Corporations have never been more effective. Google is competing at the top-level in nearly every tech category, SpaceX is planning a vacation to Mars, and Amazon is conquering the world-wide retail industry.

Yet, will they all survive for another 200 years? Probably not. Incredibly few companies do, regardless of how big they get. From 1950–2009, the half-life of publicly traded North American firms has been about a decade. Older companies died off at roughly the same rate as younger companies¹.

Would anyone expect any of these companies to grow to 100 million employees and vertically integrate their entire business? By entire business, I don’t simply mean playing some role in each step of the supply chain. I’m talking about Amazon mining metal, using that metal to build manufacturing equipment, using that equipment to manufacture goods, then selling those goods on Amazon.com.

Probably not. Such an organization would be too complex to manage. Mining metal and manufacturing products are profitable endeavors, but Jeff Bezos understands that these activities add complexity to the business that Amazon can’t afford. He gladly contracts the work to other companies, allowing them to profit instead.

The traditional hierarchical corporate structure works, but it has debilitating limits when it comes to information processing. By this, I’m not referring to the typical financial and operating metrics used by data engineers to construct dashboards, but rather information such as unique ideas, employee morale, the objective value of a specific output, how one outcome impacts others, and so on.

As a centralized organization grows, it encounters challenges as the amount of important information in the system, and the distance that information has to travel, grows exponentially. Traditional practices of delegating responsibility are not enough to counteract the resulting effects. There is still too much data, most of it gets lost along the way, and the people on the receiving end can’t adequately interpret, and act on, all of it.

In response to this problem, innovative companies have increasingly embraced more decentralized frameworks such as Holacracy, Agile, and Sociocracy 3.0. The thesis of these models is that complexity is manageable when small teams are empowered to autonomously make “on the spot” decisions, which improves both the speed and quality of decision making. These systems also build in explicit communication protocols that improve the transmission of essential information from one team to another.

Elements of an Effective Decentralized Organization

There is much to like about these approaches, but they don’t go far enough on their own in incentivizing innovation and performance, disseminating critical information effectively, and creating the necessary feedback loops to amplify the good and curb the bad.

Fortunately, we’ve already solved these challenges centuries ago. The global economy is actually just an incredibly big, decentralized company — that produces absolutely everything; that always grows and never goes bankrupt; that is constantly innovating and evolving; that scales to employ billions of people; that doesn’t rely on a central authority to manage it; and that not only acknowledges selfishness, but harnesses it for collective good. While not perfect, and not without social consequences, free markets are undoubtedly effective when it comes to organizing and incentivizing efficient production on a large scale.

So what makes the global economy such an exceptional “company”?

Incentives

An entrepreneur creating value in the economy directly reaps the upside or downside associated with their activity. In a traditional company, taking a risk for the sake of innovation often results in a pat on the back if successful, and termination if unsuccessful. Many modern companies try to be highly tolerant of mistakes, but the risk/reward payoff for gambling on innovation is still far weaker than it is for entrepreneurs. Business owners can become incredibly wealthy if they take risks and will often lose to their competition if they try to play it safe.

Equally important is the incentive for the investors who allocate resources. If these investors make bad bets, they lose their capital. If they make good bets they’re rewarded handsomely. Thus, naturally, they are hyper-focused on, and accountable for, investing in value-creating initiatives.

Managers who control resources inside of a company don’t have the same incentives and accountability to spend wisely. As a manager, why shouldn’t I budget for excess headcount and hire more analysts than I truly need? It’s not my money; it’ll make my job easier, my resume stronger, and my coworkers happier; and I probably won’t get in any trouble. If anything, I’ll probably be rewarded with higher pay and more clout for managing a bigger team.

DILBERT © 1999 Scott Adams. Used by permission of ANDREWS MCMEEL SYNDICATION. All rights reserved.

Feedback Loops

To intuitively know when value is being created on a net basis is incredibly difficult. Free-market economies rely on transactions involving multiple parties. One party presents something of value, and in exchange, wants to receive as many value vouchers — something we call dollars — as they can. The party that receives that “something of value” wants to part with as few value vouchers as possible. This creates a natural, productive tension that confirms value is, at least perceptually, being created for both parties — otherwise the one who feels they’re not getting sufficient value would pullout of the transaction. If a given company is able to consistently produce more value than it consumes, and can convert that value into dollars through transactions, the business will grow. If that company consistently consumes more value than it produces, it will run out of cash and cease to exist.

Inside a company, you may have a team of twenty business analysts cranking out reports left and right, but if that team costs $150,000 a month to operate, how do you know they’re producing at least $150,000 in value? The responsibility for approving expenses often falls to someone in the finance department who 1) is allocating funds that don’t come out of their personal pockets and 2) is not the customer of the service, which makes it tough for them to assess the value being provided. It’s certainly not impossible for finance to make an intuitive assessment, but the accuracy of such evaluations degrades rapidly as a company becomes larger and more complex.

Value Signals

I’d paste in Friedrich Hayek’s 1945 article “The Use of Knowledge in Society” here if it weren’t too long. The gist is that, while yes, those “on the spot” have the best vantage point to make a decision, they also need more information about the broader system. One of the most effective ways of transferring that information is through transactions involving price.

For example, let’s say you’d like to cook your potatoes in foil. Imagine that gold, steel, and aluminum foil are all safe to use and equally effective. To make the decision on which material to use that’s best for society, you’d need to know the scarcity of each of them, the difficulty to mine and transport the materials, all of the alternative uses for each metal in order to make sure you’re not taking it from someone who needs it more, and so on. If there’s a sudden surge in demand for aluminum to build automobiles, gold jewelry goes out of style, or a new smelting innovation makes the production of steel incredibly easy, you would need to receive and synthesize that data in real-time.

In a free-market, the incentives and feedback loops mentioned above distill this information directly into the price, and your personal incentives will guide you to make the optimal decision. We correctly choose aluminum foil for cooking our potatoes because it’s cheap and it works, not because we’re all experts in foil supply chains and not because the government tells us we have to. Transactions aren’t simply a means for capitalists to get rich; they serve an essential function in validating and transmitting crucial information.

Heterogeneity

While there may be some redundancy in the economy, distinct, independently owned businesses competing with one another create systematic resiliency. Genetic diversity is what has enabled biological organisms to evolve and overcome countless ecological changes; the same principles apply to our businesses. The short-term consequences and waste created by the rising and falling of individual companies are outweighed by the long-term benefits of antifragility.