The Wealth of Humans, Part IV: Social Capital

<Part I, Part II, Part III>

The second meaning of the wealth of humans refers to social capital. What is that, exactly?

In the most basic economic terms, capital is a factor of production. It is a black box that takes labor as an input and creates value without being consumed in the process. Factories, trucks, computers, even money itself are examples of capital. In recent years the concept of human capital has become popular. We can think of our individual skills, knowledge, and talents as factors of production: those with a greater stock of human capital are able to produce more in certain sectors of the economy. Human capital can be increased through education or training.

The difference between classic capital and human capital is that human capital cannot be transferred: you can transfer ownership of a factory, but you can’t sell your degree to someone else. It is individual specific and context independent: when you’ve learned calculus, you can apply it to any context.

Social capital, on the other hand, is context dependent. It can be thought of as all of the embedded norms and behaviors at some level of group organization. The example Avent uses is his place of employment, The Economist. Having been there for some time, he is firmly invested in the social capital of The Economist. But if he were to jump ship to another newspaper, say the New York Times, that social capital would be lost. He would still have his accumulated human capital, but the types of behaviors that led to success at and for The Economist would likely be very different for the Times.

So from here, Avent makes the supposition that the most successful firms today are those that have high amounts of social capital. He points out that, in the 1970s, over 80% of the value of average firm on the S & P 500 was physical capital, buildings, personnel, etc; the rest was ‘dark matter’.  Nowadays, this dark matter makes up 80% of the value of the average firm, and he proposes that social capital makes up a fair amount of this.

Avent encourages us to think of firms as information processing organisms. Let’s take The Economist as an example again. The real product of The Economist is not the physical newspaper delivered to your door every week, it’s the information within. The workers at the firm have taken some subset of all the information in the world and processed and compressed it into a comprehensible form. This applies to all sorts of firms: even a retail chain is an information processing organism, just not a very high added value one.

Putting these ideas together, Avent writes “The social capital of successful firms is increasingly the most important component of their success: the shared understanding of how the firm does what it does is more valuable than the machines it uses or the patents it holds.” (p.119) If we look at the top firms by market capitalization, they are overwhelmingly companies that deal with information: Apple, Alphabet (formerly Google), Microsoft, Amazon, and Facebook are hugely successful technology firms, and most of the rest of the top 20 are in industries like telecommunications or financials. With this social capital framework, we should understand that the culture of these companies is as vital to their success as their accumulated human capital. You could have a massive stock of human capital available to your firm, but if you are organized in a way that stymies the development of social capital within the firm you won’t get very far.

Now here is the problem with social capital: how can workers reap the gains from it? Normally, we think of workers as having bargaining power through the threat of taking their labor and human capital elsewhere. But because social capital is context dependent and relies on some critical mass of people to be effective, no one individual can bargain with it. Thus, the returns to social capital will tend to go to the problem the owners of classic capital, such as those people with equity in the firm. So we have a growing situation where despite creating large amounts of value for a firm, workers may not able to command a fairer share of the gains. Imagine if we move to an economy where automation has resulted in the most basic tasks being completed by computers, and the real value added activities occur through social capital. This is potentially a world where workers have very little bargaining power.

While I like this framework, to be honest I think Avent oversells social capital a bit in the book. There’s a strain of logical positivism in me that’s wary of concepts that can’t be quantified, and at points social capital becomes kind of a hand wavy argument for explaining a great many things. Still, it’s a good starting point.


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