The Big Picture…
Service makes up the large and growing proportion of our economies. It is predicted to make up 80% of the US economy by 2050. And already by 2017, service contributed to 79% of the UK economy.
Economists talk of a shift to service-based economies. And this shift can be traced to four underlying causes:
- Economic – the shift of manufacturing abroad coupled with trade; something called the cost disease hypothesis; and perhaps socio-political factors
- Consumer Behaviour – we have more spare income and a hierarchy of needs; there are structural changes such as moving from one-income to two-income families, and we are changing our view of ownership
- Asset usage – how we manage under-utilised assets; how we are adding services to products to enhance value and differentiate
- Value in Data – the value in data we can collect from a service
(although, I feel it is more correct to see all economies as service economies where shifts in prevalent skills define the eras – due to the reasons above).
Ten years ago, Andreessen Horowitz said that software is eating the world. We can update that. It is service that is taking over the world (often enabled by software). And the implications of this ongoing shift is this: you will be made a commodity/irrelevant if you keep considering yourself as a product only company.
All aboard the relentless “shift” to services and the service economy!
We’ve come a long way from Adam Smith’s 1776 view in “Wealth of Nations” that services are not wealth generators. Today we find many of our economies are 80% (and growing) based on services.
Why do we see this shift? And, further, what are the implications? Let’s find out!
The growing importance of Services in our economies
We usually experience and recall the world through tangible products (or “goods” as marketers call them). This is not surprising. They are what we see and touch every day. And this view started long ago with basic concepts of ownership, transferral of value by exchanging things we own and developing thoughts of manufacturing adding value.
Way back in 1776 Adam Smith (Wealth of Nations) viewed manufactured items – things that could be stored and exchanged for money – as wealth-generating. Services, he felt, could not contribute to wealth generation. And this concept of goods being valuable together with value exchange is entrenched and colours nearly all of our current thinking.
Jump forward to 2017, and we find a different story. Food delivery service Jump forward to 2017, and we find a different story. Food delivery service Just Eat’s revenue was £546Mn. Uber’s$11.3Bn. Apple’s 2018 revenue from services was $37.2Bn (14% of overall revenue). Security services company Securitas had 92Bn SEK revenue. Handelsbanken – the best growing (bank) equity in history – had revenue of 41Bn SEK in 2017.
Haskell and Westlake’s “Capitalism without Capital (2018)” highlights intangibles, which we can loosely categorise services as are a (large) hidden component of economies.
To borrow a phrase from a famous venture capitalist: services are eating the world. And often, today, those services are software enabled.Services are eating the world (often enabled by software). Find out why in this article… Click To Tweet
What do the numbers say?
Hopefully, we agree that services can no longer be seen the same way as in 1776. Nowadays, services are wealth creators. They are a substantial and growing component of our economies. But don’t just take my word for it! Back in 2000, the Organisation for Economic Co-operation and Development (OECD) was saying:
“manufacturing [is] slipping to less than 20% of GDP and the role of services rising to more than 70% in some OECD countries”OECD, 2000
And Chesbrough’s 2013 book on Open Service Innovation was projecting that by 2050 the US economy would be 80% service-based. He included a useful graphic, reproduced in Figure 1, that nicely shows the shifts in economic eras over the years.
Later still, in 2017, the UK reported its economy was already 79% service-based (products: 14%, agriculture: 1% and the remaining 6% was construction).
But is this a “developed” world phenomenon? Let’s just pick Nigeria at But is this a “developed” world phenomenon? Let’s just pick Nigeria at random. In 2010 the Nigerian economy was 50% service-based. By 2017 it had grown to be 55.8% (agriculture fell from 23.5% to 20.85%).
If services are becoming so important, what are they?
What is Service / are Services?
I have a whole article that explores what services are from definitions, attributes (marketing and economics) through to the modern interpretations of job-to-be-done and non-ownership. But in short, my preferred definition is shown in Figure 3.
They are provided as solutions to customer problems. And they are processes, made up of a series of activities. Those activities are more or less intangible (i.e. we can’t physically hold them). And they normally take place in interactions between the customer and some combination of service provider elements (though they don’ have to). Those service provider elements are service provider employees, physical resources or goods, or systems.
This definition covers all the services I can think of. Additionally, it recognises a continuum between products (or goods as marketing people will call them) and services. We have complete tangible products on the left and pure service on the right. Inbetween it recognises some products have a service wrapped around them. And delivery of some services requires supporting product(s).
Simplistically, the shift to the service economy is the appearance of moving along this continuum, from left to right.
Such a shift is readily visible if we consider the later stages of the music reproduction industry. You can see in Figure 5 the shift we observe today from owning CDs (a tangible product) to the widespread use of streaming services such as Spotify. And actually, this industry is a fascinating case study in how the shift from product to service may not be entirely linear, as I look at more here.
But why are we shifting to service economies?
Why are we shifting to service economies?
We saw in Figure 1 that economies have shifted from agriculture- to product-based (sometimes called manufacturing-based or industrialised). And subsequently are moving to be service-based.
Although, I would be remiss not to point out that an alternative view is that all economies are service economies, and what shifts are the predominant skills that are exploited. The goods-economy was where skills in mass production were applied and improved to help people make progress. And the service-economy has a strong focus on using and enhancing resource integration to help people make progress. This thinking is fundamental to service-dominant logic, which I believe helps us address the innovation problem
Regardless as to whether we see the shift in terms of the classical or improved perspectives, I see four causes. These are:
- Economic – known in academia as passive hypotheses but also perhaps socio-political actions
- User behaviour – including the active hypotheses from academia, plus the shift in societies view of ownership/non-ownership
- Asset – such as using services to differentiate products as well as how to use underutilised assets
- Value in data – the potential value in data beyond a simple number of sales
And each of those causes can be traced to various reasons listed in Figure 6.
Let’s dig into these four causes in a little more detail.
1. Due to Economic causes
Granted, we could call all reasons for the shift economic in some sense. But here I’m thinking of things that are happening in the economy that we do not individually control.
Kim (2006) highlights there are two passive and two active reasons for the shift to service economies in her academic review. You can see these in Figure 7.
Economies can shift passively due to actions happening elsewhere in the economy. Kim (2016) looks at two passive hypotheses: Deindustrialisation and Cost Disease.
We find the Deindustrialisation hypothesis observes that advanced economies move manufacturing to cheaper countries (and then trade). As a result, there is a gap in the advanced economy. That gap is filled with services. While sounding plausible, Kim discusses the evidence of deindustrialisation is not conclusive.
Baumol’s cost disease hypothesis, on the other hand, can be backed up with empirical evidence. However, it can feel a little counter-intuitive.
Here’s what it essentially says: salaries rise in industries that have no productivity increases in response to rising wages in sectors that have increased productivity.
Baumol’s original work looked at why classical musician’s earn more today than in, say, the 19th century. Yet it still requires the same number of musician’s to play a classical tune. For us, this translates as wage increases in the product industry leads to increasing wages in services. And of course, rising wages attracts (service) workers and increases opportunities.
Here is a good and further explanation!
In this article’s comments, Elliot raises a good point about socio-political pressure being a cause behind a move to services. For example the various bike-sharing schemes in cities across the globe that have been driven by political decisions.
This is not the case of asset utilisation we look at a little lower down. Instead, a political decision made to introduce a service to minimise pressure on another service (public transport) or environmental reasons.
2. Due to User Behaviour
Kim’s two active reasons are the Hierarchy of Needs hypothesis and the Exogenous Demand Shock hypothesis. And I put these under my user behaviour cause. Together with changing attitudes to ownership.
Hierarchy of needs
The hierarchy of needs is simple. As your income rises, so you start to want to have more free time and push off tasks to services. Thus the service sector grows as incomes rise.
Kim mentions conflicting studies when trying to confirm this as fact. But think of your own lifestyle, and are you using more services as your income has grown? Probably.
Exogenous Demand Shock
This sounds terrible – what calamity have we introduced? But simplistically it means demand for services increases as a result of structural changes in the economy.
What could these structural changes be? Kim references two examples. First the spinning out of manufacturing companies those services they used to do in-house. Now once hidden services become visible. And second, the change from one-income families to two-income families. Now time is tight and so the demand for services increases.
Now in 2021, we can perhaps wonder if the reaction to the covid-19 pandemic will cause an exogenous demand shock.
When we looked at defining services we saw the following:
- a whole range of services can be categorised as relating to non-ownership.
- using services can move substantial investment costs to be manageable sunk costs.
These together contribute, I believe, to the growth of services in an economy.
Amazon cloud service is a good example. As an organisation or even an individual, you could have an IT department that owns all the servers you need. With that, you need to maintain those servers, have a data centre, keep on top of security patches etc. Or, you could use Amazon’s computing power. In that case, you don’t own the servers. You replace the investment of ownership (capital cost) for a monthly/usage fee (a sunk cost).
Some examples of non-ownership categories fuelling services can be seen in Figure 8 (from Lovelock & Gummesson’s “Whither Services Marketing? In Search Of A New Paradigm And Fresh Perspectives“):
- Rented goods services
- Place and space rental
- Labour and expertise rental
- Physical facility and usage rental
- Network access and usage
There are further advantages of non-ownership: we can get greater access to a broader range of assets. For example, think of Spotify. For a small subscription fee, I get access to millions of CDs rather than the limited number I own after buying myself. However, by not owning, I am at the mercy of the service (or more likely rights owner) removing access to a song or whole CD away without me having a say in the matter.
Now let’s move on to the next cause – the use of assets.
3. Due to Assets
Chesbrough (2013) points out that services are growing due to making use of underutilised assets. And let’s be general here and say assets are both tangible things you own as well as more abstract items, such as your time.
Here we can find many examples, mostly in the sharing economy and gig economy.
The World Economic Forum’s “4 big trends for the sharing economy in 2019” article has some interesting points. It covers revenue projection, for example, that the Chinese government wants the sharing economy to account for 10% of national GDP by 2020. But also, refreshingly, the article covers the challenges such as the struggles of sharing economy companies (like China’s Ofo bike share and Uber IPO) as well as the role of regulators.
Another article by the same author as above has a helpful terminology guide to help clarify the terms often used. It usefully explains the gig and the sharing economy. And it includes the freelance economy and how that relates to the other terms.
Under this assets cause, I also consider how we enhance existing product offerings with services – so called servitisation.
Enhancing (product) offerings.
Products/manufacturing is becoming commoditised and harder to tell differences between companies’ offerings. A way out, according to Chesburgh (2013), is to enhance product offerings with services.
We can take here examples such as digital twins. In particular how aircraft engine manufacturers such as Rolls-Royce now monitor engines in real-time to provide additional services to airlines. This Harvard business school summary on this is interesting.
And the final cause is because we want to leverage data.
4. Due to the value of data
What is more interesting: data relating to a one-off sale, or continuous data through to use? I believe it is the latter. And you get that through behaving in a service-oriented manner. A service typically gets more interactions than a product. And interactions equal data points.
Additionally, we can free all the data we are collecting through APIs. Imagine the explosion of new services we will see when that happens. We will see this over the next few years as open banking API cores into force in the EU.
And the data we give away for free is being used to train deep learning models. That are then used to launch additional services. You know Facebook/Instagram gives you free storage for photos and encourages you to tag/describe them. Think of all that free data they are getting to train their Artificial Intelligence…
Wrapping it up
The shift to the service economy is unrelenting. What is for sure is that those companies that wish to remain product only, then time is limited. You head towards commoditisation from which few will survive.
But we know why this shift is happening. And we can use the 4 causes identified in this article to seek out innovations.
On the next page are some examples.