Resolving the Capitalist's Dilemma

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Resolving the Capitalist

Throughout its history, the U.S. economy has been remarkably resilient. According to research by the McKinsey Global Institute, after each of the seven recessions between 1948 and 1981, the employment rate always bounced back to its previous high within six months.1

But something has changed, and that pattern has been broken. After each of the last three recessions, it has taken increasingly longer for companies to resume hiring. Yet, despite the fact that the last recession ended roughly four years ago, the jobs still haven't come back.

What happened? Although a number of theories for the so-called "jobless recovery" have been advanced, including economic uncertainty, tight credit, and increasing automation, the most compelling argument comes from Clayton Christensen and Derek van Bever of Harvard Business School. After crowdsourcing the topic on the OpenIDEO forum, they gathered the input of hundreds of Harvard alumni who are in leadership roles in a variety of industries.2

Based on this evidence, they assert that the main problem is that companies are focusing on the wrong kind of innovation. Specifically, the metrics that the financial markets use encourage senior managers to invest in the types of innovation that destroy jobs, rather than the type that creates jobs.

In order to understand this idea, we need to briefly examine three types of innovations and how they affect economic growth.

  1. Performance-improving innovations are those that substitute a new, improved product for an existing product. This is a zero-sum game, because the customer typically won't buy the old product and the new one. For example, a person who buys the latest model of the iPhone purchases it instead of, not in addition to, the previous version. The impact on jobs is small; typically the same number of employees is needed to make the new product as the old one.
  2. Efficiency innovations, by contrast, often lead to job losses. These are innovations that enable businesses to produce and market existing products or services to the same customers at lower prices. When companies outsource functions to low-cost providers, or automate a process, they need fewer employees to deliver the same value to customers. Because this type of innovation lowers costs, it frees up vast amounts of capital for the company to spend elsewhere...

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