting perspective you may get such an impression. The rules for economy are created by mankind (only). Since we use these rules, we have to get something positive out of it – otherwise we would just stop this boring game and move on to something more fulfilling. As economy as a whole is a terribly complex thing I picked out the construct company. Doesn’t really matter if Limited or joint stock or holding or whatever, at least for my consideration. So why do we have companies?
I offer some options:
- Companies satisfy consumer needs
- Companies satisfy market needs
- Companies produce products (material or immaterial)
- Companies generate profit
- Just because it’s fun and I wouldn’t know what to do otherwise
If this were a multiple choice test which one would you tick? All of the five? The first four because the fifth is a cheap joke? I claim that the selection would strongly depend on:
- Are you the beneficiary owner of a company?
- Will your selection be traceable to you and visible to (end) customers?
- Will your selection be traceable to you and visible to (potential) investors?
Spoiler: Our current rule set requires only option 4 to be followed on average.  Some other options may be true for a given company but are not required in any sense. Let me explain without citation. I added option 5 as a joke, I plead guilty to your honor. Even for great entrepreneurs other aspects than pure operationally running a company is the driving force, I hope.
Option 3 is completely unnecessary. Who should need the production of the product itself? Definitely not the end customer. He needs an object to display his status. Or something to quench her thirst. Or a nicer haircut. Most people don’t care how the pistons inside the motor inside their car are manufactured. Well, some people don’t really care how a car works at all, they just want to get from point A to point B. For the end customer the outcome, the effect is important. As long as the needs are satisfied an end customers does not care if a company creates or provides the means to do so or something else. Does the BO like products? Not really. Products may be a tool to reach other goals but the production itself is a cost factor, it is actually on the wrong side of the balance. You need to buy raw materials, pay wages to workers, pay for maintenance of machines, pay for electricity to run your servers, deal with faulty field returns. Pay, pay, pay. Doesn’t sound like fun or profit. Current companies still use products of some sort to reach their goals but only out of necessity and the lack of alternatives, not because products in itself are the goal.
What about Option 1, companies satisfy consumer needs? This is definitely a well ventilated claim. Broken down on the product it is the single, pivotal statement of advertisements and PR. In this case I would like to add a , in bold face and 72pt font. Sure, there are many cases where this is true indeed. The bun from the bakery around the corner does satisfy my need. But let us apply a little more care: We jumped along a chain of conclusions, like company -> product -> satisfaction of need. Although it can work along these lines it is neither the the only possible way to satisfaction nor is it required for a company to survive. Baking your own buns is ok and not too surprising. Running a company on the long run without satisfied end customers may sound strange. But the key point is who – or better what – is your customer? Can a company create turnover and profit without satisfying a single person? Taken in the literal sense, yes. As an example look at the big rating agencies like Standard & Poor’s. There is no single human being who consumes the product of S&P and gets more satisfied in this process. Still the business model of S&P is highly profitable. So maybe we should generalize the satisfaction stuff to…
Option 2, companies satisfy market needs. I just exchanged end customer with market. Googlepedia says a market is “an area or arena in which commercial dealings are conducted”. No one says that humans have to be the players here, legal entities are fine. A company or a state can buy and sell goods. You may object that all legal entities are backed by humans, either as owner or representative or elected leaders, you always find a name if you dig deep enough. True, but there is no rule in our rule book which says that humans have to follow the same desires when acting as a private person or as a representative of a company. To the contrary, executives in large companies are expected to decide in the interest of the company and not to their personal well being. I hope only a very small number of executives really enjoy to shut down a plant and to dismiss hundredths of workers. Still this is not only accepted but expected behavior if this plant creates net loss for the company. So, legal entities will exhibit behavior which is fundamentally different from human behavior (excluding some maniacs). Summing things up, yes, option 2 seems to be valid for all companies but only if we allow a general definition of “market” which includes players with non-human decision behavior or a decision behavior which would be questionable to unacceptable if applied to person in the strict, human, personal sense.
The only one left is option 4. I saved the best for last. Because it is simple. Humans like simple rules, complexity has the potential to frighten. Disappointed? Come on, not really, eh? Sure, hobbyist companies do exist. Companies which make slightly red or slightly black zeros year after year. Or even big losses. There are only two mechanisms to support such a company: Either it is a transient effect and the company will crash sooner or later. We ignore such transients. Or the company is embedded in a larger constellation where it is kept alive for some reason. Then the overall system has to make profit and we are back at option 4. As long as a company generates profit it can, and in most circumstances will, survive. If it creates losses successively it will vanish. Isn’t it great to find a simple truth? As an added benefit we may ignore option 2 (the market thing, quite complicated stuff) in favor for this perfectly concise rule. Although in our current economic world a “market-less company” seems awkward there is some progress in this direction. For example the profit generated from rising exchange rates on cyber currencies is already close to market-less profit, at least to my layperson’s view.
I’d like to condense this much too long blog into some catchy phrases:
The only truly required fact for a company to exist is to make profit.
Companies exist because, if and only if (iff) they make profit.
Markets, products, customers, fulfilled demands or needs are more or less valuable tools in creating profit but have no right on their own. They are not part of the core rules, they belong to the add-on toolbox.
Happy consumption and thank you for your cooperation.