What We Learned In The New Economy

The explanation seemed obvious: Increased spending on information technology and the cost savings from the Internet had spawned a kind of second Industrial Revolution, making us all superworkers at hypercompanies. But while it's true that IT spending went up dramatically in the late 1990s, its link to productivity is not nearly so neat as the New Economists proclaimed. The McKinsey Global Institute has found that more than three-quarters of the U.S. net productivity gain came from only six sectors: retailing, securities brokerage, wholesaling, telecom, semiconductors, and computer assembly, which together make up just under one-third of GDP. Other sectors spent with equal abandon, but never saw the payoff. "The original conception was that IT was something like pixie dust," says Diana Farrell, director of the institute. "You could just sprinkle it around and get productivity. But that picture does not hold up."

The truth, according to the McKinsey folks, is as much about competition as it is about technology. In sectors where there was a lot of competition, businesses had no choice but to innovate, sometimes with tech but also with new management practices. In the hotly competitive retail sector, for example, Wal-Mart spent big on warehouse and transportation management systems, as did Kmart. But Wal-Mart also reworked its supplier relationships and logistics, while Kmart did not. The rest is history. In only one sector--online trading--did McKinsey find that the Internet made a direct and major contribution to productivity. By contrast, online banking has had little impact on banking-industry productivity.

Ignored in the rush to deify the Internet was the simple fact that certain technologies take root faster than others. Instant messaging is one example of an Internet tool that was easily adopted; yet complex enterprise software can require the reordering of major processes and the retraining of many employees. "Some apps diffused quickly and some didn't," says Shane Greenstein, professor of management strategy at Kellogg.

The productivity boom is also a mixed blessing for us humans. Unquestionably, the Internet allows us to do far more, far more quickly, whether it's accessing a customer's payment history or training thousands of people at different locations. Yet while that's good for the economy as a whole, drill down a little bit further and you hit a raw nerve in the form of lost jobs, careers, and livelihoods once considered secure. Since 2001, more than 500,000 American tech workers have lost their jobs, with another 500,000 losses expected by the end of 2004. Nor do the recent trends toward outsourcing of skilled white-collar jobs overseas show any sign of abating. "It is an unstoppable force," says George Colony, CEO of Forrester Research, who predicts that 3.3 million jobs will go offshore by 2015. A more productive world, it turns out, is not always a kinder one.

Boom-Time Buzz: Move first--or die.
Cold Reality: Move first without a real business--and die.

To succeed in the New Economy, you must get there first. First-mover advantage means everything. And with those five words, billions in capital and millions of employees were off to the races, spending frantically to build an e-commerce platform or lawn-chair distribution network or a global brand compelling enough to attract everyone to a Web site first.

Could there have been a concept more misunderstood or oversimplified? Although first-mover advantage had been part of the lexicon for a long time, the speed of the Internet made it seem suddenly critical. Certainly, there were companies that moved onto the Internet first--and are still standing today. "First-mover advantage was the most fundamental thing that Jeff Bezos had at Amazon. It was the only thing that eBay had," says Vinod Khosla, a general partner at venture firm Kleiner Perkins Caufield & Byers.

But then think Google, Microsoft, and Wal-Mart. If being the first mover were the only key, they'd all have been dead long ago, and Webvan, which blew through $1.2 billion building warehouses in 26 cities, would have turned the grocery industry on its ear.

As always, the reality was more complex than the pundits, journalists, and cheerleaders would have had you believe. With Webvan, for example, it wasn't that people didn't want to order groceries online--the demand was there. The branding worked, too. But it could never do enough business to overcome the rate at which it was spending money. That was largely because too few customers had broadband connections, and nobody wanted to look at pictures of asparagus at 28k. In effect, first-mover advantage is what actually killed Webvan. Today, smaller, more focused competitors such as FreshDirect are proving the concept at fractions of the cost. "It was an issue of changing consumer behavior and the cost of the infrastructure," says George Shaheen, Webvan's former CEO. "We got it to work, but in retrospect, it was ahead of its time."