A Million Regulations: The Narcissism Of Government.

Professor Deirdre McCloskey, in a recent book, tells us that

The US federal government has in place over a million regulations. One million. The Democrats say, “Add more bureaucrats….” The Republicans say, “Add more police….”

Beyond Positivism, Behaviorism, And Neoinstitutionalism In Economics; Deirdre Nansen McCloskey; The University Of Chicago Press; 2022

The Code Of Federal Regulations is 220 volumes. The hubris of a government that can concoct so many ways to control us is quite striking. They have regulations about the food we can eat, and the packages it comes in, and the ingredients listed on those packages. There are regulations to control the clothes we wear, the fabrics from which they are made and the shops from which we buy them. They control the cars we drive and the oil and gasoline we put in them and the tires we put on them. They control the medicines we take and how we access those medicines. They control the glass in the windows through which we look at the world, not to mention all the other materials with which we build our houses, and the tradespeople and practitioners of crafts whom we hire. They control the media from which we gather information. The Federal Register Index has a span from Actuarial Services to Workers Compensation Programs. There is not a single detailed aspect of daily economic life for which our hubristic government bureaucrats do not have a regulation or a rule.

The cost of this regulation is enormous, and about to become overwhelming. In a 2016 study, the US Chamber of Commerce Foundation estimated the direct cost of government regulation at $1.9 trillion, about 10% of that year’s GDP. (And, since GDP includes government spending, this is most certainly an under-estimation of the burden on private enterprise.)

Possibly more important than the direct cost is the economic waste. All regulations are an extraction from the economy. They require the allocation of administrative personnel and time to the useless tasks of compliance – filling in the forms, filing the completed forms, gathering and tracking the data the government requires for reporting, and informing others in the organization what they need to do to ensure the firm remains in compliance. These people could all be doing something productive instead. Consequently, production that could take place is excluded or neglected, and the economy is smaller and poorer and slower-growing.

And this definition of waste does not even include the wasted dollars paid in fees, and in fines for late filing, inaccuracy and other infractions.

Why does government impose this idiotic waste? For example, as an alternative, government could just impose some kind of a flat tax on GDP or gross revenues from sales, but not go to the trouble of designing, publishing, imposing, enforcing and administering their idiotic rules. Such a tax could sustain government at scale and pay for plenty of bureaucrats’ jobs, pensions and healthcare plans, without all the work.

It’s clear, then, that they enjoy the control.

It makes bureaucrats feel powerful. Their decisions are final. They dictate how the economy performs. They dictate whether or not businesses can grow. They dictate how cars are built and how cows are milked. They have ultimate power. These seedy, weedy mediocrities probably couldn’t qualify for a real job in an honest company that applies meritocratic measures to reward those who add value and discard those who don’t. Yet they are in total control. What could be more admirable? What could be more relevant to elevating themselves above the masses? Self-serving by making the regulations more complex and more all-encompassing is a natural behavior for them, and so obviously good for the economy and the country. The country needs controlling.

Over-regulation destroys much. It especially destroys the discovery and serendipity that characterizes the entrepreneurial economic activity that brings us innovation and growth.

And the damage is not restricted to the immediate effect of regulation. The damage compounds over time, as Dr. Per Bylund of Oklahoma State University emphasizes. Every regulation distorts economic activity, and shifts the interaction of supply and demand, and the interactions of entrepreneurs and customers, for as long as it is in place, multiplicatively compounding the damaging effect as each over-regulated period succeeds the previous over-regulated period.

Rent control is an easy example to think through. Rent control in a city immediately changes the economic calculation of an investor who might otherwise plan to build rental housing or invest in upgrades to an existing investment. The net present value of future cash flows changes and so the return on investment calculation changes. The investor may decide to invest in rental housing in another city where rent control does not apply, thereby permanently changing the relative economic relationship between the two cities in terms of the quality of life of citizens, and relative attractiveness to employers. Or the investor may decide to invest in an entirely different line of economic activity, thereby distorting the relationships between the rental housing sector and other sectors.

When the investor decides not to invest in the housing stock of the rent-controlled city, that housing stock will decline in relative and absolute quality. Renters may choose housing outside the rent control zone if its quality is better or more stable. Those renters may have to commute further. The markets for transportation and cars and gasoline are thus distorted. Perhaps the commuter spends less time with family as a result of the longer commute, and the kids suffer in academic achievement while the quality of life of the commuter declines because of frustration and boredom. Spending more on commuting may result in spending less on entertainment or clothing. In all cases, the demand functions and preferences of individuals are distorted with ripple effects through the local economy. These ripple effects can become tsunamis as the regulatory damage compounds over time: cities become wastelands, wastelands become criminalized, criminalization becomes social breakdown, social breakdown becomes violence.

The narcissism of government is that they don’t care one iota about these economic distortions. They care about being seen as policy designers, as engaged in that they call action, doing something. They care about appearance, not results or outcomes. When the outcomes we describe come about (as they have in many cities across the USA), politicians engage in narcissistic denial. It can’t be us. It can’t be our fault. Someone or something else must be to blame. Just look at us, we are so committed to doing the right thing.

How we wish we could expel the narcissists from government.

Government Economics Versus People Economics

Economics is beautiful. It’s the science of prosperity – how every individual in an economy can find their way to prosperity by collaborating and exchanging with other like-minded individuals for mutual benefit. The essences of economics include individualism – people helping people; betterment – everyone always seeking a higher level of well-being for themselves and for others; value – the feeling experienced when that higher level of well-being is attained; creativity – the new, never-tried-before ideas that humans are capable of generating; learning – no-one knows, controls or can predict the future, but new knowledge is continuously generated and shared through experience. Learning, creativity, the search for betterment and the pursuit of new value make economics an exciting, dynamic discovery journey of innovation and new horizons. 

We might call this form of economics “People’s Economics”. It’s the science of making people’s lives better. In his book Factfulness, Hans Rosling lists 16 Bad things Decreasing (including children dying, hunger, and plane crash deaths) and 16 Good Things Increasing (including literacy, access to electricity and safe water, and immunization). His point is that the individual drive for betterment and the search for better value – i.e., the science of economics – are the source code for global progress and human thriving. The dynamics behind this progress include experimentation, collaboration, feedback loops, and entrepreneurship – what complexity scientists call “explore and expand”: keep randomly trying things that might work, and expand resource allocation to those that do.

There’s another version of economics that we’re all more used to and more exposed to. That’s government economics. It’s the opposite of the science of prosperity for individuals or the individually-initiated drive for betterment and the search for value. The focus of this form of economics is not individual people and their personal pursuit of well-being. It focuses more on aggregates – meaningless contrived statistical roll-ups such as GDP. Individual people are meaningless in GDP. It focuses on government policy: the government’s fetish for control over the individual in economic terms knows no bounds. Government has explicit and detailed rules to control everything that is produced and everything that is used or consumed. There are government rules about the size of your breakfast cereal package and the ingredients listed on it. There are government controls that govern the car you drive and the airline tickets you buy and every element of your healthcare. And the government’s second major interest in the economy, after controlling it with regulations, lies in extraction: taking, via taxes, tariffs, and fees, the fruits of the economic activity of private producers that remain even after regulation has strangled productive possibilities.

Why does government economics dominate the economic conversation? First, the government employs most economists and subsidizes their research. Most Ph.D. economists are employed by the Federal Reserve and government departments either directly, or as paid consultants and advisors. Most economic research and the papers published by universities and think tanks are subsidized or directly paid for by government grants of various kinds. Economists are paid to do government economics. And secondly, of course, government controls the media through which we get most of our economics information, through the statistics it publishes and how these statistics are covered by mainstream media. All mainstream paid media require government statistics to report on and debate, and government economic policy to publicize and weigh (don’t worry, it’s all good, they tell us). They can’t question the existence of the Federal Reserve when Federal Reserve policy and actions provide them with so much airtime content and therefore so many advertising dollars.

Any of us can switch to people economics. It’s simply a matter of reframing. Frame the economic knowledge you have and the news that comes your way through the lens of individual end-users and individual producers, both people-as-producers and firms-as-producers. For example, take the question of whether or not there is an economic recession. The government statistics say no, not yet. Some of the commentators on “macro” economics believe we are in a recession. To decide the question, look through the lens of you. Do you have a job? Does that generate cash flow for you? Are you consuming? Are you consuming less or more? Is your mortgage rate locked in, or floating? These and other personal questions determine your economic condition and economic outlook, not the statistically-contrived movements of some meaningless aggregates.

You can use the same personal assessment for price inflation. Are things you buy more expensive than they were a year ago or six months ago? All of them, or some of them? Are you able to cut back on some expenditures that don’t seem as necessary as they once did? Can you make substitutions? Can you adjust? The level of price inflation that’s painted as a “national” level is a government number. It signifies nothing about your personal inflation, or your family’s. Your inflation is not determined by the national prices of eggs or gas or any other single item, but by the monthly or weekly dollar expenditures for household expenses. Some of these are fixed and some are variable and you manage accordingly. You economize. You calculate and recalculate and re-evaluate. 

Similarly, on the production side of the economic equation, People’s Economics applies at the individual level. The driver of economic production, innovation, and growth is entrepreneurship. This is a function that any individual can perform. Trading labor hours for a wage is entrepreneurial if the combination of revenue and psychic reward is greater than the individual’s perceived cost of doing the job. Working for a corporation can be entrepreneurial so long as the work is done in a value creation mode as opposed to a bureaucratic mode; bureaucracy is non-productive. Entrepreneurship can be pursued by any business owner, co-owner, or investor, so long as the focus is on producing customer value (as opposed, for example, to maximizing shareholder value).

There are a few economists who recognize people economics. Professor Deirdre McCloskey of the University of Chicago calls it humanomics, and she’s campaigning for an end to the kind of false measurement that characterizes GDP and the centralized control of people that is the driver of government economic policy. She favors individual creativity and discovery as the drivers of economic growth. She calls for liberty from policy.

The entire Austrian school of economics, of course, is the antidote to government economics, built on the consumer as the originator of value – discovering what to want – and the entrepreneur as the producer of value – meeting the consumer’s newly discovered wants with innovation.

The economics profession has a lot to answer for. Mostly, it should cease to debase itself and stop selling itself to governments. We can then rediscover the beautiful science of prosperity.

10 Better Business Perspectives From Austrian Economics

1. Subjective value.

What is the purpose of business? It is to create value for customers, defined as the experience of a feeling of satisfaction, well-being, or even delight. Austrian economics cuts through the debates about maximizing shareholder value or stakeholder value, and about the cold and calculating pursuit of profit. Profit is an emergent result of creating subjective value, one that’s required to keep the value creation system in motion. A deep understanding of subjective value is a prerequisite for business success, and it results in a broader value perspective for businesses and firms than narrow concepts such as profit maximization or shareholder value maximization. The value-dominant logic of Austrian economics ensures that business is a benevolent force for society, as well as for all business participants on both the producer and customer sides.

Source: Ubiquitous. Subjective value in entrepreneurship, Per L. Bylund, Mark D. Packard 

2. Customer sovereignty. 

How does any economic system – a firm, a project, or a marketing campaign – work and succeed? The customer determines the outcome. By buying or not buying, by paying the manufacturer-recommended price or effectively demanding a lower one, by judging the quality of the experience and rating it and describing it to others, customers are the sole determinants of what succeeds and what fails for producers. By acknowledging this sovereignty, businesses channel themselves into the right business approach: humble, responsive, agile.

Source: Ludwig von Mises Human Action Scholars Edition Ch XV Section 4 The Sovereignty of the Consumers

3. Betterment.

The engine of economic growth is the individual consumer’s drive for betterment. Each individual is eternally dissatisfied with the status quo and seeks constructive ways to improve it through acquisition and use of products and services that they judge might help them in their quest. This dissatisfaction is the universal resource for entrepreneurs and innovators. Those who succeed in utilizing this resource effectively thrive.

Source: Ludwig von Mises: Human Action, Scholars Edition Part 1 Chapter 1 Section 2, The Prerequisites of Human Action

4. Entrepreneurship

Entrepreneurship is the economic function that senses the dissatisfaction of end-users, translates that sensing into innovative economic projects, and proposes new choices and alternatives to them. Entrepreneurs accept the uncertainty that they might not succeed in securing the acceptance of the customer (see 2 above), and they utilize methods of co-creation of value with customers to increase their probabilities for marketplace success.

Source: Murray N. Rothbard, Man Economy and State Ch 8 Production, Entrepreneurship and Change, Section 5 The Entrepreneur and Innovation

5. Empathy as a business skill.

The tool to match entrepreneurial sensing to the customer’s drive for betterment is empathy – the skill of identifying and understanding the customer’s mental model and seeing the world from that perspective. Being able to identify the feeling a customer would prefer to experience is empathic skill, and being able to get the identification right is empathic accuracy. Translating these inputs into potential new marketplace offerings is entrepreneurial imagination. All of these require a human connection that is the essence of the entrepreneurial society.

Source: Peter G. Klein Empathy For Entrepreneurs

6. Business as a flow.

Traditional business management approaches do not deal well with the dynamics of markets. There’s an effort to control – e.g. by making annual plans or compiling 5-year strategy documents that are somehow intended to frame resource allocation and employee activities – and to predict – e.g. by making sales forecasts and driving internal activities to “hit the numbers”. No control and no prediction are possible. Business is better viewed as a flow, a river of activity that is never the same twice and always different depending on the location of the observer. Ludwig von Mises called this situation “constant flux”. In this sense, value is a flow and capital is a flow – the capacity to think in terms of flow and manage in view of continuous flow is a desirable skill.

Sources: Peter Lewin and Nicolas Cachanosky: Austrian Capital Theory; Ch 2 Carl Menger and the Structure of Production

Ludwig M. Lachmann; The Market as an Economic Process

7. Orientation and Intent.

Strategy and planning are replaced by Orientation and Intent. In a business firm, orientation is a shared alertness among all employees and partners to new information coming from the marketplace and the business environment, and a shared way of filtering it and processing it quickly to inform new decisions. Intent is the framing of those decisions in the context of shared goals – no commands and orders but common guidelines for action. Orientation and intent are dynamic alternatives to command-and-control.

Source: Orientation: Bridging The Gap In The Austrian Theory Of Entrepreneurship; Mark J. McGrath and Hunter Hastings; AERC 2022

8. The end of structure.

In a world of flow, traditional organizational structures and the transmission of hierarchical authority can prove to be constraining, impeding vital information flow, and resulting in waste and inefficiency. The most constraining organizational form is bureaucracy. Leadership becomes an emergent situational tool, not a consequence of authority. It is fluid not structural, operating vertically and horizontally from bottom to top and top to bottom, in small teams and grand challenge projects as needed, based on knowledge specialties as they pertain to the situation at hand. 

Sources: Ludwig von Mises: Bureaucracy

Desmond Ng: Entrepreneurial Empowerment And The Austrian Approach To Value-Generating Organizational Design

The Boundless Promise Of Decentralization For Business; Hunter Hastings

9. Shared mental models.

We all see the world indirectly, through mental models. As a consequence of subjective understanding, each individual in a firm constructs their own mental model. Management and leadership in this context come down to aligning all these mental models so that they become one, cohesive, shared model. The shared model becomes the binding force that takes a business forward with growth momentum.

Source: Economics For Business: Building An Entrepreneurial Business Culture With Systems Thinking

10. Simple rules.

Austrian economics understands that markets and firms and industries are “spontaneous orders” – what today we call complex adaptive systems (CAS). Such systems are guided not by plans and policy manuals but by simple shared rules that apply to all and are followed by all. Such rules as the creation of subjective value, practicing empathy, and acting entrepreneurially are among the rules that bind firms together. 

Sources: Economics For Business: Systems Thinking For Business

F.A. Hayek; Law, Legislation and Liberty, volume 2, Chapter 7

What Level Of Return Are You Providing To Your Customers On Their Emotional Investment?

Happy customers are a goal for businesses. Customer satisfaction, customer trust, customer loyalty – these are all assets that corporations and brands work hard to build. They’re emotional assets. When a customer is satisfied with their purchase and with the experience that results from it, that’s a feeling, not a number. When a customer comes to trust a vendor or supplier or brand, that’s a perception or intuition rather than a cold, reason-based assessment. When that trust translates to loyalty, it may be expressed in behavior (such as repeat purchasing) but it’s nevertheless based on sentiment as much as analysis.

Seen from the perspective of business, happy customers represent purpose. The purpose of a business is to create and maintain happy customers. The business methods and tools for achieving this purpose are not found in the numbers of finance and accounting, and they’re not in the bureaucratic processes of business administration. They’re not in the footnotes of the Annual Reports and 10K’s that the SEC demands that companies spend fortunes on to produce and file.

The business tools that produce happy customers are emotion-based. The most important is empathy: the ability to understand the customer’s mental model – see things from their perspective and with their perception and emotion – and to operate within that mental model when designing products and services for them. One definition of value creation and innovation is the solving of problems that have meaning for others. To even get started on this track requires an understanding of what’s meaningful for customers, an understanding that can only be gained from their perspective.

Think of any successful service, product or business. Why are its customers happy? How do they feel and why? What feelings motivate them? What are their values and how does the business or brand complement those feelings? To take just one example, why are Tesla owners willing to pay as much as they do for their EV? Do they find personal meaning in contributing in some way to the climate crisis (which, itself, is highly bounded by feelings)? Or do they take pride in the green credentials they can display to their neighbors, peers and friends? Does the simplicity and austerity of the car’s design complement and embody these feelings? Elon Musk and his team are able to do this analysis. They have a highly developed feel for their customers.

This is not to imply that business is all “touchy-feely”. In fact, this feeling that the customers have for brands, products and services becomes capital on the business’s balance sheet, as well as becoming revenue and profit on the P&L. The customer’s feelings that a brand will make them happy and result in a feeling of satisfaction becomes revenue through the mechanism of willingness-to-pay. After assessing the potential value and utility of any brand offering or any value proposition, the customer decides (based on emotional, subjective valuation) whether or not to buy. Are they willing to pay to find out whether their experience of the brand will be as good or better than they expect? If they are a repeat buyer, they’ll be more confident. If they’re a new buyer, they’ve developed some tentative trust. If they’re feeling affluent and they’ve already met their more basis needs they may feel a little more relaxed and uninhibited about their willingness to pay. In any of these cases, they’ll assess again after their experience to weigh whether it met their expectations or not, and on this basis, develop their future evaluation for the next opportunity to buy.

These customers are making an emotional investment in the business’s offering. They’re expending their own emotional energy in thinking through their internal problem to solve. They’re trying to anticipate their own future emotions that will arise after the purchase. They are taking a value risk – it might not work out. This is a considerable emotional investment. There are only so many times they’ll be willing to repeat the investment, whether for this product or for the category from which they choose it. A disappointing Tesla can be traded in at some point. A disappointing fashion choice can be discarded and never repeated.

The customer seeks a return on their emotional investment – ideally a high one. When they choose between two different ways to spend their money – to exercise their willingness to pay – they’re weighing two potential returns and they’ll select the higher one.

The customer’s emotional investment becomes the company’s capital. When they buy, revenue flows back to the company. What we know as capital value on a company’s balance sheet is the flow of revenue back to the company, minus the cost of generating that flow, expressed as a single dollar value. If customers are happier, or more customers are happy, more revenue flows, quite possibly at a higher profit since the willingness to pay might be higher, and the company’s capital value increases. This is what becomes stock market value – a stock price can be expressed as a Price / Earnings ratio. The earnings in this equation are those flows coming back from customers. It’s really a Price / Happy Customers ratio. Similarly, in financial analysis, Economic Value Added (EVA) is a similar calculation: the flow of revenues from customers minus the costs of generating them.

Economic calculation for a business requires both numbers and feelings, quantitative analysis and qualitative analysis. It’s necessary to empathize with and assess the emotions of customers, and to translate these into projected revenue flows. It’s equally necessary to identify their willingness to pay as a number (i.e. pricing) and then to choose costs of production that are both consistent with their emotional needs and consonant with the accounting analysis of profitability.

In a book called After Steve: How Apple Became A Trillion Dollar Company And Lost Its Soul, Tripp Mickle contrasts the mindset and approaches of Apple’s Chief Design Officer Jony Ive and CEO Tim Cook. Ive was the design aficionado who sought flawless perfection in Apple’s products as the way to earn the love and loyalty of customers, always surprising them with what was possible and with the degree of elegance and beauty that was achievable. Tim Cook was more of the numbers-based efficiency aficionado, seeking cost discipline to achieve profits at price points the customers indicated they were willing to pay.

Both are necessary, of course. But even costs must be emotionally and subjectively judged as supportive of customer happiness. What, for example, is the cost of Apple’s beautiful packaging which evokes such pride of ownership and delight at the unpacking experience? It would be easy to choose lower priced packaging. But what would be the cost in diminished customer delight? What would be the capital cost of reduced revenue flows from a diminishing army of Apple fans?

All-in-all, it’ a feel for business that’s more important than excellence in business administration, and it’s this feel for business that reveals more of the secrets of the success of great entrepreneurs, great brands, and great corporations. Business schools won’t tell you that, and won’t help you develop that feel. Trust emotions, practice empathy and exercise judgment.

Climbing The Value Ladder.

Value is the energy that powers the economy and its growth. People relentlessly pursue better experiences in the future than are available to them in the present and their attainment of that future experience is what is meant by the term value. People assess – or e-value-ate – their experiences after the event and decide whether they were valuable to them. They anticipate better experiences in the future, and look for goods and services they believe will be able to bring them that better experience.

It’s because people demand that the future should be better than the past or present that there is any economic activity at all. It’s the reason for innovation. It’s the reason for interest rates. It’s the reason for economic growth. It’s the reason for supply chains and retail stores.

The experience of value is a good feeling. It’s satisfaction. It’s the replacement of one state of well-being for a better one. It’s calmness in place of anxiety and contentment in place of desire. It’s also a never-ending question, because value can always be improved upon and satisfaction can always be higher.

In pursuing success in markets, businesses can improve their prospects if they bear in mind the primacy of experience. Engineers are often wrapped up in products and services features and performance. Sales and marketing often focus on these same elements when making their pitch to customers. But customers don’t want features and performance or even product attributes. They want that experiential feeling of value.

Value propositions and sales pitches will be better when the experiential value is incorporated. Instead of selling today’s features, sell tomorrow’s feeling. “When you select us as your supplier you’ll feel confident in the level of service we provide. All your information requests will be immediately fulfilled, and your customer service rep will always be available. You’ll always feel that we are here, standing by to respond or help, and proactive in bringing you new ideas, and innovations.”

  • A large financial services customer would send e-mail requests to a service provider late at night, and would keep score of how many same-evening responses they received. The providers with the best response scores were graded higher. If you are in the customer service business, it pays to check your e-mail before going to bed!

How can you add more experiential value to your value proposition?

  • Would your potential client enjoy the drawing on the special knowledge level and career experience level of your team? How would they feel in the future to be in a monthly call with your top analysts or top site foremen so as to be able to learn about the latest market conditions, especially in the midst of market turmoil?
  • Is your client frustrated with the service levels or lack of responsiveness of any of their current providers? How can you make them feel like it will be better with your company’s greater commitment to service?
  • Are there any higher values that the client is pursuing above and beyond current functionality and performance? Every client – and every individual at every client – has a ladder of values they are climbing. Have you asked them about it? Do you know their higher value preferences?

Value is always ascendant from lower to higher. Customers seek out the functional value that reassures them that a product or service that is offered “works” for them. Then they can move up to less functional attributes – like style and aesthetics, for example. At a higher level still, they think about the longer-term future: not only how will the product perform now, but how will it fit in with their future plans. Once they believe that there’s a future fit, they’ll think about high values like relationships and ethics. Ultimately, they are seeking a better world, or a more meaningful career; if you and your company and its products can help, you’re contributing to the highest level of value. The best value creators climb the ladder and find the strongest route to the top.

Customer Value Is All That Matters In Business.

Value creation is – or should be – the number one concern of every business and everyone in business. The term means value for customers. If a firm does not generate value for customers, it is not in business and can’t possibly serve other constituencies like employees, shareholders, stakeholders, and local communities.

Businesspeople must think deeply about value and understand it fully, and it’s not always the case that they do. Let’s start at a higher level than the business firm, at the level of the economy. What is an economy? It’s how well-off a group of people make themselves with the resources they have available to them to work with. It’s the shared well-being of that group of people. It’s their quality of life, their enjoyment, and their satisfaction. In other words, the economy is not just the goods and services we produce or the dollars we exchange with each other to buy and sell goods and services. The economy is value that is generated for people – feelings of satisfaction, of joy and reassurance, and security, of meeting not just functional but also emotional and spiritual needs. The pursuit of economic value takes on purpose and meaning when it’s viewed through the eyes of people – and people are customers for business.

If we now return our focus to the level of the individual firm and its customers, we realize that value generation at this level in the economy must embrace and address the same feelings of satisfaction, joy, emotion, and spirituality. These feelings must be present in the value propositions that businesses make to customers. Each individual customer’s current state is a dynamic function of multiple values that they are trying to balance. You can refer to various analytical models for people’s value bundles. Here’s one called the Schwartz Theory of Individual Values. A quick look tells you that people are integrating values as diverse as pleasure, conformity, and security (and many more) into their everyday decisions and choices. The balance changes in every situation and from moment to moment.

Any business engaged with any customer at all must be conscious of the range of individual and cultural values that are in people’s minds and consciousness. If your customer is part of a firm in a B2B relationship with you, then you need to take account of the shared values of the firm you are dealing with, which will color and shape the decision-making of the individual you are engaged with.

From this perspective, value creation can be seen as pretty complex. Quite forbidding, even. How do businesses manage? There are a couple of simplifying approaches.

Get the direction right.

Value is a process. Your customer is continuously learning about value – what they themselves value in any specific situation and at any specific time. Their evaluation is changing. But they are seeking one direction, which we can call betterment: improving their feelings of satisfaction. Value is a change in status from one of less well-being to one of greater well-being. It is an increase in well-being. That means that you may not need to understand every nuance of the balance of the customer’s multi-functional values system. You just need to measure and monitor whether their feeling of well-being and satisfaction is moving in the right direction, towards betterment.

Get aligned.

While it is probably too demanding to try to identify every position of every customer on every vector of the Schwartz Value System or one like it, there is a less demanding way of value mirroring, and that’s alignment. If your position on your own value system is reasonably well aligned with your customer’s (you’re not in conflict, at least), and perhaps even better aligned than your competitor’s, then there’s a good chance of forming a value partnership: you make a value proposition that they can feel good about accepting. Alignment comes from an analysis of what matters. What matters most to your customer? You can ask them; it’s often very hard for them to articulate their values, but they might be able to answer a question about what’s important to them, at least at this time, in this situation, and regarding this deal. (Bill Sanders told us how just asking the question can “expand the value pie” in any contract negotiation with any customer.)

If what you think matters is close to what the client thinks matters, then there is the opportunity to become value partners, to make a deal or make a sale or make an exchange.

Empathy And Knowing Your Customer.

The business skill that underpins the generation of customer value is empathy. This is not a casual “get inside the customer’s head” routine. Value empathy is a product of the rapidly advancing knowledge of neuroscience that is spreading into business methods, combined with an understanding of complex adaptive systems thinking. Empathy starts from the concept of a mental model – a way of seeing the world and processing the information gleaned from sensory inputs – hearing, seeing, touching – into an individually cogent perspective. Every individual operates a unique and different mental model. The process of empathy is first to construct someone else’s mental model – the customer’s – and then run new information through it – the new value proposition that the business wants them to consider. If the business has constructed the customer’s mental model accurately, it should be possible to make a reasonable prediction as to how they will react to the value proposition. It’s not infallible, but it’s also not guessing, not projecting, and not wishful thinking. It’s not even marketing – that comes later if the business wants to attempt to change or modify the customer’s mental model. There’s a learning process, and humility is called for in thinking about customers’ complex mental processes.

Empathy is knowledge-based, unlike sympathy, which is emotional. Therefore, the more a business knows its customers and the more they know about their customers, the greater the potential for an accurate empathic diagnosis of the customer’s mental model. The first step in value creation is selecting the right customers for your business – customers you can know well and will enjoy knowing.

A Value-Dominant Business Culture.

Many of the criticisms aimed at big corporations today are the result of businesses’ failure to understand value. The claim to maximize shareholder value, but this is a financial calculation, not the generation of valued experiences for customers which is the true purpose of business. They claim to pursue stakeholder value, where the term stakeholder is amorphous, but generally taken to include employees, the population of the communities in which offices and factories are located, sometimes the environment, and sometimes even the government. None of these business activities fall under the true heading of value creation – only customer value fits. All else follows: profits (signals from the customer that they fully approve of the value they receive), stock price appreciation (reflecting the discounted future cash flows from satisfied customers), and stakeholder benefits (profitable companies with a loyal customer base are more likely to support all of their other constituencies).

Customer value takes care of all the other values. That’s why it’s all that matters.