Book summary “The new economics”: summary

Introduction

You face constant losses because prevailing management practices rely on destructive methods like numerical quotas, merit ratings, and short-term thinking. These traditional systems crush intrinsic motivation, foster destructive competition, and blame workers for failures built directly into the process by poor design.

W. Edwards Deming argues that you can escape this downward spiral only by adopting a system of profound knowledge. This philosophy requires you to understand systems, variation, the theory of knowledge, and human psychology to transform organizations through cooperation instead of fear.

The book explores these ideas across five core areas, helping you answer several vital questions:

• Why do merit ratings and incentive pay destroy teamwork and quality?
• How do you manage variation without tampering with stable systems?
• What drives people to work with joy and intrinsic motivation?
• How do you transition from lowest-bid purchasing to long-term supplier partnerships?

1. The Heavy Losses of Prevailing Management

The prevailing style of management produces immense waste and heavy losses by relying on faulty practices such as merit ratings, incentive pay, numerical quotas, and lowest-bid procurement.

Many organizations invest heavily in automation, new machinery, quotas, merit systems, and management by objectives, only to suffer from poor quality and high costs. These tools and slogans place unfair blame on frontline operators who have no control over product design or overarching systems. A company invested forty billion dollars in new machinery and automation, resulting in trouble, overcapacity, high cost, and low quality, with interest alone costing two billion dollars per year at a five percent annual interest rate.

Ranking people, teams, or divisions through the merit system is a farce that destroys cooperation, demoralizes employees, and ignores the reality that performance is mostly determined by the system itself. Apparent performance is largely attributable to the system rather than the individual, described by the equation x + (yx) = 8, where x is individual contribution and (yx) is the effect of the system. Forced ranking of government employees is a mandate of Congress, and individuals deprived of a raise or job due to low rank can file grievances.

• Abolish next Monday morning the merit system in your company.
• Explain to your people your reasons why.

Pay based on performance and incentive commissions misdirects focus onto numbers and causes heavy losses, whereas shifting to salaries fosters cooperation and protects the customer. Individual performance cannot be measured accurately except perhaps long-term. Incentive pay leads to behaviors like overselling or underselling just to secure the commission, creating customer resentment and destroying teamwork. Gallery Furniture Company in Houston switched its salesmen from commission to salary, resulting in steady sales increases and improved profit per square foot.

• Abolish incentive pay and pay based on performance.
• Give everyone a chance to take pride in his work.

Numerical goals and production quotas accomplish nothing for improvement and instead drive distortion, faking, and fear, leading employees to manipulate data or cut corners to meet targets. Goals set beyond the capability of a stable process cannot be achieved without redesigning the process itself. When people are held accountable for impossible goals without methods, they resort to redefining terms, fudging figures, or sacrificing quality. Sears Roebuck ran into trouble in 1992 after allotting goals to their Auto Service Centers, and a bank agent who was given a quota to lend $83,000,000 per month generated bad loans. Ninety-four percent of troubles belong to the system and are the responsibility of management, while six percent are attributable to special causes, with a one percent allowance for grocery store shrinkage.

• Work on a method for improvement of a process instead of setting numerical goals.
• Introduce a horizontal production line with a self-directed work force to move away from quotas.

Buying materials and services at the lowest bid builds long-term failure and high total costs into the organization, contrasting sharply with stable supplier-customer partnerships. Focusing solely on initial purchase price ignores the predicted cost of problems during use and the ultimate effect on final product quality. Escalators on the Washington Metro break down frequently because equipment was purchased at the lowest bid, whereas systems in London, Paris, Tokyo, and Moscow avoid this issue. US domestic postage costs 29 cents, noted as the cheapest in the world with the worst service.

• Estimate the total costs of use of materials and services, including first cost and predicted cost of problems.

2. A System of Profound Knowledge

The prevailing style of management is a modern prison of destructive competition that afflicts government, industry, education, and healthcare. Overcoming this requires cooperation and grounding leadership practices in a specific theoretical framework.

Transformation to a new style of management requires the application of a cohesive system of profound knowledge composed of four interrelated parts.

A system is defined as a network of interdependent components that work together to accomplish a specific aim. Without an aim, a system cannot exist. Management must direct the efforts of all components toward this aim, as leaving components to act as independent profit centers will destroy the organization.

The layout of profound knowledge consists of four parts that cannot be separated and interact constantly:

• Appreciation for a system
• Knowledge about variation
• Theory of knowledge
• Psychology

Understanding them allows you to judge decisions and transform organizations. To lead this change, you must:

• Set an example
• Be a good listener, but will not compromise
• Continually teach other people
• Help people to pull away from their current practice and beliefs and move into the new philosophy without a feeling of guilt about the past

All management forms and rational plans are predictions built on theory, and information without theory yields no knowledge. The theory of knowledge teaches that a statement conveys knowledge only if it predicts future outcomes while fitting past observations. Information, no matter how rapid or complete, is not knowledge because knowledge requires temporal spread and theory.

A barnyard rooster named Chanticleer had a theory that his morning crowing caused the sun to come up, a theory he had to revise when he forgot to crow one morning and the sun came up anyway.

Communication and negotiation require operational definitions because empirical observations do not possess a single true value. There is no true value for any characteristic defined by measurement or observation because changing the procedure or operational definition produces a new number. Operational definitions provide an agreed-upon procedure for translating a concept into measurement.

Dr. Mary Leitnaker uses half a dozen packages of animal crackers dumped on a table to show that counting cows depends entirely on rules, such as whether an animal missing a leg should be counted as a cow.

3. Knowledge About Variation and Control

Life is variation, and data must be understood through the lens of stability. Variation arises from two distinct sources, which are common causes inherent to a stable system and special causes from outside events.

Managers make two costly mistakes when dealing with variation by confusing common causes and special causes.

Mistake 1 is reacting to an outcome from common causes as if it came from a special cause. Mistake 2 is treating an outcome from a special cause as if it came from common causes. Management is entirely different depending on whether a process is in a stable or unstable state. Both mistakes cause economic loss, and management must use control charts to minimize net loss instead of arbitrarily tracking down every fluctuation.

Mr. Heero Hacquebord's six-year-old daughter came home with a note from her teacher warning that she was below average on two tests, causing humiliation until her parents moved her to a supportive school.

At the Western Electric Hawthorne Plant with 46,000 employees, workers tried to make products uniform but constantly tampered with a stable system, making things worse until Dr. Walter Shewhart introduced control charts.

Tampering with a stable process by constantly adjusting it to compensate for the last error invariably increases variation and worsens results.

The funnel experiment demonstrates four rules of adjustment.

• Place a dot on the tablecloth to indicate the target.
• Rule 1. Aim the funnel at the target. Keep it so aimed. Drop the marble through the funnel 50 times. Mark at each drop the spot where the marble comes to rest.
• Rule 2. At each drop, move the funnel from its last position to compensate for the last error.
• Rule 3. Set the funnel over the target, then move the funnel from the target to compensate for the last error.
• Rule 4. Set the funnel after the first drop right over the last drop where the marble came to rest.

Rule 1, keeping the funnel aimed at the target without adjustment, produces the best results. Rules 2, 3, and 4 involve adjusting the funnel based on previous errors, which doubles variance or causes the process to diverge infinitely. An operator extruding molten copper weighed ingots of 326 kg target weight and turned a lever based on the weight of each ingot, applying Rule 2 and unknowingly making the output more nonuniform.

Meeting specifications alone is insufficient, and the primary goal must be continuous reduction of variation around the nominal target value to minimize total loss to society. A loss function describes the losses suffered from departures of an adjustable parameter from its optimum value. While meeting specifications assumes zero loss inside limits and infinite loss outside, a parabolic loss function demonstrates that economic loss increases continuously as output drifts from the nominal value.

William Scherkenbach measured 50 items produced with a gadget guaranteed to hold parts within specifications, showing that the gadget produced an idealized distribution at maximum cost compared to turning the gadget off.

Knowledge of the proportion of components in an incoming lot cannot predict output proportions unless samples are collected correctly through mechanical random methods. Traditional top-surface sampling of bulk materials like iron ore or coal yields inaccurate assays. Japanese engineers, following Deming's teachings, developed new international standards by halting conveyor belts at random times to ensure every particle had an equal chance of being sampled.

• Halt the conveyor belt that conveys material from ship to furnace or pile at random times during unloading.

At the Yawata Steel Company on December 22, 1955, comparative tests between old surface-scoop sampling and new conveyor-belt sampling showed significant differences, such as 59.95 old versus 55.33 new for Dungan Mine Class A ore, 56.60 old versus 55.30 new for Larap BC ore, and 55.55 old versus 50.42 new for Samar D ore.

4. Management of People and Psychology

Traditional reward systems and forced rankings crush intrinsic motivation and joy in work, whereas modern managers act as coaches who foster cooperation and trust.

People are born with a natural inclination to learn and enjoy their work, but extrinsic rewards like grading, ranking, and bonuses can lead to overjustification, where external rewards destroy intrinsic pleasure in an activity. A little boy who washed supper dishes every evening for sheer pleasure stopped washing dishes permanently after his mother handed him a quarter as a reward, altering their relationship and hurting his dignity.

Forced ranking permits only a fixed percentage of students or workers to achieve top grades, creating an artificial scarcity of success. Grades reflect a teacher's subjective assessment on an arbitrary scale and do not predict future performance, whereas true learning is driven by cooperation and intrinsic joy. A Department of Statistics recommendation in October 1991 mandated a strict forced percentage distribution for grades: 20 percent for grade A, 30 percent for grade B, 30 percent for grade C, and 20 percent for grade D.

You must abolish these destructive practices:

• Abolish grades in school, from toddlers on up through the university.
• Abolish merit ratings for teachers.
• Abolish comparison of schools on the basis of scores.
• Abolish gold stars for athletics or for best costume.

A modern manager acts as a coach and counselor rather than a judge, focusing on optimizing the system and recognizing individual differences. At the Nashua Tape Company near Albany, New York, a catastrophic loss involving a one-ton roll of paper was handled by workers and a new manager, Mr. Bob Geiger, working together on the process rather than blaming an individual.

You must adopt specific daily practices to guide your team effectively:

• A manager understands and conveys to his people the meaning of a system.
• He helps his people to see themselves as components in a system.
• He tries to create for everybody interest and challenge, and joy in work.
• He is an unceasing learner and encourages his people to study.
• He is coach and counsel, not a judge.
• He understands a stable system and the interaction between people and circumstances.
• He develops knowledge and personality and persuasive power as sources of power.
• He will study results with the aim to improve his performance as a manager of people.
• He will try to discover who if anybody is outside the system, in need of special help.
• He creates trust and an environment that encourages freedom and innovation.
• He does not expect perfection.
• He listens and learns without passing judgment.
• He will hold an informal, unhurried conversation with every one of his people at least once a year.
• He understands the benefits of cooperation and the losses from competition.

Continuous improvement relies on the PDSA cycle, which is a continuous flow diagram for learning and for the improvement of a product or a process through four distinct steps.

You must run this cycle systematically:

• PLAN: Have an idea for improvement and create a plan for a test, comparison, or experiment.
• DO: Carry out the test, comparison, or experiment on a small scale according to the layout.
• STUDY: Study the results to see if they correspond with expectations and what went wrong if not.
• ACT: Adopt the change, abandon it, or run through the cycle again under different conditions.

5. Transformation and Supplier Partnerships

Sustained organizational survival requires halting destructive practices, embracing long-term supplier partnerships, and applying Deming's principles through small-scale experiments.

Traditional management falsely believed that increasing quality required increasing costs. Deming proved that quality and productivity act like train tracks, meaning that as quality improves and mistakes, rework, and delays are reduced, overall costs decrease while speed and productivity rise in the Deming Chain Reaction.

In 1980, an NBC-TV white paper documentary produced by Clare Crawford Mason titled 'If Japan Can, Why Can’t We?' featured Dr. Deming and triggered a massive wave of consulting requests. Deming was 79 years old when the documentary aired and new fame was thrust upon him. For 13 years, Deming's phone rang with consulting requests until the end of his life.

Leaders can immediately simplify and enhance operations by stopping specific harmful behaviors.

You must stop these destructive practices:

• STOP tampering by asking for specific explanations for routine variations that fall within expected control chart limits.
• STOP managing by the visible numbers alone on spreadsheets and dashboards without understanding underlying causes.
• STOP asking people to provide their best efforts through empty exhortations, pep rallies, and posters.
• STOP fostering internal competition between people and departments, focusing instead on intense cooperation.
• STOP being seduced by best practices that pile contradictory layers of management methods into chaos.
• STOP focusing on short-term cost-cutting and awarding business on price tag alone.
• STOP conducting annual performance appraisals and replace them with conversations focused on improving systems and mentoring.

Procurement departments receive bonuses for buying cheaper materials from vendors, which ruins production lines in Operations and ultimately increases overall organizational costs. Starting the Deming journey requires personal commitment, shifting away from prevailing management beliefs, and embracing the System of Profound Knowledge holistically. The W. Edwards Deming Institute provides extensive free resources, seminars, and guidance to help leaders test principles through low-cost, low-risk PDSA cycles.

You can begin your journey with these steps:

• Communicate clearly what you are trying to accomplish, why, and how to drive out fear.
• Start anywhere on your Deming Journey while being mindful of potential failure modes.
• Use low-cost, low-risk, and fast Plan-Do-Study-Act (PDSA) cycles to test changes on a small scale before broader rollout.
• Visit www.deming.org to access free resources such as podcasts, videos, and blogs.
• Attend Deming Institute seminars to learn the foundation of the System of Profound Knowledge in two days.

The W. Edwards Deming Institute operates as a 501(c)(3) public charity. Instead of removing sales commissions or performance appraisals overnight across an entire enterprise, you can run a PDSA experiment by testing the alternative approach in a single geographic region or with volunteers.

A sudden jump to a single supplier carries risks and should be done slowly. You must evaluate candidate characteristics across multiple operational, cultural, and financial indicators.

You must examine these criteria when selecting a single supplier:

• Record of past performance.
• Capacity and ability to meet demands.
• Has his management adopted the new philosophy.
• Labor-management relations.
• Turnover in management.
• How much money does he spend for training and education.
• Turnover on the factory floor.
• Has he borrowed money from his pension fund.
• What rate of interest does he pay his bank.
• Relationships between this supplier and his suppliers.
• Does he depend on inspection for quality.
• Who owns the supplier.
• How important is the customer to the supplier.
• How important is the supplier to the customer.

Conclusion

Transforming management requires adopting a unified system of profound knowledge to replace prevailing practices of fear, competition, and numerical targets with cooperation, statistical understanding, and intrinsic motivation.

You face a choice between continuing destructive management habits that generate heavy losses or committing to a profound transformation of your organization. The four parts of profound knowledge operate as an interdependent whole, meaning you cannot adopt them in isolation.

1. Learn to perceive your organization as a complete system focused on a defined aim.
2. Study variation constantly to separate common causes from special causes and stop harmful tampering.
3. Build a robust theory of knowledge that treats management decisions as testable predictions.
4. Protect human psychology by eliminating merit ratings, quotas, and extrinsic bribes that crush joy in work.
5. Replace short-term competitive bidding with long-term partnerships built on trust and mutual improvement.

10 Key Ideas

1. Prevailing management practices and lowest-bid procurement produce immense waste and heavy losses by placing unfair blame on frontline operators for failures built directly into poor system designs.
2. Transformation to a new style of management requires the application of a cohesive system of profound knowledge composed of appreciation for a system, knowledge about variation, the theory of knowledge, and psychology.
3. Ranking people through the merit system is a farce that destroys cooperation, demoralizes employees, and ignores the reality that performance is mostly determined by the system itself.
4. Numerical goals and production quotas accomplish nothing for improvement and instead drive distortion, faking, and fear, leading employees to manipulate data or cut corners to meet targets.
5. Managers make two costly mistakes when dealing with variation by confusing common causes and special causes.
6. Tampering with a stable process by constantly adjusting it to compensate for the last error invariably increases variation and worsens results.
7. Traditional reward systems and forced rankings crush intrinsic motivation and joy in work, whereas modern managers act as coaches who foster cooperation and trust.
8. A modern manager acts as a coach and counselor rather than a judge, focusing on optimizing the system and recognizing individual differences.
9. Sustained organizational survival requires halting destructive practices, embracing long-term supplier partnerships, and applying Deming's principles through small-scale experiments.
10. Leaders must stop managing by the visible numbers alone on spreadsheets and dashboards without understanding underlying causes.