Thursday, March 05, 2009

The Cost of cutting costs

Logo, 1984 - 2007Image via Wikipedia

Qantas are yet again in the news. Quality issues and maintenance issues seem to be the order of the day.

Efficiency has been measured in terms of cost cutting for so long that we all seem to accept this as a given truth. In fact this idea might be the biggest myth of the modern world.

Cutting costs is supposed to increase efficiency. What it actually does is reduce the quality of the end product. If the product is service, then cutting costs reduces the quality of the service. As for goods and merchandise, the quality is inevitably downgraded in the effort to cut costs.
In economic theory, the only way to reduce costs is by the economies of scale. That is,
the bigger the production volume, then the lower the costs of production for each individual unit.

These days, we see CEO cutting costs by reducing staff then lining their remuneration package with the costs saved. This might appear good business to shareholders. What happens when a new CEO takes over from the genius that's just reduced costs? Another set of retrenchments to facilitate the obscene remuneration package of the new CEO. And so on and so forth it goes.

What about reducing the costs of production? That's easy, just move to China or Vietnam or Brazil or the Philippines. Labor costs are really low in those countries. This makes the accountants happy. This makes the shareholders happy. What we as consumers get is a product of inferior quality. The reduced quality can be measured in both the percentage of faulty goods that are turned out at the end of the production line and also the reduced life of the goods when they reach the hands of the consumers.

Quality is something you can feel and touch. Quality is what makes products expensive. Not those products that are aimed at conspicuous consumption, with brand names boldly emblazoned on the product to flag attention. Quality products are those that develop a reputation, an aura over time because their quality not only guarantees an extended lifespan for the product, but because that quality can be seen and felt in the product.

Then of course there is the government. Governments like to think of themselves as corporations. They want to measure their performance and measure their improvement in efficiency. What better way than to do this than by cutting costs?

Qantas a Case Study
Qantas overseas maintenance not up to scratch, audit says.March 21 2007
Qantas 26 July 2008, close call blamed on outsourcing of maintenance.
Fourth Qantas flight "slip-up" 4th August 2008
Qantas engine problems August 14th 2008
Qantas workers concerned about cost-cutting. October 2008
Qantas A380 causes problems ast Los Angeles airport Jan 29 2009
Qantas A380 problems March 4th 2009

I'm the first to admit that I don't have all the facts at hand. Nevertheless it would be obvious to a blind man that something is seriously wrong with the quality of service from an airline that has had the reputation of reliability exceeded by no other airline in the world. Remember the scene in Rain Man, when Dustin Hoffman claimed Qantas was the safest airline in the world?
We've come a long way since then. I would squarely put the blame on cost-cutting.
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Jeannie said...

Nowadays, quality isn't always found even in brands known for quality because those brands outsource as well. Mass-market designer clothes for instance may be better but may not be. They used to be better all the time. I have noticed that clothing aimed at the younger crowd are often made with crappy fabrics, with few details, sketchy workmanship yet have a high price because that logo is plastered on the front. The young have been marketed to so much on the premise of logos and names, they want stuff for that alone and not what the name is supposed to represent. They don't care if the quality is there because that's not what they are buying. That's why we have people famous for being famous. It's ridiculous.

Anonymous said...

If Obama graduated Magna cum Laude from Harvard Law, he's just GOT to be smart...

Lexcen said...

Consumer loyalty to brands used to be about guaranteed quality. Now its about cool. For example, how much quality can you put into a $4000 designer handbag?

Anonymous said...

Can't you reduce costs w/o affecting quality by increasing "productivity"?

btw - What does
'price' have to do with costs?

Lexcen said...

FJ, the industrial revolution was the point at which productivity increased dramatically because of new methods of production involving mechanization. A shift from cottage industry to factory production allowed for increased productivity. Unfortunately there was a trade-off between quality and price. Each increase in productivity that takes away the requirement of human skill in production results in reduced quality of the end product.
If we jump to the economic miracle of Japan, we see that even the clever Japanese with all their mechanization of production reached a point at which they no longer could reduce costs, hence the transfer of production to third world countries. Accompanying that change we see the decline in quality as well as a drop in price of manufactured goods. What changed? The reduction of skilled labor. Cost ultimately determine the retail price of any product. Since consumers have been trained to hunt out the cheapest price, then costs must be reduced in production. The loss of quality is the price we pay. We tend to refer to "built in obsolescence" but in fact the blame is squarely on the desire to reduce costs.