Are Governments Inefficient Because they're Governments or Because they're Hierarchies?

By Ryan McGreal
Published April 16, 2009

In response to my post earlier today about a new study by the Canadian Centre for Policy Alternatives on the "quiet bargain" that public services deliver, a few commenters have expressed skepticism based on the observed inefficiencies of many government operations.

I sympathize, but remain unconvinced that the inefficiencies of government are peculiar to their being government-managed and not more generally related to governments being essentially corporate in structure.

Ronald Coase was an economist from the early-to-mid 20th century who spent a lot of time studying transactions costs - the cost in time, money and opportunity that comes from having to negotiate a transaction between two parties. He concluded that hierarchical organizations exist because beyond a certain scale, the efficiencies that come from the top-down management of information and decision-making outperform the efficiencies that come from free and voluntary exchange.

Think of it this way (I'm borrowing this example shamelessly from Clay Shirky in his excellent book _Here Comes Everybody_). You and a group of friends want to watch a movie, and the group goes about deciding which movie everyone wants to see. The number of transactions involved grows much faster than the number of people involved:

and so on. Eventually, the sheer cost of all the transactions renders it effectively impossible to decide, affordably and within a reasonable time frame, on a movie.

This is why it's so difficult for communities to organize spontaneously, establish consensus on an issue and take action in their own interests. It requires someone or a small group to act as an organizing agent, set an agenda and then seek support.

In the analogy of the movie, you send a message to your friends saying, "I'm going tonight to see 'Hannah Montana: The Movie' at The Movie Palace on Concession. I hope you can meet me there!" People then meet you or not as they prefer.

Top-Down Hierarchy Avoids Transactions Costs

Corporations persist because a management team decides on a business model and unilaterally instructs the workers to follow it, eliminating the transactions costs of all the employees trying to come up with a consensus on a business model.

The downside to this is that the management team's information is never perfect, its analysis is never ideal and its business model is often not optimal. It's merely less wasteful and inefficient than the alternative.

It's been said that companies-as-entities rarely know even a fraction of what their employees know in the aggregate, but the transactions costs of all that information sharing end up being higher than the additional value that comes from the shared information. (Think of Brooks' Law: Adding more people to a late project makes it later.)

What we end up with are organizations that make bad decisions, mis-allocate resources, misjudge customer reactions to their policies, waste resources on unproductive efforts, spend lots of money on consultants' reports of dubious quality, and the like.

Since the only competition companies face is with other companies that face the same organizational constraints, even the most efficient, most competitive companies still produce high levels of aggravation for both customers and employees.

In many cases, those companies that seem to catch the drift of markets more effectively and enjoy big successes in exploiting new opportunities are really just lucky - in the right place, at the right time, trying out the right guess.

Where markets as such produce efficiency is in allowing the opportunity for many different companies to try out different ideas and business models. Those companies that are most effective at attracting customers, selling at a profit and expanding their market share become successful.

Governments Not Always Less Efficient

But the case can be made - and often is - that market-driven organizations are inherently more efficient than government organizations because they face market competition and governments don't. There are a few problems with this hypothesis.

Allocative Efficiency v. Effectiveness

First, competitive corporations are better at allocative efficiency, or getting resources to where they can produce the highest return, but that's not always the efficiency that public services are looking for.

For example, universal health care is demonstrably far superior to market-based health care at getting resources to where they can be used most effectively to treat illness. Whereas a market-based health care provider's primary goal is to mazimize income and minimize expenditures (leading to risk selection, dis-allowing coverage for pre-existing conditions, etc.), a public health care provider's primary goal is to treat illnes, and to treat the most serious illness first.

By just about any measure you can imagine, health care in every country with universal coverage is far more efficient than health care in the US, where it is delivered for profit: life expectancy, infant mortality, overall morbidity, level of coverage, administrative costs as a share of total costs, total costs per capita, total costs as a share of GDP, and so on. Even overall wait times in Canada compare favourably with the US (though it's possible for wealthy Americans to buy their way to the front of the line).

Market Failures

This leads to the second exception: many public goods more than pay for themselves in increased overall economic productivity but cannot be produced by market forces at any price.

For example, education is a classic positive externality, meaning that some of the benefits of education accrue to society as a whole rather than the individual receiving the education. Positive externalities create an incentive to consume less of a product because part of the benefit is borne by others.

If people had to pay out of pocket for their own education, the overall education level would be lower than it is today, and the total productive capacity of the economy would be far lower. Employers would have fewer skilled workers to draw upon, research departments would have fewer students, leading to lower rates of innovation, and so on. The net drag on economic growth would be enormous.

Democratic Accountability

Finally, governments have mechanisms of accountability that differ in form but not in legitimacy from market forces. There's always room for improvement in the transparency and accountability of both elected officials and government staff, but in general, governments eventually pay the price for secrecy, wastefulness and corruption - often on a scale much smaller than what corporations get away with on a daily basis.

For example, the AdScam scandal that brought down the Liberal government amounted to a misallocation of $100 million to Liberal-friendly companies (much of it illegally) over eight years. That works out to be $0.42 per capita, per year in misdirected funds.

What brought the Liberals down was the principle of the thing: the violation of a profound trust between voters and the government they elect to act openly, responsibly, and ethically on the public's behalf and in the public interest.

That is a powerful mechanism of accountability, one we shouldn't discount because it's not as easy to quantify as EBITDA and market share.

Ryan McGreal, the editor of Raise the Hammer, lives in Hamilton with his family and works as a programmer, writer and consultant. Ryan volunteers with Hamilton Light Rail, a citizen group dedicated to bringing light rail transit to Hamilton. Ryan wrote a city affairs column in Hamilton Magazine, and several of his articles have been published in the Hamilton Spectator. His articles have also been published in The Walrus, HuffPost and Behind the Numbers. He maintains a personal website, has been known to share passing thoughts on Twitter and Facebook, and posts the occasional cat photo on Instagram.


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By JonC (registered) | Posted April 16, 2009 at 14:55:30

After years of observation, corporations aren't the pinnacle of efficiency either. You hear about every screw up politicians make, because it's politically damaging for them, and politically rewarding for someone else. In the world of corporations, they usually all make the same stupid mistakes (since management seems to drift from one institution to another) and have a joint interest in keeping a lid on things.

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By Cubicle Carl (anonymous) | Posted April 16, 2009 at 15:01:15

Right On JonC. Anyone who's worked for a large corporation knows they can burn through money with the best of them. "Dilbert" isn't comedy, it's embedded journalism.

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By highwater (registered) | Posted April 16, 2009 at 17:41:59

"Dilbert" isn't comedy, it's embedded journalism.

Ha! Can I use that?

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By LL (registered) - website | Posted April 16, 2009 at 19:03:33

I must say, I found this article a tad confusing.

The title poses the question, "are governments inefficient because they're hierarchies?" Then you go on to laud the efficiency of hierarchical business orginazation. Then you go on to compare the efficiency of government and corporations.

I'm left with many questions about what you're trying to say.

Which is more hierarchical in your analysis, corporations or the state? What model of non-hierarchical organization are you comparing hierarchy to? What is "free and voluntary exchange"?

Does the latter refer to the organizational structure of corporations? If so, I'd have to differ. Most "transactions" within corporate bureaucracy are the same as in government bureaucracy: ie., people telling others what to do.

What is efficiency? Is there some absolute definition, or is it always relative to some end? (ie, profit maximization, distributive justice, or eco-sustainability)

In your analysis, is democratic accountability a hierarchical tendency, or an anti-hierarchical one? Is the mechanism of party politics and elections the be-all and end-all of said accountability?

If so, I'd have to disagree strongly again. This whole problem seems to by crying out for non-hierarchical public institutions of direct democracy.

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By A Smith (anonymous) | Posted April 16, 2009 at 22:32:56

Ryan >> universal health care is demonstrably far superior to market-based health care at getting resources to where they can be used most effectively to treat illness.

If that's the case, then there should be no problem with bringing in a little competition. If a group of investors want to risk their capital competing with the subsidized health care sector, where's the harm in that?

Same goes for education. What would be wrong with allowing private sector education providers have access to the tax dollars attached to each student? Competition breeds innovation and it moves capital to the provider doing the best job. Is that currently the case?

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By grassroots are the way forward (registered) | Posted April 17, 2009 at 07:47:58

Ryan writes: That's how corporate hierarchies work: orders originate at the top and are mandatory for employees. This structure is what makes corporations efficient, even when the business plan isn't optimal and doesn't take full advantage of the knowledge and experience of the members - the savings from avoiding transactions costs more than offsets the cost of imperfect executive knowledge and misapplied resources.

I thought I would elaborate on this more.

The hierarchical approach is cumbersome in many circumstances and does not allow for others in the lower end of the spectrum to add value. I will give an example:

The top boss gives instructions to redo spreadsheets from obsolete program to one that is more up to date.

The employee who is assigned this task has a background in accounting, where the original designer did not have the same background or knowledge. The task was to make information retrieval more efficient and from an accounting point of view this efficiency would lessen the time to analyze that data.

But from the hierarchical point of view the employee assigned the task is humilated and yelled at by their supervisor who feels threatened by the change. How dare a lower employee think of something that would actually be beneficial to the organization.

The end result is that the lower end employee is terminated because of the politics involved and the change is not used.

While someone may be appointed as having so called expertise, does not necessarily make them a good supervisor or boss when they feel threatened by innovative changes that would make the organization more efficient.

As I have said before, a hierarchical system does not allow for true ideas or leadership to come through and with the hierarchical system threats, violence and intimidation are widely used to thwart change and ideas.

While getting consensus may take longer, it seems to me that with consensus, everyone would be on the same page and it does not allow for bullies to have their reign of terror.

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By Brandon (registered) | Posted April 17, 2009 at 08:23:45

As I have said before, a hierarchical system does not allow for true ideas or leadership to come through and with the hierarchical system threats, violence and intimidation are widely >used to thwart change and ideas.

And this differs how from a non-heirarchical system? It's not the system, it's the fact that you're dealing with people and their personalities, which is guaranteed to mess things up.

Imagine you have a revolutionary idea that's going to dramatically reduce costs and will take one person to run (you) instead of the current ten who run the old system. Do you really think that those ten will just happily accept being made obsolete and thank you for it? More likely that they'll just vote you down.

I saw a chart once that described the benefits or costs of different governmental systems.

The best was a benevolent dictatorship. One man decides, things get done and done right. Next was a benevolent monarchy. One main decision maker, but they have to appease the nobility who may have opposing interests. Then we have a benevolent democracy. Not much gets done and everything is compromise. Then we have malevolent democracy, monarchy and dictatorship, with the negatives blunted by the inefficiencies of the system or magnified by the time you get to a dictatorship.

To further complicate things, at the end of the day, everything is affected by the personalities of the people at each level of the chain.

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By grassroots are the way forward (registered) | Posted April 17, 2009 at 08:51:10

Brandon: I beg to differ with on the point that "personalities" should have free reign in the decision making process.

If someone is a bully, why should they be allowed free reign? Why should someone who feels threatened by ideas be allowed to use intimidation and threats, to use their position to humilate an underling?

The point in any organization, bullying should be eliminated and not tolerated. To be a good boss, supervisor or manager one has to able to draw in the abilities of the group for the betterment of the whole and not allow for their "personal" feelings to thwart the process.

I will give another example of bullying or the use of authority by a "governemnt" employee. A person walks into a government entity looking for help with job search. The person, by the observance of others is that they probably have not come into this center before. The government employee in this particular instance had no customer service skills, they did not ask how they could help, they yelled, humilated and use their position of power to singled out an individual, who most likely was in the center for the first time.

So for this instance, since the city has a zero tolerance policy for violence, I wonder how does this particular employee of the city get away with using fear, intimidation and a clear lack of manners or customer service skills allowed to be employed?

Are you going to try and tell the world that "personality" plays a role in this interaction? Give your head a shake. It is disgusting that this employee is allowed free reign to use fear and intimidation and no one stopped it.

Clearly there is an abundance of moral and ethical problems within the system.

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By JonC (registered) | Posted April 17, 2009 at 09:33:03

Ryan, regarding the transactions... Those numbers also assume that each transaction results in agreement with the original transaction. If any sort of debate is involved or if a new idea emerges in the decision making process, the number of transactions will continue to rise.

As per grassroot's example. That would be a result of poor management, but from experience, even without poor management the more layers of management that are present (typically increasing with the total number of employees), the less actual impact non-management has on any decision making. Hell, even the first layer or two of management is usually just passing directives on to their team, creating reports, more or less baby sitting and trying to keep turnover to a minimum.

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By Brandon (registered) | Posted April 17, 2009 at 11:36:22


I never supported or excused bullying as an accepted function. I simply state that when you have people involved, you get personalities involved. So yes, one manager can really mess things up, but if this person is a "kiss up, kick down" sort of person, those above may be convinced that the problem isn't the manager but his staff.

I'm not sure exactly what you're trying to suggest with this example as these sorts of people exist and there's little or nothing we can do about it. Whether you are in a private enterprise, a government operation or even a true democratic situation, there will always be people who will act against you, some subtly and some overtly.

For some alternate views on this situation (please keep in mind that I wasn't there, nor have you provided significant information about this situation, so this is pure speculation): 1) the situation was exactly as you described it and the gov't employee was way out of line. 2) the person simply felt humiliated by being told they weren't doing things the right way in a manner that wasn't gentle enough (for some there's no manner gentle enough). 3) the person expected the gov't employee to hold their hand through the entire process despite the fact that the gov't employee has many other responsibilities to deal with and significant time pressures on them.

It's rarely as cut and dry as you're describing and if there's one thing I've learned, it's that the only people who believe the customer is always right are those who've never worked in the service industry.

Back to the original point though, you showed some flaws with the hierarchical system, yet had nothing to say to my counter-example from a purely democratic system.

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By A Smith (anonymous) | Posted April 17, 2009 at 21:38:50

Ryan >> the most productive businesses tend to emphasize empowerment and autonomy for their front-line workers

The most productive businesses also make the most profits, which is why the market gives those who create the largest customer satisfaction, at the lowest cost, the most capital to invest. When government invests capital, there is no way of knowing how much customer satisfaction they are producing, because they don't charge people for their output. Therefore, they could be selling $1,000 worth of medical care at a cost of $1,200 to the taxpayer. In this case, it would be better to give the $1,200 to the taxpayer, allow him/her to buy the medical care they need and spend the rest on other items.

Without the ability to measure the utility of the goods and services it provides, government likely destroys much of the capital it takes from the private sector. Therefore, anytime government can deliver services to the public through private providers, it will help maximize the utility of each tax dollar it receives from its citizens.

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By grassroots are the way forward (registered) | Posted April 17, 2009 at 21:47:55

Brandon: In reply to your queries, I was there and there was no excuse for the government employee's attitude, performance, the employee is what I would deem a witch on wheels, plain and simple. The employee was rude, obnoxious, had no customer services skills what so ever. In fact almost everyone in the room had their eyes focused on this individual who was centered out by the inexcusable behavior of this employee.

Oh and by the way, most of my work has revolved around customer service and yes there are some people out there who are nasty but in this particular situation the person did nothing wrong, except to walk into a building looking for some help on job search and in no shape or form did this person deserve the treatment that they got.

And well in a purely democratic system, then the majority would rule but in our case, the majority, the none voters, who can see that the system for the most part has nothing to do with the people, have to tolerate those who were in the minority to be the government. So much for democracy!

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By grassroots are the way forward (registered) | Posted April 17, 2009 at 22:15:32

A Smith: I beg to differ to with you in regards that the private sector is better at delivering services and utlizing tax payers dollars.

One only has to look at the present Ontario Works system where if a workers has lost their job due to circumstances beyond their control, first you see a city worker who assesses you, then you're shuffled off to the private sector who re-assesses you, then the private sector entity, shuffles you off to the not for profit sector who re- reassesses you and well the worker who is struggling is left most of time with nothing except with the constant threats of being cut off OW by the government worker.

It is an endless cycle of redundant programs that do very little to help those in need.

But the private and not for profit sectors are getting their money from your tax dollars aren't they, while the worker could end in up in the streets with nothing.

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By A Smith (anonymous) | Posted April 17, 2009 at 22:37:50

Grassroots >> It is an endless cycle of redundant programs that do very little to help those in need.

A better idea would be to establish the job you want, then knock on as many doors as it takes until you get it. I once needed a medical opinion from a microbiologist and some equipment as well, however as everyone knows in Ontario, there is a system that needs to be followed in this regard.

So I decided to try anyway and I went to the microbiologists office and asked if he could talk to me and give me some equipment. Expecting full well to be declined on both counts, I was surprised when he bent over backwards to give me much of his time and also the exact equipment I needed. To top it off, when I told my G.P. what I had done, he didn't believe me. He basically said I was lying, because it wasn't allowed.

If I had accepted the reality of the situation and followed the "rules", I never would have gotten what I needed. But because I decided first what I needed and then simply went after it, the universe gave me what I wanted.

Luke 11:5-8 (New International Version)

5 Then he said to them, "Suppose one of you has a friend, and he goes to him at midnight and says, 'Friend, lend me three loaves of bread, 6 because a friend of mine on a journey has come to me, and I have nothing to set before him.'

7 "Then the one inside answers, 'Don't bother me. The door is already locked, and my children are with me in bed. I can't get up and give you anything.' 8 I tell you, though he will not get up and give him the bread because he is his friend, yet because of the man's boldness[a] he will get up and give him as much as he needs.

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By LL (registered) - website | Posted April 18, 2009 at 00:37:47

A Smith, your account seems to confirm the assertion by Ryan that a public health system delivers better according to need. In a fully commodified system, the doctor's attention would have swayed to the patient with the most money, not the most persistent patient. That might have been you. But in this instance, your alleged wealth was not what counted. If you're as spiritual as you claim, then walk a mile in a poor (wo)man's shoes, as all the axial faiths that you cite urge.

Transaction = communication? If so, then transaction = value.

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By grassroots are the way forward (registered) | Posted April 18, 2009 at 08:25:30

A Smith: Another example of how the private sector utilizing the taxpayers dollars, well not really

Look at LMR's program, you know the program that is suppose to retrain injuried workers.

150 million that private sector earn to service less then 2% of all injuried workers in one year and the injuried workers were not necessarily retrained to a job that actually would equal to the earnings they were before the injury. In one example the gentleman was being retrained to stock shelves, a minimum wage job, which would keep this injuried worker in poverty, no schooling for this individual, this person could of go on to college but no, it is the private sector, the consultants who are earning the big bucks, while the people they are suppose to be serving end up in the poor house.

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By Brandon (registered) | Posted April 19, 2009 at 15:18:08


I'm still not clear as to which system you support. Yes there are lousy employees in both public and private employ. Does that make either system bad by definition?

Lousy employees and lousy bosses make life difficult for everyone around them, but can you show me the system that can eliminate them?

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By A Smith (anonymous) | Posted April 19, 2009 at 17:26:04

LL >> In a fully commodified system, the doctor's attention would have swayed to the patient with the most money, not the most persistent patient

Not true. All you need is a goal and the desire to go after it. Rules don't matter, nor does the size of your bank account, educational background, personality or even your looks. Just establish your target and move towards it. It may take a few tries to find the correct course of action and people to talk to, but your path will open up in front of you if you keep moving towards it.

Grassroots >> Look at LMR's program, you know the program that is suppose to retrain injured workers.

Your focus is on what government is doing wrong, why not just focus on what you want. If you want poor people to have higher paying jobs, with better benefits, make that your goal. Write to corporations and tell them to come to Hamilton to set up shop.

Tell them the people here want to work, but they need more opportunities. Tell them about Hamilton's history of innovation and quality workmanship. After you write to as many corporations as you can, follow up until you they start hiring people.

By focusing your attention on welfare programs and alike, you accepting the fact that there are a lack of well paying jobs, so that becomes the reality. Be unreasonable, demand that successful companies get their ass to this city with their high paying jobs and don't settle for anything less.

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By LL (registered) - website | Posted April 20, 2009 at 00:31:35

A Smith said:

Just establish your target and move towards it. It may take a few tries to find the correct course of action and people to talk to, but your path will open up in front of you if you keep moving towards it.

Great. So you wish me luck with anti-capitalist organizing then.

I'm still having trouble with the concept of "transactions". In my experience with direct-democratic organizing, the number of communications does not increase geometrically with the number of people involved. In fact, up to a point it gets much more efficient, then you branch off and start another collective. People get better at cooperating collectively as they gain more confidence, skill and experience, and get to know each other better.

I'm sure Ronald Coase never studied industrial collectives in anarchist Spain, Israeli Kibbutzim, Mondragon etc.

I read the wikipedia entry for Ronald Coase. It said that he was trying to explain why "firms" (corporations) emerge. In the ABSTRACT - "why they emerge".

It's a worthy analysis for business managers and maybe even to a certain extent grassroots org's. But its of limited value for people trying to change the world for the better. It assumes a priori the structure of a capitalist economy, with its rational utility maximizers, and them proceeds to analyze it in the abstract. This is the deep methodological flaw in economics.

Another way to approach this question is to look at the CONCRETE history of "why big business emerged". This approach tells quite a different story : the use of state force to break up local markets and gift economies embedded in communities.

Pre-capitalist peoples didn't necessarily have the same focus on accumulation and competition as most people today, and most people today don't even value them as much as the economist presumes. People didn't necessarily have the same trouble in cooperating in groups.

Heck: the wage system itself a pretty recent invention in history. So how can one make a universal statement about behaviour of wage workers?

Not to romanticize the past, but just acknowledge the mutability of human nature. Organizational behaviour evolves with society is what I'm saying. That's an important point for activists to remember. Wasn't it Ryan or Jason who once quoted Karl Polanyi on this site?

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By LL (registered) - website | Posted April 20, 2009 at 00:41:11

Oh yeah. And in direct-democracy, confederal structures like spokescouncils or delegate councils can perform similar functions as management teams. Except with either elected / recallabe delegates with clearly limited powers, or with rotational "president for a day" type positions.

That way no one ever gets too far removed from rank-and-file concerns. The more everybody is empowered, the less wasteful power struggles occur. (In my experience in both public and private sector work, that's been one of the most inefficient things I've consistently seen - power struggles. And I think they tend to be worse in the private sector.)

And another thing, I wanted to say that I think public industries can become much more responsive to peoples' needs if some kind of democratic accountability were in place. I'm not talking about putting hospitals

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By LL (registered) - website | Posted April 20, 2009 at 00:44:03

Sorry, I meant to say:

I'm not talking about putting the hospitals under community control right away. But starting to demand some input into the general direction of that vital industry. The Community Health coalitions should be networking with public unions more.

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By grassroots are the way forward (registered) | Posted April 20, 2009 at 08:23:13

A Smith: What I try to do is to show the inefficienies of the current welfare programs for workers trying to find work or get back into the workforce.

Many of those that work in the system do not know Employment Standards, the lack knowledge of the Labour Relations Act, they lack knowledge of the Occupational Health and Safety Act, the prime focus is to get you off the system ASAP and they do not care one iota where they place you or if any of your rights are actually adhered to. The concept of enforcement of your rights, does not enter their feeble minds.

But as a taxpayer, your tax dollars are being spent to keep people in an endless cycle of poverty.

I will think about your suggestion, do you have any more input into your idea? What types of businesses would you like to see here in our community that would pay a living wage, offer benefits and contribute to the communty as a whole?

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By A Smith (anonymous) | Posted April 20, 2009 at 12:29:51

Grassroots >> What types of businesses would you like to see here in our community that would pay a living wage

That's up to you. You decide the types of businesses you want here, the wage level and then just write to them to come here. This sounds really f#$@ing naive, but it will also start the ball rolling. Who knows, you may even develop business contacts that lead to opportunities for you to start your own consulting firm. You have the passion, now just set your aim and move towards your goal of bringing good jobs to this city. I have 100% faith you will be successful as long as you keep focused on your goal and ignore all the naysayers.

LL >> So you wish me luck with anti-capitalist organizing then.

I assume that your goal is to improve the lives of all people and not just a few at the top, therefore to the degree that your efforts bring this forward, I do wish you luck.

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By volterwd (anonymous) | Posted April 22, 2009 at 00:28:23

Your calculation of connections is really just counting the possible number of pairs. The actualy 'connections' could be more or less.

In a large group I don't need to come to consensus with everyone. If i can come to consensus with a subgroup of people that can come to consensus with another subgroups so that all subgroups are in agreement we can have consensus with less 'connections'.

As well actual transactions can be far over the given number as you don't simply talk once to someone.

For the last point larger groups can be more efficient than smaller groups by allowing subgroups to form that 'negotiate'.

The idea makes sense but you far oversimplify and I don't think it really makes the point outside the inital analogy.

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By LL (registered) - website | Posted April 22, 2009 at 15:24:21


I hope you're still on the thread. What a great description of the possibilities of egalitarian organization.

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