The Virtue of Business: How Markets Encourage Ethical Behavior

Barnum & Bailey Circus

The notion that virtue is its own reward and leads to long-term business success is not a recent or isolated phenomenon. For example, political scientist John Mueller details in his 1999 book Capitalism, Democracy and Ralph’s Pretty Good Grocery how the link between ethical behavior by businessmen became widespread in the United States over a century ago. According to Mueller, ethical and virtuous treatment of customers and employees gave honest companies a competitive advantage, and the practice of being honest to customers was quickly copied by others in the economy. His primary example of an ethical entrepreneurial innovation is the Barnum & Bailey Circus.

Prior to the formation of the Greatest Show on Earth (as the Barnum & Bailey Circus billed itself), circuses were primarily run in an underhanded manner. From the moment a customer entered the circus until his or her return home, they ran a high risk of being cheated. Ticket takers would short-change customers when they were entering the events; pick pockets were paid on commission to roam the grounds; shows were tacky; and games were impossible to win (Mueller 1999). So-called Monday Men stole from nearby clotheslines and houses while homeowners attended the shows and circus parades (Tully 1927 [repr., 2005]). Longtime Hollywood columnist Jim Tully relates from firsthand experience how circuses pretend to be honest in order to take advantage of rubes in his book Circus Parade (1927 [repr., 2005], 44–45):

 

Whenever a large group of rustics would assemble the spieler would say, “Now Ladies and Gentlemen, we aim to run an honest show—but as you perhaps know there are thieves in high and low places—and dishonest people may follow us—just as you may have dishonest people right here in your own fair city. Hence and therefore—I warn you to watch out for your valuables.”

Immediately rustic hands would feel for purses. The pickpockets would watch where the hands went and follow after.

 

The deception, lying, and theft embraced by circus managers led to quick short-term profits, but the dishonest firms did not survive long because of competition and innovation in the circus industry. Eventually, customers stopped attending the circus because they were disappointed with the experience. With customers disappointed with circuses, the Barnum & Bailey Circus emerged in the 1880s and set in motion a variety of changes to the circus industry. Unlike earlier circus shows, Barnum & Bailey ran a successful circus by creating value for the customer. To overcome the bad impression people had about circuses, Barnum & Bailey had to work extra hard for customers. They had to market the circus as an honest source of entertainment for families. In addition to promising honest ticket takers, Barnum & Bailey had to monitor their workers’ behavior and make it costly to be dishonest. They also hired private detectives to catch and scare off the pickpockets.

Barnum & Bailey made their business a more ethical and honest one because it was the right thing to do and because it was profitable to do so. Whether they achieved their goal of creating the greatest show on earth is debatable, but they were able to convince crowds about the value and enjoyment of attending the circus (Mueller 2001).

By 1910, Barnum & Bailey, as well as other “clean” circuses such as the Ringling Brothers, had moved to the top of the industry and continued to profit from their honest business methods. More importantly, because their more honest and virtuous behavior was profitable, their business practices began to dominate the industry. While a few circuses continued to try to operate using the old methods of taking advantage of the rubes, the dominant business model became the so-called Sunday-school approach of Barnum & Bailey (Mueller 2001).

The case of Barnum & Bailey illustrates a key point about how markets reward firms when the firms try to do the right thing. While some customers attended Barnum & Bailey circuses because of their desire to reward a company for trying to be honest in what was a dishonest and unethical business, many customers did not know or care about the business strategy of Barnum & Bailey. All they needed to know to reward P. T. Barnum and his successors for their behavior was that attending the circus was more valuable to them than the expected cost (which includes prices paid for entry, shows, and so forth, and possible costs from theft). Based on their experiences and word of mouth about the good experience being had at circuses, customers expected circuses to be worth the money. The reputation of ethical circuses continued to improve and so, too, did firm profits. Thus, it is typically not out of conscious action on the part of consumers that ethical and virtuous companies are rewarded. Instead, companies focused on creating long-term relationships with customers are most likely to engage in honest and ethical behavior.

In some sense, the emergence of virtue in the marketplace can be thought of as a beneficial spontaneous order. It was not the original intention of P. T. Barnum and James Bailey to reform the circus industry and get everyone to adopt the Sunday-School approach to circuses. Their intent was to be profitable in the long-term. In order to do so, they had to create value for the customer in what was, essentially, a repeated game. The unintended beneficial result of their actions is that other individuals ended up having to copy their behavior in order to be successful. As we can see from the evolution in the way customers were treated at the circus, unethical behavior in the free market fails in the long run when customers care about unethical behavior and competitive alternatives exist. When the unethical business is trying to prosper in a market where good ethics are the norm, it becomes nearly impossible for such businesses to be successful.

Whole Foods

As we saw in the previous section, people are attracted to ethical business practices and moral behavior. Some of the most successful businesses in the market today put the consumer first, and they subscribe to the theory that if the customer is happy, then the business will be more profitable (Friedman, Mackey, and Rodgers 2005).

Whole Foods Market is a recent example of a company committed to the customer-first model. Whole Foods was founded in 1980 as a single store in Austin, Texas. Today, with more than 270 stores in North America and the United Kingdom, it is the world’s largest retailer of both natural and organic foods (Whole Foods Market 2009a). John Mackey (Friedman, Mackey, and Rodgers 2005), the founder and current CEO of Whole Foods explains his corporate philosophy when he says:

 

We want to improve the health and well-being of everyone on the planet through higher-quality foods and better nutrition, and we can’t fulfill this mission unless we are highly profitable. High profits are necessary to fuel our growth across the United States and the world. Just as people cannot live without eating, so a business cannot live without profits. But most people don’t live to eat, and neither must a business live to just make profits.

 

Whole Foods Market is a prime example of a large business committed to high ethical standards. The motto of the company is Whole Foods, Whole People, Whole Planet, and the management encourages doing more than just selling food. They encourage employees to strive for customer satisfaction by supplying high-quality products in a manner that creates value for third-parties in the community and worldwide (Whole Foods 1997).

While the idea of consumer surplus is not new, Whole Foods explicitly commits to creating consumer surplus and positive external effects through its entire approach to business. Along with the company motto, Whole Foods Market embraces a set of core values through which the structure of the business is based (Whole Foods 2009d):

 

  • Selling the highest quality natural and organic products available
  • Satisfying and delighting our customers
  • Supporting team member happiness and excellence
  • Creating wealth through profits and growth
  • Caring about our communities and our environment
  • Creating ongoing win-win partnerships with our suppliers

 

It is through an understanding of these principles that no matter how large the business grows it will be able to preserve what has helped them become what they are today. The company feels as if they have a responsibility to provide the highest quality product possible to all involved and associated with the business; shareholders and customers, as well as the team members (employees), suppliers, local communities and the environment, are all considered in decisions (Whole Foods 2009d).

To cite but one example, in an effort to become more in touch with the local community, Whole Foods has created what they call the Whole Trade Guarantee. These are products that provide more money to the producers, ensure better wages and working conditions for the workers, and assure that environmentally sound practices are being carried out. When consumers buy these products, one percent of the retail value goes to the Whole Planet Foundation, a foundation that has worked to create an economic partnership with developing communities that supply the stores with their products. The Whole Planet Foundation provides microlending in rural communities around the world, as well as funding for loans and guaranteeing financial support for the administrative costs so that every dollar donated goes directly to those in need. The various support projects relate directly to organics and environmentally friendly production methods, animal welfare, sustainable seafood, and nutrition and healthy families.

In addition to the Whole Trade Guarantee and the Whole Planet Foundation, each store donates food to local food banks and shelters. During community giving days, what they call “5% Days,” 5 percent of the days’ net sales are donated to a local nonprofit educational organization. The Local Producer Loan Program (LPLP) is a program that provides up to $10 million in low-interest loans to small local producers. The program allows them to more easily grow their business and in turn, bring more locally grown products to the Whole Foods Market. The loans range from $1,000 to $100,000 and can be put toward various things such as purchasing more animals, investing in new up-to-date equipment, or converting to organic production. Various businesses are eligible for these loans, including rangers, beekeepers, ice cream makers, and bakers. Each year, overall community giving exceeds 5 percent of the total net profits (Whole Foods 2009c).

In debates over the social responsibility of businesses, free-market economists sometimes argue that the only responsibility of business should be to shareholders (Friedman 1970). John Mackey feels otherwise and argues, “I believe the entrepreneurs, not the current investors in a company’s stock, have the right and responsibility to define the purpose of the company” (Friedman, Mackey, and Rodgers 2005). Allowing entrepreneurs to define company vision is important because it is the purpose and mission of an organization that drives the type of change we are discussing.

While Milton Friedman is correct to note that there exists a principal-agent problem when corporate executives engage in socially responsible behavior because that behavior might not be consistent with the goals of all the shareholders. What Friedman does not emphasize, however, is that the principal-agent problem exists in all organizations. For example, an astronomy club president who votes to donate some of the club’s dues to help pay for an Earth Day rally might be acting against the wishes of some of her principals, but organizations set up internal rules and procedures for dealing with such behavior. If a majority of members agree with the president’s actions, then the troubled members can always leave and form another organization. The fact that corporations are voluntary is an important one; it is voluntary organizations that fill in the gaps in civil society. Civic organizations have traditionally been understood to encompass solely social organizations such as the Red Cross or fraternal order societies, but we suggest that businesses can also play that role to the extent that their pursuit of profit also advances social change. Whole Foods is clearly an example of a company that advances social change while earning a significant profit.

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