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Free Enterprise

“A noted economist has claimed, “American prosperity and American free enterprise are both highly unusual in the world, and we should not overlook the possibility that the two are connected.”

Indeed, the evidence seems overwhelming that free enterprise and widespread economic prosperity are more than just connected; the first leads directly to the second, not just in the United States but around the world. Organizations as diverse as the Wall Street Journal, the Heritage Foundation and the World Bank produce annual research documenting the fact that the more enterprising people are free to be, the more businesses they will start, the more people they will employ and the more technologies and innovations they will discover. Free countries feed, clothe and house people at higher levels than unfree countries, by far.

The Founders understood the significance of this aspect of liberty. In his 1774 work, “A Summary View of the Rights of British America,” Thomas Jefferson asserted the exercise of free trade as a natural right of the American colonists. Among the complaints registered against Britain’s king in the Declaration of Independence are the following:

“He has erected a multitude of New Offices, and sent hither swarms of Officers to harass our people, and eat out their substance—He has given his assent to acts of pretended legislation—For cutting off our Trade with all parts of the world” (Thomas Jefferson, “A Summary View of the Rights of British America,” 1774).

The Constitution’s Framers recognized the value of property rights:

“The Congress shall have power—To promote the Progress of Science and useful Arts, by securing for limited Times to Authors and Inventors the exclusive Right to their respective Writings and Discoveries” (The Unites States Constitution, Article I, Section 8, 1787).

Arguing for ratification of the Constitution in Federalist No. 10 in 1787, James Madison posited that protection of

“the diverse faculties of men, from which the rights of property originate—is the first object of government” (James Madison, Federalist No. 10, 1787).

Again, in his 1792 essay “On Property,” Madison explained,

“In a word, as a man is said to have a right to his property, he may be equally said to have a property in his rights. Where an excess of power prevails, property of no sort is duly respected. No man is safe in his opinions, his person, his faculties, or his possessions” (James Madison, “On Property,” 1792).

The wisdom of protecting this aspect of liberty is also clear today. It’s no coincidence that the least free countries in the world are the poorest. North Korea ranks among both the least free and most poor. Across the border in South Korea, people of the same ethnic background live in a largely free enterprise economy and their average income is more than 16 times that of their relatives to the north. In pre-Civil War America, free states were richer than slave states. It’s a familiar pattern the world over.

What is this arrangement we call “free enterprise” that produces so much wealth? What characteristics must an economy exhibit to qualify as a “free enterprise” one?

A good way to answer these questions is to make plain what free enterprise is not. We should understand up front that it’s possible to have enterprise that isn’t free. Visit a busy North Korean tractor factory and you’ll see investment, resources, employment and even busy people managing other busy people – lots of “activity.” But no one would call such enterprise “free.” That’s because only the government in North Korea can own a tractor factory. Whether or not tractors are made, how many of them are made, what they sell for and whether they work or not—these are all decisions made by those in political power. Their incentives are very different from those of private entrepreneurs who have to invest properly, compete well, price their product and serve their customers or run the risk of going bankrupt.

In other countries, governments allow private people to start their own enterprises and to “own” them, at least on paper, but then tax and regulate them so heavily that they end up taking as many orders from politicians and bureaucrats as they do from customers. You may find some “enterprise” there but not much of the “free” part.

Many people make the mistake of thinking that free enterprise means special favors, protections and subsidies for business. But those things can only be granted by government to some businesses at the expense of other businesses, and also at the expense of many characteristics that define true free enterprise. Madison also addressed this problem in the 1792 essay:

“A just security to property is not afforded by that government, under which unequal taxes oppress one species of property and reward another species: where arbitrary taxes invade the domestic sanctuaries of the rich, and excessive taxes grind the faces of the poor; where the keenness and competitions of want are deemed an insufficient spur to labor, and taxes are again applied, by an unfeeling policy, as another spur—If the United States mean to obtain or deserve the full praise due to wise and just governments, they will equally respect the rights of property, and the property in rights” (James Madison, “On Property,” 1792).

What are the most important characteristics of free enterprise?

Private Property

Who “owns” resources such as tractors, factories, coal mines and restaurants? Someone has to! It’s really one or the other of these two options: 1) The owners are the people who created them or voluntarily traded something for them; or 2) The owners are the people with political power who seized those resources or forced others to pay to create them.

Sometimes a third alternative is suggested, namely, “common” ownership: “We all own it because it belongs to the people.” But genuine common ownership is woefully impractical. Everyone would have strong incentives to use and abuse the property and no one would have much reason to take care of it. “Common” ownership always reduces to those in political power deciding how and when everybody else gets to use the stuff.

Free enterprise requires a legal framework that recognizes and protects the private ownership of property—the right to create it, the right to use it, the right to trade it away—so long as in doing so, the private owner does not infringe on the equal rights of other property owners. If it’s yours, then it’s “theft” if somebody takes it without your consent, even if they claim they “need” it more or can put it to better use than you. Private property under free enterprise means you can use, invest and deploy it, and enjoy the fruits of success from efficiency and good judgment, but it implies no right to other people’s property if you fail.

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Free enterprise requires a legal framework that recognizes and protects the private ownership of property—the right to create it, the right to use it, the right to trade it away—so long as in doing so, the private owner does not infringe on the equal rights of other property owners.

This is essentially the perspective of America’s Founders, reflected in the Declaration of Independence, the Constitution, and other writings. Signers of the Declaration objected to arbitrary seizures and regulation of private property by the king, and the Constitution’s Framers provided protections for private property in law.

The Fourth Amendment declares that “The right of the people to be secure in their persons, houses, papers, and effects, against unreasonable searches and seizures, shall not be violated, and no Warrants shall issue, but upon probably cause” (The United States Constitution, Fourth Amendment, 1791).

Protecting private property has a genuine, poverty-reducing result. Without it, economic growth is severely hampered because incentives to save, invest, take risks, build, create and produce are curtailed.

Free Prices

If you bring your product or service to the marketplace to trade with others, who determines the price? If it’s a government official, you don’t have free enterprise. If it’s voluntary agreement between buyer and seller—influenced of course by such things as consumer tastes, viable alternatives, supply and demand—then an indispensable condition for free enterprise is present. Just as critical is the fact that prices must be free to fluctuate as conditions and preferences change.

Prices in a free enterprise system send important signals to both producers and consumers. They tell us what is needed where and how urgently, what the most efficient use of a scarce resource is and when to produce or consume more and when to produce or consume less.

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Many businesspeople don’t like competition and would prefer to be protected from it by such artificial, political devices as subsidies, tariffs against foreign goods, or regulations that make it harder for the little guy or the newcomer to do business. True free enterprise is not just defending the interests of business. It means even large firms must behave as if they are surrounded by competition because if they don’t, they soon will be; the law must not grant them any special advantages or protections. When the law grants such special privileges, the result is called crony capitalism, which violates principles of free trade and rule of law. British philosopher John Locke recognized the importance of the rule of law in protecting natural rights:

“They [legislators] are to govern by promulgated established laws, not to be varied in particular cases, but to have one rule for rich and poor, for the favorite at court, and the countryman at plow” (John Locke, Second Treatise of Civil Government, 1690).

Madison believed one of the most important protections of the rule of law was the watchdog function of the three branches keeping one another in check.

“Ambition must be made to counteract ambition. The interest of the man, must be connected with the constitutional rights of the place. It may be a reflection on human nature, that such devices should be necessary to control the abuses of government. But what is government itself, but the greatest of all reflections on human nature? If men were angels, no government would be necessary. If angels were to govern men, neither external nor internal controls on government would be necessary. In framing a government which is to be administered by men over men, the great difficulty lies in this: you must first enable the government to control the governed; and in the next place oblige it to control itself. A dependence on the people is, no doubt, the primary control on the government; but experience has taught mankind the necessity of auxiliary precautions…” (James Madison, Federalist No. 51, 1788)

Recognizing the many temptations that elected officials would have to write special advantages into law, interfering with competition in an open market, the Founders designed a system that was intended to keep unjust motives in check.

Competition appears in many forms–from existing companies producing the same thing to companies that produce reasonable substitutes to companies that develop a totally new, alternative technology. In one sense, every firm competes against every other firm for the consumer’s dollar. For example, if a person earns an extra thousand dollars, he or she might either buy a plane ticket and take a vacation, or might buy a new washer and dryer. In that instance, an airline is competing with an appliance manufacturer for the money.

Profit and loss are important elements of competition in a free marketplace. It’s easy to lose money. This might happen through lack of preparation, laziness, guessing wrong about the future market, and many other ways. But turning a profit and doing so year after year is both a challenge in competitive markets and a tribute to the entrepreneurial skill of business managers.

Free enterprise involves constant change. Consumers are always looking for new and better things. Companies that can’t keep up give way to those who can, producing what is called “creative destruction.” Businesses that cannot survive this process may seek special advantages from government, but if government protects them from the natural cycle of competition, the result is not “free enterprise.” It would be neither “free” nor “enterprising.”

Free enterprise is a dynamic force in the world. It says to each and every one of us: “If you want to do better for yourself, find a way to produce goods and services that please other people. You can’t command the patronage of customers, you must earn it.” Under the Constitution, no one has the right to command special privileges from government, either.

“Free enterprise protects property, which according to James Madison “embraces every thing to which a man may attach a value and have a right; and which leaves to every one else the like advantage.” (James Madison, “On Property,” 1792)

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