Financialization as recombination: Bureaucracy and neo-patrimonialism on Wall Street Fabien Foureault, senior SNSF researcher, sociology, University of Lausanne Lena Ajdacic, junior SNSF researcher, sociology, University of Lausanne Felix Bühlmann, associate professor of sociology, University of Lausanne Correspondence: Fabien Foureault Quartier UNIL-Mouline, Bâtiment Géopolis, Bureau : 5516 CH-1015 Lausanne, SWITZERLAND Phone: +41 21 692 32 16 [email protected] 1 Financialization as recombination: Bureaucracy and neo-patrimonialism on Wall Street Abstract Finance is widely seen as a driving force of modern capitalism, a progress of organizational rationalization, and scaffolding for meritocratic elite reproduction. Using Orbis data on over 28,000 US financial firms, and sociodemographic data on 806 founders and managers in key firms, we show that neo-patrimonial elements, such as hybrid legal forms and trust relationships, are spreading within finance. Our findings show that hedge and private equity funds rely heavily on secretive hybrid forms in which “elite white men” benefit from baked in advantages. Financialization is not a modernization process but a recombination of bureaucracy and neo-patrimonial logics. 12 310 words 2 Introduction Modernization narratives, rooted in the theories of the founding fathers of sociology, crystallize sociological conceptions of social change to date. In these conceptions, a master process leads to the replacement of one social order by another. For Marx (1998), the development of productive forces leads to the replacement of capitalism by communism; for Durkheim (1997), the increasing division of labor in society leads to the replacement of mechanical by organic solidarity. For Weber (1969) – who represents the starting point of this study ̶ the rationalization of social processes leads to the replacement of traditional domination by rational-legal domination. Twenty-first century social scientists apply the modernization scheme to describe the most recent changes in the capitalist system: the financialization of the economy. Nonetheless, this modernization narrative is inadequate. Financialization can be defined as “the increasing role of financial motives, financial markets, financial actors and financial institutions” at the level of societies, businesses and households (Epstein 2005:3). Proponents of the modernisation perspective can be found in the field of social studies of finance because they understand financialization as a process of accelerated rationalization and automatization (Knorr-Cetina and Bruegger 2002). To them, financial markets are the pinnacle of capitalist modernization. In the same vein, institutionalist authors see the evolution of capitalism as a chronological succession of phases with financialization representing the most advanced and rational stage of capitalism (Bacharach and Mundell 2000; Useem 1999). In this perspective, financialization, enhanced the ongoing bureaucratization of organizations. It led to a shift in the reproduction of economic elites towards meritocratic principles and favored the standardized distribution of rewards. In consequence, the traditional and responsible capitalist class was replaced by a 3 diverse set of elites motivated only by financial performance (Bacharach and Mundell 2000; Folkman et al. 2007). This view of “modern” finance-led capitalism is challenged by authors such as Piketty (2014), Lachmann (2011) or Tilly (2003). They argue that family ties, class solidarity and trust – so-called patrimonial elements – have made an important comeback in contemporary capitalism. Recent research reinforces this standpoint. The finance industry, at the center of financialization, relies heavily on partnerships and hybrid forms of organizations (Froud and Williams 2007; Soener and Nau 2019). Hybrid firms lack standardization and legal oversight, and thereby diverge substantially from the modern ideal of bureaucratic organizations. Because these firms lack formal procedures for promotion and leadership succession, the financial sector entrenches elite reproduction based on trust networks and master- apprenticeship ties, a logic which stands in contrast with the modern idea of meritocratic selection principles (Soener and Nau 2019; Tobias Neely 2018). Finally, authors highlight that instead of using salary as the standard of pay, most actors in the financial sector use compensation models which facilitate disproportionate value extraction by a small number of people (Hacker and Pierson 2011; Kaplan and Rauh 2010). Our article contributes to this debate by framing capitalism as a system that relies on competing institutional logics – bureaucratic and neo-patrimonial – promoted by elites and executed by organizations. The surge of neo-patrimonialism must be understood as an outcome of wealth extraction strategies by groups of actors who saw their social status threatened by the very process of rationalization which seized the US banking sector from the early 1970s. Paradoxically, the spread of the neo-patrimonial logic within the financial sector was driven by the initial expansion of bureaucracy. We argue that to date, neo-patrimonial logics are an integral part of US finance and co-exist with modern, bureaucratic logics within the capitalist system. 4 We evidence our argument in three steps. First, we hypothesize that partnerships and hybrid organizational forms – such as limited liability companies (LLCs) and Limited liability partnerships (LLPs) ̶ have become increasingly important in specific segments of the finance industry (private equity and hedge funds) but not in others (banking). This divergence indicates a polarization between the bureaucratic and neo-patrimonial sectors within finance. Second, we posit that the founders of these neo-patrimonial firms are disproportionally sourced from traditional elite groups (male whites with high social status). These groups have both the resources (in terms of networks and wealth) to found these new financial firms, and a feeling of being threatened in their elite status by the bureaucratized modernization of finance. Third, we argue that even in 2018, top managers who are male, white and enjoy elite social status, tend to get preferentially selected in hybrid organizational firms compared to public firms. We posit that the reason is that these hybrid organizational forms recruit people according to principles of trust and social similarity. Our analyses draw on firm-level Orbis data to locate LLCs and LLPs within the financial industry, and on a stratified sample of 806 individuals, who in 2018 occupied top positions in the 40 largest organizations in key segments of the US financial field (investment banks, hedge funds, private equity and asset management firms). Overall, our results confirm that hybrid firms are dominant and increasing in hedge funds and private equity. Moreover, “elite white men” are over-represented among founders and top managers within hybrid organizations, holding constant their educational backgrounds and social networks. We conclude that the modernization of finance is accompanied by the emergence of neo- patrimonialism. Contemporary finance combines both bureaucratic logics (especially in asset management and investment banking) with neo-patrimonial logics (in hedge funds and private equity). 5 This paper is organized as follows. First, we review both modern and traditional narratives of capitalism and show how they apply to financialization. We then provide a theoretical narrative which combines both to propose three hypotheses addressing the organizational and the individual level. After a presentation of our data and methods, we show the results and illustrate our argument by identifying the most and least neo-patrimonial organizations in the sample. The article is completed by a discussion of the theoretical implications of our findings for the narrative of financialization as modernization. 1. Theoretical background 1.1. Capitalism: modern or traditional? Two perspectives on capitalism can be distinguished: one that considers it as a quintessentially modern phenomenon, and one that views it as grounded in a traditional order. The modernization perspective defines capitalism as an economic system in which the search for profit occurs in increasingly rational and bureaucratic firms operating in highly competitive markets. Not only Weber (1969), who most prominently championed the idea of rationalization, but also Marx (1998) saw the constant evolution of productive instruments, based on knowledge and science, as a core component of modern capitalism. Over the 20th century, Weber’s conceptions of modernization were further developed by “managerialist” (Berle and Means 1991; Burnham 1941; Chandler 1977) and “industrialist” (Bell 1973) authors, who aimed to describe the transition from small family firms to large and capital- intensive corporate enterprises. This transition, as the authors observed, was marked by the spread of rational, modern principles that transformed corporate governance during the 20th century: stock ownership broadened, ownership and control of firms divided, and salaried managers gained power over property owners. 6 A focus on the advent of bureaucratization within firms is vital to viewing capitalism through a modernization lens. Ideal typical bureaucratic organizations operate according to impersonal and “rational-legal” criteria for retribution. Career advancement and leadership succession in bureaucratic organizations operates