The Big Picture…
We appear to be in a shift to the service economy. With service making up a large and growing proportion of our economies. And it is predicted that by 2050 they will make up 80% of the US economy. Already, by 2017, service contributed to 79% of the UK economy.
Economists talk of a shift to service-based economies. Although, what we are really witnessing is a shift in how we are making progress in aspects of our live. Shifting from using service provider’s goods in an acts of self-service towards more use of service provider’s employees and systems.
Regardless of our view, we are shifting due to the following reasons:
- Economic – the shift of manufacturing abroad coupled with trade; something called the cost disease hypothesis; and perhaps socio-political factors
- User 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
Ten years ago, Andreessen Horowitz said that software is eating the world. We can update that. It is actually service is eating the world (and is 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. Yet our prevailing logic for understanding the world, and value, is routed in goods thinking. Which drives a goods vs service thinking. And hence a view that we are shifting to a service economy.
However, when we look at what service is, we uncover an evolved view.
That in a service, beneficiaries may interact with several types of service provider elements. One of which is goods. And the others are employees, physical resources and systems of the service provider.
Beneficiaries are trying to make progress with some aspect in their life. They may chose to do so as an act of self service, hire a full service, or somewhere inbetween. The “shift to service” is really a move from using goods and physical resources in self service acts to more use of systems and employees.
But why do we see this shift? And, further, what are the implications? Let’s find out! First by checking if there actually is a shift going on.
The “growing importance” of Services in our economies
We usually experience and recall the world through tangible products (or “goods” as marketers call them). The manufacturer adds/embeds value that is transferred during an exchange (usually for cash, and we would call a sale).
It’s an old view. In 1776 Adam Smith (Wealth of Nations) viewed manufactured items – things that could be stored and exchanged for money – as wealth-generating. Services were not.
But, jump forwards to 2017, and we find a different story. Food delivery service Just Eat’s revenue was £546Mn. Uber’s $11.3Bn. Apple’s 2018 service revenue was $37.2Bn (14% of overall revenue). Securitas’ revenue was 92Bn SEK. And Handelsbanken 2017 revenue was 41Bn SEK.
The OECD, in 2000, 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 Open Service Innovation projected the US economy would be 80% service-based by 2050 (with the handy figure in Figure 1).
The UK reported its 2017 economy was 79% service-based.
And it is not just a “developed” world phenomenon. Nigerian reported its 2010 economy was 50% service-based. By 2017 it had grown to be 55.8%.
So yes, there is a shift. And to borrow a phrase from a famous venture capitalist:Service is eating the world (and it is often carried out by software). Find out why…. Click To Tweet
Was Adam Smith wrong?
The above numbers are hardly numbers indicative of service not contributing to wealth generation. It does raise the question: was Adam Smith wrong?
Later researchers, such as Haskell and Westlake’s “Capitalism without Capital (2018)” have been looking into this apparent contradiction. They argue that intangibles – which we can loosely categorise service – are a (large) hidden component of economies.
And, there is probably an awful lot that could be written on this question. Starting with the definition of wealth, wealth generation etc.
But I’ll limit myself to saying the short answer depends on how you see service.
In Adam Smith’s time, it is observably true that services (in a goods vs service world) did not generate wealth. A butler was unlikely to climb up the wealth ladder by providing his butler services. Whereas manufacturing and the industrial revolution was creating millionaires and wealth generation.
However, we should question what is service.
What is Service
We live in a world that identifies a distinction between goods and services.
Goods vs Service
From this view, services naturally fall out as problematic. They are intangible, require customer involvement and are inconsistent. The performance is inseparable. That is to say, both the provider and consumer have to be in the same place – although in modern times that can be more virtual. And we can’t create a service to be stored for some later use – we cannot inventorise.
A more enlightened view, still from a goods-dominant lens, is that there is a continuum between goods and service.
Now we recognise that it’s not a goods versus service world, but rather more nuanced. Some goods come wrapped with service. And some service have supporting goods. Simplistically, the shift to the service economy could be seen as moving along this continuum, from left to right. But it is a little more subtle, as we will see. And I look into all this and more in my article on what services are.
Everything is a service
But this is an artificial distinction arising from taking a goods-dominant view. What if we start from a service-dominant view and see how goods fit in? My conclusion is to agree with Grönross definition in Figure 4.
We find that goods are a distribution mechanism for service. And they are a component part of the service delivery (if needed). We also find that all economies are service economies. And so, a shift to service economy cannot be a real thing. As everything is a service.
The “Shift” to “Service Economy”
Fundamentally, we are all trying to make progress in some aspect of our life. Where that progress is some combination of functional progress – I want to get from A to B – and non-functional – quickly, environmentally friendly, etc. And I believe we measure value of something by how much progress it has helped us make.
In the past we would achieve that progress by purchasing the goods of a service provider and performing a self-service. The goods would freeze the skills and competence of the service provider. And in our self-service we unfreeze those skills, combine them with skills we bring to the service, and attempt to make our progress.
Increasingly, we are using more of the employees or systems of the service provider to make the same, or better, progress, rather than self-service. But we are not in all cases ditching self-service.
That is the shift to service economy.To make progress in our lives, we are increasingly moving from self-service using service providers goods, to using more of the provider's employees and systems to make the same or better progress. That is the shift to the "service" economy. Click To Tweet
This helps explain the goods-service continuum – which should really be seen as a service-service continuum. And our choice of what to use on that continuum, where there are options, is personal, and depends on a lot of factors.
Of course, things can go too far. As we now know (and probably really knew all along) the world does not need a monthly subscription-based juicing packs system!
But this still leads to the question: why are we shifting?
Why are we shifting?
Regardless whether you believe my evolved view of service or want to, for the moment, hold onto the safe world of goods vs service, there is a shift going on. Luckily, I believe the reasons fit both views of service and goods.
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 these can be traced to various reasons shown in Figure 5.
Let’s dig into these four causes in a little more detail.
1. Due to Economic causes
Here I’m thinking of things that are happening in the wider economy. Rather than things we do individually control. Kim (2006) highlights there are passive and active reasons for the shift to service economies in her academic review. And she sees two of each (see Figure 7).
I group her two passive reasons – Deindustrialisation and Cost Disease – together as economic reasons. And her passive reasons into my next section.
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 then 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.
Beyond wider economic reasons, the move from self-service can be seen as changes in user behaviour.
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 towards ownership.
Hierarchy of needs
The hierarchy of needs is simple. As your income rises, you gain the ability to free time and move away from self-service to make the progress you are seeking. The progress to be made is still there, you can just achieve it in different ways. A clean house no longer becomes a chore for you to do on a Saturday morning. Instead, you can get someone else to do it.
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 by exogenous demand shock we mean demand for services increases as a result of structural changes in the economy.
What could these structural changes be? Kim references two examples.
First, she talks about structural changes in firms. For example, when a manufacturing company spins out a service it used to do in-house. Now a once hidden service become visible.
And her second example is the change from one-income families to two-income families. Now time is tight and so the demand for services increases. Whereas before we could observe the husband working and the wife staying at home; now both work so the available time for making progress via self-service is reduced.
It will be interesting to see what the covid-19 pandemic and the shift to more home working will result in a new exogenous demand shock. And what the impact/opportunities that will bring.
When looking at how to define services I mentioned 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.
Lovelock & Gummesson’s “Whither Services Marketing? In Search Of A New Paradigm And Fresh Perspectives” give the following as examples of non-ownership services:
- 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. All driven by the beneficiary seeking to make progress with some aspect of their life. And for the four reasons – economic, user behaviour, asset and data leverage – the beneficiary seeks to move from self-service using service provider’s goods towards more use of service provider’s employees and systems.
What is for sure is that for those companies that wish to remain product only, then time is limited.
But we know why this shift is happening. And we can use the 4 causes identified in this article to seek out innovations.