In 2001 an OECD ministerial report, The New Economy: Beyond the Hype, concluded that information and communications technology (ICT, or IT as it is also known) was an important technology that had the potential to contribute to more rapid growth and productivity gains in OECD economies in the years to come.
Since then, OECD governments have reiterated the importance of ICT for growth and the OECD secretariat has continued to work in this area. In those days – several Internet years ago, to borrow from the new economy lexicon – evidence was fairly thin. The paradox that computers were everywhere, except in the statistics, was the dominant wisdom of sceptics. Now, the data are flowing in. And, as a new report, ICT and Economic Growth, shows, they reaffirm that ICT is indeed good for growth. How?
The simple answer is productivity. For although the recent slowdown in OECD economies laid to rest several myths regarding the new economy, including that the business cycle was dead or that business decisions could ignore old rules about the marketplace, the effect on productivity of the penetration of ICT within firms of all shapes and sizes has been positive.
Productivity growth in the United States, Canada and Australia, which soared during the New Economy bubble of the late 1990s, has continued strong since then, giving these firms a certain resilience during the present, more sluggish phase of economic growth. In other words, a structural improvement in productivity seems to have taken place. The upshot is that these economies have not only slowed less sharply than some of their OECD counterparts in the current downturn, but may be in a better position to take advantage of a recovery when it comes.
Meanwhile, the quality of ICT goods and services continues to progress, driving prices down and leading to an ever-widening range of new applications. Broadband is spreading and telecommunications activity continues to grow. People are becoming used to ICT, and business-to-consumer electronic commerce is starting to follow the lead that business-to-business electronic commerce set in the 1990s.
Policymakers should certainly not be misled by stock market evaluations, for although the bubble has burst on equities for many high-tech companies, ICT is still spreading throughout firms in the economy, improving production and helping businesses work in more efficient, productive ways. In fact, the shrewd advice would be for policymakers to double their efforts to help firms seize the benefits of ICT. OECD governments can certainly do more to support the diffusion of these technologies, but encouraging a higher uptake is not enough; how to use ICT and capitalise fully on its potential is where the main challenge lies.
Policymakers frequently ask whether cultivating an ICT-producing sector in their country would help their economies grow more quickly. The answer is it might, but that is not the point. During the New Economy boom the high-tech sector was characterised by rapid technological progress and strong demand. In Finland, Ireland and Korea, nearly one percentage point of aggregate labour productivity growth over the 1996-2001 period was traced back to ICT manufacturing. The United States, Japan and Sweden also benefit from their ICT-producing sectors.
Imposing more competition within, say, the telecoms sector would clearly help. Some OECD countries have, despite several years of implementing telecommunications liberalisation, not yet succeeded in creating real competition. This is true of broadband and telecoms infrastructure, where the local loop serving specific locations and industries is still frequently under monopolistic control. This slows the roll-out of better technologies and prices, not to mention holding back the potential gains for e-commerce, healthcare and education that broadband can deliver.
But having an ICT sector is by no means a pre-condition of harnessing the potential of the technology. Indeed, countries like Germany and Japan have renowned ICT sectors but have not had the kind of growth recorded in the US or Australia. What counts for most countries is harnessing the technology to raise efficiency and productivity, while encouraging innovative practices and products.
Capital deepening from ICT investment is more important for growth. It accounted for 0.3-0.8 percentage points of growth in labour productivity over the 1995-2001 period. The United States and Canada received the largest boost, Japan and the United Kingdom a more modest one, and Germany, France and Italy a much smaller one.
This investment is necessary for firms to integrate ICT into their processes to increase the overall combined efficiency of labour and capital together – what economists call multi-factor (or total-factor) productivity (MFP). In the United States and Australia, for instance, service sectors like wholesale and retail trade that had invested heavily in ICT experienced fast MFP growth. This growth may also come from the improved network effects that arise when suppliers, managers, customers and other players integrate and communicate more efficiently with each other. Studies in the United Kingdom, for example, show that purchasing through electronic networks can markedly improve productivity.
Also, the use of ICT may help firms expand their product range, customise their service or respond better to demand, in short, to innovate and gain market share. And it enables managers to control inventories.
ICT alone is not a magic wand. Rather, those firms that have shown the highest productivity increases knew how to manage ICT and maximise its effectiveness with complementary investments, in skills and organisational change, as well as new strategies. Their workers were given more responsibility, leading to flatter management structures. They outsourced more in order to focus on their core strengths. In effect, they changed the way business was done.
ICT helps firms to introduce new processes, products and applications. In Germany, for example, the impact of information technology investments on output was about four times higher in firms undertaking process innovations than in firms that did not innovate. These impacts are particularly marked in services.
There is a danger of over-investing in ICT, as well as misdirecting the technology. And rushing into investment in a bid to compensate for a lack of skills or competitiveness would not do much good, either. It takes time to adapt to ICT investments, to change organisational setups and hone the right skills. Evidence from the United Kingdom, for example, shows that over 50% of the firms that had already adopted ICT before 1995 were using electronic networks for procurement by 2000. In contrast, fewer than 20% of the firms that began adopting ICT in 2000 also made purchases through electronic networks in the same year.
One of the puzzles about ICT is that, though a generally pervasive technology, some OECD countries like Australia and the US have reported greater productivity gains from its use than others, like France, Germany or Japan. Why do these differences occur?
The amount of investment and the resulting diffusion is one reason; the United States, Canada, New Zealand, Australia, the Nordic countries and the Netherlands simply took to ICT more than most. Also, these countries put considerable effort into fostering the kind of environment new businesses could flourish in.
Other governments should follow suit. First, a competitive business environment is more likely to entice a firm to invest in ICT in a bid to strengthen performance or survive, than a more sheltered environment that breeds caution and conservatism with regard to innovation and risk. Also, barriers to entrepreneurship and firm creation have to be broken down, for there is no doubt that start-up firms have helped instil greater dynamism and innovation in the business settings of those countries where productivity has risen fastest. They even influenced change in older, more mature industries, from automotive firms to banking.
Governments can do much to reduce obstacles to workplace changes, by re-organising working time and employment regulations, for instance, or by helping increase employee involvement in firms.
A clear area for policy action is to ensure that skills match demand. Policies aimed at enhancing basic literacy in ICT on the one hand and enhancing managerial and networking skills on the other can be effective. And policy could strengthen innovation by giving greater priority to fundamental research, as well as promoting the flow of knowledge between science and industry.
Building public confidence in ICT is another policy challenge. Governments are starting to lead by example, by switching to e-government services, in handling tax returns for instance. But it is in reducing uncertainties over payments, contracts, delivery guarantees and redress that most problems remain. There are technical issues, too. In Japan, almost one out of every two Japanese businesses in one survey rated viruses as the major reason for not using the Internet.
Much work is under way to address these concerns. Authentication, certification, firewalls, counter-hacking software: there is no shortage of technological solutions. The OECD has itself issued comprehensive e-security guidelines which its member countries are implementing in an attempt to develop a “culture of security” and trust. Ironically, traditional physical commerce has never been perfectly safe, but at least customers feel they know who they are dealing with. It is the issue of redress in the event of dissatisfaction in a “virtual” global marketplace that is perhaps holding back e-commerce most.
In fact, consumer complaints regarding the online environment are growing (though this can be expected with greater usage). Solutions will take time and will have to be global in nature. In the meantime, education and awareness-raising campaigns could help to change expectations and so cultivate an e-marketplace mentality.
The image of small start-ups usually springs to mind when thinking of ICT innovation, though when it comes to ICT policy, big can be beautiful too. It is, in fact, large firms that have the greatest uptake. They are also more likely to use a combination of network technologies for better internal communication and management, whereas smaller firms use it more for external communications needs, like marketing. Small businesses should, of course, be encouraged to use ICT as much as possible. Policy could focus on helping such firms to assess market opportunities and build networks, while providing legal advice and affordable redress mechanisms, particularly for doing business across international borders.
OECD (2003), ICT and Economic Growth: Evidence from OECD countries, industries and firms, Paris.
“Information & Communications Policy” available online (see link below).
“Measuring Industrial Performance” available online (see link below).
©OECD Observer No 237, May 2003