Readers of this column will not be surprised by the news that the economy as a whole, particularly the Traditional Economy of big hierarchical bureaucracies, is in trouble. The rates of return on assets and on invested capital of US firms are only one quarter of what they were in 1965. The pervasive pursuit of maximizing shareholder value—what even Jack Welch has called “the dumbest idea in the world”—has been systematically destroying long-term shareholder value. Only one in five workers are fully engaged in his or her work, and even fewer are truly passionate about their jobs.
The global economy is undergoing what Tyler Cowen has called “the Great Stagnation,” with the appearance of prosperity achieved only by big companies and banks having access to cheap money from central banks. Former Treasury Secretary Larry Summers has declared that the U.S. has entered a period in which current low economic growth should be considered “the base case for economic planning”: declining levels of investment, spending, consumption and growth are the “new normal.”
But what about the Creative Economy? I have been making the case in this column that the economy of firms focused on profitably delighting their customers through continuous innovation—the economy epitomized by firms like Apple, Amazon, Google along with a myriad startups—is vibrant and growing rapidly.
Business deaths now exceed births
A new study published this week suggests the contrary. According to these numbers, business dynamism in the US has been slowing precipitously over several decades. “The study, by economist Robert Litan of the Brookings Institution and Ennsyte Economics’ Ian Hathaway,” writes Richard Florida in an excellent article in The Atlantic, “tracked two key metrics of ‘business dynamism’—the rates at which firms are created, and the broader metric of job reallocation—from 1978 to 2011. They traced these patterns for the economy as a whole, as well as across states and metro regions. Their evidence suggests that the U.S. economy is indeed less dynamic across all major industries as well as across geographic regions. The rate of new business formation has fallen by almost half since 1978… business deaths now exceed births.”
“The authors caution that their data cover the period through early 2011, so it’s possible that ‘these trends have reversed—or at least stabilized—since then.’... Patent activity has ticked up since the crisis, and venture capital activity has surged in recent years. But there are long lags between the onset of crises and these rebounds in innovation and entrepreneurial activity that power long-run economic growth.”
The end of economic growth?
The new Brookings study ties in with the “end of economic growth” thesis of Robert Gordon of Northwestern University. Gordon questions the basic assumption that “economic growth is a continuous process that will persist forever. There was virtually no growth in Europe between 1300 and 1750, and there is no guarantee that growth will continue indefinitely. Rather…the rapid progress made over the past 250 years could well turn out to be a unique episode in human history.”
Gordon links periods of slow and rapid growth to the timing of the three industrial revolutions. The first Industrial Revolution was that of steam and railroads from 1750 to 1830. The second Industrial Revolution was that of electricity, internal combustion engine, running water, indoor toilets, communications, entertainment, chemicals, petroleum which went from 1870 to 1900. The third Industrial Revolution was that of computers, the web, mobile phones went from 1960 to present.
Gordon sees the second Industrial Revolution as the most important of the three revolutions, and as largely responsible for 80 years of relatively rapid productivity growth between 1890 and 1972. Once the inventions flowing from the second Industrial Revolution comprising airplanes, air conditioning, interstate highways had run their course, productivity growth in the period 1972 to 1996 was much slower than before.
Gordon sees the third Industrial Revolution of computers and the web as creating only a short-lived growth revival between 1996 and 2004. His thesis is that the basic innovations of human life were already completed in the second Industrial Revolution and can only happen once: “urbanization, transportation speed, the freedom of females from the drudgery of carrying tons of water per year, and the role of central heating and air conditioning in achieving a year-round constant temperature.”
Economic growth thus gradually accelerated after 1750, reached a peak in the middle of the 20th century, and has been slowing down since. His thesis is that the economy is moving back to the “normal” state that it was in from 1300 to 1750, namely, zero growth.
The Web has had little economic impact?
I find Gordon’s thesis intriguing but intuitively implausible. His main argument in terms of ground-truthing the counter-intuitive numbers is that the big inventions of our era—computers and the web—have not done much for us. They have improved “education and communications,” but basically, he asks, so what? The fact that any human being can communicate with any other human being on the planet at close to zero-cost is, for Gordon, no big deal. For him, having running water, toilets and air conditioning was much more important.
Gordon's study doesn’t register the major changes that the web has already had on the economy:
- First, it has shredded the vertical value chains of the 20th Century economy, in the process wreaking havoc on middle men, the markups and the margins.
- Second, it has created a vast new set of horizontal value chains, in which millions of people are creating their own virtual meeting places and marketplaces with their own lateral economies of scale.
- Third, it has created a generation of people who began preferring access to ownership, and so stopped buying things.
- Fourth, it has shifted the balance of power in the marketplace from sellers to buyers. Customers have instant reliable information about the choices enabled by globalization and a capacity to communicate and interact with other customers. Suddenly the customer is in charge. Firms can no longer push average products at customers, in the confident belief that sales and marketing will be able to sell them. They now have to figure out what might delight customers and continuously deliver that.
This world has thus become a very different place in the last twenty years, and a much more difficult place in which to make a business profit. Now customers expect “better, faster, cheaper, smaller, lighter, more convenient and more personalized” as the norm. And there are lots of entrepreneurs out there, all around the world, dreaming up ways to do that and then actually delivering it very rapidly, not just in one location, but all at once, all around the entire planet. The Internet becomes an instant delivery mechanism that anyone can access. When that happens, we begin to see the disruption of solid, established businesses happening faster and on a larger scale than was ever before imaginable. “Big bang disruption” is one expressive term used by Larry Downes and Paul Nunes in their book of that name to describe this phenomenon.
So it’s true that business conducted with 20th Century management practices has a problem. A new level of innovation and responsiveness is now required for success.
Measurement problems?
There is one troubling anomaly in Gordon’s otherwise majestic picture of economic history from 1300 to 2100. The period that he sees as having the greatest real change in the economy—from 1906 to 1928—shows up in the statistics as a period of low economic growth. Gordon comments: “The slow growth from 1906 to 1928 is a puzzle and may reflect measurement problems, as this was a period when the second Industrial Revolution had its greatest initial impact in providing electricity, motor cars, paved roads, running water, and plumbing to urban America.”
“Measurement problems”? Could it be that that we are once again living through a period of massive real change, in which there are “measurement problems,” and that economics is adding up the wrong numbers and simply not recording the huge changes under way?
Thus we are living, according to a recent report by The Economist, in “a Cambrian explosion” of innovation. “Digital startups are bubbling up in an astonishing variety of services and products, penetrating every nook and cranny of the economy. They are reshaping entire industries and even changing the very notion of the firm. This digital feeding frenzy has given rise to a global movement. Most big cities, from Berlin and London to Singapore and Amman, now have a sizeable startup colony (‘ecosystem’).”
Not everyone of course is participating in the “Cambrian explosion” of innovation. Publicly-owned firms have become markedly more conservative in their investment plans, and sitting on a great deal of cash, thereby killing the prospects of any economic recovery. And a generation of young people face uncertain job prospects, while being burdened with massive amounts of student debt: in many cases, it’s the meager job prospects and lack of any “career” in a large firm that is driving them towards entrepreneurship.
It’s true that people living in today’s world still have the same “running water, toilets and air conditioning” that they had in the 20th Century. But their lives have been changed in other fundamental ways. For some, access to Wi-Fi is becoming almost a basic human right, as fundamental as food and shelter: it’s an essential connection with the rest of the human race.
Larry Summers himself has noted the anomalies of economics in which a 600 percent increase in the cost of a college education over the last few decades is recorded as “positive economic progress” in the statistics, while the decline in the price of a television set by some sixteen times in the same period shows up as a setback in terms of economic output. Also: isn’t it strange that the economic analysis treats the provision of meaningful work for citizens as a cost, rather than a benefit, for the economy? When you think about it, some of these numbers are really screwy.
Everything we do today is being re-invented—how we live, how we work, how we play, how we communicate, even how we think and how we feel. If economics doesn’t register these changes, then there is something wrong with economics.
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