Organizations and Markets

Elfenbein and Zenger on Social Capital

22 May 2009 at 9:26 am Peter G. Klein 2 comments

| Peter Klein |

Congratulations to Dan Elfenbein and Todd Zenger for winning the ACAC Best Paper Award for “The Economics of Social Capital in De-Socialized Exchange.” Their paper addresses one of my pet peeves, the expansive use of “capital” to describe any ill-defined substance that accumulates and has value. Hence knowledge, experience, and skills become “human capital” or “knowledge capital”; relationships become “social capital”; brand names become “reputation capital”; and so on. I fear this terminology obfuscates more than it clarifies.

I don’t mind using  these terms in a loose, colloquial sense: By going to school I’m investing in human capital or diversifying my stock of human capital; if this gets me a high-paying job I’m earning a good return on my human capital; as I get old I forget new things, so my human capital is depreciating rapidly; and so on.

But we shouldn’t take these metaphors too literally. In economic theory capital refers either to financial capital or to a stock of heterogeneous alienable assets, goods that can be exchanged in markets and analyzed using price theory. Their rental prices are determined by marginal revenue products and their purchase prices are given by the present discounted value of these future rents. Knowledge is not, strictly speaking, capital, because it is not traded in markets does not have a rental or purchase price. What markets trade and price is labor services, and it is impossible to decompose the payments to labor (wages) into separate “effort” and “rental return on human capital” components. Some labor services command a higher market price than others because they have a higher marginal revenue product. Some of this wage premium may be due to intelligence or experience, some due to complementarities with other human or nonhuman assets, some due to hard work, and so on. But these are all determinants of the MRP, and hence the wage, not different kinds of factor returns.

Moreover, the entrepreneur needs cardinal numbers to compute the value of his capital stock, to know if it is increasing or decreasing in value, and so on. I can’t measure my stock of human capital, I don’t know for sure if it is increasing or decreasing over time, I can’t calculate the ROI of a specific human-capital investment, etc., because there are no prices and no measurable units. Knowledge may be “like capital,” in the sense that it lasts, that you can add to it, that you benefit from it, etc., but it isn’t literally a capital good like a machine or a refrigerator.

Elfenbein and Zenger examine these kinds of criticisms in the context of social capital and argue that, in a particular market setting (buyer-supplier relations), social capital can be treated usefully using the capital metaphor:

Organization scholars have consistently highlighted the virtues of social capital in supporting effective exchange, yet many have questioned the appropriateness of applying the economic concept of ‘capital’ to these social relations. Critics argue that if social capital is to have value as a theoretical construct, it must demonstrate properties consistent with physical capital: a clear mechanism for measuring investment, a clear means of calculating returns, and a clear understanding of the fungibility of social capital across contexts. In this paper, we seek to establish evidence of these economic properties of social capital. In particular, we focus on social capital that builds up between organizations through repeated interactions. We take up this agenda in an exchange context in which the buyer has undertaken active efforts to de-socialize exchange and in which finding positive returns to social capital may be unlikely. Specifically, we examine the procurement activities of a large global manufacturer that extensively uses reverse auctions to purchase production inputs. Consistent with economic properties of capital, we find evidence of positive, measurable returns to social capital that persist even in a setting of rather de-socialized exchange. We also find that the value of social capital varies predictably with the attributes of the exchange, and that it displays the properties of diminishing marginal returns. Overall, our results support the view that social capital indeed satisfies economic definitions of capital.

They don’t deal exactly with the criticism I raise above but frame the problem is a useful way and provide some extremely interesting analysis. Definitely worth a read.

Entry filed under: - Klein -, Management Theory, Myths and Realities, Theory of the Firm.