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What happens to the overall economy and distribution of wealth when a tech company disrupts and displaces a less efficient market incumbent?

• Please read below for clarification before answering: I'm taking about companies like Netflix and Amazon disrupting brick and mortar stores, as an example. Here's a hypothetical example with very simplified/fake numbers: Let's say that in 1990 a brick and mortar DVD rental store--call it Brickbuster--makes $30B in revenue from DVD rentals.    In 2000, web company offering online DVD rentals called Webflix comes along, and offers consumers the exact same DVD rentals service that Brickbuster did--but for half the price.  All consumers migrate over to Webflix, and now Webflix makes $10B in revenues, and Brickbuster now makes exactly zero--they go Chapter 7 bankrupt.  Assume that consumers have an inelastic demand for DVDs, so the quantity of DVDs consumed is exactly the same as before. Now let's say that in 1990 Brickbuster had to pay its employees a total of $25B in salaries.  In 2000 Webflix leverages technology to provide the same DVD service in a much more labor-efficient fashion, and only pays $1B in employee salaries.  For this example, let's assume that employee salaries are the only significant cost. So now $24B/yearin employee salaries has disappeared.  Assuming an average salary of $100k per employee, that means 240 thousand former Brickbuster employees are now looking for work. Now the rest of society gets some value back in the form of consumer surplus.  Consumers are getting the exact same product for which they once paid $30B, but now for a reduced aggregate cost of $15B (we are assuming perfectly inelastic demand, so they consume the exact same amount of DVDs and therefore the difference in revenue is pure consumer surplus).  So consumers get $15B/year in consumer surplus value.   Webflix is drastically more profitable than Brickbuster was, and it is able to maintain this profitability through overwhelming network effects and other barriers to entry. This translates to a higher net income--$14B for Webflix, vs $5B for Brickbuster.  We assume that Webflix does not further grow the size of its revenue stream, but remains perpetually constant [1]. Let's say that Webflix remains a private company so we can ignore the complexities of a public market valuation .  Webflix pays out its net income in the form of dividends distributed proportionally to its shareholders--which is 100% composed of its founders/VCs.  So its founders/VCs now make $14B per year, vs $5B for the shareholders of Brickbuster. So here's a summary of the net impact of Webflix disrupting Brickbuster: 1. Consumers get $15B/year in increased consumer surplus from a reduced cost for the exact same quantity and quality of product 2. $24B/year worth of employment disappears 3. The founders/VCs get $14B/year in value.  Ex-Brickbuster shareholders lose $5B/year in value. =================================================== I am hoping someone with much more expertise than myself in economics can answer this with a thoughtful analysis of the long-run impact of "software eating the world" on wealth distribution and the overall economy  [2][3].  There are two components to this question: 1) Does industry disruption create more net value for society in a utilitarian sense? 2) Does industry disruption create more value for the rest of society, when you ignore the wealth gained by the founders?  I.e. in a more Rawlsian sense. 3) And how can we as tech founders guarantee that we do create value for society in the latter sense? Will it result in an increasingly polarized distribution of wealth, where the founders and creators capture an increasing proportion of value? The troubling thing is that it seems that the internet/software is creating businesses with greater network effects than ever before--and therefore creating a barrier to entry that reduces the need to innovate. Point in case, Craigslist. Have we entered a period where Keynes' Technological Unemployment will become permanent, rather than temporary because of these network effects and resulting monopolies? ================================================== [1] I realize this example is completely contrived, but I am using it not to prove a point but to thoroughly explain the scope and nature of my question.  We ignore many important factors in this example, including: •    Webflix's ability to grow the overall size of the market through a disruptive product that converts non-consumers to consumers •    Long term growth through innovation •    Other costs unrelated to labor (e.g. shipping, licensing content, etc) •    And perhaps the most significant one, that Webflix actually offers a service that has much more value than the previous one. These factors are important, and when summed together, might result in a net positive impact on society at large (not just the Webflix founders). But it seems like there could very well be cases where the net result of a new disruptive technology is negative, at least for everyone except the founders.  And furthermore, the incentives for the founders are certainly not directly aligned with net value creation for society. In web founder circles, it's easy to fall into the mentality that every dollar in valuation we create is 100% new value creation for the world--which is clearly not true.  I want to understand the true impact on the global economy of tech innovation and entrepreneurship.  This isn't a stab at entrepreneurship in any way and certainly not Netflix or Reed Hastings--who I greatly admire as a role model for founders.  [2] http://online.wsj.com/article/SB10001424053111903480904576512250915629460.html [3] http://redeye.firstround.com/2006/04/shrink_a_market.html

• Answer:

  The assumption that demand for DVDs is inelastic is probably false, but assume it for the moment.  Webflix has destroyed a $30B business with it's attendant jobs and multiplier effects, and replaced it with a $10B business, so effectively, two things have happened:  1) $20B worth of business and multipliers (jobs, rental income, DVD manufacturing revenue, etc.) has disappeared.  2) $20B worth of consumer disposable income has been created.  The question is, what's the marginal impact on the overall economy of these two things?  Some portion of the $20B will be saved and some spent.  If it was all spent, that would lead to multiplier effects that would almost certainly generate a net gain in economic activity, because it was moving from a relatively inefficient use of capital.  The more that's saved, the smaller the multiplier will be, and in a high-saving environment (high interest rates, bad safety net, etc.) you would reach a point where enough is being siphoned into savings to reduce the net economic activity.  Note that this only looks at overall economic activity; the localized effects are certain to be lumpy.  Moves to efficiency (e.g. the growth of Wallmart) are almost always VERY bad for a small number of people (competing producers and their value chain) and SLIGHTLY good for a large number of people (consumers).    If you're a Democrat, you might believe that the policy goal is to come up with laws that redistribute some of the total societal gains to compensate the small number of people who lose - maybe by taxing consumption to provide retraining, support for moving to new jobs, or something.  If you're a Republican, you probably see most efforts in that direction as unlikely to succeed - and more likely to simply raise the cost of economic transition and growth.