What Is Capitalism And Socialism?

Even though we all live in a capitalist economy, few people seem to understand what this means. The word is thrown around in economic and political debates without much consistency. The situation is even worse for socialism which seems to be a label thrown onto random policies without any understanding. So to help clear up the confusion, I thought I would give a clear and simple explanation to what these words mean.

The easiest way to understand this is to imagine a factory and ask yourself “who owns it?” In capitalism, it is owned by its shareholders. Shareholders are a group of individuals (or just one person) who provide money to set up a business and receive a share of the profits in return (they hold a share of the business, hence their name). So the car factory is owned by the people who provide money (also known as capital). If most businesses are owned this way, then the economy can be called capitalist.

What then is socialism? Well, imagine instead if the workers owned the factory. Instead of distributing profits to shareholders, imagine if they were distributed among the workers of the business. These workers would then decide among themselves how the business was run and choose their own managers. This is essentially what socialism is, instead of capitalists running the factory, the workers are. Instead of running the factory as a co-operative, it could be owned by the state on behalf of the workers. This is known as state socialism and was the economic system of the Soviet Union.

A few points should be clear from the above. It should be obvious from this that pretty much every country on Earth is capitalist (North Korea being the main exception and China to a lesser extent). It should also be clear that there has never been a truly socialist country in the original sense (though Yugoslavia under Tito came closest). Thirdly, what most people think of as socialism or communism is really statism (where the state owns everything) which has some similarities with socialism but also some differences. This confusion came from the fact that places like the Soviet Union called themselves socialist when they really weren’t (if this sounds strange remember that they also called themselves democratic when they definitely were not).

Such is the confusion over names that most socialist parties aren’t actually socialist. For example the French Socialist Party has no intention of removing ownership from shareholders to workers. In this sense, every major political party in America and Europe is capitalist. It should also be clear how ridiculous the claim that Obama is a socialist or how little sense Margaret Thatcher’s much repeated quote “The problem with socialism is that you eventually run out of other people’s money” is. No matter how high you raise taxes or how many regulations you impose, as long as businesses are still owned by private individuals, it is not socialism. Socialism is not Robin Hood economics (taking from the rich to give to the poor) rather it is only way the workers own the business.

A key difference between the two systems is that capitalism is individualistic while socialism is collectivist. That is to say, capitalism views the world on an individual level and aims to get the best outcome for an individual. Socialism on the other hand views the world on a group level and aims to get the best outcome for society as a whole. Both views have advantages and disadvantages, problems arise when individuals rights are trampled on and also when some individuals benefit at the expense of the rest of society.

However, as you have probably noticed, most countries contain a combination of all forms of ownership. Almost every economy has private businesses (capitalism), co-operatives and credit unions (socialism) and state run enterprises (statism). However, most of the time, private businesses are a far larger share of the economy than co-operatives and state institutions combined, which is why most countries are called capitalist. Economic planning (contrary to popular perception) is actually a feature of both systems. For example, Wal-Mart centrally plans the price of the tens of thousands of products in its stores.

Note that I have only spoken about economics, I have said nothing about the ethics or morals of either system. To a lot of people capitalism equals freedom but there is no inherent reason why this is the case. A capitalist economy could be democratic with a strong protection of individual rights or it could be a brutal and murderous dictatorship. Both have existed and neither would be any more or less capitalist. Likewise socialism to most people means gulags and mass graves, but this is not a mandatory or inevitable feature. Some people even think that socialism would give people more freedom and be more democratic. They argue that just as ordinary people elect their leaders and vote to decide the policies of their country, so too they should elect their managers and vote to decide the policies of their workplace.

So hopefully this clears up a lot of misconceptions about what is capitalism and socialism. 99% of the times someone is called a socialist they probably aren’t and a large number of “anti-capitalist” protestors are no such thing. Famines and dictatorships occur under both systems and it is time to remove the overblown rhetoric from our discussions of how the economy works. Essentially if a factory is owned by private individuals because they provided money, it is capitalist. If it is owned by the workers, it is socialist.

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8 Comments

Filed under Economics

8 responses to “What Is Capitalism And Socialism?

  1. The question here (to which I do not claim to have a definitive answer) is whether worker ownership itself guarantees socialism. If the workers own a factory, but the factory still competes with other worker owned factories to sell its produce on a market, do the ‘disciplining’ forces of competition end up leading to similar characteristics we observe under capitalism? Yugoslavia fit this model, and you’ve posted previously about how managers in Yugoslavia were still considered something of a separate ‘class’. So it’s entirely possible worker ownership is a necessary, but not a sufficient condition for socialism.

    • I suppose I would view socialism a bit differently. To me, worker ownership is socialism regardless of its results. So even if worker owned factories behaved like capitalist ones or did not benefit their workers, I would still consider them socialist. Flawed socialist, but still socialist. There are so many possible variants of socialism and I would judge them on their structure rather than their result. I’m not sure if that would be the correct way, but that’s how I see it.

  2. While Tito in Yugoslavia did opt for socialism, workers’ self management, security of jobs existed for life regardless of whether the “factory” was profitable or not, so by mid-1970’s around 95% of “factories” were running on borrowed money as they did not make enough through production to even cover workers’ wages etc. Hence, I major flaw in Tito’s socialism was a total failure to educate the workers’ about their responsibility to ensure survival of their “factories” based on productivity and healthy competition on the markets – what one got instead was a workforce that expected to be paid (by the government/subsidised…) regardless of their factories ceasing to be viable…by the end of 1980’s inflation in Yugoslavia was close to 1000%! I believe that socialism is a good economic base however it can only ever work in its original conception in “wealthy” countries that invest in worker education and development…

  3. veggiedude

    My wife was born and raised in China before it became a capitalistic powerhouse it is today. Upon visiting the Googleplex for lunch with her nephew, seeing how all the employees benefited from all the free food and other benefits, her remark was “Oh, this is how communism was suppose to be!”

  4. Good article overall; and I’m particularly glad you made the important distinction between genuine socialism (without prefix) and statism. Though I would have to stress one thing: socialism is not inherently collectivist.

    Only the statist wing of socialism is collectivist. Libertarian socialism on the other hand is neither collectivist nor individualist (with the exception of Benjamin Tucker’s individualist anarchism). Rather, it aims for a synthesis of individual and communitarian impulses and sees the ideal in what Alan Ritter called “communal individuality”.

    I would also say that socialism is best described not as worker ownership of productive resources, but as worker *control* through directly-democratic decision-making.

    After all, the worker self-managed cooperatives in Yugoslavia weren’t owned by the workers themselves, but by the state. Just as in most modern forms of social anarchism, the self-managed enterprises would not be owned by the workers but by the (self-governing) municipality, which would lease out productive resources to workers on a contractual basis.

  5. Fred Uniborn

    Capitalism is better because it exploits the power of incentives and disincentives to a higher degree. People work harder and more efficiently, and innovate more; thus everyone is better-off because the economy is not a zero-sum game, as the invention of the tractor, robots, etc. prove. Sure there is more inequality, but that’s because the richer get richer and not so much because the poorer get poorer; as the life expectancy, the microwave in every home and the standards of living prove.

  6. This very interesting but we need more

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