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How Tech Is Disrupting Money and Markets

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The U.S. Federal Reserve has a three-pronged mandate for its monetary policy: to maintain maximum employment, stable prices and moderate long-term interest rates. The IT revolution, combined with years of lax monetary and fiscal policy, has created a vicious cycle, making it difficult to reach these three objectives.

Technology has brought to life deflationary forces, which require the central bank to keep interest rates permanently at zero—or negative—and even pump liquidity into the financial system to keep prices from falling. But massive infusions of free money underwrite even more technological progress, which ultimately damages the labor market.

Moreover, given political responses to this economic reality—such as calls for a sharply higher minimum wage—there may be growing pressures on public finances.

In effect, then, both monetary and fiscal policy have been taken out of policy-makers’ hands. In the next economic crisis, their response will be severely weakened and, in John Maynard Keynes’s words, they’ll be “pushing on a string.”

Printing License

Americans are a nation of inventors and entrepreneurs, with traditions going back to Ben Franklin, Henry Ford and Thomas Edison. The country also has enormous respect for education, creating a unique network of colleges and universities. There are nearly 7,000 accredited postsecondary educational programs; eight out of the top 10 universities in the Shanghai Ranking are American, as are more than half of the top 100.

After World War II, a group of investors backed several startups around Stanford University that were working on early computers, helping create Silicon Valley and laying the foundations for the venture capital industry. Those strands came together in the 1980s to create America’s formidable innovation establishment.

Technology has always had a strong deflationary bias since it boosts productivity and efficiency. The tech revolution of the past three decades has been especially successful in allowing businesses to cut costs—in particular, by making the world economy truly global. Plus, by increasing competition, technology forced businesses to translate their cost savings into lower prices. A mid-1980s leap in computing power correlated closely with the deceleration of inflation. As the revolution progressed, technology itself became cheaper, further spurring deflationary pressures.

Here is the difference: During the 1970s, a tenfold jump in oil prices created an inflationary inferno. A similar increase in the 1999–2008 period didn’t even produce a blip on the radar screen.

The Fed under Alan Greenspan responded to disinflationary trends in the 1990s by gradually easing its monetary policy. For a brief period in the final years of the last century, the Fed achieved a perfect balance: Prices were under control, there was full employment and even a labor shortage, and long bond yields were low. Plentiful liquidity and low interest rates spurred rapid development of information technologies, especially the Internet, but it was seen as a very good thing. There was, as Greenspan put it, “irrational exuberance” on Wall Street, but an asset price bubble didn’t seem to worry the Fed.

That set a pattern we have seen over the past 20 years. First, we have a period of plentiful liquidity, which fuels rapid technological progress and inflates asset price bubbles. But technology keeps inflation under wraps, which gives the Fed a carte blanche to keep interest rates low. Then comes a bust, to which the authorities respond with even lower interest rates and the whole cycle is repeated.

Under Uber

How it works can be seen at Uber, the ride-sharing and taxi service. It is a particularly good example because Uber is one of a handful of tech companies that openly position themselves as “bad.” It has a great idea and in normal times it would have been building up a presence in a couple of markets while gradually improving its system. But these are not normal times. In six years, Uber raised nearly $6 billion in funding—and is eyeing another $2 billion. Backed by unlimited funds, it expanded in 250 markets worldwide, sharply underpricing local taxi companies to snatch riders and offering extraordinary incentives to lure drivers. Largely due to Uber’s low fares, the price of a yellow cab medallion in New York City went down by a third, to around $800,000, in less than two years.

Uber has the deep pockets to continue to undercut established cab companies for years to come, and to fight lawsuits brought by those who don’t like its tactics.

Amazon has an even greater impact on several important industries. It is the largest online retailer in the United States, but its business model is not typical of a retail company. Although it has been in business for over 20 years and its market capitalization exceeds $200 billion, it shows no profit. It offers massive discounts on merchandise it sells and it invests the cash it generates, along with substantial borrowed funds, into making its operations more efficient. Investors still believe that eventually Amazon will be able to raise prices and earn profits, but in the meantime new rivals are popping up., for instance, has raised over $200 million even before launching, promising to get its future customers even lower prices.

Plus-Sum Game?

Uber and Amazon are but the tip of an iceberg. How the disruptions of these and many other industries will play out may require the math skills of the late John Nash to figure out. It may not be a zero-sum game: Uber’s lower fares have attracted new riders, and money saved by Amazon customers on books, appliances and movies they buy and watch on its website will be spent elsewhere. Nor should lower prices in one industry translate into deflation.

But what most technology offers is steadily replacement of labor with machines in performing labor-intensive tasks. Amazon has automated its warehouses thoroughly, replacing workers with robots. It is also working to automate deliveries, possibly using drones. This forces brick-and-mortar retailers to react by saving on their own labor costs in a variety of ways. Uber is in a race with Google, Bosch and others to develop the driverless car, which will put the drivers it now courts out of work.

Massive funds devoted to this project means that some investors will lose money, but that a driverless car will emerge in the next few years.

The labor market is seeing major structural shifts. The reshoring trend in U.S. manufacturing has boosted production, but not employment; manufacturing jobs are down 10% from their 2008 level—and down 30% from 1999. U.S. automotive plants may be running full tilt, but their parking lots are empty. Labor force participation has declined from over 66% before the crisis to less than 63%.

This impacts consumer demand and creates lasting deflationary trends. It also gives rise to a paradox: The Fed can’t reduce liquidity or raise interest rates, and yet the overhang of liquidity continues to spur technological progress, which in turn generates deflationary pressures and damages the labor market.

Bad Solution

The minimum wage is going up by a small margin in many states over the next year, but that would impact only about 5% of hourly workers. Proposals to raise it to $15 per hour may seem like a way to spur demand and reduce deflationary pressures, but this won’t work in a high-tech era. It will force companies to replace more and more workers with machines and high-tech gadgets.

Instead, the higher wages will be paid by the public sector, which is already running massive structural deficits. In addition, the safety net will have to absorb those who drop out of the labor force in poverty or early retirement with inadequate means.

We still love technology and no longer can imagine life without Apple, Amazon and, soon, Uber. Billionaire entrepreneurs are still our heroes. And yet, our love affair with technology may soon come to an end. We may not be ready to go around smashing servers the way Luddites in early 19th century England went around smashing power looms. But we increasingly think about slowing—or at least managing—the unbridled pace of innovation.

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