Article12 February 2001

From dotcom boom to dotgloom
The dotcom collapse is as overhyped as the 'IT revolution', says Phil Mullan in the concluding part of his series demystifying the 'information society'.

by Phil Mullan

From a technical perspective IT represents the most important technology of the last third of the twentieth century.

It is a significant new tool for economic and social advance and stands out as the main technological contributor to productivity growth over the past three decades. The enhanced ability to store, process and transmit information has the potential to transform a vast array of business processes. Specifically, the internet makes easier the fusion of computers and communication. Not least because of the internet's generally accessible format, this takes IT to a higher stage.

As much as any technology can, the internet should define society and the economy during the early decades of the twenty-first century. As Orit Gadiesh, chairman of the management consultants Bain & Co, told the World Economic Forum in Davos at the end of January 2001: the internet, though 'not a revolution', is 'an important tool for business use....Eventually all companies will be internet companies in the same sense that all firms became phone companies when they began to use telecommunications' (1).

So while IT does not warrant the breathless hype about a 'third wave' of economic revolution on a par with the agrarian and industrial revolutions, it certainly justifies an exalted place in any history of technology of the past 200 years. Even if there is no basis to the claim that it has moved us beyond the industrial age, IT stands alongside the telegraph, the internal combustion engine, electricity, air travel and nuclear energy as a society-transforming technological breakthrough.

The biggest problem standing in the way of the greater use of IT has nothing to do with the technology. The major barrier is the peculiarly unwelcoming way that society approaches human-driven change at the turn of the millennium.

In a number of ways society today seems particularly poorly equipped to realise the genuine possibilities of IT. For example, the way the internet has been embraced as a global panacea is worrying, in that its genuine applications may not be specifically identified and pursued with rigour. When the internet is heralded as a solution to just about every major social problem, from global poverty (give everybody an internet connection) to electoral disenchantment (voting online) to educational standards (a PC with internet access in every classroom), this is too heavy a baggage for any technology to bear. A focus on looking for technical solutions to such social and cultural problems can distract and sidetrack IT from what it could be really good at: raising social productivity through the revolutionising of production techniques and promoting human cooperation.

Reinforcing and paralleling this problem is the way the current culture in politics and business is inimical to the long-term investment in time and resources needed for the opportunities of this technology to be properly realised. The web, for example, has either been used merely for its most 'quick result' opportunities - as another retail channel or as a short-term cost-cutter - or more often is being underutilised, for lack of a business culture of strategic thinking and planning.

The most immediate illustration of the social roadblocks hindering the deployment of IT is the negativity with which the new technologies are now being seen, in the current mood of economic pessimism. The about-turn in sentiment towards the internet from the dotcom frenzy of 1999 and early 2000 to the dotcom gloom of today, is significant in illustrating not just the shallowness of the earlier hype, but the strength of the social impulse to rein back.

It is perhaps ironic that the backlash against the earlier internet hype has helped to catalyse, especially in the USA, an anxiety about economic slowdown, which will be one more barrier standing in the way of investing in the latest technologies.

A year ago - even six months ago - all the talk was of this New Economy requiring new economic thinking. 'E' became the universal prefix, from e-business to e-solutions to ecommerce to the e-conomy. Now though, as the UK Financial Times recently noted, the r-word has replaced the e-word among financiers, business people and politicians (2). Everybody seems to be fearing the economic worst for the USA. And for all the talk of European insulation and of 'asynchronous' economic cycles, where the USA leads, the rest of us usually follow.

With the end of the earlier internet hype the limitations of the narrow and superficial techno-optimism have become more explicit. However, the negative vibes now associated with the New Economy in some quarters are equally debilitating to the realisation of the true potential of IT. Just as the initial hype about IT's 'revolutionary' implications blinded people to its strategic requirements, so the more recent deflation of the New Economy bubble is encouraging unjustified gloom and will further postpone its proper deployment.

Michael Mandel, economics editor at Business Week, and until not so long ago a New Economy enthusiast, has even predicted an internet depression. He gloomily anticipates that because of IT the Old Economy business cycle has been replaced by the New Economy tech cycle, with longer expansions but followed by deeper and harsher recessions. Not a hopeful scenario for business to invest in the new technology and put it to more intense and extensive work.

As Alan Skrainka, chief market strategist for the St Louis-based brokerage Edward Jones told the UK Financial Times, following the big fall in the NASDAQ index of high technology stocks in September/October 2000: 'The pendulum has swung from tremendous enthusiasm over technology and anything related to the internet to an environment of fear and concern' (3). So after months of using the TMT (technology, media, telecommunications) bubble as sign of a renewed enthusiasm for entrepreneurial 'risk-taking', now it seems that the sustained undercurrent of risk aversion that characterised the 1990s business world could be further heightened. As Hamish McRae observed, the collapse of the TMT equity bubble may have its 'most significant link' to the real economy through its negative impact on risk-taking and innovation. This does not just affect the hi-tech start-ups that have seen funding dry up, but 'this mood is feeding into large companies, where risk-taking is going out of fashion'. (4)

The immediate problem resulting from this apparent reversal in business sentiment is the danger of the Americans talking themselves into a sharp recession, and bringing the rest of the world down with it. The fear of a recessionary hard landing in the US was initially exaggerated when it took off in the latter part of 2000, but it could be self-fulfilling.

To point to 'exaggeration' is not to say the world economy is in perfect shape and good order. Far from it. Japan, the world's second largest economy, remains frustratingly constrained by the fallout from its economic and financial crisis at the end of the 1980s. Most continental European economies have also been operating below potential since about that time. And the USA, which alone accounts for more than a quarter of the world's economic output, is carrying a number of huge imbalances: heavy corporate and personal indebtedness, and an enormous trade deficit financed by equally large foreign capital inflows. Overall, as I explained earlier in this series, the 1990s world economy has been characterised more by slow drift than exciting boom. However, the fundamentals of the US economy and the businesses that drive it are still reasonably robust. What should be clear is that the US economy is neither stuck in slump nor overheating. A recessionary contraction is not required at this point to play its traditional cleansing and remedial role. Without all this dangerously self-fulfilling talk of recession doing the rounds, the US economy could happily trundle on at about two to three percent annual growth for some time to come.

The reality is that the pace of productivity has picked up in the 1990s, even if not to the unprecedented levels, nor for the 'new economic revolution' reasons, that some imagined. Domestic economic imbalances and disproportionalities are relatively muted. The financial pages may be full of company 'profit warnings' but these usually refer to profits not rising as fast as forecast, and only exceptionally to the surprise appearance of big losses. Corporate profitability and the profit share in the economy remain relatively strong. Hence the non-appearance of the usual warning signs of recessionary pressures: inflation and a corporate liquidity squeeze.

The absence of such real pressures, and the high levels of credit extension, are both indicative today of the consequences of the slow but stable economic circumstances of the 1990s. It is worth repeating that the US economy grew at a slower average annual rate in the 1990s expansion from 1991 than it did in either those of the 1970s or 1980s. In time (especially now that we have passed that frothy and breathless utopian stage of IT thinking), the peculiar length of this phase of lumbering economic expansion will be mainly attributed to the new openness of world markets post-Cold War, and the non-fractious political and industrial relations conditions at home and abroad.

The key point for the moment is that what has not expanded rapidly does not require the cold shower of a recession to re-establish an equilibrium for continued growth.

Yet this is not how it seems. All the talk, especially in the USA, is of the unfolding recession. Every bit of economic news is interpreted in the worst light. The catalyst for all this was the puncturing of the dotcom bubble during the spring and summer of 2000 followed by a more generalised fall in TMT company share prices from September 2000. The extreme negative reaction both within the internet world and among its erstwhile fans is as unjustified as the earlier dotcom hype was inflated.

Such a negative reaction to the falls in technology and internet prices last year was at the very least disproportionate. The falls were not a reflection of any rational reappraisal of the economic potential of IT. The rise and fall of the share prices was predominantly a financial, not an economic phenomenon. In reality, everybody knew that technology share prices were overinflated by the end of 1999, but most people also knew that there was no absolute limit to how high they could go. Hence many funds and private investors kept buying so as not to miss out on gains, knowing that, while everybody else was doing the same, this dynamic would be self-sustaining.

Remember that US Federal Reserve chair Alan Greenspan, a person with unique superman status in the economic and financial world these days, had decried the 'irrational exuberance' of the US stock markets as early as December 1996. Everybody nodded wisely in agreement, and knew he was right, but carried on investing, reminding themselves that nobody had made money so far betting against the US bull.

The prices of technology and internet stocks were not driven up by mindless greed. Most people knew what they were doing and did not need that patronising warning at the bottom of the financial adverts that share prices can go down as well as up. It was a simple calculation that if most technology shares were growing by high double digit rates (at least) each year it was silly to stand apart and miss out.

The dynamic of the stock market, just like any form of gambling, is that it is difficult to stop when you are winning. That's why most of the gains in wealth that newspapers were writing about were gains in paper wealth. What this also meant was that when the prices fell, even by 95 percent in some cases, the loss was a paper one, too.

Compared to stock market crashes in the past, we have yet to hear of anybody becoming destitute as a result. So the collapse of inflated technology share prices neither tells us anything real about the technology sector today nor about its potential. Nor do the falls have any real negative wealth effect in making people so poor that they have to stop purchasing consumer goods.

Yet not only has negativity about the business potential of the internet become widespread, but the gloom has spread to the rest of the 'old economy', too. Whatever is being reported or said or done today is regarded as evidence for how bad things are.

Consider the reactions to the two half-percent cuts in US interest rates announced in January 2001. In normal times it is well recognised that interest rate changes are more demonstrative than practical in their effect, yet today they have risen to assume key significance that recession is almost if not already here. Also in recent history it has tended to be interest rate rises in response to inflationary pressures that have signalled recession. By the time interest rates are cut the economic worst is usually past.

Yet today those interest rate cuts were interpreted as hard proof that things must be bad. Whatever the figures say, and whatever the anecdotal evidence, Alan Greenspan and the rest of the Federal Reserve must know something terrible that we don't.

A year ago economic statistics were frequently disregarded as being anachronistic in our 'new' economic times where 'intangibles' make the running. Now it seems every statistical announcement is accepted as telling bad news. The government reports a sharp rise in layoffs in the final quarter of 2000 and people conclude the economy must be in crisis. The fact that these figures show only a slight rise on 1998 levels of redundancies, when we were supposedly in the midst of the 'long boom', is ignored.

Nor is it usually noted alongside the recent headline redundancies from the Amazons, Lucents and DaimlerChryslers that many other companies are still recruiting and fretting about tight labour markets and skills shortages. In fact, US jobs growth in January hit a nine-month high according to the US Labor Department (5). And despite a small increase, US unemployment still remains near its 30-year low.

Take another 'bad news' item. PC sales slowed at the end of 2000, and this is interpreted as the beginning of the end for the IT sector. How can the New Economy move forward without the Compaqs, Dells, Apples, Intels and Microsofts in the vanguard? But another more sanguine interpretation is possible. Perhaps this slowdown in growth just means that most companies and middle-class homes now have enough PCs - and have learned that upgrading to the latest, fastest processor is not necessary.

This change in tempo might represent the end of an early formative phase and be evidence of a maturing of the potential role of IT. This alternative interpretation gets little attention with today's mindset.

Instead, when we read every day of another dotcom company closing or laying off a big chunk of its workforce, it is deduced that the whole e-business idea was a fraud. But the real facts so far are that dotcom companies are surviving better than most new businesses. Half of new businesses never make it to their fifth birthday and most of these don't last even two years. Yet the dotcom survival rate after 18 months stands at about 90 percent.

We should probably expect this better staying power given how relatively easy it was in 1999 and early 2000 to raise working funds. But whatever else one can conclude, it remains illegitimate to use the closures of some high-profile websites - the Boo's, Boxman's and Clickmango's - to write off the great possibilities of what the new technologies can do.

Another story given a gloomy take has been the fortunes of venture capitalists (VCs). When it was reported towards the end of 2000 that VCs were having to write off $10billion or 10 percent of their New Economy investments by the end of 2001 this sounded like a big hit. But VCs will usually accept writing off a third of their investments with no qualms. That's the way of venture capital. So another normal, even relatively positive, economic development was regarded negatively. All in all the economic gloom today is almost as unjustified as all the New Economy hype was a year ago. The genuine threat is that fear of recession helps to generate a contraction. As the Wall Street Journal wrote after the US Fed's second half-point interest rate cut in January, 'Anxiety about recession could be self-fulfilling....Fear of a recession can quickly bring on the real thing' (6). Actions may be taken by businesses and financiers, aided and abetted by the politicians, which push the economy below its potential.

When all news is interpreted as proof that a recessionary slowdown has begun, companies and other institutions operate as if this is so. Banks and other financial bodies begin to impose more onerous financing conditions. In their heightened aversion to risk they stop funding many good ventures and businesses. At the same time, in anticipation of a slowdown, businesses retrench and through their actions they produce one.

A recent US Fed report based on a survey of banks' senior loan officers illustrates that both trends are already evident in the USA (7). Businesses are cutting spending and banks are cutting lending. The Fed reported that lending standards are being tightened at a faster rate than at any time in the past 10 years, including the 1990-91 recession. Banks are charging many borrowers higher interest-rate premiums. At the same time, demand for loans has slumped as companies scale back capital-spending and acquisition plans.

The report recognises the further danger for the economy that risk-averse bankers could compound any economic slowdown by depriving borrowers of funds needed to expand or finance their businesses.

These trends especially hit the newer, faster expanding businesses, which have yet to reach profitability. Cash constraints force them to temper or reverse their plans, cut investment and curb spending and hiring. A negative spiral goes to work. Orders contract, inventories throughout the economy grow, production is reduced, leading to more orders being cut. The effect is not as profound, deep or prolonged as a 'real' recession, but the waste of resources and of available capacity is genuine nonetheless.

So while the earlier techno-utopian approach to IT owed much more to perception than reality, the more gloomy recessionary sentiment now doing the rounds won't help to break free from the real scenario of inadequate technological innovation.

The speed of the shift from 'new economic thinking' last year to dotgloom today is emblematic of a deeper problem, and one which represents a more sustained barrier to genuine innovation than even today's recessionary anxieties. The volatility in mood is symptomatic of a widespread fickleness of attitude, which means that nothing positive is ever pursued with much vigour or sense of purpose. This is not propitious for making the most of our exciting new technologies.

A 'hold back', let's-not-risk-the-consequences, precautionary principle prevails. This is a problem in many areas of life from politics to education to medical and scientific research. It will also continue to be a massive handicap holding back the prolonged creative and experimental path required to be pursued by man to make the most of our new technologies.

We have hardly started the year 2001 - yet already we risk wasting an opportunity of the century.

Phil Mullan is the author of The Imaginary Time Bomb: Why an Ageing Population Is Not a Social Problem, IB Tauris, 2000 (buy this book from Amazon (UK) or Amazon (USA))

This is the sixth in his series demystifying the 'information society'.

Read on:

Don't Blow IT by Sandy Starr

spiked-issue: Don't blow IT

(1) Independent, 29 January 2001

(2) Financial Times, 27 January 2001

(3) Financial Times, 14 October 2000

(4) Independent, 13 October 2000

(5) Financial Times, 3 February 2001

(6) Wall Street Journal, 1 February 2001

(7) Wall Street Journal, 6 February 2001



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