Thursday, September 23, 2010

Government and Disruptive Innovation

The concept of disruptive innovation is interesting, and it certainly can shake things up in the marketplace - the idea of offering unexpected innovations in pricing and service, typically to offer something for a lower price (or free) or reaching out to a new group of consumers. There are a few points to consider, though: something offered as a disruptive innovation is likely to be inferior to the existing range of competing products or services on the market. The lower price point demanded by the new market will almost always require compromise, and that market has already established by "voting with its pocketbook" that it's not willing to pay the previously established market price. Disruptive innovation also usually involves a serious trade-off - such as worse service in exchange for convenience. You can carry a cell phone with you, but at the cost of sometimes getting bad reception, sometimes having calls dropped, sometimes not being able to get a signal due to network congestion.... Over time the technology may improve, but at the outset (and perhaps indefinitely) the consumer typically gives up a lot. The "innovation" part of "disruptive innovation" is not about finding ways to improve products or services, but is about finding ways to reach new markets.

Matt Miller suggests that the Obama Administration "has a chance for an economic policy reboot" and should try something different. He credits the administration for taking steps to arrest the nation's economic problems and for preventing a worse outcome, but believes that the administration needs to do more to overcome the inertial of powerful factions that resist change. He identifies the medical industry, traditional colleges, public schools. But He steers his argument in the wrong direction, suggesting that the Obama Administration should embrace "disruptive innovation" as a way to "deliver more for less" - perhaps he means "creative destruction". Because, as previously noted, "disruptive innovation" is about finding ways to deliver less to more people. The two concepts often go hand-in-hand, but they represent very different things.

Miller specifically refers to Netflix as an example of "disruptive innovation", but it's more of an example of creative destruction. I didn't save money by signing up for Netflix, but I did gain convenience - I don't have to go to to the video store to rent a movie, nor do I have to hurry back by a specific deadline in order to avoid late fees.1 Offering a sufficient number of simultaneous rentals to satisfy a typical consumer along with that convenience certainly has impacted the traditional "brick and mortar" video rental industry. But Netflix did not create a new market of consumers - it provided an alternative means of delivery to an existing market. (And at present it's ramping up its streaming video business in anticipation of a future in which video rental will not involve physical media - again, creative destruction but not disruptive innovation).

Miller provides a better example with cheap, online, non-accredited degree programs. (He could also point to for-profit colleges such as The University of Phoenix and DeVry.) Yes, they're cheaper than traditional colleges, and in the case of the online program Miller highlights much cheaper. But few would dispute that there's a serious trade-off in terms of quality. More people can afford them, but the quality and experience is lesser, and the degree you get at the end of the program is less valuable (or in some cases, worthless as a credential). Miller suggests that if we stopped accrediting colleges (or is it, if we stopped requiring that colleges meet minimum quality standards before accrediting them) the model of the "freshman year of college via online courses for $999" could cause "the cost of a degree" to "plummet". But that's highly misleading, as colleges use the profits from lecture hall sized required courses to subsidize their other operations. Also, cheaper though it may be, why should we assume that "credits" from a $999 "first year of college" program will convey a sufficient education to substitute for those that would be obtained through a traditional college course, or even the online course offered by a traditional college?

The accreditation process is out-of-date, and does not reflect the realities of the information age. Yes, it would make sense for the Obama Administration to urge national accrediting organizations to reconsider their criteria for accreditation of graduate and undergraduate schools and programs, and to encourage state leaders to take a hard look at what's going on in state universities. Yes, there would be a push-back against reform from some of the vested interests. But I suspect the resistance from colleges would be less than Miller believes. Traditional colleges are growing at the rate of about 3% per year and are struggling to make ends meet. For-profits are growing at about ten times that rate, and are making money. But it may turn out that the quality of a "$999 first year of college" program cannot raised to the point that it's deserving of accreditation.

Miller also points to concierge medicine, in which patients pay a fixed monthly fee for primary care, as an example of "disruptive innovation". But it's again a poor example. If you're uninsured and have high medical needs, it may well save you money to pay "$44 to $84 a month" for your primary care... assuming you're obtaining primary care. But you probably can't afford it. If you have decent insurance your share of your primary care cost is likely considerably less. Either way you still need insurance for your more serious medical needs - emergency room visits, hospitalizations, etc. - and medication. How does a business like that scale? By pitching itself to employers as an alternative to traditional health insurance plans - "Offer our program for primary care, backed up by inexpensive catastrophic insurance programs for your employee's more serious health issues, and maybe a prescription discount program."

Miller explains that concierge medicine saves money by "cut[ting] insurers, and the estimated 40 cents they take out of every dollar spent on primary care, out of the equation," noting that as compared to other nations, U.S. "health costs [represent] 17 percent of the gross domestic product when every other advanced nation is at 10 or 11 percent, with similar health outcomes." It's worth noting that domestically, the government has been the leading innovator for billing and reimbursement models meant to improve quality and reduce medical cost. But it's also worth noting that the rest of the developed world isn't spending far less than the U.S. because of free market solutions - they're enjoying that savings primarily because they either strictly regulate private health insurance both in terms of covered services and pricing, or because the government itself is the primary provider of health insurance.

Concierge medicine has parallels in other nations, in which salaried doctors working in medical clinics have a defined patient load and receive their base salary for treating that population of patients. It's only more complicated here - only an "innovation" here - because of the effort it takes to scale that type of medical practice to compete against traditional private health insurance. The concept was also harmed by the abuses that occurred after the introduction of HMO's, which did save money but were quite fairly accused of doing so by denying care. The model Miller describes would cream off the provision of the most predictable services to the relatively healthy, pre-Medicare, non-Medicaid population, but would make the most unpredictable, most costly aspects of medical care somebody else's problem. Even if adopted nationwide, there's no reason to believe that concierge medicine for primary care would do a thing to reduce healthcare inflation or the high cost of inpatient care, long-term care, specialized services or pharmaceuticals. Also, if the most profitable patients are pulled out of comprehensive health insurance plans, guess what happens to the cost of comprehensive health insurance?

Miller also overstates his case. For example,
Then there's the K-12 Industrial Complex, which leaves us spending more than other wealthy nations, even as we're stuck in the middle (or worse) on international tests.
Except we don't have a "K-12 Industrial Complex". We have private schools that serve the elite, and no small number of private and parochial schools that principally serve the middle class. We have public schools that, for the most part, provide a solid education to the nation's children. And we have a subset of public schools, primarily in low-SES communities, that have not historically been able to keep their student bodies at or even near grade level. Exclude that last group from "international tests" and our scores become competitive. If it needs to be explained, that's why the focus of "education reform" is on the inner cities.

Moreover, the "best" charter schools are not hotbeds of innovation or cost control - they typically rely on infusions of grant money to make ends meet, and typically also involve many more hours per day or week in class and on school grounds.1 It's not actually an innovation to offer more of the same at a higher cost, let alone when most charters show little to no improvement in performance as compared to their public school counterparts. Miller sneers that the D.C. parents who recently voted Mayor Fenty out of office were "fretting more about ineffective teachers who lose their jobs than poor children who lose their shot at an education" - No, Matt, they were concerned about their own kids as pawns in a political struggle that they did not see as bearing the promised fruit. As a teacher from a successful charter school states,
There’s a lot that many in the public system can learn from how [the SEED Public Charter School] operates — but that doesn’t mean that SEED or other charters ought to supplant the entire system serving 50 million students.

Public schools badly need improvement. But to me, that doesn’t mean damning them to oblivion or running for the hills of privatization, away from the possibility of improving the existing infrastructure. Some charter schools — not all, many are disasters — can offer useful practices to share.
The most glaring flaw of his thesis is Miller's overestimation of the power of the President. Yes, it's possible for the President to meet with people who can advise him how we might replace ancient, costly approaches to certain issues with sleeker, more modern approaches. But any reinvention of the system must pass through Congress.

If there's a takeaway, it would be that the President should be resisting calls from failing industries to protect, preserve and subsidize the status quo, if doing so would block innovation. That's not new - the joke has been around for longer than I've been alive that if Congress took its present approach to subsidizing failing industries we would still have village blacksmiths. But it's a balancing act. Let's not lose sight of the fact that dropping subsidies and trade protections might not result in disruptive innovation - it very well could result in the loss of domestic jobs in favor of imported produce, products and services.
1. It would be interesting to hear Mr. Miller explain why a seventeen-year-old in public school requires a rigid, structured schedule of classes with strong oversight and testing, but the very next year the student will be able to get the benefit of a full first year of college by taking a $999 series of online courses. Or, for that matter, why the "solution" to the problems of public schools wouldn't be to replace $10,000+/year/student schools by giving each student a $1,000 computer and a $999 set of online classes to take in lieu of attending a traditional school.

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