Introduction: Welcome to the 80/20 PrincipleFor a very long time, the Pareto law [the 80/20 Principle] has lumbered the economic scene like an erratic block on the landscape; an empirical law which nobody can explain.--Josef Steindl
The 80/20 Principle can and should be used by every intelligent person in their daily life, by every organization, and by every social grouping and form of society. It can help individuals and groups achieve much more, with much less effort. The 80/20 Principle can raise personal effectiveness and happiness. It can multiply the profitability of corporations and the effectiveness of any organization. It even holds the key to raising the quality and quantity of public services while cutting their cost. This book, the first ever on the 80/20 Principle, is written from a burning conviction, validated in personal and business experience, that this principle is one of the best ways of dealing with and transcending the pressures of modern life.
What is the 80/20 Principle?The 80/20 Principle asserts that a minority of causes, inputs, or effort usually lead to a majority of the results, outputs, or rewards. Taken literally, this means that, for example, 80 percent of what you achieve in your job comes from 20 percent of the time spent. Thus for all practical purposes, four-fifths of the effort--a dominant part of it--is largely irrelevant. This is contrary to what people normally expect.
So the 80/20 Principle states that there is an inbuilt imbalance between causes and results, inputs and outputs, and effort and reward. A good benchmark for this imbalance is provided by the 80/20 relationship: a typical pattern will show that 80 percent of outputs result from 20 percent of inputs; that 80 percent of consequences flow from 20 percent of causes; or that 80 percent of results come from 20 percent of effort.
In business, many examples of the 80/20 Principle have been validated. Twenty percent of products usually account for about 80 percent of dollar sales value; so do 20 percent of customers. Twenty percent of products or customers usually also account for about 80 percent of an organization's profits.
In society, 20 percent of criminals account for 80 percent of the value of all crime. Twenty percent of motorists cause 80 percent of accidents. Twenty percent of those who marry comprise 80 percent of the divorce statistics (those who consistently remarry and redivorce distort the statistics and give a lopsidedly pessimistic impression of the extent of marital fidelity). Twenty percent of children attain 80 percent of educational qualifications available.
In the home, 20 percent of your carpets are likely to get 80 percent of the wear. Twenty percent of your clothes will be worn 80 percent of the time. And if you have an intruder alarm, 80 percent of the false alarms will be set off by 20 percent of the possible causes.
The internal combustion engine is a great tribute to the 80/20 Principle. Eighty percent of the energy is wasted in combustion and only 20 percent gets to the wheels; this 20 percent of the input generates 100 percent of the output!
Pareto's discovery: systematic and predictable lack of balanceThe pattern underlying the 80/20 Principle was discovered in 1897, about 100 years ago, by Italian economist Vilfredo Pareto (1848-1923). His discovery has since been called many names, including the Pareto Principle, the Pareto Law, the 80/20 Rule, the Principle of Least Effort, and the Principle of Imbalance; throughout this book we will call it the 80/20 Principle. By a subterranean process of influence on many important achievers, especially business people, computer enthusiasts and quality engineers, the 80/20 Principle has helped to shape the modern world. Yet it has remained one of the great secrets of our time--and even the select band of cognoscenti who know and use the 80/20 Principle only exploit a tiny proportion of its power.
So what did Vilfredo Pareto discover? He happened to be looking at patterns of wealth and income in nineteenth-century England. He found that most income and wealth went to a minority of the people in his samples. Perhaps there was nothing very surprising in this. But he also discovered two other facts that he thought highly significant. One was that there was a consistent mathematical relationship between the proportion of people (as a percentage of the total relevant population) and the amount of income or wealth that this group enjoyed. To simplify, if 20 percent of the population enjoyed 80 percent of the wealth, then you could reliably predict that 10 percent would have, say, 65 percent of the wealth, and 5 percent would have 50 percent. The key point is not the percentages, but the fact that the distribution of wealth across the population was
predictably unbalanced.Pareto's other finding, one that really excited him, was that this pattern of imbalance was repeated consistently whenever he looked at data referring to different time periods or different countries. Whether he looked at England in earlier times, or whatever data were available from other countries in his own time or earlier, he found the same pattern repeating itself, over and over again, with mathematical precision.
Was this a freak coincidence, or something that had great importance for economics and society? Would it work if applied to sets of data relating to things other than wealth or income? Pareto was a terrific innovator, because before him no one had looked at two related sets of data--in this case, the distribution of incomes or wealth, compared to the number of income earners or property owners--and compared percentages between the two sets of data. (Nowadays this method is commonplace and has led to major breakthroughs in business and economics.)
Sadly, although Pareto realized the importance and wide range of his discovery, he was very bad at explaining it. He moved on to a series of fascinating but rambling sociological theories, centering on the role of elites, which were hijacked at the end of his life by Mussolini's fascists. The significance of the 80/20 Principle lay dormant for a generation. While a few economists, especially in the US, realized its importance, it was not until after the Second World War that two parallel yet completely different pioneers began to make waves with the 80/20 Principle.
1949: Zipf's Principle of Least EffortOne of these pioneers was the Harvard professor of philology, George K. Zipf. In 1949 Zipf discovered the "Principle of Least Effort," which was actually a rediscovery and elaboration of Pareto's principle. Zipf's principle said that resources (people, goods, time, skills, or anything else that is productive) tended to arrange themselves so as to minimize work, so that approximately 20-30 per cent of any resource accounted for 70-80 per cent of the activity related to that resource.
Professor Zipf used population statistics, books, philology, and industrial behavior to show the consistent recurrence of this unbalanced pattern. For example, he analyzed all the Philadelphia marriage licenses granted in 1931 in a 20-block area, demonstrating that 70 percent of the marriages occurred between people who lived within 30 percent of the distance.
Incidentally, Zipf also provided a scientific justification for the messy desk by justifying clutter with another law: frequency of use draws near to us things that are frequently used. Intelligent secretaries have long known that files in frequent use should not be filed!
1951: Juran's Rule of the Vital Few and the rise of JapanThe other pioneer of the 80/20 Principle was the great quality guru, Romanian-born U.S. engineer Joseph Moses Juran (born 1904), the man behind the Quality Revolution of 1950-90. He made what he alternately called the "Pareto Principle" and the "Rule of the Vital Few" virtually synonymous with the search for high product quality.
In 1924, Juran joined Western Electric, the manufacturing division of Bell Telephone System, starting as a corporate industrial engineer and later setting up as one of the world's first quality consultants.
His great idea was to use the 80/20 Principle, together with other statistical methods, to root out quality faults and improve the reliability and value of industrial and consumer goods. Juran's path-breaking
Quality Control Handbook was first published in 1951 and extolled the 80/20 Principle in very broad terms: The economist Pareto found that wealth was nonuniformly distributed in the same way [as Juran's observations about quality losses]. Many other instances can be found--the distribution of crime amongst criminals, the distribution of accidents among hazardous processes, etc. Pareto's principle of unequal distribution applied to distribution of wealth and to distribution of quality losses.
No major U.S. industrialist was interested in Juran's theories. In 1953 he was invited to Japan to lecture, and met a receptive audience. He stayed on to work with several Japanese corporations, transforming the value and quality of their consumer goods. It was only once the Japanese threat to U.S. industry had become apparent, after 1970, that Juran was taken seriously in the West. He moved back to do for U.S. industry what he had done for the Japanese. The 80/20 Principle was at the heart of this global quality revolution.
From the 1960s to the 1990s: progress from using the 80/20 PrincipleIBM was one of the earliest and most successful corporations to spot and use the 80/20 Principle, which helps to explain why most computer systems specialists trained in the 1960s and 1970s are familiar with the idea.
In 1963, IBM discovered that about 80 percent of a computer's time is spent executing about 20 percent of the operating code. The company immediately rewrote its operating software to make the most-used 20 percent very accessible and user friendly, thus making IBM computers more efficient and faster than competitors' machines for the majority of applications.
Those who developed the personal computer and its software in the next generation, such as Apple, Lotus, and Microsoft, applied the 80/20 Principle with even more gusto to make their machines cheaper and easier to use for a new generation of customers, including the now celebrated "dummies" who would previously have given computers a very wide berth.
Winner take allA century after Pareto, the implications of the 80/20 Principle have surfaced in a recent controversy over the astronomic and ever-rising incomes going to superstars and those very few people at the top of a growing number of professions. Film director Steven Spielberg earned $165 million in 1994. Joseph Jamial, the most highly paid trial lawyer, was paid $90 million. Merely competent film directors or lawyers, of course, earn a tiny fraction of these sums.
The twentieth century has seen massive efforts to level incomes, but inequality, removed in one sphere, keeps popping up in another. In the United States from 1973 to 1995, average real incomes rose by 36 percent, yet the comparable figure for nonsupervisory workers fell by 14 percent. During the 1980s, all of the gains went to the top 20 percent of earners, and a mind-boggling 64 percent of the total increase went to the top 1 percent! The ownership of shares in the United States is also heavily concentrated within a small minority of households: 5 percent of U.S. households own about 75 percent of the household sector's equity. A similar effect may be seen in the role of the dollar: almost 50 percent of world trade is invoiced in dollars, far above America's 13 percent share of world exports. And, while the dollar's share of foreign exchange reserves is 64 percent, the ratio of American GDP to global output is just over 20 percent. The 80/20 Principle will always reassert itself, unless conscious, consistent, and massive efforts are made and sustained to overcome it.
Why the 80/20 Principle is so ImportantThe reason that the 80/20 Principle is so valuable is that it is counter-intuitive. We tend to expect that all causes will have roughly the same significance. That all customers are equally valuable. That every bit of business, every product, and every dollar of sales revenue is as good as any other. That all employees in a particular category have roughly equivalent value. That each day or week or year we spend has the same significance. That all our friends have roughly equal value to us. That all inquiries or phone calls should be treated in the same way. That one university is as good as another. That all problems have a large number of causes, so that it is not worth isolating a few key causes. That all opportunities are of roughly equal value, so that we treat them all equally.
We tend to assume that 50 percent of causes or inputs will account for 50 percent of results or outputs. There seems to be a natural, almost democratic, expectation that causes and results are generally equally balanced. And, of course, sometimes they are. But this "50/50 fallacy" is one of the most inaccurate and harmful, as well as the most deeply rooted, of our mental maps. The 80/20 Principle asserts that when two sets of data, relating to causes and results, can be examined and analyzed, the most likely result is that there will be a pattern of imbalance. The imbalance may be 65/35, 70/30, 75/25, 80/20, 95/5, or 99.9/0.1, or any set of numbers in between. However, the two numbers in the comparison don't have to add up to 100.
The 80/20 Principle also asserts that when we know the true relationship, we are likely to be surprised at how unbalanced it is. Whatever the actual level of imbalance, it is likely to exceed our prior estimate. Executives may suspect that some customers and some products are more profitable than others, but when the extent of the difference is proved, they are likely to be surprised and sometimes dumbfounded. Teachers may know that the majority of their disciplinary troubles or most truancy arises from a minority of pupils, but if records are analyzed the extent of the imbalance will probably be larger than expected. We may feel that some of our time is more valuable than the rest, but if we measure inputs and outputs the disparity can still stun us.
Why should you care about the 80/20 Principle? Whether you realize it or not, the principle applies to your life, to your social world, and to the place where you work. Understanding the 80/20 Principle gives you great insight into what is really happening in the world around you.
The overriding message of this book is that our daily lives can be greatly improved by using the 80/20 Principle. Each individual can be more effective and happier. Each profit-seeking corporation can become very much more profitable. Each nonprofit organization can also deliver much more useful outputs. Every government can ensure that its citizens benefit much more from its existence. For everyone and every institution, it is possible to obtain much more that is of value and avoid what has negative value, with much less input of effort, expense, or investment.
At the heart of this progress is a process of substitution. Resources that have weak effects in any particular use are not used, or are used sparingly. Resources that have powerful effects are used as much as possible. Every resource is ideally used where it has the greatest value. Wherever possible, weak resources are developed so that they can mimic the behavior of the stronger resources.
Business and markets have used this process, to great effect, for hundreds of years. The French economist J-B Say coined the word "entrepreneur" around 1800, saying that "the entrepreneur shifts economic resources out of an area of lower productivity into an area of higher productivity and yield." But one fascinating implication of the 80/20 Principle is how far businesses and markets still are from producing optimal solutions. For example, the 80/20 Principle asserts that 20 percent of products, or customers or employees, are really responsible for about 80 percent of profits. If this is true--and detailed investigations usually confirm that some such very unbalanced pattern exists--the state of affairs implied is very far from being efficient or optimal. The implication is that 80 percent of products, or customers or employees, are only contributing 20 percent of profits; that there is great waste; that the most powerful resources of the company are being held back by a majority of much less effective resources; that profits could be multiplied if more of the best sort of products could be sold, employees hired, or customers attracted (or convinced to buy more from the firm).
In this kind of situation one might well ask: why continue to make the 80 percent of products that only generate 20 percent of profits? Companies rarely ask these questions, perhaps because to answer them would mean very radical action: to stop doing four-fifths of what you are doing is not a trivial change.
What J-B Say called the work of entrepreneurs, modern financiers call arbitrage. International financial markets are very quick to correct anomalies in valuation, for example between exchange rates. But business organizations and individuals are generally very poor at this sort of entrepreneurship or arbitrage, at shifting resources from where they have weak results to where they have powerful results, or at cutting off low-value resources and buying more high-value resources. Most of the time, we do not realize the extent to which some resources, but only a small minority, are superproductive--what Joseph Juran called the "vital few"--while the majority--the "trivial many"--exhibit little productivity or else actually have negative value. If we did realize the difference between the vital few and the trivial many in all aspects of our lives and if we did something about it, we could multiply anything that we valued.
The 80/20 Principle and Chaos TheoryProbability theory tells us that it is virtually impossible for all the applications of the 80/20 Principle to occur randomly, as a freak of chance. We can only explain the principle by positing some deeper meaning or cause that lurks behind it.
Pareto himself grappled with this issue, trying to apply a consistent methodology to the study of society. He searched for "theories that picture facts of experience and observation," for regular patterns, social laws, or "uniformities" that explain the behavior of individuals and society.
Pareto's sociology failed to find a persuasive key. He died long before the emergence of chaos theory, which has great parallels with the 80/20 Principle and helps to explain it.
The last third of the twentieth century has seen a revolution in the way that scientists think about the universe, overturning the prevailing wisdom of the past 350 years. That prevailing wisdom was a machine-based and rational view, which itself was a great advance on the mystical and random view of the world held in the Middle Ages. The machine-based view converted God from being an irrational and unpredictable force into a more user-friendly clockmaker-engineer.
The view of the world held from the seventeenth century and still prevalent today, except in advanced scientific circles, was immensely comforting and useful. All phenomena were reduced to regular, predictable,
linear relationships. For example,
a causes
b, b causes
c, and
a+c cause
d. This worldview enabled any individual part of the universe--the operation of the human heart, for example, or of any individual market--to be analyzed separately, because the whole was the sum of the parts and vice versa.
But in the second half of the twentieth century it seems much more accurate to view the world as an evolving organism where the whole system is more than the sum of its parts, and where relationships between the parts are nonlinear. Causes are difficult to pin down, there are complex interdependencies between causes, and causes and effects are blurred. The snag with linear thinking is that it doesn't always work, it is an oversimplification of reality. Equilibrium is illusory or fleeting. The universe is wonky.
Yet chaos theory, despite its name, does not say that everything is a hopeless and incomprehensible mess. Rather, there is a self-organizing logic lurking behind the disorder, a
predictable nonlinearity--something which economist Paul Krugman has called "spooky," "eerie," and "terrifyingly exact." The logic is more difficult to describe than to detect and is not totally dissimilar to the recurrence of a theme in a piece of music. Certain characteristic patterns recur, but with infinite and unpredictable variety.
Why the 80/20 Principle Brings Good NewsI want to end this introduction on a personal rather than a procedural note. I believe that the 80/20 Principle is enormously hopeful. Certainly, the principle brings home what may be evident anyway: that there is a tragic amount of waste everywhere, in the way that nature operates, in business, in society, and in our own lives. If the typical pattern is for 80 percent of results to come from 20 percent of inputs, it is necessarily typical too that 80 percent, the great majority, of inputs are having only a marginal--20 percent--impact.
The paradox is that such waste can be wonderful news, if we can use the 80/20 Principle creatively, not just to identify and castigate low productivity but to do something positive about it. There is enormous scope for improvement, by rearranging and redirecting both nature and our own lives. Improving on nature, refusing to accept the status quo, is the route of all progress: evolutionary, scientific, social, and personal. George Bernard Shaw put it well: "The reasonable man adapts himself to the world. The unreasonable one persists in trying to adapt the world to himself. Therefore all progress depends on the unreasonable man."
The implication of the 80/20 Principle is that output can be not just increased but multiplied, if we can make the low-productivity inputs nearly as productive as the high-productivity inputs. Successful experiments with the 80/20 Principle in the business arena suggest that, with creativity and determination, this leap in value can usually be made.
There are two routes to achieving this. One is to reallocate the resources from unproductive to productive uses, the secret of all entrepreneurs down the ages. Find a round hole for a round peg, a square hole for a square peg, and a perfect fit for any shape in between. Experience suggests that every resource has its ideal arena, where the resource can be tens or hundreds of times more effective than in most other arenas.
The other route to progress--the method of scientists, doctors, preachers, computer systems designers, educationalists, and trainers--is to find ways to make the unproductive resources more effective, even in their existing applications; to make the weak resources behave as though they were their more productive cousins; to mimic, if necessary by intricate rote-learning procedures, the highly productive resources.
The few things that work fantastically well should be identified, cultivated, nurtured, and multiplied. At the same time, the waste--the majority of things that will always prove to be of low value to man and beast--should be abandoned or severely cut back.
As I have been writing this book and observed thousands of examples of the 80/20 Principle, I have had my faith reinforced: faith in progress, in great leaps forward, and in mankind's ability, individually and collectively, to improve the hand that nature has dealt. Joseph Ford comments: "God plays dice with the universe. But they're loaded dice. And the main objective is to find out by what rules they were loaded and how we can use them for our own ends."
The 80/20 Principle can help us achieve precisely that.
Copyright © 1998 by Richard Koch. All rights reserved. No part of this excerpt may be reproduced or reprinted without permission in writing from the publisher.
