Saturday, July 1, 2017

Creative Destruction

Recently, during an interview with Quartz Magazine, Bill Gates made a remarkable suggestion: that robots and machinery of automation be taxed to replace the missing taxes left unpaid by the laid-off workers the automation has replaced.  Shortly thereafter, Gates made the same suggestion while testifying before the EU parliament in Brussels.

Gates believes that the next twenty years will see an unprecedented rise in the number of workers who are laid off as their jobs are increasingly eliminated by robots—so many that the missing personal income and the resulting loss of tax revenue will disrupt society.

This is an almost perfect description of what economists call “creative destruction”—a belief that new technology or manufacturing process so changes the work environment that it brings more harm than good.

You would think that Bill would know better, since he has been accused of committing the same sin ever since he founded Microsoft.  I can remember when it was widely assumed that microcomputers would all but eliminate secretaries from the work force.  Instead, as computers made the secretaries more productive, demand for their talent increased.  Over the last few decades, the number of secretaries in the workforce has increased faster than the population growth.

Some economists believe that the fear of creative destruction has been the biggest obstacle to the creation of wealth in human history.  Actually, new technology creates  prosperity that, in turn, increases employment.  When railroads converted from steam to diesel, the followers of creative destruction focused on the decline in the employment of firemen instead of recognizing the increase in   employment in the petroleum industry.

A great example of the fallacy of creative destruction is the introduction of automated teller machines (ATM) in the banking industry.

While the number of tellers in individual banks did go down, the lower cost of operating a bank branch meant that opening new neighborhood branches became profitable.  As customers demanded more convenient local branches, the number of employees increased.  Today, even with the ubiquitous ATMs, the banking industry employs more people than ever.

Attempting to delay technological innovation rarely works.  And, of course, history gives us a perfect example.

In the last decades of the sixteenth century, the women of England were busy knitting every evening.  Their monarch, Queen Elizabeth, had just decreed that all of her subjects were to wear a woolen knit cap.  (Don’t laugh, remember all the strange crap our government has passed.  I live in a town where it is illegal to walk down Main Street carrying a lunch pail, but no one seems to know why.)

William Lee, the Anglican Minister of Calverton, England, was upset that his wife spent more time with her knitting than with him.  (Some accounts suggest it was actually his mistress whose time he wanted to free.)  Lee wondered if a machine with several needles could work faster than human hands with only two needles.  For years, Lee neglected his church work while perfecting the machine he called the stocking frame knitter.

Finally, in 1589, Lee rented a building in London, set up his machine, and sought an audience with the queen in order to secure a patent.  With the help of his local parliament member, he secured an appointment with a member of the Privy Council, who got him an appointment to demonstrate his machine to Queen Elizabeth I.

Lee’s machine, though it was an early model, really worked.  It could produce a finished product twelve times faster human labor.  (Remember, this was two hundred years before the start of the industrial revolution, which was largely fueled by the mechanization of the textile industry.  Lee’s machine, if it had been adopted, might very well have jump-started the mechanical revolution centuries early.)

Queen Elizabeth was not thrilled with the machine.  “Thou ailmest high Master Lee.  Consider thou what the invention could do to my poor subjects. It would assuredly bring to them ruin by depriving them of employment, thus making them beggars.”

Though the queen recognized the genius of his invention, and the machine offered huge gains in efficiency, profits, and a potentially exportable product, it also threatened creative destruction.  The knitting machine threatened social unrest that would challenge the status quo, so the queen denied William Lee his patent.

Lee needed a patent, or a royal monopoly to attract sufficient investment to begin mass production of his machine.  Since Queen Elizabeth refused him, he took his invention to France, where the king gave him a patent and almost immediately the French monarch was assassinated.  In the political unrest that followed, Lee returned to England.

Undeterred, Lee sought a business partner.  George Brooke would put up the money, and the two men would produce knitted wool by machine, splitting the profits for the next 22 years.  Unfortunately, Brooke was charged with treason—on an unrelated matter—and executed.

Undaunted, Lee continued to improve his machine.  The first model could only produce coarse woolen products with 8 stitches to the inch, but Lee’s improvements enabled the machine to produce silk products with 20 stitches to the inch, at a rate of 600 stitches a minute.  With the improved machine, Lee sought a patent from James I, the successor to Queen Elizabeth.  Once again, the monarch was concerned about out-of-work hand-knitters adding to the growing number of the unemployed. 

Lee took his invention back to France, but Lee died before he could make a success of his invention.  His company went bankrupt, and the machines were sold off in London.  Too expensive for the knitters to buy, the machines were leased out to knitters and though they proved profitable, their use grew slowly.

While Lee was not successful himself, his knitting machines do illustrate something about technological improvement.  Queen Elizabeth passed up an early opportunity for her country to control the textile industry.  Delaying widespread adoption of the machines just delayed the start of a new industry and delayed profits.

English monarchs delayed the mechanization of the textile industry not out of concern for the benefit of the workers, but out of fear that the resulting social unrest would affect political stability, thus endangering their reign.  The monarchs ignored that in the long run, the workers would actually benefit from the lowered cost of woolen products. 

If Bill Gates is successful, and automation is taxed, I can predict the consequences. 

Automation will be more readily adopted overseas, where employment will go up in the expanding manufacturing economy.  As the cheaper products are imported, locally produced goods will lose in the marketplace, resulting in rising unemployment. 

And we will become a nation whose economy is centered around the service industry, one where we sell each other hamburgers....Hamburgers made by the new Epson C4L robot, made in Japan.


  1. The law of unintended consequences always bites the politicians on the behind.

  2. As an entrepreneur myself, I agree with you completely. What rankles me is the common misconception among liberals that our economy is like a giant pie, and that any time one person or company takes a profit everyone else is left dividing up less. This misnotion not only ignores the economic gifts of innovation, but also overlooks the multiplier effect of the new wealth created which is approximately seven fold.