Taking stock of technology

What is behind the recent slump in the value of the world’s main stockmarkets?

The sharp falls cannot be explained by a change in global economic prospects, or the outlook for corporations. Admittedly there are signs of a slight slowdown in economic growth in the USA. But such a small fluctuation can hardly explain a fall of 60 percent in the Nasdaq, the technology-heavy US market, since its peak in March 2000. Even the falls of about 20 percent in the main Western markets are not merited by any changes to the real economy.

Nor is it useful to simply argue that a stockmarket bubble, which was inflated by ‘irrational exuberance’, has now burst. Such arguments simply portray investors as a mob that reacts to events for no apparent reason. At best they offer a description of events, rather than an explanation.

The immediate cause of the rise and fall of the stockmarket over the past two years is the market’s fixation with technology companies, in an overall climate of intense risk-aversion.

The backdrop for this development is the opening up of a huge gulf between the real economy – which includes companies involved in manufacturing and transport – and the financial economy. As the tempo of economic activity has slowed, many companies have found it more profitable to play the financial markets than invest in the productive economy. In addition, those companies which are directly involved in the financial markets, such as banks and insurance companies, have boomed.

This separation creates the potential for high financial volatility at the same time as sluggish economic growth. With such a large amount of ‘liquidity’, or surplus capital, circulating in the world’s financial markets, there is always the possibility of financial ‘bubbles’ developing rapidly. A small change in the outlook for a company or an economy can lead to grossly disproportionate changes in the financial markets.

However, this separation has existed in general terms since the early 1970s. From the end of the economic boom that followed the Second World War the financial markets have grown considerably in importance. In this sense, an inverse relationship has developed between an atrophied real economy and a booming financial economy.

The new element over the past few years is the increasing obsession with technology stocks and the ‘new economy’. It is changing perceptions of the technology, media and telecoms (TMT) sector that have provided much of the impetus for stockmarket movements in Europe and North America in recent years.

A quick examination of the figures shows the importance of the technology sector to the recent falls in the stockmarket. Those markets with a high technology weighting have suffered the most. These include the Nasdaq and the Neuer Markt, the pan-European market based in Frankfurt, which has fallen about 80 percent from its peak.

A similar picture emerges when the technology element is stripped out of the main Western markets. For example, the FTSE 100, the main UK stockmarket index, was at an all-time high until recently – if the TMT sector was excluded.

Essentially, the TMT sector was driven up to its all-time high in March 2000 by over-inflated expectations of its prospects. With the rest of the economy sluggish it is not surprising that the financial markets became over-excited about one of the few areas of genuine economic dynamism. Much of the surplus capital circulating the world found its way into technology stocks, particularly in the USA.

But the stockmarket ‘bubble’ contained the seeds of its own destruction. The financial markets became convinced by the hype that the new economy offered easy short-term gains. This belief was reinforced as the capital flowing into new economy companies often improved their financial performance – on paper if not in reality.

Although it is never possible to predict exactly when such a financial boom will end, it could not go on forever. At some point the gap between short-term expectations and economic reality had to become too wide.

In retrospect there was no single event that pushed the markets down form their peak in March 2000. There was simply a growing anxiety that the markets were over-inflated. Then over the past year a succession of disappointing results from companies such as Amazon, Cisco, Dell, Intel and Yahoo have created a cascade effect. The same markets that were enormously hyped a year ago are now the subject of deep pessimism.

Unfortunately, naive speculators are not the only ones to have suffered as a result of the rise and fall of the technology sector. It threatens to have a damaging impact on the prospects for what could be one of the most exciting areas for economic growth.

The fall of technology stocks has helped create a mood of extreme cynicism about the ‘new economy’. Many of the same people who where over-hyping the sector a year ago are now wary of its potential.

Those firms that could make genuine technological breakthroughs are likely to find it increasingly difficult to get funding. Projects which might have received an injection of capital a year ago may not do so today.

Yet the problem was never with new technology, such as the internet or mobile telephony, itself. It was rather with the unrealistic short-term expectations which are an integral part of the modern financial markets. Any technological breakthrough demands sustained long-term investment to reach its full potential.

Over the past week the prospect of a broader danger has emerged. The panic over technology stocks has begun to spread to the wider market. And in a society that is prone to overreact to problems, such a development could have damaging consequences for the real economy. Panic in the financial sector has potential implications far outside these markets themselves.

Daniel Ben-Ami is the author of Cowardly Capitalism: The Myth of the Global Financial Casino, John Wiley and Sons, 2001 (buy this book from Amazon (UK) or Amazon (USA)). He is also a contributor to Cultural Difference, Media Memories: Anglo-American Images of Japan, Continuum International Publishing Group, 1997 (buy this book from Amazon (UK) or Amazon (USA)).

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