Trust the Market More Than Perceptions

Forget the swearing in of President-elect George W. Bush. As last week’s rate-cut Wall Street rally confirms, the American people already have a president. His name is Alan Greenspan.

In the wake of 2000’s electoral uncertainty, the Federal Reserve chairman’s “Goldilocks economy”--not too hot, not too cold--continues to percolate along. Even as an undercurrent of worry nags at an economic expansion now in its 118th month, productivity levels remain historically high. Indeed, after a second-quarter productivity surge of 6.1%, third-quarter Labor Department stats showed productivity rising “just” 3.8%--a slowing that nevertheless remains nearly double the U.S. economy’s 10-year average.

As market-watchers know, “President” Greenspan has fretted about the challenges of measuring productivity levels in the new Internet Era. Yet the fact that economic models may not be able to pinpoint the precise source of the current productivity surge may say more about our blunt instruments of measurement than about any real danger of overheating. Indeed, the fact that productivity remains at high-rev may point in another direction altogether: The Internet is pushing productivity to a new level.

To see what’s behind the productivity surge, consider what economists call the theory of perfect information: the notion that in the ideal market, complete access to complete information will wring inefficiencies out of each transaction, with a resulting rise in productivity.

Outside of the Econ 101 lecture hall, market information has been anything but perfect, conferring huge advantages on those who possess an information edge, and leaving the rest of us to conclude our commercial transactions with the best information our smudgy crystal balls can offer.

Until the Internet, that is. The Internet may not offer perfect information, but the quantum leap in what we know about pricing for various products and services with the click of a mouse is as close as we’ve ever come to perfection.

Here are three ways the Internet is changing the landscape with profound implications for productivity:

* A buyer’s market. Whether it’s sending the MySimon search engine to cyber-shop for the best price on a Palm Pilot or reverse auction schemes like priceline.com--where consumers put their purchases up for bid--the Internet is revolutionizing a consumer’s ability to comparison shop. Auction models like eBay are making markets where none existed, creating an electronic alternative to your next garage sale, with far more traffic in cyberspace. By putting more information in the hands of consumers, the Internet is driving inefficiencies out of the system and driving productivity up.

* The demand for supply. Companies are also using the Internet’s information capabilities to drive costs down. The Big 3 auto makers are pushing forward with plans to pit their 30,000 parts suppliers against one another for the privilege of selling everything from power locks to engine blocks, while Procter & Gamble announced they will set up a supply exchange site to buy raw materials. Major retailers like Sears are doing the same, the better to compete with the 800-pound gorilla of retailing, Wal-Mart. While these exchanges are only in the launch phase, the result is easy to predict: tighter margins and, again, increased productivity.

* The need for speed. The hallmark of the Internet is the instantaneous availability of information, and the degree of individualized information that it now permits. Whether it’s an individual’s ability to buy a made-to-order Dell PC--ending the need to pay for unused capacity and unnecessary inventory--or the opportunity to receive a personalized morning newspaper, building your “front page” out of articles on issues of interest, the Internet’s ability for instant and individualized gratification can’t help but make us more productive.

As uber-CEOs Jack Welch and Scott McNealy recently observed, the Internet is still in its first inning. As far as we’ve come in just a handful of years, we can’t even imagine the online prospects for productivity enhancement, let alone measure their economic impact.

So what’s the right response to economy watchers who fret that pumped-up productivity levels will burst our economic bubble? If high productivity doesn’t bother President Greenspan, then the rest of us can relax. We’ve got to recognize that our power to predict the leaps and sparks of our increasingly Internet-driven economy is poor, and resist the temptation to substitute our imperfect perceptions for the wisdom of a market defined by millions of independent transactions.

In the Internet Era, the first bubble to burst should be our own hubris in understanding the forces that move the New Economy.