Sunday, January 03, 2016

The pernicious myth of individual productivity

This is a followup to yesterday's post about income inequality, possibly the first of many.  This is a complicated issue, and it's very hard to reduce it to a pithy slogan.  Even "income inequality" is a problematic catch phrase because it leaves out at least half of the real problem (political corruption).  And, as an unknown commenter pointed out, it's entirely plausible that corruption isn't really a problem either, at least not by itself.  Corruption may be survivable if wealth is more evenly distributed because then everyone has equal opportunity to buy politicians, and the net result is still something approximating a representative democracy.

It's complicated.  But a good place to start is to dispel the persistent and pernicious myth that a free market does a good job at objectively measuring individual productivity.  The reason this myth is pernicious is that people conclude that it is good policy to let the market distribute wealth because it's good to reward productivity.  I do not dispute that it is good to reward productivity (of course it is!)  What I dispute is that the market reliably measures productivity.  Hence, letting the market distribute wealth does not necessarily reward productivity.  It can (and often does) reward productivity, but it can reward a lot of other things as well (like luck, or gaming the system), and so we have to be more careful when making policy than simply trusting the market.

Take this example from Paul Graham in a footnote to one of his essays:
[I]t is certainly not impossible for a CEO to make 200x as much difference to a company's revenues as the average employee. Look at what Steve Jobs did for Apple when he came back as CEO. It would have been a good deal for the board to give him 95% of the company. Apple's market cap the day Steve came back in July 1997 was 1.73 billion. 5% of Apple now (January 2016) would be worth about 30 billion. And it would not be if Steve hadn't come back; Apple probably wouldn't even exist anymore.
This reasoning is flawed.  Just because the value of Apple + Steve Jobs is 200x the value of Apple - Steve Jobs, it does not follow that Steve's value is 95% of Apple + Steve.  Why?  Because companies are not linear systems.  In fact, it is trivial to debunk this: just take away the rest of Apple.  By PG's theory, the value of the result (i.e. Steve Jobs working alone) should be 95% of Steve + the rest of Apple.  That's obviously not the case.  Steve was only able to do what he did because the rest of Apple existed.  (But, one might argue, the rest of Apple existed because of Steve!  No, it didn't.  Steve did not build Apple single-handedly.  When Steve built a company single-handedly, the result was not Apple, it was NeXT.)

Here's an analogy: the value of a car lies in its ability to transport you from place to place.  If you, say, remove the spark plugs, the car becomes useless.  If we stipulate that a working car is worth 20 times as much as a non-working car, then by PG's reasoning it would follow that the spark plugs ought to be worth 95% of the value of the car.

Another counter-argument might be that yes, Steve may have just been a spark plug, but he was unique.  Spark plugs are cheap because they are plentiful, but if they were scarce then they would be worth more.

But how do we really know that Steve was unique?  It's possible that there are hundreds — maybe thousands, maybe more — people out there who are capable of doing what Steve did, but we don't know about it simply because Apple never ran those experiments.

In fact, it is extremely unlikely that Steve was actually unique, in the sense that he was the only human being with the innate ability and drive to do what he did.  Why?  Because Steve was born in San Francisco in 1955, which was the exact right place and time to be born to come of age during the semiconductor revolution that made Apple possible.  It was the exact right place and time to be born that let him meet Woz, without whom Apple probably would not have happened.  The odds that the one human being in all history capable of doing these things just happened to be born under these auspicious circumstances are very, very low.

Much more likely is that there are lots of potential Steve Jobs's out there, but they never get the opportunity to demonstrate their abilities because their life circumstances don't allow it.  Maybe they have to work to pay off student loans.  Maybe they are refugees (Steve's biological father was Syrian).  Maybe the reason that Steve Jobs seems like a scarce resource is simply because the world hasn't bothered to try to cultivate more people like him.

Let me be clear: I am not making the Marxist argument that everyone is equal.  Steve was clearly exceptionally talented and motivated.  But what made Apple possible was not just Steve's exceptional talent and motivation, but a whole host of other circumstances and people that happened to put him (and them!) at the right place at the right time.  And if any one of those circumstances had been different, the outcome for Steve and Apple could have been very different.  Steve had a lot of help from people like Woz and Jony Ive.  (But, I hear you saying, Steve hired those people!  Sure, but if you're going to give Steve credit for that, why not give the Apple board credit for hiring Steve?)

My pont here is just this: simply because Apple + Steve was worth 20x what Apple - Steve was worth, it does not follow that paying 95% of Apple + Steve for Steve is a good deal for anyone but Steve.

So we can't measure individual productivity simply by looking at the value of an organization with and without them.  It's a non-linear system.  The whole is greater than the sum of its parts.

So how can we measure individual productivity for creative endeavors like running companies?  It's really hard.  It may actually be impossible.  Certainly we don't have any way to do it today.  The market is clearly not efficient in this regard.  We have CEOs getting paid tens of millions of dollars for running companies into the ground.  (Attention, boards of directors: I will bankrupt your company for half of whatever you're paying your current CEO!)

This is only a tiny sliver of the real problem, but it's an important one because so many people base their reasoning on the false assumption that a free market is a reliable measure of productivity, and that rich people are rich because they are so much more productive than non-rich people.  No.  Rich people are rich because they happened to find themselves in a confluence of many, many circumstances that ended up with their becoming rich.  One of those many circumstances may have been (usually is, but often isn't) that they worked hard and took risks.  But working hard and taking risks is no guarantee of success (that's why it's called "risk").

Note that this observation says absolutely nothing about policy or quality metrics.  That will have to wait for another installment.  Like I said at the beginning, it's complicated.  But if we're going to deal with this situation rationally we have to start by being honest without ourselves about the ground truth.  And part of the ground truth is that there's a lot of noise in the system.  That's one of the things that makes it resistant to simple solutions.


Don Geddis said...

Estimating Steve Jobs's value is not as difficult as you suggest. When A and B can come together and produce some value, dividing the resulting value between the two generally comes down to replacement cost, and replacement value. If A had to team with next best alternative C instead of with B, what would be the new expected value, and how does that compare with the expected value from teaming with B? (C.f. the MLB baseball concept of VORP.) Yes, yes, these are all estimates, not exact figures. But the concept that we're trying to estimate is pretty clear.

So how about Steve Jobs? How did his performance as CEO, compare to other potential CEOs? What is a reasonable estimate of the likely outcome of the company, with other people running it instead of Steve? Sure, sure ... Steve doesn't deserve all the credit, as there's always a lot of luck involved in any outcome. On the other hand, the growth in value of Apple from 1997 (when Steve came back) to 2011, is the single greatest feat of corporate value creation in the history of the world.

Could lots of people have done the same thing, given a similar platform? No. We have plenty of evidence of that. First, at Apple itself, we have numerous CEOs who all gave it a shot, using the same platform. Steve Jobs himself, in the 1980s, was not good enough to find a way to lead Apple out of being a minor player behind the PC. Then you have Sculley, Spindler, Amelio ... all national caliber CEOs. Who led a $12B company down, a billion a year, on a clear path to zero. Looking, at best, to selling it. Never solving the riddle of how to be a relevant technology company.


Don Geddis said...


Even when Steve Jobs came back, in 1997, he was not yet great enough. He cut products and restored profitability, which gave him time. He tried the fruit-colored iMacs, which were not a world-class idea that lasted, but they did teach him a bit about a different approach. He made an iPod music player ... as a trick, as a loss leader, to sell more Macs. Apple was a computer company. Do you remember that the iPod originally worked ONLY with Macs, for a full year? Steve's strategy was still to be a computer company.

Then somewhere around 2002 (five years after he returned to Apple!), Steve chose the make the iPod also work with Windows PCs. And from 2002-2011, he became the best CEO the world has ever seen. iPod, iPhone, iPad. He created new multi-billion dollar businesses, out of essentially nothing.

So how about people outside of Apple? Creative Labs dominated mp3 players, and scoffed at the low capacity of the first iPod when it came out. Then the iPod tsunami overwhelmed the entire category, and Creative died. RIM dominated "smart" phones with the Blackberry ("crackberry"). Then the iPhone came out, and blackberry/RIM died. Nokia dominated worldwide mobile phone OS. Then the iPhone came out, and Nokia died. (The only alternative now is Android, from Google. Nothing that existed prior to iOS matters any more.) There had been many failed attempts at the tablet market prior to the iPad, and all essentially failed, until the iPad created the entire category.

I think that assigning "value created" to Steve Jobs, is not quite the difficulty you claim. We've seen other people try to run Apple, and we've seen other competitors try to dominate product spaces that Steve/Apple later obliterated.

All that said, of course market outcomes don't "reliably measure productivity". Yes, there's always luck, and gaming.

Nonetheless, by far the vast majority of rich people, got that way through value creation. The fact that you can locate a few exceptions, does not change the typical case. Yes, there is "noise" in the system, and yes "risk" means that you can do the right things and still fail. All that said, in general market outcomes are very highly correlated with creation of value.

Publius said...

Related to the cognitive bias of the Just World Hypothesis (or Fallacy).

Ron said...

> I think that assigning "value created" to Steve Jobs, is not quite the difficulty you claim.

I think you've missed the point.

I do not dispute that Apple+Steve had vastly more value (let us stipulate 20x) than Apple + any-other-CEO-that-they-tried. Just like a car with spark plugs has vastly more value than a car without them. And I don't dispute that Steve was brilliant and hard-working and deserves a lot of the credit. The only thing I dispute is that we can therefore assign Steve a fair market value of 95% of Apple + Steve.

> Could lots of people have done the same thing, given a similar platform? No. We have plenty of evidence of that.

No, we don't.

> First, at Apple itself, we have numerous CEOs who all gave it a shot

No, we don't. We have three. Four if you count the first iteration of Steve. Five if you count the first five years of the second coming of Steve separately. That is not a large sampling of the human population. And one of those three came from the soft drink industry. It's not too surprising that he didn't know how to run a technology company. (And that guy was hired by the first iteration of Steve! And the original Macintosh was released on his watch.)

BTW, hiring Sculley was not Steve's only big screwup. He had a lot of product flops in his career: the Apple III, the Lisa, NeXT. Even the original Mac was not a huge commercial success. What makes Steve unique is not that he was uniquely brilliant, but that he had the unique opportunity to throw vast amounts of resources at a problem until he finally got it right. And when he finally got it right, boy did he get it right. But my point is that very, very few people even get to try what Steve got to try, and so the market for people like Steve is highly skewed because of the extremely high barriers to entry.

Peter Donis said...

@Ron: "Much more likely is that there are lots of potential Steve Jobs's out there, but they never get the opportunity to demonstrate their abilities because their life circumstances don't allow it."

Since I commented on the previous income inequality post, I wanted to note here that I agree with this statement; in fact it is one of the things I was basing my arguments on in the previous comment thread! There are billions of people in the world who, today, have no opportunity to do what Steve Jobs did, because of their circumstances. Even if we stipulate that Steve was, say, one in a million in terms of talent and drive, that means there are thousands of potential Steves out there whose potential can't be realized in today's world.

Now, suppose we fix all that. Suppose we are able to remove all of those inequalities of opportunity that prevent those thousands of potential Steves from realizing their potential. What will happen? First, a lot more wealth will be created, because thousands of times as many people with the talent and drive for wealth creation on the scale of Apple will be doing it. Second, all that wealth will be much more widely distributed, because everyone in the world will have an equal shot at creating it, and the creators will be spending it all over instead of just in a few developed countries.

And third--this was the contentious claim in the previous thread--there will be more inequality of wealth than there is in today's world, because, even if the poorest people are richer than the poorest are today, the richest people will be richer by a larger margin. That's because there will be thousands of times as many people with the opportunity and drive to get rich, and their efforts will be more amplified by technological leverage.

(Btw, none of this depends on the claims about anarcho-capitalism I was making in the other thread; those are a separate discussion that I think is off topic here. In the above I am assuming that the world will continue to move in the direction of democratic government more or less the way it has been.)

Luke said...

It would appear that people are applying the Great Man theory to CEOs. Everyone else in the company is seen as replaceable cogs, with the leaders being the only ones who really did anything unique, anything worth valuing. Curiously enough, the empirical research reported in James C. Collins' Good to Great indicates that excellent CEOs don't really motivate those they lead so much as get out of their way. I don't mean to downplay the role of aesthetic unity and direction that highly creative people generally require. But I do mean to question how we value the various contributions.