Posted by: Dirk | March 26, 2010

(Book review) Wired for Innovation

How Information Technology is Reshaping the Economy is the subtitle of this book. Authors Erik Brynjolfsson and Adam Saunders argue that IT is behind the surge in US productivity since the 1990s. They find that organizational capital is what has made US firms stand out and let their productivity grow so fast. The authors then point out that current methods of GDP measurement are not taking into account the rise of new technologies. Users of Wikipedia generate no GDP, while those that bought Encarta or Encyclopedia Britannica did. As a solution they present the idea of consumer surplus, which is not an innovation itself.

I have repeatedly asked myself whether including free stuff in the GDP numbers makes sense. The biggest problem, I think, is the following: if I go out with my friends to play some football in summer, we play outsides on a grass field. In winter, we play on astroturf indoors. Of course, our playing football in summer is free and does not enter GDP (given that we ride our bikes to and fro), while in winter it does. Is that unfair? I think the problem is that the GDP is not a good measure of well-being. The problem is deeper than just accounting for services on the internet that you get for free.

In that way, the book is a bit of a disappointment. There is a large literature on GDP measurement, the capabilities approach and happiness research. This was completely ignored by Brynjolfsson and Saunders. The first part of the book where they show how IT influenced productivity is only a summary of existing research. Table 3.1 confirms my thoughts on macroeconomic aspects of the IT bubble. If inflows of foreign capital to the US caused capital abundance there, then the main driver behind productivity growth in IT would be capital deepening – as capital gets cheaper, more capital is spend on every worker. Table 3.1 confirms this story.

Brynjolfsson and Saunders reject this on p. 58: “Although some explanations focus on the business cycle, our hypothesis is that firms benefited from the organizational capital…”. This reminds me of the dark matter discussion in connection with the valuation of US returns on foreign holdings of financial assets, like discussed by Barry Eichengreen.

To conclude, the book’s strength is the information in the first few chapters on how IT has influenced productivity growth, but this information is not new and since then there has been no new developments because of the financial crisis starting in mid-2007. The main hypothesis I find unconvincing (see above), and the rest of the book about organizational capital is quite shallow. On the cover, Cris Anderson (“Free”) is quoted saying “Anyone interested in the business and economics of information technology should read this book”. I would rather recommend Anderson’s book “Free”, which you can download from Wired’s website here without charge, or “The Big Switch” by Nicholas Carr, which I have also reviewed.

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