How Is Constitutional Enterprise Different?
While there are certainly some similarities between CE and other systems, there are a number of unique features as well. This page was prepared to point out the differences. I'll discuss how CE differs from traditional business structures, other market-based systems, and democratic or cooperative systems. I'll also describe how it is different from the perspective of employees working within a CE structured business.
The most important difference between CE and traditional businesses is the presence of an internal market system. It's like the difference between the backward economy of the Soviet state and the dynamic economies of free countries. An internal market system is the engine of CEthe source of its power and efficiency.
Traditionally structured businesses are organized like a series of mini-monopolies; each with a sole-supplier relationship to the other business units in the company. Each handles its own portion of the production process without any choice of who to deal with and how much it should cost. By contrast, in market-based firms each business unit buys from and sells to other business units, or if they so choose, other companies.
Understanding why a market-based approach promotes efficiency begins with understanding exchange value and competition. The exchange value of something is exactly what someone is willing to exchange for it. In the process of exchange people naturally strive to maximize the value they receive for a given price. If they can't make an equitable exchange with one source they seek out another. If competing sources are available they usually choose the most efficient one.  Those of lesser efficiency must either improve, or change their line of work.
Without a system for exchanging products and services within a business it is difficult to measure the contribution individual departments make to the whole. Attempting to establish value using labor time based accounting systems is futile. Labor-based measures merely identify costs, not what someone is willing to pay. Inefficiency is camouflaged behind layers of internal departments, each providing their products to the next without any exchange taking place. Is it any wonder that internal customers are not concerned about the efficiency of their internal suppliers when they are supplied with their products for free?
In addition to regulating goods and services a true market-based system regulates investment capital as well. Competition for the available reserves naturally channels capital to its most productive use. (This is explained more in the description of the CE Profit System and the section on democratic or cooperative systems.)
Thus, in the CE approach, production is totally controlled by market forces. This concept strikes the traditionally minded as being risky. They usually feel that a management structure is necessary to maintain discipline. On the contrary, those business units which are poor at serving their customers are disciplined by the market far more severely than any management hierarchy could do.
This brings us to the most readily perceived difference between CE and traditional businessesthe lack of a top-down authority structure. No CEOs, directors, managers, or supervisors are necessary. Of the functions they would typically perform many have been eliminated and the rest are performed by either individual business units or elected representatives.
Practically all other business models have tried to preserve centralized control in the company by a hierarchy of executives and managers. They may have proposed flattening the hierarchy, but CE is the only one that proposes inverting the hierarchy. The constitutional system results in an inverted hierarchy, where employees delegate authority up the hierarchy, instead of the reverse. 
CE still provides for a chief financial officeran executive who represents the investors interests in the financial branch of the company. This executive has no control over production, but acts more like a bank manager within the company. Even the president of the executive branch, who is elected by the employees, has no control over production. Production, in the CE model, is governed totally by market demandthe only true internal market approach.
When designing the features of CE I did not begin with the goal of eliminating managers, but once the design was largely complete there was simply no need for them. I do not mean to imply that managers are merely useless or even harmless. In fact, I discovered the conflicting roles held by them work against the efficient functioning of a businesstheir presence is harmful.
The world view, which holds that a management structure is necessary, assumes that certain things are knowable, which simply cannot be known. Frederick Taylor's "scientific management" was based upon improving efficiency of knowable processes. Much of traditional management theory is still based on Taylor's attempts to maximize the efficiency of routine tasks. If the world were static, Taylorism would be a perfect solution for optimizing efficiency, but that is not the case. Instead, a process of "creative destruction" is constantly at work, changing the rules at every turn. And the rate of change is increasing, which makes it even more vital that we develop systems to rapidly adapt. This ultimately requires driving decision-making down to its lowest possible levela single individual.
A top-down authority structure is poison to a business system. It focuses the goals of employees on the desires of management instead of customers. To the extent there is no divergence between the desires of managers and customers the business is likely to do well. However, in the absence of an internal market system divergence is the rule.
The best example of the myriad problems created by a large top-down control system is the Soviet experiment. For many years all production was directed by the Soviet governmentall factories were owned by them and all decisions over the supply of goods were mandated from above. They assumed the needs of consumers could be guided by administrators. Consequently, the consumers were subjected to shortages of needed goods and overages of unneeded ones. People stood in long lines to acquire goods of short supply while other unwanted goods rotted in warehouses. Rationing became the way to deal with consumer demand. Time and again it was the black market that actually supplied the goods the people needed.
The Soviet system was management-driven instead of consumer-driven. It could not respond adequately to market demands because the consumer was isolated from production decisionsthey could not duplicate the self-organizing character of the free market. Attempting to bring order to industry they institutionalized methods to suit existing conditions. Then when conditions changed, as they always do, the methods were inappropriate.
One of the major sources of inefficiency in a management-driven system is the psychological effects the hierarchy has upon its participants. As shown in Exhibit 1, below, management's authority to reward and punish is the primary influence over employee actions. It imposes fear where there should simply be a business relationship. By contrast, in a consumer-driven system, where employees do not receive conflicting signals, they simply serve customers.
In a management-driven business each level of the hierarchy regularly imposes mandatory activities upon those below. Often with totally good intentions and the best interests of their respective companies in mind they study the business environment for potential ways to improve. Upon discovering new methods that have reportedly proved effective in other companies they take active steps to implement them in their own. Many of these methods are excellent tools for increasing efficiency and quality. Programs such as MRP, Quality Circles, and Just in Time, have great potential; but, implementing them from the top-down continually ruins their effectiveness. No employee wants to be known as a person who doesn't support management goals. So rather than treating the programs as tools to improve service to the customers they are treated as ends in themselves. The needs of the customer gives way to showing compliance with management's latest scheme for improvement.
Programs, such as identifying core-competencies and setting company-wide strategic plans are suitable only in a centrally controlled system. They can be thought of as analogous to Stalin's five year plans, which rarely achieved their aims. In a market system such central planning is unnecessary. The independent units must be free to plan their own direction. Where standardization is necessary it is in the interest of the business units to negotiate and collaborate. They don't need a central enforcer to mandate it from above. While the process of standardization may seem chaotic for a period, the best standards eventually emerge and the "chaos" subsides. (Some could argue that this process of selection through competition is inefficient, but no other alternative can claim to be more efficient, and at the same time allow for rapid adjustments to market demand.)
Today, technological, social, and economic change must be dealt with rapidly. Appropriate actions are possible only if people can freely give candid or dissenting opinions. An open environment is essential. But with a top-down reward structure each level is beholden to the hierarchy and strives to please those above. Facts, goals, and even morals are thrown out if they conflict with the agenda of the superior. In this environment, ideological correctness becomes essential.
Both in business and government, it becomes unwise to oppose the rulings from above. The way to get ahead is to please one's superiors. If the boss supports a program then all of his or her subordinates feel as though they must out-do their peers in showing compliance. They may even invent other projects for the sole purpose of demonstrating their enthusiasm for the favored goal. Steadily the poison seeps through the system until everyone in the hierarchy either sings the praises of the program or is removed to a less visible position. This produces a climate abounding in both implicit and explicit threats, not to mention waste.
In both governments and businesses a system cannot be management-driven and consumer-driven at the same time. And typically, a management-driven system so radically distorts production activities it is incompatible with a consumer-driven system. CE is consumer-driven, and therefore incompatible with a management-driventop-downsystem to control production.
4] But there are significant differences between these systems and CE.
Some treat ownership too metaphorically  to support a real market systemreferring to roles and responsibilities as being similar to property ownership, but do not provide for exchange to take place. Supposedly, in this approach, workers "own" their responsibilities. But how do you establish the market value of something you cannot sell? Without the possibility of buying and selling a market system does not really exist.
Some try to blend an internal market approach with concepts that are traditionally a part of a top-down authority system. In this respect they are no better than traditional business structures. They have not come to see that a market system is incompatible with a centrally controlled system.
What makes CE different is the presence of a real internal market system, along with the realization that a market system cannot function efficiently without certain supporting conditions in the environment. CE is the only business model that utilizes a constitutional system, including a written constitution with a real separation of powers and check and balances. Without these safeguards the internal market system is at risk and cannot function efficiently. I group these supporting conditions into three categories: legitimacy, equity, and opportunity. Their relationships to the Constitutional System of the CE model are explained below. (Or you can read a sample CE constitution .)
Throughout human history progress has followed the incremental development of ownership rights and the corresponding recognition of the free market. The natural rights of life, liberty, and propertyaspects of ownership themselveswere central to the 17th and 18th century revolution of thought known as The Enlightenment. The enforcement of contract rights also received early recognition as essential to the orderly exchange of ownership in property. The rights of privacy, speech, association, and intellectual ownership rights, such as copyrights and patents, have a more recent history, but are no less important to the creation of prosperity. And future frontiers of ownership, such as the purity of air, water, and the neighborhood effects of the visual environment are yet to be clearly defined. But, to the degree individuals perceive any of these rights to be secure, market exchange spontaneously occurs. The key point is recognizing that efficient market exchange cannot exist without legitimate ownership.
The Peruvian economist Hernando de Soto has identified the formalization of property rights as critically important toward developing the lesser developed countries. He convincingly argues that a market system is woefully deficient without a formal method for defining, securing, and exchanging property rights. Without such legal measures ownership in third-world countries is uncertain and market exchange is fraught with risks. Such markets suffer from their illegitimate status and are never very efficient. Informal property can be lost and no appeal to government is possible. Rather than accept these risks entrepreneurs and investors will pursue more formalized and secure environments elsewhere; the country remains underdeveloped. 
To better illustrate the need for legitimacy, imagine how willing would you be to buy a house or a car from someone who could not offer any proof that he owned it? Would you turn your money over to him? Or how willing would you be to accept an IOU from a stranger in exchange for a valuable piece of jewelry? Where legitimacy is doubtful exchange is risky and economic growth is slow.
Ideally, legitimacy is established by a network of laws and practices that are universally accepted as valid. The main purpose is to define ownership rights in a manner that facilitates exchange. In CE the role of the legislative branch of the Constitutional System is to establish the environment of legitimacy supporting market exchange.
This next market supportequitycan be thought of as just reward. It is the assurance that people are rewarded justly for their actions, whether good or bad. The market system itself provides for just reward through voluntary exchange. Those who best meet the needs of customers are rewarded more than those who do not. But there are also more active measures needed to ensure justice in a market system.
Imagine what society would be like if people could violate laws without penalty, or if there were no means of enforcing contracts. How would you feel about investing all your savings in a new business venture in this environment? What guarantee would you have of your investment being secure? And if the business owners decided to keep your investment, and not recognize your claim, what recourse would you have for justice?
There must be a means of providing remedies when people fail to uphold contracts or choose to ignore laws. In our society the judicial system stands behind all contracts and laws. Anyone violating them knows they will have to face the prospect of a trial and the potential of punishment.
In CE the Judicial branch of the Constitutional System provides a means of adjudicating violations and disputes. Just the presence of such a system removes much of the risk from an internal market system, even if it never has occasion to use its powers.
Opportunities exist whenever there is a possibility of making choices between alternatives. Opportunity is directly related to freedomas long as people are free to use their talents, opportunity exists. But those who are willing to improperly use force against others can take freedom away. Insofar as they limit people's choices, they limit opportunities. The protection of freedom, therefore, is the protection of opportunities.
In any society there are usually three categories of threats to freedom: threats from outside the society by persons outside of the law, threats by persons inside the society who choose to violate the law, and threats by bad laws. The role of the company Executive Branch is to protect against all three threats to freedom.
Imagine what would happen to our country if we had no military to protect us from aggressive take-over by foreign powers? Or what would happen if we had no police force to protect us from internal criminal activity? Or what if one branch of our government had unlimited power, without being checked by another? Any society, if it is to last, must protect its members from all three threats. Without these protections freedom and opportunity are at risk.
To better understand the correlation between freedom and opportunity consider what would happen if government outlawed a particular commodity. Those people who traded in that commodity would lose an opportunity they previously possessedthe freedom to trade in that commodity. Now let's suppose instead of entirely outlawing the commodity they merely imposed a new body of regulations making it more costly to produce and distribute. To the extent the new regulations made trade in that commodity more costly they would also diminish opportunity. People would no longer be as free to produce as they had been. If people do not perceive an opportunity to engage in market exchange, they won't even try. Restrictions to freedom diminish opportunities.
The reason a market system functions efficiently is because people are using their own resources to make exchanges. When people spend their own money you don't have to ask them to spend it wisely. While it is true some people make frivolous purchases, it usually doesn't persist for very long before they must face the reality of being more thoughtful and discerning.
The difficulty in an internal market system is providing for those who make spending decisions to feel the consequences of their decisions the way an owner does. Many have tried to accomplish this by making employees owners, or part owners, of the business. But this is not always possible, or even preferable. (See also the section on democratic or cooperative systems below.)
In CE the perception of ownership is created by a metaphor of property. Ownership, or rather internal ownership in this sense, is not the same as ownership in the external society because the employees cannot use this property for purely self-benefiting purposes. Rather, their role is more like custodians or stewards over the property; applying it to its most productive use for the benefit of both themselves, the stockholders, and the customers. This is achieved through a profit system, which includes sharing of profits between shareholders and employees, and a capital reinvestment fund, also generated from the profits.
While the CE approach is closely modeled after the external free-market, with respect to the profit sharing system, it is markedly dissimilar. No direct counterpart to profit sharing exists in the external society. Nevertheless, this system is essential to compensate for the metaphorical nature of property rights in a CE business. Profit sharing extends the benefits of internal ownership beyond the metaphorit makes them real.
Each business unit functions independently, handling their own income and outgo, paying their own employees, buying their own equipment and supplies, etc. At the end of each accounting period (perhaps monthly or quarterly) the group looks at their revenue and determines if it is sufficiently large to declare a portion of it as profit. The profit that is declared by the group is then split into three parts. The relative proportion of the three may vary, but for the sake of discussion, lets say it is divided evenly into thirdsan owner dividend portion, a capital investment portion, and profit sharing portion.
The owner dividend portion is distributed to the owners of the company. It could be considered stock dividends, if the business is a corporation, or simply special bonuses if the business is a partnership or sole-proprietorship.
The capital investment portion is deposited in a special fund to lend to the various business units for expansion, modernization, etc. Employees or business units request loans from this pool of money to invest in capital goods or other acquisitions which increases the material holdings of the company and therefore increases value to the shareholders. These loans, however, are unlike any loans in the external market. Interest on these loans would be used by the financial business unit managing the funds. But the returning principal would not go back into the fund for reinvestment, but rather, would be placed in a special fund to be distributed to the employees of the whole company as additional profit sharing.
The business unit managing the capital investment fund analyzes all business units requesting funds and determines which should be extended loans (a loan officer function). The criteria for deciding between them is not simply their ability to repay the loan, but also their ability to produce a profit.
The profit sharing portion is distributed directly to the employees of the business unit that generated the profit.  For this first tier of profit sharing all business units share only in the profits they generate themselves.
As the groups repay the loans made from the investment fund the second tier of profit sharing is created. The returning principal is pooled for distribution to all business units that either contributed to the investment fund through their profits, or made payments against loans during that accounting period. The proportion of their participation is determined by totaling the two types of contributions for the accounting period and comparing it to all other business units that are participating.
The reason for returning loaned principal to the employees is that their decision to invest capital has increased productivity enough to cover repayment of the loan. In effect, they are being paid for their creativity and willingness to take risks. By the act of transferring principal to the employees the shareholders are buying back the capital goods from the employees.
On the surface it sounds strange that shareholders should have to pay employees for capital goods they've purchased using resources of the company. But the need for this arrangement is critical to maintain a perception of justice. To illustrate, imagine that instead of a small business unit in a large business the group had been a gardener borrowing money from a bank to buy a truck. When the last payment was made who would own the truck? The gardener, or the bank? Obviously, the gardener. However, in a business the capital goods must remain the legitimate property of the shareholders. Buying back the goods through profit sharing solves this dilemma.
If a business unit wants to borrow funds, but they are out-prioritized by one or more other business units, or they cannot obtain a loan at an interest rate they feel is reasonable, they can turn to outside sources for funds. Obviously, the outside lender is not going to be interested in buying back the goods from the employees. In this case outside loans would not generate any returning principal for distribution to the employees. Again there is the dilemma of who owns the goods. The answer comes in issuing additional shares of company stock to equal the value of payments being made to the outside lender. As the company equity in the goods increases the assets against which to issue stocks also increases. Then the loan payments made by the business unit can be distributed to employees the same as internal loans.
This approach will provide a strong incentive to the managers of the Capital Investment Fund to remain competitive with outside lenders. For one thing, it would place additional demands on their staff to administer the payments to the outside lender, but they would not receive interest in return. Additionally, each shareholder's percentage in the company could be diminished with the issuance of new stock, while it would not be if they managed to provide adequate funding internally.
Several benefits come from this profit system.
An interesting twist of this profit system is that employees receive a value equal to two-thirds of the profit, but amazingly, so do the shareholders. The employees receive one-third initially and another third as the loans are repaid. The shareholders receive one-third as dividends and another third in increased material holdings. The extra third comes from the ability of the employees to use new capital to increase their productivity. Everybody wins.
There are several differences between CE and democratic or cooperative systems, but most salient is the presence of an internal market system for investment capital. This difference stems from an appreciation for the different roles of employees and owners. Usually democratic systems try to merge the two roles by making employees into owners. CE draws a sharp distinction between owners and employees, but redefines their roles so that owners behave like investors and employees behave like owners.Democratic and cooperative systems usually involve one or more of the following:
Proponents of democratic systems have various reasons for employing these methods. Some people feel the unequal power of workers and owners is unjust, and hence pursue methods for leveling this power. Others simply desire to improve worker performance by making them owners.
Before continuing with this discussion I need to point out that my sentiments are in agreement with the proponents of democratic and cooperative systems. Indeed, employee owned corporations are probably the most likely to adopt the CE model. Generally speaking, their goals are honorable; however, I disagree with many of the tactics they employ to solve perceived problems. While there are some significant employee ownership success stories there are also some colossal tragedies. Indeed, the socialist and communist movements were trying to solve the same perceptions of injustice as democratic and cooperative systems. (See The Origin Of Socialism for more discussion.)
Cooperatives and employee-owned companies often fall victim to a common error. Assuming a better system for businesses would be a democratic system, democracy is regarded as an end in itself. In their mind, if it's democratic it must be good. Often they call their system Workplace Democracy and to them no other justification is necessary except "majority rule." 
The major problem with making democracy a founding principle is that everyone's rights become subject to the vote of the majority. This is immediately evident in many cases of Workplace Democracy. Employees often demand representation on the Board of Directors, or demand more involvement in decision-making, as though it was a right justified by their employment. They seem to feel that if a majority of the employees want something then it must be morally right. For them, democracy provides its own justification for their actions.
To illustrate the problem with this line of reasoning imagine what would happen if all shoppers in a department store took a vote and agreed the merchandise should simply be rationed out to them, free of charge. The fact that all the shoppers wanted the goods, and they voted to get them, does not establish a legitimate right to the goods.
The proponents of Workplace Democracy often fail to understand the employment relationship is literally a contract. Employees agree to sell their labor to the employer, as deemed appropriate by the employer, in exchange for a wage. In short, they obey the employer for money. If they do not want to provide what the employer desires, they can legitimately negotiate with the employer for a change, even withhold their labor in the form of a strike (provided they are peaceful), but if the employer does not like the nature of the change then he or she does not have to accept it. It is, after all, the employer's money to spend as he or she pleases. In this case the employee has two choices, to stay and work according to the employer's expectations, or to leave and seek employment elsewhere. But they have no right to force the employer to use his or her capital in a way the employer doesn't want to. In this respect, when workers try to force measures of Workplace Democracy, their attempts are socialisticthey try to promote equality at the expense of justice. 
One of the great irony's of the democratic approach is that employees often use bottom-up methods to place themselves back into a system of top-down control. The worker-owners select executive officers who have complete authority over the employees, including hiring and firing. They fail to recognize the self-organizing characteristics of a market system. (This is the same error of Karl Marx. He wanted a society of working people, but couldn't imagine it working without a "dictatorship of the proletariat" over them.)
Another problem exists with respect to Employee Stock Ownership. In the free market owners and investors want the greatest possible return on their investment with the least potential for risk. Consequently, money tends to flow toward its most productive use. However, employee-owners and employee-directors have divided interests. While they have some interest in providing a good return for investors, they are more likely to be interested in preserving their own jobs. Because of this a vital source of market information may be missing or distortedinformation that would prompt investors to move their money toward a more efficient use. 
In a CE business employees can be stockholders, but they do not need to be. Like any investor, employees should weigh the benefits of investing based upon their own financial needs. When an employee-owned business adopts CE the employee-owners should seriously consider opening up the company to outside investors, and allowing employees to sell their stock without jeopardizing their employment. The motivation toward employee efficiency is accomplished via a profit-sharing system, instead of by direct employee ownership.
In CE there is a market system over capital investment. An appointee of the stockholders administers a capital reinvestment fund and operates like an investment manager. The business unit in which this manager works functions like an internal bank, interested in getting the greatest possible return from each investment. The other various business units compete for available capital.
Business units in the company then function like small independent businesses, except the employees in the various business units are custodians over the property of the stockholders, not owners.
It is critically important to draw a clear distinction between ownership of capital, and custodianship of capital. A person who has a custodial responsibility over capital can use that capital only within the context of his or her responsibility. If, for instance, an individual chooses to use capital for personal use when it is intended for the functioning of a business, he or she has misappropriated company funds. When people use company funds to provide for themselves lavish furnishings or even to donate to charitable causes, it is likewise a misappropriation of funds.  There is a fiduciary responsibility which exists between an employee and the owners of the company to use the resources of the company appropriately. But when an employee confuses the roles of owner and custodian, he or she can very easily commit misappropriation without the slightest pangs of guilt. "After all," they tell themselves, "isn't it mine anyway?"
To summarize this section, in CE owners are treated as investors and employees are treated as owners, but their roles are not mixed as they are in cooperative and other democratic control systems. This coupled with the existence of an internal market system for capital investment causes capital to flow to its most productive use.
To employees working in a CE business things will be radically different. They will choose their own line of work, choose their own hours, and even choose their own salary. They will know if they choose too high a salary they will be unable to compete with other business units or meet expenses. They will also know that if they take too high a salary, they will be unable to declare a profit and will not have funds available for capital expenditures and profit sharing.
Authority will be delegated up the hierarchy, instead of down. Company officers will serve those who elect them. No one will be any better than anyone else by virtue of position. Instead, the value placed on people will be governed by the service they provide in the internal market system. When particular employees are not earning enough to satisfy their desires they need only change the value of their product or service, not bargain for higher wages.
There will be no need for managers, or for that matter, labor unions. There will be no need for labor negotiations, strikes, walkouts, or lockouts. Employees will have far more power within the structure of the organization than a union could possibly offer from without.
Some employees will be uncomfortable controlling so much of their own destinies. Some may choose to work in more traditionally structured businesses, but then their income is likely to be much lower. It would be like comparing life in the Soviet Union to life in the United States. Some people simply prefer being taken care of instead of being self-reliant. But look at the difference in life style and standard of living.
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