The Zero Marginal Cost Society: The Internet of Things, the Collaborative Commons and the Eclipse of Capitalism
The third Industrial Revolution is on its way. New York Times bestselling author Jeremy Rifkin describes how the emerging Internet of Things is speeding us to an era of nearly free goods and services, precipitating the meteoric rise of a global Collaborative Commons and the eclipse of capitalism.
A new economic system is entering onto the world stage. The Collaborative Commons is the first new economic paradigm taking root since the advent of capitalism—and its antagonist socialism—in the early 19th century. The Collaborative Commons is already transforming the way we organize economic life, offering the possibility of dramatically narrowing the income divide and democratizing the global economy in the first half of the twenty-first century.
The Great Debate on Income Inequality and the Piketty Fallacy
Not surprisingly, the emergence of this new economic system is coming at a time when capitalism is under greater scrutiny. A heated global discussion has commenced around whether the capitalist free market inherently favors the interest of the investor class at the expense of pauperizing the working class. Thomas Piketty, in his new book Capital in the Twenty-First Century, presents a controversial argument, supported by reams of data and statistics, that over time the rate of return on capital has exceeded the rate of growth of the economy, enriching the super managers and bankers, while the rest of society languishes—now captured in the infamous phrase “The 1 percent vs. the 99 percent.” Their riches, in turn, allow the 1 percent to influence tax policies to their favor and ensure a lax regulation of their management, giving them still another leg up on the income ladder, further imbedding them and their heirs at the very pinnacle of a global economic pyramid.
Piketty suggests that the antidote lies in enacting a global tax of 80 percent on incomes of “$500,000 or $1 million,” but quickly adds that those who rule over the economy and exercise tremendous power in the corridors of government will likely never allow their financial interests to be compromised. This leads Piketty to conclude that income inequality will only continue to worsen, public ire will swell, and social unrest will spread, making the prospect of upheaval likely on a global scale.
While Piketty’s statistical analysis of the growing income divide has been questioned, on a deeper level, his study fails to explain the underlying causes that invariably gave rise to income inequality in the capitalist era. In short, his thesis is rather more of a tautology, to wit: those who control the capital disproportionately benefit from the evolution of capitalism. Left eerily unaddressed is the technological constraints and economic forces that required massive capital formation during the first and second industrial revolutions in the nineteenth and twentieth centuries. It’s those constraints and forces that spawned the pyramidal organization of economic life upon which the capitalists soared to their present perch—where the combined wealth of the world’s 85 richest people equals the wealth of the poorest 3.5 billion people, half of the human population on earth.
To understand how this came about, we need to examine the evolution of economic history. Every great economic paradigm requires three elements, each of which interacts with the other to enable the system to operate as a whole: a communication medium, a power source, and a transportation mechanism. Without communication, we can’t manage economic activity. Without energy, we can’t generate information or power transport. Without logistics and transport we can’t move economic activity across the value chain. Together, these three operating systems make up what economists call a general purpose technology platform.
In the 19th century, steam-powered printing and the telegraph, abundant coal, and locomotives on national rail systems meshed in a seamless general purpose technology platform that gave rise to the first industrial revolution. In the 20th century, centralized electricity, the telephone, radio and television, cheap oil, and internal combustion vehicles on national road systems converged to create an infrastructure for the second industrial revolution.
The dramatic improvements in communication, power generation, and logistics and transport, brought on by the first and second industrial revolution technology infrastructures, quickened the speed, volume, and potential commercial reach of economic activity, making possible a vast spatial expansion of commercial life beyond localities and regions to national and even continental and global markets. The prospect of national, continental, and global markets required a complete rethinking of the business model across every industry.
The railroad companies became the first modern capitalist corporations. Financing a national and continental rail infrastructure required a whole new type of business organization—the modern stockholding corporation. The sale of railroad securities turned the small provincial New York Stock Exchange into a financial powerhouse.
The high capital cost of establishing a rail infrastructure necessitated a business enterprise organized around vertical integration, bringing upstream suppliers and downstream customers together under one roof, to create sufficient economies of scale to ensure an ample return on investment. The major railroads bought mining properties to secure a guaranteed supply of coal for their locomotives. The Pennsylvania Railroad even financed the Pennsylvania Steelworks Company, ensuring a steady supply of steel to make its rails. The Canadian Pacific Railroad built and managed hotels near its rail stations to accommodate its passengers.
Other businesses followed in the footsteps of the continental railroad companies, becoming publicly traded stock holding corporations, enabling them to raise the massive amount of capital needed to vertically integrate their commercial businesses, stretching across national, continental and even global markets. The vertically integrated business enterprise evolved in the last quarter of the nineteenth century and became the dominant business model during the whole of the twentieth century. The great value of vertically integrated companies is that by eliminating many of the middle men across the value chain, these new mega enterprises were able to significantly reduce their transaction costs while dramatically increasing productivity.
Running these mammoth enterprises required the successful rationalization of every aspect of the company’s business operations. Max Weber, the great nineteenth-century sociologist, noted that the modern business corporation is arranged pyramidically, with all decision making automatically flowing from the top down. Formal rules and procedures dictating the flow of activity, the definition of tasks, how work is to be carried out, and how performance is to be judged at every stage of operations are meticulously planned, leaving little room for improvisation.
Top management enjoyed iron-clad control over every facet of corporate operations, not the least being their influence in the selection of outside board of directors who rubber stamped their own compensation packages. It’s no coincidence that the great corporate robber barons of the late nineteenth century—Cornelius Vanderbilt (railroads), John D. Rockefeller (oil), Andrew Carnegie (steel), and J.P. Morgan (finance)—were the entrepreneurs who established the first giant vertically integrated corporations and the financiers whose capital underwrote their commercial ventures.
Vertically integrated companies introduced new efficiencies whose economies of scale lowered their marginal costs, enabling them to sell ever larger volumes of cheap mass-produced goods to an eager public. Diamond Match Company, W. Duke and Sons Tobacco, Pillsbury, H. J. Heinz, Procter & Gamble, Eastman Kodak, and I. M. Singer and Company were among the hundreds of companies to adopt the vertically integrated business model to achieve efficient economies of scale. Cheaper products stimulated mass consumer demand, which in turn spawned new business opportunities and the hiring of workers, improving the standard of living for millions of people—but not as fast as the revenue flowing to the top.
The second industrial revolution businesses in the twentieth century continued apace. The oil industry, electricity transmission companies, telephone companies, and automobile manufacturers, incorporated into stock holding enterprises to raise the large sums of capital needed to create giant vertically integrated commercial operations and secure economies of scale to ensure returns on the investments to their shareholders.
Vertical integration allowed a few market leaders to emerge and monopolize their respective industries. Today, three of the four largest shareholding companies in the world are oil companies—Royal Dutch Shell, ExxonMobil, and BP. Underneath the oil giants are ten banks—JPMorgan Chase, Goldman Sachs, BOA Merrill Lynch, Morgan Stanley, Citigroup, Deutsche Bank, Credit Suisse, Barclays Capital, UBS, and Wells Fargo Securities—that control nearly 60 percent of the worldwide investment banking market. Beneath the financial investors are 500 globally traded companies with combined revenue of $12.06 trillion in 2012, nearly 17 percent of the world’s $72 trillion GDP.
The managers of these giant corporations, like their robber baron predecessors of the nineteenth century, continue to exercise near total control over their vertically integrated global enterprises, including ensuring a pliant board of directors who can be relied on to reward them with pay packages that would be the envy of monarchs and kings of former times. The top ten highest paid CEOs in America in 2012 enjoyed a combined $4.7 billion in compensation and none took home less than $100 million for a year’s work.
The concentration of economic power in the hands of the management and board of directors of several hundred global companies and the financial community has lead to greater income inequality, with the top 1 percent disproportionately benefitting at the expense of the rest of the workforce. (Although some analysts argue that outsourcing in recent years has modified the trend to vertical integration, in effect, giant global companies are able to hold these captive satellite operations tight to the vest, while unburdening themselves of some of the additional operating costs, were these economic activities to remain in-house).
Piketty seems to be unaware of how the modes of communication, energy, and logistics and transport, partially determine the way economic and political power are exercised in every economic paradigm in history. He even takes pains to distance himself from the notion, writing that
One should be wary of any economic determinism in regard to inequalities of wealth and income. The history of the distribution of wealth has always been deeply political, and it cannot be reduced to purely economic mechanisms… The history of inequality is shaped by the way economic, social, and political actors view what is just and what is not, as well as by the relative power of those actors…
While I don’t disagree that political and social actors affect how the fruits of economic activity are distributed, to ignore or dismiss the technological framework of an economic system as if it were neutral is to misunderstand why some economic paradigms in history are more prone to concentration of wealth, while others are not. The first and second industrial revolutions required massive capital to fund vertically integrated enterprises and achieve sufficient economies of scale to ensure an adequate return to investors. Simply stated, this was the most efficient system to reduce marginal costs and enhance profits. Finding ways to temper the inevitable concentration of wealth and power that inexorably flowed to the top has been historically tepid because of the inherent architecture of the system. To not understand this, is to have a debate on income inequality over the past two centuries, with the main contributing factors completely absent from the discussion.
Zero Marginal Cost and the Internet of Things
This reality becomes all the more poignant now because we are on the cusp of a Third Industrial Revolution that is beginning to break the hold of vertically integrated global companies as well as the investment community that rides alongside them. Ironically, what’s precipitating the rupture of the capitalist system is the extraordinary success of the marketplace. There lies a paradox at the very heart of the capitalist ethos that has been responsible, in large part, for its great success over the past two centuries, but that is now leading to its potential downfall. Private enterprises are continually seeking new technologies to increase productivity and reduce the marginal cost of producing and distributing goods and services so they can lower prices, win over consumers, and secure sufficient profit for their investors. (Marginal cost is the cost of producing additional units of a good or service, if fixed costs are not counted.) Businesses, however, never imagined that extreme productivity might one day bring marginal costs to near zero, making many goods and services nearly free, and no longer exchangeable in the capitalist market. That’s now beginning to happen.
Extreme productivity, brought on by a plethora of new smart technologies, is propelling the capitalist system to an endgame in which each additional unit of many goods and services are beginning to approach near zero marginal cost. The zero marginal cost phenomenon invaded the information goods sector in the past decade. Hundreds of millions of consumers turned prosumers, producing and sharing their own music, videos, and other forms of entertainment, as well as news and knowledge, at near zero marginal cost, bypassing the capitalist marketplace. Music industry revenues plummeted. Newspaper and magazine revenues also shrank, with many publications going out of business, unable to compete with free web media and blogs, operating at near zero marginal cost. Similarly, book publishing shriveled while retail bookstores closed their doors as more prosumers published free e-books. More recently, the zero marginal cost phenomenon burst into the field of higher education, wreaking havoc on the traditional learning model. Six million students are currently enrolled in free Massive Open Online Courses (MOOCs), that operate at near zero marginal cost, and are being taught by world-class academics, and receiving college credits.
Economists acknowledge the deep disruption that near zero marginal cost has had on the above mentioned industries but, until late, have argued that the phenomenon would be restricted to information goods, and not spill over to the world of physical goods and services. No longer.
A new general purpose technology platform is evolving with the potential of reducing marginal costs across large sectors of the capitalist economy. The ubiquitous Communication Internet is expanding its global reach by connecting with an incipient renewable Energy Internet, and an embryonic automated Logistics and Transport Internet, creating a distributed neural network, combining communications, power, and mobility in a single operating system—a Third Industrial Revolution. This more encompassing super Internet of Things (IoT) is designed to connect every thing and every human being across the economic value chain in an indivisible intelligent web that functions like a global brain. Twelve billion sensors are already attached to natural resources, road systems, warehouses, vehicles, factory production lines, the electricity grid, retail stores, offices and homes, continually feeding Big Data to the Communication Internet, Energy Internet, and Logistics Internet. By 2020, Cisco forecasts that there will be upwards of 50 billion sensors connected to the IoT. Another recent projection estimates that upwards of 100 trillion sensors will be connected to the IoT by 2030.
Business enterprises and prosumers will be able to connect to the IoT and use Big Data and analytics to develop predictive algorithms that can speed efficiency, dramatically increase productivity, reduce the use of energy and other resources, and lower the marginal cost of producing and distributing physical things to near zero.
For example, the bulk of the energy we use to heat our homes and run our appliances, power our businesses, drive our vehicles, and operate every part of the global economy will be generated at near zero marginal cost and be nearly free in the coming decades. That’s already the case for several million early adopters who have transformed their homes and businesses into micro-power plants to harvest renewable energy on-site. Even before the fixed costs for the installation of solar and wind are paid back—often as little as 2 to 8 years—the marginal cost of the harvested energy is nearly free. Unlike fossil fuels and uranium for nuclear power, in which the commodity itself always costs something, the sun collected on rooftops and the wind travelling up the side of buildings are nearly free. The IoT will enable prosumers to monitor their electricity usage, optimize their energy efficiency, and share surplus green electricity with others on the Energy Internet.
Similarly, hundreds of thousands of hobbyists and thousands of startup companies are already printing out their own manufactured products using free software, and cheap recycled plastic, paper, and other locally available feedstock at near zero marginal cost. The additive manufacturing process uses one tenth of the materials of traditional factory production, resulting in a dramatic reduction in the use of the earth’s resources. By 2020, prosumers will be able to share their 3D printed products with others on the Collaborative Commons by transporting them in driverless electric and fuel cell vehicles, powered by near zero marginal cost renewable energy, facilitated by an automated Logistics and Transport Internet.
The distributed, peer to peer nature of the Internet of Things platform allows millions of small players—social enterprises and prosumers—to come together in a global Collaborative Commons, erecting lateral economies of scale that eliminate the remaining middle men on the vertically integrated value chain, collapsing the markups that kept marginal costs high in the past. In the coming era, everyone becomes a prosumer, producing and sharing energy and physical goods and services more directly with one another, on the Internet of Things, at near zero marginal cost and for nearly free, just as we’ve done in producing and sharing information goods on the Internet. This fundamental technological transformation in the way economic activity is organized and scaled portends a great shift in the flow of economic power from the few to the multitudes and the democratization of economic life.
The productivity gains of the Third Industrial Revolution are likely to far outstrip those of the First and Second industrial revolutions. Several billion people connected to the Internet of Things allows the human race to share their economic lives in a global Collaborative Commons, in ways previously unimaginable. This turning point in connectivity potentially exceeds even the integration of economic activity wrought by electrification and the accompanying spread of the telephone, radio and television in the 20th century. Cisco systems forecasts that by 2022, the Internet of Things will generate $14.4 trillion in cost savings and revenue. A General Electric study published in November 2012 concludes that the efficiency gains and productivity advances made possible by a smart industrial Internet could resound across virtually every economic sector by 2025, impacting “approximately one half of the global economy.”
The Rise of the Collaborative Commons
Millions of people are transferring bits and pieces of their economic life from capitalist markets to the global Collaborative Commons. Prosumers are not only producing and sharing their own information, entertainment, green energy, 3D-printed goods, and enrolling in massive open online courses on the Collaborative Commons at near zero marginal cost. They are also sharing cars, homes, and even clothes with one another via social media sites, rentals, redistribution clubs, and cooperatives, at low or near zero marginal cost.
Forty percent of the US population is actively engaged in the collaborative sharing economy. For example, 800,000 individuals in the US are now using car sharing services. Each car share vehicle eliminates 15 personally owned cars. Concurrently, millions of apartment dwellers and home owners are sharing their dwellings with millions of travelers, at near zero marginal cost around the world, via online services like Airbnb and Couchsurfing. In New York alone, Airbnb’s 416,000 guests who stayed in houses and apartments between 2012 and 2013 cost the New York hotel industry 1 million lost room nights. The result is that “exchange value” in the marketplace is increasingly being replaced by “shareable value” on the Collaborative Commons.
In a zero marginal cost society, extreme productivity decreases the amount of information, energy, material resources, labor and logistics costs, necessary to produce, distribute, and recycle economic goods and services, once fixed costs are absorbed. The shift from ownership to access also means more people are sharing fewer items, dramatically reducing the number of new products sold, resulting in fewer resources being used up and less global warming gases being emitted into the earth’s atmosphere. In other words, the headlong push to a zero marginal cost society and the sharing of nearly free green energy and an array of basic goods and services on the Collaborative Commons is the most ecologically efficient and optimally sustainable economy achievable. The drive to near Zero Marginal Cost is the ultimate benchmark for establishing a sustainable future for the human race on earth.
Recent surveys underscore the broad economic potential of the Collaborative Commons. A comprehensive 2012 study found that 62 percent of Gen Xers and Millennials are attracted to the notion of sharing goods, services, and experiences in Collaborative Commons. These two generations differ significantly from the baby boomers and World War II generation in favoring access over ownership. When asked to rank the rational benefits of a sharing economy, respondents to the survey listed saving money at the top of the list, followed by impact on the environment, lifestyle flexibility, the practicality of sharing, and easy access to goods and services. As for the emotional benefits, respondents ranked generosity first, followed by a feeling of being a valued part of a community, being smart, being more responsible, and being a part of a movement.
How likely is it that the Collaborative Commons will disrupt the conventional business model? According to an opinion survey conducted by Latitude Research, “75% of respondents predicted their sharing of physical objects and spaces will increase in the next five years. . . .78% of participants felt their online interactions with people have made them more open to the idea of sharing with strangers.” Many industry analysts agree with these optimistic forecasts. In 2011, Time magazine declared collaborative consumption to be one of its “10 ideas that will change the world.”
The Collaborative Commons has the potential to massively undermine the capitalist market much sooner than many economists expect, because of the 10 percent effect. Umair Haque, author of The New Capitalist Manifesto and a contributing writer to the Harvard Business Review, sees the collaborative economy as having a “lethally disruptive” impact at a much lower threshold of buy-in because of its ability to undercut already dangerously low profit margins across many sectors of the economy. He writes:
If the people formally known as consumers begin consuming 10% less and peering 10% more, the effect on margins of traditional corporations is going to be disproportionately greater. . . . Which means certain industries have to rewire themselves, or prepare to sink into the quicksand of the past.
What’s becoming apparent is that a growing number of giant capitalist enterprises across a range of commercial sectors that are already facing plummeting profit margins will not be able to survive for very long against the rising tide of near zero marginal costs in the production and delivery of goods and services. Although the thousand or so integrated, vertically scaled megacorporations that currently account for much of the world’s commerce are seemingly invincible, they are highly vulnerable to peer production and sharing in a networked, laterally scaled Collaborative Commons that is quickly eating away at their already precariously low profit margins.
It’s not unreasonable to expect a significant die-off of the vertically integrated global companies of the Second Industrial Revolution when the Collaborative Commons accounts for between 10 and 30 percent of the economic activity in any given sector. At the very least, we can say that conventional capitalist markets will increasingly lose their dominant hold over global commerce and trade as near zero marginal costs push an ever greater share of economic activity onto the Collaborative Commons in the years ahead.
Global companies, operating in the profit-driven capitalist marketplace, will likely remain with us far into the future, albeit in an increasingly streamlined role, primarily as an aggregator of network services and solutions, allowing them to flourish alongside the Collaborative Commons as powerful partners in the coming era. The financial sector will also play a critical part in the collaborative age, funding the build out of the Third Industrial Revolution Internet of Things infrastructure. The capitalist market, however, will no longer be the exclusive arbiter of economic life. We are entering a world partially beyond markets where we are learning how to live together in an increasingly interdependent global Collaborative Commons.
About the Author
Jeremy Rifkin is the author of The Zero Marginal Cost Society: The Internet of Things, the Collaborative Commons, and the Eclipse of Capitalism. Rifkin is an advisor to the European Union and to heads of state around the world, and president of the Foundation on Economic Trends in Washington, DC.