Economic Organization of the Company Tow

The company town is mainly regarded as a painful reminder of labor abuses associated with an earlier era. Surely there is nothing favorable, much less redeeming, that can be said about such a condition.

Still, company towns were the exception rather than the rule The question, moreover, needs to be asked, why would anyone accept employment under patently unfavorable terms? More generally, what are the relevant contractual alternatives for which a comparative assessment is needed? Inasmuch as the study of extreme instances often helps to illuminate the essen- tials of a situation (Behavioral Sciences Subpanel, 1962, p. 5), an examination of the problems of organization faced by the company town may be instructive.

The issues are addressed in two stages. The first illustrates the advan-tages and the second the limitations of studying economic organization from the standpoint of “contracting in its entirety.”

1. Contract Analysis

Assume die following: (1) A remote mineral source has been located the mining of which is deemed to be economical; (2) the mineral can be mined only upon making significant ivestments in durable physical assets that are thereafter nonredeployable; (3) requisite labor skills are no, firm-specific to any significant degree, but there are set-up costs associated with labor reloca-tion; (4) the weather in the region is severe, which necessitates the provision of durable housing for protection from the elements; (5) the community of miners is too small to support more than one general store; and (6) the nearest city is forty miles away.

I wish to focus on two issues: Should the workers or the mining firm own the homes in the community? And how should the general store be owned and operated? So as to display the relevant features more clearly, two different mobility scenarios will be considered.


This is the pre-automobile era. The firm advertises for workers and describes the terms of employment. Given the remote location, workers will be concerned not merely with wages but also with housing and with the economic infrastructure.

Were the firm to decide to construct housing itself, it could then (1) sell the homes to the workers, (2) rent the homes to workers on short-term leases, (3) write long-term leases with severe penalties for early termination by the lessee or (4) write long-term leases that bind the firm but permit easy termination by the Alternatively, the firm could (5) require workers to construct their own housing.

Given the thin market, workers who constructed their own homes would, in effect, be making firm-specific investments. Lacking contractual safeguards— buy-back clauses (whereby the company guarantees a market in the event of layoff or termination), long-term employment guarantees, lump sum severance awards, death benefits, and the like-workers will agree to make such investments only if offered a sign-on bonus and/or a wage premium. Expressed in terms of the contractual schema in Figure 1-1, that last corresponds to a node B rather than a node C result (which is to say, a w¯ > w^ outcome).

Node B outcomes, however, are notoriously inefficient. The marginal costs of the firm will be driven up by a w wage bargain, whence the firm will make layoffs according to an inefficient criterion. Home designs chosen by the workers will likewise be compromised in consideration of the hazards. The advantages of concentrating all the specific investments on the mining firm are thus apt to be apparent to both parties at the outset (or will become obvious during negotiations). Accordingly, home ownership by the mining firm coupled with efficient lease terms ought to be observed. Option 4—longterm leases that bind the lessor but provide easy release for the lessee—have obvious attractions.

Consider the general store. The leading possibilities here are: (1) The store is owned by the mining firm and (a) operated as a monopoly, (b) placed under a fair rate of return constraint, or (c) placed under a market basket (index number) constraint; (2) a multiyear franchise is awarded to the highest bidder, the receipts from which bidding competition are (a) paid to the company treasury, (b) divided among the initial group of workers, or (c) placed in a money market fund and paid out to customers over the life of the franchise in proportion to purchases; and (3) the store is owned and operated by the workers as a cooperative. Although none of these is unproblematic, options 2c and 3 have much to recommend them.18 Whatever the determination, the more general point is this: The wage bargain to which the workers agree will be conditional on, rather than independent of, the way in which the general store is owned and operated if, as assumed, contract realizations reflect all of the salient features— of which the ownership and governance of the general store are plainly germane.


The appearance of the automobile, mobile homes, home freezers, mail order houses, and the like greatly relieve the contracting difficulties of the premobility era. The need for site-specific investments in homes is alleviated by the invention of suitable assets on wheels, which is what the mobile home option represents. Exclusive reliance on the general store is relieved by the possibility of shopping at a distance, which cheap transportation to the nearby city and purchases from mail order houses permit. Changes in markets and technology thus have sweeping contracting ramifications. In effect, a viable node A alternative has been introduced into what had previously been a contractually complicated node B/node C choice set.

To be sure, remote mining communities may present still other issues for which careful comparative institutional assessments will be needed. Plainly, however, contractual strains of the earlier era are greatly alleviated by the mobility that assets-on wheels and competition permit.

2. Some Reservations 

If contracting in its entirety reliably obtains, then an efficient configuration of wages, home ownership, company store operations, and the like will appear, whatever the mobility condition of the population. What then explains the widespread discontent with the organization of company towns in the pre- mobility era?

There are two leading possibilities. One is that students of company towns have not performed the relevant comparative institutional tests. Rather than describe and evaluate the actual set of contractual choices from which company town organization is constrained to choose, company towns are compared instead with noncompany towns. Unsurprisingly, company towns fare poorly in the comparison. Inasmuch, however, as such a comparison is operationally irrelevant, it is wholly unhelpful to an understanding of the organizational problems with which the company town is faced.

The second possibility is that, especially in the context of labor market organization, contracting in its entirety is rarely realized. Company towns would be a good deal less objectionable if they were actually, organized along efficient contracting principles. But what company store was ever organized as a cooperative? A chronic problem with labor market organization is that workers and their families are irrepressible optimists. They are taken in by vague assurances of good faith, by legally unenforceable promises, and by their own hopes for the good life. Tough-minded bargaining in its entirety never occurs or, if it occurs, comes too late. An objective assessment of employment hazards that should have preceded any employment agreement thus comes only after disappointment. “Demands” for redress in those circumstances are apt to be regarded as a bluff—based, as they are, on weakness. Collective organization may help, but it entails a struggle. Ensuing settlements may stanch the losses rather than effect a transfusion.

I submit that both factors contribute to the low opinion with which company towns are held. As stated at the outset, however, this book does not attempt a comprehensive treatment of all the relevant factors. Instead, I con- sistently assume that the parties to a contract are hard-headed and that the ramifications of alternative contracts are intuited if not fully thought through. This often sheds insights, but not without cost. Omissions and distortions sometimes result. Such costs are less severe, I believe, where commercial contracting practices (including vertical integration and supporting internal governance structures) are under review than when labor market organization is being studied. In any event, my emphasis on previously neglected transaction cost features is meant to redress an earlier imbalance. I fully concur that complex contracting will be better understood if examined from several well- focused perspectives.

Source: Williamson Oliver E. (1998), The Economic Institutions of Capitalism, Free Press; Illustrated edition.

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