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Does Some of Our Industrial Thinking Lag Behind Economic Evolution?

Simon Bridge, Ulster University

14 January 2011

The effects of the industrial revolution were profound, not just in its impact on the everyday lives of many people in the industrialising nations, but also in what people came to see as the norm in a 'mature' economy. Instead of agriculture being the basis of economic prosperity it was manufacturing, and instead of relatively small and largely family-based farms being the key source of employment it was increasingly large industrial firms. The agricultural revolution had taken thousands of years to spread and then to be mature, and the industrial revolution has been with us for less than 300 years, but already, it is argued, we are in the throes of a new revolution which will again re-focus our economic thinking. The speed of this change means, however, that re-focusing will not happen everywhere at the same time, with the result that mismatches are likely between the assumptions of different people who experience and/or perceive the change at different times. That mismatch is likely to happen, this paper suggests, between the enterprising individuals who are at the forefront of the new economy and the legislators who attempt to set and police the rules that we need to govern our economic affairs. It is as if the players are developing a new game, more appropriate to today's conditions, but the referees as still applying the rules set for the old game which are now out of date.

The Impact of the Industrial Revolution

One of the effects of the industrial revolution was to concentrate many production facilities near arteries of transport, such as rivers and canals and later the railways, and around sources of power, which were often initially water 'mills' and later steam engines. The new enhanced output machines such as power looms and Spinning Jennies were not suitable for home-based production because they needed such sources of power. Further, not only could one water wheel or steam engine drive many such production machines, but it also needed the output of many such machines to justify its investment. Thus the economics of machine power lead to the emergence of bigger businesses as also did the development of technology for the consistent production of standard items. This was seen, for instance, in the production of firearms where a big manufacturer could produce many arms built to one specification all of which could use the same ammunition and be repaired with the same spare parts. Before that many small armourers would have worked to equip a large force but they would have produced arms of somewhat different dimensions necessitating a variety of different sizes of ammunition and spare parts.

The Rise of the Big Business and Fordism

The industrial revolution thus changed much industry from craft production to mass production. Before the industrial revolution it would seem that almost all businesses were small ones but the beginning of the revolution could be said to have started a trend towards bigger businesses which had its apogee in Fordism. This thrived from the 1930s to the 1970s and was named after Henry Ford, the American industrialist who lived from 1863 to 1947 and was the founder of the Ford Motor Company and the developer of the assembly line technique of mass production.
The essence of Fordist production was standardised products, produced on assembly lines using the latest technology to produce special tools and equipment which could be used by relatively unskilled labourers who were nevertheless paid good wages to ensure their application and retention. This, combined with a centralised controlling administrative system, enabled manufacturers like Ford to produce relatively complicated products such as cars very cheaply, provided they were produced in standard forms and in sufficiently large quantities to justify the capital investment needed. Some, such as Ford himself, also integrated their businesses vertically thus making them bigger but also giving them greater control over the whole process. Fordism therefore played a key part in the drive for economies of scale which meant that, for much manufacturing and even some service businesses, bigger was better. Thus there was a seemingly irresistible rise in the economic importance of larger businesses.

It is not that the larger businesses themselves did not need entrepreneurship and innovation, they did, but the perception was that it was those bigger businesses which represented the economic future, and that the relevance of small businesses would decline as a result. To a considerable extent this focus on larger businesses continued throughout the 1960s and small businesses were then rarely mentioned as a distinct and/or important part of an economy. For instance the author still has in his possession a book called Business Enterprise: Its Growth and Organisation[1] first published in 1958 and reprinted throughout the 1960s which was recommended as a business text book at that time but which, while it does indicate that some businesses may be small, has no section on small businesses and nowhere does it indicate that they are in anyway special, different or otherwise worthy of separate treatment.

Government Interest in Small Businesses

However this attitude started to change in the 1970s when a number of factors combined to upset the economic status quo and its associated assumptions. Among these were the condition known as 'stagflation' which seemed to affect economies in the early 1970s, the dramatic oil price increase in 1973, and the rise in unemployment which, it was becoming increasing apparent, was a new trend and not a minor fluctuation. It had been thought that, since the war in the UK, as in other economies, the lessons of the earlier depression had been learnt and Keynsian economic policies were being applied, with the result that unemployment had remained relatively low and steady for about 25 years. However, from about 1970 it started to rise and by the end of the decade, when it was clear that this was a permanent change, new approaches were being sought as the then accepted methods of economic control and especially for the maintenance of full employment, no longer appeared to work.

Thus an urgent issue for many governments at the end of the 1970s was to find new jobs in order to halt, or reverse, the seemingly irresistible rise in unemployment. It was in this situation that, in 1979, David Birch released the results of his research into employment in the USA[2] in which he concluded that it was small firms which created the most jobs:
    'Of all the net new jobs created in our sample of 5.6 million businesses between 1969 and 1976, two-thirds were created by firms with twenty or fewer employees and about 80 percent were created by firms with 100 or fewer employees'.[3]
Net new jobs is the difference between the total of new jobs created and the total of jobs lost during the same period and Birch found that all areas of the USA were losing jobs are more or less the same rate but that some areas were growing economically because they were creating jobs faster than they were losing them. What distinguished higher growth areas from the others was not therefore the rate of job losses but the rate of job replacement by new job creation. As this job creation requires innovation, which involves risk-taking and consequently some failures, he concluded that the most successful areas were those with the highest rate of innovation and failure, not the lowest.[4] Net new jobs is sometimes used as a reasonable indicator of economic growth and, because of Birch's finding was that it was small firms which were the prime source of this employment creation, the implication was that, at least in the USA, they were thus responsible for much of the economic growth. Many people discounted Birch's work when it was first published, as his conclusion was contrary to the perceived wisdom of that time which was still influenced by Fordism and the supposed economic primacy of big corporations. Nevertheless, the issue was important enough to stimulate others to try to replicate his work.

Many years later the statistical debate still continues and Birch's work has been challenged on a number of occasions. Questions have been raised, both about the methods Birch used to produce his analysis and about the appropriateness of the data base he used.[5] Attempts have therefore been made to check and improve Birch's methods and database, apparently with mixed results: some seeming to confirm his findings and some to challenge them. Nevertheless, despite the lack of overall agreement over Birch's findings, it does now seem generally to be accepted that today innovative small businesses do create, and maintain, significant numbers of jobs and are a very significant component of many economies. Further, back in the 1980s, when governments first heard of Birch's work and its implications, they did not wait for full and final confirmation but, because they were desperate to find sources of new jobs, latched onto small businesses as a possible answer to their economic prayers. Thus they instigated policies, which continue to this day, to stimulate the creation of more small businesses: a process which was often labelled as enterprise.

The Third Wave

Alvin Toffler has suggested that the industrial revolution was part of the second of three waves of change in human affairs.[6] The first wave was the agricultural revolution which took thousands of years to spread as far as it did but which changed most of us from nomadic bands of hunter-gatherers to settled stratified societies, and others[7] have suggested that it was that stratification which facilitated innovations such as writing, metal-working and explosives. The second wave was the rise of industrial methods which has happened since 1700 but which has given us civilisation as we know it today. However, said Toffler in 1980, already a third wave had started to affect us bringing a new way of life based on diversified renewable energy sources, new production methods that replace factory production lines, and institutions which are not centralised, standardised and bureaucratic.
Toffler was writing over thirty years ago and he seems to have been remarkably prescient because the third wave still seems to be only just starting. Nevertheless Toffler was accompanied by others such as Charles Handy who suggested that what was happening economically in the 1970s and 1980s amounted to a fundamental restructuring of work. For millennia of human history the major source of jobs had been the agriculture of the first wave and, in the timescale of human development, it is only relatively recently that second wave industry had taken its place as a key source of employment, and not in all societies. But, in his introduction to The Future of Work,[8] Handy pointed out that it was during the 1970s that visible changes began to appear in what had by then become the normal working life. Large organisations had begun to decline and concepts such as redundancy and long-term unemployment became more familiar. Britain, along with other countries such as the USA and France, was no longer primarily an industrial nation. Since the early 1970s the aggregate profits from the service sector had exceeded those from manufacturing and similar changes had taken place throughout the industrialised world.

The switch by many companies towards flexible production has been driven by reductions in the cost of communication, of logistics, and of information processing. Thus now all it takes is a computer workstation, and the right software, for even small businesses to be able to have the sort of first class functional overhead system which not long ago was available only to larger businesses. Further computerised product design and manufacturing allows businesses to produce short-run or individually tailored products at mass production prices. Thus, writing in 1990, Curran and Blackburn were already able to list the key features of what they called post-Fordism businesses (see Table 1).

Table 1: Fordism and Post-Fordism
Fordism Post-Fordism
Slow innovation Fast innovation
Dedicated production technology Flexible production technology
Mass production of homogeneous products Small batch production of differentiated products
Mass marketing Niche marketing
Large inventories Low inventories
Vertical and horizontal integration Vertical and horizontal disintegration
Mechanistic organisation Organic organisation
Source: J. Curran and R. A. Blackburn, 'Youth and the enterprise culture', British Journal of Education and Work 4,1 (1990) Table 11.4

The result is that smaller businesses can offer as good and as cheap a product or service as larger businesses, and often quicker and/or more flexibly. So, instead of small businesses either trying to gain the scale needed for mass production, being taken over or going out of businesses: three processes which had led to declining numbers of small businesses; now often larger businesses are hiving off none-core work and then shrinking their cores to be able to respond as flexibly as small businesses.

The Emergence of the Entrepreneurial Economy Post-Fordism can be seen both as a development occasioned by new technology and as a reaction to the move of much large-scale labour-intensive production activity to areas of cheaper but now well-educated labour, such as many parts of Asia. As noted above, in 'western' economies there has also been a growth of the service sector, for many aspects of which local labour is needed. Nevertheless it is thought that an important component of successful post-Fordist economies will be 'knowledge-based' businesses for which access to ideas and expertise is more important than low wages. Thus knowledge came to be seen as the fourth factor of production, after the traditional three of capital, raw materials and labour. That lead to an emphasis on the output of institutions such as universities but there still seemed to be a missing ingredient: a fifth factor, which has been identified as entrepreneurship. David Audretsch and Roy Thurik have explored the difference between what has been labelled the 'entrepreneurial economy' and the 'managed economy' which preceded it. According to them 'the managed economy is defined as an economy where economic performance is positively related to firm size, scale economies and routinized production. By contract, the entrepreneurial economy is related to the startup and growth of innovative new firms.'[9]

During the first three decades after the turmoil of the second world war the 'managed' economy seemed to be performing very well, 'providing the engine for jobs, growth, stability and security'[10] as it 'seemed that all countries were converging towards economies dominated by a handful of powerful enterprises, constrained only by the countervailing powers of the state and workers'.[11] However, it is suggested, two main factors then triggered the emergence of the entrepreneurial economy: globalisation and information and communications technology (ICT).

In the 1950s and 1960s the economies of Western Europe and North America gained comparative advantage through low cost production facilitated, not by low wages, but by exploiting scale economies of large-scale production. However the emerging economies of Japan and Asia and the transforming economies of central Europe then stared to offer bases from which to do this with lower wages because they had educated but nevertheless relatively cheaper workforces. Combining this with the fast information carrying capacity provided by ICT leads to a very significant geographic redistribution of production, which put the old 'managed' economies at a significant disadvantage as a result of which it appeared that they could then have high wages or high employment, but not both.

One response to this development was the emergence of so-called entrepreneurial economies based on knowledge and ideas rather than economies of scale. Audretsch's and Thurik's exploration of this, for instance, recognises that, while ICT can transmit information very far, very widely and very quickly, knowledge is different from information and, being subjective, uncertain and hard to write down, it is much better developed through face-to-face contact. Thus a knowledge-based entrepreneurial economy, which can create and sustain high-waged jobs, can, and has, emerged only in certain localised areas such as Silicon Valley in the USA and Cambridge in the UK. The differences they see between the former 'managed' and the new 'entrepreneurial' economies are illustrated in Table 2.

Table 2: Differences between 'managed' and 'entrepreneurial' economies
Managed economy Entrepreneurial economy
Globalised Local
Characterised by continuity Characterised by change
Jobs or high wages Jobs and high wages
Seeks stability Accepts turbulence
Specialisation leads to greater efficiency Diversity leads to the spillovers which are a source of innovation
Based on homogeneity Based on heterogeneity
Command and control matter Motivation matters
Compete or co-operate Compete and co-operate
Scale matters Flexibility matters
Source: Based on D. B. Audretsch and A. R. Thurik, 'What's New about the New Economy? Sources of Growth in the Managed and Entrepreneurial Economies' in Industrial and Corporate Change, Vol.10 No.1, 2001.

One outcome is that, while a managed economy favours large businesses and corporate managements, an entrepreneurial economy offers more advantages for small businesses and more opportunities and rewards for entrepreneurs.

In Conclusion

Although there may be clear signs that the successful economies of the future will be entrepreneurial economies, a lot of our thinking has not caught up with this and is still derived from assumptions which were more appropriate to the earlier second-wave Fordist era when big business ruled. This can be seen, for instance, in some labour laws which seem to be designed to counter the power of big businesses and to protect employees from consequences of that power such as efforts to increase profitability by driving down wages (although it seems clear that Ford himself recognised the need to pay good wages if he was to retain his workforce). This approach to some extent sees employers and their employees as two opposing sides and assumes that everyone who isn't an employer must therefore be an employee who needs to be protected from the environment of 'chose between jobs or high wages' suggested above. However such thinking is not consistent with an entrepreneurial economy which thrives on flexibility and which, in some respects, has parallels with the situation before the industrial revolution where many people were self-employed and/or provided limited-term contract labour and were thus neither employers not permanent employees.
One feature of emerging trends is that often their nature and direction do not become clear until some time after the trends have emerged. Therefore, until that happens, understanding them and making new provision for them can be difficult because they are still so uncertain. However it is also the nature of such trends that those who wait too long to climb aboard can find that they have 'missed the boat'. Thus the above analysis suggests that, although the full nature of an entrepreneurial economy may not yet be clear, if a government wants to encourage and benefit from its development, then it should now consider identifying and revising those laws which may hinder it. If the preponderance, and thus the power, of big businesses are declining then, instead of concentrating of protecting people from that power, it may be more sensible to try to create the right conditions for the economy of the future which will be increasingly dependent on smaller businesses and the self-employed.

Simon Bridge is a self-employed consultant, author of several books on enterprise and a visiting professor at the University of Ulster.


  1. R. S. Edwards and H. Townsend, Business Enterprise: Its Growth and Organisation, (London: Macmillan, 1967)
  2. D. L. Birch, The Job Generation Process, unpublished report prepared for the Economic Development Administration, (Cambridge, MA: MIT Program on Neighborhood and Regional Change, 1979)
  3. D. L. Birch, 'Who creates jobs?' in The Public Interest, Vol.65 (1981) p.7
  4. D. L. Birch, 'Who creates jobs?' in The Public Interest, Vol.65 (1981) pp.5-7
  5. For an account of some of these queries see D. J. Storey and S. Johnson, Job Generation and Labour Market Change, (Basingstoke: Macmillan Press, 1987) Ch.3
  6. A. Toffler, The Third Wave, (London: Collins, 1980)
  7. See, for instance, J. Diamond, Guns, Germs and Steel, (London: Jonathan Cape, 1997)
  8. C. Handy, The Future of Work (Oxford: Basil Blackwell, 1984) p. ix.
  9. D. B. Audretsch and A. R. Thurik, Unraveling the Shift to the Entrepreneurial Economy, Tinbergen Institute Discussion Paper TI2010-080/3 (Rotterdam: Tinbergen Institute, 2010)
  10. D. B. Audretsch and A. R. Thurik, 'Capitalism and democracy in the 21st Century: from the managed to the entrepreneurial economy' in Journal of Evolutionary Economics, Vol.10(1-2), 2000 p.18
  11. D. B. Audretsch and A. R. Thurik, 'What's New about the New Economy? Sources of Growth in the Managed and Entrepreneurial Economies' in Industrial and Corporate Change, Vol.10 No.1, 2001 p.268

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