Let’s face it. Most of us work for a living. We are not big entrepreneurs and as such we live of wages. We are small entrepreneurs, managing only one company: us. As such, we depend very heavily of our employers. We hope the company or business we work for will be there in the future. We hope the economic situation will improve. We hope we will get a salary raise or promotion. We hope… we hope… we hope…
And then writers such are the ones in this site show up and tell us that change is good! That companies going broke is fantastic! That we getting laid off is healthy. Are they nuts!!!???
Well actually yes. Just a little bit for daring to expose the truth. But other than that they are actually all right. Stay with us.
Joseph Schumpeter (a communist) popularized the term “creative destruction”. In his book Capitalism, Socialism and Democracy he described it as the “process of industrial mutation that incessantly revolutionizes the economic structure from within, incessantly destroying the old one, incessantly creating a new one”. Of course, being a Marxist his intention was to criticize democracy by “exposing” the constant (and evil) process of accumulation and annihilation of wealth under capitalism.
Yet, without even knowing it, he provided a clear description of one of the key and best features of capitalism. The fact that capitalism is the only economic system that can clean-up after itself without the need for any intervention or higher authority of any kind. The fact that through this process inefficient entrepreneurs are replaced by efficient ones. The fact that through this process the needs of the people are taken care of because imaginary or obsolete needs are eliminated and real ones satisfied; no mind reading required. This process of “creative destruction” is what actually generates the wealth we experience today because it is the most efficient garbage collection and recycling process available anywhere in the world!
Think about it.
In any system there are always “political considerations” i.e. politicians screwing around with free markets in order to ensure they get votes. The so-called “Job Creation” is one of their peeves. At almost any cost. Regardless of the real cost. And do you know how does this translate into economic affairs? Waste.
If a company requires government subsidies to survive, it simply means it is not producing a product that people want. If their product would be desirable, they would have sales and thus they would not require subsidies in the first place! What subsidies achieve is to waste money (i.e. capital) in the production of goods and services that nobody wants. At least not at the price point that can actually accommodate manufacturing costs. Yet, in the name of “Job Creation” this is exactly what happens. Good capital that could be used to create goods and services people actually want at a price they can afford, is used to create garbage that nobody wants nor can afford.
For this cycle to stop, there must be a destructive step allowing for healing to begin.
Think about it.
When a company can no longer make profits, it goes broke. It has fewer profits than the money necessary to pay for manufacturing. If this company would to ask for a loan, it would be using up capital that other, sounder companies could use. If the loan is granted, this capital would only extend the inevitable and would never be able to stop it. Sooner or later banks will end the loans. At that point it is clear that the business cannot continue.
Two considerations:
- The decision to stop the loans means that good capital will no longer be directed to waste becomeing available to other, sounder companies.
- Although the company went broke, it typically still has some residual capital, which is liquidated. What this means is that from the ashes of a dead company, some capital can still be recovered and put to better use.
Those two mechanisms ensure that the waste of capital is minimized and this is the best we can hope to achieve. Ever. There is an old saying that says that a camel is a horse built by a committee. This is true. Translated into economic thinking it reads:
A horrifically wasteful market is a free market built by a socialist committee! F&P.
It is for this very reason, to avoid waste, that we need to destroy what is not working any longer. Never forget that at the very centre of the concept of “economy” is the reality that resources are limited and we have to use them as best we can.
If resources would be unlimited, there would be no point in having an economy in the first place. If we could have anything we may desire in any quantity, then we really have no reason to “economize”.
However, the world is limited and as such we must “economize” if we want to get the very best out of the resources we have. It is for this very reason that the success of any economic system or theory depends exclusively on its ability to “economize” or, in other words, in its ability to get rid of waste as soon as possible.
Economic garbage cleanup is not a “nice to have” but the most critical element we can possibly think of. It is for this very reason that any economic system that tampers with the free market is in reality tampering with its garbage destruction mechanism. It is forcing markets to be less efficient.
Now, described in this fashion is cheating. It is actually sugar coating. The reality is that any destructive process is painful and the destructive process of a free market is as ruthless and painful as you can get. Unfortunately, we are biologically programmed to avoid pain. Thus, we would do just about anything to prevent it, including putting politicians in power who will reduce our current pain through artificial means, but at the cost of much larger future suffering.
Yes. Creative Destruction is painful. Particularly if you are on salary. Particularly if you happen to live in a socialist country precisely because socialism prevents creative destruction at the market level. Now, pay attention because this is important.
If Creative Destruction would be prevented on a few cases, it would not be so bad. The problem is that Creative Destruction is prevented from occurring at many levels in the market. Which means that many enterprises are kept alive far beyond their natural lives while consuming vital resources that other companies could use. These latter companies are thus prevented from producing wealth. Wealth that would be shared among wage earners.
Do you now begin to see the vicious circle? All us to spell it out for you:
- Enterprise produces desirable product and has profits.
- Eventually, product becomes obsolete and enterprise has ongoing loses.
- Government steps in and loans or grants money to enterprise.
- Government took loaned money from the markets (bond issues or taxes, or printing, or…)
- This money taken away from the market is now unavailable to viable enterprises.
- Viable enterprises do not expand as much as they could, hence they create less products.
- Less products mean less profits.
- Less profits means less employees.
- Less employees means unemployment.
- Unemployment means you are screwed.
See the issue now? As wage earners we dread economic problems and particularly our employer’s ones because we know that getting another job is difficult. Thus, we have the tendency to support politicians who are willing to subsidize the company we work for. We want to keep our jobs. Yet, in so doing, we are dooming ourselves to lower wages and eventually, unemployment.
Yes, Creative Destruction is painful, but it is so much painful because of government meddling with free markets. Should free markets would be allowed to operate, Creative Destruction would be a non-event precisely because there would be very little to no unemployment! It is not the bankruptcy of our employer that we fear, but the lack of future employment.
We need to differentiate one from the other if we want to understand what’s best for our future.
Think of it this way, would you agree with a politician that proposes to end physical garbage collection for some companies? Such a proposal would entail the “storage” of their garbage “on premises”, the idea being “out of sight, out of mind”. And in order to achieve that, such politician would subsidize the storage of such physical garbage with tax money. Would you be OK with this? Of course not! Then why are you OK with politicians subsidizing failing companies? The only difference is that one type of garbage is physical and the other one economic.
CONCLUSION
Yes, short term pain and suffering is difficult to accept but it is the price we must pay if we want to have ongoing economic wellbeing. In our current system pain and suffering through creative destruction is actually pointless because we are not in a free market. Our pain and suffering will ensure nothing for as long as politicians keep meddling with free markets. However, over time, political evolution will happen. At that time we must remember this lesson because it is the foundation of economic prosperity.
Unless, this is, you believe that real wealth comes out the Central Bank’s printing press. That real wealth is funny colored paper which if you dare to copy will land you in jail. If this is your belief, then go ahead! Keep supporting politicians. Do your “duty”. Vote. Just one thing, eventually creative destruction will get you too. At that time, remember that there is no payout from this process. Only more pain and suffering remain.
Note: please see the Glossary if you are unfamiliar with certain words.
