Rouse on Transformation

We seem to be in times of great uncertainty and potentially enormous changes.  I have been wondering how different this is from the past.  To answer this question, I reviewed our country’s first 40 decades – from 1620 until now in the first year of the 40^th decade.  How many decades would you guess there has been neither a war nor a financial crisis?  Just seven.  The last decade with neither was 1880!

Thus, it appears that we have always faced much uncertainty and possible fundamental changes.  How have we responded?  Not surprisingly, most people clung to the status quo as long as they could.  Many tried to thwart change.  Those who had invested in capacities to succeed within current business models understandably did not want these capacities to be rendered obsolete.  They argued that the emerging business models would fail, that technologies would not work, and that markets would not materialize.  However, much has changed.

Yet we still have wars and financial crises, if fact with increasing frequency as the decades have gone by and our role in the world has changed from being a distant colony to a world power and, to an extent more recently, the world’s policeman.  How should one respond to increasing uncertainty and likelihood of major changes?  We have been addressing this question by using microeconomic models of firms and markets.  Is it better for the firm to act faster, learn faster, or predict better so as to enable new offerings that will succeed in changing markets?

Acting faster has the biggest impact, but requires the greatest investment.  Learning faster is less expensive, but is only useful if the knowledge gained enables acting differently.  The value of predicting better increases if one can also learn and act faster.  These conclusions seem intuitively reasonable.

However, these conclusions change as markets become increasingly uncertain and noisy.  At some point, the likely error of changing becomes at least as large as the error of continuing to do what you are already doing.  And, what you are already doing probably requires the least investment because you are already doing it.  Thus, the rational, profit maximizing firm will squirrel away resources and wait until the market signals become much clearer.  In such situations, the right response is to do nothing.