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September, 2001, Vol. 124, No. 9

Précis

Let’s shake on it

Précis from past issues

Let’s shake on it

Will the Internet truly revolutionize the spatial context within which companies transact business? Edward Leamer and Michael Storper ask this and other questions in their paper, "The Economic Geography of the Internet Age" (NBER Working Paper 8450).

While many researchers believe that the Internet’s effect on economic geography may be more dramatic than that of past inventions, such as rail, steam, and the various forms of mechanization which emerged in the 19th century, the authors present the case that, instead, it is the Internet’s lack of personal, physical contact that will prevent it from becoming the dominant means for transacting business.

The crux of their argument is that the "coordination of new and innovative activities depends on the successful transfer of complex uncodifiable messages, requiring a kind of closeness between the sender and receiver that the Internet does not allow. The problem with the Internet is that he cannot look her in the eye through a screen, and she cannot ‘feel’ or ‘touch’ him. It is a medium that may help to maintain relationships, but does not establish deep and complex contacts." The authors define an uncodifiable message as one that cannot be reduced to terms that are resolutely nonambiguous, citing the phrase, "I love you," as an example of a complex uncodifiable message.

Clustering of production. Both physical materials and the intellectual activities associated with them often are clustered in physical neighborhoods. Leamer and Storper write that this clustering suggests, "that present or future improvements in communication technologies, such as the Internet, also may not eliminate the role of proximity." They have studied the regularly-occurring phenomenon in economic geography that parallels what Isaac Newton discovered about gravity. In the business world, "the greater the distance between any pair of countries, the less they trade with one another…. In economics, the amount of commerce between two points is equal to the product of the economic masses (GDPS) divided not by the square of the distance between them but by distance itself (or some lower power)."

The proximity component is not the only important aspect of physical clustering. Communication costs and shipping costs may now be lower than at other times in history, but the authors claim it is perishibility (defined either as the concrete—fruits and vegetables, or the abstract—computers or items of high fashion design) coupled with codifiability, and the Internet’s inadequacy as a medium allowing accurate, complete transfer of complex, abstract concepts. Codifiability is best established by information exchanged between people, and the facilitation of "long-term deep relationships over long distances [which] create the essential prerequisites of any complex transaction: trust and understanding."

Importance of relationships. Leamer and Storper contend it is not only the physical clustering but the intellectual clustering that is at the core of personal relationships in business. They cite that the Internet economy has produced "high densities of dot-com firms in San Francisco, Los Angeles, Seattle, and New York" as examples, and that this economy is following "the same geographical pattern as all of its innovative forebears: the establishment of a small number of core agglomerations, characterized by strong inter-firm and firm-labor market network relations, the existence of an ‘industrial atmosphere,’ and circular and cumulative advantage due to the building up of external economics in those places." Think Silicon Valley (West Coast Bay area), Silicon Alley (Manhattan), and Washington State’s Microsoft Corporation.

The intellectual component becomes increasingly vital. The authors assert: "Many intellectual outputs are not products that can be dropped at the doorstep, but are services that have to be delivered by one human to another. Value is created jointly by seller and buyer, by coach and student, often involving many hours of direct communication.… It isn’t just union power that has kept the labor-intensive universities operating in more or less the same manner for four centuries. It is the production function itself."

The handshake and the conversation. The absence of face-to-face contact is what the authors believe will prevent the Internet from taking the place of the "handshake," or as they term it "physical copresence." Only by a supplier getting to know his customer, and that customer understanding what her supplier means when he promises to ship the merchandise by a promised date are the basis of human relationships firmly established. "The Internet does nothing by itself to put a message in the right context, and doesn’t help in understanding. Moreover, an Internet conversation resembles e-mail in that it involves such low levels of costs to sender and receiver that there is little relationship bond created by the process."

This lack of "emotional closeness" and the Internet’s inability to accurately relay uncodifiable, ambiguous information would appear to dictate a continuing need for a higher level of trust and involvement than that conjured forth by the machinations of computers, capacitors, and modems.

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