How Big Business Is Inverting Age-Old Wisdom About Productivity

How Big Business Is Inverting Age-Old Wisdom About Productivity

Why you should care

In today’s economy, the largest companies are only as strong as their databases are big.

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Many moons ago, legend has it there lived a wolf of unusual strength and size called Fenrir. According to Norwegian and Icelandic poetry of the 10th and 11th centuries, this monstrous wolf had a unique ability that distinguished him from others: limitless growth. By some accounts, Fenrir grew larger with each new person he devoured.

It turns out the concept of compounding strength has proved timeless. In 2019, there’s less dialogue about being consumed by wolfish giants — but there’s a whole lot of chatter about data giants. For more than a century, economists have shown that increased monopolization of an industry leads to reduced productivity — the output per unit input — for both that sector and specifically for the company dominating it. That, experts have argued, is because a lack of competition reduces the incentive to stay lean and efficient: Well-established giants could make up their margins with price and market size alone.

But the rise of the modern data-driven economy has flipped this theory on its head, with research now showing that as the monopolies (and oligopolies) of 2019 grow in size, they become stronger and more efficient at their core functions.

Today’s monopolies are likely to be the most productive companies around — further widening the gap between them and other firms in their industry.

That’s the conclusion of research published in 2017 by the Boston University School of Law, which analyzed firms across all industries identified in U.S. census data — from animal slaughtering to aerospace manufacturing — where processes are increasingly driven by information technology systems. The research found that in every sector, the top four companies were demonstrating higher productivity than the rest, while also riding that advantage to further increase their market share.

The reason, researchers and economists now believe, is this: Greater market control gives companies access to more data than their rivals, which in turn allows them to make the algorithms driving their businesses even more efficient. Nobel Prize–winning economist Jean Tirole points out in his 2016 book Economics for the Common Good, for instance, how the accuracy of Waze maps, or Google searches, improves as more and more people use them.

Meanwhile, a 2018 paper from the University of Chicago Booth School of Business that analyzed U.S. manufacturing from 1997 to 2012, and a National Bureau of Economic Research paper from 2017 have both found that in the modern economy, industries with higher concentration are also more productive.

It wasn’t always like this. Without competition, companies slacked in productivity without losing out on profits. They had enough of a lead over others not to get swiftly dethroned. The idea isn’t unlike dating: If you meet somebody you like and think nobody else is interested, you might be slow to ask that person on a date. But if you’re jockeying for position among a slew of eager prospects, you’d feel a stronger push to deploy your best efforts, right?

That phenomenon has played out over decades, in sectors ranging from manufacturing and transit to utilities and textiles. In the 19th century, for example, American farmers had few options when it came to shipping goods throughout the South, which led to a monopolization of labor in and around major ports like New Orleans. When railroads were built, the productivity of transit improved, economists have shown. This notion held up around the globe: When Belgium loosened tariffs on textiles — meaning that domestic producers faced more competition — domestic productivity jumped.

But the benefits of network effects — the additive value that products or platforms gain as more people use them — in a data-driven economy are changing that equation. Users want to be on the platform where lots of others participate, says Richard Gilbert, an economics professor at the University of California, Berkeley. After all, what use would services like LinkedIn or Facebook be if just a few people were on them? As a result, it’s increasingly difficult to be a successful startup social network because doing so involves building a user base from a blank slate.

There’s a reinforcing feedback loop that comes with size. A company is only as good as its database: as the number of users grows, algorithms collect more data and automatically refine their systems to boost efficiency. With greater access to information than outsiders, big companies can better understand market niches to target users precisely, says Charles Becker, an economics professor at Duke University. This effect is compounded by the fact that the data of a specific platform tends to be exclusive: Passengers who use Lyft can’t transfer all of their information to Uber, for example.

In Becker’s eyes, the productivity of modern monopolies boils down to an “information advantage” rather than a true “technology advantage.” He nods to benefits of being a “first mover,” noting that Google doesn’t necessarily have engineers different than those of other companies; Google has databases others don’t, and robust information upon which to iterate. “If Google disappeared tomorrow, the void would be filled almost instantly,” Becker says. But he notes this isn’t just a characteristic of new monopolies: Railroads and steel companies all shared the same technology too.

On top of this, Becker points out that the notion of improving efficiency with size isn’t new to economics. While some monopolies bottom out and let their competitive edge slip after capturing a majority of the market, there have always been plenty of incentives to keep innovating.

Sure, the monopolies of 2019 don’t instill fear into the hearts of onlookers like the mythological wolf Fenrir did (apparently, he also was prophesied to aid in the destruction of the cosmos). Today’s monopolies might be growing in data as they swell in size — but while some argue that they’re blazing paths of destruction, at least they aren’t actively seeking to destroy the universe.

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