Communism and the Chicago School: The Forgotten Connections

As a simple example of overlap, the University of Chicago faculty have included not only economists synonymous with free market capitalism such as Nobel Laureate Milton Friedman, but also one of the most important socialist economists in the 20th century, Oskar Lange. A deeper connection is that the communist and capitalist thinkers share substantive views about how the “forces of production” shape the “economic base” of society, to use Marxist parlance. In the writings of Marx and Lenin (as well as several other socialist traditions), we read that the world is transformed by machines, and “modern technology” gives rise to large enterprises that dominate in production. Today, to say that large businesses such as Amazon and Google arise from modern technology often brings to mind the Chicago school, not the communists. But the communists actually went further in their belief about the power of technology, arguing the inevitability of large enterprises and production concentration as a result of it.

While the two traditions generally agree that modern technology strengthens economies of scale and therefore the prominence of large enterprises, they diverge when it comes to the social implications of this development. The communists’ takeaway is the eventual necessity of central planning to realize the promise of large-scale production to the fullest extent and to protect people against the oppression of capitalists. Chicago school economists, by and large, do not reach this conclusion. To them, the power of large organizations is not without bounds, and the market has a crucial role to play. Not everything, they say, can be planned with enough order, thoughtfulness, diligence, and beneficence.

For some decades in the 20th century, researchers in economics devoted much effort to studying the power and perils of communism, and the landmark contributions of several names associated with the Chicago school were influenced by these topics. The academic discussions around the economics of communism have faded away from the mainstream, perhaps in part due to the dissolution of the Soviet Union. I didn’t encounter these much in my economics classes, and only became aware of their existence after I began this exploration on intellectual history, but they are quite relevant for many of the topics we discuss today and have shaped some of the economic concepts that remain with us.

Common ground: Economies of scale and production concentration

Concentration, the extent to which a small set of firms account for a large share of production activities, ties together the different threads in my work and life. Many large enterprises today appear powerful and expansive, which naturally draws the attention of the general public. Comprehensive US census data since the 1980s show that the largest firms account for an increasing share of output in many industries, according to MIT’s David Autor and his coauthors. This phenomenon has inspired lively discussions about what has been happening to the US economy. Researchers have put forth a number of hypotheses: some think technology is increasing economies of scale; others postulate that globalization and the internet are enhancing consumers’ ability to compare products so that the winner takes more; or it could be a result of weaker antitrust enforcement since the 1980s (influenced by doctrines associated with the Chicago school); or perhaps the aging population is diminishing the vitality of startups. These discussions have often presumed that rising concentration is a recent anomaly and therefore have looked for a contemporary cause. Perhaps if we had learned more about Marxism-Leninism, we wouldn’t make this assumption.

Do we really live in a new era? Harvard PhD student Spencer Yongwook Kwon; Kaspar Zimmermann, a postdoctoral researcher at Leibniz Institute for Financial Research SAFE; and I did not initially know much about the history of thought, but we came across data on the size distribution of all US corporations from 1918 to 2018. These data come from historical publications of the Statistics of Income (SOI) and the associated Corporation Source Book compiled by the Internal Revenue Service. Since 1918, the SOI has been reporting annual statistics of the population of corporations by size bins, including the number of businesses and their financial information. We digitized these tabulations and used the size bins to estimate top businesses’ shares in the aggregate and in various industries.

The data allowed us to assess top businesses’ shares by assets, sales, and net income, all of which show similar results. We observed that for the economy as a whole, the largest corporations have become more and more dominant since the early 20th century. For example, since the early 1930s, the asset shares of the top 1 percent and top 0.1 percent of corporations have increased by 27 percentage points (from 70 percent to 97 percent) and 40 percentage points (from 47 percent to 88 percent), respectively.

We also studied top business shares at the broad industry group level. Again we saw a secular increase in most of the main industry groups, although the timing differs across industries. In manufacturing and mining, rising concentration took hold before the 1970s; in services, retail, and wholesale, rising concentration occurred primarily after the 1970s. We performed a number of robustness checks to make sure the data are reliable and the trends are consistent.

Why did corporate concentration increase persistently over the past century? The long-term trends seem most aligned with a hypothesis along the lines of technology and economies of scale.

After looking into the data points from 100 years ago, we gradually realized that our research journey led us back to the social and economic discourse of that era—initially thanks to Zimmermann’s father-in-law, who worked in East Germany and pointed us to the convictions of Marx and Lenin. Unfortunately, I am not able to discuss this with my Marxist grandfather, who passed away before my research life started.

From Marx and Lenin to Coase

In the archive of history lives an old conjecture that rising concentration can be a feature, if not a law, of industrial development. Versions of this view can be found in the writings of a variety of economists (including Alfred Marshall, who published the famed Principles of Economics in 1890, and the earliest researchers of the National Bureau of Economic Research), but at one time, the communists were the strongest proponents.

Das Kapital is often dense and difficult to decipher, but Marx wrote with a fair amount of clarity that technology that enhances economies of scale leads to production concentration. In his words, “with the development of the capitalist mode of production, there is an increase in the minimum amount of individual capital necessary to carry on a business under its normal conditions.” Therefore, “the larger capitals beat the smaller” in “the battle of competition.”

Lenin also devoted great attention to the study of the economic system. In particular, he performed extensive empirical investigations of production activities in the United States, as well as in Europe and Russia. Production concentration and economies of scale were central themes in his sweeping data-collection activities.

At the beginning of his 1917 book, Imperialism, the Highest Stage of Capitalism, Lenin wrote:

The enormous growth of industry and the remarkably rapid concentration of production in ever-larger enterprises are one of the most characteristic features of capitalism. Modern production censuses give most complete and most exact data on this process. . . . Tens of thousands of huge enterprises are everything; millions of small ones are nothing.

Lenin dealt with imperfect data with more attention to breadth and less attention to details, but he estimated that the top 1 percent of manufacturing establishments accounted for about 50 percent of output. This level turns out to be similar to the share of the top 1 percent of manufacturing corporations in our data for the 1910s.

He thought that “the very nature of modern technology as applied in large-scale industry” inevitably leads to the need for economic planning—and that, as the late Leon Smolinski put it (in a summary of Lenin’s view), capitalism has “managed to improve efficiency of resource allocation within an enterprise” but relations among enterprises continue to suffer from market chaos.

Lenin’s empirical work seems mostly forgotten, but his political program that built on the economic views from Marx’s work and his own research has left a permanent mark on history. The sociopolitical tsunami launched by Lenin carried his economic views around the world, including to the young Coase, then an undergraduate student at the London School of Economics and a self-described socialist.

Coase was interested in why firms and industries were organized in the way they were, and he visited companies in the US while on a traveling scholarship to accumulate firsthand observations. He saw a piece of his question in the Leninist agenda, and his reflections in the 1980s explain the Lenin-Coase connection I heard from Baird. “What was essentially the same puzzle presented itself to me in another form which can be summed up in one word, Russia,” Coase wrote. “Lenin had said that the economic system in Russia would be run as one big factory,” he added. But Coase observed that there were also factories in the West, even as Western economists maintained that to run the economy as one big factory was impossible. He asked: Why do we have organizations in society? Earlier, he had not emphasized the flip side of the question, but it was also intriguing: Why isn’t everything one organization?

To many of Coase’s contemporaries, the more urgent and practical considerations were not these nerdy “why” questions, but the “so what” ones: What about the social impact of large businesses? What about inequality, the suppression of workers, and investor protection? Although large capitalist enterprise “leads to an increase in productivity of labour” by destroying small-scale production with “backward technique,” in the words of Lenin, there were pervasive concerns that the product of this collective labor by millions of people in the expanding economic system ends up benefiting a few large capitalists.

And, then, what are the solutions to these burning questions? To the communists, the superior if not inevitable approach was to reinvent the social “superstructure” in this world of modern technology and large-scale production with the magic of central planning. To the capitalists, it was better to believe in the magic of the invisible hand. Both approaches were carried out in the 20th century, and many economic lessons have been learned from the monumental social experimentation.

The communist views

Communism in its purest proposition envisions a society that abolishes private property and relies on central planning to allocate resources. Communists argue that capital is a collective product, the result of labor by many members of society, and therefore should be converted into common property. When communists and socialists saw that large companies could organize activities at scale, they decided that the government could do this too, and do it better.

Criticisms of the communist blueprint emerged quickly. One set came from several economists associated with the Austrian school (Ludwig von Mises and Nobel Laureate Friedrich Hayek, the latter of whom also became associated with the Chicago school), who pointed out that a central planner cannot easily figure out how to allocate resources in the total absence of markets and prices. How much input should the planner give each producer? How much output should it give each consumer? In their view, prices played a crucial role in reflecting relative scarcities so that resources could be directed to places where they could generate the most value, while markets played a crucial role in coordinating actions in a world of dispersed information.

In response to these critiques, socialist economists began to acknowledge that it could be useful to introduce prices and markets to help the central planner, which led to the notion of market socialism. In this vision, introducing prices and markets for consumer goods seems reasonable and straightforward. Doing the same for firms is less obvious. Some of today’s companies are larger in terms of output than the smallest countries, but it may not be realistic to introduce central planning in either. Why? One possibility is that even the biggest companies tend to specialize in a certain domain, and many have failed miserably when they have tried to venture into unfamiliar territories. The central planner would need to master many more things than even Amazon and Google do in order to manage the same amount of output. Another possibility is that the world is dynamic rather than static, and large firms still go through the process of natural selection and get displaced by better ideas and products. A central planner may not be able to effectively pick winners and losers among all possible ideas and investment amid this constant change.

One of the leaders of the market socialism tradition was Lange, who was on the faculty at the University of Chicago from 1938 to 1945. He was hired by the university not, I suspect, because of his communist views but in spite of them. Eventually, Lange returned to his native Poland to practice central planning and became a high official in the Polish government. Later, in 1950, Hayek arrived at UChicago. His famous book, The Road to Serfdom, had been published in the US by the University of Chicago Press in 1944, after meeting much resistance elsewhere. Today, Hayek remains a familiar name among economics students, whereas Lange is little known. It’s intriguing that we remember more about the viewpoints of one side of the debate and less about those of the other, even though people on both sides actively and persistently argued with each other for decades.

A second set of criticisms of the communist blueprint, raised by Hayek and many others, revolved around incentivizing managers in a communist system. How does a central planner figure out whether managers have exerted effort and taken the right actions? Lange thought that the agency problem (whereby someone working on behalf of others may take self-interested and suboptimal actions) exists in any organization, and indeed, corporate governance has become an immense field of research. But there can be additional challenges to solving agency problems in a world with collective ownership. For example, it’s now common practice to use equity compensation to align employees’ incentives with company performance, which could conflict with egalitarian collective ownership. With pay for performance, some people will receive more than others. If the central planner intends to always distribute profits equally among everyone, extra effort will not generate extra rewards.

A third set of criticisms centered around how to discipline a central planner. Even if the managers follow orders perfectly, how do we make sure the government represents the people properly and acts benevolently? What if the government pursues the agenda of the politicians instead of efficiency or the wishes of the people? How do we prevent corruption? Again, governments in any society can face these issues, but the costs of failures can be larger when a government, under central planning, controls a vast amount of economic resources and activities.

Through the grand social experimentation of the 20th century, it became evident that the pure form of communism was not realistic. But even though central planning and collective ownership faced serious challenges, the debates about them sharpened a number of concepts that we use in economics research today. The knowledge problem (that information is distributed) is a key insight in organizational economics. The managerial agency problem plays a crucial role in finance as well as in numerous other domains. The fallibility of the government is essential for political economy. Many problems related to the debate over communism remain far from perfectly understood. For example, the optimal realm of an organization, be it a firm or a government, is difficult to fully specify. Even outside of the pure form of communism, a substantial degree of planning by firms and governments still exists. The Lenin-Coase cycle lives on.

The capitalist views

Moving to the other side of the spectrum, we have the capitalist blueprint. Whereas the pure form of communism has a relatively clear benchmark of full central planning and collective ownership, the benchmark of capitalism is more nuanced. Having no government and pure anarchy is evidently infeasible, and perhaps a close approximation is “minimum” government services in a laissez faire economy with private ownership and market competition.

Every advocate of free market capitalism has to deal with its definition, and Friedman provides an extensive discussion of the minimum necessary functions of the government in his 1962 book, Capitalism and Freedom:

Good society requires that its members agree on the general conditions that will govern relations among them, on some means of arbitrating different interpretations of these conditions, and on some device for enforcing compliance with the generally accepted rules.

Therefore, the government plays a role in maintaining law and order, enforcing property rights, adjudicating disputes about the interpretation of the rules, providing a monetary framework, and collecting taxes to implement programs.

That said, the optimal boundary of the government is not easy to draw, and disciples of free market capitalism may disagree with one another. According to an interview Friedman gave with the PBS broadcast Commanding Heights, von Mises once stormed out of a discussion while saying that a group of Chicago economists, including Friedman and Nobel Laureate George J. Stigler, were “all a bunch of socialists.”

But regardless of where we draw the exact bounds of government, the capitalism blueprint confronts several perennial questions, including a familiar one having to do with how to address inequality. Frank Knight, one of the leaders of the Chicago school and Stigler’s PhD adviser, wrote, “There appears to be a deep-seated conflict between liberty and equality on the one hand and efficiency on the other.” Knight’s reservations about laissez faire capitalism turned into lectures under the title The Case for Communism, although he ultimately rejected communism and was considered by Hayek to be a key thinker when it came to the development of free societies.

The issue of inequality has been debated over many generations, and opinions have varied greatly—thinkers associated with the Chicago school have held different views from each other, and some of those individuals have changed their views over time. For example, Stigler once recalled in a set of Tanner Lectures he gave at Harvard in 1980 that he agreed entirely with Knight’s views as a student, but then was shocked by the same words when he reread them decades later. Stigler had become more libertarian over time, ultimately referring to himself as an “unregulated economist” in the title of his memoir. One of his best-known papers, “The Theory of Economic Regulation,” argues that regulations often result from politicians acting on behalf of interest groups rather than promoting social well-being. This work was produced a decade or so after Stigler had returned to UChicago to teach, and the existence of the faculty chair he held actually stemmed from a dispute over communism. As UChicago’s John W. Boyer recounts in The University of Chicago: A History, back in 1935, Charles R. Walgreen (founder of the famed drugstore chain) fretted that the school was turning his niece into a communist and wrote to the president of the university to complain about the curriculum. The president defended freedom of speech, and the clash attracted national attention. Walgreen was ultimately sufficiently convinced by the counterargument that he donated $550,000 to the university, some of which was eventually used to fund the chair held by Stigler.

Another familiar question is: How can a capitalistic society protect workers? Several mechanisms have been proposed to ensure workers’ well-being, including minimum-wage regulations, labor unions, and competition among employers. American presidents have been vocal about these: Franklin D. Roosevelt said that no business should exist in America without paying “wages of decent living,” and John F. Kennedy said about unions that “their goals are the goals of all America—and their enemies are the enemies of all progress.” Some Chicago school economists, including Friedman, believed that unions or minimum-wage regulations reduce the demand for workers and therefore they preferred competition among employers as the better way to protect employees.

A third perennial question for the capitalist economy is how to deal with large enterprises. This issue goes back to the motivation for central planning, and it tends to be especially prominent when there are salient examples of large firms becoming increasingly powerful. A common concern is monopoly and market power. Even if large businesses are the product of technological change that favors economies of scale, they might ultimately abuse their dominance. Some recent researchers have expressed such concerns, likely without having read these words of Lenin from Imperialism: “This transformation of competition into monopoly is one of the most important—if not the most important—phenomena of modern capitalist economy.” Antitrust regulations are policy makers’ standard response to the possibility of monopolies, but it’s often challenging to measure market power and anticompetitive behavior. Many Chicago school economists are known for their belief in the power of competition, but it is not entirely clear that their reasoning addresses all possible failings.

A related concern is whether large enterprises stand in the way of innovation. Lange, in his advocacy for socialism, worried that companies under capitalism would become so powerful that their efforts to defend territories and fend off new entrants would strangle innovation. He considered this the most important problem with capitalism, which he thought could turn such economic systems from being promoters of progress to “becoming shackles of further advance.” Socialism is not necessarily an effective solution to this problem either, but Lange’s concern remains an interesting open question. Whether creative destruction and disruptive innovation are insufficient in the face of large enterprises that dominate the landscape is an issue that fascinates many researchers today.

Looking back to the 20th century, we can enumerate many giant companies that fell into the dustbin of history: Sears is still remembered among my generation mainly as an example of failure, and Bethlehem Steel, Armour & Company, and Radio Corporation of America barely ring a bell for many. On the other hand, many of today’s corporate giants, such as Amazon and Apple, were not known to Lenin or Lange. New companies have emerged, as well as new products within existing companies—it is rare that a company can be successful for long if it sticks with the same products and production techniques forever. Even in a world with large enterprises, the economy is not entirely stale. But could there be more progress under alternative arrangements of economic and social institutions? We have a lot more to understand.

The world as we know it today

Just as companies come and go, so too do ideas, and our collective memory is sometimes short. In recent months, ChatGPT has become a popular way to gauge public opinion, so I asked it: “What is the relationship between communism and the Chicago school?” It gave a standard answer, that these are two distinct ideologies with little overlap. But ChatGPT probably does not know the influence of Lenin on Coase, the dialogues between Lange and Hayek, or the origin of Stigler’s chair. We are often more aware of recent outcomes and less aware of past evolution. The world is complex and nuanced, not simple and static, and explorations that connect different dots can shed new light on what we otherwise might take for granted.

During a trip to the United Kingdom last May, I visited the grave of Karl Marx, which bears an inscription: “The philosophers have only interpreted the world, in various ways. The point, however, is to change it.” Marx and his followers launched revolutions to change the world, but the outcomes so far may not be exactly what they hoped for. As a small example of an ironic outcome, visitors to Karl Marx’s grave have to buy tickets, whereas Adam Smith’s grave is free to all. The author of Das Kapital did not avoid the fate of being turned into capital himself, while the leading bourgeoisie thinker has been spared.

One version of the reason for this is that after China’s economic reforms, large groups of Chinese tourists came to visit London and made Marx’s grave a popular site, presenting a profit opportunity to the locals. Meanwhile, in a peaceful corner of Edinburgh, Scotland, Smith’s grave was apparently guarded for years by a renowned economic theorist, whose previous professorship had given him this job. When I visited Edinburgh, the guardian told me about this requirement, and confessed that while there was no mandatory substantive obligation, he sometimes took his responsibility literally by attempting to climb over the fence of Smith’s grave to remove the weeds. Of course he was driven by benevolence, not monetary payments.

Once upon a time, the history of thought was a required class for economics PhD students at the University of Chicago. Such courses are now rare. Stigler was deeply interested in the process of intellectual progress and the determinants of influence, which he selected as the topic of his Nobel Prize lecture—yet this area of his work has limited influence today. Although it may still be less than practical to revive a class on the history of thought, understanding the evolution and the context of ideas may provide valuable information. In many parts of life, there is more than what we see and how we think at the moment.

Yueran Ma is associate professor of finance and a Kathryn and Grant Swick Faculty Scholar at Chicago Booth. This essay was adapted from a Becker Brown Bag presentation she gave in February, sponsored by the Becker Friedman Institute for Economics at the University of Chicago.