Competition as a means to an end: supply chains and human services

By Nicholas Gruen & Chris Vanstone

August 18, 2016

Other things being equal, what’s there not to like about introducing more choice and competition in areas in which governments fund and/or deliver human services? That’s the starting point of the PC’s recently commenced inquiry into competition and choice in human services. These services are so important economically to the government’s bottom line and to Australians’ wellbeing that it gives Australia another opportunity to show global leadership in a difficult area – as we did in the glory days of economic reform from 1983 until the early 2000s when uniquely within the Anglosphere, we pursued ‘neoliberal’ economic efficiencies whilst also strengthening the social safety net.

However, this is difficult territory and ideological debates for and against competition won’t get us far – indeed, they could see us embrace some bold new agenda which somehow fails to identify, let alone tackle, the really knotty problems that pervade the area.

We’re hoping Gary Sturgess’s admonitions at the two-day workshop on the subject run by the Harper Review are still ringing in some ears. Listening to the easy encomiums to competition from one connoisseur of ‘high policy’ after another, Sturgess offered this: Stop it or you’ll go blind”. Sturgess was unimpressed with the Procrustean way in which the first draft of the Harper Report rehearsed the advantages of competition and choice without any real understanding of the difficulties of delivery – without entering into the messy world of those on the ground.

Too often in Sturgess’s critique, ‘the market’ becomes a deus ex machina somehow absolving the policy maker from their fundamental responsibilities:

“Until very recently, when questions concerning the design and stewardship of the supply side [of the NDIS] were raised, policymakers responded: ‘oh, the market will fix that’. The problem is that there is no market — that is the challenge that policymakers have set. And there is no reason why the market will address supplier failure in a timeframe that will be relevant to a person with a severe disability.” Gary L. Sturgess, 2016. “Reflections on the Public Service Economy”, Annual Lecture of the Business Services Association, London, 7 June.

Government as custodian of a corporate supply chain

Sturgess proposes that the master narrative in the area should not be contracting out, competition, choice or even market design, but rather the management of a corporate supply chain with all of those phenomena being part of the repertoire:

“If Ford mismanages its supply chain, so that its vehicles burst into flames, there is no point blaming their suppliers. It is Ford that will face the cost of recall. It is Ford’s brand that will be trashed. It is Ford’s share price that will suffer. And while Ford may lay off some of the blame on its suppliers, it is Ford that will bear the vast majority of the reputational and financial cost.”

We agree, and think the idea can be taken further.

Cultivating and accessing distributed knowledge and capability

Firstly, Ford was an exemplar of corporate performance around a century ago! In many ways, the critique Friedrich Hayek offered of central planning in government applies to large corporates in the image of the firm Henry Ford built. Just as Sturgess argues that policy valourises high policy making over the quotidian world of delivery, so Hayek critiques central planners’ inability to access and utilise knowledge (often informal knowledge) distributed throughout the system.

In that regard, the Toyota production system offers additional insights over that of Ford. Developing Henry Ford’s ideas about driving out waste, Toyota understood better than Ford that it needed do more than simply sit at the centre of the immensely complicated system it bestrode, issuing instructions to those on the production side – its employees and suppliers – and then marketing the result to its customers.

It drew its employees and suppliers into the process of endlessly optimising their own productive performance in myriad ways that couldn’t have been directed from the centre. Where American car companies sent their engineers into suppliers’ facilities to spot efficiency gains their suppliers could make and then captured those gains for themselves by cutting suppliers’ prices, Toyota allowed its suppliers to share the resulting cost reductions. So the innovations kept coming. Toyota also cultivated higher trust relationships with employees, spending an order of magnitude more than its American competitors on training and offering job security and stable salaries (as opposed to performance-based piece rates). It was a similar story with customers. Rather than maximise production and then sell inventory – if necessary with hefty incentives – Toyota built to order and engaged dealerships both in building long-term relationships with customers and also in feeding back market intelligence to the production side.

Competition and transactional market relations were the leitmotif of the American system with the result that the conflicts of interest between the various parts of the system – managers, designers, employees, suppliers, dealers, customers – often dominated, crowding out the common interests they all shared. Though market relations sat in the background conditioning and disciplining relationships, Toyota’s focus was on long-term cooperative relationships between the parts of the whole system.

Information and hierarchy

In all this – just as Hayek emphasised in a very different context – information was critical. It should have been axiomatic since at least the days of Gosplan in Soviet Russia, that information systems imposed from the top are almost invariably gamed. This is the bane of new public management. Just ask the patients of the Bristol Eye Hospital which met its targets from the centre to reduce waiting lists – by delaying reminders for regular eye checkups!

The information system behind Toyota’s production system was, by contrast, an exercise in applied humility. Predicated on the idea that, properly managed and trained, teams of employees have an intrinsic desire to perform well, Toyota built its production information system primarily around the needs and perspectives of those on the line and their accountability to themselves in the first instance. Employees were trained in statistical control and the management of computer numeric control (CNC) machine tools and tasked with using that knowhow to endlessly optimise performance between and across teams in regular ‘quality circle’ meetings. Of course, as well as doing its job on the line, production data was more widely available to management.

Information, transparency and competition

A few decades after Hayek had highlighted the difficulties centrally planned economies have in managing information, scholars such as Arrow, Akerlof, Shiller and Stiglitz did a similar hatchet job on markets. Markets mishandle information for at least two reasons.

  • However persuasive Hayek’s points might have been about the power of the price system in signaling the opportunity cost of production and consumption decisions to all players in the market, prices are the only information about which there can be no asymmetry between buyer and seller – for they are agreed between them! But there’s a serpent in this paradise and it’s the same phenomenon that corrupts bureaucratic systems of accountability. Asymmetric information between different players in the market – buyers, sellers and intended beneficiaries of services – corrupts the generation and flow of information about product quality and the various needs and circumstances of the players.
  • Information is, in economic jargon, a ‘non-rival’ good. Where a physical good like a car or a cookie is consumed exclusively, non-rival goods like ideas and knowhow can be enjoyed by one without interfering with others’ enjoyment of them.

Thus, no practical arrangement for handling information will be perfect in the manner it might be in an economist’s model. We should look to evolve hybrid institutions that capture the best of competition and collaboration where possible, whilst avoiding their worst pathologies. That’s what Toyota did with its supply chain.

In addition to the generous technical support it offered its suppliers, it also sponsored regular supplier wide-open days – both at Toyota and at the supplier factories. Non-cooperation in the knowledge commons was not an option for suppliers wanting to retain Toyota’s patronage. This rapidly normalised the culture of sharing and collaboration both within and between firms within the ‘family’ of suppliers, thus increasing the rate at which successful innovations spread. In the upshot, Toyota’s knowledge and learning commons was instrumental in its often doubling its American competitors’ labour productivity while exceeding their production quality.

This is the first part of an expanded two-part essay based on an earlier blog post by Nicholas Gruen at Club Troppo and TACSI’s submission to the Productivity Commission’s inquiry into competition in human services. Gruen and Vanstone’s concluding piece will explore both why and how a government supply chain to deliver human services must understand and optimise its own impact.

Thanks to Nicholas Kamper for research assistance.

Continue reading at The Mandarin: Part two: a supply chain needs a brain

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Geoff Edwards
Geoff Edwards
5 years ago

I agree, Nicholas and Chris, the Productivity Commission’s starting point augurs poorly for a serviceable report. Why on earth would one start such an analysis by assuming that competition and choice are the primary objectives? They are processes, optional means, not ends. With emphasis on “optional”: the Toyota success story was built primarily on collaboration not blind competition. If that is where they are starting, the PC is indeed stuck in Economics 101.

Surely the prudent rational approach would be to establish the standard of well-being that government (after thorough consultation) identifies should be achieved; and then to iteratively identify the preconditions for achieving that standard. I suggest that families would rather prefer reliability, professional competence and honesty in their providers above competition and choice. What are the preconditions for reliability, competence and honesty? Only organisations with a long-term tenure can build a reputation for reliability and competence.

The economic reformers tend to underestimate the complexity of their solutions. As you have identified in the referenced blog post, an outsourced system, or a complex supply chain, requires an intelligent brain at the centre. Government requires adequate resourcing and skills in the coordinating centre in order to make a coherent whole out of multiple suppliers, intermediaries, carpetbaggers and lobbyists. Not to mention clients. Instead, most departments now have to suffer efficiency dividends – year after year. The system is programmed to fail and to destroy lives and careers along the way.

Let the PC work out a solution to the catastrophic failure of competition and choice in the VET sector before they seek to visit a comparable regime upon human services.

I know I’m jumping the gun somewhat. I look forward to reading the second part of your analysis.

Nicholas Gruen
5 years ago
Reply to  Geoff Edwards

Thanks Geoff,

I’m not sure it’s that easy to identify a level of wellbeing and then deliver it. As for professional services, well as well as being part of the answer, professionals are part of the problem. One thing professionals have done is crowd out peers and civil society and they have a crucial role to play.

You may find Family by Family of interest if you’ve not encountered it before.

I wrote it up – briefly – here.

paul robertson
paul robertson
5 years ago

Many thanks to Nick and Chris for a stimulating article, which prompts a range of issues for consideration that could be a veritable stream of other articles in their own right, but I hope that focusing on a single key point / question would encourage dialogue.

Fundamentally is the metaphor of a Ford recall (ie a brand failure) appropriate to government’s role in a public sector market? That is, a single manufacturer’s supply chain is not the same as government funding individual consumers to choose their own providers in a choice model (noting that: each of those providers can act like Ford and improve their individual offerings).

The supply chain metaphor would hold true when government sub-contracts an alternative provider rather than directly delivering services (ie neither Ford nor government in this instance can ‘outsource’
their accountability for the quality of a product ‘sold’ under their ‘brand’). However, there is a different relationship between consumer and government for transactions within a ‘marketised’ model
for public services (for example the NDIS).

Under the new public sector market models, government roles would include (i) the establishing the market rules (ie the ‘high policy’ settings (ie program objectives & guidelines eg eligibility requirements, funding levels, potentially certification of providers etc) and (ii) regulating the market (similar to its role in any other market). NOT service delivery and hence not accountability for that delivery (other than a watch-dog function to ensure minimum regulatory requirements – think electricians and plumbers)

There is also a critical difference in the role of a consumer in a market (eg NDIS) or a recipient of a
monopoly production process (albeit one that effectively utilises available information). In the former the consumer has an opportunity to make choices to select services particular to their individual needs; in the latter the ‘brain’ that controls the whole process determines both need and offering.

Question: (to go to Geoff Edward’s point): is the assumption that government should be responsible for
establishing “standard of well-being” a residual vestige of government’s role under an older direct service delivery welfare model (Henry Ford’s you can have any colour so long as…)?

The strength of a market model is the consumer’s power to set their own standard for well-being. The risks are those of any other market failure: inequality, differential power relationships, information failure etc etc.

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