What is Creative Destruction?

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Definition:

Creative destruction is when a person or company innovates in a way that eliminates or destroys long-standing practices or institutions.

🤔 Understanding creative destruction

Creative destruction, in the world of business, is the elimination of traditions or customary ways of operating that produce inertia and can make it difficult for companies to innovate. Every business, society, culture, or group of people have traditions and way of doing things. These norms can make it difficult for companies to innovate or change. Creative destruction involves eliminating these traditions as a way to find new methods or as a byproduct of advances that make old ways obsolete.

Example

The way that music is delivered to consumers today, as opposed to a century ago, is an example of creative destruction. With the invention of the radio, listeners no longer had to travel to concert halls to listen to bands. Later, records allowed people to own recordings of their favorite songs or albums. Vinyl records were rendered mostly obsolete by cassettes, which were later superseded by CDs. Then, MP3 players took the place of CD players and Walkmans, and now many consumers avoid buying song downloads in favor of streaming. With each new technology, the old way of delivering music has fallen by the wayside or died out. Old businesses — like music stores — were mostly destroyed. Out of each wave of destruction, however, came the creation of a new industry.

Takeaway

Creative destruction is like remodeling a house…

You can put up new decorations or replace your furniture, but your home’s basic layout will always be the same unless you remodel. If you’re willing to knock down a wall or two, you can expand a room, give your house an open concept, and completely alter the way your home looks. In the same way, creative destruction knocks down existing practices to replace them with something new.

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What is creative destruction?

Creative destruction is the process of new advancements and ways of doing things eliminating old traditions and practices — Either as a byproduct of innovation or as a way to help foster it.

The idea was first discussed by economist Joseph Schumpeter in 1942. He initially used the term to discuss changes in manufacturing processes, but the phrase has been adapted for use in other places.

Traditions and established ways of doing things generate a momentum that helps maintain the status quo. When a group of people believes that a specific process is the way things are supposed to be done, it’s difficult for a challenger to come in and propose a new way of doing things. Without people willing to try new methods, innovation stops, and businesses and society stagnate.

Some forms of creative destruction occur when old traditions and methods are intentionally eliminated. The vacuum left behind has to be filled, forcing people to innovate and try new ideas.

Another form of creative destruction occurs when new, disruptive technologies and methods appear. As old technologies or practices become obsolete, they fall out of favor, and the new technique replaces them.

What are some examples of creative destruction?

The growth of Amazon and the fall of the American shopping mall is a clear example of creative destruction. Amazon revolutionized shopping by making it easy for people to buy almost anything they need online. As fewer people did their shopping in-person, Amazon “destroyed” shopping malls. Many closed or needed to find new niches that allowed them to survive.

The Internet also revolutionized other industries from the postal service to banking and travel, destroying those industries in some ways while building them back up in others. Online-only banks offer savings accounts, checking accounts, credit cards, mortgages, auto loans, investing services, and more. Traditional banks needed to adapt, build their own online services, and find ways to offer new value through their physical locations.

Ridesharing apps like Uber and Lyft are examples of creative destruction in the transportation industry. Where taxis dominated and the primary way of getting a ride was hailing a car from the sidewalk, ridesharing apps let anyone become a driver and made it easy to order a ride from your phone. This forced existing taxi companies to adapt their processes.

We can even see creative destruction happening today. Automation is becoming more and more prevalent. Many companies, including Uber and Google, are testing driverless cars, and some luxury brands like Tesla already offer autopilot-like functions for consumer vehicles. As computers learn to drive cars and trucks, the trucking industry will undergo major changes as drivers become less necessary and trucks can be on the road 24/7 without needing to stop for a human to rest.

Cryptocurrencies are another example of modern attempts at creative destruction. Many cryptocurrencies, such as Bitcoin, seek to overtake or replace the traditional monetary systems where governments print currencies and central banks manage those currencies. If cryptocurrencies become more prevalent, it could cause a major shift in society and economies, not just individual industries.

One of the examples that economist Joseph Schumpeter used in initially describing creative destruction was railroads. As railways became more prevalent, more manufacturers produced trains instead of things like wagons. Other companies adapted to take advantage of the growth of railroads by producing goods that could easily be transported by train. Towns appeared alongside railroad tracks, providing passengers with inns to stay at, restaurants to eat at, and other services, reducing the agricultural use of land in the Midwest.

How does creative destruction work?

The assumption that drives creative destruction is that resources and energy are limited and that for innovation to occur, old ways of doing things must be destroyed to allow those resources to be put toward innovation. While some economists treat economics as static mathematical models, creative destruction views economics as an ever-changing process where equilibrium isn’t the goal. Instead, economics must continuously be molded and reshaped by competition and changes in the ways of doing things.

Because creative destruction requires the elimination of something, there is usually a loser and a winner in the process. The people who profit off of or cling to the old ways lose out to those who innovate or adapt. A recent example of this is the falling profits of traditional retailers compared to the growth of e-commerce.

Why is creative destruction good for the economy?

Creative destruction is good for the economy because it is a process that encourages innovation, spurring growth. Over the years, creative destruction has led to the destruction of the old ways as new methods are discovered. With each innovation, society has changed, mostly for the better.

To use economist Joseph Schumpeter’s example of the railroad, the rise of the railroad made travel far easier for the average person. In ancient times, the only way for people to move from one place to another was to walk by foot. As societies domesticated animals like horses, people could use animals to travel more quickly. Eventually, people built vehicles such as wagons to make travel more comfortable and make it easier to transport goods. Railroads made transportation across vast distances even faster and more convenient. Where a trip on the Oregon trail took as long as five months by wagon or on foot, travelers could buy a ticket on a coast-to-coast train that took just a week. Today, a flight from Boston to Los Angeles takes hours, and travel is easier than ever before.

Without creative destruction turning farmland into towns and cities that supported railroads and factories into plants that produce trains and railroad tracks, the intercontinental railroad would never have been built, and people would still have to travel by foot, horse, and wagon. Without creative destruction allowing businesses to change their ways and build airplane engines and electronics, people wouldn’t be able to fly to other cities or continents.

Because creative destruction creates these societal changes, it creates economic opportunities. Railroad magnates, like Cornelius Vanderbilt, made millions by investing in new industries created by creative destruction. Even those who don’t become millionaires gain new opportunities in the jobs created by creative destruction.

Why is creative destruction bad for the economy?

While creative destruction is good for the economy in many ways, it can also be bad for the economy because it creates winners and losers over time. As old industries are destroyed, people who rely on those industries and who fail to adapt lose out while those who capitalize on new industries reap the rewards. Consider the effect that driverless cars could have on the shipping and trucking industries. Many truckers who fear losing their livelihood have spoken out about automation because it could force them out of their job. Unless they can adapt and find a new way to fit into the shipping industry, they’ll need to retrain and find new lines of work.

If creative destruction produces too few winners and too many losers, it can have an overall negative effect on the economy. Depending on the type of creative destruction, not everyone can be a winner. If the destroyed jobs tend to be low-skill, menial labor jobs, it takes significant investment for the people who lost their jobs to retrain into new roles.

In some cases, the people’s skills won’t make them well-suited for other jobs, leading to frustration for people who can’t pick up new skills like programming or accounting. In the same way, many programmers or accountants would have trouble learning things like carpentry or plumbing. Everyone has different skills and if creative destruction means that a set of skills is no longer economically valued as it once was, the people who have those skills lose out.

Creative destruction can also have similar results if the new opportunities afforded by the innovation are less lucrative than the jobs it destroys. Salespeople working in retail outlets may have commanded high wages by excelling at making sales. With the rise of e-commerce, many sales positions have disappeared and been replaced with jobs revolving around stocking and picking goods in warehouses. These jobs tend to command lower pay than a commission-based salesperson could earn.

Let’s use Amazon as an example. Amazon revolutionized e-commerce, leading to creative destruction where more people shop online, and fewer people shop at local stores. Many retail businesses have closed because of the rise of e-commerce. The fall of local retail means there are fewer opportunities for people to become small business owners of retail shops and has reduced job opportunities for people who want to work in retail or customer service. With fewer job opportunities, many suburban and rural areas have seen their economies shrink and their populations leave in search of new jobs. The percentage of Americans living in cities grew from 79% in 2000 to almost 81% in 2010, meaning cities held 27 million more people than they had 10 years earlier.

While e-commerce has opened up new opportunities, such as working in shipping or receiving for online retailers, these jobs tend to be concentrated in areas near large warehouses, meaning that many local economies can’t benefit from them –- Leaving those economies worse off than they were before.

Is entrepreneurship a process of creative destruction?

Entrepreneurship is often, but not always, a process of creative destruction. Implicit in the idea of entrepreneurship is the idea of starting a new business or venture. Some new businesses rely on creative destruction, like Spotify’s efforts to make streaming the primary way that people listen to music.

Other new businesses don’t have ambitions with the same industry-changing effects. For example, an entrepreneur opening a new café is unlikely to be looking to destroy the coffee industry’s way of doing things. Even if the café affects the other coffee shops in its area, it won’t destroy their way of doing things. Even if the new café offers different blends or techniques of making coffee, the existing shops are likely to continue as they did in the past, perhaps adopting some of the new shop’s techniques or products alongside their existing ones.

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