Remember the Occupy Wall Street movement? It started back in 2011 in New York as a protest against financial inequality. Their slogan was “we are the 99%”, which was derived from Joseph Stiglitz’s May 2011 article “Of the 1%, by the 1%, for the 1%” in Vanity Fair. Stiglitz reported that “in terms of wealth rather than income, the top 1% control 40%”. The demands of the movement were never really clear. It seemed to be more about voicing outrage at the status quo rather than demanding specific policy changes. But the framing of the entire movement in percentages of wealth distribution implies something: wealth is a pie and 99% of people feel their slice is too small, or at least that the 1%’s slice is too big. The problem with this idea, and what many people fail to realize, is that wealth is not a pie.
Any discussion about wealth first has to clear up the confusion around wealth versus money. They’re not the same thing. In economics, wealth is what your assets are worth. Money is just the medium through which wealth can move and be traded. To create more money, the government just fires up the ‘ol proverbial HP LaserJet All-In-One OfficeJet 8620 and suddenly there’s more money. But to create wealth, you need to have something people will pay money for and you need them to pay more than it cost you. This sounds like just manufacturing a product and selling it for a profit, but labor can also create wealth. Art is a great example of this. The artist buys $100 of paints and brushes and canvas and does labor on it and sells it for a million dollars. That’s a lot of wealth creation! The $999,900 of wealth he just created appeared out of nowhere. He didn’t take it from someone else. And now the GDP of his country has increased by $999,900. What a great trick! Of course in reality, creating wealth is rarely that easy.
Wealth creation usually involves investing capital and labor. When Apple wants to create wealth for themselves by making the next iPhone, they need to spend a lot of money upfront to develop and produce them before they can start selling them. A high upfront capital cost means more risk, since you may lose that money and fail to create any wealth if you’re wrong about your market! Individual people don’t have access to the kind of capital or the labor needed to create a lot of wealth quickly. So individuals get together and form a thing called a company which allows them to get the capital and labor needed and helps shield them from the risk. This is how it’s been pretty much all throughout recorded human history. But very recently, something changed: software ate the world.
Software solves both of the problems an individual faces when trying to create a lot of wealth quickly. The initial capital is the price of a laptop, and the labor can be completed by a single person. This works because of the incredible proliferation of tools and frameworks available. A single person with minimal experience can create almost any digital good or service with just a laptop by building off of a bunch of open source (or free) software tools. Here’s my claim: the most powerful way to create wealth is to create high leverage tools.
A consumable creates wealth once. But a tool can start a chain reaction of sustainable wealth creation. A tool either unlocks new capabilities or reduces the required labor input. The shortest wealth creation chain is just that the tool is sold to the user and the user creates wealth directly. But if the tool is powerful enough, it can be a seed crystal for a whole new company. The new company couldn’t exist without the first tool, and once they create a new, different tool, that can act as a seed crystal for even more companies. The result is a succession of tools being used to create better tools for more and more markets. A dense web of wealth creation grows, and the biggest nodes are the tools that are providing the most leverage for everyone.
Software tools are the most common example of a high leverage tool, but it’s a hardware tool that can claim the title of most recent common tool ancestor to the modern computing world: the photolithography machine. This tool (really a class of tools that continually improved) enabled the miniaturization and cost reduction of computers from room sized behemoths to something that fits in your watch, all while increasing computing power exponentially. Building a tool to create small, cheap chips enabled the entire modern software industry and the creation of the internet. IC fabrication facilities certainly require a massive upfront capital investment, usually several billion dollars. But that pales in comparison to the wealth created globally by the software industry that was enabled by these tools.
It’s important to realize that creating wealth does not necessarily mean everyone along the way makes money. For example, big open source software projects like Linux provide huge leverage but don’t directly make any money by design. However, they have enabled thousands of companies to be started, dozens of which are worth more than a billion dollars. For products that aren’t free, the market decides how much wealth you capture. ARM makes CPUs that are present in every phone Apple makes and every phone Samsung makes. They have cores in multiple chips inside each phone, but mainly they design the CPU on which almost all of the software on the phone runs (there is some nuance here I’m skipping over about their licensing model). Apple sells about 200 million phones a year, and Samsung sells almost 300 million phones a year. You would think ARM would be creating and capturing a huge amount of wealth, since they’re what’s enabling a very significant part of almost half a billion phones per year! Yet ARM sold to Softbank in 2016 for $23 billion, while Apple is worth a trillion dollars and Samsung is worth $300 billion. Another data point to consider is Qualcomm, which also makes chips that are in every one of those phones and are worth $100 billion. That’s a lot more than ARM, but in both cases it’s clear that more wealth is created downstream. Building a phone is way more valuable than designing the chip that the phone runs on. But this is a a great example of how a high leverage tool can not only continue creating wealth further down the chain of customers, it can actually grow the wealth created along each step as the subsequent tools get more powerful and accessible.
Tools can also allow for faster development, which means wealth creation can accelerate. Before it took you a year to build one iteration. Now thanks to your better tools, you can build five iterations a year. Ideally, your product is now getting more valuable five times faster than it was before.
Low cost or free software tools have the biggest potential to create wealth. Most startups are started by people with very little money and a big appetite for risk. For a big company, spending $5000 on a software license to develop a new product is barely noticeable. But to a college student working on an idea, anything more than probably $100 is totally out of the question. Building and releasing free software tools is effectively a way to invest in a huge number of people. Once that small initial cost barrier of software and a laptop is overcome, it’s possible to create wealth thousands to millions of times what you paid by injecting your own labor and education. The education part can be free since anyone can learn to code online for free in a year or less. The labor part is extremely high leverage because of the number of available software tools that speed up development and because the internet solves the distribution problem. The result is a web of tools creating other tools and creating massive wealth very quickly with huge margins and small capital input.
It’s easy to see how strategic policy can encourage this effect. Governments should freely distribute any tools that they create and should have a group dedicated to building high leverage tools. The US government shares many of its unclassified software tools at code.gov, which currently hosts about 6500 repositories. Other agencies release their tools through additional code repositories and technology transfer programs. These agencies include NSA, DHS, USGS, FAA, USDA, and the military. The US government also has many national labs that work on building tools (software, hardware, and processes) that are released to the public. However, I don’t know of any US government organization that specifically builds high leverage software tools to make technology more accessible. Why doesn’t the government create things like pyTorch or TensorFlow? Identifying new technologies and writing powerful, general use tools that make the technology easy to use would not only help the US economy, it would help the world. And lifting the global economy is good for global stability.
The takeaway from all of this is simple: if you want to create a lot of wealth, build the highest leverage tool you possibly can. It should be something that other people can start companies around. And it should probably (but not necessarily) be software.