Did small scale firms inhibit Victorian Growth?

Britain’s manufacturing firms have been accused of remaining family-run and small scale in the period 1850-1914, so ignoring the benefits of the large corporation evident in the USA. Discuss whether this represents a form of entrepreneurial failure by the owners of British firms.

Chandler identifies that corporation’s in America are vertically and horizontally integrated, invested in new technology and produced the latest industrial wares such as electricals, chemicals and automobiles. Britain was characterised by an “atomistic organisation of production”, according to Elbaum and Lazonick, with many small firms that were run by families. This is evidenced by the fact that in 1880s less than 10% of the manufacturing sector was accounted for by the largest 100 firms, the US figure was 22% (Hannah 1983). Although these couldn’t get the same economies of scale as their larger American counterparts they also had many benefits. These benefits and drawbacks will be discussed in this essay and we will find that Britain’s firms weren’t marked by entrepreneurial failure.

Chandler believed that American firms were more successful than their British counterparts because they were both horizontally and vertically large. Being horizontally large meant they had a big market to sell to with very little competition which kept prices high and meant the firm could earn supernormal profits which could be reinvested into new technology and help the firm grow even larger and reduce its costs further. This contrasts with the British situation whereby the high degree of competition kept supernormal profits very low which led to the accusation that British firms didn’t invest enough. Vertical integration allowed the firm to bypass the market in the production process and gave it guaranteed access to intermediary goods thus reducing uncertainty. A downside of this vertical integration was that it required large hierarchies, which some would consider inefficient for managers to have to control production across such a large firm with many different functions. Therefore, whilst Chandler argues that American corporations benefitted from economies of scale as a result of being large and thus being able to keep prices high (ergo profits and potentially leading to higher investment and so greater long term profit) and costs low, it could be countered that some corporations suffered from diseconomies of scale whereby the workforce felt demotivated for working in such a large firm and communication failures resulted in inefficiencies. Moreover it could be pointed out that the lack of competition in the US market would allow inefficient firms to survive which could thus be seen as an entrepreneurial failure in the US.

Harley rallies against Chandler’s argument that because British firms weren’t large that it was some sort of entrepreneurial failure. Using some of Gerschenkron’s ideas he points out that each country adapts their economy to tailor their institutions and endowments and that there is no ‘correct’ way of running a firm. Following this through means that British firms could be small and American firms large but that both were ‘correct’ and they were just adapting to their different situations. Magee picks this up by saying “British business organisation differed from the American but this does not mean that it was necessarily inferior”.

Harley points out that the reason for vertical integration in the US was to substitute the prerequisite of good markets. In the UK historical factors meant that British factor markets were well developed. A firm at the bottom of the supply chain could easily sell its goods at market which could be purchased by a firm producing at the top of the supply chain and because there were so many firms doing this it reduced the issue of faults in the supply chain or monopoly power. Comparatively, in the US the market system wasn’t well developed due to the youth of the economy. There weren’t lots firms producing intermediary goods so American corporations had to substitute this prerequisite of a well-developed market and did this with vertical integration. If we are to believe this argument then there can be no advantage to British firms for being vertically large: they already have access to well-developed markets providing intermediary goods and may have the additional advantages of being able to purchase these goods at a lower price than US firms which may face higher costs given the lack of competition and diseconomies of scale.

A legal framework didn’t exist in the UK for horizontal integration and as a result ‘mergers’ tended to simply mean firms grouping together to increase the price and not actually merging and rationalising. Thus the legal framework prevented horizontal integration to a large degree during the period concerned. Whilst British firms may not have gained economies of scale directly from being horizontally integrated, they did gain from external economies of scale as most firms in an industry were clustered in a geographical sector which gave them access to skilled labour suited for their production processes and the ability to learn from other nearby firms.

Furthermore, Magee attempts to dispel the belief that US firms were much larger than their British counterparts. In our introduction we pointed out that in the UK less than 10% of the manufacturing sector was accounted for by the largest 100 firms, whilst the US figure was 22% – this isn’t an enormous difference. It is significant, but it could be argued that there was still plenty of room for US firms to grow even larger. In addition, Schmitz (1995) finds that the largest US firm (US Steel) had a market capitalisation of only twice the largest UK firm (J&P Coats) and that in turn, J&P Coats had a market capitalisation twice that of the largest Germany firm (Krupps). There are very few economic historians who would argue that Germany suffered from entrepreneurial failure and yet this nation had smaller firms than both Britain and America. One could potentially contend that the argument of Britain’s entrepreneurs failing on the basis of them remaining small scale is negated by the existence of smaller firms in “successful” Germany. If we change our focus to the size of firms in terms of employment, instead of market capitalisation, we find that between 1906-13 the average manufacturing firm in Britain employed 64 people compared to 67 in the US and only 14 in Germany (Magee). Magee claims that this evidence could show that “the Chandlerian model does not fit terribly well with British experience”.

There is a belief that high competition in the UK resulted in low supernormal profits and thus meant that investment was low and so Britain didn’t adopt US technology resulting in lower productivity. In reality the high competition within Britain would have prevented a situation, whereby a successful innovation could be implemented in Britain (given its factor endowments and institutional constraints), from happening. For example, in the cotton industry there were claims that Britain should have adopted the ring spindle from America to replace the less automatic mule spindle. But Leunig finds that ¼ of British firms do adopt the ring spindle but given British constraints, don’t manage to make more of a significant profit that firms using the traditional mule spindle. This shows that if one firm could profitably innovate in Britain that all firms would have to adopt this same technique, otherwise they would be driven out of Britain, thus proving that Britain wasn’t characterised by a damaging lack of inventions: it could simply use foreign inventions if and when profitable. The reality of why British firms didn’t take on American technology was highlighted by Harley: Britain had access to lots of skilled labour but didn’t have as many natural resources unlike America which had access to lots of raw materials but little skilled labour. Therefore America substituted skilled labour with capital using an abundance of raw materials whilst Britain used its skilled labour instead of excessively relying on raw materials. This is another example of Harley’s substitution for prerequisites in action. Also, there is the issue of Cantwell’s skill lock-in where British labour had become skilled in certain techniques, for example using the mule looms, and it would be too expensive to profitably teach them a different method.

Looking at who ran the firms we see that in the US most firms were run by professional managers in a clearly defined hierarchical structure, who were well trained and could delegate roles to the unskilled workers. In the UK firms were largely run by individual entrepreneurs or run in the family, largely by people with no formal management training. It is argued that the US style was more suitable as the manager’s were well-trained in profit maximisation and how to best deal with their labour force, perhaps explaining why the US workforce was a lot less unionised in Britain. However, this argument is very weak. It is unlikely that well-trained managers (individuals after all) would be more efficient than the market system which dominated in Britain due to high competition. Even if we were to accept that untrained family management is less superior than formal management, it still remains that British firms could overcome this due to the highly competitive nature of the economy which weeded out inefficient firms. On the issue of unionisation, it is more the case that American firms were able to control their workers because they were unskilled. Granted, it helped that the lack of US firms gave them bargaining power against labour, but it was the lack of skills which really prevented unionisation from taking off in America. In Britain unionisation became strong because workers were highly skilled and hence had labour market power, aided by the vast number of firms and their inability to co-operate to temper union demands. This point does hold weight: high unionisation in Britain may have led to lower productivity if workers were resisting technological innovations to ensure that they remained in a job – but high unionisation did not come about due to the structure of British firms but resulted more in the skill-set of labour, something which is out of the hands of entrepreneurs.

Weiner believes that family-led businesses eventually stagnate as they are passed on to different generations. He thinks that a firm is established by an entrepreneur who sends his child to public school in order to increase his social standing. The child eventually takes over the business but is anti-industrialist due to his educational background and thus doesn’t innovate within the firm instead using it as a source of profits to maintain a lavish lifestyle. Consequently the firm doesn’t innovate and invest into the latest technology and means that productivity falls and would lead to foreign rivals overtaking Britain. This argument is very subjective and unlikely to be true. Rubinstein actually finds that rich industrialists are more likely to send their children to public school in order to remove them from the inheritance of the firm if they believe the child to be inept, thus preventing poor leadership! Moreover not a lot of firms last until the third generation so this argument wouldn’t be particularly significant even if it were true – only 17% of woollen firms in 1875 survive until 1912 (Horrell).

In conclusion it is unfair to say that British entrepreneurs failed because they were small and family run. Gerschenkron points out that each nation is different and there isn’t a single path for an economy to follow, instead each has to adapt given its institutions and constraints. British firms were seen as being small which meant they didn’t have enough profit to invest in new technology and research and development, but we have seen that the competitive nature of the economy meant that if a technology was profitable, given factor endowments and institutional constraints, then it would be adopted otherwise firms would be driven out of business. Arguments that the family nature of British firms led to entrepreneurial failure also seem flawed; there exists many examples and counterexamples of situations where entrepreneurs failed, but ultimately competition ensured that entrepreneurs were efficient and adopted the best technology to suit their circumstances. The only area of significant failure was that unions had a lot more power in Britain than in the US, which could have had the potential to disrupt the adoption of productivity enhancing technology, but we have discovered that this was more a result of labour being skilled than a failure by British business itself.

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