A new model of thought is needed to understand the networked e- economy

The Internet has the capacity to alter daily life as much as the electric engine did
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THE EXPANSION of the Internet has been so extraordinarily fast and furious that it seems like half a life time ago that we heard about this new-fangled e-mail business. It was only half a decade. Now everything is e-something.

This kind of dramatic expansion is typical of the way an infectious epidemic spreads among the population. In the first stage there is a slow rate of contagion and a small, relatively stable number of infected individuals. Once a critical number catch the infection, the rate of subsequent infection accelerates rapidly. In the third stage there are so many victims that the number of cases stabilises.

New research shows that the use and impact of new technologies follows a similar S-shaped path. New technology requires an incubation period before it builds a user base quickly, and often has little impact on growth rates and output for some time. It might require additional training of the workforce, reorganisation of the production process or company structure, replacement of obsolete machinery and so on.

After this period, which can be quite long, productivity and growth can rocket. As well as the direct impact of the technology, there are often indirect spillovers into other industries. These can be dramatic when there are "network effects", whereby a technology becomes more useful the more people actually use it. In the final stage, the technology will be fully exploited and growth will slow again. A recent IMF working paper finds the S-shaped pattern fits evidence from a wide range of countries since 1960.

This is encouraging. For with two big new technologies - the Internet and biotechnology - we can only be at the bottom of the steep part of the curve. Vast numbers of people around the world are starting to catch the e-bug, and the surge in economic growth is yet to come. There is every reason to expect a surge, too. Although the Internet in itself is not a life-transforming technology the way, say, electricity was, the Internet is an application of the basic science of computing. It has the capacity to alter daily life as much as other applications of basic science like the electric engine did. That gave us the assembly line and mass production. Besides, most commentators tend to overlook biotechnology, which is certainly going to be life transforming. It is part of the same cluster of applications; gene technology is heavy on information and needs cheap computer processing power.

Another way of thinking about these changes, and one more familiar to economists, is that we are at the beginning of one of the long cycles or Kondratiev waves that last 50 years or so. The last upswing lasted from roughly 1948-1973, the one before that 1898-1929. Each is triggered by a cluster of innovations and commercial and cultural changes. Each is marked by great risk and upheaval, the making of new fortunes and breaking of old ones.

A massive look ahead at the next millennium from analysts at Credit Suisse First Boston argues that the universality of information technology will be key to the prospective upsurge in productivity growth. IT can enhance any other technology. It improves the functioning of the price mechanism by making more information available more quickly, matching buyers with sellers and therefore enhancing economic efficiency.

The announcement yesterday by CGU, the insurance giant, that it is to launch an online auction site is a good example. Its bluecycle.com will auction end-of-line retail goods, collectors items, and goods recovered by insurance companies. Most potential buyers would not even have known these things were for sale. The well-known lastminute.com fulfills the same kind of matching function for left-over goods and services such as unsold airline seats. The Government is starting online job-matching. There is endless scope for more sites eliminating economic waste and reducing inventory.

What's more, as CSFB's authors point out: "The creation of truly global networks (the Internet and corporate intranets) will `hardwire' the market system in a way never before possible, increasing the range of goods and services subject to international trade and competition."

They conclude, optimistically: "We should mentally prepare for the possibility that sustained GDP growth rates in developed economies of 3-4 per cent per annum may be compatible with low, zero or even slightly negative inflation rates."

Long booms are not all good news, however, before we all get too e-enthusiastic. The great majority of wars, revolutions and social upheavals happen in upswings rather than downswings. Followers of Kondratiev (himself a victim of revolution, having been exiled to Siberia by Comrade Stalin) suggested that the necessary changes in attitudes and ideas drove people to conflict. More prosaically, it is easy to understand why huge increases in the economic pie and vast fortunes would trigger struggles over distribution.

Simply understanding the networked economy might require a new model of thought. Old-style economic thinking is mechanical, with cause logically following effect. In its heyday, the economist was an engineer. New-style economic thought will have to be much less deterministic, and recognise that economies involve the decentralised interaction of many networked agents. Biology will provide a far more useful parallel. Indeed, some of the best brains in economics have already recognised this, especially those working on financial markets. And it is thanks to the dramas in the financial markets, from the Asian crisis last autumn to the dot.com mania this winter that it is abundantly clear nobody will be immune to the kind of fundamental changes now taking place in the world economy.

IMF Working Paper no125, Technology and Epidemics by Alberto Chong and Luisa Zanforlin, http://www.imf.org.

The New Millennium Project, CSFB, November 1999.