The Emerging Lessons of the New Economy

CAMBRIDGE: Debates about the New Economy have raged for years, yet preliminary conclusions are now possible. The New Economy, built on advances in information technology (IT), is real, and is reshaping global industry and services, increases in US productivity in recent years being the clearest demonstration. Simultaneously, the stock market valuations associated with the New Economy are unreal, in the sense that they reflect more of a speculative bubble than fundamental valuations. A third conclusion is that like many technologies, adoption and diffusion of information technologies depends not just on private market forces, but on government. The US, which portrays itself as the bastion of free enterprise, is pursuing the IT revolution through a concerted "industrial policy" as well as through market forces. Other countries should also adopt national strategies to accelerate the uptake of the new technologies.

The reality of the New Economy is best captured in the data on economic growth and productivity in the US, where the New Economy is most advanced. Until about five years ago, American economists bemoaned a "growth slowdown," a downturn in productivity growth beginning in the 1970s. Studies seemed to show that the computer revolution had contributed little to improvements in productivity. Economic historians warned that it takes many years for new technologies to show up in actual improvements in industrial productivity, which was true for past major technological leaps. By the mid-1990s, those predictions were proving correct. Productivity growth began to soar, from around 1.5% per year, to around 3% per year. Higher productivity growth in turn resulted in an acceleration in GDP growth, from around 2.5% per year during 1990-96 to more than 4% per year since 1997.

The deserved enthusiasm for the real economy translated into an undeserved enthusiasm for the stock market prices of IT-based enterprises. There is a big difference between productivity growth and profits, and this basic point was largely ignored by market enthusiasts. Even though productivity gains are likely to be substantial, most benefits will accrue to consumers in the form of lower prices, or to workers in the form of higher wages relative to prices, rather than to firms in the form of higher profits. This is because of a basic aspect of internet technology: freedom of entry of new firms, and therefore the very high contestability of markets. Yes, early movers in internet technology such as, the electronic bookseller, will maintain an advantage, but that advantage is likely to remain modest, since the potential entry of competitors will keep profit margins low. In fact, even as Amazon increased its revenues in recent years, it sustained losses. Recent reversals in the US stock market, quickly transmitted around the world, are the first glimmers that market participants are waking up to these basic facts.

To continue reading, please log in or enter your email address.

Registration is quick and easy and requires only your email address. If you already have an account with us, please log in. Or subscribe now for unlimited access.


Log in;
  1. Chris J Ratcliffe/Getty Images

    The Brexit Surrender

    European Union leaders meeting in Brussels have given the go-ahead to talks with Britain on post-Brexit trade relations. But, as European Council President Donald Tusk has said, the most difficult challenge – forging a workable deal that secures broad political support on both sides – still lies ahead.

  2. The Great US Tax Debate

    ROBERT J. BARRO vs. JASON FURMAN & LAWRENCE H. SUMMERS on the impact of the GOP tax  overhaul.

    • Congressional Republicans are finalizing a tax-reform package that will reshape the business environment by lowering the corporate-tax rate and overhauling deductions. 

    • But will the plan's far-reaching changes provide the boost to investment and growth that its backers promise?

    ROBERT J. BARRO | How US Corporate Tax Reform Will Boost Growth

    JASON FURMAN & LAWRENCE H. SUMMERS | Robert Barro's Tax Reform Advocacy: A Response

  3. Murdoch's Last Stand?

    Rupert Murdoch’s sale of 21st Century Fox’s entertainment assets to Disney for $66 billion may mark the end of the media mogul’s career, which will long be remembered for its corrosive effect on democratic discourse on both sides of the Atlantic. 

    From enabling the rise of Donald Trump to hacking the telephone of a murdered British schoolgirl, Murdoch’s media empire has staked its success on stoking populist rage.

  4. Bank of England Leon Neal/Getty Images

    The Dangerous Delusion of Price Stability

    Since the hyperinflation of the 1970s, which central banks were right to combat by whatever means necessary, maintaining positive but low inflation has become a monetary-policy obsession. But, because the world economy has changed dramatically since then, central bankers have started to miss the monetary-policy forest for the trees.

  5. Harvard’s Jeffrey Frankel Measures the GOP’s Tax Plan

    Jeffrey Frankel, a professor at Harvard University’s Kennedy School of Government and a former member of President Bill Clinton’s Council of Economic Advisers, outlines the five criteria he uses to judge the efficacy of tax reform efforts. And in his view, the US Republicans’ most recent offering fails miserably.

  6. A box containing viles of human embryonic Stem Cell cultures Sandy Huffaker/Getty Images

    The Holy Grail of Genetic Engineering

    CRISPR-Cas – a gene-editing technique that is far more precise and efficient than any that has come before it – is poised to change the world. But ensuring that those changes are positive – helping to fight tumors and mosquito-borne illnesses, for example – will require scientists to apply the utmost caution.

  7. The Year Ahead 2018

    The world’s leading thinkers and policymakers examine what’s come apart in the past year, and anticipate what will define the year ahead.

    Order now