Common Plots of Economic History

(PDF version here)

Complicated stuff can stem from a handful of common roots. Understanding those common roots can be more important than trying to wrap your head around complexity.

To show you what I mean, let me tell you a story about stories.

Tens of millions of fictional stories have been published, written by authors of every age, culture, and life experience that exists. Most never knew each other or read each other’s work. Their stories range from prehistoric battles to science fiction. Stories are perhaps the most diverse things our imaginations have ever created.

But all of these stories – every story, according to author Christopher Booker – take shape in remarkably similar ways.

“There are a small number of plots which are so fundamental to the way we tell stories that it is virtually impossible for any storyteller ever entirely to break away from them,” Booker writes.

He argues only seven plots exist in the history of fictional storytelling: 1. Overcoming Monsters, 2. Rags to Riches, 3. The Quest, 4. Voyage and Return, 5. Rebirth, 6. Comedy, and 7. Tragedy.

It’s not that all stories are the same. It’s that the plots that make good stories are less diverse than the characters and scenes that populate good stories. And the plots that catch readers’ attention are psychological common denominators among all of us, so the seven plots show up in stories told by cultures that have little in common.

This is more than a casual observation. It’s a window into how people think. Booker writes:

Whereas we are prepared to devote untold physical and mental resources to reaching out into the furthest recesses of the galaxy – in an attempt, as we like to think, to plumb every last secret of the universe – one of the greatest and most important mysteries is lying so close beneath our noses that we scarcely even recognise it to be a mystery at all … once we become acquainted with this symbolic language, there is literally no story in the world which cannot then be seen in a new light: because we have come to the heart of what stories are about and why we tell them.

This point applies to many fields.

Try to learn about people using a bottom-up approach of analyzing every character and scene from every culture and you will drown in complexity and anecdotes. There are too many stories, and even within a single culture the specific details of what people believe can be contradictory and filled with nuance. A top-down approach – looking for a few universal plot patterns – can be more useful, because it reveals things fundamental to how all people think, which are likely to be repeated in the future and relevant to your own situation.

Booker’s insight is that you will better understand the characters and scenes from individual stories if you first appreciate the universal plots that show up in all stories.

Which is an idea relevant to anyone interested in how the economy works.

Economic history is complicated because it’s more than economics. It’s part politics, psychology, sociology, criminology, biology, military, technology, art, engineering, education, finance, etc.

But within that tangle of complexity – different people from different cultures and different eras – is a lot of commonality.

People tend to want the same economic things – security, power, admiration, fulfillment.

They tend to use the same tactics to get those things – work, risk, incentives, persuasion, theft, control.

And they tend to fall for the same flaws in pursuit of those things – overconfidence, pessimism, no room for error, underestimating how fast things can change, etc.

Economic history may be complicated. But the common denominators of human behavior means there are, if you look, only a handful of broad story plots that pop up again and again, throughout history and around the globe, connecting the economic experiences of people who otherwise seem to have little in common.

To better understand the characters and scenes from individual economic stories, we must first appreciate the universal plots that show up in all stories.

Here are five.

Plot 1: A good idea taken to the furthest extreme becomes indistinguishable from a terrible idea.

A rule of thumb holds that no technological breakthrough is so important that it can’t be overdosed on. And a common plot in economic history is that the most important technological breakthroughs deliver such a high that they will, in fact, be overdosed on. Money and brains are attracted to good ideas more than they are capable of knowing the limits of good ideas.

Take railroads.

A one-word telegraph was sent at noon on May 10th, 1869, across the United States. “DONE” it said. The transcontinental railroad was finished.

It’s hard to overstate how big a deal this was. Technology sat at such a low baseline in the 1860s that the railroad age transformed the nation in ways that are hard to imagine today. Historian Stephen Ambrose writes:

This was the first time that news of an epochal event had been greeted with such celebration by so many people at the same time: Across the nation, bells pealed. Even the venerable Liberty Bell in Philadelphia was rung. Then came the boom of cannons, 220 of them in San Francisco, a hundred in Washington, D. C., countless fired off elsewhere. It was said that more cannons were fired in celebration than ever took part in the Battle of Gettysburg.

To understand how important railroads were in the 19th century you have to consider life before their arrival. The biggest change the average American saw from the rail age was not their ability to travel; it was their diet. Historian Robert Gordon:

In most parts of the United States people were virtually without fresh fruit and green vegetables from late autumn to late spring. The result was that innumerable Americans were in sluggish health during the months of late winter and early spring, when their diet was short of vitamins.

Railroads changed this. “A major change between the 1890s and 1920s was the increasing availability of fresh vegetables in the winter as a result of refrigerated railroad cars,” writes Gordon.

Rails transformed every inch of the economy, from military tactics to where people could live and work. It was for physical goods what the internet is for information. Few inventions were as powerful in their ability to deliver life-changing value to the masses as railroads were in the 19th century.

Interesting, then, how many railroad investors lost their shirts during this period. It’s only a small exaggeration to say the number of railroad investors who prospered during this time rounds to zero.

Excitement over rail’s potential sparked overbuilding and cutthroat competition that pulled the country into economic chaos at least three times. Railroads created booms and busts that make the 2000s housing bubble look tame. More than half of all rail companies were bankrupt by 1894. At times the overbuilding turned into madness, with identical tracks built side by side. Historian Robert Gordon again:

Nearly twenty new miles of track a day, on average, were built for thirty years. In contrast to the single transcontinental line from Omaha to Sacramento linked together in the historic 1869 ceremony, by 1893 there were seven transcontinental lines, of which three were relatively close together, traversing Kansas and Nebraska, and two were quite close together in their paths through the sparsely populated Dakotas and Montana.

The book Lords of Creation describes the economic battles:

During the 1880s competition among the railroads got completely out of hand; it was easy for daring and unscrupulous plungers to build new lines simply as a form of economic blackmail—in order to be bought off by their competitors in self-defense; at one time there were five lines bidding against each other for the traffic between New York and Chicago, two more were under construction, and the passenger fare for the through trip had been beaten down to the ruinous figure of one dollar.

The history of oil, cars, banks, housing, and technology are identical.

Same for certain regulations, deregulations, social programs, management principles and business strategies.

Good ideas get pushed to bad levels. The characters and scenes change throughout history, but the plot is timeless.

This is not a flaw of capitalism. Being overconfident in your abilities and overoptimistic about your opportunities can be a useful intellectual shield, keeping you motivated in a world where most things are so hard that a coldly rational person might refuse to take any risk. And all economic opportunities will be exploited beyond their capacity, because if markets never crashed they wouldn’t be risky. And if they weren’t risky they would get really expensive. And when they get really expensive they crash. That’s why this plot persists.

Few economic ideas are inherently good. At best, things are good at one level and ruinous at another.

Plot 2: A competitive advantage that once looked invincible is squandered.

The only thing harder than gaining a competitive edge is not losing an advantage when you have one.

If you were a movie scriptwriter and had to dream up a fake company with the strongest competitive advantage you can imagine you would probably come up with something that looks like what Sears was in real life in the 1970s.

Sears was the largest retailer in the world, housed in the tallest building in the world, employing one of the largest workforces.

“No one has to tell you you’ve come to the right place. The look of merchandising authority is complete and unmistakable,” The New York Times wrote of Sears in 1983.

Sears was so good at retailing that in the 1970s and ‘80s it ventured into other areas, like finance. It owned Allstate Insurance, Discover credit card, the Dean Witter brokerage for your stocks and Coldwell Banker brokerage for your house.

Sears was, in almost every way, the Amazon of its day: so dominant at retailing efficiency that it could spread its magic into unrelated industries, where it’d terrify rivals. The Times wrote in 1974:

“Donald T. Regan, chairman of Merrill Lynch … indicated yesterday that the firm sees itself eventually as a Sears, Roebuck of the investment business. “We must get as efficient as possible to keep costs to the consumer down,” he said. “That’s what made Sears a success, and that’s a rule we must keep in mind.

And then everything fell to pieces.

Growing income inequality pushed consumers to either bargain or luxury goods, leaving Sears in the shrinking middle. Competition from Wal-Mart and Target – younger and hungrier – took off.

By the late 2000s Sears was a shell of its former self. “YES, WE ARE OPEN” a sign outside my local Sears read – a reminder to customers who had all but written it off.

The story of how Sears lost its competitive advantage is fascinating. But it is not unique. It is in many ways the default outcome of once-dominant companies.

Going public is a sign that a company has found enough competitive advantage to scale into a large corporation. But almost 40% of all public companies lost all of their value from 1980 to 2014. The list of top-10 Fortune 500 companies that went bankrupt includes General Motors, Chrysler, Kodak – and Sears. Those indistinguishable from their former selves is longer, and includes General Electric, Time Warner, AIG and Motorola. Countries follow similar fates. At various points in the past the world’s scientific and economic progress has been dominated by China, Amsterdam, and the Middle East.

Whenever a once-powerful thing loses an advantage it once it had it is tempting to ridicule the mistakes of its leaders. But it’s easy to overlook how many forces pull you away from a competitive advantage once you have one, specifically because you have one. Success has its own gravity. “The higher the monkey climbs a tree, the more you can see his ass,” T. Boone Pickens used to say.

Five things contribute to the gravitational pull of competitive advantages.

One is that being right instills confidence that you can’t be wrong, which is a devastating characteristic in a world where outlier success has a target on its back with competitors chasing in tow.

Another is that success tends to lead to growth – usually by design – but a big organization is a different animal than a small one, and strategies that led to success at one size can be impossible at another. There is a long history of star fund managers from one decade underperforming in the next. Some of this is the unraveling of luck. But success also attracts capital, and a big fund can’t do some things a small fund can. The career version of this is the Peter Principle: talented people will keep getting promoted until they’re in over their head.

A third is the irony that people often work hard to gain a competitive advantage for the express purpose of not having to work so hard at some point in the future. Hard work is in pursuit of a goal, and once that goal is met the relaxation that feels so justified removes paranoia that lets competitors and a changing world to creep in unnoticed.

A fourth is a skill that’s valuable in one era may not extend to the next. You can work as hard and be as paranoid as you’ve always been, but if the world no longer values your skill, it’s a loss.

And one-trick pony-ism is common, because a top reason competitive advantages were once valuable is an unshakable devotion to one big idea while rejecting all others.

The last is that some success is owed to being in the right place at the right time. The reversion to reality that unmasks good luck is often only obvious with hindsight, and is both humbling and tempting to refuse to believe.

The idea that advantage has a shelf life is a fundamental part of growth. It doesn’t have to be a tragedy – not all competitive advantages end like Sears. Great Britain lost the economic and military supremacy it held in the 19th century, but remained a pretty nice place to live in the 20th.

Plot 3: Future progress is underrated because past progress is misunderstood.

There are times like the late 1990s when optimism is so great and so broad that we become blind to future risks. Here’s President Clinton in the 2000 State of the Union address – a year before September 11th and a new recession:

We are fortunate to be alive at this moment in history. Never before has our Nation enjoyed, at once, so much prosperity and social progress with so little internal crisis and so few external threats. Never before have we had such a blessed opportunity and, therefore, such a profound obligation to build the more perfect Union of our Founders’ dreams.

My fellow Americans, the state of our Union is the strongest it has ever been.

Despite centuries of progress and growth, these moods are an outlier. Pessimism over what lies ahead is far more common.

Gallup has been asking Americans for more than four decades, “Are you satisfied with the way things are going in the U.S. right now?”

The average percent of Americans answering “no” since 1969 is 63%.

What’s interesting is that Gallup asks a follow-up question: “Are you satisfied with the way things are going in your own life right now?”

There, the average “no” response is just 15.8%.

People tend to feel good about themselves but pessimistic about others. This helps explain why the congressional reelection rate is so high when the approval rate is so low: most people approve of their own congress member but despise everyone else’s. It creates a situation where most people you know are probably reasonably happy, but pessimism over the direction of the country and its future remains stubbornly high. And when people are pessimistic about others, a natural path is to discount what those other people are capable of in the future.

This was true in the early 1900s, when people asked if the age of invention – led by people like Thomas Edison – was over, a lucky blip that couldn’t repeat.

It was true in 1950, when we wondered if the advent of the nuclear bomb would cast humanity back into the stone age.

It’s been true in the last decade when, as data scientist Jeff Hammerbacher put it, “The best minds of my generation are thinking about how to make people click ads. That sucks.”

The pessimists may be right one day. Squandering a competitive advantage is a common plot after all.

But underestimating future growth – particularly of people in general, not necessarily individual companies or countries – is also a common plot, for a few reasons.

One is that viewing past progress as a one-time miracle misses how much of progress is incremental. If you think the computer, the airplane, or the internet were just “invented,” of course you’ll be pessimistic about our ability to do anything as meaningful in the future. They look like one-in-a-billion discoveries that can’t be repeated. But breakthroughs never occur in isolation. They’re the product of countless little discoveries – often meaningless on their own – that someone eventually ties together. Thomas Edison told this to a pessimistic newspaper reporter in 1908:

You can never tell what apparently small discovery will lead to. Somebody discovers something and immediately a host of experimenters and inventors are playing all the variations upon it. Take Faraday’s experiments with copper disks. Looked like a scientific plaything, didn’t it? Well, it eventually gave us the trolly car. Or take Crooke’s tubes; looked like an academic discovery, but we got the X-ray from it. A whole host of experimenters are at work today; what great things their discoveries will lead to, no one can foretell.

More recently, Safi Bahcall wrote in his book Loonshots about the origins of Polaroid film:

Sick dogs that were fed quinine to treat parasites showed an unusual type of crystal in their urine. Those microscopic crystals, called herapathite, turned out to be the highest-quality polarizers ever discovered.

When it’s never obvious what little discoveries of the day will eventually merge into big ones, it’s easy to assume that there will be no big ones. Which is almost always wrong.

Another reason is the assumption that the existence of big current problems will prohibit future progress. What this misses is that most progress – particularly technological breakthroughs – feed off big current problems. The push to solve problems rises when there’s a panicked necessity like a war or recession that requires solutions to problems immediately. Comfortable lives incentivize more utopian visions of the future than they do late nights in the laboratory. The back-to-back Great Depression, World War II, and Cold War are three of the worst things that happened in the 20th century. They also sparked the greatest scientific discoveries of the 20th century.

Last, in real time it almost always looks like progress over the previous decade or so has stalled, seeming to verify that we’ve reached the limit of our innovation. The 1960s brought the computer. The 1970s, the microprocessor. The 1980s, the PC. 1990s, the internet. The 2000s, mobile. The 2010s … I don’t know, viral GIFs? This same plot can be repeated at almost any point in history with different characters. The reason the near past always looks less innovative than the further past is because it often takes a decade or more for breakthroughs to be noticed. The best work of the last decade won’t be recognized for years to come.

Plot 4: Surprises are constant, and not necessarily because we’re bad at predicting, but because everything important in the economy is driven by power laws where a tiny portion of things are responsible for the majority of outcomes, and it’s impossible for any one forecaster to track every moving part.

Fifteen billion people were born in the 19th and 20th centuries. But try to imagine how different the world would be today if just seven of them never existed:

I’m not sure that’s the most meaningful list. But almost everything about the world today – from borders to technology to social norms – would be different if these seven people hadn’t left their mark. Another way to put this is that 0.00000000004% of people were responsible for perhaps the majority of the world’s direction over the last century.

The same goes for projects, innovations, and events. Imagine the last century without:

How many projects and events occurred in the 20th century? Billions, trillions – who knows. But those six alone impacted the world orders upon orders of magnitude more than others.

The thing that makes tail events easy to underappreciate is how easy it is to underestimate how things compound. How, for example, 9/11 prompted the Fed to cut interest rates, which helped drive the housing bubble, which led to the financial crisis, which led to a poor jobs market, which led tens of millions to seek a college education, which led to $1.6 trillion in student loans with a 10.8% default rate. It’s not intuitive to link 19 hijackers to the current weight of student loans, but such is the power of compounding in a tail-driven world. And you can, I believe, tie the majority of what’s happening in the world today to just a handful of past events.

The most common plot of economic history is the role of surprises. The reason surprises occur is not because our models are wrong or our intelligence is low. It’s because the odds that Adolf Hitler’s parents argued on the evening nine months he was born were the same as them conceiving a child. Technology is hard to predict because Bill Gates may have died from polio if Jonas Salk got cranky and gave up on his quest to find a vaccine. The reason we couldn’t predict the student loan growth is because an airport security guard may have confiscated a hijacker’s knife on 9/11. That’s all there is to it.

In those alternative worlds another monster may have risen in Hitler’s absence, another tech genius may have become the Bill Gates of their day, and without 9/11 we may still have tripped into a financial crisis. Imagining an alternative world without the tail events we’ve had isn’t to say the world could have been better or worse – just that it would have been very different. And when a little difference in one era compounds into a massive change in another, surprises become a recurring plot in economic history.

Plot 5: The ability to believe things that aren’t true or haven’t happened yet is the foundation of all economic growth and decline.

Stories of things happening are not as common as things happening because of stories.

In his book Fantasyland, Kurt Andersen argues that a founding virtue of America is its willingness, if not desire, to believe things that aren’t true.

It started with the whole idea of the New World, when 16th century Europeans were told of a magical land across the Atlantic filled with abundance, only to find a malarial swamp when they arrived.

It continued with the Salem Witch trials, onto modern things like P.T. Barnum and Hollywood.

“From the start, our ultra-individualism was attached to epic dreams and epic fantasies—every citizen was free to believe absolutely anything, or to pretend to be absolutely anybody,” Andersen writes.

Every society tells fictional stories and is willing to believe them to some degree. But Americans’ propensity to believe in things that aren’t yet verified or are easily debunked with the known science is in many ways not only unparalleled, but foundational to the whole idea of this country.

And a willingness to believe in things that haven’t happened isn’t always a bad thing. It’s the root of most growth. Most economic growth comes from optimism, and optimism requires a degree of believing in things you can not or have not yet verified. The ability to believe in things that aren’t yet real to such a degree that you spend your life chasing them is a characteristic we might take for granted. But it’s responsible for most of the things we get to enjoy in real life.

And some of the stuff we’re embarrassed about, too.

A quirk breakthrough technology is that it’s a big deal because no one had thought of it before, and no one thinking of it before means it’s likely either illogical or appears to violate previously accepted rules. So pursuing a breakthrough – as an entrepreneur, investor, or consumer – requires taking a leap of faith in your own abilities, or those of someone else, often a stranger.

So no one should be surprised when some of those leaps of faith end up wrong. Well-meaning leaps of faith fail because the odds of success were low to begin with. Others fail because we took a leap of faith on someone whose claims couldn’t be verified and it turns out they were misleading all along. Whatever the reason, a willingness to believe in things that aren’t true accounts for the majority of why businesses fail, investors underperform, careers implode, and countries decline. We’ve had good growth, good productivity, great innovation. With that comes a mountain of stories of people who were wrong in their views. Those two things don’t repel each other; they work hand in hand.

Stock markets owe most of their value to future earnings, which are merely a story.

WeWork’s $47 billion was also built on a story.

Steve Jobs told a story. So did Elizabeth Holmes.

Capitalism – that’s a whole story in itself.

The counterintuition that the same storytelling traits that enable growth also ensure occasional decline is one of the most fascinating and recurring plots of economic history. The stories we tell and believe about the economy are more powerful and important than any tangible thing we have in the economy, and if you remove the role of luck, most of the difference in outcomes between people and countries is owed to differences in the ability to tell and believe stories. German author Elias Canette wrote:

The largest crowds are drawn by the storytellers. It is around them that the people throng most densely and stay longest… their words come from further off and hang longer in the air than those of ordinary people.

Which brings us back to where this story began, with The Seven Plots. It argues all stories, however diverse, are just vehicles for one of a few basic human urges to travel upon. The better you understand a few common story plots that control our economy, the more sense you can make of the diverse cast of characters.

More on this topic: