The Rise of the Networked Economy: Or, why Williamson and Ostrom Won the 2009 Nobel in Economics

I believe that the reason Oliver Williamson, whose work builds on the seminal work of Ronald Coase on transaction costs and Elinor Ostrom, who worries about the private coordination of the sharing of common resources, is a wonderful recognition that in our increasingly networked economy, the Nobel Prize Committee recognizes the importance of the problem of coordination and sharing common resources.  I would suggest it is becoming as important as productivity. If we look broadly at productivity, the economy continues to do well on this dimension with some estimating the the future holds continued productivity growth of about 2%, each year on average (albeit with significant volatility in that statistic).  Through the wonders of compounding the average American today is over eighty times as wealthy as the average in the founding years of our republic.  Not bad.  Productivity will continue to be important, but in a world where three billion people have many goods and services and there is a surfeit of supply, and three billion have practically nothing -- it seems coordination may need a bit more attention.  The same is true within companies -- often things can improve a lot by changing the nature of internal coordination.

Many years ago, my friends Chunka Mui, and Larry Downes wrote a book called Unleashing the Killer App in which they noted that the three "laws" of Moore's Law -- which states that integrated circuit costs go down by 50% every 18 months, Metcalf's Law, which stated the the value of a network increases by the square of the number of people attached to it, and Coase's Law which notes the vital importance of transaction costs when looking at what should be inside or outside a firm.  Larry and Chunka predicted that these three laws reshape commerce and enable radical opportunites for new business strategy.  The past ten years has proved them broadly right.

We have seen a number of Killer Apps based on changing transaction costs.  Craig's List has evicerated the newspaper business due to much lower transaction costs; the NYSE is losing their volume due to dark pools of liquidity where traders can do it as cheap, and without the scrutiny of regulators.  In trading, technology has simultaneously enabled lower costs of transaction, and more regulatory oversight -- so its not suprsing that volume is leaking out where costs can stay low and oversight is less.  The entire world of microfinance, which includes the wonderful work of Muhammed Yunus who won the Nobel Peace Prize in 2006, is based on the decreasing costs of transacting the loan (in more precise Coasian terms, contracting and policing are less costly), is much, much less, thus enabling the creation of smaller scale financing.

Why does Crowdsourcing exist?  Changing transaction costs.  Why does the Apple iStore exist?  Changing transaction costs.  Why does LinkedIn have better information on our employees that our internal databases?  Changing transaction costs.

So far I've given short shrift to Ostrom's contribution.  To be fair, I'm just getting to know her work, but the idea that private coordination of common goods is a very important notion.  There are glaring examples of lack of ability for private enterprise to oversee a common resource -- like the Mississippi River's lack of governing body which leads to many crazy things including a dead zone at its mouth which some say is the size of Florida -- in which nothing but the algae which thrive on the absurd amount of nitrates which we pour into the might river from our farmlands, can live because those algae eat all the oxygen.  But there are wonderful examples of things like the Internet, which are in quasi governmental hands which have a fantastic track record of sharing and innovation.  See also, Wikipedia.

I think that as more and more things are shared resources -- whether it is the books in the public domain that Google is trying to scan, or water, or the personal information stored by a company like Facebook, the challenges of sharing huge, common, assets, will become an even more central issue in the networked, knowledge-based economy.  Consequently, the importance of Ostrom's work, and work like it, will increase.

Inside companies, changing transaction costs have always meant that we need to look at what is owned and what is rented.  There are estimates that the global outsourcing and temporary work market will continue to grow at 5-15% depending on the facet of temporary work being considered.  In a less traditional vein, companies need to think about how they can link into the rivers of transactions, external data and social venues that have emerged.  It is not just about what is "inside" and what is "outside", but it is about what is networked into your organization.  For example, when you do market research can you easily link in the expert networks on LinkedIn?  Can you aggregate all the relevant inforamation about a company that is on the social media, blogosphere, and traditional media so you can be ready for the sales call with the most relevant and up to date profile on the company?  Can you tap into the global market for talent at a individual, group and firm level?  If the answer to any of these questions is no, you probably are overly focused on productivity -- and not enough on coordination, for our networked world.

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