A New Economy?

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Professor DeLong,

I enjoyed reading your IMF essay and the related article in the 15-21 April Economist.

One issue which interests me considerably is the relation of global economic prosperity to the purported importance of the "new economies." Specifically, the Economist article argued that innovations in telecommunications are "greater and more far-reaching" than the "greatest breakthroughs of the past two centuries."

Do you agree? If so, what specifically do you see as these "telecommunications innovations" and why are they so ground breaking?

I appreciate your busy schedule, but would be grateful for your consideration.


Robert Hopkins

-- Robert Hopkins (RobertSHopkins@mail.mke.etn.com), April 19, 2000


What--if anything--is truly "new" about our "new economy"?

It is not that productivity growth is extraordinarily rapid. Measured productivity growth is no faster than in the 1960s. The gap between true and measured productivity growth may be larger today than in the 1960s, but it may not--in its day the coming of TV was a very big deal--and we have no reliable speedometer with which to tell. High rates of return on investments in technology are not guaranteed, for high profits persist only if sustained by strong barriers to entry--and the new economy brings reduced barriers to entry and increased competition as part of its new technological capabilities.

What is truly new and special about our "new economy" is the new business ecology--the pattern of organizing the business of launching new technologies--that has grown up in Silicon Valley over the past generation. Even after the end of the current cycle, even if the current cycle ends in a full-blown stock market crash, much of research and development will still be handled in a new way: the business of commercializing new technologies will still be rapidly spun-off into new companies, engineers will still be motivated by stock options, venture capitalists will still trawl for good ideas, and new technologies will still be launched into the marketplace in a small fraction of the time that product development cycles used to take. As Venture Law Group principal Tae Hea Nahm has argued, the organizational capabilities and modes of thought that have been created will still be vibrant and useful even if Wall Street ceases to be so eager to snap up IPOs.

We often tend to forget how different this new business ecology is from the way things used to be. But the executives and innovators who grew up under the old system remember. Michael Hiltzik's book _Dealers of Lightning_ reports on Adobe Systems' cofounders John Warnock's and Charles Geschke's days at Xerox's Palo Alto Research Center. As Warnock remembers it: "Chuck Geschke and I had a conversation in his office and said, 'You know, we need to go do something else, because we've spent two years of our lives trying to sell this thing [internally] and they're going to put it under a black shroud for another five.'" But at the time the bureaucratic system of Xerox had its rationality. With long product development cycles, little in the way of channels for testing new products, and high costs of ramping up to full-scale production, even a Xerox could not afford to introduce many new technologies. So it made sense to pit ideas against each other internally in a bureaucratic tournament, hoping that the fittest would survive the gauntlet.

Moreover, at the time the bureaucratic system at Xerox had--and this was not clear to me until I read Clayton Christensen's brilliant _The Innovation Dilemma_--a necessary irrationality as well. A strong, competent, successful organization It was also a place where the launch of a disruptive technology was likely to be hobbled. Such a technology means that old divisions shrink and old customers are told to buy new products. But the more competent are the engineers and managers running the old divisions, the greater is the number of reasons--good reasons--they will think of that the new technology won't work. The more the company listens to its customers, the less will it be open to engineers proposing radical shifts. The things that had made Xerox successful made it hard for it to adopt disruptive technologies.

Warnock's and Geschke's company, Adobe Systems, came in the early days of our new business ecology. They were in perhaps the second generation of development of what we now see as the Silicon Valley System: rapid prototyping, short product-development cycles, early test marketing, options-based compensation, venture funding, early corporate independence, and so forth. It seems to be a highly successful system for launching new technologies into the marketplace.

How much of this Silicon Valley System could have been developed at more or less any time in the past half-century? Fellow Berkeley professors John Zysman and Stephen Cohen have convinced me that the answer is "not much." The late nineteenth century railroad would have been next to impossible to manage without the telegraph, and the pre-telephone investment bank of the original J.P. Morgan could only function if all the partners worked in one big room where they could talk to each other. In a similar manner the decentralized venture-startup system of today's Silicon Valley is an extraordinarily heavy user as well as a creator of our modern information and communications technologies.

Brad DeLong

-- Brad DeLong (delong@econ.berkeley.edu), April 19, 2000.

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