Markets are Eating the World

In 2015, Taylor Pearson wrote End of Jobs, a book about the present and future of the “gig economy.” In 2019, he wrote Markets are Eating the World, an essay about the notion of the existence of “markets” in juxtaposition to “firms.” Pearson defines a firm as a single entity and a market as a group of distinct entities. His premise is that the world is shifting from firms (lots of big companies) to markets (lots of small entities functioning as individuals). Another way of looking at it is owning versus renting: firms “own” employees whereas they “rent” contractors; you “own” a car but you “rent” a ride on Uber. With the help of mid-20th century economist R.H. Coase’s 1937 work The Nature of the Firm, Pearson suggests that firms only exist when markets are inefficient.

Markets are inefficient when what he calls “transaction costs” are too high. Transaction costs can be put into three buckets:

1. Triangulation: How hard it is to measure the quality of a service;

2. Transfer: How hard it is to bargain and agree on a contract for the good or service; and

3. Trust: Whether the counterparty is trustworthy or you have recourse if they aren’t.

He applies these buckets to historical and contemporary business case studies, such as Henry Ford and AirBnB. Henry Ford vertically integrated all the way back to the iron ore foundries because he could not source reliable raw material suppliers who could deliver consistent supply at consistent prices (Triangulation and Transfer). AirBnB is similar. Before, you went on vacation to Hilton Head you either used a booking service to find you a hotel or you bought a beach house. If you bought a beach house, you and the family were going to Hilton Head at least once a year for the rest of your life. Now, AirBnB has made it easy for you to Triangulate and Transfer micro-rentals of properties all over the world. To summarize, the higher the transaction costs, the larger the firms. Or, the higher the transaction costs, the more likely a consumer is to buy versus rent.

The essay goes deeper into the historical drivers of transaction costs: advances in technology. He divides these advances into four eras and provides ample examples throughout. If you don’t read this entire essay, at least read the short section titled The Unreasonable Effectiveness of the Mechanical Clock, in which Pearson illustrates how the Feudal system may not have given way to capitalism without it.

The technological eras, in Pearson’s vernacular, are:

1. The Neolithic Era: Once Humans advanced from hunter-gatherers, in which everybody was responsible for hunting, gathering and fighting off predators and enemies, to farmers. Crude hunter-gatherer societies had one concern: survival, which meant that any attempt to specialize away from food and fighting likely jeopardized the tribe. Farming enabled specialization because our early ancestors could store food and use it to bargain, and thus could accumulate wealth. Farmers who owned land, servants, and livestock could, for example, pay warlords for protection. Ultimately, the concept of “Division of Labor,” or members of a group acquiring skill by doing discrete specialized tasks, began to emerge.

2. The Industrial Era: He points to the market as the key catalyst for this era. The centralization of buying and selling made it easy to Triangulate and coordinate customs related to Transfer costs. The fact that one’s repute as a merchant was staked to a permanent geographical location built in Trust. This enabled people to further specialize: if I was a master woodworker, I would always have a place to sell my wares. I would be properly motivated to be better than other woodworkers, which cast me deeper into my discipline. As the industrial era wore on, the emergence of giant firms like Ford made it such that a worker’s skills would be more highly valued in a firm than in a market. This is because the firm was built to reduce Triangulation, Transfer, and Trust costs, and hiring full-time employees did away with all three, thus making those worthy of full-time employment worth a premium.

3. The Computing Era: The age of bytes has made searching easy. The proliferation of smart phones has made services like Uber incredibly effective. Within Uber, I can triangulate and transfer easily (the trust piece is still a bit dubious for some). A taxicab driver is compensated far better by the market than by a firm, and it is easier to quickly book an Uber through your app than hail or call a cab company. Thus, thanks to computers, the market has eaten the firm.

4. The Blockchain Era: Blockchain is essentially a giant ledger that is fully transparent to every user in a market. Pearson’s argument for the case of blockchain’s emergence applies to finance and politics. Until 1973, the U.S. Dollar was backed by gold, meaning that the money supply was always trustworthy in that its holders always had security that if the currency lost its practical value, it could be exchanged for gold. Thus, in many ways, inflation (growth in the money supply) was limited by growth in the supply of gold. Post-1973, no currencies are really backed by physical goods, which puts the power of the money supply back in the hands of a small cadre of humans. Pearson sites NYU political scientist Bruce Bueno de Mesquita’s model of Selectorate Theory, where a small “selectorate” ultimately controls outcomes. In theory, in a republic, the selectorate includes the entire population, and it is difficult to get things done, but it is also difficult to make mistakes. In a dictatorship, the selectorate is small, and it is easy to get things done and make lots of mistakes. The theory of blockchain is that through the democratization of information via a giant ledger, the selectorate becomes very large, but because of technology, the ability to transact and get things done is easy. He argues that the future could be governed by a series of distributed ledgers.

Regardless of how we feel about the death of the firm, it seems plausible that our value, especially as knowledge or skill workers, is greater through market participation than in the firm.