TCS Daily


No Exit, Big Problem

By Nick Schulz - March 28, 2007 12:00 AM

"We were going to produce superior steaks to sell at premium prices, revolutionize milling and baking, convert garbage into animal feed (with what we wrongly thought was great technology) and bring about several other breakthroughs in agriculture. Alas, none of this came to pass and we ... suffered sizable losses."

-- Charles Koch, "The Science of Success"

"Nothing is so permanent as a temporary government program."

-- Milton Friedman

We should all be grateful to Charles Koch. Anyone who tries "to produce superior steaks" is a hero in my book. For us omnivores, we can only wish more businesses were doing precisely that.

But more importantly, Koch has published a new book that provides people who care deeply about business and politics something important to think about - the role that exit plays in ensuring quality and success.

Koch is the CEO of Koch Industries Inc., one of the best-performing firms in American history. Koch Industries is the largest private company in the country with businesses in minerals, energy, financial services and consumer goods. It brings in over $90 billion in revenues and has over 85,000 employees around the world.

Koch's book, "The Science of Success: How Market-Based Management Built the World's Largest Private Company" outlines the conceptual management framework that Koch's executives used to create an American business giant.

Readers are encouraged to pick it up and mine it for insights, but what jumped out for me was a portion of the book where Koch discussed the businesses his firm entered and then later exited.

What's clear from Koch's book is that a portion of their success comes from failure - specifically, knowing how to handle and manage failure (or even successes that are not as robust as the firm's managers require). For Koch, failing to achieve goals is not in and of itself a bad thing, provided it is viewed as part of a learning and discovery process. As he puts it,

"This brief company history may leave the impression that our experience has been one of ever-improving results, with one success after another, each building on the one before. Nothing could be further from the truth. Progress, whether in business, an economy or science, comes through experimentation and failure. Given that a market economy is an experimental discovery process, business failures are inevitable and any attempt to eliminate them only ensures overall failure. The key is to recognize when we are experimenting and limit the bet accordingly."

It is a counter-intuitive notion that in celebrating success one must focus on failure. But this aspect is part of what makes the study of business and technology so interesting and fruitful.

In his book Koch provides a list of over 40 businesses they exited, from pizza dough to tennis court surfaces to air quality consulting. It is clear that Koch's management is proud of its ability to identify areas they should exit and take the steps to do so. Exit is often a painful and difficult process and there are significant obstacles to its realization - sentiment, bureaucracy, loss of business vision. But exit is nonetheless crucial for success.

While governments are not private enterprises, there are some lessons governments - and voters -- can learn from the experiences of successful private sector firms. Businesses enter and exit enterprises all the time; and as Koch's experience makes plain, the most successful enterprises routinely exit businesses they once thought promising (see Foundations of the Kling School for more on the importance of exit). But governments enter all sorts of enterprises and activities while exiting far less frequently. Federal agriculture support programs, for example, have long outlived the point at which any reasonable person could justify their existence. And yet they persist.

Or consider schools. There are many excellent government-run and government-administered schools. That said, a great many of them should probably be out of business (the federal government estimates there are over 10,000 schools that are failing). And yet they are protected from exiting by political forces.

Governments lack the powerful market feedback mechanisms that generate successful exits. Indeed, political feedback mechanisms frequently block desirable exits and can often lead to doubling down on bad policy investments.

A presidential campaign is gearing up, and in several key economic sectors, such as health care and education, bi-partisan political interests are agitating for more and greater government entry. Examples include calls for single-payer socialized health care and greater federal involvement in testing and managing of schools. But with government exit so difficult to come by, even in the face of failure, it is proper for voters to be skeptical of these proposed intrusions and question their merits.

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3 Comments

problems
Great article about the hubris of politicians and beaurocratic hubris that thinks it knows more than the markets do. there can be no exit because it's the nature of government organs to always expand, if they can get away with it. They create vested interests who will fight tooth and nail to avoid rational change. This is the reason that they just hate it that common people are learing about 'Public Choice' economics. So is HUD really good at it's goals? What about USAID after all the studies that show that such aid is actually harmful instead of helpful? Well you get idiots like Jeffry Sachs that recommoned the longsuffering taxpayers just front another trillion or so more; and to the same predictable effect. Or maybe we could write the word 'exit' into english instead of latin.

No Subject
The point about aid is an important one. It is remarkable how broad the consensus among economists is about aid these days (Jeff Sachs nothwithstanding). And yet it persists and grows. But it's an excellent example of how even the truly best-intentioned ideas sometimes don't work out (Koch's steaks were a GREAT idea in my book, but it just didn't work).

'Big Aid'
Big Aid is meant to serve those who administer it. Rich guys like J. Sachs are just more examples of 'useful idiots', that the entrenched interests can always find to propagandize the cause.

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