Tracking the Internet effect

Government economists are optimistic that the UK can experience an "Internet effect" on productivity and inflation. Measuring the impact of e-commerce is a central to UK Online

The UK Online report claimed that the performance of the UK ICT sector is well ahead of the rest of Europe and pointed out that high-tech industries account for one third of economic growth, despite contributing just 8% of GDP. However, what is missing is proof that there is an economy-wide "Internet effect" that can boost growth and prolong economic recovery as it has in the US.

The US Department of Commerce is already into its third year of measuring the impact of the Internet on the economy, but the UK equivalent of the US Digital Economy reports will not be available until 2002.

Meanwhile, government economists are cautiously optimistic. DeAnne Julius, of the Monetary Policy Committee (MPC) at the Bank of England, said recently, "A convincing case can be made that developments in the US are a leading indicator of events here. The UK, like the US, has seen a sharp increase in investment spending on ICT in the latter part of the 1990s, and productivity growth has recently begun to rise.

"High-tech industrial sectors, such as computers and mobile phone production, have achieved double-digit growth in three of the past four years, in contrast to declining or static output in the manufacturing sector as a whole."

Another MPC member, Sushil Wadhwani, told LSE economists, "One might reasonably expect the UK to mirror recent US experience, with a two to three-year lag because of slower IT diffusion in the UK."

The Government's attempt to measure the economic impact of the Internet comes after years of academic scepticism towards the effects of technology on growth. In 1987, US Nobel prize-winner Robert Solow outlined what became known as Solow's Paradox - "The computer age is everywhere, except in the productivity statistics".

Until the mid-1990s, the absence of an IT-effect on productivity was taken as gospel by economists. But a series of recent studies from the US Federal Reserve Board (FRB), and up-beat reports from the US Department of Commerce suggest that ICT is playing a key role in driving growth rates in all sectors.

Using the latest US figures, FRB statistician Karl Whelan found that expenditure on ICT equipment in the US grew at 4.4% per year between 1992 and 1998, and that the impact of computing and growth in the ICT industry directly accounted for a 20-year high in growth rates. Whelan found that 74% of the US' growth acceleration was due to IT.

The Digital Economy 2000 report from the US Department of Commerce said, "Two remarkable developments occurred in the second half of the 1990s. After quietly improving in speed, power and convenience since 1969, the Internet burst onto the economic scene and began to change business strategy and investment. At the same time, the US economy has enjoyed a remarkable resurgence.

"Productivity growth doubled its pace from a sluggish 1.4% average between 1973 and 1995 to a 2.8% rate from 1995 to 1999. Evidence is increasing that these two phenomena are not coincidental but derive substantially from the same phenomenon."

Price declines in IT hardware and software, the "network effect" from online trade and the increased productivity of the ICT sector itself were the key factors, the report said.

However, Robert Gordon, professor of economics at Northwestern University in the US disagrees. He 0found that, in comparison with the "second industrial revolution" 100 years ago, which brought us telecommunications, chemicals and the oil industry, the computer is having very little impact on productivity.

Gordon argued that ICT is having an effect on productivity only in the computer industry itself and in the durable manufacturing sector, which makes up only 12% of the US economy. In the remaining 88%, he said the explosion in computing power had a "minimal" impact on productivity.

"The greatest benefits of computers lie a decade or more in the past, not in the future," said Gordon.

Of course, part of the problem lies in the statistics. The US Department of Commerce figures show that, in services, IT investment produced a statistical decline in productivity - a phenomenon it attributes to measurement problems.

Jonathan Coppel, senior economist at the OECD, told Computer Weekly, "ICT is heavily used in services, such as hospitals and administrations, where it is extremely difficult to measure output."

Furthermore, measuring the "Internet effect" in Europe is being hampered by the time lag in gathering statistics. Reliable figures for this period are only available from the US. A recent OECD report on the impact of ICT on the G7 countries bemoaned the fact that comparable international statistics were simply not available for 1997 onwards.

This is why UK Online contains a raft of measures to standardise and speed up the measurement of e-commerce effect in the UK and the European Union.

There are currently no agreed international criteria for measuring e-commerce. EStatMap, the UK framework, is compatible with the emerging OECD indicators for e-commerce, but is more comprehensive, as it includes ISP costs.

As part of a drive to improve statistics in this field, the Government is to launch a pilot survey of business Internet use this autumn, and the e-commerce research centre at De Montfort University plans a project to measure the value of UK e-commerce.

Despite statistical problems, Coppel believes the Solow Paradox is being overcome. "Is there a new economy based on ICT and biotechnology? Our answer is probably yes - at least in the US," he said.

In the UK, the jury is still out, but for Tony Blair, transforming the UK economy using the Internet is central to economic policy. As he said at the UK Online launch, "I truly believe that if we modernise our economy, if we take the tough choices needed for the future and live up to the challenge of the knowledge economy, we can reverse the decades of decline that we suffered in the 20th century and become one of the world's most successful economies in the 21st century."

News special reporting team

Paul Mason, Mike Simons, Robert Dunt, Hazel Ward, Matthew Cobb. Edited by Paul Mason. Graphics by Al Grant

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