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The Relationship between Information Technology and Economic Policy

THERE was considerable disagreement as to whether a "new economy" really exists or not, with economists generally being sceptical and businesspeople more enthusiastic. But there was general agreement that information technology is beginning to produce a pay-off in terms of higher productivity and lower inflation, and that policy-makers need to rethink economic policy in the light of this good news. A few participants warned that governments need to beware of the possible downside of the IT revolution, such as the creation of monopolies, the weakening of governments and the invasion of privacy.


The debate about whether the new economy exists has occupied a huge amount of time. Most economists say absolutely not; Silicon Valley says absolutely yes; and the real answer remains unclear.

Some things are clearly new. Wherever you look -- at the share of investment going into technology or at the number of households with a computer or the number of people linked to the Internet -- you discover surging numbers. Technology is already giving us new ways to do all sorts of old things, from education to entertainment. On the other hand, the basic economic laws of supply and demand have not changed; nor has human nature. Boom-bust cycles will continue. People will continue to be carried away by greed and euphoria.

But the sensitivity of economic relationships is clearly changing. The fact that we can combine low unemployment with low inflation for a sustained period of time is partly the result of the

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way that IT has spread insecurity. Even when the tight labour market has driven wages up prices have not followed, thanks to higher productivity. Four years ago, conventional wisdom said that the economy could not grow at more than 2.5%. Today the growth rate is clearly faster than that. The trick is to guard against letting our guard slip (three years of excellent figures do not make a new world) whilst not putting our foot on the brake unnecessarily. The Federal Reserve has rightly adopted a flexible monetary policy. Politicians have also rightly begun to worry about the widening income gap between ordinary workers and people with advanced degrees.


We are in the middle of a revolution so profound that it is changing everything (and even providing seedcorn for that other great revolution, genomics.) This revolution is proceeding by "creative destruction": yesterday's leaders are today's acquisition candidates, not because they have lost their way particularly badly, but because the rest of the world is changing so rapidly.

The rise of networks is producing huge changes, intended and unintended. Traditional distribution networks are going out of date. Supply chains are being strained. High-tech companies are engaging in an intense war for talent -- there are at least 100,000 high paying jobs going begging in the United States -- but at the same time service jobs are being destroyed and manufacturing jobs being exported abroad. The result is a two-tiered labour market.

Government statistics are almost certainly understating the improvement in productivity being created by IT. The American economy would be working at half its current level without the IT revolution. Businesses are investing huge amounts of money in new equipment -- and streamlining their back offices as a result. The ongoing IT revolution will continue to have a huge impact on the wealth of nations. But we need to train more IT professionals. And we need more investment in R&D. Govern-

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ment may be lousy at picking winners; but it can be very useful when investing in fundamental research.


Businesspeople have gone through two stages in thinking about Information Technology. The first was to treat it as nothing more than a tool. The second was to realise that IT is subverting all the rules of business. Government is still stuck in the first stage; yet over the next twenty years IT will fundamentally change everything that government does, from tax to education -- so it deserves our attention.

Governments have started computerising tax collection -- but they have not come to terms with how easy it will be to evade tax. Governments have started worrying about short-term changes in education -- but they have not started asking themselves what schools are for. Teaching? Socialisation? Or imprisonment? Only the last of these functions will be unchanged by technology. Gathering statistics will increasingly be a problem. Patterns of consumption will shift. It will get increasingly hard to calculate a country's inflation or its GDP. Will the government be able to understand the shift from "hardware" to "software"? Will the government have the imagination to push for more competition?

The new economic paradigm requires new policy responses. Europe seems particularly far behind. The Euro will create a highly rigid policy framework. The penalty for having a highly inflexible labour market will only grow bigger as new technology takes hold. The case for reform gets more urgent everyday -- but if we do manage to reform the system the added growth will at least allow us to pay for the reconstruction of Serbia.


An American began the debate by asking whether it is possible to conduct monetary policy in conditions of such uncertainty. The important thing in public policy making, he argued, is to know what you do not know. Policy-makers do not know how long the current productivity boom will go on for; but they do not necessarily need to be able to predict exactly what will be going on in five years time to

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set monetary policy. They need to beware that as soon as the current productivity increase stops, then all the old rules come back. They also need to beware that, once it takes hold, inflation is extremely hard to stop. Fortunately, the country knows that the Federal Reserve has the guts to do whatever it takes to kill inflation: witness the way that it doubled interest rates in 1994.

Some businesspeople questioned whether economists have been too sceptical about the new economy. There is, argued one American, a real danger that economists have underestimated what is going on: that their tools have not changed fast enough to understand a radically new reality. Industrialists will tell you that they are achieving productivity increases that are twice the official rate -- or even more than that in Silicon Valley. The reasons for this do not just lie in technology, though technology is a crucial enabler. They also lie in the introduction of new processes in the workforce. For the past decade American companies have been mobilising the knowledge of their workers more efficiently and motivating them more effectively.

Another American, this time an economist, provided an alternative view. There has, he admitted, been an undeniable increase in productivity. This is having an important impact on policy -- allowing wages to rise in response to tight labour markets without giving rise to inflation, and allowing interest rates to stay lower. But it is still not clear why the United States is getting more out of IT than the rest of the world. He suspected that labour-market flexibility could be one important reason: European companies that cannot lay-off workers do not have much of an incentive to introduce new technology. Another reason is motivation. America's tax and compensation system gives managers an incentive to adopt new techniques.

Several people looked at the effect of IT on government. One European wondered whether there was a way of spreading best practices. A Swiss speculated that IT would speed up decision-making -- and perhaps lead to more direct democracy. A panellist was also intrigued by the possibility. The exorbitant cost of cam-

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paigns is largely being driven by the cost of television time. Perhaps the Internet will help to cut the cost of campaigning. But she pointed out that there is also a downside to a world of instantaneous response: rumours circulate faster than ever and financial markets become even more volatile. There may even be a case for short-term capital controls, in order to put sand in wheels that are moving too quickly.

This was only one of several reservations that some participants expressed about the benefits of new technology. An American politician asked what the public and private sectors were doing to prepare for the Y2K problem, and what differences there were between different countries. One panellist argued that in advanced countries the private sector is well-prepared for Y2K and the public sector is getting there; another panellist said that some smaller companies have done little and there is a lot of patchwork, particularly in the energy market. The moderator said that the only part of Europe that really gives cause for concern is Russia.

Some people worried about the impact of IT on privacy. An American pointed out that government, with its rigid rules and fixed hierarchies, will find it much harder to adapt to IT than either business or civil society. A Swede pointed out that IT is making it more difficult to raise all sorts of taxes -- from capital to expenditure to income -- and wondered how we are going to finance public services in the future.

There were also worries about the way in which the new economy brushes up against old politics, notably anti-trust law. The problem, pointed out one participant, is that technology seems to concentrate power: thus Microsoft has a 90% market share, Intel an 85% share, and AT&T has jumped from nowhere to being a dominant player in the cable industry. Does this mean that there is an inherent tendency in network industries to create behemoths?

An Italian argued that there may be a downside to IT's ability to make markets and prices more transparent. Prices are falling

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more rapidly than costs, squeezing profits; companies that are worth billions on the stock exchange usually lose money. This raises the likelihood of long-term stagnation. A panellist disagreed. A lot of Internet stocks are competing in a commodity world on the basis of discounts, she argued; but in the long run they will adopt a branding strategy with price differentials. Even Internet companies are only worth the sum of their future earnings.