Complexity and Comparison
1. Preindustrial manufacturing
Preindustrial Europe: general features
Preindustrial Europe was not a homogeneous entity, although all the European countries had certain
aspects in common. The primary sector pervaded: according to some calculations, 80 to 90 percent of
Europe’s total gross domestic product (GDP) came from agriculture, and the vast majority of the population
(probably as much as 70 percent) worked directly in farming. Mobility was relatively low, as were levels of
Urbanization. While tradition was powerful throughout, these economies were certainly not static. Their
growth rates, which varied, were not comparable with what followed the outbreak of the Industrial
Revolution, but all were changing. The total population of Europe increased from around 57 million in ad
1500 to 132 million by the end of the eighteenth century.
These figures are symptomatic of relatively rigid, pyramidal societies with highly unequal distributions of
income. Although there were some improvements in agricultural techniques (draining of swamps, for
instance), the production of food was increasing slowly, along with the population. The economy gradually
became more dynamic; here, one can point to important innovations in agriculture and actually speak of a
first “Agricultural Revolution.” Europe as a whole was starting to experience the initial short steps toward a
long-term process of cumulative economic growth. The resulting rise in aggregate demand encouraged the
development of long distance trade, which was also facilitated by technical improvements in sailing ships
and shipbuilding.
Manufacturing typologies
The putting-out system
In the rural arena where autarchy prevailed, manufacturing created enterprises that took different forms
depending on the location of the activity, the industry, and the degree of specialization of the labor force. It
is especially important to differentiate between those activities located in the countryside and those
performed in urban areas. The nature of the countryside economy had an important influence on the form
and nature of the firm itself. The peasant world consisted of small households in which families of peasants
and, less frequently, artisans ran productive activities with sporadic contacts with the market. Some areas
consisted of relatively closed economic systems that were based on self-consumption and an almost total
absence of market transactions and specialization. Thus, the countryside was an important repository of
surplus labor. The rural poor usually dedicated a significant part of their working time to activities outside
the primary agricultural sector. The presence of a cheap, flexible, and docile workforce encouraged
manufacturers to push their operations into the countryside. To do so, they developed the putting-out
system, based on a hierarchical, but flexible, architecture. At the top was a “master,” or a “merchant
entrepreneur,” who was the owner of the raw materials (circulating capital). This person usually
coordinated a network of cottage workers who performed some phases of the production processes (e.g.,
spinning and weaving in the textile field) in their homes. The merchant entrepreneur directly controlled the
activities with higher capital intensity or increasing returns to scale. The putting-out system was in use in
many industries, but above all in textiles where it was easy and relatively efficient to break down the
separate functions in the production process. As the production unit was located in the household, the
workers were in effect supplying the enterprise with cheap, easy-to-maintain fixed capital. In textiles, for
example, the workers used and owned their hand-operated, wooden looms.
There were of course some hidden costs in this system. As with any decentralized organization, there were
agency and transaction costs, which increased proportionally with production growth. The merchant had
almost no control over either the quality of his product or the efficiency and reliability of his labourers, who
were paid on a piece-rate basis (i.e., according to the quantity of items produced. The system could, as
well, have delayed and maybe even prevented the introduction of the more advanced production
techniques associated with the factory system.
Craft production in the countryside and urban settings
Although the putting-out system and the domestic, decentralized networks were the most common ways
of organizing the production of consumer goods, craft production played a lesser but nonetheless
important role. Craft work, which was characterized by a higher level of sophistication, employed skilled
labourers in industries with relatively high value added. There was a higher degree of specialization and
capital intensity among, for instance, metalworkers, cobblers, gunsmiths, and tanners. Often these
industries were located near the source of raw materials and where energy—in the form of water, wind,
wood, or coal—was cheap and easily available. Consequently, clusters of skilled craftsmen set up highly
specialized production systems in particular geographic areas, sometimes in the countryside and
sometimes in urban locations. The internal organization of the “representative” production unit was quite
simple and based on a rigid hierarchy. The master, with some apprentices, managed all of the processes of
production in a shop of which he was the owner. His workplace was often connected to his household. The
apprentices learned the secrets of the profession on-the-job, and after a long training period, they were
able to become masters themselves and start their own businesses. In cities, the craft system was typically
limited to the production of high value-added items such as gold and jewelry, hats, leather, and shoes, as
well as other durable goods that were produced either for the urban market itself or sold directly to
powerful customers such as the king, the government, the aristocracy, or the army. In the larger urban
areas where the market was more substantial, some of these craft shops developed a more numerous
workforce and a higher degree of complexity. But for the most part, craft shops were very simple
organizations. Because the master owned the fixed capital and the raw materials, he was solely responsible
for marketing the goods and performing other business functions associated with the commercialization of
the products. He paid his workforce on a piece-wage basis.
The master and the shop were normally part of a complex organization, the guild, that was based on
particular types of work. rigid organizations, were based on detailed sets of written rules. The rules
determined the quality and quantity of the goods produced in a given city. Guilds also set the prices that
masters could charge, resolved conflicts between members, controlled internal regulatory standards,
organized apprentice training, and judged the process by which apprentices were promoted to master
status. Monitoring costs were reduced because guilds legally required their members to live within city
limits. The main goals of the guild system varied according to the location and to the guild’s particular
political agenda. Guilds had many advantages: they were quasi-enterprises that organized labor and capital,
regulated craft activities, and managed human capital formation and quality control. They were successfully
able to monitor both the skills of the labor force and the production standards of their industry. They
accomplished this mainly by restricting entry into the labor market through their long-term training
process. This in turn helped to lower the customers’ information costs. The guild system was based on the
single shop, characterized by a low degree of specialization among its extremely skilled members.
these benefits were overshadowed by several important disadvantages. Like most monopolies, the guilds
restricted production and demand by maintaining relatively high prices. They normally inhibited
technological innovation by controlling techniques of craft production. Because the guild system was
conservative, innovation was discouraged. The introduction and diffusion of technological improvements
was a threat. Labor division on a systematic scale was not the modus operandi of a guild master’s shop. The
apprentice was by definition trained in “all the secrets of the job,” as was commonly said, with a “general
purpose” approach. The master himself had to demonstrate his ability to manage the entire production of a
single item. Compared with the putting-out system, guilds were more inclined to constrain output.
Theoretically, higher volumes of production could be achieved at the single-shop level simply by adding
units of labor. However, this was not possible because of guild rules that regulated how many apprentices
each master could train. At an aggregate level, increased production volumes could be reached by
admitting more masters to the guild. But the guilds leaned against creating this kind of competition.
Because guild craftsmen produced largely for the wealthiest part of society or for the Crown, consumption
patterns for the entire society were not significantly impacted by guild controls. Thus, the system could
insulate itself, to a considerable degree, from the fluctuations in demand that were characteristic of the
rest of European society.
“Big business” before the Industrial Revolution
Large-scale enterprises with large numbers of workers and high capital intensity existed before the
Industrial Revolution. “Manufactories” was a term commonly used to describe a concentration of labourers
working in the same place, “under the same roof.” Can these precursor firms be compared with the big
businesses that followed centuries after? Some scholars have argued that the rise of the factory was a
consequence of the concentration of large numbers of workers in firms like the manufactories. The factory
system, they contend, cannot be traced to the technological shifts of the First Industrial Revolution. As they
point out, many of the large, preindustrial plants developed relatively sophisticated methods of reporting
and accounting, both of which were introduced to manage their complex production processes. In other
manufactories, the workforce was more concentrated. For instance, in the iron smelting, shipbuilding, and
construction fields, it was not possible to operate economically either on a small scale or from a workshop
or household (Mokyr 2002). In mining, the nature of the activity itself forced a concentration of workers in
a single place. Some of the phases of production in the textile industry (like dyeing or calico printing) also
had to be performed in centralized plants.
These, for the most part, were either totally or partially owned by the merchant. It was important that
most of these preindustrial large firms enjoyed a privileged and monopolistic position. When not directly
interested in the business, the government or more often the Crown granted patents to private
entrepreneurs. This protection was given in order to stimulate the establishment of factories and plants
specializing in the production of particular types of goods.
There were various motivations for this strategy, ranging from the necessity to secure the supply of
“strategic” items. As this brief survey suggests, large plants and centralized production facilities existed as
independent forms of manufacturing in only a few cases. Most often, the central organization
complemented the much more diffuse putting-out system. Where there was a concentration of employees,
coordination and organization were extremely rudimentary because these plants were made up of groups
of craftsmen, rather than a coordinated assembly of skilled or unskilled workers. For the most part,
manufactories were thus organizations ancillary and complementary to the prevailing pattern of
production based on the domestic system, rather than a fundamentally different way of coordinating
capital, resources, and labor.
2. Enterprises and entrepreneurs of the First Industrial Revolution
The First Industrial Revolution transformed the world economy, gave business leadership to Great Britain,
and launched the world’s first long-term change in population dynamics. Compared with contemporary
rates of economic growth, and especially with those of rapidly developing economies such as China’s, the
statistics for Europe may not seem especially remarkable.
However, if you compare them with those of the preindustrial world, which relied extensively on the
agricultural sector, the numbers are quite impressive. A seemingly small difference in the rate of growth
between Great Britain and the rest of Europe and between Europe and the rest of the world constituted a
truly revolutionary transformation with formidable consequences for the economic and political relations
between nations and regions.
The British exception
What made Great Britain’s economic performance so outstanding during the decades following the
Napoleonic Wars was not just the rate of economic growth. What was outstanding was also the way in
which Britain’s growth took place and made it different from the rest of Europe and the world. For the first
time in history, the main source of the “wealth of the nation” was to be found outside agriculture and its
related commerce. Now the heart of the economy was manufacturing. The real difference between Great
Britain and the other countries was in the contribution of this rapidly expanding macro sector to gross
product and value added, and the resulting redistribution of the workforce. the percentage of the British
male labor force employed in agriculture in 1760 was approximately 53 percent, compared with the
European norm of 66 percent. The percentage of income derived from the British primary (agricultural)
sector was 37.5 percent, whereas the European average was 46.6 percent. Eighty years later, agriculture in
Britain employed slightly more than one-quarter of the male workforce (against a European norm of over
55 percent), whereas the primary sector only contributed 25 percent of total income (in Europe the
percentage was nearly 40 percent). During the same period in Belgium, France, and Germany—three of the
most economically advanced European nations—the percentage of the labor force employed in agriculture
was still either at or above 50 percent. Continental Europe eventually followed the British pattern, but the
pace of growth varied from country to country and sometimes the transition to manufacturing was
considerably delayed. By the end of the nineteenth century, the percentage of the labor force working in
agriculture had fallen to less than 50 percent in Belgium, Germany, Denmark, the Netherlands, Switzerland,
and France. In the peripheral European countries—such as those in the Mediterranean areas and in
Scandinavia—agriculture continued, however, to be the main source of employment. For the first time in
history, a number of European countries enjoyed a stable position in the international market, thanks to
their productive specialization in manufacturing. They were now able to finance large imports of goods
produced in other countries or regions. This was particularly evident in Great Britain, where the process of
economic specialization (in cotton and wool textiles, metalworking, and mechanics) was well advanced and
the economic relevance of agriculture correspondingly reduced. In a society in which land holding and
tenant farming had long been the basis of the social and political system, this was a truly revolutionary
change.
Structural change and the British competitive advantage
The structural transformations that changed the rates of growth, patterns of development, and competitive
advantages for European countries were rooted in radical transitions both at the “meso” level—that is, that
of industries—and at the micro level of firms.
In manufacturing, product innovations and new ways of organizing the production process accelerated the
rate of growth in particular industries. New technologies were especially important in some branches of
textiles, mining, metalworking, and light mechanical equipment, all of which became core industries in the
British transformation. Water power continued to be the primary source of energy for many decades, but it
was supplemented increasingly by the steam engine, a powerful example of a general-purpose technology
with a broad range of applications. The introduction and diffusion of the steam engine—together with an
increase and improvement in the use of water power—provided manufacturers with cheap and efficient
energy. In the case of the steam engine, for the first time in history no animated energy could be
transferred relatively easily from one place to another. This had an impact on
efficiency and the reduction of location cost. In textiles, and particularly in cotton manufacturing,
technological innovations in both spinning and weaving improved the industry’s productivity enormously.
Efficiency more than tripled in textiles during the last quarter of the eighteenth century. From 1760 to
1770, this figure jumped to nearly 5 percent and to an outstanding 12.76 percent for the decade from 1780
to 1790. The same phenomenon could be observed in iron, steel, and coal, where innovations in the
smelting process and extraction techniques increased both the output and productivity of the entire sector.
The cluster of innovations characterizing the early phase of the First Industrial Revolution in Britain could
be traced to a series of factors that were economic, cultural, institutional, and legal. Britain already had a
strong commercial sector with significant capacity for distributing goods and extending credit. There was as
well an “industrial enlightenment,” that is, a cultural climate generally favorable to science, innovation,
experimentation, and new practices. This created a positive framework for inventors, technicians, and
entrepreneurs who were willing to make profits by putting into practice the “useful knowledge” they had
developed or learned from others. The legal protection of intellectual property (patents) also added an
incentive for invention and innovation.
By 1851, the year of the Great Exhibition at the Crystal Palace in London, Britain was undoubtedly the most
advanced industrial nation in the world. Following a century of significant innovation in its core industries,
Britain, the so-called workshop of the world, offered a powerful example of how to achieve comparative
advantage. The British, who took Adam Smith’s lessons seriously, exported manufactures and imported the
food and raw materials that could be produced cheaper elsewhere. during the first half of the nineteenth
century, manufactured goods consistently accounted for 80–90 percent of British exports. The most
important products continued to be textiles (woollen and cotton) and metals. In the case of cotton, more
than half of the industry’s gross total output was sold abroad, and during the first half of the nineteenth
century, exports of cotton goods came to constitute nearly half of all British exports. Also interesting is the
dynamic pattern of increasing foreign trade in metals. The share of all metal industries in exports of
manufactured goods increased from 12 percent at the end of the Napoleonic wars to more than 25 percent
in the 1850s. The main shift was in the composition of metal exports: finished metals gradually gave way to
machinery and engineering products, the high-tech products of that age. Britain was building a powerful
export sector while it was offering to sell to other nations the machinery and methods that were providing
its competitive advantage.
From macro to micro: entrepreneurs and enterprises
The composition of what has since been labelled “the entrepreneurial class” varied from country to
country, according to an array of institutional, historical, and cultural factors. In many cases, culture and
institutions appear to have made the difference, especially when they provided a good framework of
available financial resources or legal protections of intellectual property, as was the case in England. Social
values and cultural attitudes that approved of individual initiative also helped encourage the kind of
behavior that fostered innovation. Other kinds of incentives, including social acceptance of the
entrepreneurial status and nationalism, could also encourage entrepreneurship.
For many, entrepreneurial status provided a powerful instrument of upward social mobility, something
relatively new in degree in most European societies. In the British “entrepreneurial crowd” of the First
Industrial Revolution were those artisans and masters who transformed their shops into factories and
enlarged the range of their business activities from local to regional, then national and even international
levels. Significant is the case of Josiah Wedgwood, one of the most famous British entrepreneurs. Born in
1730 into a family of masters and artisans in the pottery industry, he successfully transformed the small,
traditional family business into a formal, carefully organized firm characterized by a division of labor, high
volumes of production, and modern marketing techniques. This allowed Wedgwood and his partners to
establish a leadership position in the pottery industry throughout Europe.
In addition to artisans, the new entrepreneurial class included a large number of former shopkeepers and
merchants, the same “merchant–entrepreneurs” who were the most dynamic component in preindustrial
manufacturing. On occasion, entrepreneurs came from social classes not normally associated with this style
of risky business. Many noblemen and landowners looked suspiciously at the process of change but others
mixed business opportunities with traditional activities. These men continued to manage large estates
while promoting investments in mining or building capital-intensive infrastructure (canals, toll roads, and
later railways) that would provide a necessary link to new Markets. Much further down the social scale was
an instrument-maker like James Watt. He set himself, as did others similarly situated, to exploit the results
of his research. Watt and others could patent their inventions and sell them through commercial
partnerships. Watt’s use of the efficient system of intellectual property protection allowed him to succeed
in developing the steam engines so important as industry outgrew the sources of waterpower. The help of
investors involved as financial partners allowed him, and many others, to raise the capital necessary to
transform their inventions into important innovations.
The company of the First Industrial Revolution: ownership, control, and management
The Industrial Revolution not only led to the emergence of a more diverse array of business people but also
necessitated finding and managing a quantity of fixed assets and a labor force that were normally larger—
and in a growing number of cases considerably larger—than they had been in the past. New technologies
and the enlargement of markets revolutionized the unit of production, which in turn opened up new
challenges and choices for the entrepreneurs.
It is nevertheless inappropriate to overemphasize the extent of these increases in the scale of activity and
in the organizational and managerial complexity, or to claim that they were the experience of the “average”
factory in the First Industrial Revolution. This is especially true if it is compared with what happened during
the truly capital-intensive Second Industrial Revolution. Although it was crucial to the history of economic
development, the factory of the First Industrial Revolution was relatively small and usually retained only a
few dozen employees. The relatively small size of the factory meant that necessary financial resources
could, in many cases, be provided by individuals of moderate wealth and good connections. The main
consequence was that ownership and control of the company generally remained in the hands of the
founders and their families; absence of the joint-stock company. and other systems of limited liability, the
“partnership” became the legal device that allowed for the association of other individuals with the
company’s founder/owner. The partner(s) usually provided the firm with additional capital. Management
and ownership rested with the founder/owner and this person sometimes delegated tasks to other family
members or partner(s). More often, however, the support provided by some “foremen” was sufficient.
These individuals were responsible for organizing the factory’s working hours and timetables, managing
workers’ behavior inside the factory, and ensuring the proper use of machinery and raw materials. These
foremen were almost never asked to manage autonomously the production process. As a rule, the
entrepreneur was responsible for almost all the crucial company functions, from strategic decision making
to day-to-day management.
The company of the First Industrial Revolution: characteristics of the production process
The new technologies employed in the leading sectors generated few scale effects and throughput
economies. In the case of textiles, for example, innovations tended to cluster around single stages of the
production process (e.g., spinning), without changing the manner in which the products moved through the
entire process from raw material to finished cloth. Innovation in one stage of the process, for example the
various technical changes in spinning machines, created bottlenecks and pressured the firms to introduce
innovations in weaving. Although this “innovation plague” encouraged innovation over the long term, it did
not necessarily foster integration in the various stages of production. In the case of textiles, the production
process thus remained fragmented. Even if thoroughly mechanized, it was carried on within separate,
functionally distinct units. In metallurgy, too, and foremost in machinery, a disconnected process of
production, separated into phases, was the rule. Many entrepreneurs (whether alone or in partnership)
had multiple factories under their control. If these factories operated in stages, it was possible to achieve
some degree of vertical integration. But this type of business integration was of a legal rather than
technical nature. The lack of coordination between the stages of production was also fostered by the
tendency for similar units to cluster in the same geographic area. There were proximity advantages: these
included benefits derived from having a fast flow of goods and services, as well as a plethora of skilled
workers (the best vehicle for the dissemination of knowledge and innovations). Geographical proximity
allowed companies to lower the cost of information and share knowledge more efficiently. Relatively small
production units characterized by simple cost structures were seldom able to have any influence on price
levels. They operated in a setting characterized by continuous flows of information and knowledge and
were thus the real version of the “representative enterprise” described by the British economist Alfred
Marshall (see Chapter 2). This type of firm and industry could be found in famous territorial clusters such as
the textile area around Manchester. News travelled fast in an industrial district, where technological and
market information was “in the air.” Industrial districts with these features could be found almost
everywhere in Europe during the diffusion of industrialization. Often, their emergence was linked to
manufacturing activities that had flourished in the preindustrial period but were now being transformed by
new technology and new forms of business organization. Even in the era of the factory, however, such
previous forms of manufacture as the putting-out system and the artisan shop had not disappeared
entirely. But now these older forms of manufacture had to adjust to the competition of the low-priced,
standardized goods pouring out of the new organizations in the manufacturing sector.
Trade and markets
The transformation of production forced a difficult redefinition of distribution and marketing functions.
What emerged were forms of business for marketing and sales that were not historically associated with
the activities of the merchant entrepreneur. To manage relationships with the market, it was now
necessary to build efficient networks of agents, representatives, or even independent but associated
