Freeman

ARTICLE

Lessons from an Entrepreneur

SEPTEMBER 01, 1992 by DAVID LABAND

Professor Laband teaches in the Department of Economics and Finance, The Perdue School of Business, Salisbury State University, Salisbury, Maryland.

The praise recently showered upon the late Sam Walton suggests that now is an opportune time to question the consistency with which Americans treat successful businessmen and to reaffirm the universal applicability of capitalism’s invisible hand as a “mechanism” to promote consumer welfare.

On March 17 of this year, Sam Walton received the Presidential Medal of Freedom, the nation’s highest civilian honor, from President Bush. Upon Walton’s death, the President remembered him as “an American original who embodied the entrepreneurial spirit and epitomized the American dream.” Mr. Walton was not lionized by President Bush merely because of his entrepreneurial spirit; millions of Americans have entrepreneurial spirit. What made Sam Walton unique was his spectacular success as an entrepreneurial capitalist. Mr. Walton and his four children have become fabulously wealthy from their creation of over 1,735 Wal-Mart stores and 212 Sam’s Wholesale Club warehouses throughout America. They ranked numbers 3-7 on the most recent Forbes list of wealthiest Americans.

Sam Walton was an enormously successful free-market capitalist. An appropriate eulogy for him would include thanks for an economic system that rewards individuals who cater to consumers’ wishes. The millions of Americans who have patronized his stores and contributed thereby to his immense wealth would do well to consider the meaning of Sam Walton’s success story in terms of international trade.

Our admiration for Sam Walton goes far beyond mere awe of his fortune. Indeed, his great wealth reflects something far more significant. The cavils of anti-free-market fanatics notwithstanding, American consumers voluntarily made Sam Walton rich. The same individuals who seek to raise taxes on the rich because of their enviable position in the current income distribution probably buy merchandise at both Wal-Mart and Sam’s. They, like many other rational consumers, flock to Wal-Mart stores because of the low prices, the service, and the quality. In short, Sam Walton figuratively built a better mousetrap than his competitors, and with their many billions of dollar-votes American consumers demonstrated that they preferred his product. Those who continued to patronize other department stores and shops benefited too, as these stores were forced to lower their prices and improve their product lines and services to remain competitive. The personal wealth amassed by the Walton family pales in comparison to the cumulative benefits Sam Walton generated for virtually all American consumers.

However, in the process of making Sam Walton rich, American consumers impoverished many of Mr. Walton’s competitors. Every dollar spent at Wal-Mart was a figurative dollar and a quarter not spent for similar merchandise at Sears, K-Mart, J. C. Penney, or any of the other large chain department stores. Perhaps more importantly, it was a dollar and fifty cents not spent at local, small businesses. Some owners of small businesses, unable to take advantage of Wal-Mart’s huge economies of scale, sought to prevent Wal-Marts from being built in their local communities. The everyday low-price strategy employed by Wal-Mart would put them out of business, they argued. They were (and continue to be) half-correct. It is true that Wal-Mart’s competitors lost business. However, let’s get the cause and the effect straight: Wal-Mart never put anybody out of business, American consumers did.

Businesses that lose their competitive edge to a more efficient rival have three options. They can: (1) change their product/service mix to reflect more accurately what they do best, (2) exit the market, or (3) petition consumers and/or the state for protection against “unfair competition.” The first two responses enhance consumer welfare. To the extent consumers voluntarily purchase more expensive, lower-quality goods produced by domestic manufacturers, no self-respecting economist would argue with their choices: de gustibus non est disputandum. However, the instant the state regulates to protect domestic firms from “unfair competition,” the result is higher prices, reduced choice, and lower quality and service for American consumers.

 

Shooting the Messenger

Every effort by small businessmen to forestall the building of a Wal-Mart is an attempt to shoot the messenger rather than pay heed to the message. Local economies do not go to pot when Wal-Marts are built. Quite the opposite: Sam Walton once said, “There was a lot more business in those towns than people ever thought.”

Without question, each Wal-Mart and Sam’s store alters the structure of local unemployment. The sons and daughters of local businessmen and women no longer follow in their parents’ proprietary footsteps. Now they, as well as many other local workers, go to work for Uncle Sam (Walton). Thus, the overall rate of local employment is generally not adversely affected. While we may feel sorry for the personal losses suffered by the owners of these no-longer competitive small firms, the aggregate benefits reaped by (all-too-often forgotten) consumers, including those same small businessmen, outweigh their losses. If this were not true, Sam Walton would never have received the Presidential Medal of Freedom.

The pleas to local zoning boards and planning commissions for protection from “unfair competition” by small businesses faced with the prospect of having to compete with a new Wal-Mart store sound identical to the rhetoric employed by mouthpieces for the Big Three automobile companies, the textile and steel industries, sugar producers, and every other domestic industry seeking to restrict foreign sales of these products in America. To kick Japanese and other foreign producers out of American markets is to deny the benefits of Sam Walton-esque competition.

The negative impact of one business on another in the process of ordinary competition (price, service, quality, product line) is known among academic economists as a “technological externality.” Technological externalities are the fingers of Adam Smith’s invisible hand that guide producers to supply what consumers want, when they want it, at prices equal to the cost of production. Any interference with these technological externalities, especially government interference, jeopardizes consumer welfare.

By invoking the rhetoric of “unfair competition,” domestic firms seek deliberately to mislead consumers into thinking that protection of competitors is the same thing as protection of competition. Nothing could be further from the truth. Protection of the existing firms in an industry against more efficient competitors, be they American or foreign, insulates those firms from the forces of competition. American consumers are the worse for it: they pay higher prices for shoddier products than would be available in a more competitive environment.

Japan-bashing is equivalent to Sam Walton-bashing. The principles of competition are universal, whether the competitors are domestic or foreign. The fact that sellers are foreign does not diminish the potential gains to American consumers from competition between sellers. If we’re going to lionize Sam Walton, consistency demands that we lionize every successful producer in the global economy.

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September 1992

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