Pareto Principle Defined
The Pareto Principle is the concept that a majority of the results, outputs, or rewards come from a minority of the causes, inputs, or effort.
The principle, also known as the 80/20 Rule, asserts that that 80% of the output comes from just 20% of the input. For examples, 80 percent of production will come from 20 percent of employees, or 80 percent of complaints will come from 20 percent of customers.
Benefit of Pareto Principle
The benefit of understanding Pareto Principle is that it helps individuals and organizations allocate and prioritize resources where they will have the greatest impact. For example, if 20% of software issues lead to 80% of errors, the principle suggests the company should fix those issues first.
The original observation of the principle was regarding the relationship between wealth and population. In 1895, Italian economist Vilfredo Pareto discovered that 80 percent of the wealth in Italy was owned by only 20 percent of the population. After studying a number of other countries, he found the same principle applied elsewhere. After Pareto made his observations, he created a mathematical formula to describe the unequal distribution of wealth and published his findings and formula.
Understanding the Pareto Principle
Basically, the principle is about uneven distribution. As applied to economics, it suggests that the relationship between causes and effects (or inputs and outputs) is not balanced.
The Principle proposes that 80% of consequences come from 20% of the causes, asserting an unequal relationship between inputs and outputs. The principle does not stipulate that all situations will have that exact ratio, but rather refers to a typical distribution.
The principle is merely an observation or a rule of thumb, rather than a scientific law. It is a rough guide about the typical distributions. The numbers are not always exactly 20% and 80%. Many times it will be different (e.g. 70/30 or 65/35). However, generally speaking, the principle can be interpreted to say that a minority of inputs results in the majority of outputs.
Pareto Principle Examples
Below are examples of Pareto’s 80/20 Rule.
- 20 percent of your customers create 80 percent of your revenue
- 20 percent of your products will account for 80 percent of your profits
- 20 percent of your employees will produce 80 percent of your results
- 80 percent of your sales will come from 20 percent of your employees
- 80 percent of the problems are caused 20 percent of the products
- 80 percent of your profits are driven by 20 percent of your employees
Applying Pareto Principle
The Pareto Principle serves as a reminder that the relationship between inputs and outputs is not balanced. In actuality, the majority of results come from a small portion of inputs. Therefore, it is best to allocate resources in the most efficient manner.
The principle asserts that in any set of things, a few (20 percent) are vital and many (80 percent) are considered trivial. The point is to realize that you should focus your efforts on the 20% that makes a difference, instead of the 80% that does not add much value. If 20% of workers contribute 80% of results, focus on rewarding these employees. If 20% of customers contribute 80% of revenue, focus on satisfying these customers.