The Contribution of IT to Economic Growth

Why IT makes the difference

11.10.2006

Hezekiah Agwara, Nora Engel, Ivan Kulis, Than Le Phuoc

UNU-MERIT, Phd Programme on Innovation Studies and Development

Structure

• Concepts & theoretical framework• Evidence • Conclusion and policy options• References

Conceptual Framework

New Economy involves acquisition, processing and transformation, and distribution of information (Nordhaus 2002)

IT = The three major components are the hardware (primarily computers) that processes information, the communications systems that acquire and distribute the information, and the software which, with human help, manages the entire system

General purpose technology (GPT) = technologies that can affect an entire economy, drastic advancements (f. ex. telegraph, electric motor, steam engine) economic contributions are larger facilitating complementary innovations that lead to productivity improvements

IT as a GPT: • IT enables complementary organizational innovations (Brynjolfsson & Hitt, 2000)

more productivity due to reduced cost & increased output quality (new products or intangible assets improvement)

• IT enhances new, high levels of connectivity (Carlsson, 2004) economic growth due to increased probability of discovering new combinations

Channels of IT’s Contribution to Economic Growth(Qiang, Pitt & Ayers 2004)

1. TFP growth in sectors producing IT (through technological progress)

2. Capital deepening(IT capital per worker increases due to higher investment in IT, new products & falling relative prices of IT goods)

3. TFP growth through reorganization and IT usage

Channels of IT’s Contribution to Economic Growth (Qiang, Pitt & Ayers 2004)

Evidence: Channel 1 & 2

• (Nordhaus 2002, Gordon 2002, McKinsey 2001, Baily 2002): Aggregate growth accounting estimates indicate that both capital deepening -associated with IT capital- and TFP led to U.S. productivity acceleration in the 1990s.

• Gordon (2002)- Of the actual 2.86 percent annual growth in productivity, 0.40 percentage points cyclical effect; 0.89 result of computers; 0.60 capital deepening

• Jorgenson-Ho-Stiroh (2001) & Stiroh (2001) find faster TFP growth in the 1990s,

• attributed to the IT-producing sector & to a shift from negative to positive TFP growth in the IT-using sector

• IT intensive industries had much larger increases in labor productivity after 1995.

• Oliner & Sichel (2000) attribute two thirds of the productivity acceleration to IT capital and TFP in the IT producing sector.

• Several firm-level studies point to substantial increases in output & productivity due to IT investment or use (Brynjolfsson & Hitt 2000)

Evidence: Channel 1 & 2 (Baily 2002)

Evidence: Channel 1 & 2 (Baily 2002)

Evidence: Channel 3

• (Breshnahan, Brynjolfsson & Hitt, 2000): IT contributes more effectively to growth when accompanied by organizational change

• Traditional growth accounting techniques focus on observable aspects (output, price, quantitiy) & neglect intangible benefits (quality, new products, customer service, speed) complementary investments and returns may be larger economic contribution of IT is underestimated!

ICT for economic opportunity in developing countries (UNDP, 2001)

• Enhancing rural productivity (timely information in Chile, PrideAfrica for rural micro-finance)

• Improving business processes and efficiencies (Utilities Afrique Exchange)

• Facilitating global connectivity (PEOPLink)

• Better employment opportunities (TARA haat)

3 channels in developing countries: national approaches to ICT (UNDP, 2001)

• ICT as a Production Sector(channel 1)

a) Export focus: Singapore and Costa Ricab) National market focus: Brazil

• ICT as enabler of development (channels 2 and 3)

a) Global positioning focus: Malaysiab) Development goal focus: South Africa

India: up-scaling from channel 1 to channel 3

• India is a developing country that entered the IT revolution several years ago. From low-end data entry type operations to Y2K solution providers, the expertise and business has converted itself into a US$ 6 billion industry.

• Compounded Annual Growth Rate (CAGR) for the Indian software industry revenues between 1995 to 2000 has been 56.3 per cent

• the three major areas of IT services export that are emerging now are e-commerce software and services, Web-enabled services, and e-business and e-trade transactions and services.

Additional evidence

• ICT is considered as the main new determinant of FDI (The Causal Relationship between ICT and FDI, 2005, WIDER). Technological developments, particularly in ICT, have facilitated new ways of conducting business on a global scale

• Impact in tourism. The Employment Impact of Business-to-Consumer E-Commerce on Philippine Workers (de Vera, 2002). Total e-commerce related revenues as of the year 2005 is projected to account for about 1% of (nominal) GDP, contributing up to 8% of GDP growth. Employment attributed to e-commerce is greatest for tour and travel agencies.

• (Clarke & Wallsten 2004): Internet impacts export behavior. Internet penetration in developing countries is correlated with greater exports.

• Litan & Rivlin (2001) estimate that the internet will add between 0.25 and 0.5 percentage points per year to future U.S. growth.

Conclusion

C1: Clear evidence of IT contribution to overall economic growthC2: Contribution channels vary in their importance for developing countries (2 & 3 are most relevant)C3: Welfare gains from IT should be higher in consumer than in producer countries

but!• Standard growth accounting tools do not measure IT contribution to

growth adequately• Lack in measuring contribution of intangible assets, use of IT &

organizational change

Policy option: More emphasis on the promotion of IT use in developing countries.Implementing IT in developing countries without changes in the complementary areas will never be successful and could even lead to high social costs.

Thank you!!!!!!!!!

Possibility to go more in-depth in technical aspects?

References

• Brynjolfsson & Hitt. 2000.• Carlsson, Bo. 2004.• Qiang, Pitt & Ayers .2004.

• (Oliner & Sichel, 2000)• (Breshnahan, Brynjolfsson & Hitt, 2000)• Nordhaus 2002• Gordon 2002, McKinsey 2001, Baily 2002• Jorgenson-Ho-Stiroh (2001) & Stiroh (2001)• Clarke & Wallsten 2004• Litan & Rivlin (2001• Singh 2002• UNDP, Creating a Development Dynamic, 2001

Technical appendix: Positive Impact of IT on Productivity (Kevin J. Stiroh)

• IT and Productivity revival in the U.S. (1995-2000)

• Dataset: 62 industries (1987-2000), 49 industries (1977-2000) for weighted gross output, value added and FTE.

• Econometric testing and Decomposition– Decomposition: decomposition of ALP (aggregated labor

productivity) growth (using Tornqvist index)– Econometric testing: structural break

Positive Impact of IT on Productivity (Kevin J. Stiroh)

• Testing structural break on: – Mean growth rate– With additional IT-intensities variable (IT shares of capital

service)

• Decomposing ALP:

H: Hours, RH: reallocation of labor

Positive Impact of IT on Productivity (Kevin J. Stiroh)

• Results

– Structural break in growth is statistically confirmed (significant positive interaction coefficients) from 1995 with IT support

– IT-producing, IT-using industry contributes positive percentage to growth, other industry contribute negative percentage (for Gross output productivity value added productivity approach)

Speculations onICT and the New Economy

Knowledge Vs. Information

• Information is not knowledge.• Information is organized data, Knowledge is organized information (Miles 1999)

• Knowledge transforms information and data into useful applications for businesses that in turn lead to economic (productivity) growth.

• ‘Information has no intrinsic meaning’, (Miller, 2000)

• Knowledge is the uniquely human capability of making meaning out of information. (Miller, 2000)

Only with knowledge, information becomes meaningful.• ‘Knowledge is between two ears, and only between two ears’ (Drucker 1969)

– when expressed and externalized it can become information.

• Knowledge is a much broader concept than information

( Know-how, Know-what, Know-why, know-who)

Knowledge Economy, KE

• Definition:

– “ KE is one in which the generation and exploitation of knowledge has come to play the predominant role in the creation of wealth. It is not only about pushing back the frontiers of knowledge, it is also about the most effective use and exploitation of all types of knowledge in all manner of economic activity.”

(DTI Competitiveness White Paper 1998)

KE involves both the generation/production and use of information and knowledge.

• Driving forces: Globalization Information and/or Knowledge Intensity Networking and connectivity

Characteristics of KE:

• KE is networked economy

• KE is not of scarcity, but of abundance

• KE is global, i.e. diminished effect of location

• Human capital / knowledge competency/ is of key value

• Knowledge enhanced products or services can command price premiums

• Pricing and value depends heavily on context

• The KE is present in all sectors of the economy, not just knowledge intensive industries

• The KE has a high growing intensity of ICT usage.

• Increased demand for highly-skilled manpower.

• Profit come not from economies of scale, rather from speed of innovation

Indicators of KE:

• The level of education of the working population• ICT-related employment• R&D undertakings (Innovation inputs)• Innovation output – technological and non-technological• The presentation of high-tech sectors• Creativity and communicative skills• Institutional capabilities to transfer knowledge

Source: Otto R. and Frank van Oort, 2005, Mapping the Dutch Knowledge Economy – extending the regional innovation policy debate in the Netherlands, pp. 3-8

ICT and KE - positive roles?

Existing literature on the economic role of ICT are still inconclusive and

suffer from conceptual vagueness

ICT is just a means, not an end by itself! ( Human capital matters

more!!)

Knowledge abundance doesn’t guarantee its accessibility (economic

motives)

Unused or latent knowledge vs. role of ICT

Extremely uneven development of the world economy (digital-divide)

Growth in IT-field doesn’t mean economic-wide growth!

Production vs. Use of ICT

• Production – contribution for growth

- computer manufacture

- semiconductors

- other sectors (Oliner & Sichel, 2000).

Production vs. Use of ICT

Contribution from the use of:

• Computer hardware

• Software

• Communication equipment

Past Inventions vs. ICT• Short Time Life Span

• Frequent and continuous update requirements

• Replacement Cost very high

• Technology depreciation: very fast

Price Change & Improvement in ICT

Performance-Price Ratios

16.2 for Computer Processors

75.5 for RAM

176 for Hard Disk Capacity

Apparently nice figures, but stimulate to incur cost!

Source: Gordon R.J., 2000

Measurement questions

Technology Labor Productivity: Inconsistent results?– 1970s/80s US economy:

• Loveman (1994) large manufacturers’ productivity between 1978-84: negative returns on IT investment

• Gross marginal product of technology investment was less than the costs associated with them (Morrison & Berndt 1990, Berndt & Morrison 1995) (Productivity paradox)

– 90s: Developed countries vs Developing countries: who had the positive results?

Measurement questions

• Short term: no observable result?

– Short term vs. long term measurement of IT investments on productivity: Micro level analysis

• SHORT TERM: benefits = costs in a year’s time – Investment in IT alone: insignificant effects!

• LONG TERM: gains exceed costs– Investment into IT combined with organizational change: productivity

can rise by a factor of 2-8x!

(Brynjolfsson & Hitt, 2000)IT alone does not give the answer (if it is not coupled with

organizational change; learning etc.)

• Upstream – downstream industries: ICT part of a complex picture?

Aggregation problems

• Is firm level data applicable for country-wide social gains?– “an unreliable way to capture social gains from

improved product quality” (Brynjolfsson & Hitt, 2000)

– Quality differences are not always shown in prices

• Measuring productivity:

– How do you measure intangible costs and benefits such as:

• changing business processes, new skills, industry structures,

• speed/breadth of information dissemination?

ICT boosting growth?

“ So far, only few OECD countries have clearly seen an upsurge in labour or multi-factor productivity growth in those sectors of the economy that have invested most in the technology “ (Pilat,2005)

Pilat, D., “Financial markets, ICT dynamics and growth in OECD countries: Growth differentials in OECD countries: some reflections”. International Economics and Economic Policy. Heidelberg: Jul 2005.Vol.2, Iss. 1; pg. 1, 6 pgs

ICT boosting growth?

“Rise of the “new” economy has been facilitated by the rise of platforms”(Ohmae, 2005)

– Microsoft Windows, the English language, the Internet, ATMs, credit card, all serve as platforms.

• How these platforms work?

• How they can be leveraged?

Will ICT bring growth?

• complementary process Innovation required

“Impacts of ICT on productivity crucially depend on complementary investments In organisational change, skills and innovation” (OECD, 2003b)

ICT boosting growth?

Profits can outpace GDP for a period if companies build more monopoly power.– ”If IT reduces barriers to entry and increases competition, profit margins are more likely to shrink than widen” (Economist, Sept 23, 2000)

•Productivity un-new economy concepts - levels of investment - Organisational creativity

ICT: Advantage for Developing Countries?

• Yet to validate the ICT Advantage for Developing Countries– Generalized products – do not meet specific needs for

DCs

– High Infra-structure cost

– Skill Requirements

– Technological Requirements

– Expensive Software

– Continuous Capacity Building Requirements

– Language barrier

ICT and Developing Countries

• Ethiopia – 94% internet accounts just in Addis Ababa

• China – growing spread of Internet subscribers, restricted to urban areas (60% of the population live in rural areas)

IT and Development Countries

• Studies didn’t manage to link directly ICT diffusion and growth for developing economies

• Neither are ICT linked to improved education (Baliamoune, 2002)

• The causality direction is still not clear

• ICT as a means for development, an not an end in itself

• other main achievements are necessary to go further on Development

Some conclusions:

• Knowledge economy: conceptual debates• Measurement of intangible/tacit characteristics and

processes, aggregation issues could question causality• It is not ICT that matters the most, but how it has been

used and to which purposes• Abundance of knowledge is meaningless without

accessibility • Relatively very high complementary requirements of ICT• ICT is far behind to compare itself with past inventions

such as electricity, bulb, automobile, etc.

References:• Baliamoune, M., The New Economy and Developing Countries. UNU-WIDER Working Paper 77, 2002.• Brynjolfsson E, Hitt LM. 2000. Beyond computation: information technology, organizational transformation and

business performance. J. Econ. Perspect. 14:23-48 Carr, N., IT doesn’t matter. Harvard Business School, 2003.• Dale W. J.,----, Information Technology and the U.S. Economy • Drucker, P.F. (1969) The age of discontinuity: guidelines to our changing society. New York, NY: Harper and Row • Eric B. and Brian K., 2000, Understanding the Digital Economy: Data, Tools and Research, MIT• Freeman, 2001, A hard Landing for the “new economy”? Information Technology and the United States system of

Innovation• Gordon R.J., 2000, Does the ‘New Economy’ Measure up to the Great Inventions of the Past?, Journal of Economic

Perspectives• Ian Brinkley, 2006, Defining Knowledge Economy: Knowledge economy Programme report, The Work Foundation• Loveman GW. 1994. An assessment of the productivity impact of information technologies. In Information

Technology and the Corporation of the 1990s: Research Studies, ed. TJ Allen, MS Morton, pp. 84-110. New York: Oxford Univ. Press

• Miller, F. (2000): I = 0 (Information has no intrinsic meaning). Brisbane: Fernstar. [Available at: http://www.fernstar.com.au/publications/papers/i=o.htm ]

• Mothe, John de la 1999, Some Economic Consequences of Knowledge, Information and ICTs, SNAB Paper, Toronto

• Morrison CJ, Berndt ER. 1990. Assessing the productivity of information technology equipment in the U.S. manufacturing industries. Work. Pap., Natl. Bur. Econ. Res., Cambridge, MA

• Nelson R., 1996, The Sources of Economic Growth, Cambridge MA, Harvard University Press • Otto R. and Frank van Oort, 2005, Mapping the Dutch Knowledge Economy – extending the regional innovation

policy debate in the Netherlands• Pilat, D., “Financial markets, ICT dynamics and growth in OECD countries: Growth differentials in OECD countries:

some reflections”. International Economics and Economic Policy. Heidelberg: Jul 2005.Vol.2, Iss. 1; pg. 1, 6 pgs • Powell WW, Snellman K: The knowledge Society. Annual Review of Sociology. Palo Alto: 2004.Vol.30 pg. 199• UK Parliamentary Office of Science and Technology Postnote, March 2006.• Wilson, T.D. (2002) "The nonsense of 'knowledge management'" Information Research, 8(1), paper no. 144