The skinny on the economic effects of IT

Wired for Innovation: How Information Technology is Reshaping the Economy Wired for Innovation: How Information Technology is Reshaping the Economy by Erik Brynjolfsson

My rating: 4 of 5 stars Erik Brynjolfsson took a look at the IT productivity paradox in the early 90s and decided to sort it out – and he did, by and large, by collecting prodigious amounts of data and tirelessly analyze them to tease out what everybody suspected but could not show empirically: That information technology contributes enormously to increases in productivity, innovation and welfare.

This short and to the point book gives an excellent overview and guide to the research on the economic effects of information technology. Each chapter has pointers to more reading, good examples, concludes with avenues for further research. I will use this as an assignment for my technology strategy students – rather than giving them a few articles, they might as well read the whole book.

(Also available through Google Booksearch. Full notes below the fold.)

Notes from Eric Brynjolfsson and Adam Saunders: Wired for innovation: How information technology is reshaping the economy, MIT Press 2010

Introduction

– not only is Moore’s law still in force, business have not even begun to exploit the full potential of information technology
– strategic value of IT still increasing (despite Carr), differences are increasing between leaders and laggards
– information technology responsible for the resurgence of productivity in the US since 1995
– decline in IT investments 2001-03 responsible for reduced productivity growth 3-4 years later
– companies with the highest returns also invested in organizational capital, the right combinations of incentive systems, training and decentralized decision making
– intangibles (organizational capital) important
– consumer surplus increasing tremendously, new and important measure of economy
– social networks intriguing for research

Chapter 1: Technology, innovation and productivity in the information age

– consumer price index does not take into account increases in quality and functionality of goods
– productivity research has a "drunk and lamppost" problem – measuring tangible results – getting better since 1995
– dot-com bubble lead Carr to think IT spending over and potential for competitive advantage reduced
– this is wrong: 2008 article HBR McAfee / Brynjolfsson says leaders grow more than laggards

Chapter 2: Measuring the information economy

– ICT-producing industries (hw,sw,services) less than 4% of BNP
– however, more than half of VC investments are in the ICT-producing indutries
– many ICT-enabled transactions (NYTimes.com visits, Google searches, Youtube videos) are free, hence do not make it into GNP calculations.
– 0.2% of spending is on internet access (counted) but Americans spend more than 10% of their leisure time online
– IT has had incredible advances in price/performance
– Dow 100 and other indicators have changed over the years, still tilted towards "old" economy
– big differences between effect of IT for individual firms, the key is investments in organizational capability

Chapter 3: IT’s contribution to productivity and economic growth

– productivity paradox: difficult to measure, though everyone agrees IT contributes to productivity growth
– lackluster productivity growth in the US 73-95 (1.4%), then surge 96-2000 (2.6%), then 3.6% 2001-03. down to 1.6 2004-06, then 2.5% 2007-08. E&S believe this is reflects delayed effects of IT investments
– industry-level studies reveal sources of growth: IT-using industries behind the productivity effect
– country differences: little effect in developing countries – mostly because of lack of complementary infrastructure

Text box p 53-57: Sums up different effects of IT (Leavitt & Whisler; Malone; Coase; etc.) Important reference: Autor, Levy, and Murnane (2003): Technology substitutes for labor in routine jobs, complements labor for problem-solving or complex tasks. Discusses open source and Wikipedia).

Chapter 4: Business practices that enhance productivity

Seven pillars of the digital organization:
1. Move from analog to digital processes
2. Open information access
3. Empower the employees
4. Use performance-based incentives
5. Invest in corporate culture
6. Recruit the right people
7. Invest in human capital

Milgrom and Roberts: Important to adopt systems of complementary activities, rather than individual "best practices". Case of Lincoln Electric highlights this: Pay their workers twice as much as anyone, system of internal ownership, promoting from within, high bonuses and flexible work rules.

Discusses various studies – Barley (1986) on CT scanners and organizational change, Brynjolfsson et al found one-year returns to IT investments normal, 5-6 year returns very high. Others found that IT led to more flexibility (shorter setup time for production, hence shorter profitable runs), US-owned UK firms faster to adopt productivity changes than UK-owned ones. Italian firms on average 7 years behind the US.

Chapter 5: Organizational capital

– definition still emerging (seems to include prescription-like indicators, such as employee voice)
– organizational costs are typically most of an IT investment, $4m of a typical $20m ERP install, but typically expensed rather than depreciated
– two main methods: either to estimate expenses directly, or use capital markets as indicators
– Brynjolfsson, Hitt and Yang 2002 found high interaction effects between IT and organizational investments
– others try to do it from national accounts down, estimating annual investment in intangibles of $1trillion annually in the US

Chapter 6: Incentives for innovation in the information economy

– easy to determine markets for products and most services
– information is harder – one person’s consumption does not diminish another’s value
– information production often result of teamwork, hard to measure individual contribution
– information is experience goods, don’t know value until you have consumed it
– marginal production cost near zero, so standard value calculations don’t work
– bundling (with other information goods or regular goods) often used
– knowledge spillovers: (Grilliches 1958 on social rate of return of research)
– disruptive technologies: three examples where incumbents thrived on something initially seen as detrimental:
— libraries vs. book publishers
— photocopiers vs. journals
— VCR vs. Hollywood
– new business models: sell the iPod rather than the CDs
– price dispersion – a measure of market ignorance. Amazon does not have the lowest prices but the biggest market share thanks to better customer experience
– summary: Key is to ask "Who will the winners be?" and "What mechanisms will be used to compensate for them?"

Text box: Nature of General-purpose technologies

David and Wright (2003, p144):
— wide scope for improvement and elaboration
— applicability across a broad range of uses
— potential for use in a wide variety of products and processes
— strong complementarities with existing or potential technologies

See also David’s argument about the time it takes for businesses to reorganize around the new technology

Chapter 7: Consumer surplus

– consumer surplus emerging as measure of innovation: How much better off the consumer is
– easy to define but hard to measure
– examples: Enormous value of AC in the US south, not captured in sales of AC units. Internet offering lower prices but most value in more selection and variety.
– estimates of consumer surplus of computers (brynjolfsson 1996) as high as value of computers
– various studies, such as effect of sales of used books at Amazon or effect on patient health of new emergency call technology
– key research area: determining systematic approaches to estimating this value

Chapter 8: Frontier research opportunities

Promising areas for future research:
– the use of task-level data (including social network analysis)
– new goods and consumer surplus measurement
– understanding organizational capital and other intangibles
– incentives for innovation in information goods and open source economies

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