As the ship sinks, "creative destruction" is too simplistic. Only a "creative response" can rebuild a U.S. auto industry
General Motors (GM) is the Titanic of Corporate America—it has been sinking in an agonizing, slow-motion suicide since its mid-century golden age. A century ago, GM was the solution to the problems faced by America's fledgling auto industry. Now it represents Detroit's dead end of denial and narcissism. While GM executives beg for a bailout, Washington has an opportunity to be part of the solution to the problems that confront each of Detroit's Big Three.
Many congressional Democrats, and perhaps President-elect Obama himself, are uncomfortable standing by as economist Joseph Schumpeter's famous gales of "creative destruction" sweep GM and its dependents into history's trash can. But the flip side of "creative destruction" in Schumpeter's theory was the far more important notion of "creative response." He wrote about economic renewal as the emergence of "the new thing" when entrepreneurs recombine new and existing resources in wholly new ways to better meet society's needs. Schumpeter described this sort of breakthrough as the "watershed" between epochs in the social history of capitalism.
The real question for the new Administration is how to fashion policies and practices that are on the right side of this historical process. That means clearing obstacles and providing incentives to help midwife "the new thing." It also means mitigating the worst consequences of destruction with additional direct support to workers, communities, and states: extended unemployment and health benefits, meaningful retraining, economic development investments. ("Do Not Resuscitate" orders for the careers of GM's top executives and board members wouldn't be a bad idea.)
Oddly enough, 100 years ago Ford (F) and GM showed the world how to execute a Schumpeter-style creative response. Their pioneering innovations back then say a lot about what needs to happen now.
Packard, Wayne, Northern, Hudson, Willys-Overland, Lozier, Regal, King, Studebaker…these are just a few of the many early-20th-century automobile companies that disappeared because they didn't produce the cars people wanted. Back then the automobile industry was a high-risk venture dominated by the sons of Detroit's wealthiest families. They competed to make luxurious vehicles for their social set—at a financial loss.
It took Henry Ford, an anti-Establishment outsider who identified with the masses, to break out of that failing business model. He knew the farmers and shopkeepers who wanted cars too, but at a price they could afford.
Ford didn't invent the automobile. He carefully selected assets from the old production regime that could be adapted to standardization and quantity production: designs, parts, engineering approaches, technologies. Ford's genius was to invent a wholly different pattern in which those assets would be reconfigured: the moving assembly line and then mass production based on a new economic logic of high throughput and low unit cost. The result was the Model T. Sales soared, prices dropped, and the company was swamped with orders. Ford's singular pole star in that historic migration of assets was his intuitive sense of a vast population whose dreams and needs were ignored by the business Establishment.
Ford soon lost his first-mover advantages because he rejected the idea of professional managers and new administrative practices. That set of innovations fell to GM, newly reorganized under Alfred Sloan in 1921. GM had been a loose formation of companies that made and distributed cars, trucks, parts, and accessories. It hadn't yet combined those resources in new ways to do new things. Sloan had a more complex reading of consumers than Ford. On the strength of his insights, GM developed its vision of a full line of cars graded upward in quality and price: Americans' dreams of social mobility would be expressed in a lifetime of automobile trade-ins.
Sloan and his colleagues went on to invent the organizational and managerial processes vital to this complex undertaking: the multidivisional decentralized corporation overseen by a centralized corporate office, and consisting of general executives, financial, and advisory staff. The new executives used quantitative methods of forecasting, planning, scheduling, evaluating, and administering every aspect of operations. Then the old GM resources were culled. Companies were sold or dissolved. Product lines were eliminated. Only the people, products, and processes that fit the new business model migrated into the new organization.
These creative responses were classic examples of what Schumpeter called "employing existing resources in a different way" that entails new methods, concepts, purposes, and, above all, leaders. Together those responses paved the way for the democratization of goods that we call mass consumption. They laid the foundation for twentieth century capitalism and unprecedented wealth creation.
Lest you think this process belongs to the past not the future, look no further than your iPod. One of the most lucrative innovations in history, Apple's (AAPL) iPod was incarnated in exactly this way. Existing assets (songs) were reconfigured in a new way (on a digital platform instead of on a physical CD, cassette, or vinyl disk in a record store), under new leadership, with a new business model, in order to meet the demands of listeners whose needs were not being met by the old music industry.
By now the mass-production business model in autos has run its course in the developed world. The stereotypical mass consumer no longer defines the American, or European, marketplace. Everyone seems to know that, except Detroit's top management. They continue to manufacture cars for inventory, relying on enormous economies of scale and dealers who push to anonymous customers. Detroit's early success and vast size buffered it from these changing markets as innovation gave way to arrogance, narcissism, and indifference.
Whether in Chicago or Munich, today's automobile buyer is a person with distinctive demands. The vehicle is becoming merely a punctuation mark in an ongoing "personal transportation experience" that begins with an interest in purchase and extends through every aspect of pricing, service, support, transport, reselling, and recycling. Consumers want quality and affordability, but they also want to choose their own configurations of enhanced safety measures, information and entertainment, reliable personal support features, and personalized design.
The car is becoming an expression of identity, values, and personal control in ways that move far beyond traditional segmentation and branding. For example, fuel efficiency will be only one consideration for a socially responsible vehicle (SRV). What percent of the parts are recyclable? What is the vehicle's total carbon footprint? Are there child labor inputs? Toxic paints, glues, or plastics? How transparent is the supply chain? Is the seller accountable for recycling? What methods are used? Are fair labor practices employed?
The new demands for an individualized driving experience at an affordable price require a fundamentally new business model—a discontinuous shift from economies of scale and push marketing to distributed networks of enterprises that cluster around individuals. The single most important factor for competitive advantage will be a brand's ability to forge durable intimate relationships with customers based on trust, dialogue, and transparency. Similar skills will be needed at the enterprise level, as carmakers collaborate with other entities to support diverse customer needs.
Once again, the entrepreneurial challenge will be to reconfigure old and new resources in a fundamentally new way. The "new thing" for autos will initiate a vast migration of assets—people, technologies, intellectual and digital capital, physical plants, cash, customers, relationships, companies—from the old automobile industry to new business models in a new competitive space.
Lifeboats, Not Life Support
First movers in this new territory stand to reap enormous benefits. But search as you might, the last decades yield nothing to suggest that the leadership of GM—or any of Detroit's Big Three—is capable of such a shift. GM ignored the life-threatening hazards of rear-mounted fuel tanks, once famously concluding that the estimated cost of $2.40 per vehicle associated with these liabilities was less expensive than fixing the problem, as I wrote in The Support Economy. They all ignored calls for quality and fuel efficiency. They ignored global warming, the pleas of suppliers, and the entreaties of dealers. They ignored their employees and then paid for their arrogance with unsustainable union contracts whose costs were passed on to customers. Then they ignored their customers, who repaid the favor by shopping elsewhere.
And in 2007, with over a million unsold cars in inventory, Mark LaNeve. GM’s head of North American sales and marketing, protested the need for change. “It’s not like we have some crisis,” he told the Wall Street Journal in its Feb. 9, 2007 edition.
None of this is exactly "rational" behavior, but it tracks with what institutional economists have observed: The more a practice is institutionalized (history, legitimacy, interdependence, codification), the more it is taken for granted, the greater the energy that goes into maintaining it, and the more relentless the resistance to change. In 2006, GM's CEO Rick Wagoner responded to the call for "new blood" in GM's leadership with this screed in Newsweek: "These are sophisticated problems with historical tails that run back 80, 90 years. The chance of someone coming in and understanding our business…is absolutely microscopic."
Even the courtly Peter Drucker, who had studied GM throughout his career, shook his head in bewilderment at GM's inability to change. "I am increasingly coming to ask", he lamented in 1995, "whether anything short of a General Motors breakup, either voluntarily or though a hostile takeover, is likely to enable General Motors…to make a successful turnaround."
The creative response won't be top-down, and it won't be led by anyone in the auto industry— or in Washington— whose name you already know. The creative response that brings about a new distributed green customer-centric business model for U.S. autos will be led by industry outsiders. They will be the renegades, drop outs, misfits, and weirdos whose pole star is the new consumer—not Establishment credo. By definition, we cannot predict who they will be, except that some of them have probably already been shunned by Detroit. The "new things" that emerge from their innovations can reignite jobs, economic growth, and wealth creation in ways that we can't foresee.
Can President Obama and the Congress do anything to help catalyze these new things? A century ago the federal government played an essential role in the success of a new auto industry with highways, legislation, licensing, and regulations. As new leaders emerge, their creative responses will be enhanced by federal support. This is likely to take the form of tax policies and legislation that complement new business models and practices, along with key infrastructure investments. Hydrogen filling stations? R&D incentives? Ubiquitous broadband? The right kind of creative public-private partnerships could be a showcase for President Obama's wider green technology initiatives.
As the GM ship sinks, many precious resources will need to be rescued and redeployed in new ways to do new things. This Titanic urgently needs lifeboats, not life support.