Imagine China’s growth rate fell to 3.9% per annum within the next 12 months. I suspect you can’t. Ridiculous, right? Well, actually, no, but more on that later.
Let’s start at the beginning. Collectively we suck at picking the big strategic shifts that upend long held assumptions about the state of the world. Look no further than the recent history of China’s economic growth and the demand for steel – and hence, iron ore.
In 2000 China produced just 128Mt of crude steel: this had risen to 222Mt in 2003 after three years of +20% growth per annum. There was a view among a number of senior iron ore industry executives in late 2004 that steel production in China could reach 400Mtpa by 2015: the most bullish scenarios envisaged 600Mtpa. By 2006 – less than 2¼ years later – China was already at 419Mtpa; it hit 600Mtpa during 2010.
By the latter part of the decade the iron ore majors had radically altered their outlook for steel production in China, with estimates it would peak around 1-1.1Btpa in the 2020’s. The jury is still out on just what peak steel might look like in China: for now production appears to have peaked at 850Mtp.a..
It is not just China that has caught us out. From 1967-1980 Brazil’s economy grew at 5.2% p.a.. Who would have predicted that for the next 22 years – 1980-2002 – per capita growth in Brazil would be exactly zero?
The oil and gas sector has similar challenges, with Woodside CEO Peter Coleman lamenting that the oil and gas industry had failed to predict major shifts like the shale boom.
A lot of papers have been written about our limitations in strategic decision making, but the situations above represent a particularly complex challenge: inflection points. Inflection points tend to create order of magnitude shifts in the environment[1] rather than the more usual ‘continuous change’ all executives are familiar with.
And herein lays a big part of the problem. Futurist Paul Saffo argues “we are all by nature linear thinkers” and these big shifts catch us by surprise again and again. Most of the debate around China’s growth rate seems to be around whether it will drop to 7.5% or 7.25%. Really?
The managerial will to see a ‘force’ change is inversely proportional to the size of that change. You see this in large companies which have made major investments on the back of a particular world view. A major shift in world views displaces much of what has been accepted wisdom in the organisation for a long period and has underpinned these large investments.
While there is a lot of psychology that explains these challenges, the bigger question is: what can we do about it? How can we improve our ability to anticipate and respond to these inflection points.
One argument is always ‘increased awareness of our limitations’. This is an intuitively appealing proposition but actually has little effect on our ability to overcome these limitations.
What then are possible organisational approaches to overcoming this blind spot? The most obvious is the use of scenario planning in strategy. Scenarios are a classic tool for engaging executives in framing a range of possible futures, and then exploring potential strategic options. But even the scenario process is constrained in its capacity to explore order of magnitude shifts. Let me illustrate that with a couple of examples.
Firstly, I was lucky enough to be close to a major scenario exercise in the mid 2000’s looking at steel production futures in China. As always, the top right hand quadrant was ‘utopia’ and included what was considered a very optimistic outlook for steel in China. Three years later our ‘very optimistic’ number was already behind the reality! Were we just too conservative? Yes, but no-one thought so at the time.
Secondly, one of the early insights from Pierre Wack, the ‘father’ of scenario planning, was that the only way to change minds was to build on managers’ existing mental models, bending and expanding them one step at a time, rather than breaking them or replacing them. Scenarios that are ‘too radical’ simply get no traction among executives.
One of my clients recently recounted his experience in a strategy retreat discussing the iron ore pricing outlook. At a time when pricing was around $135/t, he put forward a scenario based on a longer term $100/t pricing but, recognising the volatility, suggested “there could be periods as low as $80/t”. Their consultants working with them on pricing had suggested pricing as low as $60/t, but my client was certain this would simply be rejected as too pessimistic. They were both right: even the $80/t scenario was discounted as unrealistic; and we have indeed seen pricing hit $60/t (and lower).
One of the challenges in tackling the possibility of disruption is that organisations cannot be paralysed by the uncertainty. So the executive need to balance their commitment to their strategy whilst at the same time holding open the possibility that some of the fundamental ‘presumptions’ may just be radically disrupted.
Here’s my suggestion: why not adopt a ‘skunk works’ approach to truly disruptive scenarios. Skunk works in business is typically associated with a potential new development or market opportunity. A small team of high capability people are given informal authority to work outside of the usual management systems and processes, to work underneath the radar with very low visibility.
Why not adopt this approach in strategy. A small team of highly capable people from within and outside of the business, exploring major potential disruptive scenarios.
Could we really see China’s growth rate drop to 3.9% next year? I don’t know, but Lant Prichett – a Professor of International Development at Harvard’s Kennedy School of Government – and Lawrence Summers – a former Vice President of Development Economics and Chief Economist for the World Bank, and former US Secretary of the Treasury – recently concluded:
“China’s super rapid growth has already lasted three times longer than the typical episode and is the longest ever … the ends of episodes (of super rapid growth) tend to see full regression to the mean, abruptly”
Can you really afford not to explore the implications of China’s growth collapsing to 3.9% per annum? Assuming slow steady declining growth is the work of managers … anticipating and positioning to survive and prosper during these major shifts is the work of the strategist.
[1] They are also not ‘black swan’ events like planes flying into the World Trade Center. These represent a qualitatively different strategic issue.
