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Family-dominated business sectors bad omens for economic health

16.08.2004

Family businesses can be dynamic engines of local economic growth in rich economies, but if a few wealthy families control many of the large businesses in the country where you live, chances are the economy is in the dumps.

Using statistical measures, a University of Alberta business professor and his colleague have shown a correlation between extensive family control of the large business sector and struggling economies in the countries where they are based. Their research has been published in the latest edition of Entrepreneurship – Theory and Practice.

"Much empirical evidence supports the view that certain large shareholders, especially powerful oligarchic families, manage firms and corporate groups to extract private benefits and to preserve their own control," said Dr. Randall Morck, the Stephen A. Jarislowsky Distinguished Professor of Finance at the U of A School of Business, and lead author of the paper.

According to the study, family control of the largest businesses is rare in industrialized countries, such as the United Kingdom and the United States. However, in others such as Sweden, most large firms are controlled by a handful of wealthy families. Most countries range somewhere between the two extremes, with large businesses controlled by a few families being most prevalent in developing countries, such as those in Latin America.

"This research shows there are two different flavours of capitalism in the world," Morck said. "There’s democratic capitalism in the developed world and oligarchic capitalism in the developing world, and this is an important distinction to make, especially for groups like the World Bank or the International Monetary Foundation (IMF), who in the past have seen capitalism in one form only, and that causes problems."

Morck believes the study is important because it shows wealthy countries and organizations such as the World Bank and IMF that helping poorer nations is not simply a matter of loaning them money or changing their tax system and then expecting things to work out as they do in democratic capitalist societies.

"The World Bank and IMF looked at a country such as Venezuela as being just like the United States, only poorer, but that’s not the case at all. To really help these countries, you need to see how their political economies really work, and then address the problems at their roots," he said.

Morck and his colleague, Dr. Bernard Yeung, the Abraham Krasnoff professor of International Business at New York University, suggest the trouble with oligarchic capitalism lies in political rent-seeking, a term used to describe corporations investing in politicians, bureaucrats, and judges rather than in employees, innovation, or capital assets.

"Where a government is beholden to a small elite as it is in an oligarchic capitalist society, it serves the interests of that elite. In a democratic capitalist society, the government must appeal to the middle class to get elected, and so it builds schools, hospitals, and other infrastructure," Morck said.

"This is not to suggest that all members of a small elite in an oligarchic capitalist society are evil, it just means that this is how that society is run, and if you want to get by there you have to play by the rules," Morck said.

"Every country, even rich countries, runs into problems if too few tycoons wield too much power over the government and cause mischief," Morck added. "How effective a country is at checking special interests and preventing elite groups from pressuring the government is a good predictor of how fast an economy will grow."