The Morning After

Industry Standard, The, Dec 18, 2000 by James Fallows

I have decided there is one fl good thing about being an I early baby boomer -- and no, it's not watching two other boomers mud wrestle for the presidency. Instead it involves watching the turn of the latest economic cycle with the experience of seeing similar cycles before.

Through the last quarter-century -- for me, the "working years" -- a series of industries, regions and technologies have soared to economic prominence, only to undergo the inevitable "correction" later on. The OPEC oil boom of the early 1970s, and the ripple-effect energy boom in Texas, Oklahoma and Colorado later on. The junk-bond and leveraged buyout boom in the 1980s, immortalized in The Bonfire of the Vanities and Liar's Poker. Japan's late 1980s boom, which came when I was living there as an impoverished foreigner and was made to feel as if any defect in my own work habits symbolized America in decline. The memory-chip boom of the 1970s. The defense-contracting boom of the 1980s, which led directly to the "Massachusetts Miracle" and thus to the concept of Michael Dukakis as a potential president. The Microsoft boom of recent memory. And, yes, the dot-coin boom since 1995.

My point, you will be relieved to read, is not "I've seen 'em come and I've seen 'em go and, Sonny, things used to be tough." Rather it is that while every boom ends, they end in different ways and with very different long-term consequences. A boom is followed by outright bust in some cases (Nigeria when the oil money was gone), and by more modest but sustained growth in others (most East Asian economies since their financial "crisis" three years ago). And the time to look for clues about the nature of the sequel is during the stage the Internet Economy has just entered: the period when everyone adjusts to the initial boom being over.

Many things become clear during a slide that were harder to identify when the market was going up, up, up. The most important revelation involves the original cause of the preceding boom. When any market is soaring, it is natural for its participants to think that their own, special wonderfulness is the main reason for their success. When oil was moving toward $50 a barrel 20 years ago, people in Houston thought that their can-do spirit (rather than OPEC's market power) was the main cause of their good fortune. In the late 1980s, any random person on the street in Osaka or Tokyo would argue that Japan's rice-paddy heritage made it superior in modern trade competition. Similarly, one year ago the founders of Net companies would say that their antihierarchical hipnees, their free snacks for employees and their staff paintball games were what brought them the smart, young talent and drove their market capitalization into the stratosphere.

These explanations are attractive, because there is something to them. It can't just be coincidental that so many more tech companies flourish in California than in Alabama, or that so many are founded by immigrants, who have been forced to develop a scrambling, entrepreneurial outlook. But when the slide begins, people have to look for deeper causes. They're still hip and young and they still call their supervisors by their first names, but that doesn't keep the stock price up any more.

What becomes clear at this point, as the market passes its peak, is that each of the booms was really caused by some combination of three factors: a sudden change in technology; a sudden new supply or flow of money; and a suddenly apparent opportunity that a limited number of players can exploit for a limited time. For example:

The OPEC boom came from a sudden opportunity. Oil producers realized that if they colluded they could jack up prices and make huge profits during the several years it took for customers to reduce consumption and break the cartel. The defense-contracting boom? A sudden new flow of money, from heavy deficit-spending in the early Reagan years. The 1990s U.S. stock boom? New technology, plus new money. The money came from foreign investors fleeing weak returns in Europe and Asia, and from baby boomers in the U.S. who'd been taught that the stock market was the only smart place for them to put retirement funds. Oust a guess: After this year's Nasdaq turmoil, next year we won't hear much from politicians about putting Social Security into the stock market.)

From this perspective, the Internet boom is remarkable because it involved all three elements. New communications technology, which created entire new businesses and made existing ones more productive. A new flow of money, in the form of recirculated gains from the early-1990s stock boom. And a sudden opportunity: specifically, to establish worldwide brand names, like those of Amazon.com and eBay, at a tiny fraction of the time and cost it had taken Ford, General Electric or IBM to establish their brands.

"It's not that profitable business models didn't count," says Bill Elkus of Idealab Capital Partners, referring to the role of this third element in the "stupid money" boom times of one year ago. "People now make jokes about what happened in the [online] pet space. There were six venture-backed companies, and some were sending 40-pound sacks of dog food by FedEx. That did not come from collective hysteria," says Elkus, "but from the widespread perception, based on the Yahoos and eBays, that the cost of creating a new consumer brand on the Internet was substantially smaller than it in fact turned out to be - and that there was a very short window of opportunity when you might do this."