New Wave, Familiar Undertow: How Incumbents Will Resist AI Like Past Disruptions
Though AI systems may prove superior in capability, history cautions against assuming they will be readily adopted - incumbent interests have long found ways to obstruct innovation.
“Show me the incentive and I will show you the outcome.”
Charlie Munger
Come April, Americans are ensnared in the thorny thicket of taxes. Amidst the scramble of calculations and paperwork, many pause to wonder: with the advanced infrastructure in the US, why are we still manually computing our taxes? After all, doesn’t the IRS already have most of this information?
Interestingly, over 45 countries globally, including countries like Germany, Japan, and the UK, have adopted systems that either partially or fully pre-populate personal income tax returns for their citizens. Travel to Sweden or Norway, and you'll find taxpayers greeted with a ready-to-review-and-sign, fully filled-out income tax form.
So, what holds the US back from adopting such a user-friendly approach? Peek behind the curtain, and you'll find the looming presence of tax preparation software giants. Companies such as Intuit and H&R Block aren't mere spectators; they actively invest millions in lobbying efforts.
A confidential presentation from Intuit's Government Affairs Group even boasted about their prowess in thwarting attempts to introduce IRS tax software or a "Return-Free Tax System."
Munger's words ring loud and clear here. Once you discern the incentives at play, the outcome becomes evident. If the tax process were streamlined and simplified, the big loser? TurboTax.
Institutions will try to preserve the problem to which they are the solution.
Shirky Principle
Diving deeper, one begins to notice that this interplay of incentives and outcomes isn't unique to the tax industry. Indeed, it's a ubiquitous force, so common that it even has a principle named after an academic that encapsulates the core idea.
Regulatory Capture: The wolf guards the henhouse
The tango between innovation and established players often takes a darker turn. Beyond resisting change, institutions can overtly and covertly undermine threats to their dominance. While the tax prep industry openly lobbies, the 1920s lightbulb cartel covertly colluded to prevent long-lasting lightbulbs from entering the market. But the most artful dance move is "Regulatory Capture" - when industries influence the very bodies meant to regulate them.
Economist George Stigler, who won a Nobel Prize in 1982, shone a light on this phenomenon. His seminal work revealed how regulations and regulators like the SEC can become captured by and tilted toward the industries they oversee. The civil aviation and trucking industries choreographed this dance masterfully. For over four decades, the Civil Aeronautics Board was captured by the airline industry, tightly controlling competition through restrictive regulations that benefited incumbent carriers. Likewise, the Interstate Commerce Commission's trucking rules formed high barriers to entry, stifling competition until deregulation in the 1980s finally broke the regulatory grip. The CAB was ultimately abolished, while the ICC saw its powers dramatically curtailed.
Rattling Cages: AI's Collision With the Embedded
With the historical context of regulatory capture and the Shirky Principle, it is fascinating to observe how AI's emerging capabilities may be stunted by the institutions it threatens. In many ways, AI parallels previous innovations and economic forces that legacy interests have resisted successfully.
Take the medical field for example. As healthcare costs increase, there have been efforts to enable registered nurses and physician assistants to take on certain tasks traditionally performed solely by doctors. However, the American Medical Association has aggressively lobbied against expanding nurse responsibilities, labeling it dangerous "scope creep" and touting successful efforts blocking such initiatives across multiple states.
Similarly, Intuit called government proposals to simplify tax filing "encroachment" on their business. Entrenched interests often paint innovations reducing their role as jeopardizing quality and safety rather than improving efficiency.
One key battleground where medical institutions will likely resist giving ground to AI will be in FDA medical device classification. The FDA categorizes medical devices into Class I, II or III based on their risk, with increasing regulations and oversight for higher classes. Class I devices require minimal approval, while Class III devices undergo extensive review.
Expect physician groups to lobby intensively to have any AI-powered diagnostic or treatment systems classified as Class II or III devices, requiring physician supervision and restricting their autonomy. Citing risks of liability or accuracy, the goal will be preserving doctors' exclusive role in oversight.
The Irresistible Force: When Innovation Overcomes Institutions
While institutions often resist disruption, some innovations achieve the momentum to overcome that resistance. The trajectories of ride-hailing and short-term rental platforms demonstrate the playbook for escaping regulatory gravity.
When Uber launched in 2009, it immediately faced bans and restrictions from taxi commissions and municipalities across the U.S. to protect incumbent taxi medallion owners. By 2015, Uber was still deemed illegal in many states. However, armed with over $25 billion in capital from investors, Uber adopted a "launch first, deal with regulations later" approach. It operated illegally, leveraged customer demand, and funded lobbying efforts.
Gradually, state by state, Uber and peers like Lyft convinced local regulators to change longstanding taxi rules. By 2021, ride-hailing was authorized countrywide. Powered by user adoption and funding, Uber overcame early regulatory roadblocks. From zero in 2009, Uber’s revenue approached $32 billion by 2022.
Airbnb faced similar early opposition. In popular tourism hubs like San Francisco and New York City, short-term rental regulations restricted rentals under 30 days unless the owner remained on-site. These laws were designed to protect the traditional hotel industry and restrict conversions of long-term rentals to de facto hotels.
Airbnb launched in those cities in spite of bans, fueling rapid growth through technically illegal operations. Airbnb's ample $6.4 billion in funding allowed it to pay hosts' fines while fighting restrictions. Combining public pressure and aggressive lobbying, Airbnb prevailed in rolling back prohibitive laws city by city until it achieved legal status. In NYC, Airbnb spent millions on an ad blitz followed by a city council regulatory reversal in 2016. From zero in 2008, Airbnb revenue climbed to $8.3 billion by 2022.
The formula - patient capital, user adoption, lobbying power - overcame early regulatory resistance. This playbook offers a model for disruptive technologies like AI to escape restrictive legacy interests and achieve innovation escape velocity.
Detente in Disruption
While some innovators escape industry gravity, others acquiesce to pressures after failing to disrupt the status quo. The real estate industry exemplifies this outcome, in contrast to the disintermediation of travel agents.
On the surface, real estate agents resemble travel agents – bundling listings access with transaction assistance. However, while Kayak and TripAdvisor unbundled travel agents, realtor associations have fiercely protected traditional brokerage and 6% commissions.
The National Association of Realtors (NAR) leverages its control of the Multiple Listing Service (MLS), created in the 1920s, to advantage incumbent brokers. MLS rules influenced by NAR often prohibit low-cost listing-only services that could unbundle commissions from staged listings and bundled services. This blocks disruptors aiming to streamline real estate transactions.
Unable to reshape such barriers, some challengers acquiesce to industry pressures. For instance, after attempting independent listings compilation, Zillow agreed to NAR terms in 2021 to access MLS data feeds. This prevented Zillow from intermingling MLS and non-MLS listings, hampering visibility for lower-cost rivals like Rex Real Estate. After suing Zillow and NAR, Rex ceased brokerage operations in 2022.
The Next Verse, Same Chorus
And so the complex dance between innovation and institutions persists, unfolding in fresh arenas with new technologies like AI.
History cautions against assuming progress is linear or inevitable. Consumer desires for greater access and transparency inevitably clash with the self-preservation instincts of those poised to lose influence.
While startups aim to "move fast and break things," regulatory bodies and industry groups often apply the brakes to ensure quality, safety, and stability. Finding the right balance is an ever-present challenge.
The dance between creation and control has no final verse. As AI capabilities grow, the latest notes still echo familiar melodies