The Enigma of Entrepreneurial Wealth
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Because the process of making money is the best education for making more money, our society's wealth can grow only if the people who create it control it. Divorce the financial profits from the learning process and the economy stagnates.
Although many of them are too busy to notice, the entrepreneurs of the Inc. 500 are performing a near miracle of personal wealth creation. Most started their companies only a few years ago on relatively meager capital. (See "Behind the Scenes," October 1992, [Article link].) Now, zapping their companies with police radar as they zoom by at a growth rate of some 50% per year, we can guess that several of those entrepreneurs are worth as much as $100 million and dozens command a net worth of scores of millions. Soon they will be knocking on the doors of truly supreme wealth. Like their Inc. 500 predecessors Bill Gates of Microsoft, Charles Dolan of Cablevision, Robert Levine of Cabletron, and Larry Ellison of Oracle, among others, some of the current Inc. list will speed onward to the Forbes 400, which has an entry point near $300 million in net worth.
Many American intellectuals think there ought to be a law against such a reckless rush to riches. Tax it away, they say, and give it to people who need it more. Capitalism, it is widely believed, would work better without all these superrich capitalists.
America's entrepreneurs, after all, live in a world with 4 billion poor people. Vulnerable men and women, these business leaders command little political power or means of defense. Democratic masses or military juntas could take their wealth at will. Why on a planet riven with famine, poverty, and disease should this tiny minority be allowed to control riches thousands of times greater than their needs for subsistence and comfort? Why should a few thousand families command wealth far exceeding the endowments of most nations?
More specifically, why should John Kluge, the broadcast tycoon, have $7 billion while Suzie Saintly, the social worker, makes $15,000 a year? Or why should Harry Helmsley command a fortune worth more than $1 billion, and Harry Homeless live on a rug on a grate? Why should Gates, the chairman of Microsoft, be worth more than $7 billion while Dan Bricklin, the inventor of the pioneering Visicalc spreadsheet, is still working out of his home with one employee? And why should Michael Milken have ruled tides of billions while the president of the United States earns $185,000 a year?
Does any of this make sense?
In statistical terms, the issue arises just as starkly. Why should the top 1% of families own 37% of the nation's wealth, by some measures, while the bottom 20%, awash in debts, have no measurable net worth at all?
On a global level, the disparity assumes a deadly edge. Why should even this bottom fifth of Americans be able to throw away enough food to feed a continent while a million Ethiopians die of famine? Why should the dogs and cats of America eat far better than the average person on this unfair planet?
We all know life is not fair. But to many people, these huge disparities defy every sense of proportion and propriety. They apparently do not correspond to need or to virtue or to IQ or to credentials or to education or to social contribution.
Most observers now acknowledge that capitalism generates prosperity. But the rich seem a caricature of capitalism. Look at the Forbes 400, for example, and hold your nose. Many of them are short and crabby, beaked and mottled, fat and foolish. At least 10 never finished high school, and only 240 of the 304 who went to college managed to graduate. A society may tolerate aristocracy certified by merit. But capitalism exalts a strange riffraff with no apparent rhyme or reason.
Couldn't we create a system of capitalism without fat cats? Wouldn't it be possible to contrive an economy that is just as prosperous but with a far more just and appropriate distribution of wealth?
Wouldn't it be a better world if rich entrepreneurs saw their winnings capped at perhaps $15 million? That would allow you to make the Inc. 500, but if you wanted to go beyond that level, you would have to surrender the added gains to the government. Surely Sam Walton's kids or Harry and Leona Helmsley could make do on close to $1 million a year in annual income, five or six times as much as the president earns.
Most defenders of capitalism say no. They contend that the bizarre inequalities we see are an indispensable part of the processes that create wealth. They imply capitalism doesn't make sense, morally or rationally, but it makes wealth. So don't knock it.
The usual case for capitalism maintains that greed may drive Leona Helmsley or Ivan Boesky to behavior that attracts the scrutiny of the feds. But greed also makes the system go. Because greed is less trammeled in the United States than in Ethiopia, Harry on the grate eats better than the middle class of Addis Ababa does.
That was essentially the argument of Adam Smith, the first and still most-quoted apologist of the system. He declared that it is only from the entrepreneur's "luxury and caprice," his desire for "all the different baubles and trinkets in the economy of greatness, that the poor derive that share of the necessaries of life, which they would in vain have expected from his humanity or his justice."
In perhaps his most famous line, Smith wrote of entrepreneurs: "In spite of their natural selfishness and rapacity, though they mean only their own conveniency, though the sole end which they propose from the labors of all the thousands they employ be the gratification of their own vain and insatiable desires . . . they are led by an 'invisible hand' . . . and without intending it, without knowing it, advance the interest of society."
That was capitalism's greatest defender writing of the rich of his day. More recent writers, from John Kenneth Galbraith to Robert Kuttner, speak of the rich wallowing in their riches and implicitly bilking the poor of the necessities of life.
What slanderous garbage it all is! This case for capitalism as a Faustian pact by which we trade greed for wealth is simple hogwash. American entrepreneurs are not more greedy than Harry Homeless or Suzie Saintly. In proportion to their holdings and their output, entrepreneurs consume less than any other group in the history of the world. Even without any comparison with their opportunities for indolence, they work fanatically hard. In proportion to their contributions to the human race, they may spend less than any other club in creation.
Far from greedy, America's leading entrepreneurs -- with some unrepresentative exceptions -- display discipline and self-control, hard work, and austerity that exceed that of any Washington think tank, school of social work, or congregation of bishops. They are a strange riffraff because they are chosen not by blood, credentials, education, or services to the establishment. They are chosen for performance alone, for service to consumers.
Greed is an appetite for unneeded and unearned wealth and power. The truly greedy seek comfort and security first. They seek goods and clout they have not earned. Because the best and safest way to gain unearned pay is government action to take it from others, greed leads as by an invisible hand toward ever more government action -- to socialism, not capitalism. Socialism is simply the conspiracy of the greedy to exploit the productive. To confuse the issue, the greedy smear their betters with the claim of avarice that they themselves deserve.
The rich in general have earned their money by contributions to the commonweal that far exceed their income, or they have inherited fortunes from forebears who did the same. Yet they continue their work to enrich the world. Let us hail them, their works, and their wealth.
Greed is actually the problem not of Bill Gates but of Harry Homeless. Harry may seem merely mentally ill. But he and his advocates insist that he occupy -- and devalue -- some of the planet's most valuable real estate. From the beaches of Santa Monica to the center of Manhattan, he wants to live better than most of the population of the world throughout human history, but he does not want to give back anything whatsoever to the society that sustains him. He wants utterly unearned wealth. That is the essence of avarice. If you want to see a carnival of greed, watch Jesse Jackson regale an audience of welfare mothers on the "economic violence" of capitalism, or watch a conference of leftist college professors denounce the economic system that sustains their freedom, tenure, long vacations, and other expensive privileges while they pursue their Marxist ego trips at the expense of entrepreneurs.
The Inc. 500 in no way resemble the plutocrats of socialist and feudal realms who get the government to steal their winnings for them and then revel in their palaces with eunuchs and harems. American entrepreneurs, in general, cannot revel in their wealth because most of it is not liquid. It has been given to others in the form of investments. It is embodied in a vast web of enterprise that retains its worth only through constant work and sacrifice.
Bill Gates and most of the others live modestly. They give prodigally of themselves and their work. They reinvest their profits in productive enterprises that employ and enrich the world.
Nonetheless, the reason for the disparities between the Forbes 400 and the 4 billion is not that the entrepreneurs work harder or better or forgo more consumption. Dismissing the charge that the 400 is a carnival of greed, we do not explain the real reasons for its huge wealth.
Since Adam Smith, a host of other theories have been offered in answer to the great enigma of capitalist inequality. Some argue that the creators of great wealth have the right to it. But a usual retort to the claim of rights is: "Says who?" The assertion of rights to vast fortunes created by thousands of people and protected by the state only repeats the enigma in more abstract terms.
Then there is the argument of carrots and sticks: Sam Walton's billions offered him a necessary incentive in the expansion of his stores through the South; Harry on the grate offers a cautionary message to passersby to work hard and obediently. But the critics can plausibly answer, "Sure, we need incentives -- but $7 billion?" Finally, some apologists will say that Walton's billions were a reward for his brilliant entrepreneurship, whereas penury is the just outcome of alcoholism and improvidence. But Suzie Saintly, Dan Bricklin, and George Bush are not improvident, nor are they necessarily less brilliant than Walton was.
All those arguments, too, are beside the point. The distributions of capitalism make sense, but not because of the virtue or greed of entrepreneurs or the invisible hand of the market. The reason isn't carrots and sticks, or just deserts. Capitalism works because the creators of wealth are granted the right and burden of reinvesting it -- of choosing the others who receive it in the investment process.
The very process of creating wealth is the best possible education for creating more wealth. Every enterprise is an experimental test of an entrepreneurial idea. If it succeeds, it yields a twofold profit: a financial increase and an enlargement of learning. An economy can continue to expand only if its profits are joined with entrepreneurial knowledge. In general, our society's wealth can grow only if the people who create it control it. Divorce the financial profits from the learning process, and the economy stagnates. Like a tree or a garden, an economy grows by photosynthesis. Without the light of new knowledge and the roots of ownership, it withers.
The riches of the Forbes 400 all ultimately stem from this entrepreneurial process. Well over one-half of them did not inherit significant wealth, and most of the rest gained their fortunes from entrepreneurial parents.
Entrepreneurial knowledge has little to do with the certified expertise of advanced degrees or the learning of establishment schools. It has little to do with the gregarious charm or the valedictory scope of the students judged most likely to succeed in every high school class. The fashionably educated and cultivated spurn the kind of fanatically focused learning commanded by entrepreneurs. Wealth usually comes from doing what other people consider insufferably boring.
The treacherous intricacies of building codes or garbage routes or software languages or groceries, the mechanics of butchering sheep and pigs or frying and freezing potatoes, the mazes of high-yield bonds and low-collateral companies, the murky lore of petroleum leases or housing deeds or Far Eastern electronics supplies, the ways and means of pushing pizzas or insurance policies or hawking hosiery or pet supplies or grubbing for pennies in fast-food unit sales, the chemistry of soap or candy or the siliconsilicon dioxide interface, the motivating of workers and the blandishing of union bosses and federal inspectors and the IRS and EPA -- all those tasks are deemed tedious and trivial by the established powers.
Most people think they are above learning the gritty and relentless details of life that foster the creation of great wealth. They leave it to the experts. But the Inc. 500 show that success comes not by leaving it to experts but by creating new expertise, not by knowing what the experts know but by learning what they think is beneath them.
Entrepreneurs also perform work that others spurn. David Sun, the chief executive of this year's top Inc. 500 company, Kingston Technology, can be found doing everything from boxing circuit boards to sweeping the floors. (See "Built on Speed," October 1992, [Article link].)
Perhaps the most exemplary moment in the recent history of entrepreneurship in America came on a morning in the late 1960s when a young accountant in Houston named Thomas J. Fatjo found himself immersed up to his armpits in garbage. Driving a door-to-door route in the city, he had jumped into a bin to stomp down the contents after the compactor had broken down with 70 more houses to go. Within 10 years Fatjo parlayed his rare combination of skills in accounting and garbage into the creation of one of the world's largest solid-waste-disposal companies, Browning-Ferris Industries.
In the same way, potato tycoon J. R. Simplot came upon the most crucial insight of his career while sorting spuds tediously by hand in a local warehouse. That task gave him an instant and all-but-overwhelming sense of the value of inventing the electric potato sorter, the device that thrust him into the food-processing trade, which he came to dominate. Similarly, Henry Ford, Soichiro Honda, Sony's Akio Morita, and Apple founder Steve Wozniak all began in the "skunk works" of their trades, with their hands on the intricate machinery that would determine the fate of their companies. Bill Gates began by mastering the tedious intricacies of programming languages. Familiarity with the very material, the grit and grease and garbage, the petty tedium of their businesses liberates entrepreneurs from the grip of established expertise and gives them the insight and confidence to turn their industries in new directions. All had to stoop to conquer the American economy.
Because entrepreneurship overthrows rather than undergirds establishments, the entrepreneurial tycoons mostly begin as rebels and outsiders. Often they live in places like Bentonville, Ark.; Omaha; or Mission Hills, Kans.; mentioned in New York chiefly as the butt of a comedy routine. When the rich move into high society, they are usually inheritors on the way down.
In a sense, entrepreneurship is the launching of surprises. What bothers many critics of capitalism is that a group like the Inc. 500 is too full of surprises. Some threescore of the current list -- and a higher share in previous years -- suffered one or more business failures before their recent home run. This is typical of the history of capitalism. Henry Ford's first two automobile companies crashed.
The surprises continue. Sam Walton's first haberdashery goes broke. He opens another, and it works. He launches a shopping-center empire in the rural South and becomes America's richest man. Who would have thunk it? Forrest Mars goes bankrupt, fails twice in other ventures, then builds a fortune in candy bars. Bill Gates drops out of Harvard and founds a software company that brings IBM into personal computers. J. R. Simplot makes his fortune in potatoes and then takes a flyer in his eighties on a microchip firm, and it becomes Micron Technology, chipping in another $150 million to his portfolio.
This process of wealth creation is offensive to levelers and planners because it yields mountains of new wealth in ways that could not possibly be planned. Unpredictability is fundamental to free human enterprise. It defies every econometric model and socialist scheme. It makes no sense to most professors, who attain their positions by the systematic acquisition of credentials pleasing to the establishment above them. By definition, innovations cannot be planned. Leading entrepreneurs -- from Jack Simplot to Michael Milken -- did not ascend a hierarchy, they created a new one. They did not climb to the top of anything. They were pushed to the top by their own success. They did not capture the pinnacle; they became it.
This process creates wealth. But to maintain and increase wealth is nearly as difficult. A pot of honey attracts flies as well as bears. Bureaucrats, politicians, bishops, raiders, robbers, revolutionaries, short-sellers, managers, business writers, and missionaries all think they could invest the money better than the owners. All owners are besieged by aspiring spenders -- debauchers of wealth and purveyors of poverty in the name of charity or idealism or envy or social change. In fact, of all the people on the face of the globe, only the legal owners of a business have a clear interest in building wealth for others rather than spending it on themselves.
Leading entrepreneurs in general consume only a tiny portion of their holdings. Usually they are owners and investors. As owners, they are initially damaged the most by mismanagement or exploitation or waste of their wealth.
As long as Bill Gates is in charge of Microsoft, it will probably grow in value. But you put Harry Homeless in charge of Microsoft -- or as Harry's proxy you put a government bureaucrat in charge -- and within minutes the company would be worth half its present value. As other software companies, such as Oracle and Lotus, discovered in the early 1990s, a software stock can lose most of its worth in minutes if fashions shift or investors distrust the management.
As a Harvard Business School study recently showed, even if you put "professional management" at the helm of great wealth, value is likely to grow less rapidly than if you give owners the real control. A manager of Microsoft might benefit from stealing from it or turning it into his own special preserve, making self-indulgent "invest-ments" in company planes or favored foundations that are in fact his own disguised consumption. It is only Gates who would see his wealth drop catastrophically if he began to focus less on his customers than on his own consumption. The key to his wealth is his resolution not to spend or abandon it but to continue using it in the service of others. In a sense, Gates is as much the slave as the master of Microsoft.
The government could not capture America's wealth even if it wished to. As Marxist despots and tribal socialists from Cuba to Angola have discovered to their huge disappointment, governments can expropriate wealth but not appropriate it or redistribute it. In the United States a leftward administration could destroy the value of entrepreneurial property but could not seize it or pass it on. In general, all the captured banks and savings and loans of recent years accelerated their losses under government management and regulation.
Under capitalism, wealth is less a stock of goods than a flow of ideas. Economist Joseph Schumpeter propounded the basic rule when he declared capitalism "a form of change" that "never can be stationary." The landscape of capitalism may seem solid and settled and thus seizable; but capitalism is really a mindscape.
Volatile and shifting ideas -- not heavy and entrenched establishments -- are the source of wealth. There is no bureaucratic net or tax web that can catch the fleeting thoughts of David Sun of Kingston, Gordon Moore of Intel, or Michael Milken, lately of Pleassanton.
Nonetheless, in this mindscape of capitalism, all riches finally fall into the gap between thoughts and things. Governed by mind but caught in matter, an asset must have an income stream that is expected to continue if the asset is to retain its value. The expectation can shift as swiftly as thoughts, but the things, alas, are all too solid and slow to change.
Like the deep gas of Oklahoma, the commercial real estate of Houston, the steel mills of Pittsburgh, the railroad grid of New England, the great printing presses of a decade ago, the supercomputers of a year ago, the giant nuclear plants of yesteryear, and the sartorial rage of last week, the physical base of entrepreneurial riches is a trap of wealth, not a treasure chest. The last decade saw the demise of scores of oil and real-estate fortunes in Texas and Oklahoma. The underlying oil and buildings did not change. In all those cases, the things stayed pretty much the same. But thoughts about them changed. What was supremely valuable in 1980 plunged to near worthlessness by 1990.
Overseas interests could buy the buildings and the rapidly obsolescing equipment and patents of high-technology companies. But they would probably fail to reproduce the leadership, savvy, and loyalty lost in the sale. If the Japanese or Arabs bought all of Silicon Valley, for example, they might well do best by returning it to the production of apricots, oranges, and bedrooms for San Francisco. The capture of the worth of a company is incomparably more complex and arduous a task than purchasing one.
In the Schumpeterian mindscape of capitalism, the entrepreneurial owners are less captors than captives of their wealth. If they try to take it or exploit it, it will tend to evaporate. As Bill Gates puts it, he is "tied to the mast" of Microsoft. David Rockefeller devoted a lifetime of 60-hour weeks to his own enterprises. Younger members of the family wanted to get at the wealth, and now, after the sale of Rockefeller Center to Mitsubishi, command much of it. But they will discover they can keep it only to the extent that they serve it and thereby serve others rather than themselves.
Wealth is valuable only to the extent that others think it will be valuable in the future, and that depends on running the fortune for the needs of the customers rather than for the interests of the owners. Its worth will collapse overnight if the market believes the company is chiefly serving its owner, rather than the owner serving it, or that it is being run chiefly for the managers rather than for the people who buy its wares.
In feudal and socialist realms, in the Third World or behind the increasingly porous boundaries of communism, a register of the holdings of material things could capture a fixed distribution of wealth. There, riches reside chiefly in land, natural resources, police powers, and party offices, the last often held in perpetuity. Under socialism, a Forbes 400 might represent a dominant establishment that combines both political and economic clout.
Socialist regimes try to guarantee the value of things rather than the ownership of them. Thus socialism tends to destroy the value, which depends on dedicated ownership. In the United States, on the other hand, the government normally guarantees only the right to property, not the worth of it.
The belief that wealth consists not in ideas, attitudes, moral codes, and mental disciplines but in definable and static things that can be seized and redistributed is the materialist superstition. It stultified the works of Marx and other prophets of violence and envy. It betrays every person who seeks to redistribute wealth by coercion. It balks every socialist revolutionary who imagines that by seizing the so-called means of production he can capture the crucial capital of an economy. It baffles nearly all conglomerateurs, who believe they can safely enter new industries by buying rather than by learning them. Capitalist means of production are not land, labor, or capital but minds and hearts.
The reason for the huge wealth gap between John Kluge and Suzie Saintly, between Harry Helmsley and Harry Homeless, between each member of the Forbes 400 and George Bush, or between Bill Gates and inventor Dan Bricklin or any number of worthy men and women is entrepreneurial knowledge and commitment. Most of the wealthy are bound to the masts of their fortunes. They are allowed to keep their fortunes as long as they give them to others in investments. They know how to maintain and expand them, and the market knows of their knowledge. Thus they increase the wealth of America and the opportunities of the poor.
The wealth of America isn't an inventory of goods; it's an organic, living entity, a fragile, pulsing fabric of ideas, expectations, loyalties, moral commitments, and visions. To vivisect it for redistribution would eventually kill it. As Mitterrand's French technocrats found early in the 1980s, the proud new socialist owners of complex systems of wealth soon learn they are administering an industrial corpse rather than a growing corporation.
The most important question for the future of the poor of America is how we treat the rich. If we smear, harass, overtax, and overregulate them, our politicians will be shocked and horrified to discover how swiftly the physical tokens of the means of production collapse into so much corroded wire, eroding concrete, scrap metal, and jungle rot. They will be amazed by how quickly the wealth of America flees to other countries.
Most American entrepreneurs would stay in America. But the new global ganglion of telecommunications would allow them to invest their liquid funds elsewhere at the speed of light down a fiber-optic line. Young entrepreneurs, once determined to start in America the fortunes of future decades, instead would begin them overseas or not begin them at all, clinging instead to the corpse of a stagnant establishment. Their own worth and the wealth of the United States would decline sharply in the process. But within a few years, other countries would begin to thrive where the United States once flourished. During the past decade, the secrets of entrepreneurs have been spreading across the increasingly global mindscape of capitalism.
If the rich are worshiped and protected from change by socialism, the poor will suffer everywhere. High tax rates and oppressive regulations don't keep anyone from being rich. They prevent poor people from becoming rich. If the rich are respected and allowed to risk their wealth, and new rebels are allowed to rise up and challenge them, America will continue to be the land where the last regularly become first by serving others.* * *
"The Enigma of Entrepreneurial Wealth" from Recapturing the Spirit of Enterprise by George Gilder (ICS Press, 1992). Copyright © 1992 by George Gilder. All rights reserved.
George Gilder is a fellow of the Discovery Institute, in Seattle.