Volume 3 APRIL 2008

Policy making in an uncertain world
Nilss Olekalns

Did business matter? Australia in the twentieth century
David Merrett

Financial shell games
Satyajit Das

Drugs policy: a role for economic research?
Steve Pudney

Our schools...our future
Stephen Sedgwick

Pursuing talents and confronting burdens
James T Riady

The importance of vision and people
Laurence Cox AO

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By David Merrett

Did business matter in the twentieth century? What a silly question. Of course it did. Privately owned businesses have been the bedrock of the Australian economy. Firms, small and large, provided employment and generated the goods and services the country consumed or exported. Their collective health has been a measure of our prosperity.

The neglect of Australian business history

The question has a different shade of meaning when posed to economic and business historians, and perhaps explains why business has been neglected in the narratives that describe and explain Australian economic development. Scholars have concentrated on the big picture issues such as inflows of migrants and population growth, inflows of capital and patterns of investment, the growth of natural resource industries, depressions and wars, and the changing role of the state as a regulator, protector (via tariffs and subsidies) and economic manager. In these narratives, the most important private sector institution in the economy, the firm, was marginalised.

The Australian story

Our understanding of the critical importance of firms in national economic development owes much to Alfred Chandler. In The Visible Hand (1977), Chandler recast the interpretation of the growth of the US from the last third of the nineteenth century. Up to the Civil War, the economy was a network of small farms, workshops and stores linked by merchants. It was a world of local and regional markets, whose business enterprises were predominantly family-based, sole proprietorships or partnerships. There was minimal distinction between ownership and control or between family owned and managed. The technology, particularly in manufacturing, still favoured small scale enterprise and the capital needed was not beyond the means of individuals and their social networks.

Technological change let the genie escape from the bottle. The steam engine, steam ship and electric telegraph transformed the US economy at both the macro and micro level. The revolution in transport and communication, reducing the costs and time taken to move people, goods and information, allowed the creation of a national market. Businessmen could buy and sell in wider markets, and opportunities beckoned. A parallel revolution occurred particularly within factories. The combination of improved motive power, first steam and then electricity, and advances in metallurgy, metal working and chemistry brought forth the second industrial revolution. New industries emerged and the old were transformed: primary metals, chemicals, glass, petroleum, rubber, processed foods, beverages, electrical machinery and equipment. These industries were described by Chandler as ‘science-based and capital-intensive’.

The old style of firm – family-owned and controlled – could not use the new technologies effectively. The new industries required new forms of knowledge about science and engineering that increasingly came from university graduates. Moreover, the new industries required capital on an unprecedented scale for the construction of huge factories. First movers in industries such as iron and steel or oil refining captured the benefits of economies of scale. Per unit costs tumbled as volumes rose. The long and the short was that the successful firms in industries such as the railroads, telegraph, steel and oil changed form. They incorporated, hired professional managers with a wide range of functional skills ranging from engineers and chemists to accountants and lawyers, and they raised capital from the share market, bankers and bond holders. The modern corporation had arrived.

Building an appropriate organisational form, or ‘structure’ in Chandler’s parlance, to exploit the new technologies was an entrepreneurial act of the highest order. Only a few succeeded. The new ‘giant industrial enterprises’ differed from what went before in a number of important respects.

First, a small number of very large firms came to dominate key industries. These monopolies and oligopolies enjoyed enormous market and political power. Their owners and their bankers – people like the Morgans, Rockefellers and Carnegies – were typecast as ‘robber barons’.

Second, a less obvious but more important consequence was the emergence of a new occupational class: the salaried manager. These men operated companies they did not own; the nexus between the risks of ownership and rewards of control had been broken. The new owners, the shareholders, had no say in the management.

Third, new knowledge was accumulated by those in charge as they dealt with the scale and complexity of the enterprises. Over time basic principles of management emerged and the firm became a hierarchy with overall control at its apex in the form of a board of directors. Communication flows to the separate functional departments, such as purchasing, production and sales, were vertical and carried instructions and reports. Head office housed staff functions, personnel, audit and legal. Many firms had numerous plants, warehouses and factories in different locations. The collection and transmission of information up and down the hierarchy and between units became standardised and regulated, and accounting data and particularly ratios became the shorthand that prevented information overload at the top. The role of senior management was to coordinate the work of the departments so as to maximise the flow of work through the organisation and onto the market.

The large ‘industrial enterprises’ continued to expand after the application of the late nineteenth and early twentieth century technologies. Having dominated particular markets through the erection of massive barriers to entry, they diversified into new markets that were usually closely related in terms of underlying technologies or used similar distribution channels. The key to continued expansion was the ability to create new products and to find new markets, particularly overseas.

The story told by Chandler resonates with the resource-based theories of the firm. His giant enterprises had pools of resources, tangible and intangible, financial, physical and human capital, that set them apart from each other not only in size but in how they were used. He referred to the necessity of investments in building ‘organisational capabilities’, a term not far removed from the more familiar ‘competencies’ and ‘capabilities’. In Strategy and Structure (1962) Chandler showed how in the 1920s large US firms learned to manage product diversification by adopting a multi-divisional or M-form organisational design. He went further in Scale and Scope (1990) to argue that by the mid-twentieth century the American system of management, ‘competitive managerial capitalism’, was superior to both that of its major industrial rivals, Germany’s ‘cooperative managerial capitalism’ and Britain’s ‘personal capitalism’.

Lessons from US experience

The end point of Chandler’s enormous contribution to business history is that the quality of management matters and, as a corollary, how the firms they managed are organised matters. His work takes us to the core of the contemporary debates about the sources of sustainable competitive advantage. What matters most are differences in the ability of firms to make strategic decisions about what business to be in and simultaneously to manage a large and heterogenous bundle of resources. The most successful and long lived organisations are those that possess the ability to continuously adapt to new environments, and learn to do new things with the knowledge and resources at hand. By mid-century, the US possessed more firms with strong competitive advantages in a wide range of manufacturing and service industries than any country on earth. A by-product of this process of competition was that resources were used more efficiently. The US became the world’s economic powerhouse, its citizens enjoyed the highest standard of living and its multinationals took US technology and marketing skills into markets around the world.

The Australian story

What of Australia? Did local manufacturing firms undergo a similar transformation to those in the US and other mature industrial economies? If they did, we would expect the new organisational forms and the efficiencies inherent in them to have provided a stimulus to productivity in this country. In The Big End of Town, Grant Fleming, Simon Ville and I attempted to answer this question. Our first task was to identify large firms, those most likely to have required sophisticated management of large knowledge based organisations. We compiled lists of the 100 largest firms, measured in terms of assets, in 1910, 1930, 1952, 1964, 1987 and 1997. Then we allocated each firm to an industry classification and noted whether they were Australian or foreign owned each time they appeared in the lists.

Our data confirmed what we already knew. Australia, at least early in the twentieth century, was a different type of economy from the industrial powerhouses of the northern hemisphere. It was still heavily oriented towards natural resource production and export. Manufacturing was small-scale and technologically unsophisticated. A large service sector served the export and import trade: rail transport, ports, insurance, banking, warehousing, auctioneers and wholesalers. Nearly all farms were still family owned. The government owned and operated the major rail transport and communication systems, and a large number of other business enterprises, particularly energy. A major change took place from the 1920s onwards as local manufacturers swiftly replaced imports to reach a peak of relative importance in the 1960s. Thereafter, a resurgent resources and service industry, including government enterprises, refashioned the economic landscape once again.

The changing Australian scene

Our changing list of leading firms mirrors these trends in aggregates measures. For instance, the largest firms in Australia before WWI were service providers to the pastoral industry, such as Dalgety and Goldsbrough Mort. By mid-century, new firms had emerged as leaders, nearly all of whom were ‘science-based and capital-intensive’. The pack was led by miners and metal refiners such as BHP and CZC (now Rio Tinto), and cars, glass and paper producers such as GM-H, ACI and APM.

The number of foreign firms in the list rose sharply as subsidiaries of multinational enterprises entered Australia in the 1920s and again at higher rates in the 1960s and 1970s. By century’s end, the list had changed radically once more. Firms operating in service industries had come to the fore: News Corp, and the partly privatised Telstra and Qantas. The large miners, BHP and Rio Tinto, were still there and had been joined by WMC. The leading manufacturers included the Coca-Cola bottler, CCA; CSR, which diversified beyond sugar into resources and building products; Amcor (once APM); and BTR-Nylex, a diversified manufacturer.

Comparing Australia with other countries

Did the organisational structure of Australian firms change as they had in the US and to a lesser extent in Germany and the UK? Our research suggests that they did, but with a significant time lag. Our study was based on those 354 firms that appeared in at least one of our top 100 lists, and more importantly on a smaller group of 63, our ‘corporate leaders’ which had appeared in at least three lists. The largest and most successful firms evolved, becoming modern corporations by the 1950s and 1960s. They were listed on stock exchanges, their directors did not, for the most part, participate in day-to-day management, senior staff increasingly possessed some formal qualification appropriate to their role, and the firm’s organisation charts showed the separation of functions between departments.

Moreover, as they diversified, particularly after WWII, these firms adopted a divisional structure. New knowledge about how to manage came from a variety of sources: observation by Australian business people as they travelled overseas, subsidiaries of American and British firms brought their advanced management skills with them and, particularly from the 1960s onwards, management consultants such as McKinsey & Co provided a template for organisational design.

Australia enjoyed rising living standards during the twentieth century. Output rose faster than the physical inputs, labour, land and capital, used in production. That gap, productivity growth, is usually explained with reference to improvements in technology, better engineering and science. However, improvements in the quality of management associated with the rise of big business also lifted the productivity with which resources were used. Business mattered because managers learnt through trial and error to design and operate larger and more complex organisations which exploited economies of scale and scope. The cumulative effect of incremental advances in knowledge about how to administer resources within the firm has made an important contribution to the prosperity of Australia.

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