What Is Creative Destruction?
Creative destruction is the dismantling of long-standing practices in order to make way for innovation and is seen as a driving force of capitalism.
- Creative destruction describes the deliberate dismantling of established processes in order to make way for improved methods of production.
- Creative destruction is most often used to describe disruptive technologies such as the railroads or, in our own time, the internet.
- The term was coined in the early 1940s by economist Joseph Schumpeter, who observed real-life examples of creative destruction, such as Henry Ford’s assembly line.
- Creative destruction can be seen across many different industries such as technology, retail, and finance.
- Creative destruction often has unintended consequences such as temporary losses of jobs, environmental issues, or inequity.
Understanding Creative Destruction
The term creative destruction was first coined by Austrian economist Joseph Schumpeter in 1942. Schumpeter characterized creative destruction as innovations in the manufacturing process that increase productivity, describing 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."
Basically, the theory of creative destruction assumes that long-standing arrangements and assumptions must be destroyed to free up resources and energy to be deployed for innovation. To Schumpeter, economic development is the natural result of forces internal to the market and is created by the opportunity to seek profit.
Creative destruction theory treats economics as an organic and dynamic process. This stands in stark contrast with the static mathematical models of traditional Cambridge-tradition economics. Equilibrium is no longer the end goal of market processes. Instead, many fluctuating dynamics are constantly reshaped or replaced by innovation and competition.
As is implied by the word destruction, the process inevitably results in losers and winners. Producers and workers committed to the older technology will be left stranded. Entrepreneurs and workers in new technologies, meanwhile, will inevitably create disequilibrium and highlight new profit opportunities.
In describing creative destruction, Schumpeter was not necessarily endorsing it. In fact, his work is considered to be heavily influenced by The Communist Manifesto, the pamphlet by Karl Marx and Friedrich Engels which decried the bourgeoisie for its "constant revolutionizing of production [and] uninterrupted disturbance of all social conditions."
Netflix is a modern example of creative destruction, having overthrown disc rental and traditional media industries.
Principles of Creative Destruction
- Innovation: Creative destruction involves the introduction of new ideas, products, and technologies that replace the existing ones. Innovation is the driving force of creative destruction. Without innovation, creative destruction could not exist and without innovators, there would be no change agents that could make creative destruction happen.
- Competition: The process of creative destruction involves intense competition between the old and new technologies or products. The new products or technologies must prove to be better and more efficient than the old ones to replace them. For this reason, creative destruction is usually heavily tied to competition and competitive advantages. Companies usually strive to find the best ways to do things and are often willing to creatively destroy what they've done in the past to find better long-term solutions.
- Entrepreneurship: Entrepreneurship is also critical to the process of creative destruction. The entrepreneurs who develop new products and technologies and disrupt existing markets are the agents of creative destruction. They are responsible for overseeing change management, educating both internal staff and consumers on how this change will impact them. Without clear guidance on the intention of the creative destruction, the entrepreneur will likely fail in their attempt to innovate.
- Capital: Last, a cornerstone principle of creative destruction is capital. Making sweeping, radical innovate changes is often expensive, and companies must be prepared to take on financial risk to make this change. Most often, companies will seen venture capital investments to aid with funding the creative destruction.
Creative Destruction Across Industries
Creative destruction can be seen across many different industries. As all companies often strive to be better, many businesses seek new ways to disrupt the status quo and seek new paths to better business opportunity. Some examples of those industries are below.
- Technology: The technology industry is perhaps the most obvious example of creative destruction at work. New technologies and software products are constantly emerging, replacing older ones and disrupting established markets. Companies may also creatively destroy their own products (i.e. Apple) in order to make way for better, more innovate solutions.
- Media and Entertainment: The rise of streaming services such as Netflix and Amazon Prime has disrupted the traditional media and entertainment industry, leading to the decline of cable TV and traditional movie theaters. Now, these streaming platforms are reinventing the wheel again by investing into making their own content.
- Retail: The growth of e-commerce has disrupted traditional retail, leading to the closure of many physical stores and the rise of online marketplaces. Consider the last time you visited a physical shopping mall. For many, it's been longer than when they last placed their last online purchase. Now, online retailers are upping the ante by expanding into other nontraditional forms of digital shopping (i.e. grocery foods).
- Finance: The rise of fintech startups has disrupted the traditional banking and finance industry, offering new and innovative services that challenge the traditional players. Now, people can invest in tokenized, fractionalized pieces of physical, tangible land.
- Energy: The development of renewable energy technologies is disrupting the traditional energy industry, leading to the decline of fossil fuels and the rise of solar and wind power. These companies are now needing to find more innovative ways to provide green solutions that make the inventions just a decade old obsolete.
Companies don't technically need to embark on creative destruction; however, by not doing so, they risk the occurrence of falling behind their competition.
Limitations of Creative Destruction
Though creative destruction can lead to many long-term positive aspects of economic growth and innovation, it does come with downsides. As old industries and technologies are replaced, jobs may be lost. This can lead to unemployment and hardship for those who are displaced due to the nature of their previous employment relating to an antiquated industry. It can also take time for new jobs and industries to emerge.
The benefits of creative destruction may also not be evenly distributed. Wealth and power may become concentrated in the hands of a few individuals or companies that are able to succeed in the new markets. This is often the case for those who have the best access to power, capital, or influence. Those who have already succeeded are also the most likely to have the best opportunity to embark on creative destruction.
The process of creative destruction may also have negative environmental consequences. New technologies and products may have unforeseen environmental impacts that are not immediately apparent, and the process of replacing old technologies with new ones may also have an environmental cost. It may sometimes take years for enough evidence has been collected to truly see the long-term implications of certain forms of innovation.
Creative Destruction Examples
Examples of creative destruction in history include Henry Ford's assembly line and how it revolutionized the automobile manufacturing industry. However, it also displaced older markets and forced many laborers out of work.
The internet is perhaps the most all-encompassing example of creative destruction, where the losers were not only retail clerks and their employers but also bank tellers, secretaries, and travel agents. The mobile internet added many more losers, from taxi cab drivers to mapmakers.
The winners, beyond the obvious example of programmers, might be just as numerous. The entertainment industry was turned upside down by the internet, but its need for creative talent and product remains the same or greater. The internet destroyed many small businesses but created many new ones online.
The point, as Schumpeter noted, is that an evolutionary process rewards improvements and innovations and punishes less efficient ways of organizing resources. The trend line is toward progress, growth, and higher standards of living overall.
Why Is Creative Destruction a Good Thing?
While creative destruction can cause short-term pain and job losses, it is generally seen as a positive force for long-term economic growth and progress. Creative destruction is driven by innovation, which is a key driver of economic growth. Creative destruction also encourages competition, which helps to keep prices low and quality high. Last, it may help the economy become more resilient by breaking up monopolies and reducing reliance on outdated industries or technologies.
What Emerges From Creative Destruction?
Creative destruction can give rise to entirely new industries that did not exist before. For example, the rise of the internet has created new industries, such as e-commerce, social media, and digital marketing. This also means that existing products and services are replaced by new innovations which can lead to brand new business models. Last, each of these items mentioned above can result in new jobs or employment sectors.
What Areas of the Economy and Markets Is Creative Destruction Used to Describe?
Creative destruction can occur within almost any industry, leading to the destruction of existing companies and the emergence of new ones. It can further happen at a lower level such as individual products and services, leading to the replacement of existing products and services with new ones. By extension, this all has an impact on jobs and employment. Simply put, all industries, markets, and sectors are subject to innovation and can be the subject matter to creative destruction.
What Are Modern Examples of Creative Destruction?
Consider Apple's frequent product releases. When the company deems it necessary, they release new gadgets, hardware, or software that usually takes the place of prior offerings. This is an example of Apple embarking on creative destruction where they make their older items obsolete in favor of coming up with innovative, new solutions for long-term benefit.
The Bottom Line
Creative destruction is a concept introduced by economist Joseph Schumpeter that refers to the process of innovation and technological change that leads to the destruction of existing economic structures, such as industries, firms, and jobs. This destruction paves the way for new structures to emerge, thereby creating long-term economic growth and progress. Though potential short-term downsides, creative destruction has the intention of creating long-term value.