A Bright Future for Destruction

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What drives progress?

The answer is simple. And it probably won’t surprise you.

But it’s hard to focus on progress when all you see is regression.

The Financial Times headlines, “Italy turns to China for help in debt crisis”.

The Age says, “Retailing to go from ‘bad to worse'”.

And Bloomberg News reveals, “BofA [Bank of America] to Slash 30,000 Jobs in Cost-Cutting Plan”.

Every way you look, you see destruction… job cuts, companies going bust and countries borrowing and begging from other countries.

Things look bad. And if we’re honest… it is bad.

But among the gloom, there’s something to look forward to.

It’s this…

No progress without destruction

Progress needs destruction. We know that may sound weird, but it’s true. Throughout history all improvements to human life have come as a result of destruction.

We’re talking about entrepreneurs coming up with new ideas, products and services that replace existing ways of doing things.

It’s destruction caused by creation.

In this case it’s where the destruction hits an established business. Now, the business isn’t necessarily doing something bad. It’s just that entrepreneurs always look for ways to make a profit.

If there’s no way for new firms to make a profit with an established product, an entrepreneur will find a way with another product.

The technology sector is a perfect example.

When new technology is introduced it will typically have high profit margins. This is because it’s new and the firm has invested a lot of money in it. So, in order to make money the firm charges a high price.

It’s a risk, because there’s no guarantee consumers will pay the high price. But if they do, the technology firm is on a winner… and the profits start racking up.

But there is a downside for technology leaders. High profits act as a signal to competitors. This causes competing firms to enter the market to get a cut of the action.

And because the established and new firms want to gain market share (and profits), the inevitable result is a race to the bottom as they undercut each other… prices and profits are slashed. This is, of course, great news for the consumer.

And it’s good news for progress and creative destruction too.

Why?

Searching for profits

Because at some point it becomes unattractive for new players to enter the market. Start-up costs and low profit potential means entrepreneurs will look elsewhere. Simply put, the “high profit signal” isn’t flashing anymore.

But that doesn’t mean progress stops. Entrepreneurs will just look for other ways to make money. And so the search for profits leads entrepreneurs to come up with newer ideas… something else that could shake up the same or a different industry.

Take television manufacturing as an example. The last 10 years has seen the industry go through several phases: old style CRT… rear projection… plasma… LCD… LED LCD… 3-D LED LCD… Smart 3-D LED LCD… what comes next?

For all we know, the “next” may have already happened but we haven’t seen it yet!

As each technology appears you see a wave effect in prices. Plasma TV prices were high until LCD TVs came on the scene… then they dropped. But as soon as LED LCD TVs appeared, standard LCD prices fell too… LED had become the new premium product.

We use this example because it’s the most obvious and visible. But this is what happens all the time. And not just in the technology sector. It happens with any industry.

But in order for progress to advance, you need an environment where entrepreneurs can flourish. Without it progress stops.

For years, Western governments have meddled with the free market. Erecting barriers to entry to keep entrepreneurs from destroying established businesses with new innovations.

That doesn’t mean entrepreneurialism is dead. It’s just harder to find.

But maybe it won’t be that way for long.

Looking forward to the future

A positive from the disaster happening in Europe and North America is the experiment of allowing governments to steer national economies is proving more of a failure as each day passes.

The destruction of national economies in Europe is painful. But the upside is it’s purging economies of welfare dependency and that should result in smaller governments.

And that’s why, in the long run we’re positive about the future.

The reversion to smaller governments will allow an altogether more positive type of destruction to take hold – creative destruction.

Old ways of doing things – ways created by the State – will be cast aside and replaced by the next breed of entrepreneur. One who can make profits without fear of government taxing away their gains.

This won’t happen overnight. But ultimately, we’ve greater faith in the abilities of entrepreneurs than we’ll ever have in the abilities of meddling bureaucrats.

Cheers.
Kris

Kris Sayce
Kris Sayce, dubbed the ‘Jeremy Clarkson of Australian finance’, began as a London finance broker specialising in small-cap stock analysis on London’s Alternative Investment Market (AIM). Kris then spent several years at one of Australia's leading wealth management firms. A fully accredited advisor in shares, options, warrants and foreign-exchange investments, Kris was instrumental in helping to establish the Australian version of the Daily Reckoning e-newsletter in 2005. He is currently the Publisher, Investment Director and Editor in Chief of Australia's most outspoken financial news service — Money Morning.
Kris Sayce

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Comments

  1. Ah the benefits of a smaller State! No police, no prisons, no laws, just a man and his gun!

    Philip Coggan
    September 13, 2011
    Reply
  2. Actually police and prisons would probably remain – its all the other things that need to go i.e. welfare dependency for people / businesses and industries (#1 being the finance industry)/other governments, most forms of taxation and wealth transfer that encourage leachers and discourage entrepreneurs.

    Reply
  3. Indeed, no progress without destruction. But those being destroyed will resist, as have the media and music businesses, the book people etc against the tide of digital destruction. The vested interests that have the levers of power will use those levers to preserve their status quo ante until they can do so no longer, stealing from the future some of the, now scarce, resources that we will need for the progression.

    It is not an isometric syllogism, just because there is, and will be, serious destruction, does not mean that it will result in progress.

    Sometimes destruction is just the process of collapse. Ask the Mayans, the Babylonians and the Greenland Norse.

    If all destruction led to progress, war would be the perfect progressive tool. But there is no way to know until hindsight whether the destruction was in fact creative, or just more things being broken.

    Reply
  4. I read the other day about the possibility of a technological advance in energy provision (Laser Fusion Energy) in the next decade. It would, if it works, revolutionise energy supply and would change geopolitical politics as we know it (oil and gas rich countries look out!).

    Then again it might be another furphy in the long road of ‘next big revolutionary energy’ promises.

    Would that fit in to ‘creative destruction’ (the phoenix from the flames)? Or would it be more like ‘destructive creativity’ (dragon burns your peasants holdings down)? Those economies with high populations and not much other industry are gonna crash and burn after all. That would make the world more insecure.

    At least the environment will be happier.

    Reply
  5. Comments from the “technology will save us” crowd typically miss the mark entirely. You need to understand that there will never be a recovery. Ever. Decline of, and ultimately, the end of the global economy is what we have to look forward to. The fundamental issue with our economy is energy, or rather the lack of. Debt based economies, such as the current global system, require increasing inputs of energy in order to grow. This growth is needed in order to be able to repay debt. In other words, without continual growth, debt can never be repaid.

    There are two energy issues currently, EROI (Energy Returned On Investment) and Peak Oil. The IEA has know acknowledged that peak oil was reached in 2005. There has been a production plateau since then, ie no growth. 100% of our technology rides on the back of oil. Oil is everything, there is no substitute and without it there is no technology.

    World EROI has now declined from 100:1 in the 1950’s to around 11-20:1 today. Ehanol returns around 1.5:1. As the best light, sweet crude has now been used we are left with the lower EROI heavy crude, oil sands and deep water fields. Once the EROI reaches lower than 2:1 it will be unviable to continue extracting.

    Technology comes from oil, not the other way around. Without sufficient oil supplies it will become harder and harder to increase our technological base but really, that will be the least of our worries. Olduvai Theory was right.

    Chris Anderson
    September 14, 2011
    Reply
  6. Finally someone who ‘gets it’:

    “EROI (Energy Returned On Investment) and Peak Oil. ”

    For other readers, ‘Peak Oil’ is a term to reference the -extraction rate-. Please forget ALL notions of reserve size, I know some of you are thinking anything from Saudi’s lying about reserve size, capped wells, untapped fields, canadian tar fields, Alaska, blah, blah. It’s not the size, it’s the extraction rate.

    Our economy is critically dependent on expansion to maintain the exiting money system which is based on debt. Debt requires yeild(interest) which in turn increases the supply side. This in turn requires continual expansion of the currency units to ensure that debt is not destroyed.

    This is all fine providing that the volume of goods and services increases to match the increase of goods that exist. Without the increase in supply of real goods, the increase in supply of currency units create a high inflation environment. Without the high levels of inflation, debt destruction will occur.

    Peak oil, interrupts this process by stopping us from increasing the volume of real goods being supplied to the market, meaning inflation has to result.

    In addition, the ratio of People:Energy is decreasing, since 2005 the population has increased and nett energy production has remained flat. This will have real world consequences in quality of life for most people on the planet.

    As a geek, and New Scientist reading techo I’m sad to admit that there is -NO- technology solution to the scale of this problem. I’m expecting a rough ride if the nett energy declines. If it remains flat efficiency changes will slowly transition us to a lower energy future.

    Reply

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