Academic journal article Economic Review (Kansas City, MO)

The `New Economy': Background, Historical Perspective, Questions, and Speculations

Academic journal article Economic Review (Kansas City, MO)

The `New Economy': Background, Historical Perspective, Questions, and Speculations

Article excerpt

I. INTRODUCTION

Any attempt to analyze the meaning and importance of the "new economy" must grapple with four questions:

* In the long run, how important will the ongoing technological revolutions in data processing and data communications turn out to be?

* What does the crash of the Nasdaq tell us about the future of the "new economy"?

* How should the way the government regulates the economy change so as to maximize the benefits we reap from these ongoing technological revolutions?

* What impact will the shock to public confidence and the destruction caused by the terrorist attack of the World Trade Center on September 11, 2001, have on the American economy?

We do not know the answers to these questions. We do, however, have our informed speculations about what the answers might be. It is our judgment that:

* The long-run economic impact of the ongoing technological revolutions in data processing and data communications will be very large indeed.

* The crash of the Nasdaq tells us next to nothing about the dimensions of the economic transformation that we are undergoing. It does, however, tell us that the new economy is more likely to be a source of downward pressure on margins than of large durable quasi-rents.

* The principal effects of the "new economy" are more likely to be "microeconomic" than "macroeconomic," and they will lead to profound--if at present unclear--changes in how the government should act to provide the property rights, institutional frameworks, and "rules of the game" that underpin the market economy.

* The terrorist attack of the World Trade Center will slow private investment in new technologies, but U.S. military spending is likely to increase, and the increase in military spending will be concentrated on high-technology data-processing and data-communications products. On balance, therefore, the changes in economic structure that fall under the category "new economy" are not likely to be much affected.

Consider each of these in turn:

The first of our conclusions has to do with the long-run economic impact of the "new economy." Forecasting the rate of economic growth is always hazardous, but it is more hazardous now than usual. The rate of productivity growth in the United States was 1 percent per year in the late 1980s and early 1990s, 2 percent per year in the mid-1990s, and 3 percent per year in the late 1990s. When faced with the sequence 1, 2, 3, what is the next number? Is it 3--the latest observation? Is it 2--the average growth rate over the period? Is it 4--simple extrapolation?

The correct forecast is far from obvious: The sequence of numbers could support any of the three forecasts.

We, however, conclude that one of the larger of the possible forecasts is likely to be correct. We conclude this for two reasons. First, the pace of technological progress in the leading sectors driving the "new economy" is very rapid indeed, and it will continue to be very rapid for the foreseeable future. Second, the computers, switches, cables, and programs that are the products of today's leading sectors are general-purpose technologies; hence, demand for them is likely to be extremely elastic. Rapid technological progress brings rapidly falling prices.

Rapidly falling prices in the contest of extremely elastic demand will produce rapidly growing expenditure shares. The economic salience of a leading sector--its contribution to productivity growth--is the product of the rate at which the cost of its output declines and the share of the products it makes in total demand. Thus, unless Moore's Law ceases to hold or the marginal usefulness of computers and communications equipment rapidly declines, the economic salience of the data processing and data communications sectors will not shrink but grow.

The judgment that the long-run impact of the information technology revolution on productivity will be enormous runs somewhat counter to the conventional wisdom, especially in the aftermath of the crash of the Nasdaq and the terror attack on the World Trade Center. …

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