The Dark Side of Family Capitalism

By Rodrigo Basco, Ph. DDark Side

Is the family business an important player in local development and growth?

The answer is YES. Let’s look at some numbers. The backbone of the German economy is made up of a diversified and comprehensive group of companies: “German Mittelstand FIRMS”. This group includes small and medium companies, mostly family businesses, which generate more than 50% of the total production of the German economy, employing 60% of the workforce. These companies give jobs to four-fifths of trainees (young people who will become the workforce in the future) in their factories and offices, which contribute to Germany’s lowest youth unemployment rate in Europe (7.9 % versus 22.8 % in the European Union). They are also responsible for more than 20 % of German exports. The Mittelstand model might be a model to imitate, but the model should not be understood without the historical economic and social (German) perspective. However, the model itself is facing a new challenge: ‘complacent’. A new generation of owners and managers (even politicians) is assuming leadership positions. The new generation grew in a different context than previous one (very different context). Can the new generation overcome ‘the complacent inertia’?

But the answer can also be NO. Family capitalism has its dark side too, and may slow down the regional economic development in the long term depending on the types of relationships and interactions between the regional family business productive structure and the rest of the actors within and outside the region. For example, the negative side emerges when a small group of families is able to control a significant portion of the economic resources and manipulate public authorities to obtain economic benefits or privileges through specific form of public-private organizations and/or private ownership structures such as pyramidal ownership. Or when the company’s objective is to get political rents by using the coercive power of government institutions to their advantages, for example, by limiting competition in the market, creating monopolies and promoting business contracts among other practices that limit and deteriorate regional long-term economic growth.

Perhaps the answer is IT DEPENDS. In order to become an agent of economic and social development, companies must serve to their own nature: they have to make money by developing products or services in order to exploit opportunities. This may promote economic development. When the company’s goal is distorted, there is a number of consequences: 1) the economic and social connection with its environment is broken; the company, once productive, becomes an extractive institution of wealth (as in case of large mining conglomerates in Chile, with an economy that depends on mineral export without any significant forward productive linkages); 2) the business is no longer efficient, and becomes a burden subsidized firm by taxing middle classes (as is in case of the bailouts in the U.S. and Europe to support the speculative imbalances in banking and other questionable practices of big corporations); 3) or it ceases to be innovative to become an archaic assembly of the past, without any added value (like the phone assemblers in Argentina, which import over 90% of materials and technology from abroad with little domestic value added).

The family business may have a tendency to undermine its own participation in the economy by encouraging practices that limit economic development: political favouritism, succession to unfit heirs, chronic practices to keep the family lifestyle intact, among others. The extreme cases of the decline of family capitalism can be found in some Arab countries, managed by families like Mubarak and other business empires created around it and supported by the Western economies (as well wealthy families). Or in Latin America, where family capitalism is the conquest of political power by itself and using business protegees to monitor public and private resources to sustain for the same idea (power and wealth for a few). Argentina is a paradigmatic case for family businesses in which the goal is to succeed as the next president or governor.

The family business, as an economic and social agent, is neither good nor bad by itself for the economic development of a region. But the way in which this player is related to other economic and social players and the characteristics of the historical-cultural and historical-institutional environment represents the conditions on which the importance of the family business is based in an economy.

Maybe, the most general research question that emerges with theoretical and practical roots is: how and to what extent family firms are able to participate in the wealth creation or wealth destruction at regional level. Needless to say, how and to what extent family firms are responsible for economic growth and development.

Call for Papers
Journal of Family Business Strategy
Special Issue

“Family Business and Regional Development”

Submission Deadline: September 15, 2014

For submission  click Here – Family Business & Regional Development

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