New Economy: What It Is, How It Happened, and Why It Is Likely to Last, The

Issues in Science and Technology, Fall 2003 by Flamm, Kenneth

New Economy Lite The New Economy: What It Is, How It Happened, and Why It Is Likely to Last, by Roger Alcaly. New York: Farrar, Straus, and Giroux, 2003, 324 pp.

Roger Alcaly's title overpromises. Despite this, the book contains a useful introduction for a lay reader to a set of topics that academic economists interested in the interaction between high technology and U.S. economic growth have been struggling with over the past decade.

Alcaly, a partner at an investment management firm, argues that the U.S. economy underwent a structural change in the mid-1990s. Linked to the increasing use of information and communication technologies in business, this change pushed the United States permanently onto a faster track of output and productivity growth. The recent travails of the U.S. economy, in his view, although a necessary antidote to the excesses of the late 1990s, are destined to recede as the country resumes its new and faster economic pace.

This thesis basically occupies two of the six substantive chapters of the book. In one of these two chapters, he argues that increases in U.S. productivity growth rates in the latter part of the 1990s-linked to increasing use of computers and communications technology in the economy-are what define the "new economy." In the second of these chapters, he signs on to the argument that the reason it took almost half a century for the development of modern computer technology to result in a spike in productivity growth is that a certain "critical mass" of technology use is needed in order for a technological revolutions to have a major impact, as users gradually learn how to use the new technology.

In the first of these two chapters, Alcaly does a decent, if incomplete, job of surveying two rapidly growing and somewhat disorderly academic economics literatures that are interrelated. One of those literatures concerns the measurement of prices for high-tech goods and services, whose quality has improved dramatically over time, and where the conventional price indexes constructed by government statistical agencies have lagged badly in tracking these changes. (I should disclose that I am most familiar with and have contributed to this literature.)

The other concerns the measurement of productivity growth rates. So-called "total factor productivity" is calculated by deducting the imputed contributions of inputs to production (such as labor; various kinds of conventional capital goods; high-tech capital goods such as computers, communications, and software; etc.) from growth rates of the output, and the "residual"-the difference between what happened and what you can impute to the impact of growth in the inputs you have measured-is then interpreted as the effect of things you don't understand well, most notably technology. In recent years, economists (including Dale Jorgenson and Kevin Stiroh in the pages of this publication) have charted a marked increase in total factor productivity growth in the latter part of the 1990s.

The two literatures are related in that recent studies that find an uptick in productivity growth since 1995 make use of new and improved price indexes for high-tech goods such as semiconductors, computers, communications equipment, and software. These new indexes have dramatically changed the historical picture of the U.S. economy painted by government statistics. (Interestingly, Alcaly's own tables show many periods of productivity growth in the "old economy" roughly equal to or even exceeding the post-1995 surge he identifies with the coming of the new economy.)

A question then arises: If it is computers that are causing the uptick, why did it take so long? Computers, after all, were invented in the 1940s, computer sales have been growing at a rapid rate since the 1950s, and academic studies seem to show computer prices falling at roughly 20 percent annual rates of decline since the early 1950s. Although there is evidence that coincident with the PC boom of the 1980s, those rates of decline in computer prices increased and continued to increase in the 1990s, computer prices have been dropping like a rock since at least the 1950s, while computer sales have been growing rapidly, year after year after year. Why the long delay in increasing productivity growth rates?

In the second of these two chapters, Alcaly seizes on the argument advanced by some economists (notably Paul David, who takes as an analogy the diffusion of electric power in the U.S. economy) that it simply takes a long time for businesses and consumers to learn how to properly exploit new technology. Although this argument is largely an exercise in telling a convincing story consistent with known facts, there is also some empirical support, notably statistical studies showing lags of roughly a decade between computer investments and a measurable increase in productivity growth in particular industries. But the decade of lag suggested by statistical studies is very different from a lag of almost 50 years. The discontinuity in productivity growth in the face of continuously increasing computer investments begs for further explanation. To suggest, as Alcaly (and others) do, that "critical mass" is important simply moves our ignorance to another plane.