The share prices of Facebook, Apple and Google have slumped. Apple's is down almost 20 per cent in a few weeks, and the story for the other two isn't much better.
Over the past few weeks, the so-called Faangs – Facebook, Amazon, Apple, Netflix and Google – have lost $1 trillion in value.
Before examining the situation on Wall Street, let’s step back and examine the process whereby world-beating companies go from rude health to fragility in short order; the process is so much more interesting than the event.
You may remember a time, not so long ago, when Nokia was one of the most valuable companies in the world. In 2007, the Finnish company was worth $150 billion. It was far ahead of most of the pack in the burgeoning mobile phone business and was regarded as a model company at chief executive conferences all over the world.
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A few years years later, Nokia was flogged off for just $7 billion.
In 2006, the Canadian company RIM, maker of the revolutionary Blackberry device, was the darling of Toronto’s financial community, worth $70 billion at its peak. The device was so addictive among globe-trotting executives that it became known as the “Crackberry”.
In 2013 it was sold for less than $5 billion.
What happened?
Put simply, these world-beating companies were overtaken. This constant churn and relentless innovation whereby one company powers ahead only to be assailed by a more innovative competitor, is what the Austrian economist Joseph Schumpeter described as the "perennial gale of creative destruction".
Creative destruction is the essence of capitalism but it is also the core of innovation in the arts, literature and music. In fact, anywhere that creativity is valued, creative destruction is the force that propels individuals to greater and greater feats of innovation.
This is why the eclipse of once great companies is not too dissimilar to the ebb and flow of great artists, directors, writers. When an artist is going through what is often termed a “purple patch”, he or she is being more creative than all the rest. Typically this lasts a while and then they are overtaken by someone more creative who comes up with something new, a new storyline, a new melody or a better insight that resonates – and off we go again.
Success is transitory
The great innovation cycle is buffeted by the perennial gale of creative destruction, where the creativity involved in one product destroys the last one.
In economics this means that the business cycle is constantly being revolutionised by companies coming and going. Success is transitory, and longevity depends on where the next attack comes from.
This explains why the top 10 companies in the Dow Jones Index are very different today from the top 10 companies 20 years ago. The capitalist world is in a constant state of innovative flux.
Going back to art, although not always appreciated, unremitting innovation in economics and commercial endeavour is similar to unremitting innovation in the arts. The creative act that is setting up a company is similar to the creative act that is writing a book, a play, a movie or any piece of art.
In the past few years the wizards of finance have borrowed to gamble on the Faangs' imperiousness, leading to massive overvaluation.
When a writer such as Sally Rooney pens a novel, it may engender envy in other novelists (although they might not say it publicly, unless drunk at an award ceremony) precisely because they think it might put their work in the shade. Such a prospect may incentivise and spur them on to greater imaginative feats.
The economy works in a similar fashion, with companies and individuals constantly tinkering around to improve products. Trying to stop this innovative process to preserve the status quo is a bit like telling a writer that her new work is too good and can’t be published because it will get other writers’ noses out of joint.
In the same way as creative artists and writers make the world immeasurably better for audiences and readers, creative commercial innovators can enrich people’s lives. In a world of creative destruction, monopolies must be temporary because a monopoly can last only if others don’t copy its approach. But they do.
Creative destruction
So for example, Ryanair came into the market and pushed down prices by pushing down costs relentlessly. For a while this drove Ryanair uniquely as it won market share from the incumbents. In time, competitors arrived into the market, copied Ryanair and started beating Ryanair at its own game.
The upshot has been a dramatic increase in air travel for millions of people, with all the attendant spin-offs for tourism. Thus, in the aggregate, millions of people have benefited from Ryanair’s initial competitive innovation. You can’t stop this process.
This brings me to the big tech firms. Wall Street bet that their dominant position was permanent, in direct contradiction to the law of creative destruction which contends that success is always and everywhere temporary. Share prices are falling now because Wall Street has woken up the inevitability of creative destruction, which implies that no commercial success is permanent.
Given what we know about the ceaseless convulsions that drive the capitalist system rendering competitive advantage transient, isn’t it amazing that Wall Street bets the house on the presumption that these companies will never falter?
In the past few years the wizards of finance have borrowed to gamble on the Faangs’ imperiousness, leading to massive overvaluation. This wager now seems to be unravelling.
The companies may react by bringing out better products, who knows, but betting against creative destruction – in literature or commerce – is a bit like betting against human nature itself. Any takers?